ROYALE ENERGY FUNDS, INC - FORM 10-Q

Attached files

file	filename
EXCEL - IDEA: XBRL DOCUMENT - ROYALE ENERGY FUNDS, INC	Financial_Report.xls
EX-31.2 - ROYALE ENERGY FUNDS, INC	ex31-2.htm
EX-32.1 - ROYALE ENERGY FUNDS, INC	ex32-1.htm
EX-32.2 - ROYALE ENERGY FUNDS, INC	ex32-2.htm
EX-31.1 - ROYALE ENERGY FUNDS, INC	ex31-1.htm

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D)

OF THE SECURITIES EXCHANGE ACT OF 1934

For the Quarterly Period Ended September 30, 2011

Commission File No. 000-22750

ROYALE ENERGY, INC.

(Exact name of registrant as specified in its charter)

California	33-0224120
(State or other jurisdiction of incorporation or organization)	(I.R.S. Employer Identification No.)

7676 Hazard Center Drive, Suite 1500

San Diego, CA 92108

(Address of principal executive offices) (Zip Code)

619-881-2800

(Registrant's telephone number, including area code)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act during the past 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 x No o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer (as defined in Rule 12b-2 of the Exchange Act). Check one:

Large accelerated filer o	Accelerated filer o
Non-accelerated filer o	Smaller reporting company x

Indicate by check mark whether the registrant is a blank check company (as defined in Rule 12b-2 of the Exchange Act). Yes o No x

At September 30, 2011, a total of 10,762,099 shares of registrant’s common stock were outstanding.

Table of Contents

TABLE OF CONTENTS

PART I	FINANCIAL INFORMATION	1
Item 1.	Financial Statements	1
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	11
Item 3.	Quantitative and Qualitative Disclosures About Market Risk	13
Item 4.	Controls and Procedures	13

PART II	OTHER INFORMATION	14
Item 1.	Legal Proceedings	14
Item 1A.	Risk Factors	14
Item 6.	Exhibits	14
	Signatures	15

Table of Contents

PART I. FINANCIAL INFORMATION

Item 1. Financial Statements

ROYALE ENERGY, INC.

BALANCE SHEETS

	September 30, 2011		December 31, 2010
	(Unaudited)		(Audited)

ASSETS

Current Assets
Cash and Cash Equivalents	$	5,094,240	$	4,630,722
Accounts Receivable, net		1,737,258		2,451,047
Prepaid Expenses		892,834		586,486
Deferred Tax Asset		571,685		541,442
Available for Sale Securities		26,752		0
Inventory		922,501		850,385

Total Current Assets		9,245,270		9,060,082


Other Assets		6,946		6,946
Deferred Tax Asset-Noncurrent		4,495,145		4,495,145

Oil and Gas Properties, at cost, (successful efforts basis), Equipment and Fixtures		11,486,003		10,258,240


Total Assets	$	25,233,364	$	23,820,413

See notes to unaudited financial statements

Table of Contents

ROYALE ENERGY, INC.

BALANCE SHEETS

	September 30, 2011			December 31, 2010
	(Unaudited)			(Audited)
LIABILITIES AND STOCKHOLDERS' EQUITY

Current Liabilities:
Accounts Payable and Accrued Expenses	$	4,608,599		$	5,235,166
Deferred Revenue from Turnkey Drilling		5,196,021			3,866,319

Total Current Liabilities		9,804,620			9,101,485

Noncurrent Liabilities:
Asset Retirement Obligation		565,145			580,568
Long-Term Debt, Net of Current Portion		2,850,000			3,200,000

Total Noncurrent Liabilities		3,415,145			3,780,568

Total Liabilities		13,219,765			12,882,053

Stockholders' Equity:
Common Stock, no par value, authorized 20,000,000 shares, 10,794,718 and 10,307,350 shares issued; 10,762,099 and 10,274,731 shares outstanding, respectively		28,298,229			27,246,740
Convertible preferred stock, Series AA, no par value, 147,500 shares authorized; 52,784 and 52,784 shares issued and outstanding, respectively		154,014			154,014
Accumulated Deficit		(16,881,457	)		(16,807,424	)

Total Paid in Capital and Accumulated Deficit		11,570,786			10,593,330
Less Cost of Treasury Stock 32,619 and 32,619 shares		(179,376	)		(179,376	)
Additional Paid in Capital		622,189			524,406

Total Stockholders' Equity		12,013,599			10,938,360

Total Liabilities and Stockholders' Equity	$	25,233,364		$	23,820,413

See notes to unaudited financial statements

Table of Contents

ROYALE ENERGY, INC.

