NOTES TO FINANCIAL
STATEMENTS
Encompass Energy Services, Inc. (the
“Company”) is a Delaware corporation formed on February 12, 2008 under the name Ametrine Capital, Inc. The Company
filed an amended and restated Certificate of Incorporation with the Delaware Secretary of State that changed its legal name to
New Source Energy Group, Inc. on April 18, 2011. On December 2, 2011, the Company filed another amendment to its Certificate of
Incorporation with the Delaware Secretary of State that changed its legal name from New Source Energy Group, Inc. to Encompass
Energy Services, Inc. Both the Company’s board of directors and the holder of 1,727,983 shares of the Company’s common
stock (approximately 84% of the issued and outstanding shares thereof) approved the amendment to the Company’s Certificate
of Incorporation to effectuate the name change on October 31, 2011. The approval of this amendment was described in a Definitive
Information Statement on Schedule 14C filed by the Company with the Securities and Exchange Commission and distributed to the Company’s
stockholders on November 10, 2011. Currently, the Company is not engaged in any business operation.
The accompanying financial statements
have been prepared assuming that the Company will continue as a going concern. The Company has suffered cumulative losses and cash
flow from operations since inception, currently, the Company depends on financing provided by its stockholders. The financial statements
do not include any adjustments that may result from the outcome of this uncertainty.
|
Note B.
|
Summary
of
Significant
Accounting
Policies
|
Basis of presentation.
The accompanying unaudited financial statements present the financial position at September 30, 2012 and December 31, 2011 and
the results of operations for the three and nine months ended September 30, 2012 and 2011, and cash flows for the nine months ended
September 30, 2012 and 2011 of Encompass Energy Services, Inc. These financial statements include all adjustments, consisting of
normal and recurring adjustments, which, in the opinion of management, are necessary for a fair presentation of the financial position
and the results of operations for the indicated periods. The results of operations for the nine months ended September 30, 2012
are not necessarily indicative of the results to be expected for the full year ending December 31, 2012. Reference is made to the
Company’s financial statements for the year ended December 31, 2011 included in the Company’s Annual Report on Form
10-K for such period for an expanded discussion of the Company’s financial disclosures and accounting policies.
Use of estimates in preparation
of financial statements.
The preparation of financial statements in conformity with GAAP requires management to make estimates
and assumptions that affect the reported amounts of assets and liabilities, disclosure of contingent assets and liabilities at
the dates of the financial statements, and the reported amounts of expenses during the reporting periods. Actual results could
differ from those estimates.
Fair value of financial instruments.
The Company discloses fair value measurements for financial and non-financial assets and liabilities measured at fair value. Fair
value is based on the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between
market participants at the measurement date.
4
ENCOMPASS ENERGY SERVICES,
INC.
NOTES TO FINANCIAL
STATEMENTS
The accounting standard establishes
a fair value hierarchy that prioritizes observable and unobservable inputs used to measure fair value into three broad levels,
which are described below:
Level 1: Quoted prices (unadjusted)
in active markets that are accessible at the measurement date for assets or liabilities. The fair value hierarchy gives the highest
priority to Level 1 inputs.
Level 2: Observable prices that
are based on inputs not quoted on active markets but corroborated by market data.
Level 3: Unobservable inputs are
used when little or no market data is available. The fair value hierarchy gives the lowest priority to Level 3 inputs.
Financial items carried at fair value
as of September 30, 2012 and December 31, 2011 consisted entirely of cash and cash equivalents and are classified as Level 1.
Recent accounting
pronouncements
. In December 2011, the FASB issued ASU No. 2011-11, Balance Sheet (Topic 210): Disclosures about Offsetting
Assets and Liabilities. This ASU is intended to provide enhanced disclosures that will enable users of its financial statements
to evaluate the effect or potential effect of netting arrangements on an entity’s financial position. This includes the effect
or potential effect of rights of setoff associated with an entity’s recognized assets and recognized liabilities within the
scope of this update. The amendments require enhanced disclosures by requiring improved information about financial instruments
and derivative instruments that are either (1) offset in accordance with either Section 210-20-45 or Section 815-10-45 or (2) subject
to an enforceable master netting arrangement or similar agreement, irrespective of whether they are offset in accordance with either
Section 210-20-45 or Section 815-10-45. An entity is required to apply this amendment for annual reporting periods beginning on
or after January 1, 2013, and interim periods within those annual periods. An entity should provide the disclosures required by
those amendments retrospectively for all comparative periods presented. ASU No. 2011-11 relates specifically to disclosures, it
will not have an impact on the Company’s financial statements.
In May 2011, the FASB issued ASU No.
