Attached files
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
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FORM 10Q
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(Mark One)
[ X ] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934 For the quarterly period ended September 30, 2011
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE EXCHANGE ACT
For the transition period from __________ to ___________
Commission file number: 333-151398
GULFSTAR ENERGY CORPORATION
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(Exact name of registrant as specified in its charter)
Colorado 02-0511381
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(State of Incorporation) (IRS Employer ID Number)
600 17th Street, Suite 2800, Denver, Colorado 80202
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(Address of principal executive offices)
303-260-6492
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(Registrant's Telephone number)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the past 12 months (or for such shorter period that the registrant was required
to file such reports), and (2) has been subject to the filing requirements for
the past 90 days. Yes [X]
No [ ]
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 (ss.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 [ ]
Indicate by check mark whether the registrant is a large accelerated file, 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 filer [ ] Accelerated filer [ ] Non-accelerated filer [ ] (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 [ ] No [ X]
Indicate the number of share outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
As of November 9, 2011, there were 11,499,479 shares of the registrant's common
stock outstanding.
PART I - FINANCIAL INFORMATION Page
Item 1. Condensed Consolidated Financial Statements
Condensed Consolidated Balance Sheets (Unaudited) - September 30, 2011
and December 31, 2010 1
Condensed Consolidated Statements of Operations (Unaudited) -
Three and Nine months ended September 30, 2011 and 2010 and
From May 19, 2006 (Inception) to September 30, 2011 2
CondensedConsolidated Statements of Cash Flows (Unaudited) - Nine
months ended September 30, 2011 and 2010 and
From May 19, 2006 (Inception) to September 30, 2011 3
Notes to the Unaudited Condensed Consolidated Financial Statements 4
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations 14
Item 3. Quantitative and Qualitative Disclosures About Market Risk - Not Applicable 19
Item 4. Controls and Procedures 19
PART II - OTHER INFORMATION
Item 1. Legal Proceedings - Not Applicable 20
Item 1A. Risk Factors - Not Applicable 20
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds 20
Item 3. Defaults Upon Senior Securities - Not Applicable 21
Item 4. Removed and Reserved 21
Item 5. Other Information 21
Item 6. Exhibits 21
SIGNATURES 22
PART I
ITEM 1. FINANCIAL STATEMENTS
GULFSTAR ENERGY CORPORATION AND SUBSIDIARIES
(FORMERLY BEDROCK ENERGY, INC)
(A Company in the Development Stage)
CONDENSED CONSOLIDATED BALANCE SHEETS
(Unaudited)
September 30, December 31,
2011 2010
-------------- --------------
ASSETS
Cash and cash equivalents $ 144,068 $ 65,799
Accounts receivable 106,379 33,653
Prepaids and other assets 15,477 33,660
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Total current assets 265,924 133,112
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Property, plant and equipment, net 4,391,196 4,404,314
Goodwill - 368,369
Intangible assets 170,874 170,874
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Total other assets 170,874 539,243
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Total assets $ 4,827,994 $ 5,076,669
============== ==============
LIABILITIES AND STOCKHOLDERS' EQUITY
Accounts payable $ 80,172 $ 936,418
Litigation settlement payment - 15,000
Oil and gas proceeds due to others 40,883 33,477
Notes payable, related party 7,882 335,078
Notes payable 30,233 -
Accrued liabilities 659,183 488,380
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Total current liabilities 818,353 1,808,353
Note payable, non current 735,035 -
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Total liabilities 1,553,388 1,808,353
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Commitments and Contingencies
STOCKHOLDERS' EQUITY
Preferred shares, no par value, 100,000,000 shares authorized;
no shares issued and outstanding - -
Common shares, $0.001 par value, 200,000,000 shares authorized;
18,159,138 issued and 11,499 okutstanding and 16,985,086
shares issued and outstanding at September 30, 2011 and
December 31, 2010, respectively 18,159 16,985
Additional paid in capital 7,625,267 6,296,863
Treasury shares - 6,659,659 shares, at cost (929,744) -
Accumulated deficit (4,707,555) (4,332,703)
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Stockholders' equity before non-controlling interest 2,006,127 1,981,145
Non-controlling interest 1,268,479 1,287,171
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Total stockholders' equity 3,274,606 3,268,316
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Total liabilities and stockholders' equity $ 4,827,994 $ 5,076,669
============== ==============
The accompanying notes are an integral part of the financial statements.
F-1
GULFSTAR ENERGY CORPORATION AND SUBSIDIARIES
(FORMERLY BEDROCK ENERGY, INC.)
(A Company in the Development Stage)
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
Three Months Ended Nine Months Ended Period From
May 19, 2006
(Inception)
Through
September 30,
2011
September 30, September 30, September 30, September 30, September 30
2011 2010 2011 2010 2011
------------- -------------- ------------- --------------- --------------
Net revenues $ 34,776 $ 32,007 $ 117,143 $ 69,310 $ 218,420
Cost of sales 6,323 16,500 22,551 27,842 59,393
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Gross profit 28,453 15,507 94,592 41,468 159,027
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Operating expenses:
General and administrative expense 445,486 483,336 1,458,224 1,108,536 6,213,972
Goodwill impairment - - 368,369 - 368,369
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Total operating expenses 445,486 483,336 1,826,593 1,108,536 6,582,341
------------- -------------- ------------- --------------- --------------
Loss from operations (417,033) (467,829) (1,732,001) (1,067,068) (6,423,314)
------------- -------------- ------------- --------------- --------------
Other income (expense):
Other income 5,246 778 1,239,936 234,131 1,488,544
Other expense (4,566) - (7,207) - (246,464)
------------- -------------- ------------- --------------- --------------
Total other income (expense) 680 778 1,232,729 234,131 1,242,080
------------------------------- ------------- --------------- --------------
Loss before income taxes (416,353) (467,051) (499,272) (832,937) (5,181,234)
Income taxes - - - - -
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Net loss (416,353) (467,051) (499,272) (832,937) (5,181,234)
Net loss attributable to the
non-controlling interest 153,774 114,412 124,420 114,412 473,679
------------- -------------- ------------- --------------- --------------
Net loss attributable to
Common stockholders $ (262,579) $ (352,639) $ (374,852) $ (718,525) $ (4,707,555)
============= ============== ============= =============== ==============
Basic and diluted net (loss)
per common share $ (0.02) $ (0.02) $ (0.02) $ (0.05)
============= ============== ============= ===============
Weighted average number of
common shares outstanding 11,353,012 15,983,209 15,036,209 13,239,794
============= ============== ============= ===============
The accompanying notes are integral part of these financial statements.
F-2
GULFSTAR ENERGY CORPORATION AND SUBSIDIARIES
(FORMERLY BEDROCK ENERGY, INC.)
(A Company in the Development Stage)
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
Nine Months Ended Period From
May19, 2006
(Inception )
Through
September 30, 2011
OPERATING ACTIVITIES September 30, September
2011 30, 2010
----------- ----------- -----------
Net loss attributable to Gulfstar common stockholders $ (374,852) $ (718,525) $(4,707,555)
Adjustments to reconcile net loss to net cash
flows used in operating activities:
Non-controlling interest (124,420) (114,412) (473,679)
Non-cash transfer of related party note receivable - 82,325 82,325
Non-cash issuance of equity for services 24,500 - 356,065
Depreciation 173,315 126,238 356,864
Gain on disposal of equipment (6,101) - (6,101)
Non-cash gain on settlement (929,744) - (929,744)
Non-cash gain on reduction of note payable to related party (303,804) - (303,804)
Impairment loss of goodwill 368,369 - 368,369
Changes in:
Accounts receivable (31,843) - (65,496)
Prepaids and other assets 18,183 (458,646) (15,477)
Litigation settlement payable (15,000) (40,000) -
Accounts payable and accrued liabilities 16,115 114,916 1,131,611
----------- ----------- -----------
Net cash used in operating activities (1,185,282) (1,008,104) (4,206,622)
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INVESTING ACTIVITIES
Expenditures for property, plant and equipment (1), (3) (113,596) (686,003) (4,701,459)
Acquisition of Talon Energy Corporation, cash acquired - 76,977 76,977
Collection of note receivable - (793) -
Issuance of related party note receivable - - (82,325)
Proceeds from sale of equipment 34,500 - 34,500
Expenditures for intangible assets - - (170,874)
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Net cash used in investing activities (79,096) (609,819) (4,843,181)
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FINANCING ACTIVITIES
Issuance of shares and member contributions (1) 1,304,532 1,236,775 8,962,314
Redemption of shares - (54,347) (141,636)
Proceeds from short term notes payable, net of repayments 30,233 30,000 30,233
Proceeds from related party notes payable, net of
repayments (2) 7,882 - 342,960
----------- ----------- -----------
Net cash provided by financing activities 1,342,647 1,212,428 9,193,871
----------- ----------- -----------
NET CHANGE IN CASH 78,269 (405,495) 144,068
CASH, Beginning 65,799 645,622 -
----------- ----------- -----------
CASH, Ending $ 144,068 $ 240,127 $ 144,068
=========== =========== ===========
NON CASH ACTIVITIES:
(1) Issuance of 50,000 shares Gulfstar LLC member
interest for PP&E $ 99,500 $ - $ 99,500
=========== =========== ===========
(2) Issuance of 223,378 shares to reduce note
payable to related party $ 335,078 $ - $ 335,078
=========== =========== ===========
(3) Conversion of accounts payable to debt $ 735,020 $ - $ 735,020
=========== =========== ===========
The accompanying notes are an integral part of these financial statements.
