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WesternZagros Resources Ltd. (TSX VENTURE:WZR) ("WesternZagros" or "the
Company") provides its results for the three month period ended March 31, 2010,
key highlights, and activities to date:
Commenting on the first quarter results and subsequent events, WesternZagros
Chief Executive Officer Simon Hatfield said, "Drilling a wildcat well where the
geology is both highly prospective and highly challenging will typically have
ups and downs, and Kurdamir-1 is no exception. Our gas and condensate discovery
late in 2009 and the significant oil shows we had while drilling through both
the Aaliji and Cretaceous Formations are very promising, but the well control
situation we are now addressing is a challenge. However, we have the best
available resources and a prudent plan that we are now executing, and we are
reassured by the extensive experience and dedication of our well-site team which
includes personnel from our co-venturer Talisman. We have a number of options
available to us as we consider how best to proceed at Kurdamir and to move on to
drill our third commitment well on our exploration block. We are also confident
that with our expected insurance proceeds, we have the necessary financial
resources to carry forward with our strategy. Our top near-term priority is to
bring Kurdamir-1 safely under control."
Operations
- The Kurdamir-1 well reached a total depth of 4,077 metres, encountering
numerous oil and gas shows while drilling through both the Aaliji and
Shiranish/Kometan Formations. Upon encountering high formation pressures at
4,077 metres in late January, WesternZagros commenced well control operations
that were completed in March 2010. The Company then began sidetracking the
Kurdamir-1 well.
- The Kurdamir-1 sidetrack has been drilled as planned exiting the 9 5/8" casing
at approximately 2,600 metres through the Upper Aaliji Formation into the Lower
Aaliji Seal to a current depth of 3,214 metres. While attempting to stabilize a
high pressure hydrogen sulfide (H2S) hydrocarbon zone that was unexpectedly
encountered at 3,214 metres, the well was shut in and on May 15, 2010 a section
of the drill string failed. WesternZagros activated its Emergency Response Teams
both in Calgary and the Kurdistan Region of Iraq. There was no release of H2S
and no injuries were reported. However as a precaution, the Company moved local
inhabitants who are within its Emergency Planning Zone ("EPZ"), as well as
non-essential personnel, to locations outside of the EPZ until well control
operations are completed.
- WesternZagros has engaged well service and control specialists Boots & Coots
International Well Control, Inc. to mobilize personnel and equipment to the
drilling site. As of May 27, the necessary personnel and equipment has arrived
at Kurdamir-1, the necessary modifications to the drilling location and
surrounding area to accommodate the operations have been completed and the
necessary drilling mud has been prepared to begin efforts to control the well.
- As a result of well control and sidetracking operations the gross costs for
Kurdamir-1 are now expected to be approximately $88 to $90 million (previously
estimated at $75 to $80 million). That estimate excludes testing activities and
assumes the well control operations are completed within the next thirty days.
These gross costs include approximately $33 to $35 million (previously estimated
at $15 to $20 million) of incremental costs associated with well control and
sidetrack activities. The Company is pursuing reimbursement of a significant
portion of these costs under an insurance claim.
- The Company has received two positive results from geochemical analysis of oil
and condensate samples taken from the Kurdamir-1 well.
-- The first analysis, of the condensate recovered during testing of the
shallower Oligocene reservoir, indicates that the condensate is from an
oil-prone source and is likely associated with an oil column deeper in the
Kurdamir structure.
-- The second analysis, of a series of Aaliji Formation oil samples extracted
from the Kurdamir-1 drilling mud, yielded a high quality crude oil with an API
gravity of 31 degrees. Several additional oil samples obtained from the drilling
fluids while drilling through the deeper Shiranish and Kometan Formations are of
similar quality. Oil in the drilling mud reached four percent by volume while
drilling these formations.
- During the three months ended March 31, 2010, WesternZagros continued to
advance the necessary land acquisition, site and road construction, planning and
acquisition of long lead time goods and services required for the third
exploration commitment well at Qulijan (which was formerly called Sarhad).
Activities included completing a letter of intent with a drilling contractor to
secure a second rig to drill Qulijan-1.
- WesternZagros, on behalf of the Contractor Group, has notified the Kurdistan
Regional Government ("KRG") of a force majeure event under the terms of the
Production Sharing Contract ("PSC") related to the well control and subsequent
sidetracking operations associated with Kurdamir-1. Under the terms of the PSC,
when a force majeure event occurs, the time resulting from any such delay and
the time necessary to repair any damage resulting from the delay will be added
to the relevant time period provided under the PSC; in this case it would be
added to the first exploration sub-period.
- In 2009, the Company reprocessed 874 kilometres of 2D seismic data on Block
44. This reprocessing considerably improved the quality of the original seismic
data in order to better define the subsurface configuration to remap prospects
and to better predict depths and formation pressures at potential drilling
locations. WesternZagros is now incorporating the results of the reprocessing
into a revised Block 44 resource assessment.
- At March 31, 2010, WesternZagros' operations achieved a combined total of four
million person hours with no Lost Time Incidents (LTI). After completing 1,053
days or 4.3 million person hours, the Company unfortunately had its first LTI
when an employee suffered a fractured wrist from a non-operational activity.
WesternZagros remains committed to the health and safety of all its employees
and contractors as well as the security of its operations.
Financial
- As at March 31, 2010, WesternZagros had $53.2 million in working capital.
- WesternZagros' share of capital expenditures for the quarter ended March 31,
2010 associated with its PSC activities and other capitalized costs was $13.3
million. Year-to-date expenditures for 2010 include $12.4 million of
drilling-related costs; $0.1 million of geological and geosciences related work;
$0.6 million of supervision and local office costs; and $0.2 million of
corporate-related expenditures.
Insurance
- WesternZagros initiated an insurance claim in the first quarter of 2010
related to well control operations at Kurdamir-1, including those when
Kurdamir-1 was drilled into a high pressure formation in the Gulneri seal, as
well as the high pressure zone encountered in the Lower Aaliji seal in the
subsequent sidetrack.
- On May 26, 2010 WesternZagros received the Comprehensive Report prepared by
the insurance adjuster and which has been submitted to the insurers. The
Comprehensive Report includes a request for the first interim payment on account
of $10 million ($5.7 million net to WesternZagros after consideration of
deductibles) representing the costs incurred, paid and submitted to the adjuster
as of that date for well control operations and subsequent sidetracking. The
Comprehensive Report is now being reviewed by the insurers, to determine
coverage and payment of the interim requests.
- Management anticipates that the proceeds of this claim will cover a
significant portion of the well control and sidetrack drilling costs incurred to
date and the costs yet to be incurred to complete the well control operations
and continue to sidetrack Kurdamir-1. WesternZagros is currently preparing the
required submission to the adjuster for a request for the second interim payment
on account of $7.8 million ($4.7 million net to WesternZagros) representing
costs incurred and paid subsequent to those in the first interim payment
request. No amounts have been received by WesternZagros to date relating to this
claim.
Corporate
- During the quarter ended March 31, 2010, WesternZagros announced the
appointment of Mr. Ian McIntosh to the new position of Vice President, Kurdistan
Business Unit, to be resident in the Kurdistan Region. Mr. McIntosh brings to
the company over 30 years of international oil and gas experience, encompassing
development and production engineering, in-country management and business
development.
Political
- A federal election was held in Iraq on March 7, 2010. With the results of the
recounting of votes still awaiting certification from the Federal Supreme Court,
the formation of the next federal government remains to be determined.
Corporate Social Responsibility
- During the first quarter of 2010, WesternZagros and its co-venturers continued
to focus on three key corporate social responsibility initiatives in the Garmian
region of Kurdistan - water supply, education and health care. Activities during
the first quarter of 2010 included:
-- Extensive local procurement of water tanker services;
-- Significant progress on a biosand water filter project being implemented in
the Company's Block by the Kurdistan Village Reconstruction Association; and
-- Building of a football field in one of the villages.
Management's Discussion and Analysis
The following management's discussion and analysis ("MD&A") reviews
WesternZagros Resources Ltd.'s ("WesternZagros" or the "Company") financial
condition, activities and results of operations for the period ended March 31,
2010. It should be read in conjunction with the unaudited interim consolidated
financial statements for the period ended March 31, 2010, the audited
consolidated financial statements for the year ended December 31, 2009 and the
related notes. The effective date of this MD&A is May 27, 2010.
Forward-Looking Information
This discussion offers management's analysis of the financial and operating
results of WesternZagros and contains certain forward-looking statements
relating, but not limited, to operational information, future drilling plans and
testing programs and the timing associated therewith, estimated Production
Sharing Contract ("PSC") commitments, anticipated capital and operating budgets,
anticipated working capital and estimated costs. Forward-looking information
typically contains statements with words such as "anticipate", "estimate",
"expect", "potential", "could", or similar words suggesting future outcomes. The
Company cautions readers and prospective investors in the Company's securities
to not place undue reliance on forward-looking information as, by its nature, it
is based on current expectations regarding future events that involve a number
of assumptions, inherent risks and uncertainties, which could cause actual
results to differ materially from those anticipated by WesternZagros.