2011-04, Fair Value Measurement (Topic 820): Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in
U.S. GAAP and IFRSs. This ASU represents the converged guidance of the FASB and the IASB (the Boards) on fair value measurement.
The collective efforts of the Boards and their staffs, reflected in ASU 2011-04, have resulted in common requirements for measuring
fair value and for disclosing information about fair value measurements, including a consistent meaning of the term “fair
value.” The Boards have concluded the common requirements will result in greater comparability of fair value measurements
presented and disclosed in financial statements prepared in accordance with U.S. GAAP and IFRSs. The amendments to the FASB Accounting
Standards Codification (Codification) in this ASU are to be applied prospectively. For public entities, the amendments are effective
during interim and annual periods beginning after December 15, 2011. Early application by public entities is not permitted. This
update did not have an impact on the Company’s financial statements.
|
Note
C.
|
Income
(loss)
per
Share
|
|
|
Nine months ended September 30,
|
|
Three months ended September 30,
|
|
|
2012
|
|
2011
|
|
2012
|
|
2011
|
1. Numerator:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income (loss)
|
|
$
|
(120,276
|
)
|
|
$
|
62,789
|
|
|
$
|
(51,715
|
)
|
|
$
|
425,170
|
|
2. Denominator:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Denominator for basic net income (loss) per share – weighted average shares outstanding
|
|
|
2,056,985
|
|
|
|
2,056,985
|
|
|
|
2,056,985
|
|
|
|
2,056,985
|
|
Dilutive effect of vested stock options
|
|
|
—
|
|
|
|
2,534
|
|
|
|
—
|
|
|
|
7,609
|
|
Denominator for diluted net income (loss) per share – weighted average shares outstanding
|
|
|
2,056,985
|
|
|
|
2,059,519
|
|
|
|
2,056,985
|
|
|
|
2,064,594
|
|
Basic income (loss) per share attributable to stockholders
|
|
$
|
(0.058
|
)
|
|
$
|
0.031
|
|
|
$
|
(0.025
|
)
|
|
$
|
0.207
|
|
Diluted income (loss) per share attributable to stockholders
|
|
$
|
(0.058
|
)
|
|
$
|
0.030
|
|
|
$
|
(0.025
|
)
|
|
$
|
0.206
|
|
5
ENCOMPASS ENERGY SERVICES,
INC.
NOTES TO FINANCIAL
STATEMENTS
Deferred income taxes.
Deferred taxes are determined by applying the provisions of enacted tax laws and rates for the jurisdictions in which the Company
operates to the estimated future tax effects of the differences between the tax basis of assets and liabilities and their reported
amounts in the Company’s financial statements. A valuation allowance is established to reduce deferred tax assets if it is
more likely than not that the related tax benefits will not be realized.
As of September 30, 2012 and December
31, 2011, the Company has provided valuation allowances of $173,000 and $53,000, respectively, for deferred tax assets resulting
from tax loss carryforwards. Management currently believes that since the Company has a history of losses it is more likely than
not that the deferred tax regarding the loss carryforwards and other temporary differences will not be realized in the foreseeable
future.
|
Note
E.
|
Abandoned
Acquisition
Efforts
|
On June 30, 2011 the board of directors
of the Company affirmatively determined that the Company abandoned its efforts to acquire certain oil and gas assets and interests
located in central Oklahoma (the “Oil and Gas Assets”) from an entity owned by the Company’s former Chairman,
David Chernicky. At the time of termination, the Company had not acquired the Oil and Gas Assets or any interest therein and had
not finalized or entered into any definitive agreement to do so. At that time, two of the Company’s directors (Messrs. Chernicky
and Albert) resigned, and another director, Mr. Kos, resigned as an officer of the Company.
During the period of time that the Company
was considering the acquisition of the Oil and Gas Assets, it expended a significant amount of time and resources in due diligence,
contract drafting and negotiation, and other activities related to the potential acquisition of the Oil and Gas Assets. During
this process, the Company (directly and through consultants) developed a significant amount of knowledge, information and work
product (collectively the “Business Opportunity and Information”).
To resolve the conflicts of interest
associated with the possible exploitation of the Business Opportunity and Information by another entity controlled by Mr. Chernicky,
the Company negotiated terms by which the Company waived any rights it had in the Business Opportunity and Information and agreed
to cooperate and provide reasonable assistance with the transfer of the Business Opportunity and Information to a potential new
purchaser (the “Waiver”). The Company delivered the Waiver on July 18, 2011 to New Dominion, LLC (“New Dominion”),
an affiliate of Mr. Chernicky. In consideration for delivering the Waiver, the Company received $600,000 in cash from New Dominion.