STATEMENTS OF OPERATIONS

	Three Months Ended September 30,						Nine Months Ended September 30,
	2011			2010			2011			2010
	(Unaudited)			(Unaudited)			(Unaudited)			(Unaudited)

Revenues:
Sale of Oil and Gas	$	957,318		$	618,282		$	4,259,392		$	2,043,693
Turnkey drilling		1,341,146			1,646,971			3,848,337			5,625,535
Supervisory Fees and Other		175,764			170,603			678,300			530,794

Total Revenues		2,474,228			2,435,856			8,786,029			8,200,022

Costs and Expenses:
General and Administrative		911,245			917,033			2,952,635			2,866,841
Turnkey Drilling and Development		680,134			760,816			2,106,111			1,864,420
Lease Operating		379,072			279,098			1,179,123			874,107
Lease Impairment		11,452			87,835			11,452			201,883
Geological and Geophysical Expense		21,915			0			88,883			0
Bad Debt Expense		17,879			0			17,879			0
Legal and Accounting		121,789			275,718			619,768			530,278
Marketing		203,850			154,279			629,342			457,680
Depreciation, Depletion and Amortization		719,533			252,685			1,966,094			731,307

Total Costs and Expenses		3,066,869			2,727,464			9,571,287			7,526,516

Gain (Loss) on Sale of Assets		135			(3,310)			793,291			(3,310)

Income (Loss) From Operations		(592,506)			(294,918)			8,033			670,196
Other Income (Expense):
Interest Expense		(38,426	)		(8,691	)		(113,876	)		(19,235	)
Gain on Marketable Securities		0			743,296			0			907,679

Income (Loss) Before Income Tax Expense		(630,932)			439,687			(105,843)			1,558,640
Income tax provision (benefit)		(220,699)			163,487			(31,810)			579,561

Net Income (Loss)	$	(410,233)		$	276,200		$	(74,033)		$	979,079


Basic Earnings (Loss) Per Share	$	(0.04)		$	0.03		$	(0.01)		$	0.10


Diluted Earnings (Loss) Per Share	$	(0.04)		$	0.02		$	(0.01)		$	0.09


Other Comprehensive Income
Unrealized Loss on Equity Securities	$	0		$	(1,452,967	)	$	0		$	(1,907,999	)
Less: Reclassification Adjustment for Gains Included in Net Income		0			(743,296	)		0			(907,679	)

Other Comprehensive Loss, before tax		0			(709,671	)		0			(1,000,320	)
Income Tax Benefit Related to Items of Other Comprehensive Income		0			(263,998	)		0			(323,757	)

Other Comprehensive Loss, net of tax		0			(445,673	)		0			(676,563	)


Comprehensive Income (Loss)	$	(410,233)		$	(169,473)		$	(74,033)		$	302,516

See notes to unaudited financial statements

Table of Contents

ROYALE ENERGY, INC.

STATEMENTS OF CASH FLOWS

FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2011 AND 2010

	2011			2010
	(Unaudited)			(Unaudited)
CASH FLOWS FROM OPERATING ACTIVITIES
Net Income (Loss)	$	(74,033)		$	979,079

Adjustments to Reconcile Net Income (Loss) to Net Cash Provided (Used) by Operating Activities:
Depreciation, Depletion and Amortization		1,966,094			731,307
Lease Impairment		11,452			201,883
Bad Debt Expense		17,879			0
(Gain) Loss on Sale of Assets		(793,156	)		3,310
Realized (Gain) Loss on Equity Securities		0			(907,679	)
Stock-Based Compensation, net of adjustments		97,783			134,670
Decrease (Increase) in:
Accounts Receivable		695,910			863,440
Prepaid Expenses and Other Assets		(378,464)			483,329
Increase (Decrease) in:
Accounts Payable and Accrued expenses		(668,742	)		(1,322,392	)
Deferred Revenues - DWI		1,329,702			(2,455,914	)
Deferred Income Tax expense (benefit)		(30,243)			579,561

Net Cash Provided (Used) by Operating Activities		2,174,182			(709,406)