F-3
GULFSTAR ENERGY CORPORATION AND SUBSIDIARIES
(A Company in the Development Stage)
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2011 and 2010
(Unaudited)
NOTE 1 - ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Nature of Operations and Organization
Bedrock Energy, Inc. was incorporated in Colorado on August 11, 2004 and on May
5, 2010 its name was changed to Gulfstar Energy Corporation ("Gulfstar" or the
"Company").
On May 5, 2010, the Company entered into a Share Exchange Agreement with Talon
Energy Corporation ("Talon"). Talon was a Florida company engaged in management
activities in the oil and gas industry. On June 24, 2010, the Share Exchange
Agreement with Talon was replaced by a similar Revised and Amended Share
Acquisition Agreement between Talon and the Company and in conjunction with a
June 24, 2010 Share Exchange Agreement between the Company and Gulfstar Energy
Group, LLC ("Gulfstar LLC"), a privately held Mississippi Limited Liability
Company, for 58.3% of the outstanding equity interests of Gulfstar LLC, and an
Acquisition Agreement between the Company and Gulfstar LLC to acquire the
remaining 41.7% of the outstanding equity interests of Gulfstar LLC. The Revised
and Amended Share Acquisition Agreement and Share Exchange Agreement were both
effective as of June 30, 2010.
The Share Exchange Agreement between the Company and Gulfstar LLC provided for
Jason Sharp and Timothy Sharp ("Sharps"), officers and members of Gulfstar LLC,
to exchange their 58.3% of Gulfstar LLC outstanding equity interests for
11,659,659 restricted shares of common stock of the Company.
The Gulfstar LLC exchange was accounted for as a reverse recapitalization in
which Gulfstar LLC was determined to be the acquirer for accounting purposes.
The June 24, 2010 Acquisition Agreement between the Company and Gulfstar LLC
provides for the acquisition of the remaining outstanding equity interests of
Gulfstar LLC through the filing of a Registration Statement with the Securities
and Exchange Commission to register these remaining shares of common stock
offered by the Company to the individual equity interest holders of Gulfstar
LLC. As of September 30, 2011, these remaining 41.7% equity interests of
Gulfstar LLC have not been acquired by the Company.
The Revised and Amended Share Acquisition Agreement with Talon provided for the
Company to issue 3,509,530 restricted shares of its common stock to the
shareholders of Talon in exchange for the issued and outstanding shares of
Talon. After the exchange of such shares the Company owned 100% of the issued
and outstanding shares of Talon.
On June 15, 2011, the Company entered into an Agreement with Gulfstar LLC and
the Sharps in order for the Sharps to compensate the Company as a result of
events that had taken place over a period of time since July 2010 and as such
adjust the share consideration for the change in value of the assets previously
acquired. The parties acknowledged that this Agreement was not intended to
otherwise change or amend that certain Acquisition Agreement and Share Exchange
Agreement entered into on June 24, 2010 by and between the parties. As a result
and as part of the Agreement, the Sharps agreed to return to the Company
6,659,659 shares of their common stock valued at $929,744 or approximately $.14
per share. The Company has recorded these shares as Treasury Shares and recorded
the claims settlement as other income during the second quarter of 2011. In
addition, as part of this Agreement, the Sharps agreed to place into escrow
2,408,985 shares of their remaining 5,000,000 shares of common stock for the
benefit of the remaining minority equity holders of Gulfstar LLC subject to the
filing and effectiveness of the Registration Statement with the Security and
Exchange Commission. As a result of this Agreement, the Sharps have retained an
ownership of 2,591,015 shares of common stock of the Company.
F-4
Gulfstar LLC built and currently operates a 16-mile natural gas pipeline supply
system in Western Kentucky for the transportation of natural gas and provides
property management services for the operation of 20 wells in Kentucky of which
it holds overriding royalty interest of approximately 12.5% and holds mineral
rights on approximately 9,000 acres of leased land. Since the inception of the
Pipeline and the flow of natural gas during the second quarter of 2010, Gulfstar
LLC has encountered significant challenges in increasing the flow of natural gas
through its Pipeline. As a result of these challenges and limited ability of the
Company to fund future development of natural gas wells to the Pipeline, the
Company has decided to additionally focus on the exploration and production of
oil and gas leases located in other parts of the United States, including
Kentucky and Colorado.
As part of its focus on exploration and production, the Company acquired on
August 5, 2011 at a cost of $80,000 a 100% working interest and an 81.25% net
revenue interest in approximately 320 acres in Weld County, Colorado, which is
located about 40 miles north of Denver, Colorado and lies in what is called the
Denver Julesberg Basin (DJ Basin). The DJ Basin is the predominant geological
structure in Northern Colorado. The shallow "J" and "D" sand formations of the
DJ Basin constitute a common source of oil and gas. The acreage in Weld County
has forty (40) acre drilling and spacing units for the production of oil and gas
from the "D" and "J" sand formations.
The acreage contained within this lease has an 18-month term ("Primary Term"),
and may be extended if the Company drills two wells during the Primary Term, or
if other conditions are met. The term of the lease can continue as long as the
Company produces oil and gas in paying quantities during the term of the lease.
As of September 30, 2011, the Company has yet to drill any wells on this
acreage.
Interim Presentation
In the opinion of the management of the Company, the accompanying unaudited
financial statements include all material adjustments, including normal and
recurring adjustments, considered necessary to present fairly the financial
position and operating results of the Company for the period presented. The
financial statements and notes are presented as permitted by Form 10-Q, and do
not contain certain information included in the Company's Annual Report on Form
10-K for the fiscal year ended December 31, 2010. It is the Company's opinion
that when the interim financial statements are read in conjunction with the
December 31, 2010 Annual Report on Form 10-K and its Current Report on Form
10-Q, the disclosures are adequate to make the information presented not
misleading. Interim results are not indicative of results for a full year or any
future period.
Principles of Consolidation
Gulfstar LLC was determined to be the accounting acquirer in the reverse
recapitalization that occurred on June 30, 2010. As a result, all financial
information prior to June 30, 2010 will include only the accounts of Gulfstar
LLC. Subsequent to June 30, 2010, the accompanying financial information will
include the accounts of Gulfstar, its wholly owned subsidiary, Talon, and its
majority owned subsidiary, Gulfstar LLC. As of June 30, 2011, Gulfstar
liquidated Talon and assumed net liabilities in the amount of $263,083. All
significant inter-company balances and transactions have been eliminated during
consolidation.
Development Stage
The Company and its subsidiaries are currently focusing on the exploration and
production activities, limited operation of its pipeline gathering system and
management of existing oil and gas wells. Significant additional efforts, and
funding, neither of which is assured, are required for the Company to achieve
its intended normalized operating level. Substantially all of the Company's
efforts are devoted to the establishment of sufficient resources and revenue
producing assets in order to achieve its overall operational goals. Though
planned principal operations are anticipated to commence, no significant revenue
has been realized from the Company's to-date activities. The consolidated
statements of operations are shown inclusive of all cumulative revenue and
expense activity since the inception date of the Company, May 19, 2006, while
the Company is in the development stage.
F-5
Non-Controlling Interest
The non-controlling interest is related to Gulfstar LLC, which is consolidated,
but not wholly owned by the Company. At September 30, 2011, the Company owned
58.3% of the equity interest of Gulfstar LLC and therefore, the non-controlling
interest of 41.7% was $1,268,479. At December 31, 2010, the Company owned 58.4%
of the equity interest of Gulfstar LLC and therefore, the non-controlling
interest of 41.6% was $1,287,171.
Income Taxes
Gulfstar LLC, a limited liability company, is not a tax paying entity for
Federal income tax purposes. Its pro rata share of income, losses and tax
credits is passed through to its members and reported by its members on their
individual income tax returns. The consolidated statement of operations for the
six months ended June 30, 2010 and for the period from May 19, 2006 (inception)
through June 30, 2010 includes the accounts of Gulfstar LLC only, therefore, no
provision for federal income taxes or for deferred taxes has been determined.
The Company has determined, for the period July 1, 2010 through December 31,
2010 and for the period January 1, 2011 through September 30, 2011, any
provision for income taxes or deferred taxes and this determination has been
based upon the accounts of Gulfstar Energy Corporation, Talon and the pro rata
loss of Gulfstar LLC passed through and reportable by Gulfstar Energy
Corporation.