Forward looking information is based on management's current expectations and
assumptions regarding, among other things, outcomes of well control operations
(including timing associated therewith) plans for and results of drilling
activity, future capital and other expenditures (including the amount, nature
and sources of funding thereof), future economic conditions, future currency and
exchange rates, continued political stability, timely receipt of any necessary
government or regulatory approvals, the Company's continued ability to employ
qualified staff and to obtain equipment in a timely and cost efficient manner,
the continued participation of the Company's co-venture partners in exploration
activities and the timely receipt of insurance proceeds. In addition, budgets
are based upon WesternZagros' current plans and anticipated costs both of which
are subject to change based on, among other things, the actual outcomes of well
control operations and results of drilling activity, unexpected delays and
changes in market conditions. Although the Company believes the expectations and
assumptions reflected in such forward-looking information are reasonable, they
may prove to be incorrect. Forward-looking information involves significant
known and unknown risks and uncertainties. A number of factors could cause
actual results to differ materially from those anticipated by WesternZagros
including, but not limited to, risks associated with the oil and gas industry
(e.g. operational risks in exploration; inherent uncertainties in interpreting
geological data; changes in plans with respect to exploration or capital
expenditures; interruptions in operations together with any associated insurance
proceedings; the uncertainty of estimates and projections in relation to costs
and expenses and health, safety and environmental risks), the risk of commodity
price and foreign exchange rate fluctuations, the uncertainty associated with
negotiating with foreign governments and risk associated with international
activity.
Readers are cautioned that the forgoing list of important factors is not
exhaustive. The forward-looking statements contained in this MD&A are made as of
the date of this MD&A and, except as required by law, WesternZagros does not
undertake any obligation to update publicly or to revise any of the included
forward-looking statements, whether as a result of new information, future
events or otherwise. The forward-looking statements contained in this MD&A are
expressly qualified by this cautionary statement. See the Risk Factors section
of this MD&A for a further description of these risks and uncertainties facing
WesternZagros. Additional information relating to WesternZagros is also
available on SEDAR at www.sedar.com.
Overview
WesternZagros is a publicly-traded, Calgary-based, international oil and gas
company engaged in acquiring properties and exploring for, developing and
producing crude oil and natural gas in Iraq. WesternZagros holds a PSC with the
Kurdistan Regional Government ("KRG") which covers a 2,120 square kilometer
exploration block (the "Kalar - Bawanoor Block" or "PSC lands") in the Kurdistan
Region of Iraq and it is on trend with, and adjacent to, a number of prolific
historic oil and gas discoveries. WesternZagros (operator) holds a 40 percent
working interest, the KRG holds a 20 percent working interest (carried by
WesternZagros) and a wholly-owned subsidiary of Talisman Energy Inc.
("Talisman") holds the remaining 40 percent working interest.
Basis of Presentation
Reporting and Functional Currency
The reporting and functional currency of the Company is the United States
("U.S.") dollar. All references herein to US$ or to $ are to United States
dollars and references herein to Cdn$ are to Canadian dollars.
Going Concern Uncertainty
The financial data presented below has been prepared in accordance with Canadian
generally accepted accounting principles ("GAAP") on the basis that the Company
will continue to operate as a going concern, which implies the realization of
assets and the settlement of liabilities and commitments in the normal course of
business for the foreseeable future. In assessing whether the going concern
assumption is appropriate, management takes into account all available
information about the future, which is at least, but is not limited to, twelve
months from March 31, 2010.
Since inception and typical with development stage companies, the Company has
incurred losses from operations and negative cash flows from operating
activities, and has an accumulated deficit at March 31, 2010. During the three
months ended March 31, 2010, the Company had expenditures of $0.6 million for
operating activities and $13.3 million for oil and gas property expenditures, as
well as an overall increase in non-cash working capital of $7.6 million. The
Company will require additional funding over time to maintain ongoing
exploration programs and property commitments, as well as for administration
expenses.
Material uncertainties exist that could raise significant doubt about the
Company's ability to continue as a going concern, as further outlined below:
Kurdamir-1 Well Control Operations:
The Company is currently pursuing well control operations at Kurdamir-1. A
negative outcome from these well control operations would add additional cost
and could impact the Company's ability to access any further financial resources
that would then be required to meet its PSC commitments.
Insurance Claim Related To Well Control Operations:
The Company has initiated an insurance claim that is expected to cover a
significant portion of costs related to the well control operations at
Kurdamir-1. However, if there is a significant timing delay in collecting the
expected proceeds under the insurance claim it would impair the Company's
ability to continue funding ongoing development activities under the PSC.
In general, the Company's ability to continue operations and exploration
activities as a going concern is dependent upon its ability to obtain additional
funding over time. The consolidated financial statements do not reflect
adjustments in the carrying values of assets and liabilities reported, revenue
or expenses, nor the balance sheet classification used that would be necessary
if the going concern assumption was not appropriate. Such adjustments could be
material.
Highlights
WesternZagros is currently exploring for crude oil and natural gas in the
Kurdistan Region of Iraq and the Company currently has no reserves or
production. WesternZagros' revenue is comprised entirely of interest earned on
cash and cash equivalent balances and short term investments. WesternZagros'
highlights and activities to May 27, 2010 include the following.
Operations
- The Kurdamir-1 well reached a total depth of 4,077 metres, encountering
numerous oil and gas shows while drilling through both the Aaliji and
Shiranish/Kometan Formations. Upon encountering high formation pressures at
4,077 metres in late January, WesternZagros commenced well control operations
that were completed in March 2010. The Company then began sidetracking the
Kurdamir-1 well.
- The Kurdamir-1 sidetrack has been drilled as planned exiting the 9 5/8" casing
at approximately 2,600 metres through the Upper Aaliji Formation into the Lower
Aaliji Seal to a current depth of 3,214 metres. While attempting to stabilize a
high pressure hydrogen sulfide (H2S) hydrocarbon zone that was unexpectedly
encountered at 3,214 metres, the well had to be shut in and on May 15, 2010 a
section of the drill string failed. WesternZagros activated its Emergency
Response Teams both in Calgary and the Kurdistan Region of Iraq. There was no
release of H2S and no injuries were reported. However as a precaution, the
Company moved local inhabitants who are within its Emergency Planning Zone
("EPZ"), as well as non-essential personnel, to locations outside of the EPZ
until well control operations are completed.
- WesternZagros has engaged well service and control specialists Boots & Coots
International Well Control, Inc. to mobilize personnel and equipment to the
drilling site. As of May 27, the necessary personnel and equipment has arrived
at Kurdamir-1, the necessary modifications to the drilling location and
surrounding area to accommodate the operations have been completed and the
necessary drilling mud prepared to begin efforts to control the well.
- As a result of well control operations and sidetracking operations the gross
costs for Kurdamir-1 are now expected to be approximately $88 to $90 million
(previously estimated at $75 to $80 million) That estimate excludes testing
activities and assumes that the well control operations are completed within the
next thirty days. These gross costs include approximately $33 to $35 million
(previously estimated at $15 to $20 million) of incremental costs associated
with well control and sidetrack activities. The Company is pursuing
reimbursement of these costs under an insurance claim.
- The Company has received two positive results from geochemical analysis of oil
and condensate samples taken from the Kurdamir-1 well.
-- The first analysis, of the condensate recovered during testing of the
shallower Oligocene reservoir, indicates that the condensate is from an
oil-prone source and is likely associated with an oil column deeper in the
Kurdamir structure.
-- The second analysis, of a series of Aaliji Formation oil samples extracted
from the Kurdamir-1 drilling mud, yielded a high quality crude oil with an API
gravity of 31 degrees. Several additional oil samples obtained from the drilling
fluids while drilling through the deeper Shiranish and Kometan Formations are of
similar quality. Oil in the drilling mud reached four percent by volume while
drilling these formations.
- During the three months ended March 31, 2010, WesternZagros continued to
advance the necessary land acquisition, site and road construction, planning and
acquisition of long lead time goods and services required for the third
exploration commitment well at Qulijan (which was formerly called Sarhad).
Activities included completing a letter of intent with a drilling contractor to
secure a second rig to drill Qulijan-1.
- WesternZagros, on behalf of the Contractor Group, has notified the KRG of a
force majeure event under the terms of the PSC related to the well control and
subsequent sidetracking operations associated with Kurdamir-1. Under the terms
of the PSC when a force majeure event occurs the time resulting from any such
delay, and the time necessary to repair any damage resulting from the delay,
will be added to the relevant time period provided under the PSC; in this case
it would be added to the first exploration sub-period.
- In 2009, the Company reprocessed 874 kilometres of 2D seismic data on Block
44. This reprocessing considerably improved the quality of the original seismic
data in order to better define the subsurface configuration to remap prospects
and to better predict depths and formation pressures at potential drilling
locations. WesternZagros is now incorporating the results of the reprocessing
into a revised Block 44 resource assessment.
- At March 31, 2010, WesternZagros' operations achieved a combined total of four
million person hours with no Lost Time Incidents (LTI). After completing 1,053
days or 4.3 million person hours, the Company unfortunately had its first LTI
when an employee suffered a fractured wrist from a non-operational activity.
WesternZagros remains committed to the health and safety of all its employees
and contractors as well as the security of its operations.
Financial
- As at March 31, 2010, WesternZagros had $53.2 million in working capital.
- WesternZagros' share of capital expenditures for the quarter ended March 31,
2010 associated with its PSC activities and other capitalized costs was $13.3
million. Year-to-date expenditures for 2010 include $12.4 million of
drilling-related costs; $0.1 million of geological and geosciences related work;
$0.6 million of supervision and local office costs; and $0.2 million of
corporate-related expenditures.
Insurance
- WesternZagros initiated an insurance claim in the first quarter of 2010
related to well control operations at Kurdamir-1, including those when
Kurdamir-1 was drilled into a high pressure formation in the Gulneri seal, as
well as the high pressure zone encountered in the Lower Aaliji seal in the
subsequent sidetrack.
