Attached files
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EX-32.1 - Quest Minerals & Mining Corp | v203578_ex32-1.htm |
EX-31.1 - Quest Minerals & Mining Corp | v203578_ex31-1.htm |
UNITED
STATES
SECURITIES
AND EXCHANGE COMMISSION
Washington
D.C. 20549
FORM
10-Q
(Mark
One)
x |
QUARTERLY
REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
1934
|
For the quarterly period ended
September 30, 2010
o |
TRANSITION
REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF
1934
|
For the transition period from
_________________ to _________________
Commission
File No.: 000-30291
|
KENTUCKY
ENERGY, INC.
(Exact
name of registrant as specified in its charter)
Utah
|
87-0429950
|
(State
or other jurisdiction of
incorporation
or organization)
|
(I.R.S.
Employer
Identification
No.)
|
18B
East 5th
Street
Paterson,
NJ 07524
(Address of
principal executive offices)
|
Issuer’s
telephone number: (973) 684-0075
__________________
Check
whether the registrant filed all documents and reports required to be filed by
Section 12, 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 o
Indicate
by check mark whether the registrant has submitted electronically and posted on
its corporate Web site, if any, every Interactive Data File required to be
submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this
chapter) during the preceding 12 months (or for such shorter period that the
registrant was required to submit and post such
files). Yes o No o
Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or a smaller reporting
company. See the definitions of “large accelerated filer,”
“accelerated filer” and “smaller reporting company” in Rule 12b-2 of the
Exchange Act.
Large
accelerated filter o
|
Accelerated
filter o
|
|
Non-accelerated
filter o (Do not
check if a smaller reporting company)
|
Smaller
reporting company x
|
Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Exchange Act. Yes o No x
APPLICABLE
ONLY TO CORPORATE ISSUERS
As of
November 19, 2010, 1,013,412,172
shares of our common stock were outstanding.
Transitional
Small Business Disclosure Format: Yes o No x
PART
1: FINANCIAL
INFORMATION
ITEM
1 – FINANCIAL STATEMENTS
KENTUCKY
ENERGY, INC.
(formerly
Quest Minerals and Mining Corp.)
CONDENSED
CONSOLIDATED BALANCE SHEETS
September 30,
|
December
31,
|
|||||||
|
2010
|
2009
|
||||||
(Unaudited)
|
||||||||
ASSETS
|
||||||||
Current
assets:
|
||||||||
Cash
|
$ | 34,314 | $ | 7,254 | ||||
Receivables
|
13,000 | 112,282 | ||||||
Prepaid
expenses
|
11,062 | 8,227 | ||||||
Total
current assets
|
58,376 | 127,763 | ||||||
Other
assets:
|
||||||||
Leased
Mineral Reserves, net
|
5,166,903 | 5,187,317 | ||||||
Mine
development, net
|
28,307 | 113,207 | ||||||
Equipment,
net
|
106,118 | 133,184 | ||||||
Deposits
|
83,643 | 48,986 | ||||||
Total
assets
|
$ | 5,443,347 | $ | 5,610,457 | ||||
LIABILITIES
AND DEFICIENCY IN STOCKHOLDERS' EQUITY
|
||||||||
Current
Liabilities:
|
||||||||
Accounts
payable and accrued expenses (Note 3)
|
$ | 3,770,419 | $ | 3,060,061 | ||||
Loans
payable-current portion, net (Note 4)
|
2,816,874 | 996,995 | ||||||
Total
current liabilities
|
6,587,293 | 4,057,056 | ||||||
Long-Term
Liabilities:
|
||||||||
Loans
payable-long term portion, net (Note 4)
|
94,945 | 2,075,927 | ||||||
Restructured
debt - long term portion, net (Note 4)
|
1,789,157 | 558,833 | ||||||
Related
party loans, net (Note 4)
|
713,818 | 300,468 | ||||||
Total
long-term liabilities
|
2,597,920 | 2,935,228 | ||||||
Total
liabilities
|
9,185,213 | 6,992,284 | ||||||
Commitments
and contingencies (Note 7)
|
- | - | ||||||
Deficiency
in stockholders' equity
|
||||||||
Preferred
stock, par value $0.001, 25,000,000 shares authorized
|
||||||||
SERIES
A - issued and outstanding 20,726 shares
|
21 | 21 | ||||||
SERIES
B - issued and outstanding 48,284 shares
|
48 | 48 | ||||||
SERIES
C - issued and outstanding 260,000 shares
|
260 | 260 | ||||||
Common
stock, par value $0.0001, 2,500,000,000 shares authorized (Note 6) issued
and outstanding 467,800,655 and 17,457,239 shares as of September 30, 2010
and December 31, 2009, respectively
|
46,781 | 1,746 | ||||||
Common
stock to be issued
|
- | 5,648 | ||||||
Equity
allowance
|
(587,500 | ) | (587,500 | ) | ||||
Paid-in
capital
|
70,591,581 | 69,846,336 | ||||||
Accumulated
deficit
|
(73,793,057 | ) | (70,648,386 | ) | ||||
Total
deficiency in stockholders' equity
|
(3,741,866 | ) | (1,381,827 | ) | ||||
Total
liabilities and deficiency in stockholders' equity
|
$ | 5,443,347 | $ | 5,610,457 |
The
accompanying notes are an integral part of these unaudited condensed
consolidated financial statements
F-1
KENTUCKY
ENERGY, INC.
(formerly
Quest Minerals and Mining Corp.)
CONDENSED
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
For
the three months ended
September
30,
|
For
the nine months ended
September
30,
|
|||||||||||||||
2010
|
2009
|
2010
|
2009
|
|||||||||||||
Coal
revenues
|
$ | 784,841 | $ | 348,334 | $ | 2,243,192 | $ | 678,648 | ||||||||
Production
costs
|
(974,641 | ) | (655,566 | ) | (2,803,820 | ) | (1,344,334 | ) | ||||||||
Gross
loss
|
(189,800 | ) | (307,232 | ) | (560,628 | ) | (665,686 | ) | ||||||||
Operating
expenses:
|
||||||||||||||||
Selling,
general and administrative
|
300,633 | 574,981 | 1,008,836 | 1,295,002 | ||||||||||||
Depreciation
and amortization
|
44,310 | 40,862 | 132,379 | 118,802 | ||||||||||||
Total
operating expenses
|
344,943 | 615,843 | 1,141,215 | 1,413,804 | ||||||||||||
Net
loss from operations
|
(534,743 | ) | (923,075 | ) | (1,701,843 | ) | (2,079,490 | ) | ||||||||
Other
income (expense):
|
||||||||||||||||
Gain
(loss) on debt settlements
|
- | (1,200,305 | ) | 16,026 | (1,201,226 | ) | ||||||||||
Interest,
net
|
(460,933 | ) | (233,189 | ) | (1,458,854 | ) | (526,738 | ) | ||||||||
Net
loss before income taxes
|
(995,676 | ) | (2,356,569 | ) | (3,144,671 | ) | (3,807,454 | ) | ||||||||
Provision
for income taxes
|
- | - | - | - | ||||||||||||
Net
loss
|
$ | (995,676 | ) | $ | (2,356,569 | ) | $ | (3,144,671 | ) | $ | (3,807,454 | ) | ||||
Basic
and diluted (loss) per common share
|
$ | (0.0040 | ) | $ | (2.2533 | ) | $ | (0.0251 | ) | $ | (6.5806 | ) | ||||
Weighted
average common shares outstanding
|
248,790,264 | 1,045,821 | 125,146,163 | 578,589 |
The
accompanying notes are an integral part of these unaudited condensed
consolidated financial statements
F-2
(formerly
Quest Minerals and Mining Corp.)
CONDENSED
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE
NINE MONTHS ENDED SEPTEMBER 30, 2010 AND 2009
(Unaudited)
2010
|
2009
|
|||||||
Operating Activities
|
||||||||
Net
loss
|
$ | (3,144,671 | ) | $ | (3,807,454 | ) | ||
Adjustments
to reconcile net loss to net cash used in operating
activities:
|
||||||||
Depreciation
and amortization
|
132,379 | 118,802 | ||||||
Stock
issued for interest
|
11,768 | - | ||||||
Stock
issued for services
|
247,120 | 571,348 | ||||||
Stock
compensation
|
100,000 | - | ||||||
Gain
(loss) on debt settlements
|
(16,026 | ) | 1,201,226 | |||||
Amortization
of discount on convertible notes - interest expense
|
982,065 | 142,022 | ||||||
Amortization
of deferred issuance costs
|
- | 226 | ||||||
Amortization
of royalty costs
|
2,647 | 12,316 | ||||||
Changes
in operating assets and liabilities:
|
||||||||
Decrease
(Increase) in receivables
|
99,282 | (120,873 | ) | |||||
Increase
in prepaid expenses
|
(2,835 | ) | (8,835 | ) | ||||
Increase
in accounts payable and accrued expenses
|
1,083,112 | 984,801 | ||||||
Net
cash used in operating activities
|
(505,159 | ) | (906,421 | ) | ||||
Investing Activities
|
||||||||
Mine
development
|
- | - | ||||||
Equipment
purchased
|
- | (12,000 | ) | |||||
Restricted
cash
|
- | (19,651 | ) | |||||
Security
deposits
|
(34,657 | ) | (5,916 | ) | ||||
Net
cash used in investing activities
|
(34,657 | ) | (37,567 | ) | ||||
Financing Activities
|
||||||||
Repayment
of borrowings
|
(1,131,407 | ) | (167,069 | ) | ||||
Borrowings
|
1,698,283 | 1,097,869 | ||||||
Net
cash provided by financing activities
|
566,876 | 930,800 | ||||||
Increase
(decrease) in cash
|
27,060 | (13,188 | ) | |||||
Cash
at beginning of period
|
7,254 | 13,439 | ||||||
Cash
at end of period
|
$ | 34,314 | $ | 251 | ||||
Supplemental Disclosures of Cash Flow
Information
|
||||||||
Cash
paid during the period:
|
||||||||
Interest
|
$ | - | $ | 2,621 | ||||
Services
|
$ | 35,774 | $ | 2,300 | ||||
Income
taxes
|
$ | - | $ | - | ||||
Non-cash
financing activites:
|
||||||||
Conversions
of note principal and interest
|
$ | 636,025 | $ | 705,771 |
The
accompanying notes are an integral part of these unaudited condensed
consolidated financial statements
F-3
KENTUCKY
ENERGY, INC.
(formerly
Quest Minerals and Mining Corp.)
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER
30, 2010
(Unaudited)
NOTE
1 –
|
SIGNIFICANT
ACCOUNTING POLICIES
|
Basis
of Presentation
The
accompanying condensed consolidated financial statements as of September 30,
2010 and for the three and nine months ended September 30, 2010 and 2009 are
unaudited.
These
financial statements have been prepared in accordance with Rule S-X of the
Securities and Exchange Commission (the “SEC”) and with the instructions to Form
10-Q, and therefore, do not include all the information necessary for a fair
presentation of financial position, results of operations and cash flows in
conformity with generally accepted accounting principles.
In the
opinion of management, all adjustments (consisting of normal recurring accruals)
considered necessary for a fair presentation have been included. Operating
results for the three and nine month periods ended September 30, 2010 are not
necessarily indicative of the results that may be expected for the fiscal year
ending December 31, 2010. The unaudited condensed consolidated financial
statements should be read in conjunction with the consolidated December 31, 2009
financial statements and footnotes thereto included in the Company’s Annual
Report on Form 10-K filed with the Securities and Exchange Commission (the
“SEC”).
On June
10, 2010, the Company filed an amendment to its Articles of Incorporation to
change its corporate name from Quest Minerals & Mining Corp. to Kentucky
Energy, Inc. The change in corporate name took effect on June 16,
2010.
The
unaudited condensed consolidated financial statements include our accounts and
the accounts for our wholly owned subsidiaries, Quest Minerals & Mining,
Ltd. (“Quest Ltd.”), Quest Energy, Ltd. (“Quest Energy”), E-Z Mining Co., Inc.
(“E-Z Mining”), and Gwenco, Inc. (“Gwenco”). Significant intercompany
transactions and accounts are eliminated in consolidation.
Fair
Value of Financial Instruments
Effective
October 1, 2008, the Company adopted Accounting Standards Codification subtopic
820-10, Fair Value Measurements and Disclosures (“ASC 820-10”) and Accounting
Standards Codification subtopic 825-10, Financial Instruments (“ASC 825-10”),
which permits entities to choose to measure many financial instruments and
certain other items at fair value. Neither of these statements had an impact on
the Company’s unaudited condensed consolidated financial position, results of
operations nor cash flows. The carrying value of current and non-current loans
payable, restructured debt and related party loans, as reflected in the balance
sheets, approximate its fair values.
F-4
KENTUCKY
ENERGY, INC.
(formerly
Quest Minerals and Mining Corp.)
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER
30, 2010
(Unaudited)
Going
Concern
The
accompanying unaudited condensed consolidated financial statements have been
prepared on a going concern basis, which contemplates the realization of assets
and the satisfaction of liabilities in the normal course of business and does
not include any adjustments to reflect the possible future effects on the
recoverability and classification of assets or liabilities that might be
necessary should the Company be unable to continue as a going concern. The
Company incurred net losses from operations of $1,701,843 and $2,079,490 for the
nine months periods ended September 30, 2010 and 2009, respectively and had a
working capital deficit of $6,528,917 and $3,929,293 at September 30, 2010 and
December 31, 2009, respectively. These factors indicate that the Company’s
continuation as a going concern is dependent upon its ability to increase its
cash flows from operations or to obtain adequate financing.
