SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D)
OF THE SECURITIES EXCHANGE ACT OF 1934
(Mark One)
[X] Annual report pursuant to section 13 or 15(d) of the Securities
Exchange Act of 1934 for the fiscal year ended May 31, 2002 or
[ ] Transition report pursuant to section 13 or 15(d) of the Securities
Exchange Act of 1934 for the transition period from to
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Commission file number 0-8773
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CRESTED CORP.
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(Exact Name of Registrant as Specified in its Charter)
Colorado 84-0608126
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(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
877 North 8th West
Riverton, WY 82501
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(Address of principal executive offices) (Zip Code)
Registrant's Telephone Number, including area code: (307) 856-9271
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Securities registered pursuant to Section 12(b) of
the Act:
NONE
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Securities registered pursuant to Section 12(g) of the Act:
COMMON STOCK, $0.001 PAR VALUE
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(Title of Class)
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
The aggregate market value of the voting stock held by non-affiliates of
the Registrant as of September 9, 2001 computed by reference to the average of
the bid and asked prices for the Registrant's common stock as reported by
National Quotation Bureau on Pink Sheets for the week then ended, was
approximately $1,861,000.
Class Outstanding at September 9, 2002
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Common Stock, $0.001 par value 17,114,276 shares
Documents incorporated by reference: Portions of the documents listed below have
been incorporated by reference into the indicated parts of this report as
specified in the responses to the item numbers involved:
Annual Meeting Proxy Statement for the fiscal year ended May 31, 2002
into Part III of the filing.
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 the 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. [ X ]
DISCLOSURE REGARDING FORWARD LOOKING STATEMENTS
This Annual Report on Form 10-K includes "forward-looking statements"
within the meaning of Section 21E of the Securities Exchange Act of 1934, as
amended (the "Exchange Act"). All statements other than statements of historical
fact included in this Report, are forward-looking statements, including without
limitation the statements under Management's Discussion and Analysis of
Financial Condition and Results of Operations and the disclosures about Rocky
Mountain Gas, Inc. and plans for developing its coalbed methane acreage. In
addition, whenever words like "expect," "anticipate" or "believe" are used, we
are making forward-looking statements.
Although we believe that our forward-looking statements are reasonable, we
don't know if our expectations will prove to be correct. Important future
factors that could cause actual results to differ materially from expectations
include: Domestic consumption rates for natural gas; domestic market prices for
natural gas, uranium, gold, and molybdenum; the amounts of gas we will be able
to produce from our coalbed methane properties; the availability of permits to
drill and operate coalbed methane wells; whether and when gas transmission lines
will be built to reasonable proximity to our coalbed methane properties; and
whether and on what terms the capital necessary to develop our properties can be
obtained. The forward-looking statements should be carefully considered in the
context of all the information set forth in this Annual Report.
PART I
ITEM 1 AND ITEM 2. BUSINESS AND PROPERTIES.
(A) GENERAL.
Crested Corp. (a Colorado corporation formed in 1970) and its parent
company U.S. Energy Corp. ("USE") are in the business of acquiring, exploring,
developing and/or selling or leasing mineral properties. In this Annual Report,
"we", "Company" or "Crested" refer to Crested Corp. unless otherwise
specifically noted.
In fiscal 2002, most of our business activity with our parent USE was
directed to the coalbed methane business, i.e., acquiring acreage, drilling
exploratory wells, testing the wells, and negotiating the purchase of a coalbed
methane ("CBM") producing field. The coalbed methane gas business is conducted
through Rocky Mountain Gas, Inc. ("RMG"), a Wyoming corporation owned 51.2% by
USE and 40.5% by Crested. At May 31, 2002, Crested is a 70% majority-owned
subsidiary of USE (see below). Properties of RMG are held in Wyoming and
southeastern Montana. As of the filing date of this Annual Report, RMG holds
approximately 280,486 gross mineral acres of coalbed methane properties.
We also hold an interest in cash flow produced from commercial properties,
most of which are located in Utah that were acquired as a part of a uranium
property and mill acquisition. In fiscal 2002, only the commercial properties
produced revenues. However, presently the Company's business priority is focused
mainly on CBM; mining activities may be reactivated in the future if the
commodities' prices improve and the capital markets for mining improve
significantly.
The Company also owns interests in mining assets, all of which now are in
"shut down" status. The uranium properties are located on Sheep Mountain in
Wyoming and in southeast Utah; we also hold a royalty interest in uranium claims
on Green Mountain, Wyoming, now held by Kennecott Uranium Company (see below).
The gold property is located in Sutter Creek, California, east of Sacramento.
Interests are held in other mineral properties (principally molybdenum), but are
either non-operating interests or undeveloped claims.
2
For detailed information about our coalbed methane properties and business
strategy, please see "Minerals - Coalbed Methane" below.
USE and Crested originally were independent companies, with two common
affiliates (John L. Larsen and Max T. Evans; Mr. Evans died in calendar 2002).
In 1980, USE and Crested formed a joint venture ("USECC") to do business
together (unless one or the other elected not to pursue an individual project).
As a result of USE funding certain of Crested's obligations from time to time
(due to Crested's lack of cash on hand), and Crested subsequently paying these
debts by issuing common stock to USE, Crested became a majority-owned subsidiary
of USE in fiscal 1993. In fiscal 2001, Crested issued another 6,666,666 shares
of its common stock to reduce Crested's debt owed to USE by $3.0 million, which
increased USE's ownership of Crested to 70%. All of the operations of Crested
and USE are in the United States. Principal executive offices are located in the
Glen L. Larsen building at 877 North 8th Street West, Riverton, Wyoming 82501,
telephone 307.856.9271.
Most of Crested's operations are conducted through the USECC Joint Venture
("USECC") with USE, and jointly-owned subsidiaries and affiliates of USE and
Crested. Assets, liabilities and operations of USECC are not consolidated on the
Company's financial statements as it is accounted for by the Company under the
equity method of accounting.
Until September 11, 2000, USE, USECC and Kennecott Uranium Company
("Kennecott") owned the Green Mountain Mining Venture ("GMMV"), which held a
large uranium deposit and uranium mill in Wyoming. On September 11, 2000, USE
and Crested settled litigation with Kennecott involving the GMMV by selling
their interest in the GMMV and its properties back to Kennecott for $3,250,000
and receiving a royalty interest in the uranium properties. Kennecott also
assumed all reclamation obligations on the GMMV properties. Other uranium
properties and a uranium mill in southeast Utah are held by Plateau Resources
Ltd., a wholly-owned subsidiary of USE. The Utah uranium properties are in a
care and maintenance status.
The gold assets held by Sutter Gold Mining Company ("SGMC"), a
majority-owned subsidiary of USE and the Company (owned 3.2% by Crested), are in
shut down status. Improved gold prices in calendar 2002 may permit raising the
necessary capital to put the assets into production or sell the assets in either
calendar 2002 or 2003.
(B) NARRATIVE DESCRIPTION OF BUSINESS (INCLUDING ITEM 2 - PROPERTIES).
MINERALS
The competitive conditions in our business are as follows:
COALBED METHANE
In the coalbed methane business and mining, USECC competes against many
companies, some of which are much larger and better financed than USECC. The
principal area of competition in the coalbed methane business (our currently
most active business area), is encountered in the financial ability to acquire
good acreage positions and drill wells to explore coalbed methane potential,
then, if warranted, drill production wells and install production equipment
(gathering systems, compressors, etc.). For example, Williams Company,
Marathon-Pennaco and Evergreen Resources (all public companies) are active in
the coalbed methane business in Wyoming and Montana. They acquire and sell
acreage, drill exploratory wells, and produce and sell coaled methane gas.
Additional competition is presented in acreage acquisition by a number of
private independent companies.
3
In fiscal 2001, we reported revenues from contract methane well drilling
and support services. Crested and USE sold off most of the equipment used in
these operations in fiscal 2002, retaining three drilling rigs for RMG
operations as needed, and construction activities are limited to a few small
projects in Riverton, Wyoming. USE and Crested contract out RMG's coalbed
drilling and construction work to third parties. Therefore, contract
drilling/construction no longer is a segment of our business.
GOLD
In the gold sector, we compete against Rio TInto plc, Barrick, AngloGold,
Newmont Mining, and other public companies with worldwide exploration and
production facilities. These companies have inventories of exploration,
development stage and producing properties, and inventories of refined gold.
Putting a gold property into production requires significant capital; these
companies, unlike USECC, have in place the financial capital, and the
engineering personnel, necessary to mine the minerals and build the related
infrastructure and production facilities. There are a number of small private
independent gold exploration companies in the United States, but they do not
compete with us.
MOLYBDENUM
We own a royalty interest in a molybdenum property in Colorado; the
property is owned by Phelps Dodge Corporation, a worldwide integrated minerals
company with inventories of exploration, development stage, and producing
properties, involving numerous metals and other minerals. We are not actively
engaged in the molybdenum business at the present time.
URANIUM
In the uranium sector, public companies like Cameco, Rio Tinto and Cogema
are the dominant uranium producers. They own inventories of exploration,
development stage and producing properties, and inventories of uranium oxide.
Although we have a fully-equipped mill in Utah, the mill is not operating and we
presently need additional capital to mine the minerals we own nearby and process
the material through the mill.
In the commercial operations area (significant in terms of fiscal 2002
revenues but not our primary business focus), USECC owns and manages an office
building (where our headquarters are located), and small parcels of land, all in
Riverton, Wyoming, and a small amount of additional acreage elsewhere in
Wyoming. We also own a townsite, a motel and convenience store, and other
commercial facilities in Utah. There is no significant competition in this area,
although parcels are sold from time to time, we are not in the land development
business.
(C) NARRATIVE DESCRIPTION OF BUSINESS (INCLUDING ITEM 2 - PROPERTIES).
MINERALS
COALBED METHANE
GENERAL. Rocky Mountain Gas, Inc. ("RMG") was incorporated in Wyoming on
November 1, 1999 for business in the coalbed methane industry in Wyoming and
Montana. RMG is a subsidiary of the Company (owned 51.2% by USE and 40.5% by
Crested).
Methane is the primary commercial component of natural gas produced from
conventional gas wells. Methane also exists in its natural state in coal seams.
Natural gas produced from conventional wells generally contain other
hydrocarbons in varying amounts which require the natural gas to be processed.
Methane gas
4
produced from coalbeds generally contains only methane and is pipeline-quality
gas after simple water dehydration.
Coalbed methane production is similar to conventional natural gas
production in terms of the physical producing facilities. However, the
subsurface mechanisms that allow gas movement to the wellbore are very
different. Conventional natural gas wells require a porous and permeable
reservoir, hydrocarbon migration and a natural structural or stratigraphic trap.
Coalbed methane gas is trapped (adsorbed) in the coal itself and in the water
contained in the pore space, until released by pressure changes when the water
in the coal is removed. In contrast to conventional gas wells, new coalbed
methane wells initially produce water for several months. As the formation water
pressure decreases, methane gas is released from the structure.
Methane is a common component of coal since methane is created as part of
the coalification process. Coals vary in their methane content as measured by
standard cubic feet per ton. Whether a coalbed will produce commercial
quantities of methane gas depends on the coal quality, its content of natural
gas per ton of coal, the thickness of the coalbeds, the reservoir pressure, the
existence of natural fractures, the permeability of the coal, and saturation
with water to help hold methane in the coal bed.
Methane production is a direct result of reducing the hydrostatic (water)
pressure in the coal formation. CBM field evaluation requires two principal
stages: First, drill a number of wells (typically eight or more in a 'pod') down
to the same coal formation, in contiguous 80 acre spacing per well, and test the
water contained in the formation from coal samples taken from the formation. The
water testing determines if the geochemical environment of the coal seam was
conductive to the formation of CBM in the coal. Second, assuming initial drill
and test data confirms CBM is present in the formation, install gathering lines
to hook up the wells and put the wells on pump to 'dewater' the coal formation.
Usually, for coals in the Powder River Basin, hydrostatic pressure must be
reduced to about 50% of initial pressure before enough data is obtained (water
flow rates, CBM gas flows) to determine how much CBM the wells may produce. This
dewatering stage may take 6 to 12 months. Production starts with the third
stage: Installing (or have a transmission company install) a compressor and
transport line to carry the produced gas to a gas transmission line for sale to
end users. Gas production starts gradually then continues to grow in volume as
hydrostatic pressure is reduced. Optimal production won't occur until the
hydrostatic pressure is reduced approximately 90% from initial levels. During
the initial gas production phase then and only then can reserves be established.
