UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
___________________
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the Fiscal Year ended: December 31, 2003
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
Commission File No. 0-17204
______________________
INFINITY, INC.
(Exact Name of Small Business Issuer as Specified in its Charter)
Colorado 84-1070066
(State or of Incorporation) (I.R.S. Employer Identification Number)
211 West 14th Street, Chanute, Kansas 66720
(Address of Principal Executive Offices, Including Zip Code)
(620) 431-6200
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act: NONE
Securities registered pursuant to Section 12(g) of the Act: COMMON STOCK
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K, is not contained herein and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]
Indicate by check mark whether the registrant is an accelerated filer(as
defined in Rule 12B-2 of the Act). Yes [ ] No [X]
As of April 12, 2004, 9,396,091 of the Registrant's $0.0001 Par Value
Common Stock were outstanding. The aggregate market value of voting and
non-voting common equity held by non-affiliates as of June 30, 2003 was
approximately $49,456,971 based upon a closing price of $6.05 per share as
reported on the NASDAQ National Market.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Registrant's Definitive Proxy Statement to be filed with
the Securities and Exchange Commission pursuant to Regulation 14A in connection
with the 2004 Annual Meeting of Shareholders are incorporated by reference in
Part III of this Report on Form 10-K.
PART I
ITEM 1. DESCRIPTION OF BUSINESS
BUSINESS DEVELOPMENT
Infinity, Inc. ("Infinity") was organized as a Colorado corporation on
April 2, 1987. Infinity is an independent energy company primarily engaged in
the operation, development, production, exploration and acquisition of North
American unconventional natural gas properties and providing oil field services
in eastern Kansas, northeastern Oklahoma and the Powder River Basin of Wyoming.
As used herein, "Infinity", "we" and "our" refer collectively to Infinity,
Inc., its predecessors, subsidiaries and affiliates as to one or more of them as
the context may require.
The following table sets forth the operating subsidiaries of Infinity by
type of business activity. Each of these subsidiaries is 100% owned. Additional
information about the activities of each subsidiary follows:
OIL AND GAS OIL FIELD CORPORATE
EXPLORATION AND PRODUCTION SERVICE SERVICES
- -------------------------- ------------------- -------------
Infinity Oil and Gas Consolidated Oil CIS-Oklahoma,
of Wyoming, Inc. Well Services, Inc. Inc.
Infinity Oil and Gas
of Kansas, Inc.
Consolidated Oil Well Services, Inc. ("Consolidated") acquired assets
necessary to provide oil field services in Eastern Kansas and Northeastern
Oklahoma in January 1994. Consolidated expanded its operations into
northeastern Wyoming with the acquisition of Powder River Cementers, LLC during
September 1999. In November 2001 Consolidated expanded its operations into
South Central Wyoming by leasing operating facilities near, and transferring
service equipment to Rock Springs, Wyoming. Due to the decrease in the number
of wells being drilled by an affiliated company, Consolidated closed its Rock
Springs, Wyoming facility, terminated its lease on the operating facilities and
transferred its service equipment to its other locations in December 2003. This
entity provides fracturing, cementing, and acidizing services as well as
trucking of fluids to its oil field customers.
Infinity Oil and Gas of Kansas, Inc. ("Infinity-Kansas") owns a 31.25%
interest through a capital contribution in the Little Bear Creek prospect in
southwest Kansas. This prospect is an undeveloped, 5,120 acre river sand
prospect operated by an unrelated third party, IGWT, Inc. Infinity-Kansas has
invested approximately $56,000 in leasehold and approximately $187,000 in 3-D
seismic and the drilling of three wells on the prospect during the years ended
December 31, 2003 and 2002. None of the wells drilled to date have been economic
and the operator is evaluating the results of drilling programs on adjacent
acreage before taking any further action. The results of the drilling programs
on the adjacent acreage should be available in the second quarter of 2004.
Depending on the results of those programs there is a potential that that the
operator will abandon the prospect and Infinity-Kansas will reclassify the
$56,000 in leasehold investment to the full cost pool subject to depletion.
Infinity-Kansas does not have investment in any other oil and gas prospects.
Infinity Oil & Gas of Wyoming, Inc. ("Infinity-Wyoming") is an independent
energy company engaged in the acquisition, exploration, development,
exploitation and production of crude oil and natural gas in the continental
United States.
Infinity-Wyoming was incorporated in January 2000 for the purpose of
acquiring properties with the intent of exploring for coal bed methane.
Historically, we have developed our proven oil and gas reserves and increased
production primarily through acquiring oil and gas leaseholds and drilling wells
to exploit and develop tight sand and coalbed methane properties. We believe the
probability that such properties have hydrocarbons in place is relatively high
and the viability of establishing commercially producible reserves is largely
dependent on several factors, including: the market price for oil and gas; the
costs of development, production and marketing; and determination of the amount
of recoverable reserves and the rate at which such reserves can be extracted. To
a lesser extent, we have added proved reserves through acquisition of properties
with proved developed reserves.
At December 31, 2003, Infinity-Wyoming had 8.7 billion cubic feet
equivalent ("Bcfe") of proved reserves having a pretax present value based upon
a discount rate of 10% of approximately $23.0 million based upon unescalated
prices and costs. This valuation reflected average wellhead prices of $6.06 per
Mcf for natural gas and $31.34 per barrel for crude oil at year-end.
Approximately 95% of our proved oil and gas reserves were associated with
tight sand properties on the Wamsutter Arch in the Greater Green River Basin in
Wyoming. The balance of our proved reserves at the end of 2003 related to one
property in the Sand Wash Basin in Colorado.
At December 31, 2003, Infinity-Wyoming operated 13 of the 15 properties
that were assigned proved developed oil and gas reserves. Effective March 1,
2004, Infinity-Wyoming assumed operations of the two previously non-operated
properties which contained proved developed oil and gas reserves. An additional
11 properties were assigned proved undeveloped reserves at December 31, 2003.
Operating the oil and gas properties in which it owns an interest allows
Infinity-Wyoming to exercise greater control over operating costs, capital
expenditures and the timing of exploration, development and exploitation
activities.
During 2003, Infinity-Wyoming produced 1.4 Bcfe of gas, comprised of 1.1
Bcf of natural gas and 57,700 barrels of crude oil. Approximately 98% of this
production was from the Pipeline field on the Wamsutter Arch in the Greater
Green River Basin. Total revenue from product sales totaled $6.6 million,
comprised of natural gas sales of $4.8 million, or $4.47 per mcf, and crude oil
sales of $1.8 million, or $30.51 per barrel.
CIS-Oklahoma, Inc. owns the real property and facilities that Infinity and
Consolidated occupy in Chanute and Ottawa, Kansas, Bartlesville, Oklahoma and
Gillette, Wyoming. In addition to the purchase of the original facilities, the
Bartlesville, Oklahoma facility was expanded in 2002 with the completion of a
new office and shop facility at a cost of approximately $438,000. These
properties were purchased with the proceeds from and serve as collateral for
loans that were established with a local bank.
Infinity Nicaragua Ltd. and Infinity Nicaragua Offshore Ltd. (the Infinity
Nicaragua companies) are wholly owned subsidiaries of Infinity and incorporated
in the Bahamas. The Infinity Nicaragua companies together own a majority
interest in Rio Grande Resources S.A. ("Rio Grande"). Rio Grande is a Nicaraguan
company. Pursuant to Nicaraguan law, Nicaraguan companies must have a minimum of
three shareholders and there are three shareholders of Rio Grande. The Infinity
Nicaraguan companies own 98.2% of Rio Grande. Rio Grande was awarded concessions
to develop two offshore blocks in Nicaragua. The Instituto Nicaraguense de
Energia ("INE"), the Nicaraguan governmental entity regulating oil and gas
activities, refused to recognize the concessions awarded to Rio Grande and the
Nicaragua Supreme Court declared them void. As a result, the Infinity Nicaragua
companies currently hold no ownership interest in valid leases in Nicaragua and
are no longer active subsidiaries of Infinity. However, the relationships that
were built with INE and the geological and geophysical research that was done
helped Infinity to become one of only six companies qualified to bid on the
first international bidding round held by INE in January 2003. Infinity was
awarded the bid on 24 blocks of acreage, comprised of over one million acres,
and immediately entered into negotiations with INE to finalize the initial
exploration plan for the Tyra and Perlas prospects. Infinity anticipates the
completion of the negotiations and the assignment of the concessions during
2004.
For a discussion of the development of the Company's business and a
description of the oil field service properties and oil and gas properties by
geographic area, see "Item 2. Properties".
BUSINESS ACTIVITIES
Infinity is primarily engaged in providing oil and gas well services
through Consolidated and in the identification, acquisition, and development of
oil and gas properties through Infinity-Kansas and Infinity-Wyoming.
Consolidated also operates a wastewater treatment facility on a limited
basis.
2
Consolidated provides services associated with drilling and completion of
oil and gas wells, including cementing, acidizing, fracturing, nitrogen pumping
and water hauling. Consolidated previously provided on-site remediation services
for hazardous and non-hazardous waste, and operated a centralized water
treatment facility and facilities to treat brine water produced by oil and gas
wells. The Cheyenne, Wyoming waste-water treatment facility operates on a
limited basis.
The Infinity-Kansas and Infinity-Wyoming subsidiaries are engaged in the
acquisition and development of oil and gas properties. Infinity-Kansas' current
interest is in a partner operated River Sand property in southwest Kansas.
Infinity-Wyoming owns and operates the Pipeline and Labarge gas prospects in the
Greater Green River Basin of southwest Wyoming and the Sand Wash and Piceance
Basins of Colorado. For a complete description of the properties and the
activities related to these properties see "Item 2. Description of Property -
Oil and Gas Interest in Leasehold Acreage."
Specific information about the revenue, profitability and assets of each
business segment can be found in Note 14 to the Consolidated Financial
Statements contained in this Form 10-K at page F-1.
CUSTOMERS AND MARKETS
Oil Field Services
Consolidated provides its services to oil and gas developers and lease
operators throughout eastern Kansas and northeast Oklahoma which includes the
Forest City and Cherokee Basins and in the Powder River Basin of Wyoming.
Consolidated also provides these services in the Arkoma basin of eastern
Oklahoma and provides well cementing services to water well drillers in
Missouri, Kansas and Oklahoma.
Consolidated provided services to approximately 400 customers during the
calendar year ended December 31, 2003, to approximately 380 customers for the
calendar year ended December 31, 2002 and to over 350 customers during the nine
month transition period ended December 31, 2001. The following table sets out
information about Consolidated's major customers during each of these periods:
PERCENT PERCENT OF
OF OILFIELD
CUSTOMER AREAS OF OPERATION REVENUE TOTAL SERVICE
- ---------------------- --------------------- ------------ ------- ----------
2003
----
A Northeastern Oklahoma $1.1 million 6% 10%
B Eastern Kansas $0.9 million 5% 8%
2002
----
C Eastern Kansas/ $1.6 million 14% 18%
Northeastern Oklahoma
2001 TRANSITION PERIOD
----------------------
D Northeastern Oklahoma $1.3 million 11% 14%
E Powder River, Wyoming $1.3 million 11% 14%
Consolidated also provided services to Infinity-Wyoming which resulted in
eliminated inter-company revenue of approximately $2.1 million in the year ended
December 31, 2002 and $0.5 million for the nine months ended December 31, 2001.