The
Company will likely require substantial additional funds to finance its business
activities on an ongoing basis and will have a continuing long-term need to
obtain additional financing if it cannot improve its cash flows from operations.
The Company may also seek to dispose of some or all of its assets or operations.
The Company’s future capital requirements will depend on numerous factors
including, but not limited to, increasing mine production and continued progress
developing additional mines.
On March
2, 2007, Gwenco filed a voluntary petition for reorganization under Chapter 11
of the U.S. Bankruptcy Code with the United States Bankruptcy Court for the
Eastern District of Kentucky. Management felt this was a necessary step to
further the company’s financial restructuring initiative and to protect Gwenco’s
assets from claims, debts, judgments, foreclosures, and forfeitures of those
creditors and stakeholders with whom both Quest and Gwenco were unable to
negotiate restructured agreements. Prior to October 12, 2009, Gwenco oversaw its
operations as a debtor in possession, subject to court approval of matters
outside the ordinary course of business. In 2007, the Bankruptcy Court approved
Gwenco’s request for debtor-in-possession financing in an amount of up to
$2,000,000 from holders of Gwenco’s existing debt obligations in order to fund
operating expenses. Under Chapter 11, all claims against Gwenco in existence
prior to the filing of the petitions for reorganization relief under the federal
bankruptcy laws were stayed while Gwenco was in bankruptcy.
On
September 30, 2009, the Bankruptcy Court confirmed Gwenco’s Plan of
Reorganization (the “Plan”). Secured and non-priority unsecured classes of
creditors voted to approve the Plan, with over 80% of the unsecured claims in
dollar amount voting for the plan, and over 90% of responding lessors supporting
it. The Plan became effective on October 12, 2009.
Even
though the Bankruptcy Court has confirmed the Plan, it is still possible that
the Bankruptcy Court could convert Gwenco’s case to Chapter 7 and liquidate all
of Gwenco’s assets if the Court determines that Gwenco is unable to perform
under the Plan. In the case of a Chapter 7 conversion, the Company would be
materially impacted and could lose all of its working assets and have only
unpaid liabilities. In addition, the Company might be forced to file for
protection under Chapter 11 as it is the primary guarantor on a number of
Gwenco’s contracts.
F-5
KENTUCKY
ENERGY, INC.
(formerly
Quest Minerals and Mining Corp.)
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER
30, 2010
(Unaudited)
Recent
Accounting Pronouncements
In
January 2010, the FASB issued an accounting standard update, amending disclosure
requirements related to Fair Value Measurements and Disclosures, as
follows:
|
1.
|
Significant
transfers between Level 1 and 2 shall be disclosed separately, including
the reasons for the transfers; and
|
|
2.
|
Information
about purchases, sales, issuances and settlements shall be disclosed
separately in the reconciliation of activity in Level 3 fair value
measurements.
|
This
accounting standard update is effective for interim and annual reporting periods
beginning after December 15, 2009, except for the disclosures about purchases,
sales, issuances and settlements in the reconciliation of activity in Level 3
fair value measurements, which are effective for interim and annual reporting
periods beginning after December 15, 2010. The adoption of this accounting
standard update did not have a material impact on our financial position or
results of operations.
Effective
January 1, 2010, the Company applied ASU No. 2009-17, which requires
consolidation of certain special purpose entities that were previously exempted
from consolidation. The revised criteria define a controlling financial interest
for requiring consolidation as: the power to direct the activities that most
significantly affect the entity’s performance, and (1) the obligation to absorb
losses of the entity or (2) the right to receive benefits from the entity. The
initial adoption had no effect on the Company’s financial
statements.
In
January and April 2010, respectively, the FASB issued ASU 2010-03, Extractive
Activities-Oil and Gas (Topic 932) and 2010-14, Accounting for Extractive
Activities-Oil & Gas. The objective of these updates is to align the oil and
gas accounting and reserve estimation and disclosure requirements of Extractive
Activities-Oil & Gas (Topic 932) with the requirements of the Securities and
Exchange Commission’s (SEC) Release 33-8895, Modernization of Oil and Gas
Reporting, which became effective for registration statements filed beginning
January 1, 2010 and for annual reports for years ending on or after December 31,
2009. SEC Release 33-8895 was issued to provide investors with more meaningful
information on which to base their evaluations of oil and gas companies, taking
into account the significant technological advances that have occurred since the
original SEC rules were issued some three decades ago. The Company is applying
the requirements of Release 33-8895, though it has not yet reported information
regarding reserves in its annual reports.
In
January 2010, the FASB issued Update No. 2010-05 “Compensation—Stock
Compensation—Escrowed Share Arrangements and Presumption of Compensation”
(“2010-05”). 2010-05 re-asserts that the Staff of the SEC has stated the
presumption that for certain shareholders escrowed shares represent a
compensatory arrangement. 2010-05 further clarifies the criteria required to be
met to establish a position different from the SEC Staff’s position. The
adoption of this accounting standard update did not have a material impact on
our financial position or results of operations.
In January 2010, the FASB issued Update No.
2010-04 “Accounting for Various Topics—Technical Corrections to SEC Paragraphs”
(“2010-04”). 2010-04 represents technical corrections to SEC paragraphs within
various sections of the Codification. The adoption of this accounting standard
update did not have a material impact on our financial position or results of
operations.
F-6
KENTUCKY
ENERGY, INC.
(formerly
Quest Minerals and Mining Corp.)
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER
30, 2010
(Unaudited)
In
January 2010, the FASB issued Update No. 2010-02 “Accounting and Reporting for
Decreases in Ownership of a Subsidiary—a Scope Clarification” (“2010-02”) an
update of ASC 810 “Consolidation.” 2010-02 clarifies the scope of ASC 810 with
respect to decreases in ownership in a subsidiary to those of a subsidiary or
group of assets that are a business or nonprofit, a subsidiary that is
transferred to an equity method investee or joint venture, and an exchange of a
group of assets that constitutes a business or nonprofit activity to a
non-controlling interest including an equity method investee or a joint venture.
The adoption of this accounting standard update did not have a material impact
on our financial position or results of operations. Management does not intend
to decrease its ownership in any of its wholly-owned subsidiaries.
In
January 2010, the FASB issued Update No. 2010-01 “Accounting for Distributions
to Shareholders with Components of Stock and Cash—a consensus of the FASB
Emerging Issues Task Force” (“2010-03”) an update of ASC 505 “Equity.” 2010-03
clarifies the treatment of stock distributions as dividends to shareholders and
their affect on the computation of earnings per shares. The adoption of this
accounting standard update did not have a material impact on our financial
position or results of operations.
Other
recent accounting pronouncements issued by the FASB (including its Emerging
Issues Task Force), the AICPA, and the SEC did not, or are not believed by
management to have a material impact on the Company's present or future
consolidated financial statements.
NOTE
2 -
|
PLAN
OF REORGANIZATION
|
In 2009,
the United States Bankruptcy Court for the Eastern District of Kentucky
confirmed Gwenco’s Plan of Reorganization (the “Plan”) pursuant to Chapter 11 of
the U.S. Bankruptcy Code with the United States Bankruptcy Court for the Eastern
District of Kentucky. The Plan became effective on October 12, 2009. See Note 16
to our consolidated financial statements as of December 31, 2009 and 2008 and
for each of the years then ended, as set forth in our Annual Report on Form 10-K
for the year ended December 31, 2009, for a description of the Plan and its
effect on our financial statements.
F-7
KENTUCKY
ENERGY, INC.
(formerly
Quest Minerals and Mining Corp.)
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER
30, 2010
(Unaudited)
NOTE
3 -
|
ACCOUNTS
PAYABLE & ACCRUED EXPENSES
|
Accounts
payable and accrued expenses consist of the following:
September
30,
|
December
31,
|
|||||||
2010
(Unaudited)
|
2009
|
|||||||
Accounts
payable
|
$ | 1,541,593 | $ | 1,074,035 | ||||
Accrued
royalties payable-operating (a)
|
316,402 | 125,894 | ||||||
Accrued
bank claim (b)
|
650,000 | 650,000 | ||||||
Accrued
taxes
|
87,315 | 87,315 | ||||||
Accrued
interest (c)
|
322,387 | 220,095 | ||||||
Accrued
expenses (d)
|
852,722 | 902,722 | ||||||
Total
Accounts payable and accrued expenses
|
$ | $3,770,419 | $ | $3,060,061 |
|
(a)
|
The
Company maintains a number of coal leases with minimum lease or royalty
payments that vary by lease as defined in each lease agreement. As a
result of the confirmation of Gwenco’s Plan, Gwenco has assumed all coal
leases and is obligated to pay cure claims due under each lease. In
addition, the Company has granted overriding royalties to third parties.
Unless otherwise provided in the Plan, all accrued amounts due under the
leases and overriding royalty obligations are due on or before October 12,
2012. As a result, most of the existing royalties, which accrued up until
the effective date, were re-categorized as Cure Claims totaling $199,213.
As of September 30, 2010, the Company owed approximately $290,857 in
current lease and/or royalty
payments.
|
Certain
accrued overriding royalties owed to former owners totaling $319,062 have been
reclassified as allowed unsecured claims under Gwenco’s Plan, to be paid along
with the other allowed unsecured claims under Gwenco’s Plan. (See Note
4.)
In
addition, the Company accrued $25,544 as an estimated royalty payable in
connection with an August 2008 financing. This amount is currently being
amortized over the life of the underlying note involved in the financing. (See
Note 4.)
|
(b)
|
Community
Trust Bank and its insurer, the Federal Insurance Company, commenced an
action in Pike County Court, Kentucky against Quest Energy alleging that
former employees or associates of Quest Energy engaged in a criminal
scheme and conspiracy to defraud Community Trust Bank, that Quest Energy
is accordingly responsible for the actions of these former employees and
associates, and that Quest Energy obtained a substantial material benefit
as a result of this alleged scheme. Quest Energy has denied these
allegations. As of September 30, 2010, the matter is closed and off the
Court’s docket, and no outcome has been determined. While we believe that
this matter will be resolved without a material adverse impact on our cash
flows, results of operation, or financial condition, it is reasonably
possible that our judgments regarding this matter could change in the
future.
|
F-8
KENTUCKY
ENERGY, INC.
(formerly
Quest Minerals and Mining Corp.)
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER
30, 2010
(Unaudited)
|
(c)
|
As
a result of the confirmation of Gwenco’s Plan, most of the existing debts,
which included the accrued interest up until the effective date, were
prioritized under various long-term debt classifications and no longer
accrue interest. The Company made an $864,175 adjustment to re-categorize
the existing interest as long-term debt. Most of these claim amounts are
now due on or before October 12,
2014.
|
|
(d)
|
The
Company recorded an accrued liability for indemnification obligations of
$390,000 to its officers, which represents the fair value of shares of the
Company’s common stock, which the officers pledged as collateral for
personal guarantees of a loan to the Company. The Company defaulted on the
loan and the lender foreclosed on the officer’s pledged shares. In January
2007, the Company satisfied $260,000 of this accrued liability by issuing
260,000 shares of Series C Preferred Stock. See Note 11. The Company has
accrued the remaining $130,000 due to its former officer. In addition,
during the period ended December 31, 2004, the Company had recorded
accrued expenses of $468,585 from its subsidiaries, E-Z Mining Co. and
Gwenco, Inc. as acquisition for mining expenses recorded on their books
and records. The Company continues to carry these balances until further
validity can be determined.
|
F-9
KENTUCKY
ENERGY, INC.
(formerly
Quest Minerals and Mining Corp.)
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER
30, 2010
(Unaudited)
NOTE
4 -
|
NOTES
PAYABLE
|
Notes
payable consist of the following:
September
30,
|
December
31,
|
|||||||
2010
(Unaudited)
|
2009
|
|||||||
Kentucky
Energy, Inc.
|
||||||||
0%
Notes Due on Demand (a).
|
$ | 202,864 | $ | 202,864 | ||||
7%
Senior Secured Convertible Notes Due 2007 (b).
|
25,000 | 25,000 | ||||||
5%
Unsecured Advances Due on Demand (c).
|
130,857 | 130,857 | ||||||
6%
Convertible Notes Due 2011 (c).
|
857,355 | 1,044,580 | ||||||
6%
Convertible Notes Due 2011 (d).
|
1,000,000 | 1,000,000 | ||||||
6%
Convertible Notes Due 2011 (e).
|
172,900 | 200,000 | ||||||
0%
Notes Due on Demand (f).
|
483,171 | 480,434 | ||||||
10%
Convertible Notes due 2008 (g).
|
10,000 | 10,000 | ||||||
6%
Convertible Notes due 2010 (h).
|
2,300 | 27,304 | ||||||
8%
Convertible Notes due 2010 (i).
|
3,330 | 117,010 | ||||||
8%
Convertible Notes due 2011 (j).
|
25,000 | 25,000 | ||||||
5%
Convertible Notes due 2014 (k).
|
50,400 | 90,500 | ||||||
4%
Convertible Notes due 2011 (l).
|
- | 30,000 | ||||||
8%
Convertible Notes due 2011 (m).
|
15,957 | 50,000 | ||||||
8%
Convertible Notes due 2012 (n).
|
9,945 | 12,500 | ||||||
6%
Notes Due on Demand (o).
|
10,000 | 10,000 | ||||||
5%
Convertible Notes due 2012 (p).
|
95,000 | - | ||||||
8%
Convertible Notes due 2012 (q).
|
55,000 | - | ||||||
8%
Convertible Notes due 2011 (r).
|
50,000 | - | ||||||
8%
Convertible Notes due 2011 (s).
|
145,500 | - | ||||||
QUEST
ENERGY, LTD.
|
||||||||
8%
Summary Judgment (t).
|
35,000 | 35,000 | ||||||
GWENCO,
INC.: (Restructured Debt)
|
||||||||
CLASS
1 – Secured Claim with conversion option (u).
|
1,225,476 | 1,753,377 | ||||||
CLASS
1 – Secured claim with conversion option (v)
|
2,562,069 | 3,207,376 | ||||||
CLASS
3 – Unsecured Claims (w)
|
385,900 | 413,741 | ||||||
CLASS
3 - Unsecured Claims with conversion option (x)
|
319,062 | 319,062 | ||||||
CLASS
5 – Cured Claims (y)
|
199,213 | 199,213 | ||||||
GWENCO,
INC.: (Related-Party Loans)
|
||||||||
CLASS
3 - Unsecured Claim with conversion option (z).
|
546,967 | 651,967 | ||||||
Total
Debt
|
8,618,266 | 10,035,785 | ||||||
Current
Portion
|
2,980,377 | 1,050,969 | ||||||
Less:
Unamortized debt discount on Current Portion
|
(163,503 | ) | (53,974 | ) | ||||
Total
Notes Payable – Current Portion, net
|
$ | 2,816,874 | $ | 996,995 | ||||
Long-Term
Debt:
|
$ | 5,637,889 | $ | 8,984,816 | ||||
Less:
Unamortized present value and debt discount on
Long-Term
Debt
|
(3,039,969 | ) | (6,049,588 | ) | ||||
Total
Long-Term Debt, net
|
$ | 2,597,920 | $ | 2,935,228 |
F-10
KENTUCKY
ENERGY, INC.