CASH FLOWS FROM INVESTING ACTIVITIES
Expenditures for Oil and Gas Properties and Other Capital Expenditures		(3,218,506	)		(1,442,926	)
Purchase of Equity Securities		0			(177,624	)
Sale of Equity Securities		0			1,085,303
Proceeds from Sale of Assets		806,353			14,719

Net Cash Used by Investing Activities		(2,412,153	)		(520,528	)

CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from Long-Term Debt		700,000			6,820,000
Principal Payments on Long-Term Debt		(1,050,000	)		(6,801,250	)
Proceeds from Stock Option and Warrant Exercises		1,051,489			0

Net Cash Provided by Financing Activities		701,489			18,750

Net Increase (Decrease) in Cash and Cash Equivalents		463,518			(1,211,184	)

Cash at Beginning of Year		4,630,722			3,835,282

Cash at End of Period	$	5,094,240		$	2,624,098

SUPPLEMENTAL DISCLOSURES OF CASH FLOWS INFORMATION:
Cash Paid for Interest	$	114,451		$	11,404

Cash Paid for Taxes	$	2,522		$	101,857

See notes to unaudited financial statements

Table of Contents

ROYALE ENERGY, INC.

NOTES TO UNAUDITED FINANCIAL STATEMENTS

NOTE 1 – In the opinion of management, the accompanying unaudited financial statements include all adjustments, consisting only of normally recurring adjustments, necessary to present fairly the Company’s financial position and the results of its operations and cash flows for the periods presented. The results of operations for the nine month period are not, in management’s opinion, indicative of the results to be expected for a full year of operations. It is suggested that these financial statements be read in conjunction with the financial statements and the notes thereto included in the Company’s latest annual report.

NOTE 2 – EARNINGS PER SHARE

Basic and diluted earnings (loss) per share are calculated as follows:

	For the Nine Months ended September 30, 2011
	Loss (Numerator)			Shares (Denominator)		Per-Share Amount
Basic Earnings Per Share:
Net loss available to common stock	$	(74,033	)		10,616,763	$	(0.01	)

Diluted Earnings Per Share:
Effect of dilutive securities and stock options		0			0		0.00

Net loss available to common stock	$	(74,033	)		10,616,763	$	(0.01	)

	For the Nine Months ended September 30, 2010
	Income (Numerator)			Shares (Denominator)		Per-Share Amount
Basic Earnings Per Share:
Net income available to common stock	$	979,079			10,242,216	$	0.10

Diluted Earnings Per Share:
Effect of dilutive securities and stock options		0			918,302		(0.01	)

Net income available to common stock	$	979,079			11,160,518	$	0.09

For the nine months ended September 30, 2011, Royale Energy had dilutive securities of 467,524. These securities were not included in the dilutive loss per share due to their antidilutive nature.

Table of Contents

ROYALE ENERGY, INC.

NOTES TO UNAUDITED FINANCIAL STATEMENTS

NOTE 3 – OIL AND GAS PROPERTIES, EQUIPMENT AND FIXTURES

Oil and gas properties, equipment and fixtures consist of the following:

	September 30, 2011			December 31, 2010
Oil and Gas
Producing properties, including drilling costs	$	27,292,369		$	25,637,549
Undeveloped properties		610,245			512,573
Lease and well equipment		10,065,895			9,750,303
		37,968,509			35,900,425
Accumulated depletion, depreciation & amortization		(27,158,903	)		(26,333,243	)
		10,809,606			9,567,182
Commercial and Other
Real estate, including furniture and fixtures	$	502,344		$	502,344
Vehicles		151,669			158,250
Furniture and equipment		1,303,992			1,285,744
		1,958,005			1,946,338
Accumulated depreciation		(1,281,608	)		(1,255,280	)
		676,397			691,058

	$	11,486,003		$	10,258,240

The guidance set forth in the Continued Capitalization of Exploratory Well Costs paragraph of the Extractive Activities Topic of the FASB Accounting Standards Codification (ASC) requires that we evaluate all existing capitalized exploratory well costs and disclose the extent to which any such capitalized costs have become impaired and are expensed or reclassified during a fiscal period. We did not make any additions to capitalized exploratory well costs pending a determination of proved reserves during 2011 or 2010.