- On May 26, 2010 WesternZagros received the Comprehensive Report prepared by
the insurance adjuster and which has been submitted to the insurers. The
Comprehensive Report includes a request for the first interim payment on account
of $10 million ($5.7 million net to WesternZagros after consideration of
deductibles) representing the costs incurred, paid and submitted to the adjuster
as of that date of well control operations and subsequent sidetracking. The
Comprehensive Report is now being reviewed by the insurers, to determine
coverage and payment of the interim request.
- Management anticipates that the proceeds of this claim will cover a
significant portion of the well control and sidetrack drilling costs incurred to
date and the costs yet to be incurred to complete the well control operations
and continue to sidetrack Kurdamir-1. WesternZagros is currently preparing the
required submission to the adjuster for a request for the second interim payment
on account of $7.8 million ($4.7 million net to WesternZagros) representing
costs incurred and paid subsequent to those in the first interim payment
request. No amounts have been received by WesternZagros to date relating to this
claim.
Corporate
- During the quarter ended March 31, 2010, WesternZagros announced the
appointment of Mr. Ian McIntosh to the new position of Vice President, Kurdistan
Business Unit, to be resident in the Kurdistan Region. Mr. McIntosh brings to
the company over 30 years of international oil and gas experience, encompassing
development and production engineering, in-country management and business
development.
Political
- A federal election was held in Iraq on March 7, 2010. With the results of the
recounting of votes awaiting certification from the Federal Supreme Court, the
formation of the next federal government remains to be determined.
Corporate Social Responsibility
- During the first quarter of 2010, WesternZagros and its co-venturers continued
to focus on three key corporate social responsibility initiatives in the Garmian
region of Kurdistan - water supply, education and health care. Activities during
the first quarter of 2010 included:
- Extensive local procurement of water tanker services;
- Significant progress on a biosand water filter project being implemented in
the Company's Block by the Kurdistan Village Reconstruction Association; and
- Building of a football field in one of the villages.
General and Administrative Expenses
In the first quarter of 2010, WesternZagros incurred $1.4 million in general and
administrative expenses ("G&A") compared to $1.3 million in the first quarter of
2009. G&A expenses were higher in the first quarter of 2010 mainly due to the
impacts of a stronger Canadian dollar compared to the first quarter of 2009,
which impacts a large portion of the Company's G&A expenditures.
Depreciation, Depletion and Amortization (DD&A)
In the first quarter of 2010, WesternZagros had $0.2 million of depreciation
related to certain administrative assets compared to $0.2 million for the first
quarter of 2009. No depletion on oil and gas related assets is recorded because
WesternZagros has yet to determine whether proved reserves are attributable to
the PSC lands.
Stock-Based Compensation
The Company recognizes stock-based compensation expense for all stock options
granted, with a corresponding increase to contributed surplus. For the first
quarter of 2010, WesternZagros had $0.1 million of stock-based compensation
expense included in G&A and $0.5 million in capitalized G&A. For the first
quarter of 2009, WesternZagros had $0.4 million of stock-based compensation
expense included in G&A and $0.3 million in capitalized G&A.
Foreign Exchange
WesternZagros adopted the U.S. dollar as its measurement and reporting currency,
because the majority of its expenses are or will be directly or indirectly
denominated in U.S. dollars, and also to facilitate a more direct comparison to
other international crude oil and natural gas exploration and development
companies. WesternZagros holds over 95 percent of its cash and cash equivalents
and short term investments in U.S. dollar accounts and U.S. dollar-priced
Government of Canada bonds; however, the Company has certain assets and
liabilities in currencies other than the U.S. dollar, mainly Canadian dollars.
These are converted to U.S. dollars at the end of each period resulting in
foreign exchange gains and losses. The Canadian dollar balances are held for the
purpose of funding WesternZagros' Canadian dollar expenditures, which are mainly
related to G&A costs for its head office and certain drilling-related services
and tangibles procured from Canadian suppliers. In the first quarter of 2010,
WesternZagros recorded a foreign exchange loss of $0.1 million compared to a
foreign exchange gain of $0.1 million in the first quarter of 2009 relating to
these conversions.
Income Taxes
For the period ended March 31, 2010, WesternZagros had an income tax recovery of
$0.6 million, comprised of $0.7 million of current income tax recovery and
reduced by $0.1 million of future income tax expense. The current tax recovery
relates to the expected recovery of taxes incurred in 2008 on realized foreign
exchange gains and losses in WesternZagros' wholly-owned Canadian subsidiary.
The tax recovery uses the associated G&A costs incurred by and related tax pools
available in the subsidiaries. The future income tax expense results from the
utilization of share issuance costs in the current year to recover a portion of
the current income tax expense. WesternZagros anticipates recovering the
majority of the current income tax expense incurred in 2008 as it continues to
incur G&A and other expenditures related to its exploration and financing
activities.
Revenue
WesternZagros' revenue is comprised entirely of interest earned on cash and cash
equivalents. Interest of $0.02 million was earned in first quarter of 2010
compared to $0.1 million in the first quarter of 2009, with the decrease
resulting mainly from the decreased balances of cash and cash equivalents in
those comparative periods.
Net Loss
In the first quarter of 2010, WesternZagros had a net loss of $1.0 million
compared to a net loss of $0.3 million in the first quarter of 2009. The
increase in net loss is due mainly to the combination of increased G&A costs
associated with the stronger Canadian dollar and reduced income tax recovery
during the first quarter of 2010 compared to the first quarter of 2009.
Capital Expenditures
For the three month period ended March 31, 2010, total capital expenditures on
the Kalar-Bawanoor Block were $21.5 million, including $19.8 million for
drilling and related operations, $0.2 million of geological and geosciences
related work (reprocessing and interpretation of seismic data), and $1.5 million
for supervision and local office costs in support of drilling operations.
Included in drilling and related operations were $18.6 million for operations at
Kurdamir-1 and $1.2 million for site construction, planning costs and long lead
items for Qulijan-1, which was formerly named the Sarhad prospect. For the three
month period ended March 31, 2010, included in the Kurdamir-1 operations is
approximately $17 million of costs associated with the well control insurance
claim WesternZagros and its co-venturers are pursuing. Any claim amounts
approved by the insurers under the insurance claim will be credited to the costs
of Kurdamir-1 when the claims are approved by the insurers. As of March 31, 2010
no amounts have been approved by the insurers and credited to the costs of the
Kurdamir-1 well.
For the three month period ended March 31, 2010, WesternZagros' share of capital
expenditures associated with its PSC activities and other capitalized costs was
$13.3 million. This included $12.4 million for drilling and related operations,
$0.1 million for geological and geosciences related work and $0.6 million for
related field office and supervision costs in support of drilling operations.
By comparison, WesternZagros' share of capital expenditures in the first quarter
of 2009 were $16.9 million, including $8.8 million of drilling and-related
operations and $0.9 million of supervision and local office costs in support of
drilling operations. Included in the drilling and related operations were $6.9
million for Sarqala-1, $1.8 million for long-lead items and pre-spud costs for
Kurdamir-1, and $0.1 million for tangible items for subsequent wells and
consumables for testing operations.
WesternZagros capitalized $1.0 million in G&A and stock-based compensation costs
directly related to exploration activities for the three month period ended
March 31, 2010, compared to $0.5 million for the comparable period in the prior
year.
Production Sharing Contract - Summary
Under the terms of its PSC, WesternZagros has a 40 percent working interest and
the KRG has a 20 percent interest in the PSC which is carried by WesternZagros.
The remaining 40 percent was allocated to Talisman in June 2008 by the KRG.
WesternZagros, the KRG and Talisman are collectively the "Contractor Group"
under the PSC. WesternZagros is the operator of the PSC lands until the end of
the first operating sub-period of the PSC, when a Joint Operating Company may be
established if so elected by the Contractor Group.
Production Sharing Contract - Commercial Terms
Under the PSC, the sharing of oil occurs as follows: of the total oil produced,
operations oil is available to WesternZagros for use in carrying out its
obligations under the PSC; the remaining oil is subject to a 10 percent royalty
payable to the KRG (the residual is considered to be "net available oil"). The
net available oil is determined on a development by development basis. Up to 45
percent of the net available oil is available for cost recovery, with the
remainder as "profit oil." Expenses eligible for cost recovery include all costs
and expenditures incurred by the Contractor Group for exploration, development,
production and decommissioning operations, as well as any other costs and
expenditures incurred directly or indirectly with these activities. The portion
of profit oil available to the Contractor Group is based on a sliding scale from
35 percent to 16 percent, depending on a calculated R-Factor. The R-Factor is
established by reference to the ratio of cumulative revenues over cumulative
costs. When the ratio is below one, the Contractor Group is entitled to 35
percent of the profit oil. The percentage is then reduced on a linear sliding
scale to a minimum of 16 percent at an R-Factor ratio of two or greater.
The production sharing terms for natural gas are the same as the oil production
sharing terms except that the net available gas available for cost recovery is
55 percent and the profit sharing component percentages and the R-Factor levels
are increased. For natural gas, the portion of profit natural gas available for
the Contractor Group is based on a sliding scale from 40 percent to 20 percent
depending on a calculated R-factor. The R-Factor is established by reference to
the ratio of the Contractor Group's cumulative revenue over cumulative costs.
When the R-Factor is below one, the Contractor Group is entitled to 40 percent
of the profit oil. The Contractor Group's percentage is then reduced on a linear
scale to a minimum of 20 percent at a ratio of 2.75 or greater.
