Item 1. Business
Our Business
GreenHunter was incorporated in the State of Delaware on June 7, 2005 and was originally intended to be the first publicly traded renewable energy company based in the United States that provided investors a portfolio of diversified assets in the alternative energy sector. Our original business plan was to acquire businesses, develop projects and operate assets in the renewable energy sectors of biomass, biodiesel, wind, solar, geothermal and clean water. We intended to become a leading provider of clean energy products offering residential, business and industrial customers the opportunity to purchase and utilize clean energy generated from renewable sources. Headquartered in Grapevine, Texas, we were formed with the aim of changing the way power and renewable energy fuels are produced and ultimately distributed.
Over the last eighteen months, we have implemented a new business strategy of focusing on the water resource management business as it relates to the oil and gas industry, which we describe in further detail below. It is our intention to develop water solutions required for shale or “unconventional” oil and gas exploration, which includes salt water disposal wells, water recycle and reuse facilities, trucking and barge transportation, environmental clean-up and water storage equipment rental. Oil and natural gas wells generate produced water which is water from underground formations that is brought to the surface during the normal course of oil or gas production operations. Since this water has been in contact with hydrocarbon-bearing formations, it contains some of the chemical characteristics of the formations and the hydrocarbons. We have identified water reuse and water management in the oil and natural gas industry as a significant growth opportunity for the foreseeable future and are currently exploring various alternatives to develop this segment of our operations through existing relationships, joint ventures, targeted acquisitions and development of water management technologies.
As part of this new strategic initiative, we have acquired or leased properties in the Marcellus, Utica, Eagle Ford, Bakken Shale and Mississipian Lime areas located in Appalachia, South Texas, Eastern Montana and Oklahoma, respectively. We have developed commercial water service facilities on most of these properties and we have the intention to further develop barge transport capabilities along existing navigable inland waterways in the Appalachian region. In addition, we are currently deploying a modular above-ground temporary water storage system in the Marcellus Shale and have entered and are installing an onsite semi-portable water treatment facility in this region. In response to requests from current and prospective customers, we have designed and engineered, fabricated and patented a proprietary next-generation modular above-ground water storage system. We continue to evaluate alternatives and possibly license new technologies to treat water and other fluids associated with the production of oil and natural gas for reuse. We also provide well pad construction and rig cleaning services in South Texas as a result of an acquisition that was completed on December 31, 2012.
In addition, during 2013, the Company is considering the following services related to the water resource management business:
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transportation of hydrocarbons -the Company may pickup hydrocarbons and/or liquid natural gas in addition to produced water from oil and/or gas wells. The Company will transport this product to terminals, barges or a refinery and earn revenue based upon transportation of the hydrocarbons.
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hot oiler service - the Company may enter into the hot oil business providing frac water heating and/or other services required for oil and or gas wells in colder climates.
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pipeline and transportation - the Company may enter into the water pipeline construction and transportation business. This service involves laying permanent and/or temporary water lines to transport produced liquids.
Hydraulic Fracturing
Recent improvements in drilling and completion technologies have unlocked large reserves of hydrocarbons in multiple unconventional resources plays in North America. These new drilling methods often involve a procedure called hydraulic fracturing or hydrofracking. This process involves the injection of large amounts of water, sand and chemicals under high pressures into rock formations to stimulate production. Unconventional wells can require more than four million gallons of water to complete a hydrofracking procedure. Some portion of the water used in the exploration and production process will return to the surface as a by-product or waste stream; this water is commonly referred to by operators in the oil and gas industry as frac-flowback. In addition to frac-flowback, oil and natural gas wells also generate produced salt water, or formation brine, which is water from underground formations that is brought to the surface during the normal course of oil or gas production. Because the water has been in contact with hydrocarbon-bearing formations, it contains some of the chemical characteristics of the formations and the hydrocarbons. The physical and chemical properties of produced water vary considerably depending on the geographic location of the field, the geologic formation, and the type of hydrocarbon product being produced.
Produced water properties and volume also vary through the lifetime of a reservoir. Produced water is the largest volume by-product or waste stream associated with oil and gas exploration and production. Although the details on generation and management of produced water are not well understood on a national scale, the U.S. Department of Energy’s National Energy Technology Laboratory (NETL) estimates that the total volume of produced water generated by U.S. onshore and offshore oil and gas production activities in 2007 was nearly 21 billion barrels, or 882 billion gallons.
While produced water (also known as formation water, oil field brine, or brine, due to its high salinity content) can be reused if certain water quality conditions are met, approximately 95 percent of U.S. onshore produced water generated by the oil and gas industry is disposed of by using high-pressure pumps to inject the water into underground geologic formations or is discharged under National Pollutant Discharge Elimination System (NPDES) permits. The remaining 5 percent is managed through beneficial reuse or disposed through other methods including evaporation, percolation pits, and publicly owned treatment works.
Federal and state legislation and regulatory initiatives relating to hydraulic fracturing are expected to result in increased costs and additional operating restrictions for oil and gas explorers and producers. Congress is currently considering legislation to amend the federal Safe Drinking Water Act to require the disclosure of chemicals used by the oil and natural gas industry in the hydraulic fracturing process. Sponsors of two companion bills, which are currently pending in the House Energy and Commerce Committee and the Senate Committee on Environment and Public Works Committee have asserted that chemicals used in the fracturing process could adversely affect drinking water supplies. The proposed legislation would require the reporting and public disclosure of chemicals used in the fracturing process, which could make it easier for third parties opposing the hydraulic fracturing process to initiate legal proceedings based on allegations that specific chemicals used in the fracturing process could adversely affect groundwater. In addition, this legislation, if adopted, could establish an additional level of regulation at the federal level that could lead to operational delays or increased operating costs and could result in additional regulatory burdens for oil and natural gas operators. Several states are also considering implementing, or in some instances, have implemented, new regulations pertaining to hydraulic fracturing, including the disclosure of chemicals used in connection therewith. The adoption of any future federal or state laws or implementing regulations imposing reporting obligations on, or otherwise limiting, the hydraulic fracturing process would make it more difficult and more expensive to complete new wells in the unconventional shale resource formations and increase costs of compliance and doing business for oil and natural gas operators.
Our management, which has significant background in the oil and gas industry, has identified water reuse and water management opportunities in the energy industry as a significant growth opportunity and is exploring various ways to reposition us to serve this growing segment through joint ventures, targeted acquisitions and development of water management technologies including underground injection for disposal, evaporation, pre-treatment of water for underground injection for increasing oil recovery, offsite commercial disposal, onsite remediation and beneficial reuse.
GreenHunter Water, LLC, or GreenHunter Water, our wholly-owned subsidiary, is focused on water resource management specifically as it pertains to the unconventional oil and natural gas shale resource plays with current business operations in the Appalachian, Oklahoma and South Texas basins. GreenHunter Water is committed to
providing a full range of solutions to address producers’ current needs and is built upon an identified need in the oilfield, to deliver a Total Water Management Solution™ to our customer base through long term agreements. Our Total Water Management Solutions™ are custom developed to meet producers’ water resource planning needs. These solutions include owning and operating saltwater disposal facilities, transportation of fluids, frac tank rentals, above ground storage tanks, mobile and permanent water treatment technologies and remote asset tracking to provide as value added services to our customers.
Disposal Wells
Typically, shale wells produce significant amounts of water that, in most cases, require disposal. The Underground Injection Control Program (UIC Program) of the United States Environmental Protection Agency (EPA) is responsible for regulating the construction, operation, permitting, and closure of injection wells that place fluids underground for storage and disposal. The UIC Program designates five separate injection well classes based on similarity in the fluids injected, activities, construction, injection depth, design, and operating techniques. This categorization ensures that wells with common design and operating techniques are required to meet appropriate performance criteria for protecting underground sources of drinking water (USDWs). GreenHunter Water owns, operates and is developing Class II wells for the injection of brine and other fluids that are associated with oil and gas production. GreenHunter Water presently owns and operates or is currently developing or considering the acquisition of salt water disposal facilities located in the States of Ohio, West Virginia, South Texas, Montana, North Dakota and Oklahoma to service the Marcellus, Utica, Eagle Ford, Bakken, Mississippian and Anadarko Woodford Shale plays, respectively.
We currently operate commercial salt water disposal wells in three geographic unconventional shale regions. The total number of commercial saltwater disposal wells in operation by the Company today are eleven.
In Appalachia we own and operate eight commercial salt water disposal (SWD) wells with a total combined permitted daily injection capacity of 13,000 bbl/d. In Noble County, Ohio we own and operate two SWD wells with total injection capacity of 4,500 bbl/d. These two SWD wells were acquired on February 17, 2012 along with a SWD well in Lee County, Kentucky. Due to the strong demand for salt water related services in the Marcellus and the evolving Utica Shale plays, utilization rates at the Noble County, Ohio SWD wells have been at or near 100% capacity for most of the 2012 calendar year. Nearly all of the daily capacity in the Noble County, Ohio SWD wells have been reserved under multiple disposal capacity contracts with major oil and gas companies and large independent exploration and production companies active in the region. These capacity contracts also typically contain rights for us to provide fluid transportation trucking on a first-call basis.
The Lee County, Kentucky SWD well has a total permitted capacity of 1,200 bbl/d. Management is presently exploring various options to increase usage at the Kentucky facility by leveraging a combination of truck hauling and barge logistics since this property is underutilized.
In Meigs County, Ohio, we own and operate one SWD well with a total permitted capacity of 2,000 bbl/d which became operational July 16, 2012. In Washington County, Ohio, we own and operate two SWD wells with a total permitted capacity of 2,200 bbl/d, one of which became operational in November of 2012 and the other became operational in 2013. In Ritchie County, West Virginia, we own and operate two SWD wells with a total permitted capacity of 3,500 bbl/d which became operational in August 2012. Our Appalachia SWD wells and associated assets predominately serve exploration and production companies that are active in the Marcellus and Utica Shale plays in the states of Pennsylvania, Ohio and West Virginia.
In South Texas, we own and operate four commercial SWD wells with a total combined permitted injection capacity of 85,000 bbl/d. In Karnes County, Texas, we own and operate two SWD wells with total injection capacity of 35,000 bbl/d. One of these SWD wells commenced operations on September 22, 2012 and has permitted injection capacity of 10,000 bbl/d. The other Karnes County, Texas, SWD well commenced operations on January 23, 2013 and has permitted injection capacity of 25,000 bbl/d. In Frio County, Texas, we own and operate one SWD well that has permitted injection capacity of 25,000 bbl/d which commenced operations on January 11, 2013. In DeWitt County, Texas, we own and operate one SWD well that has permitted injection capacity of 25,000 bbl/d and that commenced operations on March 8, 2013.
In Oklahoma, we own three commercial SWD wells with a total combined permitted injection capacity of 20,000 bbl/d. In Canadian County, Oklahoma we own and operate one SWD well that has permitted injection capacity of 10,000bbl/d. In Kingfisher County, Oklahoma we own and operate one SWD well that has permitted injection capacity of 6,000 bbl/d. These two SWD wells were acquired on May 1, 2012 and began operations in July 2012. A third SWD well located in Washita County, Oklahoma, was also acquired on May 1, 2012 and has permitted injection capacity of 4,000 bbl/d. Management has determined the non-operational Washita County, Oklahoma SWD well to be non-strategic and is exploring the possibility of divesting this asset.
