NEWS RELEASE TRANSMITTED BY CCNMatthews
FOR: ZARGON OIL & GAS LTD.
TSX SYMBOL: ZAR
NOVEMBER 18, 2003 - 16:00 ET
Zargon Oil & Gas Ltd. 2003 Third Quarter Report
CALGARY, ALBERTA--
CORPORATE HIGHLIGHTS
With growing production volumes and continued high commodity
pricing, Zargon reported strong financial results for the third
quarter of 2003. Third quarter revenue of $23.76 million, cash
flow from operations of $12.34 million ($0.67 per diluted share)
and earnings of $4.51 million ($0.24 per diluted share) were all
sharply higher than the 2002 comparative results. High oil and
natural gas commodity prices were the primary source of these
gains with natural gas prices up 74 percent over the prior year
quarter. Price gains were reinforced by natural gas production
volume increases that, for the quarter, were 21 percent ahead of
the comparative 2002 third quarter and eight percent over the
preceding 2003 second quarter. Earnings continue to benefit from
the recent federal tax reductions for resource companies, which
reduce future tax provisions and provided Zargon a large one-time
positive impact in the 2003 second quarter.
For the first nine months, record revenue of $77.15 million, cash
flow from operations of $41.10 million ($2.24 per diluted share)
and net earnings of $20.50 million ($1.12 per diluted share)
showed increases of 72, 92, and 220 percent, respectively over
the comparable 2002 period. Net capital expenditures for the
first nine months of 2003 totaled $27.07 million with $24.41
million allocated to field related activities, as Zargon focused
its expenditures on natural gas exploration. Property
acquisitions for the 2003 period were largely offset by
dispositions of non-core, higher cost properties. During the nine
month period, Zargon increased its natural gas
exploration-focused undeveloped land base by 14 percent to
378,500 net acres. The high cash flows experienced throughout
2003 have funded a successful exploration program and brought
debt net of working capital down to $13.81 million at September
30, 2003, an amount equivalent to less than four months of the
current cash flow from operations.
/T/
Three Months Nine Months
Ended Ended
September 30, September 30,
Percent Percent
(unaudited) 2003 2002 Change 2003 2002 Change
-----------------------------------------------------------------------
FINANCIAL
Income and Investments
($ million)
Production revenue 23.76 16.65 43 77.15 44.87 72
Cash flow from operations 12.34 7.75 59 41.10 21.41 92
Net earnings 4.51 2.27 99 20.50 6.40 220
Net capital expenditures 12.11 10.89 11 27.07 27.52 (2)
Per Common Share, Diluted
Cash flow from operations
($/share) 0.67 0.43 56 2.24 1.21 85
Net earnings ($/share) 0.24 0.13 85 1.12 0.36 211
Balance Sheet at
Period End ($ million)
Property and equipment, net 155.32 136.85 13
Bank indebtedness 8.92 28.71 (69)
Shareholders' equity 108.01 82.00 32
Shares Outstanding at
Period End (million) 17.89 17.54 2
Three Months Nine Months
Ended Ended
September 30, September 30,
Percent Percent
(unaudited) 2003 2002 Change 2003 2002 Change
-----------------------------------------------------------------------
OPERATIONS
Average Daily Production
Oil and liquids (bbl/d) 3,341 3,048 10 3,269 2,942 11
Natural gas (mmcf/d) 24.77 20.44 21 23.90 19.63 22
Equivalent (boe/d) 7,470 6,454 16 7,252 6,213 17
Equivalent per million
shares (boe/d) 418 368 14 408 363 12
Average Selling Price
(before hedges)
Oil and liquids ($/bbl) 36.39 38.09 (4) 37.95 33.98 12
Natural gas ($/mcf) 5.51 3.17 74 6.63 3.28 102
Wells Drilled, Net 11.5 7.1 62 22.5 14.2 58
Undeveloped Land at
Period End
(thousand net acres) 379 318 19
/T/
Note: The calculation of barrels of equivalent (boe) is based on
the conversion ratio that one barrel of oil is equivalent to six
thousand cubic feet of natural gas. Average daily production per
million shares uses the weighted average number of shares for the
period.
PRODUCTION
Natural gas production volumes averaged 24.77 million cubic feet
per day in third quarter 2003, a 21 percent increase over the
20.44 million cubic feet per day reported in the 2002 third
quarter, and an eight percent improvement from the 22.89 million
cubic feet per day reported in second quarter 2003. Over the last
eighteen months, Zargon's natural gas growth has primarily been
generated from successful exploration initiatives located at the
West Central Alberta properties of Highvale, Pembina and Peace
River Arch. During the third quarter an additional two million
cubic feet per day of production was added from the tie-in of
winter 2002-03 exploratory gas wells at the Pembina shallow gas
project. By quarter-end, more than three additional million cubic
feet per day of natural gas was tied-in from a recently drilled
Progress well on the Peace River Arch. Zargon's working interest
natural gas production currently exceeds 28 million cubic feet
per day. These natural gas production gains demonstrate the
initial successful results of Zargon's West Central Alberta
exploration strategy. Since January 2002, Zargon has increased
its West Central Alberta undeveloped lands from 38.0 thousand net
acres to 154.5 thousand net acres. West Central Alberta natural
gas production volumes have grown commensurately from 2.0 million
to over 10 million cubic feet per day. During this time East
Central Alberta natural gas production volumes have been
maintained at steady rates with a modest maintenance-drilling
program.