(formerly
Quest Minerals and Mining Corp.)
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER
30, 2010
(Unaudited)
|
(a)
|
On
December 31, 2005, the Company closed E-Z Mining Co.,
Inc. These current notes consist of various third parties
related to the former CFO of the Company. All notes are
unsecured and due on demand except $110,000, which is due from future
royalties. All notes are non-interest
bearing.
|
|
(b)
|
From
February 22, 2005 through April 18, 2005, the Company entered into unit
purchase agreements with sixteen third-party investors for a total sale
amount of $1,425,000. Each unit was sold at $25,000 and
consisted of a 7% senior secured convertible note due March 6, 2006 and
3.75 Series A Warrants. The notes were secured by certain of
the Company’s assets and were initially convertible into shares of the
Company’s common stock at the rate of $20,000 per share, which conversion
price was subject to adjustment. Each Series A Warrant was
exercisable into one (1) share of common stock at an exercise price of
$200 and one (1) Series B Warrant. Each Series B Warrant was
exercisable into one (1) share of common stock at an exercise price of
$40,000. As of September 30, 2010, $25,000 in principal amount
of the original $1,425,000 in notes remains outstanding and in
default. This default should not have any material impact on
the Company.
|
|
(c)
|
Since
2006 through September 30, 2010, a third party investor, and its successor
in interest, has advanced operational funding into the
Company. Since there had been no formal agreement regarding the
balance owed, the Company accrues a 5% annual interest on the principal
with the intent that a mutual arrangement will be resolved between both
parties.
|
On June
26, 2009, the Company entered into an exchange agreement with the third party
investor, pursuant to which the investor exchanged approximately $1,082,411 of
the evidences of indebtedness, along with $124,195 of accrued interest thereon,
for a new convertible promissory note in the aggregate principal amount of
$1,200,000. The new note is due June 26, 2011, is unsecured, and
bears interest at an annual rate of six percent (6%). The new note
was initially convertible into shares of the Company’s common stock at a
conversion price of $0.001 per share. The conversion price has since
adjusted to $0.0001 pursuant to rate adjustment terms set forth in the
note. During the year ended December 31, 2009, the holders have made
various conversions to the principal and interest outstanding.
As of
September 30, 2010, there continues to be no formal agreement regarding the
remaining evidences of indebtedness of $130,857, and the Company continues to
accrue 5% annual interest on the principal with the intent that a mutual
arrangement will be resolved between both parties.
F-11
KENTUCKY
ENERGY, INC.
(formerly
Quest Minerals and Mining Corp.)
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER
30, 2010
(Unaudited)
|
(d)
|
On
July 11, 2009, the Company and Gwenco entered into a settlement and
release agreement with the Company’s largest lender to resolve various
disputes that had arisen between the Company and the lender. Pursuant to
the settlement agreement, the lender waived certain defaults under various
debt obligations. In addition, Gwenco and the lender under the
Debtor-in-Possession Total Facility extended the maturity date on the
Total Facility to the earliest of (i) December 31, 2010, (ii) the date of
confirmation of a plan of reorganization or liquidation in the Bankruptcy
Case; (iii) the date of closing of a sale of all or substantially all of
Gwenco’s assets pursuant to the Bankruptcy Code; or (iv) the approval of a
disclosure statement in respect of a plan of reorganization or liquidation
not supported by the lender. In exchange for this consideration, Quest
issued the lender a new convertible promissory note in the aggregate
principal amount of $1,000,000. The note is due July 11, 2011, is
unsecured, and bears interest at an annual interest rate of six percent
(6%). The new note was initially convertible into shares of the Company’s
common stock at a conversion price of $0.001 per share. The conversion
price has since adjusted to $0.0001 pursuant to rate adjustment terms set
forth in the note.
|
|
(e)
|
On
July 13, 2009, the Company issued a consulting bonus in the form of a
convertible promissory note in the aggregate principal amount of $200,000
to a third party consulting company owned by a stockholder of the Company.
The note is due July 13, 2011, is unsecured, and bears interest at an
annual interest rate of six percent (6%). The new note was initially
convertible into shares of the Company’s common stock at a conversion
price of $0.001 per share. The conversion price has since adjusted to
$0.0001 pursuant to rate adjustment terms set forth in the note. The
Company continues to accrue interest in relation to the convertible
promissory note.
|
|
(f)
|
Periodically,
the Company receives cash advances from unrelated third party investors.
Since these advances are open accounts, are unsecured, and have no fixed
or determined dates for repayment, the amounts carry a 0% interest
rate.
|
|
(g)
|
On
May 1, 2007, the Company entered into a settlement and release agreement
with a third party pursuant to which the Company issued a convertible
secured promissory note in the principal amount of $10,000. The note was
due on May 1, 2008, is unsecured, and bears interest at the annual rate of
ten percent (10%). The note is convertible into the Company’s common
shares at a fixed rate of $160 per share. The holder may not convert any
outstanding principal amount of this note or accrued and unpaid interest
thereon to the extent such conversion would result in the holder
beneficially owning in excess of 4.999% of the then issued and outstanding
common shares of the Company.
|
As of
September 30, 2010, the Company was in default of this obligation. This default
should not have any material impact on the Company.
|
(h)
|
On
December 8, 2005, the Company issued a convertible secured promissory note
in the principal amount of $335,000. The note was due on December 8, 2006,
with an annual interest rate of eight percent (8%), and is convertible
into the Company’s common shares at an initial conversion price of $20.00
per share, subject to adjustment. As of December 31, 2006, the Company was
in default. In January, 2007, the Company entered into an exchange
agreement with the note holder and holders of 150,000 shares of the
Company’s common stock, under which the holders exchanged the note and the
150,000 shares of the Company’s common stock for a series of new
convertible promissory notes in the aggregate principal amount of
$635,000. The new notes were due on March 31, 2007, with an annual
interest rate of eight percent (8%), and are convertible into the
Company’s common shares at an initial conversion price of the greater of
(i) $2.00 per share or (ii) 50% of the average of the 5 closing bid prices
of the common stock immediately preceding such conversion date. During the
first quarter of 2007, the note holders made partial conversions of the
principal and accruing
interest.
|
F-12
KENTUCKY
ENERGY, INC.
(formerly
Quest Minerals and Mining Corp.)
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER
30, 2010
(Unaudited)
On April
1, 2006, the Company entered into a settlement and release agreement with a
third party individual pursuant to which the Company issued a convertible
secured promissory note in the principal amount of $300,000. The note was due on
April 1, 2008, with an annual interest rate of eight percent (8%). The note is
convertible into the Company’s common shares at an initial conversion price
equal to the greater of (a) $2.00 per share, and (b) 50% of the average market
price during the three trading days immediately preceding any conversion date.
The holder may not convert any outstanding principal amount of this note or
accrued and unpaid interest thereon to the extent such conversion would result
in the holder beneficially owning in excess of 4.999% of the then issued and
outstanding common shares of the Company.
On June
6, 2008, the Company entered into an exchange agreement with the subsequent
holder of these notes, in the aggregate principal amount of $835,000, under
which the subsequent holder exchanged the notes held by such holder for a new
convertible promissory note in the aggregate principal amount of $835,000. The
new note is due June 6, 2010, is unsecured, and bears interest at an annual
interest rate of six percent (6%). The new note is convertible into shares of
the Company’s common stock at a conversion price of $0.001 per share. The
conversion price has since adjusted to $0.0001 pursuant to rate adjustment terms
set forth in the note. As of September 30, 2010, the Company was in default of
this obligation. This default should not have any material impact on the
Company.
|
(i)
|
On
August 14, 2008, the Company entered into a purchase agreement with an
unrelated third party where the Company issued a $400,000 convertible
promissory note and granted a three (3) year royalty on future coal sales.
The note is due July 23, 2010, is unsecured, and bears interest at an
annual interest rate of eight percent (8%). The note is convertible into
shares of the Company’s common stock at a conversion price of sixty
percent (60%) of the average of the five (5) lowest per share market value
during the ten (10) trading days immediately preceding a conversion date.
The royalty is based on sliding scale ranging from $0.00 to $0.75 per ton,
depending on actual sale prices of coal received by the Company. On August
28, 2009, the Company amended the conversion price to be forty five
percent (45%) of the average of the five (5) lowest per share market value
during the ten (10) trading days immediately preceding a conversion
date.
|
In
accordance with ASC 470-20, the Company also recognized an imbedded beneficial
conversion feature present in this note. The Company allocated a portion of the
proceeds equal to the intrinsic value of that feature to additional paid in
capital. The Company recognized and measured $225,000 of the proceeds, which is
equal to the intrinsic value of the imbedded beneficial conversion feature, to
additional paid in capital and a discount against the note. The debt discount
attributed to the beneficial conversion feature is amortized over the note’s
maturity period as interest expense. On August 28, 2009, pursuant to the amended
conversion feature agreement, the Company deemed the existing debt extinguished
and reissued it according to the new terms. The discount was revised to $219,218
and amortized through the maturity date as interest expense. As of September 30,
2010, the Company was in default of this obligation. This default should not
have any material impact on the Company.
In
addition, the Company recognized and measured $25,544 of the proceeds, which is
equal to the Company’s estimate of the royalty payable under this agreement, to
accrued royalties and a discount against the note. The debt discount attributed
to the accrued royalty is amortized over the note’s maturity period as interest
expense.
F-13
KENTUCKY
ENERGY, INC.
(formerly
Quest Minerals and Mining Corp.)
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER
30, 2010
(Unaudited)
|
(j)
|
On
September 16, 2009, the Company issued a convertible promissory note to a
third party investor for facilitation of Gwenco’s Debtor-In-Possession
financing. The note is due September 16, 2011, is unsecured, and bears
interest at an annual interest rate of eight percent (8%). The note is
convertible into shares of the Company’s common stock at a conversion
price of forty five percent (45%) of the average of the five (5) lowest
per share market value during the ten (10) trading days immediately
preceding a conversion date.
|
In
accordance with ASC 470-20, the Company also recognized an imbedded beneficial
conversion feature present in this note. The Company allocated a portion of the
proceeds equal to the intrinsic value of that feature to additional paid in
capital. The Company recognized and measured $25,000 of the proceeds, which is
equal to the intrinsic value of the imbedded beneficial conversion feature, to
additional paid in capital and a discount against the note. The debt discount
attributed to the beneficial conversion feature is amortized over the note’s
maturity period as interest expense. As of September 30, 2010, unamortized
discount of $11,967 remains.
|
(k)
|
On
October 14, 2009, the Company entered into an exchange agreement with a
third party investor, pursuant to which the investor exchanged
approximately $125,000 of evidences of indebtedness, for a new convertible
promissory note in the aggregate principal amount of $125,000. The new
note is due October 14, 2014, is unsecured, and bears interest at an
annual rate of six percent (6%). The new note was initially convertible
into shares of the Company’s common stock at a conversion price of $0.001
per share. The conversion price has since adjusted to $0.0001 pursuant to
rate adjustment terms set forth in the note. During the year ended
December 31, 2009, the holders have made various conversions to the
principal and interest outstanding. Subsequent to December 31, 2009, the
note was amended to reduce the interest rate to 5% and to amend certain
adjustment terms in the conversion
price.
|
In
accordance with ASC 470-20, the Company recognized an imbedded beneficial
conversion feature present in this note. The Company allocated a portion of the
proceeds equal to the intrinsic value of that feature to additional paid in
capital. The Company recognized and measured $125,000 of the proceeds, which is
equal to the intrinsic value of the imbedded beneficial conversion feature, to
additional paid in capital and a discount against the note. The debt discount
attributed to the beneficial conversion feature is amortized over the note’s
maturity period as interest expense. As of September 30, 2010, unamortized
discount of $40,734 still remains.
|
(l)
|
On
December 14, 2009, the Company entered into an exchange agreement with a
third party investor, pursuant to which the investor exchanged
approximately $30,000 of the evidences of indebtedness through unsecured
cash advances, for a new convertible promissory note in the aggregate
principal amount of $30,000. The new note is due December 14, 2011, is
unsecured, and bears interest at an annual rate of four percent (4%). The
new note is convertible into shares of the Company’s common stock at a
conversion price of fifty percent (50%) of the average of the per share
market values during the three (3) trading days immediately preceding a
conversion date, subject to
adjustments.
|
F-14
KENTUCKY
ENERGY, INC.