Due to the shallow coal seams in the Powder River Basin, of Montana and
Wyoming, the drilling, discovery, development and production of coalbed methane
has significant economic advantages compared with conventional natural gas
targets. Over the past several years, coalbed methane has become an important
source of pipeline quality gas in the United States.
The principal coals in the Powder River Basin ("PRB") include the thick
coal seams of the Tongue River member of the Paleocene Fort Union Formation,
which are among the thickest in the world. Individual coalbeds range in
thickness from a few feet up to 250 feet. A typical well might penetrate
multiple coal zones in depths over a 200 to 1,200 foot range. Based on reports
filed by other companies with the State of Wyoming, reserves per coalbed methane
well in the PRB can vary considerably but a typical estimate can exceed 300
million cubic feet (MMcf) of gas per well. Given the expected low drilling and
completion costs, these levels of reserves make coalbed methane wells attractive
to gas companies.
OVERVIEW OF RMG. As of the filing of this report, RMG holds leases and
options to develop approximately 280,486 gross mineral acres (including 43,711
acres we have options on) under leases from the United States Bureau of Land
Management, the states of Wyoming and Montana, and private landowners. Table 1
shows the total gross and net lease acres held in each prospect, and the amount
of such acreage held by RMG and by companies with which RMG has agreements
(CCBM, Inc. and Quaneco, L.L.C.). These agreements are summarized under "Carrizo
- - Purchase and Sale Agreement" and "Quaneco - Agreement."
5
Acreage data assumes CCBM completes its obligations; CCBM will own its 50%
working interest in wells drilled under CCBM's drilling fund commitment, but if
CCBM does not complete its purchase obligations, CCBM would not be entitled to a
working interest in the remaining undrilled acreage.
CCBM currently has purchase rights to acquire a 6.25% working interest in
the Castle Rock prospect, and owns a 6.25% working interest in eight wells in
Castle Rock, which were drilled by Suncor Energy Natural Gas America, Inc.
("SENGAI"). RMG's and CCBM's interests in the Castle Rock prospect, as shown in
Table 1, reflect the completion of SENGAI's drilling program in late calendar
2001. SENGAI elected not to exercise its option under an Option and Farmin
Agreement on February 8, 2002. See the summary below, and "SENGAI - Option and
Farmin Agreement."
Prospects are evaluated for coal potential using available public and
industry data, taking into account proximity to other positions held by RMG and
existing or planned gas transmission lines, and whether drilling and production
permits can be obtained and the costs thereof. The final decision to acquire a
prospect is made by the president of RMG. Well drilling and testing is done by
outside contract drilling companies. Drilling results (cores, gas and water flow
rates, and other data) are evaluated by RMG staff, using customary technical
methods, to determine if any zones encountered in the well should be completed
for production. Completion requires setting casing pipe down to the zone(s),
installing pumps, and installing and setting up the necessary surface equipment
(for example, water disposal lines and water holding tanks for evaluation wells
in Montana, pending production permitting approval and water holding ponds in
Wyoming). The decision whether to complete the well is made by RMG's president.
Table 1 reflects RMG's, Quaneco's and CCBM's acreage position as of the
filing of this report. Table 1 does not reflect the reduction in net acreage
held by RMG if Anadarko Petroleum, Inc. exercises its option to back in for a
25% working interest on 43,711 gross acres within the Oyster Ridge prospect.
Also, 43,711 of the acres shown as held in Oyster Ridge, assume we continue to
earn acreage under the drill-to-earn-acreage provisions of the option agreement
with Anadarko. See "Description of Prospects - Oyster Ridge" below.
TABLE 1
Project
and Date Gross Lease Net Lease RMG Net Quaneco Net CCBM Net
Acquired Acres Acres Acres Acres Acres
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Castle Rock 123,840 111,567 48,811 55,784 6,973
Jan. 2000
Kirby 80,254 74,512 18,628 37,256 18,628
Jan. 2000
Bobcat 1,940 930 465 0 465
June 2002
Oyster Ridge 65,247 65,247 25,729 0 25,729
Dec. 1999
Clearmont 6,305 3,745 1,873 0 1,873
Jan. 2000
Sussex 640 640 320 0 320
Jan. 2000
Finley 160 160 80 0 80
Jan. 2000
Baggs North 120 120 60 0 60
Jan. 2000
Gillette North 80 80 40 0 40
Jan. 2000
Arvada 1,900 1,700 850 0 850
Jan. 2000
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TOTAL 280,486 258,701 96,855 93,040 55,018
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6
RMG owns a 25% working interest (20% net revenue interest) on 80,254 gross
and 74,512 net acres in the Kirby prospect (southeast Montana) and a 50% working
interest (from 30% to 50% net revenue interest) on 73,492 net acres in other
prospects (all in Wyoming). RMG owns a 43.75% working interest (35% net revenue
interest) in the Castle Rock prospect on 123,840 gross and 111,567 net acres in
southeast Montana. CCBM, Inc., a subsidiary of Carrizo Oil and Gas, Inc., can
purchase a 6.25% working interest in our acreage (6,973 net acres) of the Castle
Rock prospect if they meet certain payment obligations. In July 2001, we sold a
50% working interest in all our coalbed methane leases, except at Castle Rock,
to CCBM for $7,500,000, plus other considerations. The acreage data above
reflects this transaction.
CCBM will pay up to $5,000,000 for drilling and completing coalbed methane
wells on the properties owned by RMG and CCBM. Drilling started on the Clearmont
prospect in Wyoming in August 2001. This drilling program should be sufficient
to drill a total of approximately 60 coalbed methane wells to completion or
abandonment stage. We have a carried working interest in all of the wells
drilled in these programs.
As of August 15, 2002, RMG had set casing on 31 wells (80 acre spacing
units) at the Clearmont prospect and are now in the process of drilling
additional wells. No reserves have been established to date. Drilling permits
for 58 additional wells have been issued for the Clearmont prospect.
A total of 58 wells have been drilled on RMG acreage to through May 31,
2002: five in fiscal 2001 and 53 in fiscal 2002. Nineteen of the wells were
drilled by SENGAI in Castle Rock under the terms of the Suncor Option and Farmin
Agreement (see below). Eleven of those 19 wells were stratigraphic wells and
will be reclaimed by Suncor; 8 of those 19 wells were completed and are owned by
RMG (93.75% working interest) and CCBM (6.25% working interest), as Quaneco
opted out of maintaining a working interest in the 8 wells. Other than the
Castle Rock wells, RMG and CCBM both have a 50% working interest in all of these
wells (see Table 2 below).
As of May 31, 2002, CCBM and RMG have spent approximately, $2,245,000 of
the $5,000,000 drilling fund. RMG is relying on the $2,755,000 balance to pay
for 100% of the drilling and completion costs on up to 33 more wells currently
permitted, for which work is scheduled from August 2002 through September 2002:
16 wells on the Clearmont prospect (estimated costs $1,255,000); 9 wells on the
Bobcat prospect (estimated costs $800,000); and 6 wells on the Arvada prospect
(estimated costs $550,000); and 2 wells on the Oyster Ridge prospect (estimated
cost $150,000) Like previous wells drilled with the CCBM drilling fund, RMG will
have a 50% carried working interest with no financial obligation to RMG for
drilling and completion costs until after CCBM has spent $5,000,000. Work would
be delayed if CCBM were not able to fund these costs. Presently, USE and RMG do
not have the capital resources to fund these costs, and would have to obtain the
necessary capital from other industry partners or from sale of equity in USE or
RMG.
Future annual financial obligations for the coalbed methane properties are
approximately $286,300 for fiscal 2003 in acreage rental fees to lessors, which
will be paid 50% by RMG and 50% by CCBM on all acreage except Castle Rock, and
21,536 acres within Oyster Ridge which are not covered by the option with
Anadarko. Those costs and fees for Castle Rock will be paid 43.75% by RMG, 6.25%
by CCBM, and 50% by Quaneco, except for the eight wells owned by RMG and CCBM,
which will be paid 93.75% by RMG and 6.25% by CCBM.
Table 2 shows the wells drilled on RMG's prospects from June 1, 2000
through May 31, 2002. Under the agreement with Carrizo, RMG has a carried
working interest in all these wells (with the exception of a $156,634 payment
that was made by RMG to cover 50% of a non-consent cost for 12 wells; CCBM also
paid $156,634 to cover 50% of their cost in acquiring a non-consent working
interest in those 12 wells), as CCBM has paid for all drilling and completion
costs on the wells other than the 19 Castle Rock wells. RMG has a carried
working interest in the 8 Castle Rock wells which were completed (out of the 19
drilled in that
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prospect), as SENGAI paid for all drilling and completion costs on the 8 Castle
Rock wells under a drilling program completed in December 2001. RMG owns a
93.75% working interest and CCBM owns a 6.25% working interest in the 8 Castle
Rock wells (CCBM paid for its interest in these wells, see "SENGAI - Option and
Farmin Agreement"). With the exceptions noted above, all the wells on the Oyster
Ridge, Clearmont and Arvada prospects have been drilled at CCBM's sole expense
since its participation began on June 30, 2001. Table 2 lists the number of
wells drilled, the total costs and the remaining number of wells currently
permitted for drilling as of May 31, 2002.
TABLE 2
ROCKY MOUNTAIN GAS, INC.
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PROSPECT FY 2001 FY 2002 TOTAL Remaining
(6/1/00 - 5/31/01) (6/1/01 - 5/31/02) Permits
Wells $ Wells $ Wells $
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Castle Rock 3 $ 283,894 19* $ 2,500,000 22 $ 2,783,894 15
Kirby 0 $ -- 0 $ -- 0 $ -- 6
Oyster Ridge 2 $ 150,503 5 $ 464,170** 7 $ 614,680 0
Clearmont 0 $ -- 28 $ 1,470,351 28 $ 1,470,351 59
Arvada 0 $ -- 1 $ 64,790 1 $ 64,790 3
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TOTAL 5 $ 434,397 53 $ 4,499,318 58 $ 4,933,715 83
- -----------------------------------------------------------------------------------------------------------------
* Drilled by SENGAI
** These costs include an additional $169,314 spent on the two wells
drilled during fiscal 2001.
BOBCAT PROPERTY. On April 12, 2002, USE and RMG signed an agreement to
purchase working interests in approximately 1,940 gross acres of coalbed methane
properties in the Powder River Basin of Wyoming. The contract closed on June 4,
2002. USE paid the seller $500,000 cash and another $150,000 by issuing 37,500
shares of its restricted common stock to the seller; CCBM paid $500,000 cash to
the seller and Carrizo Oil & Gas, Inc. issued restricted shares of its common
stock valued at $150,000. The properties are located approximately 25 miles
north of Gillette, Wyoming, in Campbell County. To date, 18 coalbed methane
wells have been drilled; 13 wells are currently hooked up and producing at a
combined rate of approximately one million cubic feet of gas per day (1,000 mcf)
from the two primary coals on the property: the Cook coal (11 wells) at 650
feet, and the Canyon coal (2 wells) at 450 feet. Production began in late
December 2001. Currently, RMG is planning to add equipment to increase the
production rate.
Permits have been issued to the seller for drilling 30 more wells on 80
acre spacing.
CCBM has exercised its right to participate in purchase of the Bobcat
property, for 50% of the interests in the property subject to the agreement. For
information on agreements with CCBM, please see "Carrizo - Purchase and Sale
Agreement" below. RMG will be the operator of the properties.
The seller keeps as an overriding royalty interest all net revenue interest
in the properties in excess of 80%. RMG and CCBM each hold an average of 31%
working interest and an average of 25% net revenue interest, in the drilled
wells.
8
CARRIZO - PURCHASE AND SALE AGREEMENT. On July 10, 2001, RMG closed a
Purchase and Sale Agreement with CCBM, Inc., a Delaware corporation which is
wholly-owned by Carrizo Oil & Gas, Inc., Houston, Texas (NMS "CRZO"). The
agreement between CCBM and RMG is intended to finance the further development of
the acreage prospective for coalbed methane currently owned by RMG in Montana
and Wyoming, and to acquire and develop more acreage in Wyoming and the Powder
River Basin of Montana.