Production of oil and liquids averaged 3,341 barrels per day in
third quarter 2003, ten percent higher than in third quarter 2002
but two percent less than the second quarter 2003 rate. Zargon's
oil production growth is based on the exploitation and
enhancement of Williston Basin (Southeast Saskatchewan and North
Dakota) long-life, shallow-decline properties plus complementary
acquisitions. In North Dakota, an enhanced Haas Unit waterflood
program and a Truro Unit property acquisition have provided the
majority of this year's oil production growth. Further Williston
Basin production gains are expected this winter from horizontal
development drilling programs and waterflood implementation and
modification projects.
On an equivalent basis, Zargon has shown a consistent growth
trend for the first three quarters of 2003. Third quarter
production of 7,470 barrels of equivalent per day increased three
percent over the second quarter, which was in turn two percent
over the 2003 first quarter rate. For the first nine months,
production of 7,252 barrels of equivalent per day was 17 percent
higher than the corresponding nine months of 2002 volumes. On a
per share basis, the 2003 third quarter production registered a
14 percent gain over the 2002 third quarter.
EXPLORATION AND EXPLOITATION
Zargon has based its growth on the twin strategies of exploring
for natural gas reserves and exploiting existing oil reservoirs.
The key input resource for our natural gas exploration program is
undeveloped land and over the last few years, Zargon has
successfully built a 378.5 thousand net acre undeveloped land
inventory. During the 2003 nine month period, 75.9 thousand net
acres of Crown and freehold leases were acquired with the largest
additions located in the Highvale area, but also with sizeable
additions at Pembina and Peace River Arch in West Central
Alberta. The average cost of the Crown purchases in this nine
month period was $87 per acre.
This growing undeveloped land inventory has broadened the scope
of our drilling programs and after a slow first half, Zargon had
an active and successful third quarter drilling program with
twelve operated gross wells (10.5 net) plus eight non-operated
gross wells (1.0 net). This program delivered 8.5 net gas wells,
2.0 net oil wells and one net dry hole for a 91 percent success
ratio. The gas wells included 1.8 net gas wells at the West
Central Alberta Pembina property, 2.0 net gas wells on the Peace
River Arch property and 4.7 net gas wells at the East Central
Alberta Jarrow property. Oil wells were drilled at Taber, Alberta
and Weyburn, Saskatchewan and a dry hole was drilled at the Peace
River Arch property.
In the 2003 nine month period, Zargon has implemented oil
reservoir waterflood initiation or enhancement projects at East
Frys, West Frys and Weyburn (Elswick) in Saskatchewan and at
Taber, Alberta. Once the oil reservoirs are repressurized, our
exploitation programs proceed with 3D seismic reservoir
characterization and horizontal drilling. In the third quarter,
five 3D seismic shoots were completed in the Williston Basin and
this winter we will proceed with the drilling of a minimum of
five horizontal development wells. Oil reservoir analysis and
exploitation programs form an important part of Zargon's growth
strategy and, over the years, have provided steady growth from a
portfolio of long-life shallow-decline properties.
Zargon is planning a very active drilling program in the 2003
fourth quarter. Five net wells originally scheduled for September
were deferred to October and have now been drilled. During the
remainder of the year an additional ten net wells are projected
to be drilled, resulting in a 2003 well count total of
approximately 37 net wells. Capital expenditures will continue to
focus on expanding our natural gas exploration activities in West
Central Alberta, while maintaining steady natural gas production
rates from East Central Alberta. Oil expenditures will continue
to be directed to the efficient exploitation of our large
Williston Basin oil development and waterflood project inventory.
ACQUISITIONS / DISPOSITIONS
The largest property acquisition made in the first nine months of
2003 was the $4.95 million Cdn. purchase of a 92.5 percent
interest in the Truro Unit in Renville County, North Dakota. The
Unit is currently producing about 200 barrels of oil per day net
to Zargon, of long-life production and has good exploitation
potential. Total property acquisitions for the period were $7.82
million and were largely offset by $5.16 million realized through
the sale of small, non-core properties as Zargon took advantage
of the opportunities presented by an extremely strong property
market. As an additional benefit, these dispositions plus those
made in the fourth quarter of 2002 have had a major impact in
delivering the current trend of improving per unit operating
costs.
GUIDANCE (1)
Last May, Zargon provided 2003 year-end production guidance at
3,600 barrels of oil per day and 26.5 million cubic feet of
natural gas per day, for a combined rate of 8,020 barrels of
equivalent per day. In the 2003 third quarter, Zargon tied-in
more than five million cubic feet per day of West Central Alberta
natural gas production at the Peace River Arch and Pembina
project areas, taking current rates to more than 28 million cubic
feet per day. Current oil production remains at the average third
quarter rate of approximately 3,350 barrels per day. Oil
production gains should come late in the fourth quarter from
Williston Basin drilling at Frys and Pinto, Saskatchewan plus
Haas, North Dakota, but oil production volumes may not reach exit
rate guidance levels until the first quarter of 2004. Natural gas
production volumes are anticipated to exceed the 28 million cubic
feet per day level throughout the fourth quarter, and on an
equivalent basis average fourth quarter production is anticipated
to exceed exit rate guidance levels.
