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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
(MARK ONE)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE
ACT OF 1934 FOR THE FISCAL YEAR ENDED DECEMBER 31, 1999.
[ ] TRANSITION REPORTING PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM ______ TO
______.
COMMISSION FILE NO. 0-21911
SYNTROLEUM CORPORATION
(Exact name of registrant as specified in its charter)
DELAWARE 73-1565725
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1350 SOUTH BOULDER, SUITE 1100
TULSA, OKLAHOMA 74119-3295
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (918) 592-7900
Securities registered pursuant to Section 12(b) of the Act: None
Securities Registered Pursuant to Section 12(g) of the Act:
Common Stock, par value $.01 per share
and
Preferred Share Purchase Rights
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports) and (2) has been subject to such filing
requirements for the past 90 days. YES X NO __
-
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]
At March 1, 2000, the aggregate market value of the registrant's common stock
held by non-affiliates of the registrant was approximately $353,350,030 million
based on the closing price of such stock on such date of $22.00 per share
(assuming solely for this purpose that all of the registrant's directors,
executive officers and 10% stockholders are its affiliates).
At March 1, 2000, the number of outstanding shares of the registrant's common
stock was 27,297,168.
DOCUMENTS INCORPORATED BY REFERENCE
None.
TABLE OF CONTENTS
PAGE
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PART I
Item 1. Business. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2
Item 2. Properties. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 25
Item 3. Legal Proceedings . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 26
Item 4. Submission of Matters to a Vote of Security Holders . . . . . . . . . . . . . . . . . 26
PART II
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters . . . . . . . . 26
Item 6. Selected Financial Data . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 27
Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations 28
Item 7A. Quantitative and Qualitative Disclosures about Market Risk. . . . . . . . . . . . . . 38
Item 8. Financial Statements and Supplementary Data . . . . . . . . . . . . . . . . . . . . . 38
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure. 38
PART III
Item 10. Directors and Executive Officers of the Registrant . . . . . . . . . . . . . . . . . . 38
Item 11. Executive Compensation . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 42
Item 12. Security Ownership of Certain Beneficial Owners and Management . . . . . . . . . . . . 45
Item 13. Certain Relationships and Related Party Transactions . . . . . . . . . . . . . . . . . 47
PART IV
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K . . . . . . . . . . . 47
FORWARD-LOOKING STATEMENTS
This Annual Report on Form 10-K includes forward-looking statements as well
as historical facts. These forward-looking statements include statements
relating to the Syntroleum Process and related technologies, gas-to-liquids
plants based on the Syntroleum Process, anticipated costs to design, construct
and operate these plants, the timing of commencement and completion of the
design and construction of these plants, obtaining required financing for these
plants, the economic construction and operation of gas to liquids plants, the
value and markets for plant products, testing, certification, characteristics
and use of synthetic fuels and alternative fuels, the continued development of
the Syntroleum Process (alone or with partners), anticipated capital
expenditures, anticipated revenues, the sale of our real estate inventory and
any other statements regarding future growth, cash needs, operations, business
plans and financial results. When used in this document, the words
"anticipate," "believe," "estimate," "expect," "intend," "may," "plan,"
"project," "should" and similar expressions are intended to be among the
statements that identify forward-looking statements. Although we believe that
the expectations reflected in these forward-looking statements are reasonable,
these kind of statements involve risks and uncertainties. Actual results may
not be consistent with these forward-looking statements. Important factors that
could cause actual results to differ from these forward-looking statements
include the risks that the cost of designing, constructing and operating
commercial-scale gas to liquids plants will exceed current estimates,
commercial-scale gas to liquids plants will not achieve the same results as
those demonstrated on a laboratory or pilot basis, gas to liquids plants may
experience technological and mechanical problems, improvements to the Syntroleum
Process currently under development may not be successful, plant economics may
be adversely impacted by operating conditions, including energy prices,
construction risks and risks associated with investments and operations in
foreign countries, our ability to implement corporate strategies, competition,
intellectual property risks, our ability to obtain financing and other risks
described in this Annual Report on Form 10-K.
As used in this Annual report on Form 10-K, the terms "we," "our" or "us"
Mean Syntroleum Corporation, a Delaware corporation, and its predecessors and
subsidiaries, unless the context indicates otherwise.
-1-
PART I
ITEM 1. BUSINESS
OVERVIEW
We are the developer and owner of the Syntroleum Process, a proprietary
process designed to catalytically convert natural gas into synthetic liquid
hydrocarbons. The Syntroleum Process is a simplification of traditional gas to
liquids, or "GTL," technologies aimed at substantially reducing the capital and
operating costs and the minimum economical size of a GTL plant. A primary
advantage of the Syntroleum Process over competing processes is its use of air,
rather than pure oxygen, in the conversion process. We believe that the
Syntroleum Process can, in some circumstances, be cost effective in GTL plants
with throughput levels ranging from 2,000 to 50,000 barrels per day and larger.
Due to their relatively small size, we believe that GTL plants based on the
Syntroleum Process can be placed on skids, barges and ocean-going vessels,
allowing these mobile plants to be used at a variety of locations, including
isolated and offshore areas. Although no commercial-scale GTL plant based on
the Syntroleum Process has been built yet, we have successfully demonstrated
many elements and variations of the Syntroleum Process in laboratory tests and
pilot plant operations.
GTL plants can be designed to refine the synthetic liquid hydrocarbons,
also known as "synthetic crude oil," produced by the Syntroleum Process into
higher margin liquid fuels like diesel, kerosene and naphtha, or specialty
products like synthetic lubricants, synthetic drilling fluid, waxes, liquid
normal paraffins as well as chemical and fuel cell feedstocks. Synthetic crude
oil produced by the Syntroleum Process has performance and environmental
benefits and is substantially free of contaminants normally found in crude oil,
including sulphur, aromatics and heavy metals.
We believe that a significant opportunity exists for the use of
cost-effective GTL plants due to the large resource base of natural gas
worldwide and the large volume of natural gas that is currently stranded.
Stranded gas exists in reservoirs that have been discovered but for which no
economical market has been found. The United States Department of Energy has
reported worldwide identified natural gas reserves of 5,011 trillion cubic feet
as of January 1, 1996. Wood MacKenzie Consultants Limited and others have
estimated that of the world's identified natural gas reserves, approximately
one-half, or 2,500 trillion cubic feet, are stranded. If converted using GTL
technology, this stranded gas could generally produce approximately 250 billion
barrels of synthetic crude oil. According to industry sources, approximately
15.5 trillion cubic feet of stranded natural gas was flared, vented or
reinjected in 1996. If converted using GTL technology, this gas could generally
produce approximately 1.5 billion barrels of synthetic crude oil per year, or
4.1 million barrels per day.
BUSINESS STRATEGY
Our objective is to be a leading GTL technology provider to the oil and gas
industry. Our business strategy to achieve this objective involves the following
key elements.
Broadly License the Syntroleum Process. We intend to continue offering
licenses to the Syntroleum Process and related proprietary catalysts to the oil
and gas industry for the production of synthetic crude oil and liquid fuels
primarily outside of North America. To date, we have entered into license
agreements with Texaco Inc., ARCO, Marathon Oil Company, YPF International,
Ltd., an affiliate of Repsol YPF, S.A., Enron Capital & Trade Resources Corp.,
and Kerr-McGee Corporation. In February 2000, we signed a letter of intent with
the Commonwealth of Australia to license the Syntroleum Process. We believe
that substantial long-term revenues can be derived from license fees and
catalyst sales to licensees.
-2-
To support our licensing efforts and facilitate the design and construction
of GTL plants by our licensees, we intend to continue to establish relationships
with engineering companies and manufacturers of critical components. We have
established strategic relationships with the engineering firms of Bateman
Engineering, Inc., Tessag Industrie-Anlagen GmbH (formerly Klockner
Industrie-Anlagen GmbH), a subsidiary of RWE AG, the sixth largest company in
Germany, and AMEC Process and Energy Limited, a British engineering company. In
addition, we have established strategic relationships with critical component
and process vendors, including Criterion Catalyst Company, L.P. (a catalyst
manufacturer whose owners are Royal Dutch Shell Petroleum Company and Cytec
Industries), Catalytica Combustion Systems, Inc., GE Power Systems and Lyondell
Chemical Company. We continue to actively pursue similar relationships with
other engineering companies and component vendors.
We generally obtain title or exclusive rights to inventions or improvements
that result from our joint development activities with others. Under our
license agreements, we obtain royalty-free license rights, including sublicense
rights, to all inventions or improvements relating to the Syntroleum Process
that are commercially used by our licensees. As a result of these rights, we
believe that widespread licensing, combined with our research and development
activities to further improve the Syntroleum Process, will enhance our ability
to gain an advantage over competing technologies and allow us to strengthen our
relationships with our existing licensees and attract new licensees.
Own Specialty Product GTL Plants. We intend to establish joint ventures
with our licensees and other oil and gas industry and financial partners to
design, construct and operate GTL plants designed to produce fuels and high
margin specialty products. Our license agreements do not permit our licensees to
use the Syntroleum Process for the production of specialty products due to our
desire to retain these markets for our own commercial development. We are
developing our first commercial scale GTL specialty products plant, which we
plan to locate in Western Australia. We expect this plant to be owned by a
joint venture between us, Enron, Methanex Corporation and others. Specialty
product plants would enable us to gain experience with the commercial operation
of plants based on the Syntroleum Process and, if successful, would provide more
consistent revenues than license fees.
Further Reduce Costs Through Research and Development Activities and
Acquisitions. We intend to continue our research and development activities
with a focus on developing further improve-ments to the Syntroleum Process and
further reducing the capital and operating costs of GTL plants based on the
Syntroleum Process. We conduct our research and development activities using our
own resources and through joint development arrangements with our licensees and
other industry partners. Texaco, ARCO, Marathon, Bateman, GE Power Systems and
DaimlerChrysler AG have participated or are currently participating with us in
specific joint development projects. In addition, we have a catalyst research
and development relationship with Catalytica Advanced Technologies, Inc.,
Criterion and Englehard Corporation. We have also entered into a letter of
intent with the Commonwealth of Australia to work with Australian universities
and research institutions to advance our GTL technology. We are actively
pursuing relationships with other oil and gas companies, engineering companies
and technology providers as potential joint development partners or providers of
complementary technologies that might enhance or improve the Syntroleum Process.
We also review technological advances made by others and actively seek to
acquire technologies that enhance the Syntroleum Process. Through our license
and joint development agreements, we have acquired proprietary technologies,
patents and patent applications relating to several improvements to the
Syntroleum Process.
We believe that the network created through our license and joint
development agreements, along with our strategic alliances with engineering
companies and critical component vendors, will allow us to more rapidly
commercialize and improve the Syntroleum Process. We also believe that this
network will provide us and our licensees with an important competitive
advantage and enhance our ability to attract additional licensees and joint
development partners.
Our major customers for licensing and contract GTL plants are expected to
be energy companies worldwide with significant stranded natural gas reserves
that cannot be marketed economically and are therefore generally shut-in, flared
or reinjected. We believe that these energy companies could significantly
enhance the value of their reserves by using the Syntroleum Process to convert
natural gas into liquids that could be marketed economically. Our major
customers for specialty products are expected to include many of these energy
companies, as well as a variety of manufacturing, chemical, refining and oil
field service companies.