The Company accounts for income taxes under the liability method as prescribed
by ASC authoritative guidance. Deferred tax liabilities and assets are
determined based on the difference between the financial statement and tax bases
of assets and liabilities using enacted rates expected to be in effect during
the year in which the basis difference reverses. The realizability of deferred
tax assets are evaluated quarterly and a valuation allowance is provided if it
is more likely than not that the deferred tax assets will not give rise to
future benefits in the Company's income tax returns. The primary timing
differences between financial and tax reporting arise from federal net operating
loss carryforwards, amortization of start up costs, and accrued expenses.
The Company assessed the likelihood of utilization of the deferred tax assets,
in light of recent and expected continuing losses. As a result of this review,
the deferred tax asset of $835,147 and $758,227 has been fully reserved at
September 30, 2011 and December 31, 2010, respectively. As of September 30,
2011, the Company had net operating loss carryforwards for income tax and
financial reporting purposes of approximately $1,023,000 expiring in the years
2020 through 2031.
The Company has adopted ASC guidance regarding accounting for uncertainty in
income taxes. This guidance clarifies the accounting for income taxes by
prescribing the minimum recognition threshold an income tax position is required
to meet before being recognized in the financial statements and applies to all
income tax positions. Each income tax position is assessed using a two step
process. A determination is first made as to whether it is more likely than not
that the income tax position will be sustained, based upon technical merits,
upon examination by the taxing authorities. If the income tax position is
expected to meet the more likely than not criteria, the benefit recorded in the
financial statements equals the largest amount that is greater than 50% likely
to be realized upon its ultimate settlement. At September 30, 2011, there were
no uncertain tax positions.
None of the Company's federal or state income tax returns are currently under
examination by the Internal Revenue Service or state authorities. However,
calendar years 2007 and later remain subject to examination by the Internal
Revenue Service and respective states.
F-6
Business Combinations
The Company accounts for acquisitions in accordance with guidance found in ASC
805, Business Combinations. The guidance, effective January 1, 2009, requires
consideration given, including contingent consideration, assets acquired and
liabilities assumed to be valued at their fair market values at the acquisition
date. The guidance further provides that: (1) in-process research and
development will be recorded at fair value as an indefinite-lived intangible
assets; (2) acquisition costs will generally be expensed as incurred, (3)
restructuring costs associated with a business combination will generally be
expensed subsequent to the acquisition date; and (4) changes in deferred tax
asset valuations and income tax uncertainties after the acquisition date
generally will affect income tax expense.
ASC 805 requires that any excess of purchase price over fair value of assets
acquired, including identifiable intangibles and liabilities assumed be
recognized as goodwill. In accordance with ASC 805, any excess of fair value of
acquired net assets, including identifiable intangible assets, over the
acquisition consideration results in a bargain purchase gain. Prior to recording
a gain, the acquiring entity must reassess whether all acquired assets and
assumed liabilities have been identified and recognized and perform
re-measurements to verify that the consideration paid, assets acquired and
liabilities assumed have been properly valued.
Loss Per Share
Loss per share is computed by dividing net loss by the weighted average number
of common shares outstanding and requires presentation of both basic and diluted
loss per common share. Common share equivalents, if used, would consist of any
options, warrants and contingent shares. Common share equivalents would not be
included in the weighted average calculation for the periods that reported a net
loss since their effect would be anti-dilutive. As described in Note 10, the
Company had outstanding as of September 30, 2011, options to acquire 925,000
shares of common stock; but no warrants or contingent shares. As of December 31,
2010, the Company had no outstanding options, warrants or contingent shares.
Use of Estimates
The preparation of financial statements in conformity with generally accepted
accounting principles in the United States of America requires management to
make estimates and assumptions that affect the reported amount of assets and
liabilities and disclosures of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those estimates,
and such differences may be material to the financial statements.
Concentration of Credit Risk
The Company, from time to time during the periods covered by these consolidated
financial statements, may have bank balances in excess of its insured limits.
Management has deemed this a normal business risk.
Cash and Cash Equivalents
For purposes of the statement of cash flows, the Company considers all cash and
highly liquid investments with initial maturities of three months or less to be
cash equivalents.
Accounts Receivable
Accounts receivable are stated at their cost less any allowance for doubtful
accounts. The allowance for doubtful accounts is based on management's
assessment of the collectability of specific customer accounts and the aging of
the accounts receivable. If there is deterioration in a major customer's
creditworthiness or if actual defaults are higher than the historical
experience, the management's estimates of the recoverability of amounts due to
the Company could be adversely affected. Based on the management's assessment,
no reserve is deemed necessary at September 30, 2011 and December 31, 2010.
F-7
Revenue Recognition
The Company recognizes revenue from its Pipeline segment upon shipment of the
gas to its customers. Royalty revenue is recognized from the Company's oil and
gas property management and exploration and production segment in the period of
production.
Property and Equipment
The Company follows the full cost method of accounting for oil and natural gas
operations. Under this method, all productive and nonproductive costs incurred
in connection with the acquisition, exploration, and development of oil and
natural gas reserves are capitalized. No gains or losses are recognized upon the
sale or other disposition of oil and natural gas properties except in
transactions that would significantly alter the relationship between capitalized
costs and proved reserves. The costs of unevaluated oil and natural gas
properties are excluded from the amortizable base until the time that either
proven reserves are found or it has been determined that such properties are
impaired. As properties become evaluated, the related costs transfer to proved
oil and natural gas properties using full cost accounting. None of the
capitalized costs in the amount of $400,980 were included in the amortization
base as of September 30, 2011, nor did the Company expense any capitalized costs
during the nine months ended September 30, 2011 and 2010. The Company does not
have significant oil and gas producing activities as of September 30, 2011 and
December 31, 2010, and its oil and gas properties are still in the drilling
phase and have not been evaluated.
Management capitalizes additions to property and equipment including its
pipeline. Expenditures for repairs and maintenance are charged to expense.
Property and equipment are carried at cost. Adjustment of the asset and the
related accumulated depreciation accounts are made for property and equipment
retirements and disposals, with the resulting gain or loss included in the
consolidated statements of operations.
In accordance with authoritative guidance on accounting for the impairment of
disposal of long-lived assets, as set forth in Topic 360 of the ASC, the Company
assesses the recoverability of the carrying value of its non-oil and gas
long-lived assets when events occur that indicate an impairment in value may
exist. An impairment loss is indicated if the sum of the expected undiscounted
future net cash flows is less than the carrying amount of the assets. If this
occurs, an impairment loss is recognized for the amount by which the carrying
amount of the assets exceed the estimated fair value of the assets. During the
quarter ended June 30, 2011, the Company entered into an agreement with Gulfstar
LLC and the Sharps, which the Company determined is an event that required the
Company to assess whether the carrying value of the Pipeline was impaired. As a
result of the Company's analysis, the Company assessed there was no impairment
to the Pipeline. No events occurred during the quarter ended September 30, 2011
that would be indicative of possible impairment.
Goodwill
In accordance with generally accepted accounting principles, goodwill cannot be
amortized, however, it must be tested annually for impairment. This impairment
test is calculated at the reporting unit level. The goodwill impairment test has
two steps. The first identifies potential impairments by comparing the fair
value of a reporting unit with its book value, including goodwill. If the fair
value of the reporting unit exceeds the carrying amount, goodwill is not
impaired and the second step is not necessary. If the carrying value exceeds the
fair value, the second step calculates the possible impairment loss by comparing
the implied fair value of goodwill with the carrying amount. If the implied
goodwill is less than the carrying amount, a write-down is recorded. Management
tests goodwill each year for impairment, or when facts or circumstances indicate
impairment has occurred. During the quarter ended June 30, 2011, the Company
entered into an agreement with Gulfstar LLC and the Sharps, which the Company
determined is an event that required the Company to assess whether the carrying
value of goodwill was impaired. As a result of the Company's analysis, the
Company assessed that goodwill was impaired and an impairment loss was recorded
in the amount of $368,369 as during the second quarter of 2011.
F-8
Intangible Assets
Intangible assets consist of right of way deposits, which are contracts allowing
the Company to install pipeline on private land. The rights exist indefinitely
and therefore, no amortization has been recorded. Management evaluates the
assets for impairment whenever events or circumstances indicate a possible
impairment. During the quarter ended June 30, 2011, the Company entered into an
agreement with Gulfstar LLC and the Sharps, which the Company determined is an
event that required the Company to assess whether the carrying value of the
right of ways were impaired. As a result of the Company's analysis, the Company
assessed there was no impairment to the right of ways.
Significant Customer
The Company's pipeline construction was finished during the second quarter of
2010 and is currently delivering natural gas to one manufacturing customer
located in Kentucky. Revenue earned from the oil and gas property management
segment and exploration and production segment are determined based upon
division orders with two purchasers.
Depreciation
For financial reporting purposes, depreciation of property and equipment is
computed using the straight-line method over the estimated useful lives of
assets at acquisition. For income tax reporting purposes, depreciation of
property and equipment is computed using the straight-line and accelerated
methods over the estimated useful lives of assets at acquisition.