Zargon's 2004 capital program budget is to be primarily sourced
from cash flow and has been initially set at $45 million with the
drilling of 45 net wells. This budget is allocated $40 million to
exploration and development field activities and $5 million to
property acquisitions. The budget reflects our view that the
current property acquisition market is fully priced. Should value
added property or corporate acquisitions become available, our
unutilized $40 million of bank lines would permit us to greatly
expand the acquisition component of our budget.
Based on the $45 million capital budget, mid-year 2004 production
guidance has been set at 30 million cubic feet of natural gas per
day and 3,750 barrels of oil per day, for a combined rate of
8,750 barrels of equivalent per day, which would represent a 16
percent gain over the 2003 mid-year guidance levels. Natural gas
production gains are forecast from exploration-related growth in
the West Central Alberta exploration initiatives at the Peace
River Arch, Pembina and Highvale properties. Oil production gains
are projected from Williston Basin exploitation horizontal
drilling and/or Williston Basin property acquisitions.
We are pleased to report that J. Graham Weir of Calgary has
joined the Zargon Board of Directors as of October 15, 2003.
Graham has had broad experience at a senior level in corporate
finance, most recently with Raymond James Ltd. in Calgary, with a
focus on the oil and gas industry. While at Goepel Shields in
1993, he played a lead role in Zargon's initial public offering
and has continued to support our activities. Graham holds an M.Sc
in actuarial mathematics and is working part time on an advanced
degree from Oxford. He is currently an officer and director of
Graymont Limited and a director of two junior companies. We look
forward to his participation with Zargon.
(1) Please see comments on "Forward Looking Statements" on the
last page of this report.
MANAGEMENT'S DISCUSSION AND ANALYSIS
Management's discussion and analysis (MD&A) should be read in
conjunction with the unaudited interim financial statements for
the three and nine months ended September 30, 2003 and the
audited consolidated financial statements and MD&A for the year
ended December 31, 2002. The calculation of barrels of equivalent
(boe) is based on the conversion ratio that one barrel of oil is
equivalent to six thousand cubic feet of natural gas.
FINANCIAL ANALYSIS
In the first nine months of 2003 Zargon increased oil and liquids
production by 11 percent and natural gas production by 22 percent
over the 2002 comparative period. The gain in oil and liquid
volumes generally came from Williston Basin exploitation drilling
and acquisitions while the expanded natural gas volumes were
primarily the result of successful West Central Alberta natural
gas exploration initiatives. These production gains were enhanced
by a 102 percent improvement in field gas prices to $6.63 per
thousand cubic feet, and a 12 percent increase in oil prices to
$37.95 per barrel when compared to the 2002 nine month period.
The result of these production gains and price improvements were
record nine month 2003 revenues of $77.15 million, a 72 percent
improvement over the $44.87 million recorded in the 2002
comparative period.
Similarly, third quarter 2003 revenues of $23.76 million were 43
percent higher than the 2002 third quarter revenues due to a
combination of higher natural gas prices and improved oil and
natural gas volumes. Compared to the 2003 second quarter,
revenues declined by two percent as the impact of increased
natural gas production volumes was more than offset by lower
natural gas prices.
Zargon's commodity price risk management policy uses forward
sales, options and costless collars for, on average, 20 to 30
percent of our net oil and natural gas sales in order to
partially offset the effects of large price fluctuations. The net
hedging loss of $2.22 million experienced in the first quarter of
2003 declined to a $0.47 million loss in the second quarter and a
$0.35 million loss in the third quarter. The first quarter
hedging losses were especially large due to certain fixed price
natural gas swaps and collars whose price levels had been greatly
exceeded by the first quarter's extremely high natural gas
prices. For the first nine months of 2003, the net hedging loss
was $3.05 million compared to a gain of $1.38 million in first
nine months of 2002 when natural gas prices were substantially
lower.
Royalties, inclusive of Alberta Royalty Tax Credit and
Saskatchewan Resource Surcharge, were $5.70 million for the third
quarter of 2003, an increase of 13 percent from the second
quarter and an increase of 49 percent from $3.82 million in the
2002 third quarter. The increase over the prior year quarter is
due primarily to a corresponding 43 percent gain in revenue. As a
percentage of gross revenue, third quarter 2003 royalties were
24.0 percent of revenue compared to 20.9 percent in the second
quarter and 23.0 percent in the 2002 period. In the current year,
significant natural gas production gains have come from high rate
wells that incur a higher royalty rate. For the first nine
months, royalties of $16.99 million were 73 percent higher than
the 2002 first nine months, corresponding to a 72 percent
increase in revenue.
