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HUSA > SEC Filings for HUSA > Form 10-Q on 9-Nov-2012All Recent SEC Filings

Show all filings for HOUSTON AMERICAN ENERGY CORP

Form 10-Q for HOUSTON AMERICAN ENERGY CORP


9-Nov-2012

Quarterly Report


Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

Forward-Looking Information

This Form 10-Q quarterly report of Houston American Energy Corp. (the "Company") for the nine months ended September 30, 2012, contains certain forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, which are intended to be covered by the safe harbors created thereby. To the extent that there are statements that are not recitations of historical fact, such statements constitute forward-looking statements that, by definition, involve risks and uncertainties. In any forward-looking statement, where we express an expectation or belief as to future results or events, such expectation or belief is expressed in good faith and believed to have a reasonable basis, but there can be no assurance that the statement of expectation or belief will be achieved or accomplished.

The actual results or events may differ materially from those anticipated and as reflected in forward-looking statements included herein. Factors that may cause actual results or events to differ from those anticipated in the forward-looking statements included herein include the Risk Factors described in Item 1A herein and in our Form 10-K for the year ended December 31, 2011.

Readers are cautioned not to place undue reliance on the forward-looking statements contained herein, which speak only as of the date hereof. We believe the information contained in this Form 10-Q to be accurate as of the date hereof. Changes may occur after that date, and we will not update that information except as required by law in the normal course of our public disclosure practices.

Additionally, the following discussion regarding our financial condition and results of operations should be read in conjunction with the financial statements and related notes contained in Item 1 of Part 1 of this Form 10-Q, as well as the Risk Factors in Item 1A and the financial statements in Item 7 of Part II of our Form 10-K for the fiscal year ended December 31, 2011.

Critical Accounting Policies

The discussion and analysis of our financial condition and results of operations is based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. We believe certain critical accounting policies affect the more significant judgments and estimates used in the preparation of our financial statements. A description of our critical accounting policies is set forth in our Form 10-K for the year ended December 31, 2011. As of, and for the quarter ended, September 30, 2012, there have been no material changes or updates to our critical accounting policies other than the following updated information relating to Unevaluated Oil and Gas Properties:

Unevaluated Oil and Gas Properties

Unevaluated oil and gas properties not subject to amortization, net of
impairment, include the following at September 30, 2012:

                                    September 30, 2012
Acquisition costs                  $            948,511
Development and evaluation costs              8,070,650
Total                              $          9,019,161

Included in the carrying value of unevaluated oil and gas prospects above was $8,069,770 for properties in the South American country of Colombia. We are maintaining our interest in these properties and development has or is anticipated to commence within the next twelve months.


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Current Year Developments

Drilling Activity

During the nine months ended September 30, 2012, we drilled 4 international wells in Colombia, as follows:

? 2 wells were drilled on the La Cuerva concession in which we hold a 1.6% working interest, of which 2 were completed and brought onto production (both wells were sold in connection with the sale of our interest in HC, LLC described below).

? 2 wells were drilled on the CPO 4 block in Colombia, both of which were determined to be non-commercial.

At September 30, 2012, a third well was being drilled on the CPO 4 block (see "CPO 4 and Serrania Development" below).

During the nine months ended September 30, 2012, no domestic wells were drilled.

Sale of La Cuerva and LLA 62 Blocks

During the first quarter of 2012, we sold all of our interest in Hupecol Cuerva, LLC ("HC, LLC"), which holds interests in the La Cuerva block and, pending approval of the Colombian authorities, the LLA 62 block, together covering approximately 90,000 acres in the Llanos Basin in Colombia.

HC, LLC sold for $75 million, adjusted for working capital. 13.3% of the sales price of HC, LLC will be held in escrow to fund potential claims arising from the sale. Pursuant to our 1.6% ownership interest in HC, LLC, we received 1.6% in the net sale proceeds after deduction of commissions, overriding royalty interest, and transaction expenses; subject to the escrow holdback and a further contingency holdback by Hupecol of 1.3% of the sales price. Following completion of the sale of HC, LLC, we have no continuing interest in the La Cuerva and LLA 62 blocks.

CPO 4 and Serrania Development

During the nine months ended September 30, 2012, we invested $24,030,938 (of which $3,590,000 was accrued as of September 30, 2012) for the development of oil and gas properties, consisting of (1) drilling and drilling preparation costs on 3 wells in Colombia of $23,688,911, (2) seismic cost in Colombia of $139,400, (3) evaluation cost in Colombia of $107,430 and (4) leasehold costs on U.S. properties of $95,197.

