DAYBREAK OIL AND GAS, INC. The following management's discussion and analysis ("MD&A") is management's
assessment of the financial condition, changes in our financial condition and
our results of operations and cash flows for the twelve months ended February
28, 2022 and February 28, 2021 . This MD&A should be read in conjunction with the
audited financial statements and the related notes and other information
included elsewhere in this Annual Report on Form 10-K.
Safe Harbor Provision
Certain statements contained in our Management's Discussion and Analysis of Financial Condition and Results of Operations are intended to be covered by the safe harbor provided for under Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Exchange Act. All statements other than statements of historical facts contained in this MD&A report, including statements regarding our current expectations and projections about future results, intentions, plans and beliefs, business strategy, performance, prospects and opportunities, are inherently uncertain and are forward-looking statements. For more information about forward-looking statements, please refer to the section labeled "Cautionary Statement About Forward-Looking Statements" at the beginning of this Annual Report on Form 10-K. Introduction and Overview We are an independent crude oil and natural gas exploration, development and production company. Our basic business model is to increase shareholder value by finding and developing crude oil and natural gas reserves through exploration and development activities, and selling the production from those reserves at a profit. To be successful, we must, over time, be able to find crude oil and natural gas reserves and then sell the resulting production at a price that is sufficient to cover our finding costs, operating expenses, administrative costs and interest expense, plus offer us a return on our capital investment. A secondary means of generating returns can include the sale of either producing or non-producing lease properties. Our long-term success depends on, among many other factors, the successful acquisition and drilling of commercial grade crude oil and natural gas properties as well as the prevailing sales prices for crude oil and natural gas along with associated operating expenses. The volatile nature of the energy markets makes it difficult to estimate future prices of crude oil and natural gas; however, any prolonged period of depressed prices, such as we are now experiencing, will have a material adverse effect on our results of operations and financial condition.
Our operations are focused on identifying and evaluating prospective crude oil and natural gas properties and funding projects that we believe have the potential to produce crude oil or natural gas in commercial quantities. We conduct all of our drilling, exploration and production activities inthe United States , and all of our revenues are derived from sales to customers withinthe United States . We are currently in the process of developing a multi-well oilfield projects inKern County, California and an exploratory project inMichigan . Our management cannot provide any assurances that Daybreak will ever operate profitably. While we have experienced positive cash flow in the past from our crude oil operations inCalifornia , we have not yet generated sustainable positive cash flow or earnings on a company-wide basis. As a small company, we are more susceptible to the numerous business, investment and industry risks that have been more fully described in Item 1A. Risk Factors of this Annual Report on Form 10-K for the fiscal year endedFebruary 28, 2022 . Throughout this Annual Report on Form 10-K, crude oil is shown in barrels ("Bbls"); natural gas is shown in thousands of cubic feet ("Mcf") or British Thermal Units ("BTU") unless otherwise specified, and hydrocarbon totals are expressed in barrels of oil equivalent ("BOE").
Year-to-Date Results
Below is brief summary of our crude oil and natural gas project inCalifornia . Refer to our discussion in Item 2. Properties, in this Annual Report on Form 10-K for more information on ourEast Slopes Project inKern County, California .
The East Slopes Project is located in the southeastern part of theSan Joaquin Basin nearBakersfield, California . Drilling targets are porous and permeable sandstone reservoirs that exist at depths of 1,200 feet to 4,500 feet. SinceJanuary 2009 , we have participated in the drilling of 25 wells in this project. The crude oil produced from our acreage in the Vedder Sand is considered heavy crude oil. The 35 produced crude oil ranges from 14°to 16° API gravity and must be heated to separate and remove water prior to sale. During the twelve months endedFebruary 28, 2022 we had production from 20 vertical crude oil wells. Our average working interest and NRI in these 20 wells is 36.6% and 28.4%, respectively. We have been the Operator at theEast Slopes Project sinceMarch 2009 .
Results of Operations - For the years ended
California Crude Oil Prices The price we receive for crude oil sales inCalifornia is based on prices posted for Midway-Sunset crude oil delivery contracts, contracts, less deductions that vary by grade of crude oil sold and transportation costs. The posted Midway-Sunset price generally moves in correlation to, and at a discount to, prices quoted on theNew York Mercantile Exchange ("NYMEX") for spotWest Texas Intermediate ("WTI")Cushing, Oklahoma delivery contracts. We do not have any natural gas revenues inCalifornia . There continues to be a significant amount of volatility in hydrocarbon prices and a corresponding fluctuation in our realized sale price of crude oil does exist. An example of this volatility is that in June of 2014 the monthly average price of WTI oil was$105.79 per barrel and our realized price per barrel of crude oil was$98.78 while inApril 2020 , the monthly average price of WTI crude oil was$16.55 and our monthly realized price was$16.96 per barrel. Finally, inFebruary 2022 , the monthly average price of WTI oil was$91.64 per barrel and our realized price per barrel of crude oil was$87.41 . This volatility in crude oil prices has continued throughout most of the fiscal year endedFebruary 28, 2022 . Any downward volatility in the price of crude oil will have a prolonged and substantial negative impact on our profitability and cash flow from our producingCalifornia properties. It is beyond our ability to accurately predict crude oil prices over any substantial length of time. A comparison of the average WTI price and average realized crude oil sales price at ourEast Slopes Project inCalifornia for the twelve months endedFebruary 28, 2022 andFebruary 28, 2021 is shown in the table below: Twelve Months Ended February 28, 2022 February 28, 2021 Percentage Change Average twelve month WTI crude oil price $ 73.31 $ 39.48 85.7 % Average twelve month realized crude oil sales price (Bbl) $ 70.75 $
36.91 91.7 % For the twelve months endedFebruary 28, 2022 , the average WTI price was$73.31 and our average realized crude oil sale price was$70.75 , representing a discount of$2.56 per barrel or 3.5% lower than the average WTI price. In comparison, for the twelve months endedFebruary 28, 2021 , the average WTI price was$39.48 and our average realized sale price was$36.91 representing a discount of$2.57 per barrel or 6.5% lower than the average WTI price. Historically, the sale price we receive forCalifornia heavy crude oil has been less than the quoted NYMEX WTI price because of the lower API gravity of ourCalifornia crude oil in comparison to WTI crude oil API gravity.
California Crude Oil Revenue and Production
Crude oil revenue inCalifornia for the twelve months endedFebruary 28, 2022 increased$275,206 or 68.0% to$680,107 in comparison to revenue of$404,901 for the twelve months endedFebruary 28, 2021 . The average sale price of a barrel of crude oil for the twelve months endedFebruary 28, 2022 was$70.75 in comparison to$36.91 for the twelve months endedFebruary 28, 2021 . The increase of$33.84 or 91.7% per barrel in the average realized price of a barrel of crude oil accounted for 134.9% of the increase in crude oil revenue for the twelve months endedFebruary 28, 2022 . Our net sales volume for the twelve months endedFebruary 28, 2022 was 9,613 barrels of crude oil in comparison to 10,970 barrels sold for the twelve months endedFebruary 28, 2021 . This decrease in crude oil sales volume of 1,357 barrels or 12.4% was primarily due to fewer well days of production and the natural decline in reservoir pressure during the twelve months endedFebruary 28, 2021 .
