-----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, F3DHG+W1xum338Kb2zEE1X33vQYngYhe7SdIIGzy0ld1PMvw/AvsEvLkq74+xGz7 zhxKo2EOkIcLgwT/Tf0U+A== 0000950134-97-009552.txt : 19971229 0000950134-97-009552.hdr.sgml : 19971229 ACCESSION NUMBER: 0000950134-97-009552 CONFORMED SUBMISSION TYPE: S-3 PUBLIC DOCUMENT COUNT: 4 FILED AS OF DATE: 19971224 SROS: NASD FILER: COMPANY DATA: COMPANY CONFORMED NAME: DENBURY RESOURCES INC CENTRAL INDEX KEY: 0000945764 STANDARD INDUSTRIAL CLASSIFICATION: CRUDE PETROLEUM & NATURAL GAS [1311] IRS NUMBER: 000000000 FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: S-3 SEC ACT: SEC FILE NUMBER: 333-43207 FILM NUMBER: 97743981 BUSINESS ADDRESS: STREET 1: 17304 PRESTON RD STREET 2: STE 200 CITY: DALLAS STATE: TX ZIP: 75252 BUSINESS PHONE: 2147133000 MAIL ADDRESS: STREET 1: 17304 PRESTON RD STREET 2: STE 200 CITY: DALLAS STATE: TX ZIP: 75252 FORMER COMPANY: FORMER CONFORMED NAME: NEWSCOPE RESOURCES LTD DATE OF NAME CHANGE: 19950627 S-3 1 FORM S-3 1 AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON DECEMBER 23, 1997 REGISTRATION NO. 333- ================================================================================ SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 ------------------ FORM S-3 REGISTRATION STATEMENT UNDER THE SECURITIES ACT OF 1933 ------------------ DENBURY RESOURCES INC. DENBURY MANAGEMENT, INC. (Exact name of Registrant as specified in its charter) CANADA NOT APPLICABLE TEXAS 1311 75-2294373 (State or other jurisdiction of (Primary standard industrial (I.R.S. employer identification incorporation or organization) classification code number) no.) PHIL RYKHOEK, C.F.O. DENBURY RESOURCES INC. 17304 PRESTON ROAD, SUITE 200 17304 PRESTON ROAD, SUITE 200 DALLAS, TEXAS 75252 DALLAS, TEXAS 75252 (972) 713-3000 (972) 713-3000; FACSIMILE: (972) 713-3051 (Address and telephone number of Registrants' (Name, address and telephone principal executive offices) number of Agent for Service)
Copies to: DONALD W. BRODSKY STEPHEN L. BURNS JENKENS & GILCHRIST, CRAVATH, SWAINE & MOORE A PROFESSIONAL CORPORATION WORLDWIDE PLAZA 1100 LOUISIANA, SUITE 1800 825 EIGHTH AVENUE HOUSTON, TX 77002 NEW YORK, NY 10019 (713) 951-3300; FACSIMILE: (713) 951-3314 (212) 474-1000; FACSIMILE: (212) 474-3700
APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE TO THE PUBLIC: As soon as practicable after this Registration Statement becomes effective. If the only securities being registered on this form are being offered pursuant to dividend or interest reinvestment plans, please check the following box: [ ] If any of the securities being registered on this form are to be offered on a delayed or continuous basis pursuant to Rule 415 under the Securities Act of 1933 other than securities offered only in connection with dividend or reinvestment plans, check the following box: [ ] If this Form is filed to register additional securities for an offering pursuant to Rule 462(b) under the Securities Act, please check the following box and list the Securities Act registration statement number of the earlier effective registration statement of the same offering. [ ] If this Form is a post-effective amendment filed pursuant to Rule 462(c) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. [ ] If delivery of the Prospectus is expected to be made pursuant to Rule 434, please check the following box: [ ] CALCULATION OF REGISTRATION FEE
================================================================================================================================= PROPOSED MAXIMUM PROPOSED MAXIMUM TITLE OF EACH CLASS OF AMOUNT OFFERING AGGREGATE AMOUNT OF SECURITIES TO BE REGISTERED TO BE REGISTERED PRICE PER SECURITY OFFERING PRICE(A) REGISTRATION FEE - --------------------------------------------------------------------------------------------------------------------------------- Common Shares........................... 5,565,140(b) $17.969(c) $100,000,000 $29,500 % Senior Subordinated Notes Due 2008.................................. $100,000,000 100% $100,000,000 $29,500 Guarantee(d)............................ (e) (e) (e) (d)(e) - ------------------------------------------------------------------------------------------------------------------------------ Total......................... -- -- $200,000,000 $59,000 ==============================================================================================================================
(a) Estimated solely for purposes of calculating the registration fee. (b) Includes an aggregate of 725,888 Common Shares subject to an Underwriters' over-allotment option, and Common Shares to be sold directly by Denbury Resources Inc. to its majority shareholder. (c) Calculated by averaging the high ($18.0625) and low ($17.875) price of the Common Shares of Denbury Resources Inc. on December 23, 1997 on the New York Stock Exchange pursuant to Rule 457(c) under the Securities Act of 1933, as amended. (d) The Guarantee of the Senior Subordinated Notes by Denbury Resources Inc. is also being registered hereby. Pursuant to Rule 457(n) under the Securities Act of 1933, as amended, no registration fee is required with respect to the Guarantee. (e) No separate consideration will be received for the Guarantee from the purchasers of the Notes. THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR DATES AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT SHALL FILE A FURTHER AMENDMENT WHICH SPECIFICALLY STATES THAT THIS REGISTRATION STATEMENT SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(A) OF THE SECURITIES ACT OF 1933 OR UNTIL THE REGISTRATION STATEMENT SHALL BECOME EFFECTIVE ON SUCH DATE AS THE COMMISSION, ACTING PURSUANT TO SAID SECTION 8(A), MAY DETERMINE. ================================================================================ 2 EXPLANATORY NOTE This Registration Statement contains alternate pages, sections, paragraphs, sentences or phrases which will be contained in two forms of Prospectus covered by this Registration Statement, one to be used in connection with the offering (the "Equity Offering") of Common Shares by Denbury Resources Inc. (the "Equity Prospectus") and the other to be used in connection with the concurrent offering (the "Debt Offering") of % Senior Subordinated Notes Due 2008 by Denbury Management, Inc., the wholly owned subsidiary of Denbury Resources Inc. (the "Debt Prospectus"). Those sections, paragraphs, sentences or phrases that will appear only in the Equity Prospectus are marked at the beginning of such section, paragraph, sentence or phrase by the symbol [E] and those appearing only in the Debt Prospectus are designated by the symbol [D]. Unless so indicated with a [D] or [E], the language therein will appear in both forms of Prospectus. The closing of the Debt Offering is conditioned upon the closing of the Equity Offering; however, the closing of the Equity Offering is not conditioned upon the closing of the Debt Offering. Denbury Management Inc. is a Registrant with respect to the debt securities only. Denbury Resources Inc. is a Registrant with respect to both the equity and debt securities. 3 INFORMATION CONTAINED HEREIN IS SUBJECT TO COMPLETION OR AMENDMENT. A REGISTRATION STATEMENT RELATING TO THESE SECURITIES HAS BEEN FILED WITH THE SECURITIES AND EXCHANGE COMMISSION. THESE SECURITIES MAY NOT BE SOLD NOR MAY OFFERS TO BUY BE ACCEPTED PRIOR TO THE TIME THE REGISTRATION STATEMENT BECOMES EFFECTIVE. THIS PROSPECTUS SHALL NOT CONSTITUTE AN OFFER TO SELL OR THE SOLICITATION OF AN OFFER TO BUY NOR SHALL THERE BE ANY SALE OF THESE SECURITIES IN ANY STATE IN WHICH SUCH OFFER, SOLICITATION OR SALE WOULD BE UNLAWFUL PRIOR TO REGISTRATION OR QUALIFICATION UNDER THE SECURITIES LAWS OF ANY SUCH STATE. [D] PROSPECTUS (Subject to Completion) Issued December 23, 1997 $100,000,000 DMI LOGO Denbury Management, Inc. % SENIOR SUBORDINATED NOTES DUE 2008 Fully and Unconditionally Guaranteed on a Senior Subordinated Basis by Denbury Resources Inc. ------------------------ Interest payable and ------------------------ Interest on the % Senior Subordinated Notes Due 2008 (the "Notes") of Denbury Management Inc. ("DMI") will be payable semi-annually on and of each year, commencing , 1998. The Notes are redeemable at the option of DMI, in whole or in part, on or after , 2003, at the redemption prices set forth herein, together with accrued and unpaid interest, if any, to the date of redemption. In addition, at any time prior to , 2001, DMI may redeem in the aggregate up to 35% of the original principal amount of the Notes with the proceeds of one or more Stock Offerings (as defined herein), at % of their principal amount, plus accrued interest. Upon a Change of Control (as defined herein), each holder of the Notes may require DMI to purchase all or a portion of such holder's Notes at 101% of the aggregate principal amount thereof, together with accrued and unpaid interest, if any, to the date of purchase. See "Description of the Notes." Concurrently with the offering made hereby (the "Debt Offering"), Denbury Resources Inc., DMI's parent company ("DRI"), is offering of its Common Shares (the "Equity Offering" and, together with the Debt Offering, the "Offerings") pursuant to a simultaneous underwritten public offering. In addition, in connection with the Equity Offering, entities affiliated with the Texas Pacific Group, DRI's largest shareholder, will purchase from DRI Common Shares (the "TPG Purchase"). The closing of the Debt Offering is conditioned upon the consummation of the Equity Offering and the TPG Purchase. The Notes will be general unsecured obligations of DMI, subordinated in right of payment to all existing and future Senior Indebtedness (as defined) of DMI, but senior in right of payment to all existing and future subordinated indebtedness of DMI. As of September 30, 1997, after giving pro forma effect to the Transactions (as defined herein), DMI and its subsidiaries would have had $ million of Senior Indebtedness outstanding under the Credit Facility (as defined herein) and $ million available under the Credit Facility which, when borrowed, will constitute Senior Indebtedness. The Notes will be fully and unconditionally guaranteed on a senior subordinated basis by DRI. ------------------------ SEE "RISK FACTORS" BEGINNING ON PAGE FOR A DISCUSSION OF INFORMATION THAT SHOULD BE CONSIDERED BY PROSPECTIVE INVESTORS. ------------------------ THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION PASSED UPON THE ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE. ------------------------ PRICE % AND ACCRUED INTEREST ------------------------
UNDERWRITING PRICE TO DISCOUNTS AND PROCEEDS TO PUBLIC(1) COMMISSIONS(2) COMPANY(1)(3) --------- -------------- ------------- Per Note..................................... % % % Total........................................ $ $ $
- ------------ (1) Plus accrued interest from , 1998, if any. (2) DMI has agreed to indemnify the Underwriters against certain liabilities, including liabilities under the Securities Act of 1933, as amended. See "Underwriters." (3) Before deducting expenses of the Debt Offering, estimated at $ . ------------------------ The Notes are offered, subject to prior sale, when, as and if accepted by the Underwriters named herein and subject to approval of certain legal matters by Cravath, Swaine & Moore, counsel for the Underwriters. It is expected that delivery of the Notes will be made on or about , 1998 at the office of Morgan Stanley & Co. Incorporated, New York, N.Y., against payment therefor in immediately available funds. ------------------------ MORGAN STANLEY DEAN WITTER NATIONSBANC MONTGOMERY January , 1998 4 INFORMATION CONTAINED HEREIN IS SUBJECT TO COMPLETION OR AMENDMENT. A REGISTRATION STATEMENT RELATING TO THESE SECURITIES HAS BEEN FILED WITH THE SECURITIES AND EXCHANGE COMMISSION. THESE SECURITIES MAY NOT BE SOLD NOR MAY OFFERS TO BUY BE ACCEPTED PRIOR TO THE TIME THE REGISTRATION STATEMENT BECOMES EFFECTIVE. THIS PROSPECTUS SHALL NOT CONSTITUTE AN OFFER TO SELL OR THE SOLICITATION OF AN OFFER TO BUY NOR SHALL THERE BE ANY SALE OF THESE SECURITIES IN ANY STATE IN WHICH SUCH OFFER, SOLICITATION OR SALE WOULD BE UNLAWFUL PRIOR TO REGISTRATION OR QUALIFICATION UNDER THE SECURITIES LAWS OF ANY SUCH STATE. [E] PROSPECTUS (Subject to Completion) Issued December 23, 1997 Shares DRI LOGO Denbury Resources Inc. COMMON SHARES ------------------------ All of the Common Shares offered hereby are being sold by Denbury Resources Inc. The Common Shares are listed on the New York Stock Exchange and on The Toronto Stock Exchange under the symbol "DNR." On , 1997, the reported last sale price of the Common Shares on the New York Stock Exchange and The Toronto Stock Exchange was US$ per share and C$ per share, respectively. Concurrently with the closing of this offering of Common Shares (the "Equity Offering"), entities affiliated with the Texas Pacific Group ("TPG"), the Company's largest shareholder, will purchase from the Company Common Shares (the "TPG Purchase") at $ per share (equal to the price to public per share set forth below less underwriting discounts and commissions). The closing of the Equity Offering is conditioned upon the closing of the TPG Purchase. Concurrently with the Equity Offering, Denbury Management, Inc.("DMI"), a wholly owned subsidiary of the Company, is offering $100 million in aggregate principal amount of % Senior Subordinated Notes Due 2008 (the "Debt Offering" and, together with the Equity Offering, the "Offerings"). The closing of the Equity Offering is not conditioned upon the closing of the Debt Offering. The Common Shares offered hereby are also being offered for sale in Canada. ------------------------ SEE "RISK FACTORS" BEGINNING ON PAGE FOR INFORMATION THAT SHOULD BE CONSIDERED BY PROSPECTIVE INVESTORS. ------------------------ THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION PASSED UPON THE ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE. ------------------------ PRICE $ A SHARE ------------------------
UNDERWRITING PRICE TO DISCOUNTS AND PROCEEDS TO PUBLIC(1) COMMISSIONS(1) COMPANY(2) --------- -------------- ----------- Per Share.................... $ $ $ Total(3)..................... $ $ $
- ------------ (1) The Company has agreed to indemnify the Underwriters against certain liabilities, including liabilities under the Securities Act of 1933, as amended. See "Underwriters." (2) Before deducting expenses of the Equity Offering, estimated at $ . (3) The Company has granted to the Underwriters an option, exercisable within 30 days of the date hereof, to purchase up to an aggregate of additional Common Shares at the price to public less underwriting discounts and commissions, for the purpose of covering over-allotments, if any. If the Underwriters exercise such option in full, the total price to public, underwriting discounts and commissions and proceeds to the Company will be $ , $ and $ , respectively. See "Underwriters." ------------------------ The Common Shares are offered, subject to prior sale, when, as and if accepted by the Underwriters named herein and subject to approval of certain legal matters by Cravath, Swaine & Moore, counsel for the Underwriters. It is expected that delivery of the Common Shares will be made on or about , 1998 at the office of Morgan Stanley & Co. Incorporated, New York, N.Y., against payment therefor in immediately available funds. ------------------------ MORGAN STANLEY DEAN WITTER GORDON CAPITAL, INC. JOHNSON RICE & COMPANY L.L.C. LOEWEN, ONDAATJE, MCCUTCHEON USA LIMITED January , 1998 5 This page will contain a map of the Gulf Coast Region depicting the geographical location of the Company's nine largest fields. --------------------- CERTAIN PERSONS PARTICIPATING IN THIS OFFERING MAY ENGAGE IN TRANSACTIONS THAT STABILIZE, MAINTAIN OR OTHERWISE AFFECT THE PRICE [[D] OF THE NOTES] [[E] OF THE COMMON SHARES]. SPECIFICALLY, THE UNDERWRITERS MAY OVER-ALLOT IN CONNECTION WITH THIS OFFERING AND MAY BID FOR AND PURCHASE [[D] THE NOTES] [[E] THE COMMON SHARES] IN THE OPEN MARKET. FOR A DESCRIPTION OF THESE ACTIVITIES, SEE "UNDERWRITERS." [E] IN CONNECTION WITH THIS OFFERING, CERTAIN UNDERWRITERS AND SELLING GROUP MEMBERS MAY ENGAGE IN PASSIVE MARKET MAKING TRANSACTIONS IN THE COMMON SHARES ON THE NEW YORK STOCK EXCHANGE AND THE TORONTO STOCK EXCHANGE IN ACCORDANCE WITH REGULATION M OF THE SECURITIES EXCHANGE ACT OF 1934, AS AMENDED. SEE "UNDERWRITERS." 2 6 NO DEALER, SALESMAN, OR OTHER PERSON HAS BEEN AUTHORIZED TO GIVE ANY INFORMATION OR TO MAKE ANY REPRESENTATIONS OTHER THAN THOSE CONTAINED IN THIS PROSPECTUS AND, IF GIVEN OR MADE, SUCH INFORMATION OR REPRESENTATIONS MUST NOT BE RELIED UPON AS HAVING BEEN AUTHORIZED BY THE COMPANY OR ANY OF THE UNDERWRITERS. THIS PROSPECTUS DOES NOT CONSTITUTE AN OFFER TO SELL OR A SOLICITATION OF AN OFFER TO BUY ANY OF THE SECURITIES OFFERED BY THIS PROSPECTUS BY ANYONE IN ANY JURISDICTION IN WHICH SUCH OFFER OR SOLICITATION IS NOT AUTHORIZED, OR IN WHICH THE PERSON MAKING THE OFFER OR SOLICITATION IS NOT QUALIFIED TO DO SO OR TO ANY PERSON TO WHOM IT IS UNLAWFUL TO MAKE SUCH OFFER OR SOLICITATION. NEITHER THE DELIVERY OF THIS PROSPECTUS NOR ANY DISTRIBUTION OF SECURITIES MADE HEREUNDER OR THEREUNDER SHALL, UNDER ANY CIRCUMSTANCES, CREATE AN IMPLICATION THAT THERE HAS BEEN NO CHANGE IN THE AFFAIRS OF THE COMPANY SINCE THE DATE HEREOF OR THEREOF OR THAT THE INFORMATION CONTAINED IN THIS PROSPECTUS IS CORRECT AS OF ANY TIME SUBSEQUENT TO THE DATE HEREOF. --------------------- TABLE OF CONTENTS
PAGE ---- Information Incorporated by Reference........................... Prospectus Summary.................... Risk Factors.......................... Forward-Looking Statements............ [D] Equity Offering................... [E] Debt Offering..................... Use of Proceeds....................... [E] Price Range of Common Shares...... [E] Dividend Policy................... Capitalization........................ Unaudited Pro Forma Consolidated Financial Information............... Selected Consolidated Financial Data................................ Management's Discussion and Analysis of Financial Condition and Results of Operations....................... Business and Properties............... Management............................ Principal Shareholders................
PAGE ---- Interests of Management in Certain Transactions........................ [E] Description of Capital Stock...... Description of Certain Indebtedness... [D] Description of the Notes.......... [D] Certain U.S. Federal Income Tax Considerations...................... [E] Canadian Taxation and the Investment Canada Act............... Service and Enforcement of Legal Process............................. [E] Shares Eligible for Future Sale... Underwriters.......................... Legal Matters......................... Experts............................... Available Information................. Glossary.............................. Index to Consolidated Financial F-1 Statements.......................... Summary Reserve Report................ A-1
INFORMATION INCORPORATED BY REFERENCE The following documents which have been previously filed with the Securities and Exchange Commission (the "Commission") are incorporated in this Prospectus: (i) the Company's Annual Report on Form 10-K for the year ended December 31, 1996; (ii) the Company's Quarterly Reports on Form 10-Q for the quarters ended March 31, 1997, June 30, 1997 and September 30, 1997; (iii) the Company's proxy statement dated May 21,1997; (iv) the Company's report on Form 8-K dated September 12, 1997; (v) the Company's report on Form 8-K dated December 8, 1997; and (vi) the Company's report on Form 8-K dated December 16, 1997. All documents filed by the Company pursuant to Section 13(a), 13(c), 14 and 15(d) of the Securities Exchange Act of 1934, as amended (the "Exchange Act"), subsequent to the date of this Prospectus and prior to the termination of the offering of securities to be made hereunder shall be deemed to be incorporated herein by reference and made a part hereof from the date of filing of such documents. Any statement contained herein or in a document incorporated or deemed to be incorporated by reference herein shall be deemed to be modified or superseded for purposes of this Prospectus to the extent that a statement contained herein, therein or in any other subsequently filed document that also is or is deemed to be 3 7 incorporated by reference herein modifies or supersedes such statement. Any statement so modified or superseded shall not be deemed, except as so modified or superseded, to constitute a part of this Prospectus. Any person receiving a copy of this Prospectus may obtain from the Company without charge a copy of any and all documents or part thereof incorporated herein by reference (other than exhibits and schedules to such documents unless such exhibits or schedules are specifically incorporated by reference into the information the Prospectus incorporates), upon written or oral request. Requests should be directed to Phil Rykhoek, Chief Financial Officer and Corporate Secretary, Denbury Resources Inc., 17304 Preston Road, Suite 200, Dallas, Texas, 75252, telephone: (972) 713-3000. 4 8 PROSPECTUS SUMMARY The following summary is qualified in its entirety by reference to, and should be read in conjunction with, the more detailed information and Consolidated Financial Statements included elsewhere in this Prospectus. All dollar amounts in this Prospectus, unless otherwise indicated, are expressed in United States dollars and all financial data is presented in accordance with Canadian generally accepted accounting principles. The December 31, 1997 estimated proved reserve data included throughout this Prospectus have been prepared by Netherland, Sewell & Associates, Inc. ("Netherland & Sewell"), independent petroleum engineers. Unless the context otherwise requires, the terms "Denbury" and the "Company" refer to Denbury Resources Inc., a Canadian corporation, and its wholly owned subsidiaries, the term "DRI" refers to Denbury Resources Inc. only, and the term "DMI" refers to the wholly owned subsidiary of DRI, Denbury Management, Inc., a Texas corporation. Certain information contained in this summary and elsewhere in this Prospectus, including information with respect to the Company's plans and strategy for its business, are forward-looking statements. Prospective investors should carefully consider the information set forth under "Risk Factors" for a discussion of important factors that could cause actual results to differ materially from the forward-looking statements contained in this Prospectus. Certain oil and gas industry terms used herein are defined in the Glossary included elsewhere in this Prospectus. [E] Unless otherwise indicated herein, the information contained in this Prospectus assumes that the Underwriters' over-allotment option will not be exercised. THE COMPANY OVERVIEW Denbury is an independent energy company engaged in acquisition, development and exploration activities in the U.S. Gulf Coast region, primarily onshore in Louisiana and Mississippi. The Company believes the Gulf Coast represents one of the most attractive regions in North America given the region's prolific production history, complex geology (with multiple producing horizons) and the opportunities that have been created by advanced technologies such as 3-D seismic and various drilling, completion and recovery techniques. As of December 31, 1997, the Company had proved reserves of MMBbls and Bcf or MMBOE. At such date, the PV10 Value of these reserves was $ million, of which $ million was attributable to proved developed reserves. Denbury operates wells comprising approximately % of its PV10 Value. The nine largest fields in which the Company has an interest constitute approximately % of its estimated proved reserves and, within these nine fields, Denbury owns an average working interest of %. Over the last four years, the Company has achieved rapid growth in proved reserves, production and cash flow by concentrating on the acquisition of properties which it believes have significant upside potential and through the efficient development, enhancement and operation of its properties. For the three-year period ended December 31, 1996, the Company increased its proved reserves at a compound annual growth rate of 68%, from 5.8 MMBOE to 27.4 MMBOE. Over the four-year period ended December 31, 1996, the Company also increased its average net daily production at a compound annual growth rate of 90%, from 1,193 BOE/d to 8,167 BOE/d, with a further increase to 14,195 BOE/d for the third quarter of 1997. For the same four-year period, EBITDA increased at a compound annual growth rate of 126%, from $3.0 million to $34.9 million. EBITDA for the twelve months ended September 30, 1997 was $51.9 million. Since 1993, when the Company began to focus its operations exclusively in the United States, through December 31, 1995, the Company spent a total of $43.4 million on acquisitions. In May 1996, the Company acquired properties in its core areas of Mississippi and Louisiana from Amerada Hess Corporation ("Amerada Hess") for approximately $37.2 million (the "Hess Acquisition"). As of June 30, 1996, these acquired properties were producing approximately 2,945 BOE/d and had proved reserves of approximately 5.9 MMBOE. Since that date, the Company's extensive development and exploitation on these properties has resulted in an 82% increase in production to 5,373 BOE/d for the third quarter of 1997 and a % increase in proved reserves to MMBOE as of December 31, 1997. 5 9 On November 25, 1997, the Company announced that it had entered into an agreement to purchase properties in the Heidelberg Field, which is adjacent to the Company's other primary oil properties in Mississippi, from Chevron U.S.A. Inc. ("Chevron") for approximately $202 million (the "Chevron Acquisition"). These properties are located approximately nine miles from the Eucutta Field, the property with the highest PV10 Value acquired by the Company in the Hess Acquisition. The estimated proved reserves as of December 31, 1997 for the Chevron Acquisition properties are approximately 28.1 MMBOE ( % of the Company's total proved reserves at December 31,1997), with average net daily production of approximately 2,940 BOE/d for the third quarter of 1997. As a result of the significant amount of future development and exploitation to be performed on these properties and the increase in future reserves and production that the Company expects to result from such development and exploitation, the Company has attributed approximately $75 million of the purchase price to unevaluated properties. The Company believes that the properties acquired in the Chevron Acquisition provide exploitation opportunities similar to those of the Mississippi properties acquired in the Hess Acquisition and the Company intends to apply the same technologies to the Heidelberg Field. The Company's estimated 1998 development budget for the Heidelberg Field is approximately $28 million. See "-- Acquisition of Chevron Properties." BUSINESS STRATEGY The Company seeks to: (i) achieve attractive returns on capital through prudent acquisitions, development and exploratory drilling and efficient operations; (ii) maintain a conservative balance sheet to preserve maximum financial and operational flexibility; and (iii) create strong employee incentives through equity ownership. The Company believes that its growth to date in proved reserves, production and cash flow is a direct result of its adherence to several fundamental principles which are at the core of the Company's long-term growth strategy. The Company's long-term growth strategy includes the following fundamental principles: REGIONAL FOCUS. The Company intends to continue the regional focus of its operations. By focusing its efforts in the Gulf Coast region, primarily Louisiana and Mississippi, the Company has been able to accumulate substantial geological and reservoir data and operating experience which it believes provides it with significant competitive advantages. For example, the Company believes it is better able to identify, evaluate and negotiate potential acquisitions, and develop and operate its properties in an efficient and low- cost manner. The Company believes the Gulf Coast represents one of the most attractive regions in North America given the region's prolific production history, complex geology (with multiple producing horizons) and the opportunities that have been created by advanced technologies such as 3-D seismic and various drilling, completion and recovery techniques. Moreover, because of the region's proximity to major pipeline networks serving important northeastern U.S. markets, the Company typically realizes natural gas prices in excess of those realized in many other producing regions. DISCIPLINED ACQUISITION STRATEGY. The Company intends to continue to acquire properties where it believes significant additional value can be created. Such properties are typically characterized by: (i) long production histories; (ii) complex geological formations with multiple producing horizons and substantial exploitation potential; (iii) a history of limited operational focus and capital investment, often due to their relatively small size and limited strategic importance to the previous owner; and (iv) the potential for the Company to gain control of operations. The Company believes that due to continuing rationalization of properties, primarily by major integrated and independent energy companies, future acquisition opportunities should continue to be available. In addition, the Company seeks to maintain a well-balanced portfolio of oil and natural gas development, exploitation and exploration projects in order to minimize the overall risk profile of its investment opportunities while still providing significant upside potential. The recent Hess and Chevron Acquisitions are examples of the types of opportunities the Company seeks. OPERATION OF HIGH WORKING INTEREST PROPERTIES. The Company intends to continue to acquire working interest positions that give it operational control or that the Company believes may lead to operational control. As the operator of properties comprising approximately % of its total PV10 Value, the Company believes it is better able to manage and monitor production and more effectively control expenses, the allocation of capital and the timing of field development. Once a property is acquired, the Company employs its technical 6 10 and operational expertise to fully evaluate a field's future potential. If favorable, it will consolidate its working interest positions, primarily through negotiated transactions, which tend to be attractively priced compared to acquisitions available in competitive situations. The consolidation of ownership allows the Company to: (i) enhance the effectiveness of its technical staff by concentrating on relatively few wells; (ii) increase production while adding virtually no additional personnel; and (iii) increase ownership in a property so that the potential benefits of value enhancement activities justify the allocation of Company resources. EXPLOITATION OF PROPERTIES. The Company intends to maximize the value of its properties through a combination of increasing production, increasing recoverable reserves or reducing operating costs. During 1997, the Company's primary methodology for achieving these objectives was the use of horizontal drilling, which it also intends to emphasize in 1998. Horizontal drilling has historically produced oil at faster rates and with lower operating costs on a BOE basis than traditional vertical drilling. The Company also utilizes a variety of other techniques to maximize property values, including: (i) undertaking surface improvements such as rationalizing, upgrading or redesigning production facilities; (ii) making downhole improvements such as resizing downhole pumps or reperforating existing production zones; (iii) reworking existing wells into new production zones with additional potential; and (iv) utilizing exploratory drilling, which is frequently based on various advanced technologies such as 3-D seismic. EXPERIENCED AND INCENTIVIZED PERSONNEL. The Company intends to maintain a highly competitive team of experienced and technically proficient employees and motivate them through a positive work environment and stock ownership in the Company. The Company's 29 geological and engineering professionals have an average of over 15 years of experience in the Gulf Coast region. The Company believes that employee ownership, which is encouraged through the Company's stock option and stock purchase plans, is essential for attracting, retaining and motivating quality personnel. As of September 30, 1997, approximately 91% of the Company's eligible employees were participating in the Company's stock purchase plan. The Company believes that all employees are important to the success of the Company and as such grants bonuses and stock options to both management and employees on a basis roughly proportional to salaries. ACQUISITION OF CHEVRON PROPERTIES On November 25, 1997, the Company announced that it had entered into an agreement to purchase oil properties in the Heidelberg Field, Jasper County, Mississippi, from Chevron for approximately $202 million. The Chevron Acquisition represents the largest acquisition by the Company to date. The Heidelberg Field is adjacent to the Company's other primary oil properties in Mississippi and includes 122 producing wells, 96 of which the Company will operate. The Company is purchasing an average working interest of 94% and an average net revenue interest of 81% in these 96 wells, which wells account for approximately 99% of the field's average net daily production. The average net daily production from these properties during the third quarter of 1997 was approximately 2,840 Bbls/d and 600 Mcf/d. The Chevron Acquisition added proved reserves as of December 31, 1997 of approximately 27.7 MMBbls and 2.5 Bcf, or approximately 28.1 MMBOE. As a result of the significant amount of future development and exploitation to be performed on these properties and the increase in future reserves and production that the Company expects to result from such development and exploitation, the Company has attributed approximately $75 million of the purchase price to unevaluated properties. The Company has identified several potential development projects during its initial evaluation of the Heidelberg Field. These include initiating a waterflood project, upgrading lift capacity in over 15 wells and recompleting 30 wells in new zones. In addition, the Company has identified over 40 potential drilling locations in addition to other potential secondary and tertiary recovery projects. Horizontal wells drilled by the Company in 1997 at nearby Davis, Quitman and Eucutta Fields improved daily production rates significantly as compared to vertical wells drilled in the same fields. Consequently, the Company anticipates that 25 of the 40 proposed future wells in the Heidelberg Field will be horizontal wells. The Company's total 1998 development budget for the Heidelberg Field is approximately $28 million. 7 11 TPG PURCHASE In December 1995, the Texas Pacific Group initially invested in the Company through a $40 million private placement of securities and currently owns approximately 40% of the outstanding Common Shares (after giving effect to the pro forma exercise of TPG's warrants to purchase 625,000 Common Shares). In connection with the Offerings, TPG is purchasing an additional Common Shares (the "TPG Purchase"). See "Interests of Management in Certain Transactions." After giving effect to the Equity Offering and the TPG Purchase, TPG will own approximately % of the outstanding Common Shares. TPG was founded by David Bonderman, James G. Coulter and William S. Price III in 1993 to pursue private and public investment opportunities. The principals of TPG operate limited partnerships with committed capital of over $3.2 billion. TPG has several investments in its portfolio, including America West Airlines, Beringer Wine Estates, Belden and Blake Corporation, Continental Airlines, Del Monte Foods, Ducati Motor, Favorite Brands International, J. Crew Group Inc., Paradyne, St. Joe Communications and Virgin Cinemas. [D] THE DEBT OFFERING Issuer..................... Denbury Management, Inc. Guarantor.................. Denbury Resources Inc. (the "Guarantor"). Securities Offered......... $100,000,000 aggregate principal amount of % Senior Subordinated Notes Due 2008. Maturity Date.............. , 2008. Interest Rate and Payment Dates...................... The Notes will bear interest at a rate of % per annum. Interest on the Notes will accrue from the date of issuance thereof and will be payable semi-annually on and of each year, commencing , 1998. Optional Redemption........ Except as set forth below, the Notes will not be redeemable at the option of DMI prior to , 2003. Thereafter, the Notes will be redeemable at the option of DMI, in whole or in part, at the redemption prices set forth herein, together with accrued and unpaid interest, if any, to the date of redemption. If at any time or from time to time before , 2001, DRI consummates a Stock Offering, DMI may, at its option, use all or a portion of the proceeds therefrom to redeem up to 35% of the original principal amount of the Notes at a redemption price equal to % of the aggregate principal amount thereof, together with accrued and unpaid interest, if any, to the date of redemption; provided, however, that (i) at least $ million in aggregate principal amount of Notes remains outstanding immediately after each such redemption or such redemption retires the Notes in their entirety and (ii) such redemption occurs within 60 days following the closing of such Stock Offering. See "Description of the Notes -- Optional Redemption." Repurchase Obligation upon Change of Control........ Upon the occurrence of a Change of Control, each holder of Notes will have the right to require DMI to purchase all or a portion of such holder's Notes at a price equal to 101% of the aggregate principal amount thereof, together with accrued and unpaid interest to the date of purchase. See "Risk Factors -- Risks Relating to a Change of Control" 8 12 and "Description of the Notes -- Certain Covenants -- Change of Control." Ranking.................... The Notes will be unsecured, general obligations of DMI subordinated in right of payment to all existing and future Senior Indebtedness of DMI. The Notes will rank pari passu in right of payment with any future senior subordinated indebtedness of DMI and will be senior in right of payment to all existing and future subordinated indebtedness of DMI. As of September 30, 1997, after giving pro forma effect to the Transactions, DMI would have had approximately $ of outstanding Senior Indebtedness and no outstanding subordinated indebtedness. The Company may incur additional indebtedness under the Credit Facility after the Offerings, and such indebtedness will constitute Senior Indebtedness. See "Risk Factors -- Subordination of the Notes and Guaranty" and "Description of the Notes -- Ranking." Guaranty................... The Notes will be fully and unconditionally guaranteed (the "Guaranty") on a senior subordinated basis by the Guarantor, of which DMI is a direct wholly owned subsidiary. The Guaranty will be a general, unsecured obligation of the Guarantor, subordinated in right of payment to all existing and future Senior Indebtedness of the Guarantor. As of September 30, 1997, after giving pro forma effect to the Transactions, the Guarantor would have had $ million of Senior Indebtedness outstanding, all of which would have represented its guarantee of Senior Indebtedness of DMI under the Credit Facility. See "Risk Factors -- Subordination of the Notes and Guaranty" and "Description of the Notes -- Ranking." Certain Covenants.......... The indenture pursuant to which the Notes will be issued (the "Indenture") will contain certain covenants for the benefit of the holders, including, among others, covenants limiting the incurrence of additional indebtedness, the payment of dividends, the redemption of capital stock, the making of certain investments, the incurrence of dividend and other payment restrictions affecting subsidiaries, the issuance of capital stock of subsidiaries, asset sales, the creation of liens, certain sale and leaseback transactions, transactions with affiliates and certain mergers and consolidations. However, these limitations will be subject to a number of important qualifications and exceptions. See "Description of the Notes -- Certain Covenants." Use of Proceeds............ The net proceeds from the Debt Offering, together with the net proceeds from the Equity Offering and the TPG Purchase, will be used to reduce the Company's outstanding indebtedness under the Credit Facility, incurred primarily in connection with the Chevron Acquisition. Following such repayment, the Company will continue to have borrowing availability under the Credit Facility to fund future acquisitions, development activities and working capital. See "Use of Proceeds." Concurrent Equity Offering................... Concurrently with the Debt Offering, DRI is offering ( if the underwriters' over-allotment option is exercised in full) of its Common Shares, no par value (the "Common Shares"), by a separate prospectus. The closing of the Debt Offering is conditioned on the concurrent closing of the Equity Offering and the TPG Purchase; however, the closing of the Equity Offering is not conditioned on the closing of the Debt Offering. 9 13 [E] THE EQUITY OFFERING Common Shares offered by DRI................... shares(a) Common Shares to be outstanding after the Equity Offering.......... shares(b) Concurrent Debt Offering... Concurrently with the Equity Offering, DMI is offering $100 million aggregate principal amount of its % Senior Subordinated Notes Due 2008 by a separate prospectus. The closing of the Equity Offering is not conditioned on the closing of the Debt Offering. Use of Proceeds............ The net proceeds from the Equity Offering, together with the net proceeds from the Debt Offering and the TPG Purchase, will be used to reduce the Company's outstanding indebtedness under the Credit Facility incurred primarily in connection with the Chevron Acquisition. Following such repayment, the Company will continue to have borrowing availability under the Credit Facility to fund future acquisitions, development activities and working capital. See "Use of Proceeds." New York Stock Exchange and The Toronto Stock Exchange symbol.......... DNR - --------------- (a) Excludes Common Shares to be purchased by TPG in the TPG Purchase. (b) Includes 20,370,699 Common Shares outstanding as of December 15, 1997 and Common Shares to be purchased by TPG in the TPG Purchase. This total does not include 2,247,556 shares issuable pursuant to outstanding warrants and stock options, of which 1,096,572 were exercisable as of December 15, 1997. RISK FACTORS Prior to making an investment decision, prospective investors should consider carefully, together with other information contained in this Prospectus, the risk factors discussed under the caption "Risk Factors" herein. 10 14 SUMMARY HISTORICAL AND PRO FORMA CONSOLIDATED FINANCIAL DATA The summary historical consolidated financial data of the Company set forth below as of and for the years ended December 31, 1994, 1995 and 1996 have been derived from the audited consolidated financial statements of the Company. The summary historical consolidated financial data for the nine-month periods ended September 30, 1996 and 1997, and as of September 30, 1997, have been derived from unaudited consolidated financial statements of the Company which, in management's opinion include all adjustments (consisting of only normal recurring adjustments) necessary to present fairly the results for such periods. The operating results for such periods are not necessarily indicative of the operating results to be expected for a full fiscal year. The summary unaudited pro forma consolidated financial data for the Company set forth below have been derived from the Pro Forma Financial Statements (as defined) included elsewhere in this Prospectus. The summary historical and pro forma consolidated financial data are qualified in their entirety by, and should be read in conjunction with, "Unaudited Pro Forma Consolidated Financial Information," "Management's Discussion and Analysis of Financial Condition and Results of Operations" and the Company's consolidated financial statements included elsewhere in this Prospectus (the "Consolidated Financial Statements").
NINE MONTHS ENDED YEAR ENDED DECEMBER 31, SEPTEMBER 30, -------------------------------------- ---------------------------- PRO PRO FORMA FORMA 1994 1995 1996 1996(A) 1996 1997 1997(A) ------- ------- ------- -------- ------- ------- -------- (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS AND RATIOS) INCOME STATEMENT DATA: Revenue: Oil, natural gas and related product sales............... $12,692 $20,032 $52,880 $ 76,542 $34,709 $60,083 $ 74,117 Interest income............... 23 77 769 769 425 986 986 ------- ------- ------- -------- ------- ------- -------- Total revenues........... 12,715 20,109 53,649 77,311 35,134 61,069 75,103 ------- ------- ------- -------- ------- ------- -------- Expenses: Production.................... 4,309 6,789 13,495 20,145 9,197 15,737 20,974 General and administrative.... 1,105 1,832 4,267 4,954 2,825 4,535 5,049 Interest...................... 1,146 2,085 1,993 12,227 1,530 387 7,894 Imputed preferred dividends... -- -- 1,281 1,281 1,153 -- -- Loss on early extinguishment of debt..................... -- 200 440 440 440 -- -- Depletion and depreciation.... 4,209 8,022 17,904 24,491 12,557 23,224 27,049 Franchise taxes............... 65 100 213 213 160 308 308 ------- ------- ------- -------- ------- ------- -------- Total expenses........... 10,834 19,028 39,593 63,751 27,862 44,191 61,274 ------- ------- ------- -------- ------- ------- -------- Income before income taxes...... 1,881 1,081 14,056 13,560 7,272 16,878 13,829 Provision for federal income taxes......................... (718) (367) (5,312) (5,128) (2,932) (6,245) (5,117) ------- ------- ------- -------- ------- ------- -------- Net income...................... $ 1,163 $ 714 $ 8,744 $ 8,432 $ 4,340 $10,633 $ 8,712 ======= ======= ======= ======== ======= ======= ======== Net income per common share Primary....................... $ 0.19 $ 0.10 $ 0.67 $ 0.47 $ 0.37 $ 0.53 $ 0.35 Fully diluted................. 0.19 0.10 0.62 0.45 0.36 0.50 0.34 Weighted average common shares outstanding................... 6,240 6,870 13,104 18,002 11,616 20,175 25,073 OTHER FINANCIAL DATA: Operating cash flow(b).......... $ 6,185 $ 9,394 $34,140 $ 40,231 $21,767 $40,166 $ 40,942 Capital expenditures............ 16,903 28,524 86,857 288,857 73,320 70,773 272,773 EBITDA(c)....................... 7,213 11,311 34,905 51,230 22,527 39,503 47,786 SELECTED RATIOS: Ratio of earnings to fixed charges(d).................... 2.6x 1.5x 4.4x 1.9x 3.1x 34.9x 2.7x Ratio of EBITDA to interest expense....................... 6.3 5.4 17.5 4.2 14.7 102.1 6.1 Ratio of long-term debt to EBITDA........................ 2.3 0.3 0.1 2.3 1.6(e) 0.4(e) p2.2(e)
11 15
AS OF SEPTEMBER 30, 1997 AS OF DECEMBER 31, ------------------- ---------------------------- PRO 1994 1995 1996 ACTUAL FORMA(A) ------- ------- -------- -------- -------- (IN THOUSANDS) BALANCE SHEET DATA: Working capital (deficit)......................... $(1,620) $ 6,862 $ 12,482 $ 2,899 $ 2,899 Total assets...................................... 48,964 77,641 166,505 210,424 414,924 Long-term debt, net of current maturities......... 16,536 3,474 125 20,005 139,030 Convertible preferred stock....................... -- 15,000 -- -- -- Shareholders' equity.............................. 25,962 53,501 142,504 155,558 241,033
- --------------- (a) Gives effect to the Transactions (as defined under "Unaudited Pro Forma Consolidated Financial Information") as if the Transactions had been consummated as of the beginning of the period presented. See "Unaudited Pro Forma Consolidated Financial Information." (b) Represents cash flow provided by operations, exclusive of the net change in non-cash working capital balances. (c) EBITDA represents earnings before interest income, interest expense, income taxes, depletion and depreciation, imputed preferred dividends and losses on early extinguishment of debt. The Company has included information concerning EBITDA because it believes that EBITDA is used by certain investors as one measure of an issuer's historical ability to service its debt. EBITDA is not a measurement determined in accordance with generally accepted accounting principles and should not be considered in isolation or as a substitute for measures of performance prepared in accordance with generally accepted accounting principles. (d) For purposes of determining the ratio of earnings to fixed charges, earnings are defined as earnings from continuing operations before income taxes, plus fixed charges. Fixed charges consist of interest expense, amortization of debt expense, and imputed preferred stock dividends. (e) EBITDA used to calculate the ratio of long-term debt to EBITDA for these periods has been annualized. 12 16 SUMMARY OIL AND NATURAL GAS RESERVE DATA The following table summarizes the estimates of the Company's net proved oil and natural gas reserves as of the dates indicated and the present value attributable to the reserves at such dates. The proved reserve and present value data as of December 31, 1995, 1996 and 1997 have been prepared by Netherland & Sewell, independent petroleum engineers. A summary of the Netherland & Sewell report as of December 31, 1997 is included as Annex A to this Prospectus. See "Risk Factors -- Uncertainty of Estimates of Oil and Natural Gas Reserves," "Business and Properties -- Oil and Natural Gas Operations," and Note 11 to the Consolidated Financial Statements.
AS OF DECEMBER 31, ----------------------------- 1995 1996 1997 ------- -------- -------- PROVED RESERVES: Oil (MBbls)............................................... 6,292 15,052 Natural Gas (MMcf)........................................ 48,116 74,102 Oil Equivalent (MBOE)..................................... 14,311 27,403 Proved developed as a percent of total proved reserves.... 78% 84% PRESENT VALUES: PV10 Value (before income taxes, in thousands)............ $96,965 $316,098(d) Standardized measure of discounted estimated future net cash flow after net income taxes (in thousands)......... 81,164 241,872 REPRESENTATIVE OIL AND GAS PRICES:(a) West Texas Intermediate (per Bbl)......................... $ 18.00 $ 23.39 NYMEX Henry Hub (per MMBtu)............................... 2.24 3.90 OTHER RESERVE DATA: Reserve replacement percent(b)............................ 300% 500% Reserve to production ratio (years)(c).................... 9.3 9.2
- --------------- (a) The oil prices as of each respective year-end were based on West Texas Intermediate ("WTI") posted prices per barrel and NYMEX Henry Hub ("NYMEX") prices per MMBtu, with these representative prices adjusted by field to arrive at the appropriate corporate net price. (b) Equals current period reserve additions through acquisition of reserves, extensions and discoveries, and revisions of prior estimates divided by the production for such period. (c) Calculated by dividing year-end proved reserves by such year's annual production. (d) For comparative purposes, the Company also prepared a reserve report as of December 31, 1996 using a 1996 WTI price of $21.00 per Bbl and a NYMEX price of $2.40 per MMBtu, with these prices also adjusted by field. The PV10 Value in this report was $213.7 million with 27.0 MMBOE of proved reserves. For the nine months ended September 30, 1997, the average WTI price was approximately $18.90 per Bbl and the average NYMEX price was approximately $2.39 per MMBtu. SUMMARY OPERATING DATA The following table sets forth summary data with respect to the production and sales of oil and natural gas by the Company for the periods indicated.