In April 2012, we, together with the operator, determined to cease efforts to test and complete the Tamandua #1 sidetrack well on the CPO 4 prospect in Colombia. As a result of the determination to cease efforts to complete the Tamandua #1 well, we included the costs related to the Tamandua #1 well in the full cost pool for inclusion in the ceiling test. We recorded an impairment charge of $0 and $26,527,300 during the quarter and nine months ended September 30, 2012 to write off costs not being amortized that were attributable to the drilling of the Tamandua #1 well on the CPO 4 block as well as to write off seismic exploration and evaluation cost, general and administrative cost and environmental and governmental cost that were attributable to the Tamandua #1 well through September 30, 2012.

In July 2012, we determined to plug and abandon the Cachirre #1 well on the CPO 4 prospect in Colombia. As a result of such determination, we recorded an impairment charge of $1,174,169 and $11,275,788 during the three and nine-months ended September 30, 2012 to write off costs not being amortized that were attributable to the drilling of the Cachirre #1 well as well as to write off seismic exploration and evaluation cost, general and administrative cost and environmental and governmental cost that were attributable to the Cachirre #1 well through September 30, 2012.

In September 2012, we spud our third well on the CPO 4, the Zorro Gris #1 well, with a target total depth of 13,094 feet. The Zorro Gris #1 well reached total depth on October 23, 2012 and is scheduled to undergo testing during the fourth quarter of 2012.

As a result of Gulf United Energy's delinquency in satisfying its financial obligations with respect to the CPO 4 prospect, during the quarter ended September 30, 2012, we wrote-down our receivable from Gulf United for $3,951,370. If Gulf United Energy is unable, or unwilling, to satisfy its various obligations relating to the CPO 4 prospects, our interest in the CPO 4 prospect may be proportionately increased and we may be required to pay a proportionately higher share of development costs on the CPO 4 Block.

With respect to development of our Serrania Block, the National Hydrocarbon Agency of Colombia (the "ANH") has granted extensions of required development commitments, including drilling of a first test well, until September 2013 based on conditions on the ground. Based on those conditions, we anticipate that drilling of a first test well on the Serrania Block will not occur until 2013.


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Financing Activities

On May 3, 2012, we entered into definitive agreements with certain institutional investors to sell, and on May 8, 2012 we sold, 6,200,000 units, with each unit consisting of one of our common shares and one warrant to purchase one common share, for gross proceeds of approximately $13.14 million, before deducting placement agent fees and estimated offering expenses of $527,000 recorded as cost of capital, in a "registered direct" offering. The investors purchased the units at a purchase price of $2.12 per unit. The warrants, which represent the right to acquire an aggregate of up to 6,200,000 common shares, are exercisable at any time on or after November 9, 2012 and prior to November 9, 2015 at an exercise price of $2.68 per share, which was 120% of the closing price of our common shares on the NYSE Amex on May 2, 2012.

On October 1, 2012, we entered into definitive agreements with certain investors to sell, and on October 4, 2012 we sold, 14,814,815 units, with each unit consisting of one of our common shares, one Class A Warrant and one Class B Warrant, for gross proceeds of approximately $10.0 million, before deducting placement agent fees and estimated offering expenses of $828,000 recorded as cost of capital, in a "registered direct" public offering. The investors purchased the units at a purchase price of $0.675 per unit. The Class A Warrants represent the right to acquire one-half common share per warrant, or an aggregate of up to 7,407,407 common shares for a period of six months at an exercise price of $0.81 per share. The Class B Warrants represent the right to acquire one-half common share per warrant, or an aggregate of up to 7,407,407 common shares for a period of three years at an exercise price of $0.90 per share.