RMG has assigned CCBM an undivided 50% interest in all of RMG's existing
coalbed methane properties (with the exception of Castle Rock of which only a
6.25% working interest was assigned) for a purchase price of $7,500,000 by a
promissory note payable in principal amounts of $125,000 per month plus interest
at an annual rate of 8%, over 41 months (starting July 31, 2001) with a balloon
payment due on the forty-second month. These properties consisted of the Kirby,
Oyster Ridge, Clearmont, Sussex, Finley, Baggs North, and Gillette North
properties. The 50% undivided interest is pledged back to RMG to secure the
purchase price, and will be released 25% when 33.3% of the principal amount
($2,500,000) of the purchase price is paid, another 25% when total principal
payments reach 66.6% of the principal amount ($5,000,000) of the purchase price,
and the balance of the total 50% undivided interest when all of the principal
amount ($7,500,000) of the purchase price, has been paid.
CCBM has the right to participate in other properties RMG may acquire (like
the Bobcat property) under the area of mutual interest ("AMI"), see Agreement
for Purchase of the Bobcat Property" above, and information on the AMI below.
To start development, and as part of the consideration for the acquisition,
CCBM agreed to pay $5,000,000 to drill and complete from 30 to 60 wells on the
coalbed properties. RMG will be "carried" for its 50% interest in these wells,
and will not be required to pay any of such costs. After the initial $5,000,000
has been spent, RMG and CCBM each will pay for their 50% share of costs in
subsequent wells, and also will pay for their 50% share of operating costs for
the wells drilled and completed in this drilling program. Without CCBM's
consent, none of the drilling funds can be used for operations associated with
water disposal wells, gas compression beyond 100 PSIG, or for facilities
downstream of compression beyond 100 PSIG. CCBM will earn a 50% working interest
in each well location (80 acres) and gas production therefrom, regardless of the
status of payments on the promissory note.
Drilling under the CCBM agreement started in August 2001. As of May 31,
2002, CCBM has spent approximately $2,245,000 of the $5,000,000 work commitment
on the drilling of 22 wells at Clearmont, 4 wells at Oyster Ridge, 1 well at
Arvada, and has funded $225,000 of the drilling conducted by SENGAI in Montana
as part of the Quaneco agreement. Amounts remaining out of the $5,000,000 will
be used for drilling during the remainder of fiscal 2002 and on into fiscal year
2003, or applied to property acquisitions, as agreed upon by the parties. If
less than the entire $5,000,000 is spent within two years (subject to extensions
due to force majeure), CCBM shall pay RMG one-half the unspent portion of the
$5,000,000. However, this payment obligation back to RMG is subject to RMG
complying with all of the terms and provisions of the Purchase and Sale
Agreement, the joint operating agreement, and the procedures therein set forth
regarding authorizations for expenditures to drill $5,000,000 worth of
"reasonable wells." This means wells which meet these economic criteria: (1)
individual well cost (including hook-up to sales) must meet a projected internal
rate of return in excess of 15% at prevailing market prices; (2) the wells must
be on acreage blocks that are touching and contain minimum sizes (Kirby
prospect, at least 2,560 acres; Clearmont, at least 640 acres; and Arvada, at
least 480 acres); and (3) no more than 10 wells per calendar year at Oyster
Ridge will qualify as reasonable. The intent is for CCBM to spend $2,500,000 on
behalf of RMG on drilling and completing "reasonable wells." If CCBM fails to do
this despite a total of $5,000,000 of reasonable well proposals by RMG, then
CCBM shall be obligated to pay any remaining unspent portion of the $2,500,000
directly to RMG.
9
In addition to its one-half share of revenues in proportion to its one-half
share of the working interest, CCBM will be entitled to a credit (applied as a
prepayment of the purchase price for the undivided 50% interest in RMG's
acreage), equal to 20% of RMG's net revenue interest from wells drilled with the
$5,000,000 drilling budget, until the amount of that credit in favor of CCBM
equals $1,250,000.
RMG is the designated operator under a Joint Operating Agreement between
RMG and CCBM, which governs all operations on the properties subject to the
Purchase and Sale Agreement between RMG and CCBM subject to pre-existing JOA's
with other entities, and operations or properties in the area of mutual interest
("AMI"). The AMI four-year term ends June 30, 2005. It covers the entire state
of Wyoming, and the Powder River Basin of Montana, but will be reduced if CCBM
does not obtain at least $20 million for future property acquisitions (see
below).
A management committee oversees all operations subject to the Purchase and
Sale Agreement, with two members each from CCBM and RMG, however, RMG shall have
a tie-breaking vote until the $5,000,000 drilling commitment has been expended
and until the purchase price has been paid. Once the $5,000,000 drilling
commitment has been expended and the full purchase price is paid, RMG will
allocate (with Quaneco's consent) to CCBM one of RMG's managing member positions
with Powder River Gas LLC, which is the operative entity for the Montana acreage
RMG holds with Quaneco L.L.C.
With respect to the Castle Rock prospect in Montana, which was subject to
the agreement with SENGAI, RMG was entitled to have CCBM pay for $225,000 of
RMG's drilling obligations; for this funding (part of the $5,000,000 drilling
program with CCBM), CCBM received an undivided 6.25% working interest on each
well so drilled and the 80 acre spacing allocated to each such well, i.e.
one-half of RMG's 12.5% working interest, during the SENGAI drilling program.
CCBM made the $225,000 payment to RMG on March 26, 2002, and RMG has
subsequently paid SENGAI that amount to fulfill its obligations to SENGAI and
Quaneco. See "Quaneco - Agreement" and "SENGAI - Option and Farmin Agreement."
Under the Purchase and Sale Agreement with CCBM, CCBM will use its best
efforts to obtain financing to raise no less than $20,000,000 to be used by RMG
to acquire more properties in the AMI. CCBM would have a 50% working interests
in properties so acquired. If CCBM's efforts were not successful by June 30,
2002, the AMI was to be reduced to a 6-mile radius from all existing properties
held jointly by RMG and CCBM unless RMG agreed to an extension of this time
frame. RMG has extended the time frame for CCBM raising the funds, to June 30,
2003.
QUANECO - AGREEMENT. On January 3, 2000, RMG purchased a 50% working
interest and 40% net revenue interest in the Castle Rock and Kirby prospects in
the Powder River Basin of southeast Montana consisting of approximately 185,000
net mineral acres from Quaneco, L.L.C. (formerly Quantum Energy, L.L.C.,
Cleveland, Ohio and Oklahoma City, Oklahoma). The acreage includes 88,410 net
acres of Bureau of Land Management ("BLM") land, 14,916 net acres of state land
(Montana), and 82,775 net acres of fee land. In fiscal 2000 and 2001, RMG paid
Quaneco the cash purchase price of $5,500,000 for the acreage.
A separate provision in the Quaneco agreement required RMG to spend
$2,500,000 to drill and complete 25 wells. Under the subsequent Option and
Farmin Agreement with SENGAI, SENGAI paid $2,000,000 in their first drilling
program on this prospect, and RMG paid $250,000. Of this amount, $225,000 was
paid to RMG by CCBM and subsequently paid over to SENGAI, leaving RMG with a net
obligation of $25,000, which was paid. RMG had previously performed work and
paid costs for a credit of approximately $250,000 on the Castle Rock and Kirby
prospects. All of RMG's drilling obligations to Quaneco therefore have been
fulfilled.
The Kirby prospect, owned originally by RMG and Quaneco, and now CCBM as
well, is operated through Powder River Gas, LLC, a Wyoming limited liability
company. Initial CBM well sites have been
10
selected by the management committee in which Quaneco and RMG currently have
equal representation. USECC has the right to provide drilling services on the
first 25 wells drilled by Powder River Gas, LLC based on competitive drilling
rates in the area surrounding the wells to be drilled. Thereafter, USECC will
have the right to submit bids on a competitive basis to Powder River Gas LLC for
drilling contracts on additional acreage. CCBM has recently acquired 50% of
RMG's interest in the Kirby prospects leaving ownership interest at 25% RMG, 25%
CCBM, and 50% Quaneco.
SENGAI - OPTION AND FARMIN AGREEMENT. On February 8, 2001, RMG closed an
Option and Farmin Agreement with Suncor Energy Natural Gas America, Inc.
("SENGAI"). SENGAI had an option on two blocks of acreage covering 111,566 net
acres in southeast Montana; the option on the second block of acreage was
contingent upon SENGAI exercising its option on the first block of acreage. The
option on the first block of acreage expired on February 8, 2002 without
exercise.
Under the Option and Farmin Agreement, SENGAI committed to pay for all
costs up to $2,000,000 in a $2,250,000 drilling program on the first block of
acreage, starting in the fall of 2001. RMG had to pay the remaining $250,000 for
the drilling program (on its behalf and for Quaneco LLC, which completes RMG's
drilling commitment to Quaneco; see below). SENGAI had to complete the drilling
program regardless of whether it exercised the options. SENGAI completed this
program in the fall of 2001.
As the first option was not exercised, all of the work paid for under the
drilling program will benefit RMG (and now CCBM and Quaneco in their respective
working interests), and SENGAI has no rights in the Castle Rock prospect or in
any wells drilled on it.
The SENGAI drilling program neither established CBM reserves or condemned
the drilled acreage as unproductive. RMG believes that SENGAI declined to
exercise the option based on SENGAI's evaluation of incomplete data generated by
SENGAI's drilling program, which SENGAI designed and executed. When SENGAI
drilled the 19 exploratory wells under its option on the Castle Rock prospect,
SENGAI did not utilize the best available procedures to detect possible CBM
content. In addition, 6 of the wells were drilled in a pod configuration but 5
of the 6 were drilled into separate coal seams, even though efficient dewatering
requires multiple close-spaced wells into the same coal. Eleven other of the
SENGAI-drilled wells confirmed the presence of coal at the depths originally
estimated by RMG, but otherwise insufficient data was generated by the drilling
and testing of these 11 wells to determine if the coal might e productive of
CBM.
RMG, Quaneco and SENGAI have signed a Project Completion Agreement, whereby
Powder River Gas L.L.C. (an operating company owned equally by RMG and Quaneco)
will become the operator of record for the Castle Rock properties and SENGAI's
working interest will revert to 0% in the project. In addition, RMG has elected
to accept a 93.75% working interest in (and RMG will operate) 8 completed wells
in the Castle Rock area. CCBM has a 6.25% working interest in these 8 wells.
Although the data on the 8 wells to be retained by RMG is incomplete (which
wells were drilled by SENGAI), RMG will further evaluate the data. If the
results are favorable, RMG will start dewatering these wells and establish a pod
grid to drill and complete more wells around each existing well to maximize
dewatering efficiency. As with any CBM project, a substantial amount of
dewatering of pods of wells into the same coal is necessary before the economics
of the wells can be assessed. RMG has not prepared a budget or timetable for
this future work, but expect to do so by March 31, 2003.
DESCRIPTION OF PROSPECTS
Leases of federal mineral rights are obtained from the United States Bureau
of Land Management and expire from 2004 to 2009, unless RMG establishes
production on the lease, in which event the lease is held so long as coalbed
methane or other gas or oil is produced. A royalty interest of 12.5% on the
production is
11
paid to the BLM. State leases expire from 2003 to 2004 in Wyoming and Montana,
unless RMG establishes production on the lease, in which event the lease is held
so long as coalbed methane or other gas or oil is produced. The royalty paid to
the State of Wyoming is from 12.5 % to 16.67%, and 12.5% to the State of
Montana. Annual renewal fees for non-producing Federal leases is $1.50 to $2.00
per acre, and $1.00 and $1.50 for non-producing Wyoming and Montana leases.
Leases on private (fee) land for coalbed methane and conventional gas
expire at various times from 2003 to 2011, unless production is established, in
which event the lease is held so long as there is production. The landowner is
paid a royalty from production of 12.5% to 20.0% , depending on the lease terms.
For description of leases, see Table 3 below.
TABLE 3
ROCKY MOUNTAIN GAS, INC.
