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Notes
to Consolidated Financial Statements
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(1)
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Organization
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Nature of
Operations
. Blue Dolphin Energy Company
(“Blue Dolphin,”) is primarily an independent refiner
and marketer of petroleum products. Our primary asset is
a 15,000-bpd crude oil and condensate processing facility located
in Nixon, Texas (the “Nixon Facility”). As
part of our refinery business segment, we conduct petroleum storage
and terminaling operations under third-party lease agreements at
the Nixon Facility. We also own pipeline assets and have
leasehold interests in oil and gas properties. (See “Note (4)
Business Segment Information” for further discussion of our
business segments.)
Structure and
Management
.
Blue
Dolphin was formed as a Delaware corporation in 1986. We
are currently controlled by Lazarus Energy Holdings, LLC
(“LEH”). LEH operates and manages all our properties
pursuant to an Amended and Restated Operating Agreement (the
“Amended and Restated Operating
Agreement”). Jonathan Carroll is Chairman of the
Board of Directors (the “Board”), Chief Executive
Officer, and President of Blue Dolphin, as well as a majority owner
of LEH. Together LEH and Jonathan Carroll own approximately 81% of
our common stock, par value $0.01 per share (the “Common
Stock). (See “Note (8) Related Party Transactions,”
“Note (10) Long-Term Debt, Net” and “Note (18)
Commitments and Contingencies – Financing Agreements”
for additional disclosures related to LEH, the Amended and Restated
Operating Agreement, and Jonathan Carroll.)
Our operations are
conducted through the following active subsidiaries:
●
Lazarus Energy,
LLC, a Delaware limited liability company
(“LE”).
●
Lazarus Refining
& Marketing, LLC, a Delaware limited liability company
(“LRM”).
●
Blue Dolphin Pipe
Line Company (“BDPL”), a Delaware
corporation.
●
Blue Dolphin
Petroleum Company, a Delaware corporation.
●
Blue Dolphin
Services Co., a Texas corporation.
See "Part I, Item
1. Business and Item 2. Properties” in our Annual Report on
Form 10-K for the fiscal year ended December 31, 2016 (the
“Annual Report”) as filed with the Securities and
Exchange Commission (the “SEC”) for additional
information regarding our operating subsidiaries, principal
facilities, and assets.
References in this
Quarterly Report to “we,” “us,” and
“our” are to Blue Dolphin and its subsidiaries unless
otherwise indicated or the context otherwise requires.
Going
Concern
. Management has determined that certain
factors raise substantial doubt about our ability to continue as a
going concern. These factors inclue the
following:
Final GEL Arbitration Award
. As previously disclosed, we
have been involved in arbitration proceedings (the “GEL
Arbitration”) with GEL Tex Marketing, LLC
(“GEL”), an affiliate of Genesis Energy, LP
(“Genesis”), related to a contractual dispute involving
a Crude Oil Supply and Throughput Services Agreement (the
“Crude Supply Agreement”) and a Joint Marketing
Agreement (the “Joint Marketing Agreement”), each
between LE and GEL and dated August 12, 2011. On August 11, 2017,
the arbitrator delivered its final award in the GEL Arbitration
(the “Final Arbitration Award”). The Final Arbitration
Award denied all of LE’s claims against GEL and granted
substantially all of the relief requested by GEL in its
counterclaims. Among other matters, the Final Arbitration Award
awarded damages, legal and administrative fees and court costs to
GEL in the aggregate amount of approximately $31.3 million. This
resulted in a net increase in current liabilities of approximately
$24.3 million on our consolidated balance sheet at June 30,
2017.
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BLUE DOLPHIN ENERGY
COMPANY
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FORM 10-Q
6/30/17
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Notes to
Consolidated Financial Statements
(Continued)
A
hearing on confirmation of the Final Arbitration Award was
scheduled to occur on September 18, 2017 in state district court in
Harris County, Texas. Prior to the scheduled hearing, LE and GEL
jointly notified the court that the hearing would be continued for
a period of no more than 90 days after September 18, 2017 (the
“Continuance Period”), to facilitate settlement
discussions between the parties. On September 26, 2017, LE and Blue
Dolphin, together with LEH and Jonathan Carroll, entered into a
Letter Agreement with GEL, effective September 18, 2017 (the
“GEL Letter Agreement”), confirming the parties’
agreement to the continuation of the confirmation hearing during
the Continuance Period, subject to the terms of the GEL Letter
Agreement. GEL may terminate the GEL Letter Agreement on the
45
th
day
of the Continuance Period, or November 1, 2017, if GEL determines,
in its sole discretion, that settlement discussions between the
parties are not advancing to an acceptable resolution. If we are
unable to reach an acceptable settlement with Genesis and GEL and
GEL seeks to confirm and enforce the Final Arbitration Award, our
business, financial condition and results of operations will be
materially affected, and we likely would be required to seek
protection under bankruptcy laws.
Sovereign
Bank (“Sovereign”) has delivered to us notices of
default under our secured loan agreements with Sovereign, stating
that the Final Arbitration Award constitutes an event of default
under the secured loan agreements. The occurrence of an event of
default permits Sovereign to declare the amounts owed under these
loan agreements immediately due and payable, exercise its rights
with respect to collateral securing our obligations under these
loan agreements, and/or exercise any other rights and remedies
available. Sovereign has informed us that it not currently
exercising its rights and remedies under the secured loan
agreements in light of the ongoing settlement discussions with GEL
and the continuance of the hearing on confirmation of the Final
Arbitration Award and to allow Sovereign to evaluate any proposed
settlement agreement related to the Final Arbitration Award, which
would require Sovereign’s approval. However, Sovereign
expressly reserved all of its rights, privileges and remedies
related to events of default under the secured loan agreements and
informed us that it would consider a final confirmation of the
Final Arbitration Award to be a material event of default under the
loan agreements. Any exercise by Sovereign of its rights and
remedies under the secured loan agreements would have a material
adverse effect on our business, financial condition and results of
operations and likely would require us to seek protection under
bankruptcy laws. The debt associated with loans under secured loan
agreements was classified within the current portion of long-term
debt on our consolidated balance sheet at June 30, 2017 due to
existing or potential events of default related to the Final
Arbitration Award as well as the uncertainty of our ability to meet
financial covenants in the secured loan agreements in the
future.
We are
currently evaluating the effects of the Final Arbitration Award on
our business, financial condition and results of operations. In
addition to the matters described above, the Final Arbitration
Award could materially and adversely affect our ability to procure
adequate amounts of crude oil and condensate and our relationships
with our customers.
For
additional information regarding the Final Arbitration Award, the
GEL Letter Agreement, and their potential effects on our business,
financial condition and results of operations, see “Note (10)
Long-Term Debt, Net,” “Note (18) Commitments and
Contingencies” and “Note (19) Subsequent
Events.”
Operating Risks
. Successful
execution of our business plan depends on several key factors,
including having adequate crude oil and condensate supplies,
increasing sales of refined petroleum products, and meeting
contractual obligations. For the three and six months ended June
30, 2017, execution of our business plan was negatively impacted by
several factors, including:
●
Net Losses –
For the three months ended June 30, 2017, we reported a net loss of
$25,393,282, or a loss of $2.39 per share, compared to a net loss
of $3,162,736, or a loss of $0.30 per share, for the three months
ended June 30, 2016. The $2.09 per share increase in net
loss between the periods was primarily the result of the Final
Arbitration Award in the current three-month period. For the
six months ended June 30, 2017, we reported a net loss of
$27,243,232, or a loss of $2.58 per share, compared to a net loss
of $5,311,820, or a loss of $0.51 per share, for the six months
ended June 30, 2016. The $2.07 per share increase in net
loss between the periods was primarily the result of the Final
Arbitration Award.
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BLUE DOLPHIN ENERGY
COMPANY
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FORM 10-Q
6/30/17
|
Notes to
Consolidated Financial Statements
(Continued)
●
Working Capital
Deficits – We had a working capital deficit of $65,632,359 at
June 30, 2017 compared to a working capital deficit of $37,812,263
at December 31, 2016. Excluding long-term debt, we had a working
capital deficit of $32,821,325 at June 30, 2017, compared to
working capital of $5,599,927 at December 31, 2016. The significant
increase in working capital deficit between the periods primarily
related to recording a current liability of $31,278,563 related to
the Final Arbitration Award, a decrease in cash and cash
equivalents, and a decrease in accounts
receivable.
●
Termination of
Relationship with Genesis and GEL – As previously
disclosed and discussed elsewhere in this Quarterly Report, we
ceased purchases of crude oil and condensate from GEL under the
Crude Supply Agreement in November 2016 and suspended the marketing
and sale of refined petroleum products under the Joint Marketing
Agreement following the processing of all crude oil and condensate
supplied by GEL.
●
Crude Supply Issues
– We currently have in place a month-to-month evergreen crude
supply contact with a major integrated oil and gas
company. This new supplier currently provides us with
adequate amounts of crude oil and condensate, and we expect the
supplier to continue to do so for the foreseeable
future. However, our ability to purchase adequate
amounts of crude oil and condensate is dependent on our liquidity
and access to capital, which have been adversely affected by the
contract-related dispute with GEL and other factors, as noted
above.
The Final
Arbitration Award could have a material adverse effect on our
ability to procure adequate amounts and crude oil and condensate
from our current supplier or otherwise.
●
Financial Covenant
Defaults –
In addition to
existing or potential events of default related to the Final
Arbitration Award,
at June 30,
2017, we were in violation of certain financial covenants in our
secured loan agreements with Sovereign. Covenant defaults under the
secured loan agreements would permit Sovereign to declare the
amounts owed under these loan agreements immediately due and
payable, exercise its rights with respect to collateral securing
our obligations under these loan agreements, and/or exercise any
other rights and remedies available. Sovereign waived the financial
covenant defaults as of June 30, 2017. However, the debt
associated with these loans was classified within the current
portion of long-term debt on our consolidated balance sheet at June
30, 2017 due to existing or potential events of default related to
the Final Arbitration Award as well as the uncertainty of our
ability to meet the financial covenants in the future. There can be
no assurance that Sovereign will provide a waiver of events of
default related to the Final Arbitration Award, consent to any
proposed settlement with GEL or provide future waivers of any
financial covenant defaults, which may have an adverse impact on
our financial position and results of
operations.
We continued
aggressive actions during the second quarter of 2017 to improve
operations and liquidity. We began selling all of our
jet fuel to LEH immediately following production, which minimizes
inventory, improves cash flow, and reduces commodity
risk. We also completed construction of several new
petroleum storage tanks at the Nixon
Facility. Increasing petroleum storage capacity: (i)
assists with de-bottlenecking the facility, which supports future
increased refinery throughput to approximately 17,000 bpd without
substantial capital expense, and (ii) provides an opportunity to
generate additional tank rental revenue by leasing to
third-parties. Additional ongoing efforts to improve
operations and liquidity include increasing jet fuel and HOBM sales
volumes, the latter of which is prime for export to Mexico, and
restructuring customer contracts on more favorable terms as they
come up for renewal. Management believes that it is
taking the appropriate steps to improve our financial
stability. However, there can be no assurance that our
plan will be successful, LEH and its affiliates will continue to
fund our working capital needs, or that we will be able to obtain
additional financing on commercially reasonable terms or at
all.
Among other
factors, the Final Arbitration Award could prevent us from
successfully executing our plan.
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BLUE DOLPHIN ENERGY
COMPANY
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FORM 10-Q
6/30/17
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Notes to
Consolidated Financial Statements
(Continued)
For additional
disclosures related to the contract-related dispute with GEL, the
Final Arbitration Award, the GEL Letter Agreement, defaults under
secured loan agreements, and risk factors that could materially
affect our future business, financial condition and results of
operations, refer to the following sections within this Quarterly
Report:
●
Part I, Item 1.
Financial Statements, Notes to Consolidated Financial
Statements:
-
Note (8) Related
Party Transactions
-
Note (10) Long-Term
Debt, Net
-
Note (18)
Commitments and Contingencies – Legal
Matters
-
Note (19)
Subsequent Events
●
Part I, Item 2.
Management’s Discussion and Analysis of Financial Condition
and Results of Operations:
-
GEL
Contract - Related Dispute and Final Arbitration
Award
-
Liquidity and
Capital Resources
●
Part
II,
Item 1. Legal Proceedings
●
Part
II,
Item 1A. Risk Factors
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(2)
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Basis
of Presentation
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The accompanying
unaudited consolidated financial statements, which include Blue
Dolphin and subsidiaries, have been prepared in accordance with
U.S. generally accepted accounting principles (“GAAP”)
for interim consolidated financial information and with the
instructions to Form 10-Q and Article 10 of Regulation S-X.
Accordingly, certain information and footnote disclosures normally
included in our audited financial statements have been condensed or
omitted pursuant to the SEC’s rules and regulations.
Significant intercompany transactions have been eliminated in the
consolidation. In management’s opinion, all
adjustments considered necessary for a fair presentation have been
included, disclosures are adequate, and the presented information
is not misleading.
The consolidated
balance sheet as of December 31, 2016 was derived from the audited
financial statements at that date. The accompanying
consolidated financial statements should be read in conjunction
with the consolidated financial statements and notes thereto
included in our Annual Report. Operating results for the
three and six months ended June 30, 2017 are not necessarily
indicative of the results that may be expected for the fiscal year
ending December 31, 2017, or for any other period.
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(3)
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Significant
Accounting Policies
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The summary of
significant accounting policies of Blue Dolphin is presented to
assist in understanding our consolidated financial statements. Our
consolidated financial statements and accompanying notes are
representations of management who is responsible for their
integrity and objectivity. These accounting policies conform to
GAAP and have been consistently applied in the preparation of our
consolidated financial statements.
Use of Estimates
.
We have made several estimates and
assumptions related to the reporting of our consolidated assets and
liabilities and to the disclosure of contingent assets and
liabilities to prepare these consolidated financial statements in
conformity with GAAP. We believe our current estimates are
reasonable and appropriate, however, actual results could differ
from those estimated.
Cash and Cash
Equivalents
.
Cash and cash equivalents
represent liquid investments with an original maturity of three
months or less. Cash balances are maintained in depository and
overnight investment accounts with financial institutions that, at
times, may exceed insured deposit limits. We monitor the financial
condition of the financial institutions and have experienced no
losses associated with these accounts. Cash and cash
equivalents were $65,064 at June 30, 2017 compared to cash and cash
equivalents of $1,152,628 at December 31, 2016.
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BLUE DOLPHIN ENERGY
COMPANY
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FORM 10-Q
6/30/17
|
Notes to
Consolidated Financial Statements
(Continued)
Restricted Cash
.
Restricted cash (current portion)
primarily represents: (i) amounts held in our disbursement account
with Sovereign attributable to construction invoices awaiting
payment from that account, (ii) a payment reserve account held by
Sovereign as security for payments under a loan agreement, and
(iii) a construction contingency account under which Sovereign will
fund contingencies. Restricted cash, noncurrent
represents funds held in the Sovereign disbursement account for
payment of future construction related expenses to build new
petroleum storage tanks. At June 30, 2017, total restricted cash
was $2,044,962, comprised of restricted cash (current portion)
totaling $1,481,626 and restricted cash, noncurrent totaling
$563,336. At December 31, 2016, total restricted cash
was $4,930,140, comprised of restricted cash (current portion)
totaling $3,347,835 and restricted cash, noncurrent totaling
$1,582,305
(See
“Note (10) Long-Term Debt, Net” for additional
disclosures related to our loan agreements with
Sovereign.)
Accounts Receivable and Allowance for
Doubtful Accounts
.
Our accounts receivable consists
of customer obligations due in the ordinary course of
business. Since we have a small number of customers with
individually large amounts due on any given date, we evaluate
potential and existing customers’ financial condition, credit
worthiness, and payment history to minimize credit risk. Allowance
for doubtful accounts is based on a combination of current sales
and specific identification methods. If necessary, we establish an
allowance for doubtful accounts to estimate the amount of probable
credit losses. Allowance for doubtful accounts totaled
$0 at June 30, 2017 and December 31, 2016.
Inventory
.
Our inventory primarily consists
of refined petroleum products, crude oil and condensate, and
chemicals. Inventory is valued at lower of cost or net
realizable value with cost being determined by the average cost
method, and net realizable value being determined based on
estimated selling prices less any associated delivery
costs. If the net realizable value of our refined
petroleum products inventory declines to an amount less than our
average cost, we record a write-down of inventory and an associated
adjustment to cost of refined products sold. (See
“Note (6) Inventory” for additional disclosures related
to our inventory.)
Property and
Equipment
.
Refinery and Facilities
. Management
expects to continue making improvements to the Nixon Facility based
on operational needs and technological
advances. Additions to refinery and facilities assets
are capitalized. Expenditures for repairs and maintenance are
expensed as incurred and included as operating expenses under the
Amended and Restated Operating Agreement.
We record refinery
and facilities at cost less any adjustments for depreciation or
impairment. Adjustment of the asset and the related
accumulated depreciation accounts are made for the refinery and
facilities asset’s retirement and disposal, with the
resulting gain or loss included in the consolidated statements of
operations. For financial reporting purposes,
depreciation of refinery and facilities assets is computed using
the straight-line method using an estimated useful life of 25 years
beginning when the refinery and facilities assets are placed in
service. We did not record any impairment of our
refinery and facilities assets for any period
presented.
Pipelines and Facilities
. Our pipelines
and facilities are recorded at cost less any adjustments for
depreciation or impairment. Depreciation is computed
using the straight-line method over estimated useful lives ranging
from 10 to 22 years. In accordance with Financial Accounting
Standards Board (“FASB”) ASC guidance on accounting for
the impairment or disposal of long-lived assets, management
performed periodic impairment testing of our pipeline and
facilities assets in the fourth quarter of 2016. Upon completion of
that testing, our pipeline assets were fully
impaired. All pipeline transportation services to
third-parties have ceased, existing third-party wells along our
pipeline corridor have been permanently abandoned, and no new
third-party wells are being drilled near our
pipelines. However, management believes our pipeline
assets have future value based on large-scale, third-party
production facility expansion projects near the
pipelines.
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BLUE DOLPHIN ENERGY
COMPANY
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|
FORM 10-Q
6/30/17
|
Notes to
Consolidated Financial Statements
(Continued)
Oil and Gas Properties
. Our oil and gas
properties are accounted for using the full-cost method of
accounting, whereby all costs associated with acquisition,
exploration and development of oil and gas properties, including
directly related internal costs, are capitalized on a cost center
basis. Amortization of such costs and estimated future
development costs are determined using the unit-of-production
method. All leases associated with our oil and gas properties have
expired, and our oil and gas properties were fully impaired in
2011.
Construction in Progress
. Construction
in progress expenditures, which relate to construction and
refurbishment activities at the Nixon Facility, are capitalized as
incurred. Depreciation begins once the asset is placed in
service.
(See “Note
(7) Property, Plant and Equipment, Net” for additional
disclosures related to our refinery and facilities assets, oil and
gas properties, pipelines and facilities assets, and construction
in progress.)
Intangibles – Other
.
Trade name, an intangible asset, represents the “Blue Dolphin
Energy Company” brand name. At June 30, 2017 and
December 31, 2016, trade name totaled $303,346. We have determined
the trade name to have an indefinite useful life. We account for
other intangible assets under FASB ASC guidance related to
intangibles, goodwill, and other. Under the guidance, we test
intangible assets with indefinite lives annually for impairment.
Management performed its regular annual impairment testing of trade
name in the fourth quarter of 2016. Upon completion of that
testing, we determined that no impairment was necessary at December
31, 2016.
Debt Issue Costs
. We have debt
issue costs related to certain refinery and facilities assets debt.
Debt issue costs are capitalized and amortized over the term of the
related debt using the straight-line method, which approximates the
effective interest method. Debt issue costs are presented net with
the related debt liability. (See “Note (10)
Long-Term Debt, Net” for additional disclosures related to
debt issue costs.)
Revenue
Recognition
.
Refined Petroleum Products Revenue
.
Revenue from the sale of refined petroleum products is recognized
when sales prices are fixed or determinable, collectability is
reasonably assured, and title passes. Title passage occurs when
refined petroleum products are delivered in accordance with the
terms of the respective sales agreements, and customers assume the
risk of loss when title is transferred. Transportation, shipping,
and handling costs incurred are included in cost of refined
products sold. Excise and other taxes that are collected from
customers and remitted to governmental authorities are not included
in revenue.
Tank Rental Revenue
. We lease petroleum
storage tanks to both related parties and
third-parties. Tank rental fees are invoiced monthly in
accordance with the terms of the related lease
agreement. Tank rental revenue is recognized on a
straight-line basis as earned.
Easement Revenue
. Revenue from land
easement fees was associated with a Master Easement Agreement
between BDPL and FLNG Land II, Inc., a Delaware corporation
(“FLNG”). Easement revenue was recognized
monthly as earned and was included in other income. In
February 2017, BDPL sold approximately 15 acres of certain property
owned by BDPL located in Brazoria County Texas to FLIQ Common
Facilities, LLC, an affiliate of FLNG. In conjunction
with the sale of real estate, the Master Easement Agreement was
terminated.
Pipeline Transportation Revenue
.
Revenue from our pipeline operations was derived from fee-based
contracts and was typically based on transportation fees per unit
of volume transported multiplied by the volume delivered. Revenue
was recognized when volumes were physically delivered for the
customer through the pipeline. All pipeline
transportation services to third-parties have ceased, existing
third-party wells along our pipeline corridor have been permanently
abandoned, and no new third-party wells are being drilled near our
pipelines. (See “Note (4) Business Segment
Information” for further discussion related to pipeline
transportation revenue.)
Deferred Revenue
. In 2014, we
recognized $850,000 in deferred revenue related to cash collateral
for supplemental pipeline bonds. Deferred revenue is
recognized on a straight-line basis as earned.
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BLUE DOLPHIN ENERGY
COMPANY
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|
FORM 10-Q
6/30/17
|
Notes to
Consolidated Financial Statements
(Continued)
Income Taxes
. We account for
income taxes under FASB ASC guidance related to income taxes, which
requires recognition of income taxes based on amounts payable with
respect to the Current Three Months and the effects of deferred
taxes for the expected future tax consequences of events that have
been included in our financial statements or tax
returns. Under this method, deferred tax assets and
liabilities are determined based on the differences between the
financial accounting and tax basis of assets and liabilities, as
well as for operating losses and tax credit carryforwards using
enacted tax rates in effect for the year in which the differences
are expected to reverse.