Recent Accounting Pronouncements
In December 2010, the Financial Accounting Standard Board issued ASC Topic 350
update 2010-28, "Intangibles - Goodwill and Other". The update modifies the two
step process of the goodwill impairment test for reporting units with zero or
negative carrying amounts. The update is effective for interim and annual
periods beginning after December 15, 2010. We adopted the provisions of the
standard on January 1, 2011, which did not have a material impact on our
financial statements.
There were other accounting standards and interpretations issued during the nine
months ended September 30, 2011, none of which are expected to have a material
impact on the Company's financial position, operations or cash flows.
NOTE 2 - SIGNIFICANT ACQUISITIONS
Effective June 30, 2010, the Company acquired 100% of the issued and outstanding
stock of Talon. The acquisition was accounted for using the purchase method in
accordance with guidance provided in Topic 805 of the Codification. As of June
30, 2011, Talon has been liquidated with Gulfstar assuming $263,083 of net
liabilities.
The following table presents the allocation of the purchase price to the assets
acquired and liabilities assumed, based on their fair values at June 30, 2010:
Purchase price
Assumed liabilities in excess of cash $263,083
3,509,530 shares of the Company common
Stock valued at $.03 per share $105,286
--------
Total consideration $368,369
========
Allocation of purchase price
Goodwill $368,369
--------
Net assets acquired $368,369
========
F-9
Goodwill associated with the above transaction is not amortizable for tax
purposes. During the quarter ended June 30, 2011, the Company wrote off goodwill
as an operating expense after the Company assessed that goodwill has been
impaired.
NOTE 3 - GOING CONCERN AND MANAGEMENT'S PLAN
As shown in the accompanying consolidated financial statements, the Company has
recognized a net loss of $374,852 for the nine months ended September 30, 2011
and reported an accumulated deficit of $4,707,555. At September 30, 2011, the
Company had total current assets of $225,041 and total current liabilities of
$777,470 for a working capital deficiency of $552,429.
To the extent the Company's operations are not sufficient to fund the Company's
capital requirements, the Company will attempt to enter into a revolving loan
agreement with a financial institution or attempt to raise capital through the
sale of additional capital stock or through the issuance of debt. At the present
time, the Company does not have a revolving loan agreement with any financial
institution nor can the Company provide assurance that it will be able to enter
into any such agreement in the future or be able to raise funds through the
further issuance of debt or equity in the Company.
The accompanying consolidated financial statements have been prepared assuming
that the Company will continue as a going concern; however, the above conditions
raise substantial doubt about the Company's ability to do so. The consolidated
financial statements do not include any adjustment to reflect the possible
future effect on the recoverability and classification of assets or the amounts
and classifications of liabilities that may result should the Company be unable
to continue as a going concern.
NOTE 4 - RELATED PARTY TRANSACTIONS
Note Receivable
At December 31, 2009, the Company was owed $82,325 from an officer. The note was
non-interest bearing, unsecured and due no later than two years after the
completion of the pipeline, which was completed during the second quarter of
2010. During second quarter of 2010 and prior to the acquisition of Gulfstar
LLC, the note receivable was written-off as compensation expense.
Oil and Gas Proceeds Due to Others
As described in Note 6, the Company owed oil and gas proceeds to working
interest owners totaling $40,883 and $33,477 as of September 30, 2011 and
December 31, 2010, respectively.
Accrued Expenses
During the quarter ended September 30, 2011, the Company reimbursed an officer
and director of the Company $25,000 and $21,601 for accrued expenses incurred in
the current and prior periods, respectively.
Notes Payable
The Company borrowed $40,000 from an affiliate of a member-manager of Gulfstar
LLC and a greater than 5% shareholder of the Company and in exchange issued an
unsecured promissory note dated January 4, 2011 that is due in full on or before
December 31, 2011. Interest is accrued at the rate of one percent (1.0%) per
annum. As of September 30, 2011, the Company owes $7,882 on the promissory note.
F-10
The Company borrowed a total of $335,078 from an affiliate of a member-manager
of Gulfstar LLC and a greater than 5% shareholder of the Company and in exchange
issued an unsecured promissory note dated November 30, 2010 that is due in full
on or before December 31, 2011. Interest is accrued at the rate of one percent
(1.0%) per annum. On May 30, 2011, the Company and the affiliate entered into an
agreement whereby the parties agreed to pay the promissory in full in exchange
for 223,385 shares of the Company's common stock valued at $.14 per share. As a
result of this agreement, Gulfstar LLC recognized a gain on extinguishment of
debt in the amount of $303,804 that was recorded as other income during the
second quarter of 2011.
NOTE 5 - PROPERTY AND EQUIPMENT
Property and equipment consist of the following at:
September 30, December 31,
-------------- ------------
2011 2010
---- ----
Pipeline $ 4,194,885 $4,119,885
Oil and Gas Properties (in process) 400,980 287,024
Office Equipment 26,654 27,014
Vehicles 41,536 103,940
Land 50,000 50,000
--------- ---------
Total Property & Equipment 4,714,055 4,587,863
Less Accumulated Depreciation (322,859) (183,549)
--------- ---------
Net Property & Equipment $ 4,391,196 $4,404,314
========= ==========
Depreciation expense was $57,555 and $173,315, respectively, for the three
months and nine months ended September 30, 2011 and $72,233 and $126,238,
respectively, for the three and nine months ended September 30, 2010.
NOTE 6 - DRILLING VENTURES
The Company holds overriding royalty interests in various wells in Kentucky. The
Company syndicated the financing of these wells through offering a 100% working
interest in the wells in exchange for contribution of funds to drill the wells.
As part of the transaction, the Company retained approximately 12.5% overriding
royalty interests in the wells and also agreed to provide property management
services on behalf of the working interest owners in the wells. This income from
the wells earned by the Company is reported as royalty income as reflected in
Note 9 - Information on Business Segments.
As part of the property management services provided, the Company collects the
royalties generated from the wells on behalf of the working interest owners and
pays the various costs and expenses incurred on behalf of the wells. The Company
records no costs or expenses relative to these wells on its consolidated
statements of operations. The excess of the royalties collected by the Company
on behalf of the working interest owners were recorded as oil and gas proceeds
due to others on the consolidated balance sheets of the Company. At September
30, 2011 and December 31, 2010, the Company owed oil and gas proceeds to working
interest owners in the amount of $40,883 and $33,477, respectively.
NOTE 7- LITIGATION SETTLEMENT PAYMENT
In March 2010, the Company settled certain environmental litigation. As a result
of the settlement, the Company was required to pay $70,000 during the year ended
December 31, 2010. This amount was paid by the Company during the second quarter
of 2010, in addition to $100,000, which was paid during the year ended December
31, 2009. As a result, $170,000 was recorded as other expense in the
consolidated statement of operations for the year ended December 31, 2009.
Additionally, the Company received $230,000 from a consultant contracted by the
Company for services provided related to the environmental litigation. The
income from the settlement with the consultant was recognized as other income
during the first quarter of 2010.
F-11
In February, 2009, the Company received two Notices of Violation from the
Commonwealth of Kentucky's Energy and Environment Cabinet ("Cabinet") as a
result of the Company's failure to obtain appropriate permits in advance of
certain construction activities and for "causing or contributing to the
pollution of the waters of the Commonwealth of Kentucky" during 2007. The
Company neither admitted to nor denied the alleged violations but accepted civil
responsibility for the violations on May 6, 2010. As a result of the settlement
of the dispute, the Company agreed to pay a civil penalty of $60,000 to the
Commonwealth of Kentucky by way of 12 equal monthly installment payments,
beginning in May of 2010. The Company recorded a $60,000 General &
Administration Expense during the second quarter of 2010 to recognize the
settlement with the Cabinet and as of June 30, 2011, the liability was paid in
full.
NOTE 8 - NOTE PAYABLE
The Company borrowed funds in the amount of $48,000 from a financial institution
for working capital purposes during the second quarter of 2011 and the loan is
evidenced by a promissory note dated April 7, 2011 that is collateralized by
vehicles. The promissory note is due on demand and matures on April 7, 2012 at
an interest rate of 6.99% per annum with monthly interest only payments. As of
September 30, 2011, the Company owes $30,233. Interest expense was $891 and
$3,532, respectively, during the three and nine months ended September 30, 2011.
In September 2011, Gulfstar and Gulfstar LLC settled all claims arising from a
trade payable amount of $735,035 owed to a creditor in exchange for Gulfstar LLC
issuing a six percent (6%) unsecured promissory note due March 1, 2014 with
interest only semi-annual payments and Gulfstar issuing 175,000 shares of its
common stock valued at $24,500. As part of this settlement, costs of $32,500,
consisting of an additional $8,000 of trade payables owed to the creditor at the
date of the settlement plus the value of the shares in the amount of $24,500,
were included in general and administrative expense and interest cost of $3,675
was included in other expense for the quarter ended September 30, 2011.
NOTE 9 - INFORMATION ON BUSINESS SEGMENTS
The Company operates in three business segments: Pipeline, Oil and Gas Property
Management, and Exploration and Production.