The amount of revenue earned by Consolidated from inter-company sales was less
than $20,000 during the year ended December 31, 2003. Consolidated has no
long-term service contracts with any customers and we do not believe that a loss
of any one of our customers will have a prolonged material adverse effect on
Consolidated's business. However, the loss of several customers in any location
or a rapid, significant change in oil and gas prices to the extent that
customers curtail their development activities could have a material adverse
impact on our financial and operating results.
3
EXPLORATION AND PRODUCTION
Infinity-Wyoming sells gas from the Pipeline project to Duke Energy Field
Services ("Duke"). A portion of its gas is sold to Duke on a forward contract
basis with the remainder being sold at the Inside FERC, first of the month CIG
Index, a published pricing index on which gas sales contracts in the Rocky
Mountains are generally based. Infinity-Wyoming enters into the contracts to
hedge its production when market conditions are deemed favorable in order to
manage price fluctuations and achieve a more predictable cash flow. The
following table identifies the three contracts that were in place during the
year ended December 31, 2003 and the two contracts that were put in place
subsequent to that date.
DAILY
BEGINNING ENDING CONTRACT CONTRACT
DATE DATE VOLUME PRICE
- ---------------- ------------------ ----------- -----------
October 1, 2002 September 30, 2003 1,000 MMBTU $2.97/MMBTU
November 1, 2002 March 31, 2003 1,000 MMBTU $3.00/MMBTU
April 1, 2003 March 31, 2004 3,500 MMBTU $4.71/MMBTU
April 1, 2004 March 31, 2005 2,000 MMBTU $4.40/MMBTU
April 1, 2005 March 31, 2006 2,000 MMBTU $4.15/MMBTU
(1) MMBTU of gas is equivalent to 1,000,000 British thermal units, a standard
measure of the heating value of the gas. The gas produced from the Pipeline
project contains about 1,100 British Thermal Units ("BTU") per cubic foot of
gas.)
Oil production from the Pipeline wells is sold at the NYMEX posted price
less $0.75 per barrel. For December 2003 this was a price of $31.51 per barrel
of oil.
The following table shows the total sales of oil and gas production and the
percentage of consolidated revenue that the value represented for each of the
years ended December 31, 2003 and 2002 and nine month transition period ended
December 31, 2001.
OIL AND GAS PERCENTAGE OF
PERIOD REVENUE TOTAL REVENUE
- ------ ------------ --------------
2003 $6.6 million 36%
2002 $2.4 million 22%
2001 $1.8 million 15%
Based on the general demand for oil and natural gas, Infinity does not
believe that a loss of any customer would have a material adverse effect on its
business.
COMPETITION
Infinity and its subsidiaries compete in virtually all facets of their
businesses with numerous other companies, including many that have significantly
greater financial and other resources. Such competitors may be able to pay more
for desirable oil and gas leases and to evaluate, bid for, and purchase a
greater number of properties than the financial or personnel resources of
Infinity permit. The oil field service competitors may be able to invest more
resources in research and development of new completion techniques and acquire
additional equipment to allow them to dedicate resources to a customer in a way
that Consolidated is unable to.
Consolidated's competition in eastern Kansas consist mainly of Cudd Pumping
Services and Blue Star Acid Services. In northeastern Oklahoma, Consolidated
competes with Cudd Pumping Services, BJ Services, Oklahoma Oil Well Fracturing
and several small local companies. Consolidated believes that its bulk materials
facilities, experienced work force, and well maintained fleet of service
vehicles puts it in a competitive position to maintain revenues in these
locations.
4
Consolidated continues to see competition from three major service
companies: Halliburton, BJ Services, and Schlumberger throughout Wyoming; and
numerous smaller cementing companies in northeastern Wyoming. Consolidated may
be at a competitive disadvantage when compared to the major companies that are
well established with substantial financial resources. These companies can
redirect assets and manpower, much like Consolidated has done, to insure that
resources to meet the growing demand are available. Some of the exploration and
development companies in this area also have the resources available to develop
their own service providers. Consolidated's ability to provide services that
meet the market demand in a timely manner while providing quality service to the
wells will be crucial to its ability to compete in this market.
Infinity's growth strategy includes the acquisition of oil and gas
properties. There can be no assurance, however, that Infinity or its
subsidiaries will be able to successfully acquire identified targets, or have
the financing available for the acquisitions. We operate in the highly
competitive areas of oil and natural gas exploration, exploitation, acquisition
and production with other companies. We face intense competition from a large
number of independent companies as well as major oil and gas companies in a
number of areas such as:
- Acquisition of desirable producing properties or new leases for
future exploration;
- Marketing our oil and natural gas production; and
- Seeking to acquire the equipment, labor and materials necessary
to operate and develop those properties.
Many of our competitors have financial and technological resources
substantially exceeding those available to Infinity. Many oil and gas
properties are sold in a competitive bidding process in which we may lack
technological information or expertise available to other bidders. We cannot be
sure that we will be successful in acquiring and developing profitable
properties in the face of this competition.
GOVERNMENT REGULATION OF THE OIL AND GAS INDUSTRY
General
Infinity's business is affected by numerous laws and regulations,
including, among others, laws and regulations relating to energy, environment,
conservation and tax. Failure to comply with these laws and regulations may
result in the assessment of administrative, civil and/or criminal penalties, the
imposition of injunctive relief or both. Moreover, changes in any of these laws
and regulations could have a material adverse effect on our business. In view
of the many uncertainties with respect to current and future laws and
regulations, including their applicability to Infinity, we cannot predict the
overall effect of such laws and regulations on our future operations.
Infinity believes that its operations comply in all material respects with
applicable laws and regulations and that the existence and enforcement of such
laws and regulations have no more restrictive effect on our method of operations
than on other similar companies in the energy industry.
The following discussion contains summaries of certain laws and regulations
and is qualified as mentioned above.
Federal Regulation of the Sale of Oil and Gas
Various aspects of the Infinity's oil and natural gas operations are
regulated by agencies of the federal government. The Federal Energy Regulatory
Commission ("FERC") regulates the transportation and sale for resale of natural
gas in interstate commerce pursuant to the Natural Gas Act of 1938 ("NGA") and
the Natural Gas Policy Act of 1978 ("NGPA"). In the past, the federal
government has regulated the prices at which oil and gas could be sold. While
"first sales" by producers of natural gas and all sales of crude oil, condensate
and natural gas liquids can currently be made at uncontrolled market prices,
Congress could reenact price controls in the future. Deregulation of wellhead
sales in the natural gas industry began with the enactment of the NGPA in 1978.
In 1989, Congress enacted the Natural Gas Wellhead Decontrol Act (the "Decontrol
Act"). The Decontrol Act removed all NGA and NGPA price and non-price controls
affecting wellhead sales of natural gas effective January 1, 1993.
Commencing in April 1992, the FERC issued Orders Nos. 636, 636-A, 636-B,
636-C and 636-D ("Order No. 636"), which require interstate pipelines to provide
transportation services separate, or "unbundled," from the pipelines' sales of
gas. Also, Order No. 636 requires pipelines to provide open access
transportation on a nondiscriminatory basis that is equal for all natural gas
shippers. Although Order No. 636 does not directly regulate Infinity's
production activities, FERC has stated that it intends for Order No. 636 to
foster increased competition within all phases of the natural gas industry.
5
Infinity conducts certain operations on federal oil and gas leases, which
are administered by the Minerals Management Service ("MMS"). Federal leases
contain relatively standard terms and require compliance with detailed MMS
regulations and orders, which are subject to change. Among other restrictions,
the MMS has regulations restricting the flaring or venting of natural gas, and
the MMS has proposed to amend such regulations to prohibit the flaring of liquid
hydrocarbons and oil without prior authorization. Under certain circumstances,
the MMS may require any company operations on federal leases to be suspended or
terminated. Any such suspension or termination could materially and adversely
affect Infinity's financial condition, cash flows and operations. The MMS issued
a final rule that amended its regulations governing the valuation of crude oil
produced from federal leases. This rule, which became effective June 1, 2000,
provides that the MMS will collect royalties based on the market value of oil
produced from federal leases. On August 20, 2003, the MMS issued a proposed rule
that would change certain components of its valuation procedures for the
calculation of royalties owed for crude oil sales. The proposed changes included
changing the valuation basis for transactions not at arm's-length from spot to
NYMEX prices adjusted for locality and quality differentials, and clarifying the
treatment of transactions under a joint operating agreement. Final comments on
the proposed rule were due on November 10, 2003. Infinity has no way of knowing
whether the MMS will implement the proposed changes in a final rule or what
effect such changes, if implemented, will have on Infinity's results of
operations, However, we do not believe that this proposed rule would affect us
any differently than other producers of crude oil.
Additional proposals and proceedings that might affect the oil and gas
industry are pending before Congress, the FERC, the MMS, state commissions and
the courts. Infinity cannot predict when or whether any such proposals and
proceedings may become effective. In the past, the natural gas industry has been
heavily regulated. There is no assurance that the regulatory approach currently
pursued by various agencies will continue indefinitely. Notwithstanding the
foregoing, Infinity does not anticipate that compliance with existing federal,
state and local laws, rules and regulations will have a material or
significantly adverse effect upon the capital expenditures, earnings or
competitive position of Infinity or its subsidiaries.
Environmental Matters
Consolidated, Infinity-Kansas, and Infinity-Wyoming currently own or lease
properties that are being used for the disposal of drilling and produced fluids
from exploration, development and production of oil and gas and for other uses
associated with the oil and gas industry. Although these subsidiaries follow
operating and disposal practices that it considers appropriate under applicable
laws and regulations, hydrocarbons or other wastes may have been disposed of or
released on or under the properties owned or leased by the subsidiaries or on or
under other locations where such wastes were taken for disposal. Infinity could
incur liability under the Comprehensive Environmental Response, Compensation and
Liability Act or comparable state statutes for contamination caused by wastes it
generated or for contamination existing on properties it owns or leases, even if
the contamination was caused by the waste disposal practices of the prior owners
or operators of the properties. In addition, it is not uncommon for landowners
and other third parties to file claims for personal injury and property damage
allegedly caused by the release of produced fluids or other pollutants into the
environment.
The operations of Consolidated routinely involve the handling of
significant amounts of oil field related materials, some of which are classified
as hazardous substances. Consolidated's transportation operations are regulated
under the Federal Motor Carrier Safety Regulations of the Department of
Transportation as administered by the Kansas Department of Transportation,
Oklahoma Department of Transportation, and Wyoming Department of Transportation.
The operation of salt-water disposal wells by Consolidated is regulated by the
Kansas Department of Health and Environment. Consolidated will incur an
estimated $100,000 in costs associated with operating within current
environmental regulations this fiscal year primarily related to transportation
of hazardous substances.
The Federal Water Pollution Control Act of 1972 (the "FWPCA") imposes
restrictions and strict controls regarding the discharge of wastes, including
produced waters and other oil and gas wastes, into navigable waters. These
controls have become more stringent over the years, and it is probable that
additional restrictions will be imposed in the future. Permits must be obtained
to discharge pollutants into state and federal waters. The FWPCA provides for
6
civil, criminal and administrative penalties for unauthorized discharges of oil
and other hazardous substances and imposes substantial potential liability for
the costs of removal or remediation. State laws governing discharges to water
also provide varying civil, criminal and administrative penalties and impose
liabilities in the case of a discharge of petroleum or its derivatives, or other
hazardous substances, into state waters. In addition, the Environmental
Protection Agency has adopted regulations that require many oil and gas
production sites, as well as other facilities, to obtain permits to discharge
storm water runoff.