Production
Pursuant to the terms of the PSC, WesternZagros maintains the right to market
its share of oil on the world market. There is an obligation under the PSC to
make oil production available to meet regional market demand. The price of such
oil is a market-based oil price based on a basket of crudes. The price for
natural gas is based on local commercial value and Iraq tariffs. Currently, no
markets exist for natural gas within Iraq and there is no infrastructure for
export.
Contract Obligations and Commitments
The PSC contemplates two exploration sub-periods of three years and two years,
respectively, with two possible one-year extensions. The first exploration
sub-period ends December 31, 2010. During the first sub-period, the Contractor
Group is required to complete a minimum of 1,150 kilometres of seismic surveying
(which has been completed), to drill three exploration wells, and to commit a
minimum of $75 million in the aggregate on these activities. At the end of the
first exploration sub-period, WesternZagros and the other parties to the PSC may
relinquish the entire contract area (other than any discovery or development
areas), continue further exploration operations by entering into the second
exploration sub-period, or request a one-year extension for further exploration
and appraisal activities prior to deciding to enter into the second exploration
sub-period.
The PSC also includes capacity-building support payments, which concluded in
April 2009, and annual funding for certain technological, logistical,
recruitment and training support during the exploration sub-periods. To meet its
remaining commitments for the first exploration sub-period, WesternZagros
estimates expenditures of approximately $25 million to $30 million, excluding
the costs associated with future activities at Kurdamir-1. Additional costs of
any testing, if required, would be in addition to these amounts. This represents
the Company's 60 percent funding requirement and includes the remaining costs
associated with drilling one additional exploration commitment well by the end
of the first exploration sub-period, and providing associated supervision and
local office support.
WesternZagros, on behalf of the Contractor Group, has applied to the KRG to
extend the first exploration sub-period for a period of up to 12 months, i.e. to
December 31, 2011, in order to allow sufficient time for drilling the flank of
the Kurdamir structure to determine whether the downdip Oligocene Reservoir is
oil bearing or gas-condensate bearing. The Company has received no indications
from the KRG that this application will be approved and considers it unlikely
that approval would be obtained within an effective time frame. The Company, on
behalf of the Contractor Group, has also notified the KRG of a force majeure
event under the terms of the PSC. See "Force Majeure" below.
During the second exploration sub-period, the Contractor Group, or those parties
that have elected to participate in further exploration, are required to
complete a minimum of 575 kilometres of seismic surveying, drill at least two
exploration wells and commit a minimum of $35 million to these activities. At
the end of the second exploration sub-period, WesternZagros, and the other
parties to the PSC who have elected to participate in the second exploration
sub-period, may relinquish the entire contract area (other than any discovery or
development areas) or continue further exploration and appraisal operations into
the extension periods subject to the following relinquishment requirements. At
the end of the second exploration sub-period, and at the end of each subsequent
extension period, the PSC requires WesternZagros, and other parties who have
elected to participate, to relinquish 25 percent of the remaining undeveloped
area within the PSC lands or the entire contract area (other than any discovery
or development areas).
WesternZagros has entered into various exploration-related contracts, including
contracts for drilling equipment, services and tangibles. The following table
summarizes these contractual obligations as at March 31, 2010.
For the period ended December 31
($ 000's) 2010 2011 2012 2013 2014+ Total
----------------------------------------------------------------------------
Exploration 1,613 - - - - 1,613
Office 382 480 160 - - 1,022
----------------------------------------------------------------------------
Total 1,995 480 160 - - 2,635
----------------------------------------------------------------------------
Third Party Obligations and Commitments
In 2003 WesternZagros entered into a consulting service agreement that provides
for a three percent right to indirectly participate in the future profits the
Company may earn in respect to the PSC, in exchange for consulting services
provided since that date. In the determination of profits under this agreement,
WesternZagros is entitled to deduct the consultant's proportional share of all
costs associated with acquiring the PSC and the exploration, appraisal,
development and production expenditures incurred by the Corporation ("eligible
costs"), together with interest on such percentage of eligible costs at LIBOR
plus three percent.
Further, in 2004 WesternZagros entered into a consulting service agreement for a
two percent right to indirectly participate in the future profits the
Corporation may earn in respect to the PSC, in exchange for the provision of
consulting services during the period 2004 to 2006. In the determination of
profits under this agreement, WesternZagros is entitled to deduct one percent of
all eligible costs, together with interest on such percentage of eligible costs
at LIBOR plus ten percent. The consultant is required to fund the additional one
percent of all eligible costs.
Off Balance Sheet Arrangement
The Company does not presently utilize any off-balance sheet arrangements to
enhance its liquidity and capital resource positions, or for any other purpose.
During the period ended March 31, 2010, WesternZagros did not enter into any
off-balance sheet transactions.
Related Party Transactions
Included in accounts receivable is a loan to a senior officer of $0.2 million,
the loan is non-interest bearing and matures on December 31, 2010. This
transaction has been recorded at the exchange amount, which is the amount of
consideration established and agreed to by the related party.
Insurance Claim Update
WesternZagros has initiated an insurance claim related to well control
operations at Kurdamir-1, including those when Kurdamir-1 was drilled into a
high pressure formation in the Gulneri seal and the subsequent high pressure
zone encountered in the Lower Aaliji seal in the subsequent sidetrack. The
control of well insurance policy covering these claims has a gross aggregate
limit of $75 million with a $0.6 million deductible.
On May 26, 2010 WesternZagros received the Comprehensive Report prepared by the
insurance adjuster and which has been submitted to the insurers. The
Comprehensive Report includes a request for the first interim payment on account
of $10 million ($5.7 million net to WesternZagros after consideration of
deductibles)representing the costs incurred, paid and submitted to the adjuster
as of that date for well control operations and subsequent sidetracking. The
Comprehensive Report is now being reviewed by the insurers, to determine
coverage and payment of the interim request.
WesternZagros anticipates that the proceeds of this claim will cover a
significant portion of the well control and sidetrack drilling costs that have
been and will be incurred. WesternZagros is currently preparing the required
submission to the adjuster for a request for the second interim payment on
account of $7.8 million ($4.7 million net to WesternZagros) representing costs
incurred and paid subsequent to those in the first interim payment request. No
amounts have been received by WesternZagros to date relating to this claim. The
insurance policy covers re-drill of the well if required. A separate well
control insurance policy is in place for the third commitment well.
Force Majeure
WesternZagros, on behalf of the Contractor Group, has notified the KRG of a
force majeure event under the terms of the PSC related to the well control and
subsequent sidetracking operations associated with Kurdamir-1. Under the terms
of the PSC, when a force majeure event occurs, the time resulting from any such
delay and the time necessary to repair any damage resulting from the delay will
be added to the relevant time period provided under the PSC; in this case it
would be added to the first exploration sub-period.
Outlook
WesternZagros' operational activities during the remainder of 2010 will continue
to focus on the following priorities:
- completing the well control operations at Kurdamir-1, with our primary concern
being the safety of WesternZagros employees, contractors and the local residents
in the surrounding area and minimizing any environmental impacts;
- resuming drilling with the objective to test the reservoir targets in the
Aaliji and Cretaceous intervals at Kurdamir-1, if well control operations are
successful and further drilling operations at Kurdamir-1 are possible;
- preparing to drill the third exploration commitment well at Qulijan-1
(formerly Sarhad), which includes site construction, well design, and
procurement of required goods and services.
- evaluating the commercial potential and technical feasibility of the gas and
condensate discovered at Kurdamir-1 in the Tertiary interval together with any
additional oil or gas discoveries yet to be confirmed by testing; and
- evaluating drilling alternatives and timing to explore the flanks of the
Kurdamir structure, in order to determine the presence and nature of fluids
present (oil, gas and condensate, water or a combination thereof) on the flanks;
The specific details of operational activities for the remainder of the year and
the sequencing of events will depend considerably on the outcome of the well
control efforts and the timely receipt of proceeds from the insurance claim.
Assuming Kurdamir-1 is successfully controlled, WesternZagros and its partners
will have several options to consider for how best to test the multiple
hydrocarbon shows in Kurdamir-1, whether to drill ahead immediately to reach the
Shiranish and Kometan formations, when and how to test the flanks of the
structure discovered at Kurdamir, and how best to proceed with the third
commitment well.
The approved capital and operating budget for the remainder of 2010 is $25
million, including the following activities and estimated costs (which for PSC
activities include the Company's 60 percent funding requirement):
- $11 million to complete the well control operations at the Kurdamir-1 well, on
the basis the well control operations are completed prior to June 30, 2010;
- $6 million of site preparation, rig and services mobilization and long lead
items to prepare to drill at Qulijan-1 (formerly Sarhad);
- $1 million of certain geological and geophysical studies ("G&G operations")
for PSC lands;
- $3 million of supervision and local office costs in support of drilling and
G&G operations; and
- $4 million of corporate G&A, business development and other non-PSC related
expenditures.
The approved capital and operating budget does not include any proceeds
WesternZagros may receive under its well control insurance claim; any costs for
continuing to sidetrack Kurdamir-1 beyond 3,214 metres and future cased hole
testing activities; and any drilling and testing costs for Qulijan-1.
WesternZagros requires the successful completion of the well control operations
and the receipt of insurance proceeds associated with its well control and
sidetrack operations prior to deploying or committing future capital beyond the
activities described above.