Production expenses were $4.34 million in the 2003 third quarter,
a nine percent increase from the second quarter and five percent
higher than the third quarter of 2002. However, on a unit of
production basis, 2003 production expenses have improved
significantly, showing response to field cost containment
initiatives and a disposition program of non-core, higher cost
properties. Third quarter 2003 production costs were $6.32 per
barrel of equivalent compared to $6.05 per barrel of equivalent
in the 2003 second quarter and $6.98 per barrel of equivalent the
2002 third quarter. For the first nine months of 2003, production
costs were $6.34 per barrel of equivalent, a three percent
decrease from the same period 2002 levels, and a six percent
decrease from the 2002 annual rate of $6.75 per barrel.
/T/
Operating Netbacks
2003 2002
Nine months ended Oil and Natural Oil and Natural
September 30 Liquids Gas Liquids Gas
-----------------------------------------------------------------------
($/bbl) ($/mcf) ($/bbl) ($/mcf)
Revenue 37.95 6.63 33.98 3.28
Hedging (1.10) (0.31) (0.16) 0.28
Royalties (7.53) (1.58) (6.64) (0.84)
Production costs (8.97) (0.69) (9.33) (0.67)
-----------------------------------------
Operating netbacks 20.35 4.05 17.85 2.05
-----------------------------------------------------------------------
-----------------------------------------------------------------------
/T/
General and administrative expenses of $0.88 million in the third
quarter of 2003 were 14 percent above the second quarter and 13
percent below the 2002 third quarter. On a unit of production
basis, general and administrative costs in the first nine months
of 2003 decreased 22 percent to $1.28 per barrel of equivalent as
compared to $1.64 per barrel of equivalent in the first nine
months of 2002 and $1.49 per barrel of equivalent for all of
2002. This encouraging trend in general and administrative costs
on a unit of production basis is due to increased production
volumes, increased general and administrative cost recoveries
from expanded field capital programs, and the disposition of a
substantial number of small, overhead-intensive properties.
/T/
Corporate Netbacks
Nine months ended September 30 ($/boe) 2003 2002
-----------------------------------------------------------------------
Revenue 38.96 26.46
Hedging (1.54) 0.81
Royalties (8.58) (5.80)
Production costs (6.34) (6.53)
---------------------------
Operating netbacks 22.50 14.94
General and administrative (1.28) (1.64)
Interest (0.33) (0.47)
Foreign exchange 0.07 -
Capital and current income taxes (0.20) (0.21)
---------------------------
Cash flow netbacks 20.76 12.62
Depletion and depreciation (6.44) (5.70)
Site restoration (0.50) (0.56)
Unrealized foreign exchange 0.04 (0.05)
Future income taxes (3.50) (2.54)
---------------------------
Net earnings 10.36 3.77
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/T/
Depletion and depreciation expense for the third quarter of 2003
of $4.67 million was 13 percent higher than the second quarter
and 34 percent above third quarter 2002, due in part to increased
production volumes. Comparisons on a unit of production basis
show an eight percent increase over the 2003 second quarter and a
16 percent increase over the 2002 third quarter to $6.79 per
barrel of equivalent. The increase in unit charges reflects the
ongoing industry-wide trend, also experienced by Zargon, to
higher finding and development costs.
Cash flow from operations in third quarter 2003 of $12.34 million
(see note below) was 59 percent higher than the 2002 third
quarter levels due to the effect of higher natural gas prices and
higher production volumes. Third quarter 2003 cash flow from
operations was however nine percent lower than in the preceding
second quarter, because of a 15 percent decrease in natural gas
prices. Strong prices and higher production volumes have provided
record cash flow from operations for the first nine months of
2003 on both a corporate and per share basis. For the first nine
months of 2003, cash flow from operations of $41.10 million
($2.24 per diluted share) showed a gain of 92 percent from the
prior year's nine-month period.
Future taxes were $2.61 million for the third quarter of 2003, an
increase of 63 percent from the 2002 third quarter and a very
large increase from the near-zero provision in the 2002 second
quarter. The increase from the prior year quarter basically
reflects an 82 percent increase in earnings before taxes while
the second quarter 2003 future taxes were distorted by an
adjustment resulting from future federal tax rate reductions.
These tax changes and their effects on Zargon's tax provisions
were described in detail in our 2003 second quarter report.
Earnings are normally leveraged to cash flow and the combined
effect of high cash flow from operations and favourable tax
changes increased third quarter 2003 earnings to $4.51 million,
approximately double the earnings reported in third quarter 2002.
Comparisons with the preceding 2003 quarter are distorted by the
major future tax adjustments booked in that quarter. For the
first nine months of 2003, the strong prices and higher
production volumes experienced plus the favourable tax changes
provided record earnings of $20.50 million, a 220 percent
increase from the prior year period. Earnings per diluted share
were $1.12 for the 2003 nine month period and $0.36 for the same
2002 period, a 211 percent gain.
Note: Cash flow from operations is a non-GAAP term that
represents net earnings adjusted for non-cash items. The Company
evaluates its performance based on net earnings and cash flow
from operations. The Company considers cash flow from operations
to be a key measure as it demonstrates the Company's ability to
generate the cash necessary to repay debt or fund future growth
through capital investment. Cash flow from operations per share
is calculated using the diluted weighted average number of shares
for the period.
