| MAGELLAN PETROLEUM CORP /DE/ Item 1A Risk Factors Set forth below and elsewhere in this Annual Report on Form 10-K are risks that should be considered in evaluating the Company’s Common Stock, as well as risks and uncertainties that could cause the actual future results of the Company to differ from those expressed or implied in the forward-looking statements contained in this Report and in other public statements the Company makes |
| Additionally, because of the following risks and uncertainties, as well as other variables affecting the Company’s operating results, the Company’s past financial performance should not be considered an indicator of future performance |
| The principal oil and gas properties owned by MPAL could stop producing oil and gas |
| MPAL’s Palm Valley and Mereenie fields could stop producing oil and gas or there could be a material decrease in production levels at the fields |
| Since these are the two principal revenue producing properties of MPAL, any decline in production levels at these properties could cause MPAL’s revenues to decline, thus reducing the amount of dividends paid by MPAL to Magellan |
| Any such adverse impact on the revenues being received by Magellan from MPAL could restrict our ability to explore and develop oil and gas properties in the future |
| In addition, the Kotaneelee gas field, which has in recent years provided Magellan with an additional source of revenue, could stop producing natural gas, produce gas in decreased amounts, or be shut-in completely (so that production would cease) |
| In this event, Magellan may experience a decline in revenues and would be forced to rely completely on our receipt of dividends from MPAL If MPAL’s existing long-term gas supply contracts are terminated or not renewed, MPAL’s share price and business could be adversely affected |
| MPAL’s financial performance and cash flows are substantially dependent upon its Palm Valley and Mereenie existing supply contracts to sell gas produced at these fields to MPAL’s major customers, The Power and Water Corporation of the Northern Territories and its subsidiary, Gasgo Pty Ltd |
| The Palm Valley Darwin contract expires in the year 2012 and the Mereenie contracts expire in the year 2009 |
| If these gas supply contracts were to be terminated or not renewed when they become due, MPAL’s revenues, share price and business outlook could be adversely affected |
| The Palm Valley Producers are actively pursuing gas sales contracts for the remaining uncontracted reserves at both the Mereenie and Palm Valley gas fields in the 10 _________________________________________________________________ [62]Table of Contents Amadeus Basin |
| There is strong competition within the market and the Palm Valley producers may not be able to contract for the sale of the remaining uncontracted reserves |
| Fluctuations in our operating results and other factors may depress our stock price |
| During the past few years, the equity trading markets in the United States have experienced price volatility that has often been unrelated to the operating performance of particular companies |
| These fluctuations may adversely affect the trading price of our common stock |
| From time to time, there may be significant volatility in the market price of our common stock |
| Investors could sell shares of our common stock at or after the time that it becomes apparent that the expectations of the market may not be realized, resulting in a decrease in the market price of our common stock |
| We only have two full time employees, including our Chief Executive Officer, and our operations could be disrupted if he was unable or unwilling to perform his duties |
| We only have two full time employees, including Daniel J Samela, our President, Chief Executive Officer, and Chief Financial Officer |
| Samela has an employment agreement with an automatically renewing three-year and three-month term |
| Samela may terminate his employment relationship with us at any time with no penalty other than the loss of future compensation |
| Samela resigned or were unable or unwilling to perform the duties of President, Chief Executive Officer and Chief Financial Officer, our operations could face significant delay and disruption until a suitable replacement could be found to succeed Mr |
| Any such delay or disruption could also prevent the achievement of our business objectives |
| In order to minimize any delay or disruption, we have retained a consultant to assist Mr |
| The loss of key MPAL personnel could adversely affect our ability to operate |
| We depend, and will continue to depend in the foreseeable future, on the services of the officers and key employees of MPAL The ability to retain its officers and key employees is important to MPAL’s and our continued success and growth |
| The unexpected loss of the services of one or more of these individuals could have a detrimental effect on MPAL’s and our business |
| We do not maintain key person life insurance on any of our personnel |
| There are risks inherent in foreign operations such as adverse changes in currency values and foreign regulations relating to MPAL’s exploration and development operations and to MPAL’s payment of dividends to us |
| The properties in which Magellan has interests are located outside the United States and are subject to certain risks related to the indirect ownership and development of foreign properties, including government expropriation, adverse changes in currency values and foreign exchange controls, foreign taxes, nationalization and other laws and regulations, any of which may adversely affect the Company’s properties |
| In addition, MPAL’s principal present customer for gas in Australia is the Northern Territory Government, which also has substantial regulatory authority over MPAL’s oil and gas operations |