- ------------------------------------------------------------------------------------------------------------------------
Gross Leased Net Leased Net Leased Net Leased Net Leased Net Leased
Prospect Acres Acres from BLM from State of from State of from Private
Wyoming Montana Owners
- ------------------------------------------------------------------------------------------------------------------------
Castle Rock 123,840 111,567 55,104 0 10,860 45,603
Kirby 80,254 74,512 33,305 0 4,056 37,151
Oyster Ridge* 21,536 21,536 17,107 1,229 0 3,200
Clearmont 6,305 3,745 0 640 0 3,105
Sussex 640 640 0 640 0 0
Finley 160 160 0 160 0 0
Baggs North 120 120 0 120 0 0
Gillette North 80 80 0 80 0 0
Arvada 1,900 1,700 1,200 0 0 500
- ------------------------------------------------------------------------------------------------------------------------
Bobcat 1,940 1,940 0 0 0 1,940
- ------------------------------------------------------------------------------------------------------------------------
*Does not include 43,711 under option from Anadarko Petroleum. See
"Description of Properties - Oyster Ridge."
CASTLE ROCK: The Castle Rock project consists of 123,840 gross and 111,567
net acres located in the northeastern portion of the Powder River Basin of
Montana, west of Broadus, Montana. Coals present are in the Tongue River member
of the Fort Union formation and appear comparable to coals currently being
developed by other operators south of the Castle Rock acreage near the
Montana/Wyoming border. Currently, there are no pipelines in this area. The
federal leases generally have 10-year terms and fee and state leases generally
have two to five year terms.
KIRBY: The Kirby project consists of 80,254 gross and 74,512 net acres
located in the northwestern portion of the Powder River Basin in Montana located
in Big Horn and Rosebud Counties, Montana, north of Sheridan, Wyoming. Coals are
in the lower portion of the tertiary Fort Union formation and are similar to
productive coals in the Wyoming portion of the Powder River Basin to the south.
Redstone (recently acquired by Montana Dakota Utilities) has established
significant coalbed methane production 12 miles south of Kirby at the CX field.
At least two other operators are currently planning to drill and develop nearby
12
acreage. CMS's Bighorn Gas Gathering recently extended a new 20" pipeline to
within 10 miles of the Kirby project. Three exploration wells are currently
scheduled to be drilled at Kirby during the summer of 2002.
OYSTER RIDGE: The Oyster Ridge project consists of 65,247 gross and net
acres located in southwestern Wyoming in the Ham's Fork Coal Field adjacent to
the Green River Basin. RMG and CCBM have a 100% working interest (50% each) in
21,536 acres within Oyster Ridge.
Anadarko Petroleum, Inc. is successor to Union Pacific Land Resources
Corporation, which sold the acreage subject to UPLRC's back in option to third
parties, from whom RMG acquired the acreage in December 1999.
The agreement with Anadarko is a drill-to-earn-acreage agreement: RMG must
drill at least four wells each year, each on a new section (640 acres), to earn
a lease on each drilled section , and also to keep in force previously earned
leases in the 43,711 acres areas. Wells drilled by seller, and by RMG (with
CCBM), have earned 3,200 acres, which are included in the 21,536 acres leased
presently. As of March 31, 2002, RMG has met its drilling obligations for the
year ended March 31, 2002. Under the terms of the agreement, RMG must drill 4
additional wells by March 31, 2003 to keep its agreement in force. RMG expects
to meet this drilling commitment.
Within this prospect, 43,711 gross acres are subject to an option held by
Anadarko Petroleum, Inc. to participate as a 25% working interest owner on all
wells drilled each year. Anadarko has not yet elected to participate, and has no
working interest in the seven wells drilled to date on this prospect. If
Anadarko elects to participate in the future, working interest ownership in
affected wells would be of 37.5% RMG, 37.5% CCBM, and 25% Anadarko.
The area is prospective for coalbed methane production from two primary
Cretaceous age coals, the Frontier and the Adaville. The Kern River pipeline,
which services southern California, crosses the property. Exploratory drilling
and completion operations on previously drilled wells resumed at Oyster Ridge in
June, 2001. To date, $621,128 has been spent on 7 exploratory wells.
CLEARMONT: The Clearmont project consists of approximately 6,305 gross and
3,745 net acres located in the western Powder River Basin of Wyoming. RMG (and
now CCBM jointly) owns working interests ranging from 25% to 100%. The area is
characterized by several shallow Fort Union coalbeds (most notable the Roland
and Anderson coals) as well as several deeper coals that hold significant
exploration potential. Substantial coalbed methane production and development is
ongoing in the immediate area including Federated's Box Elder Creek project 12
miles to the west and the Penneco/CMS Wild Horse Creek project 15 miles to the
east. The Clearmont project is located at the convergence of the WBI Bitter
Creek and the Bighorn Sheridan Lateral pipelines. A 28 well exploration and
development drilling program began at Clearmont in August 2001 and could be in
production in 2002 or early 2003 depending on drilling results and gas prices.
To date, $2,247,000 has been spent on drilling and infrastructure at Clearmont.
Nineteen of the existing 31 wells at Clearmont have been on full-scale
dewatering since June 2002. These 19 wells are hooked up to a gas gathering
system but no gas will be sold until the compressor is set up (see below). The
remaining 12 wells will start dewatering and be hooked up to a gas gathering
system in 2003. In addition, another 16 wells will be drilled and completed and
put on dewater pumps; it is expected that this added 16 well project will be
started in September 2002. We expect to have sufficient data to evaluate the
economics of Clearmont in the second or third calendar quarter 2003.
During 2003, RMG expects to begin selling gas produced from the Clearmont
wells to CMS field Services, Inc. pursuant to a gas purchase contract. In the
third calendar quarter 2002, RMG will complete
13
construction of a field gathering system (for delivery and initial compression
of the gas) to Bighorn Gas Gathering, LLC. Bighorn has signed a gas gathering
agreement with RMG to deliver gas collected from RMG's system to CMS, and
Bighorn expects to have its system built from Clearmont to a gas transmission
pipeline in the fourth calendar quarter 2002.
SUSSEX: RMG and CCBM hold 640 gross and net acres in this project area
located in Johnson County, Wyoming. This State lease lies 3 miles south of
Sussex, Wyoming. RMG has a 100% working interest. To date, RMG has not conducted
any significant development on the property.
FINLEY: RMG and CCBM hold 160 gross and net acres in this project area
located in Converse County, Wyoming. This prospect is a State lease 12 miles
east of Edgerton, Wyoming. Review for a two well test is underway. To date, RMG
has not conducted any significant development on the property.
BAGGS NORTH: This prospect contains 120 gross and net acres located in
Carbon County, Wyoming. This State lease is located 7 miles north of Baggs,
Wyoming. RMG and CCBM hold a 100% working interest in this prospect. To date,
RMG has not conducted any significant development on the property.
GILLETTE NORTH: RMG and CCBM holds a 100% working interest in 80 gross and
net acres in this project area located in Campbell County, Wyoming. This State
lease lies at the north end of the City of Gillette. Existing coalbed methane
wells lay in the section immediately north. Permitting of two wells has begun on
RMG's property. RMG intends to conduct test drilling and production techniques
in this area which lies in the heart of the current coalbed methane play in the
Gillette area. To date, RMG has not conducted any significant development on the
property.
ARVADA: This prospect contains 1,900 gross acres and 1,700 net acres
located in Sheridan County, Wyoming. RMG and CCBM hold a 100% working interest,
and a 62% to 81.5% net revenue interest. To date, RMG and CCBM have spent
$64,428 on the drilling of one 1,471' deep test well and are analyzing the
drilling results. Subject to good results from further exploratory drilling, RMG
anticipates constructing a field gathering system on the Arvada property in
mid-calendar 2003 and begin production sales in the third calendar quarter 2003.
Gas gathering and production sales are covered by agreements with Bighorn Gas
Gathering, LLC and CMS Field Services, Inc.
COALBED METHANE WELL PERMITTING. Drilling coalbed methane wells requires
obtaining permits from various governmental agencies. The ease of obtaining the
necessary permits depends on the type of mineral ownership and the state in
which the property is located. Intermittent delays in the permitting process can
reasonably be expected throughout the development of any play. For example,
there is currently a temporary moratorium for drilling coalbed methane wells on
fee and state lands in Montana. RMG may shift its exploration and development
strategy as needed to accommodate the permitting process. As with all
governmental permit processes, there is no assurance that permits will be issued
in a timely fashion or in a form consistent with our plan of operations.
On March 16, 2000, the Northern Plains Resource Council, Inc. ("NPRC")
filed suit against the Montana Board of Oil and Gas Conservation (Board)
requesting an order of the court compelling the defendant to prepare a Draft
Environmental Impact Statement ("EIS") and amendment of the Powder River and
Billings Resource Management Plans for coalbed methane development, which could
further delay development. RMG and others have filed a motion to intervene to
participate in this litigation and to ensure that some drilling can be performed
during any environmental analysis. The Board has agreed to limit issuance of CBM
well permits to 200 (of which RMG received 79) pending completion of the EIS,
which is currently scheduled to be completed in the summer of 2002.
14
The Wyoming Department of Environmental Quality Supplemental Environmental
Impact Statement (SEIS) for the Powder River Basin in Wyoming, issued in the
fall of 1999, allowed the permitting of 5,000 CBM wells to be drilled on Federal
lands in Wyoming. More CBM well applications have been submitted causing the BLM
to begin a second EIS for the Powder River Basin Area in Wyoming. The new draft
EIS is scheduled to be completed in the fall of 2002. Development on Federal
lands in Wyoming has been stopped with the balance of the Wyoming Department of
Environmental Quality EIS permitted wells (4,000) occurring on fee and state
lands. The BLM completed an environmental assessment ("EA") in March 2001,
reviewing drainage issues, which could allow an additional 1,500 new CBM well
permits in the Gillette region of the Powder River Basin. The EA and EIS may
impact RMG's operations, as the Arvada prospect is within the affected area, and
RMG expects to begin applying for permits in these prospects in late 2002.
In addition, the Wyoming and Montana Departments of Environmental Quality
have regulations applying to the surface disposal of water produced from CBM
drilling operations. CBM operators are currently seeking changes in permit
requirements and department policy that would allow operators more flexibility
to discharge water on the surface. If these changes are not made, it may be
necessary to install and operate treatment facilities or drill disposal wells to
reinject the produced water back into the underground rock formations adjacent
to the coal seams or lower sandstone horizons. If RMG cannot obtain the
appropriate permits or if applicable laws or regulations require water to be
disposed of in an alternative manner, the costs to dispose produced water will
likely increase. These costs could have a material effect on operations in this
area, including potentially rendering future production and development in the
affected areas uneconomic.
RMG has received an Environmental Assessment ("EA") and Finding of No
Significant Impact ("FONSI") to drill up to 56 shallow gas sand wells. These
wells are located on Federal land held with Quaneco and would be converted to
production status upon receiving approval from the Montana Board of Oil and Gas.
These wells would evaluate potential CBM production as well as conventional gas.
Regarding other acreage held with Quaneco in Montana, the State of Montana may
lift its moratorium for CBM wells on private and state ground in Montana, and
start issuing new permits on these lands in summer 2002 (a voluntary moratorium
is currently in place for wells on private and state ground in Montana). RMG has
not determined to what extent it will participate in this procedure, and is
evaluating how best to protect its position to have reasonable exploration for
CBM wells proceed on state and fee ground. RMG has permits in place in order to
conduct exploration in expectation that commercial production will be approved
on completion of the EIS.
In August 2001, Montana and Wyoming announced an agreement for water
quality officials in both states to coordinate monitoring of water flows in the
Powder River and Little Powder River drainages, to determine the impact of
coalbed methane well water production on river water. Although usually well
water is drinkable, it may contain high sodium absorption ratios, which can
impair use of the water for irrigation purposes in clay-based soils. The
respective agencies will propose regulations to establish thresholds for
potential pollutants and require strict monitoring by local water quality
officials. If test results indicate some well water flows adversely impact river
water quality, operators could be required to put the water flow into holding
ponds or take other steps to eliminate or reduce water flows or pollutants in
the water. Implementation of the agreement may benefit continued coalbed methane
development in these areas by opening up the water discharge permitting process
in the affected areas, as water testing is completed in phases on prospects
within the affected drainage areas. Currently, RMG dos not have acreage that
would be impacted by these regulations but future acreage could be acquired in
the affected areas.