Liquidity and Capital Resources
WesternZagros is currently exploring for crude oil and natural gas in the
Kurdistan Region of Iraq and currently has no reserves, production or
operational cash flows. WesternZagros' revenue is comprised entirely of interest
earned on cash and cash equivalent balances. WesternZagros invests its cash and
cash equivalents with major Canadian financial institutions with investment
grade credit ratings and in Government of Canada instruments. This is in
accordance with an Investment Policy approved by the Board of Directors.
WesternZagros has no outstanding bank debt or other interest-bearing
indebtedness as at March 31, 2010.
At March 31, 2010, WesternZagros had $53.2 million in working capital. This
balance is currently expected to be used to fund future capital expenditures
including: the well control operations at Kurdamir-1; the sidetrack operations
to reach the Shiranish and Kometan formations at Kurdamir-1 (if the well control
operations are successful and further drilling operations at Kurdamir-1 are
possible); the costs to drill the third exploration commitment well (Qulijan-1,
formerly Sarhad); the requirement for WesternZagros to fund the KRG's 20 percent
carried interest on PSC activities; G&A expenditures; and any further working
capital requirements.
WesternZagros is considering the proper timing to access further financial
resources, including assessing the following factors:
- The outcome of well control operations at Kurdamir-1, and ability to continue
drilling Kurdamir-1 to the Shiranish and Kometan formations;
- The possibility to conduct cased hole testing operations at Kurdamir-1 in the
Shiranish, Kometan, Upper Aaliji and Lower Oligocene Formations, if well control
and subsequent drilling operations are successful;
- Progress of the insurance claim and the associated payments of this claim;
- Continued participation of the Company's co-venturers in the PSC activities;
- Capital and operating budgets, including the budget for commencing drilling
activities on the third exploration commitment well;
- The completion of the recent federal election process in Iraq and naming of a
President, Prime Minister and federal cabinet;
- The status of the Federal Petroleum Law of Iraq and the ability to export oil
and natural gas from the Kurdistan Region of Iraq in accordance with the
economic terms under the PSC; and
- The current conditions in the financial markets, including the recent market
instability.
Given the recent well control operations, current conditions in the financial
markets and the continued delays in concluding the Federal Petroleum Law of
Iraq, WesternZagros will seek to maintain financial flexibility and will monitor
and assess its financing requirements and its ability to access additional
financing as its exploration activities progress. If the Kurdamir-1 well is
successfully controlled and insurance payments are collected in a timely
fashion, WesternZagros may not require additional funding to complete the
drilling of the third exploration well. Any significant delay in collecting
amounts under its insurance claims or to the well control operations resulting
in increased costs for Kurdamir-1 would require WesternZagros to secure
additional financial resources to complete future activities, including the
drilling of the third exploration commitment well at Qulijan-1 and any further
testing program associated with either Kurdamir-1 or Qulijan-1. WesternZagros
will also require additional financial resources over time to complete an
appraisal program, and ultimately any development program, that is warranted by
discoveries at Kurdamir-1 or Qulijan-1.
It is possible that future global economic events and conditions may result in
further volatility in the financial markets which, in turn, could negatively
impact WesternZagros' ability to access equity or debt markets in the future. In
addition, the results of the Company's exploration activities or any prolonged
delay in the export of oil from the Kurdistan Region of Iraq in accordance with
the economic terms under our PSC could negatively impact the ability to access
equity or debt markets in the future. Any inability to access the equity or debt
markets for sufficient capital, at acceptable terms and within required
timeframes, could have a material adverse effect on WesternZagros' financial
condition, results of operations and prospects.
Outstanding Share Data
As at March 31, 2010, there were 207,464,320 shares issued and outstanding. The
number of common shares reserved for issuance pursuant to options granted will
not exceed 10 percent of the issued and outstanding common shares. In the first
quarter of 2010, 25,000 stock options were granted to employees and 128,334
forfeited by employees bringing the total stock options outstanding as of March
31, 2010 to 12,904,000.
Supplemental Quarterly Information
The following table summarizes the key financial information on a quarterly
basis for the periods indicated.
($ thousands, unless March 31 Dec. 31 Sept. 30 June 30
otherwise indicated) 2010 2009 2009 2009
----------------------------------------------------------------------------
Revenue 19 32 36 35
Net Loss 1,006 1,035 2,712 1,404
Net Loss per Share (US$/share)
(Basic and Fully Diluted) 0.005 0.005 0.013 0.006
Capital Expenditures 13,334 11,250 11,456 14,796
Total Assets 235,977 241,077 241,600 241,171
Total Long-term Liabilities 178 175 171 197
Dividend (US$ per share) Nil Nil Nil Nil
----------------------------------------------------------------------------
----------------------------------------------------------------------------
($ thousands, unless March 31 Dec. 31 Sept. 30 June 30
otherwise indicated) 2009 2008 2008 2008
----------------------------------------------------------------------------
Revenue 81 495 867 774
Net Loss 340 6,653 984 633
Net Loss per Share (US$/share)
(Basic and Fully Diluted) 0.002 0.030 0.005 0.005
Capital Expenditures 16,854 20,339 20,531 27,648
Total Assets 239,288 243,697 248,919 241,692
Total Long-term Liabilities 71 69 68 66
Dividend (US$ per Share) Nil Nil Nil Nil
----------------------------------------------------------------------------
----------------------------------------------------------------------------
Risk Factors
The risks factors that could influence actual results have not changed since the
2009 Annual Report and Annual Information Form including the risk that
WesternZagros' ability to access the equity or debt markets in the future may be
affected by further drilling challenges and related increases to exploration
well costs. The recent financial market instability may impact WesternZagros'
ability, and that of other exploration and development companies, to access
equity or debt markets at all or with acceptable terms. For future capital
requirements beyond the Company's current financing capability, which consists
of its cash and cash equivalents balances at March 31, 2010, risks associated
with the global economic conditions have increased. The inability to access the
equity or debt markets for sufficient capital, at acceptable terms and within
required time frames, could have a material adverse effect on WesternZagros'
financial condition, results of operations and prospects.
An investment in WesternZagros should be considered highly speculative due to
the nature of its activities, the present stage of its development, the need for
continued participation of the Company's co-venturers in the PSC activities and
its need for additional financing in the future for any acquisition,
exploration, development and production of oil and gas reserves beyond current
funding levels. WesternZagros' risk factors include, but are not limited to, all
the risks normally incidental to the exploration, development and operation of
crude oil and natural gas properties and the drilling of crude oil and natural
gas wells, including geological risk, encountering unexpected formations or
pressures, potential environment damage, blow-outs, fires and spills, all of
which could result in personal injuries, loss of life and damage to property of
WesternZagros and others; premature declines of reservoirs; environment risks;
delay or changes in plans with respect to exploration or development projects or
capital expenditures; the ability to attract key personnel; the risk of
commodity price and foreign exchange rate fluctuations.
All of WesternZagros' assets are located in the Kurdistan Region of Iraq. As
such, WesternZagros is subject to political, economic, and other uncertainties,
including, but not limited to, the uncertainty of negotiating with foreign
governments, expropriation of property without fair compensation, adverse
determinations or rulings by governmental authorities, changes in energy
policies or the personnel administering them, nationalization, currency
fluctuations and devaluations, disputes between various levels of authorities,
arbitrating and enforcing claims against entities that may claim sovereignty,
authorities claiming jurisdiction, potential implementation of exchange
controls, royalty and government take increases and other risks arising out of
foreign governmental sovereignty over the areas in which WesternZagros'
operations are conducted, as well as risks of loss due to civil strife, acts of
war, guerrilla activities and insurrections. WesternZagros' operations may be
adversely affected by changes in government policies and legislation or social
instability and other factors which are not within the control of WesternZagros
including, among other things, adverse legislation in Iraq and/or the Kurdistan
Region, a change in crude oil or natural gas pricing policy, the risks of war,
terrorism, abduction, expropriation, nationalization, renegotiation or
nullification of existing concessions and contracts, taxation policies, economic
sanctions, the imposition of specific drilling obligations and the development
and abandonment of fields.
For a complete list of risk factors please refer to Company's Annual Information
Form which is available at www.westernzagros.com or on SEDAR at www.sedar.com.
Future Accounting Pronouncements
International Financial Reporting Standards ("IFRS")
In February 2008, the Accounting Standards Board confirmed that all Canadian
publicly accountable enterprises will be required to adopt IFRS for interim and
annual reporting purposes for fiscal years beginning on or after January 1,
2011. WesternZagros has performed its preliminary review on the accounting
policy choices upon its conversion to IFRS for the fiscal year beginning on
January 1, 2011. The implementation of IFRS 6 "Exploration for and Evaluation of
Mineral Resources" ("IFRS 6") is expected to have the most significance to the
Company's results of operations, financial position and disclosures.
WesternZagros currently utilizes the full cost method for accounting for its
exploration activities in the Kurdistan Region of Iraq under Canadian GAAP.
Under the full cost method, all costs associated with the acquisition of,
exploration for and the development of crude oil and natural gas, including
asset retirement obligations, are capitalized and accumulated within cost
centres on a country-by-country basis. Such costs include land acquisition,
geological and geophysical activity, drilling and testing of productive and
non-productive wells, carrying costs directly related to unproved properties,
major development projects and administrative costs directly related to
exploration and development activities. As WesternZagros is only currently
operating in the Kurdistan Region of Iraq and has only one PSC in that region,
it has capitalized all costs associated with those exploration activities,
including certain costs incurred prior to the entering into of the PSC.