Legal Proceedings

At September 30, 2012, we were the subject of a non-public formal investigation being conducted by the Securities and Exchange Commission (the "SEC"). Pursuant to the investigation, we received subpoenas issued by the SEC. The subpoenas called for the testimony of certain of our officers and the delivery of certain documents. The subpoenas were issued pursuant to a nonpublic formal order of private investigation issued by the SEC on March 1, 2011, which followed a nonpublic informal inquiry commenced by the SEC in October 2010. We received a copy of the nonpublic formal order of private investigation on February 10, 2012 in connection with a subpoena issued by the SEC. The SEC is investigating whether there have been any violations of the federal securities laws and appears to have narrowed the focus of their investigation to matters relating to disclosures in the late 2009 and early 2010 time period regarding resource potential for the CPO 4 prospect. We have presented information supporting our disclosure relative to resource potential on the CPO 4 prospect. The investigation does not represent a conclusion by the staff that there have been any violations of the federal securities laws nor whether the staff would conclude that any enforcement action is appropriate. At this time, we have not been made aware of a finding by the SEC of any securities violations. Also, as stated in the subpoenas issued by the SEC, the investigation does not mean that the SEC has a negative opinion of any person, entity or security. We have cooperated fully, and are committed to continuing to cooperate fully, with the SEC in this matter. It is not possible at this time to predict the timing or outcome of the SEC investigation, including whether or when any proceedings might be initiated, when these matters may be resolved or what, if any, penalties or other remedies may be imposed, and whether any such penalties or remedies would have a material adverse effect on our consolidated financial position, results of operations, or cash flows.

In connection with the ongoing non-public formal investigation being conducted by the SEC and indemnification provisions contained in an engagement agreement with Global Hunter Securities, LLC relating to the Company's 2009 equity offering, in July 2012, the Company and Global Hunter entered into an agreement to settle any and all claims by Global Hunter related to reimbursement of attorney's fees under the indemnity provision. During the nine months ended September 30, 2012, the Company paid a total of $490,850 to Global Hunter and in exchange for the payments, the Company was granted a full release by Global Hunter Securities of any future claims or liabilities asserted by Global Hunter in connection with the offering. The payment to Global Hunter Securities was recorded as a charge to additional paid in capital and is listed under the Cash Flow from Financing Activities in the statement of cash flows as Cost of capital.

On April 27, 2012, a purported class action lawsuit was filed in the U.S. District Court for the Southern District of Texas against us and certain of our executive officers: Steve Silverman v. Houston American Energy Corp. et al., Case No. 4:12-CV-1332. The complaint generally alleges that, between March 29, 2010 and April 18, 2012, all of the defendants violated Sections 10(b) of the Securities Exchange Act of 1934 and SEC Rule 10b-5 and the individual defendants violated Section 20(a) of the Exchange Act in making materially false and misleading statements including certain statements related to the status and viability of the Tamandua #1 well. Two additional class action lawsuits were filed against us in May 2012. The complaints seek unspecified damages, interest, attorneys' fees, and other costs. On September 20, 2012, the court consolidated the class action lawsuits and appointed a lead plaintiff. We believe all of the claims in the consolidated class action lawsuits are without merit and intend to vigorously defend against these claims. It is not possible at this time to predict the timing or outcome of the class action lawsuits that have or may be filed. We expect to incur costs and to devote management time and resources to defending such lawsuits.


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On July 19, 2012, a purported derivative cause of action was filed in the U.S. District Court for the Southern District of Texas against certain of our directors and officers and Houston American Energy, as nominal defendant: E. Howard King, Jr., derivatively, on behalf of Houston American Energy Corp., v. John F. Terwilliger, John P. Boylan, Orrie Lee Tawes III, Stephen Hartzell, James J. Jacobs, Kenneth A. Jeffers, defendants, and Houston American Energy Corp., as nominal defendant, Case No. 4:12-CV-02182. The complaint asserts a cause of action by a shareholder on behalf of Houston American against certain of our directors and senior executive officers in connection with the June 11, 2012 approval of payment of certain bonuses, increases in salary, grant of certain stock options and entry into certain Change in Control Agreements. The complaint alleges that the approval of such matters constituted breach of fiduciary duty and corporate waste and seeks injunctive relief to bar each of the actions in question and seeks restitution. No damages have been or, by the nature of the derivative cause of action, are expected to be alleged against us. We may, however, incur certain costs and demands on management time and resources in connection with the lawsuit. On October 1, 2012, we, and the individual defendants, filed a motion to dismiss the lawsuit, which is currently pending before the court.

Compensation Expense

In June 2012, our board of directors approved, and we paid, cash bonuses to our senior management team totaling $403,199 and grants of stock options to acquire an aggregate of 1,200,000 shares of common stock and, effective July 1, 2012, we increased the base salary of members of our senior management team by amounts ranging from 5% to 15%.

The options granted vested on the grant date, have a ten year life and have an exercise price of $1.65 per share. Of those options, 429,000 are exercisable commencing 6 months from the date of grant and 771,000 are exercisable on and after shareholder approval of an amendment to our 2008 Equity Incentive Plan to increase the shares reserved under the plan to facilitate exercise. The option grants to employees, excluding grants that are subject to shareholder approval of amendment to the 2008 Equity Incentive Plan, were valued on the date of grant at $354,098 using the Black-Scholes option-pricing model. Of that value, all were recognized as compensation expense at the date of grant. Option grants that remain subject to shareholder approval of amendment to the 2008 Equity Incentive Plan will be valued and accounted for at the time of shareholder approval of the amendment.