The gravity of our produced crude oil inCalifornia ranges between 14° API and 16° API. Production for the twelve months endedFebruary 28, 2022 was from 20 wells resulting in 7,154 well days of production in comparison to 7,288 well days of production from 20 wells for the twelve months endedFebruary 28, 2021 . 36 Our crude oil sales revenue fromCalifornia is set forth in the table below: Twelve Months Ended Twelve Months Ended February 28, 2022 February 28, 2021 Project Revenue Percentage Revenue Percentage
Total crude oil revenues*$ 680,107 100.0 %$ 404,901
100.0 %
*Our average realized sale price on a BOE basis for the twelve months ended
Of the$275,206 or 68.0% increase in revenue for twelve months endedFebruary 28, 2022 approximately$371,212 or 134.9% can be attributed to the increase in the realized price of crude oil. Operating Expenses Total operating expenses increased$187,178 or 24.8% to$940,886 for the twelve months endedFebruary 28, 2022 in comparison to$753,708 for the twelve months endedFebruary 28, 2021 . Our operating expenses are set forth in the table below: Twelve Months Ended Twelve Months Ended February 28, 2022 February 28, 2021 BOE BOE Expenses Percentage Basis Expenses Percentage Basis Production expenses$ 231,275 24.6%$ 187,858 24.9% Exploration and drilling expenses 56,213 6.0% 83 0.0% Depreciation, Depletion, Amortization ("DD&A") 49,590 5.3% 60,063 8.0% General and Administrative ("G&A") expenses 603,808 64.1% 505,704 67.1% Total operating expenses$ 940,886 100.0%$ 97.88 $ 753,708 100.0%$ 68.71 Production expenses include expenses associated with the production of crude oil and natural gas. These expenses include pumper salaries, electricity, road maintenance, control of well insurance, property taxes and well maintenance and workover expenses; and, relate directly to the number of wells that are on production. For the twelve months endedFebruary 28, 2022 , these expenses increased$43,417 , or 23.1% to$231,276 in comparison to$187,858 for the twelve months endedFebruary 28, 2021 . We had 20 wells on production inCalifornia for the twelve months endedFebruary 28, 2022 andFebruary 28, 2021 . Production expenses on a BOE basis inCalifornia for the twelve months endedFebruary 28, 2022 andFebruary 28, 2021 were$24.06 and$17.12 , respectively. Production expenses represented 24.6% and 24.9% of total operating expenses for the twelve months endedFebruary 28, 2022 andFebruary 28, 2021 , respectively. Exploration and drilling expenses include geological and geophysical ("G&G") expenses as well as leasehold maintenance, plugging and abandonment ("P&A") expenses and dry hole expenses. These expenses increased$56,130 to$56,213 for the twelve months endedFebruary 28, 2022 in comparison to$83 for the twelve months endedFebruary 28, 2021 . The increase was primarily due to the write off of exploration expenses related to theMichigan prospect. Exploration and drilling expenses represented 6.0% and 0.0% of total operating expenses for the twelve months endedFebruary 28, 2022 andFebruary 28, 2021 , respectively. Depreciation, Depletion, Amortization ("DD&A") expense relates to equipment, proven reserves and property costs, and is another component of operating expenses. These expenses decreased$10,473 or 17.4% to$49,590 for the twelve months endedFebruary 28, 2022 in comparison to$60,063 for the twelve months endedFebruary 28, 2021 . The primary reason for the decrease in DD&A expense was due to higher realized crude oil prices thus increasing the estimated economic life of our reserves in comparison to our reserve report from the prior year. On a BOE basis, DD&A expense inCalifornia for the twelve months endedFebruary 28, 2022 andFebruary 28, 2021 was$5.16 and$5.48 , respectively. DD&A expenses represented 5.3% and 8.0% of total operating expenses for the twelve months endedFebruary 28, 2022 andFebruary 28, 2021 , respectively. General and administrative ("G&A") expenses increased$98,104 or 19.4% to$603,808 for the twelve months endedFebruary 28, 2022 in comparison to$505,704 for the twelve months endedFebruary 28, 2021 . The increase in G&A expenses was primary due to employees returning to work after temporary lay-offs due to the COVID-19 epidemic and increases in travel, insurance rates, legal fees, and fundraising. Other items included in our G&A expenses are legal and accounting expenses, investor relations fees, travel expenses, insurance, Sarbanes-Oxley ("SOX") compliance expenses and other administrative expenses necessary for an operator of oil and gas properties as well as for the management a public company. For the year endedFebruary 28, 2022 , we received, as Operator 37 of the East Slopes project inCalifornia , administrative overhead reimbursement of$53,287 , which was used to directly offset certain employee salaries. We are continuing a program of reducing all of our G&A costs wherever possible. G&A expenses represented 64.1% and 67.1% of total operating expenses for the twelve months endedFebruary 28, 2022 andFebruary 28, 2021 , respectively.
Interest expense, net decreased
During the twelve months endedFebruary 28, 2022 , the Company recognized a gain on asset disposal of$9,614 . The gain was the result of an insurance settlement on the theft of a company vehicle that was fully depreciated. During the twelve months endedFebruary 28, 2022 , the Company recognized a gain on debt forgiveness in the amount of$72,800 due to notification that the SBA had approved the company's application for loan forgiveness on the PPP 2nd Draw loan. During the twelve months endedFebruary 28, 2021 , the Company recognized a gain on debt forgiveness in the amount of$74,355 due to notification that the SBA had approved the company's application for loan forgiveness on the PPP initial loan. Due to the nature of our business, we expect that revenues, as well as all categories of expenses, will continue to fluctuate substantially quarter-to-quarter and year-to-year. Our revenues are dependent upon both hydrocarbon production levels and the price we receive for hydrocarbon sales. Production costs will fluctuate according to the number and percentage ownership of producing wells the period of time the wells have been producing, as well as the amount of revenues being generated by each well. Exploration and drilling expenses will be dependent upon the amount of capital that we have to invest in future development projects, as well as the success or failure of such projects. Likewise, the amount of DD&A expense will depend upon the factors cited above, plus the size of our proven reserve base and the market price of energy products. G&A expenses will also fluctuate based on our current requirements, but will generally tend to increase as we expand the business operations of the Company. An on-going goal of the Company is to improve cash flow to cover the current level of G&A expenses; to fund our development drilling inCalifornia ; and, future drilling programs in other geographic locations.