In Montana and North Dakota, we have three active leases and two UIC permits for SWD wells. We estimate combined injection capacity of 30,000 bbl/d when the wells are eventually drilled, completed and operational. We expect to receive all necessary permits for these SWD facilities during the second quarter of 2013 and we plan to drill these SWD wells and complete surface facilities upon receipt of financing. Expected capital expenditures for these SWD facilities will be approximately $10.5 million. Our Montana and North Dakota SWD wells and associated assets will serve exploration and production companies that are active in the Three Forks Sanish and Bakken Shale plays.
Fluids Handling, Hauling and Barging
Produced water and frac-flowback is hauled from its origin at the oilfield tank battery or drilling pad to the disposal location via truck transport. Truck operators are required to possess commercial driver licenses (CDL) and the trucks are registered with the U.S. Department of Transportation (DOT) and respective State agencies in which the trucks will operate. Depending on the state and contents of the load, trucks are labeled with placards that read “Residual Waste” or “Brine” and may be required to display a DOT-407 placard if the contents are flammable or combustible as may occur when condensate “drip” gas is withdrawn from the tank battery alongside the water. Trucks typically used for hauling waste brine range in capacity from 80 barrel “bobcats” to 130 barrel “tankers” equipped with vacuum pumps and producers of the waste product are charged for hauling at pre-determined hourly rates which vary depending on size and often include an accounting of the return “dead-head” trip.
In addition to hauling fluids by truck, we are exploring various alternative means of water transport that include temporary and permanent above-ground or below-ground pipeline systems, and the use of rail and barge transport. The primary objectives are reducing road traffic while maintaining adherence to current and expected future environmental regulations, improving safety for the neighboring communities, our employees and the
employees of our customers, and ultimately reducing our customers’ total cost of water management while generating improved returns on our deployed capital. As of December 31, 2012, our Appalachia division operated 26 vacuum water hauling trucks. During calendar 2012, our Appalachia truck assets transported more than 810,763 barrels of oilfield brine, frac-flowback and fresh water.
As of December 31, 2012, the Company closed on the acquisition of two oilfield water service and construction companies that provide services to oil and natural gas producers in the Eagle Ford Shale. The two entities, White Top Oilfield Construction, LLC (White Top) and Black Water Services, LLC (Black Water), with common management, have been providing services since 2008 to operators active in the Eagle Ford Shale play. Combined assets acquired include twenty six (26) vacuum water hauling trucks, ten (10) dump trucks, six (6) drilling rig wash trailers and seven (7) pieces of heavy equipment. The two businesses are located in the town of Louise, Wharton County, Texas, and have 66 employees. White Top and Black Water service E&P operators predominantly concentrated in the Texas counties of Gonzales, Karnes and DeWitt.
GreenHunter Water has identified low cost water hauling capacity as a constrained resource in our target areas of operation and we are actively pursuing contracts for traditional hauling and advanced logistics services as part of our Total Water Management Solutions portfolio offering. In March 2012, we entered into a five year lease for an existing truck and barge transloading and water storage facility located in Washington County, Ohio. The existing facility and infrastructure is ideally positioned on the Ohio River in the heart of the Marcellus and evolving Utica Shale resource plays and serves as a strategic operating base for GreenHunter’s Appalachia water management businesses. Originally constructed in 1966 by Mobil Oil, the approximate 10 acre facility contains 70,000 barrels (BBL) of functional bulk liquids storage tank capacity, a barge transloading station, a covered loading station with multiple truck servicing bays and office space. The two 20,000 BBL tanks and one 30,000 BBL tank were originally used for gasoline storage until they were decommissioned in 1990 and now serves as temporary fluids storage of fresh water and production water. The barge terminal assets located on the Ohio River has enabled GreenHunter Water to significantly increase the Company’s current logistics capabilities.
On March 13, 2013, the Company acquired a 10.8 acre barging terminal facility located in Wheeling, Ohio County, West Virginia. Previously utilized as a gasoline storage facility, the Company has fully engineered plans to convert the location into a water treatment, recycling and condensate handling logistics terminal with operations scheduled to begin in the third quarter of 2013. Management anticipates commencing construction in mid-April, 2013. The current plan for the terminal is to convert the existing 11,000 square foot warehouse into a water recycling station and build up to 19,000 barrels of water tank storage. The Company will employ a vibration separation nano-filtration system at the barge terminal to remove suspended solids from oilfield brine. Oilfield producers will be given the option to reuse remediated fluids under our Frac-Cycle™ services offering (which can be scaled to 10,000 barrels per day at the terminal) or take advantage of our advanced barge logistics capabilities to significantly reduce residual waste transportation costs.
* excludes White Top and Blackwater vacuum trucks
Equipment and Tank Rentals and MAG Tank™
GreenHunter Water has a large variety of equipment and tanks for rental. Products available in the Eagle Ford and Marcellus Shale areas include the following: 500 BBL Frac Tanks, 425 BBL Weir Tanks and temporary above ground storage tanks to replace frac ponds, available in unlimited size configurations and Frac manifolds.
In late 2011 and early 2012, we deployed a next-generation above ground temporary water storage and frac-flowback recycling system in the Marcellus Shale. The project included the treatment of a gel frac-flowback and multiple sources of flowback water blended together. The treatment also served as a proof of concept for our MAG Tank™ product line. Subsequently, we contracted with an engineering firm to engineer and design a proprietary
MAG Tank™ product line. The feedback received from our customer base was that a single tank size was not adequate, so we designed a flexible footprint for the MAG Tank™ allowing a larger variety of storage capacities and configurations. MAG Tank’s™ advanced next-generation design features a modular approach with standardized interlocking panels. Containment capacities start at 11,000 bbls with designs that exceed 100,000 bbls. MAG Tank™ employs reusable, portable and sturdy steel panel wall units that enable quick assembly and disassembly. A disposal impermeable liner and geotextile substrate provides water containment and a puncture resistant ground covering.
We selected two fabrication companies to build our first model MAG Tank™. The two fabrication companies, one being based in Ft. Worth, Texas, and the other based in Morgan City, Louisiana, will currently allow for mass production of six MAG Panels™ per day scalable when required. After site preparation, a MAG Tank™ is typically installed in two days. In early 2013, we deployed our first MAG Tank™ and proved its viability with significant testing performed. We anticipate receiving orders for purchase of this new product to be deployed during the second quarter of 2013. Our MAG Panel™ design is proprietary and we expect to receive patents on certain design elements. Moreover, we are making the MAG Tanks™ available to our customers either for purchase or for lease. The key benefits of the MAG Tank™ relative to competing products are lower cost of storage and a significant reduction in the environmental impact due to reduced truck traffic.
Frac-Cycle™
Frac-Cycle is the general name for our water treatment service. We use a vendor neutral and technology agnostic approach to treat oilfield water. Due to the unique characteristics of water from different shale plays and unique flow-back within a single basin, GreenHunter Water, in consultation with operators, has determined that no one water reuse system is ideal for all areas. We have evaluated multiple technologies and selected those that provide cost-effective solutions for the desired level of treatment for the operator’s needs. While most operators are targeting a clean brine output, Frac-Cycle’s flexible design allows our customers to process flow-back or produced water and recycle to either clean brine or fresh water. Recycled water can be used in subsequent frac jobs and in some cases an NPDES permit can be obtained to discharge fresh water into a stream.
We expect to enter into definitive agreements to install and operate multiple riverside water treatment facilities in the Marcellus Shale area. Two of these water treatment facilities will be located along the Ohio River at the Washington County, Ohio and the Ohio County, West Virginia barge transloading and bulk storage facilities that we already own or lease and operate. We are also evaluating alternatives to acquire or license technologies to treat water used in hydraulic fracturing.
RAMCAT™
RAMCAT (Remote Access Management Compliance Asset Tracking) by GreenHunter Water is a cutting-edge, well-head management system and compliance tool that bundles a unique combination of proprietary software, advanced hardware and industry-standard communications technologies to provide an extremely powerful, effective and user-friendly method for remote activity observation via a web-based portal for management of well-head fluids. RAMCAT includes online data monitoring which provides oil and natural gas producers near real-time dynamic information on fluid levels, tank temperature, recent transactions, date and time of on-load and off-load, truck and driver identification, H2S and critical condition alarms, battery voltage, and more. The RAMCAT system enables closed-loop accountability of all well-head produced water and offers best-in-class environmental and regulatory compliance.
RAMCAT revenues are comprised of hardware sales (realized at installation) and communications services (realized on a recurring basis over the term of the contract). In addition to margins associated with these revenues, we believe our “inside the fence” presence with an operator will provide a basis from which to offer other products and services. When coupled with our state-of-the-art fluids transportation fleet and Class II Underground Injection Control compliant salt water disposal facilities, RAMCAT ensures cradle-to-grave monitoring of oilfield fluid waste streams that exceeds U.S. EPA standards.
Each of these safety features was addressed during 2011 by GreenHunter Water in the original design specification of our products and are provided as basic features of RAMCAT which are currently deployed and operational on existing properties located in Ohio.
Marketplace Opportunity
Unconventional hydrocarbon production continues to grow as a percentage of all domestic onshore production in the United States. In almost all cases, water disposal will be an associated by-product of this production. Currently, producers can either manage their own water disposal and facilities, or they can contract with third party service providers. Based upon our industry research, we do not believe that there is any one, third party water disposal company that would account for meaningful marketshare in any of the basins we are currently targeting to provide our services. Furthermore, given the smaller independent nature of these third-party service providers, we believe that they may face more obstacles in meeting ever-changing regulatory requirements. In addition, most producers view water disposal for what it is, a by-product of their primary business of producing hydro-carbons. As a result, we believe that if we can demonstrate a complete water management/disposal product offering in multiple basins, we could position GreenHunter to become a true service provider to larger producers operating across multiple basins as a one-stop solution.
Governmental Regulation
Our business is subject to extensive and evolving federal, state or provincial and local environmental, health, safety and transportation laws and regulations. These laws and regulations are administered by the U.S. EPA and various other federal, state and local environmental, zoning, transportation, land use, health and safety agencies in the United States. Many of these agencies regularly examine our operations to monitor compliance with these laws and regulations and have the power to enforce compliance, obtain injunctions or impose civil or criminal penalties in case of violations. In recent years, the oil and gas industry that we serve has perceived an increase in both the amount of government regulation and the number of enforcement actions being brought by regulatory entities against operations in related industries. We expect this heightened governmental focus on regulation and enforcement to continue.
The primary United States federal statutes affecting our business are summarized below:
The Safe Drinking Water Act (SDWA) is the primary statute that governs injection wells. Although as early as the 1930s a few States had regulations concerning discharges to ground water, the regulations were primarily concerned with communication with surface water or subsurface oil reservoirs. By the mid 1960s, State agencies were actively involved with ground water pollution issues. Federal authority for ground water and injection wells began in 1972. Although ground water was not specifically addressed by the Clean Water Act of 1972, Congress required that, in order to qualify for participation in the National Pollutant Discharge Elimination System (NPDES) permitting program, States must have adequate authority to issue permits that control the “disposal of pollutants into wells.”
In 1974, with the enactment of the Safe Drinking Water Act (SDWA), the Federal government took an active role in underground injection control. During deliberations for SDWA in 1974, Congress recognized the existence of a wide variety of injection wells, and struggled to provide a statutory definition that might include all possible injection types and practices. Congress included the “deeper than wide” specification in order to distinguish injection wells from pits, ponds, and lagoons, which were the subject of a different Federal initiative.
Thus, injection through a well is defined as the subsurface emplacement of fluids through a bored, drilled, or driven well or through a dug well where the depth of the dug well is greater than the largest surface dimension; or a dug hole whose depth is greater than the largest surface dimension; or an improved sinkhole; or a subsurface distribution system.
