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HEVI > SEC Filings for HEVI > Form 10-Q on 19-Jun-2013All Recent SEC Filings

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Form 10-Q for HEAVY EARTH RESOURCES, INC.


19-Jun-2013

Quarterly Report


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

The following discussion relates to a discussion of the financial condition and results of operations of Heavy Earth Resources, Inc., a Florida corporation (the "Company") herein used in this report, unless otherwise indicated, under the terms "Registrant," "Heavy Earth," "we," "us" and similar terms and its wholly-owned subsidiary Deep Core Inc., a Cayman Island exempt company ("Deep Core"), Deep Core's majority-owned Colombian subsidiary, DCX SAS (formerly known as Petropuli SAS) ("DCX") and Deep Core's wholly-owned Barbados subsidiary, Deep Core (Barbados) Inc.

Forward Looking Statements

This following information specifies certain forward-looking statements of management of the company. Forward-looking statements are statements that estimate the happening of future events are not based on historical fact. Forward-looking statements may be identified by the use of forward-looking terminology, such as "may", "shall", "could", "expect", "estimate", "anticipate", "predict", "probable", "possible", "should", "continue", or similar terms, variations of those terms or the negative of those terms. The forward-looking statements specified in the following information have been compiled by our management on the basis of assumptions made by management and considered by management to be reasonable. Our future operating results, however, are impossible to predict and no representation, guaranty, or warranty is to be inferred from those forward-looking statements.

The assumptions used for purposes of the forward-looking statements specified in the following information represent estimates of future events and are subject to uncertainty as to possible changes in economic, legislative, industry, and other circumstances. As a result, the identification and interpretation of data and other information and their use in developing and selecting assumptions from and among reasonable alternatives require the exercise of judgment. To the extent that the assumed events do not occur, the outcome may vary substantially from anticipated or projected results, and, accordingly, no opinion is expressed on the achievability of those forward-looking statements. Factors that could cause actual results to differ materially include, but are not limited to:

risks associated with drilling and production programs on the Morichito and La Maye Blocks resulting from geological, technical, drilling, seismic and other unforeseen problems;

unexpected results of exploration and development drilling and related activities on the Morichito and La Maye Blocks;

continued availability of capital and financing to fund exploration and development drilling activities;

increases in operating costs;

availability of skilled personnel;

unpredictable weather conditions;

the impact of political and economic instability in Colombia;

the ability to obtain required approvals of regulatory authorities in Colombia;

senior management's general inexperience in oil and gas operations in Colombia;

members of senior management not being based in Colombia; and

other factors listed from time to time in the Company's filings with the Securities and Exchange Commission.

No assurance can be given that any of the assumptions relating to the forward-looking statements specified in the following information are accurate, and we assume no obligation to update any such forward-looking statements.

Critical Accounting Policy and Estimates. Our Management's Discussion and Analysis of Financial Condition and Results of Operations section discusses our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. On an on-going basis, management evaluates its estimates and judgments, including those related to revenue recognition, accrued expenses, financing operations, and contingencies and litigation. Management bases its estimates and judgments on historical experience and on various other factors that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying value of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. The most significant accounting estimates inherent in the preparation of our financial statements include estimates as to the appropriate carrying value of certain assets and liabilities which are not readily apparent from other sources. These accounting policies are described at relevant sections in this discussion and analysis and in the notes to the consolidated financial statements included in our Annual Report on Form 10-K for the year ended December 31, 2012 and this Quarterly Report on Form 10-Q for the period ended March, 31, 2013.


Basis of Presentation and Functional Currency

The financial statements and related notes are presented in accordance with accounting principles generally accepted in the United States of America, and are expressed in United States dollars (USD). The Company's functional currency is Colombian pesos (COP) which have been converted to USD based on the exchange rates at March 31, 2013 and December 31, 2012, respectively, for purposes of the Company's balance sheets and the average rates for the three months ended March 31, 2013 and December 31, 2012, respectively, for purposes of the Company's statements of operations in accordance with Accounting Standards Codification 830, Foreign Currency Matters (ASC 830).