NINE MONTHS ENDED YEAR ENDED DECEMBER 31, SEPTEMBER 30, -------------------------------------- ----------------------------- PRO FORMA PRO FORMA 1994 1995 1996 1996(A) 1996 1997 1997(A) ------ ------- ------- --------- ------- ------- --------- AVERAGE NET DAILY PRODUCTION VOLUMES: Oil (Bbls)................................ 1,340 1,995 4,099 7,520 3,529 7,615 10,522 Natural gas (Mcf)......................... 9,113 13,271 24,406 25,076 23,867 34,061 34,648 Oil equivalent (BOE) ..................... 2,859 4,207 8,167 11,699 7,507 13,292 16,297 WEIGHTED AVERAGE SALES PRICES: Oil (per Bbl)............................. $13.84 $ 14.90 $ 18.98 $ 18.75 $ 18.05 $ 17.53 $ 17.45 Natural gas (per Mcf)..................... 1.78 1.90 2.73 2.72 2.64 2.54 2.54 PER BOE DATA: Revenue................................... $12.17 $ 13.05 $ 17.69 $ 17.88 $ 16.87 $ 16.56 $ 16.65 Production expenses....................... (4.13) (4.42) (4.51) (4.70) (4.47) (4.34) (4.71) ------ ------- ------- ------- ------- ------- ------- Production netback........................ 8.04 8.63 13.18 13.18 12.40 12.22 11.94 General and administrative................ (1.12) (1.25) (1.50) (1.21) (1.45) (1.33) (1.20) Interest, net............................. (0.99) (1.26) (0.26) (2.57) (0.37) 0.18 (1.54) ------ ------- ------- ------- ------- ------- ------- Operating cash flow(b).................... $ 5.93 $ 6.12 $ 11.42 $ 9.40 $ 10.58 $ 11.07 $ 9.20 ====== ======= ======= ======= ======= ======= =======
- --------------- (a) Adjusted to give effect to the Transactions as if the Transactions had been completed as of the beginning of the periods presented. (b) Represents cash flow provided by operations, exclusive of the net change in non-cash working capital balances. 13 17 RISK FACTORS Prospective purchasers of the securities offered hereby should carefully consider the following factors in addition to the other information in this Prospectus. See "Forward-Looking Statements." SUBSTANTIAL CAPITAL REQUIREMENTS In the future, the Company will require additional funds to develop, maintain and acquire additional interests in existing or newly acquired properties. During the last three years, the Company's total capital expenditures, including acquisitions, have averaged significantly more than its cash flow from operations. The Company made capital expenditures of $28.5 million, $86.9 million and $272.8 million, respectively, in the years ended December 31, 1995 and 1996, and the nine-month period ended September 30, 1997 (including the pro forma effect of the Chevron Acquisition). Historically, the Company has funded these expenditures principally through internally generated cash flows, bank debt and the issuance of equity. The Company intends to use the net proceeds from the Offerings and the TPG Purchase to substantially reduce its outstanding bank debt. As of December 31, 1997, after giving pro forma effect to the Transactions the Company would have had $ million available under its Credit Facility. See "Use of Proceeds." The borrowing base on the Credit Facility will be redetermined semi-annually by the lenders thereunder in their sole discretion and there can be no assurance that the borrowing base will be maintained at its present level. If the Company's borrowing base under the Credit Facility is decreased, the Company's ability to obtain the funds necessary to carry out its business strategy may be limited. See "Management's Discussion and Analysis of Financial Condition and Results of Operations -- Restated Credit Facility" and "Description of Certain Indebtedness." Although the Company carefully monitors its capital requirements and plans its expenditures accordingly, and believes that it will be able to meet all of its obligations in the future, there can be no assurance that additional capital will always be available to the Company in the future or that it will be available on terms that are acceptable to the Company. Numerous factors affect the cost and availability of capital, including market conditions, the Company's results of operations and the rate of the Company's drilling successes. Should outside capital resources be limited, the rate of the Company's growth would substantially decline, and there can also be no assurance that the Company would be able to continue to increase its oil and natural gas production or reserves. PRICE FLUCTUATIONS AND MARKETS The Company's revenue, profitability and future rate of growth are dependent upon the price of, and demand for, oil, natural gas and natural gas liquids. Historically, the markets for oil and natural gas have been volatile and are likely to continue to be volatile in the future. The prices for oil and natural gas are subject to wide fluctuations in response to relatively minor changes in the supply of and demand for oil and natural gas, market uncertainty and a variety of additional factors that are beyond the control of the Company. These factors include the level of consumer product demand, weather conditions, domestic and foreign governmental relations, governmental regulations and taxes, the price and availability of alternative fuels, political conditions in the Middle East and other petroleum producing areas, the foreign supply of oil and natural gas, the price of foreign imports and overall economic conditions. These factors and the volatility of the energy markets make it extremely difficult to predict future oil and natural gas price movements with any certainty. Declines in oil and natural gas prices would not only reduce revenue, but could reduce the amount of oil and natural gas that can be produced economically by the Company and, as a result, could have a material adverse effect on the Company's financial condition, results of operations and reserves. In an effort to minimize the effect of price volatility, the Company has from time to time in the past entered into hedging arrangements. The Company currently does not have any financial hedging contracts in place, although it may have such contracts in the future. The availability of a ready market for the Company's oil and natural gas production also depends on a number of factors, including the demand for and supply of oil and natural gas and the proximity of reserves to, and the capacity of, oil and natural gas gathering systems, pipelines or trucking and terminal facilities. Wells 14 18 may be temporarily shut-in for lack of a market, or due to the inadequacy or unavailability of pipeline or gathering system capacity. If any of these market factors were to dramatically change, the impact on the Company's financial condition would be substantial. ACQUISITION RISKS The Company's rapid growth in recent years has been attributable in significant part to acquisitions of producing properties. After the consummation of the Offerings, the Company expects to continue to evaluate and, where appropriate, pursue acquisition opportunities. There can be no assurance that suitable acquisition opportunities will be identified in the future, or that they will be integrated successfully into the Company's operations or be successful in achieving desired profitability objectives. In addition, the Company competes against other companies for acquisitions, and there can be no assurance that the Company will be successful in the acquisition of any material property interests. The successful acquisition of producing properties requires an assessment of recoverable reserves, exploration potential, future oil and natural gas prices, operating costs, potential environmental and other liabilities and other factors beyond the Company's control. In connection with such an assessment, the Company performs a review of the subject properties that it believes to be generally consistent with industry practices. Nonetheless, the resulting assessments are necessarily inexact and their accuracy inherently uncertain, and such a review may not accurately assess a property's value or reveal all existing or potential problems, nor will it necessarily permit a buyer to become sufficiently familiar with the property to fully assess its merits and deficiencies. Inspections may not always be performed on every platform or well, and structural and environmental problems are not necessarily observable even when an inspection is undertaken. Additionally, significant acquisitions can change the nature of the operations and business of the Company depending upon the character of the acquired properties, which may have substantially different operating and geological characteristics or geographic location than existing properties. While it is the Company's current intention to continue to concentrate on acquiring producing properties with development and exploration potential located in the Gulf Coast region, there can be no assurance that the Company will not pursue acquisitions or properties located in other geographic regions. To the extent that such acquired properties are substantially different than the Company's Gulf Coast properties, the Company's ability to efficiently realize the economic benefits of such transactions may be limited. DRILLING AND OPERATING RISKS Drilling activities are subject to many risks, including the risk that no commercially productive reservoirs will be discovered. There can be no assurance that new wells drilled by the Company will be productive or that the Company will recover all or any portion of its investment in such wells. Drilling for oil and natural gas may involve unprofitable efforts, not only from dry wells but also from wells that are productive but do not produce sufficient net revenues to return a profit after deducting drilling, operating and other costs. The cost of drilling, completing and operating wells is often uncertain. The Company's drilling operations may be curtailed, delayed or canceled as a result of numerous factors, many of which are beyond the Company's control, including title problems, weather conditions, compliance with governmental requirements and shortages or delays in the delivery of equipment and services. The Company's operations are subject to all of the risks normally incident to the operation and development of oil and natural gas properties and the drilling of oil and natural gas wells, including encountering unexpected formations or pressures, blow-outs, the release of contaminants into the environment, cratering and fires, all of which could result in personal injuries, loss of life, pollution damage, damage to property of the Company and others, including the inability to control such risk when wells are being drilled by third party contractors and the imposition of fines and penalties pursuant to environmental legislation. See "-- Governmental and Environmental Regulation" and "Business and Properties -- Legal Proceedings." The Company is not fully insured against all of these risks, nor are all such risks insurable. Although the Company maintains liability insurance in an amount which it considers adequate, the nature of these risks is such that liabilities could exceed policy limits, or, as in the case of environmental fines and penalties, be uninsurable, in 15 19 which event the Company could incur significant costs that could have a material adverse effect upon its financial condition. The Company believes that it has proper procedures in place and that its operating staff carries out their work in a manner designed to mitigate these risks. There can be no assurance, however, that such procedures will be effective in deterring these costs. The Company has focused its oil and natural gas operations in certain key areas and currently receives approximately 80% of its production from 14 fields. Any interruption of operations in these key areas could materially adversely affect the profitability of the Company. In the majority of the Company's Mississippi fields, significant amounts of saltwater are produced which require disposal. Currently, the Company is able to dispose of such saltwater economically, but should it be unable to do so in the future, production from these fields would become uneconomical. NEED TO REPLACE RESERVES The Company's future success depends on its ability to find, develop or acquire additional oil and natural gas reserves that are recoverable on an attractive economic basis. Unless the Company successfully replaces the reserves that it produces (through development, exploration or acquisitions), the Company's proved reserves will decline. Furthermore, approximately % of the Company's proved developed reserves at December 31, 1997 are located in the lower Gulf Coast geosyncline in southern Louisiana, which is characterized by relatively rapid decline rates. Approximately % of the Company's total proved reserves at December 31, 1997 were either proved undeveloped or proved developed non-producing. Recovery of such reserves will require significant capital expenditures and successful drilling operations. There can be no assurance that the Company will continue to be successful in its effort to develop or replace its proved reserves on terms economically beneficial to the Company, if at all. UNCERTAINTY OF ESTIMATES OF OIL AND NATURAL GAS RESERVES Estimates of the Company's proved developed oil and natural gas reserves and future net revenues therefrom appearing elsewhere herein are based on reserve reports prepared by independent petroleum engineers. There are numerous uncertainties inherent in estimating the quantity of proved reserves, including many factors which are beyond the Company's control. The estimates contained in this Prospectus are based on several assumptions, all of which are speculative to a certain degree. Actual future production, revenues, taxes, operating expenses, development expenditures and quantities of recoverable oil and natural gas reserves could vary substantially from those assumed in the estimates and any significant variance in these assumptions could materially affect the estimated quantity of reserves. The estimation of reserves requires substantial judgment on the part of the petroleum engineers, resulting in imprecise determinations, particularly with respect to new discoveries. Different reserve engineers may make different estimates of reserve quantities and revenues attributable thereto based on the same data. The accuracy of any reserve estimate depends on the quality of available data, as well as engineering and geological interpretation and judgment. The Company's reserves are primarily water-drive reservoirs which can increase the uncertainty of the estimates that have been prepared. Results of drilling, testing and production or price changes subsequent to the date of the estimate may result in revisions to such estimates. The estimates of future net revenues reflect oil and natural gas prices as of the date of estimation, without escalation. There can be no assurance, however, that such prices will be realized or that the estimated production volumes will be produced during the periods indicated. Future performance that deviates significantly from that found in the reserve reports could have a material adverse effect on the Company. EFFECTS OF LEVERAGE AND RESTRICTIVE DEBT COVENANTS As of September 30, 1997, after giving pro forma effect to the Transactions, the Company would have had total consolidated indebtedness of approximately $ million and a debt-to-capitalization ratio of %. In addition, the Company may incur additional indebtedness in the future under the Credit Facility in connection with its acquisition, development, exploitation and exploration of oil and natural gas producing properties. As of December 31, 1997, after giving pro forma effect to the Transactions, the Company would have had $ million of availability under the Credit Facility. 16 20 The degree to which the Company will be leveraged following the Transactions could have important consequences to holders of the [D] Notes [E] Common Shares, including but not limited to, the following: (i) a substantial portion of the Company's cash flow from operations will be dedicated to debt service and will not be available for other purposes; (ii) the Company's ability to obtain additional financing in the future could be limited; (iii) certain of the Company's borrowings are at variable rates of interest, which could result in higher interest expense in the event of increases in interest rates; (iv) the Company may be more vulnerable to downturns in its business or in the general economy and may be restricted from making acquisitions, introducing new technologies or exploiting business opportunities; and (v) the Indenture and the Credit Agreement (as defined herein) contain financial and restrictive covenants that limit the ability of the Company to, among other things, borrow additional funds, dispose of assets or pay cash dividends. Failure by the Company to comply with such covenants could result in an event of default under such debt instruments which, if not cured or waived, could have a material adverse effect on the Company. [D] In addition, the degree to which the Company is leveraged could prevent it from purchasing all Notes tendered to it upon the occurrence of a Change of Control, which would constitute an event of default under the Indenture. See "Management's Discussion and Analysis of Financial Condition and Result of Operations -- Restated Credit Facility", "Description of Certain Indebtedness" and "Description of the Notes." If the Company is unable to generate sufficient cash flow or otherwise obtain funds necessary to make required payments on its indebtedness or, if the Company otherwise fails to comply with the various covenants in such indebtedness (including covenants in the Credit Facility), it would be in default under the terms thereof, which would permit the holders of such indebtedness to accelerate the maturity of such indebtedness and could cause defaults under other indebtedness of the Company, including the Notes, or result in its bankruptcy. [D] Such defaults or any bankruptcy of the Company resulting therefrom could result in a default on the Notes and could delay or preclude payment of principal of, or interest on, the Notes. See "-- Subordination of the Notes and Guaranty." The ability of the Company to meet its obligations will be dependent upon the future performance of the Company, which will be subject to prevailing economic conditions and to financial, business and other factors, including factors beyond the control of the Company. [D] SUBORDINATION OF THE NOTES AND GUARANTY The indebtedness evidenced by the Notes and the Guaranty will be senior subordinated obligations of DMI and the Guarantor, as the case may be. The payment of the principal of, premium (if any), and interest on the Notes and the payment of the Guaranty is each subordinate in right of payment, as set forth in the Indenture, to the prior payment in full of all Senior Indebtedness of DMI or the Guarantor, as the case may be, including the obligations of DMI under, and the Guarantor's guarantee of DMI's obligations with respect to, the Credit Facility. As of September 30, 1997, after giving pro forma effect to the transactions, (i) the Senior Indebtedness of DMI would have been approximately $ million, $ of which would have been secured and (ii) the Senior Indebtedness of the Guarantor would have been approximately $ million, $ million of which would have represented guarantees of Senior Indebtedness of DMI under the Credit Facility. Although the Indenture contains limitations on the amount of additional Indebtedness that DMI may incur, under certain circumstances the amount of such Indebtedness could be substantial and, in any case, such Indebtedness may be Senior Indebtedness. See "Description of the Notes -- Certain Covenants -- Limitation on Indebtedness." After the consummation of the Transactions, including the anticipated repayment of borrowings under the Credit Facility, approximately $ million of additional borrowings will be available under the Credit Facility for general corporate purposes, which amounts will constitute Senior Indebtedness of DMI and the Guarantor if and when incurred. In the event of the bankruptcy, liquidation or reorganization of DMI or the Guarantor, the assets of DMI or the Guarantor, as the case may be, will be available to pay the Notes or the Guaranty only after all Senior Indebtedness of DMI or the Guarantor, as the case may be, has been paid in full. Sufficient funds may not exist to pay amounts due on the Notes in such event. In addition, the subordination provisions of the Indenture provide that no cash payment may be made with respect to the Notes during the continuance of a payment default under any Senior Indebtedness of DMI. Furthermore, if certain non-payment defaults exist with 17 21 respect to certain Senior Indebtedness of DMI, the holders of such Senior Indebtedness will be able to prevent payments on the Notes for certain periods of time. See "Description of the Notes -- Ranking." CONTROLLING SHAREHOLDER In December 1995, the Company completed a $40.0 million private placement of securities to TPG consisting of Convertible Preferred (as defined herein), Common Shares and warrants to purchase Common Shares. After giving pro forma effect to the Equity Offering and the TPG Purchase, TPG will own approximately % of the Common Shares outstanding on a fully-diluted basis. TPG is entitled to nominate a minimum of three of the seven members of the Company's Board of Directors so long as TPG maintains certain ownership levels. In addition, certain transactions, including changes to the number of board members, amendments to the Company's Articles of Continuance, certain issuances of debt, certain acquisitions and dispositions, and most issuances of equity, require the two-thirds majority of the Board of Directors, which cannot be obtained without the approval of at least one TPG nominee. Additionally, so long as TPG's equity interest is 20% or greater, it has the right (which has been partially waived for the Equity Offering), but not the obligation, to maintain its pro rata ownership interest in the equity securities of the Company in the event the Company issues any additional equity securities or securities convertible into Common Shares by purchasing additional shares on the same terms and conditions. At the request of the New York Stock Exchange, the Company has agreed to make the extension of this right subject to shareholder ratification every five years with the first vote on the matter expected to be at the Company's annual meeting in the year 2000. See "Interests of Management in Certain Transactions." DEPENDENCE ON KEY PERSONNEL The Company believes that its continued success will depend to a significant extent upon the abilities and continued efforts of its Board of Directors and its senior management, particularly Gareth Roberts, its Chief Executive Officer and President. The Company does not have any employment agreements and does not maintain any key man life insurance policies. The loss of the services of any of its key personnel could have a material adverse effect on the Company's results of operations. The success of the Company will also depend, in part, upon the Company's ability to find, hire and retain additional key management personnel who are also being sought by other businesses. The inability to find, hire and retain such personnel could have a material adverse effect upon the Company's results of operations. See "Management." [D] RISKS RELATING TO A CHANGE OF CONTROL Upon a Change of Control, holders of the Notes will have the right to require the Company to purchase all or any part of such holders' Notes at a price equal to 101% of the principal amount thereof, plus accrued and unpaid interest, if any, to the date of purchase. The events that constitute a Change of Control under the Indenture would constitute a default under the Credit Agreement, which prohibits the purchase of the Notes by the Company in the event of certain Change of Control events unless and until such time as the Company's indebtedness under the Credit Facility is repaid in full. There can be no assurance that the Company and the Guarantor would have sufficient financial resources available to satisfy all of its or their obligations under the Credit Facility and the Notes in the event of a Change of Control. The Company's failure to purchase the Notes would result in a default under the Indenture and under the Credit Agreement, each of which could have material adverse consequences for the Company and the holders of the Notes. See "Description of Certain Indebtedness" and "Description of the Notes -- Change of Control." [E] SHARES ELIGIBLE FOR FUTURE SALE As of December 31, 1997, after giving pro forma effect to the Equity Offering and the TPG Purchase, the Company would have had Common Shares outstanding ( Common Shares assuming exercise of the Underwriters' over-allotment option in full). The Common Shares sold in the Equity Offering will be freely tradable without restrictions or further registration under the Securities Act of 1933, as amended (the "Securities Act"). Of the Common Shares beneficially owned by TPG as of the close of the Equity Offering and the TPG Purchase 6,983,038 will be "restricted" securities within the meaning of the Securities 18 22 Act as a result of the issuance thereof in a private transaction. The Company believes that such "restricted" Common Shares are eligible for sale on the open market pursuant to Rule 144 under the Securities Act from time to time. In connection with the Equity Offering and the TPG Purchase, the Company, all of its directors and executive officers and TPG have agreed not to sell or otherwise dispose of any Common Shares, including any securities exercisable for or convertible into Common Shares, for a period of 120 days from the date of this Prospectus, without the prior written consent of Morgan Stanley & Co. Incorporated. See "Underwriters." In addition, the Company has granted certain registration rights to TPG. Until December 21, 2000, TPG has the right, subject to certain conditions, to demand that its Common Shares be registered under the Securities Act on one occasion. See "Interests of Management in Certain Transactions" and "Shares Eligible for Future Sale." The sale of a substantial number of Common Shares or the availability of a substantial number of shares for sale may adversely affect the market price of the Common Shares and could impair the Company's ability to raise additional capital through the sale of its equity securities. COMPETITION The Company operates in a highly competitive industry. The Company competes with a large number of integrated and independent energy companies for the acquisition of desirable oil and natural gas properties, as well as for the equipment and labor required to develop and operate such properties. Many of these competitors have financial and other resources substantially greater than those of the Company. See "Business and Properties -- Competition." The principal resources necessary for the exploration for, and the acquisition, exploitation, production and sale of, oil and natural gas are leaseholds under which oil and natural gas reserves may be discovered, drilling rigs and related equipment to explore for and develop such reserves, capital assets required for the exploitation and production of the reserves and knowledgeable personnel to conduct all phases of oil and natural gas operations. The Company must compete for such resources with major oil companies and independent operators and also with other industries for certain personnel and materials. Although the Company believes its current resources are adequate to preclude any significant disruption of operations in the immediate future, the continued availability of such materials and resources to the Company cannot be assured. GOVERNMENTAL AND ENVIRONMENTAL REGULATION The production of oil and natural gas is subject to regulation under a wide range of United States federal and state statutes, rules, orders and regulations. Federal and state statutes and regulations require permits for drilling, reworking and recompletion operations, drilling bonds and reports concerning operations, and these permits are subject to modification, renewal and revocation by the issuing governmental authority. Most states in which the Company owns and operates properties have regulations governing conservation matters, including provisions for the unitization or pooling of oil and natural gas properties, the establishment of maximum rates of production from oil and natural gas wells and the regulation of the spacing, plugging and abandonment of wells. Many states also restrict production to the market demand for oil and natural gas, and several states have indicated interest in revising applicable regulations in light of the persistent oversupply and low prices for oil and natural gas production. These regulations may limit the rate at which oil and natural gas could otherwise be produced from the Company's properties. Some states have also enacted statutes prescribing ceiling prices for natural gas sold within the state. See "Business and Properties -- Regulations." Various federal, state and local laws and regulations relating to the protection of the environment may affect the Company's operations and costs. In particular, the Company's production operations, its salt water disposal operations and its use of facilities for treating, processing or otherwise handling hydrocarbons and wastes therefrom are subject to stringent environmental regulation. The majority of the Company's Louisiana activity is conducted in a marsh environment where environmental regulations are somewhat greater. Although compliance with these regulations increases the cost of Company operations, such compliance has not had a material effect on the Company's capital expenditures, earnings or competitive position. There can be no assurance, however, that future compliance with these regulations will not have such a material adverse 19 23 effect. Environmental regulations have historically been subject to frequent change by regulatory authorities, and the Company is unable to predict the ongoing cost of complying with these laws and regulations or the future impact of such regulations on its operations. There can be no assurance that present or future regulation will not adversely affect the Company's exploration, development and production of its oil and natural gas producing properties. A significant discharge of hydrocarbons into the environment could, to the extent such event is not insured, subject the Company to substantial expense. See "Business and Properties -- Regulations." [E] AUTHORIZATION AND DISCRETIONARY ISSUANCE OF PREFERRED SHARES; ANTI-TAKEOVER PROVISIONS DRI's Articles of Continuance authorize the future issuance of an unlimited number of First Preferred Shares and Second Preferred Shares (collectively, the "Preferred Shares"), with such designations, rights, privileges, restrictions and conditions as may be determined from time to time by the Board of Directors. Accordingly, the Board of Directors is empowered, without shareholder approval, to issue Preferred Shares with dividend, liquidation, conversion, voting or other rights that could adversely affect the voting power or other rights of holders of the Common Shares. The issuance of the Preferred Shares could be utilized, under certain circumstances, as a method of discouraging, delaying or preventing a change in control of the Company. Such actions could have the effect of discouraging bids for the Company, thereby preventing shareholders from receiving the maximum value for their shares. Although the Company has no present intention to issue any additional Preferred Shares, there can be no assurance that the Company will not do so in the future. After giving effect to the Offerings, no Preferred Shares will be outstanding. See "Interests of Management in Certain Transactions." The Investment Canada Act includes provisions that are intended to encourage persons considering unsolicited tender offers or other unilateral takeover proposals to negotiate with DRI's Board of Directors rather than pursue non-negotiated takeover attempts. These provisions apply to DRI and may have a significant effect on the ability of a shareholder to benefit from certain kinds of transactions that may be opposed by the incumbent Board of Directors. See "Description of Capital Stock" and "Canadian Taxation and the Investment Canada Act." [E] ABSENCE OF DIVIDENDS During the last five fiscal years, the Company has not paid any dividends on its outstanding Common Shares, and the Company does not intend to pay any dividends in the foreseeable future. DRI is a holding company with no independent operations. Accordingly, any amounts available for dividends will be dependent on the prior declaration of dividends by DMI to DRI. In addition, the terms of the Credit Facility restrict, and the terms of the Notes will restrict, the payment of dividends by DMI. The Company currently intends to retain its cash for the continued expansion of its business, including exploration, development and acquisition activities. [D] ABSENCE OF A PUBLIC MARKET FOR THE NOTES The Notes are a new issue of securities for which there is currently no trading market. The Company intends to apply for a listing of the Notes on the Luxembourg Stock Exchange after consummation of the Debt Offering. The Underwriters have advised the Company that they currently intend to make a market in the Notes, although the Underwriters are not obligated to do so and may discontinue such market making at any time. The Company does not intend to apply for listing of the Notes on a securities exchange or to seek approval for quotation through an automated quotation system. Accordingly, there can be no assurance that an active market will develop upon completion of the Debt Offering or, if developed, that such market will be sustained or as to the liquidity of any market. Factors such as quarterly or cyclical variations in the Company's financial results, variations in interest rates, future announcements concerning the Company or its competitors, government regulation, general economic and other conditions and developments affecting the oil and gas industry could cause the market price of the Notes to fluctuate substantially. 20 24 CONCENTRATION OF CUSTOMERS During 1996, the Company sold 10% or more of its net production of oil and natural gas to the following purchasers: Natural Gas Clearinghouse (20%); Penn Union Energy Services (19%); Enron Trading & Transportation (13%); and Hunt Refining (15%). In addition, the Company is currently selling a majority of its oil to Hunt Refining under a two-year contract which expires in April 1998 and is currently receiving a premium to the posted price in this contract. The Company may not be able to renew this contract in the future or may not be able to obtain terms as favorable as those in the existing contract. While the Company believes that its relationships with these purchasers are good, any loss of revenue from these purchasers could have a material adverse effect on the Company's results of operations. FORWARD-LOOKING STATEMENTS The statements contained in this Prospectus that are not historical facts, including, but not limited to, statements found in the "Prospectus Summary," "Management's Discussion and Analysis of Financial Condition and Results of Operations" and "Business and Properties," are "forward-looking statements," as that term is defined in Section 21E of the Exchange Act, that involve a number of risks and uncertainties. Such forward-looking statements may be or may concern, among other things, capital expenditures, drilling activity, acquisition plans and proposals, dispositions, development activities, cost savings, production efforts and volumes, hydrocarbon reserves, hydrocarbon prices, liquidity, regulatory matters and competition. Such forward-looking statements generally are accompanied by words such as "plan," "estimate," "expect," "predict," "anticipate," "projected," "should," "assume," "believe" or other words that convey the uncertainty of future events or outcomes. Such forward-looking statements are based upon management's current plans, expectations, estimates and assumptions and are subject to a number of risks and uncertainties that could significantly affect current plans, anticipated actions, the timing of such actions and the Company's financial condition and results of operations. As a consequence, actual results may differ materially from expectations, estimates or assumptions expressed in or implied by any forward-looking statements made by or on behalf of the Company. Among the factors that could cause actual results to differ materially are: fluctuations of the prices received or demand for the Company's oil and natural gas, the uncertainty of drilling results and reserve estimates, operating hazards, acquisition risks, requirements for capital, general economic conditions, competition and government regulations, as well as the risks and uncertainties discussed in this Prospectus, including, without limitation, the portions referenced above, and the uncertainties set forth from time to time in the Company's other public reports, filings and public statements. [D] EQUITY OFFERING Concurrently with the Debt Offering, the Company is offering Common Shares to the public in the Equity Offering and TPG is purchasing Common Shares in the TPG Purchase. In addition, as part of the Equity Offering the Company has granted the underwriters an option to purchase up to additional Common Shares to cover over-allotments, if any. The closing of the Debt Offering is conditioned upon the closing of the Equity Offering and the TPG Purchase; however, the closing of the Equity Offering is not conditioned upon the closing of the Debt Offering. [E] DEBT OFFERING Concurrently with the Equity Offering, the Company is offering $100 million of % Senior Subordinated Notes Due 2008 to the public. The Indenture to be executed in conjunction with the Debt Offering will contain certain covenants, including covenants that limit (i) indebtedness, (ii) restricted payments, (iii) issuances and sale of capital stock of restricted subsidiaries, (iv) sale/leaseback transaction, (v) transactions with affiliates, (vi) liens, (vii) asset sales, (viii) dividend and other payment restrictions affecting restricted subsidiaries and (ix) mergers and consolidations. The closing of the Equity Offering is not conditioned upon the closing of the Debt Offering; however, the closing of the Debt Offering is conditioned 21 25 upon the closing of the Equity Offering. See "Description of Certain Indebtedness -- Senior Subordinated Notes." USE OF PROCEEDS [D] The net proceeds to the Company from the Debt Offering are estimated to be approximately $ million. Concurrently with the Debt Offering, the Company is offering Common Shares in the Equity Offering and TPG is purchasing Common Shares in the TPG Purchase. The closing of the Debt Offering is conditioned upon the closing of the Equity Offering and the TPG Purchase; however, the closing of the Equity Offering is not conditioned upon the closing of the Debt Offering. [E] The net proceeds to the Company from the Equity Offering are estimated to be approximately $ million ($ million if the Underwriters' over-allotment option is exercised in full), based on an assumed public offering price of $ per share. Concurrently with the Equity Offering, the Company is offering $100 million of % Senior Subordinated Notes Due 2008 in the Debt Offering. The closing of the Equity Offering is not conditioned upon the closing of the Debt Offering; however, the closing of the Debt Offering is conditioned upon the closing of the Equity Offering. The Company intends to use the total net proceeds of the Offerings and the TPG Purchase (estimated to be $ million) to reduce outstanding borrowings under the Credit Facility. The undrawn balance under the Credit Facility will then be available for capital expenditures and general corporate purposes, including the acquisition of additional producing oil and natural gas properties. As of December 31, 1997, the Credit Facility had an outstanding balance of $ million and an average interest rate of % per annum. After the application of the proceeds from the Offerings and the TPG Purchase to reduce amounts outstanding under the Credit Facility, the Credit Facility will consist of a five-year revolving credit facility with a borrowing base of $175 million. The Company borrowed $ million under the Credit Facility during the fourth quarter of 1997, primarily to fund the Chevron Acquisition. See "Management's Discussion and Analysis of Financial Condition and Results of Operations -- Restated Credit Facility," "Business and Properties -- Acquisitions of Oil and Natural Gas Properties" and "Description of Certain Indebtedness -- Credit Facility." 22 26 [E] PRICE RANGE OF COMMON SHARES The Common Shares have been listed on the New York Stock Exchange ("NYSE") since May 8, 1997 and were listed on the Nasdaq National Market ("NASDAQ") from August 25, 1995 through May 8, 1997. The Common Shares have also been listed on The Toronto Stock Exchange ("TSE") in Toronto, Canada, since February 14, 1984. The Common Shares currently trade under the symbol "DNR" on both the NYSE and TSE. The following table summarizes the high and low last reported sale prices (adjusted for the one-for-two reverse stock split in October 1996) as reported by each exchange for each quarterly period during the last two fiscal years and to date during 1998.
NYSE/NASDAQ TSE --------------- --------------- HIGH LOW HIGH LOW ------ ------ ------ ------ (US $) (C $) 1996 First Quarter................................... $ 7.88 $ 6.26 $10.80 $ 8.30 Second Quarter.................................. 10.62 8.50 14.50 12.00 Third Quarter................................... 13.50 10.00 18.60 12.70 Fourth Quarter.................................. 15.25 12.50 20.95 17.00 1997 First Quarter................................... 16.00 12.00 21.75 16.40 Second Quarter.................................. 17.63 13.13 24.50 18.00 Third Quarter................................... 23.75 16.13 33.00 22.20 Fourth Quarter.................................. -- -- -- -- 1998 First Quarter (through , 1998)......
A recent reported last sale price per share for the Common Shares on the NYSE and the TSE is set forth on the cover page of this Prospectus. As of December 31, 1997, to the best of the Company's knowledge, there were approximately 1,200 holders of record of Common Shares. [E] DIVIDEND POLICY The Company has not paid any dividends in the last five fiscal years on its Common Shares and does not intend to pay any dividends on its Common Shares in the foreseeable future. In the past, the Company has used its available cash flow to conduct exploration and development activities or to make acquisitions, and expects to continue to do so in the future. DRI is a holding company with no independent operations. Accordingly, any amounts available for dividends will be dependent on the prior declaration of dividends by DMI to DRI. In addition, the terms of the Credit Facility restrict, and the terms of the Notes will restrict, the payment of dividends by DMI. 23 27 CAPITALIZATION The following table sets forth as of September 30, 1997 (i) the actual capitalization of the Company, (ii) the capitalization of the Company as adjusted for the Chevron Acquisition, (iii) the capitalization of the Company as further adjusted to give effect to the Equity Offering and the TPG Purchase and (iv) the capitalization of the Company as further adjusted to give effect to the Debt Offering. See "Use of Proceeds." This table should be read in conjunction with "Unaudited Pro Forma Consolidated Financial Information," "Management's Discussion and Analysis of Financial Condition and Results of Operations" and the Consolidated Financial Statements.
AS OF SEPTEMBER 30, 1997 ------------------------------------------------------ AS FURTHER ADJUSTED FOR AS ADJUSTED THE EQUITY FOR THE OFFERING AS ADJUSTED COMPANY CHEVRON AND TPG FOR THE HISTORICAL ACQUISITION PURCHASE TRANSACTIONS ---------- ----------- ------------ ------------ (IN THOUSANDS) Cash and cash equivalents....................... $ 2,236 $ 2,236 $ 2,236 $ 2,236 ======== ======== ======== ======== Short-term debt: Credit Facility (a)........................... $ -- $ 47,000 $ -- $ -- -------- -------- -------- -------- Long-term debt: Credit Facility (a)........................... 20,000 175,000 136,525 39,025 % Senior Subordinated Notes Due 2008....... -- -- -- 100,000 Other notes payable........................... 5 5 5 5 -------- -------- -------- -------- Total long-term debt.................. 20,005 175,005 136,530 139,030 -------- -------- -------- -------- Shareholders' equity (b): Common Shares, no par value; unlimited shares authorized; 20,364,799 outstanding; outstanding as adjusted for the Transactions............................... 132,744 132,744 218,219 218,219 Retained earnings............................. 22,814 22,814 22,814 22,814 -------- -------- -------- -------- Total shareholders' equity................. 155,558 155,558 241,033 241,033 -------- -------- -------- -------- Total capitalization.................. $175,563 $377,563 $377,563 $380,063 ======== ======== ======== ========
- --------------- (a) The Credit Facility was revised and restated in December 1997 in order to fund the Chevron Acquisition. After repayment of the acquisition tranche and other borrowings thereunder with the proceeds from the Offerings, the Credit Facility will consist of a five year revolving credit facility with a borrowing base of $175 million. (b) Excludes 1,512,206 outstanding stock options as of September 30, 1997 exercisable at various prices ranging from $5.55 to $17.29 per share with a weighted average price of $10.69 (of which 395,222 were currently exercisable), and 700,000 Common Shares reserved for issuance upon exercise of the two series of Common Share purchase warrants. 24 28 UNAUDITED PRO FORMA CONSOLIDATED FINANCIAL INFORMATION The following unaudited pro forma consolidated statements of income for the year ended December 31, 1996 and the nine months ended September 30, 1997 and the unaudited pro forma consolidated balance sheet as of September 30, 1997 (collectively, the "Pro Forma Financial Statements") are based on the historical consolidated financial statements of the Company and the historical financial statements of the properties acquired by the Company ("Chevron Properties") in the Chevron Acquisition, adjusted to give effect to the following transactions (collectively, the "Transactions"): (i) the Chevron Acquisition; and (ii) the Offerings and the TPG Purchase and application of the estimated net proceeds therefrom. Additional property acquisitions were made in 1997 that have not been included in the pro forma adjustments since they are immaterial individually and in the aggregate. These acquisitions are included in the Company's historical statements from the date of their respective acquisition. The Unaudited Pro Forma Consolidated Statement of Income for the year ended December 31, 1996 gives effect to the Transactions as if they had occurred as of January 1, 1996, and the Unaudited Pro Forma Consolidated Statement of Income for the nine months ended September 30, 1997 gives effect to the Transactions as if they had occurred as of January 1, 1997. The Unaudited Pro Forma Consolidated Balance Sheet gives effect to the Transactions as if they had occurred as of September 30, 1997. The pro forma adjustments are described in the accompanying notes and are based upon available information and certain assumptions that management believes are reasonable. The Pro Forma Financial Statements do not purport to represent what the Company's results of operations or financial condition would actually have been had the Transactions in fact occurred on such dates or to project the Company's results of operations or financial condition for any future date or period. The Pro Forma Financial Statements should be read in conjunction with "Management's Discussion and Analysis of Financial Condition and Results of Operations" and the Consolidated Financial Statements. 25 29 UNAUDITED PRO FORMA CONSOLIDATED STATEMENT OF INCOME
YEAR ENDED DECEMBER 31, 1996 ----------------------------------------------------------------- HISTORICAL ADJUSTMENTS ------------------------ ------------------------ OFFERINGS COMPANY CHEVRON CHEVRON AND TPG HISTORICAL PROPERTIES ACQUISITION PURCHASE PRO FORMA ---------- ---------- ----------- --------- --------- (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) Revenues: Oil, natural gas and related product........................ $52,880 $23,662 $ -- $ -- $76,542 Interest and other................ 769 -- -- -- 769 ------- ------- -------- ------- ------- Total revenues............ 53,649 23,662 -- -- 77,311 ------- ------- -------- ------- ------- Expenses: Production........................ 13,495 6,650 -- -- 20,145 General and administrative........ 4,267 -- 687(b) -- 4,954 Interest.......................... 1,993 -- 15,716(c) (5,482)(e) 12,227 Imputed preferred dividend........ 1,281 -- -- -- 1,281 Loss on early extinguishment of debt........................... 440 -- -- -- 440 Depletion and depreciation........ 17,904 -- 6,587(d) -- 24,491 Franchise taxes................... 213 -- -- -- 213 ------- ------- -------- ------- ------- Total expenses............ 39,593 6,650 22,990 (5,482) 63,751 ------- ------- -------- ------- ------- Income before income taxes.......... 14,056 17,012 (22,990) 5,482 13,560 Provision for income taxes.......... (5,312) (6,294)(a) 8,506(a) (2,028)(a) (5,128) ------- ------- -------- ------- ------- Net income.......................... $ 8,744 $10,718 $(14,484) $ 3,454 $ 8,432 ======= ======= ======== ======= ======= Net income per common share Primary........................... $ 0.67 $ 0.47 Fully diluted..................... 0.62 0.45 Average common shares outstanding... 13,104 18,002
See Notes to Unaudited Pro Forma Consolidated Financial Information 26 30 UNAUDITED PRO FORMA CONSOLIDATED STATEMENT OF INCOME
NINE MONTHS ENDED SEPTEMBER 30, 1997 ---------------------------------------------------------------- HISTORICAL ADJUSTMENTS ----------------------- ------------------------ OFFERINGS COMPANY CHEVRON CHEVRON AND TPG HISTORICAL PROPERTIES ACQUISITION PURCHASE PRO FORMA ---------- ---------- ----------- --------- --------- (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) Revenues: Oil, natural gas and related product........................... $60,083 $14,034 $ -- $ -- $74,117 Interest and other................... 986 -- -- -- 986 ------- ------- ------- ------- ------- Total revenues............... 61,069 14,034 -- -- 75,103 ------- ------- ------- ------- ------- Expenses: Production........................... 15,737 5,237 -- -- 20,974 General and administrative........... 4,535 -- 514(b) -- 5,049 Interest............................. 387 -- 10,289(c) (2,782)(e) 7,894 Depletion and depreciation........... 23,224 -- 3,825(d) -- 27,049 Franchise taxes...................... 308 -- -- -- 308 ------- ------- ------- ------- ------- Total expenses............... 44,191 5,237 14,628 (2,782) 61,274 ------- ------- ------- ------- ------- Income before income taxes............. 16,878 8,797 (14,628) 2,782 13,829 Provision for income taxes............. (6,245) (3,255)(a) 5,412(a) (1,029)(a) (5,117) ------- ------- ------- ------- ------- Net income............................. $10,633 $ 5,542 $(9,216) $ 1,753 $ 8,712 ======= ======= ======= ======= ======= Net income per common share Primary.............................. $ 0.53 $ 0.35 Fully diluted........................ 0.50 0.34 Average common shares outstanding...... 20,175 25,073
See Notes to Unaudited Pro Forma Consolidated Financial Information 27 31 UNAUDITED PRO FORMA CONSOLIDATED BALANCE SHEET
AS OF SEPTEMBER 30, 1997 ---------------------------------------------------------------- ADJUSTMENTS ------------------------------------ EQUITY OFFERING COMPANY CHEVRON AND TPG DEBT HISTORICAL ACQUISITION PURCHASE OFFERING PRO FORMA ---------- ----------- -------- --------- --------- (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) ASSETS: Current assets Cash and cash equivalents........ $ 2,236 $ -- $ -- $ -- $ 2,236 Accrued production receivable.... 7,097 -- -- -- 7,097 Trade and other receivables...... 14,507 -- -- -- 14,507 -------- -------- -------- -------- -------- Total current assets..... 23,840 -- -- -- 23,840 -------- -------- -------- -------- -------- Property and equipment (using full cost accounting) Oil and gas properties........... 230,521 127,000(f) -- -- 357,521 Unevaluated oil and gas properties.................... 6,389 75,000(f) -- -- 81,389 Less accumulated depreciation and depletion..................... (53,527) -- -- -- (53,527) -------- -------- -------- -------- -------- Net property and equipment.... 183,383 202,000 -- -- 385,383 -------- -------- -------- -------- -------- Other assets....................... 3,201 -- -- 2,500(k) 5,701 -------- -------- -------- -------- -------- Total assets............. $210,424 $202,000 $ -- $ 2,500 $414,924 ======== ======== ======== ======== ======== LIABILITIES AND SHAREHOLDERS' EQUITY: Current liabilities Accounts payable and accrued liabilities................... $ 16,858 $ -- $ -- $ -- $ 16,858 Oil and gas production payable... 4,060 -- -- -- 4,060 Current portion of long-term debt.......................... 23 47,000(g) (47,000)(i) -- 23 -------- -------- -------- -------- -------- Total current liabilities............ 20,941 47,000 (47,000) -- 20,941 -------- -------- -------- -------- -------- Long-term liabilities Long-term debt................... 20,005 155,000(h) (38,475)(i) (97,500)(l) 39,030 Senior subordinated debt......... -- -- -- 100,000(m) 100,000 Provision for site reclamation costs......................... 938 -- -- -- 938 Deferred income taxes and other......................... 12,982 -- -- -- 12,982 -------- -------- -------- -------- -------- Total long-term liabilities............ 33,925 155,000 (38,475) 2,500 152,950 -------- -------- -------- -------- -------- Shareholders' equity Common shares, no par value; unlimited shares authorized; 20,364,799 outstanding; outstanding pro forma......... 132,744 -- 85,475(j) -- 218,219 Retained earnings................ 22,814 -- -- -- 22,814 -------- -------- -------- -------- -------- Total shareholders' equity................. 155,558 -- 85,475 -- 241,033 -------- -------- -------- -------- -------- Total liabilities and shareholders' equity... $210,424 $202,000 $ -- $ 2,500 $414,924 ======== ======== ======== ======== ========
See Notes to Unaudited Pro Forma Consolidated Financial Information 28 32 NOTES TO UNAUDITED PRO FORMA CONSOLIDATED FINANCIAL INFORMATION (a) Income taxes were computed using the federal statutory rate of 35% plus a 2% provision for state income taxes. (b) Reflects an increase of $687,000 and $514,000 for the year ended December 31, 1996 and the nine months ended September 30, 1997, respectively, in general and administrative expense for additional personnel and associated costs relating to the properties acquired in the Chevron Acquisition, net of anticipated allocations to operations and capitalization of exploration costs. (c) Reflects an increase in interest expense for the period presented to reflect the $202 million of borrowing under the Credit Facility (at an assumed annual interest rate of 7.8% and 6.8% for the year ended December 31, 1996 and the nine months ended September 30, 1997, respectively) that would have been required to fund the Chevron Acquisition had it occurred as of the beginning of such period. (d) Depreciation, depletion and amortization ("DD&A") and site reclamation expenses have been computed using the unit of production method and reflects the Company's increased investment in oil and natural gas properties, which investment excludes $75 million of the Chevron Acquisition purchase price as the Company intends to classify this amount as unevaluated properties at December 31, 1997. The December 31, 1997 estimated proved reserves prepared by Netherland & Sewell were used in the DD&A computation for the Chevron Acquisition. (e) Reflects a decrease in interest expense for the period presented resulting from (i) the receipt of $85.5 million in estimated net proceeds from the Equity Offering and the TPG Purchase and the application of such net proceeds to reduce borrowings under the Credit Facility and (ii) the receipt of $97.5 million in estimated net proceeds from the Debt Offering and the application of such net proceeds to reduce borrowings under the Credit Facility (assuming the Notes are issued at an annual interest rate of 8.5%). Interest expense also includes the amortization of deferred debt issuance costs. A change in the interest rate on the Notes of 0.25% would result in a $250,000 and $187,000 change in interest expense for the year ended December 31, 1996 and the nine months ended September 30, 1997, respectively. In the event the Debt Offering is not consummated, pro forma interest expense would be $11,061,000 and $6,319,000 for the year ended December 31, 1996 and the nine months ended September 30, 1997, respectively. (f) Reflects the purchase price paid in the Chevron Acquisition, of which the Company intends to classify $75 million as unevaluated properties. (g) Reflects the incurrence of indebtedness under the acquisition tranche of the Credit Facility to finance a portion of the Chevron Acquisition. (h) Reflects the incurrence of indebtedness under the revolving portion of the Credit Facility to finance a portion of the Chevron Acquisition. (i) Reflects the repayment of indebtedness outstanding under the Credit Facility with the net proceeds of the Equity Offering and the TPG Purchase. (j) Reflects the issuance and sale of Common Shares in the Equity Offering and the TPG Purchase, net of underwriting discounts and commissions and estimated expenses. (k) Reflects deferred financing costs incurred in connection with the Debt Offering. (l) Reflects the repayment of indebtedness outstanding under the Credit Facility with the net proceeds of the Debt Offering. (m) Reflects the issuance of the Notes in the Debt Offering. 29 33 SELECTED CONSOLIDATED FINANCIAL DATA The selected historical consolidated financial data for the Company set forth below as of and for the years ended December 31, 1992, 1993, 1994, 1995 and 1996, have been derived from the audited consolidated financial statements of the Company. The selected historical consolidated financial data for the nine-month periods ended September 30, 1996 and 1997, and as of September 30, 1997, have been derived from unaudited consolidated financial statements of the Company which, in management's opinion, include all adjustments (consisting of only normal recurring adjustments) necessary to present fairly the results for such periods. The operating results for such periods are not necessarily indicative of the operating results to be expected for a full fiscal year. The information set forth below should be read in conjunction with "Management's Discussion and Analysis of Financial Condition and Results of Operations" and the Consolidated Financial Statements included elsewhere in this Prospectus.
NINE MONTHS ENDED YEAR ENDED DECEMBER 31, SEPTEMBER 30, ---------------------------------------------- ----------------- 1992 1993 1994 1995 1996 1996 1997 ------ ------- ------- ------- ------- ------- ------- (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) INCOME STATEMENT DATA: Revenue: Oil, natural gas and related product.................... $1,912 $ 5,868 $12,692 $20,032 $52,880 $34,709 $60,083 Interest income......................................... 40 76 23 77 769 425 986 ------ ------- ------- ------- ------- ------- ------- Total revenues...................................... 1,952 5,944 12,715 20,109 53,649 35,134 61,069 ------ ------- ------- ------- ------- ------- ------- Expenses: Production.............................................. 634 2,067 4,309 6,789 13,495 9,197 15,737 General and administrative.............................. 955 782 1,105 1,832 4,267 2,825 4,535 Interest................................................ 8 83 1,146 2,085 1,993 1,530 387 Imputed preferred dividends............................. -- -- -- -- 1,281 1,153 -- Loss on early extinguishment of debt.................... -- -- -- 200 440 440 -- Depletion and depreciation.............................. 690 1,898 4,209 8,022 17,904 12,557 23,224 Franchise taxes......................................... -- -- 65 100 213 160 308 ------ ------- ------- ------- ------- ------- ------- Total expenses...................................... 2,287 4,830 10,834 19,028 39,593 27,862 44,191 ------ ------- ------- ------- ------- ------- ------- Income (loss) before the following:....................... (335) 1,114 1,881 1,081 14,056 7,272 16,878 Gain on sale of Canadian properties..................... -- 966 -- -- -- -- -- ------ ------- ------- ------- ------- ------- ------- Income (loss) before income taxes......................... (335) 2,080 1,881 1,081 14,056 7,272 16,878 Provision for federal income taxes........................ -- (345) (718) (367) (5,312) (2,932) (6,245) ------ ------- ------- ------- ------- ------- ------- Net income (loss)......................................... $ (335) $ 1,735 $ 1,163 $ 714 $ 8,744 $ 4,340 $10,633 ====== ======= ======= ======= ======= ======= ======= Net income (loss) per common share: Primary................................................. $(0.11) $ 0.35 $ 0.19 $ 0.10 $ 0.67 $ 0.37 $ 0.53 Fully diluted........................................... (0.11) 0.35 0.19 0.10 0.62 0.36 0.50 Weighted average common shares outstanding................ 2,949 4,990 6,240 6,870 13,104 11,616 20,175 OTHER FINANCIAL DATA: Operating cash flow(a).................................... $ 354 $ 3,030 $ 6,185 $ 9,394 $34,140 $21,767 $40,166 Capital expenditures...................................... 6,189 29,855 16,903 28,524 86,857 73,320 70,773 EBITDA(b)................................................. 323 3,019 7,213 11,311 34,905 22,527 39,503 SELECTED RATIOS: Ratio of earnings to fixed charges(c)..................... (d) 12.3x 2.6x 1.5x 4.4x 3.1x 34.9x Ratio of EBITDA to interest expense....................... 40.4 36.4 6.3 5.4 17.5 14.7 102.1 Ratio of long-term debt to EBITDA......................... -- 2.0 2.3 0.3 0.1 1.6(e) 0.4(e)
AS OF DECEMBER 31, AS OF ----------------------------------------------- SEPTEMBER 30, 1992 1993 1994 1995 1996 1997 ------ ------- ------- ------- -------- ------------- (IN THOUSANDS) BALANCE SHEET DATA: Working capital (deficit)................................. $1,369 $(1,410) $(1,620) $ 6,862 $ 12,482 $ 2,899 Total assets.............................................. 8,225 35,978 48,964 77,641 166,505 210,424 Long-term debt, net of current maturities................. -- 6,177 16,536 3,474 125 20,005 Convertible preferred stock............................... -- -- -- 15,000 -- -- Shareholders' equity...................................... 7,548 24,431 25,962 53,501 142,504 155,558
- --------------- (a) Represents cash flow provided by operations, exclusive of the net change in non-cash working capital balances. (b) EBITDA represents earnings before interest income, interest expense, income taxes, depletion and depreciation, gain on sale of oil and gas properties, imputed preferred dividends and losses on early extinguishment of debt. The Company has included information concerning EBITDA because it believes that EBITDA is used by certain investors as one measure of an issuer's historical ability to service its debt. EBITDA is not a measurement determined in accordance with generally accepted accounting principles and should not be considered in isolation or as a substitute for measures of performance prepared in accordance with generally accepted accounting principles. (c) For purposes of determining the ratio of earnings to fixed charges, earnings are defined as earnings from continuing operations before income taxes, plus fixed charges. Fixed charges consist of interest expense, amortization of debt expense, and imputed preferred stock dividends. (d) Earnings were inadequate to cover fixed charges as there was a $317,000 deficiency. (e) EBITDA for these periods has been annualized. 30 34 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Denbury is an independent energy company engaged in acquisition, development and exploration activities in the U.S. Gulf Coast region, primarily onshore in Louisiana and Mississippi. Over the last four years, the Company has achieved rapid growth in proved reserves, production and cash flow by concentrating on the acquisition of properties which it believes have significant upside potential and through the efficient development, enhancement and operation of its properties. ACQUISITION OF CHEVRON PROPERTIES On November 25, 1997, the Company announced that it had entered into an agreement to purchase oil properties in the Heidelberg Field, Jasper County, Mississippi, from Chevron for approximately $202 million. The Chevron Acquisition represents the largest acquisition by the Company to date. The Heidelberg Field is adjacent to the Company's other primary oil properties in Mississippi and includes 122 producing wells, 96 of which the Company will operate. The Company is purchasing an average working interest of 94% and an average net revenue interest of 81% in these 96 wells, which wells account for approximately 99% of the field's average net daily production. The average net daily production from these properties during the third quarter of 1997 was approximately 2,840 Bbls/d and 600 Mcf/d. The Chevron Acquisition added proved reserves as of December 31, 1997 of approximately 27.7 MMBbls and 2.5 Bcf, or approximately 28.1 MMBOE. As a result of the significant amount of future development and exploitation to be performed on these properties and the increase in future reserves and production that the Company expects to result from such development and exploitation, the Company has attributed approximately $75 million of the purchase price to unevaluated properties. The Company has identified several potential development projects during its initial evaluation of the Heidelberg Field. These include initiating a waterflood project, upgrading lift capacity in over 15 wells and recompleting 30 wells in new zones. In addition, the Company has identified over 40 potential drilling locations in addition to other potential secondary and tertiary recovery projects. Horizontal wells drilled by the Company in 1997 at nearby Davis, Quitman and Eucutta Fields improved daily production rates significantly as compared to vertical wells drilled in the same fields. Consequently, the Company anticipates that 25 of the 40 proposed future wells in the Heidelberg Field will be horizontal wells. The Company's total 1998 development budget for the Heidelberg Field is approximately $28 million. ACQUISITION OF HESS PROPERTIES The Company completed several property acquisitions during 1996, the largest of which was the acquisition of producing oil and natural gas properties in Mississippi, Louisiana and Alabama, plus certain overriding royalty interests in Ohio, for approximately $37.2 million from Amerada Hess, effective May 1, 1996. The average daily production from the properties included in the Hess Acquisition during May and June 1996, the first two months of ownership, was approximately 2,945 BOE/d. The average daily production on these properties had increased to 5,373 BOE/d by the third quarter of 1997. As of December 31, 1997, in the Company's independent reserve report (the "December Report"), the properties in the Hess Acquisition had estimated net proved reserves of approximately MMBOE with a PV10 Value of $ million. This compares to approximately 5.9 MMBOE of net proved reserves and a $43.1 million PV10 Value on these same properties as reported in the Company's independent reserve report dated July 1, 1996 (the "July Report"). The December Report was calculated using year-end prices which were based on a WTI price of $ per Bbl and a NYMEX price of $ per MMBtu, with these representative prices adjusted by field to arrive at the appropriate corporate net price, as compared to oil and gas prices of $20.00 and $2.65, respectively, in the July Report. In addition to the increase in proved reserves, the Company produced approximately 1.9 MMBOE from July 1, 1996 through September 30, 1997 with total net operating income of $23.8 million. 31 35 RESTATED CREDIT FACILITY The Company has a credit facility (the "Credit Facility") with NationsBank of Texas, N.A., as agent for a group of banks. The Credit Facility was increased in size from $150 million to $300 million in December 1997 in order to fund the Chevron Acquisition. After application of the net proceeds from the Offerings and the TPG Purchase to reduce amounts outstanding under the Credit Facility, the Credit Facility will consist of a five-year revolving credit facility with a borrowing base of $175 million with $ available on a pro forma basis as of December 31, 1997. The borrowing base is subject to review every six months. The Credit Facility is secured by substantially all of the Company's oil and natural gas properties, except for those acquired in the Chevron Acquisition. Interest is payable on the revolving credit facility at either the prime rate or, depending on the percentage of the borrowing base that is outstanding, at rates ranging from LIBOR plus 7/8% to LIBOR plus 1 3/8%. Interest is payable at LIBOR plus 1 5/8% as long as the acquisition tranche is outstanding and escalates 0.25% each quarter, beginning on March 1, 1998, unless the acquisition tranche is repaid. The Credit Facility has several restrictions, including, among others: (i) a prohibition on the payment of dividends; (ii) a requirement for a minimum equity balance; (iii) a requirement to maintain positive working capital as defined; (iv) a minimum interest coverage test; and (v) a prohibition on most debt and corporate guarantees. THE NOTES The Notes to be issued by DMI are to be fully and unconditionally guaranteed by DMI's parent company, DRI, pursuant to the terms and conditions of the Indenture. The Indenture will contain certain covenants for the benefit of the holders of the Notes, including, among others, covenants limiting the payment of dividends, including dividends payable from DMI to the Guarantor. CAPITAL RESOURCES AND LIQUIDITY As discussed below, in each of the last three years, the Company's capital expenditures required additional debt and equity capital to supplement cash flow from operations.
NINE MONTHS YEAR ENDED DECEMBER 31, ENDED ----------------------------- SEPTEMBER 30 1994 1995 1996 1997 ------- ------- ------- ------------ (IN THOUSANDS) Acquisitions of oil and natural gas properties............................. $ 6,606 $16,763 $48,407 $16,073 Oil and natural gas expenditures......... 10,297 11,761 38,450 54,700 ------- ------- ------- ------- Total.......................... $16,903 $28,524 $86,857 $70,773 ======= ======= ======= =======
From January 1, 1994, through September 30, 1997, including the pro forma adjustments for the Chevron Acquisition, the Company has made total capital expenditures of $405.1 million. These capital expenditures were funded by the issuance of equity ($105.3 million), bank debt ($209.9 million) and cash generated by operations ($89.9 million). During 1996, the Company's funds were provided by operating cash flow and equity, although the Company did use bank debt during the year. The Company began 1996 with $100,000 of outstanding bank debt, borrowed $47.9 million during the year, paid off the debt with the proceeds from a public offering of Common Shares in October 1996 and ended the year with $100,000 of bank debt outstanding. For the nine months ended September 30, 1997, the Company's average debt outstanding was $3.6 million. As of December 31, 1997, the Company had minimal working capital and approximately $ million of debt outstanding. A portion of this debt also relates to an acquisition tranche on which the interest rate increases 0.25% each quarter beginning on March 1, 1998. Although the Company is still reviewing its budget, particularly in light of the recent Chevron Acquisition, the Company is currently budgeting capital expenditures for 1998 of approximately $90 million, of which approximately $28 million is allocated for the properties included in the Chevron Acquisition. Although the Company's projected cash flow is highly variable and difficult to predict as it is dependent on product prices, drilling success and other factors, these 32 36 projected expenditures are expected to exceed the Company's cash flow during 1998. As of December 31, 1997, after giving pro forma effect to the Transactions, the Company would have had an unused borrowing base of $ million under the Credit Facility to fund any potential cash flow deficits. If external capital resources are limited or reduced in the future, the Company can also adjust its capital expenditure program accordingly. However, such adjustments could limit, or even eliminate, the Company's future growth. In addition to its internal capital expenditure program, the Company has historically required capital for the acquisition of producing properties, which have been a major factor in the Company's rapid growth during recent years. There can be no assurance that suitable acquisitions will be identified in the future or that any such acquisitions will be successful in achieving desired profitability objectives. Without suitable acquisitions or the capital to fund such acquisitions, the Company's future growth could be limited or even eliminated. As such, the Company is seeking additional financing from the Offerings and the TPG Purchase in order to reduce amounts outstanding under the Credit Facility and to better position the Company for future opportunities. SOURCES AND USES OF FUNDS. During the first nine months of 1997, the Company spent approximately $54.7 million on exploration and development expenditures and approximately $16.1 million on acquisitions. The exploration and development expenditures included approximately $38.2 million spent on drilling, $6.7 million on geological, geophysical and acreage expenditures and $9.8 million on workover costs. These expenditures were funded by available cash, bank debt and cash flow from operations. The Company anticipates that a total of approximately $10 million will be spent during 1997 on exploration expenditures $65 million on development expenditures, and $225 million on acquisitions. During 1996, the Company spent approximately $33.4 million on oil and natural gas development expenditures, $37.2 million on the Hess Acquisition, $7.5 million on properties acquired in April 1996 (the "Ottawa Acquisition"), $3.7 million on other minor oil and natural gas acquisitions, and approximately $5.1 million on geological, geophysical and acreage expenditures. The development expenditures included $15.5 million spent on drilling and $17.9 million spent on workover costs. These expenditures were funded during the year by bank debt, available cash and cash flow from operations, although the bank debt was retired with the proceeds from a public offering of Common Shares in October 1996. During 1995, the Company made $28.5 million in capital expenditures, with the single largest component being a $10.0 million acquisition of seven producing wells in the Gibson and Humphreys Fields located near the Company's other properties in southern Louisiana (the "Gibson Acquisition"). The balance of 1995 acquisition expenditures were for additional interests in the Company's Lirette Field in Louisiana ($2.9 million), interests in the Bully Camp Field, also in Louisiana ($2.1 million), and a few smaller acquisitions in both Mississippi and Louisiana. During 1995, the Company also spent $1.9 million drilling four wells in Mississippi, $1.1 million for acreage, geological and geophysical and delay rentals, and $8.1 million for workovers of existing properties. The 1995 expenditures were funded on an interim basis with cash flow from operations ($9.4 million) and bank debt ($19.4 million), which was repaid in December 1995 with a portion of the $39.5 million of net proceeds from a private placement of equity with TPG. Capital expenditures for 1994 were $16.9 million and included $10.3 million of development costs, primarily expended on natural gas properties in Louisiana, with the balance of $6.6 million expended on acquisitions of properties primarily in Louisiana, of which $5.5 million was spent on acquiring additional working interests in existing Company-operated properties. Expenditures in 1994 were principally funded by $6.2 million of cash provided by operations and net incremental debt of $8.8 million, of which $1.5 million came from the issuance of unsecured convertible debentures and the balance from bank debt. 33 37 RESULTS OF OPERATIONS OPERATING INCOME During the last three years, operating income has increased significantly as outlined in the following chart. Oil and gas revenue increased as a result of the increased oil and gas production and increases in oil and gas product prices.
NINE MONTHS ENDED YEAR ENDED DECEMBER 31, SEPTEMBER 30, ---------------------------- ------------------ 1994 1995 1996 1996 1997 ------- ------- -------- ------- -------- Operating income (in thousands) Oil sales............................ $ 6,767 $10,852 $ 28,475 $17,455 $ 36,436 Natural gas sales.................... 5,925 9,180 24,405 17,254 23,647 Less production expenses............. (4,309) (6,789) (13,495) (9,197) (15,737) ------- ------- -------- ------- -------- Operating income.................. $ 8,383 $13,243 $ 39,385 $25,512 $ 44,346 ======= ======= ======== ======= ======== Unit prices Oil price per Bbl.................... $ 13.84 $ 14.90 $ 18.98 $ 18.05 $ 17.53 Gas price per Mcf.................... 1.78 1.90 2.73 2.64 2.54 Netback per BOE Sales price.......................... $ 12.17 $ 13.05 $ 17.69 $ 16.87 $ 16.56 Production expenses.................. (4.13) (4.42) (4.51) (4.47) (4.34) ------- ------- -------- ------- -------- $ 8.04 $ 8.63 $ 13.18 $ 12.40 $ 12.22 ======= ======= ======== ======= ======== Average net daily production volume Bbls................................. 1,340 1,995 4,099 3,529 7,615 Mcf.................................. 9,113 13,271 24,406 23,867 34,061 BOE.................................. 2,858 4,207 8,167 7,507 13,292
COMPARISON OF YEARS ENDED DECEMBER 31, 1994, 1995 AND 1996. Production increases have been fueled by both internal growth from the Company's development and exploration programs and from the acquisition of producing properties. Production on a BOE/d basis increased 47% between 1994 and 1995 with approximately 240 BOE/d attributable to the Gibson Acquisition and the balance of approximately 1,109 BOE/d primarily attributable to internal growth. Between 1995 and 1996, production increased 94% with approximately 2,550 BOE/d attributable to the properties included in the Hess and Ottawa Acquisitions and 750 BOE/d attributable to properties included in the Gibson Acquisition. The balance of approximately 660 BOE/d was attributable to internal growth on other properties. Oil and gas revenue has increased not only because of the large increase in production, but also due to improved product prices for these periods. Between 1994 and 1995, product price increases were relatively modest with an 8% increase in oil prices and a 7% increase in natural gas prices. The Company also realized an $800,000 gas hedging gain during 1995 which added $.17 per Mcf to its average natural gas price. The Company did not have any oil or natural gas hedges in place during 1996, nor does it have any currently in place due to the relatively strong commodity prices and the reduced debt levels of the Company. During 1996, product prices increased substantially with a 27% increase in the average oil price and a 44% increase in the average natural gas price. Coupled with the production increases, the Company's oil and natural gas revenue increased 164%, or $32.8 million, from 1995 to 1996. Approximately $16.5 million of the increase was related to properties acquired in the Hess and Ottawa Acquisitions, approximately $5.4 million to properties acquired in the Gibson Acquisition, approximately $7.7 million due to the increase in product prices and the balance of approximately $3.2 million due to increased production from internal growth on other properties. Production expenses increased each year along with the increases in production. On a BOE basis, production expenses increased 7% from 1994 to 1995 and increased 2% from 1995 to 1996. The increases were largely attributable to the changes in the mix of properties as the Mississippi oil properties tend to have a higher operating cost per BOE than the Louisiana gas properties. During the first two months of ownership 34 38 (May and June 1996), the production expenses averaged $6.27 per BOE on the Hess Acquisition properties which were more heavily weighted toward Mississippi oil than Louisiana gas. After assuming operations, these averages were brought more in line with the Company averages through cost savings and increased production levels. For the remainder of the year (May through December 1996) production expenses on these properties averaged $5.35 per BOE. COMPARISON OF NINE MONTHS ENDED SEPTEMBER 30, 1997 AND 1996. Production increases have been fueled by both internal growth from the Company's development and exploration programs and from the acquisition of producing properties during 1996, particularly the Hess Acquisition. During May and June of 1996, the first two months of ownership, the properties acquired in the Hess Acquisition averaged approximately 2,945 BOE/d. During the first, second and third quarters of 1997, the production from these same properties averaged approximately 4,385 BOE/d, 4,613 BOE/d and 5,373 BOE/d, respectively, a 49%, 57% and 82% increase, respectively, from initial production levels. Total corporate production on a BOE/d basis increased 21% from the fourth quarter of 1996 average of 10,132 BOE/d to the first quarter of 1997 average of 12,256 BOE/d, increased an additional 9% to 13,405 BOE/d for the second quarter of 1997 and an additional increase of 6% to 14,195 BOE/d for the third quarter of 1997. Since the Company has had only limited acquisitions since the Hess Acquisition, the production increases since June 30, 1996 were almost solely as a result of internal development. On a quarter to quarter comparison, production on a BOE basis increased 54% between the respective third quarters. When comparing the nine month periods, production on a BOE basis has increased 77%, reflecting the effect of the Hess Acquisition effective in May 1996. Oil and gas revenue has increased primarily because of the large increase in production. Oil product prices decreased by 3% and natural gas product prices declined 4% or an overall decline of 2% when measured on a BOE basis when comparing the nine months ended September 30, 1997 to the comparable period in 1996. During the first nine months of 1996, approximately 47% of the Company's production on a BOE basis was oil while during the first nine months of 1997, approximately 57% of the Company's production on a BOE basis was oil. Production expenses on an absolute basis increased between the relative periods of 1996 and 1997 along with the increases in production. On a BOE basis, production expenses decreased 3% when comparing the first nine months of 1996 to the first nine months of 1997. This improvement was a result of efficiencies achieved from higher production volumes (on both an absolute basis and per well basis) despite the Company having a higher percentage of oil production in 1997 as compared to 1996, which typically has a higher operating cost per BOE. GENERAL AND ADMINISTRATIVE EXPENSES As outlined below, general and administrative ("G&A") expenses have increased along with the Company's growth.