Exploration and production operations of Infinity-Wyoming and
Infinity-Kansas are subject to various types of regulation at the federal,
state, and local levels. Such regulations include requiring permits and drilling
bonds for the drilling of wells, regulating the location of wells, the method of
drilling and casing wells, and the surface use and restoration of properties
upon which wells are drilled. Many states also have statutes or regulations
addressing conservation matters, including provisions for the unitization or
pooling of oil and gas properties, the establishment of maximum rates of
production from oil and gas wells and the regulation of spacing, plugging and
abandonment of such wells. The operation and production of Infinity-Wyoming's
properties is subject to the rules and regulations of the Wyoming Oil and Gas
Conservation Commission (WYOGCC) and the Colorado Oil and Gas Conservation
Commission (COGCC). In addition a portion of the properties are on federal lands
and are subject to Onshore Orders 1 and 2, The National Historic Preservation
Act (NHPA), National Environmental Policy Act (NEPA) and the Endangered Species
Act.
Infinity-Wyoming is producing up to 750 barrels of water per day from coal
bed methane wells that it operates. Infinity-Wyoming currently uses injection
wells to dispose of the water into underground rock formations and plans to
continue to use this method for disposal of the water produced from its operated
wells. If the future wells produce water of lesser quality than allowed under
state law for injection in underground rock formations or at a volume greater
than can be injected into the current disposal wells, Infinity-Wyoming could
incur costs of up to $7.50 per barrel of water to dispose of the produced water.
At current production rates, this would cost Infinity-Wyoming approximately an
additional $165,000 a month in water disposal costs. If Infinity-Wyoming's wells
produce water in excess of the limits of its permitted facilities,
Infinity-Wyoming may have to drill additional disposal wells. Each additional
disposal well could cost Infinity-Wyoming up to $1,200,000. It costs
Infinity-Wyoming approximately $50,000 per year to operate these disposal wells.
Bureau of Land Management
Of Infinity-Wyoming's Pipeline acreage, approximately 14,200 gross acres,
are leases that the Company acquired through the auction process and are
administered by the Bureau of Land Management ("BLM"). Approximately 3,080
acres of 11,200 total acres of Infinity-Wyoming's Labarge acreage are part of
federal units for which Infinity-Wyoming is the operator for the development of
the resources to certain depths. The Piceance and Sandwash Basin acreage also
include acreage that is administered by the BLM.
TITLE TO PROPERTIES
As is customary in the oil and gas industry, only a preliminary title
examination is conducted at the time Infinity acquires leases of properties
believed to be suitable for drilling operations. Prior to the commencement of
drilling operations, a thorough title examination of the drill site tract is
conducted by independent attorneys. Once production from a given well is
established, Infinity prepares a division order title report indicating the
proper parties and percentages for payment or production proceeds, including
royalties. Infinity believes that the titles to its leasehold properties are
good and defensible in accordance with standards generally acceptable in the oil
and gas industry.
EMPLOYEES
Infinity and its subsidiaries currently have approximately 107 employees.
Consolidated has 96 employees in its oil field services business,
Infinity-Wyoming has 7 employees in its oil and gas exploration business, and
Infinity has 4 employees in administrative positions.
7
RISK FACTORS
We have a history of operating losses and we may be unable to achieve long-term
profitability.
We incurred a loss in our fiscal years ended December 31, 2003 and 2002 of
approximately $9,925,000 and $1,557,000, respectively. Our losses may impair
our ability to obtain financing for drilling and other business activities on
favorable terms. It may also impair our ability to attract investors if we
attempt to raise additional capital by selling additional securities in a
private or public offering. If needed in the future, we may not be able to
obtain additional capital for our business to grow.
Our ability to achieve a profit from operations on a long-term basis will
depend on whether we are successful in exploring for and producing oil and gas
from our existing properties. We face the following potential risks in
developing our oil and gas properties:
- prices for oil and gas we produce may be lower than expected;
- the capital required to develop the leases for production may not be
available;
- we may not find oil and gas reserves in the quantities anticipated;
- the reserves we find may not produce oil and gas at the rate
anticipated;
- the cost of producing oil and gas may be higher than expected; and
- there are many operating risks associated with drilling for and
producing oil and gas.
Oil and gas prices are volatile, and an extended decline in prices would hurt
our ability to achieve profitable operations.
Our future oil and gas revenues, operating results, profitability, future
rate of growth and the carrying value of oil and gas properties will depend
heavily on prevailing market prices for oil and gas. We expect the market for
oil and gas to continue to be volatile. During the year ended December 31, 2003
we received revenue per barrel of oil as low as $28.12 in May 2003 and as high
as $35.63 in February 2003. The Inside FERC, first of the month CIG Index, the
pricing index on which our gas sales are based, fluctuated from a low of $3.14
per 1,000 cubic feet (MCF) in January 2003 to a high of $5.01 per MCF during
March 2003. At March 15, 2004 production levels, each $1.00 decrease in the
price of crude oil would reduce Infinity's oil revenue by approximately $3,000
per month and if none of the gas produced were being sold under fixed price
contracts, each $0.10 decrease in natural gas price would reduce Infinity's gas
revenue by approximately $10,000 per month. Revenue generated from oil field
services provided by Consolidated has increased to as much as $1.6 million per
month when oil prices have been above $31.50 per barrel compared to revenue of
$400,000 to $450,000 per month when prices reached historic lows of
approximately $8.00 per barrel of oil in 1998. Any substantial or extended
decline in the price of oil or gas would reduce our cash flow and borrowing
capacity, as well as the value and the amount of our oil and gas reserves.
Most of our proved reserves are natural gas. Therefore, the volatility in
the price of natural gas will have the greatest impact on us. Various factors
beyond our control affect prices of oil and gas, including:
- worldwide and domestic supplies of oil and gas;
- the ability of the members of the Organization of Petroleum Exporting
Countries to agree to and maintain oil prices;
- production controls;
- political instability or armed conflict in oil or gas producing
regions;
- the price and level of foreign imports;
8
- worldwide economic conditions;
- marketability of production;
- the level of consumer demand;
- the price, availability and acceptance of alternative fuels;
- the price, availability and capacity of commodity processing and
gathering, and pipeline transportation;
- weather conditions; and
- actions of federal, state, local and foreign authorities.
These external factors and the volatile nature of the energy markets
generally make it difficult to estimate future prices of oil and gas.
Significant declines in oil and natural gas prices for an extended period may
cause various negative effects on our business, including:
- impairing our financial condition, cash flows and liquidity;
- limiting our ability to finance planned capital expenditures;
- reducing our revenues and operating income; and
- reducing the carrying value of our oil and natural gas properties.
A charge to earnings and book value would occur if there is a further
ceiling write down of the carrying value of Infinity-Wyoming's or
Infinity-Kansas' oil and gas properties. Impairments can occur when oil and gas
prices are depressed or unusually volatile. Once incurred, a ceiling write-down
of oil and gas properties is not reversible at a later date. Infinity-Wyoming
and Infinity-Kansas review, on a quarterly basis, the carrying value of their
oil and gas properties under the full cost accounting rules of the Securities
and Exchange Commission ("SEC"). Under these rules, costs of proved oil and gas
properties may not exceed the present value of estimated future net revenues
from proved reserves, after giving effect to cash flow from hedges, discounted
at 10%, net of taxes less the liability for asset retirement obligations.
Application of the ceiling test generally requires pricing future revenue at the
un-escalated prices in effect as of the end of each fiscal quarter, after giving
effect to the Company's cash flow hedge positions, and requires a write-down for
accounting purposes if the ceiling is exceeded, even if prices were depressed
for only a short period of time.
Revenues may be affected by the gas prices in the Rocky Mountain Region.
The prices to be received for the natural gas production from our Wyoming
and Colorado properties will be determined mainly by factors affecting the
regional supply of and demand for natural gas. Based on recent experience,
regional differences could cause a negative basis differential of $0.30 per MCF
(1,000 cubic feet) and $1.50 per MCF between the published indices generally
used to establish the price received for regional natural gas production and the
actual price received by Infinity for its natural gas production.
Forward sales transactions may limit our potential gains or expose us to loss.
To manage our exposure to price risks in the marketing of our natural gas,
we enter into natural gas fixed price physical delivery contracts from time to
time with respect to a portion of our current or future production. These
transactions could limit our potential gains if natural gas prices were to rise
substantially over the price established by the contracts. In addition, such
transactions may expose us to the risk of financial loss in certain
circumstances, including instances in which:
- our production is less than expected;
9
- the counterparties to our futures contracts fail to perform under the
contracts; or
- our production costs on the hedged production significantly increase.
Development of our oil and gas projects will require large amounts of capital
which we may not be able to obtain.
Full development of Infinity's properties would require drilling a maximum
of 740 production wells, 160 disposal wells to handle produced water, and the
construction of 130 production facilities. This would require capital
expenditures of approximately $600 million. Currently, our potential sources of
financing for these activities are cash generated by operations, future sales of
equity or debt securities, obtaining additional debt financing or additional
borrowings on the existing line of credit with U.S. Bank through the expansion
of our borrowing base. The additional borrowing base is dependent on a number
of factors including the price of natural gas, our ability to hedge future
production, cost of operations and proved reserves. Additional borrowings on
the line of credit may not be available if the borrowing base cannot be
expanded, and other financing may not be available to Infinity on terms that are
acceptable. Future cash flows and the availability of financing are subject to
a number of variables, such as:
- our coalbed methane gas projects in the Green River Basin of Wyoming
and Sandwash and Piceance Basins of Colorado achieving a level of
production that provides sufficient cash flow to support additional
borrowings;
- our success in locating and producing new reserves;
- prices of crude oil and natural gas; and
- the level of production from existing wells.
Issuing equity securities to satisfy our financing requirements could cause
substantial dilution to existing shareholders. Debt financing could lead to:
- a substantial portion of our operating cash flow being dedicated to
the payment of principal and interest;
- an increase in interest expense as the amount of debt outstanding
increases or as variable interest rates increase;
- Infinity being more vulnerable to competitive pressures and economic
downturns; and
- restrictions on our operations that may be contained in any contract
entered into with lenders.
We could also consider entering into a partnership with another oil and gas
company or companies in which we would maintain a carried or reduced working
interest in the oil and gas properties to provide the funds for future capital
needs on the projects. However this would reduce our ownership and control over
the projects and could significantly reduce our future revenues generated from
gas production.
If projected revenues were to decrease due to lower oil and natural gas
prices, decreased production or other reasons, and if we were not able to obtain
the necessary capital, our ability to execute development plans or maintain
production levels could be limited.
Our leverage and debt service obligations may adversely affect our cash flow and
our ability to make payments on our long-term debt.
As of December 31, 2003, we had total long-term debt of approximately $28.0
million and stockholders' equity of approximately $22.9 million. Our level of
debt could have important consequences to our business, including the following:
- it may be more difficult for us to satisfy our debt repayment
obligations;
- future covenant violations, if any, could result in accelerated
payment terms on existing debt;
10
- we may have difficulties borrowing money in the future for
acquisitions, to meet our operating expenses or for other purposes;
- the amount of our interest expense may increase because certain of our
borrowings are at variable rates of interest, which, if interest rates
increase, could result in higher interest expense;
- we will need to use a portion of the money we earn to pay principal
and interest on our debt which will reduce the amount of money we have
to finance our operations and other business activities;
- significantly all of our properties are pledged as collateral to
lenders and failure to pay could result in foreclosure and loss of
assets;
- we may have a higher level of debt than some of our competitors, which
may put us at a competitive disadvantage;
- we may be more vulnerable to economic downturns and adverse
developments in our industry; and
- our debt level could limit our flexibility in planning for, or
reacting to, changes in our business and the industry in which we
operate.