-3-
INDUSTRY OVERVIEW
We believe that significant opportunity exists for the use of
cost-effective GTL plants due to (1) the large volume of natural gas that is
currently stranded and (2) the significant liquid hydrocarbon markets available
to absorb the production from GTL plants.
HISTORICAL DEVELOPMENT OF GTL TECHNOLOGY
The basis for most GTL technologies, including the Syntroleum Process,
originated in 1923 when two German chemists, Franz Fischer and Hans Tropsch,
discovered that synthesis gas (carbon monoxide and hydrogen) could be
catalytically converted into synthetic hydrocarbons using a precipitated cobalt
catalyst. In the Fischer-Tropsch reaction, the synthesis gas in contact with
the catalyst surface at appropriate temperatures and pressures causes a chemical
reaction that produces hydrocarbons and byproducts consisting primarily of water
and carbon dioxide.
Prior to and during World War II, development of the Fischer-Tropsch
process occurred primarily in Germany. Due to Germany's significant coal
resources and limited oil and gas resources, these development activities
focused exclusively on the conversion of coal into fuels and chemicals. Between
1934 and 1945, nine government-funded coal-to-liquids plants were built in
Germany using coal as the feedstock.
Following World War II, development efforts continued in the United States
and South Africa. In 1950, Texaco participated in the Hydrocol plant, which was
an 8,000 barrel per day synthetic fuel plant that was built in Brownsville,
Texas and used natural gas as the feedstock. Although the plant was a technical
success, it was not economic to operate because a new gas pipeline and changes
in the price of oil created a more economic market for the natural gas, which
resulted in the shutdown of the plant in 1953. In 1950, the South African
government formed a predecessor of Sasol (which was later privatized) to develop
synthetic fuels using coal as the feedstock. Three coal-to-liquids plants were
built in South Africa between 1955 and 1982, and a natural gas based plant was
built in 1993. Each of these plants is still in operation today.
Following the oil embargo of 1973, further development efforts focused on
utilizing both coal and natural gas to produce synthesis gas for the
Fischer-Tropsch process. Several major oil companies and several governments
funded research into synthetic fuels. The worldwide recession of 1982 and the
related drop in oil prices resulted in the termination of most coal-related
development activities. However, development activities related to the
conversion of natural gas continued during the 1980's and 1990's. In 1985,
Mobil built a gas to liquids plant in Montuni, New Zealand, and in 1993 Shell
built a gas to liquids plant in Bintulu, Malaysia. Neither of these plants
remains operational as a gas to liquids plant. Several major oil companies,
including BP Amoco, Chevron, Conoco, Exxon, Phillips and Shell, have recently
announced projects to construct gas to liquids plants.
Assuming that oil prices in the range of $15 to $20 per barrel will
prevail, the generally accepted capital cost target for a GTL plant to be cost
effective for the production of transportation fuel, is $30,000 per barrel of
daily plant capacity or less. We believe that to date no company has built a
commercial-scale GTL plant that has broken this cost barrier. In addition, we
believe that each of the current competitive GTL technologies has taken in
excess of ten years to develop.
NATURAL GAS RESOURCE BASE
Set forth below and elsewhere in this Annual Report on Form 10-K are
estimates of identified reserves of oil and natural gas. These estimates do not
constitute proved reserves in accordance with the regulations of the Securities
and Exchange Commission. Under Securities and Exchange Commission regulations,
proved oil and gas reserves are the estimated quantities of crude oil, natural
gas and natural gas liquids which geological and engineering data demonstrate
with reasonable certainty to be recoverable in future years from known
reservoirs under existing economic and operating conditions, i.e., prices and
costs as of the date the estimate is made. We compiled these estimates of
identified reserves from the referenced industry publications and other publicly
available reports to identify the magnitude of the oil and gas resource base.
We have not independently verified this information. Accordingly, we can give no
assurance as to the existence or recoverability of the estimates of identified
reserves of oil and natural gas set forth in this Annual Report on Form 10-K.
References below and elsewhere in this Annual Report on Form 10-K to the
conversion of identified amounts of natural gas into amounts of synthetic crude
oil assume that all of the referenced natural gas could be converted at
anticipated conversion rates. Actual amounts of synthetic crude oil produced
will vary based on the ability of the producer to extract the natural gas, the
composition of the natural gas and process conditions selected for the plant and
this variance may be material.
-4-
The world's natural gas resource base is very large. The United States
Department of Energy has reported worldwide identified natural gas reserves of
approximately 5,011 trillion cubic feet as of January 1, 1996. If converted
using GTL technology, this gas could generally produce approximately 500 billion
barrels of synthetic crude oil.
The following table presents the 1996 worldwide identified natural gas
reserves, consumption and ratio of reserves to consumption (i.e., reserve life)
by region.
1996 WORLDWIDE NATURAL GAS RESERVES, CONSUMPTION AND RESERVE LIFE
RESERVES TO
1996 CONSUMPTION
REGION RESERVES CONSUMPTION RATIO
- ------------------------------------------- ------------------- --- ---------- --------------
(TRILLION
(TRILLION CUBIC FEET) CUBIC FEET) (YEARS)
Central and South America. . . . . . . . . . 214 3.0 71
Africa and the Middle East . . . . . . . . . 1,960 6.0 327
Asia . . . . . . . . . . . . . . . . . . . . 363 8.0 45
Europe . . . . . . . . . . . . . . . . . . . 169 12.3 14
North America. . . . . . . . . . . . . . . . 299 26.0 11
Russia and other former Soviet Union regions 2,006 22.0 91
---------------------- ------------ --------------
Total . . . . . . . . . . . . . . . . . 5,011 77.3 65
====================== ============ ==============
______________________________
Source: Oil & Gas Journal, August 11, 1997
Additionally, according to the August 11, 1997 edition of the Oil & Gas
Journal, identified natural gas reserves have grown at a rapid rate, almost
doubling in size from 2,540 trillion cubic feet in 1976 to 5,011 trillion cubic
feet in 1996. This has extended the reserve life for worldwide identified
reserves from 53 years in 1976 to 65 years in 1996. This increase occurred
despite the fact that, over the same time frame, demand for natural gas
increased 60%. We believe these statistics demonstrate the need for a
cost-effective market for this resource.
NATURAL GAS FIELD SIZE DISTRIBUTION
The table below lists an estimate of the distribution, by field size, of
natural gas fields located outside North America. Only 86 of these fields are
larger than five trillion cubic feet, which is generally considered to be the
minimum size necessary to support the development of a full-scale liquid natural
gas plant. We believe that fields with natural gas reserves as low as .01
trillion cubic feet can economically support a GTL plant based on the Syntroleum
Process. Based on field size and portability, we believe GTL plants based on
the Syntroleum Process can potentially access over 2,000 of these fields,
representing approximately 95% of the total reserves held in these fields.
-5-
THE WORLD'S NATURAL GAS FIELDS
RESERVES NUMBER OF FIELDS
- --------------------- ----------------
(TRILLION CUBIC FEET)
Between 50 and 500 15
Between 5 and 50 71
Between 1 and 5 234
Between .5 and 1 269
Between .25 and .5 276
Between .1 and .25 475
Between .01 and .1 1,195
Less than .01 1,913
-----
Total 4,448
=====
_____________________
Source: Oil & Gas Journal, February 15, 1993
STRANDED NATURAL GAS RESERVES
Wood MacKenzie, an international consulting firm, and others have estimated
that of the world's identified natural gas reserves, approximately one-half, or
2,500 trillion cubic feet, are stranded. If converted using GTL technology,
this stranded gas could generally produce approximately 250 billion barrels of
synthetic crude oil.
The term "stranded gas" generally refers to gas which exists in reservoirs
that have been discovered, but no economical market can be found for the
production, or production would be too prolific for the limited markets
available. Natural gas that is stranded can be managed in the following ways.
Shut-in Natural Gas. When stranded natural gas reserves have no associated
oil reserves, the natural gas is typically not produced. Based on a resource
study prepared for us by Petroconsultants, Inc., there are at least 394 fields
of at least .5 trillion cubic feet located outside North America that are not
associated with oil reserves and hold approximately 1,488 trillion cubic feet of
currently unmarketable natural gas reserves. If converted using GTL technology,
this gas could generally produce approximately 149 billion barrels of synthetic
crude oil.
Flared and Vented Natural Gas. When stranded natural gas reserves are
associated with oil reserves, the natural gas produced is typically flared or
vented if allowed by applicable law. According to industry sources, an aggregate
of approximately 4.1 trillion cubic feet of natural gas was flared or vented
worldwide in 1996. If converted using GTL technology, this gas could generally
produce approximately one million barrels per day of synthetic crude oil.
Re-injected Natural Gas. When flaring is not permitted by law and the
nature of the geologic formation permits, stranded natural gas is often
reinjected when associated with oil reserves. According to industry sources,
approximately 11.4 trillion cubic feet of natural gas was reinjected worldwide
in 1996. If converted using GTL technology, this gas could generally produce
approximately three million barrels per day of synthetic crude oil.
Shut-in Oil. The presence of natural gas in association with oil reserves
often results in the oil and gas not being produced if flaring is not permitted
by law and reinjection of the natural gas is not a practical alternative due to
the nature of the geologic formation or the economics of the project. We are not
aware of any published estimates of shut-in oil reserves.
-6-
The large amount of stranded natural gas is caused by four primary factors:
the overall size of the gas resource base and the relatively small size of many
fields, as discussed above, the location of the gas relative to its markets, the
cost to transport the gas to those markets and the relatively small size of the
markets for products like ammonia and methanol that can be made from the gas.
Location of Gas Relative to Markets. Much of the world's stranded natural
gas is located in areas where there is no local market and the distance to large
consuming areas is great. This makes transportation costs high and often renders
development projects uneconomic. As shown in the table under "-Industry
Overview-Natural Gas Resource Base" above, the Africa, Middle East and Russia
and other former Soviet Union regions have a large percentage of reserves, low
levels of production and long distances from gas markets. This situation
creates stranded gas, which is manifested in the high reserve-to-production
ratios shown.
Transportation Costs. Even in circumstances where a transportation system
is available for natural gas, the cost of transporting natural gas in a gaseous
state is generally substantially higher, on an energy equivalent basis, than
that of oil. For example, according to published pipeline tariffs, the cost to
transport natural gas approximately 1,600 miles via pipeline from Houston to
Boston is approximately $.80 per million British thermal units, equal to $4.80
per barrel of oil equivalent, assuming 6 million British thermal units per
barrel, while the cost to transport crude oil from the Middle East via tanker to
Boston, a distance of approximately 6,500 miles, is less than $1.00 per barrel.
Natural gas can also be transported as liquefied natural gas. In an
article published in the July 3, 1995 edition of the Oil & Gas Journal, Mobil
Oil Corporation estimated that a five million ton per year liquefied natural gas
plant would incur capital costs of between $9 and $13 billion (including
conversion plant, dedicated liquefied natural gas tankers and regasification
facilities). On the other hand, we estimate that a GTL plant producing the same
energy output would cost substantially less and would not necessarily require
dedicated shipping or unloading facilities.