Largely as a result of waiving its rights to the Business Opportunity and Information and electing to potentially pursue other
opportunities in the oil and gas industry, the Company changed its name from New Source Energy Group, Inc. to Encompass Energy
Services, Inc. as further described in Note A.
6
ENCOMPASS ENERGY SERVICES,
INC.
NOTES TO FINANCIAL
STATEMENTS
As a result of the Company’s decision
to abandon its efforts to acquire the Oil and Gas Assets, the Business Opportunity and Information had little to no value to the
Company. Consequently, the board of directors determined that this did not constitute the sale by the Company of any assets but
merely a waiver of a business opportunity that the Company could not exploit.
Because of former relationships between
Mr. Kos (the other member of the Company’s board of directors) and New Dominion and its affiliates, the Company negotiated
the terms of the Waiver solely by and through its president and sole disinterested director, Antranik (Nick) Armoudian. Mr. Armoudian
was aware of the conflicts of interest and the related party nature of the transactions at the time that he negotiated and approved
the Waiver; however, he believed that under the circumstances that the terms by which the Company delivered the Waiver were fair
and in the Company’s and its stockholders’ best interests.
The Company has used the proceeds received
as a result of the Waiver primarily for the repayment of loans and other amounts owed by the Company to Mr. Kos, a former executive
officer of the Company and a current member of its board of directors, and certain affiliates of Mr. Kos, as well as the repayment
of certain obligations to other parties.
Now that the Company has abandoned the
potential acquisition of the Oil and Gas Assets, the Company hopes to identify and execute upon a new business opportunity in that
field.
|
Note
F.
|
Related
Party
Transactions
|
During 2011, Deylau, LLC, an entity
owned and controlled by the Company’s former president, advanced approximately $380,000 cash and provided $103,000 of property
and equipment to the Company in exchange for a note payable during 2011. These were demand loans and accrued interest at 5% per
annum. As of March 31, 2012, the Company had repaid these loans in full.
During 2012, Deylau, LLC advanced another
$88,500 to the Company in exchange for a note payable. This is a demand loan and accrues interest at 5% per annum. No payments
of principal or interest have been made on the 2012 loan advances as of September 30, 2012.
|
Note
G.
|
Capital
Stock
Transactions
|
On April 15, 2011, the Company caused
an amendment to its Certificate of Incorporation to be filed with the Delaware Secretary of State to effect a 0.47-for-1 combination
of the Company’s outstanding common stock (the “reverse stock split”). Then on April 18, 2011, the Company filed
an Amended and Restated Certificate of Incorporation with the Delaware Secretary of State, which amended various provisions of
the Company’s Certificate of Incorporation, including an amendment to change the company’s name from Ametrine Capital,
Inc. to New Source Energy Group, Inc. Subsequently, the Company filed another amendment to its Certificate of Incorporation with
the Delaware Secretary of State, which changed the Company’s name to Encompass Energy Services, Inc. on December 2, 2011.
7
ENCOMPASS ENERGY SERVICES,
INC.
NOTES TO FINANCIAL
STATEMENTS
Reverse stock split.
The
reverse stock split was effective under Delaware law on April 15, 2011. Under Delaware law, upon the reverse stock split becoming
effective, each share of the Company’s common stock that was issued and outstanding automatically became 0.47 shares without
any change in the par value of such shares; 1,000 shares became 470 shares. The reverse stock split did not serve to decrease or
otherwise effect the Company’s authorized capital. No fractional shares were issued in connection with the reverse stock
split. Stockholders who were entitled to a fractional share, if any, instead received a whole share.
The reverse stock split affected all
holders of the Company’s common stock uniformly and did not affect any stockholder’s percentage ownership interest
in the Company, except to the extent the reverse split resulted in any holder being granted a whole share for any fractional share
that resulted from the reverse stock split.
Before the reverse stock split, 4,376,559
shares were outstanding. Following the reverse stock split, there are approximately 2,056,985 shares outstanding. The loss per
share and weighted average shares outstanding presented in the statement of operations have been restated to reflect the reverse
stock split. The share capital and additional paid-in capital have also been restated to reflect the reverse stock split. Accordingly,
$23,197 was reclassified from share capital to additional paid-in capital in 2011.
Amended and restated certificate
of incorporation.