15
The following summarizes permits now in place.
TABLE 4
- --------------------------------------------------------------------------------
Expiration
Prospect Remaining Permits or Renewal Date
- --------------------------------------------------------------------------------
Castle Rock 15 04/17/2003 and 10/17/2002
- --------------------------------------------------------------------------------
Kirby 6 01/01/03
07/31/2002; 08/30/2002; 09/26/2002;
- --------------------------------------------------------------------------------
Clearmont 59 10/24/2002; 11/01/002; 11/02/2002;
02/04/2003,
03/15/2003, 07/31/03 and 08/30/03
- --------------------------------------------------------------------------------
Arvada 3 11/12/2002
- --------------------------------------------------------------------------------
Bobcat 30 12/02/02
- --------------------------------------------------------------------------------
Total 113
- --------------------------------------------------------------------------------
Drilling permits issued by the State of Wyoming allow one year for drilling
completion; permits issued by the State of Montana allow six months. Expired
permits for undrilled locations are usually renewed by the agencies without
difficulty.
Once drilled, all wells in the Clearmont and Arvada prospects remain (and
future wells in Wyoming will be) subject to a National Pollution Discharge
Elimination System ("NPDES") permit relating to water testing and discharge. All
wells in the Castle Rock and Kirby prospects remain subject to the Montana Board
of Oil and Gas Commission approval. Upon completion of drilling, wells are
subject to monthly reporting regarding status and production to the respective
state agencies in which they are located.
GATHERING AND TRANSMISSION OF CBM GAS
Companies involved in CBM production generally outsource their gas
gathering, compression and transmission. RMG intends to outsource compression
and gathering needs as well, possibly on a competitive basis with transmission
companies in the immediate area. Negotiations with various transmission
companies have been initiated in order to better manage future capital
investment. To date, RMG has a gas gathering agreement and a separate gas
purchase contract for the Clearmont and Arvada properties (see above).
Coalbed methane production growth in the Powder River Basin has
historically been impeded by a shortage of gathering system capacity and
transport capacity out of the Basin. However, two large diameter gathering
pipelines were completed in September 1999 and a third was ready for service in
early 2000. The two completed pipelines provide an additional 900 million cubic
feet (MMcf), of daily gas capacity as set forth below:
Fort Union Gas Gathering, LLC's 106-mile, 24" gathering pipeline, commenced
operations September 1, 1999, with an initial capacity of 450 MMcf per day; and
Thunder Creek Gas Services, LLC's 126-mile, 24" gathering pipeline,
commenced operations September 1, 1999, with an initial capacity of 450 MMcf per
day.
Additionally, CMS Energy's 110-mile, Big Horn Gas Gathering pipeline, that
connects to the northern terminus of the Fort Union pipeline, is continuing to
be expanded in length and has an initial capacity of 256 MMcf per day which can
readily be upgraded to 500 MMcf per day with the addition of booster
compression. Further, on June 19, 2000, Big Horn Gas Gathering announced the
extension of its pipeline to serve producers in the Sheridan area. This 50+ mile
extension will place a 20" high pressure pipeline within 5 miles of the
16
Montana border and within close proximity to the development planned by RMG,
CCBM, and Quantum on their Kirby Prospect area.
Wyoming Interstate Gas Company's 143-mile, 24" Medicine Bow Lateral
pipeline commenced operations in November 1999 with an initial capacity of 260
MMcf per day. This pipeline will transport natural gas from the Thunder Creek
and Fort Union pipelines at the south end of the Powder River Basin to
interconnect with multiple interstate pipelines accessing markets to the east
and along the front range of Colorado. This system is already being expanded as
demand for transportation space grows. Further transmission lines are being
planned by other companies in the area.
Wyoming operators have been realizing lower than expected prices for gas
produced in the Powder River Basin, due in part to seasonal/supply factors, but
more significantly due to a bottleneck in take away capacity. There is now ample
capacity to move gas from CBM fields within the PRB but limited interstate
movement capacity from the PRB to the major markets on the coasts and in the
midwest, which results in a negative price differential. The newly announced
Grasslands Pipeline (to be constructed to move gas to midwest and northern
markets) and the additional looping (now under construction) of the Kern River
Pipeline, will add 1,000 MMcf daily PRB take away capacity when completed by the
end of 2003, and should reduce the negative price differential.
URANIUM
GENERAL. USECC has interests in several uranium-bearing properties in
Wyoming and Utah and in a uranium processing mill in southeastern Garfield
County, Utah (the "Shootaring Mill"). All the uranium- bearing properties are in
areas which produced significant amounts of uranium in the 1970s and 1980s. At
some future date, USECC could develop and operate these properties (directly or
through a subsidiary company or a joint venture) to produce uranium concentrates
("U3O8") for sale to public utilities that operate nuclear powered electricity
generating plants. However, until uranium oxide prices improve significantly,
all of the uranium properties are in a shut down mode, meaning work is performed
for later activity and permitting work is done as needed (monitoring and
reporting) to keep existing permits in effect.
The uranium properties have been shut down. Substantial work would be
required to put them into production, including cleaning out drifts and other
underground passages, pumping water out of the mines, and sampling to ascertain
whether a commercially viable ore body exists on any of the properties. This
work will require significant capital expenditures.
SHEEP MOUNTAIN - WYOMING
Unpatented lode mining claims, underground and open pit uranium mines and
mining equipment in the Crooks Gap area are located on Sheep Mountain in Fremont
County, Wyoming and are adjacent to and west of the GMMV mining claims. From
December 21, 1988 to June 1, 1998, these assets were held by Sheep Mountain
Partners ("SMP"). On June 1, 1998, USECC received back from SMP all of the Sheep
Mountain mineral properties and equipment, in partial settlement of disputes
with Nukem, Inc. ("Nukem") and its subsidiary Cycle Resource Investment Corp.
("CRIC"). The judgment against Nukem impressing the CIS uranium supply contracts
in constructive trust with SMP remains unresolved. See "Legal Proceedings." The
Sheep Mountain Mines 1 and 2 were first operated by Western Nuclear, Inc., a
subsidiary of Phelps Dodge Corporation, in the late 1970s.
17
PLATEAU RESOURCES LIMITED ("PLATEAU")
Plateau Resources Limited is a wholly-owned subsidiary of USE. See "Plateau
Shootaring Canyon Mill" below. Crested is contractually obligated to fund 50% of
the cash requirements of Plateau and shall also share in 50% of any cash
receipts of Plateau.
The Tony M Mine properties contains underground uranium deposits in
Garfield County, Utah, and are located partially on Utah State leases.
Plateau is the lessee of the Tony M Mine properties and has posted a bond
securing Plateau's obligations to reclaim these properties. The Tony M mine was
originally developed by Plateau at the time Plateau was owned by Consumers Power
Company ("CPC"), a Michigan public utility. Significant areas of uranium
mineralization have been accessed and delineated by the prior owner's
underground workings. When the Tony M Mine was in production (while Plateau was
owned by CPC), it produced ore containing from three to eight pounds of uranium
concentrates per ton. Some of this ore was processed at the Shootaring Mill. In
addition, low grade uranium mineralization was stockpiled at the Tony M Mine and
at the Shootaring Mill.
Plateau also acquired the Velvet Mine and the nearby Woods Complex in the
Lisbon Valley area in southeastern Utah. The Velvet Mine was developed and
permitted by its prior owner and is located approximately 178 miles by road from
the Shootaring Mill. The prior owner drove several miles of access tunnels
(adits) and drifts (access tunnels) and mined material from the workings.
However, Plateau cannot ascertain the amount or grade of material previously
mined, nor have we ascertained by our own drilling the location and grade of
remaining mineralized material in the mine. The Woods Complex was formerly an
operating uranium mine with a remaining undeveloped resource. Access to this
resource would be by extending a drift approximately 2,500 feet from the former
Woods Mine. A Notice of Intent has been filed with the State of Utah to apply
for a small mining operations permit. The Woods Mine property is not permitted,
but USECC does not expect difficulty in obtaining a new permit, should we seek
one, because the surface facilities would occupy the site that has been
disturbed from previous operations.
THE GREEN MOUNTAIN MINING VENTURE ("GMMV") PROJECT
GMMV. In fiscal 1991, USECC entered into an agreement to sell 50 percent of
our interests in the Green Mountain uranium claims, and certain other rights, to
Kennecott Uranium Company ("KUC" or "Kennecott"), a subsidiary of Kennecott
Energy and Coal Company of Gillette, WY. Kennecott Energy and Coal Company is a
subsidiary of Rio Tinto plc, formerly RTZ plc of London. In consideration of the
sale to Kennecott, USECC received $15,000,000 cash and a commitment by Kennecott
to fund the first $50,000,000 of GMMV expenditures pursuant to Management
Committee budgets. At the same time USECC and Kennecott formed the GMMV and
entered into a joint venture agreement (the "GMMV Agreement") to develop, mine
and mill uranium ore from the Green Mountain Claims, and market uranium oxide.
For detailed explanation of the GMMV agreement, please see Crested Corp's. 1999
Form 10-K at pages 8-11, and footnote F to the financial statements.
The GMMV holds 521 unpatented lode mining claims (the "Green Mountain
Claims") on Green Mountain in Fremont County, Wyoming, including 105 claims on
which the Round Park (Jackpot) uranium deposit is located, and the Sweetwater
Mill, (approximately 23 miles south of the proposed Jackpot Mine)., are held by
the Green Mountain Mining Venture ("GMMV"), which until September 11, 2000 was
owned 50% by Kennecott and 50% by USE and Crested.
In September 2000, Kennecott filed a lawsuit to dissolve the GMMV and we
counterclaimed for damages. This lawsuit was settled on September 11, 2000.
Kennecott paid USECC $3,250,000 to acquire all of USECC's interest in the GMMV,
its properties and the Sweetwater Uranium Mill (with certain
18
exceptions), and all parties' claims in the lawsuit have been dismissed.
Kennecott also assumed all reclamation and other liabilities associated with the
GMMV, its properties, the Sweetwater Mill and all liabilities associated with
the GMMV since its inception, including the historical liabilities associated
with the Sweetwater Mill prior to its acquisition by the GMMV. USECC has
retained a 4% net profits royalty in any future uranium oxide produced from the
GMMV mining claims through the Sweetwater Mill (currently in a standby mode and
not operational).
When Kennecott has completed necessary reclamation work on the Green
Mountain unpatented lode mining claims (including the Round Park uranium deposit
proposed to be mined through the Jackpot Mine) Kennecott will quit claim all
such mining claims to USECC, as well as certain equipment currently being used
at the mine (including a compressor and standby generator). Kennecott plans to
keep the Sweetwater Mill.
PROPERTIES. The Green Mountain Claims include the Big Eagle Properties on
Green Mountain, which contain substantial uranium mineralization, and are
adjacent to other mining claims. The Big Eagle Properties contain two open-pit
mines, as well as related roads, utilities, buildings, structures, equipment and
a stockpile of 500,000 tons of uranium material with a grade of approximately
..05% uranium concentrates ("U3O8"). Uranium concentrates means natural uranium
concentrates in the form of triuranium octoxide (U3O8) containing 0.711
(nominal) weight percent uranium in the isotope U-235. The assets include two
buildings (38,000 square feet and 8,000 square feet) formerly used by Pathfinder
Mines Corporation ("PMC") in mining operations.
The Round Park (Jackpot) mining claims contain deposits of uranium which
have been estimated to contain 11,410,000 tons grading .26% ("U3O8") mineralized
material . These estimates are based on extensive drilling from the surface.
Other than the two declines, no underground workings have been built, and USECC
has not determined the location of any underground stopes containing mineralized
material. The GMMV had planned to mine this mineralized material from two
decline tunnels (-17 percent slope) in the Jackpot Mine driven underground from
the south side of Green Mountain. The first of several mineralized horizons in
the Round Park deposits, is about 2,300 feet vertically down from the surface of
Green Mountain. This work was halted in July 1998.
SWEETWATER MILL. In fiscal 1993, the GMMV acquired the Sweetwater uranium
processing mill and associated properties located in Sweetwater County, Wyoming,
approximately 23 miles south of the proposed Jackpot Mine, from a subsidiary of
Union Oil Company of California ("UNOCAL"), primarily in consideration of
Kennecott and the GMMV assuming environmental liabilities, and decommissioning
and reclamation obligations. The Sweetwater Mill was designed as a 3,000 ton per
day ("tpd") facility.