Small Alternative Natural Gas Markets. We estimate that the worldwide
liquefied natural gas market is approximately 1.2 million equivalent barrels per
day, which is relatively small compared to the approximately 57 million barrels
per day transportation fuels markets. Natural gas can also be converted to
ammonia and methanol. We currently estimate that the market for ammonia on a
barrel of oil equivalent basis is approximately 780,000 barrels per day and the
market for methanol on a barrel of oil equivalent basis is approximately 280,000
barrels per day. These markets are small relative to the size of the worldwide
natural gas resource base and relative to the approximately 74 million barrels
per day market for crude oil and related products.
MARKETS FOR SYNTHETIC CRUDE OIL PRODUCTS
The markets for many of the products that can be produced using the
Syntroleum Process and conventional refining techniques are very large. We
believe that even if substantial volumes of synthetic crude oil created from
natural gas were to flow into these markets, these additional volumes would not
cause a significant degradation of price. The following table presents the
worldwide consumption of refined petroleum products for the years 1986, 1991 and
1996.
WORLDWIDE CONSUMPTION OF REFINED PETROLEUM PRODUCTS
PRODUCT 1986 1991 1996
- ---------------------- ------- ------ ------
(MILLIONS OF BARRELS)
Gasolines (1). . . . . 5,022 5,609 6,431
Middle Distillates (2) 6,012 6,820 8,253
Others (3) . . . . . . 6,600 7,216 7,790
------- ------ ------
Total. . . . . . . 17,634 19,645 22,474
======= ====== ======
_________________
(1) Consists of aviation and motor gasoline and light distillate feedstock.
(2) Consists of jet and heating kerosenes and gas and diesel oils.
(3) Consists of fuel oil, refinery gas, propane, solvents, petroleum coke,
lubricants, bitumen, wax and refinery fuel and loss.
Source: The British Petroleum Company p.c. Statistical Review of World Energy,
1997.
-7-
THE SYNTROLEUM SOLUTION
We expect that the Syntroleum Process will be an attractive solution for
oil and gas companies with stranded natural gas reserves based on our belief
that the Syntroleum Process can be:
a relatively low cost process,
used in relatively small formats,
adaptable to feedstock quality, the location of the reserves and the
desired end products, and
made portable in sizes up to 10,000 barrels per day.
Low Cost. Historically, the most significant obstacle to widespread
commercial use of GTL technology has been cost. Because the Syntroleum Process
is less complex than traditional GTL technologies, we believe that GTL plants
based on the Syntroleum Process will have lower capital and operating costs than
comparable-sized GTL plants based on traditional technology.
Small Formats. Given the large number of small fields containing
unmarketable natural gas, GTL plants that are economic only at high levels of
throughput have limited application. For example, of the 4,448 natural gas
fields located outside North America shown in the table under "Industry
Overview-Natural Gas Field Size Distribution" above, (1) approximately 86
contain sufficient reserves to support a 50,000 barrels per day plant, (2)
approximately 234 contain sufficient reserves to support a 10,000 to 50,000
barrels per day plant, (3) approximately 269 contain sufficient reserves to
support a 5,000 to 10,000 barrels per day plant, and (4) approximately 275
contain sufficient reserves to support a 2,500 to 5,000 barrels per day plant,
in each case for a typical 30-year plant life. In addition, approximately 1,670
of these 4,448 fields contain sufficient reserves to support a 2,000 barrels per
day plant for less than a 30-year plant life. We believe that GTL plants based
on the Syntroleum Process can be cost-effective at throughput levels as low as
2,000 barrels per day and consequently could potentially be used at over 2000 of
these fields, representing approximately 95% of the total reserves held in these
fields.
Adaptable. We also believe that GTL plants based on the Syntroleum Process
can be adapted to use lower quality feedstock and can be located in isolated and
remote locations. Many impurities must be removed from natural gas prior to
processing using traditional GTL technology. However, we believe that some
impurities like nitrogen and carbon dioxide will not need to be completely
removed from natural gas feedstock for GTL plants based on the Syntroleum
Process. Due to their relatively small size, we believe GTL plants based on the
Syntroleum Process can be placed on skids, barges and ocean-going vessels,
allowing these plants to be used at a variety of locations, including isolated
and offshore areas where we believe a majority of natural gas fields are
located. Moreover, because the Syntroleum Process is a net energy generator, we
believe that these plants can be located in remote areas without the need for
any additional power supply.
-8-
Portable. Because of their high capital costs, gas pipelines and other
traditional methods for commercialization of natural gas resources require
significant reserves and established local markets to be economically feasible.
However, due to the potential portability of smaller-sized GTL plants based on
the Syntroleum Process, we believe that these plants may in some circumstances
be used to convert smaller quantities of in-place reserves than would be
necessary to support a traditional project. We also believe that this
portability, together with the global nature of the markets for liquid
hydrocarbons, will reduce the risk involved in GTL projects as compared to
traditional methods of commercialization.
IMPLEMENTATION OF SYNTROLEUM'S BUSINESS STRATEGY
The following sets forth our progress to date in implementing our business
strategy. Although we have made significant progress towards commercializing
the Syntroleum Process, we can give no assurance that licensees will construct
any plants under their license agreements, that we will be able to obtain
financing for specialty product or mobile GTL plants, that design and
construction of any of these plants will be successfully completed, that any of
these plants will be commercially successful or that these plants will be
constructed or utilized on a cost-effective basis. See "Risks Relating to the
Syntroleum Process" and "Item 7. Management's Discussion and Analysis of
Financial Condition and Results of Operations -Additional Financing Requirements
and Access to Capital Funding."
LICENSING ARRANGEMENTS
We currently market four types of license agreements:
Master license agreements generally grant to the licensee the non-exclusive
right to enter into an unlimited number of site license agreements to construct
GTL plants based on the Syntroleum Process to produce fuels worldwide. The
licenses generally exclude the right to use the Syntroleum Process in North
America due to our desire to retain this region for our own commercial
development and in China and India due to intellectual property protection
concerns.
Volume license agreements generally grant to the licensee the non-exclusive
right to enter into an unlimited number of site license agreements to construct
GTL plants based on the Syntroleum Process in areas outside of North America,
China and India, subject to specified aggregate production capacity limits.
Regional license agreements generally grant to the licensee the
non-exclusive right to enter into an unlimited number of site license agreements
to construct GTL plants based on the Syntroleum Process within a designated
region. The designated regions are not expected to include North America, China
or India.
Site license agreements generally grant to the licensee the non-exclusive
right to use the Syntroleum Process in a GTL plant at a single, specified
location for the life of the plant. This type of license may be granted under
our master, regional or volume license agreements or may be granted to licensees
for a specific site who have not otherwise entered into a master, regional or
volume license agreement.
By entering into a master, volume or regional license agreement, a licensee
obtains the right to use the Syntroleum Process, the right to acquire catalysts
from us for which we charge a fixed mark-up over our cost, secures pricing terms
for site licenses, and obtains rights to future improvements in our GTL
technology. To date, we have also entered into master license agreements with
Texaco, ARCO and Marathon, and we have entered into volume license agreements
with YPF, Enron and Kerr-McGee. We have also signed a letter of intent with the
Commonwealth of Australia to license the Syntroleum Process. We intend to
continue to market the Syntroleum Process for license primarily to major oil and
gas companies with significant stranded natural gas reserves.
The following description summarizes the principal terms and conditions of
the forms of our license agreements. This summary is not complete and is
qualified in its entirety by reference to the form of our master license
agreement, a copy of which has been filed as an exhibit to this Annual Report on
Form 10-K. Agreements entered into with specific licensees may differ in
material respects from the current forms of our various license agreements.
-9-
Initial Deposits and License Fees. At the inception of a master, volume or
regional license agreement, the licensee is generally required to make an
initial deposit to us, which is credited against future site-specific license
fees. The amount of the initial deposit depends on market conditions and, in
the case of volume and regional license agreements, the volume limitation and
the size and location of the region covered. We have received an aggregate of
$11 million in cash as initial deposits and option fees under our existing
license agreements. In some cases, we have acquired technologies or commitments
to provide funding for future development activities in lieu of initial cash
deposits in cases where we viewed these technologies or commitments as being
more valuable than the initial cash deposit.
Generally, the amount of the license fee for site licenses under our
master, volume and regional license agreements is determined pursuant to a
formula based on the discounted present value of the product of (1) the annual
maximum design capacity of the plant, (2) an assumed life of the plant and (3)
our per barrel rate, which currently is approximately $.50 per barrel of daily
capacity. Our license fees for new plants may change from time to time based on
the size of the plant, improvements that reduce plant capital cost and
competitive market conditions. Our existing master and volume license
agreements allow for the adjustment of fees for new site licenses under certain
circumstances. We expect that license fees under existing agreements will be
paid in increments when certain milestones during the plant design and
construction process are achieved.
Catalyst Sales and Process Design Packages. Our license agreements grant
The licensee the right to acquire from us or vendors designated by us any
proprietary catalyst used in either the synthesis gas reaction or the
Fischer-Tropsch reaction, in each case at prices based on our cost plus a
margin. We currently estimate that these catalysts will be required to be
replaced every three to five years. Licensees also have the right to acquire
proprietary reactors used in the Syntroleum Process from vendors approved by us.
In addition, under our license agreements, licensees are required to purchase a
process design package for plants covered by the license from us at a fee based
on our costs plus a specified margin. We may, however, develop the process
design package with the assistance of a third party. We are also required to
provide certain technical support to licensees at specified fees.
Other License Terms. As part of our network model for improving our GTL
technology, we acquire a royalty-free license to any invention or improvement to
the Syntroleum Process that is developed by the licensee, together with the
right to grant corresponding sublicenses to our other licensees who have
granted us similar rights. Licensees also acquire the right to use
subsequent inventions or improvements to the Syntroleum Process that we have
acquired from other licensees.
SPECIALTY PRODUCT GTL PLANTS
We intend to design and construct GTL plants that produce specialty
products, including synthetic lubricants, synthetic drilling fluids, waxes,
liquid normal paraffins and chemical and fuel cell feedstocks. We intend to own
these plants through joint ventures and retain significant equity interests in
these joint ventures. In most cases, these specialty plants will require
additional refining technologies and expertise to convert and separate synthetic
crude oil into the desired products.
We are developing a 10,000 barrel per day specialty product plant which we
Call the "Sweetwater" plant. We currently anticipate that this plant will
Produce synthetic lube oil, normal paraffins, drilling fluid, and synthetic
Light paraffins. The plant was initially planned to be constructed in
Sweetwater County, Wyoming. However, after being approached by gas producers
at alternative sites at which lower cost natural gas could be obtained, we
decided to evaluate international sites as well. In February 2000, we
selected a site on the Burrup Peninsula of Western Australia as the site for
the plant. The site is about 4 kilometers from the North West Shelf LNG
facility and near the towns of Karatha and Dampier. The site is approximately
1,000 miles north of Perth, Australia.
In November 1999, we signed a project development agreement with Tessag
Industrie-Anlagen GmbH (formerly Klockner Industrie-Anlagen GmbH) to provide us
with a fixed price for the design and construction of the Sweetwater plant.
Tessag also agreed to pay liquidated damages in the event certain process and
product specifications are not achieved. This commitment is important in order
to obtain the necessary debt financing for the project. We currently expect
that Tessag will design and construct the plant. Syntroleum is the managing
member of the this joint venture, but it may subcontract with a third party that
would manage the operations of the plant.