The Amended and Restated Certificate of Incorporation and each of the amendments contained therein became
effective under Delaware law on April 18, 2011. The Amended and Restated Certificate of Incorporation amended several provisions
of the Company’s Certificate of Incorporation. Among the amendments effected in the Amended and Restated Certificate of Incorporation
were:
|
·
|
An increase to the Company’s authorized capital to 200,000,000 shares comprised of 180,000,000
shares of common stock and 20,000,000 shares of preferred stock.
|
|
·
|
The addition of provisions intended to more accurately define the limitations of liability as provided
in Section 102(b)(7) of the General Corporation Law of Delaware, as well as to add provisions regarding indemnification and the
advancement of expenses.
|
|
·
|
The addition of a provision with respect to the limitation of liability of the officers, directors,
and other agents of the Company and with respect to the Company’s indemnification obligations, may only be amended by the
affirmative vote of two-thirds of the votes entitled to be cast on any proposal to repeal or modify such provisions.
|
|
·
|
Other conforming and/or non-substantive amendments to the Certificate of Incorporation.
|
8
ENCOMPASS ENERGY SERVICES,
INC.
NOTES TO FINANCIAL
STATEMENTS
As described in Note A, the Company
changed its name from New Source Energy Group, Inc. to Encompass Energy Services, Inc. on December 2, 2011 and filed another amendment
to its Certificate of Incorporation to effectuate this change.
|
Note
H.
|
Changes
in
Officers
and
Directors
/
Outstanding
Stock
Option
|
On June 30, 2011, Antranik Armoudian
was appointed to the Company’s board of directors and also as the Company’s president, chief executive officer, chief
financial officer, secretary, and treasurer. There was no arrangement or understanding pursuant to which Mr. Armoudian was appointed
as a director or executive officer, except that the Company has agreed to pay Mr. Armoudian an annual salary of $25,000. The Company
also granted Mr. Armoudian a stock option to acquire 50,000 shares of the Company’s common stock at an exercise price of
$0.10 per share and exercisable for a ten year term, expiring June 30, 2021. Ten thousand shares vested upon the Company completing
the transfer of the Business Opportunity and Information, and the remaining 40,000 shares will vest when, and if, the Company completes
the acquisition of a business opportunity and files a current report on Form 8-K (or other appropriate form) reporting such acquisition
or transaction.
During 2011, 50,000 stock options were
granted (being the option to Mr. Armoudian described above) with a weighted-average grant date fair value of $0.85824. Assumptions
used in the Company’s Black-Scholes valuation model to estimate the grant date fair value were expected volatility of 50%,
expected dividends of 0%, expected term of 5 years, and a risk-free interest rate of 1.75%.
During 2011, the Company recognized
expense of $8,500 related to the vesting of 10,000 stock options as described above. As of September 30, 2012, there was $34,412
of total unrecognized compensation cost related to stock options. That cost is expected to be recognized if an acquisition of a
business opportunity is completed within the ten years of the grant date.
The following table summarizes the Company’s
stock option activity for the nine months ended September 30, 2012:
|
|
Nine months ended September 30, 2012
|
|
|
Number of Options
|
|
Weighted-Average Exercise Price
|
Beginning Balance
|
|
|
50,000
|
|
|
$
|
0.10
|
|
Granted
|
|
|
—
|
|
|
|
—
|
|
Exercised
|
|
|
—
|
|
|
|
—
|
|
Forfeited
|
|
|
—
|
|
|
|
—
|
|
Ending Balance
|
|
|
50,000
|
|
|
$
|
0.10
|
|
9
ENCOMPASS ENERGY SERVICES,
INC.
NOTES TO FINANCIAL
STATEMENTS
The following table summarizes information
about the Company’s options outstanding and exercisable as of September 30, 2012:
|
|
Options Outstanding
|
|
Options Exercisable
|
|
|
|
|
|
|
|
Weighted-Average
|
|
|
|
Weighted-Average
|
|
|
Exercise
Price
|
|
|
Options
Outstanding
|
|
|
Remaining
Contractual
Life
|
|
|
|
Exercise
Price
|
|
|
|
Options Exercisable at September 30, 2012
|
|
|
|
Remaining Contractual Life
|
|
|
|
Exercise Price
|
|
$
|
0.10
|
|
|
50,000
|
|
|
8.75
|
|
|
$
|
0.10
|
|
|
|
10,000
|
|
|
|
8.75
|
|
|
$
|
0.10
|
|
There are no family relationships between
Mr. Armoudian and any current or former Company executive officer or director. Except for the salary to be paid to Mr. Armoudian
and the option grant described above, there have been no previous transactions between Mr. Armoudian and the Company and/or any
of its current or former affiliates in which Mr. Armoudian had a direct or indirect interest.
|
Note
I.
|
Subsequent
Events
|
Effective
October 1, 2012, the Company’s board of directors approved a salary increase for Mr. Armoudian from $25,000 to $150,000 annually.
The
Company has evaluated subsequent events through the date the financial statements were issued and determined that no events, others
than those disclosed within the footnotes hereto, have occurred subsequent to September 30, 2012 that warrant additional disclosure
or accounting considerations.
10