	Nine Months ended September 30,
	2011			2010
Beginning balance at January 1	$	0		$	0
Additions to capitalized exploratory well costs pending the determination of proved reserves		0			908,994
Reclassifications to wells, facilities, and equipment based on the determination of proved reserves		(0	)		(908,994	)
Ending balance at September 30	$	0		$	0

Table of Contents

ROYALE ENERGY, INC.

NOTES TO UNAUDITED FINANCIAL STATEMENTS

NOTE 4 – STOCK BASED COMPENSATION

Royale Energy has a stock-based employee compensation plan. Effective January 1, 2006, the Company adopted the Compensation – Stock Compensation Topic of the FASB ASC, which addresses the accounting for stock-based payment transactions in which an enterprise receives employee services in exchange for (a) equity instruments of the enterprise or (b) liabilities that are based on the fair value of the enterprise’s equity instruments or that may be settled by the issuance of such equity instruments. The Company uses the Black-Scholes option-pricing model to determine the fair-value of stock-based awards, consistent with that used for pro forma disclosures under the Topic.

During the March 2008 Board of Directors meeting, directors and executive officers of Royale Energy were each granted 45,000 options, a total of 360,000 options, to purchase common stock at an exercise or base price of $3.50 per share. These options are to be vested in three parts with 120,000 vesting on March 31, 2008, 2009, and 2010, respectively. The options were granted for a legal life of four years with a service period of three years. Royale Energy recorded compensation expense of $56,061 in the first nine months of 2010 relating to these options. The total income tax benefits recognized in the income statement for these option arrangements were $20,855 in 2010. No compensation cost or tax benefit was recognized in 2011 relating to this option grant.

In November 2008, the Board of Directors granted the directors and executive officers of Royale Energy 95,000 shares of restricted common stock. The number of granted shares will double to 190,000 shares of common stock if Royale’s stock price reaches $15 a share during the period. On November 30, 2009 and November 30, 2010, 31,665 shares vested, and the remaining 31,670 or 63,340, depending on Royale’s stock price, will vest on November 30, 2011. Royale has recognized share-based compensation expense of $67,583 and $23,696 as a tax benefit in the first three quarters of 2011 relating to this grant. During the same time period in 2010, Royale recognized $78,609 as compensation expense resulting in a $29,242 tax benefit relating to this stock grant.

During the Board of Directors meeting held in December 2010, directors and executive officers of Royale Energy were each granted 50,000 stock options, a total of 400,000 options, to purchase common stock at an exercise or base price of $3.25 per share. These options are to vest in two parts; the first 200,000 options vested on January 1, 2011; the remaining 200,000 options will vest on January 1, 2012. The options were granted with a legal life of five years, and a service period of two years beginning January 1, 2011. During the first nine months of 2011, Royale recognized compensation costs of $30,200 and a tax benefit of $10,589 relating to this option grant.

Table of Contents

ROYALE ENERGY, INC.

NOTES TO UNAUDITED FINANCIAL STATEMENTS

NOTE 5 – FINANCIAL INFORMATION RELATING TO INDUSTRY SEGMENTS

Royale Energy identifies reportable segments by product and country, although Royale Energy currently does not have foreign country segments. Royale Energy includes revenues from both external customers and revenues from transactions with other operating segments in its measure of segment profit or loss. Royale Energy also includes interest revenue and expense, DD&A, and other operating expenses in its measure of segment profit or loss.

Royale Energy's operations are classified into two principal industry segments. Following is a summary of segmented information for the nine months ended September 30, 2011, and 2010:

	Oil and Gas
	Producing		Turnkey
	and		Drilling
	Exploration		Services			Total

Nine Months Ended September 30, 2011:
Revenues from External Customers	$	4,259,392	$	3,848,337		$	8,107,729

Supervisory Fees		657,365		0			657,365

Interest Revenue		0		20,935			20,935

Interest Expense		56,938		56,938			113,876

Operating Expenses for Segment Assets		3,375,724		4,218,017			7,593,741

Depreciation, Depletion and Amortization		1,867,789		98,305			1,966,094
Lease Impairment		5,726		5,726			11,452

Gain on Sale of Assets		793,291		0			793,291

Income Tax Expense (Benefit)		121,379		(153,189	)		(31,810)

Total Assets	$	23,971,696	$	1,261,668		$	25,233,364

Net Income (Loss)	$	282,492	$	(356,525	)	$	(74,033)

Table of Contents

ROYALE ENERGY, INC.