-10-
We have entered into a gas purchase agreement with the North West Shelf
Venture partners, whose members include Shell Development (Australia) Pty Ltd.,
Chevron Australia Pty Ltd., BP Development Australia Pty Ltd., Woodside
Energy Ltd., BHP Petroleum (North West Shelf) Pty Ltd., and Japan Australia LNG
(MIMI), a partnership between Mitsui and Mitsubishi. Subject to several
conditions, the venture agreed to supply gas to the plant for 20 years.
We have also entered into a letter of intent with Methanex Corporation
which provides for Methanex to become an equity investor in the project.
Under the letter of intent, Methanex has contributed $2 million toward the
cost of engineering and would contribute an additional $43 million after
certain conditions are met, including finalizing debt and receipt of
satisfactory permits. Enron has contributed $1 million toward the development
of the project.
The State of Western Australia has agreed to assist our project and other
potential projects in the area with a AUD$19 million (approximately US$12
million) common use infrastructure package, including a desalinization plant to
which our project will supply steam and from which our project will receive
cooling water.
In February 2000 we entered into a letter of intent with the Commonwealth
Of Australia to license the Syntroleum Process as part of a program for
Unlocking the value of Australia's energy reserves and improving the quality
of the environment. Under this letter of intent, the Commonwealth would make
a AUD$30 million (approximately US$19 million) deposit, of which AUD$20 million
(approximately US$12.4 million) may be credited against future license fees.
The letter of intent also provides that the Commonwealth would make a 25-year,
AUD$40 million (approximately US$25 million) interest free loan to support the
further development and commercialization of GTL technologies in Australia.
These commitments by the Commonwealth are subject to negotiation and execution
of definitive license and loan agreements.
The capital costs of this plant are currently expected to be funded by a
combination of project senior and subordinated debt and additional equity
financing. Our ownership percentage in the project will depend on the terms of
subsequent financings.
We are currently exploring sources of debt and equity capital to fund
final design and construction. However, we can give no assurance that the
necessary capital for this project will be obtained. The schedule for
construction of this plant has not yet been finally determined. See "Item 7.
Management's Discussion and Analysis of Financial Condition and Result of
Operations."
RESEARCH AND DEVELOPMENT
One of our key strategies is to continue to lower the cost of our GTL
technology through research and development. Our current laboratory has 14
fixed tubular reactors, one HMX reactor, one moving bed slurry reactor and five
continuous stirred tank reactors in which automated tests are run and catalyst
systems are evaluated and developed. As of March 1, 2000, we had 47 employees in
our laboratory, pilot plant and engineering departments, 28 of whom are
chemists, engineers or other degreed professionals (16 with masters or Ph.D.
degrees) devoted to research and development activities. A number of other
chemists, engineers and professionals that are employed by our licensees and
joint development partners are also contributing efforts to the further
development of the Syntroleum Process. We also own a 16,500 square foot
laboratory facility located on approximately 100 acres of land and plan to
expand our research and pilot plant capabilities further at this facility.
We also have access to laboratory and test facilities through our joint
development partners. For example, both Texaco and ARCO have performed catalyst
tests at their own or contract facilities, and testing with Catalytica and
Marathon regarding low heating value gas combustion has been conducted at
Catalytica's and other test facilities. Additionally, we have our own technical
experts as well as access to the technical experts of our joint development
partners. Several of our joint development partners have employees working on
research and development activities related to improving the Syntroleum Process.
-11-
Our research and development efforts will take place in four primary areas:
process design, catalyst development, reactor design and heat integration/power
recovery. For a discussion of our efforts in these areas, see "The Syntroleum
Process."
STRATEGIC RELATIONSHIPS
We have sought to rapidly improve and commercialize the Syntroleum Process
by entering into relationships with engineering companies, component
manufacturers and others. Each of these companies contribute some combination
of expertise, technology and financial resources useful in commercializing the
Syntroleum Process. We believe that these relationships
help speed the commercialization of the Syntroleum Process,
help lower the cost of future GTL technology,
contribute to our marketing program,
facilitate GTL market growth and demand for GTL products, and
reduce competitive risks that smaller companies often face.
To date, we have entered into joint development, testing or similar
arrangements with Texaco, ARCO, Marathon, Bateman, Criterion, Catalytica,
Advanced Technologies, GE Power Systems, Daimler Chrysler, AMEC, and Lyondell.
We intend to continue to seek additional strategic partners with expertise and
technologies from which we could benefit.
Although we have entered into agreements with a number of strategic
partners, we can give no assurance that these agreements will not be terminated,
that these relationships will continue, or that the anticipated benefits of the
relationships will be obtained. See "Risks Relating to the Syntroleum Process."
SALES AND MARKETING
We intend to maintain an active marketing and sales effort to develop and
promote the Syntroleum Process through several channels. We have been and will
continue to be an active participant at industry conferences relating to GTL
processes. During 1999, representatives of our company spoke at 23 different
conferences at locations around the world. We also intend to continue to write
and publish papers on topics regarding the implications of GTL technology to the
industry. Additionally, we will continue to educate and inform our customers
through the use of multi-media and print presentations. We also intend to
establish brand recognition for specialty products to be produced by our
specialty plants. We have received trademark and service mark rights to the
name "Syntroleum" in the United States and have applications pending to register
the trademark in various foreign countries.
In addition, Bateman, AMEC and other engineering companies are familiar
with our GTL technology and have assisted us in marketing the Syntroleum
Process. Our agreements with engineering firms generally provide these firms
with the right to market the Syntroleum Process. We believe that these
relationships will expand our marketing effort in a cost-effective manner.
We currently have five employees in our business development and marketing
departments, three of whom hold advanced degrees, and we also retain a
full-time sales representative in London, England.
-12-
THE SYNTROLEUM PROCESS
The Syntroleum Process involves two catalytic reactions. The first
reaction converts natural gas into synthesis gas, and the second reaction
converts the synthesis gas into hydrocarbons through the Fischer-Tropsch
reaction over a proprietary catalyst. The following diagrams illustrate these
reactions.
STEP 1
CONVERSION OF NATURAL GAS TO SYNTHESIS GAS
Synthesis Gas
Natural Gas Air Steam. . . (diluted with Nitrogen) Water
Catalyst
CH4 + O2 + N2 + H2O - CO + H2 + N2 + H2O
STEP 2
FISCHER - TROPSCH SYNTHESIS
Synthesis Gas
(diluted with Nitrogen) Hydrocarbons Nitrogen Water
Catalyst
H2 + CO + N2 - CnH (2n+2) + N2 + H2O
Our goal in developing this process has been to substantially reduce both
the capital and operating costs and the minimum economical size of a GTL plant.
We believe that by reducing the complexity of the process we have achieved this
goal. We have developed and continue to develop variations of our basic process
design in an effort to further lower costs and increase the adaptability of the
Syntroleum Process to a wide variety of potential applications.
We have two pilot plants in operation today. Our nominal two barrel per day
pilot plant is located in Tulsa, Oklahoma. We are a joint participant with ARCO
in a 70 barrel per day demonstration plant located at ARCO's Cherry Point
refinery in the state of Washington. These plants have successfully
demonstrated many elements and variations of the Syntroleum Process. However,
no commercial-scale GTL plant based on the Syntroleum Process has yet been
constructed.
Although we believe that the Syntroleum Process can be utilized in
commercial-scale GTL plants, we can give no assurance that commercial-scale GTL
plants based on the Syntroleum Process will be successfully constructed and
operated or that these plants will yield the same economics and results as those
demonstrated on a pilot plant basis. In addition, improvements to the
Syntroleum Process currently under development may not prove to be commercially
applicable. See "Risks Relating to the Syntroleum Process."
FISCHER-TROPSCH CATALYST SYSTEMS
We have developed several different proprietary catalysts systems for use
in the Fischer-Tropsch reaction in order to allow for matching a catalyst
system to a particular reactor design and provide more flexibility in matching
the Syntroleum Process to the desired applications.
Based upon pilot tests of catalysts that we have manufactured, we believe
that a number of proprietary catalyst systems meet or exceed the activity and
selectivity targets necessary for commercial application in some current
Syntroleum Process designs, including the catalysts associated with the moving
bed slurry reactor currently operating at the pilot plant jointly developed with
ARCO at ARCO's Cherry Point refinery.
Most Fischer-Tropsch catalysts produce a very waxy synthetic crude oil.
Typically, more than 50% of a barrel of synthetic crude oil is solid at room
temperature due to the high wax content. These waxy hydrocarbons are typically
processed through a hydrocracker to convert them into liquid hydrocarbons at
room temperature that can be further processed into transportation fuels. Our
proprietary "high alpha" catalyst produces a very waxy synthetic crude oil which
can be further processed through hydrocracking to make liquid synthetic fuels,
or, with other refining processes, the waxy portion can be converted into higher
value specialty products such as synthetic lubricants.
-13-
Under our agreement with Criterion, Criterion has manufactured, in its
commercial facilities, batches of our catalysts in quantities sufficient to
confirm that the performance of these catalysts is comparable to the same
catalyst produced by us and that these catalysts can be produced in commercial
quantities at targeted cost levels. We estimate that the useful life of our
Fischer-Tropsch catalysts will be three to five years under normal operating
conditions.
We plan to refine existing catalysts and continue to develop additional
Catalyst formulations for use in the Syntroleum Process. Catalyst development
is a complex process requiring significant scientific skill and resources. We
have in the past and intend to continue to devote substantial resources to
research and development activities to produce Fischer-Tropsch catalysts with
improved activity rates, selectivity and active life, all at reasonable
manufacturing cost. In addition, we intend to enhance our catalyst development
activities through catalyst joint development programs with our joint
development partners. From time to time, we also retain catalysis experts on
a consulting basis to assist in catalyst development.
FISCHER-TROPSCH REACTOR DESIGNS
We have tested at our pilot plant three different proprietary
Fischer-Tropsch reactor designs and associated catalysts for use in the
Syntroleum Process. These include a fixed bed vertical tubular reactor, a
fluidized bed reactor for use with our chain-limiting catalyst and the
proprietary hybrid multi-phase HMX reactor developed under our joint
development agreement with Texaco. In addition, we have tested a large
bench scale moving bed slurry reactor developed under our agreement with
ARCO. ARCO has constructed and is currently operating a 70 barrel per day
pilot plant that is testing the moving bed slurry reactor on a larger scale.
A horizontal reactor design is also being developed by us and may be
preferred in GTL plants on ships operating in rough water conditions,
where its low center of gravity may be an important feature. We have
several pending United States and foreign patent applications related
to our Fischer-Tropsch reactors.
HEAT INTEGRATION AND POWER RECOVERY
Compression energy is the primary energy consumer in the Syntroleum
Process. Engineering studies conducted by Bateman and others have demonstrated
that the heat generated by the two catalytic reactions in the Syntroleum Process
can be captured in the form of mechanical and electrical energy sufficient to
supply all of a GTL plant's needs plus a surplus for other uses, if desired. We
have developed several heat integration and power recovery schemes to broaden
the flexibility of the Syntroleum Process and, in some cases, lower the capital
cost as well as the number of pieces of major equipment necessary for operation
of a GTL plant.
Different configurations of GTL plants based on the Syntroleum Process can
also change the energy sources within the plant and the excess energy produced.
For example, a steam turbine can be incorporated into the process and utilize
the steam produced by the auto-thermal reformer and Fischer-Tropsch reactions
to produce energy for compression, and electrical power for commercial sale.