Under Canadian GAAP, amounts capitalized under the full cost method are reviewed
for impairment whenever events or conditions indicate that their net carrying
amount may not be recoverable from estimated future cash flows. If an impairment
is identified, the assets are written down to the estimated fair market value.
The calculation of these future cash flows is dependent on a number of
estimates, which include reserves, timing of production, crude oil price,
operating cost estimates and foreign exchange rates.
Upon conversion to IFRS, WesternZagros will be required to adopt IFRS 6, which
is the standard that deals with accounting for exploration and evaluation
("E&E") assets in the extractive industries. Typical costs included in the E&E
assets are acquisition of rights to explore, topographical, geological,
geochemical and geophysical studies, exploratory drilling, trenching, sampling,
and activities in relation to evaluating the technical feasibility and
commercial viability of extracting mineral resources. Under IFRS 6, costs
incurred prior to the legal rights to explore an area being obtained may no
longer be capitalized within E&E assets and requires that upon initial
recognition E&E assets should be measured at cost.
IFRS 6 allows either of two alternatives to be chosen as the accounting policy
for E&E assets after initial recognition. The first alternative is the "cost
model" whereby the item is carried at cost less impairment. The other
alternative is the "revaluation model." The revaluation model requires that,
after initial recognition, an asset, whose fair value can be reliably measured
should be carried at a re-valued amount, being fair value at the date of
measurement, less any subsequent accumulated depreciation or accumulated
impairment losses. For the purpose of completing an impairment test under IFRS
6, the E&E assets must be allocated to specific cash-generating units (CGUs).
The level of grouping of CGUs for impairment testing purpose is based on how
management makes decisions about continuing/disposing of assets and operations
and the commercial terms associated with these assets and operations.
Upon adoption of IFRS, WesternZagros anticipates that the costs it has
capitalized under the full cost method prior to the execution of its PSC will be
expensed, but has not yet determined which method it will follow in respect the
E&E assets after initial recognition.
Other areas of potential impact include stock-based compensation. WesternZagros
continues to develop an implementation plan, including the consideration of the
resources required to complete the conversion to IFRS and the impact to its
financial systems.
CONSOLIDATED BALANCE SHEETS
(United States dollars thousands)
(Unaudited)
March 31, December 31,
2010 2009
----------------------------------------------------------------------------
Assets
Current Assets
Cash and Cash Equivalents $ 55,083 $ 76,708
Accounts Receivable (note 14) 8,886 6,880
Prepaid Expenses 397 183
Income Tax Recoverable 2,436 1,738
Future Income Taxes (note 7) 178 231
----------------------------------------------------------------------------
66,980 85,740
Long-term Assets
Property, Plant and Equipment (note 4) 168,570 154,911
Deposits Held in Trust (note 5) 420 420
Future Income Taxes (note 7) 7 6
----------------------------------------------------------------------------
168,997 155,337
----------------------------------------------------------------------------
$ 235,977 $ 241,077
----------------------------------------------------------------------------
----------------------------------------------------------------------------
Liabilities
Current Liabilities
Accounts Payable and Accrued Liabilities $ 13,569 $ 18,297
----------------------------------------------------------------------------
13,569 18,297
Long-term Liabilities
Asset Retirement Obligation (note 6) 178 175
----------------------------------------------------------------------------
13,747 18,472
----------------------------------------------------------------------------
Shareholders' Equity
Share Capital (note 8) 253,583 253,583
Contributed Surplus (note 10) 9,380 8,749
Deficit (40,733) (39,727)
----------------------------------------------------------------------------
222,230 222,605
----------------------------------------------------------------------------
$ 235,977 $ 241,077
----------------------------------------------------------------------------
----------------------------------------------------------------------------
Going Concern (note 1)
Commitments and Contingencies (note 15)
Subsequent Events (note 17)
See Accompanying Notes to the Consolidated Financial Statements
Approved by the Board of Directors
(Signed) "Fred J. Dyment" (Signed) "Randall Oliphant"
Director Director
CONSOLIDATED STATEMENTS OF OPERATIONS,
COMPREHENSIVE LOSS AND DEFICIT
(United States dollars thousands, except per share amounts)
(Unaudited)
Three Months Three Months
Ended March 31, Ended March 31,
2010 2009
----------------------------------------------------------------------------
Revenues
Interest Income $ 19 $ 81
Expenses
General and Administrative 1,437 1,285
Depreciation 179 189
Accretion on Asset Retirement Obligation 3 2
Foreign Exchange (Gain) Loss 52 (61)
----------------------------------------------------------------------------
1,671 1,415
----------------------------------------------------------------------------
Loss Before Income Taxes 1,652 1,334
Income Tax Recovery (note 7) (646) (994)
----------------------------------------------------------------------------
Net Loss and Other Comprehensive Loss 1,006 340
Deficit, Beginning of Period 39,727 34,236
----------------------------------------------------------------------------
Deficit, End of Period $ 40,733 $ 34,576
----------------------------------------------------------------------------
----------------------------------------------------------------------------
Net Loss Per Share
- Basic and Diluted (note 11) $ 0.005 $ 0.002
----------------------------------------------------------------------------
----------------------------------------------------------------------------
Going Concern (note 1)
See Accompanying Notes to the Consolidated Financial Statements
CONSOLIDATED STATEMENTS OF CASH FLOWS
(United States dollars thousands)
(Unaudited)
Three Months Three Months
ended March 31, ended March 31,
2010 2009
----------------------------------------------------------------------------
Cash Provided By (Used In)
Cash From Operating Activities
Net Loss $ (1,006) $ (340)
Non-cash Items
Depreciation 179 189
Accretion on Asset Retirement
Obligation (note 6) 3 2
Stock-based Compensation 128 429
Future Income Tax Expense (note 7) 51 269
----------------------------------------------------------------------------
(645) 549
Increase in Non-Cash Working
Capital (note 13) (1,004) (6,026)
----------------------------------------------------------------------------
(1,649) (5,477)
----------------------------------------------------------------------------
Cash From Financing Activities
None - -
----------------------------------------------------------------------------
- -
----------------------------------------------------------------------------
Cash From Investing Activities
Short-term Investments - 39,967
Capital Expenditures (13,334) (16,854)
Decrease (Increase) in Non-cash
Working Capital (note 13) (6,642) 4,166
----------------------------------------------------------------------------
(19,976) 27,279
----------------------------------------------------------------------------
Increase (Decrease) in Cash and
Cash Equivalents (21,625) 21,802
Cash and Cash Equivalents at
Beginning of Period 76,708 90,016
----------------------------------------------------------------------------
Cash and Cash Equivalents at End of Period $ 55,083 $ 111,818
----------------------------------------------------------------------------
----------------------------------------------------------------------------
Supplemental cash flow information:
Income Taxes Paid $ - $ 4,695
----------------------------------------------------------------------------
----------------------------------------------------------------------------
Going Concern (note 1)
See Accompanying Notes to the Consolidated Financial Statements.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
Three months ended March 31, 2010 and 2009
(Tabular amounts in United States dollars thousands)
(Unaudited)
1. GOING CONCERN UNCERTAINTY AND BASIS OF PRESENTATION
These consolidated financial statements have been prepared in accordance with
Canadian generally accepted accounting principles ("GAAP") on the basis that
WesternZagros Resouces Ltd. (the "Corporation" or "WesternZagros") will continue
to operate as a going concern, which implies the realization of assets and the
settlement of liabilities and commitments in the normal course of business for
the foreseeable future.
Since inception and typical with development stage companies, the Corporation
has incurred losses from operations and negative cash flows from operating
activities, and has an accumulated deficit at March 31, 2010. During the three
months ended March 31, 2010, the Corporation had expenditures of $0.6 million
for operating activities and $13.3 million for oil and gas property
expenditures, as well as an overall increase in non-cash working capital of $7.6
million. The Corporation will require additional funding over time to maintain
ongoing exploration programs and property commitments, as well as for
administration expenses.
A number of material uncertainties could raise significant doubt about the
Corporation's ability to continue as a going concern, as further outlined below:
Kurdamir-1 Well Control Operations:
The Corporation is currently pursuing well control operations at Kurdamir-1. A
negative outcome from these well control operations would add additional cost
and could significantly impact the Corporation's ability to access any further
financial resources required to meet its Production Sharing Contract ("PSC")
commitments (see Note 15 for a further description of Commitments and
Contingencies).
Insurance Claim Related To Well Control Operations:
The Corporation has initiated an insurance claim that is expected to cover a
significant portion of costs related to the well control operations at
Kurdamir-1. However, if there is a significant timing delay in collecting the
expected proceeds under the insurance claim it would impair the Corporation's
ability to continue funding ongoing development activities under the PSC. At
present no amounts have been recognized in association with the insurance claim.
In general, the Corporation's ability to continue operations and exploration
activities as a going concern is dependent upon its ability to obtain additional
funding over time. While the Corporation has been successful in obtaining its
required funding in the past, there is no assurance that sufficient funds will
be available to the Corporation in the future. The Corporation has no assurance
that such financing will be available or be available on favorable terms.
Factors that could affect the availability of financing include the continued
support of its shareholders; the results of its exploration activities; meeting
all commitments under the PSC; the resolution of remaining political disputes in
Iraq; progress on the Federal Petroleum Law and the ability to export oil and
natural gas from the Kurdistan Region of Iraq in accordance with the economic
terms under the PSC; the state of the capital markets and the ability of the
Corporation to obtain financing to develop reserves; the continued participation
of the Corporation's coventurers in the PSC activities; and the receipt of
proceeds from the current insurance claim associated with the well control
operations.