Pipeline
Gulfstar LLC has built and currently operates a 16-mile nature gas pipeline
located in Western Kentucky for the transportation of natural gas. The pipeline
operations transport gas to a burner tip processing plant located near Bowling
Green, Kentucky where it is sold pursuant to a gas purchase agreement. Pipeline
revenue is recognized upon delivery of the gas to its customer. The pipeline has
a throughput capacity of 18 Million Cubic Feet per day (MMcf/d). The pipeline is
currently not operating at full capacity as it transported an average of 71 and
78 Mcf/d, respectively, of natural gas during the three and nine months ended
September 30, 2011 and an average of 109 and 71 Mcf/d, respectively, of natural
gas during the three and nine months ended September 30, 2010.
Oil and Gas Property Management ("O&G Property Mgmt")
Gulfstar LLC is the manager and operator of 20 wells in Western Kentucky.
Gulfstar LLC offers working interests in the properties on behalf of the
leaseholders. Using these funds, Gulfstar LLC pays for the costs incurred in
drilling, reworking and development of the wells. Gulfstar LLC holds an
overriding royalty interest of approximately 12.5% and holds mineral rights on
approximately 9,000 acres of leased land. Gulfstar collects revenues on behalf
of the working interest holders and distributes each working interest holders'
share of revenue when collected. A receivable is recorded for oil and gas
revenue when earned and a related payable due to interest holders is recorded
net of the 12.5% revenue interest and direct costs due to Gulfstar LLC.
F-12
Exploration and Production ("E&P")
During the fourth quarter of 2010, Gulfstar LLC began drilling a horizontal well
located in Warren County, Kentucky with total capitalized costs of $320,980 as
of September 30, 2011. Gulfstar LLC owns a working interest of 64.0% and a net
revenue interest of 48.0% in this well and anticipates completion of this well
by the end of 2011. After completion, the well will be connected to Gulfstar
LLC's pipeline for delivery of gas. Also, Gulfstar LLC own a similar working and
net revenue interest in an offset well that produces oil. During the three and
nine months ended September 30, 2011, this well produced net revenue of $8,102
and $35,402, respectively.
The Company acquired on August 5, 2011 at a cost of $80,000 a 100% working
interest, 81.25% net revenue interest, in approximately 320 acres in Weld
County, Colorado which is located about 40 miles north of Denver, Colorado and
lies in what is called the Denver, Julesberg Basin (DJ Basin). The acreage
contained within this lease has an 18-month term ("Primary Term"), and may be
extended if the Company drills two wells during the Primary Term, or if other
conditions are met. The term of the lease can continue as long as the Company
produces oil and gas in paying quantities during the term of the lease.
The following data is presented for the Company's three operating segments:
Pipeline, O&G Property Management and E&P.
Three Months Ended Nine Months Ended
September 30, September 30,
2011 2010 2011 2010
---- ---- ---- ----
Net Revenue
Pipeline $ 15,667 $ 24,873 $ 51,328 $ 53,118
O&G Property Management 11,007 7,134 30,773 16,192
E&P 8,102 - 35,042 -
----------------------------------- -----------------------------------
Total Net Revenues 34,776 32,007 117,143 69,310
Operating Income (Loss)
Pipeline (70,069) 8,373 (212,070) 25,276
O&G Property Management 11,007 7,134 30,773 16,192
E&P 8,102 - (333,327) -
Corporate (366,073) (483,336) (1,217,377) (1,108,536)
----------------------------------- -----------------------------------
Total Operating Loss (417,033) (467,829) (1,732,001) (1,067,068)
Other Income 680 778 1,232,729 234,131
----------------------------------- -----------------------------------
Loss Before Income Taxes $ (416,353) $ (467,051) $ (499,272) $ (832,937)
=================================== ===================================
September 30, 2011 December 31, 2010
------------------ -----------------
Total Assets
Pipeline $4,185,946 $4,213,512
O&G Property Management 10,608 3,758
E&P 452,479 706,893
Corporate 178,961 152,506
----------- ------------
Total Assets $4,827,994 $5,076,669
=========== ==========
F-13
NOTE 10 - STOCKHOLDERS' EQUITY
Preferred Shares
The Company is authorized to issue 100,000,000 shares of no par value preferred
stock. As of September 30, 2011 and December 31, 2010, the Company has no shares
issued and outstanding.
Common Shares
The Company is authorized to issue 200,000,000 shares of $.001 voting common
stock. At September 30, 2011 and December 31, 2010, there were a total of
18,159,138 and 16,985,086 shares of common stock issued and 11,499,479 and
16,985,086 shares of common stock outstanding, respectively. On May 5, 2010, the
Board of Directors of the Company authorized a one share for eight share reverse
stock split, effective on May 5, 2010. All share and per share references have
been adjusted for the reverse split.
Treasury Shares
On May 30, 2011 the Company acquired 6,659,659 shares of common stock from the
Sharps in exchange for the payment of claims valued at $929,744 and these shares
are still in treasury as of September 30, 2011.
Stock Option Plan
In the first quarter of 2011, the Company adopted the 2011 Stock Option Plan.
The maximum number of shares of common stock reserved for issuance under the
Plan is 3,000,000 shares. The number of shares, however, may be adjusted to
reflect certain corporate transactions or changes in our capital structure. All
employees of the Company and its subsidiaries, including employees who are
officers or members of our Board of Directors and non-employee members of our
Board of Directors are eligible to participate in the Plan. In addition, key
advisors who perform services for the Company and its subsidiaries are eligible
to participate in the Plan. The Plan is administered by our Board of Directors
and they have the authority to, among other things, select plan participants,
determine the type and amount of awards, determine awards terms, and interpret
the Plan and any Plan awards. During any calendar year, participants are limited
in the number of grants they may receive under the Plan. In any year, an
individual may not receive options for more than 300,000 shares. The Plan
requires that the exercise price for stock options be equal to or greater than
the fair market value of our common stock on the date of the grant. If the
option is granted to an employee who, at the time of grant, owns stock
possessing more than ten percent of the total combined voting power of all
classes of stock of the Company or subsidiary of the Company, the exercise price
shall not be less than one-hundred and ten percent of the fair market value of
our common stock on the date of the grant. During the quarter ended September
30, 2011, the Company granted options as follows and these options were valued
using the Black Scholes method:
Participants Expiration of Option Exercise Price Shares Value of Option
------------ -------------------- -------------- ------ --------------
Employee members of Board 6/30/2016 $1.50 450,000 $0
Non employee members of Board 6/30/2016-7/31/2016 $1.50 450,000 $0
Key Advisor 6/30/2016 $1.50 25,000 $0
As of September 30, 2011, no shares have been issued in relation to the 2011
Stock Option Plan.
NOTE 11 - AGREEMENTS
On October 20, 2010, the Company engaged Maxim Group LLC to provide gross
proceeds of up to $100 Million from a proposed private placement of Company
equity and/or convertible debt. The precise terms of the private placement will
be negotiated between Maxim Group LLC, potential investors and the Company. As
of September 30, 2011 there is no financing in place.
F-14
On January 19, 2011, the Company signed a letter agreement with Wright Capital
Corporation to pursue a proposed financing of up to $90 Million to be used to
assist the Company in the proposed purchase of assets connected to oil and gas
leases and for the further development of the Company's existing pipeline
structure in Kentucky. The Company was unsuccessful in purchasing these oil and
gas leases. However the Company will continue its relationship with Wright
Capital in an effort to bring additional financing to the Company and as of
September 30, 2011 there is no financing in place.
NOTE 12 - GULFSTAR LLC CASH DISTRIBUTIONS
The Gulfstar LLC operating agreement provides a priority preference as to any
future cash distributions paid by Gulfstar LLC to the owners of its equity
interests. As such, fifty percent (50%) of all cash distributions shall be paid
first to the non-controlling equity interests until such time they have received
in full their capital contributions. After which time, cash distributions shall
be paid in proportion to the percentage of all equity interests. As of September
30, 2011 and December 31, 2010, Gulfstar LLC has not repaid any of the
non-controlling equity interests' capital contributions.
F-15
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following discussion should be read in conjunction with our unaudited
financial statements and notes thereto included herein. In connection with, and
because we desire to take advantage of, the "safe harbor" provisions of the
Private Securities Litigation Reform Act of 1995, we caution readers regarding
certain forward looking statements in the following discussion and elsewhere in
this report and in any other statement made by, or on our behalf, whether or not
in future filings with the Securities and Exchange Commission. Forward-looking
statements are statements not based on historical information and which relate
to future operations, strategies, financial results or other developments.
Forward looking statements are necessarily based upon estimates and assumptions
that are inherently subject to significant business, economic and competitive
uncertainties and contingencies, many of which are beyond our control and many
of which, with respect to future business decisions, are subject to change.
These uncertainties and contingencies can affect actual results and could cause
actual results to differ materially from those expressed in any forward looking
statements made by, or on our behalf. We disclaim any obligation to update
forward-looking statements.