In addition, we have developed a configuration that utilizes the low heating
value residue stream from the process as feedstock for a specially designed gas
turbine that can utilize very low heating value gas. Several of these heat
integration and power recovery schemes are the subject of United States patents
and patent applications and foreign patent applications and are a part of our
joint development efforts with others.
ADVANTAGES OVER COMPETING PROCESSES
We believe that the method by which our process uses air directly from the
atmosphere is a unique characteristic and a primary competitive advantage of the
Syntroleum Process. Competitive processes for the conversion of natural gas
into synthetic hydrocarbons generally utilize either steam reforming or a
combination of steam reforming and partial oxidation with pure oxygen in the
conversion of natural gas to synthesis gas. Steam reformers react steam with
natural gas to produce synthesis gas. A steam reformer is a relatively complex
unit that consists of a large fired heater with catalyst-filled tubes. Because
the reaction operates at high temperature and pressure, the tubes are made of
exotic alloys and are expensive. Operating costs are increased due to the
endothermic nature of the process, which requires a continuous input of heat.
Processes that utilize a combination of steam reforming and partial oxidation
with pure oxygen also require an air separation plant to produce pure oxygen.
The air separation plant must be constructed with expensive metals and
materials, because its operation involves very low temperatures and requires
significant energy input, as well as operating risks inherent in handling pure
oxygen. Moreover, the use of pure oxygen generates synthesis gas that is free
of nitrogen. While the Fischer-Tropsch reaction in competitive processes is
designed to occur without the presence of nitrogen, the Syntroleum Process is
designed to utilize the nitrogen in the Fischer-Tropsch process to remove a
portion of the heat generated by the process. Use of the auto thermal reformer
reactor in the Syntroleum Process also provides advantages over competitive
processes because of its relatively low capital and operating costs. In
addition to lowering the capital cost, the elimination of an air separation
plant and steam reformer has the additional advantage of reducing the size and
complexity and lowering the energy requirement of GTL plants based on the
Syntroleum Process.
-14-
We believe that another advantage of the Syntroleum Process is the absence
of recycle loops necessary in some competitive processes, which also tends to
lower capital costs. In the Fischer-Tropsch stage of some competitive
processes, a recycle loop is utilized in order to maximize the output of
hydrocarbons and help control the heat generated by the reaction. As a result,
these processes are designed to avoid the introduction of inert gases (including
nitrogen) into the process, which would otherwise build up in the system and
hinder the reaction.
FEEDSTOCKS
The Syntroleum Process is designed to produce approximately six million
British thermal units of liquid hydrocarbons from between 10 and 12 million
British thermal units of natural gas feedstock, although conversion efficiency
may vary depending on gas composition and process conditions selected for each
plant. One of the benefits of the Syntroleum Process is its ability to utilize
natural gas containing nitrogen and carbon dioxide, up to specified levels,
without removing these impurities prior to consumption by the plant. However,
natural gas that contains sulphur, metals and other materials that poison
catalysts must be processed in order to remove these contaminants prior to the
use of the natural gas in the first catalytic reaction.
PRODUCTS: SYNTHETIC CRUDE OIL, NAPHTHA AND DISTILLATES
The synthetic crude oil produced from GTL plants is widely compatible with
the existing crude oil-based energy infrastructure and can be either sold as is
or further refined to produce fuels, including diesel, kerosene or naphtha. We
believe that these products have environmental and perform-ance benefits when
compared to similar products produced from conventional crude oil.
Synthetic Crude Oil. Synthetic crude oil is high quality and has a
consistent composition, water-white color (clear) and high paraffin content.
Impurities commonly associated with crude oil, like sulfur, metals, basic
sediment and water (BSandW) and salt, are not present in synthetic crude oil.
These properties make synthetic crude oil easier to refine into finished
products with superior environmental characteristics. Total worldwide demand
for crude oil is approximately 70 million barrels per day.
Naphtha. Naphtha is a light product generally in the molecular range of
five to nine carbon atoms. Naphtha is a common feedstock for the production of
ethylene. Refiners can also use naphtha as a component in gasoline. It is
often upgraded via catalytic reforming to improve its octane for the production
of gasoline. We believe that synthetic naphtha will make an excellent fuel for
emerging fuel cell technology. It is non-toxic, contains approximately twice
the hydrogen content of other fuels being considered for fuel cells, and can be
distributed using existing infrastructure. Historically, naphtha prices have
averaged between $15 and $25 per barrel.
Distillate/Synthetic Diesel Fuel. Distillate is a range of fuels from ten
to 20 carbon atoms and includes jet fuel, kerosene and diesel fuel. Our
synthetic diesel product has significant benefits over conventional refinery
products because it is virtually free of sulfur and, due to its high percentage
of straight chain molecules, has a very high cetane number. In California,
current regulatory requirements generally result in a cetane number of
approximately 50 for diesel while the cetane number of diesel produced from
synthetic crude oil is between 70 and 75. As a result, this product makes a
superior blending stock for upgrading conventional fuels. Historically,
distillate prices have ranged from a low of $23 to a high of $31 per barrel.
-15-
Synthetic diesel fuel produced using the Syntroleum Process contains
significantly reduced sulfur and aromatic content which reduces pollution levels
commonly associated with conventional diesel fuel, while maintaining a high
cetane rating which promotes high operating efficiency. Synthetic diesel fuel
can burn in conventional diesel engines, can be distributed using existing
infrastructure and will not require modification to existing diesel engines.
Southwest Research Institute has tested diesel fuels produced by the Syntroleum
Process. The first study, presented in 1997, found that engines that were run
using Fischer-Tropsch diesel fuel emitted less carbon monoxide, fewer
hydrocarbons, fewer particulates and less NOx when compared to emissions from
currently available diesel fuel that satisfies United States government
specifications. More recently, Southwest Research has concluded additional
testing comparing our synthetic diesel with three different clean diesel fuels
in both heavy and light duty engines. The tests demonstrated that our fuel
burned more cleanly than any of the others.
Based on these results, we are applying for certification that these fuels
qualify as alternate fuels under the guidelines set by the Environmental
Protection Agency, the Department of Energy, and the Department of
Transportation. We have also entered into an agreement with DaimlerChrysler to
test and develop synthetic diesel fuel and we are also working with Argonne
National Laboratories to develop a clean fuel for use in emerging fuel cell
technology. These testing programs are part of our efforts to develop a new
family of high performance and environmentally superior synthetic fuels for use
in diesel engines.
PRODUCTS: SPECIALTY PRODUCTS
We intend to design, construct and own significant equity interests in GTL
plants designed to produce specialty products. These plants will be designed to
use our proprietary high alpha catalyst to produce synthetic crude oil, which
will then be further refined using conventional refining equipment and
proprietary processes licensed from others to convert a portion of the synthetic
crude oil into lubricants and drilling fluid. We have retained the exclusive
right to manufacture these products using the Syntroleum Process under our
license agreements. The targeted specialty products include the following.
Synthetic Lube Base Oil. We anticipate that specifications for motor oil
will become more stringent in the future as automobile manufacturers respond to
tightening emissions requirements. This could result in increased demand for
high quality base oils as blending stock. We have licensed from Lyondell a
proprietary process and catalyst used in the production of a high quality lube
oil blending stock that could be blended with conventional lubricants to
increase overall quality of the finished product. According to industry
publications, worldwide demand for all lubricants is approximately 800,000
barrels per day. Historically, lube oil prices have varied from approximately
$40 per barrel for the lowest quality grades to over $200 per barrel for the
highest quality synthetic grades.
Synthetic Drilling Fluid. Drilling fluids are used in the drilling of oil
and gas wells as a coolant and lubricant for the drill bit and to enhance safety
during offshore drilling operations by maintaining well pressure. Drilling
fluid can accumulate under platforms mixed with well cuttings. Oil based
fluids, which have been used historically, degrade slowly and can suffocate
aquatic plant and animal life. In response to increased environmental
pressures, synthetic drilling fluids have been developed and used in the Gulf of
Mexico and other offshore locations, where prices have generally ranged between
$250 and $300 per barrel. In response to this market opportunity, we have, in
conjunction with Amoco Production Company, developed a synthetic drilling fluid
product that we expect will meet all current applicable environmental
requirements.
Waxes. Waxes are longer linear chain hydrocarbon molecules that are solids
at room temperature and have a variety of applications, including adhesives,
candles and coatings. According to industry publications, United States demand
for waxes in 1995 was approximately 21,000 barrels per day. These markets have
primarily been supplied with petroleum derived waxes. Historically, prices have
varied between $30 per barrel for the lowest quality wax to over $150 per barrel
for high melting point synthetic wax.
-16-
Normal Paraffins. Normal paraffins are saturated linear hydrocarbons with
molecular ranges between ten and 15 carbon atoms. These products must be 98%
pure, have low odor levels and be of water clear quality. They are primarily
used in the production of laundry detergent, cosmetics and pharmaceuticals,
paints, stains, ink oils, aluminum rolling oils and lamp oils. Historically,
prices for normal paraffins have averaged between $50 and $85 per barrel.
Fuel Cell Feedstock. We have conducted successful tests at Argonne
National Laboratories, Northwest Power Systems and by Epyx Corp. of our
Synthetic fuel as a feedstock for fuel cells in the power generation and
Transportation markets. Our feedstock offers high hydrogen density,
virtually zero sulfur content, and compatibility with the existing fuel
distribution infrastructure.
BYPRODUCTS AND EMISSIONS
A byproduct of the Syntroleum Process is synthesized water that, with
treatment to remove organic materials, could be sold commercially as industrial
or irrigation water in areas where sufficient demand exists. Based on pilot
plant tests, we believe that approximately 1.3 barrels of synthesized water can
be produced for each barrel of synthetic crude oil produced.
Depending on the process configuration, emissions from the Syntroleum
Process are expected to include nitrous oxide, carbon monoxide, carbon dioxide
and light hydrocarbons, which we believe will generally be within applicable
emissions standards. Spent catalysts are expected to be processed by a catalyst
reclaimer who will recover useful metals and be responsible for disposal of the
nonreclaimed portion of the catalyst.
RISKS RELATING TO THE SYNTROLEUM PROCESS
COMMERCIAL-SCALE GTL PLANTS BASED ON THE SYNTROLEUM PROCESS MIGHT NEVER BE
SUCCESSFULLY CONSTRUCTED OR OPERATED.
To date, no commercial-scale GTL plant based on the Syntroleum Process has
been constructed. A commercial-scale GTL plant based on the Syntroleum Process
might never be successfully built either by us or by any of our licensees. Our
success depends on our ability, and the ability of our licensees, to
economically design, construct and operate GTL plant based on the Syntroleum
Process on a commercial scale. The successful commercial construction and
operation of a GTL plant based on the Syntroleum Process depends on a variety of
factors, many of which are outside our control. Although we are currently
developing our first commercial-scale GTL plant, we do not know for certain when
construction of this plant will begin or when it will become operational.
COMMERCIAL-SCALE GTL PLANTS BASED ON THE SYNTROLEUM PROCESS MIGHT NOT
PRODUCE RESULTS NECESSARY FOR SUCCESS, INCLUDING RESULTS DEMONSTRATED ON A
LABORATORY AND PILOT PLANT BASIS, AND THOSE PLANTS COULD BE ADVERSELY IMPACTED
BY MECHANICAL PROBLEMS OR OTHER CONSTRUCTION OR OPERATING CONDITIONS.