In June 2012, our board of directors approved grants of stock options to purchase 25,000 shares of common stock, consistent with our existing director compensation program, to each of our non-employee directors and one-time extraordinary grants of stock options to purchase 75,000 shares of common stock to each of our non-employee directors. Each of the options vest 20% on the grant date and 80% nine months from the grant date and is exercisable for a term of 10 years at an exercise price of $1.65 per share; provided, however, that 48,175 of the options granted to each of the directors shall not be exercisable, in part or in whole, until such time as our shareholders shall have approved an amendment to our 2008 Equity Incentive Plan increasing the shares reserved for issuance under the plan to an amount sufficient to permit issuance of such shares. The option grants to non-employee directors, excluding grants that are subject to shareholder approval of amendment to the 2008 Equity Incentive Plan, were valued on the date of grant at $128,328 using the Black-Scholes option-pricing model. Of that value, $25,665 was recognized as compensation expense at the date of grant and $102,663 will be recognized upon vesting.

In June 2012, our board of directors amended our cash compensation arrangements for non-employee directors, effective June 30, 2012, to increase all amounts payable thereunder by 50% to: annual retainer of $9,000, payable in quarterly installments of $2,250; annual retainer for service on each committee of $3,000, payable in quarterly installments of $750; annual retainer for service as chairman of the audit committee of $3,750, payable in quarterly installments of $938; and annual retainer for service as chairman of the compensation committee of $2,250, payable in quarterly installments of $563.

In June 2012, our board of directors approved the entry into Change in Control Agreements (the "Change in Control Agreements") with our President and Chief Executive Officer, John Terwilliger, Chief Financial Officer, James J. Jacobs, and Senior Vice President - Exploration, Kenneth Jeffers. Pursuant to the Change in Control Agreements, if we undergo a change in control and a covered officer is terminated without cause or resigns for good reason within 90 days prior to or within 12 months following a change in control, the subject officer is entitled to (i) a lump sum cash severance payment equal to 250% of his average annual cash compensation (including salary and bonuses) during the three years ending on the termination date, and (ii) acceleration of vesting of all unvested time-based stock options.

In July 2012, we appointed a new non-employee director following the resignation of a non-employee director. In connection with the appointment, we granted stock options to purchase 25,000 shares of common stock at $1.18 per share with a fair value of 19,375 using the Black-Scholes option-pricing model. Of that value, $5,572 was recognized as compensation expense at the date of grant and $13,803 will be recognized upon vesting.


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During the three and nine months ended September 30, 2012, we recognized non-cash compensation expense associated with grants of restricted stock totaling $62,270 and $185,152, respectively.

As of September 30, 2012, excluding grants that remain subject to shareholder approval of amendment to the 2008 Equity Incentive Plan, there was $420,326 of total unrecognized compensation cost related to unvested restricted stock and $1,606,125 of total unrecognized compensation cost related to unvested, or un-exercisable, stock options. The cost is expected to be recognized over a weighted average period of approximately 1.7 years for restricted stock and 1.48 years for stock options. Option grants that remain subject to shareholder approval of amendment to the 2008 Equity Incentive Plan will be valued and accounted for at the time of shareholder approval of the amendment.

Strategic Alternative Review

In July 2012, our board authorized the engagement of an investment banking firm, and we engaged Canaccord Genuity, Inc., to assist in the evaluation of a broad range of financial and strategic alternatives, including, but not limited to, seeking additional financing to support the long-term development of our oil and gas properties, seeking financial and/or industry partners to participate in the development of our properties, selling some of or all of our assets or interests in those assets, and the possible sale of our company, among other alternatives. Our board concluded the review of strategic alternatives determining that satisfactory alternatives were not available and that we should seek additional financing to support the ongoing development of our assets. Following that determination, we consummated the October 1, 2012 financing described elsewhere herein.

Tax Contingency

At September 30, 2012, we had engaged our tax advisors in Colombia to evaluate certain tax and other filings made in Colombia by other advisors for 2010 and 2011. Our advisors identified inconsistencies between tax and non-tax filings with respect to equity investments made by is in Colombia during 2010. Based on guidance from our advisors, no liability or expense has been accrued with respect to the tax on equity investments. In the event that it is determined that a Colombian equity tax is due, the full amount of the Colombian tax is estimated at approximately $1.2 million.