/T/
Capital Expenditures
Nine months ended September 30 ($ million) 2003 2002
-----------------------------------------------------------------------
Undeveloped land 5.96 3.00
Geological and geophysical (seismic) 4.11 1.75
Drilling and completion of wells 9.72 6.11
Well equipment and facilities 4.62 3.09
--------------------
Exploration and development 24.41 13.95
--------------------
Property acquisitions 7.82 6.28
Property dispositions (5.16) (0.10)
--------------------
Net property acquisitions 2.66 6.18
--------------------
Hadrian acquisition assigned to
property and equipment - 7.39
--------------------
Total capital expenditures (net) 27.07 27.52
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/T/
LIQUIDITY AND CAPITAL RESOURCES
Zargon's capital expenditure program has expanded steadily
throughout 2003, from $6.86 million in the first quarter to $8.10
million in the second and $12.11 million in the third quarter,
reaching $27.07 million for the first nine months. The
exploration program in the first half of 2003 was constrained by
a combination of strategic resource allocations and a long, wet
spring that deferred field activities. For the first nine months
of 2003, net capital expenditures were $27.07 million with $24.41
million attributed to exploration and development costs. Total
net capital expenditures in the 2003 nine month period were
approximately equal to those in the corresponding 2002 period but
were significantly different in allocation. In 2003, Zargon's
$7.82 million of property acquisitions were offset by
dispositions of a number of small non-core properties aggregating
$5.16 million. Consequently, net property acquisitions totaling
$2.66 million were only 20 percent of the 2002 corresponding
period's total property and corporate acquisitions of $13.57
million. In 2003, the only significant property acquisition was
the second quarter $4.95 million Cdn. purchase of the Truro Unit
in North Dakota.
The 2003 exploration and development spending of $24.41 million
represented an increase of 75 percent over the $13.95 million
spent in the corresponding nine months of 2002 and demonstrates
Zargon's current emphasis on internally generated field
activities. Reflecting Zargon's expanded focus on exploration,
Zargon spent $10.07 million on undeveloped land and
geological/geophysical expenditures in the first nine months of
2003, a 112 percent increase over the $4.75 million spent in
2002. The continuing high cash flows in the 2003 period of $41.10
million funded the full capital expenditure program while still
applying $16.36 million to the reduction of bank debt. At
September 30, 2003, Zargon's debt net of working capital had
declined to $13.81 million, an amount equivalent to less than
four months of the current cash flow from operations.
As at November 18, 2003, Zargon has issued 17.90 million common
shares and has granted stock options to acquire an additional
1.37 million shares.
/T/
Capital Sources
Nine months ended September 30 ($ million) 2003 2002
-------------------------------------------------------------------
Cash flow from operations 41.10 21.41
Changes in working capital and other 1.42 (4.41)
Change in bank indebtedness (16.36) 4.57
Issuance of common shares 0.91 5.95
----------------
Total capital sources 27.07 27.52
-------------------------------------------------------------------
-------------------------------------------------------------------
/T/
OUTLOOK
Zargon's strong financial position and ongoing successful natural
gas exploration and oil exploitation programs provide much
encouragement for the future. Although oil and natural gas prices
have receded from record levels, current prices remain very
strong. The combination of an unlevered balance sheet and the
large 2003 cash flows provide financial resources that will
continue to be deployed on our exploration and exploitation
growth programs and can still fund a sizeable acquisition if and
when value-added opportunities become available.
/T/
($ million, except per share amounts)
Cash
Earnings/ Flow/ Produc-
Net Diluted Cash Diluted tion Total Bank
Quarter Earnings Share Flow Share Revenue Assets Debt
-----------------------------------------------------------------------
2003 Q3 $4.51 $0.24 $12.34 $0.67 $23.76 $166.89 $ 8.92
2003 Q2 $9.25 $0.51 $13.53 $0.74 $24.20 $160.05 $11.47
2003 Q1 $6.74 $0.37 $15.23 $0.84 $29.19 $159.34 $20.78
2002 Q4 $4.28 $0.24 $10.71 $0.59 $20.67 $153.66 $25.28
2002 Q3 $2.27 $0.13 $ 7.75 $0.43 $16.65 $146.00 $28.71
2002 Q2 $2.55 $0.14 $ 7.47 $0.42 $15.50 $137.76 $28.00
2002 Q1 $1.58 $0.09 $ 6.19 $0.36 $12.73 $128.97 $25.26
2001 Q4 $1.77 $0.10 $ 5.81 $0.34 $11.18 $127.93 $24.14
2001 Q3 $2.60 $0.15 $ 7.66 $0.44 $14.67 $119.06 $19.27
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"Signed" C.H. Hansen
President and Chief Executive Officer
Calgary, Alberta
November 18, 2003
ZARGON OIL & GAS LTD.