As of each
reporting date, management considers new evidence, both positive
and negative, to determine the realizability of deferred tax
assets. Management considers whether it is more likely
than not that a portion or all the deferred tax assets will be
realized, which is dependent upon the generation of future taxable
income prior to the expiration of any net operating loss
(“NOL”) carryforwards. When management
determines that it is more likely than not that a tax benefit will
not be realized, a valuation allowance is recorded to reduce
deferred tax assets. A significant piece of objective
negative evidence evaluated was the cumulative loss incurred over
the three-year period ended December 31, 2016. Such objective
evidence limits the ability to consider other subjective evidence,
such as our projections for future growth. Based on this
evaluation, we recorded a full valuation allowance against the
deferred tax assets as of December 31, 2016.
FASB ASC guidance
related to income taxes also prescribes a recognition threshold and
measurement attribute for the financial statement recognition and
measurement of a tax position taken or expected to be taken in a
tax return, as well as guidance on derecognition, classification,
interest and penalties, accounting in interim periods, disclosures,
and transition. (See “Note (15) Income
Taxes” for further information related to income
taxes.)
Impairment or Disposal of Long-Lived
Assets
. In accordance with FASB ASC guidance on accounting
for the impairment or disposal of long-lived assets, we
periodically evaluate our long-lived assets for impairment.
Additionally, we evaluate our long-lived assets when events or
circumstances indicate that the carrying value of these assets may
not be recoverable. The carrying value is not recoverable if it
exceeds the sum of the undiscounted cash flows expected to result
from the use and eventual disposition of the asset or group of
assets. If the carrying value exceeds the sum of the undiscounted
cash flows, an impairment loss equal to the amount by which the
carrying value exceeds the fair value of the asset or group of
assets is recognized. Significant management judgment is required
in the forecasting of future operating results that are used in the
preparation of projected cash flows and, should different
conditions prevail or judgments be made, material impairment
charges could be necessary.
Asset Retirement Obligations
.
FASB ASC guidance related to asset retirement obligations
(“AROs”) requires that a liability for the discounted
fair value of an ARO be recorded in the period in which it is
incurred and the corresponding cost capitalized by increasing the
carrying amount of the related long-lived asset. The liability is
accreted towards its future value each period, and the capitalized
cost is depreciated over the useful life of the related asset. If
the liability is settled for an amount other than the recorded
amount, a gain or loss is recognized.
Management has
concluded that there is no legal or contractual obligation to
dismantle or remove the refinery and facilities assets. Further,
management believes that these assets have indeterminate lives
under FASB ASC guidance for estimating AROs because dates or ranges
of dates upon which we would retire these assets cannot reasonably
be estimated at this time. When a legal or contractual obligation
to dismantle or remove the refinery and facilities assets arises
and a date or range of dates can reasonably be estimated for the
retirement of these assets, we will estimate the cost of performing
the retirement activities and record a liability for the fair value
of that cost using present value techniques.
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BLUE DOLPHIN ENERGY
COMPANY
|
|
FORM 10-Q
6/30/17
|
Notes to
Consolidated Financial Statements
(Continued)
We recorded an ARO
liability related to future asset retirement costs associated with
dismantling, relocating, or disposing of our offshore platform,
pipeline systems, and related onshore facilities, as well as for
plugging and abandoning wells and restoring land and sea beds. We
developed these cost estimates for each of our assets based upon
regulatory requirements, structural makeup, water depth, reservoir
characteristics, reservoir depth, equipment demand, current
retirement procedures, and construction and engineering
consultations. Because these costs typically extend many
years into the future, estimating future costs are difficult and
require management to make judgments that are subject to future
revisions based upon numerous factors, including changing
technology, political, and regulatory environments. We review our
assumptions and estimates of future abandonment costs on an annual
basis. (See “Note (11) Asset Retirement
Obligations” for additional information related to our
AROs.)
Computation of Earnings Per
Share
. We apply the provisions of FASB ASC guidance for
computing earnings per share (“EPS”). The guidance
requires the presentation of basic EPS, which excludes dilution and
is computed by dividing net income available to common stockholders
by the weighted-average number of shares of common stock
outstanding for the period. The guidance requires dual presentation
of basic EPS and diluted EPS on the face of our consolidated
statements of operations and requires a reconciliation of the
denominator of basic EPS and diluted EPS. Diluted EPS is computed
by dividing net income available to common stockholders by the
diluted weighted average number of common shares outstanding, which
includes the potential dilution that could occur if securities or
other contracts to issue shares of common stock were converted to
common stock that then shared in the earnings of the
entity.
The number of
shares related to options, warrants, restricted stock, and similar
instruments included in diluted EPS is based on the “Treasury
Stock Method” prescribed in FASB ASC guidance for computation
of EPS. This method assumes theoretical repurchase of shares using
proceeds of the respective stock option or warrant exercised, and,
for restricted stock, the amount of compensation cost attributed to
future services that has not yet been recognized and the amount of
any current and deferred tax benefit that would be credited to
additional paid-in-capital upon the vesting of the restricted
stock, at a price equal to the issuer’s average stock price
during the related earnings period. Accordingly, the number of
shares includable in the calculation of EPS in respect of the stock
options, warrants, restricted stock, and similar instruments is
dependent on this average stock price and will increase as the
average stock price increases. (See “Note (16)
Earnings Per Share” for additional information related to
EPS.)
Treasury Stock
. We accounted
for treasury stock under the cost method. In May 2017,
our treasury stock was re-issued. The net change in
share price after acquisition of the treasury stock was recognized
as a component of additional paid-in-capital in our consolidated
balance sheets. (See “Note (12) Treasury
Stock” for additional disclosures related to treasury
stock.)
New Pronouncements
Adopted
. The FASB issues an Accounting Standards
Update (“ASU”) to communicate changes to the FASB ASC,
including changes to non-authoritative SEC
content. Recently adopted ASUs include:
ASU 2016-18, Statement of Cash Flows
(Topic 230: Restricted Cash (a Consensus of the FASB Emerging
Issues Task Force
. In November 2016, FASB issued ASU
2016-18, which requires that a statement of cash flows explain the
change during the period in the total of cash, cash equivalents,
and amounts generally described as restricted cash or restricted
cash equivalents. We adopted this accounting pronouncement
effective December 31, 2016. Accordingly, our consolidated
statement of cash flows for the six months ended June 30, 2016 was
changed to combine restricted cash with cash and cash
equivalents.
ASU 2015-11,
Inventory (Topic 330):
Simplifying the Measurement of
Inventory
. In July 2015, FASB issued ASU 2015-11, which
requires an entity to measure inventory at the lower of cost or net
realizable value. We adopted this accounting
pronouncement effective January 1, 2017. The adoption of
ASU 2015-11 did not have a significant impact on our consolidated
financial statements.
|
BLUE DOLPHIN ENERGY
COMPANY
|
|
FORM 10-Q
6/30/17
|
Notes to
Consolidated Financial Statements
(Continued)
New Pronouncements Issued, Not Yet
Effective
. The following are recently issued, but not yet
effective, ASU’s that may influence our consolidated
financial position, results of operations, or cash
flows:
ASU 2017-04, Intangibles – Goodwill and
Other (Topic 350): Simplifying the Test for Goodwill
Impairment.
In January 2017, FASB issued ASU
2017-04. This guidance simplifies the subsequent
measurement of goodwill by eliminating Step 2 from the goodwill
impairment test. For public business entities that are
SEC filers, the amendments in ASU 2017-04 are effective for the
annual or any interim goodwill impairment tests in fiscal years
beginning after December 15, 2019. ASU 2017-04 should be
applied prospectively, and early adoption is permitted for interim
or annual goodwill impairment tests performed on testing dates
after January 1, 2017. We do not expect adoption of this
guidance to have a significant impact on our consolidated balance
sheets.
ASU 2016-13,
Financial Instruments — Credit Losses
(Topic 326): Measurement of Credit Losses on Financial
Instruments)
. In June 2016, FASB issued ASU
2016-13. This guidance updates the current impairment model to
incorporate both expected and incurred credit losses, eliminating
potential overstatements of assets and resulting in more timely
recognition of losses. For a public business entity, the amendments
in ASU 2016-13 are effective for fiscal years beginning after
December 15, 2019, including interim periods within those fiscal
years. Early application as of the fiscal years
beginning after December 15, 2018, including interim periods within
those fiscal years, is permitted. We are evaluating the impact that
adoption of this guidance will have on our consolidated financial
statements.
ASU 2016-02,
Leases (Topic 842)
. In February 2016,
FASB issued ASU 2016-02. This guidance increases transparency
and comparability among organizations by recognizing lease assets
and lease liabilities on the balance sheet and disclosing key
information about leasing arrangements. For a public
business entity, the amendments in ASU 2016-02 are effective for
fiscal years beginning after December 15, 2018, including interim
periods within those fiscal years. Early application is
permitted. We are evaluating the impact that adoption of this
guidance will have on our consolidated balance sheets.
ASU 2014-09, Revenue from Contracts with
Customers
. In May 2014, FASB issued ASU 2014-09
and has since amended the standard with ASU 2015-14
,
R
evenue from Contracts with Customers (Topic
606): Deferral of the Effective Date
;
ASU 2016-08,
Revenue from Contracts with Customers (Topic
606): Principal Versus Agent Considerations (Reporting Revenue
Gross Versus Net)
;
ASU 2016-10,
Revenue from Contracts with Customers (Topic
606): Identifying Performance Obligations and Licensing
; ASU
2016-11,
Revenue Recognition
(Topic 605) and Derivatives and Hedging (Topic 815): Rescission of
SEC Guidance Because of Accounting Standards Updates 2014-09 and
2014-16 Pursuant to Staff Announcements at the March 3, 2016 EITF
Meeting (SEC Update)
; ASU 2016-12,
Revenue from Contracts with Customers (Topic
606): Narrow-Scope Improvements and Practical
Expedients
; and ASU 2016-20,
Technical Corrections and Improvements to
Topic 606, Revenue from Contracts with
Customers
. These standards replace existing
revenue recognition rules with a single comprehensive model to use
in accounting for revenue arising from contracts with
customers. We are evaluating the impact that adoption of
these ASU’s will have on our consolidated financial
statements.
Other new
pronouncements issued but not yet effective are not expected to
have a material impact on our financial position, results of
operations, or liquidity.
Reclassification
. Effective
January 1, 2017, we reclassified amounts associated with our
Pipeline Transportation operations to Corporate and
Other. (See “Note (4) Business Segment
Information” for disclosures related to Corporate and
Other.)
|
BLUE DOLPHIN ENERGY
COMPANY
|
|
FORM 10-Q
6/30/17
|
Notes to
Consolidated Financial Statements
(Continued)
|
(4)
|
Business
Segment Information
|
Effective January
1, 2017, we began reporting as a single business segment –
Refinery Operations. Business activities related to our
Refinery Operations business segment are conducted at the Nixon
Facility. Due to their small size, current and prior
three months’ amounts associated with Pipeline Transportation
operations were reclassified to Corporate and Other. Pipeline
Transportation operations diminished significantly as services to
third-parties ceased and third-party wells along our pipeline
corridor were permanently abandoned. Business segment
information for the periods indicated (and as of the dates
indicated), was as follows:
|
|
Three Months Ended June 30,
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenue from
operations
|
$
57,336,331
|
$
-
|
$
57,336,331
|
$
42,017,773
|
$
24,687
|
$
42,042,460
|
|
Less: cost of
operations
(1)
|
(81,054,127
)
|
(395,628
)
|
(81,449,755
)
|
(45,534,109
)
|
(364,092
)
|
(45,898,201
)
|
|
Other non-interest
income
(2)
|
-
|
-
|
-
|
-
|
125,000
|
125,000
|
|
Less: JMA Profit
Share
(3)
|
-
|
-
|
-
|
(97,527
)
|
-
|
(97,527
)
|
|
EBITDA
(4)
|
$
(23,717,796)
|
$
(395,628
)
|
|
$
(3,613,863
)
|
$
(214,405
)
|
|
|
|
|
|
|
|
|
|
|
Depletion,
depreciation and
|
|
|
|
|
|
|
|
amortization
|
|
|
(449,318
)
|
|
|
(470,347
)
|
|
Interest expense,
net
|
|
|
(830,540
)
|
|
|
(398,462
)
|
|
|
|
|
|
|
|
|
|
Loss before income
taxes
|
|
|
(25,393,282
)
|
|
|
(4,697,077
)
|
|
|
|
|
|
|
|
|
|
Income tax
benefit
|
|
|
-
|
|
|
1,534,341
|
|
|
|
|
|
|
|
|
|
Net
loss
|
|
|
$
(25,393,282
)
|
|
|
$
(3,162,736
)
|
|
|
|
|
|
|
|
|
|
Capital
expenditures
|
$
858,233
|
$
-
|
$
858,233
|
$
4,920,507
|
$
-
|
$
4,920,507
|
|
|
|
|
|
|
|
|
|
Identifiable
assets
|
$
71,436,425
|
$
1,047,413
|
$
72,483,838
|
$
93,402,963
|
$
5,760,191
|
$
99,163,154
|
|
(1)
|
Operation cost
within the Refinery Operations segment includes related general and
administrative expenses. Operation cost within Corporate
and Other includes general and administrative expenses associated
with corporate maintenance costs (such as accounting fees, director
fees, and legal expense), as well as expenses associated with our
pipeline assets and oil and/or gas leasehold interests (such as
accretion and impairment expenses).
|
|
(2)
|
Other non-interest
income reflects FLNG easement revenue.
|
|
(3)
|
The JMA Profit
Share represents the GEL Profit Share plus the Performance Fee for
the period pursuant to the Joint Marketing Agreement, under which
marketing activities have ceased. (See “Note (18)
Commitments and Contingencies – Legal matters” for
further discussion related to the contract-related dispute with
GEL.)
|
|
(4)
|
EBITDA is a
non-GAAP financial measure. See “Part I, Item 2.
Management’s Discussion and Analysis of Financial Condition
and Results of Operations – Results of Operations –
Non-GAAP Financial Measures” for additional information
related to EBITDA.
|
|
BLUE DOLPHIN ENERGY
COMPANY
|
|
FORM 10-Q
6/30/17
|
Notes to
Consolidated Financial Statements
(Continued)
|
|
Six Months Ended June 30,
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenue from
operations
|
$
109,942,080
|
$
-
|
$
109,942,080
|
$
73,502,397
|
$
52,339
|
$
73,554,736
|
|
Less: cost of
operations
(1)
|
(136,249,888
)
|
(826,250
)
|
(137,076,138
)
|
(79,956,962
)
|
(710,995
)
|
(80,667,957
)
|
|
Other non-interest
income
(2)
|
-
|
-
|
-
|
-
|
255,665
|
255,665
|
|
Less: JMA Profit
Share
(3)
|
-
|
2,216,251
|
2,216,251
|
573,565
|
-
|
573,565
|
|
EBITDA
(4)
|
$
(26,307,808
)
|
$
1,390,001
|
|
$
(5,881,000
)
|
$
(402,991
)
|
|
|
|
|
|
|
|
|
|
|
Depletion,
depreciation and
|
|
|
|
|
|
|
|
amortization
|
|
|
(900,343
)
|
|
|
(910,800
)
|
|
Interest expense,
net
|
|
|
(1,425,082
)
|
|
|
(817,271
)
|
|
|
|
|
|
|
|
|
|
Loss before income
taxes
|
|
|
(27,243,232
)
|
|
|
(8,012,062
)
|
|
|
|
|
|
|
|
|
|
Income tax
benefit
|
|
|
-
|
|
|
2,700,242
|
|
|
|
|
|
|
|
|
|
Net
loss
|
|
|
$
(27,243,232
)
|
|
|
$
(5,311,820
)
|
|
|
|
|
|
|
|
|
|
Capital
expenditures
|
$
2,889,327
|
$
-
|
$
2,889,327
|
$
10,304,149
|
$
-
|
$
10,304,149
|
|
|
|
|
|
|
|
|
|
Identifiable
assets
|
$
71,436,425
|
$
1,047,413
|
$
72,483,838
|
$
93,402,963
|
$
5,760,191
|
$
99,163,154
|
|
(1)
|
Operation cost
within the Refinery Operations segment includes related general and
administrative expenses. Operation cost within Corporate
and Other includes general and administrative expenses associated
with corporate maintenance costs (such as accounting fees, director
fees, and legal expense), as well as expenses associated with our
pipeline assets and oil and/or gas leasehold interests (such as
accretion and impairment expenses).
|
|
(2)
|
Other non-interest
income reflects FLNG easement revenue.
|
|
(3)
|
The JMA Profit
Share represents the GEL Profit Share plus the Performance Fee for
the period pursuant to the Joint Marketing Agreement, under which
marketing activities have ceased. (See “Note (18)
Commitments and Contingencies – Legal matters” for
further discussion related to the contract-related dispute with
GEL.)
|
|
(4)
|
EBITDA is a
non-GAAP financial measure. See “Part I, Item 2.
Management’s Discussion and Analysis of Financial Condition
and Results of Operations – Results of Operations –
Non-GAAP Financial Measures” for additional information
related to EBITDA.
|
|
(5)
|
Prepaid
Expenses and Other Current Assets
|
Prepaid expenses
and other current assets as of the dates indicated consisted of the
following:
|
|
|
|
|
|
|
|
|
|
|
|
|
Prepaid
crude oil and condensate
|
$
732,078
|
$
-
|
|
Prepaid
insurance
|
371,230
|
248,853
|
|
Short-term
tax bond
|
-
|
505,000
|
|
Prepaid
exise taxes
|
-
|
292,338
|
|
|
|
|
|
|
$
1,103,308
|
$
1,046,191
|
|
BLUE DOLPHIN ENERGY
COMPANY
|
|
FORM 10-Q
6/30/17
|
Notes to
Consolidated Financial Statements
(Continued)
Inventory as of the
dates indicated consisted of the following:
|
|
|
|
|
|
|
|
|
|
|
|
|
HOBM
|
$
2,263,477
|
$
212,987
|
|
Crude
oil and condensate
|
878,339
|
26,123
|
|
Chemicals
|
299,860
|
182,751
|
|
AGO
|
238,742
|
143,362
|
|
Naphtha
|
136,584
|
533,580
|
|
Propane
|
14,212
|
11,318
|
|
Jet
fuel
|
10,977
|
964,124
|
|
LPG
mix
|
6,258
|
1,293
|
|
|
|
|
|
|
$
3,848,449
|
$
2,075,538
|
|
(7)
|
Property,
Plant and Equipment, Net
|
Property, plant and
equipment, net, as of the dates indicated consisted of the
following:
|
|
|
|
|
|
|
|
|
|
|
|
|
Refinery
and facilities
|
$
51,432,434
|
$
50,814,309
|
|
Land
|
566,159
|
602,938
|
|
Other
property and equipment
|
652,795
|
652,795
|
|
|
52,651,388 -
|
52,070,042
|
|
|
|
|
|
Less:
Accumulated depletion, depreciation, and amortization
|
(7,585,586
)
|
(6,685,244
)
|
|
|
45,065,802
|
45,384,798
|
|
|
|
|
|
Construction
in progress
|
19,247,645
|
16,939,665
|
|
|
|
|
|
|
$
64,313,447
|
$
62,324,463
|
We capitalize
interest cost incurred on funds used to construct property, plant,
and equipment. The capitalized interest is recorded as
part of the asset to which it relates and is depreciated over the
asset’s useful life. Interest cost capitalized was
$2,966,647 and $2,108,298 at June 30, 2017 and December 31, 2016,
respectively.
|
BLUE DOLPHIN ENERGY
COMPANY
|
|
FORM 10-Q
6/30/17
|
Notes to
Consolidated Financial Statements
(Continued)
|
(8)
|
Related
Party Transactions
|
We are party to
several agreements with related parties. We believe
these related party transactions were consummated on terms
equivalent to those that prevail in arm's-length
transactions.
Related Parties
.
LEH
. LEH is our controlling
shareholder. Jonathan Carroll, Chairman of the Board,
Chief Executive Officer, and President of Blue Dolphin, is the
majority owner of LEH. Together LEH and Jonathan Carroll
own approximately 81% of our Common Stock. We are
currently party to an Amended and Restated Operating Agreement, a
Jet Fuel Sales Agreement, a Loan and Security Agreement, and an
Amended and Restated Promissory Note with LEH.
Ingleside Crude, LLC
(“Ingleside”)
. Ingleside is a related
party of LEH and Jonathan Carroll. We are currently
party to an Amended and Restated Promissory Note with
Ingleside.
Lazarus Marine Terminal I, LLC
(“LMT”)
. LMT is a related party
of LEH and Jonathan Carroll. We are currently party to a
Tolling Agreement with LMT.
Jonathan Carroll
. Jonathan
Carroll is Chairman of the Board, Chief Executive Officer, and
President of Blue Dolphin. We are currently party to
Amended and Restated Guaranty Fee Agreements and an Amended and
Restated Promissory Note with Jonathan Carroll.
Operations Related
Agreements
.
Amended and Restated Operating
Agreement
. LEH operates and manages all our
properties pursuant to the Amended and Restated Operating
Agreement. The Amended and Restated Operating Agreement,
which was restructured following cessation of crude supply and
marketing activities under the Crude Supply Agreement and Joint
Marketing Agreement with GEL, expires: (i) April 1, 2020, (ii) upon
written notice of either party to the Amended and Restated
Operating Agreement of a material breach by the other party, or
(iii) upon 90 days’ notice by the Board if the Board
determines that the Amended and Restated Operating Agreement is not
in our best interest. We reimburse LEH at cost plus five percent
(5%) for all reasonable Blue Dolphin expenses incurred while LEH
performs the services. Amounts expensed as fees to
LEH are reflected within refinery operating expenses in our
consolidated statements of operations. Fees owed to LEH under the
Amended and Restated Operating Agreement, if any, are reflected
within long-term debt, related party, net of current portion in our
consolidated balance sheets.