As consideration for acquiring the Sweetwater Mill, GMMV agreed to
indemnify UNOCAL against certain reclamation and environmental liabilities,
which indemnification obligations are guaranteed by Kennecott Corporation
(parent of Kennecott Uranium Company). The GMMV is responsible for compliance
with mill decommissioning and land reclamation laws, for which the environmental
and reclamation bonding requirements are approximately $24,330,000, which
includes a $4,560,000 bond required by the Nuclear Regulatory Commission
("NRC"). None of the GMMV future reclamation and closure costs are reflected in
the consolidated financial statements.
The reclamation and environmental liabilities assumed by the GMMV (and now
Kennecott's sole responsibility) consist of two categories: (1) cleanup of the
inactive open pit mine site near the Mill (the source of ore feedstock for the
mill when operating under UNOCAL), including water (heavy metals and other
contaminants) and tailings (heavy metals dust and other contaminants requiring
abatement and erosion control) associated with the pit; and (2) decontamination
and cleanup and disposal of the Mill building, equipment and tailings cells
after Mill decommissioning. The Wyoming Department of Environmental Quality
("DEQ")
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exercises delegated jurisdiction from the United States Environmental Protection
Agency ("EPA") to administer the Clean Water Act and the Clean Air Act, and
directly administers Wyoming statutes on mined land reclamation. The Sweetwater
Mill is also regulated by the NRC for tailings cells and mill decontamination
and cleanup. The EPA has continuing jurisdiction under the Resource Conservation
and Recovery Act, pertaining to any hazardous materials which may be on site
when cleanup work is started.
PLATEAU'S SHOOTARING CANYON MILL
ACQUISITION OF PLATEAU RESOURCES LIMITED ("PLATEAU"). In August 1993, USE
purchased from Consumers Power Company ("CPC"), all of the outstanding stock of
Plateau which owns the Shootaring Canyon uranium processing mill and support
facilities in southeastern Utah (the "Shootaring Mill") for a nominal cash
consideration. The Shootaring Mill holds a source materials license from the
NRC. In the purchase of the stock from CPC, we agreed to various obligations, as
disclosed in USE's 1998 Form 10-K at pages 15 and 16. Subsequent to closing of
the acquisition, USE and Crested agreed that after Plateau's unencumbered cash
had been depleted, USE and Crested each would assume one-half of Plateau's
obligations and share equally in Plateau's operating cash flows, pursuant to the
USECC Joint Venture.
SHOOTARING MILL AND FACILITIES. The Shootaring Mill is located in
southeastern Utah and occupies 19 acres of a 265 acre plant site. The mill was
designed to process 750 tpd, but only operated on a trial basis for two months
in mid-summer of 1982. In 1984, Plateau placed the mill on standby because CPC
had canceled the construction of an additional nuclear energy plant.
Plateau also owns approximately 90,000 tons of uranium mineralized material
stockpiled at the mill site and approximately 172,000 tons of mineralized
material stockpiled at the Tony M Mine. Included with mill assets are tailings
cells, laboratory facilities, equipment shop and inventory. The NRC issued a
license to Plateau authorizing production of uranium concentrates, however,
since the mill was shut down, only maintenance and required safety and
environmental inspection activities were performed and the source materials
license with the NRC was for standby operations only. Plateau applied to the NRC
to convert the source materials license from standby to operational and upon
increasing the reclamation bond, the NRC issued the new license on May 2, 1997.
Plateau has a cash bond in favor of the NRC in the amount of $8,818,600 plus and
additional $1,082,300 in government securities for bonding future reclamation.
Plateau obtained approval of a water control permit for the tailings
cell from the Utah Water Control Division and is awaiting the NRC's review of
the operating license conditions so Plateau can continue with construction of
tailing facilities if it so desires.
The Shootaring Mill has remained shut down because of continued low uranium
prices. Substantial expense would be incurred to upgrade the mill to operating
status and fully activate the NRC permit, and substantial work would be needed
to put the Velvet and Woods Complex Mines into production for material to run
through this mill. This work would include cleaning out adits and drifts,
dewatering, and sampling to ascertain the location and grade of mineralized
material.
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TICABOO TOWNSITE
Plateau owns Canyon Homesteads, Inc., a Utah corporation, which developed
the Ticaboo, Utah townsite 3.5 miles south of the Shootaring Mill. The Townsite
includes a motel, restaurant, lounge, convenience store and single family,
mobile home and recreational vehicle sites (all with utility access), located on
a State of Utah lease near Lake Powell, and is being operated as a commercial
enterprise. An amendment was entered into on April 1, 1997 on the Utah State
lease covering the Ticaboo Townsite whereby the State will convey portions of
the Townsite lease to Canyon on a sliding scale basis as they are sold. USE and
Crested are developing the Townsite in limited fashion and are selling home and
mobile home sites.
SHEEP MOUNTAIN PARTNERS ("SMP")
SMP PARTNERSHIP. In February 1988, USECC acquired uranium mines, mining
equipment and mineralized properties (Sheep Mountain Mines) at Crooks Gap in
south-central Fremont County, Wyoming, from Western Nuclear, Inc. These Crooks
Gap mining properties are adjacent to the Green Mountain uranium properties.
USECC mined and milled uranium ore from one of the underground Sheep Mines
during fiscal 1988 and 1989. Production ceased in fiscal 1989, because uranium
could be purchased from the spot market at prices below the mining and milling
costs of USECC. In December 1988, USECC sold 50 percent of the interests in the
Crooks Gap properties to Nukem's subsidiary Cycle Resource Investment
Corporation ("CRIC") for cash. The parties thereafter contributed the properties
to and formed Sheep Mountain Partners ("SMP"), in which USECC received an
undivided 50 percent interest. SMP is a Colorado general partnership formed on
December 21, 1988, between USECC and Nukem, Inc. then of Stamford, CT ("Nukem")
through its wholly-owned subsidiary CRIC. Each group provided one-half of
$315,000 to purchase equipment from Western Nuclear, Inc.; USECC also
contributed its interests in three uranium supply contracts to SMP and agreed to
be responsible for property reclamation obligations. The SMP Partnership
agreement provided that each partner generally had a 50 percent interest in SMP
net profits, and an obligation to contribute 50 percent of funds needed for
partnership programs or discharge of liabilities. Capital needs were to have
been met by loans, credit lines and contributions. Nukem is a uranium brokerage
and trading concern.
SMP was directed by a management committee, with three members appointed by
USECC and three members appointed by Nukem/CRIC. The committee has not met since
1991 as a result of the SMP arbitration/litigation. During fiscal 1991, disputes
arose between the SMP partners which resulted in litigation. See Item 3, Legal
Proceedings.
PROPERTIES. Until June 1, 1998, SMP owned 80 unpatented lode mining claims
on the Crooks Gap properties, including two open-pit and five underground
uranium mines and an estimate of mineralized material. In connection with a
partial settlement of litigation/arbitration between USECC and Nukem/CRIC, SMP
conveyed these mineral properties and equipment to USECC. Any future production
from the properties will continue to be subject to sliding-scale royalty payable
to Western Nuclear, Inc. (1% to 4% on recovered uranium concentrates). As of the
filing date of this Annual Report, USE , Crested and/or USECC own 98 unpatented
lode mining claims and a 644 acre Wyoming State Mineral Lease in the Crooks Gap
area.
An ion exchange plant located on the properties (to remove natural soluble
uranium from mine water) was reclaimed and the plant disposed of at the
Sweetwater Mill impoundment facility in fiscal 2002.
PERMITS. Permits to operate existing mines (now in care and maintenance
status) on the Crooks Gap properties have been issued by the State of Wyoming.
Amendments are needed to open new mines within the permit area. As a condition
to issuance of the permits, a NPDES water discharge permit under the Clean Water
Act has been obtained. Monitoring and treatment of water removed from the mines
and discharged in
21
nearby Crooks Creek is generally required. During the past two years, USECC did
not discharge wastewater into Crooks Creek, and the mine water is presently
being discharged into the USECC McIntosh Pit.
URANIUM MARKET INFORMATION.
URANIUM SPOT MARKET. Uranium Exchange Value spot price as reported by
TradeTech was $9.85/lb. U3O8 on July 31, 2002, an increase from an Unrestricted
value of $7.95/lb and a Restricted value of $8.25/lb at July 31, 200. During the
first half of 2002, total spot market volume was approximately 8.4 million lbs
U3O8 which was greater than the 3.81 million lbs for the first half of 2001 or
an increase of 4.59 million lbs U3O8.
URANIUM LONG-TERM MARKET. The long-term market has been active in 2002 with
the long-term contracts reported by market analysts to have exceeded 10.9
million lbs of U3O8 during the first half of 2002. The uranium price indicator
published by TradeTech was at $10.75/lb U3O8 at July 31, 2002, up from the
$10.00/lb at July 31, 2001.
GOLD
SUTTER GOLD MINE (CALIFORNIA)
SUTTER GOLD MINING COMPANY. In fiscal 1991, USE and Crested acquired an
interest in the underground Sutter Gold Mine and related properties (the "SGM")
located in the Mother Lode Mining District of Amador County, California. The
entire Lincoln Project (which is the name used for the properties) is owned by
Sutter Gold Mining Company, a Wyoming corporation ("SGMC"), and a majority-owned
subsidiary of USE and Crested.
SGMC is revising plans to put the SGM into production. However,
implementation of this plan will require substantial capital financing.
Persistent low prices for gold have made financing difficult, and in fiscal 1999
resulted in a substantial write down of the SGMC assets. See "Managements
Discussion and Analysis of Financial Condition and Results of Operations" for
fiscal 1999.
Due to the depressed gold prices in the past and lack of available funding,
SGMC deferred the start of construction of a gold mill complex and development
of the underground mine. The tourist visitor's center has been leased to a third
party for $1,500 per month plus a 4% gross royalty on revenues. There is one
caretaker employee at the Sutter operation. Except for limited infrastructure
improvements in 2000, the assets are in a care and maintenance mode and the
exploration permits are being kept current as necessary with the current
thinking of moving the project from a "large" mine to that of a smaller ton per
day operation.
PROPERTIES. SGMC holds approximately 216 acres of surface and mineral
rights (owned), 54 acres of surface rights (owned), 55 acres of surface rights
(leased), 154 acres of mineral rights (leased), and 366 acres of mineral rights
(owned), all on patented mining claims near Sutter Creek, Amador County,
California. The properties are located in the western Sierra Nevada Mountains at
from 1,000 to 1,500 feet in elevation; year round climate is temperate. Access
is by California State Highway 16 from Sacramento to California State Highway
49, then by paved county road approximately .4 mile outside of Sutter Creek.
Surface and mineral rights holding costs will be approximately $90,000 from
June 1, 2002 through May 31, 2003. Property taxes for fiscal 2003 are estimated
to be $20,000.
The leases are for varying terms, and require rental fees, advance
production royalties, real property taxes and insurance.
22
PERMITS AND FUTURE PLANS. In August 1993, the Amador County Board of
Supervisors issued a Conditional Use Permit ("CUP") allowing mining of the SGM
and milling of production, subject to conditions relating to land use,
environmental and public safety issues, road construction and improvement, and
site reclamation. The permit will allow construction of the mine and mill
facilities in stages as the project gets underway, thereby reducing initial
capital outlays. Additional permits (for road work, dust control and
construction of mill and other surface improvements) need to be applied for in
due course. In August and September 1998, the Amador County Board of Supervisors
certified the Final Subsequent Environmental Impact Report ("FSEIR") and
approved all of the amendments requested by SGMC. Amendments to the CUP remove
two tailings dams, eliminate the need to use cyanide on-site, and eliminate mine
related traffic on two county roads.
MOLYBDENUM
As a holder of royalty, reversionary and certain other interests in
properties located at Mt. Emmons near Crested Butte, Colorado, USE and Crested
are entitled to receive annual advance royalties of 50,000 pounds of molybdenum,
or cash equivalent. AMAX Inc. (which was acquired by Cyprus Minerals Company and
was renamed Cyprus Amax Minerals Company in November 1993 and was acquired later
by Phelps Dodge Corporation in October 1999) delineated a deposit of molybdenum
containing approximately 146,000,000 tons of mineralization averaging 0.43%
molybdenum disulfide on the properties of USE and Crested.