(formerly
Quest Minerals and Mining Corp.)
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER
30, 2010
(Unaudited)
In
accordance with ASC 470-20, the Company recognized an imbedded beneficial
conversion feature present in this note. The Company allocated a portion of the
proceeds equal to the intrinsic value of that feature to additional paid in
capital. The Company recognized and measured $28,554 of the proceeds, which is
equal to the intrinsic value of the imbedded beneficial conversion feature, to
additional paid in capital and a discount against the note. The debt discount
attributed to the beneficial conversion feature is amortized over the note’s
maturity period as interest expense. As of September 30, 2010, the debt
principal has been fully satisfied through conversions with only $240 remaining
in unpaid interest.
|
(m)
|
On
October 23, 2009, the Company issued a convertible note to a third party
investor in the amount of 50,000. The note is due October 23, 2011, is
unsecured, and bear interest at an annual rate of eight percent (8%). The
note is convertible into shares of the Company’s common stock at a
conversion price of forty five percent (45%) of the average of the five
(5) lowest per share market values during the ten (10) trading days
immediately preceding a conversion
date.
|
In
accordance with ASC 470-20, the Company recognized an imbedded beneficial
conversion feature present in this note. The Company allocated a portion of the
proceeds equal to the intrinsic value of that feature to additional paid in
capital. The Company recognized and measured $31,064 of the proceeds, which is
equal to the intrinsic value of the imbedded beneficial conversion feature, to
additional paid in capital and a discount against the note. The debt discount
attributed to the beneficial conversion feature is amortized over the note’s
maturity period as interest expense. As of September 30, 2010, unamortized
discount of $5,201 still remains.
|
(n)
|
On
August 28, 2009, the Company borrowed $12,500 from an unrelated third
party, and in connection therewith, issued a promissory note that is due
on demand, is unsecured, and bears interest at an annual interest rate of
twelve percent (12%). On July 16, 2010, the Company and the investor
entered into an agreement where the existing principal and accrued
interest of $1,363 were exchanged for a new convertible note with an
aggregate principal amount of $13,863. The note is due July 16, 2012, is
unsecured, and bears interest at an annual rate of eight percent (8%). The
note is convertible into shares of the Company’s common stock at a
conversion price of forty percent (40%) of the average of the three (3)
lowest per share market values during the ten (10) trading days
immediately preceding a conversion
date.
|
In
accordance with ASC 470-20, the Company recognized an imbedded beneficial
conversion feature present in this note. The Company allocated a portion of the
proceeds equal to the intrinsic value of that feature to additional paid in
capital. The Company recognized and measured $13,863 of the proceeds, which is
equal to the intrinsic value of the imbedded beneficial conversion feature, to
additional paid in capital and a discount against the note. The debt discount
attributed to the beneficial conversion feature is amortized over the note’s
maturity period as interest expense. As of September 30, 2010, unamortized
discount of $8,895 still remains.
|
(o)
|
On
January 16, 2009, the Company borrowed $10,000 from an unrelated third
party, and in connection therewith, issued a promissory note that is due
on demand, is unsecured, and bears interest at an annual interest rate of
six percent (6%).
|
F-15
KENTUCKY
ENERGY, INC.
(formerly
Quest Minerals and Mining Corp.)
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER
30, 2010
(Unaudited)
|
(p)
|
On
February 4, 2010, the Company entered into a purchase agreement with an
unrelated third party where the Company issued a $95,000 convertible
promissory note for a purchase price of $75,000. The note is due February
4, 2012 and bears interest at an annual interest rate of five percent
(5%). The note is convertible into shares of the Company’s common stock at
a conversion price of $0.0001 per share due to variable rate
adjustments.
|
In
accordance with ASC 470-20, the Company recognized an imbedded beneficial
conversion feature present in this note. The Company allocated a portion of the
proceeds equal to the intrinsic value of that feature to additional paid in
capital. The Company recognized and measured $57,500 of the proceeds, which is
equal to the intrinsic value of the imbedded beneficial conversion feature, to
additional paid in capital and a discount against the note. The debt discount
attributed to the beneficial conversion feature is amortized over the note’s
maturity period as interest expense. As of September 30, 2010, unamortized
discount of $38,491 still remains.
|
(q)
|
On
February 26, 2010, the Company entered into a purchase agreement with an
unrelated third party where the Company issued a $55,000 convertible
promissory note for a purchase price of $50,000. The note is due February
26, 2012 and bears interest at an annual interest rate of eight percent
(8%). The note is convertible into shares of the Company’s common stock at
a conversion price of forty five percent (45%) of the average of the five
(5) lowest per share market value during the five (5) trading days
immediately preceding a conversion
date.
|
In
accordance with ASC 470-20, the Company recognized an imbedded beneficial
conversion feature present in this note. The Company allocated a portion of the
proceeds equal to the intrinsic value of that feature to additional paid in
capital. The Company recognized and measured $55,000 of the proceeds, which is
equal to the intrinsic value of the imbedded beneficial conversion feature, to
additional paid in capital and a discount against the note. The debt discount
attributed to the beneficial conversion feature is amortized over the note’s
maturity period as interest expense. As of September 30, 2010, unamortized
discount of $38,036 still remains.
|
(r)
|
On
March 22, 2010, the Company entered into a purchase agreement with an
unrelated third party where the Company issued a $50,000 convertible
promissory note. The note is due March 22, 2011 and bear interest at an
annual interest rate of eight percent (8%). The note is convertible into
shares of the Company’s common stock at a conversion price of forty
percent (40%) of the average of the three (3) lowest per share market
value during the ten (10) trading days immediately preceding a conversion
date.
|
In
accordance with ASC 470-20, the Company recognized an imbedded beneficial
conversion feature present in this note. The Company allocated a portion of the
proceeds equal to the intrinsic value of that feature to additional paid in
capital. The Company recognized and measured $50,000 of the proceeds, which is
equal to the intrinsic value of the imbedded beneficial conversion feature, to
additional paid in capital and a discount against the note. The debt discount
attributed to the beneficial conversion feature is amortized over the note’s
maturity period as interest expense. As of September 30, 2010, unamortized
discount of $17,809 still remains.
F-16
KENTUCKY
ENERGY, INC.
(formerly
Quest Minerals and Mining Corp.)
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER
30, 2010
(Unaudited)
|
(s)
|
From
July 20, 2010 to September 24, 2010, the Company entered into a series of
purchase agreements with unrelated third party investors pursuant to which
the Company issued a series of convertible promissory notes. The notes are
due on dates ranging from July 20, 2010 to September 24, 2010 and bear
interest at an annual interest rate of eight percent (8%). The note is
convertible into shares of the Company’s common stock at a conversion
price of forty percent (40%) of the average of the three (3) lowest per
share market value during the ten (10) trading days immediately preceding
a conversion date.
|
In
accordance with ASC 470-20, the Company recognized an imbedded beneficial
conversion feature present in this note. The Company allocated a portion of the
proceeds equal to the intrinsic value of that feature to additional paid in
capital. The Company recognized and measured $145,500 of the proceeds, which is
equal to the intrinsic value of the imbedded beneficial conversion feature, to
additional paid in capital and a discount against the note. The debt discount
attributed to the beneficial conversion feature is amortized over the note’s
maturity period as interest expense. As of September 30, 2010, unamortized
discount of $133,728 still remains.
|
(t)
|
On
July 10, 2006, the Company entered into a settlement arrangement with an
existing equipment lessor for the bill of sale on two pieces of equipment,
of which the Company had retained possession while in default of prior
lease payments. On October 10, 2006, the Pike County Circuit Court entered
an order enforcing this settlement agreement, and on December 19, 2006,
the lessor was awarded summary judgment in the amount of $35,000 plus 8%
accrued interest from August 9, 2006. As of September 30, 2010, the
Company remains in default. The lessor has since repossessed the
equipment.
|
|
(u)
|
Under
Gwenco’s Plan of Reorganization, a judgment in favor of Interstellar
Holdings, LLC was classified as a Class 1 Claim and was satisfied by the
issuance to Interstellar Holdings of a 5 year secured convertible
promissory note, which note is convertible into common stock of the
Company at a rate of the lower of (i) $0.001 per share and (ii) 40% of the
average of the three lowest per shares market values of the Company’s
common stock during the 10 trading days before a conversion; provided that
the holder is prohibited from converting if such conversion would result
in it holding more than 4.99% of the Company’s outstanding common stock.
In accordance with ASC 470-20, the Company recognized an imbedded
beneficial conversion feature present in this note. The Company allocated
a portion of the proceeds equal to the intrinsic value of that feature to
additional paid in capital. The Company recognized and measured $1,093,771
of the proceeds, which is equal to the intrinsic value of the imbedded
beneficial conversion feature, to additional paid in capital and a
discount against the note. The debt discount attributed to the beneficial
conversion feature is amortized over the note’s maturity period as
interest expense. As of September 30, 2010, unamortized discount of
$884,131 still remains.
|
F-17
KENTUCKY
ENERGY, INC.
(formerly
Quest Minerals and Mining Corp.)
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER
30, 2010
(Unaudited)
|
(v)
|
Under
Gwenco’s Plan of Reorganization, the Court approved an exit facility under
which Interstellar Holdings, LLC will provide up to $2 million in
financing to Gwenco, which Gwenco used to pay off its Debtor In Possession
Total Facility. The exit facility consists of a 5 year secured convertible
line of credit note, which note is convertible into common stock of the
Company at a rate of the lower of (i) $0.001 per share and (ii) 40% of the
average of the three lowest per shares market values of the Company’s
common stock during the 10 trading days before a conversion; provided that
the holder is prohibited from converting if such conversion would result
in it holding more than 4.99% of the Company’s outstanding common stock.
In accordance with ASC 470-20, the Company recognized an imbedded
beneficial conversion feature present in this note. The Company allocated
a portion of the proceeds equal to the intrinsic value of that feature to
additional paid in capital. The Company recognized and measured $1,968,281
of the proceeds, which is equal to the intrinsic value of the imbedded
beneficial conversion feature, to additional paid in capital and a
discount against the note. The debt discount attributed to the beneficial
conversion feature is amortized over the note’s maturity period as
interest expense. As of September 30, 2010, unamortized discount of
$1,591,027 still remains.
|
|
(w)
|
Certain
unsecured promissory notes which Gwenco assumed in connection with a
settlement agreement with a former owner were classified as unsecured
Class 3 Claims in Gwenco’s Plan of Reorganization. These claims will be
satisfied by cash payments equal to the value of their claim on the
earlier of (i) October 12, 2014 or (ii) the date on which, in Gwenco’s
sole discretion, proceeds from the exit facility are sufficient to satisfy
the claims. Further, these claimholders shall receive their pro-rata share
of royalty payments to reduce their
claims.
|
|
(x)
|
Certain
accrued overriding royalties owed to former owners totaling $319,062 have
been reclassified as allowed unsecured claims under Gwenco’s Plan, to be
paid along with the other allowed unsecured claims under Gwenco’s Plan.
Each former owner has the right to convert up to $40,000 of his or her
claim into the Company’s common stock at a conversion price of eighty five
percent (85%) of the average of the five (5) per share market values
immediately preceding a conversion date, with a minimum conversion price
of the par value of the Company’s common stock. In accordance with ASC
470-20, the Company recognized an imbedded beneficial conversion feature
present in this note. The Company allocated a portion of the proceeds
equal to the intrinsic value of that feature to additional paid in
capital. The Company recognized and measured $1,634 of the proceeds, which
is equal to the intrinsic value of the imbedded beneficial conversion
feature, to additional paid in capital and a discount against the note.
The debt discount attributed to the beneficial conversion feature is
amortized over the note’s maturity period as interest expense. As of
September 30, 2010, unamortized discount of $1,226 still
remains.
|
|
(y)
|
Pursuant
to the Plan, most of the existing royalties, which accrued up until the
effective date, were re-categorized as unsecured Cure Claims totaling
$199,213. These claim amounts are now due on or before October 12,
2012.
|
|
(z)
|
Certain
promissory notes issued to a former stockholder of Gwenco were classified
as unsecured Class 3 Claims in Gwenco’s Plan of Reorganization. The claims
are also guaranteed by the Company and Quest Ltd. and are secured by 50%
of Quest Ltd.’s ownership of Gwenco. The former stockholder also has the
has the right to convert up to $15,000 of the claim each month into the
Company’s common stock at a conversion price of eighty five percent (85%)
of the average of the five (5) per share market values immediately
preceding a conversion date, with a minimum conversion price of the par
value of the Company’s common
stock.
|
F-18
KENTUCKY
ENERGY, INC.
(formerly
Quest Minerals and Mining Corp.)
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER
30, 2010
(Unaudited)
Reclassification
During
the nine months ended September 30, 2010, the Company revised its methodology of
estimating the fair value of obligations modified as a result of the
confirmation of Gwenco’s Plan of Reorganization. This resulted in a
reclassification of approximately $480,000 from additional paid in capital to
restructured debt.