OPERATIONS
----------
Since the second half of 2010, Gulfstar LLC has transported limited quantities
of gas via its pipeline system due to its inability to bring additional flow of
natural gas from existing wells. The Company has worked with its drilling
partners to increase the production of natural gas through reworking the wells
but has found limited success. Also, Gulfstar LLC operates as a manager and
operator of these wells that are connected to the Pipeline. Gulfstar LLC holds
overriding royalty interests of approximately 12.5% in these wells and financed
these wells through offering a 100% working interest in the wells in exchange
for contribution of funds to drill the wells. Therefore, Gulfstar LLC does not
hold any working interest in the wells. As a result of its limited success in
owning and operating the Pipeline, the Company has decided to additionally focus
its operations on exploration & production.
As part of its focus on exploration and production, the Company acquired on
August 5, 2011 at a cost of $80,000 in cash a 100% working interest and an
81.25% net revenue interest in approximately 320 acres in Weld County, Colorado,
which is located about 40 miles north of Denver, Colorado and lies in what is
called the Denver Julesberg Basin (DJ Basin). The DJ Basin is the predominant
geological structure in Northern Colorado. The shallow "J" and "D" sand
formations of the DJ Basin constitute a common source of oil and gas. The
acreage in Weld County has forty (40) acre drilling and spacing units for the
production of oil and gas from the "D" and "J" sand formations.
The acreage contained within this lease has an 18-month term ("Primary Term"),
and may be extended if the Company drills two wells during the Primary Term, or
if other conditions are met. The term of the lease can continue as long as the
Company produces oil and gas in paying quantities during the term of the lease.
As of September 30, 2011, the Company has yet to drill any wells on this
acreage.
Further, the Company is currently in discussions to acquire additional acreage
of oil and gas leases located in other parts of the United States that will
greatly benefit its revenues and intends to leverage its assets to develop
energy prospects for its own account or co-venture with other companies, which
can benefit from an association with the Company's management.
On January 19, 2011, the Company signed a letter agreement with Wright Capital
Corporation to pursue a proposed financing of up to $90 Million to be used to
assist the Company in the proposed purchase of assets connected to oil and gas
leases and for the further development of the Company's existing pipeline
structure in Kentucky. The Company was unsuccessful in purchasing these oil and
gas leases. However, the Company will continue its relationship with Wright
Capital in an effort to bring additional financing to the Company. The Company
cannot make any assurances that it will obtain any funds from such proposed
financing.
The Company will need substantial additional capital to support its proposed
future operations and as such is aggressively seeking this capital, as evidenced
by its current arrangement with Wright Capital Corporation and the arrangement
entered into in October 2010 with Maxim Group LLC. Nonetheless, there are
currently minimal revenues and limited committed sources for additional funds as
of the date hereof. No representation is made that any funds will be available
when needed. In the event funds cannot be raised when needed, the Company may
not be able to carry out its business plan, may never achieve projected levels
of sales or royalty income, and could fail in business as a result of these
uncertainties.
1
RESULTS OF OPERATIONS
For the Three and Nine Months Ended September 30, 2011 Compared to the Three and
Nine Months Ended September 30, 2010
During the three and nine months ended September 30, 2011, we recognized net
revenues of $34,776 and $117,143 as more specifically described in the notes to
the financial statements with corresponding direct costs of $6,323 and $22,551
for a gross profit of $28,453 and $94,592, respectively. During the three and
nine months ended September 30, 2010, we recognized net revenues of $32,007 and
$69,310 with corresponding direct costs of $16,500 and $27,842 for a gross
profit of $15,507 and $41,468, respectively. The increase in net revenues of
$47,833 for the nine months ended September 30, 2011 as compared to September
30, 2010 was due to the pipeline not being in service until the second quarter
of 2010.
During the three months ended September 30, 2011, we incurred total operating
expenses of $445,486 as compared to $483,336 for the three months ended
September 30, 2010. This decrease of $37,850 was due to a decrease in general
and administrative expenses. During the nine months ended September 30, 2011, we
incurred total operating expenses of $1,826,593 as compared to $1,108,536 for
the nine months ended September 30, 2010. The increase of $718,057 was the
result of a write off of goodwill in the amount of $368,369 and an increase of
$349,688 in general and administrative expenses due to increased operational
activities of the Company, the pipeline being in existence for the entire nine
months of 2011 as compared to only the second and third quarters of 2010 and the
Company's expenses related to its compliance with the financial reporting
requirements of the SEC. Management of the Company does expect operational
expenses to be stable as the Company focuses on its operational activities.
During the three months ended September 30, 2011, we incurred a net loss of
$262,579 compared to net loss of $352,639 during the three months ended
September 30, 2010. The decrease in net loss of $90,060 was due primarily to a
decrease in operating expenses. During the nine months ended September 30, 2011,
we incurred a net loss of $374,852 compared to a net loss of $718,525 during the
nine months ended September 30, 2010. The decrease in net loss of $343,673 was
due primarily to an increase of $47,833 in revenues offset by the $349,688
increase in operating expenses and the write off of goodwill in the amount of
$368,369, the $998,598 increase in other income primarily due to the one-time
gain from the settlement and extinguishment of debt and the $10,008 decrease of
net loss attributable to the non-controlling interest.
LIQUIDITY
---------
At September 30, 2011, we had total current assets of $265,924 consisting of
$144,068 in cash and cash equivalents, $106,379 in accounts receivable and
$15,477 in prepaids. At September 30, 2011, we had total current liabilities of
$818,353, consisting of $80,172 in accounts payable, $40,883 in oil and gas
proceeds due to others, $7,882 in related party notes payable, $30,233 in notes
payable and $659,183 in accrued liabilities. At September 30, 2011, we had a
working capital deficit of $552,429 and an accumulated deficit of $4,707,555.
During the nine months ended September 30, 2011, we used net cash of $1,185,282
in operational activities. During the nine months ended September 30, 2010, we
used net cash of $1,008,104 from operational activities.
During the nine months ended September 30, 2011, we recognized a net loss of
$374,852 which was adjusted for a non-cash activity consisting of depreciation
of $173,315, issuance of equity for $24,500 in services, net loss attributable
to the non-controlling interest of $124,220, gain on settlement of $929,744,
gain on reduction of note payable related party of $303,804, impairment loss on
goodwill of $368,369 and a gain on disposal on equipment of $6,101. During the
nine months ended September 30, 2010, we recognized a net loss of $718,525,
which was adjusted for a non-cash activity of $82,325 from related party note
receivable, depreciation of $126,238 and a net loss attributable to the
non-controlling interest of $114,412.
During the nine months ended September 30, 2011, the Company used funds of
$79,096 in its investing activities. Investing activities included expenditures
of $113,596 in property, plant and equipment net of $34,500 from the sale of
equipment.
During the nine months ended September 30, 2010, the Company used $609,819 in
its investing activities. Investing activities included expenditures of $686,003
in property, plant and equipment, $793 from the collection of a note receivable
and $76,977 from cash acquired through the acquisition of Talon Energy
Corporation.
2
During the nine months ended September 30, 2011, the Company received $1,342,647
net proceeds from its financing activities. Financing activities included equity
contributions of $1,304,532, net proceeds from short term loan of $30,233 and
net proceeds from related party loan payable of $7,882.
During the nine months ended September 30, 2010, the Company received $1,212,428
from its financing activities. Financing activities included equity
contributions of $1,236,775, equity redemptions paid of $54,347 and net proceeds
from short term loan of $30,000.
The Company borrowed $40,000 from an affiliate of a member-manager of Gulfstar
LLC and a greater than 5% shareholder of the Company and in exchange issued an
unsecured promissory note dated January 4, 2011 that is due in full on or before
December 31, 2011. Interest is accrued at the rate of one percent (1.0%) per
annum. As of September 30, 2011, the Company owes $7,882 on the promissory note.
The Company borrowed a total of $335,078 from an affiliate of a member-manager
of Gulfstar LLC and a greater than 5% shareholder of the Company and in exchange
issued an unsecured promissory note dated November 30, 2011 that is due in full
on or before December 31, 2011. Interest is accrued at the rate of one percent
(1.0%) per annum. On May 30, 2011, the Company and the affiliate entered into an
agreement whereby the parties agreed to pay the promissory in full in exchange
for 223,385 shares of the Company's common stock valued at $.14 per share. As a
result of this agreement, Gulfstar LLC recognized a gain on extinguishment of
debt in the amount of $303,804 that was recorded as other income during the
second quarter of 2011.
In September 2011, Gulfstar and Gulfstar LLC settled all claims arising from a
trade payable amount of $735,035 owed to a creditor in exchange for Gulfstar LLC
issuing a six percent (6%) unsecured promissory note due March 1, 2014 with
interest only semi-annual payments and Gulfstar issuing 175,000 shares of its
common stock valued at $24,500.