NOTES TO UNAUDITED FINANCIAL STATEMENTS

	Oil and Gas
	Producing			Turnkey
	and			Drilling
	Exploration			Services		Total

Nine Months Ended September 30, 2010:
Revenues from External Customers	$	2,043,693		$	5,625,535	$	7,669,228

Supervisory Fees		522,860			0		522,860

Interest Revenue		0			7,934		7,934

Interest Expense		9,618			9,617		19,235

Expenditures for Segment Assets		2,878,407			3,714,919		6,593,326

Depreciation, Depletion and Amortization		694,742			36,565		731,307

Lease Impairment		100,942			100,941		201,883

Loss on Sale of Assets		(3,310)			0		(3,310)

Gain on Marketable Securities		0			907,679		907,679

Income Tax Expense (Benefit)		(416,631	)		996,192		579,561

Total Assets	$	18,922,419		$	995,917	$	19,918,336

Net Income (Loss)	$	(703,835	)	$	1,682,914	$	979,079

Table of Contents

ROYALE ENERGY, INC.

NOTES TO UNAUDITED FINANCIAL STATEMENTS

NOTE 6 – FAIR VALUE MEASUREMENTS

According to Fair Value Measurements and Disclosures Topic of the FASB Accounting Standards Codification, assets and liabilities that are measured at fair value on a recurring and nonrecurring basis in periods subsequent to initial recognition, the reporting entity shall disclose information that enable users of its financial statements to assess the inputs used to develop those measurements and for recurring fair value measurements using significant unobservable inputs, the effect of the measurements on earnings for the period.

In January 2000, Royale Energy received 96,000 shares (as adjusted for a later stock split) in a new start-up company (the “Settlement Stock”) as part of a settlement in an action filed against a former consultant. At the time of the settlement, the value of the Settlement Stock was undeterminable because there was no market for the start-up’s stock. In September 2009, issuer of the Settlement Stock conducted an initial public offering of stock, and a market for its shares was established. By September 30, 2010, the Company had sold all remaining shares of the Settlement Stock. For the nine months ended September 30, 2010, the Company recognized a realized gain of $907,679 and a related income tax expense of $364,217 from the liquidation of the settlement stock, For the same period, an unrealized holding loss of $676,563 was recorded in the other comprehensive income (loss) section of the Statement of Operations, The unrealized holding gain included the income tax effect of $323,757. During the third quarter of 2011, Royale Energy received 1,900 shares related to a settlement received approximately five years ago of natural gas revenues owed the Company. At September 30, 2011, these shares had a market value of $26,752.

Table of Contents

Item 2. Management's Discussion And Analysis Of Financial Condition And Results Of Operations

Forward Looking Statements

In addition to historical information contained herein, this discussion contains "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995, subject to various risks and uncertainties that could cause our actual results to differ materially from those in the "forward-looking" statements. While we believe our forward looking statements are based upon reasonable assumptions, there are factors that are difficult to predict and that are influenced by economic and other conditions beyond our control. Investors are directed to consider such risks and other uncertainties discussed in documents filed by the Company with the Securities and Exchange Commission.

Results of Operations

For the nine months ended September 30, 2011, we had a net loss of $74,033, a $1,053,112 decrease compared to the net income of $979,079 during the first nine months of 2010. This loss can be mainly attributed to higher depreciation and depletion costs due to our higher natural gas production rates during the period in 2011. Total revenues for the first nine months of 2011 were $8,786,029, an increase of $586,007 or 7.1% from the total revenues of $8,200,022 received during the period in 2010. This increase in revenues was also due to increased natural gas production, due to wells brought online earlier in 2011. For the quarter ended September 30, 2011, our net loss was $410,233, a $686,433 decrease compared to the net income of $276,200 achieved during the same period in 2010, mainly the result of higher depreciation and depletion costs during the quarter in 2011.