Jet Fuel Sales Agreement
. We
sell jet fuel and other products to LEH pursuant to a Jet Fuel
Sales Agreement. LEH resells these products to a
government agency. In support of the Jet Fuel
Sales Agreement, we previously leased Nixon Facility petroleum
storage tanks to LEH for the storage of the jet fuel under a
Terminal Services Agreement (as described below). The
Jet Fuel Sales Agreement terminates on the earliest to occur of:
(a) a one-year term expiring March 31, 2018 plus a 30-day carryover
or (b) delivery of a maximum quantity of jet fuel as defined
therein. Sales to LEH under the Jet Fuel Sales Agreement
are reflected within refined petroleum product sales in our
consolidated statements of operations.
Terminal Services
Agreement
. Pursuant to a Terminal Services
Agreement, LEH leased petroleum storage tanks at the Nixon Facility
for the storage of Blue Dolphin purchased jet fuel under the Jet
Fuel Sales Agreement (as described above). The Terminal
Services Agreement was terminated in April 2017. Rental
fees received from LEH under the Terminal Services Agreement are
reflected within tank rental revenue in our consolidated statements
of operations.
Amended and Restated Tank Lease
Agreement
. Pursuant to an Amended and Restated
Tank Lease Agreement with Ingleside, we leased petroleum storage
tanks to meet periodic, additional storage needs. The Amended
and Restated Tank Lease Agreement was terminated in April 2017.
Rental fees owed to Ingleside under the tank lease agreement are
reflected within long-term debt, related party, net of current
portion in our consolidated balance sheets. Amounts expensed as
rental fees to Ingleside under the Amended and Restated Tank Lease
Agreement are reflected within refinery operating expenses in our
consolidated statements of operations.
|
BLUE DOLPHIN ENERGY
COMPANY
|
|
FORM 10-Q
6/30/17
|
Notes to
Consolidated Financial Statements
(Continued)
Tolling Agreement
. In May
2016, we entered a Tolling Agreement with LMT to facilitate loading
and unloading of our petroleum products by barge at LMT’s
dock facility in Ingleside, Texas. The Tolling Agreement
has a five-year term and may be terminated at any time by the
agreement of both parties. We pay LMT a flat monthly
reservation fee of $50,400. The monthly reservation fee
includes tolling volumes up to 84,000 gallons per
day. Tolling volumes totaling more than 210,000 gallons
per quarter are billed to us at $0.02 per
gallon. Amounts expensed as tolling fees to LMT under
the Tolling Agreement are reflected in cost of refined products
sold in our consolidated statements of operations.
Financial
Agreements
.
Loan and Security
Agreement
. In August 2016, BDPL entered a loan
and security agreement with LEH as evidenced by a promissory note
in the original principal amount of $4.0 million (the “LEH
Loan Agreement”). The LEH Loan Agreement matures
in August 2018, and accrues interest at rate of
16.00%. Under the LEH Loan Agreement, BDPL makes a
payment to LEH of $500,000 per year. A final balloon
payment is due at maturity.
The proceeds of the
LEH Loan Agreement were used for working capital. There
are no financial maintenance covenants associated with the LEH Loan
Agreement. The LEH Loan Agreement is secured by the BDPL
Property. Outstanding principal and interest less associated debt
issue costs owed to LEH under the LEH Loan Agreement are reflected
in long-term debt, related party, current portion and long-term
debt, related party, net of current portion in our consolidated
balance sheets.
Promissory Notes
. We
currently rely on LEH and its affiliates (including Jonathan
Carroll) to fund our working capital requirements. The
below promissory notes represent advances to fund our working
capital requirements. There can be no assurance that LEH and its
affiliates will continue to fund our working capital
requirements.
●
June LEH Note
– In March 2017,
Blue Dolphin entered a promissory note with LEH in the original
principal amount of $440,815 (the “March LEH
Note”). In June 2017, the March LEH Note was
amended and restated to increase the amount by $2,043,482 (the
“June LEH Note”). Interest under the June
LEH Note, which is compounded annually and accrued at a rate of
8.00%, was paid in kind and added to the outstanding
balance. The June LEH Note has a maturity date of
January 2019. Under the June LEH Note, prepayment, in
whole or in part, is permissible at any time and from time to time,
without premium or penalty. Outstanding principal and
interest owed to LEH under the June LEH Note are reflected in
long-term debt, related party, net of current portion in our
consolidated balance sheets. At June 30, 2017 and
December 31, 2016, the outstanding principal and interest owed to
LEH under a promissory note was $2,484,297 and $0,
respectively.
●
March Ingleside Note
– In March
2017, a promissory note between Blue Dolphin and Ingleside was
amended and restated (the “March Ingleside Note”) to
increase the principal amount by $473,445 and extend the maturity
date to January 2019. Interest under the March Ingleside Note,
which is compounded annually and accrued at a rate of 8.00%, was
paid in kind and added to the outstanding balance. Under
the March Ingleside Note, prepayment, in whole or in part, is
permissible at any time and from time to time, without premium or
penalty. Outstanding principal and interest owed to
Ingleside under the March Ingleside Note are reflected in long-term
debt, related party, net of current portion in our consolidated
balance sheets. At June 30, 2017 and December 31, 2016, the
outstanding principal and interest owed to Ingleside under the
March Ingleside Note was $1,143,803 and $722,278,
respectively.
●
March Carroll Note
– In March
2017, a promissory note between Blue Dolphin and Jonathan Carroll
was amended and restated (the “March Carroll Note”) to
increase the principal amount by $183,030, revise the payment terms
to reflect payment in cash and shares of Blue Dolphin Common Stock,
and extend the maturity date to January 2019. Interest
under the March Carroll Note, which is compounded annually and
accrued at a rate of 8.00%, was paid in kind and added to the
outstanding balance. Under the March Carroll Note,
prepayment, in whole or in part, is permissible at any time and
from time to time, without premium or
penalty. Outstanding principal and interest owed to
Jonathan Carroll under the March Carroll Note are reflected in
long-term debt, related party, net of current portion in our
consolidated balance sheets. At June 30, 2017 and December 31,
2016, the outstanding principal and interest owed to Jonathan
Carroll under the March Carroll Note was $112,272 and $592,412,
respectively.
|
BLUE DOLPHIN ENERGY
COMPANY
|
|
FORM 10-Q
6/30/17
|
Notes to
Consolidated Financial Statements
(Continued)
Amended and
Restated Guaranty Fee Agreements
. Pursuant to
Amended and Restated Guaranty Fee Agreements, Jonathan Carroll
receives fees for providing his personal guarantee on certain of
our long-term debt. Jonathan Carroll was required to
guarantee repayment of funds borrowed and interest accrued under
certain loan agreements. Amounts owed to Jonathan
Carroll under Amended and Restated Guaranty Fee Agreements are
reflected within long-term debt, related party, net of current
portion in our consolidated balance sheets. Amounts
expensed related to Amended and Restated Guarantee Fee Agreements
are reflected within interest and other expense in our consolidated
statements of operations. (See “Note (10)
Long-Term Debt, Net” for further discussion related to these
guaranty fee agreements.)
Financial Statements
Impact
.
Consolidated Balance
Sheets
. At June 30, 2017 and December 31, 2016,
accounts receivable, related party from LEH totaled $0 and
$1,161,589. Accounts payable, related party to LMT
associated with the Tolling Agreement was $672,000 and $369,600 at
June 30, 2017 and December 31, 2016,
respectively. Long-term debt, related party associated
with the LEH Loan Agreement, June LEH Note, March Ingleside Note,
and March Carroll Note as of the dates indicated was as
follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
LEH
|
$
6,484,297
|
$
4,000,000
|
|
Ingleside
|
1,143,803
|
722,278
|
|
Jonathan
Carroll
|
112,272
|
592,412
|
|
|
|
|
|
|
7,740,372
|
5,314,690
|
|
|
|
|
|
Less:
Long-term debt, related party,
|
|
|
|
current
portion
|
(500,000
)
|
(500,000
)
|
|
|
|
|
|
|
$
7,240,372
|
$
4,814,690
|
Accrued interest
associated with the LEH Loan Agreement was $565,333 and $243,556 at
June 30, 2017 and December 31, 2016, respectively. Accrued interest
associated with the LEH Loan Agreement is reflected in accounts
payable, related party. Accrued interest associated with
the June LEH Note, the March Ingleside Note, and the March Carroll
Note are reflected in long-term debt.
Consolidated Statements of
Operations
. Related party revenue from LEH
associated with:
|
|
Three Months Ended June 30,
|
Six Months Ended June 30,
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Jet
fuel sales
|
$
20,157,974
|
$
8,912,074
|
$
35,557,967
|
$
8,912,074
|
|
Jet
fuel storage fees
|
375,000
|
324,000
|
750,000
|
324,000
|
|
HOBM
sales
|
-
|
-
|
3,656,638
|
-
|
|
|
|
|
|
|
|
|
$
20,532,974
|
$
9,236,074
|
$
39,964,605
|
$
9,236,074
|
Related party cost
of goods sold associated with the Tolling Agreement with LMT
totaled $151,200 and $0 for the three months ended June 30, 2017
and 2016; related party cost of goods sold for the six months ended
June 30, 2017 and 2016 totaled $302,400 and $0.
|
BLUE DOLPHIN ENERGY
COMPANY
|
|
FORM 10-Q
6/30/17
|
Notes to
Consolidated Financial Statements
(Continued)
Related party
refinery operating expenses associated with the Amended and
Restated Operating Agreement with LEH and the Amended and Restated
Tank Lease Agreement with Ingleside for the periods indicated were
as follows:
|
|
Three Months Ended June 30,
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
LEH
|
$
1,651,663
|
$
1.53
|
$
2,427,748
|
$
3.42
|
|
Ingleside
|
-
|
-
|
450,000
|
0.63
|
|
|
|
|
|
|
|
|
$
1,651,663
|
$
1.53
|
$
2,877,748
|
$
4.05
|
|
|
Six Months Ended June 30,
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
LEH
|
$
4,464,766
|
$
2.14
|
$
5,589,763
|
$
2.95
|
|
Ingleside
|
-
|
-
|
725,000
|
0.38
|
|
|
|
|
|
|
|
|
$
4,464,766
|
$
2.14
|
$
6,314,763
|
$
3.33
|
Interest expense
associated with the LEH Loan Agreement and Amended and Restated
Guaranty Fee Agreements for the periods indicated was as
follows:
|
|
Three Months Ended June 30,
|
Six Months Ended June 30,
|
|
|
|
|
|
|
|
|
|
|
|
|
|
LEH
|
$
234,391
|
$
-
|
$
441,685
|
$
-
|
|
Jonathan
Carroll
|
166,270
|
174,243
|
334,095
|
350,631
|
|
|
|
|
|
|
|
|
$
400,661
|
$
174,243
|
$
775,780
|
$
350,631
|
|
BLUE DOLPHIN ENERGY
COMPANY
|
|
FORM 10-Q
6/30/17
|
Notes to
Consolidated Financial Statements
(Continued)
|
(9)
|
Accrued
Expenses and Other Current Liabilities
|
Accrued expenses
and other current liabilities as of the dates indicated consisted
of the following:
|
|
|
|
|
|
|
|
|
|
|
|
|
Unearned
revenue
|
$
911,983
|
$
408,770
|
|
Customer
deposits
|
450,000
|
450,000
|
|
Board
of director fees payable
|
171,429
|
136,429
|
|
Other
payable
|
108,247
|
189,719
|
|
Property
taxes
|
67,736
|
4,694
|
|
Excise
and income taxes payable
|
67,473
|
24,187
|
|
Insurance
|
28,398
|
67,783
|
|
|
$
1,805,266
|
$
1,281,582
|
Long-term debt, net
represents the outstanding principal and interest of our long-term
debt less associated debt issue costs. Long-term debt,
net as of the dates indicated consisted of the
following:
|
|
|
|
|
|
|
|
|
|
|
|
|
First
Term Loan Due 2034
|
$
23,551,966
|
$
23,924,607
|
|
Second
Term Loan Due 2034
|
9,607,032
|
9,729,853
|
|
Notre
Dame Debt
|
1,300,000
|
1,300,000
|
|
Term
Loan Due 2017
|
-
|
184,994
|
|
Capital
Leases
|
50,790
|
135,879
|
|
|
$
34,509,788
|
$
35,275,333
|
|
|
|
|
|
Less:
Current portion of long-term debt, net
|
(32,311,034
)
|
(31,712,336
)
|
|
|
|
|
|
Less:
Unamortized debt issue costs
|
(2,198,754
)
|
(2,262,997
)
|
|
|
|
|
|
|
$
-
|
$
1,300,000
|
|
BLUE DOLPHIN ENERGY
COMPANY
|
|
FORM 10-Q
6/30/17
|
Notes to
Consolidated Financial Statements
(Continued)
Unamortized debt
issue costs, which relate to secured loan agreements with
Sovereign, as of the dates indicated consisted of the
following:
|
|
|
|
|
|
|
|
|
|
|
|
|
First
Term Loan Due 2034
|
$
1,673,545
|
$
1,673,545
|
|
Second
Term Loan Due 2034
|
767,673
|
767,673
|
|
|
|
|
|
Less:
Accumulated amortization
|
(242,464
)
|
(178,221
)
|
|
|
|
|
|
|
$
2,198,754
|
$
2,262,997
|
Amortization
expense associated with our long-term debt, net, which is included
in interest expense, was $32,121 and $32,121 for the three months
ended June 30, 2017 and 2016, respectively. Amortization
expense was $64,242 and $63,990 for the six months ended June 30,
2017 and 2016, respectively.
Accrued interest
associated with our long-term debt, net is reflected as interest
payable, current portion and long-term interest payable, net of
current portion in our consolidated balance sheets and includes
related party interest. Accrued interest as of the dates
indicated consisted of the following:
|
|
|
|
|
|
|
|
|
|
|
|
|
Notre
Dame Debt
|
$
1,794,534
|
$
1,691,383
|
|
LEH
Loan Agreement (related party)
|
565,333
|
243,556
|
|
Second
Term Loan Due 2034
|
47,904
|
44,984
|
|
First
Term Loan Due 2034
|
36,135
|
33,866
|
|
Capital
Leases
|
423
|
1,165
|
|
Term
Loan Due 2017
|
-
|
185
|
|
|
|
|
|
|
2,444,329
|
2,015,139
|
|
|
|
|
|
Less:
Interest payable, current portion
|
(2,444,329
)
|
(323,756
)
|
|
|
|
|
|
|
$
-
|
$
1,691,383
|
Related Party
. See
“Note (8) Related Party Transactions” for additional
disclosures with respect to related party long-term
debt.
First Term Loan Due 2034
. In
2015, LE entered a loan agreement and related security
agreement
with
Sovereign as administrative agent and lender,
providing for a term loan in the
principal amount of $25.0 million
(the “First Term
Loan Due 2034”). The First Term Loan Due 2034
matures in June 2034, has a current monthly payment of principal
and interest of $195,329, and accrues interest at a rate based on
the Wall Street Journal Prime Rate plus 2.75%. Pursuant
to a construction rider in the First Term Loan Due 2034, proceeds
available for use were placed in a disbursement account whereby
Sovereign makes payments for construction related expenses. Amounts
held in the disbursement account are reflected as restricted cash
(current portion) and restricted cash, noncurrent in our
consolidated balance sheets.
|
BLUE DOLPHIN ENERGY
COMPANY
|
|
FORM 10-Q
6/30/17
|
Notes to
Consolidated Financial Statements
(Continued)
As
described elsewhere in this Quarterly Report, Sovereign has
notified us that the Final Arbitration Award constitutes an event
of default under the First Term Loan Due 2034. In addition to
existing or potential events of default related to the Final
Arbitration Award, at June 30, 2017, LE was in violation of the
debt service coverage ratio, the current ratio, and debt to net
worth ratio financial covenants related to the first Term Loan Due
2034. LE also failed to replenish a payment reserve account as
required. The occurrence of events of default under the First Term
Loan Due 2034 permits Sovereign to declare the amounts owed under
the First Term Loan Due 2034 immediately due and payable, exercise
its rights with respect to collateral securing LE’s
obligations under the loan agreement, and/or exercise any other
rights and remedies available. Sovereign waived the financial
covenant defaults as of June 30, 2017. Sovereign has informed us
that it is not currently exercising its rights, privileges and
remedies under the First Term Loan Due 2034 in light of the ongoing
settlement discussions with GEL and the continuance of the hearing
on confirmation of the Final Arbitration Award and to allow
Sovereign to evaluate any proposed settlement agreement related to
the Final Arbitration Award, which would require Sovereign’s
approval. However, Sovereign expressly reserved all of its rights,
privileges and remedies related to events of default under the
First Term Loan Due 2034 and informed us that it would consider a
final confirmation of the Final Arbitration Award to be a material
event of default under the loan agreement. Any exercise by
Sovereign of its rights and remedies under the First Term Loan Due
2034 would have a material adverse effect on our business,
financial condition and results of operations and likely would
require us to seek protection under bankruptcy laws. (See
“Note (1) Organization – Going Concern and Operating
Risks” and “Note (19) Subsequent Events” for
additional disclosures related to the First Term Loan Due 2034, the
Final Arbitration Award and financial covenant
violations.)
As a condition of
the First Term Loan Due 2034, Jonathan Carroll was required to
guarantee r
epayment
of funds borrowed and interest accrued under the
loan. For his personal guarantee, LE entered a Guaranty
Fee Agreement with Jonathan Carroll whereby he receives a fee equal
to 2.00% per annum, paid monthly, of the outstanding principal
balance owed under the First Term Loan Due
2034. Effective in April 2017, the Guaranty Fee
Agreement associated with the First Term Loan Due 2034 was amended
and restated to reflect payment in cash and shares of Blue Dolphin
Common Stock. For the three months ended June 30, 2017
and 2016, guaranty fees related to the First Term Loan Due 2034
totaled $118,080 and $121,739, respectively. For the six months
ended June 30, 2017 and 2016, guaranty fees related to the First
Term Loan Due 2034 totaled $237,071 and $244,372, respectively.
Guaranty fees are recognized monthly as incurred and are included
in interest and other expense in our consolidated statements of
operations. LEH, LRM and Blue Dolphin also guaranteed
the First Term Loan Due 2034. (See “Note (8)
Related Party Transactions” for additional disclosures
related to LEH and Jonathan Carroll; see “Note (19)
Subsequent Events” for further discussion related to guaranty
fee agreements.)
A portion of the
proceeds of the First Term Loan Due 2034 were used to refinance
approximately $8.5 million of debt owed under a previous debt
facility with American First National Bank. Remaining
proceeds are being used primarily to construct new petroleum
storage tanks at the Nixon Facility. The First Term Loan Due 2034
is secured by: (i) a first lien on all Nixon Facility business
assets (excluding accounts receivable and inventory), (ii)
assignment of all Nixon Facility contracts, permits, and licenses,
(iii) absolute assignment of Nixon Facility rents and leases,
including tank rental income, (iv) a $1.0 million payment reserve
account held by Sovereign, and (v) a pledge of $5.0 million of a
life insurance policy on Jonathan Carroll. The First
Term Loan Due 2034 contains representations and warranties,
affirmative, restrictive, and financial covenants, as well as
events of default which are customary for bank facilities of this
type.
Second Term Loan Due 2034
. In
2015, LRM entered a loan agreement and related security agreement
with Sovereign as administrative agent and lender, providing for a
term loan in the principal amount of $10.0 million (the
“Second Term Loan Due 2034”). The Second
Term Loan Due 2034 matures in December 2034, has a current monthly
payment of principal and interest of $74,111, and accrues interest
at a rate based on the Wall Street Journal Prime Rate plus
2.75%. Pursuant to a construction rider in the Second
Term Loan Due 2034, proceeds available for use were placed in a
disbursement account whereby Sovereign makes payments for
construction related expenses. Amounts held in the disbursement
account are reflected as restricted cash (current portion) and
restricted cash, noncurrent in our consolidated balance
sheets.
As
described elsewhere in this Quarterly Report, Sovereign has
notified us that the Final Arbitration Award constitutes an event
of default under the Second Term Loan Due 2034. In addition to
existing or potential events of default related to the Final
Arbitration Award, at June 30, 2017, LRM was in violation of the
debt service coverage ratio, the current ratio, and debt to net
worth ratio financial covenants related to the Second Term Loan Due
2034. The occurrence of events of default under the Second Term
Loan Due 2034 permits Sovereign to declare the amounts owed under
the Second Term Loan Due 2034 immediately due and payable, exercise
its rights with respect to collateral securing LRM’s
obligations under the loan agreement, and/or exercise any other
rights and remedies available. Sovereign waived the financial
covenant defaults as of June 30, 2017. Sovereign has informed us
that it is not currently exercising its rights, privileges and
remedies under the Second Term Loan Due 2034 in light of the
ongoing settlement discussions with GEL and the continuance of the
hearing on confirmation of the Final Arbitration Award and to allow
Sovereign to evaluate any proposed settlement agreement related to
the Final Arbitration Award, which would require Sovereign’s
approval. However, Sovereign expressly reserved all of its rights,
privileges and remedies related to events of default under the
Second Term Loan Due 2034 and informed us that it would consider a
final confirmation of the Final Arbitration Award to be a material
event of default under the loan agreement. Any exercise by
Sovereign of its rights and remedies under the Second Term Loan Due
2034 would have a material adverse effect on our business,
financial condition and results of operations and likely would
require us to seek protection under bankruptcy laws. (See
“Note (1) Organization – Going Concern and Operating
Risks” and “Note (19) Subsequent Events” for
additional disclosures related to the First Term Loan Due 2034, the
Final Arbitration Award and financial covenant
violations.)
|
BLUE DOLPHIN ENERGY
COMPANY
|
|
FORM 10-Q
6/30/17
|
Notes to
Consolidated Financial Statements
(Continued)
As a
condition of the Second Term Loan Due 2034, Jonathan Carroll was
required to guarantee repayment of funds borrowed and interest
accrued under the loan. For his personal guarantee, LRM entered a
Guaranty Fee Agreement with Jonathan Carroll whereby hereceives a
fee equal to 2.00% per annum, paid monthly, of the outstanding
principal balance owed under the Second Term Loan Due 2034.