Capital Resources and Liquidity
Our primary financial resource is our base of crude oil reserves. Our ability to fund our capital expenditure program is dependent upon the prices we receive from our crude oil and natural gas sales and the availability of capital resource financing. There continues to be a significant amount of volatility in hydrocarbon prices and a corresponding fluctuation in our realized sale price of crude oil does exist. An example of this volatility is that in June of 2014 the monthly average price of WTI crude oil was$105.79 per barrel and our realized price per barrel of crude oil was$98.78 while inApril 2020 , the monthly average price of WTI crude oil was$16.55 and our monthly realized price was$16.96 per barrel. Finally, inFebruary 2022 , the monthly average price of WTI oil was$91.64 per barrel and our realized price per barrel of crude oil was$87.41 . This volatility in crude oil prices has continued throughout most of the fiscal year endedFebruary 28, 2022 . Any downward volatility in the price of crude oil will have a prolonged and substantial negative impact on our profitability and cash flow from our producingCalifornia properties. It is beyond our ability to accurately predict crude oil prices over any substantial length of time. When new financing is secured, we plan to drill four development wells for a total of$565,000 .
Off-Balance Sheet Arrangements
As ofFebruary 28, 2022 , we did not have any relationships with unconsolidated entities or financial partners, such as entities often referred to as structured finance or special purpose entities, which have been established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes. As such, we are not materially exposed to any financing, liquidity, market or credit risk that could arise if we had engaged in such relationships. Factors such as changes in operating margins and the availability of capital resources could increase or decrease our ultimate level of expenditures during the next fiscal year. 38 Changes in our capital resources atFebruary 28, 2022 are set forth in the table below: Increase Percentage February 28, 2022 February 28, 2021 (Decrease) Change Cash $ 139,573 $ 33,528$ 106,045 316.3% Current Assets $ 416,651 $ 283,239$ 133,412 47.1% Total Assets $ 975,704 $ 912,125$ 63,579 7.0% Current Liabilities$ (3,404,735 ) $ (4,469,074 ) $ (1,064,339 ) (23.8%) Total Liabilities$ (4,322,908 ) $ (6,029,265 ) $ (1,706,357 ) (28.3%) Working Capital Deficit$ (2,988,084 ) $ (4,185,835
)$ (1,197,751 ) (28.6%) Our working capital deficit decreased approximately$1.2 million or 28.6% from a deficit of approximately$4.2 million atFebruary 28, 2021 to a deficit of approximately$3.0 million atFebruary 28, 2022 . The decrease in the working capital deficit was primarily due to a restructuring of our balance sheet by converting related party debt to common stock. This reduction was offset by an increase in accrued interest and the issuance of a short-term convertible note. For the twelve months endedFebruary 28, 2022 . we continued to have ongoing positive cash flow from our crude oil operations inCalifornia however, we were unable to generate sufficient cash flow to cover all of our general and administrative ("G&A") and interest expense requirements. Our business is capital intensive. Our ability to grow is dependent upon favorably obtaining outside capital and generating cash flows from operating activities necessary to fund our investment activities. There is no assurance that we will be able to achieve profitability. Since our future operations will continue to be dependent on successful exploration and development activities and our ability to seek and secure capital from external sources, should we be unable to achieve sustainable profitability this could cause any equity investment in the Company to become worthless. Major sources of funds in the past for us have included the debt or equity markets. We will have to rely on the capital markets to fund future operations and growth. Our business model is focused on acquiring exploration or development properties as well as existing production. Our ability to generate future revenues and operating cash flow will depend on successful exploration, and/or acquisition of crude oil and natural gas producing properties, which will require us to continue to raise equity or debt capital from outside sources. Daybreak has ongoing capital commitments to develop certain leases pursuant to their underlying terms. Failure to meet such ongoing commitments may result in the loss of the right to participate in future drilling on certain leases or the loss of the lease itself. These ongoing capital commitments may also cause us to seek additional capital from sources outside of the Company. The current uncertainty in the credit and capital markets, as well as the instability and volatility in crude oil prices since June of 2014 has restricted our ability to obtain needed capital. No assurance can be given that we will be able to obtain funding under any loan commitments or any additional financing on favorable terms, if at all. The Company's financial statements for the twelve months endedFebruary 28, 2022 have been prepared on a going concern basis, which contemplates the realization of assets and the settlement of liabilities in the normal course of business. We have incurred a cumulative net loss since entering the crude oil and natural gas exploration industry in 2005. As ofFebruary 28, 2022 , we have an accumulated deficit of approximately$29.5 million and a working capital deficit of approximately$3.0 million which raises substantial doubt about our ability
to continue as a going concern. OnOctober 20, 2021 , we entered into an Equity Exchange Agreement (the "Exchange Agreement") by and between Daybreak,Reabold California LLC , aCalifornia limited liability company ("Reabold"), andGaelic Resources Ltd. , a private company incorporated in theIsle of Man and the 100% owner of Reabold ("Gaelic"), pursuant to which the parties propose for (i) Daybreak to acquire 100% ownership of Reabold, in exchange for (ii) Daybreak issuing 160,964,489 shares of its common stock, par value$0.001 ("Common Stock") to Gaelic (the "Exchange Shares"), which will result in Reabold becoming a wholly-owned subsidiary of Daybreak named "Daybreak, LLC " and Gaelic becoming the owner of the Exchange Shares and a major shareholder of Daybreak (the foregoing transaction and the transactions contemplated thereby, the "Equity Exchange"). In connection with the Equity Exchange, and as conditions to closing the Equity Exchange, among other things we also propose to enter into agreements to sell a minimum of$2,500,000 of shares of Daybreak's Common Stock, and a minimum of 125,000,000 shares of Common Stock, to one or more investors in a private placement expected to close promptly following the closing of the Equity Exchange (the "Capital Raise"), with the proceeds of the Capital Raise to be used to repay in full the Company's line of credit withUBS Bank and for drilling and exploration activities and other working capital purposes. 39 As ofFebruary 28, 2022 , all of the conditions for the closing of the Exchange Agreement have not yet been met. The Company is continuing to work towards satisfying all of the Exchange Agreement conditions including having certain conditions of the Exchange Agreement approved by the Company's shareholders. Please refer to Note 16 - Subsequent Events in the Notes to these financial
statements. Cash Flows
Changes in the net funds provided by or (used in) each of our operating, investing and financing activities are set forth in the table below:
Twelve Months Twelve Months
Ended Ended Increase Percentage
February 28, 2022 February 28, 2021 (Decrease) Change
Net cash (used in) operating
activities $ (13,356 ) $ (143,526 ) $ (130,170 ) (90.7%)
Net cash (used in) investing
activities $ (16,232 ) $ - $ 16,232 100.0%
Net cash provided by financing
activities $ 135,633 $ 83,011 $ 52,622 63.4%)
Cash Flow Used in Operating Activities
Cash flow from operating activities is derived from the production of our crude oil reserves and changes in the balances of non-cash accounts, receivables, payables or other non-energy property asset account balances. Cash flow used in our operating activities for the twelve months endedFebruary 28, 2022 was$13,356 in comparison to cash flow used in our operating activities of$143,526 for the twelve months endedFebruary 28, 2021 . Changes in our cash flow operating activities for the twelve months endedFebruary 28, 2022 in comparison to the twelve months endedFebruary 28, 2021 were$130,170 and consisted of increases in our non-cash expenses of$21,650 , primarily from recognition of impairment ofMichigan unproved crude oil properties of$55,978 ; a decrease in changes in assets of$10,865 ; a decrease in changes in liabilities of$16,160 and the decrease in our net loss for the year of$113,815 . Variations in cash flow from operating activities may impact our level of exploration and development expenditures. Our expenditures in operating activities consist primarily of exploration and drilling expenses, production expenses, geological, geophysical and engineering services and maintenance of existing mineral leases. Our expenses also consist of consulting and professional services, employee compensation, legal, accounting, travel and other G&A expenses that we have incurred in order to address normal and necessary business activities of a public company in the crude oil exploration and production industry.