Since 1980, more than 150 Federal Register notices have been published regarding UIC, including additional regulations, amended regulations, explanations of procedures, and guidance. The UIC program was EPA’s major tool to protect ground water until the 1986 Amendments. In 1986, Congress created a larger Federal role in the protection of all ground water from sources other than underground injection. The definition of a UIC well was updated in December 1999, and the new definition makes it clear that many systems not typically thought of at first as a “well” actually meet the definition. The updated definition includes systems such as field tile systems, large capacity septic systems, mound systems and leach beds.
SDWA was amended in 1977, 1979, 1980 and again in 1986. Additionally, Congress reauthorized and amended SDWA in 1996. Many of the changes to the Act over time were focused on procedures to be followed by EPA and/or State UIC programs. Some very significant impacts were felt in the program, however, when
Section 1425 was added in 1980. Section 1425 allows a State to obtain primacy from EPA for oil and gas related injection wells, without being required to adopt the complete set of applicable Federal UIC regulations. The State must be able to demonstrate that its existing regulatory program is protecting USDWs without the State regulations being as stringent as Federal rules.
The Occupational Safety and Health Act of 1970, as amended, establishes certain employer responsibilities, including maintenance of a workplace free of recognized hazards likely to cause death or serious injury, compliance with standards promulgated by the Occupational Safety and Health Administration, and various reporting and record keeping obligations as well as disclosure and procedural requirements. Various standards for notices of hazards, safety in excavation and demolition work and the handling of asbestos, may apply to our operations. The Department of Transportation and OSHA, along with other federal agencies, have jurisdiction over certain aspects of hazardous materials and hazardous waste, including safety, movement and disposal. Various state and local agencies with jurisdiction over disposal of hazardous waste may seek to regulate movement of hazardous materials in areas not otherwise preempted by federal law.
The Comprehensive Environmental Response, Compensation and Liability Act, referred to as “CERCLA” or the Superfund law, and comparable state laws impose liability, potentially without regard to fault or legality of the activity at the time, on certain classes of persons that are considered to be responsible for the release of a hazardous substance into the environment. These persons include the current or former owner or operator of the disposal site or sites where the release occurred and companies that disposed or arranged for the disposal of hazardous substances that have been released at the site. Under CERCLA, these persons may be subject to joint and several liability for the costs of investigating and cleaning up hazardous substances that have been released into the environment, for damages to natural resources and for the costs of some health studies. In addition, neighboring landowners and other third parties may file claims for personal injury and property damage allegedly caused by hazardous substances or other pollutants released into the environment.
The federal Solid Waste Disposal Act, as amended by the Resource Conservation and Recovery Act of 1976, referred to as “RCRA,” regulates the management and disposal of solid and hazardous waste. Some wastes associated with the exploration and production of oil and natural gas are exempted from the most stringent regulation in certain circumstances, such as drilling fluids, produced waters and other wastes associated with the exploration, development or production of oil and natural gas. However, these wastes and other wastes may be otherwise regulated by the EPA or state agencies. Moreover, in the ordinary course of our operations, industrial wastes such as paint wastes and waste solvents may be regulated as hazardous waste under RCRA or considered hazardous substances under CERCLA.
We currently own or lease, and have in the past owned or leased, and intend in the future to own or lease a number of properties that have been used as service yards in support of oil and natural gas exploration and production activities. Although we have utilized operating and disposal practices that we considered standard in the industry at the time, there is the possibility that repair and maintenance activities on rigs and equipment stored in these service yards, as well as fluids stored at these yards, may have resulted in the disposal or release of hydrocarbons or other wastes on or under these yards or other locations where these wastes have been taken for disposal. In addition, we own or lease properties that in the past were operated by third parties whose operations were not under our control. These properties and the hydrocarbons or wastes disposed thereon may be subject to CERCLA, RCRA and analogous state laws. Under these laws, we could be required to remove or remediate previously disposed wastes or property contamination.
In the course of our operations, some of our equipment may be exposed to naturally occurring radiation associated with oil and natural gas deposits, and this exposure may result in the generation of wastes containing naturally occurring radioactive materials, or “NORM.” NORM wastes exhibiting trace levels of naturally occurring radiation in excess of established state standards are subject to special handling and disposal requirements, and any storage vessels, piping and work area affected by NORM may be subject to remediation or restoration requirements. Because many of the properties presently or previously owned, operated or occupied by us have been used for oil and natural gas production operations for many years, it is possible that we may incur costs or liabilities associated with elevated levels of NORM.
Environmental Law Compliance Costs
We are subject to various federal, state and local environmental laws and regulations that establish standards and requirements for protection of the environment. We cannot predict the future impact of such standards and requirements which are subject to change and can have retroactive effectiveness. We continue to monitor the status of these laws and regulations. Our management believes that the likelihood of new environmental regulations resulting in a material adverse impact to our financial position, liquidity, capital resources or future results of operations is unlikely.
Currently, we have not been fined, cited or notified of any environmental violations that would have a material adverse effect upon our financial position, liquidity or capital resources. However, our management does recognize that by the very nature of our business, material costs could be incurred in the near term to maintain compliance. The amount of such future expenditures is not determinable due to several factors, including the unknown magnitude of possible regulation or liabilities, the unknown timing and extent of the corrective actions which may be required, the determination of our liability in proportion to other responsible parties and the extent to which such expenditures are recoverable from insurance or indemnification.
Customers & Contracts
The amount of water that can be disposed of in any one facility is dependent upon both regulatory permits, as well as the ability of the underground, geologic formation to accept or absorb the waste water. As a result, the amount of waste water that GreenHunter will be able to dispose of at any one time will be finite. We expect as a result, that we will enter into long-term disposal contracts with producers whereby we will assure them as certain amount of disposal capacity for their utilization. Our goal would be to enter into take-or-pay contracts whereby we provide a certain amount of disposal capacity that is paid for by the producer, whether they actually utilize that capacity or not. As a result, we believe that we could enter into long-term contracts with a certain level of assured revenue.
In addition, based upon disposal capacity versus demand for our services, we anticipate that we could enter contracts subject to us being able to increase our disposal capacity through additional acquisition, or disposal well drilling. In this scenario, we would have a comfort level as to the potential revenue and profit to be recognized prior to undertaking any capital expenditure, thereby reducing its growth risk.
As a customer base is secured, with long-term disposal contracts, we anticipate that we will be able to broaden our product offering to increase our net revenue per barrel through the various other services that we provide.
Permits and Regulatory Compliance
We operate 11 water disposal facilities. Each of these facilities is permitted to inject non-hazardous oil and gas waste into an Underground Injection Control (UIC) Class II disposal wells. These deep wells have been drilled in certain acceptable geologic formations far below the base of fresh water to a point that is safely separated by other substantial geological confining layers according to environmental laws that are administered under the auspices of the federal government or states with delegated authority. We are actively seeking UIC Class II disposal permits for additional facilities that we intend to develop and operate.
We recently announced our intention to utilize barges for the transport of oilfield brine in order to reduce the number of truck hours on county, state and federal roads. We intend to own or lease and operate barge trans loading or transfer stations in the Appalachia region along the Ohio River and its tributaries, among other rivers. Our plan is to consolidate brine water at these stations and transport the product along navigable waterways in vessels (such as double-hulled barges) that are specifically built for this purpose. Under U.S. law, vessel operators must report domestic waterborne commercial movements to the U.S. Coast Guard. Vessel types include dry cargo ships & tankers, barges (loaded & empty), towboats (with or without barges), tug, crew & supply boats to offshore locations and new vessels from shipyards to point of delivery. Vessels idle are also reported. We are currently in talks with the U.S. Coast Guard and various state agencies to determine and obtain the requisite permits for such activities and we have engaged a consultant to help us expedite our permit application process for these activities.
Because the major component of our business is the collection and disposal of oilfield residual brine in an environmentally sound manner, a significant amount of our capital expenditures are related, either directly or indirectly, to environmental protection measures, including compliance with federal, state and local provisions that regulate the placement of oilfield residual brine into the environment. There are costs associated with siting, design, operations, monitoring, site maintenance, corrective actions, financial assurance, and facility closure and post-closure obligations. In connection with our acquisition, development or expansion of a Class II injection facility or transfer station, we must often spend considerable time, effort and money to obtain or maintain required permits and approvals. There cannot be any assurances that we will be able to obtain or maintain required governmental approvals. Once obtained, operating permits are subject to renewal, modification, suspension or revocation by the issuing agency. Compliance with current and any future regulatory requirements could require us to make significant capital and operating expenditures. However, most of these expenditures are made in the normal course of business and do not place us at any competitive disadvantage.
We currently depend on a few customers for a significant portion of our revenue. Chevron Appalachia, LLC, is our largest current customer and our sales from it accounts for approximately 44% of our current revenues from our disposal business. This amount will significantly decrease as we acquire and bring more wells operational. We recently extended our contract termination date with Chevron Appalachia, LLC, to May 11, 2013. However, we believe that the potential customer base is large enough that we can easily replace the revenue obtained from Chevron Appalachia, LLC, if necessary.
We are not currently dependent on any principal supplier or suppliers of equipment or services.
Intellectual Property
GreenHunter Water, LLC claims common law rights in a variety of marks, including but not limited to, FRAC-CYCLE™, RAMCAT™, TOTAL WATER MANAGEMENT SOLUTIONS™, MAG TANK™ and MAG PANEL™. GreenHunter Water has filed or intends to file applications to register these trademarks with the United States Patent and Trademark Office. GreenHunter Water, LLC has various trademark applications pending with the United States Patent and Trademark Office.
Over the last two years, we have spent immaterial amounts on research and development. Through 2012, our research and development costs were approximately $470,000 to complete the development of our MAG TANK™ system.
Other Assets and Business Opportunities
Other than the above-discussed assets for our new water resource management initiative, our assets primarily consist of a biomass power plant located in unincorporated Imperial County, California, which we refer to as the biomass facility. The biomass facility was originally built in 1989 and has not operated since 1994.
We own one office building comprising 10,100 usable square feet of space located in Grapevine, TX for use as our corporate headquarters.
On July 8, 2010, Hunter Disposal acquired a lease covering 98 acres, more or less, in the county of Noble, state of Ohio. The lease term is for three years and for so long thereafter as the property is operated for the purpose of injecting salt water. On June 11, 2010, Hunter Disposal acquired a lease covering 43.365 acres, more or less, in the county of Noble, state of Ohio. The lease term is for three years and for so long thereafter as the property is operated for the purpose of injecting salt water.
The Company also owns 23.5 acres in Washington County, Ohio, where there exists multiple buildings which serves as a corporate field office.
Our common stock is traded on the NYSE MKT under the symbol “GRH.” Our preferred stock is traded on the NYSE MKT under the symbol “GRH.PRC.”
Executive Offices and Additional Information
Our executive offices are located at 1048 Texan Trail, Grapevine, Texas 76051, and our telephone number is (972) 410-1044. Our website is www.greenhunterenergy.com . Additional information that may be obtained through our website does not constitute part of this prospectus. Copies of our Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q and Current Reports on Form 8-K are located at the SEC’s Public Reference Room at 100 F
Street, N.E., Washington, D.C. 20549. Information on the operation of the SEC’s Public Reference Room can be obtained by calling the SEC at 1-800-SEC-0330. The SEC also maintains an internet site that contains reports, proxy and information statements, and other information regarding our filings at www.sec.gov .
Employees
We had a total of 164 full time employees as of March 29, 2013.
Item 1A.