Effective in April 2017, the Guaranty Fee Agreement associated with
the Second Term Loan Due 2034 was amended and restated to reflect
payment in cash and shares of Blue Dolphin Common Stock. For the
three months ended June 30, 2017 and 2016, guaranty fees related to
the Second Term Loan Due 2034 totaled $48,190 and $49,420,
respectively. For the six months ended June 30, 2017 and 2016,
guaranty fees related to the Second Term Loan Due 2034 totaled
$96,613 and $99,168, respectively. Guaranty fees are recognized
monthly as incurred and are included in interest and other expense
in our consolidated statements of operations. LEH, LE and Blue
Dolphin also guaranteed the Second Term Loan Due 2034. (See
“Note (8) Related Party Transactions” for additional
disclosures related to LEH and Jonathan Carroll.)
A portion of the
proceeds of the Second Term Loan Due 2034 were used to refinance a
previous bridge loan from Sovereign in the amount of $3.0
million. Remaining proceeds are being used primarily to
construct additional new petroleum storage tanks at the Nixon
Facility. The Second Term Loan Due 2034 is secured by: (i) a second
priority lien on the rights of LE in the Nixon Facility and the
other collateral of LE pursuant to a security agreement; (ii) a
first priority lien on the real property interests of LRM; (iii) a
first priority lien on all of LRM’s fixtures, furniture,
machinery and equipment; (iv) a first priority lien on all of
LRM’s contractual rights, general intangibles and
instruments, except with respect to LRM’s rights in its
leases of certain specified tanks, with respect to which Sovereign
has a second priority lien in such leases subordinate to a prior
lien granted by LRM to Sovereign to secure obligations of LRM under
the Term Loan Due 2017; and (v) all other collateral as described
in the security documents. The Second Term Loan Due 2034
contains representations and warranties, affirmative, restrictive,
and financial covenants, as well as events of default which are
customary for bank facilities of this type.
Notre Dame Debt
. LE entered a
loan with Notre Dame Investors, Inc. as evidenced by a promissory
note in the original principal amount of $8.0 million, which is
currently held by John Kissick (the “Notre Dame Debt”).
The Notre Dame Debt matures in January 2018, and accrues interest
at a rate of 16.00%.
The Notre Dame Debt
is secured by a Deed of Trust, Security Agreement and Financing
Statements (the “Subordinated Deed of Trust”), which
encumbers the Nixon Facility and general assets of
LE. There are no financial maintenance covenants
associated with the Notre Dame Debt. Pursuant to a
Subordination Agreement dated June 2015, the holder of the Notre
Dame Debt agreed to subordinate any security interest and liens on
the Nixon Facility, as well as its right to payments, in favor of
Sovereign as holder of the First Term Loan Due 2034.
Term Loan Due 2017
. LRM entered
a Loan and Security Agreement with Sovereign in 2014, for a term
loan facility in the principal amount of $2.0 million (the
“Term Loan Due 2017”). The Term Loan Due
2017 was amended in March 2015, pursuant to a Loan Modification
Agreement (the “March Loan Modification
Agreement”). Under the March Loan Modification
Agreement, the interest rate was modified to be the greater of the
Wall Street Journal Prime Rate plus 2.75% or 6.00%, and the due
date was extended to March 2017. Pursuant to the March
Loan Modification Agreement, the Term Loan Due 2017 had a monthly
principal payment of $61,665 plus interest. The Term Loan Due 2017
was paid off in March 2017.
As a condition of
the Term Loan Due 2017, Jonathan Carroll was required to guarantee
r
epayment
of funds
borrowed and interest accrued under the loan. For his
personal guarantee, LRM entered a Guaranty Fee Agreement with
Jonathan Carroll whereby he received a fee equal to 2.00% per
annum, paid monthly, of the outstanding principal balance owed
under the Term Loan Due 2017. Effective in April 2017,
the Guaranty Fee Agreement associated with the Term Loan Due 2017
was amended and restated to reflect payment in cash and shares of
Blue Dolphin Common Stock. (Guaranty Fee Agreements
associated with the First Term Loan Due 2034, Second Term Loan Due
2034, and Term Loan Due 2017 are collectively referred to in this
Quarterly Report as the “Amended and Restated Guaranty Fee
Agreements”). For the three months ended June 30,
2017 and 2016, guaranty fees related to the Term Loan Due 2017
totaled $0 and $3,083, respectively. For the six months ended June
30, 2017 and 2016, guaranty fees related to the Term Loan Due 2017
totaled $411 and $7,091, respectively. Guaranty fees are recognized
monthly as incurred and are included in interest and other expense
in our consolidated statements of operations.
|
BLUE DOLPHIN ENERGY
COMPANY
|
|
FORM 10-Q
6/30/17
|
Notes to
Consolidated Financial Statements
(Continued)
Capital Leases
. LRM entered a
36-month build-to-suit capital lease in August 2014 for the
purchase of new boiler equipment for the Nixon
Facility. The equipment, which was delivered in December
2014, was added to construction in progress. Once placed
in service, the equipment will be reclassified to refinery and
facilities and depreciation will begin. The capital lease, which
requires a quarterly payment in the amount of $44,258, is
guaranteed by Blue Dolphin.
A summary of
equipment held under long-term capital leases as of the dates
indicated follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
Boiler
equipment
|
$
538,598
|
$
538,598
|
|
Less:
accumulated depreciation
|
-
|
-
|
|
|
|
|
|
|
$
538,598
|
$
538,598
|
|
(11)
|
Asset
Retirement Obligations
|
Refinery and Facilities
.
Management has concluded that there is no legal or contractual
obligation to dismantle or remove the refinery and facilities
assets. Management believes that the refinery and facilities assets
have indeterminate lives under FASB ASC guidance for estimating
AROs because dates or ranges of dates upon which we would retire
these assets cannot reasonably be estimated at this time. When a
legal or contractual obligation to dismantle or remove the refinery
and facilities assets arises and a date or range of dates can
reasonably be estimated for the retirement of these assets, we will
estimate the cost of performing the retirement activities and
record a liability for the fair value of that cost using present
value techniques.
Pipelines and Facilities and Oil and
Gas Properties
. We have AROs associated with the
dismantlement and abandonment in place of our pipelines and
facilities assets, as well as the plugging and abandonment of our
oil and gas properties. We recorded a discounted
liability for the fair value of an ARO with a corresponding
increase to the carrying value of the related long-lived asset at
the time the asset was installed or placed in service. We
depreciate the amount added to property and equipment and recognize
accretion expense in connection with the discounted liability over
the remaining life of the asset. Plugging and abandonment costs are
recorded during the period incurred or as information becomes
available to substantiate actual and/or probable
costs.
Changes to our ARO
liability for the periods indicated were as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
Asset
retirement obligations, at the beginning of the period
|
$
2,027,639
|
$
1,985,864
|
|
Liabilities
settled
|
(442
)
|
(70,969
)
|
|
Accretion
expense
|
143,688
|
112,744
|
|
|
2,170,885
|
2,027,639
|
|
Less:
asset retirement obligations, current portion
|
(17,068
)
|
(17,510
)
|
|
|
|
|
|
Long-term
asset retirement obligations, at the end of the period
|
$
2,153,817
|
$
2,010,129
|
Liabilities settled
represents amounts paid for plugging and abandonment costs against
the asset’s ARO liability. At June 30, 2017 and
December 31, 2016, we recognized $442 and $70,969, respectively, in
liabilities settled. Abandonment expense represents amounts paid
for plugging and abandonment costs that exceed the asset’s
ARO liability. For the three and six months ended June
30, 2017 and 2016, we recognized $0 in abandonment
expense.
|
BLUE DOLPHIN ENERGY
COMPANY
|
|
FORM 10-Q
6/30/17
|
Notes to
Consolidated Financial Statements
(Continued)
At June 30, 2017
and December 31, 2016, we had 0 and 150,000 shares of treasury
stock, respectively. In May 2017, we issued 150,000
shares of treasury stock to Jonathan Carroll as payment of amounts
due under the March Carroll Note.
|
(13)
|
Concentration
of Risk
|
Bank Accounts
. Financial
instruments that potentially subject us to concentrations of risk
consist primarily of cash, trade receivables and payables. We
maintain our cash balances at financial institutions located in
Houston, Texas. In the U.S., the Federal Deposit Insurance
Corporation (the “FDIC”) insures certain financial
products up to a maximum of $250,000 per depositor. At
June 30, 2017 and December 31, 2016, we had cash balances
(including restricted cash) of more than the FDIC insurance limit
per depositor in the amount of $1,597,835 and $5,372,689,
respectively.
Key Supplier
.
We purchased light
crude oil and condensate for the Nixon Facility from GEL pursuant
to the Crude Supply Agreement. As discussed elsewhere in this
Quarterly Report, we ceased purchases of crude oil and condensate
from GEL under the Crude Supply Agreement in November 2016. (See
“Part I, Item 1 Financial Statements – Note (18)
Commitments and Contingencies – Legal Matters” in this
Quarterly Report for disclosures related to the Crude Supply
Agreement, the current contract-related dispute with GEL, and the
Final Arbitration Award.)
We currently have
in place a month-to-month evergreen crude supply contract with a
major integrated oil and gas company. This new supplier
currently provides us with adequate amounts of crude oil and
condensate, and we expect the supplier to continue to do so for the
foreseeable future. However, our ability to purchase
crude oil and condensate is dependent on our liquidity and access
to capital, which have been adversely affected by net losses,
working capital deficits, the contract-related dispute with GEL,
and financial covenant defaults in secured loan agreements.
The
Final Arbitration Award could have a material adverse effect on our
ability to procure adequate amounts and crude oil and condensate
from our current supplier or otherwise.
Significant Customers
. We
routinely assess the financial strength of our customers and have
not experienced significant write-downs in our accounts receivable
balances. Therefore, we believe that our accounts
receivable credit risk exposure is limited.
For the three
months ended June 30, 2017, we had 4 customers that accounted for
approximately 80% of our refined petroleum product sales. LEH, a
related party, was 1 of these 4 significant customers and accounted
for approximately 36% of our refined petroleum product
sales. At June 30, 2017, these 4 customers represented
approximately $0.3 million in accounts receivable. LEH
represented approximately $0 million in accounts
receivable.
For the three
months ended June 30, 2016, we had 4 customers that accounted for
approximately 71% of our refined petroleum product sales. LEH was
one of these 4 significant customers and accounted for
approximately 22% of our refined petroleum product
sales. At June 30, 2016, these 4 customers represented
approximately $6.2 million in accounts receivable.
For the six months
ended June 30, 2017, we had 3 customers that accounted for
approximately 76% of our refined petroleum product
sales. LEH was 1 of these 3 significant customers and
accounted for approximately 36% of our refined petroleum product
sales. At June 30, 2017, these 3 customers represented
approximately $0.1 million in accounts receivable. LEH
represented approximately $0 million in accounts
receivable.
|
BLUE DOLPHIN ENERGY
COMPANY
|
|
FORM 10-Q
6/30/17
|
Notes to
Consolidated Financial Statements
(Continued)
For the six months
ended June 30, 2016, we had 4 customers that accounted for
approximately 64% of our refined petroleum product
sales. LEH was one of these 4 significant customers and
accounted for approximately 12% of our refined petroleum product
sales. At June 30, 2016, these 4 customers represented
approximately $6.2 in accounts receivable. LEH
represented approximately $0 million in accounts receivable.
LEH
purchases our jet fuel and resells the jet fuel to a government
agency. Occasionally, LEH purchases HOBM to resell to
U.S.-based customers. (See “Note (8) Related
Party Transactions” for additional disclosures related to our
sale of jet fuel to LEH under the Jet Fuel Sales Agreement and the
associated storage of LEH’s purchased jet fuel under the
Terminal Services Agreement.)
Refined Petroleum Product
Sales
. Our refined petroleum products are primarily sold in
the U.S. However, with the opening of the Mexican diesel market to
private companies, we began exporting some of our low-sulfur diesel
to Mexico during the second quarter of 2016. Total
refined petroleum product sales by distillation (from light to
heavy) for the periods indicated consisted of the
following:
|
|
Three Months
Ended June 30,
|
Six Months Ended
June 30,
|
|
|
|
|
|
|
|
LPG
mix
|
$
-
|
0.0
%
|
$
133,757
|
0.3
%
|
$
120,542
|
0.1
%
|
$
384,304
|
0.8
%
|
|
Naphtha
|
13,253,969
|
23.4
%
|
7,287,804
|
17.6
%
|
27,016,913
|
24.9
%
|
16,313,325
|
28.9
%
|
|
Jet
fuel
|
20,157,974
|
35.6
%
|
17,539,473
|
42.4
%
|
35,557,968
|
32.8
%
|
26,045,786
|
27.3
%
|
|
HOBM
|
10,883,053
|
19.2
%
|
7,889,499
|
19.1
%
|
21,568,793
|
19.9
%
|
11,052,994
|
10.1
%
|
|
Reduced
Crude
|
-
|
0.0
%
|
546,112
|
1.3
%
|
-
|
0.0
%
|
3,791,919
|
10.4
%
|
|
AGO
|
12,337,624
|
21.8
%
|
8,005,641
|
19.3
%
|
24,270,442
|
22.3
%
|
15,007,095
|
22.5
%
|
|
|
|
|
|
|
|
|
|
|
|
|
$
56,632,620
|
100.0
%
|
$
41,402,286
|
100.0
%
|
$
108,534,658
|
100.0
%
|
$
72,595,423
|
100.0
%
|
Our company
headquarters is in downtown Houston, Texas. We lease
13,878 square feet of office space, 7,389 square feet of which is
used and paid for by LEH. The office lease had a 10-year term
expiring in September 2017, but we extended the lease until
December 2017. We are currently exploring our leasing
options. Rent expense is recognized on a straight-line
basis. For the three months ended June 30, 2017 and
2016, rent expense totaled $45,092 and $29,857,
respectively. For the six months ended June 30, 2017 and
2016, rent expense totaled $76,173 and $59,715,
respectively.
Income Tax
Benefit
. For the three months ended June 30, 2017
and 2016, we recognized an income tax benefit of $0 and $1,534,341,
respectively. For the six months ended June 30, 2017 and 2016, we
recognized an income tax benefit of $0 and $2,700,242,
respectively.
Deferred Income
Taxes
. Deferred income tax balances reflect the
effects of temporary differences between the carrying amounts of
assets and liabilities and their tax basis, as well as from NOL
carryforwards. We state those balances at the enacted
tax rates we expect will be in effect when taxes are
paid. NOL carryforwards and deferred tax assets
represent amounts available to reduce future taxable
income.
|
BLUE DOLPHIN ENERGY
COMPANY
|
|
FORM 10-Q
6/30/17
|
Notes to
Consolidated Financial Statements
(Continued)
NOL Carryforwards
. Under
Section 382 of the Internal Revenue Code of 1986, as amended
(“IRC Section 382”), a corporation that undergoes an
“ownership change” is subject to limitations on its use
of pre-change NOL carryforwards to offset future taxable income.
Within the meaning of IRC Section 382, an “ownership
change” occurs when the aggregate stock ownership of certain
stockholders (generally 5% shareholders, applying certain
look-through rules) increases by more than 50 percentage points
over such stockholders' lowest percentage ownership during the
testing period (generally three years). For income tax purposes, we
experienced ownership changes in 2005, in connection with a series
of private placements, and in 2012, as a result of a reverse
acquisition, that limit the use of pre-change NOL carryforwards to
offset future taxable income. In general, the annual use
limitation equals the aggregate value of common stock at the time
of the ownership change multiplied by a specified tax-exempt
interest rate. The 2012 ownership change will subject approximately
$16.3 million in NOL carryforwards that were generated prior to the
ownership change to an annual use limitation of $638,196 per
year. Unused portions of the annual use limitation
amount may be used in subsequent years. As a result of
the annual use limitation, approximately $6.7 million in NOL
carryforwards that were generated prior to the 2012 ownership
change will expire unused. NOL carryforwards that were
generated after the 2012 ownership change are not subject to an
annual use limitation under IRC Section 382 and may be used for a
period of 20 years in addition to available amounts of NOL
carryforwards generated prior to the ownership change.
NOL carryforwards
that remained available for future use for the periods indicated
were as follow (amounts shown are net of NOLs that will expire
unused because of the IRC Section 382 limitation):
|
|
Net Operating
Loss Carryforward
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance
at December 31, 2015
|
$
9,614,449
|
$
9,616,941
|
$
19,231,390
|
|
|
|
|
|
|
Net
operating losses
|
-
|
13,945,128
|
13,945,128
|
|
|
|
|
|
|
Balance
at December 31, 2016
|
$
9,614,449
|
$
23,562,069
|
$
33,176,518
|
|
|
|
|
|
|
Net
operating losses
|
-
|
9,477,523
|
9,477,523
|
|
|
|
|
|
|
Balance
at June 30, 2017
|
$
9,614,449
|
$
33,039,592
|
$
42,654,041
|
|
BLUE DOLPHIN ENERGY
COMPANY
|
|
FORM 10-Q
6/30/17
|
Notes to
Consolidated Financial Statements
(Continued)
Deferred Tax Assets and
Liabilities
. At June 30, 2017 and December 31,
2016, we had $0 of net deferred tax assets available for future
use. Significant components of deferred tax assets and
liabilities as of the dates indicated were as follow:
|
|
|
|
|
|
|
|
|
|
|
|
|
Deferred
tax assets:
|
|
|
|
Net
operating loss and capital loss carryforwards
|
$
16,772,696
|
$
13,550,338
|
|
Accrued
arbitration award payable
|
6,674,017
|
-
|
|
Start-up
costs (Nixon Facility)
|
1,304,695
|
1,373,363
|
|
Asset
retirement obligations liability/deferred revenue
|
759,366
|
717,751
|
|
AMT
credit and other
|
233,572
|
266,522
|
|
Total
deferred tax assets
|
25,744,346
|
15,907,974
|
|
|
|
|
|
Deferred
tax liabilities:
|
|
|
|
Basis
differences in property and equipment
|
(6,469,616
)
|
(5,895,943
)
|
|
Total
deferred tax liabilities
|
(6,469,616
)
|
(5,895,943
)
|
|
|
|
|
|
|
19,274,730
|
10,012,031
|
|
|
|
|
|
Valuation
allowance
|
(19,274,730
)
|
(10,012,031
)
|
|
|
|
|
|
Deferred
tax assets, net
|
$
-
|
$
-
|
Valuation Allowance
. As of each
reporting date, management considers new evidence, both positive
and negative, to determine the realizability of deferred tax
assets. Management considers whether it is more likely
than not that some portion or all the deferred tax assets will be
realized, which is dependent upon the generation of future taxable
income prior to the expiration of any NOL carryforwards. At June
30, 2017 and December 31, 2016, management determined that
cumulative losses incurred over the prior three-year period
provided significant objective evidence that limited the ability to
consider other subjective evidence, such as projections for future
growth. Based on this evaluation, we recorded a full valuation
allowance against the deferred tax assets as of June 30, 2017 and
December 31, 2016.
|
BLUE DOLPHIN ENERGY
COMPANY
|
|
FORM 10-Q
6/30/17
|
Notes to
Consolidated Financial Statements
(Continued)
Uncertain Tax Positions
. We
adopted the provisions of the FASB ASC guidance on accounting for
uncertainty in income taxes. The guidance clarifies the accounting
for uncertainty in income taxes recognized in an enterprise’s
financial statements. The guidance also prescribes a recognition
threshold and measurement attribute for the financial statement
recognition and measurement of a tax position taken or expected to
be taken in a tax return. The standard also provides guidance on
de-recognition, classification, interest and penalties, accounting
in interim periods, disclosure and transition.
As part of this
guidance, we record income tax related interest and penalties, if
applicable, as a component of the provision for income tax benefit
(expense). However, there were no amounts recognized relating to
interest and penalties in the consolidated statements of operations
for the three and six months ended June 30, 2017 and 2016. Our
federal income tax returns are subject to examination by the
Internal Revenue Service for tax years ending December 31, 2013, or
after and by the state of Texas for tax years ending December 31,
2012, or after. We believe there are no uncertain tax
positions for both federal and state income taxes.
A reconciliation
between basic and diluted income per share for the periods
indicated was as follows:
|
|
Three Months Ended June 30,
|
Six Months Ended June 30,
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
loss
|
$
(25,393,282
)
|
$
(3,162,736
)
|
$
(27,243,232
)
|
$
(5,311,820
)
|
|
|
|
|
|
|
|
Basic
and diluted income per share
|
$
(2.39
)
|
$
(0.30
)
|
$
(2.58
)
|
$
(0.51
)
|
|
|
|
|
|
|
|
Basic
and Diluted
|
|
|
|
|
|
Weighted
average number of shares of
|
|
|
|
|
|
common
stock outstanding and potential
|
|
|
|
|
|
dilutive
shares of common stock
|
10,637,101
|
10,459,996
|
10,556,356
|
10,458,895
|
Diluted EPS is
computed by dividing net income available to common stockholders by
the weighted average number of shares of common stock
outstanding. Diluted EPS for the three and six months
ended June 30, 2017 and 2016 was the same as basic EPS as there
were no stock options or other dilutive instruments
outstanding.
|
(17)
|
Inventory
Risk Management
|
We began selling
all of our jet fuel to LEH immediately following production, which
minimizes inventory, improves cash flow, and reduces commodity
risk. Previously, Genesis/GEL used commodity futures
contracts to mitigate the volatile change in value for certain of
our refined petroleum products inventory.
The following table
provides the effect of derivative instruments in our consolidated
statements of operations for the three and six months ended June
30, 2017 and 2016:
|
|
|
|
|
|
|
|
|
Three Months Ended June 30,
|
Six Months Ended June 30,
|
|
Derivatives
|
|
Statements
of Operations Location
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commodity
contracts
|
|
Cost
of refined products sold
|
$
-
|
$
3,852,100
|
$
-
|
$
3,359,572
|
When active, the
fair value of commodity futures contracts was reflected in our
consolidated balance sheets and the related net gain or loss was
recorded within cost of refined products sold in our consolidated
statements of operations. Quoted prices for identical assets or
liabilities in active markets (Level 1) were considered to
determine the fair values for marking to market the financial
instruments at each period end. Commodity transactions
were executed to minimize transaction costs, monitor consolidated
net exposures, and allow for increased responsiveness to changes in
market factors.
|
BLUE DOLPHIN ENERGY
COMPANY
|
|
FORM 10-Q
6/30/17
|
Notes to
Consolidated Financial Statements
(Continued)
At June 30, 2017,
we had no futures contracts of refined petroleum products and crude
oil and condensate that were entered as economic
hedges. We also had no derivative instruments that were
reported in our consolidated balance sheets at June 30, 2017 and
December 31, 2016.