Cash Flow Used in Investing Activities
Cash flow from investing activities is derived from changes in oil and gas
property balances, fixed asset balances and any lending activities. For the
twelve months ended
Cash Flow Provided by Financing Activities
Cash flow from financing activities is derived from changes in long-term liability account balances or in equity account balances excluding retained earnings. Cash flow provided by our financing activities was$135,633 for the twelve months endedFebruary 28, 2022 in comparison to$83,011 for the twelve months endedFebruary 28, 2021 . For the twelve months endedFebruary 28, 2022 , we received$72,800 in comparison to$74,355 for the twelve months endedFebruary 28, 2021 under the paycheck protection program (PPP). For the twelve months endedFebruary 28, 2022 andFebruary 28, 2021 , we made payments of$60,000 , respectively, on theUBS Bank line of credit balances. We received$200,000 from a convertible note payable with a third party during the twelve months endedFebruary 28, 2022 . Finally, we made insurance premium financing payments of$68,568 and$74,553 during the twelve months endedFebruary 28, 2022 andFebruary 28, 2021 , respectively. The following is a summary of the Company's financing activities for the twelve months endedFebruary 28, 2022 . 40
Debt (short-term and long-term borrowings)
Note Payable InDecember 2018 , the Company was able to settle an outstanding balance owed to one of its third-party vendors. This settlement resulted in a$120,000 note payable being issued to the vendor. Additionally, the Company agreed to issue 2,000,000 shares of the Company's common stock as a part of the settlement agreement. Based on the closing price of the Company's common stock on the date of the settlement agreement, the value of the common stock transaction was determined to be$6,000 . The common stock shares were issued during the twelve months endedFebruary 29, 2020 . The note has a maturity date ofJanuary 1, 2022 and bears an interest rate of 10% rate per annum. Monthly interest is accrued and payable onJanuary 1st of each anniversary date until maturity of the note. AtFebruary 28, 2022 , the principal and accrued interest had not been paid and was outstanding. The accrued interest on the Note was$38,000 and$26,000 atFebruary 28, 2022 andFebruary 28, 2021 , respectively. Note Payable -Related Party OnDecember 22, 2020 , the Company entered into a Secured Promissory Note (the "Note"), as borrower, withJames Forrest Westmoreland andAngela Marie Westmoreland , Co-Trustees of theJames and Angela Westmoreland Revocable Trust , or its assigns (the "Noteholder"), as the lender.James F. Westmoreland is the Company's Chairman, President and Chief Executive Officer. Pursuant to the Note, the Noteholder loaned the Company an aggregate principal amount of$155,548 . After the deduction of loan fees of$10,929 the net proceeds from the loan were$144,619 . The loan fees are being amortized as original issue discount (OID) over the term of the loan. The interest rate of the loan is 2.25%. The Note requires monthly payments on the Note balance until repaid in full. The maturity date of the Note isDecember 21, 2035 . For the twelve months endedFebruary 28, 2022 , the Company made principal payments of$8,599 and amortized debt discount of$729 . The obligations under the Note are secured by a lien on and security interest in the Company's oil and gas assets located inKern County, California , as described in a Deed of Trust entered into by the Company in favor of the Noteholder to secure the obligations under the Note. Such lien shall be a first priority lien, subject only to a pre-existing lien filed by a working interest partner of the Company. The Company may prepay the Note at any time. Upon the occurrence of any Event of Default and expiration of any applicable cure period, and at any time thereafter during the continuance of such Event of Default, the Noteholder may at its option, by written notice to theCompany: (a) declare the entire principal amount of the Note, together with all accrued interest thereon and all other amounts payable hereunder, immediately due and payable; (b) exercise any of its remedies with respect to the collateral set forth in the Deed of Trust; and/or (c) exercise any or all of its other rights, powers or remedies under applicable law.
Current portion of note payable -related party balances at
February 28, 2022 February 28, 2021
Note payable -related party, current portion $ 8,829 $ 8,598
Unamortized debt issuance expenses (729 ) (728 )
Note payable - related party, current portion, net $ 8,100 $ 7,870
Note payable -related party long-term balances at
February 28, 2022 February 28, 2021
Note payable - related party, non-current $ 136,710 $ 145,540
Unamortized debt issuance expenses (9,350 ) (10,080 )
Note payable - related party, non-current, net $ 127,360 $ 135,460
Future estimated payments on the outstanding note payable - related party are set forth in the table below:
Twelve month periods ending February 28/29, 2023 8,829 2024 9,065 2025 9,309 2026 9,558 2027 9,815 Thereafter 98,963 Total$ 145,539 41
Short-term Convertible Note Payable
During the twelve months endedFebruary 28, 2022 , the Company executed a convertible promissory note with a third party for$200,000 . The interest rate is 18% per annum and is payable in kind (PIK) solely by additional shares of the Company's common stock. Regardless of when conversion occurs, a full 12 months of interest will be payable upon conversion. The maturity date of the note is the date of the closing of the transactions contemplated by the Equity Exchange Agreement withReabold California, LLC andGaelic Resources, Ltd. as described above under the Capital Resources and Liquidity caption found in this Item 7, Management's Discussion and Analysis (MD&A). The conversion price was to be determined by one of two cases. In Case 1, the conversion price would be$0.017 and in Case 2, the conversion price would be$0.0085 . The Case 1 conversion price scenario would apply if the terms of the Equity Exchange Agreement were met by a Long Stop Date ofApril 29, 2022 . The Case 2 conversion price scenario would apply if the terms of the Equity Exchange Agreement were not met by a Long Stop Date ofApril 29, 2022 . The terms of the Equity Exchange Agreement were not met by the Long Stop Date ofApril 29, 2022 and the conversion price was determined to be the$0.0085 rate. Under ASC 855-10-55-1, the Company determined that a derivate issue did not exist since the Company was able to determine the impact of the subsequent event. OnMay 5, 2022 , the Company received notice from the third party of their intent to convert the note principal and interest in the amount of$236,000 at the conversion price of$0.0085 . Consequently, 27,764,706 shares of the Company's common stock were issued to the third party to satisfy the obligation. 