Information concerning our reserves, future net revenue estimates, and potential
future ceiling write-downs are uncertain.
There are numerous uncertainties inherent in estimating quantities of
proved oil and natural gas reserves and their values. Actual production,
revenues and reserve expenditures will likely vary from estimates.
Estimates of oil and natural gas reserves, by necessity, are projections
based on available geologic, geophysical, production and engineering data, and
there are uncertainties inherent in the interpretation of such data as well as
the projection of future rates of production and the timing of development
expenditures. Estimates of economically recoverable oil and natural gas reserves
and future net cash flows necessarily depend upon a number of factors and
assumptions based on existing conditions, all of which may vary considerably
from actual future results and from one professional engineer to another.
In addition, investors should not construe the present value of future cash
flows as the current market value of the estimated oil and natural gas reserves
attributable to our properties. The estimated discounted future net cash flows
from proved reserves are based on prices and costs as of the date of the
estimate, in accordance with applicable regulations, whereas actual future
prices and costs may be materially higher or lower. Factors that will affect
actual future net cash flows include:
- the amount and timing of actual production;
- the price for which that oil and gas production can be sold for
- supply and demand for natural gas;
- curtailments or increases in consumption by natural gas purchasers;
and
- changes in government regulations or taxation.
As a result of these and other factors, we will be required to periodically
reassess the amount of our reserves, which may require us to recognize a ceiling
write-down of our oil and gas properties. Such factors could cause us to have
to write down the value of some of our properties in future periods.
Infinity-Wyoming has approximately $9.4 million invested in unproved oil
and gas properties not subject to amortization on its Labarge project and
expects to incur an additional $3.6 million in costs under an agreement to
further develop the property. In order to further evaluate and develop the
Labarge project, Infinity-Wyoming entered into an agreement with Schlumberger
Technology Corporation ("Schlumberger") and Red Oak Capital Management LP ("Red
Oak"). At the conclusion of the 2004 evaluation activity, a significant portion
of the investment in unproved oil and gas properties will be reclassified to the
full cost pool subject to depletion and the ceiling test. If
11
the 2004 evaluation and exploration activity at Labarge do not result in
additional proved reserves, or if proved reserves are not significant, Infinity
could be required to write-down a portion of the full cost pool of oil and gas
properties subject to amortization upon reclassification of the Labarge unproved
oil and gas property costs.
The oil and gas exploration business involves a high degree of business and
financial risk.
The business of exploring for and developing oil and gas properties is an
activity that involves a high degree of business and financial risk. Property
acquisition decisions generally are based on assumptions about the quantity,
quality, cost to produce, market availability and sales price for the reserves
being acquired. Although available geological and geophysical information can
provide information about the potential of a property, it is impossible to
predict accurately the ultimate production potential, if any, of a particular
property or well. Any decision to acquire a property is also influenced by our
subjective judgment as to whether we will be able to locate the reserves, drill
and equip the wells to produce the reserves, operate the wells economically, and
market the production from the wells.
The successful completion of an oil or gas well does not ensure a profit on
investment. A variety of geophysical factors may negatively affect the
commercial viability of any particular well, including:
- the absence of producible quantities of oil and gas;
- insufficient formation attributes, such as porosity, to allow
production;
- excess water production requiring disposal; and
- improperly pressured reservoirs from which to produce the reserves.
In addition, market-related factors may cause a well to become uneconomic
or only marginally economic, such as:
- availability of transportation for the production;
- demand for the oil and gas produced; and
- price for the oil and gas produced.
Our business is subject to operating hazards that could result in substantial
losses.
The oil and natural gas business involves operating hazards such as:
- well blowouts;
- craterings;
- explosions;
- uncontrollable flows of oil, natural gas or well fluids;
- fires;
- formations with abnormal pressures;
- pipeline ruptures or spills;
- pollution; and
12
- releases of toxic gas and other environmental hazards and risks any of
which could cause substantial losses.
As protection against operating hazards, we maintain insurance coverage
against some, but not all, potential losses. This insurance has deductibles or
self-insured retentions and contains certain coverage exclusions. Infinity's
insurance premiums can be increased or decreased based on the claims made by
Infinity under its insurance policies. The insurance does not cover damages
from breach of contract by Infinity or based on alleged fraud or deceptive trade
practices. Whenever possible, Infinity obtains agreements from customers that
limit its liability; however, insurance and customer agreements do not provide
complete protection against losses and risks and losses could occur for
uninsurable or uninsured risks, or in amounts in excess of existing insurance
coverage. The occurrence of an event that is not fully covered by insurance
could harm our financial conditions and results of operations.
Our operations are dependent upon the availability of certain resources,
including drilling rigs, water, chemicals, and other materials necessary to
support our capital development plans and maintenance requirements. The lack of
availability of one or more of these resources at an acceptable price could have
a material adverse affect on our business.
In addition, we may be liable for environmental damage caused by previous
owners of property we own or lease. As a result, we may face substantial
potential liabilities to third parties or governmental entities that could
reduce or eliminate funds available for exploration, development or acquisitions
or cause Infinity to incur losses. An event that is not fully covered by
insurance -- for instance, losses resulting from pollution and environmental
risks that are not fully insured -- could cause us to incur material losses.
Exploratory drilling is an uncertain process with many risks.
Exploratory drilling involves numerous risks, including the risk that we
will not find any commercially productive natural gas or oil reservoirs. The
cost of drilling, completing and operating wells is often uncertain, and a
number of factors can delay or prevent drilling operations, including:
- unexpected drilling conditions;
- pressure or irregularities in formations;
- equipment failures or accidents;
- adverse weather conditions;
- compliance with governmental requirements, rules and regulations; and
- shortages or delays in the availability of drilling rigs and the
delivery of equipment.
Infinity's future drilling activities may not be successful, and we cannot
be sure of our overall drilling success rate. Unsuccessful drilling activities
would result in significant expenses being incurred without any financial gain.
Our business will depend on transportation facilities owned by others.
The marketability of gas production will depend in part on the
availability, proximity and capacity of pipeline systems owned by third parties.
Federal and state regulation of gas and oil production and transportation, tax
and energy policies, changes in supply and demand, pipeline pressures, and
general economic conditions could adversely affect our ability to gather and
transport natural gas.
The oil and gas industry is heavily regulated and we must comply with complex
governmental regulations.
Federal, state and local authorities extensively regulate the oil and gas
industry and the drilling and completion of oil and gas wells. Legislation and
regulations affecting the industry are under constant review for amendment or
expansion, raising the possibility of changes that may affect, among other
13
things, the pricing or marketing of oil and gas production. Noncompliance with
statutes and regulations may lead to substantial penalties, and the overall
regulatory burden on the industry increases the cost of doing business and, in
turn, decreases profitability. State and local authorities regulate various
aspects of oil and gas drilling and production activities, including the
drilling of wells through permit and bonding requirements, the spacing of wells,
the unitization or pooling of oil and gas properties, environmental matters,
safety standards, the sharing of markets, production limitations, plugging and
abandonment, and restoration.
Infinity's operations are subject to complex and constantly changing
environmental laws and regulations adopted by federal, state and local
government authorities. Infinity-Wyoming estimates it will spend approximately
$10,000 per well for containment facilities during drilling operations and
approximately $3.6 million to obtain permits for, drilling and equipping up to
three water disposal wells to handle water produced from oil and gas wells
during the current fiscal year. It will cost Infinity-Wyoming approximately
$50,000 per year to operate each disposal well. In addition to the environmental
costs that will be incurred by our oil and gas production operations,
Consolidated will incur an estimated $100,000 in costs associated with operating
within current environmental regulations this fiscal year. New laws or
regulations, or changes to current requirements, could result in Infinity having
to incur significant additional costs. We could face significant liabilities to
the government and third parties for discharges of oil, natural gas or other
pollutants into the air, soil or water, and we could have to spend substantial
amounts on investigations, litigation and remediation.
Our well service operations routinely involve the handling of significant
amounts of waste materials, some of which are classified as hazardous
substances. Our operations and facilities are subject to numerous environmental
laws, rules and regulations, including laws concerning:
- the containment and disposal of hazardous substances, oilfield waste
and other waste materials;
- the use of underground storage tanks; and
- the use of underground injection wells.
Laws protecting the environment are becoming stricter. Sanctions for
failure to comply with these laws, rules and regulations, many of which may be
applied retroactively, may include:
- administrative, civil and criminal penalties;
- revocation of permits; and
- corrective action orders.
In the United States, environmental laws and regulations typically impose
strict liability. Strict liability means that in some situations we could be
exposed to liability for cleanup costs and other damages as a result of our
conduct that was lawful at the time it occurred or conduct of prior operators or
other third parties. Cleanup costs, natural resource damages and other damages
arising as a result of environmental laws, and costs associated with changes in
environmental laws and regulations, could be substantial. From time to time,
claims have been made against us and our subsidiaries under environmental laws.
Changes in environmental regulations may also negatively impact oil and natural
gas exploration and production companies, which in turn could reduce the demand
for our well services.
Large volumes of water produced from coalbed methane wells and discharged
onto the surface in the Powder River Basin of Wyoming have drawn the attention
of government agencies, gas producers, citizens and environmental groups which
may result in new regulations for the disposal of produced water.
Infinity-Wyoming intends to use injection wells to dispose of water into
underground rock formations. If our wells produce water of lesser quality than
allowed under Wyoming state law for injection into underground rock formations,
Infinity-Wyoming could incur costs of up to $7.50 per barrel of water to dispose
of the produced water. At current production rates, this would cost Infinity an
additional $165,000 a month in water disposal costs. If Infinity's wells produce
water in excess of the limits of its disposal facilities, Infinity may have to
drill additional disposal wells. Each additional disposal well could cost
Infinity up to $1,200,000.
14
The oil and gas industry is highly competitive.
We operate in the highly competitive areas of oil and natural gas
exploration, exploitation, acquisition and production with other companies. We
face intense competition from a large number of independent companies as well as
both major and other independent oil and natural gas companies in a number of
areas such as:
- acquisition of desirable producing properties or new leases for future
exploration;
- marketing our oil and natural gas production; and
- seeking to acquire the equipment, labor and materials necessary to
operate and develop those properties.
Many of our competitors have financial and technological resources
substantially exceeding those available to Infinity. Many oil and gas
properties are sold in a competitive bidding process in which we may lack
technological information or expertise available to other bidders. We cannot be
sure that we will be successful in acquiring and developing profitable
properties in the face of this competition.
We depend on key personnel.
The loss of key members of our management team, or difficulty attracting
and retaining experienced technical personnel, could reduce our competitiveness
and prospects for future success. Infinity's success will depend on the
continued services of its executive officers and a limited number of other
senior management and technical personnel. Loss of the services of any of these
people could have a material adverse effect on our operations. Infinity
maintains "key man" life insurance on the lives of Stanton E. Ross and Jon D.