A variety of results necessary for successful operation of the Syntroleum
Process could fail to occur at a commercial plant, including operations and
reactions successfully tested on a laboratory and pilot plant basis. Results
that could cause commercial GTL plants to be unsuccessful include:
- - lower reaction activity than demonstrated in laboratory and pilot plant
operations, which would increase the amount of catalyst or number of
reactors required to convert synthesis gas into liquid hydrocarbons and
increase capital and operating costs,
- - shorter than anticipated catalyst life, which would require more frequent
catalyst purchases,
-17-
- - excessive production of gaseous light hydrocarbons from the Fisher-Tropsch
reaction compared to design conditions, which would lower the anticipated
amount of liquid hydrocarbons produced and lower revenues and margins
from plant operations, and
- - inability of the gas turbine integrated into the Syntroleum Process to
burn the low heating value tail gas that is produced by the process, which
would result in the need to incorporate other methods to generate
horsepower for the compression process that may increase capital and
operating costs.
In addition, the plants could experience mechanical difficulties, either
related or unrelated to elements of the Syntroleum Process. Construction or
operating conditions may also impact commercial plants, including the size of
the equipment, the amount and quality of natural gas feedstock, the market for
plant products, and other conditions that we may not be able to anticipate. In
addition, we do not have any experience managing the design, construction or
operation of commercial GTL plants or any commercial plants, and we may not be
successful in doing so.
IMPROVEMENTS TO THE SYNTROLEUM PROCESS ARE CURRENTLY UNDER DEVELOPMENT
WILLREQUIRE ADDITIONAL EFFORTS, AND IF THESE IMPROVEMENTS ARE NOT COMMERCIALLY
VIABLE, THE DESIGN AND CONSTRUCTION OF GTL PLANTS BASED ON THE SYNTROLEUM
PROCESS COULD BE DELAYED OR PREVENTED.
A number of improvements to the Syntroleum Process are in various early
stages of development. These improvements will require substantial additional
investment, development and testing prior to their commercialization. We might
not be successful in developing these improvements and, if developed, they may
not be capable of being utilized on a commercial basis. If improvements to the
Syntroleum Process currently under development do not become commercially viable
on a timely basis, the design and construction of GTL plants by us and our
partners and by our licensees could be delayed or prevented.
Improvements to the heat integration of the Syntroleum Process may not
occur because further integration of the gas turbine into the process might not
be technically feasible due to the operating tolerances of the materials in the
gas turbine. Our horizontal reactor, which is designed to have a low center of
gravity for marine applications, may not be commercially applicable due to
operational difficulties. During 1999, we engaged in pilot testing of a new auto
thermal reforming reactor design and a moving bed slurry reactor and associated
catalyst under a joint development program with ARCO. While this pilot test is
ongoing, it might not prove successful.
IF WE DO NOT SUCCESSFULLY RESPOND TO TECHNOLOGICAL ADVANCES BY OTHERS, THE
SYNTROLEUM PROCESS MAY BECOME OBSOLETE.
As GTL technologies continue to be developed by our competitors, one or
more of our current technologies may become obsolete. As a result, our ability
to create and maintain technological advantages will be important to our future
success. As new technologies develop, we may be placed at a competitive
disadvantage, and competitive pressures may force us to implement new
technologies at substantial cost. We may not be able to successfully develop,
or expend the financial resources necessary to acquire, new technology.
THE ECONOMIC APPLICATION OF GTL PLANTS BASED ON THE SYNTROLEUM PROCESS
DEPENDS ON FAVORABLE CRUDE OIL PRICES AND OTHER ENERGY AND PRODUCT PRICES.
Our belief that the Syntroleum Process can, in some circumstances, be cost
effective at GTL plants with throughput levels ranging from 2,000 to 50,000
barrels per day and larger is based on our assumption that oil prices in the
range of $15 to $20 per barrel will prevail. However, the markets for oil and
natural gas have historically been very volatile and are likely to continue to
be very volatile in the future. Although crude oil prices are currently high
relative to historical prices, crude oil prices fell during 1998 to historically
low levels of below $10 per barrel and could return to low levels in the future.
The effect of oil and natural gas prices on the cost-effective operation of
a GTL plant depends significantly on the plant products and whether the natural
gas converted by the plant is associated with oil reserves. We anticipate that
GTL plants designed to produce specialty products, and GTL plants that are used
to convert natural gas which is associated with oil reserves, may continue to be
cost effective at price levels below the range of $15 to $20 per barrel for oil.
However, GTL plants that are used to convert natural gas that is not associated
with oil reserves and are designed to produce fuels, like those our licensees
are entitled to construct, are generally not expected to be cost effective at
price levels below that range.
-18-
Because the synthetic crude oil, liquid fuels and specialty products that
GTL plants are expected to produce will compete in markets with oil and refined
petroleum products, and because natural gas will be used as the feedstock at GTL
plants based on the Syntroleum Process, an increase in natural gas prices
relative to prices for oil and refined products, or a decrease in prices for oil
and refined products, could adversely affect the operating results of these
plants. Factors that could cause changes in the prices and availability of oil,
natural gas and refined products include the level of consumer product demand,
weather conditions, domestic and foreign government regulation, the actions of
the Organization of Petroleum Exporting Countries, political conditions in oil
and natural gas producing countries, the supply of foreign crude oil and natural
gas, the location of GTL plants relative to natural gas reserves and pipelines,
the capacities of pipelines, fluctuations in seasonal demand, governmental
regulations, the price and availability of alternative fuels and overall
economic conditions. We cannot predict the future markets and prices for oil,
natural gas or refined products. Adverse operating results at GTL plants will
adversely affect operating results at the GTL plants in which we retain equity
interests and reduce the licensing fees we receive for both new license
agreements and new plant construction.
ADVERSE OPERATING CONDITIONS, HIGHER THAN EXPECTED CONSTRUCTION COSTS,
UNANTICIPATED DELAYS OR LOWER THAN ANTICIPATED DEMAND FOR PLANT PRODUCTS WOULD
EACH ADVERSELY AFFECT THE ECONOMIC APPLICATION OF GTL PLANTS BASED ON THE
SYNTROLEUM PROCESS.
The economic application of GTL technology depends on a number of factors,
including site location, infrastructure, weather conditions and a variety of
other operating conditions. Our belief in the economic application of GTL
plants based on the Syntroleum Process is based on assumptions relating to the
operating conditions of the plants and assumptions regarding the capabilities of
the Syntroleum Process based on our laboratory and pilot plant data. Numerous
events could occur that would be inconsistent with these assumptions. For
example, the plants could be located in areas that require more infrastructure
than we have assumed. In addition, GTL plant construction cost estimates
prepared for us could be understated, necessary permits may not be issued by
regulatory authorities or may not be issued within the expected time frames, the
plants could take longer to construct than anticipated, and the demand for the
products produced by the plants may not materialize or may materialize at lower
price levels than we currently anticipate.
OUR RECEIPT OF LICENSE FEES DEPENDS ON SUBSTANTIAL EFFORTS BY OUR
LICENSEES, AND OUR LICENSEES COULD CHOOSE NOT TO CONSTRUCT A GTL PLANT BASED
ON THE SYNTROLEUM PROCESS OR TO PURSUE ALTERNATIVE GTL TECHNOLOGIES.
Our licensees will control whether any plant site licenses are issued and
Any resulting additional license fees are due under our license agreements.
Licensees may need to undertake substantial activities before any plant site
license is issued and license fees are due. These activities may include
performing feasibility studies, obtaining regulatory approvals and permits,
obtaining preliminary and final design and engineering for the plant, obtaining
a sufficient dedicated supply of natural gas, obtaining adequate commitments for
the purchase of the plant's products, and obtaining the financing for
construction of the plant. The amount and timing of resources devoted to these
activities will be controlled by the licensee. Whether licensees are willing to
expend the resources necessary to construct GTL plants will depend on a variety
of factors outside our control, including the prevailing view of prices for oil
and natural gas. If we do not receive payments under our license agreements, we
may not have sufficient resources to implement our business strategy. Our
licensees are not restricted from pursuing alternative GTL technologies on their
own or in collaboration with others, including our competitors.
INDUSTRY REJECTION OF THE SYNTROLEUM PROCESS WOULD MAKE OUR CONSTRUCTION
OF SPECIALTY PRODUCT GTL PLANTS MORE DIFFICULT OR IMPOSSIBLE AND ADVERSELY
AFFECT OUR ABILITY TO RECEIVE FUTURE LICENSE FEES.
-19-
As is typical in the case of a new and rapidly evolving technology, demand
and industry acceptance for our GTL technology is subject to a high level of
uncertainty. Failure by the industry to accept our technology would make our
construction of specialty product GTL plants more difficult or impossible and
adversely affect our ability to receive future license fees. Should a high
profile industry participant adopt the Syntroleum Process and fail to achieve
success or should any commercial GTL plant based on the Syntroleum Process fail
to achieve success, other industry participants' perception of the Syntroleum
Process could be adversely affected. Likewise, if a major oil company were to
either successfully develop or adopt a GTL technology competing with the
Syntroleum Process or should industry participants adopt a strategy of
disparaging the Syntroleum Process, our reputation could be adversely affected.
In addition, some oil companies may be motivated to seek to prevent industry
acceptance of GTL technology based on their belief that widespread adoption of
GTL technology might negatively impact the competitive position of such
companies without access to GTL technology.
WE DEPEND ON STRATEGIC RELATIONSHIPS WITH MANUFACTURING AND ENGINEERING
COMPANIES, AND FAILURE BY THESE COMPANIES TO PROVIDE NECESSARY COMPONENTS OR
SERVICES COULD RESULT IN THE DELAY OR CANCELLATION OF PLANS FOR THE CONSTRUCTION
OF GTL PLANTS BASED ON THE SYNTROLEUM PROCESS.
We intend to, and believe our licensees will, utilize third party component
manufacturers in the design and construction of GTL plants based on the
Syntroleum Process. If any third party manufacturer is unable to provide
components of GTL plants based on the Syntroleum Process in commercial
quantities, in a timely manner and within specifications, we or our licensees
could experience material delays, or construction plans could be canceled, while
alternative manufacturers are identified and prepare for production. We have no
experience in manufacturing and do not have any manufacturing facilities.
Consequently, we will depend on third parties to manufacture components of GTL
plants based on the Syntroleum Process. We have conducted development
activities with third parties relating to our proprietary catalysts and turbines
that may be used in the Syntroleum Process, and other manufacturing companies
may not have the same expertise as these companies. In addition, we have
entered into an agreement with Criterion which provides that we will purchase
any catalysts for our own use from Criterion.
We also intend to utilize third parties to provide engineering services in
connection with our efforts to commercialize the Syntroleum Process. If these
engineering firms are unable to provide requisite services or performance
guarantees, we or our licensees could experience material delays, or
construction plans could be canceled, while alternative engineering firms are
identified and become familiar with the Syntroleum Process. We have no
experience in providing engineering services and have a limited engineering
staff. Consequently, we will depend on third parties to provide necessary
engineering services, and these firms may be asked by licensees or financial
participants in plants to provide performance guarantees in connection with the
design and construction of GTL plants based on the Syntroleum Process. In
addition, we have entered into an agreement with Bateman which provides that we
will utilize Bateman to assist in the development of our own GTL plants in North
and South America producing specialty products.