NINE MONTHS ENDED YEAR ENDED DECEMBER 31, SEPTEMBER 30, -------------------------- ----------------- 1994 1995 1996 1996 1997 ------ ------- ------- ------- ------- Net G&A expenses (in thousands) Gross expenses.......................... $2,475 $ 3,900 $ 8,407 $ 5,583 $ 9,999 State franchise taxes................... 65 100 213 159 308 Operator overhead charges............... (890) (1,438) (2,916) (1,906) (3,789) Capitalized exploration expenses........ (480) (630) (1,224) (851) (1,675) ------ ------- ------- ------- ------- Net expenses............................ $1,170 $ 1,932 $ 4,480 $ 2,985 $ 4,843 ====== ======= ======= ======= ======= Average G&A cost per BOE.................. $ 1.12 $ 1.25 $ 1.50 $ 1.45 $ 1.33 Employees as of end of period............. 27 51 122 109 141
COMPARISON OF YEARS ENDED DECEMBER 31, 1994, 1995 AND 1996. On a BOE basis, these costs increased 12% from 1994 to 1995 and increased 20% from 1995 to 1996. Part of the increase in 1995 was attributable to $190,000 of costs ($0.12 per BOE) related to non-recurring personnel changes. As a result of improved 35 39 financial results during the first quarter of 1996 and other factors, the Company conducted a review of salaries and awarded increases and bonuses in February 1996 to its employees. Bonuses, including related payroll taxes, amounted to approximately $225,000 ($0.08 per BOE). During 1996, the Company also accrued $545,000 ($0.18 per BOE) for bonuses which were awarded in February 1997. In addition, the Company began to increase its staff levels during the second quarter of 1996 to handle the Hess Acquisition, but was not entitled to any operator's overhead recovery on these properties until July 15, 1996, resulting in a further increase in general and administrative cost per BOE, as Amerada Hess remained the operator of record until that date. COMPARISON OF NINE MONTHS ENDED SEPTEMBER 30, 1997 AND 1996. On a BOE basis, G&A expenses declined 8% when comparing the first nine months of 1996 to the comparable period in 1997. The decrease is partially attributable to the increased production on both an absolute and per well basis. Furthermore, the respective well operating agreements allow the Company, when it is the operator, to charge a well with a specified overhead rate during the drilling phase. As a result of the increased drilling activity in 1997, the percentage of gross G&A recovered through these types of allocations (listed in the above table as "Operator overhead charges") increased when compared to the corresponding periods of 1996. During the first nine months of 1996, approximately 34% was recovered by operator overhead charges, while during the comparable period of 1997 this increased to 38%. This trend is even more pronounced in the third quarter of 1997 with 42% of the gross G&A recovered as compared to 35% for the third quarter of 1996. INTEREST AND FINANCING EXPENSES
NINE MONTHS ENDED YEAR ENDED DECEMBER 31, SEPTEMBER 30, --------------------------- ------------------ 1994 1995 1996 1996 1997 ------- ------- ------- -------- ------- (IN THOUSANDS EXCEPT PER UNIT AMOUNTS) Interest expense....................... $ 1,146 $ 2,085 $ 1,993 $ 1,530 $ 387 Non-cash interest expense.............. (86) (90) (459) (345) (64) ------- ------- ------- ------- ------ Cash interest expense.................. 1,060 1,995 1,534 1,185 323 Interest and other income.............. (23) (77) (769) (425) (986) ------- ------- ------- ------- ------ Net interest expense................. $ 1,037 $ 1,918 $ 765 $ 760 $ (663) ======= ======= ======= ======= ====== Average interest cost per BOE.......... $ 0.99 $ 1.26 $ 0.26 $ 0.37 $(0.18) Average debt outstanding............... 12,200 21,400 19,500 20,673 3,610 Ratio of earnings to fixed charges..... 2.6x 1.5x 4.4x 3.1x 34.9x Imputed preferred dividend............. $ -- $ -- $ 1,281 $ 1,153 $ -- Loss on early extinguishment of debt... -- 200 440 440 --
During the first half of 1996 and 1997, the Company had minimal debt outstanding as virtually all of the bank debt had been retired during the previous fourth quarter. In 1995, the bank debt was repaid with proceeds from the December 1995 private placement of equity with TPG and in 1996, the debt was repaid with proceeds from a public offering of Common Shares completed in October 1996. However, in 1996, the Company did incur debt late in the second quarter in order to fund property acquisitions and, during the third quarter of 1997, the Company borrowed approximately $20 million to fund $12.5 million of property acquisitions and $7.5 million of development expenditures. The private placement of equity in December 1995 with TPG included 1.5 million shares of Convertible Preferred. During 1996, the Company recognized $1.3 million of charges representing the imputed preferred dividend until October 30, 1996 when the Convertible Preferred were converted into 2.8 million Common Shares. Under Canadian generally accepted accounting principles, this dividend was reported as an operating expense, while under U.S. generally accepted accounting principles this would not be an expense but it would be deducted from net income to arrive at net income attributable to the common shareholders. In addition to paying off its bank debt and converting the Convertible Preferred into common equity during 1996, the Company also converted its remaining subordinated debt into common equity, leaving the Company essentially debt-free as of December 31, 1996. 36 40 During 1996, the Company had a $440,000 charge relating to a loss on early extinguishment of debt. These costs related to the remaining unamortized debt issue costs of the Company's prior credit facility which was replaced in May 1996, as previously discussed. The Company also had a charge of $200,000 during the first half of 1995 for the same type of expense relating to a previous bank debt refinancing. Under U.S. generally accepted accounting principles, a loss on early extinguishment of debt would be an extraordinary item rather than a normal operating expense as required by Canadian generally accepted accounting principles. DEPLETION, DEPRECIATION AND SITE RESTORATION COMPARISON OF YEARS ENDED DECEMBER 31, 1994, 1995 AND 1996. DD&A has increased along with the additional capitalized cost and increased production. DD&A per BOE has increased 30% from 1994 to 1995 and 15% from 1995 to 1996 primarily due to 59% of the 1995 capital expenditures and 56% of the 1996 expenditures relating to property acquisitions, which had a higher per unit cost for the Company than those reserves added by development expenditures. COMPARISON OF NINE MONTHS ENDED SEPTEMBER 30, 1997 AND 1996. The Company's DD&A rate per BOE for the first half of 1997 increased to $6.50 per BOE to provide for the estimated effect of reduced oil prices on reserve quantities, the estimated effect of rising drilling costs on certain proved undeveloped locations, and higher than anticipated costs on wells drilled in Louisiana that were proved undeveloped locations at December 31, 1996. In comparison, the Company's DD&A rate was $5.99 per BOE for the year ended December 31, 1996. The oil prices used in the December 31, 1996 reserve report were based on a WTI posting price of $23.39 per Bbl in accordance with the rules of the Commission while the comparable WTI price at June 30, 1997 was $17.15 per Bbl. This reduction in oil prices reduced the June 30, 1997 estimated reserves by approximately 1.3 MMBbls. As a result of two oil and natural gas discoveries announced in September, 1997, the Company's third quarter DD&A rate decreased to $6.22 per BOE ($6.40 per BOE for the nine months ended September 30, 1997). During the third quarter of 1997, the Company also transferred approximately $4.6 million from the unevaluated properties to the full cost pool reflecting activity on these properties, leaving a balance of approximately $6.4 million in unevaluated properties as of September 30, 1997. The DD&A effect of this transfer was approximately $440,000 for the quarter. The Company also provides for the estimated future costs of well abandonment and site reclamation, net of any anticipated salvage, on a unit-of-production basis. This provision is included in the DD&A expense and has increased each year along with an increase in the number of properties owned by the Company.
NINE MONTHS ENDED YEAR ENDED DECEMBER 31, SEPTEMBER 30, ------------------------- ----------------- 1994 1995 1996 1996 1997 ------ ------ ------- ------- ------- (IN THOUSANDS EXCEPT PER UNIT) Depletion and depreciation............... $4,177 $7,918 $17,533 $12,430 $22,899 Site restoration provision............... 32 104 371 127 325 ------ ------ ------- ------- ------- Total amortization....................... $4,209 $8,022 $17,904 $12,557 $23,224 ====== ====== ======= ======= ======= Average DD&A cost per BOE................ $ 4.03 $ 5.22 $ 5.99 $ 6.10 $ 6.40
37 41 INCOME TAXES Due to net operating losses by its U.S. subsidiary each year for tax purposes, the Company does not have any current tax provision. The deferred tax provision as a percentage of net income has varied depending on the mix of Canadian and U.S. expenses. The rate declined from 1994 to 1995 as there were less Canadian expenses, but increased again slightly in 1996 due to the non-deductible imputed preferred dividend and interest on the subordinated debt.
NINE MONTHS ENDED YEAR ENDED DECEMBER 31, SEPTEMBER 30, ------------------------- ----------------- 1994 1995 1996 1996 1997 ------ ------ ------- ------- ------- Deferred income taxes (thousands)........ $ 718 $ 367 $ 5,312 $ 2,932 $ 6,245 Average income tax costs per BOE......... 0.69 0.24 1.78 1.43 1.72 Effective tax rate....................... 38% 34% 38% 40% 37%
NET INCOME Primarily as a result of increased production and improved product prices, net income and cash flow from operations increased substantially between 1995 and 1996 as outlined below. Between 1994 and 1995, net income decreased 39% as a result of certain nonrecurring charges and a disproportionate increase in DD&A as compared to the increase in revenue. Net income and cash flow from operations increased substantially on both a gross and per share basis between the first nine months of 1996 and the first nine months of 1997 as outlined below.
NINE MONTHS ENDED YEAR ENDED DECEMBER 31, SEPTEMBER 30, ------------------------- ----------------- 1994 1995 1996 1996 1997 ------ ------ ------- ------- ------- (IN THOUSANDS EXCEPT PER SHARE) Net income............................... $1,163 $ 714 $ 8,744 $ 4,340 $10,633 Net income per common share: Primary................................ 0.19 0.10 0.67 0.37 0.53 Fully diluted.......................... 0.19 0.10 0.62 0.36 0.50 Cash flow from operations(a)............. 6,185 9,394 34,140 21,767 40,166
- --------------- (a) Represents cash flow provided by operations, exclusive of the net change in non-cash working capital balances. 38 42 The following table summarizes the cash flow, DD&A and net income on a BOE basis for the comparative periods. Each of the individual components are discussed above.
NINE MONTHS ENDED YEAR ENDED DECEMBER 31, SEPTEMBER 30, ------------------------ --------------- 1994 1995 1996 1996 1997 ------ ------ ------ ------ ------ Per BOE Data Revenue................................... $12.17 $13.05 $17.69 $16.87 $16.56 Production expenses....................... (4.13) (4.42) (4.51) (4.47) (4.34) ------ ------ ------ ------ ------ Production netback........................ 8.04 8.63 13.18 12.40 12.22 General and administrative................ (1.12) (1.25) (1.50) (1.45) (1.33) Interest.................................. (0.99) (1.26) (0.26) (0.37) 0.18 ------ ------ ------ ------ ------ Cash flow from operations(a)........... 5.93 6.12 11.42 10.58 11.07 DD&A...................................... (4.03) (5.22) (5.99) (6.10) (6.40) Deferred income taxes..................... (0.69) (0.24) (1.78) (1.43) (1.72) Other non-cash items...................... (0.10) (0.19) (0.72) (0.94) (0.02) ------ ------ ------ ------ ------ Net income............................. $ 1.11 $ 0.47 $ 2.93 $ 2.11 $ 2.93 ====== ====== ====== ====== ======
- --------------- (a) Represents cash flow provided by operations, exclusive of the net change in non-cash working capital balances. YEAR 2000 MODIFICATIONS The Company is currently reviewing its computer systems in order to evaluate necessary modifications for the year 2000. The Company does not currently anticipate that it will incur material expenditures to complete any such modifications. RECENTLY ISSUED ACCOUNTING STANDARDS See discussion of Recently Issued Accounting Standards in Note 7 of the Consolidated Financial Statements. BUSINESS AND PROPERTIES THE COMPANY Denbury is an independent energy company engaged in acquisition, development and exploration activities in the U.S. Gulf Coast region, primarily onshore in Louisiana and Mississippi. The Company believes the Gulf Coast represents one of the most attractive regions in North America given the region's prolific production history, complex geology (with multiple producing horizons) and the opportunities that have been created by advanced technologies such as 3-D seismic and various drilling, completion and recovery techniques. As of December 31, 1997, the Company had proved reserves of MMBbls and Bcf or MMBOE. At such date, the PV10 Value of these reserves was $ million, of which $ million was attributable to proved developed reserves. Denbury operates wells comprising approximately % of its PV10 Value. The nine largest fields in which the Company has an interest constitute approximately % of its estimated proved reserves and, within these nine fields, Denbury owns an average working interest of %. Over the last four years, the Company has achieved rapid growth in proved reserves, production and cash flow by concentrating on the acquisition of properties which it believes have significant upside potential and through the efficient development, enhancement and operation of its properties. For the three-year period ended December 31, 1996, the Company increased its proved reserves at a compound annual growth rate of 68%, from 5.8 MMBOE to 27.4 MMBOE. Over the four-year period ended December 31, 1996, the Company 39 43 also increased its average net daily production at a compound annual growth rate of 90%, from 1,193 BOE/d to 8,167 BOE/d, with a further increase to 14,195 BOE/d for the third quarter of 1997. For the same four-year period, EBITDA increased at a compound annual growth rate of 126%, from $3.0 million to $34.9 million. EBITDA for the twelve months ended September 30, 1997 was $51.9 million. Since 1993, when the Company began to focus its operations exclusively in the United States, through December 31, 1995, the Company spent a total of $43.4 million on acquisitions. In May 1996, the Company acquired properties in its core areas of Mississippi and Louisiana from Amerada Hess Corporation ("Amerada Hess") for approximately $37.2 million (the "Hess Acquisition"). As of June 30, 1996, these acquired properties were producing approximately 2,945 BOE/d and had proved reserves of approximately 5.9 MMBOE. Since that date, the Company's extensive development and exploitation on these properties has resulted in an 82% increase in production to 5,373 BOE/d for the third quarter of 1997 and a % increased in proved reserves to MMBOE as of December 31, 1997. On November 25, 1997, the Company announced that it had entered into an agreement to purchase properties in the Heidelberg Field, which is adjacent to the Company's other primary oil properties in Mississippi, from Chevron U.S.A. Inc. ("Chevron") for approximately $202 million (the "Chevron Acquisition"). These properties are located approximately nine miles from the Eucutta Field, the property with the highest PV10 Value acquired by the Company in the Hess Acquisition. The estimated proved reserves as of January 1, 1998 for the Chevron Acquisition properties are approximately 28.1 MMBOE, with average net daily production of approximately 2,940 BOE/d for the third quarter of 1997. As a result of the significant amount of future development and exploitation to be performed on these properties and the increase in future reserves and production that the Company expects to result from such development and exploitation, the Company has attributed approximately $75 million of the purchase price to unevaluated properties. The Company believes that the properties acquired in the Chevron Acquisition provide exploitation opportunities similar to those of the Mississippi properties acquired in the Hess Acquisition and the Company intends to apply the same technologies to the Heidelberg Field. The Company's estimated 1998 development budget for the Heidelberg Field is approximately $28 million. See "-- Acquisition of Chevron Properties." BUSINESS STRATEGY The Company seeks to: (i) achieve attractive returns on capital through prudent acquisitions, development and exploratory drilling and efficient operations; (ii) maintain a conservative balance sheet to preserve maximum financial and operational flexibility; and (iii) create strong employee incentives through equity ownership. The Company believes that its growth to date in proved reserves, production and cash flow is a direct result of its adherence to several fundamental principles which are at the core of the Company's long-term growth strategy. The Company's long-term growth strategy includes the following fundamental principles: REGIONAL FOCUS. The Company intends to continue the regional focus of its operations. By focusing its efforts in the Gulf Coast region, primarily Louisiana and Mississippi, the Company has been able to accumulate substantial geological and reservoir data and operating experience which it believes provides it with significant competitive advantages. For example, the Company believes it is better able to identify, evaluate and negotiate potential acquisitions, and develop and operate its properties in an efficient and low- cost manner. The Company believes the Gulf Coast represents one of the most attractive regions in North America given the region's prolific production history, complex geology (with multiple producing horizons) and the opportunities that have been created by advanced technologies such as 3-D seismic and various drilling, completion and recovery techniques. Moreover, because of the region's proximity to major pipeline networks serving important northeastern U.S. markets, the Company typically realizes natural gas prices in excess of those realized in many other producing regions. DISCIPLINED ACQUISITION STRATEGY. The Company intends to continue to acquire properties where it believes significant additional value can be created. Such properties are typically characterized by: (i) long production histories; (ii) complex geological formations with multiple producing horizons and substantial exploitation potential; (iii) a history of limited operational focus and capital investment, often due to their 40 44 relatively small size and limited strategic importance to the previous owner; and (iv) the potential for the Company to gain control of operations. The Company believes that due to continuing rationalization of properties, primarily by major integrated and independent energy companies, future acquisition opportunities should continue to be available. In addition, the Company seeks to maintain a well-balanced portfolio of oil and natural gas development, exploitation and exploration projects in order to minimize the overall risk profile of its investment opportunities while still providing significant upside potential. The recent Hess and Chevron Acquisitions are examples of the types of opportunities the Company seeks. OPERATION OF HIGH WORKING INTEREST PROPERTIES. The Company intends to continue to acquire working interest positions that give it operational control or that the Company believes may lead to operational control. As the operator of properties comprising approximately % of its total PV10 Value, the Company believes it is better able to manage and monitor production and more effectively control expenses, the allocation of capital and the timing of field development. Once a property is acquired, the Company employs its technical and operational expertise to fully evaluate a field's future potential. If favorable, it will consolidate its working interest positions, primarily through negotiated transactions, which tend to be attractively priced compared to acquisitions available in competitive situations. The consolidation of ownership allows the Company to: (i) enhance the effectiveness of its technical staff by concentrating on relatively few wells; (ii) increase production while adding virtually no additional personnel; and (iii) increase ownership in a property so that the potential benefits of value enhancement activities justify the allocation of Company resources. EXPLOITATION OF PROPERTIES. The Company intends to maximize the value of its properties through a combination of increasing production, increasing recoverable reserves or reducing operating costs. During 1997, the Company's primary methodology for achieving these objectives was the use of horizontal drilling, which it also intends to emphasize in 1998. Horizontal drilling has historically produced oil at faster rates and with lower operating costs on a BOE basis than traditional vertical drilling. The Company also utilizes a variety of other techniques to maximize property values, including: (i) undertaking surface improvements such as rationalizing, upgrading or redesigning production facilities; (ii) making downhole improvements such as resizing downhole pumps or reperforating existing production zones; (iii) reworking existing wells into new production zones with additional potential; and (iv) utilizing exploratory drilling, which is frequently based on various advanced technologies such as 3-D seismic. EXPERIENCED AND INCENTIVIZED PERSONNEL. The Company intends to maintain a highly competitive team of experienced and technically proficient employees and motivate them through a positive work environment and stock ownership in the Company. The Company's 29 geological and engineering professionals have an average of over 15 years of experience in the Gulf Coast region. The Company believes that employee ownership, which is encouraged through the Company's stock option and stock purchase plans, is essential for attracting, retaining and motivating quality personnel. As of September 30, 1997, approximately 91% of the Company's eligible employees were participating in the Company's stock purchase plan as of September 30, 1997. The Company believes that all employees are important to the success of the Company and as such grants bonuses and stock options to both management and employees on a basis roughly proportional to salaries. OIL AND NATURAL GAS OPERATIONS Denbury operates in two core areas, Louisiana and Mississippi. The Company operates 67 wells in Louisiana from an office in Houma and 161 wells in Mississippi from an office in Laurel. The largest oil and natural gas fields owned by the Company constitute approximately % and %, respectively, of its total proved reserves on a BOE and PV10 Value basis. Within these fields, Denbury owns an average % working interest and operates % of the wells, which comprise % of the Company's PV10 Value. Approximately % of the Company's PV10 Value is located in three adjacent counties in Mississippi and one parish in Louisiana. This concentration of value in a relatively small number of fields allows the Company to benefit substantially from any operating cost reductions or production enhancements and allows the Company to effectively manage the properties from its two field offices. These two core areas are similar in that the major trapping mechanisms for oil and natural gas accumulations are structural features usually related to deep-seated salt or shale movement. Both areas 41 45 typically feature fields with mostly multiple sandstone reservoirs supported by strong waterdrives. However, the two areas differ significantly in drilling costs, risks and the size of potential reserves. In Mississippi, the producing zones are generally shallower than in Louisiana and therefore drilling and workover costs are lower. However, the geological complexity of southern Louisiana, which is more expensive to exploit, creates the potential for larger discoveries, particularly of natural gas. The Company's production in Louisiana is predominately natural gas, while Mississippi is predominately oil. The following table sets forth information with respect to Denbury's properties, reserves and drilling and production activities. The information included in this table about the Company's proved oil and natural gas reserve estimates as of December 31, 1997 were prepared by Netherland & Sewell. See "Risks Factors -- Uncertainty of Estimates of Oil and Natural Gas Reserves."
AVERAGE NET PRODUCTION AS OF PROVED RESERVES THIRD QUARTER OF SEPTEMBER 30, AS OF DECEMBER 31, 1997 1997(A) 1997 --------------------------------------- ----------------------- --------------------- PV10 AVERAGE NATURAL PV10 VALUE NATURAL GROSS NET OIL GAS VALUE % OF OIL GAS PRODUCTIVE REVENUE (MBBLS) (MMCF) (000'S)(B) TOTAL (BBLS/D) (MCF/D) WELLS(C) INTEREST -------- ------- ---------- ----- ---------- --------- ---------- -------- LOUISIANA Lirette..................... 171 10,828 18 63.0% Gibson...................... 256 4,954 3 57.8% Lake Chicot................. 53 39 10 38.3% South Chauvin............... 49 2,367 4 73.4% Bayou Rambio................ 25 1,981 3 59.1% Other Louisiana............. 1,240 11,003 72 48.7% --- --- --- --- ----- ------ --- Total Louisiana........... 1,794 31,172 110 51.5% --- --- --- --- ----- ------ --- MISSISSIPPI Heidelberg(d)............... -- -- -- -- Eucutta..................... 1,751 -- 45 75.3% Davis....................... 1,235 -- 25 90.5% Quitman..................... 1,392 -- 18 60.7% Other Mississippi........... 1,366 2,504 87 53.1% --- --- --- --- ----- ------ --- Total Mississippi........... 5,744 2,504 175 66.5% --- --- --- --- ----- ------ --- Other......................... 77 385 -- -- --- --- --- --- ----- ------ --- Company Total................. 7,615 34,061 285 60.7% === === === === ===== ====== ===
- --------------- (a) This table does not include production on the properties acquired in the Chevron Acquisition. See "-- Production Volumes, Sales Prices and Production Costs" for pro forma production data. (b) The reserves were prepared using constant prices and costs in accordance with the guidelines of the Commission, based on the prices received on a field by field basis as of December 31, 1997. The oil price at that date was WTI $ per Bbl adjusted by field and a NYMEX natural gas price average of $ per MMBtu, also adjusted by field. (c) Includes only productive wells in which the Company has a working interest as of September 30, 1997. (d) Property acquired in the Chevron Acquisition. The average net production on these properties from July 1, 1997 through September 30, 1997 was 2,840 Bbls/d and 600 Mcf/d from 122 gross productive wells with an average net revenue interest of 81%. MISSISSIPPI OPERATING AREA In Mississippi, most of the Company's production is oil, produced largely from depths of less than 10,000 feet. Fields in this region are characterized by relatively small geographic areas which generate prolific production from multiple pay sands. The Company's Mississippi production is usually associated with large amounts of saltwater, which must be disposed of in saltwater disposal wells, and almost all wells require pumping. These factors increase the operating costs on a per barrel basis as compared to Louisiana. The 42 46 Company places considerable emphasis on reducing these costs in order to maximize the cash flow from this area. The Company has increased its emphasis in horizontal drilling based on its apparent success during the past year. These horizontal wells have contributed to the reduction of operating costs on a BOE basis during the last twelve months, as these wells typically produce oil more efficiently, resulting in higher production rates and better recovery efficiency. The Company drilled its first horizontal well in 1995 at the South Thompson Creek Field in Mississippi and drilled a subsequent horizontal well in this field during 1996. Both of these wells were completed as producers. During the last quarter of 1996 and 1997, the Company drilled ten horizontal wells at an average cost of $780,000. These wells produced at an average production rate of 330 Bbls/d in their initial month of production. Although horizontal wells typically decline rapidly from their initial production rates, these ten wells had an average production rate of 190 Bbls/d for the month of November 1997 and have been producing for an average of six months. These horizontal wells typically have a higher internal rate of return than a comparable vertical well, reduce operating costs per BOE and reduce the number of wells required to drain the reservoir. The Company plans to drill approximately 50 horizontal wells in 1998 in Mississippi. HEIDELBERG FIELD. Heidelberg field was discovered in 1944 and has produced an estimated 191 MMBbls and 36 Bcf since its discovery. This Field is a large salt-cored anticline which is divided by faulting into a western and eastern half. Production is from a series of normally pressured Cretaceous and Jurassic sandstone horizons situated between 4,500 feet and 11,500 feet. There are 11 producing formations in the Heidelberg Field containing 44 individual reservoir intervals, with the majority of the current production coming from the Eutaw and Christmas sands at depths of approximately 5,000 feet. The West Heidelberg Eutaw sands have been unitized and water injection began late in 1996 in order to increase the bottom hole pressure and improve recoveries from the formation. A production response to the injection is expected during 1998. The Eutaw East One Fault Block Oil Pool Unit (Eutaw formation in East Heidelberg) was unitized in October 1997 and injection is projected to commence in March 1998. These waterflood projects, particularly the East Unit, comprise a significant portion of the potential reserves at Heidelberg. The Company has a 78% working interest in the East Unit, 59% of which was acquired in the Chevron Acquisition and the remaining 19% of which was acquired over a three-month period from three other entities. The Company operates a similar Eutaw unit at its East Eucutta Field, located approximately nine miles to the southeast, with production from sands with similar porosity, permeability, thickness and drive mechanisms. The Company has identified several potential development projects during its initial evaluation of the Heidelberg Field. These include initiating a waterflood project, upgrading lift capacity in over 15 wells and recompleting 30 wells in new zones. In addition, the Company has identified over 40 potential drilling locations in addition to other potential secondary and tertiary recovery projects. Horizontal wells drilled by the Company in 1997 at nearby Davis, Quitman and Eucutta Fields improved daily production rates significantly as compared to vertical wells drilled in the same fields. Consequently, the Company anticipates that 25 of the 40 proposed future wells will be horizontal wells. The Company's total 1998 development budget for the Heidelberg Field is approximately $28 million. Based on its experience in other fields in the same area, the Company believes that significant additional reserve potential may exist beyond the identified proven reserves. The development budget in 1998 and ensuing years is expected, in part, to be used to evaluate this potential which is summarized below: Higher oil recovery in the Eutaw sand waterfloods. Since discovery of the Heidelberg Field, total cumulative production in the Eutaw formation through November 1997 has been 80 MMBbls, which, based upon geological and engineering analysis, the Company estimates has recovered 22% of the original oil in place. Based upon a similar analysis, the Company estimates that historical cumulative production from the Eutaw formation under waterflood at nearby East Eucutta Field has recovered an estimated 34% of the oil in place. The Company believes that similar recovery factors may be achievable at Heidelberg Field based on the geological conditions that appear to be analogous. The Company will also attempt to improve the recovery factors through the use of horizontal drilling and may also employ tertiary recovery methods such as carbon dioxide injection. The Company currently is evaluating the feasibility of such methods. 43 47 Higher oil recovery in the Christmas sands. Because of the success of the Company's horizontal drilling program in other fields in the area, the Company intends to develop the Christmas sands primarily through horizontal drilling. Since its discovery, the Christmas sands have produced approximately 67 MMBbls through November 1997. The Company believes these sands are ideal for horizontal development due to the strong natural water drive of these reservoirs. Recent horizontal drilling by the Company has produced oil at faster rates and reduced operating costs on a BOE basis as compared to vertical drilling. Although Denbury believes that horizontal drilling should ultimately increase the amount of oil recovered from the Christmas sands, to date the Company does not have enough production history to determine if, and to the extent, oil recoveries will increase. Further drilling in deeper zones. The zones below the Christmas formation including the Tuscaloosa, Paluxy, Rodessa, Hosston, Cotton Valley and Smackover formations, have produced on a cumulative basis a combined 44 MMBbls and 14 Bcf through November 1997. The Company believes that additional reserve potential may exist for extensions of existing reservoirs and potential new reservoirs in these zones within the Heidelberg Field area. A 36-square mile 3-D seismic program over the field was shot by Chevron in 1993 and will be acquired under license by Denbury. The Company intends to reprocess the 3-D seismic data to evaluate this potential. EUCUTTA FIELD. The Eucutta Field is located about 18 miles east of Laurel, Mississippi. Since its discovery in 1943, this field has produced 63 MMBbls and 4.7 Bcf. Denbury acquired the majority of its interests in this field as part of the Hess Acquisition and currently operates 45 producing oil wells and 3 saltwater injection wells. Most of the wells produce oil with large amounts of saltwater, which requires pumping and disposal. The Eucutta Field is divided into a shallow Eutaw sand unit in which the Company has a 78% working interest and the deeper Tuscaloosa, Wash-Fred, Paluxy, Rodessa, Sligo and Hosston sand zones in which the Company has a 100% working interest. The Eucutta Field traps oil in multiple sandstone reservoirs from the Eutaw to the Hosston Formations in this highly faulted anticline from depths of 5,000 to 11,000 feet. Denbury recently established new production in the Paluxy interval in a series of six stacked sands. Two additional delineation wells have been drilled and completed for this interval and the Company currently plans to drill six horizontal wells to fully develop this new area. The deeper intervals of the Cotton Valley and Smackover formations have yet to be tested in crestal positions on this structure although these two horizons have proved to be highly productive throughout the Mississippi Salt Basin. Since its acquisition in May 1996, the Company has implemented a capital expenditure program at Eucutta Field which included upgrading production facilities, recompletions and drilling wells. At the time of acquisition, production from this field was approximately 1,100 Bbls/d. All six wells drilled in 1997 were successful, one of which was a horizontal well. As a result of these wells and other development work, during November 1997 the net production increased to an average of 2,079 Bbls/d. The Company plans to shoot a 3-D seismic survey over the field and have it processed by late 1998. During 1998, the Company also plans to drill 15 wells, of which eight will be horizontal wells. DAVIS FIELD. The Davis Field is located 42 miles northeast of Laurel in the northern part of the Mississippi salt basin. Denbury operates 36 producing wells within the area. Davis is a compact anticline that has produced over 21 MMBbls since its discovery by Conoco in 1969. Over 30 sands have produced oil between the intervals of 5,000 feet and 8,000 feet. At the time of acquisition in 1993, the gross production from this field was approximately 700 Bbls/d. During the month of November 1997, the gross production was approximately 1,000 Bbls/d with net production of 928 Bbls/d. The Davis Field is a relatively mature field and produces large amounts of saltwater. During November 1997, the field produced an average of approximately 71,000 barrels of saltwater per day, all of which were re-injected into the ground. The Company places considerable emphasis on controlling operating costs in this field by minimizing the cost of saltwater disposal and pumping equipment. Since acquiring the majority of the Davis Field in 1993, Denbury has undertaken an active redevelopment program including numerous workovers and five development wells. As a result of this work and continued 44 48 reductions in operating costs, the Company has been able to steadily increase the proven reserves every year. During 1996, the Company drilled two successful horizontal wells to improve withdrawal efficiency and drilled an additional three horizontal wells in 1997, with one additional well in progress as of December 31, 1997. The Company plans to drill six horizontal wells in this field in 1998. QUITMAN FIELD. The Quitman Field is located in Clarke County, Mississippi, 31 miles northeast of Laurel and near the Davis Field. The Company acquired the field as part of the Hess Acquisition and now operates 18 producing wells. The Company owns an average working interest of 93%. The Quitman Field was discovered in 1966 and has since produced approximately 21 MMBbls from 18 separate reservoirs between 7,500 feet and 12,000 feet. The principal producing zones at Quitman Field are the Smackover formation and several sands in the Cotton Valley formation. Since its acquisition in May, 1996, the Company has implemented a capital expenditure program at Quitman Field which has included upgrading production facilities and drilling wells. At the time of acquisition, the net production from this field was approximately 200 Bbls/d. During November 1997, the net production averaged 1,747 Bbls/d. All five wells drilled in 1997 were successful, of which two were horizontal wells. During 1998, the Company plans to drill five wells, of which four will be horizontal wells. OTHER MISSISSIPPI FIELDS. In addition to the above fields, Denbury owns an interest in wells in 35 other fields in Mississippi, which in the aggregate averaged approximately 1,920 Bbls/d and 2.5 MMcf/d of net production during November 1997. LOUISIANA OPERATING AREA The Company's southern Louisiana producing fields are typically large structural features containing multiple sandstone reservoirs. Current production depths range from 7,000 feet to 16,000 feet with potential throughout the area for even deeper production. The region produces predominantly natural gas, with most reservoirs producing with a water-drive mechanism. The majority of the Company's southern Louisiana fields lie in the Houma embayment area of Terrebonne and LaFourche Parishes. The area is characterized by complex geological structures which have produced prolific reserves, typical of the lower Gulf Coast geosyncline. Given the swampy conditions of southern Louisiana, 3-D seismic has only recently become feasible for this area as improvements in field recording techniques have made the process more economical. 3-D seismic has become a valuable tool in exploration and development throughout the onshore Gulf Coast and has been pivotal in discovering significant reserves. The Company currently owns or has license to work on over 300 square miles of 3-D seismic data and plans to continue to expand its data ownership. The Company believes that this 3-D seismic data, some of which is the first 3-D shot in these swampy areas, has the potential to identify significant exploration prospects, particularly in the deeper geopressured sections below 12,000 feet. During 1995, the Company acquired approximately 46 square miles of 3-D seismic data over five of its existing fields in Southern Louisiana, namely Bayou Rambio, De Large, North Deep Lake, Gibson and Humphreys. During 1996, the Company entered into a joint venture agreement with two industry partners and shot approximately 158 square miles of 3-D seismic data in the Terrebonne Parish area, which includes three of the Company's existing fields, Lirette, Lapeyrouse and North Lapeyrouse. The Company's existing productive zones are excluded from the joint venture. Denbury owns a one-third interest in any new prospects discovered through this joint venture that currently owns rights to over 35,000 acres within the survey area. The 3-D seismic survey is complete and two wells have been drilled to date based on the results of the survey. One was a dry hole and the other a successful well in the Lirette Field area. There are currently 10 identified prospect areas which have been generated as a result of the survey, of which three should be drilled during the first half of 1998. The 3-D seismic survey is still being reviewed for additional drilling opportunities. LIRETTE FIELD. The Lirette structure is a large salt-cored anticline located about 10 miles south of Houma, Louisiana, which has produced over one Tcf of natural gas from multiple reservoirs. The field is located in six to ten feet of inland water and produces from depths of 8,000 feet to 16,000 feet. The field was discovered in 1937, but in 1993, when the Company first acquired a 23% working interest in the field, gross production had 45 49 declined to less than 3 MMcf/d. By January 1995, following a series of workovers of existing wells, gross production had grown to approximately 13.2 MMcf/d and 360 Bbls/d (6.5 MMcf/d and 150 Bbls/d net). Additional interests were acquired in 1995 and 1997 to increase the Company's ownership to its current average 82% working interest. During November 1997 the net production from this field averaged approximately 9.8 MMcf/d and 172 Bbls/d from 18 wells. During the latter half of 1996, the Lirette Field was covered by a 3-D seismic survey which is currently being evaluated. One well was drilled in the Lirette area in 1997, the Scana No. 1 Laterre, as a result of this 3-D seismic survey. This well established two pay sands in the prolific Tex W interval a southern untested fault block. Two additional untested fault blocks have been identified on the Lirette structure and are scheduled for drilling during 1998. GIBSON AND HUMPHREYS FIELDS. In late 1994, Denbury acquired minor working interests in five wells in the Gibson and Humphreys Fields located in Terrebonne Parish, 20 miles northwest of the Lirette Field, in the northern part of the Houma embayment. The Gibson Field, since its discovery in 1937, has produced over 813 Bcf and 14 MMBbls, while the Humphreys Field, since its discovery in 1956, has produced 527 Bcf and 6 MMBbls. During 1995, the Company acquired and processed 38 square miles of 3-D seismic data covering these fields and in November 1995 acquired a additional working interest in these fields. By December 1995, Denbury's acreage position had grown to 3,165 net acres with interests in six active wells and eight inactive wells. During November 1997, the net production in these two fields averaged approximately 6.1 MMcf/d and 110 Bbls/d. Denbury drilled two wells in this area in 1997, one of which was successful. This well, the Pelican A-12, found two productive intervals and was completed in the lower most formation. This well produced at an average rate of 620 Mcf/d, net to the Company, during the month of November 1997. No wells are currently planned in this field for 1998. LAKE CHICOT FIELD. The Company acquired Lake Chicot Field in St. Martin Parish, Louisiana as part of the Hess Acquisition and has an average of 45% working interest in 10 producing wells. Two wells were drilled in this area in 1997 based upon a review of 3-D seismic data, one of which is temporarily abandoned and one of which was successful. This well, the SL 411 #19, produced at an average rate of 2.6 MMcf/d and 32 Bbls/d, net to the Company, during the month of November 1997. During November 1997, the net production from this field averaged 2.8 MMcf/d and 82 Bbls/d. Drilling in this field is seasonal and limited to late December through April because of the water depths. During the 1997-1998 drilling season, the Company plans to drill a horizontal well in the K sand oil reservoir, plus three other wells which will test the attic positions of seismic defined fault blocks. One of these wells will test a deeper Cib Haz formation, an excellent producer in the area, but one that has yet to be tested in the highest structural position. SOUTH CHAUVIN FIELD. In February 1996, the Company purchased interests in two producing wells and four non-producing wells in South Chauvin Field located in the Houma embayment area, about four miles south of Houma and six miles northwest of Lirette Field. Of the four currently producing wells at Chauvin, the Company owns an average 94% working interest. During November 1997, the net production from this field averaged 4.2 MMcf/d and 73 Bbls/d. In late 1996, the Company acquired 13.7 square miles of 3-D seismic data covering the field and is currently evaluating the data. The Company drilled one well in this area in 1997 which produced at an average rate of 3.1 MMcf/d and 60 Bbls/d, net to the Company, during the month of November 1997. One well, a sidetrack of an existing well, is currently planned in this field for 1998. BAYOU RAMBIO FIELD. Production at the Bayou Rambio Field was established in 1955 and has exceeded 150 Bcf and 920 MBbls to date. The Company operates three producing wells in the field, which is located in Terrebonne Parish about 15 miles west of Lirette Field. During November 1997, the net production from this field averaged 8.5 MMcf/d and 109 Bbls/d. Two of these producing wells were drilled in 1997 based on a review of 3-D seismic data. The Company has one additional well planned for the first half of 1998 which will attempt to accelerate the production of the established reserves increasing the field's PV10 Value, while drilling a deeper sand interval which may establish additional pay sands. OTHER LOUISIANA FIELDS. In addition to the above fields, the Company owns an interest in wells at 39 other fields in Louisiana, which in the aggregate averaged approximately 8.7 MMcf/d and 860 Bbls/d of net production during November 1997. 46 50 ACQUISITIONS OF OIL AND NATURAL GAS PROPERTIES The Company regularly seeks to acquire properties that complement its operations, provide exploitation, exploration and development opportunities and have cost reduction potential. The Company has purchased the majority of its current producing wells and has increased production by a variety of techniques, including development drilling, increasing fluid withdrawal and reworking existing wells. These acquisitions have also balanced the Company's reserve mix between oil and natural gas, increased the scale of its operations in the onshore Gulf Coast area and provided the Company with a significant base of operations within its area of geographic focus. Since 1993, aggregate expenditures to acquire producing properties are approximately $310 million through September 30, 1997 adjusted for the Chevron Acquisition. The properties included in the Company's five largest acquisitions make up approximately % of its total proved reserves on a BOE basis as of December 31, 1997. These five acquisitions are discussed below in the order of their acquisition by the Company. MISSISSIPPI ACQUISITION IN 1993. Effective May 1, 1993, the Company acquired interests in the Davis, Frances Creek and Lake Utopia Fields in the Mississippi salt basin for approximately $9.0 million. At the date of acquisition, the estimated net proved reserves included 2,170 MBbls and 217 MMcf, aggregating 2.2 MMBOE. From the date of acquisition through September 30, 1997, the Company produced 1,377 MBOE from the acquired properties and has successfully increased its ownership in the Davis Field through approximately $4.3 million of incremental acquisitions. As of December 31, 1997, the estimated net proved reserves of the properties totaled MMBOE, with a PV10 Value of $ million. LOUISIANA ACQUISITION IN 1993. Effective October 1, 1993, Denbury acquired interests in the Lirette, Bayou Rambio, Delarge, Lapeyrouse, Lake Boeuf, North Deep Lake and Bay Baptiste Fields in southern Louisiana for approximately $9.8 million. Six of the seven fields are situated in the prolific Houma Embayment, which is located south of Houma and approximately 40 miles south of New Orleans, Louisiana. This basin contains fields which have produced more than 2 Tcf of gas since 1930. These fields have established productive sand intervals as shallow as 1,000 feet to depths in excess of 17,000 feet, with individual well production rates exceeding 10 MMcf/d. At the date of acquisition, the net proved reserves included 155 MBbls and 9,137 MMcf, aggregating 1.7 MMBOE. From the date of acquisition through September 30, 1997, the Company produced 2,898 MBOE from the acquired properties. Subsequent to the acquisition, Denbury has successfully completed approximately $12.7 million in acquisitions of incremental interests in the Lirette and Bayou Rambio Fields. As of December 31, 1997, the estimated net proved reserves of the properties was MMBOE, with a PV10 Value of $ million. GIBSON ACQUISITION IN 1995. In October 1995, Denbury acquired additional interests in the Gibson and Humphreys Fields in Southern Louisiana for approximately $10.2 million. At the date of acquisition, the net proved reserves included approximately 412 MBbls and 9,435 MMcf, aggregating 2.0 MMBOE. From the date of acquisition through September 30, 1997, the Company produced 1,285 MBOE from the acquired properties. As of December 31, 1997, the estimated net proved reserves of the properties was MMBOE, with a PV10 Value of $ million. HESS ACQUISITION IN 1996. The Company completed several property acquisitions during 1996, the largest of which was the acquisition of producing oil and natural gas properties in Mississippi, Louisiana and Alabama, plus certain overriding royalty interests in Ohio, for approximately $37.2 million from Amerada Hess, effective May 1, 1996. The average daily production from the properties included in the Hess Acquisition during May and June 1996, the first two months of ownership, was approximately 2,945 BOE/d. The average daily production on these properties had increased to 5,373 BOE/d by the third quarter of 1997. As of December 31, 1997, in the Company's independent reserve report (the "December Report"), the properties in the Hess Acquisition had estimated net proved reserves of approximately MMBOE with a PV10 Value of $ million. This compares to approximately 5.9 MMBOE of net proved reserves and a $43.1 million PV10 Value on these same properties as reported in the July Report. The December Report was calculated using year-end prices which were based on a WTI price of $ per Bbl and a NYMEX price of $ per Mcf, with these representative prices adjusted by field to arrive at the appropriate corporate 47 51 net price, as compared to oil and gas prices of $20.00 and $2.65, respectively, in the July Report. In addition to the increase in proved reserves, the Company produced approximately 1.9 MMBOE from July 1, 1996 through September 30, 1997 with total net operating income of $23.8 million. Three, out of a total of 60 fields, comprise over % of the total Hess Acquisition PV10 Value as of December 31, 1997. The two largest fields in Mississippi, Eucutta and Quitman Fields, make up approximately % of the total PV10 Value. Both fields are in the same vicinity as the Company's previously existing Mississippi core properties. The largest field in Louisiana is the Lake Chicot Field, which comprises approximately % of the total PV10 Value. CHEVRON ACQUISITION IN 1997. On November 25, 1997, the Company announced that it had entered into an agreement to purchase oil properties in the Heidelberg Field, Jasper County, Mississippi, from Chevron for approximately $202 million. The Chevron Acquisition represents the largest acquisition by the Company to date. The Heidelberg Field is adjacent to the Company's other primary oil properties in Mississippi and includes 122 producing wells, 96 of which the Company will operate. The Company is purchasing an average working interest of 94% and an average net revenue interest of 81% in these 96 wells, which wells account for approximately 99% of the field's average net daily production. The average net daily production from these properties during the third quarter of 1997 was approximately 2,840 Bbls/d and 600 Mcf/d. The Chevron Acquisition added proved reserves as of December 31, 1997 of approximately 27.7 MMBbls and 2.5 Bcf, or approximately 28.1 MMBOE. As a result of the significant amount of future development and exploitation to be performed on these properties and the increase in future reserves and production that the Company expects to result from such development and exploitation, the Company has attributed approximately $75 million of the purchase price to unevaluated properties. The Company has identified several potential development projects during its initial evaluation of the Heidelberg Field. These include initiating a waterflood project, upgrading lift capacity in over 15 wells and recompleting 30 wells in new zones. In addition, the Company has identified over 40 potential drilling locations in addition to other potential secondary and tertiary recovery projects. Horizontal wells drilled by the Company in 1997 at nearby Davis, Quitman and Eucutta Fields improved daily production rates significantly as compared to vertical wells drilled in the same fields. Consequently, the Company anticipates that 25 of the 40 proposed future wells in the Heidelberg Field will be horizontal wells. The Company's total 1998 development budget for the Heidelberg Field is approximately $28 million. PRODUCTION VOLUMES, SALES PRICES AND PRODUCTION COSTS The following table summarizes the Company's net oil and natural gas production volumes, average sales prices and production costs for each of the years in the three-year period ended December 31, 1996 and for the nine month periods ended September 30, 1996 and 1997.
YEAR ENDED DECEMBER 31, NINE MONTHS ENDED SEPTEMBER 30, ------------------------------------ --------------------------------- PRO FORMA PRO FORMA 1994 1995 1996 1996(A) 1996 1997 1997(A) ------ ------ ------ --------- -------- -------- ----------- NET PRODUCTION VOLUME: Oil (MBbls)............ 489 728 1,500 2,752 967 2,079 2,873 Natural gas (MMcf)..... 3,326 4,844 8,933 9,178 6,540 9,299 9,459 Oil equivalent (MBOE).. 1,043 1,535 2,989 4,282 2,057 3,629 4,449 AVERAGE SALE PRICES: Oil ($/Bbl)............ $13.84 $14.90 $18.98 $18.75 $18.05 $17.53 $17.45 Natural gas ($/Mcf).... 1.78 1.90 2.73 2.72 2.64 2.54 2.54 Oil equivalent ($/BOE)............. 12.17 13.05 17.69 17.88 16.87 16.56 16.65 AVERAGE PRODUCTION COSTS: Per BOE................ $ 4.13 $ 4.42 $ 4.51 $ 4.70 $ 4.47 $ 4.34 $ 4.71
- --------------- (a) Pro forma for the Chevron Acquisition. See "-- Acquisitions of Oil and Natural Gas Properties" and "Unaudited Pro Forma Consolidated Financial Information." 48 52 OIL AND NATURAL GAS ACREAGE The following table sets forth the Company's acreage position as of December 31, 1996:
DEVELOPED UNDEVELOPED --------------- --------------- GROSS NET GROSS NET ------ ------ ------ ------ Louisiana........................................... 29,328 20,374 10,137 7,812 Mississippi......................................... 17,511 11,138 19,180 8,002 Other............................................... 1,710 1,260 1,709 722 ------ ------ ------ ------ Total..................................... 48,549 32,772 31,026 16,536 ====== ====== ====== ======
The following table sets forth the Company's acreage position as of September 30, 1997:
DEVELOPED UNDEVELOPED --------------- --------------- GROSS NET GROSS NET ------ ------ ------ ------ Louisiana........................................... 28,519 19,870 20,542 10,668 Mississippi......................................... 17,102 12,655 27,185 10,970 ------ ------ ------ ------ Total..................................... 45,621 32,525 47,727 21,638 ====== ====== ====== ======
PRODUCTIVE WELLS The following table sets forth the Company's gross and net productive wells as of December 31, 1996:
NATURAL GAS OIL WELLS WELLS TOTAL ------------- ------------ ------------- GROSS NET GROSS NET GROSS NET ----- ----- ----- ---- ----- ----- Louisiana................................... 44 24.8 66 38.1 110 62.9 Mississippi................................. 142 106.0 28 14.8 170 120.8 Other....................................... 4 2.0 12 5.3 16 7.3 --- ----- --- ---- --- ----- Total............................. 190 132.8 106 58.2 296 191.0 === ===== === ==== === =====
The following table sets forth the Company's gross and net productive wells as of September 30, 1997:
NATURAL GAS OIL WELLS WELLS TOTAL ------------- ------------ ------------- GROSS NET GROSS NET GROSS NET ----- ----- ----- ---- ----- ----- Louisiana................................... 40 25.7 70 43.2 110 68.9 Mississippi................................. 154 132.5 21 7.2 175 139.7 --- ----- --- ---- --- ----- Total............................. 194 158.2 91 50.4 285 208.6 === ===== === ==== === =====
49 53 DRILLING ACTIVITY The following table sets forth the results of drilling activities during each of the three years in the period ended December 31, 1996 and the nine months ended September 30, 1997. No wells were in the process of drilling at September 30, 1997.