12% Subordinated Notes The Company's 12% Subordinated Notes ("the Notes") issued pursuant to aJanuary 2010 private placement offering to accredited investors, resulted in$595,000 in gross proceeds (of which$250,000 was from a related party) to the Company and accrue interest at 12% per annum, payable semi-annually onJanuary 29th andJuly 29th . OnJanuary 29, 2015 , the Company and 12 of the 13 holders of the Notes agreed to extend the maturity date of the Notes for an additional two years toJanuary 29, 2017 . EffectiveJanuary 29, 2017 , the maturity date of the Notes was extended for an additional two years toJanuary 29, 2019 . The 980,000 warrants held by ten noteholders expired onJanuary 29, 2019 . The Company has informed the Note holders that the payment of principal and final interest will be late and is subject to future financing being completed. The Notes principal of$565,000 was payable in full at the amended maturity date of the Notes, and has not been paid. Interest continues to accrue on the unpaid$565,000 principal balance. The terms of the Notes, state that should the Board of Directors, on any future maturity date, decide that the payment of the principal and any unpaid interest would impair the financial condition or operations of the Company, the Company may then elect a mandatory conversion of the unpaid principal and interest into the Company's common stock at a conversion rate equal to 75% of the average closing price of the Company's common stock over the 20 consecutive trading days precedingDecember 31, 2018 . As a result of the Company restructuring its balance sheet through conversions of debt to common stock, the related party 12% Noteholder chose to convert the principal and accrued interest of their Notes to the Company's common stock. The related party Note for$250,000 and accrued interest of$264,986 were converted to common stock at a rate of approximately$0.45 for every dollar of principal and interest resulting in 1,144,415 shares of common stock being issued. The accrued interest on the 12% Notes atFebruary 28, 2022 andFebruary 28, 2021 was$135,229 and$340,042 , respectively. 12% Note balances atFebruary 28, 2021 andFebruary 28, 2021 are set forth in the table below:February 28, 2022 February 28, 2021
12% Subordinated notes - third party $ 315,000 $
315,000
12% subordinated notes - related party -
250,000
12% Subordinated notes balance $ 315,000 $
565,000
The accrued interest atFebruary 28, 2021 owed on the 12% Subordinated Note to the related party is presented on the Company's Balance Sheets under the caption Accounts payable - related party rather than under the caption Accrued interest. 42 Line of Credit The Company has an existing$890,000 line of credit for working capital purposes withUBS Bank USA ("UBS"), established pursuant to a Credit Line Agreement datedOctober 24, 2011 that is secured by the personal guarantee of our President and Chief Executive Officer. OnNovember 10, 2021 , the Company was notified that effectiveJanuary 1, 2022 , a new interest rate benchmark the UBS Variable Rate (UBSVR) would replace the existing 30-day LIBOR ("London Interbank Offered Rate") benchmark. The UBSVR is comprised of the compounded 30-day average of the Secured Overnight Financing Rate (SOFR) plus a fixed spread adjustment of 0.110%. The Company's new all-on rate will consist of the UBSVR plus its current spread over LIBOR.
During the twelve months endedFebruary 28, 2022 andFebruary 28, 2021 , we did not receive any advances on the line of credit, respectively. During the twelve months endedFebruary 28, 2022 andFebruary 28, 2021 , we made payments to the line of credit of$60,000 , respectively. Interest converted to principal for the twelve months endedFebruary 28, 2022 andFebruary 28, 2021 was$27,278 and$28,503 , respectively. AtFebruary 28, 2022 andFebruary 28, 2021 , the line of credit had an outstanding balance of$808,182 and$840,904 , respectively. Production Revenue Payable
SinceDecember 2018 , the Company has been conducting a fundraising program to fund the drilling of future wells inCalifornia and to settle some of its existing historical debt. The purchasers of production payment interests receive a production revenue payment on future wells to be drilled inCalifornia in exchange for their purchase. OnAugust 22, 2019 , the Company entered into a Note Payoff Agreement with the Company's Chairman, President and Chief Executive Officer as payment in full of the$250,100 that had been loaned to the Company during the years endedFebruary 29, 2012 andFebruary 28, 2013 . Pursuant to the Note Payoff Agreement, the Company issued a production payment interest in certain of the Company's production revenue from the drilling of future wells inCalifornia . The production payment interest was granted for a deemed consideration amount of the balance of the Notes. The grant was made on the same terms as the Company has sold production payment interests to other third parties in the 2018-2019 fiscal year pursuant to its previously disclosed program. The production payment interest entitles the purchasers to receive production payments equal to twice their original amount paid, payable from a percentage of the Company's future net production payments from wells drilled after the date of the purchase and until the Production Payment Target (as described below) is met. The Company shall pay seventy-five percent (75%) of its net production payments from the relevant new wells to the purchasers until each purchaser has received two times the purchase price (the "Production Payment Target"). Once the Company pays the purchasers amounts equal to the Production Payment Target, it shall thereafter pay a pro-rated eight percent (8%) of$1.3 million on its net production payments from the relevant wells to each of the purchasers. However, if the total raised is less than the target$1.3 million , then the payment will be a proportionate amount of the eight percent (8%). The Company accounted for the amounts received from these sales in accordance with ASC 470-10-25 and 470-10-35 which require amounts recorded as debt to be amortized under the interest method as described in ASC 835-30, Interest Method. Consequently, the program balance of$950,100 has been recognized as a production revenue payable. The Company determined an effective interest rate based on future expected cash flows to be paid to the holders of the production payment interests. This rate represents the discount rate that equates estimated cash flows with the initial proceeds received from the sales and is used to compute the amount of interest to be recognized each period. Estimating the future cash outflows under this agreement requires the Company to make certain estimates and assumptions about future revenues and payments and such estimates are subject to significant variability. Therefore, the estimates are likely to change which may result in future adjustments to the accretion of the interest expense and the amortized cost based carrying value of the related payables. Accordingly, the Company has estimated the cash flows associated with the production revenue payments and determined a discount of$941,259 as ofFebruary 28, 2022 , which is being accounted as interest expense over the estimated period over which payments will be made based on expected future revenue streams. For the twelve months endedFebruary 28, 2022 andFebruary 28, 2021 , amortization of the debt discount on these payables amounted to$95,974 and$115,151 , respectively, which has been included in interest expense in the statements
of
operations.