Results of Operations

Oil and Gas Revenues. Total oil and gas revenues decreased 90.4% to $30,572 in the three months ended September 30, 2012 compared to $319,261 in the three months ended September 30, 2011. For the nine month period, oil and gas revenues decreased 51.4% to $387,609 in the nine months ended September 30, 2012 compared to $797,068 in the nine months ended September 30, 2011.

The decrease in revenue was due to the sale of the La Cuerva concession during the first quarter of 2012.

The following table sets forth the gross and net producing wells, net oil and gas production volumes and average hydrocarbon sales prices for the three and nine months ended September 30, 2012 and 2011:

                                                 Three Months Ended            Nine Months Ended
                                                    September 30,                September 30,
                                                 2012           2011           2012          2011
Gross producing wells                                  6             22             22            22
Net producing wells                                 0.18           0.44           0.44          0.44
Net oil production (bbl)                             238          3,323          2,622         7,769
Net gas production (mcf)                           2,677          2,741          9.928         8,761
Average sales price - oil (per barrel)        $    98.40      $   93.59     $   109.06     $   98.54
Average sales price - natural gas (per Mcf)   $     2.74      $    3.01     $     3.24     $    3.60

The number of gross wells shown above for the nine month period ended 2012 includes the 16 gross (0.256 net) wells attributable to the La Cuerva concession that were sold during the first quarter of 2012. At September 30, 2012, we had 6 gross (0.18 net) wells.

The change in average sales prices realized reflects fluctuations in global commodity prices.


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Oil and gas sales revenues by region were as follows:

                         Colombia         U.S.         Total
2012 First Nine Months
Oil sales                $ 263,185  *   $ 92,292     $ 355,477
Gas sales                        -        32,132        32,132
2011 First Nine Months
Oil sales                $ 680,968      $ 84,587     $ 765,555
Gas sales                        -        31,513        31,513

* Includes a $69,186 payment from Hupecol for oil produced in 2011 which is considered immaterial to the 2011 financial statements.

Lease Operating Expenses. Lease operating expenses, excluding joint venture expenses relating to our Colombian operations discussed below, decreased 94.4% to $13,604 in the 2012 quarter from $246,162 in the 2011 quarter. For the nine-month period, lease operating expenses decreased 69.6% to $172,252 from $567,626 in the 2011 period. The decrease in lease operating expenses was attributable to the sale of our interest in the La Cuerva concession during the first quarter of 2012.

Following is a summary comparison of lease operating expenses, by region, for the periods.

                                      Colombia        U.S.         Total
                Three Months - 2012   $       -     $ 13,604     $  13,604
                             - 2011   $ 232,122     $ 14,040     $ 246,162

                Nine Months  - 2012   $ 118,788     $ 53,464     $ 172,252
                             - 2011   $ 520,340     $ 47,286     $ 567,626

Consistent with our business model and operating history, we experience steep declines in lease operating expenses following strategic divestitures and anticipate lease operating expenses to ramp up to levels consistent with regional costs as new wells are brought on line.

Joint Venture Expenses. Our allocable share of joint venture expenses attributable to the Colombian Joint Venture with Hupecol totaled $0 and $3,727 during three months ended September 30, 2012 and 2011, respectively, and $3,243 and $9,651 during the nine months ended September 30, 2012 and 2011, respectively. The change in joint venture expenses was attributable to reduced allocated administrative cost following the sale of our interest in the La Cuerva concession during the first quarter of 2012.

Depreciation and Depletion Expense. Depreciation and depletion expense was $6,040 and $53,897 for the quarter ended September 30, 2012 and 2011, respectively, and $61,507 and $124,241 for the nine months ended September 30, 2012 and 2011, respectively. The decrease in depreciation and depletion was due to the sale of our interest in the La Cuerva concession.

Gain on Sale of Oil and Gas Properties. The sale of our indirect interests in Hupecol Cuerva, LLC resulted in a gain of $315,119 during the 2012 first quarter and nine-month period. During the nine-months ended September 30, 2011, post closing adjustments related from the sale of our indirect interests in Hupecol Dorotea and Cabiona, LLC, Hupecol Llanos, LLC and Caracara resulted in a loss of $179,595.

Impairment Expense. Termination of our testing and completion efforts on our Tamandua #1 sidetrack well and Cachirre #1 well resulted in impairment expense . . .

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