The following table
provides the effect of derivative instruments in our consolidated
statements of operations for the three and six months ended June
30, 2017 and 2016:
|
|
|
|
|
|
|
|
|
Three Months Ended June 30,
|
Six Months Ended June 30,
|
|
Derivatives
|
|
Statements
of Operations Location
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Commodity
contracts
|
|
Cost
of refined products sold
|
$
-
|
$
3,852,100
|
$
-
|
$
3,359,572
|
|
(18)
|
Commitments
and Contingencies
|
Legal Matters
.
GEL Contract-Related Dispute and Final
Arbitration Award.
As described elsewhere in this
Quarterly Report, we were party to a variety of agreements with
Genesis and GEL for the purchase of crude oil and condensate,
transportation of crude oil and condensate, and other
services.
In May 2016, GEL
filed, in state district court in Harris County, Texas, a petition
and application for a temporary restraining order, temporary
injunction, and permanent injunction (the “Petition”)
against LE and LEH. The Petition alleged that LE
breached the Joint Marketing Agreement, and that LEH tortiously
interfered with the Joint Marketing Agreement, in connection with
an agreement by LEH to supply jet fuel acquired from LE to a
government agency. The Petition primarily sought
temporary and permanent injunctions related to sales of product
from the Nixon Facility to this customer. In June 2016,
the court issued a temporary injunction against LE and LEH as
requested by GEL.
In a matter
separate from the above referenced Petition, LE asserted that GEL
materially breached the parties’ agreements in April 2016 by
refusing to deliver our operational requirements of crude oil for
an extended period. LE filed a demand for arbitration in
June 2016, pursuant to the terms of a Dispute Resolution Agreement
between the parties. The GEL Arbitration alleged that GEL breached
the Crude Supply Agreement by:
(i)
overcharging for
crude oil and condensate based on Genesis’ cost as defined in
the Crude Supply Agreement,
(ii)
overcharging for
trucking costs, and
(iii)
significantly
under-delivering crude oil and condensate, resulting in significant
refinery downtime and significant decreases in refinery throughput,
refinery production, and refined petroleum product sales during
2016.
GEL made counter
claims in the GEL Arbitration with allegations against LE like
those made in the Petition. GEL sought substantial damages,
as well as recovery of attorneys’ fee and costs, totaling
approximately $44.0 million in the aggregate, based on allegations
of breach of contract, fraudulent transfer and unjust
enrichment.
Arbitration
proceedings commenced in May 2017 and were declared closed in July
2017.
|
BLUE DOLPHIN ENERGY
COMPANY
|
|
FORM 10-Q
6/30/17
|
Notes to
Consolidated Financial Statements
(Continued)
On
August 11, 2017, the arbitrator delivered the Final Arbitration
Award. The Final Arbitration Award denied all of LE’s claims
against GEL and granted substantially all of the relief requested
by GEL in its counterclaims. Among other matters, the Final
Arbitration Award:
●
determined that LE
materially breached the Crude Supply Agreement and the Joint
Marketing Agreement;
●
determined that
LE’s sales of jet fuel to LEH in connection with LEH’s
supplying such jet fuel to a government agency was a fraudulent
transfer under applicable law;
●
denied LE’s
request to dissolve the temporary injunction and awarded to GEL
certain funds held with the court related to the temporary
injunction;
●
denied all other
claims made by LE; and
●
awarded damages,
legal and administrative fees and court costs to GEL in the
aggregate amount of approximately $31.3 million, with such amounts
to bear interest at a rate of 5.0% per annum until paid in
full.
A
hearing on confirmation of the Final Arbitration Award was
scheduled to occur on September 18, 2017 in state district court in
Harris County, Texas. Prior to the scheduled hearing, LE and GEL
jointly notified the court of the Continuance Period to facilitate
settlement discussions between the parties.
On September 26, 2017, LE and
Blue Dolphin, together with LEH and Jonathan Carroll, entered into
the GEL Letter Agreement, confirming the parties’ agreement
to the continuation of the confirmation hearing during the
Continuance Period, subject to the terms of the GEL Letter
Agreement. The GEL Letter Agreement includes the following key
terms, among others:
●
the parties agreed
to work together in good faith during the Continuance Period to
negotiate and document the terms of a settlement and payment
structure to resolve all of their disputes and obligations,
including those related to and arising from the Final Arbitration
Award;
●
LE agreed to pay
GEL approximately $3.6 million, consisting of a cash payment and
release of certain funds held in the court’s registry, which
amount will be applied to reduce the balance of the Final
Arbitration Award release;
●
we waived all
objections to confirmation of the Final Arbitration Award, but GEL
agreed that it would not take any action to confirm, enforce,
collect, execute upon, perfect or exercise any remedies regarding
that waiver or the Final Award prior to the earlier of (i) the
expiration of the Continuance Period without the parties’
agreeing to a settlement and (ii) termination of the GEL Letter
Agreement;
●
we agreed that,
without GEL’s consent, we would not, subject to certain
agreed-upon exceptions: (i) incur debt, (ii) create liens on our
assets, (iii) sell, lease or otherwise transfer assets outside the
ordinary course of business, (iv) engage in transactions with
affiliates or amend the terms of existing affiliate transactions,
(v) become party to bankruptcy, reorganization, liquidation or
similar proceedings, (vi) make investments in, acquire material
assets of or merge or consolidate with any other entity, (vii)
allow changes to our equity ownership structures, or (viii) amend
our debt instruments or organizational documents; and
●
GEL may terminate
the Letter Agreement on the 45
th
day of the
Continuance Period, or November 1, 2017, if it determines, in its
sole discretion, that settlement discussions between the parties
are not advancing to an acceptable resolution.
As
described elsewhere in this Quarterly Report, Sovereign has
notified us that the Final Arbitration Award constitutes an event
of default under our secured loan agreements with Sovereign. The
occurrence of events of default under the secured loan agreements
permits Sovereign to declare the amounts owed under these loan
agreements immediately due and payable, exercise its rights with
respect to collateral securing our obligations under these loan
agreements, and/or exercise any other rights and remedies
available. Sovereign has informed us that it is not currently
exercising its rights, privileges and remedies under the secured
loan agreements in light of the ongoing settlement discussions with
GEL and the continuance of the hearing on confirmation of the Final
Arbitration Award and to allow Sovereign to evaluate any proposed
settlement agreement related to the Final Arbitration Award, which
would require Sovereign’s approval. However, Sovereign
expressly reserved all of its rights, privileges and remedies
related to events of default under the secured loan agreements and
informed us that it would consider a final confirmation of the
Final Arbitration Award to be a material event of default under the
loan agreements. Any exercise by Sovereign of its rights and
remedies under the secured loan agreements would have a material
adverse effect on our business, financial condition and results of
operations and likely would require us to seek protection under
bankruptcy laws. The debt associated with loans under our secured
loan agreements was classified within the current portion of
long-term debt on our consolidated balance sheet at June 30, 2017
due to existing or potential events of default related to the Final
Arbitration Award as well as the uncertainty of our ability to meet
financial covenants in the secured loan agreements in the
future.
We are
currently evaluating the effects of the Final Arbitration Award on
our business, financial condition and results of operations. In
addition to the matters described above, the Final Arbitration
Award could materially and adversely affect our ability to procure
adequate amounts of crude oil and condensate or our relationships
with our customers. The contract-related dispute has negatively
affected our customer relationships, prevented us from taking
advantage of business opportunities, disrupted refinery operations,
diverted management’s focus away from running the business,
and impacted our ability to obtain financing.
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BLUE DOLPHIN ENERGY
COMPANY
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|
FORM 10-Q
6/30/17
|
Notes to
Consolidated Financial Statements
(Continued)
We can
provide no assurance as to whether negotiations with GEL will
result in a settlement or as to the potential terms of any such
settlement or whether Sovereign would approve any such settlement.
If we are unable to reach an acceptable settlement with GEL or
Sovereign does not approve any such settlement and GEL seeks to
confirm and enforce the Final Arbitration Award, our business,
financial condition and results of operations will be materially
adversely affected and we likely would be required to seek
protection under bankruptcy laws.
Other Legal Matters
. From
time to time we are involved in routine lawsuits, claims, and
proceedings incidental to the conduct of our business, including
mechanic’s liens and administrative
proceedings. Management does not believe that such
matters will have a material adverse effect on our financial
position, earnings, or cash flows.
Amended and Restated Operating
Agreement
. See “Note (8) Related Party
Transactions” for additional disclosures related to the
Amended and Restated Operating Agreement.
Financing Agreements
. (See
“Note (10) Long-Term Debt, Net” for additional
disclosures related to financing agreements.)
Health, Safety and Environmental
Matters
. All our operations and properties are subject to
extensive federal, state, and local environmental, health, and
safety regulations governing, among other things, the generation,
storage, handling, use and transportation of petroleum and
hazardous substances; the emission and discharge of materials into
the environment; waste management; characteristics and composition
of jet fuel and other products; and the monitoring, reporting and
control of greenhouse gas emissions. Our operations also require
numerous permits and authorizations under various environmental,
health, and safety laws and regulations. Failure to obtain and
comply with these permits or environmental, health, or safety laws
generally could result in fines, penalties or other sanctions, or a
revocation of our permits.
Nixon Facility Expansion
. We
have made and continue to make capital and efficiency improvements
to the Nixon Facility. Therefore, we incurred and will continue to
incur capital expenditures related to these improvements, which
include, among other things, facility and land improvements and
completion of petroleum storage tanks.
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BLUE DOLPHIN ENERGY
COMPANY
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|
FORM 10-Q
6/30/17
|
Notes to
Consolidated Financial Statements
(Continued)
Supplemental Pipeline Bonds
. In
August 2015, we received a letter from the Bureau of Ocean Energy
Management (the “BOEM”) requiring additional
supplemental bonds or acceptable financial assurance of
approximately $4.2 million for existing pipeline rights-of-way. In
July 2016, the BOEM issued Notice to Lessees (“NTL”)
No. 2016-N01 (Requiring Additional Security), which changes the way
that lessees and rights-of-way holders demonstrate financial
strength and reliability to plug and abandon wells, as well as
decommission and remove platforms and pipelines at the end of
production or service activities. The NTL, which changed an earlier
supplemental waiver process to a self-insurance model, became
effective in September 2016. Pursuant to the NTL, the BOEM
requested that lessees submit any relevant information needed for
an overall financial review of the lessees account. The
BOEM indicated that it would use this information to evaluate a
lessees’ ability to carry out its obligations and determine
whether, and/or how much self-insurance a lessee can
use.
In October 2016, we
received a letter from the BOEM summarizing the amount required as
additional security on our existing pipeline
rights-of-way. The letter, which is a courtesy and does
not constitute a formal order by the BOEM, requested that we
provide additional supplemental pipeline bonds or acceptable
financial reassurance of approximately $4.6 million. At
June 30, 2017 and December 31, 2016, we maintained approximately
$0.9 million in credit and cash-backed pipeline rights-of-way bonds
issued to the BOEM. Of the five (5) pipeline
rights-of-ways reflected in the BOEM’s October 2016
letter:
(i)
the pipeline
associated with one (1) right-of-way was decommissioned in 1997,
and
(ii)
the pipelines
associated with three (3) rights-of-way (Segment Nos. 15635, 13101,
and 9428) have been approved for decommissioning by the Bureau of
Safety and Environmental Enforcement (the “BSEE”);
decommissioning of Segment No. 9428 also requires approval by the
U.S. Army Corps of Engineers, which has not yet been
granted.
There
can be no assurance that the BOEM will accept a reduced amount of
supplemental financial assurance or not require additional
supplemental pipeline bonds related to our existing pipeline
rights-of-way. If we are required by the BOEM to provide
significant additional supplemental bonds or acceptable financial
assurance, we may experience a significant and material adverse
effect on our operations, liquidity, and financial
condition.
Final Award in GEL Arbitration
. On August 11, 2017, the
arbitrator delivered the Final Arbitration Award in the GEL
Arbitration. The Final Arbitration Award denied all of LE’s
claims against GEL and granted substantially all of the relief
requested by GEL in its counterclaims. Among other matters, the
Final Arbitration Award awarded damages, legal and administrative
fees and court costs to GEL in the aggregate amount of
approximately $31.3 million.
This resulted in a
net increase in current liabilities of approximately $24.3 million
on our consolidated balance sheet at June 30, 2017.
A
hearing on confirmation of the Final Arbitration Award was
scheduled to occur on September 18, 2017 in state district court in
Harris County, Texas. Prior to the scheduled hearing, LE and GEL
jointly notified the court of the Continuance Period to facilitate
settlement discussions between the parties. On September 26, 2017,
LE and Blue Dolphin, together with LEH and Jonathan Carroll,
entered into the GEL Letter Agreement, confirming the
parties’ agreement to the continuation of the confirmation
hearing during the Continuance Period, subject to the terms of the
GEL Letter Agreement. GEL may terminate the GEL Letter Agreement on
the 45
th
day of the Continuance Period, or November 1, 2017, if GEL
determines, in its sole discretion, that settlement discussions
between the parties are not advancing to an acceptable
resolution.
If we are unable to
reach an acceptable settlement with Genesis and GEL and GEL seeks
to confirm and enforce the Final Arbitration Award, our business,
financial condition and results of operations will be materially
adversely affected and we likely would be required to seek
protection under bankruptcy laws.
In
addition to the matters described above and below under
“Defaults Under Secured Loan Agreements,” the Final
Arbitration Award could materially and adversely affect our ability
to procure adequate amounts of crude oil and condensate and our
relationships with our customers.
For additional
information regarding the Final Arbitration Award, the GEL Letter
Agreement, and their potential effects on our business, financial
condition and results of operations, see “Note (1)
Organization
–
Going Concern,” “Note (10) Long-Term Debt, Net”
and “Note (18) Commitments and
Contingencies.”
Defaults Under Secured Loan Agreements
.
As described elsewhere in
this Quarterly Report, Sovereign has notified us that the Final
Arbitration Award constitutes an event of default under our secured
loan agreements with Sovereign. In addition to existing or
potential events of default related to the Final Arbitration Award,
at June 30, 2017, LE and LRM were in violation of certain financial
covenants related to the First Term Loan Due 2034 and Second Term
Loan Due 2034. LE also failed to replenish a payment reserve
account as required related to the First Term Loan Due 2034. The
occurrence of events of default under the secured loan agreements
permits Sovereign to declare the amounts owed under these loan
agreements immediately due and payable, exercise its rights with
respect to collateral securing our obligations under these loan
agreements, and/or exercise any other rights and remedies
available.
By
letter dated August14, 2017, Sovereign waived the financial
covenant defaults as of June 30, 2017. However, the debt associated
with these loans was classified within the current portion of
long-term debt on our consolidated balance sheets due to existing
or potential events of default related to the Final Arbitration
Award as well as the uncertainty of ourability to meet the
financial covenants in the future. There can be no assurance that
Sovereign will provide a waiver of events of default related to the
Final Arbitration Award, consent to any proposed settlement with
GEL or provide future waivers of financial covenant defaults, which
may have an adverse impact on our financial position and results of
operations.
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BLUE DOLPHIN ENERGY
COMPANY
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FORM 10-Q
6/30/17
|
Notes to
Consolidated Financial Statements
(Continued)
By letter dated
August 25, 2017, Sovereign notified us that the Final Arbitration
Award constitutes an event of default under the First Term Loan Due
2034 and Second Term Loan Due 2034 and demanded: (i) immediate
payment of currently due amounts from each obligor obligated to pay
any obligations due and owing under the First Term Loan Due 2034
and Second Term Loan Due 2034 and (ii) the immediate cure of any
existing default relating to such obligor. However, Sovereign
informed us that it was not currently exercising its other rights,
privileges and remedies. Sovereign expressly reserved all of its
rights, privileges and remedies. By letter dated September 14,
2017, Sovereign further notified us that it is not currently
exercising its rights, privileges and remedies under the secured
loan agreements in light of the ongoing settlement discussions with
GEL and the continuance of the hearing on confirmation of the Final
Arbitration Award and to allow Sovereign to evaluate any proposed
settlement agreement related to the Final Arbitration Award, which
would require Sovereign’s approval. However, Sovereign again
expressly reserved all of its rights, privileges and remedies
related to events of default under the secured loan agreements and
informed us that it would consider a final confirmation of the
Final Arbitration Award to be a material event of default under the
loan agreements. Any exercise by Sovereign of its rights and
remedies under the secured loan agreements would have a material
adverse effect on our business, financial condition and results of
operations and likely would require us to seek protection under
bankruptcy laws.
June LEH
Note
. On August 9, 2017, the Board approved the
June LEH Note. The June LEH Note has a principal amount of
$2,484,297, accrues interest, compounded annually, at a rate of
8.00%, and matures in January 2019. Under the June LEH Note,
prepayment, in whole or in part, is permissible at any time and
from time to time, without premium or penalty. (See “Note (8)
Related Party Transactions” and “Part II, Item 5. Other
Information” for additional disclosures related to the June
LEH Note.)
Amended and
Restated Guaranty Fee Agreements
. On August 9,
2017, the Board approved the Amended and Restated Guaranty Fee
Agreements to reflect payment terms in cash and shares of Blue
Dolphin Common Stock. As a condition of the First Term
Loan Due 2034, Second Term Loan Due 2034, and Term Loan Due 2017,
Jonathan Carroll was required to guarantee repayment of funds
borrowed and interest accrued under the loans. Jonathan
Carroll receives a fee equal to 2.00% per annum, paid monthly, of
the outstanding principal balance owed under the
loans. (See “Note (10) Long-Term Debt, Net”
and “Part II, Item 5. Other Information” for additional
disclosures related to the Amended and Restated Guaranty Fee
Agreements.
Remainder of Page
Intentionally Left Blank
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BLUE DOLPHIN ENERGY
COMPANY
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FORM 10-Q
6/30/17
|
Management’s
Discussion and Analysis of Financial Condition and Results of
Operations
MANAGEMENT'S
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
In this Quarterly Report on Form
10-Q for the quarterly period ended June 30, 2017 (the Quarterly
Report”), references to “Blue Dolphin,”
“we,” “us” and “our” are to
Blue Dolphin Energy Company and its subsidiaries, unless otherwise
indicated or the context otherwise requires. You should read the
following discussion together with the financial statements and the
related notes included elsewhere in this Quarterly Report, as well
as with the risk factors, financial statements, and related notes
included thereto in our Quarterly Report on Form 10-Q for the
quarterly period ended March 31, 2017 and our Annual Report on Form
10-K for the fiscal year ended December 31, 2016 (the “Annual
Report”).
Forward Looking Statements
Certain statements
included in this Quarterly Report, including in this
“Management’s Discussion and Analysis of Financial
Condition and Results of Operations” are forward-looking
statements within the meaning of the Private Securities Litigation
Reform Act of 1935. Forward-looking statements represent
management’s beliefs and assumptions based on currently
available information. Forward-looking statements relate to
matters such as our industry, business strategy, goals and
expectations concerning our market position, future operations,
margins, profitability, capital expenditures, liquidity and capital
resources, access to supplies of crude oil and condensate,
commitments and contingencies, and other financial and operating
information. We have used the words “anticipate,”
“assume,” “believe,” “budget,”
“continue,” “could,”
“estimate,” “expect,” “intend,”
“may,” “plan,” “potential,”
“predict,” “project,” “will,”
“future” and similar terms and phrases to identify
forward-looking statements.
Forward-looking
statements reflect our current expectations regarding future
events, results, or outcomes. These expectations may or may not be
realized. Some of these expectations may be based upon assumptions
or judgments that prove to be incorrect. In addition, our business
and operations involve numerous risks and uncertainties, many of
which are beyond our control, which could result in our
expectations not being realized, or materially affect our financial
condition, results of operations and cash flows. Actual
events, results and outcomes may differ materially from our
expectations due to a variety of factors. Although it is not
possible to identify all these factors, they include, among others,
the following and other factors described under the heading
“Risk Factors” in the Annual Report and this Quarterly
Report:
Risks
Related to Our Business and Industry
●
Failure to reach a
settlement agreement with GEL Tex Marketing, LLC
(“GEL”) (see “GEL Contract-Related Dispute and
Final Arbitration Award” below).
●
Inadequate
liquidity to sustain operations due to the unfavorable outcome in
the arbitration of the contract-related dispute with GEL, net
losses, working capital deficits, and other factors, including
crude supply issues tied to access to capital and financial
covenant defaults in secured loan agreements, any of which could
have a material adverse effect on us.
●
Dangers inherent in
oil and gas operations that could cause disruptions and expose us
to potentially significant losses, costs or liabilities and reduce
our liquidity.
●
Geographic
concentration of our assets, which creates a significant exposure
to the risks of the regional economy.
●
Competition from
companies having greater financial and other
resources.
●
Laws and
regulations regarding personnel and process safety, as well as
environmental, health, and safety, for which failure to comply may
result in substantial fines, criminal sanctions, permit
revocations, injunctions, facility shutdowns, and/or significant
capital expenditures.
●
Insurance coverage
that may be inadequate or expensive.
●
Related party
transactions with Lazarus Energy Holdings, LLC (“LEH”)
and its affiliates, which may cause conflicts of
interest.
●
Failure to comply
with certain financial covenants related to certain secured loan
agreements.
●
Our ability to use
net operating loss (“NOL”) carryforwards to offset
future taxable income for U.S. federal income tax purposes, which
are subject to limitation.
●
Terrorist attacks,
cyber-attacks, threats of war, or actual war may negatively affect
our operations, financial condition, results of operations, and
cash flows.