Use of Estimates

The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the reported periods. Actual results could materially differ from those estimates.

Cash and Cash Equivalents

For purposes of the balance sheet and statement of cash flows, the Company considers all highly liquid debt instruments purchased with maturity of three months or less to be cash equivalents.

Fair Value of Financial Instruments

Pursuant to ASC No. 825, Financial Instruments, the Company is required to estimate the fair value of all financial instruments included on its balance sheets. The carrying value of cash, short term investments, other receivables, inventory, accounts payable and accrued expenses approximate their fair value due to the short period to maturity of these instruments.

Oil and Gas Properties

The Company follows the full cost method of accounting for its investments in oil and gas properties. Under the full cost method, all costs associated with the exploration of properties are capitalized into appropriate cost centers within the full cost pool. Internal costs that are capitalized are limited to those costs that can be directly identified with acquisition, exploration, and development activities undertaken and do not include any costs related to production, general corporate overhead, or similar activities. Cost centers are established on a country-by-country basis.

Company Business.

Overview

As used in this report, unless otherwise indicated, the terms "Registrant," "Heavy Earth," "Company," "we," "us" and similar terms refer to Heavy Earth Resources, Inc., a Florida corporation, and its wholly-owned subsidiary, Deep Core Inc., a Cayman Islands exempt company ("Deep Core"), and Deep Core's majority owned subsidiaries, DCX S.A.S., a Colombia simplified shares corporation ("DCX"), and Deep Core (Barbados) Inc., a Barbados corporation ("Deep Core Barbados").

History

Heavy Earth was incorporated in the State of Florida on June 25, 2004 as Swinging Pig Productions, Inc. On May 12, 2011, our management changed and we entered into the oil and gas business to engage in the exploration, development and production of oil and gas properties primarily in Central and South America. On October 13, 2011, we changed our name to Heavy Earth Resources, Inc.


On May 3, 2012, we entered into and closed a Share Exchange Agreement (the "Exchange Agreement") with Deep Core and the sole shareholder of Deep Core ("Deep Core Holder"). Pursuant to the Exchange Agreement, we issued (i) 250,000 shares of our $0.001 par value common stock (the "Common Stock") (the "Exchange Shares") in exchange for all outstanding shares of company stock of Deep Core from the Deep Core Holder and (ii) 8,574,042 shares of our Common Stock to the holders ("Holders") of outstanding convertible promissory notes of Deep Core (the "Notes") in exchange for the conversion of the outstanding principal and accrued interest due on all of the Notes at a conversion price of $0.40 per Conversion Share (the "Conversion Shares"). The issuance of the Exchange Shares and Conversion Shares shall be referred to as the "Share Exchange." Deep Core was incorporated in the Cayman Islands on March 29, 2011.

Prior to the acquisition by the Company and on January 31, 2012, Deep Core closed a Share Purchase Agreement (the "Petropuli SPA") with Petro Vista Energy Colombia (Barbados) Corp., a Barbados corporation, ("PV Colombia"), a wholly-owned subsidiary of Petro Vista Energy Corp., a British Columbia, Canada corporation ("PVE") to purchase 99.68% of issued and outstanding common stock of PV Colombia's subsidiary, DCX SAS (formerly known as Petropuli SAS) ("DCX") for $1,750,000, the assumption of current and contingent liabilities and certain other terms and conditions. Through its Exploration and Production ("E&P") Contract with the Colombian National Hydrocarbons Agency ("ANH"), DCX is a Colombian E&P operator and owns a 50% participating oil and gas interest in the Morichito Block consisting of 57,252 gross acres at the time of the arrangement, located in East Plains, Llanos Basin, Colombia. DCX was incorporated in Colombia on May 4, 1999.