43
As a result of the Company restructuring its balance sheet through conversions
of debt to common stock the related party with the production revenue interest
chose to convert the original principal investment of $550,100 to the Company's
common stock at a rate of approximately $0.45 for every dollar of principal and
interest resulting in 1,222,444 shares of common stock being issued. The
outstanding interest discount to debt of $232,170 was treated as a gain ondebt forgives by the Company. As ofFebruary 28, 2022 andFebruary 28, 2021 , the production revenue payment program balance was$817,125 and$1,503,422 , respectively. Production revenue payable balances atFebruary 28, 2020 andFebruary 28, 2021 are set forth in the table below:February 28, 2022 February 28, 2021
Estimated payments of production revenue payable $ 941,259
$ 2,000,258
Less: unamortized discount (124,134 ) (496,836 )
817,125 1,503,422
Less: current portion (78,877 ) (111,753 )Net production revenue payable - long term $ 738,248
$ 1,391,669
Paycheck Protection Program (PPP) Loan
InMarch 2020 , the Coronavirus Aid, Relief, and Economic Security Act commonly referred to as the CARES Act became law. One component of the CARES Act was the paycheck protection program ("PPP") which provides small business with the resources needed to maintain their payroll and cover applicable overhead. The PPP is implemented by theSmall Business Administration ("SBA") with support from theDepartment of the Treasury . The Company applied for, and was accepted to participate in this program. OnMay 11, 2020 , the Company received funding for approximately$74,355 . OnFebruary 12, 2021 , the Company applied for loan forgiveness under the provisions of Section 1106 of the CARES Act. Loan forgiveness was subject to the sole approval of the SBA. OnFebruary 23, 2021 , the SBA notified our lender that the loan was forgiven and repaid the loan
in full.
OnMarch 4, 2021 , the Company applied for, and was accepted to participate in the SBA PPP Second Draw program with funding pursuant to the Economic Aid Act that was passed in December, 2020. OnMarch 15, 2021 , Daybreak received funding for$72,800 . The Company applied for full loan forgiveness for the PPP Second Draw PPP loan and onOctober 6, 2021 , the SBA notified our lender that the loan was forgiven and repaid the loan in full. Encumbrances
On
Capital Commitments Daybreak has ongoing capital commitments to develop certain oil and gas leases pursuant to their underlying terms. Failure to meet such ongoing commitments may result in the loss of the right to participate in future drilling on certain leases or the loss of the lease itself. These ongoing capital commitments may also cause us to seek additional capital from sources outside of the Company. The current uncertainty in the credit and capital markets, and the economic downturn, may restrict our ability to obtain needed capital. Leases The Company leases approximately 988 rentable square feet of office space from an unaffiliated third party for our corporate office located in SpokaneValley, Washington . Additionally, we lease approximately 416 and 695 rentable square feet from unaffiliated third parties for our regional operations office inFriendswood, Texas and storage and auxiliary office space inWallace, Idaho , respectively. The lease inFriendswood is a 12-month lease that expires inOctober 2022 and as such is considered a short-term lease. The Company has elected to not apply the recognition requirements of ASC 842 to this short-term lease.The Spokane Valley andWallace leases are currently on a month-to-month basis. The Company's lease agreements do not contain any residual value guarantees, restrictive covenants or variable lease payments. The Company has not entered into any financing leases.
Rent expense for the twelve months ended
44
Crude Oil and Natural Gas Reserves
Daybreak's total net proved developed and undeveloped crude oil reserves on a
per barrel of oil equivalent ("BOE") basis increased by 82,932 BOE, or 19.1%, to
517,155 BOE at February 28, 2022 compared to 434,223 BOE at February 28, 2021 .
These reserves are all located in our California East Slopes project. The
primary reason for the overall increase in our total proven reserves was
primarily due to higher hydrocarbon prices from the past year lowering the
economic life our wells. The year-to-year reserve increase consisted of a 22,724
barrel or 23.9% increase in our PDP reserves and a 60,208 barrel or 17.8%
increase in our PUD reserves. Our production of PDP reserves for the year ended
February 28, 2022 was 9,613 BOE and was a part of the overall change in PDP
reserves. The 82,932 increase in the PUD reserves was all due to upward
revisions again because of higher crude oil prices in the past year. Our
reserves were fully engineered by PGH Petroleum and Environmental Engineers, LLC
of Austin, Texas in accordance with generally accepted petroleum engineering and
evaluation principles and definitions and guidelines established by the SEC . For
further information on our reserve report, refer to exhibit 99.1 of this Annual
Report on Form 10-K.
Changes in Financial Condition
During the year endedFebruary 28, 2022 , we received crude oil sales revenue from 20 wells in ourEast Slopes Project inKern County, California . Our commitment to improving corporate profitability remains unchanged. SinceJune 2014 , there has been significant volatility in hydrocarbon prices and a corresponding fluctuation in our realized sale price of crude oil does exist. An example of this volatility is that in June of 2014 the monthly average price of WTI crude oil was$105.79 per barrel and our realized price per barrel of crude oil was$98.78 while inApril 2020 , the monthly average price of WTI crude oil was$16.55 and our monthly realized price was$16.96 per barrel. Finally, inFebruary 2022 , the monthly average price of WTI oil was$91.64 per barrel and our realized price per barrel of crude oil was$87.41 . This volatility in crude oil prices has continued throughout most of the fiscal year endedFebruary 28, 2022 . Any downward volatility in the price of crude oil will have a prolonged and substantial negative impact on our profitability and cash flow from our producingCalifornia properties. It is beyond our ability to accurately predict crude oil prices over any substantial length of time. During the twelve months endedFebruary 28, 2022 andFebruary 28, 2021 , crude oil revenue fromCalifornia was$680,107 and$404,901 , respectively. Of the$275,206 increase in revenue during the twelve months endedFebruary 28, 2022 ,$371,212 or 134.9% can be attributed to the increase in our average realized crude oil sales price. For the twelve months endedFebruary 28, 2022 andFebruary 28, 2021 , we had an operating loss of$260,780 and$348,807 , respectively. Our balance sheet atFebruary 28, 2022 reflects total assets of approximately$0.98 million , an increase of approximately$63,000 in comparison to approximately$0.91 million atFebruary 28, 2021 . This increase of approximately$63,000 in total assets was due to an increase in current assets of approximately$133,000 offset by a decrease in long-term assets of approximately$70,000 . Our cash balance increased by approximately$106,000 .