NOTE
5 -
|
INCOME
TAXES
|
The
Company recognized no income tax benefit for the loss generated for the periods
through September 30, 2010.
ASC
740-10 requires that a valuation allowance be provided if it is more likely than
not that some portion or all of a deferred tax asset will not be realized. The
Company’s ability to realize the benefit of its deferred tax asset will depend
on the generation of future taxable income. Because the Company has yet to
recognize significant revenue from the sale of its products, it believes that
the full valuation allowance should be provided.
The
Company has not filed corporate federal, state, or local income tax returns
since 2002, and believes that, due to its operating losses, it does not have a
material tax liability.
NOTE
6 -
|
COMMON
STOCK
|
On June
16, 2010, the Company effectuated a 1 to 20 reverse stock split resulting in a
1,858,642,772 reduction of shares from 1,956,466,735 common shares outstanding
to 97,823,963 common shares outstanding. The reverse stock split did not affect
the amount of authorized shares of the Company. Additionally, the board approved
the issuance of up to 500 shares of the Company’s common stock for rounding up
of fractional shares in connection with the reverse stock split.
All
references in the unaudited condensed consolidated financial statements and
notes to unaudited condensed consolidated financial statements, numbers of
shares, and share amounts have been retroactively restated to reflect the
reverse splits, unless explicitly stated otherwise.
During
the nine months ended September 30, 2010, the Company issued an aggregate of
57,715,000 shares of common stock for consulting and legal services. Expense of
$247,120 was recorded related to these shares, which was the market value of
such shares issued at prices ranging from $0.00040 to $0.00181 per
share.
During
the nine months ended September 30, 2010, the holders of 7% convertible
promissory notes effectuated a final conversion of 332,917 shares of common
stock at a conversion price of $0.0168 per share to satisfy the remaining $5,593
of accrued interest.
During
the nine months ended September 30, 2010, the holders of 8% convertible
promissory notes due August 14, 2010, effectuated a series of partial
conversions and were issued an aggregate of 10,000,000 shares of common stock at
conversion prices ranging from $0.006 to $0.02 per share. In the aggregate,
these issuances reduced the debt by $113,680 in principal.
F-19
KENTUCKY
ENERGY, INC.
(formerly
Quest Minerals and Mining Corp.)
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER
30, 2010
(Unaudited)
During
the nine months ended September 30, 2010, the holders of 4% convertible
promissory notes due December 14, 2011, effectuated a series of partial
conversions and were issued an aggregate of 2,556,762 shares of common stock at
conversion prices ranging from $0.006 to $0.022 per share. In the aggregate,
these issuances reduced the debt by $30,000 in principal.
During
the nine months ended September 30, 2010, the holders of 6% convertible
promissory notes due July 13, 2011, effectuated a series of partial conversions
and were issued an aggregate of 16,400,000 shares of common stock at conversion
prices ranging from $0.002 to $0.01 per share. In the aggregate, these issuances
reduced the debt by $27,100 in principal.
During
the nine months ended September 30, 2010, the holders of 6% convertible
promissory notes due October 14, 2014, effectuated a series of partial
conversions and were issued an aggregate of 17,600,000 shares of common stock at
conversion prices ranging from $0.002 to $0.02 per share. In the aggregate,
these issuances reduced the debt by $40,100 in principal.
During
the nine months ended September 30, 2010, the holders of 6% convertible
promissory notes due June 26, 2011, effectuated a series of partial conversions
and were issued an aggregate of 127,378,900 shares of common stock at conversion
prices ranging from $0.002 to $0.02 per share. In the aggregate, these issuances
reduced the debt by $187,225 in principal and $4,138 in accrued
interest.
During
the nine months ended September 30, 2010, the holders of 6% convertible
promissory notes due June 6, 2010, effectuated a series of partial conversions
and were issued an aggregate of 1,352,036 shares of common stock at a conversion
price of $0.02 per share. In the aggregate, these issuances reduced the debt by
$25,004 in principal and $2,037 in accrued interest.
During
the nine months ended September 30, 2010, the holders of a Class 3 Claim under
the Gwenco Plan of Reorganization, due October 12, 2014, exercised its
conversion option pursuant to the Plan to effectuate a series of partial
conversions and were issued an aggregate of 41,082,149 shares of common stock at
conversion prices ranging from $0.0007 to $0.0274 per share. In the aggregate,
these issuances reduced the debt by $105,000 in principal.
During
the nine months ended September 30, 2010, the holders of a Class 1 Claim under
the Gwenco Plan of Reorganization, due October 12, 2014, exercised its
conversion option within the Exit Facility terms pursuant to the Plan to
effectuate a series of partial conversions and were issued an aggregate of
11,500,000 shares of common stock at conversion prices ranging from $0.004 to
$0.01 per share. In the aggregate, these issuances reduced the debt by $58,187
in principal.
During
the nine months ended September 30, 2010, the holders of 8% convertible
promissory notes due October 23, 2011, effectuated a series of partial
conversions and were issued an aggregate of 144,648,510 shares of common stock
at conversion prices ranging from $0.00022 to $0.00026 per share. In the
aggregate, these issuances reduced the debt by $34,043 in
principal.
F-20
KENTUCKY
ENERGY, INC.
(formerly
Quest Minerals and Mining Corp.)
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER
30, 2010
(Unaudited)
During
the nine months ended September 30, 2010, the holders of 8% convertible
promissory notes due July 16, 2012, effectuated a series of partial conversions
and were issued an aggregate of 19,776,516 shares of common stock at conversion
prices ranging from $0.00019 to $0.00020 per share. In the aggregate, these
issuances reduced the debt by $3,918 in principal.
NOTE
7 -
|
COMMITMENTS
AND CONTINGENCIES
|
Valley Personnel Services. On
or about August 25, 2004, Valley Personnel Services, Inc. commenced an action in
the Circuit Court of Mingo County, West Virginia against Quest’s indirect
wholly-owned subsidiaries, D&D Contracting, Inc. and Quest Energy, Ltd. for
damages in the amount of approximately $150,000, plus pre and post judgment
interest as provided by law, costs, and fees.
Community Trust Bank.
Community Trust Bank and its insurer, the Federal Insurance Company,
commenced an action in Pike County Court, Kentucky against Quest Energy alleging
that former employees or associates of Quest Energy engaged in a criminal scheme
and conspiracy to defraud Community Trust Bank, that Quest Energy is accordingly
responsible for the actions of these former employees and associates, and that
Quest Energy obtained a substantial material benefit as a result of this alleged
scheme. Quest Energy has denied these allegations. As of September 30, 2010, the
matter is closed and off the Court’s docket, and no outcome has been determined.
We have previously recorded an accrual of $650,000 for our best estimate of
probable loss related to this matter. While we believe that this matter will be
resolved without a material adverse impact on our cash flows, results of
operation, or financial condition, it is reasonably possible that our judgments
regarding this matter could change in the future.
Personal Injury. An action has been commenced
in the Circuit Court of Pike County, Kentucky against the Company and its
subsidiaries for unspecified damages resulting from personal injuries suffered
while working for Mountain Edge Personnel, an employee leasing agency who leased
employees to the subsidiaries. The action has since been dismissed without
prejudice.
Fidler. In the fourth quarter
of 2008, a former attorney for the Company commenced an action alleging breach
of contract for unpaid legal fees. The Company has denied the allegations and is
actively defending the matter. Furthermore, the Company has filed a counterclaim
against the attorney alleging legal malpractice in connection with the
attorney’s representation of the Company in several matters. The parties have
agreed in principle to settle the matter, subject to completion of definitive
settlement documents.
Potential SEC Action. In
October 2008, the Company received a Wells notice (the “Notice”) from the staff
of the Salt Lake Regional Office of the Securities and Exchange Commission (the
“Commission”) stating that they are recommending an enforcement action be filed
against the Company based on the Company’s financial statements and other
information contained in reports filed with the Commission for the period 2004
and thereafter. The Notice states that the Commission anticipates alleging that
we have violated Sections 10(b), 13(a) and 13(b)(2) of the Securities Exchange
Act of 1934, as amended and Rules 10b-5, 12b-20, 13a-1 and 13a-13 thereunder.
F-21
KENTUCKY
ENERGY, INC.
(formerly
Quest Minerals and Mining Corp.)
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER
30, 2010
(Unaudited)
In
connection with ongoing settlement discussions between the Company and the SEC
staff, the parties have discussed a settlement framework and the Company has
submitted a negotiated offer of settlement for approval by the Commission. This
settlement would involve an administrative proceeding against the Company for
alleged violations of certain federal securities laws relating to certain
accounting and financial reporting matters. The settlement would include charges
under Sections 13(a), 13(b)(2), and 13(b)(5) of the Securities Exchange Act of
1934, as amended, and Rules 12b-20, 13a-1, 13a-13, and 13b2-1 thereunder,
relating to the Company’s accounting for convertible notes and warrants issued
by the Company in 2004 and 2005.
The
remedies under the proposed offer of settlement would include a cease-and-desist
order from further violations of the above referenced laws and regulations. In
addition, the Company would agree to certain undertakings, including the
maintenance of at least two independent directors, employment of a CFO qualified
to prepare financial statements in accordance with GAAP, and the adoption of a
system of written internal controls, and identification and implementation of
actions to improve the effectiveness of its disclosure controls and procedures
and internal controls, including plans to enhance its resources and training
with respect to financial reporting and disclosure responsibilities, and to
review such actions with its independent auditors.
The offer
of settlement was made without admitting or denying the Commission’s
allegations. The offer of settlement is subject to approval by the Commission.
No assurance can be given as to whether the Commission will accept the offer of
settlement.
The
Company is unable to predict the extent of its ultimate liability with respect
to any and all future securities, bankruptcy, or other litigation matters. The
costs and other effects of any future litigation, bankruptcy proceedings,
government investigations, legal and administrative cases and proceedings,
settlements, judgments and investigations, claims and changes in these matters
could have a material adverse effect on the Company’s financial condition and
operating results.
The
Company is subject to other legal proceedings and claims, which arise in the
ordinary course of its business. Although occasional adverse decisions or
settlements may occur, the Company believes that the final disposition of such
matters should not have a material adverse effect on its financial position,
results of operations, or liquidity.
On July
21, 2010, the Company entered into an agreement with an unrelated third party to
obtain up to 100 drill sites and a 100% working interest of the oil and gas
rights on approximately 3,000 acres of property located in Rockcastle County,
Kentucky for an initial deposit of $50,000 to be paid over a scheduled period.
The Company continues to capitalize each subsequent payment as an asset on their
financials. In addition, the unrelated third party is to drill a well for
additional consideration of $125,000 if paid by November 5, 2010. The well will
be used to test thoroughly the main oil and gas horizons. As of September 30,
2010, the Company is in default of the initial deposit, however, continues to
make payments in good faith to finalize the transaction. As a result, the
unrelated third party has the reserved right to terminate this arrangement at
anytime. It is undetermined when the originally scheduled drilling will
commence.
F-22
KENTUCKY
ENERGY, INC.
(formerly
Quest Minerals and Mining Corp.)
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER
30, 2010
(Unaudited)
NOTE
8 -
|
SUBSEQUENT
EVENTS
|
On
October 23, 2009, the Company issued a convertible note to a third party
investor in the amount of $50,000. The note is due October 23, 2011, is
unsecured, and bears interest at an annual rate of eight percent (8%). The note
is convertible into shares of the Company’s common stock at a conversion price
of forty five (45%) of the average of the five (5) lowest per share market
values during the ten (10) trading days immediately preceding a conversion date.
On October 21, 2010, the Company and the noteholders amended the note to extend
the maturity date to October 23, 2012 and to adjust the conversion price to
thirty five percent (35%) of the average of the five (5) lowest per share market
values during the ten (10) trading days immediately preceding a conversion
date.
On August
28, 2009, the Company borrowed $12,500 from an unrelated third party, and in
connection therewith, issued a promissory note that is due on demand, is
unsecured, and bears interest at an annual interest rate of twelve percent
(12%). On July 16, 2010, the Company entered into an agreement with the investor
where the existing principal and accrued interest of $1,363 were exchanged for a
new convertible note having an aggregate principal amount of $13,863. The note
is due July 16, 2012, is unsecured, and bears interest at an annual rate of
eight percent (8%). The note is convertible into shares of the Company’s common
stock at a conversion price of forty percent (40%) of the average of the three
(3) lowest per share market values during the ten (10) trading days immediately
preceding a conversion date. On October 21, 2010, the Company and the noteholder
amended the note to extend the maturity date to July 16, 2013 and to adjust the
conversion price to thirty percent (30%) of the average of the three (3) lowest
per share market values during the ten (10) trading days immediately preceding a
conversion date.
On March
22, 2010, the Company entered into a purchase agreement with an unrelated third
party where the Company issued a $50,000 convertible promissory note. The note
is due March 22, 2011 and bears interest at an annual interest rate of eight
percent (8%). The note is convertible into shares of the Company’s common stock
at a conversion price of forty percent (40%) of the average of the three (3)
lowest per share market value during the ten (10) trading days immediately
preceding a conversion date. The Company recorded a note discount of $50,000,
which is being amortized over the term of the note. On October 21, 2010, the
Company and the noteholders amended the note to extend the maturity date to
March 22, 2012 and to adjust the conversion price to thirty percent (30%) of the
average of the three (3) lowest per share market values during the ten (10)
trading days immediately preceding a conversion date.