Klugh, but only in the amount of $250,000 each. Infinity does not have
employment agreements with any of its executive officers. Infinity's
exploratory drilling success and the success of other activities integral to our
operations will depend, in part, on our ability to attract and retain
experienced explorationists, engineers and other professionals. Competition for
experienced explorationists, engineers and some other professionals is extremely
intense. If we cannot retain our technical personnel or attract additional
experienced technical personnel, our ability to compete could be harmed.
FORWARD-LOOKING STATEMENTS
This report on Form 10-K, including information incorporated by reference,
contains forward-looking statements as defined in the Private Securities
Litigation Reform Act of 1995. The use of any statements containing the words
"anticipate," "intend," "believe," "estimate," "project," "expect," "plan,"
"should" or similar expressions are intended to identify such statement.
Forward-looking statements include, among other items:
- Infinity's growth strategies,
- anticipated trends in Infinity's business and its future results
of operations,
- market conditions in the oil and gas industry,
- the ability of Infinity to make and integrate acquisitions,
- the availability of financing on acceptable terms,
- the impact of governmental regulation,
- the timing of engineering studies and permitting, and
- world financial market conditions.
Forward-looking statements inherently involve risks and uncertainties that
could cause actual results to differ materially from the forward-looking
statements. Factors that could cause or contribute to such differences include,
but are not limited to:
- fluctuations in oil and natural gas production,
15
- fluctuations in oil and natural gas prices,
- incorrect estimations of required capital expenditures,
- uncertainties inherent in estimating quantities of oil and gas
reserves and projecting future rates of production and timing of
development activities,
- increases in the cost of drilling and completing wells,
- an increase in the cost of oil and gas production operations,
- the availability, conditions and timing of required government
approvals,
- the availability, conditions and timing of third party financing,
- an increase in materials, fuel and labor costs,
- a decline in demand for Infinity's oil and gas production or oil
field services, and
- changes in general economic conditions.
ITEM 2. DESCRIPTION OF PROPERTY
BUSINESS PROPERTIES
Infinity's headquarters are located at 211 West 14th Street, Chanute,
Kansas 66720, along with the headquarters and some of the operating facilities
of Consolidated. This facility and other Consolidated facilities in
Bartlesville, Oklahoma and Ottawa, Kansas were purchased in November of 1999 by
the CIS-Oklahoma, Inc. subsidiary. CIS-Oklahoma also acquired facilities in
Gillette, Wyoming for $140,000 during 2001, which includes office and shop
facilities for Consolidated's operations. Funds for the acquisitions were
obtained through a loan from a local bank, secured by the Kansas and Wyoming oil
field service facilities. The loan was for $350,000 for a period of seven years
with an initial adjustable interest rate of 8.5% per annum based on Wall Street
Prime plus 1%. Effective November 2003, the interest rate was reduced to 4.25%.
Payments on this loan are currently $5,635 per month, including interest, with
an outstanding loan balance of approximately $185,000 at December 31, 2003. The
shop and office facility that were built in Bartlesville, Oklahoma during 2001
for the operations of Consolidated were financed from cash flow and with a
ten-year, 9.25% note with a local bank. The note had an outstanding balance of
approximately $330,000 at December 31, 2003, requires monthly payments of
approximately $4,900, and is collateralized by the Bartlesville, Oklahoma
facility.
Consolidated provides numerous services associated with drilling and
completion of oil and gas wells, including cementing, acidizing, fracturing,
nitrogen pumping and water hauling. Consolidated provides these services out of
service facilities it owns in Chanute and Ottawa, Kansas; Bartlesville,
Oklahoma; and Gillette, Wyoming. Due to the decrease in the number of wells
being drilled and the schedule on which wells would be drilled by
Infinity-Wyoming and an increase in service requests and equipment demand in
other services areas, Consolidated closed its Rock Springs, Wyoming facility,
terminated its lease on the operating facilities and transferred its service
equipment to its other locations in December 2003.
Consolidated operates a fleet of approximately 150 vehicles specifically
designed to provide service to oil and gas well operators working at depths
ranging from 100 to 5,000 feet as is usually the case in eastern Kansas,
northeastern Oklahoma, and the coal bed methane development of the Powder River
Basin of Wyoming. The service vehicles are part of the collateral for a
revolving note, capital expenditures note and term loan due in January 2005 with
outstanding balances on the revolving note, capital expenditures note and term
loan of approximately $0.1 million, $0.4 million and $0.9 million, respectively
at December 31, 2003. The capital expenditures and term loan require monthly
payments totaling approximately $0.1 million per month. Consolidated has also
purchased vehicles using financing from manufacturers. These loans and leases
typically have terms of 12 to 60 months with interest rates ranging from 6.0% to
9.5%. As of December 31, 2003, Consolidated was making monthly payments of
approximately $24,000 under these loans and leases.
16
Consolidated leases property near Cheyenne, Wyoming, which is the site of
the brine water treatment facility. Rent on this land lease is $1,000 per year.
The lease is for a term of twenty-five years beginning July 1994, but may be
terminated by Consolidated at any time on written notice. In February of 2003
Consolidated signed a letter of intent to sell these facilities and transfer the
lease on the property to the new owner. However, the potential purchaser to the
letter of intent was unable to finance the acquisition and the sale has not been
completed. Consolidated is working with the potential purchaser to identify a
structure which will allow the sale to be completed. We do not know when the
sale might be completed.
Oil and Gas Interest in Leasehold Acreage
Infinity-Wyoming engaged Netherland, Sewell & Associates, Inc., independent
petroleum engineers to prepare estimates of proved reserves, projected future
production and related future net revenue for our properties as of December 31,
2003. Estimates prepared by Netherland, Sewell & Associates, Inc. were based
upon review of production histories and other geologic, economic, ownership,
volumetric and engineering data. In estimating reserve quantities that are
economically recoverable, oil and gas prices and estimated development and
production costs as of December 31, 2003 were utilized.
The following table sets forth estimates as of December 31, 2003 derived
from the Netherland, Sewell & Associates, Inc. reserve report. The present value
(discounted at 10 percent) of estimated future net revenue before income taxes
shown in the table is not intended to represent the current market value of our
estimated proved oil and gas reserves. For additional information concerning the
present value of future net revenue from these proved reserves, see Note 19 -
Supplemental Oil and Gas Information (Unaudited) in the Notes to the
Consolidated Financial Statements.
Developed Undeveloped Total
----------- ------------ -----------
Natural gas (mcf) 4,724,523 2,786,372 7,510,895
Crude oil (barrels) 124,968 68,170 193,138
Total (mcfe) 5,474,331 3,195,392 8,669,723
Future net revenue before income
taxes $21,557,500 $ 10,916,700 $32,474,200
Present value of future net revenue
before income taxes $16,383,600 $ 6,561,500 $22,945,100
See "Management's Discussion and Analysis of Financial Condition and
Results of Operations" under the caption "Overview of Oil and Gas Production
Activity" for a discussion of the variables that resulted in the reduction of
reserves at December 31, 2003.
There are numerous uncertainties inherent in estimating quantities of
proved reserves and in projecting future rates of production and timing of
development expenditures, including many factors beyond the control of the
producer. The reserve data set forth herein represents only estimates. Reserve
engineering is a subjective process of estimating underground accumulations of
oil and gas that cannot be measured in an exact way, and the accuracy of any
reserve estimate is a function of the quality of available data and of
engineering and geological interpretation and judgment and the existence of
development plans. In addition, results of drilling, testing and production
subsequent to the date of an estimate may justify revision of such estimates.
Accordingly, the reserve estimates are often different from the quantities of
oil and gas that are ultimately recovered. Further, the estimated future net
revenue from proved reserves and the present value thereof are based upon
certain assumptions, including future geologic success, prices, production
levels and costs that may not prove correct. Predictions about prices and
future production levels are subject to great uncertainty and the meaningfulness
of such estimates is highly dependent upon the accuracy of the assumptions upon
which they are based. Oil and gas prices have fluctuated widely in recent
years. There is no assurance that prices will not be materially higher or lower
than the prices utilized in estimating the reserves of Infinity-Wyoming.
The weighted average sales prices utilized for purposes of estimating our
proved reserves and future net revenue therefrom as of December 31, 2003 were
$6.06 per Mcf of natural gas and $31.34 per barrel of crude oil.
As an operator of domestic oil and gas properties, Infinity-Wyoming
annually files Department of Energy Form EIA-23, "Annual Survey of Oil and Gas
Reserves," as required by Public Law 93-275. There are differences between the
reserves as reported in Form EIA-23 and as reported herein. The differences are
attributable to the fact that Form EIA-23 requires that an operator report total
reserves attributable to wells that it operates; without regard to ownership
(i.e. reserves are reported on a gross operated basis, rather than on a net
interest basis).
17
Acreage
The following table sets forth the gross and net acres of developed and
undeveloped oil and gas leases held by Infinity-Wyoming as of December 31, 2003.
Developed acreage is acreage assigned to producing wells for the spacing unit of
the producing formation.
Developed Acreage Undeveloped Acreage
------------------ ------------------
Gross Net Gross Net
-------- -------- -------- --------
Greater Green River Basin
Wamsutter Arch 3,520 3,360 16,030 15,790
Labarge 1,763 1,763 9,967 9,436
Sand Wash Basin 640 640 160,689 112,193
Piceance Basin - - 20,020 20,020
-------- -------- -------- --------
Total 5,923 5,763 206,706 157,439
======== ======== ======== ========
Leases covering 57,097 gross (45,705 net) undeveloped acres included as a
part of the Sand Wash Basin prospect above expire during the year ending
December 31, 2004, and therefore the related capitalized costs were reclassified
to the full cost pool at December 31, 2003.
Infinity-Wyoming held options on an additional 26,330 gross acres as of
December 31, 2003. Options on approximately 8,300 of such acres were
relinquished on February 29, 2004, and therefore the related capitalized costs
were reclassified to the full cost pool at December 31, 2003.
Major properties
Greater Green River Basin - Wamsutter Arch
At December 31, 2003, Infinity-Wyoming held leases on approximately 19,000
net acres on the Wamsutter Arch in the Greater Green River Basin of South
Central Wyoming. Infinity-Wyoming currently seeks to exploit hydrocarbons in
the Cretaceous-aged Upper Almond sand at varying depths between 2,900 and 3,600
feet. At December 31, 2003, Infinity-Wyoming operated 36 wells in the field, of
which 10 were active producers, 13 were shut-in, 6 were waiting completion
operations, 3 were water disposal wells, and 4 were waiting plugging and
abandonment. All six wells waiting completion at year end have been completed
as producers during the first quarter of 2004. During March 2004,
Infinity-Wyoming assumed operations of two additional wells in the field
following the acquisition of additional working interests in those wells.
During 2003, Infinity-Wyoming produced approximately 1,051,200 mcf of
natural gas and 57,400 barrels of crude oil, or 1,395,700 mcfe from the field.
Production during 2003 represented a 62% increase over 2002, but production has
declined on a quarterly basis since the quarter ended March 31, 2003 when
production reached 408,100 mcfe.
At December 31, 2003, Infinity-Wyoming held options on an additional 8,300
gross acres in the field. The options were relinquished on February 29, 2004.
Greater Green River Basin - Labarge
At December 31, 2003, Infinity-Wyoming held leases on approximately 11,000
net acres located on the northern extension of the Moxa Arch in southwestern
Wyoming. Infinity-Wyoming currently seeks to exploit hydrocarbons in the
Cretaceous Upper Mesaverde coals at varying depths between 3,400 and 4,200 feet.