Item 1A. Risk Factors
An investment in our securities involves many risks. You should carefully consider the following risks and all of the other information contained in this Form 10-K and in our other documents filed with the SEC before making an investment decision. In evaluating our company, the factors described below should be considered carefully. The risks and uncertainties described in this Form 10-K and in our other documents filed with the SEC are not the only ones facing us. Additional risks and uncertainties that we do not presently know about or that we currently believe are not material may also adversely affect our business. If any of the risks and uncertainties described in this Form 10-K and in our other documents filed with the SEC actually occur, our business, financial condition and results of operations could be adversely affected in a material way.
Risks Related to Our Business
We have continued to experience losses from our ongoing operations and we have doubts about our ability to continue as a going concern.
We have continued to experience losses from our ongoing operations and have doubts about our ability to continue as a going concern. We have begun to generate significant revenues from our water management activities. On October 15, 2011, our Chairman executed a letter of guarantee in our favor for up to two million dollars of credit support if needed to fund future operations. This letter of guarantee has been extended through December 31, 2013. We have also raised additional capital through the sale of our securities in the public market. However, we will be required to raise additional funding to fully implement our entire business plan. Our financial position has been adversely affected by our lack of working capital and the overall deterioration across all capital markets.
We have a limited operating history, and our business may not be as successful as we envision.
We are in an early stage of our current business plan. We have a limited operating history with respect to the construction and operation of water management facilities for “unconventional” oil and gas exploration and production activities. Our limited operating history makes it difficult for potential investors to evaluate our business. Therefore, our proposed operations are subject to all of the risks inherent in the initial expenses, challenges, complications and delays frequently encountered in connection with the formation of any new business, as well as those risks that are specific to the water management industry in general. Investors should evaluate an investment in our company in light of the problems and uncertainties frequently encountered by companies attempting to develop markets for new products, services and technologies. Despite our best efforts, we may never overcome these obstacles to achieve financial success.
Our business is speculative and dependent upon the implementation of our new business strategy, as well as our ability to enter into agreements with third parties for necessary financing for the construction of facilities related to our water management operations. There can be no assurance that our efforts will be successful or result in revenue or profit. There is no assurance that we will generate significant revenues or that our investors will not lose their entire investment.
We have significant debt that could adversely affect our financial health and prevent us from fulfilling our obligations.
We have a relatively high amount of indebtedness. As of December 31, 2012, we had total indebtedness of approximately $13.4 million. Because we must dedicate a substantial portion of our cash flow from operations to the payment of interest on our debt, that portion of our cash flow is not available for other purposes. In addition, our ability to obtain additional financing in the future may be impaired by our leverage and existing debt covenants. Our indebtedness could result in the following:
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Make it more difficult for us to satisfy our obligations;
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Increase our vulnerability to general adverse economic and industry conditions;
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require us to dedicate a portion of our cash flow from operations to payments on our indebtedness, thereby reducing the availability of our cash flow to fund working capital, capital expenditures and other general corporate expenditures;
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force us to sell assets or seek additional capital to service our indebtedness, which we may be unable to do at all or on terms favorable to us;
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limit our flexibility in planning for, or reacting to, changes in our business and the industry in which we operate;
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place us at a disadvantage compared to our competitors that have less debt; and
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limit our ability to borrow additional funds.
We are dependent upon our key personnel.
Our operations and financial success will significantly depend on our managerial personnel. Our managerial personnel have the right to make all decisions with respect to management and operation of our business and affairs. We are dependent on our executive officers and key personnel and our ability to attract and retain qualified personnel. Our profitability could be adversely affected if we lose members of our management team. Other than an employment agreement with Mr. Hoopes, our interim Chief Executive Officer, President and Chief Operating Officer, we have not entered into any employment agreements with any of our management personnel nor have we obtained “key man” life insurance on any of their lives. Further, our officers’ and directors’ allocation of their time to other business interests could have a negative impact on our ability to achieve our business objectives. All of our officers are required to commit their full work hour time to our business affairs with the exception of one officer.
We may not be able to meet our capital requirements.
Capital expenditures to build and operate our water management facilities, hiring qualified management and key employees, complying with licensing, registration and other requirements, maintaining compliance with applicable laws, production and marketing activities, administrative requirements, such as salaries, insurance expenses and general overhead expenses, legal compliance costs and accounting expenses will all require a substantial amount of additional capital and cash flow. Our subsidiary, GreenHunter Water, has identified water hauling capacity as a constrained resource in our target areas of operations and we are actively pursuing contracts for this service as part of our Total Water Management Solutions portfolio offering. Our ability to generate revenues in this market is dependent our ability to source capital for expansion, hire and train operating personnel and maintain our fleet of equipment so it is available when needed.
We will be required to pursue sources of additional capital through various means, including joint venture projects, which may include a profit sharing component, debt financing, equity financing or other means. There is no assurance that we will be successful in locating a suitable financing or strategic business combination transaction in a timely fashion or at all. In addition, there is no assurance that we will be successful in obtaining the capital we require by any other means. Future financings through equity investments are likely, and these are likely to be dilutive to the existing stockholders as we issue additional shares of common stock to investors in future financing transactions and as these financings trigger anti-dilution adjustments in existing equity-linked securities. Also, the terms of securities we issue in future capital transactions may be more favorable for our new investors. Further, we may incur substantial costs in pursuing future capital or financing, including investment banking fees, legal fees, accounting fees, securities law compliance fees, printing and distribution expenses and other costs. We may also be required to recognize non-cash expenses in connection with certain securities we may issue, such as convertible notes and warrants, which may adversely affect our financial results.
Our ability to obtain needed financing may be impaired by such factors as the capital markets, both generally and specifically in the renewable energy and water management industry, and the fact that we are a new enterprise without a proven operating history. Some of the contractual arrangements governing our operations may require us to maintain minimum capital, and we may lose our contract rights if we do not have the required minimum capital. If the amount of capital we are able to raise from financing activities, together with our revenues from any future operations, are not sufficient to satisfy our capital needs, even to the extent that we reduce our operations accordingly, we may be required to cease operations.
Risks Related to Our Water Management Business
We are subject to United States federal, state and local regulations regarding issues of health, safety, transportation, and protection of natural resources and the environment. Under these regulations, we may become liable for penalties, damages or costs of remediation. Any changes in laws and government regulations could increase our costs of doing business.
Federal and state legislation and regulatory initiatives relating to hydraulic fracturing are expected to result in increased costs and additional operating restrictions for oil and gas explorers and producers. Congress is currently considering legislation to amend the federal Safe Drinking Water Act to require the disclosure of chemicals used by the oil and natural gas industry in the hydraulic fracturing process. Sponsors of two companion bills, which are currently pending in the House Energy and Commerce Committee and the Senate Committee on Environment and Public Works Committee have asserted that chemicals used in the fracturing process could adversely affect drinking water supplies. The proposed legislation would require the reporting and public disclosure of chemicals used in the fracturing process, which could make it easier for third parties opposing the hydraulic fracturing process to initiate legal proceedings based on allegations that specific chemicals used in the fracturing process could adversely affect groundwater. In addition, this legislation, if adopted, could establish an additional level of regulation at the federal level that could lead to operational delays or increased operating costs and could result in additional regulatory burdens for oil and natural gas operators. Several states are also considering implementing, or in some instances, have implemented, new regulations pertaining to hydraulic fracturing, including the disclosure of chemicals used in connection therewith. The adoption of any future federal or state laws or implementing regulations imposing reporting obligations on, or otherwise limiting, the hydraulic fracturing process would make it more difficult and more expensive to complete new wells in the unconventional shale resource formations and increase costs of compliance and doing business for oil and natural gas operators. As a result of such increased costs, or results of operations could be negatively affected.
Our water management operations are subject to other United States federal, state and local laws and regulations relating to protection of natural resources and the environment, health and safety, waste management, and transportation and disposal of produced-water and other materials. For example, our water management business segment is expected to include disposal into injection wells that could pose some risks of environmental liability, including leakage from the wells to surface or subsurface soils, surface water or groundwater. Liability under these laws and regulations could result in cancellation of well operations, fines and penalties, expenditures for remediation, and liability for property damage and personal injuries. Sanctions for noncompliance with applicable environmental laws and regulations also may include assessment of administrative, civil and criminal penalties, revocation of permits and issuance of corrective action orders.
Failure to comply with these laws and regulations could result in the assessment of administrative, civil or criminal penalties, imposition of cleanup and site restoration costs and liens, revocation of permits, and, to a lesser extent, orders to limit or cease certain operations. In addition, certain environmental laws impose strict and/or joint and several liability, which could cause us to become liable for the conduct of others or for consequences of our own actions that were in compliance with all applicable laws at the time of those actions.
Demand for our water management services is substantially dependent on the levels of expenditures by the oil and gas industry. A substantial or an extended decline in oil and gas prices could result in lower expenditures by the oil and gas industry, which could have a material adverse effect on our financial condition, results of operations and cash flows.
Demand for our water management services depends substantially on the level of expenditures by the oil and gas industry for the exploration, development and production of oil and natural gas reserves. These expenditures are
generally dependent on the industry’s view of future oil and natural gas prices and are sensitive to the industry’s view of future economic growth and the resulting impact on demand for oil and natural gas. Declines, as well as anticipated declines, in oil and gas prices could also result in project modifications, delays or cancellations, general business disruptions, and delays in, or nonpayment of, amounts that are owed to us. These effects could have a material adverse effect on our results of operations and cash flows.
The prices for oil and natural gas have historically been volatile and may be affected by a variety of factors, including the following:
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demand for hydrocarbons, which is affected by worldwide population growth, economic growth rates and general economic and business conditions;
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the ability of the Organization of Petroleum Exporting Countries, or OPEC, to set and maintain production levels for oil;
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oil and gas production by non-OPEC countries;
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the level of excess production capacity;
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political and economic uncertainty and sociopolitical unrest;
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the level of worldwide oil and gas exploration and production activity;
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the cost of exploring for, producing and delivering oil and gas;
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technological advances affecting energy consumption; and
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weather conditions.
The oil and gas industry historically has experienced periodic downturns. A significant downturn in the oil and gas industry could result in a reduction in demand for our water management services and could adversely affect our financial condition, results of operations and cash flows.
Federal and state legislative and regulatory initiatives related to hydraulic fracturing could result in operating restrictions or delays in the completion of oil and natural gas wells that may reduce demand for our water management activities and could adversely affect our financial position, results of operations and cash flows.
Hydraulic fracturing is a commonly used process that involves using water, sand, and certain chemicals to fracture the hydrocarbon-bearing rock formation to allow flow of hydrocarbons into the wellbore. The federal Energy Policy Act of 2005 amended the Underground Injection Control provisions of the federal Safe Drinking Water Act to exclude hydraulic fracturing from the definition of “underground injection” and associated permitting requirements under certain circumstances. However, the repeal of this exclusion has been advocated by certain advocacy organizations and others in the public. Legislation to amend the SDWA to repeal this exemption and require federal permitting and regulatory control of hydraulic fracturing, as well as legislative proposals to require disclosure of the chemical constituents of the fluids used in the fracturing process, were proposed in recent sessions of Congress. Similar legislation could be introduced in the current session of Congress or at the state level. Scrutiny of hydraulic fracturing activities continues in other ways, with the U.S. Environmental Protection Agency, or the EPA, having commenced a study of the potential environmental impacts of hydraulic fracturing. In 2010, a committee of the U.S. House of Representatives undertook investigations into hydraulic fracturing practices, including requesting information from various field services companies. The U.S. Department of the Interior has announced that it will consider regulations relating to the use of hydraulic fracturing techniques on public lands and disclosure of fracturing fluid constituents. In addition, some states and localities have adopted, and others are considering adopting, regulations or ordinances that could restrict hydraulic fracturing in certain circumstances, or that would impose higher taxes, fees or royalties on natural gas production. Moreover, public debate over hydraulic fracturing and shale gas production has been increasing and has resulted in delays of well permits in some areas.