On
October 13, 2010, the Company entered into an exchange agreement with a third
party investor, pursuant to which the investor exchanged $20,000 of prior cash
advances for a convertible promissory note in the aggregate principal amount of
$20,000. The note is due October 13, 2012 and bears interest at an annual
interest rate of eight percent (8%). The note is convertible into shares of the
Company’s common stock at a conversion price of fifty percent (50%) of the
average of the five (5) per share market values immediately preceding a
conversion date. The Company recorded a note discount of $20,000, which is being
amortized over the term of the note.
On
October 22, 2010, the Company issued a convertible note to a third party
investor in the amount of $50,000. The note is due October 22, 2012, is
unsecured, and bears interest at an annual rate of eight percent (8%). The note
is convertible into shares of the Company’s common stock at a conversion price
of thirty percent (30%) of the average of the three (3) lowest per share market
values during the five (5) trading days immediately preceding a conversion date.
The Company recorded a note discount of $50,000, which is being amortized over
the term of the note.
F-23
KENTUCKY
ENERGY, INC.
(formerly
Quest Minerals and Mining Corp.)
NOTES
TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER
30, 2010
(Unaudited)
On
November 1, 2010, the Company entered into a purchase agreement with an
unrelated third party investor pursuant to which the Company issued a
convertible promissory note. The note is due on November 1, 2011 and bears
interest at an annual interest rate of eight percent (8%). The note is
convertible into shares of the Company’s common stock at a conversion price of
forty percent (40%) of the average of the three (3) lowest per share market
value during the ten (10) trading days immediately preceding a conversion date.
The Company recorded a note discount of $10,000, which is being amortized over
the term of the note.
The
Company had not filed corporate federal, state, or local income tax returns
since 2002, and believes that, due to its operating losses, it does not have a
material tax liability. On October 2, 2010, Gwenco filed all outstanding
Federal and State corporate income tax returns through 2008.
From
October 1, 2010 through November 19, 2010, the Company issued an aggregate of
465,326,517 shares of common stock upon conversions of various convertible notes
and in partial satisfaction of Class 3 claims against Gwenco in the Gwenco
Bankruptcy proceedings, and 83,000,000 shares of common stock for services
rendered.
F-24
ITEM
2 – MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS.
The
following discussion and analysis should be read in conjunction with our
unaudited condensed consolidated financial statements and related notes included
in this report.
This
report and the documents to which we refer you and incorporate into this report
by reference contain “forward-looking statements” within the meaning of the
Private Securities Litigation Reform Act of 1995. In addition, from
time to time, we or our representatives may make such forward-looking statements
orally or in writing. These are statements that relate to future
periods and include statements regarding our future strategic, operational, and
financial plans, anticipated capital expenditures, projected cash flows,
borrowings and other sources of funding, anticipated or projected revenues,
expenses, and operational growth, the adequacy of our current equipment and
supplies as well as our ability to obtain additional equipment and supplies, and
our ability to expand our operations.
The
statements contained in this report that are not historic in nature,
particularly those that utilize terminology such as “may,” “will,” “should,”
“expects,” “anticipates,” “estimates,” “believes,” “plans,” “target,” “goal,”
“objective,” or comparable terminology are forward-looking statements based on
current expectations and assumptions. Various risks and uncertainties
could cause actual results to differ materially from those expressed in
forward-looking statements.
All
forward-looking statements in this document are based on information currently
available to us as of the date of this report, and we assume no obligation to
update any forward-looking statements. Forward-looking statements
involve known and unknown risks, uncertainties, and other factors that may cause
the actual results to differ materially from any future results, performance or
achievements expressed or implied by such forward-looking statements, including,
but not limited to, the following:
|
(i)
|
our
cash flows, results of operations, or financial
condition;
|
|
(ii)
|
our
ability to continue as a going
concern;
|
|
(iii)
|
the
possibility that the assets of our wholly owned subsidiary, Gwenco, Inc.,
could be liquidated in the future if its bankruptcy case is converted to a
Chapter 7 liquidation;
|
|
(iv)
|
our
need to continue to finance our operations through additional borrowings
or other capital financings, which may not be available as
needed;
|
|
(v)
|
our
substantial indebtedness outstanding and significantly leveraged
operations;
|
|
(vi)
|
our
ability to timely obtain necessary supplies and
equipment;
|
|
(vii)
|
the
impact of the recent mine explosion at the Upper Big Branch mine in West
Virginia;
|
|
(viii)
|
governmental
policies, laws, regulatory actions and court decisions affecting the coal
industry or our customers’ coal
usage;
|
|
(ix)
|
legal
and administrative proceedings, settlements, investigations and claims and
the availability of insurance coverage related thereto, including, but not
limited to, any SEC enforcement action that may be brought in the
future;
|
|
(x)
|
our
interpretation and application of accounting literature related to mining
specific issues;
|
|
(xi)
|
our
assumptions and projections concerning economically recoverable coal
reserve estimates;
|
|
(xii)
|
inherent
risks of coal mining beyond our control, including weather and geologic
conditions or catastrophic weather-related
damage;
|
|
(xiii)
|
inherent
complexities which make it more difficult and costly to mine in Central
Appalachia than in other parts of the United
States;
|
2
|
(xiv)
|
our
production capabilities to meet market expectations and customer
requirements;
|
|
(xv)
|
the
cost and availability of transportation for our produced
coal;
|
|
(xvi)
|
our
ability to obtain and renew permits necessary for our existing and any
future operations in a timely
manner;
|
|
(xvii)
|
our
ability to expand our mining
capacity;
|
(xviii)
|
our
ability to manage production costs, including labor
costs;
|
|
(xix)
|
adjustments
made in price, volume, or terms to existing coal supply
arrangements;
|
|
(xx)
|
the
worldwide market demand for coal, electricity, and
steel;
|
|
(xxi)
|
environmental
concerns related to coal mining and combustion and the cost and perceived
benefits of alternative sources of energy such as natural gas and nuclear
energy;
|
|
(xxii)
|
our
reliance upon and relationships with our customers and
suppliers;
|
(xxiii)
|
the
creditworthiness of our customers and
suppliers;
|
(xxiv)
|
the
lack of insurance against all potential operating
risks;
|
|
(xxv)
|
competition
among coal and other energy producers, in the United States and
internationally;
|
(xxvi)
|
our
ability to attract, train and retain a skilled workforce to meet
replacement or expansion needs;
|
(xxvii)
|
future
economic or capital market
conditions;
|
(xxviii)
|
the
availability and costs of credit, surety bonds and letters of credit that
we require;
|
(xxix)
|
foreign
currency fluctuations;
|
|
(xxx)
|
the
successful completion of acquisition, disposition, or financing
transactions and the effect thereof on our business;
and
|
(xxxi)
|
the
successful implementation of our strategic plans and objectives for future
operations and expansion or
consolidation.
|
We include these cautionary statements
in this report to make applicable and take advantage of the safe harbor
provisions of the Private Securities Litigation Reform Act of 1995 as well as
the “bespeaks caution” doctrine. Any forward-looking statements
should be considered in context with the various disclosures made by us about
our company in our public filings with the SEC, including, without limitation,
the Risk Factors more specifically described on our annual report on Form 10-K
for the year ended December 31, 2009, as amended. The forward-looking
statements speak only as of the date hereof, and we expressly disclaim any
obligation to publicly release the results of any revisions to these
forward-looking statements to reflect events or circumstances after the date of
this filing unless required by securities law, and we caution the reader not to
rely on them unduly.
3
General
Kentucky
Energy Inc. (f/k/a Quest Minerals & Mining Corp.) acquires and
operates energy and mineral related properties in the southeastern part of the
United States. We focus our efforts on operating properties that
produce quality compliance blend coal, generating revenues and cash flow through
the mining, processing, and selling of the coal located on these
properties.
We are a
holding company for Quest Minerals & Mining, Ltd., a Nevada corporation, or
Quest (Nevada), which in turn is a holding company for Quest Energy, Ltd., a
Kentucky corporation, or Quest Energy, and of Gwenco, Inc., a Kentucky
corporation, or Gwenco. Quest Energy is the parent corporation of E-Z
Mining Co., Inc, a Kentucky corporation, or E-Z Mining, and of Quest Marine
Terminal, Ltd., a Kentucky corporation, or Quest Marine.
Gwenco
leases over 700 acres of coal mines, with approximately 12,999,000 tons of coal
in place in six seams. In 2004, Gwenco had reopened Gwenco’s two
former drift mines at Pond Creek and Lower Cedar Grove, and had begun production
at the Pond Creek seam. This seam of high quality compliance coal is
located at Slater’s Branch, South Williamson, Kentucky.
In 2009,
the United States Bankruptcy Court for the Eastern District of Kentucky
confirmed Gwenco’s Plan of Reorganization (the “Plan”) pursuant to Chapter 11 of
the U.S. Bankruptcy Code with the United States Bankruptcy Court for the Eastern
District of Kentucky. The Plan became effective on October 12,
2009. A description of the Plan and a copy of the Plan are set forth
in our Current Report on Form 8-K dated October 2, 2009.
Fiscal
2010 Developments
Operations
Overview. In the first three quarters of 2010, we continued to
conduct mining operations. We generated coal revenues of $2.24
million for the first three quarters of 2010, compared to $0.68 million for the
first three quarters of 2009. Other than with respect to the West
Virginia explosion discussed below, we did not have to shut down our operations
during the first three quarters of 2010. However, we did encounter
temporary delays and stoppages, due to either breakdowns in equipment, a lack of
necessary supplies, weather-related production issues, or regulatory
inspections. We continue to encounter thicker coal seams as we
advance further into the mine.
While
certain general business conditions continue to improve, the continued effects
of the recent recession, credit crisis, and related turmoil in the global
financial system has had and may continue to have a negative impact on our
business, financial condition, and liquidity. We may face significant
future challenges if conditions in the financial markets do not continue to
improve. Worldwide demand for coal has been adversely impacted by the
global recession, but the steel industry and the global metallurgical coal
markets have shown signs of improvement. If this trend continues,
coal demand should increase and improve our opportunities to sell our coal
products at higher prices.
West Virginia
Explosion. On April 5, 2010, an explosion occurred at the
Upper Big Branch mine in Montcoal, West Virginia, operated by Performance Coal
Company, a subsidiary of Massey Energy, which resulted in 29
fatalities. In response to this tragedy, the Federal Mine Safety and
Health Administration (“MSHA”) conducted inspections of most mines in the
region, including Pond Creek. As a result of these inspections, MSHA
issued an order to Gwenco to take certain precautionary measures, including
upgrades to its ventilation system, CO system, and airlock system. In
addition, MSHA conducted simulated evacuations and conducted underground
training seminars. Gwenco ceased mining operations during this period
in order to allow the inspections, implement the precautionary measures, and
conduct the simulations and training. Gwenco reopened the mining
operations approximately two weeks after the inspections
commenced. However, as an ongoing result of the tragedy at UBB,
MSHA significantly increased regulatory enforcement in our mines. The
increased regulatory enforcement had a significant negative impact our
productivity and operating results for the third quarter of 2010. We
lost a significant number of shifts during the quarter due to regulatory issues,
many of which were due to delays in MSHA’s approval process for ventilation or
other mine plan changes. If MSHA continues to order our mines to be
temporarily closed or permanently closes such mines, our ability to meet our
customers’ demands could be adversely affected.
In
September 2010, MSHA revised the federal standard for the incombustible content
of coal dust, rock dust and other dust combined in coal mines. The revised
standard is effective for new mining as of October 7, 2010, and for previously
mined areas by November 22, 2010. We expect our cost of mining to
increase as we comply with the revised standard for additional rock-dusting
materials, equipment and labor.
4
Name Change. On
June 10, 2010, we filed an amendment to our Articles of Incorporation to change
corporate name from Quest Minerals & Mining Corp. to “Kentucky Energy,
Inc. The change in corporate name took effect on June 16,
2010.
Drilling
Contract. On July 21, 2010, we entered into an agreement
with an unrelated third party to obtain up to 100 drill sites and a 100% working
interest of the oil and gas rights on approximately 3,000 acres of property
located in Rockcastle County, Kentucky for $50,000. In addition, the
unrelated third party is to drill a well for additional consideration of
$125,000 if paid by November 5, 2010. This well will be used to test
thoroughly the main oil and gas horizons. As of September 30, 2010,
we did not pay the full initial deposit; however, we have continued to make good
faith payments to the third party, and the third party has agreed to grant us an
extension to finalize the transaction.
Critical
Accounting Policies
The
discussion and analysis of our financial condition and results of operations is
based upon our unaudited condensed consolidated financial statements, which have
been prepared in accordance with generally accepted accounting principles in the
United States. The preparation of unaudited condensed consolidated
financial statements requires managers to make estimates and disclosures on the
date of the unaudited condensed consolidated financial statements. On
an on-going basis, we evaluate our estimates, including, but not limited to,
those related to revenue recognition. We use authoritative
pronouncements, historical experience, and other assumptions as the basis for
making judgments. Actual results could differ from those
estimates. We believe the following critical accounting policies
affect its more significant judgments and estimates in the preparation of our
unaudited condensed consolidated financial statements.
Mineral
Interests
The
purchase acquisition costs of mineral properties are deferred until the
properties are placed into production, sold or abandoned. These
deferred costs will be amortized on the unit-of-production basis over the
estimated useful life of the properties following the commencement of production
or written-off if the properties are sold, allowed to lapse or
abandoned.
Mineral
property acquisition costs include any cash consideration and the fair market
value of common shares and preferred shares, based on the trading price of the
shares, or, if no trading price exists, on other indicia of fair market value,
issued for mineral property interests, pursuant to the terms of the agreement or
based upon an independent appraisal.