NINE MONTHS YEAR ENDED DECEMBER 31, ENDED ----------------------------------------------- SEPTEMBER 30, 1994 1995 1996 1997 ------------- ------------- ------------- ------------- GROSS NET GROSS NET GROSS NET GROSS NET ----- ---- ----- ---- ----- ---- ----- ---- EXPLORATORY WELLS: Productive..................... -- -- -- -- -- -- 2 0.8 Nonproductive.................. 3 0.8 2 1.0 1 1.0 5 2.4 DEVELOPMENT WELLS: Productive..................... 4 2.9 2 1.5 9 7.9 26 22.7 Nonproductive.................. 1 1.0 -- -- -- -- 2 1.1 ---- ---- ---- ---- ---- ---- ---- ---- Total.................. 8 4.7 4 2.5 10 8.9 35 27.0 ==== ==== ==== ==== ==== ==== ==== ====
PRODUCT MARKETING Denbury's production is primarily from developed fields close to major pipelines or refineries and established infrastructure. As a result, Denbury has not experienced any difficulty in finding a market for its product as it becomes available or in transporting its product to these markets. OIL MARKETING. Denbury markets its oil to a variety of purchasers, most of which are large, established companies. The oil is generally sold under a short-term contract with the sales price based on an applicable posted price, plus a negotiated premium. This price is determined on a well-by-well basis and the purchaser generally takes delivery at the wellhead. Mississippi oil, which accounted for approximately 73% of the Company's oil production in 1996, is primarily light sour crude and sells at a discount to the published WTI posting. The balance of the oil production, Louisiana oil, is primarily light sweet crude, which typically sells at a slight premium to the WTI posting. The Company is currently selling a majority of its oil under a two-year contract to Hunt Refining which expires on April 1998 and is currently receiving a premium to the posted price in this contract. The Company may not be able to renew this contract in the future or may not be able to obtain terms as favorable as those in the existing contract. NATURAL GAS MARKETING. Virtually all of Denbury's natural gas production is close to existing pipelines and consequently, the Company generally has a variety of options to market its natural gas. The Company sells the majority of its natural gas on one year contracts with prices fluctuating month-to-month based on published pipeline indices with slight premiums or discounts to the index. PRODUCTION PRICE HEDGING. For 1995, the Company entered into financial contracts to hedge 75% of the Company's net natural gas production and 43% of the Company's net oil production. The net effect of these hedges was to increase oil and natural gas revenues by approximately $750,000 during 1995. The Company does not currently have any hedging contracts in place, although it may enter into such contracts in the future. SIGNIFICANT OIL AND NATURAL GAS PURCHASERS Oil and natural gas sales are made on a day-to-day basis under short-term contracts at the current area market price. The loss of any purchaser would not be expected to have a material adverse effect upon the Company's operations. For the period ended December 31, 1996, the Company sold 10% or more of its net production of oil and natural gas to the following purchasers: Natural Gas Clearinghouse (20%), Penn Union Energy Services (19%), Enron Trading & Transportation (13%) and Hunt Refining (15%). 50 54 TITLE TO PROPERTIES Customarily in the oil and natural gas industry, only a perfunctory title examination is conducted at the time properties believed to be suitable for drilling operations are first acquired. Prior to commencement of drilling operations, a thorough drill site title examination is normally conducted and curative work is performed with respect to significant defects. During acquisitions, title reviews are performed on all properties; however, formal title opinions are obtained on only the higher value properties. The Company believes that it has good title to its oil and natural gas properties, some of which are subject to minor encumbrances, easements and restrictions. COMPETITION The oil and natural gas industry is highly competitive in all its phases. The Company encounters strong competition from many other energy companies in acquiring economically desirable producing properties and drilling prospects and in obtaining equipment and labor to operate and maintain its properties. In addition, many energy companies possess greater resources than the Company. See "Risk Factors -- Competition." GEOGRAPHIC SEGMENTS All of the Company's operations are in the United States. OFFICE AND FIELD FACILITIES The Company leases its executive and administrative offices in Dallas, Texas, consisting of approximately 25,000 square feet, under a lease that continues through May 1999. On August 6, 1997, the Company entered into a ten year office lease for approximately 50,000 square feet to replace its current corporate headquarters. This new lease is expected to commence late in 1998. EMPLOYEES At December 15, 1997, the Company had 156 employees associated with its operations, including 45 field personnel in Mississippi and 35 field personnel in Louisiana. None of the Company's employees is represented by a union. The Company considers its employee relations to be satisfactory. LEGAL PROCEEDINGS From time to time, the Company is a party to legal proceedings in the ordinary course of its business, including actions for personal injury and property damage occurring as a result of the operation of wells, and claims for environmental damage. In June of 1997, a well blow-out occurred at the Lake Chicot Field, for which the Company is operator, in St. Martin Parish, Louisiana in which four individuals that were employees of other third party entities were killed, none of whom were employees or contractors of the Company. In connection with this blow-out, a lawsuit was filed on July 2, 1997, Barbara Trahan, et al .v. Mallard Bay Drilling L.L.C., Parker Drilling Company and Denbury Management, Inc., Case No. 58226-G in the 16th Judicial District Court in St. Martin Parish, Louisiana alleging various defective and dangerous conditions violation of certain rules and regulations and acts of negligence. The Company believes that all litigation to which it is a party is covered by insurance and none of such legal proceedings can be reasonably expected to have a material adverse effect on the Company's financial condition or results of operations. See "Risk Factors -- Drilling and Operating Risks." REGULATIONS The availability of a ready market for oil and gas production depends upon numerous factors beyond the Company's control. These factors include regulation of natural gas and oil production, federal and state regulations governing environmental quality and pollution control, state limits on allowable rates of production by well or proration unit, the amount of natural gas and oil available for sale, the availability of adequate pipeline and other transportation and processing facilities and the marketing of competitive fuels. State and 51 55 federal regulations generally are intended to prevent waste of natural gas and oil, protect rights to produce natural gas and oil between owners in a common reservoir, control the amount of natural gas and oil produced by assigning allowable rates of production and control contamination of the environment. Pipelines are subject to the jurisdiction of various federal, state and local agencies. The following discussion summarizes the regulation of the United States oil and gas industry and is not intended to constitute a complete discussion of the various statutes, rules, regulations and governmental orders to which the Company's operations may be subject. REGULATION OF NATURAL GAS AND OIL EXPLORATION AND PRODUCTION. The Company's operations are subject to various types of regulation at the federal, state and local levels. Such regulation includes requiring permits for drilling wells, maintaining bonding requirements in order to drill or operate wells and regulating the location of wells, the method of drilling and casing wells, the surface use and restoration of properties upon which wells are drilled, the plugging and abandoning of wells and the disposal of fluids used in connection with operations. The Company's operations are also subject to various conservation laws and regulations. These include the regulation of the size of drilling and spacing units or proration units and the density of wells which may be drilled in and the unitization or pooling of oil and gas properties. In addition, state conservation laws establish maximum rates of production from oil and gas wells, generally prohibit the venting or flaring of gas and impose certain requirements regarding the ratability of production. The effect of these regulations may limit the amount of oil and gas the Company can produce from its wells and may limit the number of wells or the locations at which the Company can drill. Each state generally imposes a production or severance tax with respect to production and sale of crude oil, natural gas and natural gas liquids within their respective jurisdictions. The regulatory burden on the oil and gas industry increases the Company's costs of doing business and, consequently, affects its profitability. Inasmuch as such laws and regulations are frequently expanded, amended and reinterpreted, the Company is unable to predict the future cost or impact of complying with such regulations. FEDERAL REGULATION OF SALES AND TRANSPORTATION OF NATURAL GAS. Federal legislation and regulatory controls in the U.S. have historically affected the price of the natural gas produced by the Company and the manner in which such production is marketed. The Federal Energy Regulatory Commission (the "FERC") regulates the interstate transportation and sale for resale of natural gas by interstate and intrastate pipelines. The FERC previously regulated the maximum selling prices of certain categories of gas sold in "first sales" in interstate and intrastate commerce under the Natural Gas Policy Act. Effective January 1, 1993, however, the Natural Gas Wellhead Decontrol Act (the "Decontrol Act") deregulated natural gas prices for all "first sales" of natural gas, which includes all sales by the Company of its own production. As a result, all sales of the Company's domestically produced natural gas may be sold at market prices, unless otherwise committed by contract. The FERC's jurisdiction over natural gas transportation and gas sales other than first sales was unaffected by the Decontrol Act. The Company's natural gas sales are affected by the regulation of intrastate and interstate gas transportation. In an attempt to restructure the interstate pipeline industry with the goal of providing enhanced access to, and competition among, alternative natural gas supplies, the FERC, commencing in April 1992, issued Order Nos. 636, 636-A and 636-B ("Order No. 636") which have altered significantly the interstate transportation and sale of natural gas. Among other things, Order No. 636 required interstate pipelines to unbundle the various services that they had provided in the past, such as sales, transmission and storage, and to offer these services individually to their customers. By requiring interstate pipelines to "unbundle" their services and to provide their customers with direct access to pipeline capacity held by them, Order No. 636 has enabled pipeline customers to choose the levels of transportation and storage service they require, as well as to purchase natural gas directly from third-party merchants other than the pipelines and obtain transportation of such gas on a non-discriminatory basis. The effect of Order No. 636 has been to enable the Company to market its natural gas production to a wider variety of potential purchasers. The Company believes that these changes generally have improved the Company's access to transportation and have enhanced the marketability of its natural gas production. To date, Order No. 636 has not had any material adverse effect on the Company's ability to market and transport its natural gas production. However, the Company cannot predict what new regulations may be adopted by the FERC and other regulatory authorities, 52 56 or what effect subsequent regulations may have on the Company's activities. In addition, Order No. 636 and a number of related orders were appealed. Recently, the United States Court of Appeals for the District of Columbia Circuit issued an opinion largely upholding the basic features and provision of Order No. 636. However, even though Order No. 636 itself has been judicially approved, several related FERC orders remain subject to pending appellate review and further changes could occur as a result of court order or at the FERC's own initiative. In recent years the FERC also has pursued a number of other important policy initiatives which could significantly affect the marketing of natural gas. Some of the more notable of these regulatory initiatives include (i) a series of orders in individual pipeline proceedings articulating a policy of generally approving the voluntary divestiture of interstate natural gas pipeline-owned gathering facilities to pipeline affiliates, (ii) the completion of a rulemaking involving the regulation of interstate natural gas pipelines with marketing affiliates under Order No. 497, (iii) FERC's on-going efforts to promulgate standards for pipeline electronic bulletin boards and electronic data exchange, (iv) a generic inquiry into the pricing of interstate pipeline capacity, (v) efforts to refine FERC's regulations controlling the operation of the secondary market for released interstate natural gas pipeline capacity, and (vi) a policy statement regarding market-based rates and other non-cost-based rates for interstate pipeline transmission and storage capacity. Several of these initiatives are intended to enhance competition in natural gas markets. While any resulting FERC action would affect the Company only indirectly, the ongoing, or, in some instances, preliminary evolving nature of these regulatory initiatives makes it impossible at this time to predict their ultimate impact upon the Company's activities. OIL PRICE CONTROLS AND TRANSPORTATION RATES. Sales of crude oil, condensate and gas liquids by the Company are not currently regulated and are made at market prices. Commencing in October 1993, the FERC has modified its regulation of oil pipeline rates and services in order to comply with the Energy Policy Act of 1992. That Act mandated that FERC streamline oil pipeline ratemaking by abandoning its old, cumbersome procedures and issue new procedures to be effective January 1, 1995. In response, the FERC issued a series of rules (Order Nos. 561 and 561-A) establishing an indexing system under which oil pipelines will be able to change their transportation rates, subject to prescribed ceiling levels. The FERC's new oil pipeline ratemaking methodology was recently affirmed by the Court. The Company is not able at this time to predict the effects of Order Nos. 561 and 561-A, if any, on the transportation costs associated with oil production from the Company's oil producing operations. GATHERING REGULATIONS. Under the Natural Gas Act (the "NGA"), facilities used for and operations involving the production and gathering of natural gas are exempt from FERC jurisdiction, while facilities used for and operations involving interstate transmission are not. Under current law even facilities which otherwise would have been classified as gathering may be subject to the FERC's rate and service jurisdiction when owned by an interstate pipeline company and when such regulation is necessary in order to effectuate FERC's Order No. 636 open-access initiatives. FERC has reaffirmed that it does not have jurisdiction over natural gas gathering facilities and services and that such facilities and services are properly regulated by state authorities. As a result, natural gas gathering may receive greater regulatory scrutiny by state agencies. In addition, the FERC has approved several transfers by interstate pipelines of gathering facilities to unregulated gathering companies, including affiliates. This could allow such companies to compete more effectively with independent gatherers. State regulation of gathering facilities generally includes various safety, environmental and, in some circumstances, nondiscriminatory take requirements. While some states provide for the rate regulation of pipelines engaged in the intrastate transportation of natural gas, such regulation has not generally been applied against gatherers of natural gas. Natural gas gathering may receive greater regulatory scrutiny following the pipeline industry restructuring under Order No. 636. Thus the Company's gathering operations could be adversely affected should they be subject in the future to the application of state or federal regulation of rates and services. See "Risk Factors -- Governmental and Environmental Regulation." ENVIRONMENTAL REGULATIONS. The Company's operations are subject to numerous laws and regulations governing the discharge of materials into the environment or otherwise relating to environmental protection. Public interest in the protection of the environment has increased dramatically in recent years. The trend of 53 57 more expansive and stricter environmental legislation and regulations could continue. To the extent laws are enacted or other governmental action is taken that restricts drilling or imposes environmental protection requirements that result in increased costs to the oil and gas industry in general, the business and prospects of the Company could be adversely affected. The EPA and various state agencies have limited the approved methods of disposal for certain hazardous and nonhazardous wastes. Certain wastes generated by the Company's oil and natural gas operations that are currently exempt from treatment as "hazardous wastes" may in the future be designated as "hazardous wastes," and therefore be subject to more rigorous and costly operating and disposal requirements. The Company currently owns or leases numerous properties that for many years have been used for the exploration and production of oil and gas. Most of these properties have been operated by prior owners, operators and third parties whose treatment and disposal or release of hydrocarbons or other wastes was not under the Company's control. These properties and the wastes disposed thereon may be subject to Comprehensive Environmental Response, Compensation, and Liability Act ("CERCLA"), Federal Resource Conservation and Recovery Act and analogous state laws. Under such laws, the Company could be required to remove or remediate previously disposed wastes (including wastes disposed of or released by prior owners or operators) or property contamination (including groundwater contamination) or to perform remedial plugging operations to prevent future contamination. The Company's operations may be subject to the Clean Air Act ("CAA") and comparable state and local requirements. Certain provisions of CAA may result in the gradual imposition of certain pollution control requirements with respect to air emissions from the operations of the Company. The EPA and states have been developing regulations to implement these requirements. The Company may be required to incur certain capital expenditures in the next several years for air pollution control equipment in connection with maintaining or obtaining operating permits and approvals addressing other air emission-related issues. However, the Company does not believe its operations will be materially adversely affected by any such requirements. Federal regulations require certain owners or operators of facilities that store or otherwise handle oil, such as the Company, to prepare and implement spill prevention, control, countermeasure and response plans relating to the possible discharge of oil into surface waters. The Oil Pollution Act of 1990 ("OPA") contains numerous requirements relating to the prevention of and response to oil spills into waters of the United States. The OPA subjects owners of facilities to strict joint and several liability for all containment and cleanup costs and certain other damages arising from a spill, including but not limited to, the costs of responding to a release of oil to surface waters. Regulations are currently being developed under the OPA and state laws concerning oil pollution prevention and other matters that may impose additional regulatory burdens on the Company. The Resource Conservation and Recovery Act ("RCRA") is the principal federal statute governing the treatment, storage and disposal of hazardous wastes. RCRA imposes stringent operating requirements (and liability for failure to meet such requirements) on a person who is either a "generator" or "transporter" of hazardous waste or an "owner" or "operator" of a hazardous waste treatment, storage or disposal facility. At present, RCRA includes a statutory exemption that allows most crude oil and natural gas exploration and production wastes to be classified as nonhazardous waste. A similar exemption is contained in many of the state counterparts to RCRA. At various times in the past, proposals have been made to amend RCRA and various state statutes to rescind the exemption that excludes crude oil and natural gas exploration and production wastes from regulation as hazardous waste under such statutes. Repeal or modification of this exemption by administrative, legislative or judicial process, or through changes in applicable state statutes, would increase the volume of hazardous waste to be managed and disposed of by the Company. Hazardous wastes are subject to more rigorous and costly disposal requirements than are non-hazardous wastes. Any such change in the applicable statues may require the Company to make additional capital expenditures or incur increased operating expenses. Some states have enacted statutes governing the handling, treatment, storage and disposal of naturally occurring radioactive material ("NORM"). NORM is present in varying concentrations in subsurface and hydrocarbon reservoirs around the world and may be concentrated in scale, film and sludge in equipment that 54 58 comes in contact with crude oil and natural gas production and processing streams. Mississippi legislation prohibits the transfer of property for residential or other unrestricted use if the property contains NORM above prescribed levels. The Company also is subject to a variety of federal, state and local permitting and registration requirements relating to the protection of the environment. Management believes that the Company is in substantial compliance with current applicable environmental laws and regulations and that continued compliance with existing requirements will not have a material adverse impact on the Company. See "Risk Factors -- Governmental and Environmental Regulation." TAXATION Since all of the Company's oil and natural gas operations are located in the United States, the Company's primary tax concerns relate to U.S. tax laws, rather than Canadian tax laws. Certain provisions of the United States Internal Revenue Code of 1986, as amended, are applicable to the petroleum industry. Current law permits the Company to deduct currently, rather than capitalize, intangible drilling and development costs ("IDC") incurred or borne by it. The Company, as an independent producer, is also entitled to a deduction for percentage depletion with respect to the first 1,000 barrels per day of domestic crude oil (and/or equivalent units of domestic natural gas) produced by the Company (if such percentage of depletion exceeds cost depletion). Generally, this deduction is 15% of gross income from an oil and natural gas property, without reference to the taxpayer's basis in the property. Percentage depletion can not exceed the taxable income from any property (computed without allowance for depletion), and is limited in the aggregate to 65% of the Company's taxable income. Any depletion disallowed under the 65% limitation, however, may be carried over indefinitely. For additional tax disclosures, see Note 4 of the Consolidated Financial Statements. 55 59 MANAGEMENT The names of the directors and officers of the Company, their ages, the offices held by them with the Company and the periods during which such offices have been held are set forth below. Each officer and director holds office for one year or until his death, resignation or removal or until his successor is duly elected and qualified. The officers set forth below hold the same position in both DRI and DMI unless otherwise noted.
NAME AGE POSITION(S) ---- --- ----------- Ronald G. Greene(a)(b)(c)(d)................ 48 Chairman of the Board of DRI Wilmot L. Matthews(a)....................... 61 Director of DRI William S. Price, III(b)(c)(d).............. 40 Director of DRI David M. Stanton............................ 34 Director of DRI Wieland F. Wettstein(a)..................... 47 Director of DRI David Bonderman............................. 54 Director of DRI Gareth Roberts.............................. 44 President, Chief Executive Officer and Director of DRI and DMI Matthew Deso................................ 43 Vice President, Exploration and Director of DMI Phil Rykhoek................................ 41 Chief Financial Officer and Secretary and Director of DMI Mark A. Worthey............................. 40 Vice President, Operations and Director of DMI Bobby J. Bishop............................. 37 Controller and Chief Accounting Officer Ron Gramling................................ 52 President of DMI marketing subsidiary Lynda Perrard............................... 54 Vice President, Land of DMI
- --------------- (a) Member of the Audit Committee. (b) Member of the Compensation Committee. (c) Member of the Stock Option Plan Committee. (d) Member of the Stock Purchase Plan Committee. Ronald G. Greene is the Chairman of the Board, and has been a director of the Company since 1995. Mr. Greene is the founder and Chairman of the Board of Renaissance Energy Ltd. and was Chief Executive Officer of Renaissance from its inception in 1974 until May 1990. He is also the sole shareholder, officer and director of Tortuga Investment Corp., a private investment company. Mr. Greene also serves on the Board of Directors of a private Western Canadian airline. Wilmot L. Matthews was first elected as director of the Company on December 9, 1997. Mr. Matthews, a Chartered Accountant, has been involved in all aspects of investment banking by serving in various positions with Nesbitt Burns Inc. and its predecessor companies from 1964 until his retirement in September 1996, most recently as Vice Chairman and Director. Mr. Matthews is currently President of Marjad Inc., a personal investment company, and also serves on the Board of Directors of Renaissance Energy Ltd. and several private companies. William S. Price, III has been a director of the Company since 1995. Mr. Price is a co-founder and principal of TPG. Prior to forming TPG in 1992, Mr. Price was vice-president of strategic planning and business development for G.E. Capital, and from 1985 to 1991 was employed by the management consulting firm of Bain & Company, attaining officer status and acting as co-head of the Financial Services practice. Mr. Price is Chairman of the Board of Favorite Brands International, Inc. and Co-Chairman of the Board of Beringer Wine Estates. Mr. Price also serves on the Board of Directors of Continental Airlines, Inc., Continental Micronesia, Inc., Vivra Specialty Partners Inc. and Belden & Blake Corporation. 56 60 David M. Stanton has been a director of the Company since 1995. Mr. Stanton is a managing director of TPG. From 1991 until he joined TPG in 1994, Mr. Stanton was a venture capitalist with Trinity Ventures where he specialized in information technology, software and telecommunications investments. Mr. Stanton also serves on the Board of Directors of TPG Communications, Inc., Paradyne Partners, L.P. and Belden & Blake Corporation. Wieland F. Wettstein has been a director of the Company since 1990. Mr. Wettstein is the Executive Vice President of, and indirectly controls 50% of, Finex Financial Corporation Ltd., a merchant banking company in Calgary, Alberta, a position he has held for more than five years. Mr. Wettstein serves on the Board of Directors of a public oil and natural gas company, BXL Energy, and on the Board of Directors of a private technology firm. David Bonderman has been a director of the Company since 1996. Mr. Bonderman is a co-founder and principal of TPG. Prior to forming TPG in 1992, Mr. Bonderman was the Chief Operating Officer of the Robert M. Bass Group, Inc. (now doing business as Keystone, Inc.), joining them in 1983. Keystone, Inc. is the personal investment vehicle of Fort Worth, Texas-based investor Robert M. Bass. Mr. Bonderman serves on the boards of Continental Airlines; Inc.; National Education Corporation; Carr Realty Corporation; Bell & Howell Company; Ryanair, Limited; Virgin Cinemas, Limited; Ducati Motors S.P.A.; and Washington Mutual, Inc. Gareth Roberts -- President, Chief Executive Officer and a Director, is the founder of DMI, which was founded in April 1990. Mr. Roberts has more than 20 years of experience in the exploration and development of oil and natural gas properties with Texaco, Inc., Murphy Oil Corporation and Coho Resources, Inc. His expertise is particularly focused in the Gulf Coast region where he specializes in the acquisition and development of old fields with low productivity. Mr. Roberts holds honors and masters degrees in Geology and Geophysics from St. Edmund Hall, Oxford University. Mr. Roberts also serves on the Board of Directors of Belden & Blake Corporation. Matthew Deso -- Vice President, Exploration, has been with the Company since October 1990, first as a consultant then, when he moved to Dallas in January 1994, as Vice President of Exploration, his current position. Mr. Deso has twenty years of petroleum geology experience, and received a Bachelor of Science in Geosciences from the University of Texas in 1976. Mr. Deso also worked for Enserch Exploration (three years), Terra Resources (three years) and TXO Production Corp. (eight years) in positions of varying responsibility. Phil Rykhoek -- Chief Financial Officer, a Certified Public Accountant, joined the Company and was appointed to the position of Chief Financial Officer and Secretary in June 1995. Prior to joining the Company, Mr. Rykhoek was Executive Vice President and co-founder of Petroleum Financial, Inc., a private company formed in May 1991 to provide oil and natural gas accounting services on a contract basis to other entities. From 1982 to 1991 (except for 1986), Mr. Rykhoek was employed by Amerac Energy Corporation (formerly Wolverine Exploration Company), most recently as Vice President and Chief Accounting Officer. He retained his officer status during his tenure at Petroleum Financial, Inc. Mark A. Worthey -- Vice President, Operations, is a geologist and is responsible for all aspects of operations in the field. He joined the Company in September 1992. Previously, he was with Coho Resources, Inc. as an exploitation manager, beginning his employment there in 1985. Mr. Worthey graduated from Mississippi State University with a Bachelor of Science degree in petroleum geology in 1984. Bobby J. Bishop -- Controller and Chief Accounting Officer, a Certified Public Accountant, joined the Company as Controller in August 1993 and was appointed to the position of Chief Accounting Officer in December, 1997. Prior to joining the Company, Mr. Bishop was the Chief Financial Officer for Arcadia Exploration and Production Company, a private company. He also worked for Lake Ronel Oil Company and TXO Production Corp. Mr. Bishop graduated from the University of Oklahoma with a Bachelor of Business Administration in Accounting in 1983. Ron Gramling -- President of DRI's marketing subsidiary, joined the Company in May 1996 when the Company purchased the subsidiary's assets. Prior to becoming affiliated with the Company, he was employed 57 61 by Hadson Gas Systems as Vice President of term supply. Mr. Gramling has 27 years of marketing, transportation and supply experience in the natural gas and crude oil industry. He received his Bachelor of Business Administration degree from Central State University, Edmond, Oklahoma in 1970. Lynda Perrard -- Vice President, Land of DMI, joined the Company in April 1994. Ms. Perrard has over 30 years of experience in the oil and gas industry as a petroleum landman. Prior to joining the Company, Ms. Perrard was the President and Chief Executive Officer of Perrard Snyder, Inc., a corporation performing contract land services. Ms. Perrard also served as Vice President, Land for Snyder Exploration Company from 1986 to 1991. As part of the Securities Purchase Agreement that governed the TPG's initial investment in the Company, TPG has the right to designate three of seven nominees to serve on the Board of Directors of the Company. It was also intended by the parties to the agreement that Mr. Ronald G. Greene would be nominated to serve as one of the seven directors and that the remaining three directors would be nominated by the Company. TPG will forfeit its right to designate one of the directors that it would otherwise be entitled to designate if at any time TPG owns securities of the Company representing less than 30% of the outstanding Common Shares, calculated on a fully-diluted basis. TPG shall forfeit its right to designate any director if at any time TPG's share holdings represent less than 20% of the outstanding Common Shares, calculated on a fully-diluted basis. Currently, Messrs. Stanton, Bonderman and Price are the directors of the Company nominated by TPG. 58 62 PRINCIPAL SHAREHOLDERS The following table sets forth information, as of December 15, 1997, concerning beneficial ownership of the Common Shares before and after giving effect to the Transactions for: (i) any shareholders known to the Company to beneficially own more than 5% of the issued and outstanding Common Shares; and (ii) all executive officers and directors individually and as a group. Except as otherwise indicated and except for those Common Shares that are listed as being beneficially owned by more than one shareholder, each shareholder identified in the table has sole voting and investment power with respect to their Common Shares.
BENEFICIAL OWNERSHIP BENEFICIAL OWNERSHIP AS OF AFTER THE DECEMBER 15, 1997 TRANSACTIONS -------------------------- ------------ NAME AND ADDRESS OF BENEFICIAL OWNER SHARES PERCENT PERCENT ------------------------------------ ------------ --------- ------------ Ronald G. Greene................................. 900,900(a) 4.4%(a) Suite 700, 407 -- 2nd Street Calgary, Alberta T2P 2Y3 David Bonderman.................................. 8,658,038(b) 41.2%(b) 201 Main Street, Suite 2420 Ft. Worth, TX 76102 Wilmot L. Matthews............................... 156,450(c) * 1 First Canadian Place, Suite 5101 Toronto, ON M5X 1E3 William S. Price, III............................ 8,411,038(d) 40.0%(d) 600 California Street, Suite 1850 San Francisco, CA 94108 David M. Stanton................................. 2,000(e) * Wieland F. Wettstein............................. 83,389(f) * Gareth Roberts................................... 497,706(g) 2.4%(g) Phil Rykhoek..................................... 4,087(h) * Mark A. Worthey.................................. 78,666(h) * Matthew Deso..................................... 25,466(h) * Bobby J. Bishop.................................. 2,212 * All of the executive officers and directors as a group (11 persons)............................. 10,411,914(i) 49.4%(i) TPG Advisors, Inc................................ 8,408,038(j) 40.0%(j) 201 Main Street, Suite 2420 Ft. Worth, TX 76102
- --------------- * Less than 1%. (a) Includes 30,150 Common Shares held by Mr. Greene's spouse in her retirement plan, 900 shares held in trust for Mr. Greene's minor children and 520,833 Common Shares held by Tortuga Investment Corp., which is solely owned by Mr. Greene. (b) Includes 250,000 Common Shares in a family partnership 100% controlled by Mr. Bonderman and 625,000 Common Share purchase warrants held by TPG which, for purposes of this disclosure, are assumed to be exercised. Mr. Bonderman is a director, executive officer and shareholder of TPG Advisors, Inc., which is the general partner of TPG GenPar, L.P., which in turn is the general partner of both TPG Partners, L.P., and TPG Parallel I, L.P., which are the direct beneficial owners of the remaining securities attributed to Mr. Bonderman. Mr. Bonderman's beneficial ownership after the Transactions includes the Common Shares purchased by TPG in the TPG Purchase. (c) Includes 52,500 Common Shares held by a subsidiary of Marjad Inc., which is wholly owned by Mr. Matthews, 2,450 Common Shares held in various trusts of which Mr. Matthews is a trustee and an 59 63 income beneficiary and 1,500 Common Shares as to which Mr. Matthews holds a power of attorney but no beneficial interest. (d) Includes 1,000 Common Shares held by Mr. Price and 2,000 Common Shares held by Mr. Price's spouse and 625,000 Common Share purchase warrants held by TPG which, for purposes of this disclosure, are assumed to be exercised. Mr. Price is a director, executive officer and shareholder of TPG Advisors, Inc., which is the general partner of TPG GenPar, L.P., which in turn is the general partner of both TPG Partners, L.P., and TPG Parallel I, L.P., which are the direct beneficial owners of the remaining securities attributed to Mr. Price. Mr. Price's beneficial ownership after the Transactions includes the Common Shares purchased by TPG in the TPG Purchase. (e) Although Mr. Stanton is not considered to be a "beneficial owner" as that term is defined by the Commission, Mr. Stanton is a managing director of TPG. (f) Includes 76,439 Common Shares held by S.P. Hunt Holdings Ltd., which is solely owned by a trust of which Mr. Wettstein is a trustee. (g) Includes 138,330 Common Shares held by Ashley Petroleum, Inc., which is solely owned by Mr. Roberts, and 2,110 Common Shares held by his wife. (h) Includes 1,875, 73,250 and 17,500 Common Shares which Mr. Rykhoek, Mr. Worthey and Mr. Deso, respectively, have the right to acquire pursuant to stock options which are currently vested or which vest within 60 days of December 22, 1997. (i) Includes 92,625 Common Shares which the officers and directors as a group have the right to acquire pursuant to stock options which are currently vested or which vest within 60 days of December 22, 1997 and 625,000 Common Share purchase warrants held by TPG which, for purposes of this disclosure, are assumed to be exercised. Beneficial ownership does include the Common Shares held by affiliates of TPG, although Mr. Price and Mr. Bonderman, who are directors of the Company, are not the owners of record of these securities. Mr. Price and Mr. Bonderman are directors, executive officers and shareholders of TPG Advisors, Inc., which is the general partner of TPG GenPar, L.P., which in turn is the general partner of both TPG Partners, L.P. and TPG Parallel I, L.P., which are the direct beneficial owners of these securities. The beneficial ownership after the Transactions of the directors and executive officers as a group includes the Common Shares purchased by TPG in the TPG Purchase. (j) Includes 625,000 Common Share purchase warrants held by TPG which, for purposes of this disclosure, are assumed to be exercised. 60 64 INTERESTS OF MANAGEMENT IN CERTAIN TRANSACTIONS Other than as described in the paragraphs that follow, there are no material interests, direct or indirect, of any director, officer or any shareholder of the Company who beneficially owns, directly or indirectly, or exercises control or direction over more than 5% of the outstanding Common Shares, or any known family member, associate or affiliate of such persons, participating in any transaction within the last three years or in any proposed transaction that has materially affected or would materially affect the Company, or any of its subsidiaries. The Company believes that the terms of the transactions described below were as favorable to the Company as terms that reasonably could have been obtained from non-affiliated third parties. TPG INVESTMENTS In December 1995, the Company closed a $40.0 million private placement of securities with partnerships that are affiliated with TPG (the "TPG Placement"). The TPG Placement was comprised of: (i) 4.2 million Common Shares issued at $5.85 per share; (ii) 625,000 warrants at a price of $1.00 per warrant, entitling the holders thereof to purchase 625,000 Common Shares at $7.40 per share; and (iii) 1.5 million shares of $10 stated value Convertible First Preferred Shares, Series A ("Convertible Preferred"). The shareholders of the Company at a Special Meeting on October 9, 1996 approved a resolution to amend the terms of the Convertible Preferred to allow the Company to require a conversion of the Convertible Preferred at any time. All of the Convertible Preferred shares were converted into 2,816,372 Common Shares on October 30, 1996. As per the terms of the warrants, the Company is allowed to force conversion of the warrants after December 21, 1997 if the price of the Common Shares exceeds $10.00 per share for a period of 40 consecutive trading days. As of December 15, 1997, TPG is the beneficial owner of 7,783,038 Common Shares, which represents 38% of the outstanding Common Shares (40% after the pro forma exercise of the warrants). In connection with the TPG Placement, TPG received the right to nominate three of the directors of the Company out of a maximum of seven. Of the current directors, Messrs. Bonderman, Price and Stanton were nominated by TPG. See "Management." In addition, until December 21, 1997, TPG had certain "piggyback" registration rights which allowed TPG to include all or part of the Common Shares acquired by TPG in any registration statement of the Company during that period. Commencing December 21, 1997 and until December 21, 2000, TPG may request and receive one demand registration whereby TPG may make a written request to the Company for registration under the Securities Act of the Common Shares acquired by TPG. Finally, the agreement provides that TPG shall have the right, but not the obligation, to maintain its pro rata ownership interest in the equity securities of the Company, in the event that the Company issues any additional equity securities or securities convertible into Common Shares of the Company, by purchasing additional shares of the Company on the same terms and conditions. This right, however, expires should TPG's share holdings represent less than 20% of the outstanding Common Shares calculated on a fully-diluted basis. At the request of the NYSE, the Company has agreed to make the extension of this right subject to shareholder ratification every five years with the first vote on the matter expected to be at the annual meeting in the year 2000. TPG waived its right to maintain its pro rata ownership with regard to the public offering by the Company in October 1996, but did purchase 800,000 Common Shares included in the offering directly from the Company. These Common Shares were sold for 93.5% of the public offering price, or the same net price that the remainder of the shares included in the offering were being sold to the underwriters. TPG has waived its right to maintain its pro rata ownership with regard to the Equity Offering but is planning on purchasing shares in the TPG Purchase at % of the public offering price, or the same net price that the remainder of the shares included in the Equity Offering are being sold to the Underwriters. As of December 31, 1997, after giving pro forma effect to the Transactions, TPG will be the beneficial owner of Common Shares, which represents % of the outstanding Common Shares. In 1995, the Company issued 333,333 Common Shares to Tortuga Investment Corp. as a financial advisory fee for its services in connection with the TPG Placement. Tortuga Investment Corp. is a corporation wholly-owned by Mr. Ronald Greene, currently Chairman of the Board of Directors of the Company. Mr. Greene was not a director of the Company, nor had he held any director or officer position with the Company, prior to the time of the issuance of such Common Shares. 61 65 MODIFICATION OF DEBENTURES In addition to modifying the terms of the Convertible Preferred at the special meeting of the shareholders on October 9, 1996, the shareholders approved the issuance of 7,948 Common Shares in lieu of interest, plus an additional 308,642 Common Shares to redeem the principal amount the outstanding 9.5% Convertible Debentures (the "Debentures") in accordance with their existing terms. Mr. Ronald G. Greene, Chairman of the Board of Directors, owned 80% of the Debentures, which were purchased by him at market value prior to his election to the Board of Directors. These Debentures were redeemed on October 15, 1996. Mr. Greene also purchased C $1,500,000 of 6 3/4% Convertible Debentures at market value prior to his election to the Board of Directors that were converted into 187,500 Common Shares on July 31, 1996 in accordance with the terms of the 6 3/4% Convertible Debentures. PURCHASE OF WORKING INTERESTS In May 1996, the Company purchased oil and natural gas working interests from four employees for an aggregate consideration of $387,000, which included $158,000 paid to Mr. Matthew Deso, Vice President of Exploration of the Company, $133,000 paid to Mr. Mark Worthey, Vice President of Operations of the Company and $26,000 paid to the spouse of Mr. Gareth Roberts, President and Chief Executive Officer of the Company. The purchase prices were determined by the Company based on the present value of the estimated future net revenue to be generated from the estimated proved reserves of the properties (based on the prior year's report thereon from Netherland & Sewell) using a 15% discount rate. The acquisitions were for additional working interests in properties in which the Company also holds an interest. To the best of the Company's knowledge, none of the Company's officers or directors have any remaining interests in properties owned by the Company. [E] DESCRIPTION OF CAPITAL STOCK GENERAL The authorized share capital of DRI consists of an unlimited number of Common Shares, of which were issued and outstanding as of December 31, 1997, and two classes of preferred shares, unlimited in number and issuable in series, none of which is outstanding. In addition to the issued and outstanding Common Shares, options to purchase Common Shares and 75,000 warrants are outstanding. There are no limitations imposed by Canadian legislation or regulations or by the Articles of Continuance or Bylaws of DRI on the right of holders of either the Common Shares or the Common Share Purchase Warrants who are not residents of Canada to hold or vote the Common Shares or to hold the Common Share Purchase Warrants. COMMON SHARES The holders of the Common Shares are entitled: (i) to one vote for each Common Share held at all meetings of shareholders of DRI, other than meetings of the holders of any other class of shares meeting as a class or the holders of one or more series of any class of shares meeting as a series; (ii) to any dividends that may be declared by the Board of Directors thereon; and (iii) in the event of liquidation, dissolution or winding-up of DRI, are entitled, subject to the rights of the holders of shares ranking prior to the Common Shares, to share rateably in such assets of DRI as are available for distribution. The holders of Common Shares have no pre-emptive rights under Canadian law or the Articles of Continuance. At December 31, 1997, 75,000 warrants were outstanding at an exercise price of C $8.40 expiring on May 5, 2000. Each warrant entitles the holder thereof to purchase one Common Share at any time prior to the expiration date. DRI is also required to maintain a continuously effective registration statement for a two-year period relating to the resale of 705,643 Common Shares, including 150,000 Common Shares issuable upon the 62 66 exercise of warrants, which were issued in two private placements in April and May 1995. An effective registration statement relating to this requirement is currently on file with the Commission. DRI has granted TPG certain demand registration rights and preemptive rights in connection with the TPG Placement. For a description of these rights, see "Interests of Management in Certain Transactions." TPG has waived its rights to maintain its pro rata ownership in connection with the Equity Offering although they intend to buy Common Shares concurrently with the Equity Offering directly from the Company. These Common Shares will be sold to TPG for 95.25% of the public offering price, the same net price at which the remainder of the Common Shares included in the Equity Offering are being sold to the Underwriters. PREFERRED SHARES DRI Articles of Continuance authorize the future issuance of First Preferred Shares and Second Preferred Shares (collectively, the "Preferred Shares"), with such designations, rights, privileges, restrictions and conditions as may be determined from time to time by the Board of Directors. Accordingly, the Board of Directors is empowered, without shareholder approval, to issue Preferred Shares with dividend, liquidation, conversion, voting or other rights that could adversely affect the voting power or other rights of holders of DRI's Common Shares. In the event of issuance, the Preferred Shares could be utilized, under certain circumstances, as a method of discouraging, delaying or preventing a change in control of the Company. Such actions could have the effect of discouraging bids for DRI and, thereby, preventing shareholders from receiving the maximum value for their shares. Although the Company has no present intention to issue any additional Preferred Shares, there can be no assurance that the Company will not do so in the future. There are no Preferred Shares currently outstanding. DESCRIPTION OF CERTAIN INDEBTEDNESS CREDIT FACILITY The Company is currently in the process of revising and restating its Credit Facility pursuant to an agreement (the "Credit Agreement") under which DMI is the borrower from NationsBank of Texas, N.A., as administrative agent for a syndicate of lenders. The following is a summary of certain terms of the Credit Facility and is qualified in its entirety by reference to the Credit Agreement and the various related documents to be entered into in connection with the Credit Facility. The total commitment under the Credit Facility will be $300 million, subject to borrowing base availability. The initial borrowing base under the Credit Facility will be $260 million, $85 million of which consists of an interim acquisition financing commitment (the "Acquisition Tranche"). The initial borrowing base of $260 million will be reduced simultaneously with the issuance by the Company of any debt or equity securities by an amount equal to the net proceeds from the issuance of such securities, until such time as the borrowing base is reduced to the conforming borrowing base of $175 million. Borrowings under the Acquisition Tranche in excess of this borrowing base are subject to review semi-annually and the interest rate on the Credit Facility will escalate 0.25% each quarter, commencing March 31, 1998, until such excess is repaid. In addition, the conforming borrowing base is subject to redetermination semi-annually, at the sole discretion of the lenders, based upon engineering and other due diligence conducted by the lenders, and in accordance with customary practices and standards in effect from time to time for oil and natural gas loans similar to the Credit Facility. The borrowing base may be affected from time to time by the performance of the Company's oil and natural gas properties and changes in oil and natural gas prices. The Company incurs a commitment fee of up to 0.45% per year on the unused portion of the borrowing base. Borrowings under the Credit Facility are payable in full on , 2002 and bear interest at the option of the Company at the bank's prime rate or, depending on the percentage of the borrowing base that is outstanding, at rates ranging from LIBOR plus 7/8% to LIBOR plus 1 3/8% (LIBOR plus 1 5/8% as long as the Acquisition Tranche is outstanding). As of December 31, 1997, after giving effect to the Transactions, the Company would have had a borrowing base of $ million, of which $ million was available. 63 67 The obligations of DMI as borrower under the Credit Facility will be fully and unconditionally guaranteed by DRI, DMI's direct corporate parent. In addition, the Credit Facility will be secured by first priority security interests in certain oil and natural gas properties which secured the Company's prior credit facility entered into on May 31, 1996 (excluding the properties acquired in the Chevron Acquisition) and a pledge of all of the stock of DMI; provided, however, that if the borrowings outstanding under the Credit Facility exceed the borrowing base after redetermination on , 1998, the Credit Facility will be secured by substantially all of the Company's oil and natural gas properties (including those acquired in the Chevron Acquisition). The Credit Facility contains certain covenants which, among other things, restrict the Company's ability to pay dividends and other restricted payments, incur additional indebtedness, create liens, enter into leases and investments (including hedging investments), engage in mergers and consolidations or engage in certain transactions with affiliates. In addition, the Company will be required to comply with certain financial ratios and tests, including a minimum tangible net worth test, a current ratio coverage test and an EBITDA to interest ratio test. [E] SENIOR SUBORDINATED NOTES Concurrently with the Equity Offering DMI is offering up to $100 million aggregate principal amount of its % Senior Subordinated Notes Due 2008 pursuant to the Debt Offering. The following is a summary of certain terms of the Notes and is qualified in its entirely by reference to the "Description of the Notes" herein and to the Indenture (the "Indenture") relating to the Notes. A copy of the proposed form of Indenture has been filed with the Registration Statement of which this Prospectus forms a part. The Notes will be unsecured senior subordinated obligations of DMI, and will rank pari passu in right of payment with all existing and future senior subordinated indebtedness of DMI and will be subordinated to future senior indebtedness of the Company. The Notes mature on , 2008. The Notes will bear interest at the rate of % per annum and will be payable semi-annually, commencing on . The Notes will be fully and unconditionally guaranteed on a senior subordinated basis by DRI. The indebtedness represented by the Guaranty will be unsecured senior subordinated obligations of DRI, and will rank pari passu in right of payment with all existing and future senior subordinated indebtedness of DRI. Except as stated below, the Notes will not be redeemable prior to , 2003. Thereafter, the Notes will be redeemable at the option of DMI, in whole or in part, at any time or from time to time, at a premium which will be at a fixed percentage that declines to par on or after , 2005, in each case together with accrued and unpaid interest, if any, to the date of redemption. In the event DRI consummates a Stock Offering prior to , 2001, DMI may, at its option, use all or a portion of the proceeds from such offering to redeem up to 35% of the original aggregate principal amount of the Notes at a redemption price equal to % of the aggregate principal amount of the Notes to be redeemed, plus accrued and unpaid interest, if any, thereon to the redemption date, provided at least $ million aggregate principal amount of the Notes remains outstanding after such redemption. Upon the occurrence of a Change of Control (as defined in the Indenture), each holder of Notes will have the right to require the Company to purchase all or a portion of such holder's Notes at a price equal to 101% of the aggregate principal amount thereof, together with accrued and unpaid interest to the date of purchase. The Indenture will contain certain covenants, including covenants that limit (i) indebtedness, (ii) restricted payments, (iii) distributions from restricted subsidiaries, (iv) transactions with affiliates, (v) sales of assets and subsidiary stock (including sale and leaseback transactions), (vi) dividend and other payment restrictions affecting restricted subsidiaries and (vii) mergers or consolidations. 64 68 [D] DESCRIPTION OF THE NOTES As used in this section, the term "Company" shall mean DMI, the issuer of the Notes. GENERAL The Notes are to be issued under an Indenture, to be dated as of , 1998 (the "Indenture"), between the Company and , as Trustee (the "Trustee"). A copy of the form of Indenture will be filed as an exhibit to the Registration Statement of which this Prospectus is a part. The following summary of certain provisions of the Indenture does not purport to be complete and is subject to, and is qualified in its entirety by reference to, the Indenture and the Notes, including the definitions of certain terms therein and those terms made a part of the Indenture by the Trust Indenture Act of 1939, as amended. TERMS OF THE NOTES The Notes will be unsecured senior subordinated obligations of the Company, initially limited to $100 million aggregate principal amount, and will mature on , 2008. The Notes will bear interest at the rate per annum shown on the cover page hereof from , 1998, or from the most recent date to which interest has been paid or provided for, payable semiannually to Holders of record at the close of business on the or immediately preceding the interest payment date on and of each year, commencing , 1998. Interest on overdue principal and (to the extent permitted by law) on overdue installments of interest will accrue at 1% per annum in excess of such rate. Interest on the Notes will be computed on the basis of a 360-day year of twelve 30-day months. Principal of and interest on the Notes will be payable, and the Notes may be exchanged or transferred, at the office or agency of the Company in the Borough of Manhattan, The City of New York (which initially shall be the corporate trust office of the Trustee, at New York, New York , except that, at the option of the Company, payment of interest may be made by check mailed to the address of the Holders as such address appears in the Note Register. The Notes will be issued only in fully registered form, without coupons, in denominations of $1,000 and any integral multiple of $1,000. No service charge shall be made for any registration of transfer or exchange of Notes, but the Company may require payment of a sum sufficient to cover any transfer tax or other similar governmental charge payable in connection therewith. Subject to the covenants described below under "-- Certain Covenants" and applicable law, the Company may issue additional Notes under the Indenture in an unlimited principal amount. The Notes offered hereby and any additional Notes subsequently issued would be treated as a single class for all purposes under the Indenture. OPTIONAL REDEMPTION Except as set forth in the following paragraph, the Notes will not be redeemable at the option of the Company prior to , 2003. Thereafter, the Notes will be redeemable, at the Company's option, in whole or in part, at any time or from time to time, upon not less than 30 nor more than 60 days' prior notice mailed by first-class mail to each Holder's registered address, at the following redemption prices (expressed in percentages of principal amount), plus accrued interest to the redemption date (subject to the right of Holders of record on the relevant record date to receive interest due on the relevant interest payment date), if redeemed during the 12-month period commencing on of the years set forth below:
REDEMPTION PERIOD PRICE - ------ ---------- 2003.............................................................. % 2004.............................................................. 2005 and thereafter............................................... 100
65 69 In addition, at any time and from time to time prior to , 2001, the Company may redeem in the aggregate up to 35% of the original principal amount of the Notes with the proceeds of one or more Stock Offerings to the extent the net cash proceeds thereof are contributed to the equity capital of the Company and so long as there is a Public Market at the time of such redemption, at a redemption price (expressed as a percentage of principal amount) of % plus accrued interest to the redemption date (subject to the right of Holders of record on the relevant record date to receive interest due on the relevant interest payment date); provided, however, that (i) either at least $ aggregate principal amount of the Notes must remain outstanding after each such redemption or such redemption must retire the Notes in their entirety and (ii) such redemption occurs within 60 days following the closing of such Stock Offering. In the case of any partial redemption, selection of the Notes for redemption will be made by the Trustee on a pro rata basis, by lot or by such other method as the Trustee in its sole discretion shall deem to be fair and appropriate, although no Note of $1,000 in original principal amount or less shall be redeemed in part. If any Note is to be redeemed in part only, the notice of redemption relating to such Note shall state the portion of the principal amount thereof to be redeemed. A new Note in principal amount equal to the unredeemed portion thereof will be issued in the name of the Holder thereof upon cancellation of the original Note. SINKING FUND There will be no sinking fund payments for the Notes. GUARANTY DRI, as primary obligor and not merely as surety, will irrevocably, fully and unconditionally guarantee (the "Guaranty") on a senior subordinated basis the performance and the punctual payment when due, whether at Stated Maturity, by acceleration or otherwise, of all the obligations of the Company under the Indenture and the Notes (all such obligations guaranteed by DRI being herein called the "Guaranteed Obligations." The Guarantor is a holding company that will derive all of its operating income and cash flow from its subsidiaries, including primarily the Company, the common stock of which will be pledged to secure the Guarantor's guarantee of indebtedness of the Company outstanding under the Credit Facility. The Guarantor will agree to pay, in addition to the amount stated above, any and all expenses (including reasonable counsel fees and expenses) incurred by the Trustee and the Holders in enforcing any rights under the Guaranty with respect to the Guarantor. The Guarantor has no material assets other than the common stock of the Company. The Guaranty is a continuing guarantee and shall (a) remain in full force and effect until payment in full of all the Guaranteed Obligations, (b) be binding upon the Guarantor and (c) enure to the benefit of and be enforceable by the Trustee, the Holders and their successors, transferees and assigns. Pursuant to the Indenture, the Guarantor may consolidate with, merge with or into, or transfer all or substantially all its assets to any other Person to the extent described below under "-- Certain Covenants -- Merger and Consolidation"; provided, however, that if such Person is not the Company, the Guarantor's obligations under the Indenture and the Guaranty must be expressly assumed by such other Person. See "-- Certain Covenants -- Merger and Consolidation". RANKING The indebtedness evidenced by the Notes and the Guaranty will be senior unsecured, general obligations of the Company and the Guarantor, as the case may be, subordinated in right of payment, as set forth in the Indenture, to the prior payment of all Senior Indebtedness of the Company or the Guarantor, as the case may be, whether outstanding on the Issue Date or thereafter incurred, including the obligations of the Company under, and the Guarantor's guarantee of the Company's obligations with respect to, the Credit Facility. As of September 30, 1997, after giving pro forma effect to the Transactions, (i) the Senior Indebtedness of the Company would have been approximately $ million, of which $ would have been secured indebtedness and (ii) the Senior Indebtedness of the Guarantor would have been approximately $ mil- 66 70 lion, all of which would have represented its guarantee of Senior Indebtedness of the Company under the Credit Facility. Although the Indenture contains limitations on the amount of additional Indebtedness that the Company may incur, under certain circumstances the amount of such Indebtedness could be substantial and, in any case, such Indebtedness may be Senior Indebtedness. See "-- Certain Covenants -- Limitation on Indebtedness." Only Indebtedness of the Company or the Guarantor that is Senior Indebtedness will rank senior to the Notes and the Guaranty in accordance with the provisions of the Indenture. The Notes and the Guaranty will in all respects rank pari passu with all other Senior Subordinated Indebtedness of the Company and the Guarantor, respectively. The Company and the Guarantor each has agreed in the Indenture that it will not Incur, directly or indirectly, any Indebtedness that is subordinate or junior in ranking in right of payment to its Senior Indebtedness unless such Indebtedness is Senior Subordinated Indebtedness or is expressly subordinated in right of payment to Senior Subordinated Indebtedness. Unsecured Indebtedness is not deemed to be subordinated or junior to Secured Indebtedness merely because it is unsecured. A portion of the operations of the Company are currently conducted through its subsidiaries. Claims of creditors of any such subsidiaries, including trade creditors, secured creditors and creditors holding guarantees issued by such subsidiaries, and claims of preferred stockholders (if any) of such subsidiaries generally will have priority with respect to the assets and earnings of such subsidiaries over the claims of creditors of the Company, including holders of the Notes, even though such obligations would not constitute Senior Indebtedness of the Company. The Notes, therefore, will be effectively subordinated to creditors (including trade creditors) and preferred stockholders (if any) of subsidiaries of the Company. Although the Indenture limits the incurrence of Indebtedness and the issuance of preferred stock of certain of the Company's subsidiaries, such limitation is subject to a number of significant qualifications. Moreover, the Indenture does not impose any limitation on the incurrence by such subsidiaries of liabilities that are not considered Indebtedness under the Indenture. See "-- Certain Covenants -- Limitation on Indebtedness". The Company may not pay principal of, premium (if any) or interest on, the Notes make or any deposit pursuant to the provisions described under "Defeasance" below or may not repurchase, redeem or otherwise retire any Notes (collectively, "pay the Notes") if (i) any Designated Senior Indebtedness of the Company is not paid when due or (ii) any other default on Designated Senior Indebtedness of the Company occurs and the maturity of such Designated Senior Indebtedness is accelerated in accordance with its terms unless, in either case, the default has been cured or waived and any such acceleration has been rescinded or such Designated Senior Indebtedness has been paid in full. However, the Company may pay the Notes without regard to the foregoing if the Company and the Trustee receive written notice approving such payment from the Representative of the Designated Senior Indebtedness with respect to which either of the events set forth in clause (i) or (ii) of the immediately preceding sentence has occurred and is continuing. During the continuance of any default (other than a default described in clause (i) or (ii) of the second preceding sentence) with respect to any Designated Senior Indebtedness of the Company pursuant to which the maturity thereof may be accelerated immediately without further notice (except such notice as may be required to effect such acceleration) or the expiration of any applicable grace periods, the Company may not pay the Notes for a period (a "Payment Blockage Period") commencing upon the receipt by the Trustee (with a copy to the Company) of written notice (a "Blockage Notice") of such default from the Representative of the holders of such Designated Senior Indebtedness specifying an election to effect a Payment Blockage Period and ending 179 days thereafter (or earlier if such Payment Blockage Period is terminated (i) by written notice to the Trustee and the Company from the Person or Persons who gave such Blockage Notice, (ii) because the default giving rise to such Blockage Notice is no longer continuing or (iii) because such Designated Senior Indebtedness has been repaid in full). Notwithstanding the provisions described in the immediately preceding sentence, unless the holders of such Designated Senior Indebtedness or the Representative of such holders have accelerated the maturity of such Designated Senior Indebtedness, the Company must resume payments on the Notes after the end of such Payment Blockage Period. The Notes shall not be subject to more than one Payment Blockage Period in any consecutive 360-day period, irrespective of the number of defaults with respect to Designated Senior Indebtedness of the Company during such period. 