Increased regulation and attention given to the hydraulic fracturing process could lead to greater opposition, including litigation, to oil and natural gas production activities using hydraulic fracturing techniques. Additional legislation or regulation could also lead to operational delays or increased operating costs in the production of oil and natural gas, including from the developing shale plays, incurred by our customers or could make it more difficult to perform hydraulic fracturing. The adoption of any federal, state or local laws or the implementation of regulations or ordinances regarding hydraulic fracturing could potentially cause a decrease in the completion of new oil and natural gas wells and an associated decrease in demand for our water management activities, which could adversely affect our financial position, results of operations and cash flows.
We currently do not have the necessary technology for the treatment of water used in the hydraulic fracturing process and will need to acquire or license such technology prior to expanding our operations into this area.
Although we have begun to enter into agreements relating to water management activities for use in the oil and gas industry, we currently do not have the necessary technology for the treatment of water used in the hydraulic fracturing process. We will need to acquire or license such technology prior to entering into this segment of our contemplated future operations. There can be no assurance that we will be able to obtain or license such technology at all or on terms favorable to us. The failure to obtain such technology could have a material adverse effect on us and could restrict our ability to successfully enter into the water treatment business.
Adverse weather conditions, natural disasters, droughts, climate change, and other adverse natural conditions can impose significant costs and losses on our business.
Our ability to provide water management operations is subject to the availability of water, which is vulnerable to adverse weather conditions, including extended droughts and temperature extremes, which are quite common, but difficult to predict and may be influenced by global climate change. This risk is particularly true with respect to regions where oil and gas operations are significant. In extreme cases, entire operations may be unable to continue without substantial water reserves. These factors can increase costs, decrease revenues and lead to additional charges to earnings, which may have a material adverse effect on our business, results of operations and financial condition.
Salt water injection wells potentially may create earthquakes. In December 2011, the state of Ohio shut down a disposal site because it was determined that the disposal facility was completed into a previously unknown fault line and may have been a contributing factor in creating low energy earthquakes. We are not currently insured for earthquake coverage in Ohio, but we are evaluating options for business interruption insurance that may provide coverage for a disposal well being shut-in by a geological event.
Risks Relating to Our Biomass Facility
We have been unable to obtain additional financings for the completion of the construction and retrofitting of the biomass facility and there is a substantial risk that it may not become operational.
We have been unable to obtain the additional financing to fund additional capital expenditures for the completion of the construction and retrofitting the biomass facility. Without this additional financing, we have been unable to complete the biomass facility. It is not management’s intention to attempt to complete the construction and retrofitting of the biomass project at this time.
Our inability to enter interconnection agreements would restrict our ability to sell electricity.
We may be unable to enter into necessary interconnection agreements. We would be required to enter into certain interconnection agreements with electric utilities prior to selling electricity. The failure to enter into such interconnection agreements on terms that are acceptable to us, or at all, could have a material adverse effect on us.
Environmental laws related to our ownership or operation of our biomass facility subject us to potential liability that we may be unaware.
Federal, state and local laws impose liability on a landowner for releases or the otherwise improper presence on the premises of hazardous substances. This liability is without regard to fault for, or knowledge of, the presence of such substances. A landowner may be held liable for hazardous materials brought onto the property before it acquired title and for hazardous materials that are not discovered until after it sells the property. Similar liability may occur under applicable state law. In addition, we could face environmental liability for violations on or related to ownership of the biomass facility. If any hazardous materials are found within our operations and are in violation of the law at any time, we may be liable for all cleanup costs, fines, penalties and other costs. This potential liability will continue after we sell or cease operations on any subject properties and may apply to hazardous materials present within the properties before we acquired or commenced use of them. If significant losses arise from hazardous substance contamination, our financial viability may be substantially and adversely affected.
We are subject to risks related to other environmental laws, rules, and regulations.
Electric utilities and electric power plants such as the biomass facility are subject to continuing environmental regulation. Federal, state and local standards and procedures which regulate the environmental impact of electric utilities are subject to change. These changes may arise from continuing legislative, regulatory and judicial action regarding such standards and procedures. Consequently, there is no assurance that the biomass facility or the district will remain subject to the regulations currently in effect, will always be in compliance with future regulations, or will always be able to obtain all required operating permits. An inability to comply with environmental standards could result in additional capital expenditures to comply, reduced operating levels or the complete shutdown of individual electric generating units not in compliance.
There is concern by the public, the scientific community, President Obama’s administration and Congress regarding environmental damage resulting from the use of fossil fuels. Certain political groups and members of Congress support the increased regulation of air, water and soil contaminants, and there are a number of pending or recently enacted legislative proposals which may affect the electric utility industry. There has also been an increased level of environmental enforcement by the EPA and state and local authorities. Increased environmental regulations under the provisions of the federal Clean Air Act have created certain barriers to new facility development and modification of existing facilities. The additional costs, including time, human resources, uncertainty and delay, and the risk of fines and penalties for noncompliance, could affect the rate of return relating to investment in power project development. As such, there may be additional costs for purchased power from affected resources. Moreover, these additional costs may upset our existing cost assumptions for utilities, and thus negatively affect our results of operations from our biomass facility.
We cannot predict at this time whether any additional legislation or rules will be enacted which will affect the project or the operations of the biomass facility, and if such laws or rules are enacted, what the costs to us might be in the future because of such action.
However, costs of owning and operating the biomass facility may, in the future, be adversely affected by legislative, regulatory, administrative and enforcement actions involving environmental controls.
We are subject to risks from seismic activity and our insurance may be inadequate to cover losses resulting from such activity.
The biomass facility is located in a seismically active region and is subject to seismic events, including, ground shaking, liquefaction and landslides. According to the 2007 Uniform California Earthquake Rupture Forecast, California has a 99.7% chance of having a magnitude 6.7 or larger earthquake during the next 30 years. Our obligation to provide electric power under the power purchase agreement may be abated in the event of earthquake or other event of force majeure. The construction contracts contain standard force majeure provisions that relieve the parties of their obligations to the extent they are prevented from performing due to an event of force majeure (which could include earthquakes). Under the contract we have for the installation of the biomass facility’s boiler, the guaranteed mechanical completion date can be extended due to force majeure, and the deadline to complete performance testing and to deliver the equipment under the fuel yard contract can also be extended due to force majeure. Damage from an earthquake can range from total destruction of the biomass facility, to destabilization or liquefaction of the soils, to little or no damage at all. The extent of damage and the long-term effects from an earthquake, particularly ongoing earthquake activity, may be difficult to determine immediately. Such effects may negatively affect our results of operations.
Potential electric power limitations may impact our biomass facility.
The biomass facility will deliver its electric output to the district, at a point of transfer on the biomass facility site. The district will be responsible for transmission of the delivered energy from the point of transfer to its own system. The district has performed studies which demonstrate that there are no constraints on the transmission system which would require curtailment of power production by the biomass facility, but to the extent there are such curtailments, this could adversely affect production and revenues of the biomass facility.
Risks Relating to the Ownership of Our Securities
Our common stock has only been publicly traded since January 2, 2008, and the price of our common stock has fluctuated substantially since then and may fluctuate substantially in the future. Moreover, our Series C Preferred Stock has only been publicly traded since July 31, 2012 and has been traded in low volumes.
Our common stock has been publicly traded only since January 2008. The price of our common stock has fluctuated significantly since then. From January 2, 2008, to March 28, 2013, the trading price of our common stock ranged from a low of $0.51 per share to a high of $25.45 per share and the closing trading price on March 28, 2013 was $1.54 per share. We expect our stock to continue to be subject to fluctuations as a result of a variety of factors, including factors beyond our control. These factors include:
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Changing conditions in fuel markets;
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Changes in financial estimates by securities analysts;
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Changes in market valuations of comparable companies;
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Additions or departures of key personnel;
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Future sales of our capital stock;
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Tax and other regulatory developments;
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Our ability to develop and complete facilities, and to introduce and market the energy created by such facilities to economically viable production volumes in a timely manner; and
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Other factors discussed in this “Risk Factors” section and elsewhere in this document.
Moreover, our Series C Preferred Stock has only been publicly traded since July 31, 2012 and has been traded in low volumes.
If we issue additional shares in the future, it will result in dilution to our existing stockholders.
Our certificate of incorporation, as amended, does not permit the holders of our common stock the right to subscribe for additional shares of capital stock upon any issuance or increase thereof. As a result, if we choose to issue additional shares of common stock or securities convertible into common stock, our stockholders may be unable to maintain their pro rata ownership of common stock. The issuance of additional securities will result in a reduction of the book value and market price of the outstanding shares of our common stock. If we issue any such additional shares or securities convertible into or exercisable for shares, such issuance will cause a reduction in the proportionate ownership and voting power of all current stockholders who do not purchase such shares. Further, such issuance may result in a change of control of our company. There is no assurance that further dilution will not occur in the future.
We may issue shares of our capital stock or debt securities to complete a business combination or acquire assets, which would dilute the equity interest of our stockholders and could cause a change in control of our ownership.
Our certificate of incorporation, as amended, authorizes the issuance of up to 90,000,000 shares of common stock and 10,000,000 shares of preferred stock. As of March 28, 2013, there were 56,555,555 authorized but unissued shares of our common stock and 8,173,786 authorized but unissued shares of our preferred stock.
As of March 28, 2013, other than 25,000 common shares to be issued to an officer, we had no commitments to issue additional shares of common stock but we may issue a substantial number of additional shares of our common stock, preferred stock or convertible securities, or a combination of common stock, preferred stock and convertible securities, to the stockholders of a potential target or in connection with a related simultaneous financing to complete a business combination or asset purchase. The issuance of additional common stock, preferred stock or convertible securities may:
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significantly dilute the equity interest of current stockholders in our Company;
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subordinate the rights of holders of common stock if preferred stock is issued with rights senior to those afforded to holders of our common stock;
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cause a change in control if a substantial number of our shares of common stock are issued, which may affect, among other things, our ability to use our net operating loss carry forwards, if any, and possibly result in the resignation or removal of some or all of our present officers and directors; and
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adversely affect prevailing market prices for our common stock.
Similarly, our issuance of additional debt securities could result in the following:
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default and foreclosure on our assets if our operating revenues after a business combination or asset purchase are insufficient to pay our debt obligations;
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acceleration of our obligations to repay the indebtedness, even if we have made all principal and interest payments when due, if the debt security contains covenants that require the maintenance of certain financial ratios or reserves, or change of control provisions, and any such covenant is breached without a waiver or renegotiation of that covenant;
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our immediate payment of all principal and accrued interest, if any, if the debt security is payable on demand; and
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our inability to obtain additional financing, if necessary, if the debt security contains covenants restricting our ability to obtain additional financing while such security is outstanding
Our ability to successfully effect a business combination and to be successful afterwards will be dependent upon the efforts of our key personnel, and others hired to manage the acquired business and whom we would have only a limited ability to evaluate.
Our ability to successfully effect a business combination will be dependent upon the efforts of our key personnel. However, we cannot presently ascertain the future role of our key personnel in the target business. While we intend to closely scrutinize any individuals we engage in connection with a business combination, we cannot assure you that our assessment of these individuals will prove to be correct. These individuals may be unfamiliar with the requirements of operating as part of a public company which could cause us to have to expend time and resources familiarizing them with such requirements. This process could be expensive and time-consuming and could lead to various regulatory issues which may adversely affect our operations.