IF GTL PLANTS BASED ON THE SYNTROLEUM PROCESS DO NOT OPERATE AS CURRENTLY
ANTICIPATED, WE WOULD HAVE POTENTIAL INDEMNIFICATION LIABILITIES TO LICENSEES.
Our license agreements require us to indemnify the licensee against
specified losses relating to, among other things
- - the use of patent rights and technical information relating to the
Syntroleum Process,
- - acts or omissions by us in connection with process design packages for
plants, and
- - performance guarantees that may be provided by us.
Our indemnification obligations could result in substantial expenses and
liabilities to us in the event that intellectual property right claims are made
against us or our licensees or GTL plants based on the Syntroleum Process do not
operate as we currently anticipate.
-20-
INTELLECTUAL PROPERTY
Our success depends on our ability to obtain, protect, and enforce our
intellectual property rights, to successfully avoid infringing the valid and
enforceable intellectual property rights of others and, if necessary, to defend
against any alleged infringements. We regard the protection of our proprietary
technologies as critical to our future success and we rely on a combination of
patent, copyright trademark, trade secret laws and contractual restrictions to
protect our proprietary rights in our GTL technologies. We pursue protection of
the Syntroleum Process primarily through patents and trade secrets. It is our
policy to seek, when appropriate, protection for our proprietary products and
processes by filing patent applications in the United States and selected
foreign countries and to encourage or further the efforts of others who have
licensed technology to us to file patent applications. Our ability to protect
and enforce these rights involves complex legal, scientific and factual
questions and uncertainties.
We currently own, or have licensed, rights to more than 80 patents or
patent applications pending at the United States and various foreign countries
that relate in general to one or more embodiments of the Syntroleum Process. We
can give no assurance that additional patents will be granted with respect to
any patent applications filed by us or our licensors. Further, any patents
issued or licensed to us might not provide us with commercial benefit or might
be infringed, invalidated or circumvented by others. The approval or rejection
of our patent applications by the U.S. Patent Office may take several years.
The availability of patents in foreign markets, and the nature of any
protection against competition that may be afforded by such patents, is often
difficult to predict and varies significantly from country to country.
Moreover, we or our licensors may choose not to seek, or may, for a variety of
reasons, be unable to obtain, patent protection in a country that might become
an important market for our GTL technology.
In addition to patent protection, we also rely significantly on trade
secrets, know-how and technological advances, which we seek to protect, in part,
through confidentiality agreements with our collaborators, licensees, employees
and consultants. If these agreements are breached, we might not have adequate
remedies for the breach. In addition, our trade secrets and proprietary
know-how might otherwise become known or be independently discovered by others.
It is our policy to honor the valid, enforceable intellectual property
rights of others. Our success depends on our ability to avoid infringing the
valid, enforceable intellectual property rights of others and, if need be,
defending ourselves against any claims of infringement. While we have made
efforts to avoid any such infringement, commercialization of our GTL
technologies may give rise to claims that the technologies infringe upon the
patents or other proprietary rights of others.
Although it is our policy to regularly review patents that may have
applicability in the GTL industry, we may not become aware of these patents or
rights until after we have made a substantial investment in the development and
commercialization of those technologies. Legal actions could be brought against
us, our partners or licensees, claiming damages and seeking an injunction that
would prevent us, our partners or licensees, from testing, marketing or
commercializing the affected technologies. Major oil and gas companies seeking
to gain a competitive advantage may have an interest in bringing one of these
actions. If such an action was successful, in addition to potential liability
for damages, we, our partners or licensees could be required to obtain a license
in order to continue to test, market or commercialize the affected technologies.
Any required license might not be made available or, if available, might not be
available on acceptable terms, and we could be prevented entirely from testing,
marketing or commercializing the affected technology. We may have to expend
substantial resources in litigation, either in enforcing our patents, defending
against the infringement claims of others, or both. Many possible claimants,
like the major oil and gas companies that have or may be developing proprietary
GTL technologies competitive with the Syntroleum Process, have significantly
more resources to spend on litigation. We have conducted a review of more than
600 existing patents applicable to the GTL field and believe that we are not
infringing on the patents of others. To date, we have not been notified of
any claim that our GTL technology infringes the proprietary rights of any third
party, but we can give no assurance that third parties will not claim
infringement by us with respect to past, present or future GTL technologies.
-21-
In any potential intellectual property dispute involving us, our licensees
could also become the target of litigation. Our license agreements require us
to indemnify the licensees against specified losses, including the losses
resulting from patent and trade secret infringement claims, subject to a cap of
50% of the license fees received. Our indemnification and support obligations
could result in substantial expenses and liabilities to us. These expenses or
liabilities could have a material adverse effect on our business, operating
results and financial condition.
EMPLOYEES
We have 74 employees at March 1, 2000, including 36 employees involved in
research and development and pilot plant operations, seven employees in business
development and marketing, 11 employees in engineering, and 20 employees in
finance, legal, information technology and administration. None of our employees
are represented by a labor union. We have experienced no work stoppages and
believe that our relations with our employees are excellent.
COMPETITION
The development of GTL technology is highly competitive. The Syntroleum
Process is based on chemistry that has been used by several companies in
synthetic fuel projects during the past 60 years. Historic experience has
indicated that these projects were not economic alternatives for conversion of
natural gas to liquids. Given the volumes of stranded natural gas reserves
around the world, a significant opportunity exists for anyone who can develop
economic GTL technology. Our competitors include major integrated oil
companies, several of which have developed or are developing competing GTL
technology, including Exxon, Shell, Sasol, BP Amoco and Conoco. Each of these
companies has significantly more financial and other resources than we do to
spend on research and development of their respective GTL technologies and on
funding construction and operation of commercial GTL plants. These competitors
also have a greater ability to bear the economic risks inherent in the
development of GTL technology. In addition, several small companies have
developed, and are continuing to develop, competing GTL technologies. The
Department of Energy has also sponsored a number of research programs relating
to GTL technology, including a recent program relating to the development of a
ceramic membrane technology that could potentially lower the cost of producing
oxygen that is used to produce synthesis gas in competitive processes. These
companies, the Department of Energy or others could develop technologies that
will have greater commercial success or acceptance than our technology or that
will render the Syntroleum Process obsolete.
The market for natural gas is highly competitive in many areas of the world
and may affect our business, operating results and financial condition. The
cryogenic conversion of natural gas to liquefied natural gas (LNG) may compete
with GTL plants for use of natural gas as feedstocks in many locations. Local
markets, power generation, ammonia, methanol and petrochemicals are also
alternative markets for natural gas. Unlike us, many of our competitors also
produce or have access to large volumes of natural gas, which may be used in
connection with their GTL operations. The availability of natural gas at
economic prices for use as feedstocks for GTL plants may also depend on whether
natural gas pipelines are located in the areas where these plants are located.
New pipelines may need to be built in, or existing pipelines may need to be
expanded into, areas where GTL plants are built, and this may affect the
operating margins of these plants. The United States and Western Europe have
well-developed natural gas markets. In these markets, the relationship between
natural gas prices and liquid hydrocarbon prices would likely make investments
in GTL plants that produce fuels uneconomic in most circumstances. Other areas
around the world that have developed local markets for gas may also have higher
valued uses than GTL technology. In addition, the commercialization of GTL
technologies may have an adverse effect on the availability to GTL plants of
natural gas at economic prices. The oil and gas industry also competes with
other industries that supply the energy and fuel requirements of industrial,
commercial, individual and other consumers.
-22-
GOVERNMENT REGULATION
We will be subject to extensive federal, state and local laws and
regulations relating to the protection of the environment, including laws and
regulations relating to the release, emission, use, storage, handling, cleanup,
transportation and disposal of hazardous materials and employee health and
safety. In addition, our GTL plants will be subject to the environmental and
health and safety laws and regulations of any foreign countries in which these
plants are to be located. Violators of these laws and regulations may be
subject to substantial fines, criminal sanctions or third party lawsuits and may
be required to install costly pollution control equipment or, in some extreme
cases, curtail operations. Further, these laws and regulations may limit or
prohibit activities on lands lying within wilderness areas, wetlands or other
protected areas. Our operations in the United States are also subject to the
federal "Superfund" law, and similar state laws, which can impose joint and
several liability for site cleanup, regardless of fault, upon statutory
categories of parties, including our company, that sent wastes offsite for
disposal and current owners and operators of property. Environmental laws and
regulations often require the acquisition of a permit or other authorization
before activities may be conducted and compliance with laws and regulations, and
any requisite permits, can increase the costs of designing, installing and
operating our GTL plants.
GTL plants will generally be required to obtain permits under applicable
state and federal clean air and water laws and various permits for industrial
siting and construction. Emissions from a GTL plant, primarily from the gas
turbine, will contain nitrous oxides and may require abatement equipment to be
installed in order to meet state and federal permit requirements. Additionally,
GTL plants will be required to adhere to state and federal laws applicable to
the disposal of byproducts produced, including waste water and spent catalyst.
Although we do not believe that compliance with environmental and health
and safety laws in connection with our current operations will have a material
adverse effect on us, the future costs of complying with environmental laws and
regulations and containing or remediating contamination cannot be predicted with
certainty. In the future, we could incur material liabilities or costs related
to environmental matters, and these environmental liabilities or costs
(including fines or other sanctions) could have a material adverse effect on
our business, operating results and financial condition. We do not currently
carry environmental impairment liability insurance to protect us against these
contingencies but may, in the future, seek to obtain insurance in connection
with our participation in the construction and operation of GTL plants if
coverage is available at reasonable cost and without unreasonably broad
exclusions.
OPERATING HAZARDS
Operations at our GTL plants will involve a high risk of incidents
involving personal injury and property damage due to the operation of machinery
in close proximity to individuals and the highly flammable nature of natural gas
and the materials produced at these plants. The frequency and severity of
personal injury and property damage incidents will affect our operating costs,
insurability and relationships with customers, employees and regulators. Any
significant frequency or severity of these incidents, or the general level of
compensation awards, could affect our ability to obtain insurance and could have
a material adverse effect on our business, operating results and financial
condition.
MANAGEMENT AND DISPOSITION OF REAL ESTATE AND MISCELLANEOUS ASSETS
Our real estate assets were acquired by our predecessor, SLH Corporation,
from Lab Holdings, Inc., concurrent with the distribution by Lab Holdings to its
stockholders of all of SLH's outstanding common stock. These assets reflect the
remaining assets of a real estate development business that was conducted by Lab
Holdings in association with a previously owned life insurance company that was
sold in 1990. Real estate assets, as of December 31, 1999, consisted of (1) a
seven story parking garage in Reno, Nevada which was subsequently sold in early
2000; (2) a 49.9% interest in a community retail shopping center in Gillette,
Wyoming; (3) land under development in Houston, Texas (300 acres of undeveloped
land and 125 lots available for sale), (4) undeveloped land in Corinth, Texas (9
acres comprising the "Corinth Tract"), and (5) an equity investment in a
recently renovated hotel in Tulsa, Oklahoma. The Kansas City tracts were sold
during 1999. The total real estate inventory had an aggregate carrying value at
December 31, 1999 of approximately $6.1 million. All of the real estate assets
are held for sale except for the investment in the hotel project located in
Tulsa, Oklahoma and the Houston Project that is being developed for commercial
and residential use. Our real estate assets are owned by our subsidiary, Scout
Development Corporation.