At December 31, 2003, Infinity-Wyoming operated 12 wells in the field, of which
2 were active producers, 5 were shut-in, 3 were waiting completion operations,
and 2 were water disposal wells.
During 2003, Infinity-Wyoming produced approximately 29,000 mcf of natural
gas and 300 barrels of crude oil, or 30,700 mcfe from the field. Production
during 2003 represented a 27% decrease as compared to 2002, and production has
declined on a quarterly basis since the quarter ended September 30, 2002 when
production reached 20,600 mcfe. Production at Labarge has continued to be
uneconomic. Infinity-Wyoming believes that this may be due in part to down-hole
operational problems and as a result in December 2003, Infinity-Wyoming entered
into an agreement with Schlumberger Technology Corporation and Red Oak Capital
Management LLC for the further evaluation and development of the Labarge
acreage.
18
Sand Wash Basin
At December 31, 2003, Infinity-Wyoming held leases on approximately 112,000
net undeveloped acres in the Sand Wash Basin of northwest Colorado and south
central Wyoming. This prospect seeks to exploit the Williams Fork and Iles
coals at varying depths between 2,500 and 3,000 feet. Secondary objectives
include hydrocarbons in the fractured Niobrara calcareous shale. Leases
covering 57,097 gross (45,705 net) undeveloped acres included as a part of the
Sand Wash Basin prospect expire during the year ending December 31, 2004.
Infinity-Wyoming is currently seeking offers from other industry operators for
interests in the acreage in exchange for cash and a carried-interest in drilling
operations. No assurance can be given that any such transactions will be
consummated on terms acceptable to Infinity-Wyoming. At December 31, 2003,
Infinity-Wyoming operated 4 wells in the field, all of which were shut-in.
Piceance Basin
At December 31, 2003, Infinity-Wyoming held leases on approximately 20,000
net undeveloped acres in the northeastern corner of the Piceance Basin in
northwestern Colorado. This prospect seeks to exploit the Williams Fork and
Iles coals at varying depths between 1,000 and 3,000 feet. Under the terms of
the lease agreement covering approximately 16,000 acres, Infinity-Wyoming is
required to drill and complete five wells by November 20, 2005, or relinquish
the acreage to the seller. Infinity-Wyoming is currently seeking offers from
other industry operators for interests in the acreage in exchange for cash and a
carried-interest in drilling operations. No assurance can be given that any
such transactions will be consummated on terms acceptable to Infinity-Wyoming.
Stanton County, Kansas
Infinity-Kansas acquired a 31.25% interest in a 5,120 acre river sand
prospect in Stanton County, Kansas for $56,000, or $35.00 per acre, in November
2001. Infinity-Kansas has incurred approximately $187,000 for the drilling of
three exploratory wells and for a 3-D seismic study across the acreage. The
three exploratory wells have been uneconomical and the operator of the property
is evaluating the results of drilling programs on adjacent acreage before taking
any further action. The results of the drilling programs on the adjacent
acreage should be available in the second quarter of 2004. Depending on the
results of those programs, there is a potential that that the operator will
abandon the prospect and Infinity-Kansas will write off its investment in the
additional acreage. Infinity-Kansas does not have investment in any other oil
and gas prospects.
Offshore Nicaragua
During 2003 and into the first quarter of 2004, Infinity has renegotiated a
number of key terms and conditions of the exploration contract covering the
approximate 1,400,000-acre Tyra and Perlas concession areas offshore Nicaragua,
including an extension of the exploration period from six to eight years with
four sub-phases, and is awaiting final approvals by the Nicaraguan government.
Upon approval, the initial capital cost during the first twelve months would be
approximately $800,000, with an additional $1,600,000 during the second twelve
months to cover the costs of environmental studies, geological and geophysical
analysis, acquisition of seismic data and other operational expenses.
Exploration offshore Nicaragua will focus on Eocene and Cretaceous
carbonate reservoirs and Infinity's management and consultants believe (i)
numerous analogies can be made between the Infinity concession block and
production from fractured Cretaceous carbonates in Mexico, Venezuela and
Guatemala, and (ii) the presence of Cretaceous source rocks onshore Honduras and
Nicaragua can be projected into the offshore Caribbean Shelf.
19
Production
The following table sets forth Infinity-Wyoming's net oil and gas
production, average sales prices, and costs and expenses associated with such
production during the periods indicated. Information presented for 2001
pertains to the nine-month transition period ended December 31, and includes
results for Infinity-Kansas. Information presented for 2002 and 2003 pertains
to the years ended December 31, and includes only the results for
Infinity-Wyoming.
2003 2002 2001
---------- -------- --------
Production:
Natural gas (mcf) 1,080,456 676,879 128,998
Crude oil (barrels) 57,654 53,122 74,812
Total (mcfe) 1,426,380 995,611 577,870
Average daily production:
Natural gas (mcf) 2,960 1,854 469
Crude oil (barrels) 158 145 270
Total (mcfe) 3,908 2,727 2,101
Average sales price per unit:
Natural gas (mcf) $ 4.47 $ 1.88 $ 1.76
Crude oil (barrels) 30.51 $ 17.14 $ 20.46
Total (mcfe) $ 4.62 $ 2.38 $ 3.04
Production costs per mcfe $ 2.05 $ 1.83 $ 1.97
Infinity-Wyoming owned 14 gross (12 net) producing wells and 5 gross (5
net) service wells as of December 31, 2003. Infinity-Wyoming owned an
additional 33 gross (33 net) wells which were shut in, waiting completion or
plugging and abandonment as of December 31, 2003.
Development, Exploration and Acquisition Expenditures
The following table sets forth certain information regarding the costs
incurred by Infinity in its development, exploration and acquisition activities
during the periods indicated. Information presented for 2001 pertains to the
nine-month transition period ended December 31. Information presented for 2002
and 2003 pertains to the years ended December 31.
2003 2002 2001
---------- ----------- ----------
Property acquisition costs:
Proved $1,099,120 $ 72,383 $ 223,319
Unproved 661,224 2,279,587 1,291,126
---------- ----------- ----------
Total acquisitions costs 1,760,344 2,351,970 1,514,445
Development costs 3,167,700 786,095 721,760
Exploration costs 3,491,953 11,955,351 6,957,735
---------- ----------- ----------
Total $8,419,997 $15,093,416 $9,193,940
========== =========== ==========
Drilling Activity
The following table sets forth certain information regarding the wells
completed during the periods indicated. Frequently wells are spud or drilled in
one period and completed in the subsequent period. Information presented for
2001 pertains to the nine-month transition period ended December 31.
Information presented for 2002 and 2003 pertains to the years ended December 31.
Certain 2002 and 2001 information has been restated to conform to the current
year presentation.
20
2003 2002 2001
---- ---- ----
GROSS NET GROSS NET GROSS NET
----- ---- ----- ---- ----- ----
Development:
Service 1 1 2 2 1 1
Productive - - 2 2 - -
Non-productive - - - - - -
----- ---- ----- ---- ----- ----
Total 1 1 4 4 1 1
===== ==== ===== ==== ===== ====
Exploratory:
Productive - - 13 13 - -
Non-productive - - 9 9 1 1
----- ---- ----- ---- ----- ----
Total - - 22 22 1 1
===== ==== ===== ==== ===== ====
As of December 31, 2003, Infinity-Wyoming had an additional thirteen wells which
were awaiting completion, including four wells waiting plugging and abandonment
operations and six others that were completed by March 19, 2004.
Delivery Commitments
Infinity-Wyoming entered into a gas gathering and transportation contract
with Duke in which Duke will build gas gathering laterals and install
compression facilities to deliver gas produced from the Pipeline wells to the
Overland Trail Transmission pipeline. During 2002, the contract was amended to
include additional compression and gathering facilities installed by Duke and
delivery points for the additional production being generated by
Infinity-Wyoming. Infinity-Wyoming will pay a gathering fee of $0.40 per MCF
until 7,500,000 MCF have been produced at which time the fee is reduced to $0.25
per MCF. Infinity-Wyoming was obligated to deliver 600,000 MCF the first year,
1,600,000 MCF the second year and 2,000,000 the third and fourth years and
1,800,000 in the fifth and final year of the contract. To date, Infinity-Wyoming
has delivered approximately 2,060,000 MCF on this contract. The Pipeline sales
volumes will also be subject to a $0.15 per Million British Thermal Units
(MMBTU) charge for access onto the Overland Trail Transmission line. While
Infinity-Wyoming has failed to deliver the volumes required under the terms of
the contract, the pipeline operator has also not provided the compression and
gathering capabilities they were required to provide under the contract.
Management has received a verbal commitment from the operator that the volume
commitments will be adjusted and management does not believe there will be a
contract shortfall under the renegotiated volumes.
Beginning April 1, 2003 and effective through March 31, 2004,
Infinity-Wyoming had contracted to sell 3,500 MMBTU per day to Duke at a price
of $4.71 per MMBTU, which equates to $5.16 per MCF. Subsequent to December 31,
2003 Infinity-Wyoming entered into two additional contracts with Duke for the
sale of 2,000 MCF per day. The first contract is for the period April 1, 2004
through March 31, 2005 and sets a price of $4.40 per MCF. The second contract is
for the period beginning April 1, 2005 and ending March 31, 2006 and is for
$4.15 per MCF. Infinity-Wyoming will receive the Colorado Interstate Gas (CIG)
Pipeline first of the month index price for each MCF of gas in excess of the
contracted volume delivered onto the Overland Trail Transmission line. Infinity
and its subsidiaries presently have no agreements or commitments, other than
those shown above, to provide quantities of oil or gas in the future.
ITEM 3. LEGAL PROCEEDINGS
There are currently no pending material legal proceedings to which we are a
party.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of the Company's shareholders during
the fourth quarter of 2003.
21
PART II
ITEM 5. MARKET FOR COMMON EQUITY AND RELATED SHAREHOLDER MATTERS
Principal Market and Price Range of Common Stock
Infinity's Common Stock began trading on the Nasdaq Small-Cap Market on
June 29, 1994, under the symbol "IFNY." In August 2002, Infinity became listed
on the Nasdaq National Market. The following table sets forth the high and low
closing sale prices for Infinity's Common Stock as reported by the Nasdaq Stock
Market. The closing price of the Common Stock on March 31, 2004 was $3.36.
Quarter Ended High Low
- ------------------ ------- ------
March 31, 2002 $ 7.34 $ 5.03
June 30, 2002 11.38 7.72
September 30, 2002 8.19 5.95
December 31, 2002 9.00 7.11
March 31, 2003 9.74 7.75
June 30, 2003 8.83 5.50
September 30, 2003 6.01 4.30
December 31, 2003 4.90 3.31
APPROXIMATE NUMBER OF HOLDERS OF COMMON STOCK
The number of record holders of Infinity's $0.0001 par value Common Stock
at April 12, 2004, was 187 and the Company believes it has over 1,500 beneficial
owners of such stock.