In the first nine months of 2011, revenues from oil and gas production increased $2,215,699 or 108.4% to $4,259,392 from 2010 revenues of $2,043,693. This increase was due to higher natural gas production as three wells, two of which were drilled during the fourth quarter of 2010, were brought online during the period in 2011. The net sales volume of natural gas for the nine months ended September 30, 2011, was approximately 977,190 Mcf with an average price of $4.19 per Mcf, versus 378,172 Mcf with an average price of $4.47 per Mcf for the first nine months of 2010. This represents an increase in net sales volume of 599,018 Mcf or 158.4%. For the quarter ended September 30, 2011, revenues from oil and gas increased to $957,318 from $618,282 received during the same period in 2010. During the third quarter in 2011, we produced 217,795 Mcf with an average price of $4.17 per Mcf versus 129,020 Mcf produced during the same quarter in 2010 with an average price of $3.92 per Mcf, which represents a 88,775 Mcf or 68.8% increase in net sales volume. For the first nine months of 2011, revenues from oil and condensate (natural gas liquids) decreased $195,034 or 55.1% to $159,223 from 2010 nine month revenues of $354,257. The net sales volume for the nine month period in 2011 was 1,789 barrels with an average price of $89.00 per barrel, compared to 5,042 barrels with an average price of $70.26 per barrel for the period in 2010. This represents a decrease in net sales volume of 3,253 barrels, or 64.5%. For the third quarter of 2011, oil and condensate production decreased 1,066 barrels, or 65.7%, from 1,623 barrels produced in 2010 to 557 barrels produced in the same period in 2011. This decrease was mainly due to the sale of several oil producing wells in February 2011 and the natural declines in production from existing oil and condensate wells.

Oil and natural gas lease operating expenses increased by $305,016 or 34.9%, to $1,179,123 for the nine months ended September 30, 2011, from $874,107 for the same period in 2010. This increase was mainly due to higher plugging and abandoning costs and higher transportation costs stemming from an increased production during the period in 2011. For the third quarter of 2011, lease operating expenses increased $99,974 or 35.8% over the same period in 2010, due to higher transportation and compression costs.

For the nine months ended September 30, 2011, turnkey drilling revenues were $3,848,337, a $1,777,198 or 31.6% decrease compared to revenues of $5,625,535 for the same period in 2010. We also had a $241,691 or 13.0% increase in turnkey drilling and development costs to $2,106,111 in 2011 from $1,864,420 in 2010. During the first nine months in 2011 and 2010 we drilled five wells and seven wells, respectively, leading to the decrease in turnkey revenues in 2011. The five wells drilled during the period in 2011 were deeper and more expensive than those drilled during the same period in 2010, which led to the increased turnkey drilling and development costs. For the three months ended September 30, we drilled two wells, one of which was drilled with an industry partner, in 2011 and two wells in 2010. In the third quarter of 2011, turnkey drilling revenues decreased $305,825 or 18.6% from $1,646,971 during the period in 2010 to $1,341,146 in 2011. Also during the third quarter in 2011, our turnkey drilling costs decreased by $80,682 to $680,134 in 2011 from $760,816 during the period in 2010. Turnkey drilling revenues and turnkey drilling and development costs were lower due to our decreased interest in the one well drilled with an industry partner. We anticipate drilling activity to continue in the next quarter as we have processed permits for several new wells, and expect to drill approximately three California wells during the fourth quarter of 2011.

We periodically review our proved properties for impairment on a field-by-field basis and charge impairments of value to the expense. Impairment losses of $11,452 and $201,883 were recorded in the first nine months of 2011and 2010, respectively. These impairments were mainly due to various lease and land costs that were no longer viable. Additionally during the period in 2011, we recorded $88,883 in geological and geophysical costs in order to increase our oil and natural gas prospect base.

Table of Contents

The aggregate of supervisory fees and other income was $678,300 for the nine months ended September 30, 2011, an increase of $147,506 (27.8%) from $530,794 during the same period in 2010. Third quarter 2011 supervisory fees and other income increased $5,161, or 3%, to $175,764 from $170,603 in 2010. These increases were the result of higher pipeline and compressor revenues generated from the increase in natural gas production.

We periodically review our accounts receivable from working interest owners to determine whether collection of any of these charges where doubtful. The Company does not attempt collection from its Direct Working Interest owners for certain wells that ceased production or had been sold during the year, to the extent that these charges exceed production revenue. As a result of that review, during the third quarter of 2011 we recorded $17,879 in bad debt expense from these receivables.

Depreciation, depletion and amortization expense increased to $1,966,094 from $731,307, an increase of $1,234,787 (168.8%) for the nine months ended September 30, 2011, as compared to the same period in 2010. This increase in depletion expense was mainly due to the higher natural gas production during the period in 2011 resulting in an increased depletion rate of our oil and natural gas properties.