Advance royalties are paid in equal quarterly installments until: (i)
commencement of production; (ii) failure to obtain certain licenses, permits,
etc., that are required for production; or (iii) AMAX's return of the properties
to USE and Crested. The advance royalty payments reduce the operating royalties
(6% of gross production proceeds) which would otherwise be due out of
production. There is no obligation to repay the advance royalties if the
property is not placed in production. USECC recognized $108,500, $132,600 and
$150,600 of revenues in fiscal 2001, 2000 and 1999 related to this royalty
interest. Phelps Dodge ceased making the quarterly installments in July 2001.
The Agreement with AMAX also provides that USE and Crested receive
$2,000,000 when the Mt. Emmons properties are put into production and, in the
event AMAX sells its subsidiary, Mt. Emmons Mining Co. ("MEMCO") or its interest
in the molybdenum properties, USE and Crested are to receive 15% of the first
$25,000,000 received by AMAX or its successors.
USE and Crested are in litigation with Phelps Dodge concerning the
Agreement and the properties, see "Item 3 - Legal Proceedings."
OIL AND GAS
FORT PECK LUSTRE FIELD (MONTANA). USECC operates a small oil production
facility (three wells) at the Lustre Oil Field on the Ft. Peck Indian
Reservation in northeastern Montana. USECC receives a fee based on oil produced.
This fee and other assets of USECC collateralize a $750,000 line of credit from
a bank.
COMMERCIAL OPERATIONS
MOTEL, REAL ESTATE AND AIRPORT OPERATIONS. Crested owns varying interests
with USE in subsidiaries engaged in real estate, and other commercial
businesses. The affiliated organizations include Western Executive Air, Inc.
("WEA") and Canyon Homesteads, Inc. (through Plateau). Activities of these and
other subsidiaries in the business sectors include ownership and management of a
commercial office
23
building, the townsite of Jeffrey City, Wyoming (which has been sold) and the
townsite, motel, convenience store and other commercial facilities in Ticaboo,
Utah.
WYOMING. Crested and USE own a 14-acre tract in Riverton, Wyoming, with a
two-story 30,400 square foot office building (including underground parking).
The first floor is rented to affiliates, nonaffiliates and government agencies;
the second floor is occupied by USE and Crested. The property is mortgaged to
the WDEQ as security for future reclamation work on the Sheep Mountain Crooks
Gap uranium properties.
Crested and USE (through WEA) also own a 10,000 square foot aircraft hangar
and 7,000 square feet of associated offices and facilities. This facility is on
land leased from the City of Riverton for a term ending December 16, 2005, with
an option to renew on mutually agreeable terms for five years. USE and Crested,
through WEA operated a fixed base operation at the Riverton Regional Airport
until it was shut down late in fiscal 2002.
Crested and USE also own 17 semi-developed lots on 26.8 acres and 63 acres
of undeveloped land near the Riverton Regional Airport, and three mountain sites
covering 16 acres in Fremont County, Wyoming.
USECC owned various buildings, 290 city lots and/or tracts and other
properties at the Jeffrey City townsite in south-central Wyoming. USECC sold
these properties during May 2001.
COLORADO. In connection with the AMAX transaction on the Mt. Emmons
molybdenum properties near Crested Butte, Colorado, USECC acquired an option
from AMAX (later Cyprus Amax) to purchase approximately 57 acres for $200,000 in
Mountain Meadows Business Park, Gunnison, Colorado. See "Minerals - Molybdenum"
above. The property was zoned commercial and industrial, and is adjacent to
Western State College. In fiscal 1995, USECC and Cyprus Amax agreed to exercise
the option by USE and Crested agreeing to forego six quarters of advance
royalties from Cyprus Amax (the option purchase price was $200,000), plus
payment of certain expenses i.e. real property taxes from 1987 and other
expenses amounting to $19,358. Thereafter, USE (together with Crested) signed
option agreements with Pangolin Corporation, a Park City, Utah developer, for
sale of the 57 acres, and a separate parcel owned in Gunnison County, Colorado.
Although initial payments on the option agreements were received, the
developer is in default on the balance. In July 1998, Crested assigned its
interest to USE and USE filed a lawsuit seeking recovery of the balance owing on
promissory notes and contracts. See "Item 3 - Legal Proceedings."
UTAH PROPERTIES. Canyon Homesteads, Inc. (a Plateau subsidiary) owns a
majority interest in a joint venture which holds the Ticaboo Townsite in
Ticaboo, Utah (see "Minerals - Uranium-Shootaring Canyon Mill - Ticaboo
Townsite" above). In fiscal 1995, USE acquired the minority interest in the
joint venture from a nonaffiliate.
Commercial operations are not dependent upon a single customer, or a few
customers, the loss of which would have a materially adverse effect on the
Company.
RESEARCH AND DEVELOPMENT
No research and development expenditures have been incurred, either on the
company's account or sponsored by customers, during the past three fiscal years.
24
ENVIRONMENTAL
GENERAL. Operations are subject to various federal, state and local laws
and regulations regarding the discharge of materials into the environment or
otherwise relating to the protection of the environment, including the Clean Air
Act, the Clean Water Act, the Resource Conservation and Recovery Act ("RCRA"),
and the Comprehensive Environmental Response Compensation Liability Act
("CERCLA"). With respect to mining operations conducted in Wyoming, Wyoming's
mine permitting statutes, Abandoned Mine Reclamation Act and industrial
development and siting laws and regulations also impact us. Similar laws and
regulations in California affect SGMC operations and Utah laws and regulations
effect Plateau's operations.
Management believes the company and USE comply in all material respects
with existing environmental regulations.
OTHER ENVIRONMENTAL COSTS. Actual costs for compliance with environmental
laws may vary considerably from estimates, depending upon such factors as
changes in environmental laws and regulation (e.g., the new Clean Air Act), and
conditions encountered in minerals exploration and mining. USECC does not
anticipate that expenditures to comply with laws regulating the discharge of
materials into the environment, or which are otherwise designed to protect the
environment, will have any substantial adverse impact on the competitive
position of USECC.
EMPLOYEES
As of August 17, 2002, USE had approximately 33 full-time employees, down
from 55 in July 2001. Crested uses approximately 50 percent of the time of USE
employees, and reimburses USE on a cost reimbursement basis.
MINING CLAIM HOLDINGS
TITLE. Nearly all the uranium mining properties held by the GMMV, USE,
USECC and Plateau are on federal unpatented claims. Unpatented claims are
located upon federal public land pursuant to procedure established by the
General Mining Law. Requirements for the location of a valid mining claim on
public land depend on the type of claim being staked, but generally include
discovery of valuable minerals, erecting a discovery monument and posting
thereon a location notice, marking the boundaries of the claim with monuments,
and filing a certificate of location with the county in which the claim is
located and with the BLM. If the statutes and regulations for the location of a
mining claim are complied with, the locator obtains a valid possessory right to
the contained minerals. To preserve an otherwise valid claim, a claimant must
also pay certain rental fees annually to the federal government (currently $100
per claim) and make certain additional filings with the county and the BLM.
Failure to pay such fees or make the required filings may render the mining
claim void or voidable. Because mining claims are self-initiated and
self-maintained, they possess some unique vulnerabilities not associated with
other types of property interests. It is impossible to ascertain the validity of
unpatented mining claims solely from public real estate records and it can be
difficult or impossible to confirm that all of the requisite steps have been
followed for location and maintenance of a claim. If the validity of an
unpatented mining claim is challenged by the government, the claimant has the
burden of proving the present economic feasibility of mining minerals located
thereon. Thus, it is conceivable that during times of falling metal prices,
claims which were valid when located could become invalid if challenged.
RMG's properties and mineral leases of BLM, state and fee lands require
annual cash payments of approximately $286,300 during fiscal 2003. RMG is
obligated for $96,400 of this amount to keep the leases in effect.
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PROPOSED FEDERAL LEGISLATION. The U.S. Congress has, in legislative
sessions in recent years, actively considered several proposals for major
revision of the General Mining Law, which governs mining claims and related
activities on federal public lands. If any of the recent proposals become law,
it could result in the imposition of a royalty upon production of minerals from
federal lands and new requirements for mined land reclamation and other
environmental control measures. It remains unclear whether the current Congress
will pass such legislation and, if passed, the extent such new legislation will
affect existing mining claims and operations. The effect of any revision of the
General Mining Law on operations cannot be determined conclusively until such
revision is enacted; however, such legislation could materially increase the
carrying costs of mineral properties which are located on federal unpatented
mining claims, and could increase both the capital and operating costs for such
projects and impair the ability to hold or develop such properties.
ITEM 3. LEGAL PROCEEDINGS
Material pending proceedings are summarized below. Other proceedings which
were pending in fiscal 2002 have been settled or otherwise finally resolved.
SHEEP MOUNTAIN PARTNERS ARBITRATION/LITIGATION
In 1991, disputes arose between USE/Crested, and Nukem, Inc. and its
subsidiary Cycle Resource Investment Corp. ("CRIC"), concerning the formation
and operation of the Sheep Mountain Partners partnership for uranium mining and
marketing, and activities of the parties outside SMP. Arbitration proceedings
were initiated by CRIC in June 1991 and in July 1991, USECC filed a lawsuit
against Nukem, CRIC and others in the U.S. District Court (District of Colorado)
in Civil No. 91B1153. Later, USECC filed another suit for the standby costs at
the SMP mines against SMP in the Colorado State Court. The Federal Court stayed
both the arbitration proceedings and the State Court case. In February 1994, all
of the parties agreed to exclusive and binding arbitration of the disputes
before the American Arbitration Association ("AAA"), for which the legal claims
made by both sides included fraud and misrepresentation, breach of contract,
breach of duties owed to the SMP partnership, and other claims.
The AAA panel (the "Panel") entered an Order and Award (the "Order") in
April 1996 and clarified the Order on July 3, 1996, finding generally in favor
of USE and Crested on certain of their claims (including the claims for
reimbursement for standby maintenance expenses and profits denied SMP in Nukem's
trading of uranium), and in favor of Nukem/CRIC and against USE and Crested on
certain other claims, and imposing a constructive trust in favor of Sheep
Mountain Partners on uranium contracts Nukem entered into to purchase uranium
from CIS republics. USECC filed a petition for confirmation of the Order and on
June 30, 1997, and the U.S. District Court confirmed the Order in its Second
Amended Judgment (the "Judgment"). Thereafter, Nukem/CRIC appealed the Judgment
to the 10th Circuit Court of Appeals ("CCA").
A three judge panel of the 10th CCA issued an Order and Judgment on October
22, 1998, which unanimously affirmed the Federal District Court's Second Amended
Judgment without modification. The ruling affirmed (i) the imposition of a
constructive trust in favor of SMP on Nukem's rights to purchase CIS uranium,
the uranium acquired pursuant to those rights, and the profits therefrom; and
(ii) the damage award against Nukem/CRIC. As a result of the ruling of the 10th
CCA, USE and Crested received an additional $6,077,264 (including interest and
court costs) from Nukem in February 1999 for a total net monetary award of
$15,468,625 in the arbitration/litigation, and equitable relief in the form of
USE's and Crested's interest in SMP, which holds the constructive trust over the
CIS contracts. Nukem/CRIC filed two motions for entry of final satisfaction of
Judgment. The U.S. District Court denied both motions, Nukem again appealed to
the 10th CCA, which again affirmed the District Court's ruling, and held that
Nukem/CRIC had not demonstrated that the Judgment had been satisfied because
they had not provided USECC with an accounting of the partnerships assets.
26
In February 2001, the U.S. District Court appointed a Special Master to
determine the amounts, if any, owed by Nukem to SMP pursuant to the constructive
trust. The Special Master has ordered an accounting to identify all deliveries
of CIS uranium made directly or indirectly to Nukem and any Nukem affiliates; to
identify the ultimate disposition of all uranium purchased under the CIS
contracts; to identify the location, number of pounds, and associated cost of
uranium purchased under the CIS contracts at December 31, 2001, and to calculate
the profits realized from the sale of CIS uranium. At a status hearing held
before the U.S. District Court on August 23, 2002, the Court ordered the Special
Master to file his report on or before December 6, 2002 and a further hearing to
schedule arguments will be held on December 13, 2002.