These consolidated financial statements do not reflect adjustments in the
carrying values of assets and liabilities reported, revenue or expenses, nor the
balance sheet classification used that would be necessary if the going concern
assumption was not appropriate. Such adjustments could be material.
2. NATURE OF OPERATIONS
WesternZagros Resources Ltd. was incorporated on August 22, 2007 under the laws
of the Province of Alberta. The Corporation, an international oil and gas
company, is engaged in acquiring properties and exploring for, developing of and
producing crude oil and natural gas in Iraq and is in the developmental stage.
Through its subsidiaries, the Corporation's operations are related to its
interest in a Production Sharing Contract with the Kurdistan Regional Government
("KRG") in respect of an exploration project area in the Kurdistan Region of
Iraq.
3. SIGNIFICANT ACCOUNTING POLICIES
The interim consolidated financial statements are presented in accordance with
Canadian generally accepted accounting principles. The interim consolidated
financial statements have been prepared following the same accounting policies
and methods of computation as the audited consolidated financial statements for
the year ended December 31, 2009. These interim consolidated financial
statements should be read in conjunction with the consolidated financial
statements and the notes thereto in the Corporation's annual report for the year
ended December 31, 2009.
4. PROPERTY, PLANT AND EQUIPMENT
Accumulated
Depletion and Net
As at March 31, 2010 Cost Depreciation Book Value
----------------------------------------------------------------------------
Kurdistan Region Exploration
Project $ 167,934 $ - $ 167,934
Corporate 1,832 (1,196) 636
----------------------------------------------------------------------------
$ 169,766 $ (1,196) $ 168,570
----------------------------------------------------------------------------
----------------------------------------------------------------------------
Accumulated
Depletion and Net
As at December 31, 2009 Cost Depreciation Book Value
----------------------------------------------------------------------------
Kurdistan Region Exploration
Project $ 154,244 $ - $ 154,244
Corporate 1,684 (1,017) 667
----------------------------------------------------------------------------
$ 155,928 $ (1,017) $ 154,911
----------------------------------------------------------------------------
----------------------------------------------------------------------------
All costs included in the Kurdistan Region Exploration Project are excluded from
depletion as they represent costs incurred related to properties in cost centres
that are considered to be in the development stage. Currently, there are no
proved reserves. All costs, net of any associated revenues, have been
capitalized. The Corporation capitalized $1.0 million of general and
administrative costs (March 31, 2009 -$0.5 million) including $0.5 million of
stock-based compensation (March 31, 2009 -$0.3 million) directly related to
exploration activities for the three months ended March 31, 2010.
During the three months ended March 31, 2010, the Corporation initiated a claim
on its well control insurance associated with respect to its Kurdamir-1
operations. As of March 31, 2010, no amounts have been recognized in association
with this claim and the Corporation continues to work with the insurers to
advance the claim. Any claim amounts approved by the insurers under the
insurance claim will be credited to the costs for the Kurdistan Region
Exploration Project.
5. DEPOSITS HELD IN TRUST
The Corporation had deposited in trust certain amounts to be utilized to fund
certain expenditures for drilling operations. The deposits bear interest at
prevailing market rates. As of March 31, 2010, the Corporation had a $0.4
million deposit held in trust for a supplier.
6. ASSET RETIREMENT OBLLIGATION
The Corporation records the fair value of legal obligations associated with the
retirement and reclamation of tangible long-lived assets when incurred. The
asset retirement cost, equal to the estimated fair value of the asset retirement
obligation, is capitalized as part of the cost of the related long-lived asset.
The estimation of this cost is based on engineering estimates using current
costs and technology and in accordance with industry practice. The Corporation's
share of total undiscounted amount of estimated cash flow required to settle the
obligation is $1.2 million, which is assumed to be paid in the years 2033 and
2034 in the most likely case. The Corporation used a credit adjusted risk-free
rate of 10 percent and an inflation rate of 4 percent to calculate the net
present value of the future retirement obligation.
The following table presents the reconciliation of the Corporation's asset
retirement obligation:
March 31, 2010 December 31, 2009
----------------------------------------------------------------------------
Balance, beginning of year $ 175 $ 69
Liabilities incurred - 95
Accretion expense 3 11
----------------------------------------------------------------------------
Balance at end of period $ 178 $ 175
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----------------------------------------------------------------------------
7. INCOME TAXES
Three Month Period Ended March 31, 2010 March 31, 2009
----------------------------------------------------------------------------
Current Income Tax Recovery $ (697) $ (1,263)
Future Income Tax Expense 51 269
----------------------------------------------------------------------------
Balance at end of period $ (646) $ (994)
----------------------------------------------------------------------------
----------------------------------------------------------------------------
The Future Income Tax assets are comprised of:
As at March 31, 2010 December 31, 2009
Current Future Income Tax Asset:
Non-Capital Loss Carryforwards $ - $ 27
Share Issue Costs 178 204
----------------------------------------------------------------------------
$ 178 $ 231
----------------------------------------------------------------------------
----------------------------------------------------------------------------
Long-term Future Income Tax Asset:
Share Issue Costs $ 362 $ 387
Book Values in Excess of Tax Values (172) (198)
Valuation Allowance (183) (183)
----------------------------------------------------------------------------
$ 7 $ 6
----------------------------------------------------------------------------
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8. SHARE CAPITAL
a. Authorized
The Corporation is authorized to issue an unlimited number of ordinary and
preferred shares. The common shares are without nominal or par value.
b. Common Shares Issued and Outstanding
Amount
Number of Shares (000's)
----------------------------------------------------------------------------
Balance as at December 31, 2009 and March 31, 2010 207,464,320 $ 253,583
----------------------------------------------------------------------------
----------------------------------------------------------------------------
9. STOCK OPTIONS AND STOCK-BASED COMPENSATION
Pursuant to the stock option plan, the Board of Directors may grant options to
directors, officers, other employees and other service providers. The aggregate
number of shares that may be reserved for issuance pursuant to stock options may
not exceed 10 per cent of the issued and outstanding common shares on a
non-diluted basis of the Corporation at the time of granting. Stock options
expire not more than five years from the date of grant, or earlier if the
individual ceases to be associated with the Corporation, and vest at the
discretion of the Board of Directors.
The following table presents the reconciliation of stock options granted as of
March 31, 2010:
----------------------------------------------------------------------------
Weighted Average
exercise price
Number of Options ($CAD)
----------------------------------------------------------------------------
Outstanding, beginning of the period 13,007,334 $ 1.50
Granted 25,000 0.80
Exercised - -
Forfeited and Expired (128,334) 2.15
----------------------------------------------------------------------------
Outstanding, end of period 12,904,000 $ 1.49
----------------------------------------------------------------------------
----------------------------------------------------------------------------
The fair value of all options granted have been estimated at the grant date
using the Black-Scholes option pricing model and are summarized in the following
table:
March 31, 2010
----------------------------------------------------------------------------
Weighted average fair value of stock options granted in period $ 0.44
Risk Free Interest Rate 2.01%
Expected Life 3 years
Expected Volatility 87%
Dividend Per Share Nil
----------------------------------------------------------------------------
----------------------------------------------------------------------------
10. CONTRIBUTED SURPLUS
The following table presents the reconciliation of Contributed Surplus:
March 31, 2010
----------------------------------------------------------------------------
Balance, beginning of period $ 8,749
Stock-based Compensation 631
----------------------------------------------------------------------------
Balance, end of period $ 9,380
----------------------------------------------------------------------------
----------------------------------------------------------------------------
11. LOSS PER SHARE
The basic weighted average number of common shares outstanding calculated for
the three month period ended March 31, 2010 was 207,464,320 (March 31, 2009 -
207,464,320). In computing diluted per share amounts, all of the Corporations
options totaling 12,904,000 (March 31, 2009 - 13,443,667) have been excluded as
they are anti-dilutive. Accordingly no additional common shares were added to
the basic weighted average shares outstanding to account for dilution.
12. SHAREHOLDER RIGHTS PLAN
On October 18, 2007, the Corporation adopted a shareholder rights plan (the
"Plan"). Under the Plan, one right has been issued in respect of each currently
issued common share and one right will be issued with each additional common
share which is issued. The rights remain attached to the common shares and are
not exercisable or separable unless one or more of certain specified events
occur. If a person or group acting in concert acquires 20 per cent or more of
the common shares of the Corporation, the rights will entitle the holders
thereof (other than the acquiring person or group) to purchase common shares at
a substantial discount from the then market price. The rights are not triggered
by a "Permitted Bid" as defined in the Plan. The Plan will remain in effect
until termination of the annual meeting of shareholders June 1, 2010, and will
be extended until 2013 if approved by resolution of the shareholders at such
meeting.
13. CHANGES IN NON-CASH WORKING CAPITAL
Three month period ended March 31, 2010 March 31, 2009
----------------------------------------------------------------------------
Operating Activities
Accounts Receivable $ (98) $ (41)
Prepaid Expenses (213) (6)
Income Tax Receivable (698) (1,279)
Accounts Payable and Accrued
Liabilities 5 (21)
Income Tax Payable - (4,679)
----------------------------------------------------------------------------
$ (1,004) $ (6,026)
----------------------------------------------------------------------------
Investing Activities
Accounts Receivable $ (1,907) $ 4,271
Accounts Payable and Accrued Liabilities (4,735) (105)
----------------------------------------------------------------------------
$ (6,642) $ 4,166
----------------------------------------------------------------------------
----------------------------------------------------------------------------
14. RELATED PARTY TRANSACTIONS
Included in accounts receivable is a loan to a senior officer of $0.2 million.