General and administrative expenses increased by $85,794, or 3.0%, from $2,866,841 for the nine months ended September 30, 2010, to $2,952,635 for the period in 2011. This increase was primarily due to increased employee related costs. Third quarter 2011 general and administrative expense decreased $5,788, or 0.6% from $917,033 in 2010 compared to $911,245 in 2011.

Marketing expense for the nine months ended September 30, 2011, increased $171,662, or 37.5%, to $629,342 compared to $457,680 for the same period in 2010. For the third quarter 2011, marketing expenses increased $49,571, or 32.1%, to $203,850 from $154,279 for the same period in 2010. Marketing expense varies from period to period according to the number of marketing events attended by personnel and their associated costs.

Legal and accounting expense increased to $619,768 for the first nine months of 2011, compared to $530,278 for same period in 2010, an $89,490 or 16.9% increase. This increase was the result of higher legal fees in 2011 primarily related to the conclusion of the Mountain West litigation. For the third quarter 2011, legal and accounting expenses decreased by $153,929, or 55.8% from the same period last year.

During the first nine months of 2011, we sold our working interest in two separate non-core properties and other equipment resulting in a gain of $793,291. The properties were located in Kern County, California and Gaines County, Texas.

Interest expense increased to $113,876 for the nine months ended September 30, 2011, from $19,235 for the same period in 2010, a $96,641, or 492.0% increase. This was due to an increase in the usage of our bank line of credit. For the nine months ended September 30, 2011 we had an income tax benefit of $31,810 due to our current period net operating loss. During the nine month period in 2010 we had income tax expense of $579,561 due to a net operating profit.

During the second quarter of 2010, we received title to securities stemming from a litigation settlement received approximately 10 years ago; the securities, at that time, had an undeterminable value. In June 2010, Royale began to liquidate its position and, by the end of July 2010, Royale had fully liquidated its position. For the first nine months of 2010, the Company had recognized a net unrealized holding loss of $676,563, net of income taxes in the other comprehensive income section of the Statement of Operations, and a realized gain of $907,679 from the partial liquidation of these securities in the other income section of the Statement of Operations.

Capital Resources and Liquidity

At September 30, 2011, Royale Energy had current assets totaling $9,245,270 and current liabilities totaling $9,804,620, a $559,350 working capital deficit. We had cash and cash equivalents at September 30, 2011, of $5,094,240 compared to $4,630,722 at December 31, 2010.

In February 2009, we entered into a revolving credit agreement with Texas Capital Bank, N.A. secured by our oil and gas properties, of up to $14,250,000. We also entered into a separate letter of credit facility with Texas Capital Bank of up to $750,000, for the purposes of refinancing Royale’s existing debt and to fund development, exploration and acquisition activities as well as other general corporate purposes. Under the terms of the agreement, Royale Energy may borrow, repay, and reborrow funds as necessary. At September 30, 2011, we had a current borrowing base of $2,950,000 and outstanding indebtedness on this loan of $2,850,000, with $100,000 in available credit.

At September 30, 2011, we were in compliance with all financial covenants of our loan agreement with the bank, and we are not in default on any principal, interest or sinking fund payment.

Table of Contents

At September 30, 2011, our accounts receivable totaled $1,737,258, compared to $2,451,047 at December 31, 2010, a $713,789 (29.1%) decrease. The decrease in our accounts receivable during the first nine months of 2011 was due to lower oil and gas receivables due to a decline in natural gas production at the end of the period when compared to the year end at December 31, 2010. At September 30, 2011, our accounts payable and accrued expenses totaled $4,608,599, a decrease of $626,567 or 12.0% from the accounts payable at December 31, 2010, of $5,235,166, mainly due to paying down our accounts payable.

Ordinarily, we fund our operations and cash needs from our available credit and cash flows generated from operations. We believe that we have sufficient liquidity for the remainder of 2011 and do not foresee any liquidity demands that cannot be met from cash flow or financing activities.

Operating Activities. For the nine months ended September 30, 2011, cash provided by operating activities increased to $2,174,182 from cash used by operating activities of $709,406 for the same time period in 2010, a difference of $2,883,588. This difference was mainly due to the increase in cash generated from our higher natural gas sales during the period in 2011.