CONSOLIDATED BALANCE SHEETS
September 30, December 31,
($ thousand) 2003 2002
---------------------------------------------------------------------
(unaudited)
ASSETS
Current
Accounts receivable 11,089 11,942
Prepaid expenses and deposits 485 712
--------------------------
11,574 12,654
Property and equipment, net 155,315 141,006
--------------------------
166,889 153,660
--------------------------
--------------------------
LIABILITIES
Current
Bank indebtedness 8,919 25,279
Accounts payable and accrued liabilities 16,465 16,118
--------------------------
25,384 41,397
Future site restoration 5,650 4,746
Future income taxes (note 8) 27,846 20,922
--------------------------
58,880 67,065
--------------------------
SHAREHOLDERS' EQUITY
Share capital (note 3) 41,911 40,997
Retained earnings 66,098 45,598
--------------------------
108,009 86,595
--------------------------
166,889 153,660
--------------------------
--------------------------
See accompanying selected notes
ZARGON OIL & GAS LTD.
CONSOLIDATED STATEMENTS OF EARNINGS AND RETAINED EARNINGS
Three Months Ended Nine Months Ended
September 30, September 30,
(unaudited) 2003 2002 2003 2002
---------------------------------------------------------------------
($ thousand, except per share amounts)
Revenue
Oil and gas sales 23,755 16,647 77,146 44,873
Hedging (note 7) (354) 447 (3,050) 1,381
Royalties (5,695) (3,821) (16,991) (9,831)
-----------------------------------
17,706 13,273 57,105 36,423
-----------------------------------
Expenses
Production 4,344 4,146 12,550 11,077
General and administrative 876 1,003 2,530 2,776
Interest 152 262 661 803
Foreign exchange 69 75 (210) 84
Site restoration 344 333 990 950
Depletion and depreciation 4,667 3,475 12,759 9,671
-----------------------------------
10,452 9,294 29,280 25,361
-----------------------------------
Earnings before taxes 7,254 3,979 27,825 11,062
-----------------------------------
Taxes
Future (note 8) 2,607 1,596 6,924 4,306
Current 133 116 401 359
-----------------------------------
2,740 1,712 7,325 4,665
-----------------------------------
Net earnings for the period 4,514 2,267 20,500 6,397
Retained earnings, beginning
of period 61,584 39,049 45,598 34,919
-----------------------------------
Retained earnings, end of
period 66,098 41,316 66,098 41,316
-----------------------------------
-----------------------------------
Earnings per common share
(note 4)
Basic 0.25 0.13 1.15 0.37
Diluted 0.24 0.13 1.12 0.36
-----------------------------------
-----------------------------------
See accompanying selected notes
ZARGON OIL & GAS LTD.
CONSOLIDATED STATEMENTS OF CASH FLOWS
Three Months Ended Nine Months Ended
September 30, September 30,
(unaudited) 2003 2002 2003 2002
---------------------------------------------------------------------
($ thousand)
Operating activities
Net earnings for the period 4,514 2,267 20,500 6,397
Add non-cash items:
Depletion and depreciation 4,667 3,475 12,759 9,671
Site restoration 344 333 990 950
Unrealized foreign exchange 209 75 (70) 84
Future income taxes 2,607 1,596 6,924 4,306
-----------------------------------
Cash flow from operations 12,341 7,746 41,103 21,408
Changes in non-cash working
capital (853) (536) 306 (1,225)
-----------------------------------
11,488 7,210 41,409 20,183
-----------------------------------
Financing activities
Advances (repayment) of bank
indebtedness (2,555) 708 (16,360) 4,570
Exercise of stock options 88 37 914 955
-----------------------------------
(2,467) 745 (15,446) 5,525
-----------------------------------
Investing activities
Additions to property and
equipment (12,218) (10,901) (32,223) (20,233)
Proceeds on disposal of
property and equipment 110 15 5,155 97
Acquisition of Hadrian Energy
Corp. (cash portion) - - - (4,857)
Site restoration expenditures (35) (157) (86) (204)
Changes in non-cash working
capital 3,122 3,088 1,191 (712)
-----------------------------------
(9,021) (7,955) (25,963) (25,909)
-----------------------------------
Decrease in cash - - - (201)
Cash, beginning of period - - - 201
-----------------------------------
Cash, end of period - - - -
-----------------------------------
-----------------------------------
See accompanying selected notes
/T/
ZARGON OIL & GAS LTD.
SELECTED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
For the three and nine months ended September 30, 2003 and 2002
(unaudited)
1. BASIS OF PRESENTATION
The interim consolidated financial statements of Zargon Oil & Gas
Ltd. (the "Corporation") have been prepared by management in
accordance with Canadian generally accepted accounting
principles. The interim consolidated financial statements have
been prepared following the same accounting policies and methods
in computation as the consolidated financial statements for the
fiscal year ended December 31, 2002. The interim consolidated
financial statements should be read in conjunction with the
consolidated financial statements and notes thereto in the
Corporation's annual report for the year ended December 31, 2002.