67 71 Upon any payment or distribution of the assets of the Company upon a total or partial liquidation or dissolution or reorganization of or similar proceeding relating to the Company or its property, the holders of Senior Indebtedness of the Company will be entitled to receive payment in full of such Senior Indebtedness before the Noteholders are entitled to receive any payment in respect of the Notes, and until such the Senior Indebtedness is paid in full, any payment or distribution to which Noteholders would be entitled from the Company but for the subordination provisions of the Indenture will be made to holders of such Senior Indebtedness the Company as their interests may appear. If a distribution is made to Noteholders that, due to the subordination provisions, should not have been made to them, such Noteholders are required to hold it in trust for the holders of Senior Indebtedness of the Company and pay it over to them as their interests may appear. If payment of the Notes is accelerated because of an Event of Default, the Company or the Trustee shall promptly notify the holders of Designated Senior Indebtedness of the Company or the Representative of such holders of the acceleration. The obligations of the Guarantor under its Guaranty are unsecured senior subordinated obligations. As such, the rights of Noteholders to receive payment by the Guarantor pursuant to the Guaranty will be subordinated in right of payment to the rights of holders of Senior Indebtedness of the Guarantor. The terms of the subordination provisions described above with respect to the Company's obligations under the Notes apply equally to the Guarantor and the obligations of the Guarantor under the Guaranty. By reason of the subordination provisions contained in the Indenture, in the event of insolvency, creditors of the Company or the Guarantor who are holders of Senior Indebtedness of the Company or the Guarantor, as the case may be, may recover more, ratably, than the Noteholders, and creditors of the Company or the Guarantor who are not holders of Senior Indebtedness of the Company or the Guarantor may recover less, ratably, than holders of Senior Indebtedness of the Company, or the Guarantor, as the case may be, and may recover more, ratably, than the Noteholders. Notwithstanding the foregoing, payment from the money or the proceeds of U.S. Government Obligations held in any defeasance trust described under "-- Defeasance" below will not be contractually subordinated in right of payment to any Senior Indebtedness of the Company or subject to the restrictions described herein. CERTAIN DEFINITIONS "Additional Assets" means (i) any property or assets (other than Indebtedness and Capital Stock) in the Oil and Gas Business; (ii) the Capital Stock of a Person that becomes a Restricted Subsidiary as a result of the acquisition of such Capital Stock by the Company or another Restricted Subsidiary; or (iii) Capital Stock constituting a minority interest in any Person that at such time is a Restricted Subsidiary; provided, however, that any such Restricted Subsidiary described in clauses (ii) or (iii) above is primarily engaged in the Oil and Gas Business. "Adjusted Consolidated Assets" means at any time the total amount of assets of the Company and its Restricted Subsidiaries (less applicable depreciation, amortization and other valuation reserves), after deducting therefrom all current liabilities of the Company and its Restricted Subsidiaries (excluding intercompany items), all as set forth on the consolidated balance sheet of the Company and its Restricted Subsidiaries as of the end of the most recent fiscal quarter ended at least 45 days prior to the date of determination. "Adjusted Consolidated Net Tangible Assets" or "ACNTA" means (without duplication), as of the date of determination, (a) the sum of (i) discounted future net revenue from proved crude oil and natural gas reserves of the Company and its Restricted Subsidiaries calculated in accordance with SEC guidelines before any state or federal income taxes, as estimated in a reserve report prepared as of the end of the Company's most recently completed fiscal year, which reserve report is prepared or reviewed by independent petroleum engineers, as increased by, as of the date of determination, the discounted future net revenue of (A) estimated proved crude oil and natural gas reserves of the Company and its Restricted Subsidiaries attributable to 68 72 acquisitions consummated since the date of such year-end reserve report, and (B) estimated crude oil and natural gas reserves of the Company and its Restricted Subsidiaries attributable to extensions, discoveries and other additions and upward determinations of estimates of proved crude oil and natural gas reserves due to exploration, development or exploitation, production or other activities which reserves were not reflected in such year-end reserve report which would, in the case of determinations made pursuant to clauses (A) and (B), in accordance with standard industry practice, result in such determinations, in each case calculated in accordance with SEC guidelines (utilizing the prices utilized in such year-end reserve report), and decreased by, as of the date of determination, the discounted future net revenue attributable to (C) estimated proved crude oil and natural gas reserves of the Company and its Restricted Subsidiaries reflected in such year-end reserve report produced or disposed of since the date of such year-end reserve report and (D) reductions in the estimated oil and gas reserves of the Company and its Restricted Subsidiaries reflected in such year-end reserve report since the date of such year-end reserve report attributable to downward determinations of estimates of proved crude oil and natural gas reserves due to exploration, development or exploitation, production or other activities conducted or otherwise occurring since the date of such yearend reserve report which would, in the case of determinations made pursuant to clauses (C) and (D), in accordance with standard industry practice, result in such determinations, in each case calculated in accordance with SEC guidelines (utilizing the prices utilized in such year-end reserve report); provided, however, that, in the case of each of the determinations made pursuant to clauses (A) through (D), such increases and decreases shall be as estimated by the Company's engineers, except that if as a result of such acquisitions, dispositions, discoveries, extensions or revisions, there is a Material Change which is an increase, then such increases and decreases in the discounted future net revenue shall be confirmed in writing by an independent petroleum engineer, (ii) the capitalized costs that are attributable to crude oil and natural gas properties of the Company and its Restricted Subsidiaries to which no proved crude oil and natural gas reserves are attributed, based on the Company's books and records as of a date no earlier than the date of the Company's latest annual or quarterly financial statements, (iii) the Net Working Capital on a date no earlier than the date of the Company's latest annual or quarterly financial statements and (iv) the greater of (I) the net book value on a date no earlier than the date of the Company's latest annual or quarterly financial statements and (II) the appraised value, as estimated by independent appraisers, of other tangible assets of the Company and its Restricted Subsidiaries as of a date no earlier than the date of the Company's latest audited financial statements (provided that the Company shall not be required to obtain such an appraisal of such assets if no such appraisal has been performed), minus (b) to the extent not otherwise taken into account in the immediately preceding clause (a), the sum of (i) minority interests, (ii) any natural gas balancing liabilities of the Company and its Restricted Subsidiaries reflected in the Company's latest audited financial statements, (iii) the discounted future net revenue, calculated in accordance with SEC guidelines (utilizing the same prices utilized in the Company's year-end reserve report), attributable to reserves subject to participation interests, overriding royalty interests or other interests of third parties, pursuant to participation, partnership, vendor financing or other agreements then in effect, or which otherwise are required to be delivered to third parties, (iv) the discounted future net revenues, calculated in accordance with SEC guidelines (utilizing the same prices utilized in the Company's year-end reserve report), attributable to reserves that are required to be delivered to third parties to fully satisfy the obligations of the Company and its Restricted Subsidiaries with respect to Volumetric Production Payments on the schedules specified with respect thereto and (v) the discounted future net revenues, calculated in accordance with SEC guidelines, attributable to reserves subject to Dollar-Denominated Production Payments that, based on the estimates of production included in determining the discounted future net revenues specified in the immediately preceding clause (a) (i) (utilizing the same prices utilized in the Company's year-end reserve report), would be necessary to satisfy fully the obligations of the Company and its Restricted Subsidiaries with respect to Dollar-Denominated Production Payments on the schedules specified with respect thereto. "Affiliate" of any specified Person means any other Person, directly or indirectly, controlling or controlled by or under direct or indirect common control with such specified Person. For the purposes of this definition, "control" when used with respect to any Person means the power to direct the management and policies of such Person, directly or indirectly, whether through the ownership of voting securities, by contract or otherwise; and the terms "controlling" and controlled" have meanings correlative to the foregoing. For 69 73 purposes of the provisions described under "-- Certain Covenants -- Limitation on Restricted Payments", "-- Certain Covenants -- Limitation on Affiliate Transactions" and "-- Certain Covenants -- Limitations on Sales of Assets and Subsidiary Stock" only, "Affiliate" shall also mean any beneficial owner of Capital Stock representing 10% or more of the total voting power of the Voting Stock (on a fully diluted basis) of the Company or of rights or warrants to purchase such Capital Stock (whether or not currently exercisable) and any Person who would be an Affiliate of any such beneficial owner pursuant to the first sentence hereof. "Asset Disposition" means any sale, lease, transfer or other disposition (or series of related sales, leases, transfers or dispositions) by the Company or any Restricted Subsidiary, including any disposition by means of a merger, consolidation or similar transaction (each referred to for the purposes of this definition as a "disposition"), of (i) any shares of Capital Stock of a Restricted Subsidiary (other than directors' qualifying shares or shares required by applicable law to be held by a Person other than the Company or a Restricted Subsidiary), (ii) all or substantially all the assets of any division or line of business of the Company or any Restricted Subsidiary or (iii) any other assets of the Company or any Restricted Subsidiary outside of the ordinary course of business of the Company or such Restricted Subsidiary. Notwithstanding the foregoing, none of the following shall be deemed to be an Asset Disposition: (1) a disposition by a Restricted Subsidiary to the Company or by the Company or a Restricted Subsidiary to a Wholly Owned Subsidiary, (2) for purposes of the covenant described under "-- Certain Covenants -- Limitation on Sales of Assets and Subsidiary Stock" only, a disposition that constitutes a Restricted Payment permitted by the covenant described under "-- Certain Covenants -- Limitation on Restricted Payments", a disposition of all or substantially all the assets of the Company in compliance with "-- Certain Covenants -- Merger and Consolidation" or a disposition that constitutes a Change of Control pursuant to clause (iii) of the definition thereof, (3) the sale or transfer (whether or not in the ordinary course of business) of crude oil and natural gas properties or direct or indirect interests in real property; provided, however, that at the time of such sale or transfer such properties do not have associated with them any proved reserves, (4) the abandonment, farm-out, lease or sublease of developed or undeveloped crude oil and natural gas properties in the ordinary course of business, (5) the trade or exchange by the Company or any Restricted Subsidiary of any crude oil and natural gas property owned or held by the Company or such Restricted Subsidiary for any crude oil and natural gas property owned or held by another Person or (6) the sale or transfer of hydrocarbons or other mineral products or surplus or obsolete equipment, in each case in the ordinary course of business. "Attributable Debt" in respect of a Sale/Leaseback Transaction means, as at the time of determination, the present value (discounted at the interest rate implicit in the Sale/Leaseback Transaction, compounded annually) of the total obligations of the lessee for rental payments during the remaining term of the lease included in such Sale/Leaseback Transaction (including any period for which such lease has been extended). "Average Life" means, as of the date of determination, with respect to any Indebtedness or Preferred Stock, the quotient obtained by dividing (i) the sum of the products of numbers of years from the date of determination to the dates of each successive scheduled principal payment of such Indebtedness or redemption or similar payment with respect to such Preferred Stock multiplied by the amount of such payment by (ii) the sum of all such payments. "Banks" has the meaning specified in the Credit Agreement. "Board of Directors" means the Board of Directors of the Company or any committee thereof duly authorized to act on behalf of such Board. "Business Day" means each day which is not a Legal Holiday (as defined in the Indenture). "Capital Lease Obligations" means an obligation that is required to be classified and accounted for as a capital lease for financial reporting purposes in accordance with GAAP, and the amount of Indebtedness represented by such obligation shall be the capitalized amount of such obligation determined in accordance with GAAP; and the Stated Maturity thereof shall be the date of the last payment of rent or any other amount due under such lease prior to the first date upon which such lease may be terminated by the lessee without payment of a penalty. 70 74 "Capital Stock" of any Person means any and all shares, interests, rights to purchase, warrants, options, participation or other equivalents of or interests in (however designated) equity of such Person, including any Preferred Stock, but excluding any debt securities convertible into such equity. "Change of Control" means the occurrence of any of the following events: (i) any "person" (as such term is used in Sections 13(d) and 14(d) of the Exchange Act), other than a Permitted Holder, is or becomes the beneficial owner (as defined in Rules 13d-3 and 13d-5 under the Exchange Act, except that for purposes of this clause (i) such person shall be deemed to have "beneficial ownership" of all shares that such person has the right to acquire, whether such right is exercisable immediately or only after the passage of time), directly or indirectly, of more than 35% of the total voting power of the Voting Stock of the Company (for the purposes of this clause (i), such person shall be deemed to beneficially own any Voting Stock of a specified corporation held by a parent corporation, if such person is the beneficial owner (as defined in this clause (i)), directly or indirectly, of more than 35% of the voting power of the Voting Stock of such parent corporation); (ii) during any period of two consecutive years from and after the Issue Date, individuals who at the beginning of such period constituted the Board of Directors of DRI (together with any new directors whose election by such Board of Directors or whose nomination for election by the shareholders of DRI was approved by a vote of a majority of the directors of DRI then still in office who were either directors at the beginning of such period or whose election or nomination for election was previously so approved) cease for any reason to constitute a majority of the Board of Directors then in office; or (iii) the merger or consolidation of the Company with or into another Person or the merger of another Person with or into the Company, or the sale of all or substantially all the assets of the Company to another Person (other than a Person that is controlled (as defined in the definition of "Affiliate") by the Permitted Holders), and, in the case of any such merger or consolidation, the securities of the Company that are outstanding immediately prior to such transaction and which represent 100% of the aggregate voting power of the Voting Stock of the Company are changed into or exchanged for cash, securities or property, unless pursuant to such transaction such securities are changed into or exchanged for, in addition to any other consideration, securities of the surviving corporation that represent immediately after such transaction, at least a majority of the aggregate voting power of the Voting Stock of the surviving corporation. "Code" means the Internal Revenue Code of 1986, as amended. "Consolidated Coverage Ratio" as of any date of determination means the ratio of (i) the aggregate amount of EBITDA for the period of the most recent four consecutive fiscal quarters ending at least 45 days prior to the date of such determination to (ii) Consolidated Interest Expense for such four fiscal quarters; provided, however, that (1) if the Company or any Restricted Subsidiary has Incurred any Indebtedness since the beginning of such period that remains outstanding or if the transaction giving rise to the need to calculate the Consolidated Coverage Ratio is an Incurrence of Indebtedness, or both, EBITDA and Consolidated Interest Expense for such period shall be calculated after giving effect on a pro forma basis to such Indebtedness as if such Indebtedness had been Incurred on the first day of such period and the discharge of any other Indebtedness repaid, repurchased, defeased or otherwise discharged with the proceeds of such new Indebtedness as if such discharge had occurred on the first day of such period, (2) if the Company or any Restricted Subsidiary has repaid, repurchased, defeased or otherwise discharged any Indebtedness since the beginning of such period or if any indebtedness is to be repaid, repurchased, defeased or otherwise discharged on the date of the transaction giving rise to the need to calculate the Consolidated Coverage Ratio, EBITDA and Consolidated Interest Expense for such period shall be calculated on a pro forma basis as if such discharge had occurred on the first day of such period and as if the Company or such Restricted Subsidiary has not earned the interest income actually earned during such period in respect of cash or Temporary Cash Investments used to repay, repurchase, defease or otherwise discharge such Indebtedness, (3) if since the beginning of such period the Company or any Restricted Subsidiary shall have made any Asset Disposition (other than an Asset Disposition involving assets having a fair market value of less than the greater of one 71 75 percent (1%) of Adjusted Consolidated Net Tangible Assets as of the end of the Company's then most recently completed fiscal year and $2.0 million), then EBITDA for such period shall be reduced by an amount equal to EBITDA (if positive) directly attributable to the assets which are the subject of such Asset Disposition for such period, or increased by an amount equal to EBITDA (if negative), directly attributable thereto for such period and Consolidated Interest Expense for such period shall be reduced by an amount equal to the Consolidated Interest Expense directly attributable to any Indebtedness of the Company or any Restricted Subsidiary repaid, repurchased, defeased or otherwise discharged with respect to the Company and its continuing Restricted Subsidiaries in connection with such Asset Disposition for such period (or, if the Capital Stock of any Restricted Subsidiary is sold, the Consolidated Interest Expense for such period directly attributable to the Indebtedness of such Restricted Subsidiary to the extent the Company and its continuing Restricted Subsidiaries are no longer liable for such Indebtedness after such sale), (4) if since the beginning of such period the Company or any Restricted Subsidiary (by merger or otherwise) shall have made an Investment in any Restricted Subsidiary (or any person which becomes a Restricted Subsidiary) or an acquisition (including by way of lease) of assets, including any acquisition of assets occurring in connection with a transaction requiring a calculation to be made hereunder, EBITDA and Consolidated Interest Expense for such period shall be calculated after giving pro forma effect thereto (including the Incurrence of any Indebtedness) as if such Investment or acquisition occurred on the first day of such period and (5) if since the beginning of such period any Person (that subsequently became a Restricted Subsidiary or was merged with or into the Company or any Restricted Subsidiary since the beginning of such period) shall have made any Asset Disposition, any Investment or acquisition of assets that would have required an adjustment pursuant to clause (3) or (4) above if made by the Company or a Restricted Subsidiary during such period, EBITDA and Consolidated Interest Expense for such period shall be calculated after giving pro forma effect thereto as if such Asset Disposition, Investment or acquisition occurred on the first day of such period. For purposes of this definition, whenever pro forma effect is to be given to an acquisition of assets, the amount of income or earnings relating thereto and the amount of Consolidated Interest Expense associated with any Indebtedness Incurred in connection therewith, the pro forma calculations shall be determined in good faith by a responsible financial or accounting Officer of the Company. If any Indebtedness bears a floating rate of interest and is being given pro forma effect, the interest of such Indebtedness shall be calculated as if the rate in effect on the date of determination had been the applicable rate for the entire period (taking into account any Interest Rate Agreement applicable to such Indebtedness if such Interest Rate Agreement has a remaining term in excess of 12 months). "Consolidated Current Liabilities" as of the date of determination means the aggregate amount of liabilities of the Company and its consolidated Restricted Subsidiaries which would properly be classified as current liabilities (including taxes accrued as estimated), on a consolidated balance sheet of the Company and its Restricted subsidiaries at such date, after eliminating (i) all intercompany items between the Company and any Restricted Subsidiary and (ii) all current maturities of long-term Indebtedness, all as determined in accordance with GAAP consistently applied. "Consolidated Indebtedness" at any date of determination means the amount of Indebtedness of the Company and its Restricted Subsidiaries outstanding on such date determined on a consolidated basis in accordance with GAAP. "Consolidated Interest Expense" means, for any period, the total interest expense of the Company and its Restricted Subsidiaries for such period, determined on a consolidated basis in accordance with GAAP, plus, to the extent not included in such total interest expense, and to the extent incurred by the Company or its Restricted Subsidiaries, without duplication, (i) interest expense attributable to Capital Lease Obligations and imputed interest with respect to Attributable Debt, (ii) capitalized interest, (iii) non-cash interest expense, (iv) commissions, discounts and other fees and charges owed with respect to letters of credit and bankers' acceptance financing, (v) net costs (including amortization of fees and up-front payments) associated with interest rate caps and other interest rate and currency options that, at the time entered into, resulted in the Company and its Restricted Subsidiaries being net payees as to future payouts under such caps or options, and interest rate and currency swaps and forwards for which the Company or any of its Restricted Subsidiaries has paid a premium, (vi) dividends (excluding dividends paid in shares of Capital Stock which is not Disqualified 72 76 Stock) in respect of all Disqualified Stock held by Persons other than the Company or a Wholly Owned Subsidiary, (vii) interest accruing on any Indebtedness of any other Person to the extent such Indebtedness is Guaranteed by the Company or any Restricted Subsidiary or secured by a Lien on assets of the Company or any Restricted Subsidiary to the extent such Indebtedness constitutes Indebtedness of the Company or any Restricted Subsidiary (whether or not such Guarantee or Lien is called upon); provided, however, "Consolidated Interest Expense" shall not include any (x) amortization of costs relating to original debt issuances other than the amortization of debt discount related to the issuance of zero coupon securities or other securities with an original issue price of not more than 90% of the principal thereof, (y) Consolidated Interest Expense with respect to any Indebtedness Incurred pursuant to clause (b)(8) of the covenant described under "-- Certain Covenants -- Limitation on Indebtedness" and (z) noncash interest expense Incurred in connection with interest rate caps and other interest rate and currency options that, at the time entered into, resulted in the Company and its Restricted Subsidiaries being either neutral or net payors as to future payouts under such caps or options. "Consolidated Net Income" means, for any period, the net income of the Company and its Subsidiaries determined on a consolidated basis in accordance with GAAP; provided, however, that there shall not be included in such Consolidated Net Income: (i) any net income of any Person (other than the Company) if such Person is not a Restricted Subsidiary, except that (A) subject to the exclusion contained in clause (iv) below, the Company's equity in the net income of any such Person for such period shall be included in such Consolidated Net Income up to the aggregate amount of cash actually distributed by such Person during such period to the Company or a Restricted Subsidiary as a dividend or other distribution (subject, in the case of a dividend or other distribution paid to a Restricted Subsidiary, to the limitations contained in clause (iii) below) and (B) the Company's equity in a net loss of any such Person for such period shall be included in determining such Consolidated Net Income; (ii) any net income (or loss) of any Person acquired by the Company or a Subsidiary in a pooling of interests transaction for any period prior to the date of such acquisition; (iii) any net income of any Restricted Subsidiary if such Restricted Subsidiary is subject to restrictions, directly or indirectly, on the payment of dividends or the making of distributions by such Restricted Subsidiary, directly or indirectly, to the Company, except that (A) subject to the exclusion contained in clause (iv) below, the Company's equity in the net income of any such Restricted Subsidiary for such period shall be included in such Consolidated Net Income up to the aggregate amount of cash actually distributed by such Restricted Subsidiary during such period to the Company or another Restricted Subsidiary as a dividend or other distribution (subject, in the case of a dividend or other distribution paid to another Restricted Subsidiary, to the limitation contained in this clause) and (B) the Company's equity in a net loss of any such Restricted Subsidiary for such period shall be included in determining such Consolidated Net Income; (iv) any gain or loss realized upon the sale or other disposition of any assets of the Company or its consolidated Subsidiaries (including pursuant to any sale-and-leaseback arrangement) which is not sold or otherwise disposed of in the ordinary course of business and any gain or loss realized upon the sale or other disposition of any Capital Stock of any Person; (v) extraordinary gains or losses; and (vi) the cumulative effect of a change in accounting principles. Notwithstanding the foregoing, for the purposes of the covenant described under "Certain Covenants -- Limitation on Restricted Payments" only, there shall be excluded from Consolidated Net Income any dividends, repayments of loans or advances or other transfers of assets from Unrestricted Subsidiaries to the Company or a Restricted Subsidiary to the extent such dividends, repayments or transfers increase the amount of Restricted Payments permitted under such covenant pursuant to clause (a)(3)(E) thereof. "Consolidated Net Tangible Assets", as of any date of determination, means the total amount of assets (less accumulated depreciation and amortization, allowances for doubtful receivables, other applicable reserves and other properly deductible items) which would appear on a balance sheet of the Company and its Restricted Subsidiaries, determined on a consolidated basis in accordance with GAAP, and after giving effect to purchase accounting and after deducting therefrom Consolidated Current Liabilities and, to the extent otherwise included, the amounts of: (i) minority interests in Restricted Subsidiaries held by Persons other than the Company or a Restricted Subsidiary; (ii) excess of cost over fair value of assets of businesses acquired, as determined in good faith by the Board of Directors; (iii) any revaluation or other write-up in book value of assets subsequent to the Issue Date as a result of a change in the method of valuation in accordance 73 77 with GAAP consistently applied; (iv) unamortized debt discount and expenses and other unamortized deferred charges, goodwill, patents, trademarks, service marks, trade names, copyrights, licenses, organization or developmental expenses and other intangible items; (v) treasury stock; (vi) cash set apart and held in a sinking or other analogous fund established for the purpose of redemption or other retirement of Capital Stock to the extent such obligation is not reflected in Consolidated Current Liabilities; and (vii) Investments in and assets of Unrestricted Subsidiaries. "Consolidated Net Worth" means the total of the amounts shown on the balance sheet of the Company and its Subsidiaries, determined on a consolidated basis in accordance with GAAP, as of the end of the most recent fiscal quarter of the Company ending at least 45 days prior to the taking of any action for the purpose of which the determination is being made, as (i) the par or stated value of all outstanding Capital Stock of the Company plus (ii) paid-in capital or capital surplus relating to such Capital Stock plus (iii) any retained earnings or earned surplus less (A) any accumulated deficit and (B) any amounts attributable to Disqualified Stock. "Credit Agreement" means that certain Credit Agreement, dated as of , as amended, by and among the Company and Nations Bank, N.A. (or any successor thereto or replacement thereof), as agent and as a lender, and certain other institutions, as lenders, providing for up to $ million of Indebtedness, including any related notes, guarantees, collateral documents, instruments and agreements executed in connection therewith, and in each case as amended, restated, modified, renewed, refunded, replaced or refinanced, in whole or in part, from time to time. "Credit Facilities" means, with respect to the Company or any Restricted Subsidiary, one or more debt facilities (including the Credit Agreement) or commercial paper facilities with banks or other institutional lenders providing for revolving credit loans, term loans, production payments, receivables financing (including through the sale of receivables to such lenders or to special purpose entities formed to borrow from such lenders against such receivables) or letters of credit, in each case, as amended, restated, modified, renewed, refunded, replaced or refinanced in whole or in part from time to time. "Currency Agreement" means in respect of a Person any foreign exchange contract, currency swap agreement or other similar agreement to which such Person is a party or a beneficiary. "Default" means any event which is, or after notice or passage of time or both would be, an Event of Default. "Designated Senior Indebtedness" in respect of a Person means (i) all the obligations of such Person under any Credit Facility (including the Credit Agreement) and (ii) any other Senior Indebtedness of such Person which, at the date of determination, has an aggregate principal amount outstanding of, or under which, at the date of determination, the holders thereof are committed to lend up to, at least $ million and is specifically designated by such Person in the instrument evidencing or governing such Senior Indebtedness as "Designated Senior Indebtedness" for purposes of the Indenture. "Disqualified Stock" means, with respect to any Person, any Capital Stock to the extent that by its terms (or by the terms of any security into which it is convertible or for which it is exchangeable) or upon the happening of any event, it (i) matures or is mandatorily redeemable pursuant to a sinking fund obligation or otherwise, (ii) is convertible or exchangeable for Indebtedness or Disqualified Stock or (iii) is redeemable, whole or in part, at the option of the holder thereof, in each case described in the immediately preceding clauses (i) , (ii) or (iii), on or prior to the Stated Maturity of the Notes; provided, however, that any Capital Stock that would not constitute Disqualified Stock but for provisions thereof giving holders thereof the right to require such Person to repurchase or redeem such Capital Stock upon the occurrence of an "asset sale" or "change of control" occurring prior to the Stated Maturity of the Notes shall not constitute Disqualified Stock if (x) the "asset sale" or "change of control" provisions applicable to such Capital Stock are not more favorable to the holders of such Capital Stock than the provisions described under "-- Certain Covenants -- Limitation on Sales of Assets and Subsidiary Stock" and "-- Certain Covenants -- Change of Control" and (y) any such requirement only becomes operative after compliance with such corresponding terms applicable to the Notes, including the purchase of any Notes tendered pursuant thereto. 74 78 "Dollar -- Denominated Production Payments" means production payment obligations recorded as liabilities in accordance with GAAP, together with all undertakings and obligations in connection therewith. "DRI" means Denbury Resources Inc., a Canadian corporation, and any successor corporation. "EBITDA" for any period means the sum of Consolidated Net Income, plus Consolidated Interest Expense plus the following to the extent deducted in calculating such Consolidated Net Income: (a) provision for taxes based on income or profits, (b) depletion and depreciation expense, (c) amortization expense (d) exploration costs and (e) all other non-cash charges (excluding any such non-cash charge to the extent that it represents an accrual of or reserve for cash charges in any future period or amortization of a prepaid cash expense that was paid in a prior period except such amounts as the Company determines in good faith are nonrecurring), and less, to the extent included in calculating such Consolidated Net Income and in excess of any costs or expenses attributable thereto and deducted in calculating such Consolidated Net Income, the sum of (x) the amount of deferred revenues that are amortized during such period and are attributable to reserves that are subject to Volumetric Production Payments and (y) amounts recorded in accordance with GAAP as repayments of principal and interest pursuant to Dollar-Denominated Production Payments. Notwithstanding the foregoing, the provision for taxes based on the income or profits of, and the depletion, depreciation, amortization and exploration and other non-cash charges of, a Restricted Subsidiary shall be added to Consolidated Net Income to compute EBITDA only to the extent (and in the same proportion) that the net income of such Restricted Subsidiary was included in calculating Consolidated Net Income and only if a corresponding amount would be permitted at the date of determination to be dividended to the Company by such Restricted Subsidiary without prior approval (that has not been obtained), pursuant to the terms of its charter and all agreements, instruments, judgments, decrees, orders, statutes, rules and governmental regulations applicable to such Restricted Subsidiary or its stockholders. "Exchange Act" means the Securities Exchange Act of 1934, as amended. "Exempt Foreign Subsidiary" means (i) any Subsidiary engaged in the Oil and Gas Business exclusively outside the United States of America, irrespective of its jurisdiction of incorporation and (ii) any other Subsidiary whose assets (excluding any cash and Temporary Cash Investments) consist exclusively of Capital Stock or Indebtedness of one or more Subsidiaries described in clause (i) of this definition, that, in any case, is so designated by the Company in an Officers' Certificate delivered to the Trustee and (a) is not a Guarantor of, and has not granted any Lien to secure, any Indebtedness of the Company or any Subsidiary other than another Exempt Foreign Subsidiary and (b) does not have total assets that, when aggregated with the total assets of any other Exempt Foreign Subsidiary, exceed % of the Company's consolidated total assets, as determined in accordance with GAAP, as reflected on the Company's most recent quarterly or annual balance sheet. The Company may revoke the designation of any Exempt Foreign Subsidiary by notice to the Trustee. "GAAP" means generally accepted accounting principles in the United States of America as in effect on the Issue Date, including those set forth in (i) the opinions and pronouncements of the Accounting Principles Board of the American Institute of Certified Public Accountants, (ii) statements and pronouncements of the Financial Accounting Standards Board, (iii) such other statements by such other entity as approved by a significant segment of the accounting profession, and (iv) the rules and regulations of the SEC governing the inclusion of financial statements (including pro forma financial statements) in periodic reports required to be filed pursuant to Section 13 of the Exchange Act, including opinions and pronouncements in staff accounting bulletins and similar written statements from the accounting staff of the SEC. "Guarantee" means, without duplication, any obligation, contingent or otherwise, of any Person directly or indirectly guaranteeing any Indebtedness of any Person and any obligation, direct or indirect, contingent or otherwise, of such Person (i) to purchase or pay (or advance or supply funds for the purchase or payment of) such Indebtedness of such Person (whether arising by virtue of partnership arrangements, or by agreements to keep-well, to purchase assets, goods, securities or services, to take-or-pay or to maintain financial statement conditions or otherwise) or (ii) entered into for the purpose of assuring in any other manner the obligee of such Indebtedness of the payment thereof or to protect such obligee against loss in respect thereof (in whole or in part); provided, however, that the term "Guarantee" shall not include endorsements for collection or 75 79 deposit in the ordinary course of business. The term "Guarantee" used as a verb has a corresponding meaning. The term "Guarantor" shall mean any Person Guaranteeing any obligation. "Guarantor" means Denbury Resources Inc. or any successor thereto. "Guaranty" means the Guarantee of the Notes by the Guarantor pursuant to the Guaranty. "Hedging Obligations" of any Person means the obligations of such Person pursuant to any Oil and Gas Hedging Contract, Interest Rate Agreement or Currency Agreement. "Holder" or "Noteholder" means the Person in whose name a Note is registered on the Registrar's books. "Incur" means issue, assume, Guarantee, incur or otherwise become liable for; provided, however, that any Indebtedness or Capital Stock of a Person existing at the time such Person becomes a Subsidiary (whether by merger, consolidation, acquisition or otherwise) shall be deemed to be Incurred by such Subsidiary at the time it becomes a Subsidiary. The term "Incurrence" when used as a noun shall have a correlative meaning. The accretion of principal of a non-interest bearing or other discount security shall not be deemed the Incurrence of Indebtedness. "Indebtedness" means, with respect to any Person on any date of determination (without duplication), (i) the principal of and premium (if any) in respect of (A) indebtedness of such Person for money borrowed and (B) indebtedness evidenced by notes, debentures, bonds or other similar instruments for the payment of which such Person is responsible or liable; (ii) all Capital Lease Obligations of such Person and all Attributable Debt in respect of Sale/Leaseback Transactions entered into by such Person; (iii) all obligations of such Person issued or assumed as the deferred purchase price of property (which purchase price is due more than six months after the date of taking delivery of title to such property), including all obligations of such Person for the deferred purchase price of property under any title retention agreement (but excluding trade accounts payable arising in the ordinary course of business); (iv) all obligations of such Person for the reimbursement of any obligor on any letter of credit, banker's acceptance or similar credit transaction (other than obligations with respect to letters of credit securing obligations (other than obligations described in (i) through (iii) above) entered into in the ordinary course of business of such Person to the extent such letters of credit are not drawn upon or, if and to the extent drawn upon, such drawing is reimbursed no later than the tenth Business Day following receipt by such Person of a demand for reimbursement following payment on the letter of credit); (v) the amount of all obligations of such Person with respect to the redemption, repayment or other repurchase of any Disqualified Stock or, with respect to any Subsidiary of such Person the liquidation preference with respect to any Preferred Stock (but excluding, in each case, any accrued dividends); (vi) all obligations of such Person relating to any Production Payment or in respect of production imbalances (but excluding production imbalances arising in the ordinary course of business); (vii) all obligations of the type referred to in clauses (i) through (vi) of other Persons and all dividends of other Persons for the payment of which, in either case, such Person is responsible or liable, directly or indirectly, as obligor, guarantor or otherwise, including by means of any Guarantee (including, with respect to any Production Payment, any warranties or guarantees of production or payment by such Person with respect to such Production Payment but excluding other contractual obligations of such Person with respect to such Production Payment); (viii) all obligations of the type referred to in clauses (i) through (vii) of other Persons secured by any Lien on any property or asset of such first-mentioned Person (whether or not such obligation is assumed by such first-mentioned Person), the amount of such obligation being deemed to be the lesser of the value of such property or assets or the amount of the obligation so secured and (ix) to the extent not otherwise included in this definition, Hedging Obligations of such Person. The amount of Indebtedness of any Person at any date shall be the outstanding balance at such date of all unconditional obligations as described above and the maximum liability, assuming the contingency giving rise to the obligation were to have occurred on such date, of any Guarantees outstanding at such date. None of the following shall constitute Indebtedness: (i) indebtedness arising from agreements providing for indemnification or adjustment of purchase price or from guarantees securing any obligations of the Company or any of its Subsidiaries pursuant to such agreements, incurred or assumed in connection with the disposition of any business, assets or Subsidiary of the Company, other than guarantees or similar credit 76 80 support by the Company or any of its Subsidiaries of Indebtedness incurred by any Person acquiring all or any portion of such business, assets or Subsidiary for the purpose of financing such acquisition; (ii) any trade payables and other accrued currently liabilities incurred in the ordinary course of business as the deferred purchase price of property; (iii) obligations arising from guarantees to suppliers, lessors, licensees, contractors, franchisees or customers incurred in the ordinary course of business; (iv) obligations (other than express Guarantees of indebtedness for borrowed money) in respect of Indebtedness of other Persons arising in connection with (A) the sale or discount of accounts receivable, (B) trade acceptances and (C) endorsements of instruments for deposit in the ordinary course of business; (v) obligations in respect of performance bonds provided by the Company or its Subsidiaries in the ordinary course of business and refinancing thereof; (vi) obligations arising from the honoring by a bank or other financial institution of a check, draft or similar instrument drawn against insufficient funds in the ordinary course of business, provided, however that such obligation is extinguished within two Business Days of its incurrence; and (vii) obligations in respect of any obligations under workers' compensation laws and similar legislation. "Interest Rate Agreement" means any interest rate swap agreement, interest rate cap agreement or other financial agreement or arrangement designed to protect the Company or any Restricted Subsidiary against fluctuations in interest rates. "Investment" in any Person means any direct or indirect advance, loan (other than advances to customers or joint interest partners or drilling partnerships sponsored by the Company or any Restricted Subsidiary in the ordinary course of business that are recorded as accounts receivable on the balance sheet of the lender) or other extensions of credit (including by way of Guarantee or similar arrangement) or capital contribution to (by means of any transfer of cash or other property to others or any payment for property or services for the account or use of others), or any purchase or acquisition of Capital Stock, Indebtedness or other similar instruments issued by such Person. For purposes of the definition of "Unrestricted Subsidiary", the definition of "Restricted Payment" and the covenant described under "-- Certain Covenants -- Limitation on Restricted Payments", (i) "Investment" shall include the portion (proportionate to the Company's equity interest in such Subsidiary) of the fair market value of the net assets of any Subsidiary of the Company at the time that such Subsidiary is designated an Unrestricted Subsidiary; provided, however, that upon a redesignation of such Subsidiary as a Restricted Subsidiary, the Company shall be deemed to continue to have a permanent "Investment" in an Unrestricted Subsidiary equal to an amount (if positive) equal to (x) the Company's "Investment" in such Subsidiary at the time of such redesignation less (y) the portion (proportionate to the Company's equity interest in such Subsidiary) of the fair market value of the net assets of such Subsidiary at the time of such redesignation; and (ii) any property transferred to or from an Unrestricted Subsidiary shall be valued at its fair market value at the time of such transfer, in each case as determined in good faith by the Board of Directors. "Issue Date" means the date on which the Notes are originally issued. "Lien" means any mortgage, pledge, security interest, encumbrance, lien or charge of any kind (including any conditional sale or other title retention agreement or lease in the nature thereof). "Limited Recourse Indebtedness" means, with respect to any Production Payments, Indebtedness, the terms of which limit the liability of the Company and its Restricted Subsidiaries solely to the hydrocarbons covered by such Production Payments; provided, however, that no default with respect to such Indebtedness would permit any holder of any other Indebtedness of the Company or any Restricted Subsidiary to declare a default on such other Indebtedness or cause the payment thereof to be accelerated or payable prior to its stated maturity. "Material Change" means an increase or decrease (excluding changes that result solely from changes in prices) of more than 15% during a fiscal quarter in the discounted future net revenues from proved crude oil and natural gas reserves of the Company and its Restricted Subsidiaries, calculated in accordance with clause (a)(i) of the definition of Adjusted Consolidated Net Tangible Assets; provided, however, that the following will be excluded from the calculation of Material Change: (i) any acquisitions during the fiscal quarter of oil and gas reserves that have been estimated by independent petroleum engineers and with respect to which a report or reports of such engineers exist and (ii) any disposition of properties existing at the beginning of such 77 81 fiscal quarter that have been disposed of in compliance with the covenant described under "-- Certain Covenants -- Limitation on Sales of Assets and Subsidiary Stock". "Moody's" means Moody's Investor's Service, Inc. and its successors. "Net Available Cash" from an Asset Disposition means cash payments received therefrom (including any cash payments received by way of deferred payment of principal pursuant to a note or installment receivable or otherwise, but only as and when received, but excluding any other consideration received in the form of assumption by the acquiring Person of Indebtedness or other obligations relating to such properties or assets or received in any other noncash form) in each case net of (i) all legal, title and recording tax expenses, commissions and other fees (including financial and other advisory fees) and expenses incurred, and all Federal, state, provincial, foreign and local taxes required to be accrued as a liability under GAAP, as a consequence of such Asset Disposition, (ii) all payments made on any Indebtedness which is secured by any assets subject to such Asset Disposition, in accordance with the terms of any Lien upon or other security agreement of any kind with respect to such assets, or which must by its terms, or in order to obtain a necessary consent to such Asset Disposition, or by applicable law, be repaid out of the proceeds from such Asset Disposition, (iii) all distributions and other payments required to be made to minority interest holders in Subsidiaries or joint ventures as a result of such Asset Disposition and (iv) the deduction of appropriate amounts provided by the seller as a reserve, in accordance with GAAP, against any liabilities associated with the property or other assets disposed in such Asset Disposition and retained by the Company or any Restricted Subsidiary after such Asset Disposition. "Net Cash Proceeds", with respect to any issuance or sale of Capital Stock, means the cash proceeds of such issuance or sale net of attorneys' fees, accountants' fees, underwriters' or placement agents' fees, discounts or commissions and brokerage, consultant and other fees actually incurred in connection with such issuance or sale and net of taxes paid or payable as a result thereof. "Net Present Value" means, with respect to any proved hydrocarbon reserves, the discounted future net cash flows associated with such reserves, determined in accordance with the rules and regulations (including interpretations thereof) of the SEC in effect on the Issue Date. "Net Working Capital" means (a) all current assets of the Company and its Restricted Subsidiaries minus (b) all current liabilities of the Company and its Restricted Subsidiaries, except current liabilities included in Indebtedness, determined in accordance with GAAP. "Oil and Gas Business" means the business of the exploration for, and exploitation, development, acquisition, production, processing (but not refining), marketing, storage and transportation of, hydrocarbons, and other related energy and natural resource businesses (including oil and gas services businesses related to the foregoing). "Oil and Gas Hedging Contract" means any oil and gas purchase or hedging agreement, and other agreement or arrangement, in each case, that is designed to provide protection against oil and gas price fluctuations. "Permitted Business Investment" means any investment made in the ordinary course of, and of a nature that is or shall have become customary in, the Oil and Gas Business including investments or expenditures for actively exploiting, exploring for, acquiring, developing, producing, processing, gathering, marketing or transporting oil and gas through agreements, transactions, interests or arrangements which permit one to share risks or costs, comply with regulatory requirements regarding local ownership or satisfy other objectives customarily achieved through the conduct of Oil and Gas Business jointly with third parties, including (i) ownership interests in oil and gas properties, processing facilities, gathering systems or ancillary real property interests and (ii) Investments in the form of or pursuant to operating agreements, processing agreements, farm-in agreements, farm-out agreements, development agreements, area of mutual interest agreements, unitization agreements, pooling agreements, joint bidding agreements, service contracts, joint venture agreements, partnership agreements (whether general or limited), subscription agreements, stock purchase agreements and other similar agreements with third parties. 78 82 "Permitted Holders" means The Texas Pacific Group. "Permitted Investment" means an Investment by the Company or any Restricted Subsidiary in (i) a Restricted Subsidiary or a Person that will, upon the making of such Investment, become a Restricted Subsidiary; provided, however,that the primary business of such Restricted Subsidiary is an Oil and Gas Business; (ii) another Person if as a result of such Investment such other Person is merged or consolidated with or into, or transfers or conveys all or substantially all its assets to, the Company or a Restricted Subsidiary; provided, however, that such Person's primary business is an Oil and Gas Business; (iii) Temporary Cash Investments; (iv) receivables owing to the Company or any Restricted Subsidiary if created or acquired in the ordinary course of business and payable or dischargeable in accordance with customary trade terms; provided, however, that such trade terms may include such concessionary trade terms as the Company or any such Restricted Subsidiary deems reasonable under the circumstances; (v) payroll, travel and similar advances to cover matters that are expected at the time of such advances ultimately to be treated as expenses for accounting purposes and that are made in the ordinary course of business; (vi) loans or advances to employees made in the ordinary course of business; (vii) stock, obligations or securities received in settlement of debts created in the ordinary course of business and owing to the Company or any Restricted Subsidiary or in satisfaction of judgments; (viii) any Person to the extent such Investment represents the non-cash portion of the consideration received for an Asset Disposition as permitted pursuant to the covenant described under "-- Certain Covenants -- Limitation on Sales of Assets and Subsidiary Stock" and (ix) Permitted Business Investments. "Permitted Liens" means, with respect to any Person, (a) pledges or deposits by such Person under worker's compensation laws, unemployment insurance laws or similar legislation, or good faith deposits in connection with bids, tenders, contracts (other than for the payment of Indebtedness) or leases to which such Person is a party, or deposits to secure public or statutory obligations of such Person or deposits of cash or United States government bonds to secure surety or appeal bonds to which such Person is a party, or deposits as security for contested taxes or import duties or for the payment of rent, in each case Incurred in the ordinary course of business; (b) Liens imposed by law, such as carriers', warehousemen's and mechanics' Liens, in each case for sums not yet due or being contested in good faith by appropriate proceedings or other Liens arising out of judgments or awards against such Person with respect to which such Person shall then be proceeding with an appeal or other proceedings for review; (c) Liens for property taxes not yet subject to penalties for non-payment or which are being contested in good faith and by appropriate proceedings; (d) Liens in favor of issuers of surety bonds or letters of credit issued pursuant to the request of and for the account of such Person in the ordinary course of its business; provided, however, that such letters of credit do not constitute Indebtedness; (e) minor survey exceptions, minor encumbrances, easements or reservations of, or rights of others for, licenses, rights of way, sewers, electric lines, telegraph and telephone lines and other similar purposes, or zoning or other restrictions as to the use of real property or Liens incidental to the conduct of the business of such Person or to the ownership of its properties which were not Incurred in connection with Indebtedness and which do not in the aggregate materially impair their use in the operation of the business of such Person; (f) Liens securing Indebtedness Incurred to finance the construction, purchase or lease of, or repairs, improvements or additions to, property of such Person (including Liens securing Indebtedness of the pollution control or revenue bond type); provided, however, that the Lien may not extend to any other property owned by such Person or any of its Subsidiaries at the time the Lien is Incurred, and the Indebtedness secured by the Lien may not be Incurred more than 180 days after the later of the acquisition, completion of construction, repair, improvement, addition or commencement of full operation of the property subject to the Lien; (g) Liens to secure Indebtedness permitted under the provisions described in clause (b)(1) or (b)(8) under "-- Certain Covenants -- Limitation on Indebtedness"; provided, however, that any such Lien securing Indebtedness described in such clause (b)(8) shall be limited to the hydrocarbons related thereto and any gathering systems utilized in gathering and transporting such hydrocarbons; (h) Liens existing on the Issue Date; (i) Liens on property or shares of Capital Stock of another Person at the time such other Person becomes a Subsidiary of such Person; provided, however, that such Liens are not created, incurred or assumed in connection with, or in contemplation of, such other Person becoming such a Subsidiary; provided further, however, that such Lien may not extend to any other property owned by such Person or any of its Subsidiaries; (j) Liens on property at the time such Person or any of its Subsidiaries acquires the property, including any 79 83 acquisition by means of a merger or consolidation with or into such Person or a Subsidiary of such Person; provided, however, that such Liens are not created, incurred or assumed in connection with, or in contemplation of, such acquisition; provided further, however, that the Liens may not extend to any other property owned by such Person or any of its Subsidiaries; (k) Liens securing Indebtedness or other obligations of a Subsidiary of such Person owing to such Person or a wholly owned Subsidiary of such Person (or, in the case of the Company, to a Wholly Owned Subsidiary); (l) Liens securing Hedging Obligations so long as such Hedging Obligations relate to Indebtedness that is, and is permitted to be under the Indenture, secured by a Lien on the same property securing such Hedging Obligations; (m) Liens arising in the ordinary course of business in favor of the United States, any state thereof, any foreign country or any department, agency, instrumentality or political subdivision of any such jurisdiction, to secure partial, progress, advance or other payments pursuant to any contract or statute; (n) Liens to secure any Refinancing (or successive Refinancing) as a whole, or in part, of any Indebtedness secured by any Lien referred to in the foregoing clause (f), (h), (i) and (j); provided, however, that (x) such new Lien shall be limited to all or part of the same property that secured the original Lien (plus improvements to or on such property) and (y) the Indebtedness secured by such Lien at such time is not increased to any amount greater than the sum of (A) the outstanding principal amount or, if greater, committed amount of the Indebtedness described under clause (f), (h), (i) or (j) at the time the original Lien became a Permitted Lien and (B) an amount necessary to pay any fees and expenses, including premiums, related to such refinancing, refunding, extension, renewal or replacement; (o) Liens on, or related to, properties to secure all or part of the costs incurred in the ordinary course of business of exploration, drilling, development, production, processing, transportation, marketing or storage or operation thereof; (p) Liens on pipeline or pipeline facilities, hydrocarbons or other properties which arise out of operation of law; (q) Liens reserved in oil and gas mineral leases for bonus or rental payments and for compliance with the terms of such leases; (r) Liens arising under partnership agreements, oil and gas leases, farm-out agreements, division orders, contracts for the sale, purchase, exchange, transportation or processing (but not the refining) of oil, gas or other hydrocarbons, unitization and pooling declarations and agreements, development agreements, operating agreements, area of mutual interest agreements, and other similar agreements which are customary in the Oil and Gas Business; (s) judgment and attachment Liens not giving rise to an Event of Default or Liens created by or existing from any litigation or legal proceeding that are currently being contested in good faith by appropriate proceedings and for which adequate reserves have been made; (t) Liens in favor of collecting or payor banks having a right of setoff, revocation, refund or chargeback with respect to money or instruments of the Company or any Subsidiary on deposit with or in possession of such bank; and (u) royalties, overriding royalties, revenue interests, net revenue interests, net profit interests, reversionary interests, production payments, production sales contracts, operating agreements, and other similar interests, properties, arrangements, and agreements, all as ordinarily exist with respect to the Company's properties. Notwithstanding the foregoing, "Permitted Liens" will not include any Lien described in clause (f), (i) or (j) above to the extent (A) such Lien applies to any Additional Assets or Permitted Business Investment acquired directly or indirectly from Net Available Cash pursuant to clause (a)(i)(B) or paragraph (c) of the covenant described under "-- Certain Covenants -- Limitation on Sales of Assets and Subsidiary Stock" and (B) the fair value of such Additional Assets or Permitted Business Investment is less than the sum of (x) the amount of Indebtedness secured by such Lien plus (y) the amount of Net Available Cash so invested in such Additional Assets or Permitted Business Investment. "Permitted Marketing Obligations" means Indebtedness of the Company or any Restricted Subsidiary under letter of credit or borrowed money obligations, or in lieu of or in addition to such letters of credit or borrowed money, guarantees of such Indebtedness or other obligations of the Company or any Restricted Subsidiary by any other Restricted Subsidiary, as applicable, related to the purchase by the Company or any Restricted Subsidiary of hydrocarbons for which the Company or such Restricted Subsidiary has contracts to sell; provided, however, that in the event that such Indebtedness or obligations are guaranteed by the Company or any Restricted Subsidiary, then either (i) the Person with which the Company or such Restricted Subsidiary has contracts to sell has an investment grade credit rating from S&P or Moody's, or in lieu thereof, a Person guaranteeing the payment of such obligated Person has an investment grade credit rating from S & P or Moody's, or (ii) such Person posts, or has posted for it, a letter of credit in favor of the Company or such 80 84 Restricted Subsidiary with respect to all such Person's obligations to the Company or such Restricted Subsidiary under such contracts. "Person" means any individual, corporation, partnership, joint venture, association, joint-stock company, trust, unincorporated organization, government or any agency or political subdivision thereof or any other entity. "Preferred Stock", as applied to the Capital Stock of any corporation, means Capital Stock of any class or classes (however designated) which is preferred as to the payment of dividends, or as to the distribution of assets upon any voluntary or involuntary liquidation or dissolution of such corporation, over shares of Capital Stock of any other class of such corporation. The term "principal" of a Note means the principal of the Note plus the premium, if any, payable on the Note which is due or overdue or is to become due at the relevant time. "Production Payments" means, collectively, Dollar-Denominated Production Payments and Volumetric Production Payments. "Public Market" means any time when at least 15% of the total issued and outstanding common stock of DRI has been distributed by means of an effective registration statement under the Securities Act or sales pursuant to Rule 144 under the Securities Act. "Refinance" means, in respect of any Indebtedness, to refinance, extend, renew, refund, repay, prepay, redeem, decease or retire, or to issue other Indebtedness in exchange or replacement for, such Indebtedness. "Refinanced" and "Refinancing" shall have correlative meanings. "Refinancing Indebtedness" means Indebtedness that Refinances any Indebtedness of the Company or any Restricted Subsidiary existing on the Issue Date or Incurred in compliance with the Indenture including Indebtedness that Refinances Refinancing Indebtedness; provided, however, that (i) such Refinancing Indebtedness has a Stated Maturity no earlier than the Stated Maturity of the Indebtedness being Refinanced, (ii) such Refinancing Indebtedness has an Average Life at the time such Refinancing Indebtedness is Incurred that is equal to or greater than the Average Life of the Indebtedness being Refinanced and (iii) such Refinancing Indebtedness has an aggregate principal amount (or if Incurred with original issue discount, an aggregate issue price) that is equal to or less than the aggregate principal amount (or if Incurred with original issue discount, the aggregate accreted value) then outstanding or committed (plus fees and expenses, including any premium and defeasance costs) under the Indebtedness being Refinanced; provided further, however, that Refinancing Indebtedness shall not include (x) Indebtedness of a Subsidiary that Refinances Indebtedness of the Company or (y) Indebtedness of the Company or a Restricted Subsidiary that Refinances Indebtedness of an Unrestricted Subsidiary. "Representative" means any trustee, agent or representative (if any) for an issue of Senior Indebtedness of the Company or of a Guarantor. "Restricted Payment" with respect to any Person means (i) the declaration or payment of any dividends or any other distributions of any sort in respect of its Capital Stock (including any payment in connection with any merger or consolidation involving such Person) or similar payment to the direct or indirect holders of its Capital Stock (other than (x) dividends or distributions payable solely in its Capital Stock (other than Disqualified Stock), (y) dividends or distributions payable solely to the Company or a Restricted Subsidiary, and (z) pro rata dividends or other distributions made by a Subsidiary that is not a Wholly Owned Subsidiary to minority stockholders (or owners of an equivalent interest in the case of a Subsidiary that is an entity other than a corporation)), (ii) the purchase, redemption or other acquisition or retirement for value of any Capital Stock of the Company held by any Person or of any Capital Stock of a Restricted Subsidiary held by any Affiliate of the Company (other than a Restricted Subsidiary), including the exercise of any option to exchange any Capital Stock (other than into Capital Stock of the Company that is not Disqualified Stock), (iii) the purchase, repurchase, redemption, defeasance or other acquisition or retirement for value, prior to scheduled maturity, scheduled repayment or scheduled sinking fund payment of any Subordinated Obligations of such Person (other than the purchase, repurchase or other acquisition of Subordinated Obligations 81 85 purchased in anticipation of satisfying a sinking fund obligation, principal installment or final maturity, in each case due within one year of the date of acquisition) or (iv) the making of any Investment (other than a Permitted Investment) in any Person. "Restricted Subsidiary" means any Subsidiary of the Company that is not an Unrestricted Subsidiary. "S&P" means Standard & Poor's Rating Services, a division of The McGraw-Hill Company, Inc., and its successors. "Sale/Leaseback Transaction" means an arrangement relating to property now owned or hereafter acquired whereby the Company or a Restricted Subsidiary transfers such property to a Person and the Company or a Restricted Subsidiary leases it from such Person, provided that the fair market value of such property (as reasonably determined by the Board of Directors acting in good faith) is $10 million or more. "SEC" means the Securities and Exchange Commission. "Secured Indebtedness" means any Indebtedness of the Company secured by a Lien. "Senior Indebtedness" means with respect to any Person (i) Indebtedness of such Person, and all obligations of such Person under any Credit Facility, whether outstanding on the Issue Date or thereafter Incurred and (ii) accrued and unpaid interest (including interest accruing on or after the filing of any petition in bankruptcy or for reorganization relating such Person to the extent post-filing interest is allowed in such proceeding) in respect of (A) indebtedness of such Person for money borrowed and (B) indebtedness evidenced by notes, debentures, bonds or other similar instruments for the payment of which such Person is responsible or liable unless, with respect to obligations described in the immediately preceding clause (i) or (ii), in the instrument creating or evidencing the same or pursuant to which the same is outstanding, it is provided that such obligations are not superior in right of payment to the Notes or the Guaranty; provided, however, that Senior Indebtedness shall not include (1) any obligation of such Person to any Subsidiary of such Person, (2) any liability for Federal, state, local or other taxes owed or owing by such Person, (3) any accounts payable or other liability to trade creditors arising in the ordinary course of business (including guarantees thereof or instruments evidencing such liabilities), (4) any Indebtedness of such Person (and any accrued and unpaid interest in respect thereof) which is subordinate or junior in any respect to any other Indebtedness or other obligation of such Person or (5) that portion of any Indebtedness which at the time of Incurrence is Incurred in violation of the Indenture (other than, in the case of the Company or the Guarantor, Indebtedness under any Credit Facility that is Incurred on the basis of a representation by the Company or the Guarantor to the applicable lenders that such Person is permitted to Incur such Indebtedness under the Indenture). "Senior Subordinated Indebtedness" means (i) with respect to the Company, the Notes and any other Indebtedness of the Company that specifically provides that such Indebtedness is to rank pari passu with the Notes in right of payment and is not subordinated by its terms in right of payment to any Indebtedness or other obligation of the Company which is not Senior Indebtedness of the Company and (ii) with respect to the Guarantor, its Guaranty of the Notes and any other indebtedness of such Person that specifically provides that such Indebtedness rank pari passu with the Guaranty in respect of payment and is not subordinated by its terms in respect of payment to any Indebtedness or other obligation of such Person which is not Senior Indebtedness of such Person. "Significant Subsidiary" means any Restricted Subsidiary that would be a "Significant Subsidiary" of the Company within the meaning of Rule 1-02 under Regulation S-X promulgated by the SEC. "Stated Maturity" means, with respect to any security, the date specified in such security as the fixed date on which the final payment of principal of such security is due and payable, including pursuant to any mandatory redemption provision (but excluding any provision providing for the repurchase of such security at the option of the holder thereof upon the happening of any contingency unless such contingency has occurred). "Stock Offering" means a primary offering, whether public or private, of shares of common stock of DRI. 82 86 "Subordinated Obligation" means any Indebtedness of the Company or the Guarantor (whether outstanding on the Issue Date or thereafter Incurred) which is subordinate or junior in right of payment to, in the case of the Company, the Notes or, in the case of the Guarantor, the Guaranty pursuant to a written agreement to that effect. "Subsidiary" means, in respect of any Person, any corporation, association, partnership or other business entity of which more than 50% of the total voting power of shares of Capital Stock or other interests (including partnership interests) entitled (without regard to the occurrence of any contingency) to vote in the election of directors, managers or trustees thereof is at the time owned or controlled, directly or indirectly, by (i) such Person, (ii) such Person and one or more Subsidiaries of such Person or (iii) one or more Subsidiaries of such Person. "Temporary Cash Investments" means any of the following: (i) any investment in direct obligations of the United States of America or any agency thereof or obligations guaranteed by the United States of America or any agency thereof, (ii) investments in time deposit accounts, certificates of deposit and money market deposits maturing within 180 days of the date of acquisition thereof issued by a bank or trust company which is organized under the laws of the United States of America, any state thereof or any foreign country recognized by the United States, and which bank or trust company has capital, surplus and undivided profits aggregating in excess of $50.0 million (or the foreign currency equivalent thereof) and has outstanding debt which is rated "A" (or such similar equivalent rating) or higher by at least one nationally recognized statistical rating organization (as defined in Rule 436 under the Securities Act) or any money-market fund sponsored by a registered broker dealer or mutual fund distributor, (iii) repurchase obligations with a term of not more than 30 days for underlying securities of the types described in clause (i) above entered into with a bank meeting the qualifications described in clause (ii) above, (iv) investments in commercial paper, maturing not more than 180 days after the date of acquisition, issued by a Person (other than an Affiliate of the Company) organized and in existence under the laws of the United States of America or any foreign country recognized by the United States of America with a rating at the time as of which any investment therein is made of "P-2" (or higher) according to Moody's or "A-2" (or higher) according to S&P, and (v) investments in securities with maturities of six months or less from the date of acquisition issued or fully guaranteed by any state, commonwealth or territory of the United States of America, or by any political subdivision or taxing authority thereof, and rated at least "A" by S&P or "A" by Moody's. "Unrestricted Subsidiary" means (i) any Subsidiary of the Company that at the time of determination shall be designated an Unrestricted Subsidiary by the Board of Directors in the manner provided below and (ii) any Subsidiary of an Unrestricted Subsidiary. The Board of Directors may designate any Subsidiary of the Company (including any newly acquired or newly formed Subsidiary) to be an Unrestricted Subsidiary unless such Subsidiary or any of its Subsidiaries owns any Capital Stock or Indebtedness of, or holds any Lien on any property of, the Company or any other Subsidiary of the Company that is not a Subsidiary of the Subsidiary to be so designated; provided, however, that either (A) the Subsidiary to be so designated has total assets of $1,000 or less or (B) if such Subsidiary has assets greater than $1,000, such designation would be permitted under the covenant described under "-- Certain Covenants -- Limitation on Restricted Payments". The Board of Directors may designate any Unrestricted Subsidiary to be a Restricted Subsidiary; provided, however, that immediately after giving effect to such designation (x) the Company could Incur $1.00 of additional Indebtedness under paragraph (a) of the covenant described under "-- Certain Covenants -- Limitation on Indebtedness" and (y) no Default shall have occurred and be continuing. Any such designation by the Board of Directors shall be evidenced by the Company to the Trustee by promptly filing with the Trustee a copy of the board resolution giving effect to such designation and an Officers' Certificate certifying that such designation complied with the foregoing provisions. "U.S. Government Obligations" means direct obligations (or certificates representing an ownership interest in such obligations) of the United States of America (including any agency or instrumentality thereof) for the payment of which the full faith and credit of the United States of America is pledged and which are not callable at the issuer's option. 