Investing Activities. Net cash used by investing activities, primarily in capital acquisitions of oil and gas properties, amounted to $2,412,153, and $520,528 for the nine month periods ended September 30, 2011 and 2010, respectively. This rise in capital acquisition costs was the result of drilling fewer but deeper and more expensive wells during the period in 2011. In the first nine months of 2011, Royale also received proceeds of $806,353 relating to the sale of certain oil and natural gas properties in Kern County, California and Gaines County, Texas. As part of the sale, Royale retained an overriding royalty interest in the acreage. During the period in 2010, we also received a net of $907,679 from the sale of the settlement stock mentioned previously.

Financing Activities. For the nine months ended September 30, 2011, cash provided by financing activities amount to $701,489 compared to cash provided by financing activities of $18,750 for the same period in 2010. During the first nine months of 2011, several warrants were exercised in exchange for shares of Royale’s common stock. Royale received $1,051,489 and issued 468,928 shares of its common stock relating to these exercises. Additionally during the period in 2011, we issued 18,440 shares of common stock to a member of the board of director’s in a cashless stock options exercise.

Item 3. Quantitative and Qualitative Disclosures About Market Risk

Our major market risk exposure relates to pricing of oil and gas production. The prices we receive for oil and gas are closely related to worldwide market prices for crude oil and local spot prices paid for natural gas production. Prices have been volatile for the last several years, and we expect that volatility to continue. Monthly average natural gas prices ranged from a low of $4.14 per Mcf to a high of $4.59 per Mcf for the first nine months of 2011. We have not entered into any hedging or derivative agreements to limit our exposure to changes in oil and gas prices or interest rates.

Item 4. Controls and Procedures

As of September 30, 2011, an evaluation was performed under the supervision and with the participation of our management, including our CEO and CFO, of the effectiveness of the design and operation of our disclosure controls and procedures. These controls and procedures are based on the definition of disclosure controls and procedures in Rule 13a-15(e) and Rule 15d-15(e) promulgated under the Securities Exchange Act of 1934. Based on that evaluation, our management, including the CEO and CFO, concluded that our disclosure controls and procedures were effective as of September 30, 2011.

No changes occurred in our internal control over financial reporting during the nine months ended September 30, 2011, that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

Table of Contents

PART II. OTHER INFORMATION

Item 1. Legal Proceedings

National Fuel Corporation (“NFC”) v. Royale Energy , Inc. , No. 080800735, Uintah County, Utah. NFC filed this lawsuit seeking to remove Royale as operator of property in which Royale is the 75% record owner and operator and NFC is a non-operator with a 25% ownership. Trial was held on October 18-21, 2011, at which Royale defended itself vigorously. The Court has requested additional briefing and no decision has yet been rendered.

Please refer to Part II, Item 1 of our Report on Form 10-Q for the quarter ended March 31, 2011 for a description of other pending legal proceedings.

Item 1A. Risk Factors

Please review the risk factors contained in our Annual Report on Form 10-K for the year ended December 31, 2010.

Item 6. Exhibits

31.1	Rule 13a-14(a)/15d-14(a) Certification
31.2	Rule 13a-14(a)/15d-14(a) Certification
32.1	18 U.S.C. § 1350 Certification
32.2	18 U.S.C. § 1350 Certification
101.INS**	XBRL Instance Document
101.SCH**	XBRL Taxonomy Extension Schema
101.CAL**	XBRL Taxonomy Extension Calculation Linkbase
101.DEF**	XBRL Taxonomy Extension Definition Linkbase
101.LAB**	XBRL Taxonomy Extension Label Linkbase
101.PRE**	XBRL Taxonomy Extension Presentation Linkbase

** Pursuant to Rule 406T of Regulation S-T, these interactive data files are deemed not filed or part of a registration statement or prospectus for purposes of Sections 11 or 12 of the Securities Act of 1933 or Section 18 of the Securities Exchange Act of 1934 and otherwise are not subject to liability.

Table of Contents

Signatures

Pursuant to the requirements of Section 13 or 15(d) 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.

	ROYALE ENERGY, INC.

Date: November 4, 2011	/s/ Donald H. Hosmer
	Donald H. Hosmer, Co-President and Co-Chief Executive Officer

Date: November 4, 2011	/s/ Stephen M. Hosmer
	Stephen M. Hosmer, Co-President, Co-Chief Executive Officer, and Chief Financial Officer

Table of Contents

Attached files

Stock widget

Investing forum

ROYALE ENERGY FUNDS, INC Reports