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BLUE DOLPHIN ENERGY
COMPANY
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|
FORM 10-Q
6/30/17
|
Management’s
Discussion and Analysis of Financial Condition and Results of
Operations
(Continued)
Risks
Related to Our Refinery Operations Business Segment
●
A determination by
management that there is, and the report of our independent
registered public accounting firm that expresses, substantial doubt
about our ability to continue as a going
concern.
●
Volatility of
refining margins.
●
Volatility of crude
oil, other feedstocks, refined petroleum products, and fuel and
utility services.
●
Our ability to
acquire sufficient levels of crude oil on favorable terms to
operate the Nixon Facility.
●
Refinery downtime,
which could result in lost margin opportunity, increased
maintenance costs, increased inventory, and a reduction in cash
available for payment of our obligations and to which we are
particularly vulnerable because all of our refining operations are
conducted at a single facility.
●
Capital needs for
which our internally generated cash flows and other sources of
liquidity may not be adequate.
●
Our dependence on
LEH and its affiliates for financing and management of our
properties.
●
Loss of executive
officers or key employees, as well as a shortage of skilled labor
or disruptions in our labor force, which may make it difficult to
maintain productivity.
●
Loss of market
share by a key customer or consolidation among our customer
base.
●
Failure to grow or
maintain the market share for our refined petroleum
products.
●
Our reliance on
third-parties for the transportation of crude oil and condensate
into and refined petroleum products out of the Nixon
Facility.
●
Interruptions in
the supply of crude oil and condensate sourced in the Eagle Ford
Shale.
●
Changes in the
supply/demand balance in the Eagle Ford Shale that could result in
lower margins on refined petroleum products.
●
Regulation of
greenhouse gas emissions, which could increase our operational
costs and reduce demand for our products.
Risks
Related to Our Pipelines and Oil and Gas Properties
●
Required increases
in bonds or other sureties to maintain compliance with regulatory
requirements, which could significantly impact our liquidity and
financial condition.
●
More stringent
regulatory requirements related to asset retirement obligations
(“AROs”), which could significantly increase our
estimated future AROs.
Any one of these
factors or a combination of these factors could materially affect
our future results of operations and could influence whether any
forward-looking statements ultimately prove to be accurate. Our
forward-looking statements are not guarantees of future
performance, and actual results and future performance may differ
materially from those suggested in any forward-looking statements.
We do not intend to update these statements unless we are required
to do so.
GEL Contract-Related Dispute and Final Arbitration
Award
As
previously disclosed, we have been involved in arbitration
proceedings (the “GEL Arbitration”) with GEL, an
affiliate of Genesis Energy, LP (“Genesis”), related to
a contractual dispute involving a Crude Oil Supply and Throughput
Services Agreement (the “Crude Supply Agreement”) and a
Joint Marketing Agreement (the “Joint Marketing
Agreement”), each between Lazarus Energy, LLC ("LE") and GEL
and dated August 12, 2011. On August 11, 2017, the arbitrator
delivered its final award in the GEL Arbitration (the “Final
Arbitration Award”). The Final Arbitration Award denied all
of LE’s claims against GEL and granted substantially all of
the relief requested by GEL in its counterclaims. Among other
matters, the Final Arbitration Award awarded damages, legal and
administrative fees and court costs to GEL in the aggregate amount
of approximately $31.3 million.
This resulted in a
net increase in current liabilities of approximately $24.3 million
on our consolidated balance sheet at June 30, 2017.
|
BLUE DOLPHIN ENERGY
COMPANY
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|
FORM 10-Q
6/30/17
|
Management’s
Discussion and Analysis of Financial Condition and Results of
Operations
(Continued)
A
hearing on confirmation of the Final Arbitration Award was
scheduled to occur on September 18, 2017 in state district court in
Harris County, Texas. Prior to the scheduled hearing, LE and GEL
jointly notified the court that the hearing would be continued for
a period of no more than 90 days after September 18, 2017 (the
“Continuance Period”), to facilitate settlement
discussions between the parties. On September 26, 2017, LE and Blue
Dolphin, together with LEH and Jonathan Carroll, entered into a
Letter Agreement with GEL, effective September 18, 2017 (the
“GEL Letter Agreement”), confirming the parties’
agreement to the continuation of the confirmation hearing during
the Continuance Period, subject to the terms of the GEL Letter
Agreement. GEL may terminate the GEL Letter Agreement on the
45
th
day
of the Continuance Period, or November 1, 2017, if GEL determines,
in its sole discretion, that settlement discussions between the
parties are not advancing to an acceptable resolution. If we are
unable to reach an acceptable settlement with Genesis and GEL and
GEL seeks to confirm and enforce the Final Arbitration Award, our
business, financial condition and results of operations will be
materially affected, and we likely would be required to seek
protection under bankruptcy laws.
Sovereign Bank (“Sovereign”) has delivered to us
notices of default under our secured loan agreements with
Sovereign, stating the that the Final Arbitration Award constitutes
an event of default under the secured loan agreements. The
occurrence of an event of default permits Sovereign to declare the
amounts owed under these loan agreements immediately due and
payable, exercise its rights with respect to collateral securing
our obligations under these loan agreements, and/or exercise any
other rights and remedies available. Sovereign has informed us that
it is not currently exercising its rights and remedies under the
secured loan agreements in light of the ongoing settlement
discussions with GEL and the continuance of the hearing on
confirmation of the Final Arbitration Award and to allow Sovereign
to evaluate any proposed settlement agreement related to the Final
Arbitration Award, which would require Sovereign’s approval.
However, Sovereign expressly reserved all of its rights, privileges
and remedies related to events of default under the secured loan
agreements and informed us that it would consider a final
confirmation of the Final Arbitration Award to be a material event
of default under the loan agreements. Any exercise by Sovereign of
its rights and remedies under the secured loan agreements would
have a material adverse effect on our business, financial condition
and results of operations and likely would require us to seek
protection under bankruptcy laws. The debt associated with loans
under secured loan agreements was classified within the current
portion of long-term debt on our consolidated balance sheet at June
30, 2017 due to existing or potential events of default related to
the Final Arbitration Award as well as the uncertainty of our
ability to meet financial covenants in the secured loan agreements
in the future.
In
addition to the matters described above, the Final Arbitration
Award could materially and adversely affect our ability to procure
adequate amounts of crude oil and condensate and our relationships
with our customers.
Company Overview
Blue Dolphin is
primarily an independent refiner and marketer of petroleum
products. Our primary asset is a 15,000-bpd crude oil
and condensate processing facility that is in Nixon, Texas (the
“Nixon Facility”). As part of our refinery
business segment, we also conduct petroleum storage and terminaling
operations under third-party lease agreements at the Nixon
Facility. We also own pipeline assets and have leasehold
interests in oil and gas wells. The pipelines and oil
and gas wells are inactive. We maintain a website at
http://www.blue-dolphin-energy.com
. Information
on or accessible through our website is not incorporated by
reference in or otherwise made a part of this Quarterly
Report.
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BLUE DOLPHIN ENERGY
COMPANY
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|
FORM 10-Q
6/30/17
|
Management’s
Discussion and Analysis of Financial Condition and Results of
Operations
(Continued)
Major Influences on Results of Operations
As a margin-based
business, our refinery operations are primarily affected by the per
bbl price differential between crude oil and condensate and refined
petroleum products, our product slate, and refinery
downtime.
Feedstock
and Product per Bbl Price Differentials
The prices of crude
oil and refined petroleum products are the most significant driver
of margins, and they have historically been subject to wide
fluctuations. Our cost to acquire crude oil and condensate and the
price for which our refined petroleum products are ultimately sold
depend on the economics of supply and demand. Supply and demand are
affected by numerous factors, most, if not all, of which are beyond
our control, including:
●
Domestic and
foreign market conditions, political affairs, and economic
developments;
●
Import supply
levels and export opportunities;
●
Existing domestic
inventory levels;
●
Operating and
production levels of competing refineries;
●
Expansion and/or
upgrades of competitors’ facilities;
●
Governmental
regulations (e.g., mandated renewable fuels standards, proposed
climate change laws and regulations, and increased mileage
standards for vehicles);
●
Availability of and
access to transportation infrastructure;
●
Availability of
competing fuels (e.g., renewables); and
For the three
months ended June 30, 2017 (the “Current Three
Months”), the average per bbl price differential between
crude oil and condensate and refined petroleum products was $1.89
compared to a deficit of $1.44 for the three months ended June 30,
2016 (the “Prior Three Months”), reflecting an increase
of $3.33. Our gross profit increased $3,302,222 between
the Current Three Months and Prior Three Months primarily because
of increased sales volume.
For the six months
ended June 30, 2017 (the “Current Six Months”), the
average per bbl price differential between crude oil and condensate
and refined petroleum products was $1.07 compared to a deficit of
$0.57 for the six months ended June 30, 2016 (the “Prior Six
Months”), reflecting an increase of $1.64. Our
gross profit increased $3,614,670 between the Current Six Months
and Prior Six Months because of favorable commodity
prices.
Product
Slate
Management
periodically determines whether to change product mix, as well as
maintain, increase, or decrease inventory levels based on various
factors. These factors include the crude oil pricing
market in the U.S. Gulf Coast region, the refined petroleum
products market in the same region, the relationship between these
two markets, fulfilling contract demands, and other factors that
may impact our operations, financial condition, and cash
flows.
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BLUE DOLPHIN ENERGY
COMPANY
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|
FORM 10-Q
6/30/17
|
Management’s
Discussion and Analysis of Financial Condition and Results of
Operations
(Continued)
Recent changes to
our product slate include increased production of military grade
jet fuel. Military grade jet fuel and Jet A fuel are produced by
separating the distillate stream into kerosene and diesel and
blending the kerosene with a portion of the heavy naphtha
stream. Military grade jet fuel and Jet A fuel are
considered higher value products that significantly upgrade the
value of the naphtha component. We have also increased production
of HOBM. The sale of HOBM to customers exporting to Mexico offsets
weaker demand in the U.S. local market. HOBM is produced from our
heavy oil stream.
Refinery
Downtime
The safe and
reliable operation of the Nixon Facility is key to our financial
performance and results of operations, and we are particularly
vulnerable to disruptions in our operations because all our
refining operations are conducted at a single facility. Although
operating at anticipated levels, the Nixon Facility is still in a
recommissioning phase and may require unscheduled downtime for
unanticipated reasons, including maintenance and repairs, voluntary
regulatory compliance measures, or cessation or suspension by
regulatory authorities.
Occasionally, the
Nixon Facility experiences a temporary shutdown due to power
outages from high winds and thunderstorms. In such cases, we must
initiate a standard refinery start-up process, which can last
several days. We are typically able to resume normal operations the
next day. Any scheduled or unscheduled downtime may
result in lost margin opportunity, increased maintenance expense
and a build-up of refined petroleum products inventory, which could
reduce our ability to meet our payment obligations.
Key Relationships
Relationship
with LEH
We are party to a
variety of agreements with LEH, including an Amended and Restated
Operating Agreement, a Jet Fuel Sales Agreement, a Terminal
Services Agreement, a Loan and Security Agreement, and a Promissory
Note. In addition, we currently rely on advances from
LEH and its affiliates (including Jonathan Carroll) to fund our
working capital requirements. There can be no assurances that LEH
and its affiliates will continue to fund our working capital
requirements. (See “Part I, Item 1. Financial
Statements – Note (8) Related Party Transactions” for
disclosures related to agreements that we have in place with
LEH.)
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BLUE DOLPHIN ENERGY
COMPANY
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|
FORM 10-Q
6/30/17
|
Management’s
Discussion and Analysis of Financial Condition and Results of
Operations
(Continued)
Relationship
with Crude Supplier
Operation of the
Nixon Facility depends on our ability to purchase adequate amounts
of crude oil and condensate on favorable terms. We
currently have in place a month-to-month evergreen crude supply
contract with a major integrated oil and gas
company. This new supplier currently provides us with
adequate amounts of crude oil and condensate, and we expect the
supplier to continue to do so for the foreseeable
future. However, our ability to purchase crude oil and
condensate is dependent on our liquidity and access to capital,
which have been adversely affected by net losses, working capital
deficits, the contract-related dispute with GEL, and financial
covenant defaults in secured loan agreements. Management
believes that it is taking the appropriate steps to improve our
financial stability. However, there can be no assurance
that our plan will be successful, LEH and its affiliates will
continue to fund our working capital needs, or that we will be able
to obtain additional financing on commercially reasonable terms or
at all.
Among other
factors, the Final Arbitration Award could prevent us from
successfully executing our plan.
If our plan is
unsuccessful, it could affect our ability to acquire adequate
supplies of crude oil and condensate under the existing contract or
otherwise. Further, because our existing crude supply
contract is a month-to-month arrangement, there can be no assurance
that crude oil and condensate supplies will continue to be
available under this contract in the future.
Results of Operations
Effective January
1, 2017, we began reporting a single business segment –
Refinery Operations. Business activities related to our
Refinery Operations business segment are conducted at the Nixon
Facility. Due to their small size, amounts associated
with Pipeline Transportation operations for the Current Three
Months and Current Six Months were reclassified to Corporate and
Other. Pipeline Transportation operations diminished significantly
as services to third-parties ceased and third-party wells along our
pipeline corridor were permanently abandoned.
In this Results of
Operations section, we review:
●
Definitions of key
financial performance measures used by
management;
●
Consolidated
results (reflect financial results for our Refinery Operations
business segment and Corporate and Other);
●
Non-GAAP financial
results; and
●
Refinery Operations
business segment results.
Remainder of Page
Left Blank
|
BLUE DOLPHIN ENERGY
COMPANY
|
|
FORM 10-Q
6/30/17
|
Management’s
Discussion and Analysis of Financial Condition and Results of
Operations
(Continued)
GLOSSARY
OF SELECTED FINANCIAL AND PERFORMANCE MEASURES
Management uses
generally accepted accounting principles (“GAAP”) and
certain non-GAAP performance measures to assess our results of
operations. Certain performance measures used by management to
assess our operating results and the effectiveness of our business
segment are considered non-GAAP performance measures. These
performance measures may differ from similar calculations used by
other companies within the petroleum industry, thereby limiting
their usefulness as a comparative measure.
We refer to certain
refinery throughput and production data in the explanation of our
period over period changes in results of operations. For
our consolidated results, we refer to our consolidated statements
of operations in the explanation of our period over period changes
in results of operations.
Below are
definitions of key financial performance measures used by
management:
Adjusted Earnings
Before Interest, Income Taxes and Depreciation
(“EBITDA”)
.
Reflects EBITDA excluding
the JMA Profit Share.
-
Refinery Operations
Adjusted EBITDA
. Reflects adjusted EBITDA for our refinery
operations business segment.
-
Total Adjusted
EBITDA
.
Reflects
adjusted EBITDA for our refinery operations business segment, as
well as corporate and other.
Capacity
Utilization Rate
. A percentage measure that indicates the
amount of available capacity that is being used in a refinery or
transported through a pipeline. With respect to the
Nixon Facility, the rate is calculated by dividing total refinery
throughput or total refinery production on a bpd basis by the total
capacity of the Nixon Facility (currently 15,000 bpd).
Cost of Refined
Products Sold
.
Primarily includes purchased crude oil and condensate costs, as
well as transportation, freight and storage costs.
Depletion,
Depreciation and Amortization
. Represents property and
equipment, as well as intangible assets that are depreciated or
amortized based on the straight-line method over the estimated
useful life of the related asset.
Downtime
.
Scheduled and/or unscheduled periods in which the Nixon Facility is
not operating. Downtime may occur for a variety of
reasons, including bad weather, power failures, preventive
maintenance, equipment inspection, equipment repair due to
mechanical failure, voluntary regulatory compliance measures,
cessation or suspension by regulatory authorities, and inventory
management.
Easement, Interest
and Other Income
.
Reflects land easement fees received from FLNG Land II, Inc., a
Delaware corporation (“FLNG”), pursuant to a Master
Easement Agreement; fees recognized monthly as earned and recorded
as land easement revenue within other income.
EBITDA
.
Reflects earnings before: (i) interest income (expense), (ii)
income taxes, and (iii) depreciation and amortization.
-
Refinery Operations
EBITDA
. Reflects EBITDA for our refinery operations business
segment.
-
Total
EBITDA
. Reflects EBITDA for our refinery operations business
segment, as well as corporate and other.
General and
Administrative Expenses
.
Primarily include corporate costs,
such as accounting and legal fees, office lease expenses, and
administrative expenses.
Gross
Profit
.
Calculated as total revenue less
cost of refined products sold.
Income Tax
Expense
.
Includes
federal and state taxes, as well as deferred taxes, arising from
temporary differences between income for financial reporting and
income tax purposes.
JMA Profit
Share
. Represents the GEL Profit Share plus the Performance
Fee for the period under the Joint Marketing Agreement; an indirect
operating expense. If Gross Profits were positive, then the JMA
Profit Share reflected an expense. If Gross Profits were
negative, then the JMA Profit Share reflected a
credit.
Net Income
.
Represents total revenue from operations less total cost of
operations, total other expense, and income tax
expense.
Operating
Days
. Represents the number of days in a period in which the
Nixon Facility operated. Operating days is calculated by
subtracting downtime in a period from calendar days in the same
period.
Other Income
(Expense)
. Reflects working capital loan
interest, guaranty fees paid to Jonathan Carroll, expensed interest
related to long-term debt, and non-recurring income
items.
Other Operating
Expenses
. Represents costs associated with our pipeline
assets and leasehold interests in oil and gas
properties.
Refinery Operating
Expenses
.
Direct
operating expenses of the Nixon Facility, including direct costs of
labor, maintenance materials and services, chemicals and catalysts
and utilities. Includes fees paid to: (i) LEH to manage
and operate the Nixon Facility pursuant to the Amended and Restated
Operating Agreement and (ii) Ingleside Crude, LLC to lease
petroleum storage tanks to meet periodic, additional storage needs
under the Amended and Restated Tank Lease Agreement.
Revenue from
Operations
. Primarily consists of refined petroleum product
sales, but also includes tank rental revenue. Excise and other
taxes that are collected from customers and remitted to
governmental authorities are not included in
revenue. Other revenue relates to fees received from
pipeline transportation services, which ceased in
2016.
Total Refinery
Production
. Refers to the volume processed as output through
the Nixon Facility. Refinery production includes finished petroleum
products, such as jet fuel and exportable low-sulfur diesel, and
intermediate petroleum products, such as LPG, naphtha, HOBM and
AGO.
Total Refinery
Throughput
.
Refers
to the volume processed as input through the Nixon
Facility. Refinery throughput includes crude oil and
condensate and other feedstocks.
|
BLUE DOLPHIN ENERGY
COMPANY
|
|
FORM 10-Q
3/31/17
|
Management’s
Discussion and Analysis of Financial Condition and Results of
Operations
(Continued)
Consolidated
Results
Current Three Months Compared to Prior
Three Months
.
Total Revenue from Operations
. For the
Current Three Months, we had total revenue from operations of
$57,336,331 compared to total revenue from operations of
$42,042,460 for the Prior Three Months. The approximate
36% increase in total revenue from operations between the periods
was the result of a 24% increase in sales volume, higher commodity
prices, and higher refinery production in the Current Three Months
compared to the Prior Three Months. Refinery production
increased approximately 52% compared to the same period a year
earlier due to higher refinery uptime. The Nixon
Facility experienced significant downtime for the Prior Three
Months due to the contract-related dispute with GEL.
Cost of Refined Products Sold
. Cost of
refined products sold was $54,624,947 for the Current Three Months
compared to $42,633,298 for the Prior Three Months. The
approximate 28% increase in cost of refined products sold was the
result of a 24% increase in sales volume, higher
commodity prices, and increased refinery throughput in the Current
Three Months compared to the Prior Three Months.
Gross Profit
. For the Current Three
Months, gross profit totaled $2,711,384 compared to a deficit of
$590,838 for the Prior Three Months. The $3,302,222
increase between the periods related to favorable commodity prices
and higher refinery production in the Current Three Months compared
to the Prior Three Months.
Refinery Operating
Expenses
. We recorded refinery operating expenses
of $1,651,663 in the Current Three Months compared to $2,877,748 in
the Prior Three Months, a decrease of nearly
43%. Refinery operating expenses per bbl of throughput
were $1.53 in the Current Three Months compared to $4.05 in the
Prior Three Months. The $2.52 decrease in refinery
operating expenses per bbl of throughput between the periods was
the result of: (i) significantly lower refinery operating expenses
under the Amended and Restated Operating Agreement, which was
restructured following cessation of crude supply and marketing
activities under the Crude Supply Agreement and Joint Marketing
Agreement with GEL and (ii) a decrease in off-site tank leasing
expense under an Amended and Restated Tank Lease Agreement. (See
“Part I, Item 1. Financial Statements – Note (8)
Related Party Transactions” for additional disclosures
related to components of refinery operating expenses, the Amended
and Restated Operating Agreement, and the Amended and Restated Tank
Lease Agreement.)
JMA Profit Share.
For the
Current Three Months, the JMA Profit Share was $0 compared to an
expense of $97,527 for the Prior Three
Months. Elimination of the JMA Profit Share between the
periods was the result of termination of marketing activities under
the Joint Marketing Agreement. (See “Part I, Item
1. Financial Statements – Note (18) Commitments and
Contingencies – Genesis Agreements” for further
discussion related to the Joint Marketing Agreement, JMA Profit
Share, Gross Profits and the contract-related dispute with
GEL.)
Arbitration Award
and Associated Fees.
For the Current Three
Months, legal settlement and fees totaled $24,338,628 compared to
$0 for the Prior Three Months. Legal settlement and fees were
associated with the Final Arbitration Award.
General and Administrative Expenses
. We
incurred general and administrative expenses of $708,391 in the
Current Three Months compared to $255,319 in the Prior Three
Months. The significant increase in general and
administrative expenses in the Current Three Months compared to the
Prior Three Months primarily related to an increase in legal fees
associated with the contract-related dispute with GEL.
Depletion, Depreciation and
Amortization
. We recorded depletion, depreciation
and amortization expenses of $449,318 in the Current Three Months
compared to $470,347 in the Prior Three Months. The
approximate 4% decrease in depletion, depreciation and amortization
expenses for the Current Three Months compared to the Prior Three
Months primarily was because of less depreciation related to our
pipeline assets.
Other Income (Expense).