83 87 "Volumetric Production Payments" means production payment obligations recorded as deferred revenue in accordance with GAAP, together with all undertakings and obligations in connection therewith. "Voting Stock" of a Person means all classes of Capital Stock or other interests (including partnership interests) of such Person then outstanding and normally entitled (without regard to the occurrence of any contingency) to vote in the election of directors, managers or trustees thereof. "Wholly Owned Subsidiary" means a Restricted Subsidiary all the Capital Stock of which (other than directors' qualifying shares and shares held by other Persons to the extent such shares are required by applicable law to be held by a Person other than the Company or a Restricted Subsidiary) is owned by the Company or one or more Wholly Owned Subsidiaries. CERTAIN COVENANTS The Indenture contains covenants including, among others, the following: LIMITATION ON INDEBTEDNESS. (a) The Company shall not, and shall not permit any Restricted Subsidiary to, Incur, directly or indirectly, any Indebtedness; provided, however, that the Company or Restrictive Subsidiary may Incur Indebtedness if, on the date of such Incurrence and after giving effect thereto, either (i) the Consolidated Coverage Ratio equals or exceeds to 1.0, or (ii) the Adjusted Consolidated Net Tangible Assets would be equal to or greater than % of Consolidated Indebtedness. (b) Notwithstanding the foregoing paragraph (a), the Company and any Restricted Subsidiary may Incur the following Indebtedness: (1) Indebtedness Incurred pursuant to any Credit Facility, so long as the aggregate amount of all Indebtedness outstanding under all Credit Facilities does not, at any one time, exceed the aggregate amount of borrowing availability as of such date under all Credit Facilities that determine availability on the basis of a borrowing base or other asset-based calculation; provided, however, that in no event shall such amount exceed the greater of (x) $ million and (y) % of ACNTA as of the date of such Incurrence; (2) Indebtedness owed to and held by the Company or a Wholly Owned Subsidiary; provided, however, that any subsequent issuance or transfer of any Capital Stock which results in any such Wholly Owned Subsidiary ceasing to be a Wholly Owned Subsidiary or any subsequent transfer of such Indebtedness (other than to the Company or another Wholly Owned Subsidiary) shall be deemed, in each case, to constitute the Incurrence of such Indebtedness by the issuer thereof; (3) The Notes (other than additional Notes) and the Guaranty; (4) Indebtedness outstanding on the Issue Date (other than Indebtedness described in clause (1), (2) or (3) of this covenant); (5) Indebtedness or Preferred Stock of a Restricted Subsidiary Incurred and outstanding on or prior to the date on which such Restricted Subsidiary was acquired by the Company (other than Indebtedness or Preferred Stock Incurred in connection with, or to provide all or any portion of the funds or credit support utilized to consummate, the transaction or series of related transactions pursuant to which such Restricted Subsidiary became a Restricted Subsidiary or was acquired by the Company); (6) Refinancing Indebtedness in respect of Indebtedness Incurred pursuant to paragraph (a) or pursuant to clause (3), (4), (5) above, or this clause (6); provided, however, that to the extent such Refinancing Indebtedness directly or indirectly Refinances Indebtedness or Preferred Stock of a Restricted Subsidiary described in clause (5), such Refinancing Indebtedness shall be Incurred only by such Restricted Subsidiary or the Company; (7) Indebtedness of the Company or a Restricted Subsidiary represented by Capital Lease Obligations, mortgage financings or purchase money obligations, in each case Incurred for the purpose of financing all or any part of the purchase price or cost of construction or improvement of property used in an Oil and Gas Business or Incurred to Refinance any such purchase price or cost of construction or 84 88 improvement, in each case (other than a Refinancing) Incurred no later than 365 days after the date of such acquisition or the date of completion of such construction or improvement; provided, however, that the principal amount of any Indebtedness Incurred pursuant to this clause (7) (other than a Refinancing) in any single calendar year shall not exceed $ million; (8) Indebtedness with respect to Production Payments; provided, however, that any such Indebtedness shall be Limited Recourse Indebtedness; provided further, however, that the Net Present Value of the reserves related to such Production Payments shall not exceed % of ACNTA at the time of Incurrence; (9) Indebtedness consisting of Interest Rate Agreements directly related to Indebtedness permitted to be Incurred by the Company and its Restricted Subsidiaries pursuant to the Indenture; (10) Indebtedness under Oil and Gas Hedging Contracts and Currency Agreements entered into in the ordinary course of business for the purpose of limiting risks that arise in the ordinary course of business of the Company and its Restricted Subsidiaries; (11) Indebtedness in respect of letters of credit issued for the benefit of the Company or any of its Restricted Subsidiaries to the extent they are issued in connection with the ordinary course of business of the Company and its Restricted Subsidiaries, Incurred in an aggregate amount which, when taken together with the amount of all other Indebtedness Incurred pursuant to this clause (11) and then outstanding, does not exceed the greater of (x) $ million and (y) % of the maximum Indebtedness that would at such time be permitted to be outstanding pursuant to clause (b)(1) above; (12) Indebtedness of the Company or a Restricted Subsidiary Incurred to finance capital expenditures and Refinancing Indebtedness Incurred in respect thereof in an aggregate amount which, when taken together with the amount of all other Indebtedness Incurred pursuant to this clause (12) and then outstanding, does not exceed $ million; (13) Permitted Marketing Obligations; and (14) Indebtedness in an aggregate amount which, together with the amount of all other Indebtedness of the Company and its Restricted Subsidiaries outstanding on the date of such Incurrence (other than Indebtedness permitted by clauses (1) through (13) above or paragraph (a)) does not exceed $ million. (c) Notwithstanding the foregoing, the Company shall not Incur any Indebtedness pursuant to the foregoing paragraph (b) if the proceeds thereof are used, directly or indirectly, to Refinance any Subordinated Obligations of the Company unless such Indebtedness shall be subordinated to the Notes to at least the same extent as such Subordinated Obligations. (d) For purposes of determining compliance with the foregoing covenant, (i) in the event that an item of Indebtedness meets the criteria of more than one of the types of Indebtedness described above, the Company, in its sole discretion, will classify such item of Indebtedness and only be required to include the amount and type of such Indebtedness in one of the above clauses and (ii) an item of Indebtedness may be divided and classified in more than one of the types of Indebtedness described above. (e) Notwithstanding paragraphs (a) and (b) above, neither the Company nor the Guarantor shall Incur any Indebtedness if such Indebtedness is subordinate or junior in ranking in any respect to any Senior Indebtedness of the Company or the Guarantor, unless such Indebtedness is Senior Subordinated Indebtedness of the Company or the Guarantor. LIMITATION ON RESTRICTED PAYMENTS. (a) The Company shall not, and shall not permit any Restricted Subsidiary, directly or indirectly, to make a Restricted Payment if at the time the Company or such Restricted Subsidiary makes such Restricted Payment: (1) a Default shall have occurred and be continuing (or would result therefrom); (2) the Company is not able to Incur an additional $1.00 of Indebtedness pursuant to paragraph (a) of the covenant described under "-- Limitation on Indebtedness"; or (3) the aggregate amount of such Restricted Payment and all other Restricted Payments since the Issue Date would exceed the sum of: 85 89 (A) 50% of the Consolidated Net Income accrued during the period (treated as one accounting period) from the beginning of the fiscal quarter immediately following the fiscal quarter during which the Notes are originally issued to the end of the most recent fiscal quarter ending at least 45 days prior to the date of such Restricted Payment (or, in case such Consolidated Net Income shall be a deficit, minus 100% of such deficit); (B) the aggregate Net Cash Proceeds received by the Company from the issuance or sale of its Capital Stock (other than Disqualified Stock) subsequent to the Issue Date (other than an issuance or sale to a Subsidiary of the Company and other than an issuance or sale to an employee stock ownership plan or to a trust established by the Company or any of its Subsidiaries for the benefit of their employees); (C) the aggregate Net Cash Proceeds received by the Company from the issue or sale subsequent to the Issue Date of its Capital Stock (other than Disqualified Stock) to an employee stock ownership plan; provided, however, that if such employee stock ownership plan incurs any Indebtedness with respect thereto, such aggregate amount shall be limited to an amount equal to any increase in the Consolidated Net Worth of the Company resulting from principal repayments made by such employee stock ownership plan with respect to such Indebtedness; (D) the amount by which Indebtedness of the Company is reduced on the Company's balance sheet upon the conversion or exchange (other than by a Subsidiary of the Company) subsequent to the Issue Date, of any Indebtedness of the Company convertible or exchangeable for Capital Stock (other than Disqualified Stock) of the Company (less the amount of any cash, or the fair value of any other property, distributed by the Company upon such conversion or exchange); and (E) an amount equal to the sum of (i) the net reduction in Investments in Unrestricted Subsidiaries resulting from dividends, repayments of loans or advances or other transfers of assets, in each case to the Company or any Restricted Subsidiary from Unrestricted Subsidiaries, and (ii) the portion (proportionate to the Company's equity interest in such Subsidiary) of the fair market value of the net assets of an Unrestricted Subsidiary at the time such Unrestricted Subsidiary is designated a Restricted Subsidiary; provided, however, that the foregoing sum shall not exceed, in the case of any Unrestricted Subsidiary, the amount of Investments previously made (and treated as a Restricted Payment) by the Company or any Restricted Subsidiary in such Unrestricted Subsidiary. (b) The provisions of the foregoing paragraph (a) shall not prohibit: (i) any purchase or redemption of Capital Stock or Subordinated Obligations of the Company made by exchange for, or out of the proceeds of the substantially concurrent sale of, Capital Stock of the Company (other than Disqualified Stock and other than Capital Stock issued or sold to a Subsidiary of the Company or an employee stock ownership plan or to a trust established by the Company or any of its Subsidiaries for the benefit of their employees); provided, however, that (A) such purchase or redemption shall be excluded in the calculation of the amount of Restricted Payments and (B) the Net Cash Proceeds from such sale shall be excluded from the calculation of amounts under clause (3)(B) of paragraph (a) above (but only to the extent that such Net Cash Proceeds were used to purchase or redeem such Capital Stock as provided in this clause (i)); (ii) any purchase, repurchase, redemption, defeasance or other acquisition or retirement for value of Subordinated Obligations of the Company made by exchange for, or out of the proceeds of the substantially concurrent sale of, Indebtedness of the Company which is permitted to be Incurred pursuant to the covenant described under "-- Limitation on Indebtedness"; provided, however, that such purchase, repurchase, redemption, defeasance or other acquisition or retirement for value shall be excluded in the calculation of the amount of Restricted Payments; (iii) dividends paid within 60 days after the date of declaration thereof if at such date of declaration such dividend would have complied with this covenant; provided, however, that at the time of payment of such dividend, no other Default shall have occurred and be continuing (or result therefrom); provided further, however, that such dividend shall be included in the calculation of the amount of Restricted Payments; (iv) the repurchase of shares of, or options to purchase shares of, common stock of the Company or any of its Subsidiaries from employees, former employees, directors or former directors of the Company or any of its Subsidiaries (or permitted transferees of such employees, former employees, directors or former directors), pursuant to the terms of the agreements (including employment agreements) or plans (or amendments thereto) approved by the Board of Directors under which such individuals purchase or sell or are granted the option to purchase or sell, shares of such common stock; provided, however, that the aggregate amount of such repurchases shall not exceed $ million in any calendar year and $ million in the aggregate; provided further, however, that such repurchases shall be excluded in the calculation of the amount of Restricted Payments; or (v) other Restricted Payments in an aggregate amount not to exceed $ million; provided 86 90 however, that such Restricted Payments shall be excluded in the calculation of the amount of Restricted Payments. LIMITATION ON RESTRICTIONS ON DISTRIBUTIONS FROM RESTRICTED SUBSIDIARIES. The Company shall not, and shall not permit any Restricted Subsidiary to, create or otherwise cause or permit to exist or become effective any consensual encumbrance or restriction on the ability of any Restricted Subsidiary (a) to pay dividends or make any other distributions on its Capital Stock or pay any Indebtedness owed to the Company or a Restricted Subsidiary, (b) to make any loans or advances to the Company or a Restricted Subsidiary or (c) to transfer any of its property or assets to the Company or a Restricted Subsidiary, except: (i) any encumbrance or restriction pursuant to an agreement in effect at or entered into on the Issue Date; (ii) any encumbrance or restriction with respect to a Restricted Subsidiary pursuant to an agreement relating to any Indebtedness Incurred by such Restricted Subsidiary on or prior to the date on which such Restricted Subsidiary was acquired by the Company (other than Indebtedness Incurred as consideration in, or to provide all or any portion of the funds or credit support utilized to consummate, the transaction or series of related transactions pursuant to which such Restricted Subsidiary became a Restricted Subsidiary or was acquired by the Company) and outstanding on such date; (iii) any encumbrance or restriction pursuant to an agreement effecting a Refinancing of Indebtedness Incurred pursuant to an agreement referred to in clause (i) or (ii) of this covenant or this clause (iii) or contained in any amendment to an agreement referred to in clause (i) or (ii) of this covenant or this clause (iii); provided, however, that the encumbrances and restrictions with respect to such Restricted Subsidiary contained in any such refinancing agreement or amendment are no less favorable to the Noteholders than encumbrances and restrictions with respect to such Restricted Subsidiary contained in such agreements; (iv) any such encumbrance or restriction consisting of customary nonassignment provisions in leases governing leasehold interests to the extent such provisions restrict the transfer of the lease or the property leased thereunder; (v) in the case of clause (c) above, restrictions contained in security agreements or mortgages securing Indebtedness of a Restricted Subsidiary to the extent such restrictions restrict the transfer of the property subject to such security agreements or mortgages; and (vi) any restriction with respect to a Restricted Subsidiary imposed pursuant to an agreement entered into for the sale or disposition of all or substantially all the Capital Stock or assets of such Restricted Subsidiary pending the closing of such sale or disposition. LIMITATION ON SALES OF ASSETS AND SUBSIDIARY STOCK. (a) In the event and to the extent that the Net Available Cash received by the Company or any Restricted Subsidiary from one or more Asset Dispositions occurring on or after the Issue Date in any period of 12 consecutive months exceeds 15% of Adjusted Consolidated Net Tangible Assets as of the beginning of such 12-month period, then the Company shall (i) within 180 days (in the case of (A) below) or 18 months (in the case of (B) below) after date such Net Available Cash so received exceeds such 15% of Adjusted Consolidated Net Tangible Assets (A) apply an amount equal to such excess Net Available Cash to repay Senior Indebtedness or Indebtedness of a Restricted Subsidiary, in each case owing to a Person other than the Company or any Affiliate of the Company or (B) invest an equal amount, or the amount not so applied pursuant to clause (A), in Additional Assets or a Permitted Business Investment or (ii) apply such excess Net Available Cash (to the extent not applied pursuant to clause (i)) as provided in the following paragraphs of this covenant. The amount of such excess Net Available Cash required to be applied during the applicable period and not applied as so required by the end of such period shall constitute "Excess Proceeds." If, as of the first day of any calendar month, the aggregate amount of Excess Proceeds not theretofore subject to an Excess Proceeds Offer (as defined below) totals at least $ million, the Company must, not later than the fifteenth Business Day of such month, make an offer (an "Excess Proceeds Offer") to purchase from the Holders on a pro rata basis an aggregate principal amount of Notes equal to the Excess Proceeds (rounded down to the nearest multiple of $1,000) on such date, at a purchase price equal to 100% of the principal amount of such Notes, plus, in each case, accrued interest (if any) to the date of purchase (the "Excess Proceeds Payment"). The Company will comply, to the extent applicable, with the requirements of Section 14(e) of the Exchange Act and any other securities laws or regulations thereunder in the event that such Excess Proceeds are received by the Company under this covenant and the Company is required to repurchase Notes as 87 91 described above. To the extent that the provisions of any securities laws or regulations conflict with the provisions of this covenant, the Company shall comply with the applicable securities laws and regulations and shall not be deemed to have breached its obligations under this covenant by virtue thereof. (c) In the event of an Asset Disposition by the Company or any Restricted Subsidiary that consists of a sale of hydrocarbons and results in Production Payments, the Company or such Restricted Subsidiary shall apply an amount equal to the Net Available Cash received by the Company or such Restricted Subsidiary to (i) reduce Senior Indebtedness of the Company or Indebtedness of a Restricted Subsidiary, in each case owing to a Person other than the Company or any Affiliate of the Company, within 180 days after the date such Net Available Cash is so received, or (ii) invest in Additional Assets or a Permitted Business Investment within 18 months after the date such Net Available Cash is so received. LIMITATION ON AFFILIATE TRANSACTIONS. (a) The Company shall not, and shall not permit any Restricted Subsidiary to, enter into or permit to exist any transaction (including the purchase, sale, lease or exchange of any property, employee compensation arrangements or the rendering of any service) with any Affiliate of the Company (an "Affiliate Transaction") unless the terms thereof (1) are no less favorable to the Company or such Restricted Subsidiary than those that could be obtained at the time of such transaction in arm's-length dealings with a Person who is not such an Affiliate, (2) if such Affiliate Transaction involves an amount in excess of $ million, is set forth in writing and has been approved by a majority of the members of the Board of Directors having no personal stake in such Affiliate Transaction or (3) if such Affiliate Transaction involves an amount in excess of $ million, has been determined by a nationally recognized investment banking firm or other qualified independent appraiser to be fair, from a financial standpoint, to the Company and its Restricted Subsidiaries. (b) The provisions of the foregoing paragraph (a) shall not prohibit (i) any sale of hydrocarbons or other mineral products to an Affiliate of the Company or the entering into or performance of Oil and Gas Hedging Contracts, gas gathering, transportation or processing contracts or oil or natural gas marketing or exchange contracts with an Affiliate of the Company, in each case, in the ordinary course of business, so long as the terms of any such transaction are approved by a majority of the members of the Board of Directors who are disinterested with respect to such transaction, (ii) the sale to an Affiliate of the Company of Capital Stock of the Company that does not constitute Disqualified Stock, (iii) transactions contemplated by any employment agreement or other compensation plan or arrangement existing on the Issue Date or thereafter entered into by the Company or any of its Restricted Subsidiaries in the ordinary course of business, (iv) transactions between or among the Company and its Restricted Subsidiaries, (v) transactions between the Company or any of its Restricted Subsidiaries and Persons that are controlled (as defined in the definition of "Affiliate") by the Company (an "Unrestricted Affiliate); provided that no other Person that controls (as so defined) or is under common control with the Company holds any Investments in such Unrestricted Affiliate; (vi) Restricted Payments and Permitted Investments that are permitted by the provisions of the Indenture described above under the caption "-- Limitation on Restricted Payments", and (vii) loans or advances to employees in the ordinary course of business and approved by the Company's Board of Directors in an aggregate principal amount not to exceed $ million outstanding at any one time. CHANGE OF CONTROL. (a) Upon the occurrence of a Change of Control, each Holder shall have the right to require that the Company repurchase such Holder's Notes at a purchase price in cash equal to 101% of the principal amount thereof plus accrued and unpaid interest, if any, to the date of purchase (subject to the right of Holders of record on the relevant record date to receive interest on the relevant interest payment date), in accordance with the terms contemplated in paragraph (b) below. In the event that at the time of such Change of Control the terms of the Indebtedness under the Credit Agreement restrict or prohibit the repurchase of Notes pursuant to this covenant, then prior to the mailing of the notice to Holders provided for in paragraph (b) below, but in any event within 30 days following any Change of Control, the Company shall (i) repay in full all Indebtedness and repay such Indebtedness of each lender which has accepted such offer or (ii) obtain the requisite consent under the agreements governing the Indebtedness under the Credit Agreement to permit the repurchase of the Notes as provided for in paragraph (b) below. 88 92 (b) Within 30 days following a Change of Control, the Company shall mail a notice to each Holder with a copy to the Trustee stating: (1) that a Change of Control has occurred and that such Holder has the right to require the Company to purchase such Holder's Notes at a purchase price in cash equal to 101% of the principal amount thereof plus accrued and unpaid interest, if any, to the date of purchase (subject to the right of Holders of record on the relevant record date to receive interest on the relevant interest payment date); (2) the circumstances and relevant facts regarding such Change of Control (including information with respect to pro forma historical income, cash flow and capitalization after giving effect to such Change of Control); (3) the repurchase date (which shall be no earlier than 30 days nor later than 60 days from the date such notice is mailed); and (4) the instructions determined by the Company, consistent with this covenant, that a Holder must follow in order to have its Notes purchased. (c) The Company shall comply, to the extent applicable, with the requirements of Section 14(e) of the Exchange Act and any other securities laws or regulations in connection with the repurchase of Notes pursuant to this covenant. To the extent that the provisions of any securities laws or regulations conflict with the provisions of this covenant, the Company shall comply with the applicable securities laws and regulations and shall not be deemed to have breached its obligations under this covenant by virtue thereof. The Change of Control purchase feature is a result of negotiations between the Company and the Underwriters. Management has no present intention to engage in a transaction involving a Change of Control, although it is possible that the Company would decide to do so in the future. Subject to the limitations discussed below, the Company could, in the future, enter into certain transactions, including acquisitions, refinancing or other recapitalizations, that would not constitute a Change of Control under the Indenture, but that could increase the amount of indebtedness outstanding at such time or otherwise affect the Company's capital structure or credit ratings. Restrictions on the ability of the Company to incur additional Indebtedness are contained in the covenants described under "-- Limitation on Indebtedness", "-- Limitation on Liens" and "-- Limitation on Sale/Leaseback Transactions". Such restrictions can only be waived with the consent of the holders of a majority in principal amount of the Notes then outstanding. Except for the limitations contained in such covenants, however, the Indenture will not contain any covenants or provisions that may afford holders of the Notes protection in the event of a highly leveraged transaction. The Credit Agreement prohibits the Company from purchasing any Notes and also provides that the occurrence of certain change of control events with respect to the Company would constitute a default thereunder. In the event a Change of Control occurs at a time when the Company is prohibited from purchasing Notes, the Company could seek the consent of its lenders to the purchase of Notes or could attempt to refinance the borrowings that contain such prohibition. If the Company does not obtain such a consent or repay such borrowings, the Company will remain prohibited from purchasing Notes. In such case, the Company's failure to purchase tendered Notes would constitute an Event of Default under the Indenture which would, in turn, constitute a default under the Credit Agreement. In such circumstances, the subordination provisions in the Indenture would likely restrict payment to the Holders of Notes. Future indebtedness of the Company may contain prohibitions on the occurrence of certain events that would constitute a Change of Control or require such indebtedness to be repurchased upon a Change of Control. Moreover, the exercise by the Holders of their right to require the Company to repurchase the Notes could cause a default under such indebtedness, even if the Change of Control itself does not, due to the financial effect of such repurchase on the Company. Finally, the Company's ability to pay cash to the holders of Notes following the occurrence of a Change of Control may be limited by the Company's then existing financial resources. There can be no assurance that sufficient funds will be available when necessary to make any required repurchases. The provisions under the Indenture relating to the Company's obligation to make an offer to repurchase the Notes as a result of a Change of Control may be waived or modified with the written consent of the holders of a majority in principal amount of the Notes. The Company will not be required to make an offer to purchase the Notes as a result of a Change of Control if a third party (i) makes such offer in the manner, at the times and otherwise in compliance with the 89 93 requirements set forth in the Indenture relating to the Company's obligations to make such an offer and (ii) purchases all Notes validly tendered and not withdrawn under such an offer. LIMITATION ON THE SALE OR ISSUANCE OF CAPITAL STOCK OF RESTRICTED SUBSIDIARIES. The Company shall not sell or otherwise dispose of any shares of Capital Stock of a Restricted Subsidiary, and shall not permit any Restricted Subsidiary, directly or indirectly, to issue or sell or otherwise dispose of any shares of its Capital Stock except (i) to the Company or a Wholly Owned Subsidiary, (ii) if, immediately after giving effect to such issuance, sale or other disposition, the Company and its Restricted Subsidiaries would own less than 20% of the Voting Stock of such Restricted Subsidiary and have no greater economic interest in such Restricted Subsidiary, (iii) if, immediately after giving effect to such issuance, sale or other disposition, the Company and its Restricted Subsidiaries would own greater than 80% of the Voting Stock of such Restricted Subsidiary and have no lesser economic interest in such Restricted Subsidiary or (iv) to the extent such shares represent directors' qualifying shares or shares required by applicable law to be held by a Person other than the Company or Restricted Subsidiary. LIMITATION ON LIENS. The Company shall not, directly or indirectly, Incur or permit to exist any Lien (other than Permitted Liens) of any nature whatsoever on any of its properties (including Capital Stock of a Restricted Subsidiary), whether owned at the Issue Date or thereafter acquired, to secure any Indebtedness of the Company that is not Senior Indebtedness of the Company, without effectively providing that the Notes shall be secured equally and ratably with (or prior to) the obligations so secured for so long as such obligations are so secured. LIMITATION ON SALE/LEASEBACK TRANSACTIONS. The Company shall not, and shall not permit any Restricted Subsidiary to, enter into any Sale/Leaseback Transaction with respect to any property unless (i) the Company or such Restricted Subsidiary would be entitled to (A) Incur Indebtedness in an amount equal to the Attributable Debt with respect to such Sale/Leaseback Transaction pursuant to the covenant described under "-- Limitation on Indebtedness" and (B) create a Lien on such property securing such Attributable Debt without equally and ratably securing the Notes pursuant to the covenant described under "-- Limitation on Liens," (ii) the net proceeds received by the Company or any Restricted Subsidiary in connection with such Sale/Leaseback Transaction are at least equal to the fair value (as determined by the Board of Directors) of such property and (iii) the Company applies the proceeds of such transaction in compliance with the covenant described under "-- Limitation on Sales of Assets and Subsidiary Stock." MERGER AND CONSOLIDATION. The Company shall not consolidate with or merge with or into, or convey, transfer or lease , in one transaction or a series of transactions, all or substantially all its assets to, any Person, unless: (i) the resulting, surviving or transferee Person (the "Successor Company") shall be a Person organized and existing under the laws of the United States of America, any State thereof or the District of Columbia and the Successor Company (if not the Company) shall expressly assume, by an indenture supplemental thereto, executed and delivered to the Trustee, in form satisfactory to the Trustee, all the obligations of the Company under the Notes and the Indenture; (ii) immediately after giving effect to such transaction (and treating any Indebtedness which becomes an obligation of the Successor Company or any Subsidiary as a result of such transaction as having been Incurred by such Successor Company or such Subsidiary at the time of such transaction), no Default shall have occurred and be continuing, (iii) immediately after giving effect to such transaction, the Successor Company would be able to Incur an additional $1.00 of Indebtedness pursuant to paragraph (a) or, if applicable, paragraph (b)(15), of the covenant described under "-- Limitation on Indebtedness", (iv) immediately after giving effect to such transaction, the Successor Company shall have Adjusted Consolidated Net Tangible Assets that are not less than the Adjusted Consolidated Net Tangible Assets prior to such transaction; and (v) the Company shall have complied with certain additional conditions set forth in the Indenture; provided, however, that clauses (iii) and (iv) shall not be applicable to any such transaction solely between the Company and any Restricted Subsidiary. The Successor Company shall be the successor to the Company and shall succeed to, and be substituted for, and may exercise every right and power of, the Company under the Indenture, but the predecessor 90 94 Company in the case of a lease shall not be released from the obligation to pay the principal of and interest on the Notes. Pursuant to the Indenture, the Guarantor will covenant not to merge with or into, or convey, transfer or lease, in one transaction or a series of transactions, all or substantially all of its assets to any Person unless; (i) the resulting, surviving or transferee Person (if not the Guarantor) shall be a Person organized and existing under the laws of the jurisdiction under which the Guarantor was organized or under the laws of the United States of America, or any State thereof or the District of Columbia, and such Person shall expressly assume, by executing a Guaranty Agreement, all the obligations of the Guarantor, if any, under its Guaranty, (ii) immediately after giving effect to such transaction or transactions on a pro forma basis (and treating any Indebtedness which becomes an obligation of the resulting, surviving or transferee Person as a result of such transaction as having been issued by such Person at the time of such transaction), no Default shall have occurred and be continuing; and (iii) the Company shall have complied with certain additional conditions contained in the Indenture. SEC Reports. Notwithstanding that the Company may not at any time be subject to the reporting requirements of Section 13 or 15(d) of the Exchange Act, the Company shall file with the SEC and provide the Trustee and Noteholders with such annual reports and such information, documents and other reports as are specified in Sections 13 and 15(d) of the Exchange Act and applicable to a U.S. corporation subject to such Sections, such information, documents and other reports to be so filed and provided at the times specified for the filing of such information, documents and reports under such Sections. DEFAULTS An Event of Default is defined in the Indenture as (i) a default in the payment of interest on the Notes when due, continued for 30 days, (ii) a default in the payment of principal of any Note when due at its Stated Maturity, upon optional redemption, upon required repurchase, upon declaration or otherwise, (iii) the failure by the Company to comply with its obligations under "-- Certain Covenants -- Merger and Consolidation" above, (iv) the failure by the Company to comply for 30 days after notice with any of its obligations in the covenants described above under "-- Certain Covenants", "-- Limitation on Indebtedness", "-- Limitation on Restricted Payments", "-- Limitation on Restrictions on Distributions from Restricted Subsidiaries", "-- Limitation on Sales of Assets and Subsidiary Stock" (other than a failure to purchase Notes), "-- Limitation on Affiliate Transactions", "-- Limitation on the Sale or Issuance of Capital Stock of Restricted Subsidiaries", "-- Change of Control" (other than a failure to purchase Notes), "-- Limitation on Liens", "-- Limitation on Sale/Leaseback Transactions", or "-- SEC Reports", (v) the failure by the Company to comply for 60 days after notice with its other agreements contained in the Indenture, (vi) Indebtedness of the Company or the Guarantor (other than Limited Recourse Indebtedness) is not paid within any applicable grace period after final maturity or the maturity of such Indebtedness is accelerated by the holders thereof because of a default (and such acceleration is not rescinded or annulled) and the total amount of such Indebtedness unpaid or accelerated exceeds $ million (the "cross acceleration provision"), (vii) certain events of bankruptcy, insolvency or reorganization of the Company or a Significant Subsidiary (the "bankruptcy provisions"), (viii) any judgment or decree for the payment of money in excess of $ million or its foreign currency equivalent at the time is rendered against the Company or a Significant Subsidiary, remains outstanding for a period of 60 days following such judgment and is not discharged, waived or stayed within 10 days after notice (the "judgment default provision") or (ix) the Guaranty ceases to be in full force and effect (other than in accordance with the terms thereof) or the Guarantor denies or disaffirms its obligations under the Guaranty if such default continues for a period of ten days after notice thereof to the Company (the "guaranty default provision"). However, a default under clauses (iv), (v), (viii) and (ix) will not constitute an Event of Default until the Trustee or the holders of 25% in principal amount of the outstanding Notes notify the Company of the default and the Company does not cure such default within the time specified after receipt of such notice. If an Event of Default occurs and is continuing, the Trustee or the holders of at least 25% in principal amount of the outstanding Notes may declare the principal of and accrued but unpaid interest on all the Notes to be due and payable. Upon such a declaration, such principal and interest shall be due and payable 91 95 immediately. If an Event of Default relating to certain events of bankruptcy, insolvency or reorganization of the Company occurs and is continuing, the principal of and interest on all the Notes will ipso facto become and be immediately due and payable without any declaration or other act on the part of the Trustee or any holders of the Notes. Under certain circumstances, the holders of a majority in principal amount of the outstanding Notes may rescind any such acceleration with respect to the Notes and its consequences. Subject to the provisions of the Indenture relating to the duties of the Trustee, in case an Event of Default occurs and is continuing, the Trustee will be under no obligation to exercise any of the rights or powers under the Indenture at the request or direction of any of the holders of the Notes unless such holders have offered to the Trustee reasonable indemnity or security against any loss, liability or expense. Except to enforce the right to receive payment of principal, premium (if any) or interest when due, no holder of a Note may pursue any remedy with respect to the Indenture or the Notes unless (i) such holder has previously given the Trustee notice that an Event of Default is continuing, (ii) holders of at least 25% in principal amount of the outstanding Notes have requested the Trustee to pursue the remedy, (iii) such holders have offered the Trustee reasonable security or indemnity against any loss, liability or expense, (iv) the Trustee has not complied with such request within 60 days after the receipt thereof and the offer of security or indemnity and (v) the holders of a majority in principal amount of the outstanding Notes have not given the Trustee a direction inconsistent with such request within such 60-day period. Subject to certain restrictions, the holders of a majority in principal amount of the outstanding Notes are given the right to direct the time, method and place of conducting any proceeding for any remedy available to the Trustee or of exercising any trust or power conferred on the Trustee. The Trustee, however, may refuse to follow any direction that conflicts with law or the Indenture or that the Trustee determines is unduly prejudicial to the rights of any other holder of a Note or that would involve the Trustee in personal liability. The Indenture provides that if a Default occurs and is continuing and is known to the Trustee, the Trustee must mail to each holder of the Notes notice of the Default within 90 days after it occurs. Except in the case of a Default in the payment of principal of or interest on any Note, the Trustee may withhold notice if and so long as a committee of its trust officers determines that withholding notice is not opposed to the interest of the holders of the Notes. In addition, the Company is required to deliver to the Trustee, within 120 days after the end of each fiscal year, a certificate indicating whether the signers thereof know of any Default that occurred during the previous year. The Company also is required to deliver to the Trustee, within 30 days after the occurrence thereof, written notice of any event which would constitute certain Defaults, their status and what action the Company is taking or proposes to take in respect thereof. AMENDMENTS AND WAIVERS Subject to certain exceptions, the Indenture may be amended with the consent of the holders of a majority in principal amount of the Notes then outstanding (including consents obtained in connection with a tender offer or exchange for the Notes) and any past default or compliance with any provisions may also be waived with the consent of the holders of a majority in principal amount of the Notes then outstanding. However, without the consent of each holder of an outstanding Note affected thereby, no amendment may, among other things, (i) reduce the amount of Notes whose holders must consent to an amendment, (ii) reduce the rate of or extend the time for payment of interest on any Note, (iii) reduce the principal of or extend the Stated Maturity of any Note, (iv) reduce the premium payable upon the redemption of any Note or change the time at which any Note may be redeemed as described under "-- Optional Redemption", (v) make any Note payable in money other than that stated in the Note, (vi) impair the right of any holder of the Notes to receive payment of principal of and interest on such holder's Notes on or after the due dates therefor or to institute suit for the enforcement of any payment on or with respect to such holder's Notes, (vii) make any change in the amendment provisions which require each holder's consent or in the waiver provisions, (viii) make any change to the subordination provisions of the Indenture that would adversely affect the Noteholders or (ix) make any change in the Guaranty that could adversely affect such holder. Without the consent of any holder of the Notes, the Company, the Guarantor and the Trustee may amend the Indenture to cure any ambiguity, omission, defect or inconsistency, to provide for the assumption by a successor corporation of the obligations of the Company or the Guarantor under the Indenture, to provide 92 96 for uncertificated Notes in addition to or in place of certificated Notes (provided that the uncertificated Notes are issued in registered form for purposes of Section 163(f) of the Code, or in a manner such that the uncertificated Notes are described in Section 163(f)(2)(B) of the Code), to make any change in the subordination provisions of the Indenture that would limit or terminate the benefits available to any holder of Senior Indebtedness of the Company or the Guarantor thereunder, to add guarantees with respect to the Notes, to secure the Notes, to add to the covenants of the Company for the benefit of the holders of the Notes or to surrender any right or power conferred upon the Company or the Guarantor, to make any change that does not adversely affect the rights of any holder of the Notes or to comply with any requirement of the SEC in connection with the qualification of the Indenture under the Trust Indenture Act. However, no amendment may be made to the subordination provisions of the Indenture that adversely affects the rights of any holder of Senior Indebtedness of the Company or the Guarantor then outstanding unless the holders of such Senior Indebtedness (or their Representative) consents to such change. The consent of the holders of the Notes is not necessary under the Indenture to approve the particular form of any proposed amendment. It is sufficient if such consent approves the substance of the proposed amendment. After an amendment under the Indenture becomes effective, the Company is required to mail to holders of the Notes a notice briefly describing such amendment. However, the failure to give such notice to all holders of the Notes, or any defect therein, will not impair or affect the validity of the amendment. TRANSFER The Notes will be issued in registered form and will be transferable only upon the surrender of the Notes being transferred for registration of transfer. The Company may require payment of a sum sufficient to cover any tax, assessment or other governmental charge payable in connection with certain transfers and exchanges. DEFEASANCE The Company at any time may terminate all its obligations under the Notes and the Indenture ("legal defeasance"), except for certain obligations, including those respecting the defeasance trust and obligations to register the transfer or exchange of the Notes, to replace mutilated, destroyed, lost or stolen Notes and to maintain a registrar and paying agent in respect of the Notes. The Company at any time may terminate its obligations under the covenants described under "-- Certain Covenants" (other than the covenant described under "-- Merger and Consolidation"), the operation of the cross acceleration provision, the bankruptcy provisions with respect to Significant Subsidiaries, the judgment default provision and the guaranty default provision described under "-- Defaults" above and the limitations contained in clauses (iii) and (iv) under the first paragraph of, and in the third paragraph of, "-- Certain Covenants -- Merger and Consolidation" above ("covenant defeasance"). The Company may exercise its legal defeasance option notwithstanding its prior exercise of its covenant defeasance option. If the Company exercises its legal defeasance option, payment of the Notes may not be accelerated because of an Event of Default with respect thereto. If the Company exercises its covenant defeasance option, payment of the Notes may not be accelerated because of an Event of Default specified in clause (iv), (vi), (vii) (with respect only to Significant Subsidiaries) or (viii) under "-- Defaults" above or because of the failure of the Company to comply with clause (iii) or (iv) under the first of paragraph of, or with the third paragraph of, "-- Certain Covenants -- Merger and Consolidation" above. If the Company exercises its legal defeasance option or its covenant defeasance option, the Guarantor will be released from all its obligations with respect to the Guaranty. In order to exercise either defeasance option, the Company must irrevocably deposit in trust (the "defeasance trust") with the Trustee money or U.S. Government Obligations for the payment of principal and interest on the Notes to redemption or maturity, as the case may be, and must comply with certain other conditions, including delivery to the Trustee of an Opinion of Counsel to the effect that holders of the Notes will not recognize income, gain or loss for Federal income tax purposes as a result of such deposit and defeasance and will be subject to Federal income tax on the same amount and in the same manner and at the 93 97 same times as would have been the case if such deposit and defeasance had not occurred (and, in the case of legal defeasance only, such Opinion of Counsel must be based on a ruling of the Internal Revenue Service or other change in applicable Federal income tax law). CONCERNING THE TRUSTEE is to be the Trustee under the Indenture and has been appointed by the Company as Registrar and Paying Agent with regard to the Notes. The Holders of a majority in principal amount of the outstanding Notes will have the right to direct the time, method and place of conducting any proceeding for exercising any remedy available to the Trustee, subject to certain exceptions. The Indenture provides that if an Event of Default occurs (and is not cured), the Trustee will be required, in the exercise of its power, to use the degree of care of a prudent man in the conduct of his own affairs. Subject to such provisions, the Trustee will be under no obligation to exercise any of its rights or powers under the Indenture at the request of any Holder of Notes, unless such Holder shall have offered to the Trustee security and indemnity satisfactory to it against any loss, liability or expense and then only to the extent required by the terms of the Indenture. GOVERNING LAW The Indenture provides that it (including the Guaranty) and the Notes will be governed by, and construed in accordance with, the laws of the State of New York without giving effect to applicable principles of conflicts of law to the extent that the application of the law of another jurisdiction would be required thereby. [D] CERTAIN U.S. FEDERAL INCOME TAX CONSIDERATIONS The following is a general discussion of the principal United States federal income tax consequences of the purchase, ownership and disposition of the Notes to initial purchasers thereof who are United States Holders (as defined below) and the principal United States federal income and estate tax consequences of the purchase, ownership and disposition of the Notes to initial purchasers who are foreign Holders (as described below). This discussion is based on currently existing provisions of the Code, existing, temporary and proposed Treasury regulations promulgated thereunder, and administrative and judicial interpretations thereof, all as in effect or proposed on the date hereof and all of which are subject to change, possible with retroactive effect, or different interpretations. This discussion does not address the tax consequences to subsequent purchasers of Notes and is limited to purchasers who hold the Notes as capital assets, within the meaning of section 1221 of the Code. This discussion also does not address the tax consequences to Foreign Holders that are subject to United States federal income tax on a net basis on income realized with respect to a Note because such income is effectively connected with the conduct of a United States trade or business. Such Foreign holders are generally taxed in a similar manner to United States Holders, but certain special rules do apply. Moreover, this discussion is for general information only and does not address all of the tax consequences that may be relevant to particular initial purchasers in light of their personal circumstances or to certain types of initial purchasers (such as certain financial institutions, insurance companies, tax-exempt entities, dealers in securities or persons who have hedged the risk of owning a Note). PROSPECTIVE PURCHASERS ARE URGED TO CONSULT THEIR OWN TAX ADVISORS AS TO THE PARTICULAR TAX CONSEQUENCES TO THEM OF THE PURCHASE, OWNERSHIP AND DISPOSITION OF THE NOTES, INCLUDING THE APPLICABILITY OF ANY FEDERAL TAX LAWS OR ANY STATE, LOCAL OR FOREIGN TAX LAWS, AND ANY CHANGES (OR PROPOSED CHANGES IN APPLICABLE TAX LAWS OR INTERPRETATIONS THEREOF. 94 98 UNITED STATES FEDERAL INCOME TAXATION OF UNITED STATES HOLDERS As used herein, the term "United States Holder" means a holder of a Note that is, for United States federal income tax purposes, (a) a citizen or resident of the Untied States, (b) a corporation, partnership or other entity created or organized in or under the laws of the United States or any political subdivision thereof, (c) an estate the income of which is subject to United States federal income taxation regardless of source, or (iv) a trust subject to the primary supervision of a court within the United States and the control of a United States fiduciary as described in Section 7701 (a)(30) of the Code. PAYMENT OF INTEREST ON NOTES. Interest paid or payable on a Note will be taxable to a United States Holder a ordinary interest income, generally at the time it is received or accrued, in accordance with such holder's regular method of accounting for United States federal income tax purposes. SALE, EXCHANGE OR RETIREMENT OF NOTES. Upon the sale, redemption, retirement at maturity or other disposition of a Note, a United States Holder generally will recognize taxable gain or loss equal to the difference between the sum of cash plus the fair market value of all other property received on such disposition (except to the extent such cash or property is attributable to accrued by unpaid interest, which will be taxable as ordinary income) and such United States Holder's adjusted tax basis in the Note. A United States Holder's adjusted tax basis in a Note generally will equal the cost of the Note to such United States Holder, less and principal payments received by such United States Holder. Gain or loss recognized on the disposition of a Note generally will be capital gain or loss and will be long-term capital gain or loss if, at the time of such disposition, the United States Holder's holding period for the Note is more than one year. Under the Taxpayer Relief Act of 1997, lower tax rates apply to the sale or exchange of capital assets by individuals who have held such assets for more than 18 months. BACKUP WITHHOLDING AND INFORMATION REPORTING. Backup withholding and information reporting requirements may apply to certain payments of principal, premium, if any, and interest on a Note, and to proceeds of the sale or redemption of a Note before maturity. The Company, its agent, a broker, the Trustee or any paying agent, as the case may be, will be required to withhold from any payment that is subject to backup withholding a tax equal to 31% of such payment if a United States Holder fails to furnish his, her or its taxpayer identification number (social security or employer identification number), certify that such number is correct, certify that such holder is not subject to backup withholding or otherwise comply with the applicable requirements of the backup withholding rules. Certain United States Holders, including all corporations, are not subject to backup withholding and information reporting requirements. Any amounts withheld under the backup withholding rules from a payment to a United States Holder will be allowed as a credit against such United States Holder's United States federal income tax liability and may entitle the holder to a refund, provided that the required information is furnished to the Internal Revenue Service ("IRS"). UNITED STATES FEDERAL INCOME TAXATION OF FOREIGN HOLDERS As used herein, the term "Foreign Holder" means a holder of a Note that is, for United States federal income tax purposes, (a) a nonresident alien individual, (b) a foreign corporation, (c) a nonresident alien fiduciary of a foreign estate or trust or (d) a foreign partnership. PAYMENT OF INTEREST ON NOTES. In general, payments of interred received by a Foreign Holder will not be subject to a United States federal withholding tax, provided that (i) (a) the Foreign holder does not actually or constructively own 10% or more of the total combined voting power of all classes of stock of DMI entitled to vote, (b) the foreign Holder is not a controlled foreign corporation that is related to DMI actually or constructively through stock ownership, and (c) either (I) the beneficial owner of the Note, under penalties of perjury, provides DMI or its agent with such beneficial owner's name and address and certifies on IRS Form W-8 (or a suitable substitute form) that it is not a United States Holder or (II) a securities clearing organization, bank or other financial institution that holds customers' securities in the ordinary course of its trade or business (a "financial institution") holds the Notes and provides a statement to DMI or its agent under penalties of perjury in which it certifies that such an IRS Form W-8 (or a suitable substitute) has been received by it from the beneficial owner of the Notes or qualifying intermediary and furnishes DMI or its 95 99 agent a copy thereof or (ii) the Foreign Holder is entitled to the benefits of an income tax treaty under which interest on the Notes is exempt from United States withholding tax and the Foreign Holder or such foreign older's agent provides a properly executed IRS Form 1001 claiming the exemption. Payments of interest not exempt from United States federal withholding tax as described above will be subject to such withholding tax at the rate of 30% (subject to reduction under an applicable income tax treaty). SALE, EXCHANGE OR RETIREMENT OF THE NOTES. A Foreign Holder generally will not be subject to United States federal income tax (and generally no tax will be withheld) with respect to gain realized on the sale, exchange, redemption, retirement at maturity or other disposition of a Notes unless the Foreign Holder is an individual who is present in the United States for a period or periods aggregating 183 or more days in the taxable year of the disposition and, generally, either has a "tax home" or an "office or other fixed place of business" in the United States. BACKUP WITHHOLDING AND INFORMATION REPORTING. Backup withholding and information reporting requirements do not apply to payments of interest made by DMI or paying agent to Foreign Holders if the certification described above under "-- United States Federal Income Taxation of Foreign Holders" payment of interest on Notes' is received, provided that the payor does not have actual knowledge that the holder is a United States Holder. If any payments of principal and interest are made to the beneficial owner of a Notes by or through the foreign office of a foreign custodian, foreign nominee or the foreign agent of such beneficial owner, or if the foreign office of a foreign "broker" (as defined in applicable Treasury regulations) pays the proceeds of the sale of a Notes to the seller thereof, backup withholding information reporting will not apply. Information reporting requirements (but not backup withholding) will apply, however, to a payment by a foreign office of a broker that is a United States person, that derives 50% or more of its gross income for certain periods from the conduct of a trade or business in the United States, or that is a "controlled foreign corporation" (generally, a foreign corporation controlled by certain United States shareholders) with respect to the United States unless the broker has documentary evidence in its records that the holder is a Foreign Holder a certain other conditions are met or the holder otherwise establishes an exemption. Payment by a United States office of a broker is subject to both backup withholding at a rate of 31% and information reporting unless the holder certifies under penalties of perjury that it is a Foreign Holder or otherwise establishes an exemption. The procedures described above for withholding tax on interest payments, and some of the associated backup withholding and information reporting rules, are currently the subject of regulations issued in final form October 7, 1997. The final regulations are effective for payments made after December 31, 1998, subject to certain transition rules (the "1997 Final Regulations"). The 1997 Final Regulations will modify the procedures for establishing an exemption from withholding tax described above. FEDERAL ESTATE TAX Subject to applicable estate tax treaty provisions, Notes held at the time of death (or Notes transferred before death but subject to certain retained rights or powers) by an individual who at the time of death is a Foreign Holder will not be included in such Foreign Holder's gross estate for United States federal estate tax purposes provided that the individual does not actually or constructively own 10% or more of the total combined voting power of all classes of stock of DMI entitled to vote or hold the Notes in connection with a United States trade or business. [E] CANADIAN TAXATION AND THE INVESTMENT CANADA ACT The following is a summary of the principal Canadian income tax considerations generally applicable to nonresidents of Canada who hold the Common Shares as capital property, deal at arm's length with the Company and do not use or hold and are deemed not to use or hold their Common Shares in the course of carrying on a business in Canada and do not carry on insurance business in Canada. This summary has been prepared by reference to the existing provisions of the Income Tax Act (Canada) (the "Act"), the Income Tax Regulations (the "Regulations"), all published proposals for the amendment of the Act and the Regulations to the date hereof and the published administrative practices of Revenue Canada, the agency that 96 100 administers the Act. Although this summary does not specifically address the provincial income tax consequences of an investment in Common Shares, generally speaking, provincial taxation does not apply to persons who are not resident in Canada and who do not own or hold property in the course of carrying on a business in Canada. Apart from changes to the Act and the Regulations which have been publicly announced to the date hereof, this summary does not consider the potential for any future alterations to Canadian income tax legislation. DISPOSITIONS OF COMMON SHARES A nonresident of Canada will only be subject to taxation in Canada under the Act in respect of a disposition of Common Shares if such shares constitute "taxable Canadian property" to such nonresident. Provided that the Common Shares are listed on a recognized stock exchange in Canada at the time of a disposition, they will only constitute "taxable Canadian property" to a holder if the holder, either alone or together with persons with whom the holder does not deal at arm's length, owns or at any time in the five years prior to the date of dispositions, has owned in excess of 25% of the issued and outstanding shares of a class or series of the capital of the Company. Persons who are related by blood or marriage, or are subject to common control are deemed to deal otherwise than at arm's length; other persons may also be considered to be dealing otherwise than at arm's length in certain circumstances. For the purposes of determining the 25% threshold, rights or options to acquire Common Shares will be treated as ownership thereof. Subject to the comments set out below in respect of the application of the U.S.-Canada Income Tax Convention to U.S. resident holders, nonresidents whose shares constitute "taxable Canadian property" will be subject to taxation thereon on the same basis as Canadian residents. Generally speaking, three-quarters of the excess of the holder's proceeds of disposition, over the adjusted cost basis of the Common Shares, must be included in income as a taxable capital gain, to be taxed at prevailing federal Canadian rates, which range from approximately 26% to 39%. Nonresidents whose shares are repurchased by the Company, except in respect of certain purchases made by the Company in the open market, will give rise to the deemed payment of a dividend by the Company to the former holder of Common Shares in an amount equal to the excess paid over the paid-up capital of the Common Shares so repurchased. Such deemed dividend will be excluded from the former holders' proceeds of disposition of his Common Shares for the purposes of computing any capital gain but will be subject to Canadian nonresident withholding tax in the manner described below under "Dividends." In certain limited circumstances, a sale by a holder of the Common Shares to a corporation resident in Canada with which the holder does not deal at arm's length may give rise to the deemed payment of a dividend, to the extent the amount received in consideration therefor exceeds the paid-up capital of the Common Shares disposed thereof. Pursuant to the U.S.-Canada Income Tax Convention (the "Convention"), shareholders of the Company who are residents of the U.S. for the purposes of the Convention and whose shares might otherwise be "taxable Canadian property" may be exempt from Canadian taxation in respect of any gains on the Common Shares provided the principal value of the Company is not derived from real property located in Canada at the time of the disposition. The Company owns no Canadian real property and the Company has no present intention to acquire Canadian real property. DIVIDENDS Under the Act, a withholding tax is imposed at the rate of 25% on the amount of any dividends paid or credited on the Common Shares to a person not resident in Canada. Pursuant to the Canada U.S.-Canada Income Tax Convention, the rate of tax on such dividends is reduced to 5% for dividends received by any U.S. resident corporation who owns in excess of 10% of the voting shares of the corporation, and to 15% in all other instances. INVESTMENT CANADA ACT The Investment Canada Act (the "ICA") prohibits the acquisition of control of a Canadian business by non-Canadians without review and approval of the Investment Review Division of Industry Canada, the 97 101 agency that administers the ICA, unless such acquisition is exempt from review under the provisions of the ICA. Investment Review Division of Industry Canada must be notified of such exempt acquisitions. The ICA covers acquisitions of control of corporate enterprises, whether by purchase of assets, shares or "voting interests" of an entity that controls, directly or indirectly, another entity carrying on a Canadian business. The ICA will have no effect on the acquisition of shares covered by this Prospectus. Apart from the ICA, there are no other limitations on the right of nonresident or foreign owners to hold or vote securities imposed by Canadian law or the Certificate of Continuance of the Company. There are no other decrees or regulations in Canada which restrict the export or import of capital, including foreign exchange controls, or that affect the remittance of dividends, interest or other payments to nonresident holders of the Company's Common Shares except as discussed above. THE FOREGOING DISCUSSION IS A SUMMARY OF THE PRINCIPAL CANADIAN FEDERAL INCOME AND ESTATE TAX CONSEQUENCES OF THE OWNERSHIP, SALE OR OTHER DISPOSITION OF THE COMMON SHARES. ACCORDINGLY, INVESTORS ARE URGES TO CONSULT THEIR TAX ADVISORS WITH RESPECT TO THE CANADIAN INCOME AND ESTATE TAX CONSEQUENCES OF THE OWNERSHIP AND DISPOSITION OF THE COMMON SHARES, INCLUDING THE APPLICATION AND EFFECT OF THE LAWS OF ANY STATE, LOCAL, FOREIGN OR OTHER TAXING JURISDICTION. SERVICE AND ENFORCEMENT OF LEGAL PROCESS DRI is incorporated under the laws of Canada. Some of the directors, controlling persons and officers of DRI, as well as the experts named herein, are residents of Canada and all or substantially all of such persons' assets are located outside of the United States. As a result, it may be difficult for holders of Common Shares to effect service within the United States upon the directors, controlling persons, officers and experts who are not residents of the United States or to realize in the United States upon judgments of courts of the United States against such persons and DRI predicated upon civil liability under the United States federal securities laws. DRI has been advised by its counsel, Burnet, Duckworth & Palmer, Calgary, Alberta, that there is doubt as to the enforceability in Canada against DRI or against any of its directors, controlling persons, officers or experts who are not residents of the United States, in original actions for enforcement of judgments of United States courts, of liabilities predicated solely upon United States federal securities laws. [E] SHARES ELIGIBLE FOR FUTURE SALE After giving effect to the Equity Offering, the Company would have had Common Shares outstanding as of December 31, 1997 ( Common Shares assuming exercise of the Underwriters' over-allotment option in full). The Common Shares sold in the Equity Offering will be freely tradable without restrictions or further registration under the Securities Act. As of the close of the Equity Offering, 7,393,090 of the Common Shares beneficially held by TPG will be "restricted" securities within the meaning of the Securities Act as a result of the issuance thereof in a private transaction. These "restricted" Common Shares may be publicly sold only if registered under the Securities Act or sold in accordance with an applicable exemption from registration, such as that provided by Rule 144. In general, under Rule 144 as currently in effect, a person (or persons whose shares are aggregated) who has beneficially owned shares for at least one year, including persons who may be deemed "affiliates" of the Company, would be entitled to sell within any three-month period a number of shares that does not exceed the greater of the average weekly trading volume during the four calendar weeks preceding such sale or 1% of the then outstanding Common Shares (approximately shares immediately after the Equity Offering and the TPG Purchase). A person who is deemed not to have been an "affiliate" of the Company at any time during the 90 days preceding a sale, and who has beneficially owned such shares for at least two years, would be entitled to sell such Common Shares under Rule 144 without regard to the volume limitations described above. The Company is unable to estimate the number of Common Shares, if any, that TPG may sell from 98 102 time to time under Rule 144, since such number will depend on the future market price and trading volume for the Common Shares, as well as other factors beyond the Company's control. In connection with the Equity Offering, the Company, each of its directors and executive officers and TPG have agreed not to sell or otherwise dispose of any Common Shares, including any securities exercisable for or convertible into Common Shares, for a period of 120 days from the date of this Prospectus, without the prior written consent of Morgan Stanley & Co. Incorporated. See "Underwriters." The Company has granted TPG certain demand and "piggyback" registration rights with respect to its Common Shares. See "Interests of Management in Certain Transactions." TPG has waived its right to maintain its pro rata ownership in connection with the Equity Offering. An increase in the number of Common Shares that may become available for sale in the public market may adversely affect the market price prevailing from time to time of the Common Shares and could impair the Company's ability to raise additional capital through the sale of its equity securities. [E] UNDERWRITERS Under the terms and subject to the conditions contained in an underwriting agreement (the "Underwriting Agreement"), DRI has agreed to sell Common Shares to a syndicate of underwriters (the "Underwriters"), for whom Morgan Stanley & Co. Incorporated, Gordon Capital Inc., Johnson Rice & Company L.L.C. and Loewen, Ondaatje, McCutcheon USA Limited are acting as representatives (the "Representatives"), and the Underwriters have severally agreed to purchase the number of Common Shares set forth opposite their respective names below:
NUMBER UNDERWRITERS OF SHARES ------------ --------- Morgan Stanley & Co. Incorporated........................... Gordon Capital, Inc. ....................................... Johnson Rice & Company L.L.C. .............................. Loewen, Ondaatje, McCutcheon USA Limited.................... ------- Total............................................. =======
The Underwriting Agreement provides that the obligations of the several Underwriters to pay for and accept delivery of the Common Shares offered hereby are subject to the approval of certain legal matters by their counsel and to certain other conditions. If any of the Common Shares are purchased by the Underwriters pursuant to the Underwriting Agreement, all such Common Shares (other than the Common Shares covered by the over-allotment option described below) must be so purchased. The Company has been advised by the Representatives that the Underwriters propose to offer the Common Shares to the public initially at the price to public set forth on the cover page of this Prospectus and to certain dealers (who may include the Underwriters) at such price less a concession not to exceed $ per share. The Underwriters may allow, and such dealers may reallow, a concession not in excess of $ per share to any other Underwriter or certain other dealers. After the initial offering of the Common Shares the offering price and other selling terms may from time to time be varied by the Underwriters. The Company has granted to the Underwriters an option to purchase up to additional Common Shares at the price to public set forth on the cover page hereof less underwriting discounts and commissions, solely to cover over-allotments. Such option may be exercised at any time until 30 days after the date of this Prospectus. To the extent that the Underwriters exercise such option, each of the Underwriters will be committed, subject to certain conditions, to purchase a number of Common Shares proportionate to such Underwriter's initial commitment as indicated in the preceding table. 99 103 Each of the Underwriters has represented and, during the period of six months after the date hereof, agreed that (a) it has not offered or sold and will not offer or sell any Common Shares in the United Kingdom except to persons whose ordinary activities involve them in acquiring, holding, managing or disposing of investments (as principal or agent) for the purpose of their business or otherwise in circumstances which have not resulted and will not result in an offer to the public in the United Kingdom within the meaning of the Public Offers of Securities Regulations (1995) (the "Regulations"); (b) it has complied and will comply with all applicable provisions of the Financial Services Act 1986 and the Regulations with respect to anything done by it in relation to the Common Shares offered hereby in, from or otherwise involving the United Kingdom; and (c) it has only issued or passed on and will only issue or pass on to any person in the United Kingdom any document received by it in connection with the issue of the Common Shares if that person is a kind described in Article 11(3) of the Financial Services Act 1986 (Investment Advertisements) (Exemptions) Order 1996, or is a person to whom such document may otherwise lawfully be issued or passed on. The Company has agreed to indemnify the Underwriters against certain liabilities that may be incurred in connection with the offering of the Common Shares, including liabilities under the Securities Act, or to contribute to payments that the Underwriters may be required to make in respect thereof. In order to facilitate the Equity Offering, the Underwriters may engage in transactions that stabilize, maintain or otherwise affect the price of the Common Shares. Specifically, the Underwriters may over-allot in connection with the Equity Offering, creating a short position in the Common Shares for their own account. In addition, to cover overallotments or to stabilize the price of the Common Shares, the Underwriters may bid for, and purchase, Common Shares in the open market. Finally, the underwriting syndicate may reclaim selling concessions allowed to an underwriter or a dealer for distributing the Common Shares in the Equity Offering, if the syndicate repurchases previously distributed Common Shares in transactions to cover syndicate short positions, in stabilization transactions or otherwise. Any of these activities may stabilize or maintain the market price of the Common Shares above independent market levels. The Underwriters are not required to engage in these activities, and may end any of these activities at any time. The Common Shares being sold in the TPG Purchase are being sold directly to TPG by the Company. The TPG Purchase is not being made on an underwritten basis, and the Underwriters of the Equity Offering are not acting on behalf of the Company, as agents or in any other capacity, in connection therewith. TPG has agreed to provide, at the closing of the TPG Purchase, an undertaking to the TSE not to sell any of the Common Shares acquired pursuant to the TPG Purchase for a period of six months following the acquisition of such Common Shares without the prior written consent of the TSE. The closing of the TPG Purchase is conditioned upon, and will occur concurrently with, the closing of the Equity Offering. [D] UNDERWRITERS Under the terms and subject to the conditions contained in an underwriting agreement (the "Underwriting Agreement"), the Underwriters named below have severally agreed to purchase, and DMI has agreed to sell them, the principal amount of Notes set forth opposite their respective names below:
PRINCIPAL AMOUNT UNDERWRITERS OF NOTES ------------ --------- Morgan Stanley & Co. Incorporated........................... ------- NationsBanc Montgomery Securities, Inc. .................... Total............................................. =======
The Underwriting Agreement provides that the obligations of the Underwriters to pay for and accept delivery of the Notes offered hereby are subject to the approval of certain legal matters by their counsel and to certain other conditions. If the Notes are purchased by the Underwriters pursuant to the Underwriting Agreement, all such Notes must be so purchased. 100 104 The Underwriters initially propose to offer the Notes directly to the public at the public offering price set forth on the cover page of this Prospectus and to certain dealers at a price that represents a concession not in excess of % of the principal amount of the Notes. Each Underwriter may allow, and such dealers may reallow, a concession to certain other dealers not in excess of % of the principal amount of the Notes. After the initial offering of the Notes the offering price and other selling terms may from time to time be varied by the Underwriters. DMI and the Guarantor have agreed to indemnify the Underwriters against certain liabilities that may be incurred in connection with the offering of the Notes, including liabilities under the Securities Act, or to contribute to payments that the Underwriters may be required to make in respect thereof. In order to facilitate the Debt Offering, the Underwriters may engage in transactions that stabilize, maintain or otherwise affect the price of the Notes. Specifically, the Underwriters may over-allot in connection with Debt Offering, creating a short position in the Notes for their own account. In addition, to cover over-allotments or to stabilize the price of the Notes, the Underwriters may bid for, and purchase, Notes in the open market. Finally, the underwriting syndicate may reclaim selling concessions allowed to an underwriter or a dealer for distributing the Notes in the Debt Offering, if the syndicate repurchases previously distributed Notes in transactions to cover syndicate short positions, in stabilization transactions or otherwise. Any of these activities may stabilize or maintain the market price of the Notes above independent market levels. The Underwriters are not required to engage in these activities, and may end any of these activities at any time. NationsBank of Texas, N.A., an affiliate of NationsBanc Montgomery Securities, Inc., is agent and a lender under the Credit Facility. Net proceeds of the Debt Offering will be applied to repay indebtedness under the Credit Facility. NationsBanc of Texas, N.A., and its affiliates may perform financial and banking services for the Company in the ordinary course of business. [E] LEGAL MATTERS The legality of the securities offered hereby have been passed upon for the Company by Burnet, Duckworth & Palmer, Calgary, Alberta and Jenkens & Gilchrist, a Professional Corporation, Houston, Texas. Certain legal matters in connection with the Offerings will be passed upon for the Underwriters by Cravath, Swaine & Moore, New York, New York. [D] LEGAL MATTERS The legality of the Notes offered hereby will be passed upon for DMI by Jenkens & Gilchrist, a Professional Corporation. Certain legal matters in connection with the Offerings will be passed upon for the Company by Burnet, Duckworth & Palmer, Calgary, Alberta and for the Underwriters by Cravath, Swaine & Moore, New York, New York. EXPERTS The consolidated financial statements and financial statement schedule of the Company as at December 31, 1995 and 1996 and for each of the three years in the period ended December 31, 1996 included and incorporated by reference in this Prospectus and elsewhere in the Registration Statement, have been audited by Deloitte & Touche, Chartered Accountants, Calgary, Alberta, Canada, as stated in their reports appearing and incorporated by reference in this Prospectus and elsewhere in the Registration Statement, and have been so included in reliance upon the reports of such firm given upon their authority as experts in accounting and auditing. The statements of revenues and direct operating expenses of Chevron's working interest in the Heidelberg Fields acquired by the Company for each of the two years in the period December 31, 1996 and for the nine months ended September 30, 1997 included in this Prospectus has been so included in reliance on the report of Price Waterhouse LLP, independent accountants, given on the authority of said firm as experts in auditing and accounting. 101 105 The reference to the reports of Netherland, Sewell & Associates, Inc., independent petroleum engineers located in Dallas, Texas, contained herein with respect to the proved reserves, the estimated future net revenue from such proved reserves, and the discounted present values of such estimated future net revenue, is made in reliance upon the authority of such firms as experts with the respect to such matters. AVAILABLE INFORMATION The Company is subject to the information requirements of the Exchange Act, and in accordance therewith files reports, proxy statements and other information with the Commission. Such reports, proxy statements and other information can be inspected and copied at the public reference facilities maintained by the Commission at 450 5th Street, N.W., Room 1024, Washington, D.C. 20549, and at the following regional offices of the Commission: Seven World Trade Center, 13th Floor, New York, New York 10048 and Citicorp Center, 500 West Madison Street, Suite 1400, Chicago, Illinois 60661, at prescribed rates. In addition, such materials filed electronically by the Company with the Commission are available at the Commission's World Wide Web site at http://www.sec.gov. The Common Shares are traded on the NYSE and such reports, proxy statements and other information may be inspected at 20 Broad Street, New York, New York 10005. The Common Shares are also traded on the TSE and any filings with the TSE may be inspected at The Exchange Tower, 2 First Canada Plaza, Toronto, Ontario, Canada M5X 1J2. The Company has filed with the Commission a Registration Statement on Form S-3 under the Securities Act, with respect to the securities offered hereby. This Prospectus does not contain exhibits and schedules and certain other information which is part of the Registration Statement and which have been omitted from this Prospectus as permitted by the rules and regulations of the Commission. Statements contained herein concerning the contents of any contract, agreement or other document filed as an exhibit to the Registration Statement are necessarily summaries of such contracts, agreements or documents and are qualified in their entirety by reference to each such exhibit. The Registration Statement and the exhibits and schedules forming a part thereof can be obtained from the Commission. [D] LISTING AND GENERAL INFORMATION Application will be made to list the Notes on the Luxembourg Stock Exchange. Prior to the listing, a legal notice relating to the issuance of the Notes and the governing documents of each of the Company will be deposited with the Chief Registrar of the District Court of Luxembourg (Greffier en Chef du Tribuanl d'Arrondissement de et a Luxembourg), where such documents may be examined or copies obtained. So long as the Notes are listed on the Luxembourg Stock Exchange and the rules of such Stock Exchange shall so require, copies of the governing documents of each of the Company and the Guarantor and the Indenture (including the terms of the Guarantee) will be available for inspection at the office of the Company's special agent to be chosen in Luxembourg. So long as the Notes are listed on the Luxembourg Stock Exchange and the rules of such Stock Exchange shall so require, copies of any and all required statutory accounts of the Company and the Guarantor and any and all required annual and quarterly reports of the Company and the Guarantor will be available during normal business hours on any weekday at the office of the Company's special agent to be chosen in Luxembourg. The creation and issuance of the Notes were authorized on behalf of DMI by resolutions adopted by the Board of Directors of the Company on , 1997. The creation and issuance of the Guaranty was authorized on behalf of the Guarantor by resolutions adopted by the Board of Directors of DRI on , 1997. The Company accepts responsibility for the information contained in this Prospectus. To the best knowledge of the Company, the information contained in this Prospectus is in accordance with the facts and does not omit anything likely to affect the import of the Prospectus. There has been no material adverse change in the financial position of the Company or the Guarantor since December 31, 1996, except as disclosed herein. Neither the Company not any of its subsidiaries is a 102 106 party to any litigation that, in the judgment of the Company, is material in the context of the issuance of the Notes, except as disclosed herein. The Company will appoint a special agent in Luxembourg until such time as the Company is required to appoint a transfer and paying agent located in Luxembourg. The Company reserves the right to vary such appointment. 103 107 GLOSSARY The terms defined in this section are used throughout this Prospectus. ANTICLINE. Geologically positive structure favorable for trapping hydrocarbons. Bbl. One stock tank barrel, of 42 U.S. gallons liquid volume, used herein in reference to crude oil or other liquid hydrocarbons. Bbls/d. Barrels of oil produced per day. Bcf. One billion cubic feet of natural gas. BOE. One barrel of oil equivalent using the ratio of one barrel of crude oil, condensate or natural gas liquids to 6 Mcf of natural gas. BOE/d. BOEs produced per day. Btu. British thermal unit, which is the heat required to raise the temperature of a one-pound mass of water from 58.5 to 59.5 degrees Fahrenheit. COMMERCIAL WELL; COMMERCIALLY PRODUCTIVE WELL. An oil and gas well which produces oil and natural gas in sufficient quantities such that proceeds from the sale of such production exceed production expenses and taxes. DEVELOPMENT WELL. A developmental well is a well drilled within the presently proved productive area of an oil or natural gas reservoir, as indicated by reasonable interpretation of available data, with the objective of completing that reservoir. DRY HOLE; DRY WELL; NON-PRODUCTIVE WELL. A well found to be incapable of producing either oil or natural gas in sufficient quantities to justify completion as an oil or natural gas well. EXPLORATORY WELL. An exploratory well is a well drilled either in search of a new, as-yet undiscovered oil or natural gas reservoir or to greatly extend the known limits of a previously discovered reservoir. FARMOUT. An assignment of an interest in a drilling location and related acreage conditional upon the drilling of a well on that location. FORMATION. A succession of sedimentary beds that were deposited under the same general geologic conditions. GEOPRESSURED. Pressures in excess of the normal increase in pressure with depth. GEOSYNCLINE. A regional area of subsidence in which sediments are accumulated. GROSS ACRES OR GROSS WELLS. The total acres or wells, as the case may be, in which a working interest is owned. HORIZONTAL WELLS. Wells which are drilled at angles greater than 70 degrees from vertical. Mbbl. One thousand barrels of crude oil or other liquid hydrocarbons. MBOE. One thousand BOEs. MBOE/d. One thousand BOE/d. MBtu. One thousand Btus. Mcf. One thousand cubic feet of natural gas. Mcf/d. One thousand cubic of natural gas produced per day. MMBbl. One million barrels of crude oil or other liquid hydrocarbons. MMBOE. One million BOEs. 104 108 MMBtu. One million Btus. MMdf. One million cubic feet of natural gas. MMcf/d. One million cubic feet of natural gas produced per day. NET; NET REVENUE INTEREST. Production or revenue that is owned by the Company and produced for its interest after deducting royalties and other similar interests. NET ACRES OR NET WELLS. The sum of the fractional working interests owned in gross acres or gross wells. PV10 VALUE. When used with respect to oil and natural gas reserves, PV10 Value means the estimated future gross revenue to be generated from the production of proved reserves, net of estimated production and future development costs, using prices and costs in effect at the determination date, without giving effect to non-property related expenses such as general and administrative expenses, debt service and future income tax expense or to depreciation, depletion and amortization, discounted to present value using an annual discount rate of 10% in accordance with the guidelines of the Commission. PRODUCTIVE WELL. A well that is producing oil or natural gas or that is capable of production. PROVED DEVELOPED RESERVES. Reserves that can be expected to be recovered from existing wells with existing equipment and operating methods. PROVED RESERVES. The estimated quantities of crude oil, natural gas and natural gas liquids which geological and engineering data demonstrate with reasonable certainty to be recoverable in future years from known reservoirs under existing economic and operating conditions. PROVED UNDEVELOPED RESERVES. Reserves that are expected to be recovered from new wells on undrilled acreage or from existing wells where a relatively major expenditure is required for recompletion. ROYALTY INTEREST. An interest in an oil and natural gas property entitling the owner to a share of oil or natural gas production free of costs of production. Tcf. One trillion cubic feet of natural gas. UNDEVELOPED ACREAGE. Lease acreage on which wells have not been participated in or completed to a point that would permit the production of commercial quantities of oil and natural gas regardless of whether such acreage contains proved reserves. WORKING INTEREST. The cost-bearing interest in a well or property which gives the owner the right to drill, produce and conduct operating activities on the property as well as to a share of production. 105 109 INDEX TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED DECEMBER 31, 1994, 1995 AND 1996 NINE MONTHS ENDED SEPTEMBER 30, 1996 AND 1997 (UNAUDITED)
PAGE ---- DENBURY RESOURCES INC. AND SUBSIDIARIES Independent Auditors' Report.............................. F-2 Consolidated Balance Sheets............................... F-3 Consolidated Statements of Income......................... F-4 Consolidated Statements of Cash Flows..................... F-5 Consolidated Statement of Changes in Shareholders' Equity................................................. F-6 Notes to Consolidated Financial Statements................ F-7 thru F-29 STATEMENT OF REVENUES AND DIRECT OPERATING EXPENSES OF CHEVRON PROPERTIES Report of Independent Accountants......................... F-30 Statements of Revenues and Direct Operating Expenses of Properties............................................. F-31 Notes to Statement of Revenues and Direct Operating Expenses of Properties................................. F-32 thru F-34
F-1 110 INDEPENDENT AUDITORS' REPORT To the Shareholders of Denbury Resources Inc. We have audited the consolidated balance sheets of Denbury Resources Inc. as at December 31, 1995 and 1996 and the consolidated statements of income, changes in shareholders' equity and cash flows for each of the years in the three year period ended December 31, 1996. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits. We conducted our audits in accordance with auditing standards generally accepted in Canada and the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. In our opinion, these consolidated financial statements present fairly in all material respects, the financial position of the Company as at December 31, 1995 and 1996 and the results of its operations and the changes in shareholders' equity and cash flows for each of the years in the three year period ended December 31, 1996, in accordance with accounting principles generally accepted in Canada. Deloitte & Touche Chartered Accountants Calgary, Alberta February 21, 1997 F-2 111 DENBURY RESOURCES INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS (AMOUNTS IN THOUSANDS OF U.S. DOLLARS) ASSETS
DECEMBER 31, ------------------- SEPTEMBER 30, 1995 1996 1997 -------- -------- ------------- (UNAUDITED) CURRENT ASSETS Cash and cash equivalents................................ $ 6,553 $ 13,453 $ 2,236 Accrued production receivable............................ 3,212 11,906 7,097 Trade and other receivables.............................. 1,160 3,643 14,507 -------- -------- -------- Total current assets............................. 10,925 29,002 23,840 -------- -------- -------- PROPERTY AND EQUIPMENT (USING FULL COST ACCOUNTING) Oil and natural gas properties........................... 72,510 159,724 230,521 Unevaluated oil and natural gas properties............... 7,085 6,413 6,389 Less accumulated depreciation and depletion.............. (13,982) (31,141) (53,527) -------- -------- -------- Net property and equipment....................... 65,613 134,996 183,383 -------- -------- -------- OTHER ASSETS............................................... 1,103 2,507 3,201 -------- -------- -------- TOTAL ASSETS..................................... $ 77,641 $166,505 $210,424 ======== ======== ======== LIABILITIES AND SHAREHOLDERS' EQUITY CURRENT LIABILITIES Accounts payable and accrued liabilities................. $ 2,872 $ 10,903 $ 16,858 Oil and gas production payable........................... 1,014 5,550 4,060 Current portion of long-term debt........................ 177 67 23 -------- -------- -------- Total current liabilities........................ 4,063 16,520 20,941 -------- -------- -------- LONG-TERM LIABILITIES Senior bank debt......................................... 75 125 20,005 Subordinated debt and other notes payable................ 3,399 -- -- Provision for site reclamation costs..................... 242 613 938 Deferred income taxes and other.......................... 1,361 6,743 12,982 -------- -------- -------- Total long-term liabilities...................... 5,077 7,481 33,925 -------- -------- -------- CONVERTIBLE FIRST PREFERRED SHARES, SERIES A 1,500,000 shares authorized, issued and outstanding at December 31, 1995..................................... 15,000 -- -- -------- -------- -------- SHAREHOLDERS' EQUITY Common shares, no par value unlimited shares authorized; outstanding -- 11,428,809, 20,055,757 and 20,364,799 shares at December 31, 1995, December 31, 1996 and September 30, 1997, respectively...................... 50,064 130,323 132,744 Retained earnings........................................ 3,437 12,181 22,814 -------- -------- -------- Total shareholders' equity....................... 53,501 142,504 155,558 -------- -------- -------- TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY....... $ 77,641 $166,505 $210,424 ======== ======== ========
See Notes to Consolidated Financial Statements. Approved by the Board: /s/ GARETH ROBERTS /s/ WIELAND F. WETTSTEIN - ----------------------------------------------------- ----------------------------------------------------- Gareth Roberts Wieland F. Wettstein Director Director
F-3 112 DENBURY RESOURCES INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF INCOME (AMOUNTS IN THOUSANDS EXCEPT PER SHARE AMOUNTS) (U.S. DOLLARS)
NINE MONTHS ENDED YEAR ENDED DECEMBER 31, SEPTEMBER 30, --------------------------- ----------------- 1994 1995 1996 1996 1997 ------- ------- ------- ------- ------- (UNAUDITED) REVENUES Oil, natural gas and related product sales................................... $12,692 $20,032 $52,880 $34,709 $60,083 Interest income and other.................. 23 77 769 425 986 ------- ------- ------- ------- ------- Total revenues..................... 12,715 20,109 53,649 35,134 61,069 ------- ------- ------- ------- ------- EXPENSES Production................................. 4,309 6,789 13,495 9,197 15,737 General and administrative................. 1,105 1,832 4,267 2,825 4,535 Interest................................... 1,146 2,085 1,993 1,530 387 Imputed preferred dividends................ -- -- 1,281 1,153 -- Loss on early extinguishment of debt....... -- 200 440 440 -- Depletion and depreciation................. 4,209 8,022 17,904 12,557 23,224 Franchise taxes............................ 65 100 213 160 308 ------- ------- ------- ------- ------- Total expenses..................... 10,834 19,028 39,593 27,862 44,191 ------- ------- ------- ------- ------- Income before income taxes................... 1,881 1,081 14,056 7,272 16,878 Provision for federal income taxes........... (718) (367) (5,312) (2,932) (6,245) ------- ------- ------- ------- ------- NET INCOME................................... $ 1,163 $ 714 $ 8,744 $ 4,340 $10,633 ======= ======= ======= ======= ======= NET INCOME PER COMMON SHARE Primary.................................... $ 0.19 $ 0.10 $ 0.67 $ 0.37 $ 0.53 Fully diluted.............................. 0.19 0.10 0.62 0.36 0.50 ======= ======= ======= ======= ======= Average number of common shares outstanding................................ 6,240 6,870 13,104 11,616 20,175 ======= ======= ======= ======= =======
See Notes to Consolidated Financial Statements F-4 113 DENBURY RESOURCES INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (AMOUNTS IN THOUSANDS OF U.S. DOLLARS)
NINE MONTHS ENDED YEAR ENDED DECEMBER 31, SEPTEMBER 30, ------------------------------ ------------------- 1994 1995 1996 1996 1997 -------- -------- -------- -------- -------- (UNAUDITED) CASH FLOW FROM OPERATING ACTIVITIES: Net income..................................... $ 1,163 $ 714 $ 8,744 $ 4,340 $ 10,633 Adjustments needed to reconcile to net cash flow provided by operations: Depreciation, depletion and amortization..... 4,304 8,113 17,904 12,557 23,224 Deferred income taxes........................ 718 367 5,312 2,932 6,245 Imputed preferred dividend................... -- -- 1,281 1,153 -- Loss on early extinguishment of debt......... -- 200 440 440 -- Other........................................ -- -- 459 345 64 -------- -------- -------- -------- -------- 6,185 9,394 34,140 21,767 40,166 Changes in working capital items relating to operations: Accrued production receivable................ (986) (1,303) (8,694) (4,388) 4,809 Trade and other receivables.................. (124) (168) (1,508) (659) (10,864) Accounts payable and accrued liabilities..... 1,581 (1,660) 6,711 9,688 5,955 Oil and gas production payable............... 261 490 4,536 2,004 (1,490) -------- -------- -------- -------- -------- NET CASH FLOW PROVIDED BY OPERATIONS............. 6,917 6,753 35,185 28,412 38,576 -------- -------- -------- -------- -------- CASH FLOW USED FOR INVESTING ACTIVITIES: Oil and natural gas expenditures............. (10,297) (11,761) (38,450) (25,704) (54,700) Acquisition of oil and natural gas properties................................. (6,606) (16,763) (48,407) (47,616) (16,073) Net purchases of other assets................ (122) (560) (1,726) (1,290) (1,238) Acquisition of subsidiary, net of cash acquired................................... -- -- 209 209 -- -------- -------- -------- -------- -------- NET CASH USED FOR INVESTING ACTIVITIES........... (17,025) (29,084) (88,374) (74,401) (72,011) -------- -------- -------- -------- -------- CASH FLOW FROM FINANCING ACTIVITIES: Bank borrowings.............................. 9,835 19,350 47,900 44,900 19,900 Bank repayments.............................. (2,485) (34,200) (47,900) -- -- Issuance of subordinated debt................ 1,451 1,772 -- -- -- Issuance of common stock..................... 367 26,825 60,664 1,690 2,421 Issuance of preferred stock.................. -- 15,000 -- -- -- Costs of debt financing...................... (122) (493) (411) (408) (33) Other........................................ 62 (82) (164) (135) (70) -------- -------- -------- -------- -------- NET CASH PROVIDED BY FINANCING ACTIVITIES........ 9,108 28,172 60,089 46,047 22,218 -------- -------- -------- -------- -------- NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS.................................... (1,000) 5,841 6,900 58 (11,217) CASH AND CASH EQUIVALENTS AT BEGINNING OF YEAR... 1,712 712 6,553 6,553 13,453 -------- -------- -------- -------- -------- CASH AND CASH EQUIVALENTS AT END OF PERIOD....... $ 712 $ 6,553 $ 13,453 $ 6,611 $ 2,236 ======== ======== ======== ======== ======== SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION: Cash paid during the period for interest..... $ 1,027 $ 2,127 $ 1,621 $ 1,080 $ 150 SUPPLEMENTAL DISCLOSURE OF FINANCING ACTIVITIES: Conversion of subordinated debt to common stock...................................... -- -- $ 3,314 $ 1,465 -- Conversion of preferred stock to common stock...................................... -- -- 16,281 -- -- Assumption of liabilities in acquisition..... -- -- 1,321 1,321 --
See Notes to Consolidated Financial Statements F-5 114 DENBURY RESOURCES INC. AND SUBSIDIARIES CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS' EQUITY (DOLLAR AMOUNTS IN THOUSANDS OF U.S. DOLLARS)
COMMON SHARES (NO PAR VALUE) --------------------- RETAINED SHARES AMOUNT EARNINGS TOTAL ---------- -------- -------- -------- BALANCE -- JANUARY 1, 1994........................ 6,208,417 $ 22,872 $ 1,560 $ 24,432 Issued pursuant to employee stock option plan... 96,250 367 -- 367 Net income...................................... -- -- 1,163 1,163 ---------- -------- ------- -------- BALANCE -- DECEMBER 31, 1994...................... 6,304,667 23,239 2,723 25,962 ---------- -------- ------- -------- Issued pursuant to employee stock option plan... 10,000 54 -- 54 Private placement of Special Warrants exchanged.................................... 614,143 2,314 -- 2,314 Private placement of common shares.............. 4,499,999 24,457 -- 24,457 Net income...................................... -- -- 714 714 ---------- -------- ------- -------- BALANCE -- DECEMBER 31, 1995...................... 11,428,809 50,064 3,437 53,501 ---------- -------- ------- -------- Issued pursuant to employee stock option plan... 197,675 1,070 -- 1,070 Issued pursuant to employee stock purchase plan......................................... 31,311 358 -- 358 Public placement of common shares............... 4,940,000 58,776 -- 58,776 Conversion of preferred stock................... 2,816,372 16,281 -- 16,281 Conversion of warrants.......................... 75,000 460 -- 460 Conversion of subordinated debt................. 566,590 3,314 -- 3,314 Net income...................................... -- -- 8,744 8,744 ---------- -------- ------- -------- BALANCE -- DECEMBER 31, 1996...................... 20,055,757 130,323 12,181 142,504 ---------- -------- ------- -------- Issued pursuant to employee stock option plan... 270,056 1,764 -- 1,764 Issued pursuant to employee stock purchase plan......................................... 38,986 657 -- 657 Net income...................................... -- -- 10,633 10,633 ---------- -------- ------- -------- BALANCE -- SEPTEMBER 30, 1997 (UNAUDITED)......... 20,364,799 $132,744 $22,814 $155,558 ========== ======== ======= ========
See Notes to Consolidated Financial Statements F-6 115 DENBURY RESOURCES INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED DECEMBER 31, 1994, 1995 AND 1996 AND FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1996 AND 1997 (UNAUDITED) 1. SIGNIFICANT ACCOUNTING POLICIES The Company's operating activities are related to exploration, development and production of oil and natural gas in the United States. All of the Canadian operations were sold effective September 1, 1993. The Company's name was changed on June 7, 1994, from Canadian Newscope Resources Inc. to Newscope Resources Ltd. and again on December 21, 1995 to Denbury Resources Inc. On October 9, 1996 the shareholders of the Company approved an amendment to the Articles of Continuance to consolidate the number of issued and outstanding Common Shares on the basis of one Common Share for each two Common Shares outstanding. All applicable shares and per share data have been adjusted for the reverse stock split. PRINCIPLES OF CONSOLIDATION The consolidated financial statements have been prepared in accordance with Canadian generally accepted accounting principles and include the accounts of the Company and its wholly owned subsidiaries, Denbury Holdings Ltd., Denbury Management, Inc. and Denbury Marine L.L.C. and the Company's equity in the operation of its 50% owned subsidiary, Denbury Energy Services ("Services"). The Company acquired the remaining 50% of Services effective May 1, 1996 and began consolidating all of Services as of that date. All material intercompany balances and transactions have been eliminated. OIL AND NATURAL GAS OPERATIONS a) Capitalized costs The Company follows the full-cost method of accounting for oil and natural gas properties. Under this method, all costs related to the exploration for and development of oil and natural gas reserves are capitalized and accumulated in a single cost center representing the Company's activities undertaken exclusively in the United States. Such costs include lease acquisition costs, geological and geophysical expenditures, lease rentals on undeveloped properties, costs of drilling both productive and non-productive wells and general and administrative expenses directly related to exploration and development activities. Proceeds received from disposals are credited against accumulated costs except when the sale represents a significant disposal of reserves in which case a gain or loss is recognized. b) Depletion and depreciation The costs capitalized, including production equipment, are depleted or depreciated on the unit-of-production method, based on proved oil and natural gas reserves as determined by independent petroleum engineers. Oil and natural gas reserves are converted to equivalent units based upon the relative energy content which is six thousand cubic feet of natural gas to one barrel of crude oil. c) Site reclamation Estimated future costs of well abandonment and site reclamation, including the removal of production facilities at the end of their useful life, are provided for on a unit-of-production basis. Costs are based on engineering estimates of the anticipated method and extent of site restoration, valued at year-end prices, net of estimated salvage value, and in accordance with the current legislation and industry practice. The annual provision for future site reclamation costs is included in depletion and depreciation expense. F-7 116 DENBURY RESOURCES INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) d) Ceiling test The capitalized costs less accumulated depletion, depreciation, related deferred taxes and site reclamation costs are limited to an amount which is not greater than the estimated future net revenue from proved reserves using period-end prices less estimated future site restoration and abandonment costs, future production-related general and administrative expenses, financing costs and income taxes, plus the cost (net of impairments) of undeveloped properties. e) Joint interest operations Substantially all of the Company's oil and natural gas exploration and production activities are conducted jointly with others. These financial statements reflect only the Company's proportionate interest in such activities. FOREIGN CURRENCY TRANSLATION Since 1993 when the Company sold its Canadian oil and natural gas properties, virtually all of the Company's assets are located in the United States. These assets and the United States operations are accounted for and reported in U.S. dollars and no translation is necessary. The minor amount of Canadian assets and liabilities are translated to U.S. dollars using year-end exchange rates and any Canadian operations, which are principally minor administrative and interest expenses, are translated using the historical exchange rate. EARNINGS PER SHARE Net income per common share is computed by dividing the net income attributable to common shareholders by the weighted average number of shares of common stock outstanding. In accordance with Canadian generally accepted accounting principles ("GAAP"), the imputed dividend during 1996 on the Convertible First Preferred Shares, Series A has been recorded as an operating expense in the accompanying financial statements and this is deducted from net income in computing earnings per share. The conversion of the Convertible First Preferred Shares, Series A ("Convertible Preferred") was anti-dilutive and was not included in the calculation of earnings per share. In computing fully diluted earnings per share, the stock options, warrants and convertible debt instruments were dilutive for the year ended December 31, 1996 and for the nine months ended September 30, 1997 and were assumed to be converted or exercised as of the beginning of the respective period with the proceeds used to reduce interest expense. For the prior years, these instruments were either anti-dilutive or immaterial. All of the Convertible Preferred and the convertible debt were converted into common shares during 1996 and thus were not relevant to the calculation of earnings per share during 1997. STATEMENT OF CASH FLOWS For purposes of the Statement of Cash Flows, cash equivalents include time deposits, certificates of deposit and all liquid debt instruments with maturities at the date of purchase of three months or less. REVENUE RECOGNITION The Company follows the "sales method" of accounting for its oil and natural gas revenue whereby the Company recognizes sales revenue on all oil or natural gas sold to its purchasers, regardless of whether the sales are proportionate to the Company's ownership in the property. A receivable or liability is recognized only to the extent that the Company has an imbalance on a specific property greater than the expected remaining proved reserves. As of December 31, 1995 and 1996 and September 30, 1997, the Company's aggregate oil and natural gas imbalances were not material to its financial statements. F-8 117 DENBURY RESOURCES INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) The Company recognizes revenue and expenses of purchased producing properties commencing from the closing or agreement date, at which time the Company also assumes control. FINANCIAL INSTRUMENTS WITH OFF-BALANCE SHEET RISK AND CONCENTRATIONS OF CREDIT RISK The Company's product price hedging activities are described in Note 6 to the consolidated financial statements. Credit risk relating to these hedges is minimal because of the credit risk standards required for counter-parties and monthly settlements. The Company has entered into hedging contracts with only large and financially strong companies. The Company's financial instruments that are exposed to concentrations of credit risk consist primarily of cash equivalents, short-term investments and trade and accrued production receivables. The Company's cash equivalents and short-term investments represent high-quality securities placed with various investment grade institutions. This investment practice limits the Company's exposure to concentrations of credit risk. The Company's trade and accrued production receivables are dispersed among various customers and purchasers; therefore, concentrations of credit risk are limited. Also, the Company's more significant purchasers are large companies with excellent credit ratings. If customers are considered a credit risk, letters of credit are the primary security obtained to support lines of credit. FAIR VALUE OF FINANCIAL INSTRUMENTS As of December 31, 1995, December 31, 1996 and September 30, 1997, the carrying value of the Company's debt and other financial instruments approximates its fair market value. The Company's bank debt is based on a floating interest rate and thus adjusts to market as interest rates change. The Company's other financial instruments are primarily cash, cash equivalents, short-term receivables and payables which approximate fair value due to the nature of the instrument and the relatively short maturities. USE OF ESTIMATES The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amount of certain assets, liabilities, revenues and expenses as of and for the reporting period. Estimates and assumptions are also required in the disclosure of contingent assets and liabilities as of the date of the financial statements. Actual results may differ from such estimates. INTERIM FINANCIAL DATA In the opinion of management, the accompanying unaudited consolidated financial statements contain all the adjustments (consisting of only normal recurring accruals) necessary to present fairly the consolidated financial position as of September 30, 1997, and the results of its operations and its cash flow for the nine months ended September 30, 1996 and 1997. 2. PROPERTY AND EQUIPMENT UNEVALUATED OIL AND NATURAL GAS PROPERTIES EXCLUDED FROM DEPLETION Under full cost accounting, the Company may exclude certain unevaluated costs from the amortization base pending determination of whether proved reserves have been discovered or impairment has occurred. A F-9 118 DENBURY RESOURCES INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) summary of the unevaluated properties excluded from oil and natural gas properties being amortized at December 31, 1995 and 1996 and September 30, 1997 and the year in which they were incurred follows:
DECEMBER 31, 1995 DECEMBER 31, 1996 --------------------------------- ---------------------- INCURRED IN INCURRED IN ------------------------ ---------------------- 1993 1994 1995 TOTAL 1995 1996 TOTAL ------ ------ ------ ------ ---- ------ ------ (AMOUNTS IN THOUSANDS) Property acquisition cost..... $1,151 $1,230 $2,909 $5,290 $252 $2,614 $2,866 Exploration costs............. -- 1,146 649 1,795 87 3,460 3,547 ------ ------ ------ ------ ---- ------ ------ Total............... $1,151 $2,376 $3,558 $7,085 $339 $6,074 $6,413 ====== ====== ====== ====== ==== ====== ======
SEPTEMBER 30, 1997 (UNAUDITED) ---------------------- INCURRED IN ---------------------- 1995 1996 1997 TOTAL ---- ------ ------ ------ (AMOUNTS IN THOUSANDS) Property acquisition cost.............................. $-- $ 286 $ 930 $1,216 Exploration costs...................................... 53 1,457 3,663 5,173 --- ------ ------ ------ Total........................................ $53 $1,743 $4,593 $6,389 === ====== ====== ======
The Company anticipates that approximately $75 million of the costs relating to the Chevron Acquisition which closed in December, 1997 will be classified as unevaluated as of December 31, 1997. Costs are transferred into the amortization base on an ongoing basis as the projects are evaluated and proved reserves established or impairment determined. Pending determination of proved reserves attributable to the above costs, the Company cannot assess the future impact on the amortization rate. General and administrative costs that directly relate to exploration and development activities that were capitalized during the period totaled $480,000, $630,000 and $1,224,000 for the years ended December 31, 1994, 1995 and 1996 and $851,000 and $1,675,000 for the nine months ended September 30, 1996 and 1997, respectively. Amortization per BOE was $4.03, $5.22, $5.99 and $6.40 for the years ended December 31, 1994, 1995 and 1996 and nine months ended September 30, 1997, respectively. 3. NOTES PAYABLE AND LONG-TERM INDEBTEDNESS
DECEMBER 31, ------------- SEPTEMBER 30, 1995 1996 1997 ------ ---- ------------- (AMOUNTS IN THOUSANDS) (UNAUDITED) Senior bank loan......................................... $ 100 $100 $ 20,000 Convertible debentures................................... 3,296 -- -- Other notes payable...................................... 255 92 28 ------ ---- ------------- 3,651 192 20,028 Less portion due within one year......................... (177) (67) (23) ------ ---- ------------- Total long-term debt................................... $3,474 $125 $ 20,005 ====== ==== =============
F-10 119 DENBURY RESOURCES INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) BANKS During 1996 the Company entered into a new $150 million credit facility with NationsBank of Texas ("NationsBank"). This refinancing closed on May 31, 1996 and has a borrowing base as of December 31, 1996 of $60 million. NationsBank is the agent bank and the facility includes two other banks. The credit facility is a two-year revolving credit facility that converts to a three year term loan in May 1998, unless renewed or extended. This revolver conversion date was extended to May 1999 on April 1, 1997. The credit facility is secured by virtually all the Company's oil and natural gas properties and interest is payable at either the bank's prime rate or, depending on the percentage of the borrowing base that is outstanding, ranging from LIBOR plus 7/8% to LIBOR plus 1 3/8%. This credit facility also has several restrictions including, among others: (i) a prohibition on the payment of dividends, (ii) a requirement for a minimum equity balance, (iii) a requirement to maintain positive working capital as defined, and (iv) a prohibition of most debt and corporate guarantees. As of December 31, 1996, the Company had $100,000 outstanding on this line of credit and $645,000 of letters of credit outstanding. The Company made two amendments to its bank credit facility during 1997 and revised and restated its facility in December, 1997. See Note 12 for additional disclosures. SUBORDINATED DEBT On March 23, 1994, Denbury issued Cdn. $2,000,000 principal amount of 6 3/4% unsecured convertible debentures and on January 17, 1995, Denbury issued Cdn. $2,500,000 principal amount of 9 1/2% unsecured convertible debentures. These debentures were converted into 566,590 Common Shares during 1996. INDEBTEDNESS REPAYMENT SCHEDULE The Company's indebtedness is repayable as follows:
DECEMBER 31, 1996 ------------------------------------- OTHER NOTES YEAR BANK LOAN PAYABLE TOTAL ---- --------- ----------- ----- (AMOUNTS IN THOUSANDS) 1997.............................................. $ -- $67 $ 67 1998.............................................. 17 23 40 1999.............................................. 33 2 35 2000.............................................. 33 -- 33 2001.............................................. 17 -- 17 ---- --- ---- $100 $92 $192 ==== === ====
F-11 120 DENBURY RESOURCES INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
SEPTEMBER 30, 1997 (UNAUDITED) --------------------------------------- OTHER NOTES YEAR BANK LOAN PAYABLE TOTAL ---- --------- ----------- ------- (AMOUNTS IN THOUSANDS) 1997........................................... $ -- $ 3 $ 3 1998........................................... -- 23 23 1999........................................... 3,333 2 3,335 2000........................................... 6,667 -- 6,667 2001........................................... 6,667 -- 6,667 2002........................................... 3,333 -- 3,333 ------- --- ------- $20,000 $28 $20,028 ======= === =======
4. INCOME TAXES The Company's tax provision is as follows:
NINE MONTHS ENDED YEAR ENDED DECEMBER 31, SEPTEMBER 30, ----------------------- ------------------ 1994 1995 1996 1996 1997 ----- ----- ------- ------- ------- (AMOUNTS IN THOUSANDS) (UNAUDITED) Deferred Federal.................................... $718 $367 $5,312 $2,932 $5,907 State...................................... -- -- -- -- 338 ---- ---- ------ ------ ------ Total.............................. $718 $367 $5,312 $2,932 $6,245 ==== ==== ====== ====== ======
Income tax expense for the year varies from the amount that would result from applying Canadian federal and provincial tax rates to income before income taxes as follows:
NINE MONTHS ENDED YEAR ENDED DECEMBER 31, SEPTEMBER 30, ----------------------- ------------------ 1994 1995 1996 1996 1997 ----- ----- ------- ------- -------- (AMOUNTS IN THOUSANDS) (UNAUDITED) Deferred income tax provision calculated using the Canadian federal and provincial statutory combined tax rate of 44.34%............................... $ 834 $ 479 $ 6,233 $3,224 $ 7,484 Increase resulting from: Imputed preferred dividend.............. -- -- 568 511 -- Non-deductible Canadian expenses........ -- -- 97 64 -- Decrease resulting from: Effect of lower income tax rates on United States income................. (116) (112) (1,586) (867) (1,239) ----- ----- ------- ------ ------- $ 718 $ 367 $ 5,312 $2,932 $ 6,245 ===== ===== ======= ====== =======
F-12 121 DENBURY RESOURCES INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) The Company at December 31, 1996 had net operating loss carryforwards for U.S. tax purposes of approximately $18,329,000 and approximately $12,485,000 for alternative minimum tax purposes. The net operating losses are scheduled to expire as follows:
INCOME ALTERNATIVE YEAR TAX MINIMUM TAX ---- ------- ------------ (AMOUNTS IN THOUSANDS) 2004.................................................. $ 39 $ -- 2005.................................................. 11 -- 2006.................................................. 644 500 2007.................................................. 714 99 2008.................................................. 5,016 4,889 2009.................................................. 3,377 2,868 2010.................................................. 3,467 3,420 2011.................................................. 5,061 710
5. SHAREHOLDERS' EQUITY AUTHORIZED The Company is authorized to issue an unlimited number of Common Shares with no par value, First Preferred Shares and Second Preferred Shares. The preferred shares may be issued in one or more series with rights and conditions as determined by the Directors. COMMON SHARES Each Common Share entitles the holder thereof to one vote on all matters on which holders are permitted to vote. The Texas Pacific Group ("TPG") was granted a right of first refusal in the private placement (see below), to maintain proportionate ownership. No stockholder has any right to convert common stock into other securities. The holders of shares of common stock are entitled to dividends when and if declared by the Board of Directors from funds legally available therefore and, upon liquidation, to a pro rata share in any distribution to stockholders, subject to prior rights of the holders of the preferred stock. The Company is restricted from declaring or paying any cash dividend on the Common Shares by its bank loan agreement. 1996 CAPITAL ADJUSTMENTS During 1996, the Company issued 250,000 Common Shares for the conversion of the 6 3/4% Convertible Debentures of the Company and 75,000 Common Shares for the exercise of half of the Cdn. $8.40 Warrants ("Warrants"). On October 10, 1996, the Company effected a one-for-two reverse split of its outstanding common Shares. Effective October 15, 1996, all of the Company's outstanding 9 1/2% Convertible Debentures ("Debentures") were converted by their holders in accordance with their terms into 308,642 Common Shares. The holders of the Debentures also received an additional 7,948 Common Shares in lieu of interest which would have been due the holders absent an early conversion of the Debentures. At a special meeting held on October 9, 1996, the shareholders of the Company approved an amendment to the terms of the First Preferred Shares, Series A ("Convertible Preferred") to allow the Company to require the conversion of the Convertible Preferred at any time, provided that the conversion rate in effect as of January 1, 1999 would apply to any required conversion prior to that date. The Company converted all of the 1,500,000 shares of Convertible Preferred on October 30, 1996 into 2,816,372 Common Shares. The Company also issued an aggregate of 4,940,000 Common Shares on October 30, 1996 and November 1, 1996 at a net price of $12.035 per share as part of a public offering for net proceeds to the Company of approximately $58.8 million (the "Public Offering"). TPG purchased 800,000 of these shares at $12.035 per share. F-13 122 DENBURY RESOURCES INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) PRIVATE PLACEMENT OF SECURITIES In December 1995, the Company closed a $40 million private placement of securities with partnerships that are affiliated with the Texas Pacific Group ("TPG Placement"). The TPG Placement was comprised of: (i) 4.166 million common shares issued at $5.85 per share, (ii) 625,000 warrants at a price of $1.00 per warrant entitling the holder to purchase 625,000 common shares at $7.40 per share through December 21, 1999 and (iii) 1.5 million shares of $10 stated value Convertible Preferred. The Convertible Preferred shares were initially convertible at $7.40 of stated value per common share with such conversion rate declining 2.5% per quarter. The shares also had a mandatory redemption at a 63.86% premium at December 21, 2000. The Convertible Preferred were converted into 2,816,372 Common Shares on October 30, 1996. During the period that the Convertible Preferred were outstanding, the Company made a charge to net income to accrue the increase during the period in the mandatory redemption premium. The Company may force conversion of the $7.40 warrants issued in the TPG Placement after December 21, 1997, if the price of the Common Shares exceeds $10.00 per share for a period of 40 consecutive days. As part of the TPG Placement, TPG was granted certain "piggyback" registration rights which allow TPG to include all or part of the Common Shares acquired by TPG in any registration statement of the Company during the first two years. After the initial two years and until December 21, 2000, TPG may request and receive one demand registration statement to register the Common Shares acquired by TPG. The TPG agreement provides that TPG shall have the right, but not the obligation, to maintain its pro rata ownership interest (after the assumed exercise of their warrants) in the equity securities of the Company, in the event that the Company issues any additional equity securities or securities convertible into Common Shares of the Company, by purchasing additional shares of the Company on the same terms and conditions. However, this right expires should TPG's share holdings represent less than 20% of the outstanding Common Shares. TPG waived its right to maintain its pro rata ownership with regard to the Equity Offering. As part of the TPG Placement, Tortuga Investment Corp. was paid a financial advisor fee of 333,333 Common Shares of the Company. The sole shareholder of Tortuga Investment Corp. was appointed to the Board of Directors of the Company and elected Chairman upon the closing of the TPG Placement. WARRANTS At December 31, 1996, 75,000 warrants were outstanding at an exercise price of Cdn. $8.40 expiring on May 5, 2000. TPG holds 625,000 warrants at an exercise price of $7.40 expiring on December 21, 1999. Each warrant entitles the holder thereof to purchase one Common Share at any time prior to the expiration date. SPECIAL WARRANT ISSUES On April 25, 1995, the Company issued 614,143 Special Warrants at a price of $4.70 (Cdn. $6.50) per Special Warrant for gross proceeds of $2,750,000 (29,036 Common Share Purchase Warrants were issued to Southcoast Capital Corporation, as placement agent, in partial payment of their fee). Costs of the issue were $436,000, resulting in net proceeds to the Company of approximately $2,314,000. Each Special Warrant was exchanged, at no additional cost, for one Common Share of Denbury on August 11, 1995. F-14 123 DENBURY RESOURCES INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) STOCK OPTIONS AND STOCK PURCHASE PLAN The Company maintains a Stock Option Plan which authorizes the grant of options of up to 2,243,525 of Common Shares. Under the plan, incentive and non-qualified options may be issued to officers, key employees and consultants. The plan is administered by the Stock Option Committee of the Board. Following is a summary of stock option activity during the years ended December 31, 1994, 1995 and 1996 and the nine months ended September 30, 1997:
YEAR ENDED DECEMBER 31, NINE MONTHS ENDED ------------------------------------------------------------------- SEPTEMBER 30, 1994 1995 1996 1997 ------------------- ------------------- --------------------- --------------------- WEIGHTED WEIGHTED WEIGHTED WEIGHTED AVERAGE AVERAGE AVERAGE AVERAGE NUMBER PRICE NUMBER PRICE NUMBER PRICE NUMBER PRICE ------- -------- ------- -------- --------- -------- --------- -------- (UNAUDITED) OUTSTANDING AT BEGINNING OF PERIOD.............. 541,312 $6.68 557,312 $6.30 731,925 $6.11 1,053,000 $ 7.63 Granted............... 138,750 5.64 274,500 5.89 525,500 8.96 750,512 13.64 Terminated............ (26,500) 9.35 (89,887) 7.79 (6,750) 6.28 (21,250) 12.02 Exercised............. (96,250) 3.74 (10,000) 5.42 (197,675) 5.42 (270,056) 6.93 Expired............... -- -- -- -- -- -- -- -- ------- ----- ------- ----- --------- ----- --------- ------ OUTSTANDING AT END OF PERIOD.............. 557,312 $6.30 731,925 $6.11 1,053,000 $7.63 1,512,206 $10.69 ======= ===== ======= ===== ========= ===== ========= ====== Options exercisable at end of period....... 487,937 $6.39 539,675 $6.19 532,375 $6.82 395,222 $ 7.56 ======= ===== ======= ===== ========= ===== ========= ======
WEIGHTED WEIGHTED OPTIONS OUTSTANDING AS OF OPTIONS AVERAGE WEIGHTED AVERAGE EXERCISABLE AVERAGE DECEMBER 31, 1996: OUTSTANDING PRICE REMAINING LIFE (YRS.) OPTIONS PRICE - ------------------------- ----------- -------- --------------------- ----------- -------- Exercise price of: $3.65 to $6.99 372,000 $ 5.79 4.3 305,250 $ 5.77 $7.00 to $9.99 444,625 7.78 6.5 175,906 7.70 $10.00 to $14.87 236,375 10.23 9.4 51,219 10.09
In February 1996, the Company also implemented a Stock Purchase Plan which authorizes the sale of up to 250,000 Common Shares to all full-time employees with at least six months of service. Under the plan, the employees may contribute up to 10% of their base salary and the Company matches 75% of the employee contribution. The combined funds are used to purchase previously unissued Common Shares of the Company based on its current market value at the end of the each quarter. The Company recognizes compensation expense for the 75% Company matching portion, which for 1996 totaled $147,000 and for the nine months ended September 30, 1997 totaled $282,000. This plan is administered by the Stock Purchase Plan Committee of the Board. 6. PRODUCT PRICE HEDGING CONTRACTS In October 1994, the Company entered into two financial contracts ("collars") to hedge 10,000 Mcf/d of natural gas production for calendar year 1995. The first natural gas contract for 8,000 Mcf/d of natural gas had a floor of $1.845 per MMBTU and a ceiling of $2.095 per MMBTU. The second natural gas contract was for 2,000 Mcf/d and had a floor of $1.775 per MMBTU and a ceiling of $1.885 per MMBTU. These contracts covered 75% of the Company's net revenue interest production in 1995 and increased oil and natural gas revenues by approximately $800,000 during such period. In addition, in 1995 the Company entered into two swap contracts for oil. The first oil contract was for 500 Bbls/d of oil at a price of $17.79 per barrel of oil commencing on February 1, 1995, and ending on January 31, 1996. The second oil contract was also for 500 Bbls/d of oil at a price of $18.83, for the period commencing on April 12, 1995, and ending on December 30, 1995. These contracts covered 43% of the Company's net revenue interest production for 1995 and decreased oil and natural gas revenues by approximately $47,000 during such period. F-15 124 DENBURY RESOURCES INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) The Company did not have any hedge contracts in place as of December 31, 1996 or September 30, 1997. 7. COMMITMENTS AND CONTINGENCIES The Company has operating leases for the rental of office space, office equipment, and vehicles. At December 31, 1996, and September 30, 1997 long-term commitments for these items require the following future minimum rental payments:
DECEMBER 31, SEPTEMBER 30, 1996 1997 ------------ ------------- (AMOUNTS IN THOUSANDS) (UNAUDITED) 1997............................................. $ 442 $ 123 1998............................................. 441 474 1999............................................. 166 988 2000............................................. -- 1,196 2001............................................. -- 1,192 2002............................................. -- 1,178 ------ ------ $1,049 $5,151 ====== ======
On August 6, 1997, the Company entered into a ten year office lease. See Note 12. The Company is subject to various possible contingencies which arise primarily from interpretation of federal and state laws and regulations affecting the oil and natural gas industry. Such contingencies include differing interpretations as to the prices at which oil and natural gas sales may be made, the prices at which royalty owners may be paid for production from their leases and other matters. Although management believes it has complied with the various laws and regulations, administrative rulings and interpretations thereof, adjustments could be required as new interpretations and regulations are issued. In addition, production rates, marketing and environmental matters are subject to regulation by various federal and state agencies. The Company is not currently a party to any litigation which would have a material impact on its financial statements. However, due to the nature of its business, certain legal or administrative proceedings may arise in the ordinary course of its business. 8. DIFFERENCES IN GENERALLY ACCEPTED ACCOUNTING PRINCIPLES BETWEEN CANADA AND THE UNITED STATES The consolidated financial statements have been prepared in accordance with GAAP in Canada. The primary differences between Canadian and U.S. GAAP affecting the Company's consolidated financial statements are as discussed below. LOSS ON EXTINGUISHMENT OF DEBT AND IMPUTED PREFERRED DIVIDENDS The most significant GAAP difference relates to the presentation of the early extinguishment of debt and the imputed dividend on the Convertible Preferred. During 1996, the Company expensed $1,281,000 relating to the imputed preferred dividend, as required under Canadian GAAP. Under U.S. GAAP, this dividend would be deducted from net income to compute the net income attributable to the common shareholders. The Company also expensed its debt issue cost relating to the Company's prior bank credit agreements totaling $200,000 and $440,000 for 1995 and 1996, respectively. Under Canadian GAAP this is an operating expense, while under U.S. GAAP a loss on early extinguishment of debt is an extraordinary item. While net income per common share and all balance sheet accounts are not affected by these differences in GAAP, the net income F-16 125 DENBURY RESOURCES INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) for 1995 and 1996 under U.S. GAAP would be $714,000 and $10,025,000, respectively, while under Canadian GAAP the amounts reported were $714,000 and $8,744,000, respectively. EARNINGS PER SHARE In addition, the methodology for computing earnings per common share is not consistent between the two countries. For Canadian purposes, dilutive securities are only considered in the fully diluted presentation of earnings per share and the proceeds from such dilutive securities are used to reduce debt in the calculation. Under U.S. GAAP, the proceeds from such instruments are used to repurchase Common Shares, using a slightly different methodology for the primary and fully diluted calculations. For the years ended December 31, 1994 and 1995, the stock options, warrants, convertible debt and the conversion of the Convertible Preferred were either anti-dilutive or immaterial and were not included in the earnings per share under either GAAP calculation. For the year ended December 31, 1996, the Convertible Preferred was still anti-dilutive, but the stock options, convertible debt and warrants were dilutive and included in the earnings per share calculations, but with different results under the two respective GAAP's. Under U.S. GAAP for the year ended December 31, 1996, the primary earnings per share would be $.64 and the fully-diluted earnings per share would be $.63 as compared to the $.67 and $.62 as reported under Canadian GAAP. For the first nine months of 1996, under U.S. GAAP, the primary and fully-diluted earnings per common share would be $0.36 and $0.35, compared to the $0.37 and $0.36, respectively, as reported under Canadian GAAP. Under U.S. GAAP for the first nine months of 1997, the primary and fully-diluted earnings per common share would be $0.50 and $0.49, as compared to the $0.53 and $0.50, respectively, as reported under Canadian GAAP. During 1996, the Company issued 4,940,000 Common Shares in a public offering and used a portion of the proceeds to retire bank debt. On a pro forma basis using U.S. GAAP and assuming that the Common Shares had been issued as of January 1, 1996 and the interest expense for 1996 relating to the bank debt was reversed, the primary earnings per share would be $.57 per share. No interest income was assumed in the pro forma calculation even though the proceeds from the equity issuance exceeded the bank debt that was retired. STOCK-BASED COMPENSATION In 1995, the United States Financial Accounting Standards Board issued Statement of Financial Accounting Standards ("SFAS") No. 123, "Accounting for Stock-Based Compensation." SFAS No. 123 is effective for fiscal years beginning after December 31, 1995 and requires companies to use recognized option pricing models to estimate the fair value of stock-based compensation, including stock options. The Statement requires additional disclosures based on this fair value based method of accounting for an employee stock option and encourages, but does not require, companies to recognize the value of these stock option grants as additional compensation using the methodology of SFAS No. 123. The Company has elected to continue recognizing expense as prescribed by APB Opinion No. 25, "Accounting for Stock Issued to Employees", as allowed under SFAS No. 123 rather than recognizing compensation expense as calculated under SFAS No. 123. As such, the adoption of SFAS No. 123 during 1996 did not have any effect on the Company's consolidated financial statements. F-17 126 DENBURY RESOURCES INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) The Company has two stock-based compensation plans as more fully described in Note 5. With regard to its stock option plan, the Company applies APB Opinion No. 25 in accounting for this plan and accordingly no compensation cost has been recognized. Had compensation expense been determined based on the fair value at the grant dates for the stock option grants consistent with the method of SFAS No. 123, the Company's net income and net income per common share would have been reduced to the pro forma amounts indicated below:
YEAR ENDED DECEMBER 31, ----------------------- 1995 1996 ------- -------- Net income: As reported (thousands)................................... $ 714 $8,744 Pro forma (thousands)..................................... 503 8,215 Net income per common share: As reported............................................... $0.10 $ 0.67 Pro forma................................................. 0.07 0.63 Stock options issued during period (thousands).............. 275 526 Weighted average exercise price............................. $5.90 $ 8.96 Average per option compensation value of options granted(a)................................................ 2.34 2.95 Compensation cost (thousands)............................... 320 801
- --------------- (a) Calculated in accordance with the Black-Scholes option pricing model, using the following assumptions; expected volatility computed using, as of the date of grant, the prior three-year monthly average of the Common Shares as listed on the TSE, which ranged from 32% to 67%; expected dividend yield -- 0%; expected option term -- 3 years, and risk-free rate of return as of the date of grant which ranged from 5.3% to 7.8%, based on the yield of five-year U.S. treasury securities. DEFERRED INCOME TAXES Deferred income taxes relate to temporary differences based on tax laws and statutory rates in effect at the December 31, 1995 and 1996 balance sheet dates. At December 31, 1995, and 1996, all deferred tax assets and liabilities were computed based on Canadian GAAP amounts and were noncurrent as follows:
NINE MONTHS ENDED DECEMBER 31, SEPTEMBER 30, ------------------ ------------- 1995 1996 1997 ------- ------- ------------- (AMOUNTS IN THOUSANDS) (UNAUDITED) Deferred tax assets: Loss carryforwards............................... $(4,511) $(4,902) $(10,100) Deferred tax liabilities: Exploration and intangible development costs..... 5,942 11,645 23,088 ------- ------- -------- Net deferred tax liability......................... $ 1,431 $ 6,743 $ 12,988 ======= ======= ========
RECENTLY ISSUED ACCOUNTING STANDARDS The Accounting Standards Executive Committee of the American Institute of Certified Public Accountants has adopted Statement of Position 96-1, "Environmental Remediation Liabilities," which provides guidance on the recognition, measurement, display and disclosure of environmental remediation liabilities. The Statement is effective for the Company's 1997 fiscal year. Management evaluated such Statement and believes that it will not have a material effect on the financial position or results of operations of the Company. F-18 127 DENBURY RESOURCES INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) In February 1997 the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 128 Earnings Per Share, ("SFAS 128") simplifies the standards for computing earnings per share ("EPS") and makes them more comparable to international EPS standards. SFAS 128 replaces the presentation of primary EPS with a presentation of basic EPS. Basic EPS excludes dilution and is computed by dividing income available to common shareholders by the weighted average number of common shares outstanding for the period. Diluted EPS reflects the potential dilution that could occur if securities or other contracts to issue common stock were exercised, converted into common stock or resulted in the issuance of common shares that then shared in the earnings of the entity. Diluted EPS is computed similarly to fully diluted EPS pursuant to Accounting Principles Board Opinion No. 15. SFAS 128 is effective for financial statements issued for periods ending after December 15, 1997, including interim periods. Earlier application is not permitted. Basic EPS for the year ended December 31, 1994, 1995 and 1996 and the nine months ended September 30, 1996 and 1997 under SFAS 128 would $0.19, $0.10, $0.67, $0.37, and $0.53 per common share respectively. This compares to $0.19, $0.10, $0.64, $0.36, and $0.50 respective periods as computed under current U.S. GAAP. In June 1997, the FASB issued SFAS No. 130, "Reporting Comprehensive Income" and SFAS No. 131, "Disclosures About Segments of an Enterprise and Related Information." SFAS No. 130 establishes standards for reporting and display of comprehensive income in the financial statements. Comprehensive income is the total of net income and all other non-owner changes in equity. SFAS No. 131 requires that companies disclose segment data based on how management makes decisions about allocating resources to segments and measuring their performance. SFAS Nos. 130 and 131 are effective for 1998. Adoption of these standards is not expected to have an effect on the Company's financial statements, financial position or results of operations. 9. SUPPLEMENTAL INFORMATION SIGNIFICANT OIL AND NATURAL GAS PURCHASERS Oil and natural gas sales are made on a day-to-day basis or under short-term contracts at the current area market price. The loss of any purchaser would not be expected to have a material adverse effect upon operations. For the period ended December 31, 1996, the Company sold 10% or more of its net production of oil and natural gas to the following purchasers: Natural Gas Clearinghouse (20%), Penn Union Energy Services (19%), Enron Oil Trading & Transportation (13%), and Hunt Refining (15%). COSTS INCURRED The following table summarizes costs incurred in oil and natural gas property acquisition, exploration and development activities. Property acquisition costs are those costs incurred to purchase, lease, or otherwise acquire property, including both undeveloped leasehold and the purchase of revenues in place. Exploration costs include costs of identifying areas that may warrant examination and in examining specific areas that are considered to have prospects containing oil and natural gas reserves, including costs of drilling exploratory wells, geological and geophysical costs and carrying costs on undeveloped properties. Development costs are incurred to obtain access to proved reserves, including the cost of drilling development wells, and to provide facilities for extracting, treating, gathering, and storing the oil and natural gas. F-19 128 DENBURY RESOURCES INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) Costs incurred in oil and natural gas activities for the years ended December 31, 1994, 1995 and 1996 and the nine months ended September 1997 are as follows:
NINE MONTHS YEAR ENDED DECEMBER 31, ENDED --------------------------- SEPTEMBER 30, 1994 1995 1996 1997 ------- ------- ------- ------------- (AMOUNTS IN THOUSANDS) (UNAUDITED) Property acquisition......................... $ 6,736 $17,198 $48,856 $17,592 Exploration.................................. 1,796 1,687 4,592 14,058 Development.................................. 8,371 9,639 33,409 39,123 ------- ------- ------- ------- $16,903 $28,524 $86,857 $70,773 ======= ======= ======= =======
PROPERTY ACQUISITIONS During April 1996, the Company closed an acquisition of additional working interests in five Mississippi oil and natural gas properties in which the Company already owned an interest, plus certain overriding royalty interests in other areas for approximately $7.5 million (the "Ottawa Acquisition"). The properties were acquired from Ottawa Energy, Inc., a subsidiary of Highridge Exploration Ltd. On April 17, 1996, Denbury entered into a purchase and sale agreement with Amerada Hess Corporation to purchase producing oil and natural gas properties in Mississippi, Louisiana and Alabama, plus certain overriding royalty interests in Ohio, for approximately $37.2 million (the "Hess Acquisition"). The Company funded this acquisition with bank financing from its NationsBank credit facility and closed this transaction during June 1996. These two acquisitions were accounted for under purchase accounting and the results of operations were consolidated during the second quarter of 1996. Pro forma results of operations of the Company as if the acquisitions had occurred at the beginning of each respective period are as follows:
YEAR ENDED DECEMBER 31, ----------------- 1995 1996 ------- ------- Revenues (thousands)........................................ $41,273 $61,573 Net income (thousands)...................................... 899 9,820 Net income per common share................................. 0.13 0.75
In computing the pro forma results, depreciation, depletion and amortization expense was computed using the units of production method, and an adjustment was made to interest expense reflecting the bank debt that was required to fund the acquisitions. The pro forma results reflect an increase of $250,000 and $500,000 for 1996 and 1995, respectively, in general and administrative expense for additional personnel and associated costs relating to the acquired properties, net of anticipated allocations to operations and capitalization of exploration costs. F-20 129 DENBURY RESOURCES INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) The following represents the revenues and direct operating expenses attributable to the net interest acquired in the Hess Acquisition by the Company and are presented on the full cost accrual basis of accounting. Depreciation, depletion, and amortization, allocated general and administrative expenses, interest expense and income, and income taxes have been excluded because the property interests acquired represent only a portion of a business and these expenses are not necessarily indicative of the expenses to be incurred by the Company.