DIVIDENDS
Holders of common stock are entitled to receive such dividends as may be
declared by Infinity's Board of Directors. Infinity has not declared nor paid
and does not anticipate declaring or paying an dividends on its common stock in
the near future. Any future determination as to the declaration and payment of
dividends will be at the discretion of Infinity's board of directors and will
depend on then-existing conditions, including Infinity's financial condition,
results of operations, contractual restrictions, capital requirements, business
prospects and such other factors as the board deems relevant. Pursuant to the
terms of the Loan Agreement with LaSalle Bank, N.A., Consolidated is prohibited
from paying any dividends to Infinity during the term of the agreement and under
the terms of the Loan Agreement with U.S. Bank National Association,
Infinity-Wyoming is restricted in the amount of distributions it can make to
Infinity, Inc.
ITEM 6. SELECTED FINANCIAL DATA
The selected consolidated financial information presented below for the
years ended December 31, 2003 and 2002 and March 31, 2001 and 2000 and, the nine
month transition period ended December 31, 2001 is derived from the audited
consolidated financial statements of Infinity for all periods. Infinity changed
its fiscal year end to December 31 fiscal year end from a March 31 fiscal year
end effective December 31, 2001. Certain reclassifications have been made to
prior financial statements to conform with the current presentation. The table
gives effect to the two-for-one split of Infinity's common stock effective May
13, 2002 for all periods presented.
22
FOR THE PERIOD ENDED
DECEMBER 31, MARCH 31,
----------------------------- ------------------
2003 2002 2001 2001 2000
-------- --------- -------- -------- --------
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
STATEMENT OF OPERATIONS DATA
Revenue:
Oil field service revenue $11,634 $ 8,570 $ 9,854 $ 8,476 $ 5,122
Oil and gas revenue 6,589 2,368 1,759 376 8
-------- --------- -------- -------- --------
Total revenue $18,223 $ 10,938 $11,613 $ 8,852 $ 5,130
======== ========= ======== ======== ========
Expenses:
Oil and gas service operations $ 6,223 $ 4,621 $ 5,154 $ 4,666 $ 3,027
Oil and gas production expense 2,161 1,583 1,074 207 7
Production taxes 759 238 66 14 -
Operating expenses 5,311 4,647 2,789 2,460 2,231
Depreciation, depletion and amortization 3,074 1,783 1,063 922 781
Ceiling write-down of oil and gas properties 2,975 - - - -
-------- --------- -------- -------- --------
Total expenses $20,503 $ 12,872 $10,146 $ 8,269 $ 6,046
======== ========= ======== ======== ========
Other income (expense)
Interest expense and amortization of loan costs $(7,794) $ ( 837) $(1,866) $(1,062) $ (517)
Impairment of other assets $ - $ - $( 600) $ - $ -
Gain on sale of securities $ - $ - $ 5,128 $ 2,780 $ -
Other, net $ 149 $ 69 $ 1 $ 176 $ 40
Income (loss) before income taxes $(9,925) $ (2,701) $ 4,130 $ 2,477 $(1,393)
Income tax (expense) benefit - 1,144 (1,590) (710) 641
-------- --------- -------- -------- --------
Net income (loss) $(9,925) $ (1,557) $ 2,540 $ 1,767 $ (752)
======== ========= ======== ======== ========
Basic income (loss) per common share $ (1.23) $ (0.22) $ 0.39 $ 0.29 $ (0.13)
Diluted income (loss) per common share $ (1.23) $ (0.22) $ 0.37 $ 0.27 $ (0.13)
STATEMENT OF CASH FLOWS DATA
Net cash provided by (used in):
Operating activities $ 2,845 $ 136 $ 1,361 $ 1,157 $ (996)
Investing activities $(6,902) $(16,218) $(3,232) $ (715) $(3,691)
Financing activities $ 3,917 $ 16,283 $ 2,381 $(1,003) $ 5,367
BALANCE SHEET DATA
Cash and cash equivalents $ 727 $ 867 $ 666 $ 155 $ 716
Accounts receivable, net of allowance $ 1,767 $ 1,514 $ 1,600 $ 1,488 $ 588
Investment in securities $ - $ - $ - $ 8,509 $10,885
Net property and equipment $10,169 $ 10,315 $10,343 $ 6,107 $ 4,231
Net oil and gas properties $36,262 $ 32,284 $17,191 $ 8,127 $ 1,959
Net intangible assets $ 3,953 $ 5,300 $ 1,527 $ 305 $ 298
Total assets $55,266 $ 53,130 $33,097 $26,013 $19,379
Current portion of long-term debt $ 1,763 $ 2,227 $ 3,342 $ 3,520 $ 2,174
Accounts payable $ 2,645 $ 2,876 $ 2,591 $ 1,879 $ 510
Long-term debt, net of current portion $26,230 $ 24,247 $10,421 $ 5,552 $ 6,411
Stockholders' equity $22,911 $ 22,810 $15,207 $13,596 $ 9,982
23
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following information should be read in conjunction with the
Consolidated Financial Statements and Notes presented elsewhere in the this Form
10-K. Infinity follows the full-cost method of accounting for oil and gas
properties. See "Organization and Summary of Significant Accounting Policies,"
included in Note 1 to the Consolidated Financial Statements.
Infinity and its operating subsidiaries Infinity-Wyoming, Infinity-Kansas
and Consolidated are engaged in identifying and acquiring oil and gas acreage,
exploring and developing acquired acreage, and providing oil and gas well
services. Infinity's primary focus is on the development of its properties in
the Green River Basin of Wyoming, Piceance Basin of Colorado and in the Sand
Wash Basin of Wyoming and Colorado. Infinity's involvement in the wastewater
disposal industry through its wastewater division has been scaled back
significantly with only maintenance operations occurring at the Cheyenne,
Wyoming facility. Infinity expects to dispose of these facilities and has signed
a letter of intent to sell the properties contingent upon the purchaser
obtaining financing.
OVERVIEW OF OIL FIELD SERVICE OPERATIONS
Consolidated continued to develop its business relationships as the largest
oil field service provider in eastern Kansas and northeastern Oklahoma by
servicing over 400 customers during the year ended December 31, 2003. The
continued strong price of natural gas and the focus on development of the coal
bed methane potential of the Cherokee basin in southeast Kansas and northeast
Oklahoma contributed to the overall increase in activity for Consolidated.
During the year ended December 31, 2003 Consolidated achieved several
operational milestones:
- provided services to over 400 customers,
- achieved gross sales of $11.6 million,
- subsidiary level earnings before interest, taxes, depreciation and
amortization of approximately $2.8 million, and
- subsidiary level income before taxes of over $1.0 million
Consolidated is actively seeking opportunities through acquisitions or
mergers to expand its service area, increase its market share or enhance the
services it provides to its customers. At December 31, 2003, Consolidated had
outstanding debt of approximately $2.9 million secured by its fleet of service
trucks and real estate with an appraised market value in excess of $10.0
million. Management believes that it can use the excess value as collateral to
quickly fund acquisitions as they might occur.
OVERVIEW OF OIL AND GAS PRODUCTION ACTIVITY
In the Fall of 2002, Infinity began working with First Albany Corporation
to identify and evaluate strategic divestiture, financing and merger
alternatives for Infinity. Infinity was approached about the possible sale of
our interest in certain of Infinity-Wyoming's properties, the merger of Infinity
with another public company, or the acquisition of Infinity by a third party.
After several months of evaluation, Infinity was contacted about a potential
merger. Management believed the potential merger would be beneficial and entered
into detailed negotiations with the third party. After several months of
negotiations and reaching what Infinity believed to be satisfactory terms for a
merger, the third party withdrew from the discussions in April 2003. Infinity
had believed that the merger would provide adequate resources for the future
development of its assets and had focused its limited resources on completing
the merger. Subsequently, when the negotiations were terminated, Infinity was
not in a position to act timely on any alternatives to the merger and was
limited on the resources it could immediately bring to the development of its
properties.
Facing deadlines under the Labarge farm out agreement for earning acreage
through drilling wells while at the same time in detailed negotiations with the
potential merger partner and with the anticipation that additional resources
would be available upon the completion of the merger, Infinity-Wyoming drilled
five production wells and one injection well on acreage it had acquired adjacent
to the Labarge acreage it currently owned. When the merger negotiations were
terminated, Infinity had outstanding unsecured past due payables associated with
the drilling activities of approximately $1.8 million. Due to a lack of
financial resources, the wells were not completed. Three of these wells have
been included in the initial recompletion phase under the Schlumberger
agreement.
24
As Infinity was unable to complete the merger and the fact that Infinity
needed resources to continue development of its acreage, in June 2003, Infinity
began discussions with several traditional lending institutions in order to
develop a credit relationship that would recognize the value of
Infinity-Wyoming's developing assets. The intent was to find a financial partner
that would allow for future expansion as the assets were developed and to
provide cash to pay Infinity's current outstanding payables. Understanding that
the future success of development activities on its properties were dependent on
its relationships with the service providers in the area of its operations,
Infinity-Wyoming worked diligently to secure financing that would allow payment
of its past due obligations. On June 5, 2003 Infinity-Wyoming entered into a
$3.8 million loan agreement secured by its interest in the producing properties.
The proceeds were used to pay $1.0 million of outstanding bridge loan notes,
outstanding payables related to the development of the gas properties of
Infinity-Wyoming, and for additional development work on the properties. The
loan was repaid on September 4, 2003 when Infinity-Wyoming entered a credit
agreement with U.S. Bank National Association that provided a three year, $25.0
million revolving line of credit based principally on the production and
reserves associated with Infinity-Wyoming's Pipeline project. The initial
borrowing base on the facility was $5.5 million. Infinity-Wyoming immediately
drew the full amount available on the facility and repaid the June 5 loan and
began drilling six additional wells on its Pipeline acreage. All of these wells
were completed subsequent to December 31, 2003 and have began production.
In 2003, Infinity faced several financing, development and operating issues
associated with drilling, completing and operating its coal bed methane wells on
its acreage in the Greater Green River Basin of Wyoming:
- Limited capital resources for the further development of the projects,
- Production volumes on the Labarge property had declined dramatically
after work was done on the wells in December 2002,
- The disposal well on the Labarge property was experiencing increasing
injection pressures,
- Significant production was occurring from only a limited number of
wells on the Pipeline acreage, and
- Reservoir tests on the Almond coals in the Pipeline project were
indicating permeability issues.
Each of these issues potentially had a significant impact on
Infinity-Wyoming's ability to develop the properties, attract potential partners
for future development and to fund future development activities. Production
from the original five wells drilled on the Labarge acreage continues to be
uneconomical due to what management believes are down hole mechanical issues
related to high parifin oil that was encountered in the wells and down hole
treatments that were done in December 2002. The uneconomic results of these
wells along with the lack of resources to address the mechanical issues on the
wells has forced the reclassification of the reserves associated with the wells
and the surrounding drilling locations from proved to probable and possible,
resulting in a substantial reduction in Infinity-Wyoming's proved reserves at
December 31, 2003. In order to further evaluate and develop the Labarge project,
Infinity-Wyoming entered into an agreement with Schlumberger and Red Oak. The
agreement calls for re-completion of five existing wells and the drilling of up
to 90 additional wells on the Labarge acreage over the next five years. The
first 10 wells will be drilled in a bundle and the remaining 80 wells will be
drilled in bundles of 20 wells. Schlumberger has the exclusive right to provide
certain of its services on a risked basis and may withdraw its participation
after the completion of any bundle of wells or after the re-completion of five
of the 10 existing wells. Red Oak has the right to provide financing on a
portion of the cost of drilling and completing the wells. Disclosure of the
terms of this agreement is restricted by provisions in the agreement.