At
Common Stock shares issued and outstanding atFebruary 28, 2022 andFebruary 28, 2021 were 67,802,273 and 60,491,122, respectively. Of the total 7,311,151 shares issued during the twelve months endedFebruary 28, 2022 , there were 4,082,447 shares issued to satisfy related party debt. Another 3,228,704 shares were issued to satisfy the Series A Preferred stock conversion and associated accumulated dividend. TheFebruary 28, 2022 andFebruary 28, 2021 balances of Series A Preferred Stock shares issued and outstanding were -0- and 709,568, respectively. With the filing of our Second Amended and Restated Articles of Incorporation with theWashington Secretary of State inMay 2022 , the Company no longer has any preferred stock shares. We only have one class of stock and that is common stock. Accumulated Deficit
Our financial statements for the twelve months endedFebruary 28, 2022 andFebruary 28, 2021 have been prepared on a going concern basis, which contemplates the realization of assets and the settlement of liabilities in the normal course of business. Our financial statements show that the Company has incurred significant operating losses that raise substantial doubt about our ability to continue as a going concern. The accompanying financial statements do not include any adjustments that might result from this uncertainty. 45 The increase of approximately$102,000 in the accumulated deficit from approximately$29.4 million atFebruary 28, 2021 to$29.5 million atFebruary 28, 2022 was due to the net loss for the year of approximately$398,450 offset by related party debt forgiveness of approximately$337,825 and issuance of the Series A Preferred stock accumulated divided of$29,480 and settlement of related party receivables and payables of$11,454 . Cash Balance We maintain our cash balance by increasing or decreasing our exploration and drilling expenditures as limited by availability of cash from operations, investments and capital resource funding. Our cash balances were$139,573 and$33,528 atFebruary 28, 2022 andFebruary 28, 2021 , respectively.
Crude oil and natural gas revenues
Crude oil revenues increased$275,206 or 68.0% to$680,107 for the twelve months endedFebruary 28, 2022 in comparison to$404,901 for the twelve months endedFebruary 28, 2021 . Of the$275,206 increase in revenue during the twelve months endedFebruary 28, 2022 ,$371,212 or 134.9% can be attributed to the increase in our average realized crude oil sales price. Operating Expenses
Operating expenses for the twelve months ended
Operating Loss For the twelve months endedFebruary 28, 2022 andFebruary 28, 2021 , we reported operating losses of$260,779 and$348,807 , respectively. The decrease in the operating loss for the twelve months endedFebruary 28, 2022 of approximately$88,028 was primary due to increases in crude oil sales revenue due to higher energy prices. Net Loss
Since entering the crude oil and natural gas exploration industry, we have incurred net losses with periodic negative cash flow and have depended on external financing and the sale of crude oil and natural gas assets to sustain our operations. For the twelve months endedFebruary 28, 2022 we reported a net loss of$398,450 in comparison to net loss of$512,265 for the twelve months endedFebruary 28, 2021 .
Management Plans to Continue as a Going Concern
We continue to implement plans to enhance Daybreak's ability to continue as a going concern. The Company currently has a net revenue interest in 20 producing crude oil wells in ourEast Slopes Project located inKern County, California . The revenue from these wells has created a steady and reliable source of revenue for the Company. Our average working interest in these wells is 36.6% and the average net revenue interest is 28.4%. We anticipate revenues will continue to increase as the Company participates in the drilling of more wells in theEast Slopes Project inCalifornia . However given the current decline and instability in hydrocarbon prices, the timing of any drilling activity inCalifornia will be dependent on a sustained improvement in hydrocarbon prices and a successful refinancing or restructuring of our current credit facility. We believe that our liquidity will improve when there is a sustained improvement in hydrocarbon prices. Our sources of funds in the past have included the debt or equity markets and the sale of assets. While the Company does have positive cash flow from its crude oil and natural gas properties, it has not yet established a positive cash flow on a company-wide basis. It will be necessary for the Company to obtain additional funding from the private or public debt or equity markets in the future. However, we cannot offer any assurance that we will be successful in executing the aforementioned plans to continue as a going concern. 46
OnOctober 20, 2021 , the Company entered into an Equity Exchange Agreement (the "Exchange Agreement") by and between Daybreak,Reabold California LLC , aCalifornia limited liability company ("Reabold"), andGaelic Resources Ltd. , a private company incorporated in theIsle of Man and the 100% owner of Reabold ("Gaelic"), pursuant to which the parties propose for (i) Daybreak to acquire 100% ownership of Reabold, in exchange for (ii) Daybreak issuing 160,964,489 shares of its common stock, par value$0.001 ("Common Stock") to Gaelic (the "Exchange Shares"), which will result in Reabold becoming a wholly-owned subsidiary of Daybreak and Gaelic becoming the owner of the Exchange Shares and a major shareholder of Daybreak (the foregoing transaction and the transactions contemplated thereby, the "Equity Exchange"). At a special meeting of shareholders held onMay 20, 2022 , shareholders approved the Equity Exchange Agreement between Daybreak,Reabold California, LLC ("Reabold") andGaelic Resources, Ltd. ("Gaelic"). As a result of this approval, onMay 25, 2022 , the Company proceeded with the acquisition of Reabold and its producing crude oil and natural gas properties inCalifornia . The acquisition was completed by Daybreak issuing 160,964,489 common stock shares to Gaelic, along with the customary closing terms and conditions for acquisitions of this nature. Also during the special meeting of shareholders, approval was granted to Amend and Restate the Company's Articles of Incorporation. This would allow for the increase in the number of authorized common stock shares of the Company from 200,000,000 shares to 500,000,000 shares. The increase in common stock shares will give the Company enough authorized common stock shares to complete the transaction with Reabold and Gaelic. Also, all the Preferred stock classification was eliminated. In conjunction with the Company's efforts to acquire Reabold, and as a condition of closing the acquisition, the Company was to secure a capital raise of$2,500,000 through the issuance of shares of the Company's common stock. The commitment for that capital raise was executed onMay 5, 2022 , and subsequently 128,125,000 shares were issued.
Summary of Critical Accounting Policies and Estimates
Critical accounting policies are policies that are both most important to the portrayal of the Company's financial condition and results, and that require management's most difficult, subjective or complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain. Management's discussion and analysis of our financial condition and results of operations are based on our financial statements, which have been prepared in conformity with accounting principles generally accepted inthe United States of America . The preparation of these financial statements requires management to make estimates, judgments 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 reporting period. Accounting estimates are considered to be critical if (1) the nature of the estimates and assumptions is material due to the levels of subjectivity and judgment necessary to account for highly uncertain matters or the susceptibility of such matters to changes; and (2) the impact of the estimates and assumptions on financial condition or operating performance is material. Actual results could differ from the estimates and assumptions used. On an ongoing basis, we evaluate our estimates, including those related to revenue recognition, bad debts, cancellation costs associated with long term commitments, investments, intangible assets, assets subject to disposal, income taxes, service contracts, contingencies and litigation. We base our estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making estimates and judgments about the carrying value of assets and liabilities that are not readily apparent from other sources. Estimates, by their nature, are based on judgment and available information. These judgments and uncertainties do affect the application of these critical accounting policies. There is a strong likelihood that materially different amounts could be reported under different conditions or using different assumptions. Therefore, actual results could differ from those estimates and could have a material impact on our financial statements, and it is possible that such changes could occur in the near term.