The loan is non-interest bearing and matures on December 31, 2010. This
transaction has been recorded at the exchange amount, which is the amount of
consideration established and agreed to by the related party.
15. COMMITMENTS AND CONTINGENCIES
Commitments
a) Production Sharing Contract
Under the terms of its PSC, the Corporation has a 40 percent working interest
and the KRG has a 20 percent interest in the PSC which is carried by the
Corporation. The remaining 40 percent was allocated to a wholly-owned subsidiary
of Talisman by the KRG as announced on June 23, 2008. The Corporation, the KRG
and Talisman are collectively the "Contractor Group" under the PSC.
WesternZagros is the operator of the PSC lands until the end of the first
operating sub-period of the PSC, when a Joint Operating Company may be
established if so elected by the Contractor Group.
The PSC contemplates two exploration sub-periods of three years and two years,
respectively, with two possible one-year extensions. The first exploration
sub-period ends December 31, 2010. During such time, the Contractor Group is
required to complete a minimum of 1,150 kilometres of seismic surveying (which
has been completed), to drill three exploration wells, and to commit a minimum
of $75 million in the aggregate on these activities. At the end of the first
exploration sub-period, the Corporation and the other parties to the PSC may
relinquish the entire contract area (other than any discovery or development
areas), continue further exploration operations by entering into the second
exploration sub-period, or request a one-year extension for further exploration
and appraisal activities prior to deciding to enter into the second exploration
sub-period.
The PSC also includes capacity building support, which concluded in April 2009,
and annual funding for certain technological, logistical, recruitment and
training support during the exploration sub-periods. To meet its remaining
commitments for the first exploration sub-period, the Corporation estimates
expenditures of approximately $25 million to $30 million, excluding the costs
associated with future activities at Kurdamir-1. Additional costs of any
testing, if required, would be in addition to these amounts. This represents the
Corporation's 60 percent funding requirement and includes the remaining costs
associated with drilling one additional exploration commitment well by the end
of the first exploration sub-period, and providing associated supervision and
local office support.
The Corporation, on behalf of the Contractor Group, has applied to the KRG to
extend the first exploration sub-period for a period of up to 12 months (i.e. to
December 31, 2011), in order to allow sufficient time for drilling the flank of
the Kurdamir structure to determine whether the downdip Oligocene Reservoir is
oil bearing or gas-condensate bearing. The Corporation has received no
indications from the KRG that this application will be approved and considers it
unlikely that approval would be obtained within an effective timeframe. The
Corporation, on behalf of the Contractor Group, has also notified the KRG of a
force majeure event under the terms of the PSC, see "Force Majeure" below.
During the second exploration sub-period, the Contractor Group, or those parties
who have elected to participate in further exploration, is required to complete
a minimum of 575 kilometres of seismic surveying, drill at least two exploration
wells and commit a minimum of $35 million to these activities. At the end of the
second exploration sub-period, the Corporation and the other parties to the PSC
who have elected to participate in the second exploration sub-period, may
relinquish the entire contract area (other than any discovery or development
areas) or continue further exploration and appraisal operations into the
extension periods subject to the following relinquishment requirements. At the
end of the second exploration sub-period, and at the end of each subsequent
extension period, the PSC requires the Corporation, and other parties who have
elected to participate, to relinquish 25 percent of the remaining undeveloped
area within the PSC lands or the entire contract area (other than any discovery
or development areas).
Force Majeure
The Corporation, on behalf of the Contractor Group, has notified the KRG of a
force majeure event under the terms of the PSC related to the well control and
subsequent sidetracking operations associated with Kurdamir-1. Under the terms
of the PSC, when a force majeure event occurs the time resulting from any such
delay, and the time necessary to repair any damage resulting from the delay,
will be added to the relevant time period provided under the PSC; in this case
it would be added to the first exploration sub-period.
b) Consulting Service Agreements
In 2003 the Corporation entered into a consulting service agreement that
provides a three percent right to indirectly participate in the future profits
the Corporation may earn in respect to the PSC, in exchange for consulting
services provided since that date. In the determination of profits under this
agreement, the Corporation is entitled to deduct the consultant's proportional
share of all costs associated with acquiring the PSC and the exploration,
appraisal, development and production expenditures incurred by the Corporation
("eligible costs"), together with interest on such percentage of eligible costs
at LIBOR plus three percent.
Further, in 2004 the Corporation entered into a consulting service agreement
that provides a two percent right to indirectly participate in the future
profits the Corporation may earn in respect to the PSC, in exchange for the
provision of consulting services during the period 2004 to 2006. In
determination of profits under this agreement, the Corporation is entitled to
deduct one percent of all eligible costs, together with interest on such
percentage of eligible costs at LIBOR plus ten percent. The consultant is
required to fund the additional one percent of all eligible costs.
c) Other
The Corporation has entered into various exploration-related contracts,
including contracts for drilling equipment, services and tangibles. The
following table summarizes the commitments the Corporation has under these
exploration-related contracts and other contractual obligations at March 31,
2010:
For the Years Ending December 31, 2010
2010 2011 2012 2013 2014+ Total
----------------------------------------------------------------------------
Exploration 1,613 - - - - 1,613
Office 382 480 160 - - 1,022
----------------------------------------------------------------------------
1,995 480 160 - - 2,635
----------------------------------------------------------------------------
----------------------------------------------------------------------------
Contingencies
Litigation
From time to time the Corporation may become involved in legal or administrative
proceedings in the normal conduct of business. Amounts involved in such matters
are not reasonably estimable due to uncertainty as to the final outcome. The
Company's assessment of the likely outcome of these matters is based on its
judgment of a number of factors, including precedents and facts specific to the
matters. The Corporation does not believe these matters in aggregate will have a
material adverse effect on its consolidated financial position or results of
operations.
Regulatory
Oil and gas operations are subject to extensive controls and regulations imposed
by various levels of government that may be amended from time to time. The
Corporation's operations may require licenses and permits from various
governmental authorities in the countries in which it operates. Under the PSC,
the KRG is obligated to assist in obtaining all permits and licenses from any
government agencies in the Kurdistan Region and from any other government
administration in Iraq. There can be no assurance that the Corporation will be
able to obtain all necessary licenses and permits that may be required to carry
out exploration and development of its projects.
The political and security situation in Iraq is unsettled and volatile. The
Kurdistan Region is the only "Region" of Iraq that is constitutionally
established pursuant to the Iraq Constitution, which expressly recognizes the
Kurdistan Region. The political issues of federalism and the autonomy of the
Regions of Iraq are matters about which there are major differences between the
various political factions in Iraq. These differences could adversely impact the
Corporation's interest in the Kurdistan Region including the ability to export
any hydrocarbons as a result of our activities.
16. CHANGE IN FINANCIAL STATEMENT PRESENTATION
Certain comparative information has been changed in conformity to the current
year financial statement presentation.
17. SUBSEQUENT EVENTS
Subsequent to March 31, 2010, the Corporation encountered difficulties which
further hampered ongoing well control and sidetrack operations related to
Kurdamir-1. The Corporation is pursuing an insurance claim associated with these
well control costs.
For further details on WesternZagros Resources Ltd., please refer to the April
2010 corporate presentation available on the WesternZagros website:
http://www.westernzagros.com/documents/WZRCorporatePresentationApril2010.pdf
About WesternZagros Resources Ltd.
WesternZagros is an international natural resources company engaged in acquiring
properties and exploring for, developing and producing crude oil and natural gas
in Iraq. WesternZagros, through its wholly-owned subsidiaries, holds a
Production Sharing Contract with the Kurdistan Regional Government in the
Kurdistan Region of Iraq. WesternZagros' shares trade in Canada on the TSX
Venture Exchange under the symbol "WZR".
This news release may contain forward-looking information based on assumptions
that are subject to a wide range of business risks. WesternZagros' operations
are subject to all risks normally incident to the exploration, development and
operation of crude oil and natural gas properties and the drilling of crude oil
and natural gas wells, including geological risk, encountering unexpected
formations or pressures, premature declines of reservoirs, potential environment
damage, blow-outs, fires and spills, all of which could result in personal
injuries, loss of life and damage to property of WesternZagros and others;
environment risks; delay or changes in plans with respect to exploration or
development projects or capital expenditures; its joint venture partner's
continued participation in the exploration activities under the PSC, the ability
to attract key personnel; the risk of commodity price and foreign exchange rate
fluctuations.
All of WesternZagros' assets are located in the Kurdistan Region of Iraq. As
such, WesternZagros is subject to political, economic, and other uncertainties
of that region as well as risks of loss due to civil strife, acts of war,
guerrilla activities and insurrections. WesternZagros' operations may be
materially adversely affected by changes in government policies and legislation
or social instability and other factors which are not within its control. Risks
also include the uncertainty involved in the estimation of undiscovered
resources. For further information on WesternZagros and the risks associated
with its business, please see WesternZagros' Annual Information Form dated March
25, 2010 which is filed at www.sedar.com and on the Company's web site.
Forward-looking information typically contains statements with words such as
"anticipate", "estimate", "expect", "potential", "could", or similar words
suggesting future outcomes. We caution readers and prospective investors of the
Company's securities not to place undue reliance on forward-looking information
as by its nature, it is based on current expectations regarding future events
that involve a number of assumptions, inherent risks and uncertainties, which
could cause actual results to differ materially from those anticipated by
WesternZagros.
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