2. ACQUISITION
On June 17, 2002, the Corporation acquired all of the outstanding
shares of Hadrian Energy Corp. ("Hadrian"), a private oil and gas
company, for $9.60 million. Consideration consisted of $4.745
million cash and the issuance of 542,340 Zargon common shares
valued at $8.75 per share. Costs of $0.112 million were incurred
to effect the transaction and were charged to share capital. The
acquisition was accounted for by the purchase method and the
purchase price has been allocated as follows:
/T/
($ thousand) 2002
-------
Working capital (816)
Property and equipment 7,386
Future tax asset 3,792
Future site restoration (760)
-------
Total consideration 9,602
-------
-------
/T/
3. SHARE CAPITAL
The Corporation is authorized to issue an unlimited number of
common shares with no par value and an unlimited number of first
preferred shares and second preferred shares.
/T/
Common Shares
(thousand) September 30, 2003 September 30, 2002
-----------------------------------------
Number of Amount Number of Amount
Shares $ Shares $
-----------------------------------------
Shares issued
Balance, beginning of year 17,637 40,997 16,666 35,066
Shares issued for Hadrian - - 542 4,658
Stock options exercised 253 914 327 955
-----------------------------------------
Balance, end of period 17,890 41,911 17,535 40,679
-----------------------------------------
-----------------------------------------
/T/
A summary of the status of the Corporation's stock option plans
as at September 30, 2003 and 2002, and changes during the nine
months ended on those dates is presented below:
/T/
Stock Options
September 30, 2003 September 30, 2002
-------------------------------------------
Weighted Weighted
Average Average
Number of Exercise Number of Exercise
Shares Price Shares Price
(thousand) $ (thousand) $
-------------------------------------------
Outstanding at beginning
of year 1,215 5.10 1,199 3.36
Granted 429 9.36 454 7.66
Exercised (253) 3.61 (327) 2.92
Cancelled (22) 9.30 (9) 7.25
-------------------------------------------
Outstanding at end of
period 1,369 6.64 1,317 4.92
-------------------------------------------
-------------------------------------------
Options exercisable at
end of period 944 5.42 852 3.43
-------------------------------------------
-------------------------------------------
/T/
Stock Based Compensation
The Corporation recognizes no compensation expense when stock
options are granted to employees and directors. Pro forma
information regarding net earnings is required and has been
determined as if the Corporation had accounted for its stock
options granted after December 31, 2001 under the fair value
method. The fair value for these options was estimated at the
date of grant using a Black-Scholes Option Pricing Model.
The assumptions made for the options granted in the three month
period ended September 30, 2003 include a volatility factor of
expected market price of 20.80 percent, a weighted average
risk-free interest rate of 3.53 percent, no dividend yield and a
weighted average expected life of options of four years.
For purposes of pro forma disclosures, the estimated fair value
of options is amortized to expense over the options' vesting
periods. The Corporation's net earnings would be reduced by
$75,000 for the three months ended September 30, 2003 and
$400,000 for the nine months ended September 30, 2003. Basic and
diluted earnings per share figures would have both been unchanged
for the 2003 quarter and would have both been reduced by $0.02
for the 2003 nine months.
Comparatively, the Corporation's prior period net earnings would
be reduced by $159,000 for the three months ended September 30,
2002 and $464,000 for the nine months ended September 30, 2002.
Basic and diluted earnings per share figures would have both been
reduced by $0.01 for the 2002 quarter and by $0.03 for the 2002
nine months.
4. WEIGHTED AVERAGE NUMBER OF COMMON SHARES
/T/
Three Months Ended Nine Months Ended
September 30, September 30,
(thousand) 2003 2002 2003 2002
-----------------------------------------
Basic 17,867 17,527 17,788 17,104
Diluted 18,430 18,081 18,324 17,695
-----------------------------------------
-----------------------------------------
5. SEGMENTED INFORMATION
Three Months Ended Nine Months Ended
September 30, September 30,
($ thousand) 2003 2002 2003 2002
--------------------------------------
Oil and Gas Sales
Canada 20,685 14,588 68,465 39,680
United States 3,070 2,059 8,681 5,193
--------------------------------------
Total 23,755 16,647 77,146 44,873
--------------------------------------
--------------------------------------
Net Capital Expenditures
Canada 11,827 10,234 21,546 26,849
United States 281 652 5,522 673
--------------------------------------
Total 12,108 10,886 27,068 27,522
--------------------------------------
--------------------------------------
Total Assets
Canada 157,384 140,540
United States 9,505 5,463
--------------------------------------
Total 166,889 146,003
--------------------------------------
--------------------------------------
6. SUPPLEMENTAL CASH FLOW INFORMATION
Three Months Ended Nine Months Ended
September 30, September 30,
($ thousand) 2003 2002 2003 2002
-----------------------------------------
Cash interest paid 117 159 540 926
Cash taxes paid 37 117 305 359
-----------------------------------------
-----------------------------------------
/T/
7. FINANCIAL INSTRUMENTS
The Corporation is a party to certain off-balance sheet
derivative financial instruments which have fixed the price of a
portion of its oil and natural gas production. The Corporation
enters into these contracts for hedging purposes only, in order
to protect a portion of its future Canadian cash flow from the
volatility of crude oil and natural gas commodity prices.