Our officers’ and directors’ allocation of their time to other business interests could have a negative impact.
All of our officers are required to commit their full work hour time to our business affairs, with the exception of Mr. Evans and Mr. Trosclair. Due to existing management and board of director positions and other business interests that Mr. Evans maintains with other companies, including Magnum Hunter Resources Corporation, Mr. Evans cannot commit all of his work hours to GreenHunter. However, subject to Board approval where appropriate, all material corporate, strategic and financial decisions will be reviewed and ultimately decided by Mr. Evans.
Because of our limited resources and the significant competition for business combination opportunities, we may not be able to consummate attractive business combinations.
We expect to encounter intense competition from other entities with business objectives similar to ours, including venture capital funds, leveraged buyout funds and operating businesses competing for acquisitions. Many of these entities are well-established and have extensive experience in identifying and effecting business combinations directly or through affiliates. Many of these competitors may possess greater technical, human and other resources than we do, and our financial resources may be relatively limited when contrasted with those of many of these competitors. While we believe that there are numerous potential target businesses that we could acquire, our ability to compete in acquiring certain sizable target businesses will be limited by our available financial resources. This inherent competitive limitation may give others an advantage in pursuing the acquisition of certain target businesses. Any of these factors may place us at a competitive disadvantage in successfully negotiating a business combination. If we are unable to successfully complete an acquisition of a target business, our business plan will be thwarted and investors may lose their entire investment.
We may be unable to obtain additional financing, if required, to complete a business combination, asset purchase or to fund the operations and growth of the target business, which could compel us to restructure the transaction or abandon a particular business combination or asset purchase.
We cannot ascertain the capital requirements for any particular transaction. If the net proceeds of any specific capital raise prove to be insufficient, either because of the size of the business combination or asset purchase, we may be required to seek additional financing. We cannot assure you that such financing would be available on acceptable terms, if at all. To the extent that additional financing proves to be unavailable when needed to consummate a particular business combination or asset purchase, we would be compelled to restructure the transaction or abandon that particular business combination or asset purchase and seek an alternative target. In addition, if we consummate a business combination or asset purchase, we may require additional financing to fund the operations or growth of the target. The failure to secure additional financing could have a material adverse effect on the continued development or growth of the target. None of our officers, directors or stockholders is required to provide any financing to us in connection with or after a business combination.
In the event we cannot comply with the requirements of the Sarbanes-Oxley Act of 2002 or we acquire a business that is unable to satisfy regulatory requirements relating to internal controls, or if our internal controls over financial reporting are not effective, our business and our stock price could suffer.
As a reporting public company, we are currently subject to the requirements of Section 404 of the Sarbanes-Oxley Act of 2002. In addition, such statute also requires an evaluation of any target business acquired by us. Section 404 of the Sarbanes-Oxley Act of 2002 requires companies to do a comprehensive evaluation of their internal controls, including an evaluation of any target businesses acquired by a company. In the event the internal controls over financial reporting of a target business cannot satisfy the regulatory requirements relating to internal controls or if these internal controls over financial reporting are not effective, we may not be able to complete a business combination with the target business without substantial cost or significant risks to our company or our management may be unable to certify as to the effectiveness of the internal controls following the completion of a business combination. Our efforts to comply with Section 404 and related regulations regarding our management’s required assessment of internal controls over financial reporting may require the commitment of significant financial and managerial resources or may prevent a business combination with certain target businesses. If we fail to timely complete our evaluation, if our management is unable to certify the effectiveness of the internal controls of our company or the acquired business, we could be subject to regulatory scrutiny and loss of public confidence, which could have an adverse effect on our business and our stock price.
Our outstanding options, warrants, convertible promissory notes, and convertible preferred stock may have an adverse effect on the market price of our common stock and make it more difficult to effect a business combination.
To the extent we issue shares of common stock to effect a business combination, the potential for the issuance of substantial numbers of additional shares upon exercise of these options and warrants or conversion of the preferred stock could make us a less attractive acquisition vehicle in the eyes of a target business as such securities, when exercised or converted, will increase the number of issued and outstanding shares of our common stock and reduce the value of the shares issued to complete the business combination. Accordingly, our options, warrants and preferred stock may make it more difficult to effectuate a business combination or increase the cost of the target business. Additionally, the sale, or even the possibility of a sale, of the shares underlying the options, warrants and preferred stock could have an adverse effect on the market price for our securities or on our ability to obtain future public financing. If, and to the extent, these options, warrants and preferred stock are exercised or converted, respectively, you may experience dilution to your holdings.
We do not intend to pay dividends on our common stock and thus stockholders must look solely to appreciation of our common stock to realize a gain on their investments.
We have never declared or paid any cash dividends on our common stock. We currently intend to retain any future earnings for funding growth and, therefore, do not expect to pay any dividends on our common stock in the foreseeable future. Our future dividend policy is within the discretion of our board of directors and will depend upon various factors, including our business, financial condition, results of operations, capital requirements, and investment opportunities. Accordingly, stockholders must look solely to appreciation of our common stock to realize a gain on their investment. This appreciation may not occur.
Our charter documents and Delaware law may inhibit a takeover.
In certain circumstances, the fact that corporate devices are in place that will inhibit or discourage takeover attempts could reduce the market value of our Series C Preferred Stock and our common stock. Our certificate of incorporation, as amended, bylaws and certain other agreements contain certain provisions that may discourage other persons from attempting to acquire control of us. These provisions include, but are not limited to, the following:
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staggered-terms of service for our board of directors;
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the authorization of the board of directors to issue shares of undesignated preferred stock in one or more series without the specific approval of the stockholders;
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the establishment of advance notice requirements for director nominations and actions to be taken at annual meetings; and
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the fact that special meetings of the stockholders may be called only by our Chairman, President , upon the request of a majority of our board of directors, or by the President or Secretary at the request in writing of the holders of not less than 30% of all the shares issued, outstanding and entitled to vote.
All of these provisions could impede a merger, consolidation, takeover or other business combination involving us or discourage a potential acquirer from making a tender offer or otherwise attempting to obtain control of us.
Ongoing losses may prevent us from paying dividends on our Series C Preferred Stock.
As we have continued to experience ongoing losses from our current operations we may be prevented or unable to pay dividends on the Series C Preferred Stock in the future. Our business is speculative and dependent upon the implementation of our new business strategy, as well as our ability to enter into agreements with third parties for necessary financing for the construction of facilities related to our water management operations. There can be no assurance that our efforts will be successful or result in revenue or profit. There is no assurance that we will earn significant revenues to satisfy our current obligations. As a result, we may not be able to generate sufficient revenues to pay dividends on the Series C Preferred Stock in the future.
The Series C Preferred Stock has historically been thinly traded, which may negatively affect investors’ ability to sell their shares. The Series C Preferred Stock has no stated maturity date.
Since the Series C Preferred Stock has no stated maturity date, investors seeking liquidity will be limited to selling their shares of Series C Preferred Stock in the secondary market. While shares of our Series C Preferred Stock trade on the NYSE MKT, our Series C Preferred Stock is thinly traded, which may negatively affect investors’ ability to sell their shares. The low trading volume of our Series C Preferred Stock is outside of our control, and may not increase in the near future or, even if it does increase in the future, may not be maintained.
The market value of our equity securities could be adversely affected by various factors.
The trading price of our common stock and our Series C Preferred Stock may depend on many factors, including the following:
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market liquidity;
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particularly with respect to our Series C Preferred Stock, prevailing interest rates;
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the market for similar securities
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general economic conditions; and
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our financial condition, performance and prospects.
For example, higher market interest rates could cause the market price of our equity securities, including our Series C Preferred Stock, to decrease.
We could be prevented from paying dividends on the Series C Preferred Stock.
Although dividends on the Series C Preferred Stock are cumulative and arrearages will accrue until paid, you will only receive cash dividends on the Series C Preferred Stock if we have funds legally available for the payment of dividends and such payment is not restricted or prohibited by law, the terms of any senior shares, or any documents governing our indebtedness. Our business may not generate sufficient cash flow from operations to enable us to pay dividends on the Series C Preferred Stock when payable. We have paid the dividends accrued on the currently issued and outstanding shares of Series C Preferred Stock. In addition, future debt, contractual covenants or arrangements we enter into may restrict or prevent future dividend payments. Accordingly, there is no guarantee that we will be able to pay any cash dividends on our Series C Preferred Stock. Furthermore, in some circumstances, we may pay dividends in stock rather than cash, and our stock price may be depressed at such time.
The Series C Preferred Stock has not been rated and will be subordinated to all of our existing and future debt.
The Series C Preferred Stock has not been rated by any nationally recognized statistical rating organization. In addition, with respect to dividend rights and rights upon our liquidation, winding-up or dissolution, the Series C Preferred Stock will be subordinated to all of our existing and future debt, and all future capital stock designated as senior to the Series C Preferred Stock. As of December 31, 2012, our total indebtedness was approximately $13.4 million. We may also incur additional indebtedness in the future to finance potential acquisitions or other activities and the terms of the Series C Preferred Stock do not require us to obtain the approval of the holders of the Series C Preferred Stock prior to incurring additional indebtedness. As a result, our existing and future indebtedness may be subject to restrictive covenants or other provisions that may prevent or otherwise limit our ability to make dividend or liquidation payments on our Series C Preferred Stock. Upon our liquidation, our obligations to our creditors would rank senior to our Series C Preferred Stock and would be required to be paid before any payments could be made to holders of our Series C Preferred Stock.
Investors should not expect us to redeem the Series C Preferred Stock on the date the Series C Preferred Stock becomes redeemable or on any particular date afterwards .
We may not redeem the Series C Preferred Stock prior to June 30, 2015, except pursuant to the special redemption upon a Change of Ownership or Control discussed below. On and after June 30, 2015, we may redeem the Series C Preferred Stock for cash at our option, from time to time, in whole or in part, at a redemption price of $25.00 per share, plus accrued and unpaid dividends (whether or not earned or declared) to the redemption date.
Following a “Change of Ownership or Control” of us by a person, entity or group, we (or the acquiring entity) will have the option to redeem the Series C Preferred Stock, in whole but not in part, within 120 days after the date on which the Change of Ownership or Control has occurred for cash, at $25.00 per share, plus accrued and unpaid dividends (whether or not earned or declared), up to the redemption date. However, if we (or the acquiring entity) have not notified the holders of the Series C Preferred Stock before such an event of our intent to redeem the Series C Preferred Stock, the holders of the Series C Preferred Stock have the right to convert their Series C Preferred Stock into shares of our common stock immediately before consummation of the Change of Ownership or Control transaction and to participate in such transaction along with the holders of our common stock. The Series C Preferred Stock is convertible at such time into an amount of common stock equal to the result of dividing the sum of the $25.00 per share liquidation preference plus the amount of any accrued but unpaid dividends up to but not including the date of the consummation of such transaction by the value of the consideration offered for each share of common stock; provided that such common stock consideration does not exceed 27.9329, which 27.9329 amount is subject to pro rata adjustments for any stock splits, subdivisions or combinations, which we refer to in our certificate of designations as the “Share Cap”.
The Series C Preferred Stock does not have any stated maturity date and will not be subject to any sinking fund or mandatory redemption provisions except for redemption at our option upon a Change of Ownership or Control as described above or after June 30, 2015.
Any decision we may make at any time to redeem the Series C Preferred Stock will depend upon, among other things, our evaluation of our capital position, including the composition of our stockholders’ equity and general market conditions at that time.
Holders of Series C Preferred Stock have extremely limited voting rights.
