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UNITED
STATES Washington, D.C. 20549
Form 10-Q
For the transition period from to
Commission File Number: 0-8877 CREDO PETROLEUM CORPORATION (Exact name of registrant as specified in its charter)
303-297-2200 (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 Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ý No o
Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). Yes o No ý
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, net of treasury stock, as of the latest practicable date.
CREDO PETROLEUM CORPORATION AND SUBSIDIARIES
Quarterly Report on Form 10-Q For the Period Ended April 30, 2005
TABLE OF CONTENTS
The terms “CREDO”, “Company”, “we”, “our”, and “us” refer to CREDO Petroleum Corporation and its subsidiaries unless the context suggests otherwise.
2 PART I - FINANCIAL INFORMATION CREDO
PETROLEUM CORPORATION AND SUBSIDIARIES
The accompanying notes are an integral part of these consolidated financial statements.
3 CREDO PETROLEUM CORPORATION AND SUBSIDIARIES Consolidated Statements of Operations (Unaudited)
The accompanying notes are an integral part of these consolidated financial statements.
4 CREDO PETROLEUM CORPORATION AND SUBSIDIARIES Statement of Stockholders’ Equity and Comprehensive Income (Unaudited) For the Six Months Ended April 30, 2005
The accompanying notes are an integral part of these consolidated financial statements.
5 CREDO PETROLEUM CORPORATION AND SUBSIDIARIES Consolidated Statements of Cash Flows (Unaudited)
The accompanying notes are an integral part of these consolidated financial statements.
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CREDO
PETROLEUM CORPORATION AND SUBSIDIARIES Notes To Consolidated Financial Statements (Unaudited) April 30, 2005
1. BASIS OF PRESENTATION
Effective November 1, 2004, the company became subject to full SEC reporting requirements. The company’s first filing subject to full reporting requirements was its quarterly report on Form 10-Q for the first fiscal quarter ended January 31, 2005.
The accompanying unaudited consolidated financial statements have been prepared in accordance with U. S. generally accepted accounting principles for interim financial information and with the instructions for Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by U. S. generally accepted accounting principles for complete financial statements. In the opinion of management, the consolidated financial statements contain all adjustments (consisting of normal recurring adjustments) considered necessary for a fair presentation of the company’s results for the periods presented. These consolidated financial statements should be read in conjunction with the company’s Form 10-KSB for the fiscal year ended October 31, 2004.
2. SIGNIFICANT ACCOUNTING POLICIES
The preparation of financial statements in conformity with generally accepted accounting principles requires the company to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. The company bases its estimates on historical experience and on various other assumptions it believes to be reasonable under the circumstances. Although actual results may differ from these estimates under different assumptions or conditions, the company believes that its estimates are reasonable and that actual results will not vary significantly from the estimated amounts. The company believes the following accounting policies and estimates are critical in the preparation of its consolidated financial statements: the carrying value of its oil and gas properties, the accounting for oil and gas reserves, and the estimate of its asset retirement obligations.
OIL AND GAS PROPERTIES. The company uses the full cost method of accounting for costs related to its oil and gas properties. Capitalized costs included in the full cost pool are depleted on an aggregate basis using the units-of-production method. Depreciation, depletion and amortization is a significant component of oil and gas properties. A reduction in proved reserves without a corresponding reduction in capitalized costs will cause the depletion rate to increase.
Both the volume of proved reserves and any estimated future expenditures used for the depletion calculation are based on estimates such as those described under “Oil and Gas Reserves” below.
The capitalized costs in the full cost pool are subject to a quarterly ceiling test that limits such pooled costs to the aggregate of the present value of future net revenues attributable to proved oil and gas reserves discounted at 10 percent plus the lower of cost or market value of unproved properties less any associated tax effects. If such capitalized costs exceed the ceiling, the company will record a write-down to the extent of such excess as a non-cash charge to earnings. Any such write-down will reduce earnings in the period of occurrence and result in lower depreciation and depletion in future periods. A write-down may not be reversed in future periods, even though higher oil and gas prices may subsequently increase the ceiling.
The company has made only one ceiling write-down in its 27-year history. That write down was made in 1986 after oil prices fell 51% and gas prices fell 45% between fiscal year end 1985 and 1986.