YEAR ENDED DECEMBER 31, --------------------------- 1994 1995 1996 ------- ------- ------- (AMOUNTS IN THOUSANDS) Revenues: Oil, natural gas and related product sales............. $17,787 $18,210 $20,165 Direct operating expenses: Lease operating expense................................ 6,598 7,888 6,302 ------- ------- ------- Excess of revenues over direct operating expenses........ $11,189 $10,322 $13,863 ======= ======= =======
The following represents the revenues and direct operating expenses attributable to the net interest acquired in the Ottawa Acquisition by the Company and are presented on the full cost accrual basis of accounting. Depreciation, depletion, and amortization, allocated general and administrative expenses, interest expense and income, and income taxes have been excluded because the property interests acquired represent only a portion of a business and these expenses are not necessarily indicative of the expenses to be incurred by the Company.
YEAR ENDED DECEMBER 31, 1996 ------------ (AMOUNTS IN THOUSANDS) Revenues: Oil, natural gas and related product sales................ $4,215 Direct operating expenses: Lease operating expense................................... 760 ------ Excess of revenues over direct operating expenses........... $3,455 ======
In November 1995, the Company acquired seven producing wells and certain non-producing leases in the Gibson/Humphreys Fields of Terrebonne Parish, Louisiana for approximately $10.2 million. See also Note 12 for disclosures regarding the Chevron Acquisition made in December, 1997. F-21 130 DENBURY RESOURCES INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 10. CONDENSED CONSOLIDATING FINANCIAL INFORMATION Denbury Management, Inc. will be issuing debt securities during early 1998 which will be fully and unconditionally guaranteed by Denbury Resources Inc. Denbury Holdings Ltd. was merged into Denbury Resources Inc. in December 1997 and is not a guarantor of the debt. Condensed consolidating financial information for Denbury Resources Inc. and Subsidiaries as of December 31, 1995 and 1996 and September 30, 1997 and for the years ended December 31, 1994, 1995 and 1996 and for the nine months ended September 30, 1996 and 1997 is as follows: DENBURY RESOURCES INC. AND SUBSIDIARIES CONDENSED CONSOLIDATING BALANCE SHEETS (IN THOUSANDS OF U.S. DOLLARS)
DECEMBER 31, 1995 ------------------------------------------------------------------------------ DENBURY DENBURY DENBURY MANAGEMENT DENBURY RESOURCES INC. RESOURCES INC. INC. (ISSUER) HOLDINGS LTD. (GUARANTOR) ELIMINATIONS CONSOLIDATED ------------- ------------- -------------- ------------ -------------- ASSETS Current assets.......................... $10,910 $ -- $ 15 $ -- $10,925 Property and equipment (using full cost accounting)........................... 65,613 -- -- -- 65,613 Investment in subsidiaries (equity method)............................... -- 71,693 70,130 (141,823) -- Other assets............................ 1,075 -- 1,591 (1,563) 1,103 ------- ------- ------- --------- ------- Total assets................... $77,598 $71,693 $71,736 $(143,386) $77,641 ======= ======= ======= ========= ======= LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities..................... $ 4,054 $ -- $ 9 $ -- $ 4,063 Long-term liabilities................... 1,851 1,563 3,226 (1,563) 5,077 Convertible First Preferred Shares...... -- -- 15,000 -- 15,000 Shareholders' equity.................... 71,693 70,130 53,501 (141,823) 53,501 ------- ------- ------- --------- ------- Total liabilities and shareholders' equity......... $77,598 $71,693 $71,736 $(143,386) $77,641 ======= ======= ======= ========= =======
F-22 131 DENBURY RESOURCES INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) DENBURY RESOURCES INC. AND SUBSIDIARIES CONDENSED CONSOLIDATING BALANCE SHEETS (IN THOUSANDS OF U.S. DOLLARS)
DECEMBER 31, 1996 ------------------------------------------------------------------------------ DENBURY DENBURY DENBURY MANAGEMENT DENBURY RESOURCES INC. RESOURCES INC. INC. (ISSUER) HOLDINGS LTD. (GUARANTOR) ELIMINATIONS CONSOLIDATED ------------- ------------- -------------- ------------ -------------- ASSETS Current assets............................. $ 28,722 $ -- $ 280 $ -- $ 29,002 Property and equipment (using full cost accounting).............................. 134,996 -- -- -- 134,996 Investment in subsidiaries (equity method).................................. -- 142,321 140,763 (283,084) -- Other assets............................... 2,505 -- 1,560 (1,558) 2,507 -------- -------- -------- --------- -------- Total assets....................... $166,223 $142,321 $142,603 $(284,642) $166,505 ======== ======== ======== ========= ======== LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities........................ $ 16,421 $ -- $ 99 $ -- $ 16,520 Long-term liabilities...................... 7,481 1,558 -- (1,558) 7,481 Shareholders' equity....................... 142,321 140,763 142,504 (283,084) 142,504 -------- -------- -------- --------- -------- Total liabilities and shareholders' equity........................... $166,223 $142,321 $142,603 $(284,642) $166,505 ======== ======== ======== ========= ========
SEPTEMBER 30, 1997 (UNAUDITED) ------------------------------------------------------------------------------ DENBURY DENBURY DENBURY MANAGEMENT DENBURY RESOURCES INC. RESOURCES INC. INC. (ISSUER) HOLDINGS LTD. (GUARANTOR) ELIMINATIONS CONSOLIDATED ------------- ------------- -------------- ------------ -------------- ASSETS Current assets............................. $ 23,453 $ -- $ 387 $ -- $ 23,840 Property and equipment (using full cost accounting).............................. 183,383 -- -- -- 183,383 Investment in subsidiaries (equity method).................................. -- 155,174 153,630 (308,804) -- Other assets............................... 3,200 -- 1,545 (1,544) 3,201 -------- -------- -------- --------- -------- Total assets....................... $210,036 $155,174 $155,562 $(310,348) $210,424 ======== ======== ======== ========= ======== LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities........................ $ 20,937 $ -- $ 4 $ -- $ 20,941 Long-term liabilities...................... 33,925 1,544 -- (1,544) 33,925 Shareholders' equity....................... 155,174 153,630 155,558 (308,804) 155,558 -------- -------- -------- --------- -------- Total liabilities and shareholders' equity........................... $210,036 $155,174 $155,562 $(310,348) $210,424 ======== ======== ======== ========= ========
F-23 132 DENBURY RESOURCES INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) DENBURY RESOURCES INC. AND SUBSIDIARIES CONDENSED CONSOLIDATING STATEMENTS OF INCOME (IN THOUSANDS OF U.S. DOLLARS)
YEAR ENDED DECEMBER 31, 1994 ------------------------------------------------------------------------------ DENBURY DENBURY DENBURY MANAGEMENT DENBURY RESOURCES INC. RESOURCES INC. INC. (ISSUER) HOLDINGS LTD. (GUARANTOR) ELIMINATIONS CONSOLIDATED ------------- ------------- -------------- ------------ -------------- Revenues................................... $12,714 $ -- $ 1 $ -- $12,715 Expenses................................... 10,607 -- 227 -- 10,834 ------- ------- ------- -------- ------- Income (loss) before the following: 2,107 -- (226) -- 1,881 Equity in net earnings of subsidiaries... -- 1,389 1,389 (2,778) -- ------- ------- ------- -------- ------- Income before income taxes................. 2,107 1,389 1,163 (2,778) 1,881 Provision for federal income taxes......... (718) -- -- -- (718) ------- ------- ------- -------- ------- Net income................................. $ 1,389 $ 1,389 $ 1,163 $ (2,778) $ 1,163 ======= ======= ======= ======== =======
YEAR ENDED DECEMBER 31, 1995 ------------------------------------------------------------------------------ DENBURY DENBURY DENBURY MANAGEMENT DENBURY RESOURCES INC. RESOURCES INC. INC. (ISSUER) HOLDINGS LTD. (GUARANTOR) ELIMINATIONS CONSOLIDATED ------------- ------------- -------------- ------------ -------------- Revenues................................... $20,107 $ -- $ 460 $ (458) $20,109 Expenses................................... 19,026 -- 460 (458) 19,028 ------- ------- ------ --------- ------- Income (loss) before the following: 1,081 -- -- -- 1,081 Equity in net earnings of subsidiaries... -- 714 714 (1,428) -- ------- ------- ------ --------- ------- Income before income taxes................. 1,081 714 714 (1,428) 1,081 Provision for federal income taxes......... (367) -- -- -- (367) ------- ------- ------ --------- ------- Net income................................. $ 714 $ 714 $ 714 $ (1,428) $ 714 ======= ======= ====== ========= =======
YEAR ENDED DECEMBER 31, 1996 ------------------------------------------------------------------------------ DENBURY DENBURY DENBURY MANAGEMENT DENBURY RESOURCES INC. RESOURCES INC. INC. (ISSUER) HOLDINGS LTD. (GUARANTOR) ELIMINATIONS CONSOLIDATED ------------- ------------- -------------- ------------ -------------- Revenues................................... $53,631 $ -- $ 179 $ (161) $53,649 Expenses................................... 38,008 -- 1,746 (161) 39,593 ------- ------- ------- -------- ------- Income (loss) before the following: 15,623 -- (1,567) -- 14,056 Equity in net earnings of subsidiaries... -- 10,311 10,311 (20,622) -- ------- ------- ------- -------- ------- Income before income taxes................. 15,623 10,311 8,744 (20,622) 14,056 Provision for federal income taxes......... (5,312) -- -- -- (5,312) ------- ------- ------- -------- ------- Net income................................. $10,311 $10,311 $ 8,744 $(20,622) $ 8,744 ======= ======= ======= ======== =======
F-24 133 DENBURY RESOURCES INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) DENBURY RESOURCES INC. AND SUBSIDIARIES CONDENSED CONSOLIDATING STATEMENTS OF INCOME (IN THOUSANDS OF U.S. DOLLARS)
NINE MONTHS ENDED SEPTEMBER 30, 1996 (UNAUDITED) ------------------------------------------------------------------------------ DENBURY DENBURY DENBURY MANAGEMENT DENBURY RESOURCES INC. RESOURCES INC. INC. (ISSUER) HOLDINGS LTD. (GUARANTOR) ELIMINATIONS CONSOLIDATED ------------- ------------- -------------- ------------ -------------- Revenues................................... $35,130 $ -- $ 117 $ (113) $35,134 Expenses................................... 26,507 -- 1,468 (113) 27,862 ------- ------- ------- --------- ------- Income (loss) before the following: 8,623 -- (1,351) -- 7,272 Equity in net earnings of subsidiaries... -- 5,691 5,691 (11,382) -- ------- ------- ------- --------- ------- Income before income taxes................. 8,623 5,691 4,340 (11,382) 7,272 Provision for federal income taxes......... (2,932) -- -- -- (2,932) ------- ------- ------- --------- ------- Net income................................. $ 5,691 $ 5,691 $ 4,340 $ (11,382) $ 4,340 ======= ======= ======= ========= =======
NINE MONTHS ENDED SEPTEMBER 30, 1997 (UNAUDITED) ------------------------------------------------------------------------------ DENBURY DENBURY DENBURY MANAGEMENT DENBURY RESOURCES INC. RESOURCES INC. INC. (ISSUER) HOLDINGS LTD. (GUARANTOR) ELIMINATIONS CONSOLIDATED ------------- ------------- -------------- ------------ -------------- Revenues................................... $61,066 $ -- $ 105 $ (102) $61,069 Expenses................................... 44,191 -- 102 (102) 44,191 ------- ------- ------- --------- ------- Income (loss) before the following: 16,875 -- 3 -- 16,878 Equity in net earnings of subsidiaries... -- 10,630 10,630 (21,260) -- ------- ------- ------- --------- ------- Income before income taxes................. 16,875 10,630 10,633 (21,260) 16,878 Provision for federal income taxes......... (6,245) -- -- -- (6,245) ------- ------- ------- --------- ------- Net income................................. $10,630 $10,630 $10,633 $ (21,260) $10,633 ======= ======= ======= ========= =======
11. SUPPLEMENTAL RESERVE INFORMATION (UNAUDITED) Net proved oil and natural gas reserve estimates as of December 31, 1995 and 1996 were prepared by Netherland & Sewell and the net oil and natural gas reserve estimates as of December 31, 1994 were prepared by The Scotia Group, Inc., both independent petroleum engineers located in Dallas, Texas. The reserves were prepared in accordance with guidelines established by the Securities and Exchange Commission and accordingly, were based on existing economic and operating conditions. Oil and natural gas prices in effect as of the reserve report date were used without any escalation except in those instances where the sale is covered by contract, in which case the applicable contract prices including fixed and determinable escalations were used for the duration of the contract, and thereafter the last contract price was used. Operating costs, production and ad valorem taxes and future development costs were based on current costs with no escalation. There are numerous uncertainties inherent in estimating quantities of proved reserves and in projecting the future rates of production and timing of development expenditures. The following reserve data represents estimates only and should not be construed as being exact. Moreover, the present values should not be construed as the current market value of the Company's oil and natural gas reserves or the costs that would be incurred to obtain equivalent reserves. All of the reserves are located in the United States. F-25 134 DENBURY RESOURCES INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) ESTIMATED QUANTITIES OF RESERVES
YEAR ENDED DECEMBER 31, --------------------------------------------------- 1994 1995 1996 --------------- --------------- --------------- OIL GAS OIL GAS OIL GAS (MBBL) (MMCF) (MBBL) (MMCF) (MBBL) (MMCF) ------ ------ ------ ------ ------ ------ Balance beginning of year............... 3,583 13,029 4,230 42,047 6,292 48,116 Revisions of previous estimates....... (48) 2,827 830 (1,620) (490) 3,737 Revisions due to price changes........ -- -- -- -- 1,053 402 Extensions, discoveries and other additions.......................... 640 14,978 732 -- 3,492 5,480 Production............................ (489) (3,326) (728) (4,844) (1,500) (8,933) Acquisition of minerals in place...... 544 14,539 1,228 12,533 6,205 25,300 ----- ------ ----- ------ ------ ------ Balance at end of period................ 4,230 42,047 6,292 48,116 15,052 74,102 ===== ====== ===== ====== ====== ====== Proved developed reserves: Balance at beginning of year.......... 3,418 12,303 3,755 35,578 5,290 34,894 Balance at end of period.............. 3,755 35,578 5,290 34,894 13,371 58,634
STANDARDIZED MEASURE OF DISCOUNTED FUTURE NET CASH FLOWS AND CHANGES THEREIN RELATING TO PROVED OIL AND NATURAL GAS RESERVES The Standardized Measure of Discounted Future Net Cash Flows and Changes Therein Relating to Proved Oil and Natural Gas Reserves ("Standardized Measure") does not purport to present the fair market value of the Company's oil and natural gas properties. An estimate of such value should consider, among other factors, anticipated future prices of oil and natural gas, the probability of recoveries in excess of existing proved reserves, the value of probable reserves and acreage prospects, and perhaps different discount rates. It should be noted that estimates of reserve quantities, especially from new discoveries, are inherently imprecise and subject to substantial revision. Under the Standardized Measure, future cash inflows were estimated by applying year-end prices, adjusted for fixed and determinable escalations, to the estimated future production of year-end proved reserves. Future cash inflows were reduced by estimated future production and development costs based on year-end costs to determine pre-tax cash inflows. Future income taxes were computed by applying the statutory tax rate to the excess of pre-tax cash inflows over the Company's tax basis in the associated proved oil and natural gas properties. Tax credits and net operating loss carry forwards were also considered in the future income tax calculation. Future net cash inflows after income taxes were discounted using a 10% annual discount rate to arrive at the Standardized Measure.
DECEMBER 31, ------------------------------- 1994 1995 1996 -------- -------- --------- (AMOUNTS IN THOUSANDS) Future cash inflows................................. $126,129 $214,932 $ 627,476 Future production costs............................. (35,069) (56,323) (134,986) Future development costs............................ (7,369) (16,154) (28,722) -------- -------- --------- Future net cash flows before taxes.................. 83,691 142,455 463,768 10% annual discount for estimated timing of cash flows.......................................... (31,000) (45,490) (147,670) -------- -------- --------- Discounted future net cash flows before taxes....... 52,691 96,965 316,098 Discounted future income taxes...................... (5,763) (15,801) (74,226) -------- -------- --------- Standardized measure of discounted future net cash.............................................. $ 46,928 $ 81,164 $ 241,872 ======== ======== =========
F-26 135 DENBURY RESOURCES INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) The following table sets forth an analysis of changes in the Standardized Measure of Discounted Future Net Cash Flows from proved oil and natural gas reserves:
YEAR ENDED DECEMBER 31, ----------------------------- 1994 1995 1996 ------- -------- -------- (AMOUNTS IN THOUSANDS) Beginning of year..................................... $28,465 $ 46,928 $ 81,164 Sales of oil and natural gas produced, net of production costs.................................... (8,383) (13,243) (39,385) Net changes in sales prices........................... 863 23,037 116,587 Extensions and discoveries, less applicable future development and production costs.................... 13,416 1,926 34,113 Previously estimated development costs incurred....... 2,492 2,193 5,278 Revisions of previous estimates, including revised estimates of development costs, reserves and rates of production....................................... (2,914) 3,958 7,747 Accretion of discount................................. 2,847 4,693 8,116 Purchase of minerals in place......................... 15,732 21,710 86,677 Net change in income taxes............................ (5,590) (10,038) (58,425) ------- -------- -------- End of period......................................... $46,928 $ 81,164 $241,872 ======= ======== ========
12. SUBSEQUENT EVENTS (UNAUDITED) On November 25, 1997, Denbury entered into a purchase and sale agreement with Chevron to purchase producing oil and natural gas properties in Mississippi, for approximately $202 million (the "Chevron Acquisition"). The acquisition included 122 wells, of which 96 wells will be Company operated. The Company funded this acquisition with bank financing from a revised and restated credit facility and closed this transaction during December, 1997. This acquisition was accounted for under purchase accounting and the results of operations will be consolidated effective December 31, 1997. Pro forma results of operations of the Company as if the Chevron Acquisition had occurred at the beginning of each respective period are as follows:
NINE MONTHS ENDED YEAR ENDED SEPTEMBER 30, DECEMBER 31, ---------------------- 1996 1996 1997 -------------- --------- --------- (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) Revenues........................................... $77,311 $52,534 $75,103 Net income......................................... 4,978 1,236 6,959 Net income per common share........................ 0.38 0.11 0.34
In computing the pro forma results, depreciation, depletion and amortization expense was computed using the units of production method, and an adjustment was made to interest expense reflecting the bank debt that was required to fund the acquisitions. The pro forma results reflect an increase of $687,000, $514,000 and $514,000 for 1996 and the nine months ended September 30, 1996 and 1997, respectively, in general and administrative expense for additional personnel and associated costs relating to the acquired properties, net of anticipated allocations to operations and capitalization of exploration costs. F-27 136 DENBURY RESOURCES INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) The following represents the revenues and direct operating expenses attributable to the net interest acquired in the Chevron Acquisition by the Company and are presented on the full cost accrual basis of accounting. Depreciation, depletion, and amortization, allocated general and administrative expenses, interest expense and income, and income taxes have been excluded because the property interests acquired represent only a portion of a business and these expenses are not necessarily indicative of the expenses to be incurred by the Company.
YEAR ENDED NINE MONTHS DECEMBER 31, ENDED ----------------- SEPTEMBER 30, 1995 1996 1997 ------- ------- ------------- Revenues: Oil, natural gas and related product............... $17,460 $23,662 $14,034 Direct operating expenses: Lease operating expense............................ 5,825 6,650 5,237 ------- ------- ------- Excess of revenues over direct operating expenses.... $11,635 $17,012 $ 8,797 ======= ======= =======
The Company made two amendments to its credit facility during 1997. In April, 1997, the Company amended its bank credit facility (i) to extend the revolver by one year to May 31, 1999, (ii) to extend the termination date by one year to May 31, 2002, and (iii) to reduce the commitment fee percentages. In October, 1997, the Company further amended its bank credit facility to (i) modify the security requirement of the facility such that mortgages will only be required by the banks to the extent that they were in place as of the date of the amendment and (ii) to modify certain other definitions and minor provisions of the agreement. In order to fund the Chevron Acquisition, the Company has revised and restated its credit facility (the "Credit Facility") with NationsBank of Texas, as agent, ("NationsBank") a group of banks and increased the size of the facility from $150 million to $300 million. This restatement was made during the fourth quarter of 1997, with an adjusted borrowing base as of December 31, 1997 of $260 million of which $ million was available. The Credit Facility includes a five year revolving credit facility of $175 million, unless renewed or extended, plus an acquisition tranche of $85 million that is subject to review every six months and on which the interest rate escalates 0.25% each quarter beginning March 1, 1998. On August 6, 1997, the Company entered into a ten year office lease for its corporate headquarters which is expected to commence late in 1998. The estimated minimum annual rental payments for the first five years of the lease are projected to be $1.15 million per year (commencing on occupancy) and the minimum annual rental payments during the remaining five years of the lease are projected to be $1.25 million per year. UNAUDITED QUARTERLY INFORMATION The following table presents unaudited summary financial information on a quarterly basis for 1995 and 1996 and the first three quarters of 1997 (in thousands except per share amounts).
1995 ----------------------------------------------- MARCH 31 JUNE 30 SEPTEMBER 30 DECEMBER 31 -------- ------- ------------ ----------- Revenues.................................. $ 4,381 $ 4,636 $ 4,841 $ 6,251 Expenses.................................. 3,723 4,583 4,554 6,168 Net income................................ 435 35 190 54 Net income per share (primary)............ 0.08 0.00 0.02 0.00 Cash flow from operations(a).............. 2,112 1,913 2,234 3,135
F-28 137 DENBURY RESOURCES INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
1996 ----------------------------------------------- MARCH 31 JUNE 30 SEPTEMBER 30 DECEMBER 31 -------- ------- ------------ ----------- Revenues.................................. $ 9,092 $11,682 $14,359 $18,516 Expenses.................................. 6,767 9,608 11,486 11,732 Net income................................ 1,380 1,215 1,745 4,404 Net income per share (primary)(b)......... 0.12 0.11 0.14 0.25 Cash flow from operations(a).............. 6,065 7,238 8,464 12,373
1997 --------------------------------- MARCH 31 JUNE 30 SEPTEMBER 30 -------- ------- ------------ Revenues.................................. $21,653 $19,015 $20,401 Expenses.................................. 13,375 15,512 15,304 Net income................................ 5,215 2,207 3,211 Net income per share (primary)............ 0.26 0.11 0.16 Cash flow from operations(a).............. 14,922 12,001 13,243
- --------------- (a) Exclusive of the net change in non-cash working capital balances. (b) Due to the significant variances between quarters in net income and average shares outstanding, the combined quarterly income per share does not equal the reported earnings per share for 1996. F-29 138 REPORT OF INDEPENDENT ACCOUNTANTS To the Board of Directors of Denbury Resources Inc. We have audited the accompanying statement of revenues and direct operating expenses of Chevron U.S.A. Inc.'s working interest in the Heidelberg Fields (the "Properties") acquired by Denbury Resources Inc. (the "Company") for each of the two years in the period ended December 31, 1996 and for the nine months ended September 30, 1997. This statement is the responsibility of the Company's management. Our responsibility is to express an opinion on this statement based on our audit. We conducted our audit in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the statement of revenues and direct operating expenses is free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the statement of revenues and direct operating expenses. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the statement of revenues and direct operating expenses. We believe that our audit provides a reasonable basis for our opinion. The accompanying statement of revenues and direct operating expenses was prepared for the purpose of complying with the rules and regulations of the Securities and Exchange Commission (for inclusion in the registration statement on Form S-3 of Denbury Resources Inc.) as described in Note 1 and is not intended to be a complete presentation of the Properties' revenues and expenses. In our opinion, the statement of revenues and direct operating expenses referred to above presents fairly, in all material respects, the revenues and direct operating expenses of the Properties described in Note 1 for each of the two years in the period ended December 31, 1996 and for the nine months ended September 30, 1997, in conformity with generally accepted accounting principles. Price Waterhouse LLP San Francisco, California December 19, 1997 F-30 139 STATEMENTS OF REVENUES AND DIRECT OPERATING EXPENSES OF PROPERTIES
YEAR ENDED DECEMBER 31, NINE MONTHS ENDED ------------------ SEPTEMBER 30, 1995 1996 1997 ------- ------- ----------------- (AMOUNTS IN THOUSANDS) Revenues: Oil, natural gas and related product sales......... $17,460 $23,662 $14,034 Direct operating expenses: Lease operating expense............................ 5,825 6,650 5,237 ------- ------- ------- Excess of revenues over direct operating expense..... $11,635 $17,012 $ 8,797 ======= ======= =======
The accompanying notes are an integral part of these statements. F-31 140 NOTES TO STATEMENT OF REVENUES AND DIRECT OPERATING EXPENSES OF PROPERTIES 1. BASIS OF PRESENTATION Denbury Resources Inc. (the "Company") agreed on November 25, 1997 to acquire Chevron U.S.A. Inc.'s working interest in the Heidelberg Fields for approximately $202 million. The Properties are located in the state of Mississippi. The acquisition is expected to close in December 1997. These acquired Properties will be consolidated in the Company's financial statements effective January 1, 1998. Other owners of working interests in the Properties covered by the acquisition agreement have the preferential right to acquire the Properties, which if exercised could reduce the interest acquired by the Company. Historical financial statements reflecting financial position, results of operations and cash flows required by generally accepted accounting principles are not presented, as such information is neither readily available on an individual property basis nor meaningful for the Properties acquired because the entire acquisition cost is being assigned to oil and natural gas properties. Accordingly, the statement of revenues and direct operating expenses is presented in lieu of the financial statements required under Rule 3-05 of Securities and Exchange Commission Regulation S-X. The accompanying statement of revenues and direct operating expenses (the "Statement") relates only to the working interest in the Properties acquired and may not be representative of future operations. The Statement includes revenues from natural gas sales and direct operating expenses for each of the periods presented. The Statement does not include federal and state income taxes, interest, depletion, depreciation and amortization or general and administrative expenses because such amounts would not be indicative of those expenses which would be incurred by the Company. Revenues in the Statement are recognized on the entitlement method. The accompanying Statement has been prepared on the accrual basis in accordance with generally accepted accounting principles. Preparation of the Statement in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the Statement and accompanying notes. Actual results could differ from those estimates. 2. COMMITMENTS AND CONTINGENCIES Chevron U.S.A. Inc. is a defendant in numerous lawsuits, including, along with other oil companies, actions challenging oil royalty and severance tax payments based on posted prices. Plaintiffs may seek to recover large and sometimes unspecified amounts, and some matters may remain unresolved for several years. The amount of such future cost is indeterminable. Such liability for events occurring prior to the effective date of the acquisition shall be retained by Chevron U.S.A. Inc. and Chevron U.S.A. Inc. has indemnified the Company for any costs incurred by it in conjunction with these suits. Given the nature of the Properties acquired and as stipulated in the purchase agreement, the Company is subject to loss contingencies, if any, pursuant to existing or expected environmental laws, regulations, and leases covering the acquired Properties. Management does not believe such matters will have a material impact on the Statement. 3. CONCENTRATION OF CUSTOMERS During the year ended December 31, 1996 and the nine months ended September 30, 1997, approximately 67% and 31% of the Properties' production was sold to Hunt Refining Company and Southland Oil Company, respectively. During the year ended December 31, 1995, approximately 88% and 10% of the Properties' production was sold to Amerada Hess Corporation and Hunt Refining Company, respectively. While management believes that its relationships with these purchasers is good, any loss of revenue from these purchasers due to nonpayment or late payment by the purchaser would have an adverse effect on the Statement. F-32 141 NOTES TO STATEMENT OF REVENUES AND DIRECT OPERATING EXPENSES OF PROPERTIES -- (CONTINUED) 4. OIL AND NATURAL GAS RESERVES INFORMATION (UNAUDITED) The Properties' proved oil and natural gas reserves at September 30, 1997 and December 31, 1996 and 1995 have been estimated by the Company's petroleum consultants, Netherland & Sewell, in accordance with guidelines established by the Securities and Exchange Commission ("SEC").
OIL GAS ESTIMATED QUANTITIES OF PROVED RESERVES (MBBL) (MMCF) --------------------------------------- -------- ------- January 1, 1995............................................. 31,331.1 3,303.7 Production................................................ 1,321.5 290.6 -------- ------- December 31, 1995........................................... 30,009.6 3,013.1 Production................................................ 1,252.0 245.1 -------- ------- December 31, 1996........................................... 28,757.6 2,768.0 Production................................................ 793.6 160.1 -------- ------- September 30, 1997.......................................... 27,964.0 2,607.9 ======== ======= Proved Developed Reserves: As of January 1, 1995..................................... 17,230.8 3,303.7 As of December 31, 1995................................... 15,909.3 3,013.1 As of December 31, 1996................................... 14,657.3 2,768.0 As of September 30, 1997.................................. 13,863.7 2,607.9
STANDARDIZED MEASURE OF DISCOUNTED FUTURE NET CASH FLOWS AND CHANGES THEREIN RELATED TO OIL AND NATURAL GAS RESERVES The standardized measure of discounted future net cash flows ("Standardized Measure") relating to oil and natural gas reserves acquired is calculated in accordance with regulations prescribed by the SEC. The Standardized Measure has been prepared assuming year-end selling prices adjusted for future fixed and determinable price changes, year-end development and production costs and a 10% annual discount rate. The reserves and the related Standardized Measure at September 30, 1997 were adjusted for production during the nine-months ended September 30, 1997 and the years ended December 31, 1996 and 1995, and in addition, Standardized Measure was also adjusted for price changes to derive reserves and the Standardized Measure as of September 30, 1997, December 31, 1996 and December 31, 1995. The Standardized Measure is not a fair market value of the mineral interests purchased and the Standardized Measure presented for the proved oil and natural gas reserves does not purport to present the fair market value of the oil and natural gas properties. An estimate of such value should consider, among other factors, anticipated future prices of oil and natural gas, the probability of recoveries of existing proved reserves, the value of probable reserves and acreage prospects, and perhaps different discount rates. It should be noted that estimates of reserve quantities are inherently imprecise and subject to substantial revision.
DECEMBER 31, --------------------- SEPTEMBER 30, 1995 1996 1997 --------- --------- ------------- (AMOUNTS IN THOUSANDS) Future cash inflows............................. $ 470,689 $ 613,780 $ 426,489 Future production and development costs......... (201,520) (204,876) (189,243) --------- --------- --------- Future net cash flows undiscounted.............. 269,169 408,904 237,246 10% annual discount for estimated timing of cash flows......................................... (142,503) (203,206) (113,931) --------- --------- --------- Standardized measure of discounted future net cash flows.................................... $ 126,666 $ 205,698 $ 123,315 ========= ========= =========
F-33 142 NOTES TO STATEMENT OF REVENUES AND DIRECT OPERATING EXPENSES OF PROPERTIES -- (CONTINUED) The following are principal sources of changes in the standardized measure of discounted future net cash flows:
YEAR ENDED NINE MONTHS DECEMBER 31, ENDED -------------------- SEPTEMBER 30, 1995 1996 1997 -------- -------- ------------- (AMOUNTS IN THOUSANDS) Standardized measure of discounted future net cash flows at beginning of period.............. $ 97,753 $126,666 $205,698 Changes resulting from: Net change in prices........................... 30,772 83,377 (89,014) Sales of oil and natural gas produced.......... (11,635) (17,012) (8,797) Accretion of discount.......................... 9,776 12,667 15,428 -------- -------- -------- Standardized measure of discounted future net cash flows at end of period.................... $126,666 $205,698 $123,315 ======== ======== ========
F-34 143 PART II INFORMATION NOT REQUIRED IN PROSPECTUS ITEM 14. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION The estimated expenses in connection with the issuance and distribution of the securities being registered (other than underwriting discounts and commissions) are set forth in the following itemized table: SEC Registration Fee........................................ $ * NYSE Filing Fee............................................. * NASD Fee.................................................... * The Toronto Stock Exchange Listing Fee...................... * Luxembourg Stock Exchange Listing Fee....................... * Transfer Agent's Fees....................................... * Blue Sky Fees and Expenses.................................. * Accounting Fees............................................. * Legal Fees and Expenses..................................... * Engineering Fees............................................ * Printing and Engraving Fees and Expenses.................... * Trustee Fees................................................ * Rating Agency Fee........................................... * Miscellaneous............................................... * ------ Total............................................. $ * ======
- --------------- * To be completed by amendment ITEM 15. INDEMNIFICATION OF DIRECTORS AND OFFICERS Canada Section 124(1) of the Canada Business Corporations Act ("CBCA") provides that, except in respect of an action by or on behalf of a corporation or body corporate to procure a judgment in its favor, a corporation may indemnify a director or officer of the corporation, a former director or officer of the corporation or a person who acts or acted at the corporation's request as a director or officer of a body corporate of which the corporation is or was a shareholder or creditor, and his heirs and legal representatives, against all costs, charges, and expenses, including an amount paid to settle an action or satisfy a judgment, reasonably incurred by him in respect of any civil, criminal or administrative action or proceeding to which he is made a party by reason of being or having been a director or officer of such corporation or body corporate, if: (a) he acted honestly and in good faith with a view to the best interests of the corporation; and (b) in a case of a criminal or administrative action or proceeding that is enforced by a monetary penalty, he had reasonable grounds for believing that his conduct was lawful. Section 124(2) of the CBCA provides that even if such a person is named in an action by or on behalf of the corporation or body corporate to procure a judgment in its favor, a corporation may indemnify such a person with court approval if such person meets the standards set forth in Section 124(1). Additionally, a person named in Section 124(1) is entitled to indemnity from the corporation if the person seeking indemnity: (a) was substantially successful on the merits in his defense of the action or proceeding; and (b) fulfills the conditions set forth above. Section 5.02 of DRI's Bylaws contains the same standards set forth in Section 124(1), but makes indemnification in such circumstances mandatory by DRI. II-1 144 Texas DMI has authority under Articles 2.02(A)(16) and 2.02-1 of the Texas Business Corporation Act (the "TBCA") to indemnify its directors and officers to the extent provided for in such statute. Section 3.06 of DMI's Bylaws provides that the board of directors of DMI may authorize DMI to pay expenses incurred by, so as to satisfy a judgment or fine rendered or levied against, present or former directors, officers or employees of DMI as provided by Article 2.02(A)(16) of the TBCA. The TBCA provides in part that a corporation may indemnify a director or officer or other person who was, is, or is threatened to be made a named defendant or respondent in a proceeding because the person is or was a director, officer, employee or agent of the corporation, if it is determined that (i) such person conducted himself in good faith; (ii) reasonably believed, in the case of conduct in his official capacity as a director or officer of the corporation, that his conduct was in the corporation's best interest, and, in all other cases, that his conduct was not opposed to the corporation's best interests; and (iii) in the case of any criminal proceeding, had no reasonable cause to believe that his conduct was unlawful. A corporation may indemnify a person under the TBCA against judgments, penalties (including excise and similar taxes), fines, settlements, and reasonable expenses actually incurred by the person in connection with the proceeding. If the person is found liable to the corporation or is found liable on the basis that personal benefit was improperly received by the person, the indemnification is limited to reasonable expenses actually incurred by the person in connection with the proceeding, and shall not be made in respect of any proceeding in which the person shall have been found liable for willful or intentional misconduct in the performance of his duty to the corporation. A corporation may also pay or reimburse expenses incurred by a person in connection with his appearance as a witness or other participation in a proceeding at a time when he is not a named defendant or respondent in the proceeding. In addition to the above provisions, both DRI and DMI have also entered into an indemnity agreement with their officers and directors, which, subject to the CBCA and TBCA, respectively, sets forth the procedures by which a person may seek indemnity and clarifies the situations in which a person may be entitled to indemnity by DRI or DMI, both. Effective in August 1997, the Company modified the directors and officers insurance covering each of its officers and directors. The insurance provides up to $15 million of coverage for the officers and directors with deductibles ranging from zero to $350,000, depending on the type of claim, and $15 million of coverage for the Company. The Company has paid for 100% of the cost of this insurance. ITEM 16. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES (a) Exhibits.
EXHIBIT NO. DESCRIPTION OF EXHIBIT ----------- ---------------------- 1(a)** -- Form of Underwriting Agreement relating to Equity Offering. 1(b)** -- Form of Underwriting Agreement relating to Debt Offering. 3(a) -- Articles of Continuance of Denbury Resources Inc., as amended (incorporated by reference as Exhibits 3(a), 3(b), 3(c), 3(d) of DRI's Registration Statement on Form F-1 dated August 25, 1995, Exhibit 4(e) of DRI's Registration Statement on Form S-8 dated February 2, 1996 and Exhibit 3(a) of the Pre-effective Amendment No. 2 of DRI's Registration Statement on Form S-1 dated October 22, 1996).
II-2 145
EXHIBIT NO. DESCRIPTION OF EXHIBIT ----------- ---------------------- 3(b) -- General By-Law No. 1: A By-Law Relating Generally to the Conduct of the Affairs of Denbury Resources Inc., as amended (incorporated by reference as Exhibit 3(e) of DRI's Registration Statement on Form F-1 dated August 25, 1995, Exhibit 4(d) of the Registrant's Registration Statement on Form S-8 dated February 2, 1996. 3(c)** -- Restated Articles of Incorporation of Denbury Management, Inc. 3(d)** -- Bylaws of Denbury Management, Inc. 4(a) -- See Exhibits 3(a), 3(b), 3(c) and 3(d) for provisions of the Articles of Continuance and General By-Law No. 1 of DRI defining the rights of the holders of Common Shares. 4(b)** -- Indenture dated as of , 1998, between DMI and , as trustee. 5(a)** -- Opinion of Burnet, Duckworth & Palmer. 5(b)** -- Opinion of Jenkens & Gilchrist, a Professional Corporation. 10(a)** -- Form of First Restated Credit Agreement, by and among DMI, as borrower, DRI as guarantor, NationsBank of Texas, N.A., as administrative agent, Nationsbanc Montgomery Securities, Inc., as syndication agent and arranger and the financial institutions listed on Schedule I thereto, as banks, to be executed on December 29, 1997. 12* -- Statement of Ratio of Earnings to Fixed Charges. 23(a)* -- Consent of Deloitte & Touche 23(b)* -- Consent of Price Waterhouse LLP 23(c)** -- Consent of Netherland, Sewell and Associates. 23(d)** -- Consent of Burnet, Duckworth & Palmer (contained in its opinion filed as Exhibit 5.a). 23(e)** -- Consent of Jenkens & Gilchrist, a Professional Corporation (contained in its opinion filed as Exhibit 5(b)). 24(a)* -- Power of Attorney (contained on the signature page of this Registration Statement). 25.1** -- Statement of Eligibility of , as Trustee.
- --------------- * Filed herewith. ** To be filed by amendment. (b) Financial Statements and Schedules.
PAGE ------------ Independent Auditors' Report................................ II-7 Schedule I -- Condensed Financial Information of Registrant................................................ II-8 thru 11
ITEM 17. UNDERTAKINGS Insofar as indemnification for liabilities arising under the Securities Act of 1933 may be permitted to directors, officers and controlling persons of the Registrants pursuant to the provisions described in Item 15 above, or otherwise, the Registrants has been advised that in the opinion of the Securities and Exchange Commission such indemnification is against public policy as expressed in the Act and is, therefore, unenforceable. In the event that a claim for indemnification against such liabilities (other than the payment by the Registrants of expenses incurred or paid by a director, officer or controlling person of the Registrants in the successful defense of any action, suit or proceeding) is asserted by such director, officer or controlling person II-3 146 in connection with the securities being registered, the Registrants will, unless in the opinion of their counsel the matter has been settled by controlling precedent, submit to a court of appropriate jurisdiction the question whether such indemnification by it is against public policy as expressed in the Act and will be governed by the final adjudication of such issue. The undersigned Registrants hereby undertake: (1) For purposes of determining any liability under the Securities Act of 1933, the information omitted from the form of prospectus filed as part of this registration statement in reliance upon Rule 430A and contained in a form of prospectus filed by the registrant pursuant to Rule 424(b)(1) or (4) or 497(h) under the Securities Act shall be deemed to be part of this registration statement as of the time it was declared effective. (2) For the purpose of determining any liability under the Securities Act of 1933, each post-effective amendment that contains a form of prospectus shall be deemed to be a new registration statement relating to the securities offered therein, and the offering of such securities at that time shall be deemed to be the initial bona fide offer thereof. II-4 147 SIGNATURES Pursuant to the requirements of the Securities Act of 1933, as amended, the Registrants certified that they have reasonable grounds to believe that they meet all of the requirements for filing on Form S-3 and have duly caused this Registration Statement No. to be signed on their behalf by the undersigned, thereunto duly authorized, in the City of Dallas, State of Texas, on December 23, 1997. DENBURY RESOURCES INC. By: /s/ PHIL RYKHOEK ---------------------------------- Phil Rykhoek Chief Financial Officer DENBURY MANAGEMENT, INC. By: /s/ PHIL RYKHOEK ---------------------------------- Phil Rykhoek Chief Financial Officer Each person whose signature appears below as a signatory to this Registration Statement constitutes and appoints Gareth Roberts and Phil Rykhoek, or either one of them, his true and lawful attorney-in-fact and agent with full power of substitution and resubstitution, for him and in his name, place and stead, in any and all capacities, to sign any and all amendments to this Registration Statement, and to file the same, with all exhibits thereto, and all other documents in connection therewith, with the Securities and Exchange Commission, granting unto said attorney-in-fact and agent, full power and authority to do and perform each and every act and thing requisite and necessary to be done in and about the premises, as fully to all intents and purposes as he might or could do in person, hereby ratifying and confirming all that said attorney-in-fact and agent or his substitute may lawfully do or cause to be done by virtue hereof. Pursuant to the requirements of the Securities Act of 1933, as amended, this Registration Statement has been signed by the following persons in the capacities and on the dates indicated, in multiple counterparts with the effect of one original.
SIGNATURES TITLE DATE ---------- ----- ---- /s/ GARETH ROBERTS President, Chief Executive December 23, 1997 - ----------------------------------------------------- Officer and Director of Gareth Roberts DRI (Principal Executive Officer) /s/ PHIL RYKHOEK Chief Financial Officer, December 23, 1997 - ----------------------------------------------------- Secretary and Phil Rykhoek Authorized Representative of DRI (Principal Financial Officer) /s/ BOBBY J. BISHOP Controller and Chief December 23, 1997 - ----------------------------------------------------- Accounting Officer of DRI Bobby J. Bishop (Principal Accounting Officer) /s/ RONALD G. GREENE Chairman of the Board and December 23, 1997 - ----------------------------------------------------- Director of DRI Ronald G. Greene /s/ WIELAND WETTSTEIN Director of DRI December 23, 1997 - ----------------------------------------------------- Wieland Wettstein
II-5 148 /s/ WILMOT MATTHEWS Director of DRI December 23, 1997 - ------------------------------------------------------ Wilmot Matthews /s/ GARETH ROBERTS President, Chief Executive Officer December 23, 1997 - ------------------------------------------------------ and Director of DMI (Principal Gareth Roberts Executive Officer) /s/ PHIL RYKHOEK Chief Financial Officer and December 23, 1997 - ------------------------------------------------------ Secretary and Phil Rykhoek Director of DMI (Principal Financial Officer) /s/ BOBBY J. BISHOP Controller and Chief Accounting December 23, 1997 - ------------------------------------------------------ Officer of DMI (Principal Bobby J. Bishop Accounting Officer) /s/ MATTHEW DESO Vice President, Exploration and December 23, 1997 - ------------------------------------------------------ Director of DMI Matthew Deso /s/ MARK WORTHEY Vice President, Operations and December 23, 1997 - ------------------------------------------------------ Director of DMI Mark Worthey
II-6 149 INDEPENDENT AUDITORS' REPORT To the Shareholders of Denbury Resources Inc. We have audited the consolidated financial statements of Denbury Resources Inc. as at December 31, 1995 and 1996 and for each of the three years in the period ended December 31, 1996 and have issued our report thereon dated February 21, 1997, such consolidated financial statements and report are included elsewhere in this registration statement on Form S-3. Our audits also included the Schedule I -- Condensed Financial Information of Denbury Resources Inc. listed in Item 16. This financial statement schedule is the responsibility of the Company's management. Our responsibility is to express an opinion based on our audits. We conducted our audits in accordance with the auditing standards generally accepted in Canada and the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance whether the financial statements are free of material misstatements. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. In our opinion, such financial statement schedule, when considered in relation to the basic consolidated financial statements taken as a whole, present fairly in all material respects the information set forth therein. Deloitte & Touche Chartered Accountants Calgary, Alberta February 21, 1997 II-7 150 SCHEDULE I -- CONDENSED FINANCIAL INFORMATION OF REGISTRANT DENBURY RESOURCES INC. UNCONSOLIDATED BALANCE SHEETS (AMOUNTS IN THOUSANDS OF U.S. DOLLARS) ASSETS
DECEMBER 31, ------------------- 1995 1996 ------- -------- Current assets Cash and cash equivalents................................. $ 8 $ 274 Trade and other receivables............................... 7 6 ------- -------- Total current assets.............................. 15 280 ------- -------- Investment in subsidiaries (equity method).................. 70,130 140,763 Loan receivable from subsidiary............................. 1,563 1,558 Other assets................................................ 28 2 ------- -------- Total assets...................................... $71,736 $142,603 ======= ======== LIABILITIES AND SHAREHOLDERS' EQUITY Current liabilities Accounts payable and accrued liabilities.................. $ 9 $ 99 Long-term debt.............................................. 3,226 -- ------- -------- 3,235 99 ------- -------- Convertible First Preferred Shares, Series A 1,500,000 shares authorized; issued and outstanding at December 31, 1995...................................... 15,000 -- ------- -------- Shareholders' equity Common shares, no par value unlimited shares authorized; outstanding -- 20,055,757 shares at December 31, 1996 and 11,428,809 shares at December 31, 1995............. 50,064 130,323 Retained earnings......................................... 3,437 12,181 ------- -------- Total shareholders' equity........................ 53,501 142,504 ------- -------- Total liabilities and shareholders' equity........ $71,736 $142,603 ======= ========
See Notes to Financial Statements. II-8 151 SCHEDULE I -- CONDENSED FINANCIAL INFORMATION OF REGISTRANT DENBURY RESOURCES INC. UNCONSOLIDATED STATEMENTS OF INCOME (AMOUNTS IN THOUSANDS EXCEPT PER SHARE AMOUNTS) (U.S. DOLLARS)
YEAR ENDED DECEMBER 31, ------------------------- 1994 1995 1996 ------ ------ ------- Revenues Oil, natural gas and related product sales................ $ -- $ -- $ -- Interest income........................................... 1 460 179 ------ ------ ------- Total revenues.................................... 1 460 179 ------ ------ ------- Expenses General and administrative................................ 149 178 161 Interest.................................................. 76 282 304 Imputed preferred dividends............................... -- -- 1,281 Depletion and depreciation................................ 2 -- -- ------ ------ ------- Total expenses.................................... 227 460 1,746 ------ ------ ------- Income before the following................................. (226) -- (1,567) Equity in net earnings of subsidiaries.................... 1,389 714 10,311 ------ ------ ------- Income before income taxes.................................. 1,163 714 8,744 Provision for federal income taxes.......................... -- -- -- ------ ------ ------- Net income........................................ $1,163 $ 714 $ 8,744 ====== ====== ======= Net income per common share Primary................................................... $ 0.19 $ 0.10 $ 0.67 Fully diluted............................................. 0.19 0.10 0.62 ====== ====== ======= Average number of common shares outstanding................. 6,240 6,870 13,104 ====== ====== =======
See Notes to Financial Statements II-9 152 DENBURY RESOURCES INC. UNCONSOLIDATED STATEMENTS OF CASH FLOWS (AMOUNTS IN THOUSANDS OF U.S. DOLLARS)
YEAR ENDED DECEMBER 31, ------------------------------- 1994 1995 1996 ------- -------- -------- Cash flow from operating activities: Net income................................................ $ 1,163 $ 714 $ 8,744 Adjustments needed to reconcile to net cash flow provided by operations: Depreciation, depletion and amortization............... 2 -- -- Imputed preferred dividend............................. -- -- 1,281 Other.................................................. 9 17 114 Equity on net earnings of subsidiaries................. (1,389) (714) (10,311) ------- -------- -------- (215) 17 (172) Changes in working capital items relating to operations: Trade and other receivables............................ 8 (4) -- Accounts payable and accrued liabilities............... (77) (12) 90 ------- -------- -------- Net cash flow provided by operations........................ (284) 1 (82) ------- -------- -------- Cash flow from investing activities: Investments in subsidiaries............................ (1,518) (43,569) (60,316) Net purchases of other assets.......................... (15) 7 -- ------- -------- -------- Net cash used for investing activities...................... (1,533) (43,562) (60,316) ------- -------- -------- Cash flow from financing activities: Issuance of subordinated debt.......................... 1,451 1,772 -- Issuance of common stock............................... 367 26,825 60,664 Issuance of preferred stock............................ -- 15,000 -- Costs of debt financing................................ -- (35) -- ------- -------- -------- Net cash provided by financing activities................... 1,818 43,562 60,664 ------- -------- -------- Net increase (decrease) in cash and cash equivalents........ 1 1 266 Cash and cash equivalents at beginning of year.............. 6 7 8 ------- -------- -------- Cash and cash equivalents at end of year.................... $ 7 $ 8 $ 274 ======= ======== ======== Supplemental disclosure of cash flow information: Cash paid during the year for interest................. $ 76 $ 282 $ 277
II-10 153 DENBURY RESOURCES INC. SCHEDULE I -- CONDENSED FINANCIAL INFORMATION OF REGISTRATION NOTES TO FINANCIAL STATEMENTS NOTE 1. ACCOUNTING POLICIES Consolidation -- The financial statements of Denbury Resources Inc. have been prepared in accordance with Canadian generally accepted accounting principles and reflect the investment in subsidiaries using the equity method. Income Taxes -- No provision for income taxes has been made in the Statement of Income because the Company has losses for Canadian tax purposes. NOTE 2. CONSOLIDATED FINANCIAL STATEMENTS Reference is made to the Consolidated Financial Statements and related notes of Denbury Resources Inc. and Subsidiaries for additional information. NOTE 3. DEBT AND GUARANTEES Information on the long-term debt of Denbury Resources Inc. is disclosed in Note 3 to the Consolidated Financial Statements. Denbury Resources Inc. has guaranteed the subsidiaries' bank credit line. NOTE 4. DIVIDENDS RECEIVED Subsidiaries' of Denbury Resources Inc. do not make formal cash dividend declarations and distributions to the parent and are currently restricted from doing so under the subsidiaries bank loan agreement. II-11 154 EXHIBIT INDEX
EXHIBIT NO. DESCRIPTION OF EXHIBIT ----------- ---------------------- 1(a)** -- Form of Underwriting Agreement relating to Equity Offering. 1(b)** -- Form of Underwriting Agreement relating to Debt Offering. 3(a) -- Articles of Continuance of Denbury Resources Inc., as amended (incorporated by reference as Exhibits 3(a), 3(b), 3(c), 3(d) of DRI's Registration Statement on Form F-1 dated August 25, 1995, Exhibit 4(e) of DRI's Registration Statement on Form S-8 dated February 2, 1996 and Exhibit 3(a) of the Pre-effective Amendment No. 2 of DRI's Registration Statement on Form S-1 dated October 22, 1996). 3(b) -- General By-Law No. 1: A By-Law Relating Generally to the Conduct of the Affairs of Denbury Resources Inc., as amended (incorporated by reference as Exhibit 3(e) of DRI's Registration Statement on Form F-1 dated August 25, 1995, Exhibit 4(d) of the Registrant's Registration Statement on Form S-8 dated February 2, 1996. 3(c)** -- Restated Articles of Incorporation of Denbury Management, Inc. 3(d)** -- Bylaws of Denbury Management, Inc. 4(a) -- See Exhibits 3(a), 3(b), 3(c) and 3(d) for provisions of the Articles of Continuance and General By-Law No. 1 of DRI defining the rights of the holders of Common Shares. 4(b)** -- Indenture dated as of , 1998, between DMI and , as trustee. 5(a)** -- Opinion of Burnet, Duckworth & Palmer. 5(b)** -- Opinion of Jenkens & Gilchrist, a Professional Corporation. 10(a)** -- Form of First Restated Credit Agreement, by and among DMI, as borrower, DRI as guarantor, NationsBank of Texas, N.A., as administrative agent, Nationsbanc Montgomery Securities, Inc., as syndication agent and arranger and the financial institutions listed on Schedule I thereto, as banks, to be executed on December 29, 1997. 12* -- Statement of Ratio of Earnings to Fixed Charges. 23(a)* -- Consent of Deloitte & Touche 23(b)* -- Consent of Price Waterhouse LLP 23(c)** -- Consent of Netherland, Sewell and Associates. 23(d)** -- Consent of Burnet, Duckworth & Palmer (contained in its opinion filed as Exhibit 5.a). 23(e)** -- Consent of Jenkens & Gilchrist, a Professional Corporation (contained in its opinion filed as Exhibit 5(b)). 24(a)* -- Power of Attorney (contained on the signature page of this Registration Statement). 25.1** -- Statement of Eligibility of , as Trustee.
- --------------- * Filed herewith. ** To be filed by amendment. EX-12 2 RATIO OF EARNINGS TO FIXED CHARGES 1 EXHIBIT 12 DENBURY RESOURCES INC. COMPUTATION OF RATIO OF EARNINGS TO FIXED CHARGES
NINE MONTHS ENDED YEARS ENDED DECEMBER 31, SEPTEMBER 30, ------------------------------------------------------ ----------------------------- PRO FORMA PRO FORMA 1992 1993 1994 1995 1996 1996 1996 1997 1997 ----- ------ ------ ------ ------- --------- ------- ------- --------- Earnings: Pretax income from continuing operations........................... $(335) $1,114 $1,881 $1,081 $14,056 $13,560 $ 7,272 $16,878 $13,829 Fixed charges............................ 18 99 1,180 2,161 4,080 14,314 3,385 498 8,005 ----- ------ ------ ------ ------- ------- ------- ------- ------- Earnings............................. (317) 1,213 3,061 3,242 18,136 27,874 10,657 17,376 21,834 ----- ------ ------ ------ ------- ------- ------- ------- ------- Fixed Charges: Interest expense....................... 8 83 1,146 2,085 1,993 12,227 1,530 387 7,894 Interest component of rent expense..... 10 16 34 76 116 116 81 111 111 Imputed preferred divided.............. -- -- -- -- 1,281 1,281 1,153 -- -- Preferred dividend tax effect.......... -- -- -- -- 690 690 621 -- -- ----- ------ ------ ------ ------- ------- ------- ------- ------- Fixed charges........................ $ 18 $ 99 $1,180 $2,161 $ 4,080 $14,314 $ 3,385 $ 498 $ 8,005 ----- ------ ------ ------ ------- ------- ------- ------- ------- Ratio of earnings to fixed............... (a) 12.3 2.6 1.5 4.4 1.9 3.1 34.9 2.7 ===== ====== ====== ====== ======= ======= ======= ======= =======
- --------------- (a) Earnings were inadequate to cover fixed charges as there was a $317,000 deficiency. EX-23.(A) 3 CONSENT OF DELOITTE & TOUCHE 1 EXHIBIT 23(A) INDEPENDENT AUDITORS' CONSENT We consent to the use in this Registration Statement of Denbury Resources Inc. on Form S-3 of our report dated February 21, 1997, on the consolidated financial statements of Denbury Resources Inc., appearing and incorporated by reference in the prospectus, which is part of this Registration Statement and of our report dated February 21, 1997, relating to the financial statement schedule appearing elsewhere and incorporated by reference in the Registration Statement. We also consent to the reference to us under the heading "Experts" in such Prospectus. DELOITTE & TOUCHE Chartered Accountants Calgary, Alberta December 22, 1997 EX-23.(B) 4 CONSENT OF PRICE WATERHOUSE LLP 1 EXHIBIT 23(B) CONSENT OF INDEPENDENT ACCOUNTANTS We hereby consent to the use in the Prospectus constituting part of this Registration Statement on Form S-3 of Denbury Resources Inc. of our report dated December 19, 1997 relating to the statement of revenues and direct operating expenses of Chevron U.S.A. Inc's working interest in the Heidelberg Fields acquired by Denbury Resources Inc., which appears in such Prospectus. We also consent to the reference to us under the heading "Experts" in such Prospectus. PRICE WATERHOUSE LLP San Francisco, California December 19, 1997 -----END PRIVACY-ENHANCED MESSAGE-----