We
recorded $830,540 in other expense
in the Current Three Months
compared to $273,462 in other expense in the Prior Three
Months. The significant increase in other expense
between the periods primarily related to a decrease in easement
income and an increase in working capital loan
interest.
Income Tax Benefit
. We
recognized an income tax benefit of $0 in the Current Three Months
compared to $1,534,341 in the Prior Three Months. Income
tax benefit in the Prior Three Months primarily related to deferred
federal income taxes. We recorded a full valuation
allowance against deferred tax assets as of June 30, 2017 and
December 31, 2016 (See “Part I, Item 1. Financial Statements
– Note (15) Income Taxes” for additional disclosures
related to income taxes.)
|
BLUE DOLPHIN ENERGY
COMPANY
|
|
FORM 10-Q
3/31/17
|
Management’s
Discussion and Analysis of Financial Condition and Results of
Operations
(Continued)
Net Loss
. For the Current
Three Months, we reported a net loss of $25,393,282, or a loss of
$2.39 per share, compared to net loss of $3,162,736, or loss of
$0.30 per share, for the Prior Three Months. The $2.09 per
share
increase
in
net loss between the periods was primarily the result of
accrued expenses
related to
the Final Arbitration Award in the Current Three
Months compared to the Prior Three Months.
Current Six Months Compared to Prior
Six Months
.
Total Revenue from Operations
. For the
Current Six Months, we had total revenue from operations of
$109,942,080 compared to total revenue from operations of
$73,554,736 for the Prior Six Months. The approximate
49% increase in total revenue from operations between the periods
was primarily the result of higher commodity prices, higher
refinery production, and an 11% increase in sales volume in the
Current Six Months compared to the Prior Six
Months. Refinery production increased approximately 10%
compared to the same period a year earlier due to higher refinery
uptime. The Nixon Facility experienced significant
downtime for the Prior Six Months due to the contract-related
dispute with GEL.
Cost of Refined Products Sold
. Cost of
refined products sold was $106,399,449 for the Current Six Months
compared to $73,626,775 for the Prior Six Months. The
approximate 45% increase in cost of refined products sold was the
result of higher commodity prices and increased refinery throughput
in the Current Six Months compared to the Prior Six
Months.
Gross Profit
. For the Current Six
Months, gross profit totaled $3,542,631 compared to a deficit of
$72,039 for the Prior Six Months. The $3,614,670
increase between the periods related to the favorable commodity
prices in the Current Six Months compared to the Prior Six
Months.
Refinery Operating
Expenses
. We recorded refinery operating expenses
of $4,464,766 in the Current Six Months compared to $6,314,763 in
the Prior Six Months, a decrease of approximately
29%. Refinery operating expenses per bbl of throughput
were $2.14 in the Current Six Months compared to $3.33 in the Prior
Six Months. The $1.19 decrease in refinery operating
expenses per bbl of throughput between the periods was the result
of: (i) significantly lower refinery operating expenses under the
Amended and Restated Operating Agreement, which was restructured
following cessation of crude supply and marketing activities under
the Crude Supply Agreement and Joint Marketing Agreement with GEL
and (ii) a decrease in off-site tank leasing expense under an
Amended and Restated Tank Lease Agreement. (See “Part I, Item
1. Financial Statements – Note (8) Related Party
Transactions” for additional disclosures related to
components of refinery operating expenses, the Amended and Restated
Operating Agreement, and the Amended and Restated Tank Lease
Agreement.)
JMA Profit Share.
For the
Current Six Months, the JMA Profit Share was $0 compared to a
credit of $573,565 for the Prior Six Months. Elimination
of the JMA Profit Share between the periods was the result of
termination of marketing activities under the Joint Marketing
Agreement. (See “Part I, Item 1. Financial
Statements – Note (18) Commitments and Contingencies
–
Legal
Matters
” for further discussion related to the Joint
Marketing Agreement, JMA Profit Share, Gross Profits and the
contract-related dispute with GEL.)
Arbitration Award and Associated
Fees.
For the Current Six Months, legal
settlement and fees totaled $24,338,628 compared to $0 for the
Prior Six Months. Legal settlement and fees were associated with
the Final Arbitration Award.
General and Administrative Expenses
. We
incurred general and administrative expenses of $1,614,481 in the
Current Six Months compared to $612,323 in the Prior Six
Months. The significant increase in general and
administrative expenses in the Current Six Months compared to the
Prior Six Months primarily related to an increase in legal fees
associated with the contract-related dispute with GEL.
Depletion, Depreciation and
Amortization
. We recorded depletion, depreciation
and amortization expenses of $900,343 in the Current Six Months
compared to $910,800 in the Prior Six Months. The
approximate 1% decrease in depletion, depreciation and amortization
expenses for the Current Six Months compared to the Prior Six
Months primarily was because of less depreciation related to our
pipeline assets.
Other Income (Expense).
We
recorded $791,169 in other income in the Current Six Months
compared to $561,606 in other expense in the Prior Six
Months. The increase in other income between the periods
related to FLNG easement payments and a gain on the sale of land to
FLNG in the first quarter of 2017, which was offset by interest
expense related to working capital loan interest, long-term debt
interest expense, and guaranty fee expense.
In February 2017,
BDPL sold approximately 15 acres of certain of the property owned
by BDPL located in Brazoria County Texas to FLIQ Common Facilities,
LLC, an affiliate of FLNG. In conjunction with the sale
of real estate, the FLNG Easements were terminated.
|
BLUE DOLPHIN ENERGY
COMPANY
|
|
FORM 10-Q
3/31/17
|
Management’s
Discussion and Analysis of Financial Condition and Results of
Operations
(Continued)
Income Tax Benefit
. We
recognized an income tax benefit of $0 in the Current Six Months
compared to $2,700,242 in the Prior Six Months. Income
tax benefit in the Prior Six Months primarily related to deferred
federal income taxes. We recorded a full valuation
allowance against deferred tax assets as of June 30, 2017 and
December 31, 2016 (See “Part I, Item 1. Financial Statements
– Note (15) Income Taxes” for additional disclosures
related to income taxes.)
Net Loss
. For the Current
Six Months, we reported a net loss of $27,243,232, or a loss of
$2.58 per share, compared to net loss of $5,311,820, or loss of
$0.51 per share, for the Prior Six Months. The $2.07 per
share
increase
in
net loss between the periods was primarily the result of
accrued expenses
related to
the Final Arbitration Award in the Current Six
Months.
Remainder of Page
Intentionally Left Blank
|
BLUE DOLPHIN ENERGY
COMPANY
|
|
FORM 10-Q
3/31/17
|
Management’s
Discussion and Analysis of Financial Condition and Results of
Operations
(Continued)
Non-GAAP
Financial Measures
To supplement our
consolidated results, management uses EBITDA, a non-GAAP financial
measures, to help investors evaluate our ongoing operating results
and allow for greater transparency in reviewing our overall
financial, operational and economic performance. EBITDA is
reconciled to GAAP-based results below. EBITDA should not be
considered an alternative for GAAP results. EBITDA is provided to
enhance an overall understanding of our financial performance for
the applicable periods and is an indicator management believes is
relevant and useful. EBITDA may differ from similar calculations
used by other companies within the petroleum industry, thereby
limiting its usefulness as a comparative measure. (See “Part
I, Item 1. Financial Statements” for comparative GAAP
results.)
EBITDA Current Three Months Compared
to Prior Three Months
.
Refinery Operations
EBITDA.
Refinery operations EBITDA for the
Current Three Months was a loss of $23,717,796 compared to a loss
of $3,613,863 for the Prior Three Months. The
significant decrease in refinery operations EBITDA between the
periods was primarily the result of
accrued expenses
related to
the Final Arbitration Award in the Current Three
Months.
EBITDA Reconciliation to GAAP –
Three Month Periods
.
|
|
Three Months Ended June 30,
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenue from
operations
|
$
57,336,331
|
$
-
|
$
57,336,331
|
$
42,017,773
|
$
24,687
|
$
42,042,460
|
|
Less: cost of
operations
(1)
|
(81,054,127
)
|
(395,628
)
|
(81,449,755
)
|
(45,534,109
)
|
(364,092
)
|
(45,898,201
)
|
|
Other non-interest
income
(2)
|
-
|
-
|
-
|
-
|
125,000
|
125,000
|
|
Less: JMA Profit
Share
(3)
|
-
|
-
|
-
|
(97,527
)
|
-
|
(97,527
)
|
|
EBITDA
|
$
(23,717,796)
|
$
(395,628
)
|
$
(24,113,424)
|
$
(3,613,863
)
|
$
(214,405
)
|
$
(3,828,268
)
|
|
|
|
|
|
|
|
|
|
Depletion,
depreciation and
|
|
|
|
|
|
|
|
amortization
|
|
|
(449,318
)
|
|
|
(470,347
)
|
|
Interest expense,
net
|
|
|
(830,540
)
|
|
|
(398,462
)
|
|
|
|
|
|
|
|
|
|
Loss before income
taxes
|
|
|
(25,393,282
)
|
|
|
(4,697,077
)
|
|
|
|
|
|
|
|
|
|
Income tax
benefit
|
|
|
-
|
|
|
1,534,341
|
|
|
|
|
|
|
|
|
|
Net
loss
|
|
|
$
(25,393,282
)
|
|
|
$
(3,162,736
)
|
|
(1)
|
Operation cost
within the Refinery Operations segment includes related general and
administrative expenses. Operation cost within Corporate
and Other includes general and administrative expenses associated
with corporate maintenance costs (such as accounting fees, director
fees, and legal expense), as well as expenses associated with our
pipeline assets and oil and/or gas leasehold interests (such as
accretion and impairment expenses).
|
|
(2)
|
Other non-interest
income reflects FLNG easement revenue.
|
|
(3)
|
The JMA Profit
Share represents the GEL Profit Share plus the Performance Fee for
the period pursuant to the Joint Marketing Agreement, under which
marketing activies have ceased. (See “Part I, Item
1. Financial Statements – Note (18) Commitments and
Contingencies – Legal matters” for further discussion
of the contract-related dispute with GEL.)
|
|
BLUE DOLPHIN ENERGY
COMPANY
|
|
FORM 10-Q
3/31/17
|
Management’s
Discussion and Analysis of Financial Condition and Results of
Operations
(Continued)
EBITDA Current Six Months Compared to
Prior Six Months
.
Refinery Operations
EBITDA.
Refinery operations EBITDA for the
Current Six Months was a loss of $26,307,808 compared to a loss of
$5,881,000 for the Prior Three Months. The significant
decrease in refinery operations EBITDA between the periods was
primarily the result of
accrued expenses
related to
the Final Arbitration Award in the Current Six
Months.
EBITDA Reconciliation to GAAP –
Six Month Periods
.
|
|
Six Months Ended June 30,
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenue from
operations
|
$
109,942,080
|
$
-
|
$
109,942,080
|
$
73,502,397
|
$
52,339
|
$
73,554,736
|
|
Less: cost of
operations
(1)
|
(136,249,888
)
|
(826,250
)
|
(137,076,138
)
|
(79,956,962
)
|
(710,995
)
|
(80,667,957
)
|
|
Other non-interest
income
(2)
|
-
|
-
|
-
|
-
|
255,665
|
255,665
|
|
Less: JMA Profit
Share
(3)
|
-
|
2,216,251
|
2,216,251
|
573,565
|
-
|
573,565
|
|
EBITDA
|
$
(26,307,808
)
|
$
1,390,001
|
$
(24,917,807
)
|
$
(5,881,000
)
|
$
(402,991
)
|
$
(6,283,991
)
|
|
|
|
|
|
|
|
|
|
Depletion,
depreciation and
|
|
|
|
|
|
|
|
amortization
|
|
|
(900,343
)
|
|
|
(910,800
)
|
|
Interest expense,
net
|
|
|
(1,425,082
)
|
|
|
(817,271
)
|
|
|
|
|
|
|
|
|
|
Loss before income
taxes
|
|
|
(27,243,232
)
|
|
|
(8,012,062
)
|
|
|
|
|
|
|
|
|
|
Income tax
benefit
|
|
|
-
|
|
|
2,700,242
|
|
|
|
|
|
|
|
|
|
Net
loss
|
|
|
$
(2,243,232
)
|
|
|
$
(5,311,820
)
|
|
(1)
|
Operation cost
within the Refinery Operations segment includes related general and
administrative expenses. Operation cost within Corporate
and Other includes general and administrative expenses associated
with corporate maintenance costs (such as accounting fees, director
fees, and legal expense), as well as expenses associated with our
pipeline assets and oil and/or gas leasehold interests (such as
accretion and impairment expenses).
|
|
(2)
|
Other non-interest
income reflects FLNG easement revenue.
|
|
(3)
|
The JMA Profit
Share represents the GEL Profit Share plus the Performance Fee for
the period pursuant to the Joint Marketing Agreement, under which
marketing activities have ceased. (See “Part I,
Item 1. Financial Statements – Note (18) Commitments and
Contingencies – Legal matters” for further discussion
of the Joint Marketing Agreement and the contract-related dispute
with GEL.)
|
Refinery
Operations Business Segment Results
During the Current
Three Months, the average per bbl price differential between crude
oil and condensate and refined petroleum products was $1.89
compared to a deficit of $1.44 for the Prior Three Months,
reflecting an increase of $3.33. Our gross profit
increased $3,302,222 between the Current Three Months and Prior
Three Months primarily because of increased sales
volume.
During the Current
Six Months, the average per bbl price differential between crude
oil and condensate and refined petroleum products was $1.07
compared to a deficit of $0.57 for the Prior Six Months, reflecting
an increase of $1.64. Our gross profit increased
$3,614,670 between the Current Six Months and Prior Six Months
primarily because of favorable commodity prices.
|
BLUE DOLPHIN ENERGY
COMPANY
|
|
FORM 10-Q
3/31/17
|
Management’s
Discussion and Analysis of Financial Condition and Results of
Operations
(Continued)
Refinery Throughput and Production
Data
.
Following
are refinery operational metrics for the Nixon
Facility:
|
|
Three Months Ended
June 30,
|
Six Months Ended
June 30,
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Calendar
Days
|
91
|
91
|
181
|
182
|
|
Refinery
downtime
|
(4
)
|
(29
)
|
(14
)
|
(29
)
|
|
Operating
Days
|
87
|
62
|
167
|
153
|
|
|
|
|
|
|
|
Total
refinery throughput (bbls)
|
1,078,488
|
710,992
|
2,082,660
|
1,894,798
|
|
Operating days
:
|
|
|
|
|
|
bpd
|
12,396
|
11,468
|
12,471
|
12,384
|
|
Capacity
utilization rate
|
82.6
%
|
76.5
%
|
83.1
%
|
82.6
%
|
|
Calendar
days:
|
|
|
|
|
|
bpd
|
11,852
|
7,813
|
11,506
|
10,411
|
|
Capacity
utilization rate
|
79.0
%
|
52.1
%
|
76.7
%
|
69.4
%
|
|
|
|
|
|
|
|
Total
refinery production (bbls)
|
1,046,923
|
687,559
|
2,016,657
|
1,841,866
|
|
Operating
days:
|
|
|
|
|
|
bpd
|
12,034
|
11,090
|
12,076
|
12,038
|
|
Capacity
utilization rate
|
80.2
%
|
73.9
%
|
80.5
%
|
80.3
%
|
|
Calendar
days:
|
|
|
|
|
|
bpd
|
11,505
|
7,556
|
11,142
|
10,120
|
|
Capacity
utilization rate
|
76.7
%
|
50.4
%
|
74.3
%
|
67.5
%
|
|
Note:
|
The difference
between total refinery throughput (volume processed as input) and
total refinery production (volume processed as output) represents
refinery fuel use and loss.
|
In the Current
Three Months, the Nixon Facility experienced 4 days of refinery
downtime related to throughput management. In the Prior
Three Months, the Nixon Facility experienced 29 days of refinery
downtime due to significant under delivery of crude oil and
condensate by GEL (27 days) and unscheduled maintenance and repairs
(2 days). Total refinery throughput bbls and total
refinery production bbls increased approximately 52% in the Current
Three Months due to improved refinery uptime associated with crude
oil and condensate delivery. The Nixon Facility
experienced significant downtime for the Prior Three Months due to
the contract-related dispute with GEL.
In the Current Six
Months, the Nixon Facility experienced 14 days of refinery downtime
related to throughput management. In the Prior Six
Months, the Nixon Facility experienced 29 days of refinery downtime
due to significant under delivery of crude oil and condensate by
GEL (27 days) and unscheduled maintenance and repairs (2
days). Total refinery throughput bbls and total refinery
production bbls increased approximately 10% in the Current Six
Months due to improved refinery uptime associated with crude oil
and condensate delivery. The Nixon Facility experienced
significant downtime for the Prior Six Months due to the
contract-related dispute with GEL.
Refined Petroleum Product Sales
Summary
.
(See “Part I,
Item 1. Financial Statements - Note (13) Concentration of
Risk” for a discussion of refined petroleum product
sales.)
Refined Petroleum Products Economic
Hedges
.
We began selling
all of our jet fuel to LEH immediately following production, which
minimizes inventory, improves cash flow, and reduces commodity
risk. Previously, Genesis/GEL used commodity futures
contracts to mitigate the volatile change in value for certain of
our refined petroleum products inventory.
|
BLUE DOLPHIN ENERGY
COMPANY
|
|
FORM 10-Q
3/31/17
|
Management’s
Discussion and Analysis of Financial Condition and Results of
Operations
(Continued)
We had no open
commodity contracts in the Current Three Months and Current Six
Months. For the Prior Three Months, our refinery
operations business segment recognized a loss of $2,863,410 on
settled transactions and a loss of $988,690 on the change in value
of open contracts from March 31, 2016 to June 30,
2016. For the Prior Six Months, our refinery operations
business segment recognized a loss of $3,744,922 on settled
transactions and a gain of $385,350 on the change in value of open
contracts from December 31, 2015 to June 30,
2016.
Liquidity
and Capital Resources
Overview
.
Historically, we
relied on our profit share distribution and operations payments
under a Joint Marketing Agreement with GEL, as well as LEH, to fund
our liquidity needs. As disclosed elsewhere in this
Quarterly Report, beginning in the second quarter of 2016, we
experienced an adverse change in our relationship with Genesis/GEL
involving a contract-related dispute. This shift in our
relationship negatively affected our customer relationships,
prevented us from taking advantage of business opportunities,
disrupted refinery operations, diverted management’s focus
away from running the business, and impacted our ability to obtain
financing. Combined with decreased commodity prices
throughout 2016, our resultant financial state raised substantial
doubt about our ability to continue as a going concern, which doubt
has increased as a result of the Final Arbitration
Award. (As discussed elsewhere within this
“Liquidity and Capital Resources” section, management
has determined that there is substantial doubt about our ability to
continue as a going concern due to consecutive quarterly net
losses, inadequate working capital, the Final Arbitration Award,
crude supply issues tied to access to capital, and defaults under
secured loan agreements. See “Part I, Item 1. Financial
Statements – Note (1) Organization – Going
Concern” for additional discussion related to going
concern.)
As
discussed elsewhere in this Quarterly Report, on August 11, 2017,
the arbitrator delivered the Final Arbitration Award in the GEL
Arbitration. Among other matters, the Final Arbitration Award
awarded damages, legal and administrative fees and court costs to
GEL in the aggregate amount of approximately $31.3 million.
This resulted in a
net increase in current liabilities of approximately $24.3 million
on our consolidated balance sheet at June 30, 2017.
We
expect that we will be unable to pay the amounts awarded to GEL in
full or in any substantial part.
A hearing on
confirmation of the Final Arbitration Award was scheduled to occur
on September 18, 2017 in state district court in Harris County,
Texas. Prior to the scheduled hearing, LE and GEL jointly notified
the court of the Continuance Period to facilitate settlement
discussions between the parties. On September 26, 2017, LE and Blue
Dolphin, together with LEH and Jonathan Carroll, entered into the
GEL Letter Agreement, confirming the parties’ agreement to
the continuation of the confirmation hearing during the Continuance
Period, subject to the terms of the GEL Letter Agreement. GEL may
terminate the GEL Letter Agreement on the 45
th
day of the
Continuance Period, or November 1, 2017, if GEL determines, in its
sole discretion, that settlement discussions between the parties
are not advancing to an acceptable resolution.
Sovereign
has delivered to us notices of default under our secured loan
agreements with Sovereign, stating the that the Final Arbitration
Award constitutes an event of default under the secured loan
agreements. The occurrence of an event of default permits Sovereign
to declare the amounts owed under these loan agreements immediately
due and payable, exercise its rights with respect to collateral
securing our obligations under these loan agreements, and/or
exercise any other rights and remedies available. Sovereign has
informed us that it is not currently exercising its rights and
remedies under the secured loan agreements in light of the ongoing
settlement discussions with GEL and the continuance of the hearing
on confirmation of the Final Arbitration Award and to allow
Sovereign to evaluate any proposed settlement agreement related to
the Final Arbitration Award, which would require Sovereign’s
approval. However, Sovereign expressly reserved all of its rights,
privileges and remedies related to events of default under the
secured loan agreements and informed us that it would consider a
final confirmation of the Final Arbitration Award to be a material
event of default under the loan agreements. Any exercise by
Sovereign of its rights and remedies under thesecured loan
agreements would have a material adverse effect on our business,
financial condition and results of operations and likely would
require us to seek protection under bankruptcy laws. The debt
associated with loans under secured loan agreementswas classified
within the current portion of long-term debt on our consolidated
balance sheet at June 30, 2017 due to existing or potential events
of default related to the Final Arbitration Award as well as the
uncertainty of our ability to meet financial covenants in the
secured loan agreements in the future.
We can
provide no assurance as to whether negotiations with GEL will
result in a settlement or as to the potential terms of any such
settlement or whether Sovereign would approve any such settlement.
If we are unable to reach an acceptable settlement with GEL or
Sovereign does not approve any such settlement and GEL seeks to
confirm and enforce the Final Arbitration Award, our business,
financial condition and results of operations will be materially
adversely affected and we likely would be required to seek
protection under bankruptcy laws.