Changes in oil and gas prices have historically had the most significant impact on the company’s ceiling test. In
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general, the ceiling is lower when prices are lower. Even though oil and gas prices can be highly volatile over weeks and even days, the ceiling calculation dictates that prices in effect as of the last day of the test period be used and held constant. The resulting valuation is a snapshot as of that day and, thus, is generally not indicative of a true fair value that would be placed on the company’s reserves by the company or by an independent third party. Therefore, the future net revenues associated with the estimated proved reserves are not based on the company’s assessment of future prices or costs, but rather are based on prices and costs in effect as of the end the test period.
OIL AND GAS RESERVES. The determination of depreciation and depletion expense as well as ceiling test write-downs, if any, related to the recorded value of the company’s oil and gas properties are highly dependent on the estimates of the proved oil and gas reserves. Oil and gas reserves include proved reserves that represent estimated quantities of crude oil and natural gas which geological and engineering data demonstrate with reasonable certainty to be recoverable in future years from known reservoirs under existing economic and operating conditions. There are numerous uncertainties inherent in estimating oil and gas reserves and their values, including many factors beyond the company’s control. Accordingly, reserve estimates are often different from the quantities of oil and gas ultimately recovered and the corresponding lifting costs associated with the recovery of these reserves.
At October 31, 2004, the date of the company’s most recent reserve report, the company’s reserves, and reserve values, were concentrated in 43 properties (“Significant Properties”). Some of the Significant Properties were individual wells and others were multi-well properties. The Significant Properties represent 24% of the company’s total properties but a disproportionate 75% of the discounted value (at 10%) of the company’s reserves. Individual wells on which the company’s patented liquid lift system is installed comprised 26% of the Significant Properties and represented 37% of the discounted reserve value of such properties. At October 31, 2004, relatively new wells comprised 30% of the Significant Properties and represented 30% of the discounted value of such properties.
Estimates of reserve quantities and values for certain Significant Properties must be viewed as being subject to significant change as more data about the properties becomes available. Such properties include wells with limited production histories and properties with proved undeveloped or proved non-producing reserves. In addition, the company’s patented liquid lift system is generally installed on mature wells. As such, they contain older down-hole equipment that is more subject to failure than new equipment. The failure of such equipment, particularly casing, can result in complete loss of a well. Historically, performance of the company’s wells has not caused significant revisions in its proved reserves.
Price changes will affect the economic lives of oil and gas properties and, therefore, price changes may cause reserve revisions. Price changes have not caused significant proved reserve revisions by the company except in 1986 when a 51% decline in oil prices and a 45% decline in gas prices resulted in an 8.7% reduction in estimated proved reserves. Based upon this historical experience, the company does not believe its reserve estimates are particularly sensitive to prices changes within historical ranges.
One measure of the life of the company’s proved reserves can be calculated by dividing proved reserves at a fiscal year end by production for that fiscal year. This measure yields an average reserve life of nine years. Since this measure is an average, by definition, some of the company’s properties will have a life shorter than the average and some will have a life longer than the average. The expected economic lives of the company’s properties may vary widely depending on, among other things, the size and quality, natural gas and oil prices, possible curtailments in consumption by purchasers, and changes in governmental regulations or taxation. As a result, the company’s actual future net cash flows from proved reserves could be materially different from its estimates.
The company is not aware of any material adverse issues related to its reserves regarding regulatory approval, the availability of additional development capital, or the installation of additional infrastructure.
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ASSET RETIREMENT OBLIGATIONS. SFAS No. 143, “Accounting for Asset Retirement Obligations” requires that the company estimate the future cost of asset retirement obligations, discount that cost to its present value, and record a corresponding asset and liability in its Consolidated Balance Sheets. The values ultimately derived are based on many significant estimates, including future abandonment costs, inflation, market risk premiums, useful life, and cost of capital. The nature of these estimates requires the company to make judgments based on historical experience and future expectations. Revisions to the estimates may be required based on such things as changes to cost estimates or the timing of future cash outlays. Any such changes that result in upward or downward revisions in the estimated obligation will result in an adjustment to the related capitalized asset and corresponding liability on a prospective basis.
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