On May 15, 2012, Deep Core closed a Share Purchase Agreement with PVE and Petro Vista Energy Holdings Corp., a Barbados corporation ("PVE Holdings"), pursuant to which Deep Core acquired all of the outstanding shares of PV Colombia, a wholly-owned subsidiary of PVE Holdings, in exchange for: (i) a nominal cash payment of $1.00, (ii) Deep Core's release of PVE from all its ongoing obligations pursuant to the Petropuli SPA (iii) Deep Core's release and payment to PVE of $75,000 as final payment of Deep Core's payment obligations pursuant to the Petropuli SPA and (iv) the assumption of the balance of acquisition costs associated with the 25% participating interest in the La Maye Block. PV Colombia owns a 25% participating oil and gas interest in the La Maye Block consisting of 68,473 gross acres located in the Lower Magdalena Basin of Colombia. PV Colombia was incorporated in Barbados on February 26, 2008 and changed its name to Deep Core (Barbados) Inc. on July 20, 2012.

On May 15, 2012, DCX entered into and closed a Withdraw and Transfer Agreement (the "Withdraw Agreement") by and among SK Innovation Co. Ltd. ("SK") and Petroamerica International Corp. ("PIC") and DCX pursuant to which DCX agreed to voluntarily withdraw from the following: (i) the Exploration and Production of Hydrocarbons Contract for the Sinu San Jacinto North Block SSJN-5 originally granted to SK and DCX on December 5, 2008 (the "SSJN-5 E&P Contract") by the Colombian ANH, (ii) the Temporary Union Agreement dated December 10, 2008 between SK and DCX for the formation of a temporary union between SK and DCX (the "Temporary Union Agreement"), and (iii) the joint operating agreement between SK and DCX setting forth the rights and obligations of each party pursuant to the SSJN-5 E&P Contract (the "Joint Operating Agreement") in exchange for SK's and PIC's assumption of all claims, liabilities and obligations of DCX arising from or pursuant to the SSJN-5 E&P Contract, Temporary Union Agreement and the Joint Operating Agreement. The Subsidiary, for a period of six months following the closing of the Withdraw Agreement, indemnified SK of any claims from past obligations arising from any agreements between PIC and DCX, the SSJN-5 E&P Contract, the Temporary Union Agreement, or the Joint Operating Agreement and indemnified both SK and PIC of any claims from past obligations arising from any agreements with third parties related to the SSJN-5 E&P Contract, the Temporary Union Agreement, or the Joint Operating Agreement. The Withdraw Agreement also provides for the assignment of DCX's 25% participating interest in the SSJN-5 E&P Contract to PIC and SK, subject to the approval of the ANH. The Withdraw Agreement will automatically terminate if the SSJN-5 E&P Contract or the Joint Operating Agreement is terminated prior to ANH approval. The agreement has officially expired.

The Share Exchange between Heavy Earth and Deep Core was deemed to be a reverse acquisition. The transaction between Deep Core and DCX was also deemed to be a reverse acquisition, where Deep Core (the legal acquirer) is deemed to be the accounting acquiree and DCX (the legal acquire) is considered the accounting acquirer. The assets and liabilities were transferred at their historical cost with our capital structure. We are deemed a continuation of the business of Deep Core and its subsidiary, DCX, and the historical financial statements of DCX have become our historical financial statements.

With the acquisition of DCX by Deep Core and the subsequent Share Exchange with Heavy Earth in May 2012, our focus has been on the pre-development and exploitation stage of the E&P Contract in the Morichito Block and our balance sheet and statement of operations have undergone significant changes.


First Quarter Highlights.

Morichito Block. We have completed an advanced 94 square kilometers 3D seismic survey over the northern portion of the Morichito Block, located within producing trends of the prolific Llanos Basin, to define and identify high-impact exploration drilling targets. The 3D seismic survey was completed ahead of schedule and on budget and preliminary analysis has indicated the quality of the data is better than expected. We have also completed the merging of our new 3D seismic surveys with previous 3D seismic surveys and satisfied the final stage of the six phases of the E&P Contract with the delivery of the new seismic to the ANH. In addition, DCX completed the purchase of key production equipment and facilities required to produce the M-5 discovery well and treat the oil onsite for full time production to commence on completion of the all weather access road.