| Although there are currently no exchange controls on the payment of dividends to the Company by MPAL, such payments could be restricted by Australian foreign exchange controls, if implemented |
| Our Restated Certificate of Incorporation includes provisions that could delay or prevent a change in control of our Company that some of our shareholders may consider favorable |
| Our Restated Certificate of Incorporation provides that any matter to be voted upon at any meeting of shareholders must be approved not only by a simple majority of the shares voted at such meeting, but also by a majority of the shareholders present in person or by proxy and entitled to vote at the meeting |
| This provision may have the effect of making it more difficult to take corporate action than customary “one share one vote” provisions, because it may not be possible to obtain the necessary majority of both votes |
| 11 _________________________________________________________________ [63]Table of Contents As a consequence, our Restated Certificate of Incorporation may make it more difficult that a takeover of Magellan will be consummated, which could prevent the Company’s shareholders from receiving a premium for their shares |
| In addition, an owner of a substantial number of shares of our common stock may be unable to influence our policies and operations through the shareholder voting process (eg, to elect directors) |
| In addition, our Restated Certificate of Incorporation requires the approval of 66dtta67prca of the voting shareholders and of the voting shares for the consummation of any business combination (such as a merger, consolidation, other acquisition proposal or sale, transfer or other disposition of dlra5 million or more of Magellan’s assets) involving our company and certain related persons (generally, any 10prca or greater shareholders and their affiliates and associates) |
| This higher vote requirement may deter business combination proposals which shareholders may consider favorable |
| Our dividend policy could depress our stock price |
| We have never declared or paid dividends on our common stock and have no current intention to change this policy |
| We plan to retain any future earnings to reduce our accumulated deficit and finance growth |
| As a result, our dividend policy could depress the market price for our common stock and cause investors to lose some or all of their investment |
| We may issue a substantial number of shares of our common stock under our stock option plans and shareholders may be adversely affected by the issuance of those shares |
| As of June 30, 2006, there were 430cmam000 stock options outstanding, of which 420cmam000 were fully vested and exercisable and 10cmam000 were not vested |
| There were also 395cmam000 options available for future grants under our Stock Option Plan |
| If all of these options, which total 825cmam000 in the aggregate, were awarded and exercised these shares would represent approximately 2prca of our outstanding common stock and would, upon their exercise and the payment of the exercise prices, dilute the interests of other shareholders and could adversely affect the market price of our common stock |
| If our shares are delisted from trading on the Nasdaq Capital Market, their liquidity and value could be reduced |
| In order for us to maintain the listing of our shares of common stock on the Nasdaq Capital Market, the Company’s shares must maintain a minimum bid price of dlra1dtta00 as set forth in Marketplace Rule 4310(c)(4) |
| If the bid price of the Company’s shares trade below dlra1dtta00 for 30 consecutive trading days, then the bid price of the Company’s shares must trade at dlra1dtta00 or more for 10 consecutive trading days during a 180 day grace period to regain compliance with the rule |
| On September 22, 2006, the Company’s shares closed at dlra1dtta28 per share |
| If the Company shares were to be delisted from trading on the Nasdaq Capital Market, then most likely the shares would be traded on the Electronic Bulletin Board |
| The delisting of the Company’s shares could adversely impact the liquidity and value of the Company’s shares of common stock |
| A decline in prices could adversely affect our financial position, financial results, cash flows, access to capital and ability to grow |
| Our revenues, operating results, profitability, future rate of growth and the carrying value of our oil and gas properties depend primarily upon the prices we receive for the oil and gas we sell |
| Prices also affect the amount of cash flow available for capital expenditures and our ability to borrow money or raise additional capital |
| The prices of oil, natural gas, methane gas and other fuels have been, and are likely to continue to be, volatile and subject to wide fluctuations in response to numerous factors, including the following: • worldwide and domestic supplies of oil and gas; • changes in the supply and demand for such fuels; 12 _________________________________________________________________ [64]Table of Contents • political conditions in oil, natural gas, and other fuel-producing and fuel-consuming areas; • the extent of Australian domestic oil and gas production and importation of such fuels and substitute fuels in Australian and other relevant markets; • weather conditions, including effects on prices and supplies in worldwide energy markets because of recent hurricanes in the United States; • the competitive position of each such fuel as a source of energy as compared to other energy sources; and • the effect of governmental regulation on the production, transportation, and sale of oil, natural gas, and other fuels |
| These factors and the volatility of the energy markets make it extremely difficult to predict future oil and gas price movements with any certainty |