The Gulfstar LLC operating agreement provides a priority preference as to any
future cash distributions paid by Gulfstar LLC to the owners of its equity
interests. As such, fifty percent (50%) of all cash distributions shall be paid
first to the non-controlling equity interests until such time they have received
in full their capital contributions. After which time, cash distributions shall
be paid in proportion to the percentage of all equity interests. As of September
30, 2011 and December 31, 2010, Gulfstar LLC has not repaid any of the
non-controlling equity interests' capital contributions.
Capital Resources
We have only common stock as our capital resource.
We have no material commitments for capital expenditures within the next year,
however if operations are commenced, substantial capital will be needed to pay
for participation, investigation, exploration, acquisition and working capital.
Need for Additional Financing
We do not have capital sufficient to meet our cash needs. We will have to seek
loans or equity placements to cover such cash needs and therefore the Company
currently is still seeking financing with Maxim Group LLC to provide gross
proceeds of up to $100 Million from a proposed private placement of Company
equity and/or convertible debt. The precise terms of the private placement will
be negotiated between Maxim Group LLC, potential investors and the Company. We
cannot give any assurances that we will receive funds from a private placement
with the Maxim Group, LLC.
Further, the Company is seeking through Wright Capital Corporation to pursue
proposed financing of up to $90 Million to be used to assist the Company in the
proposed purchase of assets connected to oil and gas leases and for the further
development of the Company's existing pipeline structure in Kentucky. The
definitive terms of the proposed transaction are subject to an agreement between
Wright Capital Corporation and the Company. We cannot make any assurances that
we will be able to enter into a definitive agreement with Wright Capital
Corporation.
No commitments to provide additional funds have been made by our management or
other stockholders. Accordingly, there can be no assurance that any additional
funds will be available to us to allow it to cover our expenses as they may be
incurred.
3
Going Concern
As shown in the accompanying consolidated financial statements, the Company has
recognized a net loss of $374,852 for the nine months ended September 30, 2011
and reported an accumulated deficit of $4,707,555. At September 30, 2011, the
Company had total current assets of $225,041 and total current liabilities of
$777,470 for a working capital deficit of $552,429.
To the extent the Company's operations are not sufficient to fund the Company's
capital requirements, the Company will attempt to enter into a revolving loan
agreement with a financial institution or attempt to raise capital through the
sale of additional capital stock or through the issuance of debt. At the present
time, the Company does not have a revolving loan agreement with any financial
institution nor can the Company provide assurance that it will be able to enter
into any such agreement in the future or be able to raise funds through the
further issuance of debt or equity in the Company. Management is actively
pursuing additional financing and revenue solutions as stated elsewhere in this
report.
CRITICAL ACCOUNTING POLICIES
Gulfstar has identified the policies below as critical to its business
operations and the understanding of results from operations. The impact and any
associated risks related to these policies on the Company's business operations
is discussed throughout Management's Discussion and Analysis of Financial
Conditions and Results of Operations where such policies affect Gulfstar's
reported and expected financial results. For a detailed discussion on the
application of these and other accounting policies, see Note 1 in the Notes to
the Financial Statements. Note that Gulfstar's preparation of this document
requires Gulfstar to make estimates and assumptions that affect the reported
amounts of assets and liabilities, disclosure of contingent assets and
liabilities at the date of Gulfstar's financial statements, and the reported
amounts of expenses during the reporting periods. There can be no assurance that
actual results will not differ from those estimates.
Revenue Recognition
The Company recognizes revenue from its Pipeline segment upon shipment of the
gas to its customers. Royalty revenue is recognized from the Company's oil and
gas property management and exploration and production segment in the period of
production.
Accounts Receivable
Accounts receivable are stated at their cost less any allowance for doubtful
accounts. The allowance for doubtful accounts is based on management's
assessment of the collectability of specific customer accounts and the aging of
the accounts receivable. If there is deterioration in a major customer's
creditworthiness or if actual defaults are higher than the historical
experience, the management's estimates of the recoverability of amounts due to
the Company could be adversely affected. Based on the management's assessment,
no reserve is deemed necessary at September 30, 2011 and December 31, 2010.
Property and Equipment
The Company follows the full cost method of accounting for oil and natural gas
operations. Under this method, all productive and nonproductive costs incurred
in connection with the acquisition, exploration, and development of oil and
natural gas reserves are capitalized. No gains or losses are recognized upon the
sale or other disposition of oil and natural gas properties except in
transactions that would significantly alter the relationship between capitalized
costs and proved reserves. The costs of unevaluated oil and natural gas
properties are excluded from the amortizable base until the time that either
proven reserves are found or it has been determined that such properties are
impaired. As properties become evaluated, the related costs transfer to proved
oil and natural gas properties using full cost accounting. None of the
capitalized costs in the amount of $400,980 were included in the amortization
base as of September 30, 2011, nor did the Company expense any capitalized costs
during the nine months ended September 30, 2011 and 2010. The Company does not
have significant oil and gas producing activities as of September 30, 2011 and
December 31, 2010, and its oil and gas properties are still in the drilling
phase and have not been evaluated.
4
Management capitalizes additions to property and equipment including its
pipeline. Expenditures for repairs and maintenance are charged to expense.
Property and equipment are carried at cost. Adjustment of the asset and the
related accumulated depreciation accounts are made for property and equipment
retirements and disposals, with the resulting gain or loss included in the
consolidated statements of operations.
In accordance with authoritative guidance on accounting for the impairment of
disposal of long-lived assets, as set forth in Topic 360 of the ASC, the Company
assesses the recoverability of the carrying value of its non-oil and gas
long-lived assets when events occur that indicate an impairment in value may
exist. An impairment loss is indicated if the sum of the expected undiscounted
future net cash flows is less than the carrying amount of the assets. If this
occurs, an impairment loss is recognized for the amount by which the carrying
amount of the assets exceed the estimated fair value of the assets. During the
quarter ended June 30, 2011, the Company entered into an agreement with Gulfstar
LLC and the Sharps which the Company determined is an event that required the
Company to assess whether the carrying value of the Pipeline was impaired. As a
result of the Company's analysis, the Company assessed there was no impairment
to the Pipeline.
Goodwill
In accordance with generally accepted accounting principles, goodwill cannot be
amortized, however, it must be tested annually for impairment. This impairment
test is calculated at the reporting unit level. The goodwill impairment test has
two steps. The first identifies potential impairments by comparing the fair
value of a reporting unit with its book value, including goodwill. If the fair
value of the reporting unit exceeds the carrying amount, goodwill is not
impaired and the second step is not necessary. If the carrying value exceeds the
fair value, the second step calculates the possible impairment loss by comparing
the implied fair value of goodwill with the carrying amount. If the implied
goodwill is less than the carrying amount, a write-down is recorded. Management
tests goodwill each year for impairment, or when facts or circumstances indicate
impairment has occurred. During the quarter ended June 30, 2011, the Company
entered into an agreement with Gulfstar LLC and the Sharps, which the Company
determined is an event that required the Company to assess whether the carrying
value of goodwill was impaired. As a result of the Company's analysis, the
Company assessed that goodwill was impaired and an impairment loss was recorded
in the amount of $369,369 during the second quarter of 2011.
Intangible Assets
Intangible assets consist of right of way deposits, which are contracts allowing
the Company to install pipeline on private land. The rights exist indefinitely
and therefore, no amortization has been recorded. Management evaluates the
assets for impairment whenever events or circumstances indicate a possible
impairment. During the quarter ended June 30, 2011, the Company entered into an
agreement with Gulfstar LLC and the Sharps, which the Company determined is an
event that required the Company to assess whether the carrying value of the
right of ways were impaired. As a result of the Company's analysis, the Company
assessed there was no impairment to the right of ways.
Income Taxes
Gulfstar LLC, a limited liability company, is not a tax paying entity for
Federal income tax purposes. It's pro rata share of income, losses and tax
credits is passed through to its members and reported by its members on their
individual income tax returns. The consolidated statement of operations for the
six months ended June 30, 2010 and for the period from May 19, 2006 (inception)
through June 30, 2010 includes the accounts of Gulfstar LLC only, therefore, no
provision for federal income taxes or for deferred taxes has been determined.
The Company has determined, for the period July 1, 2010 through December 31,
2010 and for the period January 1, 2011 through September 30, 2011, any
provision for income taxes or deferred taxes and this determination has been
based upon the accounts of Gulfstar Energy Corporation, Talon and the pro rata
loss of Gulfstar LLC passed through and reportable by Gulfstar Energy
Corporation.
5
The Company accounts for income taxes under the liability method as prescribed
by ASC authoritative guidance. Deferred tax liabilities and assets are
determined based on the difference between the financial statement and tax bases
of assets and liabilities using enacted rates expected to be in effect during
the year in which the basis difference reverses. The realizability of deferred
tax assets are evaluated quarterly and a valuation allowance is provided if it
is more likely than not that the deferred tax assets will not give rise to
future benefits in the Company's income tax returns. The primary timing
differences between financial and tax reporting arise from federal net operating
loss carryforwards, amortization of start up costs, and accrued expenses.