The focus for our work plan for the Morichito Block is to commence production from the Morichito-5 (M-5) discovery well and engage in negotiations to consummate a possible farm-out agreement to support the long-term development of the Morichito block.

Morichito-5 commerciality. In March 2012, DCX submitted to the ANH the request for commerciality for part of the Morichito Block. We have completed an exploration and production work plan aimed at extracting the maximum value from the discovery well (Morichito-5) and underlying targets with a program to realize near-term operating cash flow from production prior to year end 2013.

La Maye Block. The Operator of the La Maye block has been preparing for the testing of the Noelia well. Testing of the well is expected to commence in the third quarter 2013 subject to weather.

Accounts Payable. Upon closing of the Petropuli SPA, certain liabilities and contingent liabilities totaling approximately US$2.2 million were assumed by
DCX. There are past vendor obligations included in accounts payable on the consolidated balance sheet in addition to an environmental fine to be levied by the environmental ministry of Colombia related to various activities performed by Petropuli prior to the acquisition by Deep Core. We are investigating these past obligations and the issues associated with the environmental agency, and we are continuing negotiations for the resolution of those obligations. In addition, there is a pending receivable for seismic cost from a partner that holds a 35% interest in the block.

Additional information related to the Company and its subsidiaries' operations is available on our website at www.heavyearthresources.com.

The following discussion of our financial condition and results of operations should be read in conjunction with our financial statements for the period ended March 31 2013, together with notes thereto, which reflect the operations of our subsidiaries Deep Core and DCX.

Results of Operations.

For the three months ended March, 31, 2013, as compared to the three months ended March 31, 2012.

Revenues. We had no revenues for the three months ended March, 31, 2013 and 2012.

Operating Expenses. For the three months ended March, 31, 2013, our total operating expenses were $519,667 which consisted of exploration and lease operating costs of $30,017, depreciation and amortization expense of $649, general and administrative expenses of $247,361, legal and professional fees of $241,640. By comparison, for the three months ended March 31, 2012, our total operating expenses were $92,878 which consisted of exploration and lease operating costs of $16,057, depreciation and amortization expense of $1,667, general and administrative expenses of $72,617, and legal and professional fees of $2,537.

Net Loss. For the quarter ending March, 31, 2013, we had a net loss of $553,835. By comparison, for the three months ended March 31, 2012, we had a net loss of $92,878. We expect to incur net losses for the foreseeable future.


Liquidity and Capital Resources.

As of March, 31, 2013, our total assets were $12,851,366. Our total current assets consist of cash and cash equivalents of $1,291, restricted cash of $441,871, short-term investments of $99,607, inventory of $45,420, other receivables of $822,232 . Restricted cash of $441,871 represents amounts held on account with a fiduciary to guarantee payment to one of DCX's main suppliers for exploration and development activities. Short-term investments of 99,607 include amounts on deposit to be held in excess of the three months that are used as stand-by letters of credit for the Colombian ANH for future exploration and development costs. Inventory of $45,420 consists of barrels of oil extracted during our exploratory testing on the Morichito Block and are stated at the lower of cost or market. Our other receivable of $822,232 consists of amounts due from working interest partners in the Morichito Block for the seismic exploration costs..

As of March, 31, 2013, our oil and gas properties of $11,172,823 and property, plant and equipment of $295,849 less accumulated depreciation and amortization of $27,727. Our oil and gas properties of $11,172,823 consist of the net costs incurred for evaluated properties and in exploration and development activities as of March, 31, 2013 for our interest in the Morichito Block which includes approximately 57,252 gross acres and our interest in the La Maye Block which includes approximately 68,252 gross acres.

Our total current liabilities of $6,535,368 consists of accounts payable and accrued expenses of $6,469,508, and related party advances payable of $66,130, as of March, 31, 2013. A significant portion of the accounts payable on our consolidated balance sheet as of March, 31, 2013, includes amounts owed to vendors that provided services to DCX when it was owned by PVE and prior to the acquisition by Deep Core plus seismic costs incurred and not yet paid by a specific partner. DCX is also subject to an environmental fine to be levied by the environmental ministry of Colombia related to various activities that occurred prior to the acquisition by Deep Core. We are negotiating payment of these past obligations and the issues associated with the environmental agency, and we are hopeful that we will be able to obtain favorable resolution of those obligations.