Administrative
expenditures are expensed in the year incurred.
Coal
Acquisition Costs
The costs
to obtain coal lease rights are capitalized and amortized primarily by the
units-of-production method over the estimated recoverable
reserves. Amortization occurs either as we mine on the property or as
others mine on the property through subleasing transactions.
Rights to
leased coal lands are often acquired through royalty payments. As
mining occurs on these leases, the accrued royalty is charged to cost of coal
sales.
Mining
Acquisition Costs
The costs
to obtain any interest in third-party mining operations are expensed unless
significantly proven reserves can be established for the entity. At
that point, capitalization would occur.
Mining
Equipment
Mining
equipment is recorded at cost. Expenditures that extend the useful
lives of existing plant and equipment or increase the productivity of the asset
are capitalized. Mining equipment is depreciated principally on the
straight-line method over the estimated useful lives of the assets, which range
from 3 to 15 years.
5
Deferred
Mine Equipment
Costs of
developing new mines or significantly expanding the capacity of existing mines
are capitalized and amortized using the units-of-production method over the
estimated recoverable reserves that are associated with the property being
benefited.
Asset
Impairment
If facts
and circumstances suggest that a long-lived asset may be impaired, the carrying
value is reviewed. If the review indicates that the value of the
asset will not be recoverable, as determined based on projected undiscounted
cash flows related to the asset over its remaining life, then the carrying value
of the asset is reduced to its estimated fair value.
Revenue
Recognition
Coal
sales revenues are sales to customers of coal produced at our
operations. We recognize revenue from coal sales at the time title
passes to the customer. Under the typical terms of sale, title and
risk of loss transfer to the customer at the mine (or dock, or port) where coal
is loaded to the truck (or rail, barge, ocean-going vessel, or other
transportation source) that serves our mines.
Income
Taxes
We
provide for the tax effects of transactions reported in the financial
statements. The provision, if any, consists of taxes currently due
plus deferred taxes related primarily to differences between the basis of assets
and liabilities for financial and income tax reporting. The deferred
tax assets and liabilities, if any, represent the future tax return consequences
of those differences, which will either be taxable or deductible when the assets
and liabilities are recovered or settled. As of September 30, 2010,
we had no material current tax liability, deferred tax assets, or liabilities to
impact on its financial position because the deferred tax asset related to our
net operating loss carry forward was fully offset by a valuation
allowance. However, we have not filed our corporate income tax
returns since 2002.
Fair
Value
Our
financial instruments, as defined by FASB ASC Topic 825-10-50, “Financial
Instruments”, include cash, advances to affiliate, trade accounts receivable,
investment in securities available-for-sale, restricted cash, accounts payable
and accrued expenses and short-term borrowings. All instruments other
than the investment in securities available-for-sale are accounted for on a
historical cost basis, which, due to the short maturity of these financial
instruments, approximates fair value as at September 30, 2010.
Earnings
loss per share
We
adopted FASB ASC Topic 260, “Earnings per Share”, which provides for the
calculation of “basic” and “diluted” earnings per share. Basic
earnings per share includes no dilution and is computed by dividing net income
available to common stockholders by the weighted average common shares
outstanding for the period. Diluted earnings per share reflect the
potential dilution of securities that could share in the earnings similar to
fully diluted earnings per share; however, the potential dilution becomes
anti-dilutive in the case of a loss and, therefore, basic and fully diluted loss
per share are the same.
Stock
Split
All
references to common stock and per share date have been retroactively restated
to account for the 1 for 100 reverse stock split effectuated on August 4,
2009.
All
references to common stock and per share date have been retroactively restated
to account for the 1 for 20 reverse stock split effectuated on June 16,
2010.
Other
Recent Accounting Pronouncements
We do not
expect that the adoption of other recent pronouncements from the Public Company
Oversight Board to have any impact on its financial statements.
6
Results
of Operations
Basis
of Presentation
The
following table sets forth, for the periods indicated, certain unaudited
selected financial data:
Three
Months Ended
|
Nine
Months Ended
|
|||||||||||||||
September 30,
|
September 30,
|
|||||||||||||||
2010
|
2009
|
2010
|
2009
|
|||||||||||||
Net
sales
|
$ | 784,841 | $ | 348,334 | $ | 2,243,192 | $ | 678,648 | ||||||||
Production
costs
|
(974,641 | ) | (655,566 | ) | (2,803,820 | ) | (1,344,334 | ) | ||||||||
Selling,
general and administrative
|
300,633 | 574,981 | 1,008,836 | 1,295,002 | ||||||||||||
Depreciation
and amortization
|
44,310 | 40,862 | 132,379 | 118,802 | ||||||||||||
Operating
income (loss)
|
$ | (534,743 | ) | $ | (923,075 | ) | $ | (1,701,843 | ) | $ | (2,079,490 | ) |
Comparison
of the three months ended September 30, 2010 and 2009
Coal Revenues. Our
coal revenues were $784,841 for the three months ended September 30, 2010, as
compared to $348,334 for the three months ended September 30, 2009, an increase
of 125%. Our increase in revenues was due to our increased level of
mining operations in the third quarter of 2010 versus 2009. This
increase resulted from our ability to mine on a more consistent basis as
compared to the prior period. We added and upgraded equipment which
allowed us to be in production more consistently. In addition, as we
advanced further into the mine, the coal seam thickened, which resulted in
improved rates of recovery and a higher percentage of coal per gross ton
extracted. Finally, the completion of the Gwenco bankruptcy allowed
us to access additional working capital that allowed us to obtain necessary
labor and supplies for production.
Production
costs. Production costs were $974,641 for the three months
ended September 30, 2010 as compared to $655,566 for the three months ended
September 30, 2009, an increase of 49%. As a percentage of sales, our
productions cost were approximately 124% for the three months ended September
30, 2010, as compared to 188% for the three months ended September 30,
2009. In order to increase our mining production, we needed to
contract for additional labor, purchase additional supplies, and conduct
additional repairs, all of which led to an increase in production
costs. Furthermore, we incurred increased shipping charges, as the
shipping distance to our new customers was further than our prior
customers. In addition, we incurred increased royalty expense as we
increased mining production and sales. As a percentage of net sales,
our production costs decreased, as our additional cost expenditures resulted in
more efficient and productive mining operations.
Selling, general, and
administrative. Selling, general, and administrative expenses
decreased to $300,633 for the three months ended September 30, 2010, from
$574,981 for the three months ended September 30, 2009, a decrease of
approximately 48%. The increase resulted from decreases in
compensation costs, equipment lease payments, and professional
fees.
Depreciation and
amortization. Depreciation expense increased to $44,310 for
the three months ended September 30, 2010, from $40,862 for the three months
ended September 30, 2009. The increase results from our putting
additional equipment into service in 2009.
Operating loss. We
incurred an operating loss of $344,943 for the three months ended September 30,
2010, compared to an operating loss of $615,843 for the three months ended
September 30, 2009. We had lower operating losses in the three
months ended September 30, 2010 as compared to the comparable period of 2009
primarily from significantly increased coal revenues, narrower gross loss
margins, and reduced selling, general, and administrative expenses.
Gain (loss) on debt
settlements. We recorded no gain or loss on debt settlements
in the three months ended September 30, 2010, as opposed to a loss of $1,200,305
on loan settlements from the prior comparable period. The loss on
debt settlements in the three months ended September 30, 2009 resulted from the
confirmation of Gwenco’s Plan.
7
Interest. Interest
expense increased to $460,933 for the three months ended September 30, 2010 from
$233,189 for the three months ended September 30, 2009. Our interest
expense results from various outstanding debt obligations, including obligations
that we assumed in connection with the acquisition of Gwenco and various notes
issued in various financings since October 2004. In addition, it
includes expense associated with the issuance of securities with beneficial
conversion features. The increase results primarily from interest
computed in accruing present values of the principal amounts and future interest
requirements of our restructured debt obligations pursuant to Gwenco’s plan of
reorganization. It also results from additional borrowings which
occurred in 2009.
Comparison
of the nine months ended September 30, 2010 and 2009
Coal Revenues. Our
coal revenues were $2,243,192 for the nine months ended September 30, 2010, as
compared to $678,648 for the nine months ended September 30, 2009, an increase
of approximately 231%. Our increase in revenues was due to our
increased level of mining operations in the first nine months of 2010 versus
2009. This increase resulted from our ability to mine on a more
consistent basis as compared to the prior period. We added and
upgraded equipment which allowed us to be in production more
consistently. In addition, as we advanced further into the mine, the
coal seam thickened, which resulted in improved rates of recovery and a higher
percentage of coal per gross ton extracted. Finally, the completion
of the Gwenco bankruptcy allowed us to access additional working capital that
allowed us to obtain necessary labor and supplies for production.
Production
costs. Production costs were $2,803,820 for the nine months
ended September 30, 2010 as compared to $1,344,334 for the nine months ended
September 30, 2009, an increase of approximately 109%. As a
percentage of sales, our productions cost decreased to 125% in the nine months
ended September 30, 2010 from 198% for the comparable period in
2009. In order to increase our mining production, we needed to
contract for additional labor, purchase additional supplies, and conduct
additional repairs, all of which led to an increase in production
costs. Furthermore, we incurred increased shipping charges, as the
shipping distance to our new customers was further than our prior
customers. In addition, we incurred increased royalty expense as we
increased mining production and sales. As a percentage of net sales,
our production costs decreased, as our additional cost expenditures resulted in
more efficient and productive mining operations.
Selling, general, and
administrative. Selling, general, and administrative expenses
decreased to $1,008,836 for the nine months ended September 30, 2010, from
$1,295,002 for the nine months ended September 30, 2009.
Depreciation and
amortization. Depreciation expense increased to $132,379 for
the nine months ended September 30, 2010, from $118,802 for the nine months
ended September 30, 2009. The increase results from our putting
additional equipment into service in 2009.
Operating loss. We
incurred an operating loss of $1,701,843 for the nine months ended September 30,
2010, compared to an operating loss of $2,079,490 for the nine months ended
September 30, 2009. We had lower operating losses in the first
nine months of 2010 as compared to the comparable period of 2009 primarily from
significantly increased coal revenues, narrower gross loss margins, and reduced
selling, general, and administrative expenses.
Gain (loss) on debt
settlements. We recorded $16,026 in gain on debt settlements
in the nine months ended September 30, 2010, as opposed to a loss of $1,201,226
on loan settlements from the prior comparable period. The gain on
debt settlement in the first nine months of 2010 resulted from the payment of
accrued royalties and corresponding reduction of a note payable. The
loss on debt settlements in the nine months ended September 30, 2009 resulted
from the confirmation of Gwenco’s Plan.
Interest. Interest
expense increased to $1,458,854 for the nine months ended September 30, 2010
from $526,738 for the nine months ended September 30, 2009. Our
interest expense results from various outstanding debt obligations, including
obligations that we assumed in connection with the acquisition of Gwenco and
various notes issued in various financings since October 2004. In
addition, it includes expense associated with the issuance of securities with
beneficial conversion features. The increase results primarily from
interest computed in accruing present values of the principal amounts and future
interest requirements of our restructured debt obligations pursuant to Gwenco’s
Plan. It also results from additional borrowings which occurred in
2009.
8
Liquidity
and Capital Resources
We have
financed its operations, acquisitions, debt service, and capital requirements
through cash flows generated from operations and through issuance of debt and
equity securities. Our working capital deficit at September 30, 2010
was $6,528,917. We had cash of $34,314 as of September 30,
2010.
We used
$505,159 of net cash in operating activities for the nine months ended September
30, 2010, compared to using $906,421 in the nine months ended September 30,
2009. Cash used in operating activities for the nine months ended
September 30, 2010 was due to our net loss of $3,144,671. This was
offset by non-cash expenses of $132,379 in depreciation and amortization,
$11,768 of stock issued for interest, $247,120 of stock issued for services,
$100,000 of stock option compensation, $16,026 of gain on debt settlement,
$982,065 of amortized discount on convertible notes, $2,647 of amortized royalty
costs, a decrease of $99,282 in receivables, an increase of $2,835 in prepaid
expenses and an increase of accounts payable and accrued expenses of
$1,083,112.
Net cash
flows used in investing activities was $34,657 for the nine months ended
September 30, 2010, as compared to $37,567 of net cash flows used in investing
activities for the comparable period in 2009. The net cash flows used
in investing activities in the nine months ended September 30, 2010 resulted
from $34,657 in security deposits.
Net cash
flows provided by financing activities were $566,876 for the nine months ended
September 30, 2010, compared to net cash flows provided by financing activities
of $930,800 for the nine months ended September 30, 2009. This
decrease in net cash provided by financing activities is due to our borrowings
of $1,698,283 under our Exit Facility in the Gwenco reorganization and other
borrowings, offset by repayment of $1,131,407 under our Exit
Facility.
Exit
Facility
Under
Gwenco’s Plan of Reorganization, the Court approved an exit facility under which
Interstellar Holdings, LLC will provide up to $2 million in financing to
Gwenco. The exit facility consists of a 12% secured convertible line
of credit note due March 2015. The note is convertible into our
common stock at a rate of the lower of (i) $0.001 per share and (ii) 40% of the
average of the three lowest per shares market values of our common stock during
the 10 trading days before a conversion; provided that the holder is prohibited
from converting if such conversion would result in it holding more than 4.99% of
our outstanding common stock. The obligations under the exit facility
are secured and guaranteed by us and our subsidiaries. As of
September 30, 2010, the outstanding balance on the exit facility was
approximately $2.56 million. On June 14, 2010, and again
on November 4, 2010, Interstellar sent notices of an alleged default under the
exit facility. We denied, and continue to deny, that any such default
occurred or is continuing. See Part II, Item 5 of this report for
additional details.