The Company assessed the likelihood of utilization of the deferred tax assets,
in light of recent and expected continuing losses. As a result of this review,
the deferred tax asset of $835,147 and $758,227 has been fully reserved at
September 30, 2011 and December 31, 2010, respectively. As of September 30,
2011, the Company had net operating loss carryforwards for income tax and
financial reporting purposes of approximately $1,023,000 expiring in the years
2020 through 2031.
The Company has adopted ASC guidance regarding accounting for uncertainty in
income taxes. This guidance clarifies the accounting for income taxes by
prescribing the minimum recognition threshold an income tax position is required
to meet before being recognized in the financial statements and applies to all
income tax positions. Each income tax position is assessed using a two step
process. A determination is first made as to whether it is more likely than not
that the income tax position will be sustained, based upon technical merits,
upon examination by the taxing authorities. If the income tax position is
expected to meet the more likely than not criteria, the benefit recorded in the
financial statements equals the largest amount that is greater than 50% likely
to be realized upon its ultimate settlement. At September 30, 2011, there were
no uncertain tax positions.
None of the Company's federal or state income tax returns are currently under
examination by the Internal Revenue Service or state authorities. However,
calendar years 2007 and later remain subject to examination by the Internal
Revenue Service and respective states.
Business Combinations
The Company accounts for acquisitions in accordance with guidance found in ASC
805, Business Combinations. The guidance, effective January 1, 2009, requires
consideration given, including contingent consideration, assets acquired and
liabilities assumed to be valued at their fair market values at the acquisition
date. The guidance further provides that: (1) in-process research and
development will be recorded at fair value as an indefinite-lived intangible
assets; (2) acquisition costs will generally be expensed as incurred, (3)
restructuring costs associated with a business combination will generally be
expensed subsequent to the acquisition date; and (4) changes in deferred tax
asset valuations and income tax uncertainties after the acquisition date
generally will affect income tax expense.
ASC 805 requires that any excess of purchase price over fair value of assets
acquired, including identifiable intangibles and liabilities assumed be
recognized as goodwill. In accordance with ASC 805, any excess of fair value of
acquired net assets, including identifiable intangible assets, over the
acquisition consideration results in a bargain purchase gain. Prior to recording
a gain, the acquiring entity must reassess whether all acquired assets and
assumed liabilities have been identified and recognized and perform
re-measurements to verify that the consideration paid, assets acquired and
liabilities assumed have been properly valued.
Recent Accounting Pronouncements
In December 2010, the Financial Accounting Standard Board issued ASC Topic 350
update 2010-28, "Intangibles - Goodwill and Other". The update modifies the two
step process of the goodwill impairment test for reporting units with zero or
negative carrying amounts. The update is effective for interim and annual
periods beginning after December 15, 2010. We adopted the provisions of the
standard on January 1, 2011, which did not have a material impact on our
financial statements.
There were other accounting standards and interpretations issued during the nine
months ended September 30, 2011, none of which are expected to have a material
impact on the Company's financial position, operations or cash flows.
6
ITEM 3. QUANTATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
Not Applicable.
ITEM 4. CONTROLS AND PROCEDURES
Disclosures Controls and Procedures
We have adopted and maintain disclosure controls and procedures (as such term is
defined in Rules 13a 15(e) and 15d-15(e) under the Securities Exchange Act of
1934, as amended (the "Exchange Act")) that are designed to ensure that
information required to be disclosed in our reports under the Exchange Act, is
recorded, processed, summarized and reported within the time periods required
under the SEC's rules and forms and that the information is gathered and
communicated to our management, including our Chief Executive Officer (Principal
Executive Officer) and Chief Financial Officer (Principal Financial Officer), as
appropriate, to allow for timely decisions regarding required disclosure.
As required by SEC Rule 15d-15(b), our Chief Executive Officer and Chief
Financial Officer for the quarter ended September 30, 2011, carried out an
evaluation under the supervision and with the participation of our management,
of the effectiveness of the design and operation of our disclosure controls and
procedures pursuant to Exchange Act Rule 15d-14 as of the end of the period
covered by this report. Based on the foregoing evaluation, our Chief Executive
Officer and Chief Financial Officer have concluded that our disclosure controls
and procedures are ineffective in timely alerting them to material information
required to be included in our periodic SEC filings and to ensure that
information required to be disclosed in our periodic SEC filings is accumulated
and communicated to our management, including our Chief Executive Officer and
Chief Financial Officer, to allow timely decisions regarding required
disclosure.
We have identified certain material weaknesses in internal control over
financial reporting relating to a shortage of accounting and reporting personnel
due to limited financial resources and the size of our Company, as detailed
below:
1. The Company currently does not have, but is in the process of
developing formally documented accounting policies and procedures,
which includes establishing a well-defined process for financial
reporting. After our documentation of our accounting policies and
procedures takes place, we plan to focus on performing and documenting
tests of our internal controls on an ongoing basis throughout the year.
2. Due to the limited size of our accounting department, we currently lack
the resources to handle complex accounting transactions. We believe
this deficiency could lead to errors in the presentation and disclosure
of financial information in our annual, quarterly, and other filings.
3. We currently have a lack of segregation of duties within our accounting
department. Until our operations expand and additional cash flow is
generated from operations, a complete segregation of duties will not be
possible.
Considering the nature and extent of our current operations and any risks or
errors in financial reporting under current operations and the fact that we have
been a small business with limited employees, such items caused a weakness in
internal controls involving the areas disclosed above.
Due to financial restrictions at this time, the Company has not taken any action
to resolve such weakness.
There was no change in our internal control over financial reporting that
occurred during the quarter ended September 30, 2011, that has materially
affected, or is reasonably likely to materially affect, our internal control
over financial reporting.
7
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Not applicable.
ITEM 1A. RISK FACTORS
Not applicable.
ITEM 2. UNREGISTERED SALE OF EQUITY SECURITIES AND USE OF PROCEEDS
The Company made the following unregistered sales of its securities from July 1,
2011 through September 30, 2011.
DATE OF SALE TITLE OF SECURITIES NO. OF SHARES CONSIDERATION CLASS OF PURCHASER
------------ ------------------- ------------- ------------- ------------------
September, 2011 Common Stock 175,000 Services Business Associate
Exemption From Registration Claimed
All of the above sales by the Company of its unregistered securities were made
by the Company in reliance upon Section 4(2) of the Securities Act of 1933, as
amended (the "1933 Act"). All of the individuals and/or entities that purchased
the unregistered securities were known to the Company and its management,
through pre-existing business relationships. All purchasers were provided access
to all material information, which they requested, and all information necessary
to verify such information and were afforded access to management of the Company
in connection with their purchases. All purchasers of the unregistered
securities acquired such securities for investment and not with a view toward
distribution, acknowledging such intent to the Company. All certificates or
agreements representing such securities that were issued contained restrictive
legends, prohibiting further transfer of the certificates or agreements
representing such securities, without such securities either being first
registered or otherwise exempt from registration in any further resale or
disposition.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
Not applicable.
ITEM 4. REMOVED AND RESERVED
ITEM 5. OTHER INFORMATION
None.
8
ITEM 6. EXHIBITS
Exhibits. The following is a complete list of exhibits filed as part of this
Form 10-Q. Exhibit numbers correspond to the numbers in the Exhibit Table of
Item 601 of Regulation S-K.
Exhibit 31.1 Certification of Chief Executive Officer pursuant to Section
302 of the Sarbanes-Oxley Act
Exhibit 31.2 Certification of Chief Financial Officer pursuant to Section
302 of the Sarbanes-Oxley Act
Exhibit 32.1 Certification of Principal Executive Officer pursuant to
Section 906 of the Sarbanes-Oxley Act
Exhibit 32.1 Certification of Principal Financial Officer pursuant to
Section 906 of the Sarbanes-Oxley Act
Exhibit 101.INS XBRL Instance Document
Exhibit 101.SCH XBRL Taxonomy Extension Schema Document (1)
Exhibit 101.CAL XBRL Taxonomy Extension Calculation Linkbase Document (1)
Exhibit 101.DEF XBRL Taxonomy Extension Definition Linkbase Document (1)
Exhibit 101.LAB XBRL Taxonomy Extension Label Linkbase Document (1)
Exhibit 101.PRE XBRL Taxonomy Extension Presentation Linkbase Document (1)
------------
(1) Pursuant to Rule 406T of Regulation S-T, this interactive data file is
deemed not filed or part of a registration statement or prospectus for
purposes of Sections 11 or 12 of the Securities Act of 1933, is deemed
not filed for purposes of Section 18 of the Securities Exchange Act of
1934, and otherwise is not subject to liability under these sections.
9
SIGNATURES
Pursuant to the requirements of Section 12 of the Securities and Exchange
Act of 1934, the Registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized.
GULFSTAR ENERGY, CORPORATION
(Registrant)
Dated: November 14, 2011 By: /s/Robert McCann
----------------
Robert McCann,
Chief Executive Officer
Dated: November 14, 2011 By: /s/Stephen Warner
-----------------
Stephen Warner,
Chief Financial Officer
(Principal Accounting Officer)