Infinity-Wyoming has approximately $9.4 million invested in unproved oil and gas
properties not subject to amortization on its Labarge project and expects to
incur an additional $3.6 million during 2004 in costs under an agreement to
further explore the property. At the conclusion of the 2004 evaluation and
exploration activity, a significant portion of the investment in unproved oil
and gas properties not subject to amortization will be reclassified to
properties subject to depletion and the ceiling test. If the 2004 evaluations
and exploration activity at Labarge do not result in additional proved reserves,
or if proved reserves are not significant, Infinity could be required to
write-down a portion of the full cost pool of oil and gas properties subject to
amortization upon the reclassification of the Labarge unproved oil and gas
property costs.
Although operations at Pipeline continue to be profitable, production has
not met management's expectations. Infinity-Wyoming has been unable to
consistently produce gas from all of the wells in the project. However, certain
wells have been very successful with production from those wells exceeding 1,500
MCF per day. Further evaluation of the geology associated with the successful
wells indicates that these wells appear to be producing from the Almond Sand
rather than from the Almond Coals. The Almond Sand is a geological sandstone
formation that lays directly on top of the Almond Coals. This sandstone
formation is much more porous than the Almond Coals allowing hydrocarbons
trapped within the geological formation to be produced. However, the Almond Sand
formation developed in channels through the geological formations and does not
cover the entire area like coals traditionally cover. Drilling logs from the
25
Pipeline drilled wells and the further evaluation of additional seismic data
have allowed Infinity-Wyoming to better define the area that contains the Almond
Sand. Since management currently believes the Almond Sand to be the major gas
producing formation, Infinity will be aggressively developing the remaining
acreage where there is sufficient geological information to indicate the
presence of the sand formation. The change in classification from a coal bed
methane play to a conventional sand play has had a significant impact on the
acreage from which hydrocarbons will be producible and accordingly on the
reserves associated with the project. As a result, in 2004, management
determined it was not economically beneficial to re-new an option on
approximately 8,300 acres of undeveloped acreage.
The above operational, geological and geophysical, financial, and other
issues resulted in significant revisions to year end reserves. As a result of
these revisions and other economic decisions, Infinity-Wyoming realized a
$2,975,000 ceiling write-down during 2003.
Infinity-Wyoming has selected Netherland, Sewell and Associates, Inc. to
prepare its January 1, 2004 third party reserve evaluation. Results of this
evaluation are disclosed in the "Supplemental Oil and Gas Disclosures" in
Infinity's Consolidated Financial Reports and in the "Oil and Natural Gas
Reserves" section of Item 2. Description of Properties. Wells, Chappel and
Company, Inc. prepared the reserve evaluation for the periods ended December 31,
2002 and December 31, 2001.
2004 OPERATIONAL AND FINANCIAL OBJECTIVES
Oil Field Services
Consolidated expects to increase its oil field service revenue during 2004
due to the increase in the number of wells being drilled by property owners in
our service areas and through strategic acquisitions. These acquisitions would
be done in order to:
- expand the services that are provided,
- expand the area that is serviced,
- gain market share by providing complimentary services to our existing
services, and
- gain market share by eliminating competition.
Revenues from oil field services are expected to be between $12.5 million and
$14.5 million with income before taxes of approximately $1.7 to $2.2 million
from existing business. Management expects that it will make acquisitions that
will cost between $1.2 million and $2.0 million during 2004 and expects to fund
the acquisitions through financing secured by the acquired assets. Consolidated
also expects to have other capital expenditures of about $1.0 million related to
equipment and facilities. These capital expenditures would be financed through
cash flow or vendor financing.
Oil and Gas Production
Infinity-Wyoming will focus on increasing production through development of
acreage and acquiring additional interest in wells within its Pipeline area of
operations. Subsequent to December 31, 2003, Infinity-Wyoming completed six
wells drilled during the fourth quarter of 2003 and acquired an additional 49%
working interest in two existing wells and 960 acres of undeveloped leasehold
adjacent to the Pipeline project. With the acquisition, Infinity-Wyoming
assumed operations of the two wells. Infinity-Wyoming expects to drill two
wells on the newly acquired acreage during 2004. Infinity-Wyoming anticipates
capital expenditures will be approximately $0.5 million to drill the two wells.
In the first quarter of 2004, Schlumberger began re-completion activities
on two of the original Riley Ridge wells on the Labarge project by perforating
additional areas of the well bore and re-fracing the wells. Schlumberger also
began completion activities on one of the wells on the Thompson acreage that had
been drilled in the fourth quarter of 2002. Depending on the results of these
activities, Infinity-Wyoming, through the agreement, could drill an additional
five to six wells on the Thompson acreage during 2004. Infinity-Wyoming also
expects to complete the Environmental Impact Study ("EIS") on the Labarge
acreage during the fourth quarter of 2004 or early in 2005. Management believes
that it will require between $4.0 million and $4.5 million in capital to pay for
the un-risked services for the drilling and completion work on wells drilled in
2004, if any, and the completion of the EIS.
26
The ability of Infinity-Wyoming to complete these activities is dependent
on a number of factors including, but not limited to:
- The availability of the capital resources required to fund the
activity. Infinity completed a private placement of 1,000,000 shares
of Infinity common stock in January 2004 which generated proceeds of
approximately $4.0 million (before offering costs) a portion of which
will help fund the development activities. Infinity-Wyoming also
expects to generate between $4.0 and $5.0 million in cash flow from
operations in 2004.
- The availability of third party contractors for drilling rigs and
completion services. Infinity-Wyoming has reduced the impact this
could have by contracting with Schlumberger to provide certain of
these services for the development of the Labarge acreage.
- The success of the completion efforts on the existing Labarge wells.
If Schlumberger is not satisfied with, or successful in its efforts
then they may elect not to risk their services and Red Oak may be
unwilling to secure financing for the further development of the
property. If this occurs, Infinity-Wyoming will be required to fund
the all of the development activities and may not be able to do so on
terms that are acceptable to management.
Infinity, Inc. Activity
Infinity continues to negotiate the final development agreement with INE
for the Perlas and Tyra blocks offshore Nicaragua. Management believes that it
should be able to complete the negotiations sometime in 2004. Upon completion
of the negotiations, Infinity will be required to post a performance bond for
the initial work to be done on the leases which will include an environmental
study and the development of geological information developed from additional
seismic evaluation. Infinity estimates the performance bond will approximate
$0.7 million and that Infinity will incur additional costs to complete the
negotiations and finalize the leases of approximately $0.1 million.
Infinity is also pursuing the acquisition of 25,000 acres in the Fort Worth
Basin of Texas. Development opportunities on the acreage will target principally
the Barnett Shale formation. As final terms of the agreement have not been
reached Infinity cannot determine what financial resources might be required to
complete the acquisition and exploration.
RESULTS OF OPERATIONS FOR THE YEAR ENDED DECEMBER 31, 2003 COMPARED TO THE YEAR
ENDED DECEMBER 31, 2002
Infinity incurred a net loss after taxes of $9.9 million, or $1.23 per
fully diluted share, in the year ended December 31, 2003 compared to a net loss
after taxes of $1.6 million, or $0.22 per fully diluted share in the year ended
December 31, 2002.
Infinity achieved a $4.6 million increase in gross profit to $9.1 million
in the year ended December 31, 2003 from $4.5 million for the year December 31,
2002. The increase in gross profit during the period ended December 31, 2003
compared to the period ended December 31, 2002 was the result of a $3.0 million,
or approximately 36%, increase in oil field service revenue to $11.6 million
from $8.6 million. The increase in revenue was partially offset by a $1.6
million, or 35%, increase in oil field service cost of services provided (See
"Oil Field Services" discussion below). Oil field service revenue for the year
ended December 31, 2002 was reduced by the elimination of $2.1 million of oil
field service sales that were provided to Infinity-Wyoming by Consolidated for
the development of its oil and gas properties and the cost of services
provided was reduced by $1.1 million for the cost of those services provided to
Infinity-Wyoming. The oilfield service subsidiary provided minimal services to
Infinity-Wyoming in the period ended December 31, 2003. Additionally, gross
profit comparisons were affected by a $4.2 million, or approximately 178%
increase in sales of oil and gas from $2.4 million for the period ended December
31, 2002 to $6.6 million in the period ended December 31, 2003 with a
corresponding increase of $0.6 million in oil and gas production costs and $0.5
million increase in production taxes in the 2003 period (See "Oil and Gas
Production" discussion below).
27
Operating expenses for the year ended December 31, 2003 increased $0.7
million from $4.6 million in the 2002 period to $5.3 million in the 2003 period.
In 2003, Infinity incurred approximately $0.6 million in expenses associated
with the detailed negotiations relating to a potential merger, which
negotiations were terminated in April 2003, and the process leading up to those
negotiations in which Infinity solicited and reviewed strategic alternatives.
Infinity and its subsidiaries also recognized additional depreciation, depletion
and amortization ("DD&A") expense of approximately $1.3 million during the year
ended December 31, 2003, an increase to approximately $3.1 million for the
period compared to DD&A of approximately $1.8 million for the period ended
December 31, 2002. The increase in DD&A was due to the increase in the
investment in Consolidated's fleet in 2002 and the increase in the depletion
rate on the oil and gas producing properties. Infinity-Wyoming also recognized a
$3.0 million ceiling write-down of its oil and gas properties based on the full
cost ceiling test for oil and gas properties subject to depletion. As a result,
Infinity recognized an operating loss of $2.3 million for the period ended
December 31, 2003, compared to an operating loss of $1.9 million for the period
ended December 31, 2002.
Interest expense and finance charges increased by $7.0 million to $7.8
million for the year ended December 31, 2003 compared to $0.8 million for the
year ended December 31, 2002. The increase was primarily due to the recognition
of $5.6 million of amortization of loan costs associated with the value of
warrants and options granted in conjunction with obtaining new debt financing
and the amortization of $0.6 million of cash loan costs paid when those same
loans were obtained. Infinity also experienced a $0.9 million increase in
interest expense in the 2003 period compared to the 2002 period due to the
increase in debt outstanding, higher interest rates on certain of the new notes
and a decrease in the amount of interest that was capitalized to undeveloped
properties as Infinity experienced a period of development inactivity during a
significant portion of 2003.
Infinity recognized a deferred income tax benefit of $1.1 million in the
year ended December 31, 2002. The net operating losses generated in the year
ended December 31, 2003 increased Infinity's net deferred tax asset. Due to
uncertainty as to the ultimate utilization of the net operating losses, the net
deferred tax asset has been fully reserved by a valuation allowance as discussed
in Note 11 of the consolidated financial statements. Therefore, Infinity has
reflected no net tax expense or benefit for the year ended December 31, 2003.
Oil Field Services
Sales for the year ended December 31, 2003 increased to $11.6 million from
$8.6 million, net of inter-company eliminations, in the year ended December 31,
2002. Infinity eliminated oil field services sales of $2.1 million from
revenues for sales of services to Infinity-Wyoming during the year ended
December 31, 2002. There were no material inter-company sales in 2003. Sales
of cementing services from Consolidated's Bartlesville, Oklahoma camp increased
by approximately $0.8 million and revenue from fracturing services from that
camp increased by approximately $1.3 million in the year December 31, 2003
compared to the comparable period in 2002. The increase in revenue was
primarily due to an increase in development activity during the second and third
quarters of 2003 as customers moved from the evaluation of their prospects to
the full scale development of their prospects in areas