Following the
termination of crude supplies under the Crude Supply Agreement with
GEL, we put in place a month-to-month evergreen crude supply
contract with a major integrated oil and gas
company. This new supplier currently provides us with
adequate amounts of crude oil and condensate, and having crude
supply continuity has boosted our customers’ confidence in
our performance ability and enabled us to slowly rebuild
counter-party relationships. However,
we are currently
evaluating the effects of the Final Arbitration Award on our
business, financial condition and results of operations. In
addition to the matters described above, the Final Arbitration
Award could materially and adversely affect our ability to procure
adequate amounts of crude oil and condensate and our relationships
with our customers.
Currently, we rely
on revenue from operations, LEH and its affiliates (including
Jonathan Carroll), and borrowings under bank facilities to meet our
liquidity needs. We continued aggressive actions during the second
quarter of 2017 to improve operations and liquidity. We began
selling all of our jet fuel to LEH immediately following
production, which minimizes inventory, improves cash flow, and
reduces commodity risk. We also completed construction of several
new petroleum storage tanks at the Nixon
Facility. Increasing petroleum storage capacity: (i)
assists with de-bottlenecking the facility, which supports future
increased refinery throughput to approximately 17,000 bpd without
substantial capital expense, and (ii) provides an opportunity to
generate additional tank rental revenue by leasing to
third-parties. Additional ongoing efforts to improve
operations and liquidity include increasing jet fuel and HOBM sales
volumes, the latter of which is prime for export to Mexico, and
restructuring customer contracts on more favorable terms as they
come up for renewal. Management believes that it is
taking the appropriate steps to improve our financial stability.
However, there can be no assurance that our plan will be
successful, LEH and its affiliates will continue to fund our
working capital needs, or that we will be able to obtain additional
financing on commercially reasonable terms or at all.
Among
other factors, the Final Arbitration Award could prevent us from
successfully executing our plan.
|
BLUE DOLPHIN ENERGY
COMPANY
|
|
FORM 10-Q
3/31/17
|
Management’s
Discussion and Analysis of Financial Condition and Results of
Operations
(Continued)
Crude Oil and Condensate
Supply
.
Operation of the
Nixon Facility depends on our ability to purchase adequate amounts
of crude oil and condensate on favorable terms. We
currently have in place a month-to-month evergreen crude supply
contract with a major integrated oil and gas
company. This new supplier currently provides us with
adequate amounts of crude oil and condensate, and we expect the
supplier to continue to do so for the foreseeable
future. However, our ability to purchase crude oil and
condensate is dependent on our liquidity and access to capital,
which have been adversely affected by net losses, working capital
deficits, the contract-related dispute with GEL, and financial
covenant defaults in secured loan agreements.
Management believes
that it is taking the appropriate steps to improve our financial
stability. However, there can be no assurance that our
plan will be successful, LEH and its affiliates will continue to
fund our working capital needs, or that we will be able to obtain
additional financing on commercially reasonable terms or at
all. If our plan is unsuccessful, it could affect our
ability to acquire adequate supplies of crude oil and condensate
under the existing contract or otherwise.
Among other
factors, the Final Arbitration Award could prevent us from
successfully executing our plan and could have a material adverse
effect on our ability to procure adequate amounts and crude oil and
condensate from our current supplier or otherwise.
Further, because
our existing crude supply contract is a month-to-month arrangement,
there can be no assurance that crude oil and condensate supplies
will continue to be available under this contract in the
future.
Cash Flow
.
Our cash flow from
operations for the periods indicated was as follows:
|
|
Three Months
Ended June 30,
|
Six Months Ended
June 30,
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash flow from
operations
|
|
|
|
|
|
Adjusted loss from
operations
|
$
(24,809,999
)
|
$
(3,147,733
)
|
$
(26,104,959
)
|
$
(7,455,865
)
|
|
Change in assets
and current liabilities
|
22,217,311
|
5,245,779
|
21,138,428
|
9,151,391
|
|
|
|
|
|
|
|
Total cash inflows
(outflows) from operations
|
(2,592,688
)
|
2,098,046
|
(4,966,531
)
|
1,695,526
|
|
|
|
|
|
|
|
Cash inflows
(outflows)
|
|
|
|
|
|
Payments on
debt
|
(381,626
)
|
(466,434
)
|
(855,204
)
|
(944,865
)
|
|
Net activity on
related-party debt
|
2,159,404
|
-
|
3,256,694
|
-
|
|
Capital
expenditures
|
(596,869
)
|
(3,433,333
)
|
(1,407,701
)
|
(7,072,978
)
|
|
Total cash inflows
(outflows)
|
1,180,909
|
(3,899,767
)
|
993,789
|
(8,017,843
)
|
|
|
|
|
|
|
|
Total change in
cash flows
|
$
(1,411,779
)
|
$
(1,801,721
)
|
$
(3,972,742
)
|
$
(6,322,317
)
|
For the Current
Three Months, we experienced negative cash flow from operations of
$2,592,688 compared to positive cash flow from operations of
$2,098,046 for the Prior Three Months. The $4,690,734
decrease in cash flow from operations between the periods was
primarily the result of decreases in accounts payable as we worked
to pay our vendors more quickly.
For the Current Six
Months, we experienced negative cash flow from operations of
$4,966,531 compared to positive cash flow from operations of
$1,695,526 for the Prior Six Months. The $6,662,057 decrease in
cash flow from operations between the periods was primarily the
result of decreases in accounts payable as we worked to pay our
vendors more quickly.
|
BLUE DOLPHIN ENERGY
COMPANY
|
|
FORM 10-Q
3/31/17
|
Management’s
Discussion and Analysis of Financial Condition and Results of
Operations
(Continued)
Working Capital
.
During the Current
Three Months, net cash provided by financing activities totaled
$1,777,778 compared to net cash used in financing activities
totaling $466,434 in the Prior Three Months. For the
Current Six Months, net cash provided by financing activities
totaled $2,401,490 compared to net cash used in financing
activities totaling $944,865. Working capital from
financing activities represented advances from LEH and its
affiliates (including Jonathan Carroll) under promissory
notes. (See “Part I, Item 1. Financial Statements
– Note (8) Related Party Transactions and Note (10) Long-Term
Debt, Net,” as well as “Contractual Obligations –
Related Party” within the Liquidity and Capital Resources
section for additional disclosures with respect to related party
promissory notes.)
We had a working
capital deficit of $65,632,359 at June 30, 2017 compared to a
working capital deficit of $37,812,263 at December 31, 2016.
Excluding long-term debt, we had a working capital deficit of
$32,821,325 at June 30, 2017, compared to working capital of
$5,599,927 at December 31, 2016. The significant increase in
working capital deficit between the periods primarily related to
recording a current liability of $31,278,563 related to the Final
Arbitration Award, a decrease in cash and cash equivalents, and a
decrease in accounts receivable.
As discussed
elsewhere within this “Liquidity and Capital Resources”
section, the contract-related dispute with GEL has affected our
ability to obtain working capital through financing. We
expect this to continue following the Final Arbitration
Award. We currently rely on LEH and its affiliates
(including Jonathan Carroll) to fund our working capital
requirements. There can be no assurance that LEH and its
affiliates (including Jonathan Carroll) will continue to fund our
working capital requirements.
Capital Spending
.
Capital
improvements primarily relate to construction of new petroleum
storage tanks to add to existing petroleum storage
capacity. During the Current Three Months, we completed
several new tanks for which construction began during 2016.
Increasing petroleum storage capacity (i) assists with
de-bottlenecking the facility, which supports future increased
refinery throughput to approximately 17,000 bpd without substantial
capital expense, and (ii) provides an opportunity to generate
additional tank rental revenue by leasing to
third-parties. When the Nixon Facility expansion project
is complete, total crude oil, condensate, and refined petroleum
products storage capacity at the plant will exceed 1,000,000
bbls.
Capital
expenditures at the Nixon Facility are being funded by Sovereign
Bank (“Sovereign”) through long-term debt that we
secured in 2015. Available funds under these loans are
reflected in restricted cash (current and non-current portions) on
our consolidated balance sheets. Restricted cash
(current portion) represents funds to pay outstanding construction
invoices and to fund construction
contingencies. Restricted cash (current portion) totaled
$1,481,626 and $3,347,835 at June 30, 2017 and December 31, 2016,
respectively. Restricted cash, non-current represents
funds held in our disbursement account with Sovereign to complete
construction of new petroleum storage tanks. Restricted cash,
noncurrent totaled $563,336 and $1,582,305 at June 30, 2017 and
December 31, 2016, respectively.
Capital
expenditures for the periods indicated were as
follows:
|
|
Three Months Ended June 30,
|
Six Months Ended June 30,
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Capital
expenditures financed by:
|
|
|
|
|
|
Cash
disbursements
|
$
645,823
|
$
3,433,333
|
$
1,456,655
|
$
7,072,978
|
|
Accounts payable
(1)
|
212,410
|
1,487,174
|
1,432,672
|
3,231,171
|
|
|
$
858,233
|
$
4,920,507
|
$
2,889,327
|
$
10,304,149
|
(1)
Represents
construction-related vendor invoices awaiting payment from the loan
disbursement account.
See “Part I,
Item 1. Financial Statements – Note (10) Long-Term Debt,
Net” for additional disclosures related to borrowings for
capital spending.
|
BLUE DOLPHIN ENERGY
COMPANY
|
|
FORM 10-Q
3/31/17
|
Management’s
Discussion and Analysis of Financial Condition and Results of
Operations
(Continued)
Contractual
Obligations
.
Related Party
. See
“Part I, Item 1. Financial Statements – Note (8)
Related Party Transactions” in this Quarterly Report for a
summary of the agreements we have in place with related
parties.
Genesis
. See “Part I,
Item 1A. Risk Factors” in our Annual Report, as well as
“Part I, Item 1. Financial Statements – Note (18)
Commitments and Contingencies – Legal Matters” in this
Quarterly Report for disclosures related to the contract-related
dispute with GEL and the Final Arbitration Award.
Supplemental Pipeline
Bonds
. See “Part I, Item 1. Financial
Statements – Note (18) Commitments and Contingencies –
Supplemental Pipeline Bonds” for a discussion of supplemental
pipeline bonding requirements.
Indebtedness
.
The principal
balances outstanding on our long-term debt, net (including related
party) for the periods indicated were as follow:
|
|
|
|
|
|
|
|
|
|
|
|
|
First
Term Loan Due 2034
|
$
23,551,966
|
$
23,924,607
|
|
Second
Term Loan Due 2034
|
9,607,032
|
9,729,853
|
|
LEH
Loan Agreement
|
4,000,000
|
4,000,000
|
|
June
LEH Note
|
2,484,297
|
-
|
|
Notre
Dame Debt
|
1,300,000
|
1,300,000
|
|
March
Ingleside Note
|
1,143,803
|
722,278
|
|
March
Carroll Note
|
112,272
|
592,412
|
|
Capital
Leases
|
50,790
|
135,879
|
|
Term
Loan Due 2017
|
-
|
184,994
|
|
|
42,250,160
|
40,590,023
|
|
Less:
Current portion of long-term debt, net
|
(32,811,034
)
|
(32,212,336
)
|
|
Less:
Unamoritized debt issue costs
|
(2,198,754
)
|
(2,262,997
)
|
|
|
$
7,240,372
|
$
6,114,690
|
Payments on
long-term debt totaled $381,626 for the Current Three Months
compared to $466,434 in the Prior Three Months. Payments
on long-term debt totaled $855,204 for the Current Six Months
compared to $944,865 in the Prior Six Months.
|
BLUE DOLPHIN ENERGY
COMPANY
|
|
FORM 10-Q
3/31/17
|
Management’s
Discussion and Analysis of Financial Condition and Results of
Operations
(Continued)
As
described elsewhere in this Quarterly Report, Sovereign has
notified us that the Final Arbitration Award constitutes an event
of default under the First Term Loan Due 2034 and Second Term Loan
Due 2034. In addition to existing or potential events of default
related to the Final Arbitration Award, at June 30, 2017, LE and
Lazarus Refining & Marketing, LLC were in violation of the debt
service coverage ratio, the current ratio, and debt to net worth
ratio financial covenants related to the secured loan agreements.
LE also failed to replenish a payment reserve account as required.
The occurrence of events of default under the secured loan
agreements permits Sovereign to declare the amounts owed under the
secured loan agreements immediately due and payable, exercise its
rights with respect to collateral securing our obligations under
the loan agreements, and/or exercise any other rights and remedies
available. Sovereign waived the financial covenant defaults as of
June 30, 2017. Sovereign has informed usthat it is not currently
exercising its rights, privileges and remedies under the secured
loan agreements in light of the ongoing settlement discussions with
GEL and the continuance of the hearing on confirmation of the Final
Arbitration Award and to allow Sovereign to evaluate any proposed
settlement agreement related to the Final Arbitration Award, which
would require Sovereign’s approval. However, Sovereign
expressly reserved all of its rights, privileges and remedies
related to events of default under the secured loan agreements and
informed us that it would consider a final confirmation of the
Final Arbitration Award to be a material event of default under the
loan agreements. Any exercise by Sovereign of its rights and
remedies under the secured loan agreements would have a material
adverse effect on our business, financial condition and results of
operations and likely would require us to seek protection under
bankruptcy laws.
See “Part I,
Item 1. Financial Statements – Note (1) Organization –
Going Concern, Note (10) Long-Term Debt, Net, and Note (19)
Subsequent Events” for additional disclosures related to
long-term debt financial covenant violations and events of
default.
See
“Contractual Obligations – Related Party” within
the Liquidity and Capital Resources section for additional
disclosures with respect to related party
indebtedness.
Off-Balance
Sheet Arrangements
None.
Critical
Accounting Policies
Long-Lived Assets
.
Refinery and Facilities
. Management
expects to continue making improvements to the Nixon Facility based
on operation needs and technological advances. Additions
to refinery and facilities assets are capitalized. Expenditures for
repairs and maintenance are expensed as incurred and included as
operating expenses under the Amended and Restated Operating
Agreement.
We record refinery
and facilities at cost less any adjustments for depreciation or
impairment. Adjustment of the asset and the related accumulated
depreciation accounts are made for the refinery and facilities
asset’s retirement and disposal, with the resulting gain or
loss included in the consolidated statements of
operations. For financial reporting purposes,
depreciation of refinery and facilities assets is computed using
the straight-line method using an estimated useful life of 25 years
beginning when the refinery and facilities assets are placed in
service. We did not record any impairment of our
refinery and facilities assets for the years ended December 31,
2016 and 2015.
Pipelines and Facilities Assets
. Our
pipelines and facilities are recorded at cost less any adjustments
for depreciation or impairment. Depreciation is computed
using the straight-line method over estimated useful lives ranging
from 10 to 22 years. In accordance with Financial Accounting
Standards Board (“FASB”) Accounting Standards
Codification (“ASC”) guidance on accounting for the
impairment or disposal of long-lived assets, management performed
periodic impairment testing of our pipeline and facilities assets
in the fourth quarter of 2016. Upon completion of that testing, our
pipeline assets were fully impaired. All pipeline
transportation services to third-parties have ceased, existing
third-party wells along our pipeline corridor were permanently
abandoned, and no new third-party wells are being drilled near our
pipelines. However, management believes our pipeline assets have
future value based on large-scale, third-party production facility
expansion projects near the pipelines.
Oil and Gas Properties
. Our oil and gas
properties are accounted for using the full-cost method of
accounting, whereby all costs associated with acquisition,
exploration and development of oil and gas properties, including
directly related internal costs, are capitalized on a cost center
basis. Amortization of such costs and estimated future
development costs are determined using the unit-of-production
method. All leases associated with our oil and gas
properties have expired, and our oil and gas properties were fully
impaired in 2011.
|
BLUE DOLPHIN ENERGY
COMPANY
|
|
FORM 10-Q
3/31/17
|
Management’s
Discussion and Analysis of Financial Condition and Results of
Operations
(Continued)
Construction in Progress
. Construction
in progress expenditures, which relate to construction and
refurbishment activities at the Nixon Facility, are capitalized as
incurred. Depreciation begins once the asset is placed in
service.
Revenue
Recognition
.
Refined Petroleum Products
Revenue
. Revenue from the sale of refined
petroleum products is recognized when sales prices are fixed or
determinable, collectability is reasonably assured, and title
passes. Title passage occurs when refined petroleum products are
delivered in accordance with the terms of the respective sales
agreements, and customers assume the risk of loss when title is
transferred. Transportation, shipping and handling costs
incurred are included in cost of refined products sold. Excise and
other taxes that are collected from customers and remitted to
governmental authorities are not included in revenue.
Tank Rental Revenue
. We
lease petroleum storage tanks to third-parties. Tank
rental fees are invoiced monthly in accordance with the terms of
the related lease agreement. Tank rental revenue is
recognized on a straight-line basis as earned.
Asset Retirement
Obligations
.
FASB ASC guidance
related to AROs requires that a liability for the discounted fair
value of an ARO be recorded in the period in which it is incurred
and the corresponding cost capitalized by increasing the carrying
amount of the related long-lived asset. The liability is accreted
towards its future value each period, and the capitalized cost is
depreciated over the useful life of the related asset. If the
liability is settled for an amount other than the recorded amount,
a gain or loss is recognized.
Management has
concluded that there is no legal or contractual obligation to
dismantle or remove the refinery and facilities assets. Further,
management believes that these assets have indeterminate lives
under FASB ASC guidance for estimating AROs because dates or ranges
of dates upon which we would retire these assets cannot reasonably
be estimated at this time. When a legal or contractual obligation
to dismantle or remove the refinery and facility assets arises and
a date or range of dates can reasonably be estimated for the
retirement of these assets, we will estimate the cost of performing
the retirement activities and record a liability for the fair value
of that cost using present value techniques.
We recorded an ARO
liability related to future asset retirement costs associated with
dismantling, relocating or disposing of our offshore platform,
pipeline systems and related onshore facilities, as well as
plugging and abandoning wells and restoring land and sea beds. We
developed these cost estimates for each of our assets based upon
regulatory requirements, structural makeup, water depth, reservoir
characteristics, reservoir depth, equipment demand, current
retirement procedures, and construction and engineering
consultations. Because these costs typically extend many
years into the future, estimating future costs are difficult and
require management to make judgments that are subject to future
revisions based upon numerous factors, including changing
technology, political, and regulatory environments. We review our
assumptions and estimates of future abandonment costs on an annual
basis.
Income Taxes
.
We account for
income taxes under FASB ASC guidance related to income taxes, which
requires recognition of income taxes based on amounts payable with
respect to the current reporting period and the effects of deferred
taxes for the expected future tax consequences of events that have
been included in our financial statements or tax
returns. Under this method, deferred tax assets and
liabilities are determined based on the differences between the
financial accounting and tax basis of assets and liabilities, as
well as for operating losses and tax credit carryforwards using
enacted tax rates in effect for the year in which the differences
are expected to reverse.
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Management’s
Discussion and Analysis of Financial Condition and Results of
Operations
(Continued)
As of each
reporting date, management considers new evidence, both positive
and negative, to determine the realizability of deferred tax
assets. Management considers whether it is more likely
than not that some portion or all the deferred tax assets will be
realized, which is dependent upon the generation of future taxable
income prior to the expiration of any NOL carryforwards. At June
30, 2017 and December 31, 2016, management determined that
cumulative losses incurred over the prior three-year period
provided significant objective evidence that limited the ability to
consider other subjective evidence, such as projections for future
growth. Based on this evaluation, we recorded a full valuation
allowance against the deferred tax assets as of June 30, 2017 and
December 31, 2016.
FASB ASC guidance
related to income taxes also prescribes a recognition threshold and
measurement attribute for the financial statement recognition and
measurement of a tax position taken or expected to be taken in a
tax return, as well as guidance on derecognition, classification,
interest and penalties, accounting in interim periods, disclosures,
and transition.
(See “Part I,
Item 1. Financial Statements - Note (15) Income Taxes” for
further information related to income taxes.)
Recently
Adopted Accounting Guidance
The Financial
Accounting Standards Board (“FASB”) issues an
Accounting Standards Update (“ASU”) to communicate
changes to the FASB Accounting Standards Codification, including
changes to non-authoritative SEC content. Recently
adopted ASUs include:
ASU 2016-18, Statement of Cash Flows
(Topic 230: Restricted Cash (a Consensus of the FASB Emerging
Issues Task Force
. In November 2016, FASB issued ASU
2016-18, which requires that a statement of cash flows explain the
change during the period in the total of cash, cash equivalents,
and amounts generally described as restricted cash or restricted
cash equivalents. We adopted this accounting pronouncement
effective December 31, 2016. Accordingly, our consolidated
statement of cash flows for the six months ended June 30, 2016 was
changed to combine restricted cash with cash and cash
equivalents.
ASU 2015-11,
Inventory (Topic 330):
Simplifying the Measurement of
Inventory
. In July 2015, FASB issued ASU 2015-11, which
requires an entity to measure inventory at the lower of cost or net
realizable value. We adopted this accounting
pronouncement effective January 1, 2017. The adoption of
ASU 2015-11 did not have a significant impact on our consolidated
financial statements.
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ITEM
3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET
RISK
ITEM
4. CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and
Procedures
Under the
supervision of, and with the participation of our management,
including our Chief Executive Officer (principal executive officer)
and Chief Financial Officer (principal financial officer), we
conducted an evaluation of the effectiveness of our disclosure
controls and procedures, as defined in Rules 13a-15(e) and
15d-15(e) under the Securities Exchange Act of 1934, as amended
(the “Exchange Act”), as of the end of the period
covered by this Quarterly Report. Based on our evaluation, our
Chief Executive Officer (principal executive officer) and Chief
Financial Officer (principal financial officer) concluded that our
disclosure controls and procedures were effective as of the end of
the period covered by this report to ensure that information
required to be disclosed by us in reports that we file or submit
under the Exchange Act, are recorded, processed, summarized and
reported within the time periods specified in the SEC’s rules
and forms.
Changes in Internal Control over Financial
Reporting
Management
concluded that our internal control over financial reporting was
effective as of December 31, 2016. There has been no change in our
internal control over financial reporting (as defined in Rule
13a-15(f) and 15d-15(f) under the Exchange Act) that occurred
during the three and six months ended June 30, 2017 that has
materially affected, or is reasonably likely to materially affect,
our internal control over financial reporting.
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