CONTOUR DEVELOPMENT LITIGATION
On July 28, 1998, the Company and USE filed a lawsuit in the United States
District Court, Denver, Colorado, Case No. 98WM1630, against Contour Development
Company, L.L.C. and entities and persons associated with Contour Development
Company, L.L.C. (together, "Contour") seeking compensatory and consequential
damages of more than $1.3 million from the defendants for dealings in real
estate owned by USE and Crested in Gunnison, Colorado. The Contour defendants
asserted a counterclaim asking for payment of attorneys fee and costs. The
matter has been settled, with the Company and USE receiving $25,000 cash and
unencumbered title to two commercial real estate lots covering seven acres in
Gunnison, Colorado, and unencumbered title to five development lots covering 175
acres north of Gunnison, Colorado.
See "Business - Commercial Operations - Real Estate and Other Commercial
Operations - Colorado Properties" above.
PHELPS DODGE LITIGATION
U.S. Energy Corp. and Crested Corp., d/b/a USECC, were served with a
lawsuit on June 19, 2002, filed in the U.S. District Court of Colorado (Case No.
02-B-0796(PAC)) by Phelps Dodge Corporation and its subsidiary, Mt. Emmons
Mining Company (MEMCO), over contractual obligations from USECC's agreement with
Phelps Dodge's predecessor companies, concerning a mining property in Colorado.
The litigation stems from agreements that date back to 1974 when U.S.
Energy and Crested Corp. leased mining claims on Mt. Emmons near Crested Butte,
Colorado to AMAX Inc., Phelps Dodge's predecessor company. The claims cover one
of the world's largest and richest deposits of molybdenum. AMAX reportedly spent
over $200 million on the acquisition, exploration and mine planning activities
on the Mt. Emmons properties. In counter and cross-claims filed in the U.S.
District Court of Colorado, USECC contends that Phelps Dodge and its
subsidiaries committed several breaches of contracts related to the agreements,
including breach of fiduciary obligations and covenants of good faith and fair
dealing. USECC also contends Phelps Dodge is guilty of violating federal and
state antitrust laws when it purchased Cyprus Amax. Phelps Dodge and MEMCO have
20 days from July 9, 2002 or date of service to answer USECC's claims.
The complaint filed by Phelps Dodge and MEMCO seeks a determination that
Phelps Dodge's acquisition of Cyprus Amax was not a sale. Under a 1986 agreement
between USECC and AMAX, if AMAX sold MEMCO or its interest in the mining
properties, U.S. Energy and Crested would receive 15% (7.5% each) of the first
$25 million of the purchase price ($3.75 million). In 1991, Cyprus Minerals
Company acquired AMAX to form Cyprus Amax Minerals Co. USECC's counter and
cross-claims allege that in 1999, Phelps Dodge formed a wholly-owned subsidiary
CAV Corporation, for the purpose of purchasing the controlling interest of
Cyprus Amax and its subsidiaries (including MEMCO) at an estimated value in cash
and Phelps Dodge stock exceeding $1 billion and making Cyprus Amax a subsidiary
of Phelps Dodge. Therefore, USECC asserts the acquisition of Cyprus Amax by
Phelps Dodge was a sale of MEMCO and the properties that triggers the obligation
of Cyprus Amax to pay USECC the $3.75 million plus interest.
27
A second counterclaim by USECC rejects the claim by Phelps Dodge that it
and its predecessors, Cyprus Amax and AMAX Inc., had mistakenly paid royalties
to USECC since January 1991. In 1984, AMAX began paying the cash equivalent
(half each to U.S. Energy and Crested Corp.) of 700,000 pounds of molybdenum per
year as an advance royalty prior to the mine beginning production. In 1986,
USECC agreed to assist financially troubled AMAX and substantially reduced the
annual advance royalty to 50,000 pounds of molybdenum, so that AMAX could
continue to hold the properties and eventually bring them into production. AMAX,
Cyprus Amax and Phelps Dodge continued paying the annual advance royalties to
U.S. Energy and Crested Corp. until the payment due in July 2001, when Phelps
Dodge unilaterally ceased making the payments. Phelps Dodge and MEMCO seek a
declaratory judgment that the advance royalty payment obligation has terminated,
and further, that USECC should repay $948,109 of royalties paid to USECC from
1993 through 2000, because those payments were made by mistake.
The third issue in the litigation is whether USECC must, under terms of a
1987 Royalty Deed, accept Phelps Dodge's and MEMCO's forth-coming conveyance of
the Mt. Emmons properties back to USECC, which properties now include a plant to
treat mine water, costing in excess of $1 million a year to operate in
compliance with State of Colorado regulations. Phelps Dodge's and MEMCO's
threatened reconveyance would require USECC to assume the operating costs of the
water treatment plant. USECC refuses to have the water treatment plant included
in the return of the properties because, the USECC counterclaim argues, the
properties must be in the same condition as when they were acquired by AMAX
before the water treatment plant was constructed by AMAX.
As added counterclaims, USECC seeks (i) damages for defendants' breach of
covenants of good faith and fair dealing; (ii) damages for defendants' failure
to develop the Mt. Emmons properties and not protecting USECC's rights as
revisionary owner of the mining rights to the properties, (iii) damages for
unjust enrichment of defendants; (iv) damages for breach of the defendants'
fiduciary duties owed to USECC as revisionary owner of the property, and for
neglecting to maintain the mining rights and interests in the properties; and
(v) damages relating to defendants' actions in violation of federal and Colorado
anti-trust and constraint of trade laws.
USECC also seeks a declaratory judgment of its rights and liabilities under
the agreements affecting the Mt. Emmons properties; an injunction against
defendants prohibiting the conveyance of the properties to USECC with the water
treatment plan; an injunction against further waste of the properties by the
defendants; an injunction requiring defendants to divest their molybdenum
holdings (including the Mt. Emmons properties); and an injunction requiring
defendants to assist USECC in mining molybdenum from the Mt. Emmons properties.
On August 2, 2002, Phelps Dodge and MEMCO filed a reply to the
counterclaims of USECC and Cyprus Amax filed an answer to the counterclaims and
third party complaint of USECC, generally denying the allegations of USECC. CAV
Corporation filed a motion for summary judgment seeking dismissal of USECC's
cross complaint and is pending. An order has been entered by the Court setting
the Scheduling/Planning Conference in the case for September 12, 2002.
Except for the parties' claims regarding payment of the $3.75 million due
on the sale of MEMCO, payments of royalties, and responsibility going forward
for payment of the operating costs of the water treatment plan, the financial
impact to U.S. Energy Corp. and Crested Corp. of favorable or unfavorable
outcomes in the litigation presently is not determinable.
28
SUTTER GOLD LITIGATION
On or about March 13, 2002, the Company's subsidiary, Sutter Gold Mining
Company, was served with a complaint filed in the Superior Court of Amador
County, California, case number 02CU2051. The plaintiff is Edward A. Swift
individually and as a trustee and the other defendant is Meridian Minerals
Company (Meridian). The litigation involves a mining lease entered into in 1989
between Plaintiffs and Defendant Meridian on the rental of Plaintiffs' land.
Plaintiffs contend Defendants owe them $136,186 for past due rent and some
$12,000 in unpaid taxes and for fence repair. Defendant Sutter Gold, has filed
an answer generally denying the complaint and the case is pending. We have
negotiated the terms of a settlement but due to the death of one of the
essential parties in the matter, finalization of the settlement has been
delayed. We hope to finalize a settlement in calendar 2002.
ROCKY MOUNTAIN GAS LITIGATION
On or about April 1, 2002, the Company's subsidiary, Rocky Mountain Gas,
Inc. ("RMG") was served with a Second Amended Complaint wherein the Northern
Plains Resource Council had filed suit in the U.S. District Court of Montana,
Billings Division in Case No. CV-01-96-BLG-RWA, against the United States Bureau
of Land Management ("BLM"), RMG certain of its affiliates (including U.S. Energy
Corp. and Crested Corp.) and joined some 20 other defendants. The plaintiff is
seeking to cancel oil and gas leases issued to RMG et al by the BLM in the
Powder River Basin of Montana and for other relief.
The basis for the complaint appears to be that the BLM's regulations
require the BLM to respond to objections filed by persons owning land or lease
rights adjacent to the coalbed properties which the BLM is offering to lease to
the public. The argument of plaintiff appears to be that if objections are not
responded to by the BLM prior to issuing CBM leases, the leases are invalid.
Based on this argument, the plaintiff appears to have been successful in forcing
cancellation of some CBM leases granted to others in the Powder River Basin of
Montana, because the BLM did not respond to some objecting adjacent landowners.
However, all of the BLM leases in Montana held by RMG (none are held by U.S.
Energy Corp. or Crested Corp. in their own corporate names) are at least four
years old, and there is no record of any objections being made to the issue of
those leases.
Based on filings in the case to date, it appears that the BLM is taking the
initiative in responding to the plaintiff. We believe RMG's leases were validly
issued in compliance with BLM procedures, and do not believe the plaintiff's
lawsuit will adversely affect an of RMG's Montana BLM leases.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not applicable. PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
(a) Market information.
------------------
The principal trading market for the Registrant's Common Stock, $.001 par value,
is the over-the-counter market. Prices are reported by the National Quotation
Bureau on Pink Sheets. The range of high and low bid quotations for the Common
Stock is set forth below for each quarter in the two most recently completed
fiscal years. Retail markup or markdown, or commissions, are not reflected.
29
High Low
---- ---
Fiscal year ended May 31, 2002
------------------------------
Fourth quarter ended 5/31/02 $ 0.55 $ 0.37
Third quarter ended 2/29/02 0.60 0.33
Second quarter ended 11/30/01 0.50 0.20
First quarter ended 8/31/01 0.45 0.25
Fiscal year ended May 31, 2001
------------------------------
Fourth quarter ended 5/31/01 $ 0.50 $ 0.26
Third quarter ended 2/28/01 0.38 0.13
Second quarter ended 11/30/00 0.25 0.11
First quarter ended 8/31/00 0.25 0.15
(b) Holders.
(b)(1) At August 19, 2002 there were 1,756 stockholders of record for
Crested common stock.
(b)(2) Not applicable.
(c) Crested has not paid any cash dividends with respect to its common stock.
There are no contractual restrictions on Crested's present or future ability to
pay cash dividends, however, Crested intends to retain any earnings in the near
future for operations.
(d) During the year ended May 31, 2002, Crested issued 25,946 shares of its
Common Stock to its outside directors for services rendered.
ITEM 6. SELECTED FINANCIAL DATA.
May 31,
------------------------------------------------------------------------------------
2002 2001 2000 1999 1998
---- ---- ---- ---- ----
Current assets $ 3,300 $ 3,200 $ 3,000 $ 46,600 $ 32,000
Current liabilities 7,560,700 5,740,200 10,230,200 7,015,200 6,545,100
Working capital (7,557,400) (5,737,000) (10,227,200) (6,968,600) (6,513,100)
Total assets 6,054,100 6,221,100 6,495,800 4,742,200 9,431,900
Long-term obligations(1) 964,000 964,000 964,000 725,900 725,900
Shareholders' equity/(deficit) (2,480,700) (493,200) (4,742,300) (1,822,500) 117,200
(1) Includes $748,400 of accrued reclamation costs on uranium properties for
fiscal 2002, 2001 and 2000, respectively; and $725,900 for fiscal 1999 and 1998,
respectively.
30
For Years Ended May 31,
-------------------------------------------------------------------------------
2002 2001 2000 1999 1998
---- ---- ---- ---- ----
Revenues $ -- $ 3,891,500 $ 73,100 $ 86,800 $ 270,800
Income (loss) before
equity in (loss) of
affiliates and
income taxes (175,000) 3,702,400 (194,600) (786,100) 58,500
Equity in (loss) gain of
affiliates (1,823,900) (2,496,700) (5,085,200) (1,165,600) 1,151,000
------------ ----------- ------------ ------------ -----------
Net income (loss) $ (1,998,900) $ 1,205,700 $ (5,279,800) $ (1,951,700) $ 1,209,500
============ =========== ============ ============ ===========
Net income