Except as expressly stated in the certificate of designations governing the Series C Preferred Stock, as a holder of Series C Preferred Stock, you will not have any relative, participating, optional or other special voting rights and powers and your approval will not be required for the taking of any corporate action other than as provided in the certificate of designations. For example, your approval would not be required for any merger or consolidation in which we are involved or sale of all or substantially all of our assets except to the extent that such transaction materially adversely changes the express powers, preferences, rights or privileges of the holders of Series C
Preferred Stock. None of the provisions relating to the Series C Preferred Stock contains any provisions affording the holders of the Series C Preferred Stock protection in the event of a highly leveraged or other transaction, including a merger or the sale, lease or conveyance of all or substantially all of our assets or business, that might adversely affect the holders of the Series C Preferred Stock, so long as the terms and rights of the holders of Series C Preferred Stock are not materially and adversely changed.
The issuance of future offerings of preferred stock may adversely affect the value of our Series C Preferred Stock.
Our certificate of incorporation, as amended, currently authorizes us to issue up to 10,000,000 shares of preferred stock in one or more series on terms that may be determined at the time of issuance by our board of directors. We may issue additional shares of Series C Preferred Stock and/or other classes of preferred shares that would rank on parity with or senior to the Series C Preferred Stock as to dividend rights or rights upon liquidation, winding up or dissolution. The creation and subsequent issuance of additional classes of preferred shares on parity with or, with the consent of the holders of the Series C Preferred Stock, senior to our Series C Preferred Stock would dilute the interests of the holders of Series C Preferred Stock and any issuance of preferred stock that is senior to the Series C Preferred Stock could affect our ability to pay dividends on, redeem or pay the liquidation preference on the Series C Preferred Stock.
You may be required to use other sources of funds to pay income taxes in respect of dividends received, or deemed to be received, on the Series C Preferred Stock in certain circumstances .
If we are required to pay dividends on the Series C Preferred Stock in shares of our common stock or additional shares of Series C Preferred Stock and such shares are not marketable at such time, you will be required to satisfy your income tax liability with respect to such dividends from other sources.
Holders of the Series C Preferred Stock may be unable to use the dividends-received deduction and may not be eligible for the preferential tax rates applicable to “qualified dividend income.”
Distributions paid to corporate U.S. holders of the Series C Preferred Stock may be eligible for the dividends-received deduction, and distributions paid to non-corporate U.S. holders of the Series C Preferred Stock may be subject to tax at the preferential tax rates applicable to “qualified dividend income,” if we have current or accumulated earnings and profits, as determined for U.S. federal income tax purposes. We do not currently have accumulated earnings and profits. Additionally, we may not have sufficient current earnings and profits during future fiscal years for the distributions on the Series C Preferred Stock to qualify as dividends for U.S. federal income tax purposes. If the distributions fail to qualify as dividends, U.S. holders would be unable to use the dividends-received deduction and may not be eligible for the preferential tax rates applicable to “qualified dividend income.” If any distributions on the Series C Preferred Stock with respect to any fiscal year are not eligible for the dividends-received deduction or preferential tax rates applicable to “qualified dividend income” because of insufficient current or accumulated earnings and profits, it is possible that the market value of the Series C Preferred Stock might decline.
Our Series C Preferred Stock is not generally convertible and purchasers may not realize a corresponding upside if the price of our common stock increases.
Our Series C Preferred Stock is not generally convertible into our common stock and earns dividends at a fixed rate. Accordingly, the market value of our Series C Preferred Stock may depend on dividend and interest rates for other preferred stock, commercial paper and other investment alternatives and our actual and perceived ability to pay dividends on, and in the event of dissolution satisfy the liquidation preference with respect to, our Series C Preferred Stock. Moreover, our right to redeem the Series C Preferred Stock on or after June 30, 2015 or in the event of a Change of Ownership or Control could impose a ceiling on its value.
Following a “Change of Ownership or Control” of us by a person, entity or group, we (or the acquiring entity) will have the option to redeem the Series C Preferred Stock, in whole but not in part, within 120 days after the date on which the Change of Ownership or Control has occurred for cash, at $25.00 per share, plus accrued and unpaid dividends (whether or not earned or declared), up to the redemption date. However, if we (or the acquiring entity) have not notified the holders of the Series C Preferred Stock before such an event of our intent to redeem the Series C Preferred Stock, the holders of the Series C Preferred Stock have the right to convert their Series C Preferred
Stock into shares of our common stock immediately before consummation of the Change of Ownership or Control transaction and to participate in such transaction along with the holders of our common stock. The Series C Preferred Stock is convertible at such time into an amount of common stock equal to the result of dividing the sum of the $25.00 per share liquidation preference plus the amount of any accrued but unpaid dividends up to but not including the date of the consummation of such transaction by the value of the consideration offered for each share of common stock; provided that such common stock consideration does not exceed 27.9329, which 27.9329 amount is subject to pro rata adjustments for any stock splits, subdivisions or combinations, which we refer to in our certificate of designations as the “Share Cap”.
Item 2.
Item 2. Properties
Other than the above-discussed assets for our new water resource management initiative, our assets primarily consist of a biomass power plant located in unincorporated Imperial County, California, which we refer to as the biomass facility. The biomass facility was originally built in 1989 and has not operated since 1994.
We own one office building comprising 10,100 usable square feet of space located in Grapevine, TX for use as our corporate headquarters. The Company also owns 23.5 acres in Washington County, Ohio, where there exists multiple buildings which serves as a corporate field office.
On July 8, 2010, Hunter Disposal acquired a lease covering 98 acres, more or less, in the county of Noble, state of Ohio. The lease term is for three years and for so long thereafter as the property is operated for the purpose of injecting salt water. On June 11, 2010, Hunter Disposal acquired a lease covering 43.365 acres, more or less, in the county of Noble, state of Ohio. The lease term is for three years and for so long thereafter as the property is operated for the purpose of injecting salt water.
Item 3.
Item 3. Legal Proceedings
We operate in a highly regulated industry. We are subject to the regulatory authority of the SEC, the EPA and numerous other federal and state governmental agencies. From time to time, we may become involved in litigation relating to claims arising from our ordinary course of business. We are not aware of any claims or actions pending or threatened against us, the ultimate disposition of which we believe would have a material adverse effect on us.
ABB, Inc., Plaintiff v. GreenHunter Energy, Inc., Defendant, In the Superior Court of California, County of Imperial, Case No. ECU07002. ABB, Inc. was a subcontractor to Crown Engineering for the work done at our Mesquite Lake plant in Imperial County, California. GreenHunter Energy, Inc. had a construction contract directly with Crown Engineering only. On or about January 18, 2010, GreenHunter entered into a settlement agreement with Crown Engineering settling any disputes between the parties regarding the work done at our Mesquite Lake plant. Green Hunter performed all of its obligations under the settlement agreement. ABB is attempting to enforce payment of its claim, approximately $327,555 by asserting it is a third party beneficiary under our settlement agreement with Crown Engineering. Management is actively defending this claim and believes the Company will ultimately prevail on the merits.
Heckmann Water Resources, Plaintiff v. Hunter Disposal LLC and GreenHunter Energy, Inc., Defendants, In the Court of Common Pleas, Washington County, Ohio, Case No.120T233, filed July 16, 2012. Heckmann Water Resources alleges a breach of contract against Hunter Disposal for failure to pay for certain transportation services on behalf of Hunter Disposal. Heckmann alleges GreenHunter made representations to Heckmann that GreenHunter would make any payments on Hunter Disposal’s behalf. On February 20, 2013, Heckmann amended its complaint to state that as of the date of the amended complaint Hunter Disposal has failed to pay for services in the amount of $77,706. Hunter Disposal has recently made all disputed payments to Heckmann and the parties are currently preparing a dismissal of the complaint.
Item 4.
Item 4. Mine Safety Disclosures
Not applicable.
PART II
Item 5.
Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
Our common stock trades on the NYSE Amex under the symbol “GRH.” The following table summarizes the high and low reported sales prices on days in which there were trades of our common stock on the NSYE MKT for each quarterly period for the last two fiscal years. On March 28, 2013, the last reported sale price of our common stock, as reported on the NYSE MKT, was $1.54 per share.
Our registrar and transfer agent is Securities Transfer Corporation, located at 2591 Dallas Parkway, Suite 102, Frisco, Texas 75034. As of March 28, 2013, there were 580 record holders of our common stock.
We have not previously paid any cash dividends on our common stock and do not anticipate paying dividends on our common stock in the foreseeable future. It is the present intention of management to utilize all available funds for the development and growth of our business activities.
Item 6.
Item 6. Selected Financial Data
Not required
Item 7.
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
The following discussion and analysis provides information which management believes is relevant to an assessment and understanding of our financial condition and results of operations. The discussion contains forward-looking statements that involve risks and uncertainties (see “Forward-Looking Statements” above). Actual events or results may differ materially from those indicated in such forward-looking statements. The discussion should be read in conjunction with the financial statements and accompanying notes included herewith. The discussion should not be construed to imply that the results contained herein will necessarily continue into the future or that any conclusion reached herein will necessarily be indicative of actual operating results in the future. Such discussion represents only the best present assessment by our management. The discussion contains forward-looking statements that involve risks and uncertainties (see “Forward-Looking Statements” above). Actual events or results may differ materially from those indicated in such forward-looking statements.
Overview
Prior to April 13, 2007, we were a startup company in the development stage and we reentered the development stage effective July 1, 2010. Our previous business plan was to acquire and operate a portfolio of assets in the renewable energy sectors of biodiesel, biomass, solar, wind, and geothermal. We refocused our efforts and currently have ongoing business initiatives in water management through GreenHunter Water, LLC and our subsidiary acquired last year, Hunter Disposal LLC, and biomass through GreenHunter Mesquite Lake, LLC, (“Mesquite Lake”). The Company has begun to earn significant revenue from planned principal operations since the first quarter of 2012. Accordingly, effective January 1, 2012, the Company’s activities are no longer required to be accounted for as those of a “Development Stage Enterprise” as set forth by FASB ASC 915. It is our goal to become a leading provider of water management solutions and clean energy products as it relates to the oil and gas industry in the unconventional resource plays.
As part of this new strategic initiative, we have recently closed and entered into definitive agreements to acquire or lease acreage in the Marcellus, Utica, Mississippian Lime, Eagle Ford, and Bakken Shale areas located in Appalachia, Oklahoma, South Texas, Eastern Montana and North Dakota, respectively. We presently own and operate commercial water service facilities in Appalachia, Oklahoma, and Texas. We have the intention of developing additional commercial water service facilities for these shale plays. In addition, we have deployed a modular above-ground temporary water storage system in the Marcellus Shale and have installed and operated an onsite semi-portable water treatment facility the Appalachian region. In response to requests from current and prospective customers, we have designed and engineered and are currently fabricating our own proprietary next-generation large format modular above-ground water storage system. We have also deployed a proprietary tracking system that provides cradle-to-grave manifest tracking of oilfield water waste streams and we are evaluating a license for new technologies to treat water and other fluids associated with the production of oil and natural gas for reuse.
We believe that our ability to successfully compete in the clean water industry depends on many factors, including the location and low cost construction of our planned facilities, execution of our acquisition strategy, development of strategic relationships, achievement of our anticipated low cost production model, access to adequate debt and equity capital, proper and meaningful governmental support which may include tax incentives and credit enhancements, and recruitment and retention of experienced management and qualified field personnel.