| Declines in oil and gas prices would not only reduce revenue, but could reduce the amount of oil and gas that we can produce economically and, as a result, could have a material adverse effect on our financial condition, results of operations and reserves |
| Further, oil and gas prices do not necessarily move in tandem |
| Because more than 80prca of our proved reserves at June 30, 2006 were natural gas reserves, we are more affected by movements in natural gas prices and would receive lower revenues if natural gas prices in Australian and Canada were to decline |
| Based on 2006 gas sales volumes and revenues, a 10prca change in gas prices would increase or decrease gas revenues by approximately dlra1cmam406cmam000 |
| Competition in the oil and natural gas industry is intense, and many of our competitors have greater financial and other resources than we do |
| We operate in the highly competitive areas of oil and natural gas acquisition, development, exploitation, exploration and production and face intense competition from both major and other independent oil and natural gas companies |
| Many of our Australian competitors have financial and other resources substantially greater than ours, and some of them are fully integrated oil companies |
| These companies may be able to pay more for development prospects and productive oil and natural gas properties and may be able to define, evaluate, bid for and purchase a greater number of properties and prospects than our financial or human resources permit |
| Our ability to develop and exploit our oil and natural gas properties and to acquire additional properties in the future will depend upon our ability to successfully conduct operations, evaluate and select suitable properties and consummate transactions in this highly competitive environment |
| In addition, we may not be able to compete with, or enter into cooperative relationships with, any such firms |
| Our oil and gas exploration and production operations are subject to numerous environmental laws, compliance with which may be extremely costly |
| Our operations are subject to environmental laws and regulations in the various countries in which they are conducted |
| Such laws and regulations frequently require completion of a costly environmental impact assessment and government review process prior to commencing exploratory and/or development activities |
| In addition, such environmental laws and regulations may restrict, prohibit, or impose significant liability in connection with spills, releases, or emissions of various substances produced in association with fuel exploration and development |
| We can provide no assurance that we will be able to comply with applicable environmental laws and regulations or that those laws, regulations or administrative policies or practices will not be changed by the various governmental entities |
| The cost of compliance with current laws and regulations or changes in environmental laws and regulations could require significant expenditures |
| Moreover, if we breach any governing laws or regulations, we may be compelled to pay significant fines, penalties, or other payments |
| Costs associated with environmental compliance or noncompliance may have a material adverse impact on our financial condition or results of operations in the future |
| 13 _________________________________________________________________ [65]Table of Contents The actual quantities and present value of our proved reserves may prove to be lower than we have estimated |
| This annual report and the documents incorporated by reference in this annual report contain estimates of our proved reserves and the estimated future net revenues from our proved reserves as well as estimates relating to recent and pending acquisitions |
| These estimates are based upon various assumptions, including assumptions required by the SEC relating to oil and gas prices, drilling and operating expenses, capital expenditures, taxes and availability of funds |
| The process of estimating oil and gas reserves is complex |
| The process involves significant decisions and assumptions in the evaluation of available geological, geophysical, engineering and economic data for each reservoir |
| Therefore, these estimates are inherently imprecise |
| Actual future production, oil and gas prices, revenues, taxes, development expenditures, operating expenses and quantities of recoverable oil and gas reserves most likely will vary from these estimates |
| Such variations may be significant and could materially affect the estimated quantities and present value of our proved reserves |
| In addition, we may adjust estimates of proved reserves to reflect production history, results of exploration and development drilling, prevailing oil and gas prices and other factors, many of which are beyond our control |
| Our properties may also be susceptible to hydrocarbon drainage from production by operators on adjacent properties |
| There are many uncertainties in estimating quantities of oil and gas reserves |
| In addition, the estimates of future net cash flows from our proved developed reserves and their present value are based upon assumptions about future production levels, prices and costs that may prove to be inaccurate |
| Our estimated reserves may be subject to upward or downward revision based upon our production, results of future exploration and development, prevailing oil and gas prices, operating and development costs and other factors |
| We may not have funds sufficient to make the significant capital expenditures required to replace our reserves |
| Our exploration, development and acquisition activities require substantial capital expenditures |
| Historically, we have funded our capital expenditures through a combination of cash flows from operations, farming-in other companies or investors to MPAL’s exploration and development projects in which we have an interest and/or equity issuances |