-23-
Our other assets at December 31, 1999 included (1) an investment in Norian
Corporation, a privately owned developer of proprietary bone substitute
technology, which had a carrying value of approximately $565,000, (2) $25
million of cash, government securities and current receivables and (3) an
investment in a privately held venture capital limited partnership, which had a
carrying value of $476,000. We plan to liquidate all of these investments other
than the cash, government securities and current receivables in an orderly
manner to maximize their value to stockholders.
The following table shows the carrying value of the inventory of our real
estate assets as of December 31, 1999:
REAL ESTATE INVENTORY
CARRYING VALUE
AS OF
DECEMBER 31,
ASSET LOCATION 1999
- ------------------------------------ ----------------- ----------------
The Reno parking garage. . . . . . . Reno, Nevada $ 2,642,054
The Houston project. . . . . . . . . Houston, Texas 3,349,211
The Corinth tract. . . . . . . . . . Ft. Worth, Texas 22,656
The Tulsa hotel interest . . . . . . Tulsa, Oklahoma 100,000
The Wyoming shopping center interest Gillette, Wyoming (36,108)
----------------
TOTAL $ 6,077,813
================
The Reno parking garage is a seven story 850-space parking garage located
In downtown Reno, Nevada. Scout owns the building unencumbered except for a
Ground lease that expires on February 28, 2023 and which calls for annual lease
payments in the amount of $331,000. The Reno parking garage contains a total of
144,500 square feet of leasable parking space. Parking revenue totaled
approximately $496,000 or $584 per space or $3.44 per square foot in 1999. In
addition, 8,258 square feet located on the ground floor of the garage is leased
to a retail tenant under a 15-year lease. Revenue from the retail lease during
1999 was $152,000 or $18.41 per square foot. In addition to basic rent, the
retail tenant is responsible for its pro rata share of real estate taxes and
insurance.
In February 2000 we closed the sale of the Reno parking garage to
Fitzgeralds Reno, Inc. The sale price was $3 million payable $750,000 in cash
at closing and the balance in the form of Fitzgeralds' promissory note in the
principal amount of $2,250,000. The note bears interest at the rate of 10% and
is payable in monthly installments of principal and interest based on a 20 year
amortization, with the entire unpaid balance due in 10 years. The note is
secured by the ground lease on which the garage is located as well as the
parking garage itself.
The shopping center interest consists of a 49.9% joint venture interest in
a retail shopping center containing approximately 163,454 square feet of net
leasable area and 7.5 acres of partially undeveloped land in Gillette, Wyoming.
At the end of 1999, the center was 72% occupied. Rental revenue totaled
$830,000 for 1999. The average annual gross rental per occupied square foot was
$7.04. In addition to rental revenue, tenants are responsible for their share
of common area maintenance. During 1999, common area maintenance collections
from tenants totaled $114,000. The property is subject to industrial revenue
refunding bonds in the amount of $6 million that are secured by a bank letter of
credit and guaranteed by Scout. The letter of credit is secured by a $3.2
million Treasury Note that is pledged by us to the issuer of the letter of
credit.
Undeveloped land consists of an aggregate of approximately 309 acres, with
300 acres and 125 lots in Houston, Texas comprising the Houston Project, and
approximately nine acres in Corinth, Texas comprising the Corinth Tract. We
have conveyed the Houston Project to 529 Partners, Ltd., in exchange for a $2.1
million note and a 75% interest in the partnership. 529 Partners, Ltd., is a
Texas limited partnership in which we hold a majority interest. 529 Partners is
developing the property for residential and light commercial purposes. During
1999, 529 Partners sold 38 lots of the Houston Project for residential use for
approximately $688,000. It is expected that the balance of the tract will be
developed by 529 Partners for residential use. The Corinth Tract is zoned for
commercial use and is being actively marketed.
During 1999, the remaining two acres in the Kansas City Tract were sold for
approximately $520,000.
We believe that the real estate properties are adequately covered by
insurance with coverages for real and personal property, commercial general
liability, commercial crime, garage keepers legal liability, earthquake, flood,
windstorm and hail.
-24-
Our subsidiary, Scout, is subject to contingent obligations under leases
and other instruments incurred in connection with real estate activities and
other operations. We believe that adequate accruals have been made for the
contingent liabilities on our financial statements and that none of these are
deemed to be material, individually or in the aggregate.
Scout is subject to several United States environmental laws, including:
the Clean Air Act, the Comprehensive Environmental Response, Compensation, and
Liability Act, the Emergency Planning and Community Right-to-Know Act, the
Federal Water Pollution Control Act, the Oil Pollution Act of 1990, the Resource
Conservation and Recovery Act, the Safe Drinking Water Act and the Toxic
Substances Control Act. Scout is also subject to the United States
environmental regulations promulgated under these acts, as well as state and
local environmental regulations which have their foundation in the foregoing
United States environmental laws.
As is the case with many companies, Scout may face exposure to actual or
potential claims and lawsuits involving environmental matters with respect to
its current inventory of real estate as well as previously owned real estate.
However, no such claims are presently pending and Scout has not suffered, and
does not anticipate that it will suffer, a material adverse effect as a result
of any past action by any governmental agency or other party, or as a result of
noncompliance with such environmental laws and regulations.
ITEM 2. PROPERTIES
We own and operate a nominal two barrel-per-day pilot plant located on two
leased acres in Tulsa, Oklahoma. We also lease 4,500 square feet of laboratory
and office space and approximately 37,000 square feet of executive office space
in Tulsa, Oklahoma. In addition, we own a 16,500 square foot laboratory
facility located on approximately 100 acres of property.
Our real estate assets are described under "Item 1. Business-Management
and Disposition of Real Estate and Miscellaneous Assets."
-25-
ITEM 3. LEGAL PROCEEDINGS
We are not a party to, nor are any of our properties the subject of, any
pending legal proceedings that, in the opinion of management, are expected to
have a material adverse effect on our consolidated results of operations or
financial position.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS
Stock Prices. Our common stock is traded on the National Market System of
the Nasdaq Stock Market under the symbol "SYNM." The table below reflects the
high and low bid prices for the common stock for each quarter during 1998 and
1999. The information has been adjusted for a two-for-one stock split on
February 9, 1998.
BID PRICE
------------
HIGH LOW
----- -----
YEAR ENDED DECEMBER 31, 1998:
First Quarter 35.50 25.50
Second Quarter 32.69 16.25
Third Quarter 25.13 6.00
Fourth Quarter 12.38 5.25
YEAR ENDED DECEMBER 31, 1999:
First Quarter 11.50 5.50
Second Quarter 9.13 5.75
Third Quarter 10.00 6.75
Fourth Quarter 10.19 5.88
Record Holders. As of March 1, 2000, we had approximately 1,583 record
holders of our common stock (including brokerage firms and other nominees).
Dividends. Cash dividends have not been paid since inception. We currently
intend to retain any earnings for the future operation and development of our
business and do not currently anticipate paying any dividends in the foreseeable
future. Any future determination as to dividend policy will be made, subject to
Delaware law, in the discretion of our board of directors and will depend on a
number of factors, including our future earnings, capital requirements,
financial condition and business prospects and other factors that our board of
directors may deem relevant. Although we are not currently a party to any
agreement that restricts dividend payments, future dividends may be restricted
by our then-existing financing arrangements. See "Item 7. Management's
Discussion and Analysis of Financial Condition and Results of
Operations-Liquidity and Capital Resources."
Volatility of Stock Price. Historically, the market prices for securities
of companies without a significant commercial operating history have been very
volatile. The trading price of our common stock is expected to continue to be
subject to substantial volatility in response to numerous factors, including,
but not limited to, publicity regarding actual or potential results with respect
to development of the Syntroleum Process and design, construction and commercial
operation of plants using this process, announcements of technological
innovations by others with competing GTL processes, developments concerning
intellectual property rights, annual and quarterly variances in operating
results, changes in energy prices, competition, changes in financial estimates
by securities analysts, any differences in actual results and results expected
by investors and analysts, investor perception of our favorable or unfavorable
prospects and other events or factors. In addition, the stock market has
experienced and continues to experience significant price and volume volatility
that has affected the market price of equity securities of many companies. This
volatility has often been unrelated to the operating performance of those
companies. These broad market fluctuations may adversely affect the market
price of our common stock. There is no guarantee that an active public market
for our common stock will be sustained.
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ITEM 6. SELECTED FINANCIAL DATA
The following selected financial information should be read in conjunction
with "Item . Management's Discussion and Analysis of Financial Condition and
Results of Operations" and our consolidated financial statements and the related
notes thereto included elsewhere in this Annual Report on Form 10-K. The
results of operations of SLH Corporation have been included in our consolidated
statement of operations following the August 7, 1998 effective date of the
merger of Syntroleum Corporation and SLH Corporation.
YEAR ENDED DECEMBER 31,
-------------------------------------------------
1999 1998 1997 1996 1995
---- ---- ---- ---- ----
STATEMENT OF OPERATIONS DATA: (IN THOUSANDS, EXCEPT FOR PER SHARE DATA)
JOINT DEVELOPMENT REVENUE $ 1,986 $ 1,779 $ 2,006 $ 616 $ 45
REAL ESTATE SALES REVENUE 1,219 2,416 - - -
OTHER REVENUE 650 284 1 - -
COSTS AND EXPENSES
COST OF REAL ESTATE SOLD 824 2,387 - - -
REAL ESTATE OPERATING EXPENSES 781 267 - - -
PILOT PLANT, ENGINEERING
AND RESEARCH AND DEVELOPMENT 10,863 5,693 3,554 1,120 671
CATALYST SERVICES - - 4,800 - -
GENERAL AND ADMINISTRATIVE 10,409 9,151 3,618 1,421 580
--------- --------- -------- -------- --------
TOTAL OPERATING EXPENSES 22,877 17,498 11,972 2,541 1,251
OPERATING INCOME (LOSS) (19,022) (13,019) (9,965) (1,925) (1,206)
INVESTMENT, INTEREST AND OTHER
INCOME (EXPENSE) 1,864 1,308 353 (12) 60
NET INCOME (LOSS) $(17,158) $(11,711) $(9,612) $(1,937) $(1,146)
NET INCOME (LOSS) PER SHARE-
BASIC AND DILUTED (1) $ (0.64) $ (0.46) $ (0.40) $ (0.08) $ (0.06)
========= ========= ======== ======== ========
(1) Adjusted to reflect the exchange ratio for the merger of Syntroleum
Corporation and SLH Corporation of 1.2899 shares of our common stock for each
share of our predecessor company's common stock. See "Item 7. Management's
Discussion and Analysis of Financial Condition and Results of Operations."
AS OF DECEMBER 31,
-------------------------------------------
1999 1998 1997 1996 1995
---- ---- ---- ---- ----
BALANCE SHEET DATA: (IN THOUSANDS)
WORKING CAPITAL $22,798 $37,476 $ 9,846 $ 601 $(410)
PROPERTY AND EQUIPMENT, NET 6,442 3,210 1,245 521 507
TOTAL ASSETS 39,591 50,400 12,091 1,552 873
DEFERRED REVENUE 11,000 11,000 11,000 - -
STOCKHOLDER'S EQUITY 24,832 35,962 (1,242) 266 203
-27-
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
OVERVIEW