The Corporation enters into currency contracts for hedging
purposes because the price received for its products varies in
close relationship to the US dollar currency exchange rate.
The Corporation has outstanding contracts at September 30, 2003
as follows:
/T/
Range
Volume Rate Price of Terms
------------------------------------------------------------------------
Oil swaps 64,400 bbl 700 bbl/d $24.96 US/bbl Oct. 1/03 -
Dec. 31/03
36,400 bbl 200 bbl/d $26.44 US/bbl Jan. 1/04 -
Jun. 30/04
Oil collars 36,400 bbl 200 bbl/d $22.50 US/bbl Put Jan. 1/04 -
$26.85 US/bbl Call Jun. 30/04
36,400 bbl 200 bbl/d $24.00 US/bbl Put Jan. 1/04 -
$27.65 US/bbl Call Jun. 30/04
36,800 bbl 200 bbl/d $24.00 US/bbl Put Jul. 1/04 -
$27.80 US/bbl Call Dec. 31/04
Natural
gas swaps 62,000 gj 2,000 gj/d $4.85/gj Oct. 1/03 -
Oct. 31/03
304,000 gj 2,000 gj/d $7.50/gj Nov. 1/03 -
Mar. 31/04
428,000 gj 2,000 gj/d $5.10/gj Apr. 1/04 -
Oct. 31/04
Natural
gas put 456,000 gj 3,000 gj/d $5.00/gj Nov. 1/03 -
Mar. 31/04
Natural gas
collars 62,000 gj 2,000 gj/d $4.00/gj Put Oct. 1/03 -
$6.10/gj Call Oct. 31/03
152,000 gj 1,000 gj/d $5.50/gj Put Nov. 1/03 -
$7.90/gj Call Mar. 31/04
428,000 gj 2,000 gj/d $5.00/gj Put Apr. 1/04 -
$6.85/gj Call Oct. 31/04
Currency
collar $1,000,000 - $1.56 Put Oct. 1/03 -
Cdn. / month $1.62 Call Dec. 31/03
-----------------------------------------------------------------------
-----------------------------------------------------------------------
/T/
8. TAX RATE ADJUSTMENT
In the March 2003 budget, the Government of Canada announced
federal corporate income tax changes affecting resource companies
to be phased in over a five year period that include reducing the
federal tax rate from 28% to 21%, allowing the deductibility of
crown charges and eliminating the resource allowance. As a result
of both federal and provincial corporate income tax changes,
which are considered to be "substantively enacted" for Canadian
GAAP purposes, the provision for future income taxes for the
three months ended June 30, 2003 and nine months ended September
30, 2003 include a recovery and liability reduction in the amount
of $3.59 million.
/T/
ZARGON OIL AND GAS LTD.
Corporate Information
-----------------------------------------------------------------------
Board of Directors Officers Stock Exchange Listing
Craig H. Hansen John O. McCutcheon Toronto Stock Exchange
Calgary, Alberta Chairman Trading Symbol: ZAR
K. James Harrison Craig H. Hansen
Oakville, Ontario President and Transfer Agent
Chief Executive Officer
H. Earl Joudrie Valiant Trust Company
Toronto, Ontario Mark I. Lake 510, 550 - 6th Avenue S.W.
Vice President, Calgary, Alberta T2P 0S2
Kyle D. Kitagawa Exploration
Calgary, Alberta
Daniel A. Roulston Head Office
John O. McCutcheon Vice President,
Vancouver, Operations 700, 333 - 5th Avenue S.W.
British Columbia Calgary, Alberta T2P 3B6
Sheila A. Wares Phone: (403) 264-9992
James D. Peplinski Vice President, Fax: (403) 265-3026
Calgary, Alberta Accounting Email: zargon@zargon.ca
Byron J. Seaman Kenneth W. Young
Calgary, Alberta Vice President, Land Website
J. Graham Weir www.zargon.ca
Calgary, Alberta
William J. Whelan
Calgary, Alberta
Grant A. Zawalsky
Calgary, Alberta
/T/
Forward Looking Statements - Certain information regarding Zargon
set forth in this document, including management's assessment of
Zargon's future plans and operations, contains forward-looking
statements that involve substantial known and unknown risks and
uncertainties. These forward-looking statements are subject to
numerous risks and uncertainties, certain of which are beyond
Zargon's control, including the impact of general economic
conditions, industry conditions, volatility of commodity prices,
currency fluctuations, imprecision of reserve estimates,
environmental risks, competition from other producers, the lack
of availability of qualified personnel or management, stock
market volatility and ability to access sufficient capital from
internal and external sources. Zargon's actual results,
performance or achievement could differ materially from those
expressed in, or implied by, these forward-looking statements and
accordingly, no assurance can be given that any of the events
anticipated by the forward-looking statements will transpire or
occur, or if any of them do so, what benefits that Zargon will
derive there from.
-30-
FOR FURTHER INFORMATION PLEASE CONTACT:
Zargon Oil & Gas Ltd.
C.H. Hansen
President and Chief Executive Officer
(403) 264-9992
(403) 265-3026 (FAX)
Email: zargon@zargon.ca
Website: www.zargon.ca
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