Pursuant
to the exit facility, Interstellar required Gwenco to assign all of its accounts
receivable to Interstellar and have all payments on the receivables paid into an
escrow account. Interstellar had been making advances under the
facility to Gwenco against the accounts receivable, and the advances were being
repaid as payments are made to the escrow account. In connection
therewith, the Company issued a convertible promissory note to a third party
investor for facilitation of the escrow arrangement. The note is due
September 16, 2011 and bears interest at an annual interest rate of eight
percent (8%). The note is convertible into shares of the Company’s
common stock at a conversion price of forty five percent (45%) of the average of
the five (5) lowest per share market value during the ten (10) trading days
immediately preceding a conversion date. In addition, the third-party
investors who facilitated the escrow arrangement received a commission of 2.5%
of each advance made. Gwenco, Interstellar, and the third-party
investors terminated this escrow arrangement in March 2010.
Capital
Requirements
The report of our independent
accountants for the fiscal year ended December 31, 2009 states that we have
incurred operating losses since inception and require additional capital to
continue operations, and that these conditions raise substantial doubt about our
ability to continue as a going concern. We believe that, as of the
date of this report, in order to fund our plan of operations over the next 12
months, we will need to fund our operations and capital requirements out of cash
flows generated from operations and from borrowings and/or the sale of
additional debt, equity, or convertible securities.
9
We intend to continue to conduct mining
operations. After years of either non-existent or sporadic mining
operations, we have turned our operations around to the point where we are
consistently generating meaningful revenue on a monthly basis. We are
seeking to improve our operational performance in order to increase revenues to
a level necessary to generate positive cash flow. We have increased
operation revenue significantly since the confirmation of the Plan, and we
believe we can continue this trend of revenue growth.
Our
ability to obtain our desired revenue growth would be greatly enhanced with
additional working capital and capital expenditures. We obtained exit
facility financing through the Gwenco bankruptcy proceedings to fund the capital
requirements of Gwenco. The majority of the capital provided by our
existing exit facility was used to pay for mine rehabilitation and repay
existing creditors, as opposed to making capital expenditures and providing
necessary parts and supplies. As of the date of this report, we have
exceeded the maximum capacity under the line. We believe that a
larger credit facility would allow us to make the necessary capital expenditures
and provide sufficient working capital in order to accelerate our desired
revenue growth. We are currently seeking to obtain such a
facility. Should we successfully conclude negotiations of such a
facility, we will move the Court for an order approving the facility pursuant to
the negotiated terms of the facility and seek any consents necessary
thereto. It is possible that we will be unable to obtain a larger
credit facility under these circumstances.
In
addition, we may also seek to dispose of some or all of our assets or
operations. We have been approached by several prospective purchasers
interested in purchasing our mine assets. We have engaged in
extensive negotiations to divest our mining assets, and we have been in
discussions with several prospective purchasers who have expressed an interest
in acquiring our mining assets. We would retire all Plan and
post-Plan obligations with the proceeds of any such sale. It is
possible that we will be unable to divest our mine assets under these
circumstances.
Should we
be unsuccessful in either improving our operational performance, obtaining a
larger credit facility, or selling the mine assets on negotiated terms within a
reasonable period of time, we may, either alone or in conjunction with the U.S.
Trustee, move the Court for an order authorizing the marketing, auction, and
sale of the mine assets, free and clear of liens, claims, and encumbrances,
pursuant to approved bidding procedures to be established.
Part of
our growth strategy is to acquire additional coal mining
operations. Where appropriate, we will seek to acquire operations
located in markets where we currently operate to increase utilization at
existing facilities, thereby improving operating efficiencies and more
effectively using capital without a proportionate increase in administrative
costs. We do not currently have binding agreements or understandings to acquire
any other companies.
We intend to retain any future earnings
to pay our debts, finance the expansion of our business and any necessary
capital expenditures, and for general corporate purposes.
ITEM
3 – QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
As a “smaller reporting company” as
defined by Item 10 of Regulation S-K, we are not required to provide the
information required by this item.
ITEM
4 – CONTROLS AND PROCEDURES
We maintain disclosure controls and
procedures that are designed to ensure that information required to be disclosed
in our reports that we file under the Securities Exchange Act of 1934, as
amended, is recorded, processed, summarized, and reported within the time
periods specified in the Securities and Exchange Commission’s rules and forms,
and that such information is accumulated and communicated to our management,
including our Chief Executive Officer and Chief Financial Officer, as
appropriate, to allow timely decisions regarding required disclosure based on
the definition of “disclosure controls and procedures” in Rule
13a-15(e). In designing and evaluating the disclosure controls and
procedures, our management recognized that any controls and procedures, no
matter how well designed and operated, can provide only reasonable assurance of
achieving the desired control objectives, and management necessarily was
required to apply its judgment in evaluating the cost-benefit relationship of
possible controls and procedures.
10
At the
end of the period covered by this Quarterly Report on Form 10-Q, we carried out
an evaluation, under the supervision and with the participation of our
management, including our Chief Executive Officer and Chief Financial Officer,
of the effectiveness of the design and operation of our disclosure controls and
procedures. Based on the foregoing, our Chief Executive Officer and
our Chief Financial Officer concluded that our disclosure controls and
procedures were not effective to ensure that all material information required
to be disclosed in this Quarterly Report on Form 10-Q has been made known to
them in a timely fashion. In addition, our Chief
Executive Officer and Chief Financial Officer have identified significant
deficiencies that existed in the design or operation of our internal control
over financial reporting that they consider to be “material
weaknesses.” The Public Company Accounting Oversight Board has
defined a material weakness as a “significant deficiency or combination of
significant deficiencies that results in more than a remote likelihood that a
material misstatement of the annual or interim financial statements will not be
prevented or detected.” In light of the material weaknesses described
below, we performed additional procedures to ensure that the unaudited condensed
consolidated financial statements are prepared in accordance with generally
accepted accounting principles. Accordingly, management believes that
the financial statements included in this Quarterly Report fairly present in all
material respects our financial condition, results of operations and cash flows
for the periods presented.
We did
not design and maintain effective entity-level controls as defined in the Internal Control—Integrated
Framework published by the Committee of Sponsoring Organizations of the Treadway
Commission (“COSO”). Specifically:
1. We
did not maintain a sufficient complement of personnel with an appropriate level
of technical accounting knowledge, experience, and training in the application
of generally accepted accounting principles commensurate with our financial
accounting and reporting requirements and low materiality thresholds. This
material weakness contributed to the restatement of prior financial statements
in the past and, if not remediated, has the potential to cause a material
misstatement in the future.
2. Due
to the previously reported material weaknesses, as evidenced by previous
restatements, as well as lack of formal documentation of systems and procedures,
and lack of consistent application of record keeping procedures, management has
concluded that the controls over the period-end financial reporting process were
not operating effectively. Specifically, controls were not effective to
ensure that significant non-routine transactions, accounting estimates, and
other adjustments were appropriately reviewed, analyzed, and monitored on a
timely basis. These conditions constitute deficiencies in both the
design and operation of entity-level controls. A material weakness in
the period-end financial reporting process could result in our not being able to
meet our regulatory filing deadlines and, if not remediated, has the
potential to cause a material misstatement or to miss a filing deadline in the
future.
These
significant deficiencies in the design and operation of our internal controls
include the needs to hire additional staffing and to provide training to
existing and new personnel in SEC reporting requirements and generally accepted
accounting principles. Furthermore, the deficiencies include the need
for formal control systems for journal entries, recording of transactions,
closing procedures, the preparation of financial statements, the need to form an
independent audit committee as a form of internal checks and balances and
oversight of our management, to implement budget and reporting procedures, and
the need to provide internal review procedures for schedules, SEC reports, and
filings prior to submission to the auditors and/or filing with the
SEC.
These
deficiencies have been disclosed to our Board of
Directors. Additional effort is needed to fully remedy these
deficiencies and we are seeking to improve and strengthen our control processes
and procedures. We are in the process of improving our internal
control over financial reporting in an effort to remediate these
deficiencies. We have appointed an independent director as a form of
internal checks and balances and to provide oversight over
management. In addition, we are also seeking to improve our internal
control over financial reporting by adding additional accounting personnel,
improving supervision and increasing training of our accounting staff with
respect to generally accepted accounting principles, providing additional
training to our management regarding use of estimates in accordance with
generally accepted accounting principles, increasing the use of contract
accounting assistance, and increasing the frequency of internal financial
statement review. We will continue to take additional steps necessary
to remediate the material weaknesses described above.
Our Chief
Executive Officer and Chief Financial Officer have also evaluated whether any
change in our internal controls occurred during the last fiscal quarter and have
concluded that there were no changes in our internal controls or in other
factors that occurred during the last fiscal quarter that has materially
affected, or is reasonably likely to materially affect, these
controls.
11
PART
II: OTHER INFORMATION
ITEM
1 – LEGAL PROCEEDINGS
Material developments in legal
proceedings affecting us are described in Part I, Item 3 – Legal Proceedings, of
our Annual Report on Form 10-K for the year ended December 31, 2009, as they
relate to the fiscal quarter ended September 30, 2010, are set forth in Note 7,
“Commitments and Contingencies,” of the Notes to unaudited condensed
consolidated financial statements in this Quarterly Report on Form 10-Q and are
incorporated herein by reference.
ITEM
1A – RISK FACTORS
As a
“small reporting company” as defined by Item 10 of Regulation S-K, we are not
required to provide information required by this item.
ITEM
2 – CHANGES IN SECURITIES
(a)
(1) During
the quarter ended September 30, 2010, we issued an aggregate of 305,976,692
shares of common stock upon conversions of various convertible notes. The
aggregate principal and interest amount of these notes that were converted was
$48,482.99. The issuances were exempt pursuant to Section 3(a)(9) of
the Securities Act as well as Section 4(2) of the Securities
Act.
(2) During
the quarter ended September 30, 2010, we issued an aggregate of 35,922,766
shares of common stock pursuant to Gwenco’s Plan of Reorganization in partial
satisfaction of certain claims against Gwenco in the Gwenco Bankruptcy
proceedings. The aggregate amount of claims satisfied pursuant to
these issuances was $30,000. The issuances were exempt pursuant to
Section 1145 of the Bankruptcy Code.
(3) During
the quarter ended September 30, 2010, we borrowed an aggregate of $145,500 from
an investor, and in connection therewith, issued a series of 8% convertible
promissory notes due 2011 in the aggregate principal amount of $145,500.
The notes are convertible into shares of our common stock at a conversion price
of forty five percent (40%) of the average of the three (3) lowest per share
market values during the ten (10) trading days immediately preceding a
conversion date. The issuances were exempt pursuant to Section 4(2) of the
Securities Act.
(b) None.
(c) None.
ITEM
3 – DEFAULT UPON SENIOR SECURITIES
(a) None.
(b) None.
ITEM
4 – (REMOVED AND RESERVED)
None.
ITEM
5 – OTHER INFORMATION
On June 14, 2010, Interstellar
Holdings, LLC, our secured lender under the exit facility, delivered a notice of
default relating to that certain Loan and Security Agreement dated March 8, 2010
by and among Gwenco, Inc., Interstellar Holdings, Inc., Kentucky Energy, Inc.
and Quest Minerals & Mining Ltd. Under the notice, Interstellar
alleged an Event of Default under the Loan Agreement occurred and was continuing
pursuant to Section 8.21 thereunder as Interstellar allegedly deemed itself
“insecure” under the Loan Agreement. We denied Interstellar’s
allegation of an Event of Default under the Loan Agreement and contend that no
such Event of Default under the Loan Agreement has occurred or is
continuing. On June 17, 2010, Gwenco and Interstellar entered
into an agreement pursuant to which, among other things, Interstellar agreed to
forbear under the Loan Agreement for a period of 90 days. We continue
to contend that no default under the exit facility has
occurred.
12
On November 4, 2010, Interstellar
delivered another notice of default relating to the Loan and Security Agreement,
realleging that an Event of Default under Loan Agreement occurred and was
continuing. We deny the allegations under all notices of an Event of
Default under the Loan Agreement and contend that no such Event of Default under
the Loan Agreement has occurred or is continuing. We continue
to contend that no default under the exit facility has occurred.
ITEM
6 - EXHIBITS
Item
No.
|
Description
|
Method of Filing
|
||
4.1
|
Form
of 8% Convertible Note
|
Filed
herewith.
|
||
31.1
|
Certification
of Eugene Chiaramonte, Jr. pursuant to Rule 13a-14(a)
|
Filed
herewith.
|
||
32.1
|
Chief
Executive Officer and Chief Financial Officer Certification pursuant to 18
U.S.C. § 1350 adopted pursuant to Section 906 of the Sarbanes Oxley Act of
2002
|
Filed
herewith.
|
SIGNATURES
Pursuant to the requirements of the
Securities Exchange Act of 1934, the registrant has duly caused this report to
be signed on its behalf by the undersigned thereunto duly
authorized.
KENTUCKY
ENERGY, INC.
|
|
November
22, 2010
|
/s/ Eugene Chiaramonte,
Jr.
|
Eugene
Chiaramonte, Jr.
|
|
President
|
|
(Principal
Executive Officer and Principal
Accounting
Officer)
|
13