We have been financing our operations through the sale of our securities. On August 29, 2012, we entered into a securities purchase agreement with two investors pursuant to which we issued to the investors (i) an aggregate principal value of $1,000,000 of 6% senior convertible debentures and (ii) common stock purchase warrants granting the right to purchase an aggregate of 1,666,667 shares of our common stock at an exercise price of $0.85 per share in exchange for $1,000,000 in proceeds.
On December 6, 2012, we entered into a securities purchase agreement with a foreign investor pursuant to which we issued to the investor (i) an aggregate principal value of $500,000 of 6% senior convertible debentures and (ii) common stock purchase warrants granting the right to purchase an aggregate of 833,333 shares of our common stock at an exercise price of $0.85 per share in exchange for $500,000 in proceeds.

On February 7, 2013, we issued 200,000 shares of our common stock to two consultants for services at $0.51/share, or $102,000.


On February 8, 2013, we entered into a securities purchase agreement with a foreign investor pursuant to which we issued to the investor (i) an aggregate principal value of $1,000,000 of 15% convertible debentures and (ii) common stock purchase warrants granting the right to purchase an aggregate of 2,000,000 shares of our common stock at an exercise price of $0.60 per share in exchange for $1,000,000 in proceeds. The shares and warrant were issued in a transaction which we believe satisfies the requirements of that exemption from the registration and prospectus delivery requirements of the Securities Act, which exemption is specified by the provisions of Regulation S promulgated pursuant to that act by the SEC.

As of March, 31, 2013, we have cash and cash equivalents of $1,291. We will need additional funds to satisfy our working capital requirements to operate at our current level of activity for the next twelve months. We expect that our future available capital resources will consist primarily of cash on hand, cash generated from our business, if any, and future debt and/or equity financings, if any.

During 2013, we expect that our subsidiaries will continue to incur significant exploration and development costs as we exploit our interests in the Morichito Block, La Maye Block and other interests we may acquire. Our exploration and lease operating costs in the Morichito Block and La Maye Block will be significant and will continue to impact our liquidity. We may also incur additional costs related to any potential acquisition of oil and gas properties or interests in Colombia and other areas of Central and South America. We also expect to incur significant professional fees associated with being a public company as well as significant general and administrative expenses. Those fees will be higher as our business volume and activity increases and will continue to impact our liquidity. Other than the exploration and development costs for the Morichito Block and the La Maye Block, any potential acquisitions costs and anticipated increases in legal and accounting costs and general and administrative expenses, we are not aware of any other known trends, events or uncertainties, which may affect our future liquidity.

Our forecast for the period for which our financial resources will be inadequate to support our operations involves risks and uncertainties and actual results could fail as a result of a number of factors. We must raise additional capital to continue and expand our operations. We cannot guarantee that additional funding will be available on favorable terms, if at all. Any debt financing or other financing of securities senior to common stock that we are able to obtain will likely include financial and other covenants that will restrict our flexibility. Any failure to comply with these covenants would have a negative impact on our business, prospects, financial condition, results of operations and cash flows. Additionally, these alternatives could be highly dilutive to our existing shareholders, and may not provide us with sufficient funds to meet our long-term capital requirements. We have and may continue to incur substantial costs in the future in connection with raising capital to fund our business, including investment banking fees, professional fees and other costs. If the amount of capital we are able to raise from financing activities, together with our revenues from operations, is insufficient to satisfy our capital needs, we will be required to reduce operating costs, which could hinder our future development of the Morichito Block and the La Maye Block.

We are not currently conducting any research and development activities. We do not anticipate conducting such activities in the near future. We do not anticipate that we will need to hire additional employees or independent contractors at this time. We do not anticipate that we will need to purchase or lease additional equipment for the foreseeable future.

Off-Balance Sheet Arrangements. We have no off-balance sheet arrangements.

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