| Future cash flows are subject to a number of variables, such as the level of production from existing wells, prices of oil and gas, and our success in developing and producing new reserves |
| If revenue were to decrease as a result of lower oil and gas prices or decreased production, and our access to capital were limited, we would have a reduced ability to replace our reserves |
| If our cash flow from operations is not sufficient to fund MPAL’s capital expenditure budget, we may not be able to rely upon additional farm-in opportunities, debt or equity offerings or other methods of financing to meet these cash flow requirements |
| If we are not able to replace reserves, we may not be able to sustain production |
| Our future success depends largely upon our ability to find, develop or acquire additional oil and gas reserves that are economically recoverable |
| Unless we replace the reserves we produce through successful development, exploration or acquisition activities, our proved reserves will decline over time |
| Recovery of any additional reserves will require significant capital expenditures and successful drilling operations |
| We may not be able to successfully find and produce reserves economically in the future |
| In addition, we may not be able to acquire proved reserves at acceptable costs |
| Exploration and development drilling may not result in commercially productive reserves |
| We do not always encounter commercially productive reservoirs through our drilling operations |
| The new wells we drill or participate in may not be productive and we may not recover all or any portion of our investment in wells we drill or participate in |
| The seismic data and other technologies we use do not allow us to know conclusively prior to drilling a well that oil or gas is present or may be produced economically |
| The cost of drilling, completing and operating a well is often uncertain, and cost factors can adversely affect the economics of a project |
| Our efforts will be unprofitable if we drill dry wells or wells that are productive but do 14 _________________________________________________________________ [66]Table of Contents not produce enough reserves to return a profit after drilling, operating and other costs |
| Further, our drilling operations may be curtailed, delayed or canceled as a result of a variety of factors, including: • unexpected drilling conditions; • title problems; • pressure or irregularities in formations; • equipment failures or accidents; • adverse weather conditions; • compliance with environmental and other governmental requirements; and • increases in the cost of, or shortages or delays in the availability of, drilling rigs and equipment |
| Future price declines may result in a write-down of our asset carrying values |
| We follow the successful efforts method of accounting for our oil and gas operations |
| Under this method, the costs of successful wells, development dry holes and productive leases are capitalized and amortized on a units-of-production basis over the life of the related reserves |
| Cost centers for amortization purposes are determined on a field-by-field basis |
| Magellan records its proportionate share in its working interest agreements in the respective classifications of assets, liabilities, revenues and expenses |
| Unproved properties with significant acquisition costs are periodically assessed for impairment in value, with any required impairment charged to expense |
| The successful efforts method also imposes limitations on the carrying or book value of proved oil and gas properties |
| Oil and gas properties, along with goodwill and other intangible assets are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amounts may not be recoverable |
| We estimate the future undiscounted cash flows from the affected properties to determine the recoverability of carrying amounts |
| In general, analyses are based on proved developed reserves, except in circumstances where it is probable that additional resources will be developed and contribute to cash flows in the future |
| For Mereenie and Palm Valley, proved developed natural gas reserves are limited to contracted quantities |
| If such contracts are extended, the proved developed reserves will be increased to the lesser of the actual proved developed reserves or the contracted quantities |
| A significant decline in oil and gas prices from current levels, or other factors, without other mitigating circumstances, could cause a future writedown of capitalized costs and a non-cash charge against future earnings |
| Oil and gas drilling and producing operations are hazardous and expose us to environmental liabilities |
| Oil and gas operations are subject to many risks, including well blowouts, cratering and explosions, pipe failure, fires, formations with abnormal pressures, uncontrollable flows of oil, natural gas, brine or well fluids, and other environmental hazards and risks |
| Our drilling operations involve risks from high pressures and from mechanical difficulties such as stuck pipes, collapsed casings and separated cables |
| If any of these risks occur, we could sustain substantial losses as a result of: • injury or loss of life; • severe damage to or destruction of property, natural resources and equipment; • pollution or other environmental damage; • clean-up responsibilities; • regulatory investigations and penalties; • and suspension of operations |
| Our liability for environmental hazards includes those created either by the previous owners of properties that we purchase or lease or by acquired companies prior to the date we acquire them |
| We maintain insurance against some, but not all, of the risks described above |
| Our insurance may not be adequate to cover casualty losses or liabilities |
| Also, in the future we may not be able to obtain insurance at premium levels that justify its purchase |