Proved Crude Oil and Natural Gas Reserves
Our estimates of proved and proved developed reserves are a major component of our depletion calculation. Additionally, our proved reserves represent the element of these calculations that require the most subjective judgments. Estimates of reserves are forecasts based on engineering data, projected future rates of production and the timing of future expenditures. Proved reserves are defined by theSEC as those quantities of crude oil and natural gas which, by analysis of geoscience and engineering data can be estimated with reasonable certainty to be economically producible from a given date forward, from known reservoirs, and under existing economic conditions, operating methods, and government regulation before the time at which contracts providing the right to operate expire, unless evidence indicates that renewal is reasonably certain, regardless of whether the estimate is a deterministic estimate or probabilistic estimate. Proved developed reserves are proved reserves that can be expected to be recovered through existing wells with existing equipment and operating methods or in which the cost of the required equipment is relatively minor compared with the cost of a new well or through installed extraction equipment and infrastructure operational at the time of the reserve estimates if the extraction is by means not involving a well. 47 Although our external engineers are knowledgeable of and follow the guidelines for reserves as established by theSEC , the estimation of reserves requires the engineers to make a significant number of assumptions based on professional judgment. Estimated reserves are often subject to future revision, certain of which could be substantial, based on the availability of additional information, including reservoir performance, new geological and geophysical data, additional drilling, technological advancements, price changes and other economic factors. Changes in crude oil and natural gas prices can lead to a decision to start-up or shut-in production, which can lead to revisions to reserve quantities. Reserve revisions inherently lead to adjustments of depreciation rates used by us. We cannot predict the types of reserve revisions that will be required
in future periods.
While the estimates of our proved reserves atFebruary 28, 2022 included in this report have been prepared based on what we and our independent reserve engineers believe to be reasonable interpretations of theSEC rules, those estimates could differ materially from our actual results.
Successful Efforts Accounting Method
We use the successful efforts method of accounting for natural gas and oil
producing activities as opposed to the alternate acceptable full cost method. We
believe that net assets and net income are more conservatively measured under
the successful efforts method of accounting than under the full cost method,
particularly during periods of active exploration. Costs to acquire mineral
interests in crude oil and natural gas properties, to drill and equip
exploratory wells that find proved reserves, and to drill and equip development
wells are capitalized as incurred. All exploratory dry holes and geological and
geophysical costs are charged against earnings during the periods they occur.
Costs to drill exploratory wells that are unsuccessful in finding proved
reserves are expensed as incurred. The geological and geophysical costs, and
costs of carrying and retaining unproved properties are expensed as incurred.
Costs to operate and maintain wells and field equipment are expensed as
incurred.
Capitalized proved property acquisition costs are amortized by field using the
unit-of-production method based on proved reserves. Capitalized exploration well
costs and development costs (plus estimated future dismantlement, surface
restoration, and property abandonment costs, net of equipment salvage values)
are amortized in a similar fashion (by field) based on their proved developed
reserves. Support equipment and other property and equipment are depreciated
over their estimated useful lives.
Pursuant to Financial Accounting Standards Board Codification ("ASC") Topic 360,
"Property, Plant and Equipment," we review proved oil and natural gas properties
and other long-lived assets for impairment. These reviews are predicated by
events and circumstances, such as downward revision of the reserve estimates or
commodity prices that indicate a decline in the recoverability of the carrying
value of such properties. We estimate the future cash flows expected in
connection with the properties and compare such future cash flows to the
carrying amount of the properties to determine if the carrying amount is
recoverable. When the carrying amounts of the properties exceed their estimated
undiscounted future cash flows, the carrying amounts of the properties are
reduced to their estimated fair value. The factors used to determine fair value
include, but are not limited to, estimates of proved reserves, future commodity
prices, the timing of future production, future capital expenditures and a
risk-adjusted discount rate. The charge is included in DD&A.
Unproved crude oil and natural gas properties that are individually significant
are also periodically assessed for impairment of value. For the twelve months
ended February 28, 2022 , our unproved properties in Michigan and the balance of
$55,978 was written off to exploration expense. An impairment loss for unproved
crude oil and natural gas properties is recognized at the time of impairment by
providing an impairment allowance.
On the retirement or sale of a partial unit of proved property, the cost is charged to accumulated DD&A with a resulting gain or loss recognized in income.
Deposits and advances for services expected to be provided for exploration and
development or for the acquisition of crude oil and natural gas properties are
classified as long-term other assets.
Revenue Recognition
The Company recognizes revenue under ASC 606, Revenue from Contracts with
Customers ("Topic 606"). Under Topic 606, revenue will generally be recognized
upon delivery of our produced crude oil and natural gas volumes to our
customers. Our customer sales contracts include only crude oil sales in
California . Each unit (crude oil barrel) of commodity product represents a
separate performance obligation which is sold at variable prices, determinable
on a monthly basis. The pricing provisions of our crude oil contracts are
primarily tied to a market index with certain adjustments based on factors such
as delivery, product quality and prevailing supply and demand conditions in the
geographic areas in which we operate. We will allocate the transaction price to
each performance obligation and recognize revenue upon delivery of the commodity
product when the customer obtains control. Control of our produced crude oil
volumes passes to our customers when the oil is measured by a trucking oil
ticket.
48
The Company has no control over the crude oil after this point and the
measurement at this point dictates the amount on which the customer's payment is
based. Our crude oil revenue stream includes volumes burdened by royalty and
other joint owner working interests. Our revenues are recorded and presented on
our financial statements net of the royalty and other joint owner working
interests. Our revenue stream does not include any payments for services or
ancillary items other than sale of crude oil. We record revenue in the month our
crude oil production is delivered to the purchaser.
Suspended Well Costs
We account for any suspended well costs in accordance with FASB ASC Topic 932,
"Extractive Activities - Oil and Gas" ("ASC 932"). ASC 932 states that
exploratory well costs should continue to be capitalized if: (1) a sufficient
quantity of reserves are discovered in the well to justify its completion as a
producing well and (2) sufficient progress is made in assessing the reserves and
the economic and operating feasibility of the well. If the exploratory well
costs do not meet both of these criteria, these costs should be expensed, net of
any salvage value. Additional annual disclosures are required to provide
information about management's evaluation of capitalized exploratory well costs.
In addition, ASC 932 requires annual disclosure of: (1) net changes from period
to period of capitalized exploratory well costs for wells that are pending the
determination of proved reserves, (2) the amount of exploratory well costs that
have been capitalized for a period greater than one year after the completion of
drilling and (3) an aging of exploratory well costs suspended for greater than
one year, designating the number of wells the aging is related to. Further, the
disclosures should describe the activities undertaken to evaluate the reserves
and the projects, the information still required to classify the associated
reserves as proved and the estimated timing for completing the evaluation.
Share Based Payments
Share based awards are accounted for under FASB Topic ASC 718,
"Compensation-Stock Compensation" ("ASC 718"). ASC 718 requires compensation
costs for all share-based payments granted to be based on the grant date fair
value. The value of the portion of the award that is ultimately expected to vest
is recognized as expense ratably over the requisite service periods.
See Note 3 - Summary of Significant Accounting Policies in the Company's financial statements for a full discussion of our significant accounting policies.
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