Current Plan of Operations and Ability to Operate as a Going Concern
As of December 31, 2012, we had a working capital deficit of $11.1 million, which includes $2.5 million related to earlier construction activities at our Mesquite Lake Biomass Plant and $90 thousand in Series B Redeemable Debentures with recourse only against the equity interests of GreenHunter Mesquite Lake, LLC, which holds the Mesquite Lake Plant.
We have continued to experience losses from ongoing operations. These factors raised doubt about our ability to continue as a going concern. We have begun to generate significant revenues from our water management activities. We have received a number of capital advances in 2011 and 2012 from our Chairman and Chief Executive Officer in exchange for promissory notes, all of which have been repaid as of December 31, 2012. On August 15, 2011, the letter of guarantee from the Chairman and Chief Executive Officer of the company was increased for up to $2.0 million of credit support if needed to fund future operations, all of which is available as of December 31, 2012. The letter of guarantee has been extended through December 31, 2013. Subsequent to December 31, 2012, the Company issued the remaining common stock and our non-convertible 10% Series C Cumulative Preferred Stock (“10% Series C Preferred Stock”) (liquidation preference of $25.00 per share) available under its current At-The-Market registration statement. at a public offering price of $21.00 per share. The net cash proceeds received upon issuance of these securities was $5.2 million for the issuance of 221,946 shares of common stock and 265,436 shares of Series C Preferred Stock.
Along with the revenue generated from our water management activities, which includes the Hunter Disposal acquisition and the Blue Water acquisition discussed below, letter of guarantee, credit support and proceeds from the sale of our 10% Series C Preferred Stock, we anticipate having sufficient cash reserves to meet all of our anticipated operating obligations for the next twelve
months. Planned capital expenditures are wholly dependent on the Company’s ability to secure additional capital. As a result, we are in the process of seeking additional capital through a number of different alternative sources, and particularly with respect to procuring working capital sufficient for the development of our water management projects in order that we can generate positive cash flow to sustain operations. We continue to pursue numerous opportunities in the water resource management business as it specifically relates to the oil and gas industry in the unconventional resource plays.
There can be no assurance that we will be successful in generating sufficient cash flows to fund our planned development activities related to our water management business, or that the operations of our water management business will generate sufficient cash flows to fund our ongoing operations subsequent to its development. If we are unsuccessful in raising sufficient capital to fund the development of our water management business, or if our water management business fails to generate sufficient cash flows to fund our ongoing operating needs subsequent to its development, we will be required to seek alternative financing, sell certain assets, or any combination thereof. Further, considering our financial condition, we may be forced to accept financing or sell assets at terms less favorable than would otherwise be available.
Results of Operations
Year Ended December 31, 2012 Compared to Year Ended December 31, 2011:
Total Revenues
Our total revenue was approximately $17.1 million in 2012 compared to $1.1 million in 2011, a 1,455 percent increase. The increase is due to revenue generated from our water management operations which began in late 2011 and has increased significantly upon the acquisition of Hunter Disposal on February 17, 2012. During 2012, approximately $8.8 million was recorded in water disposal revenue, approximately $6.7 million was recorded in transportation revenue, and approximately $1.5 million was recorded in water storage and other revenue. We generated storage rental income of approximately $1.1 million during 2011. We expect our revenues, at a minimum, to remain consistent and grow in future periods as we complete new disposal locations and increase existing disposal volumes with existing capacity which will further expand our total revenue potential. We began generating revenues from our New Matamoras barge and storage facility, Ritchie Disposal Facility and our two Oklahoma disposal wells during the second half of 2012.
Our Helena well in South Texas became operational at the end of September 2012, and one of our joint venture disposal wells in South Texas, the Kennedy disposal well, became operational in January 2013. In addition, we began to recognize revenue on our two Appalachian wells acquired in November 2012, during the fourth quarter of 2012.
Operating Costs
Our operating costs were $9.5 million for the year ended December 31, 2012 and $1.1 million for the year ended December 31, 2011 an increase of 764 percent. The increase is due to operating costs incurred from our water management operations during the year for Hunter Disposal and GreenHunter Water. We expect our costs, including transportation costs to decline in relation to revenue as we use more of our Company owned trucks to haul water and provide services.
Depreciation Expense
Depreciation expense was approximately $1.9 million and approximately $190 thousand for the year ended December 31, 2012 and 2011, respectively. The increase is due to Hunter Disposal and GreenHunter Water. Our depreciation expense will continue to increase as we add disposal facilities and transportation equipment.
Impairment of Asset Value
We recorded an expense for impairment of asset value on our Mesquite Lake Biomass Project during the year ended December 31, 2012. The Company determined that it had insufficient time and resources to sufficiently develop the Mesquite Lake Biomass Project so that power could be delivered into the power purchase agreement it had secured as the revenue stream for the project before it expired on March 31, 2013. As a result, management believes the carrying value of the asset is greater than the value that might be realized by the development or sale of the asset. The Company believes the fair value of the asset without a viable power purchase agreement should be its salvage value. We obtained an independent evaluation of the asset’s salvage value as of December 31, 2012, which was $2.0 million. The total carrying value of the project net assets prior to recording an impairment to its value was $17.9 million. The Company recorded an impairment of asset value of $12.9 million at September 30, 2012 and a further impairment of $3.0 million to reflect its salvage value at December 31, 2012. We recorded no impairments during 2011.
Selling, General and Administrative Expense
Selling, general and administrative expense (“SG&A”) was approximately $5.7 million and $3.3 million during the year ended December 31, 2012 and 2011, respectively. This increase is due to expansion of our business activities. We expect SG&A expense to increase in future periods as we continue to expand our water management business.
The following is a schedule of our selling, general and administrative expense for the years ended December 31,:
Stock Based Compensation
Stock based compensation expense was approximately $4.4 million and $818 thousand during the year ended December 31, 2012 and 2011, respectively. This increase is due to the growing number of employees as the Company’s business activities continue to expand, and the adoption of the 2010 Long-Term Incentive Compensation Plan, which provides for equity incentives to be granted to employees, officers or directors of the Company, as well as key advisors and consultants. We expect stock based compensation expense to increase in future periods as we continue to expand our water management business.
Operating Income/Loss
Our operating loss was $20.2 million and $4.3 million for the year ended December 31, 2012 and 2011, respectively. The increase in operating loss is entirely due to the impairment in asset value offset by operating income generated by our water management operations.
Other Income and Expense
Other expense was $324 thousand for the year ended December 31, 2012 as compared to an expense of $507 thousand for the year ended December 31, 2011. Interest expense was approximately $973 thousand during 2012 compared to approximately $782 thousand during 2011. During the year ended December 31, 2012, the Company recorded a gain on convertible securities of approximately $24 thousand versus a loss of $186 thousand during the year ended December 31, 2011. We expect our interest expense will continue to increase as we add overall indebtedness to fund our future expansion activities. The gain or loss on convertible securities will not continue in the future as the securities causing this item have been converted or expired.
Preferred Stock Dividends
Dividends on our preferred stock were $3.6 million for the year ended December 31, 2012, versus $679 thousand for the year ended December 31, 2011. The increase is due to the issuance of 10% Series C Preferred Stock in the period and the deemed dividends on the Series A Preferred and Series B Preferred Stock conversions of ($924) thousand and $2.6 million, respectively.
Net Loss and Net Loss Per Share
Our net loss was $17.6 million and $4.8 million for the year ended December 31, 2012 and 2011, respectively. The increase in the net loss in 2012 is entirely due to the impairment expense of $15.9 million. The net loss to common shareholders was $21.2 million during 2012 versus $5.5 million during 2011 due to the effect of the impairment expense and the deemed dividends in 2012. Net loss per share was $0.73 in 2012 versus $0.22 in 2011.
Our weighted average shares outstanding were 29.1 million and 24.7 million for the year ended December 31, 2012 and 2011, respectively, due to common shares issued for the Hunter Disposal, Blue Water and South Texas Joint Venture acquisitions and the exchange of our Series B Preferred Stock for Common Stock.
Liquidity and Capital Resources
Cash Flow and Working Capital
As of December 31, 2012, we had cash and cash equivalents of approximately $1.8 million and a working capital deficit of $11.1 million as compared to cash and cash equivalents of $85 thousand and a working capital deficit of $13.7 million as of December 31, 2011. These decreases in cash and working capital were due to the activities described below.
Operating Activities
During 2012, operating activities used $1.5 million versus $1.6 million during 2011. Since we acquired Hunter Disposal on February 17, 2012, our cash flows from operating activities have increased. We expect cash flows from operating activities for the next twelve months will be sufficient to meet our operating needs.
Investing Activities
During the year ended December 31, 2012, we used approximately $14.0 million in cash in investing activities, principally for the acquisition of Hunter Disposal of approximately $909 thousand, Blue Water of approximately $1.9 million, Eagle Ford Hunter Water Joint Venture of $1.2 million, Virco of $258 thousand and White Top and Black Water of $446 thousand. We also used cash for capital expenditures of approximately $12.2 million for water disposal and handling facilities and equipment. We received $2.9 million from the sale of our Ocotillo wind project in 2012. In the 2011 period, our capital expenditures were approximately $1.1 million.
Financing Activities
During the year ended December 31, 2012, our financing activities provided $17.2 million compared to $871 thousand in the prior year. The cash provided during the 2012 period resulted from proceeds of $13.9 million, net of costs, for the sale of our Series C Preferred Stock, proceeds of $105 thousand from the exercise of warrants and proceeds from borrowing on notes payable of approximately $8.0 million. We made payments of notes payable of $3.5 million, paid approximately $1.4 million of dividends on our 10% Series C Preferred Stock, and paid $8 thousand in deferred financing costs during the year ended December 31, 2012.
In 2011, financing activities included $1.0 million from the issuance of common stock and warrants under our private placement offering, proceeds from borrowing on notes payable of $1.6 million, $122 thousand of which was from the Chairman and CEO, and $1.7 million in repayment of notes payable.
Investing Activities and Future Requirements
Capital Expenditures
During 2012, we invested approximately $12.2 million in capital expenditures, which primarily comprised of trucks and other equipment by our water management segment.
Forecast
For 2013, we have not adopted a formal corporate capital expenditure budget due to our current lack of capital resources. We have formulated specific project budgets and will adopt a formal corporate capital expenditure budget upon securing necessary financing commitments.
Water Resource Management
We recently entered into a definitive agreement to lease approximately five surface acres, including an existing well, located in West Virginia where we have developed a commercial water service facility.
Pursuant to the terms of the acquisition agreements, the Company acquired three disposal wells and certain real property for $300,000 cash and 91,425 shares of the Company’s 10% Series C Cumulative Preferred Stock having a value of approximately $2 million. The shares of Series C Preferred Stock were issued to a small group of former shareholders of Virco.
Planned use for the West Virginia location includes treatment facilities for oilfield produced water, frac water and drilling mud, salt water disposal wells and heavy equipment and frac tank lay-down yards. The property to be acquired through this transaction is strategically located in the heart of the drilling activity within the Appalachian resource plays of the Marcellus Shale and the new Utica Shale, as well as being strategically located nearby existing highway infrastructure where water hauling trucks are prevalent.
We have identified additional locations for water service and disposal facilities in the Appalachia & South Texas regions and are in various stages of negotiations with the owners of these properties for purchase or lease.
On August 31, 2011, we secured an order to deploy a next-generation above ground temporary water storage system in the Marcellus Shale of the Appalachian Basin. In addition we entered into a definitive agreement to install and operate an onsite semi-portable water treatment facility in the Marcellus Shale. The process includes the removal of chemicals and impurities in a sufficient amount for reuse in new wells scheduled for fracture stimulation.
On October 28, 2011, we secured a significant order to provide equipment rental and services which include thirty new frac tanks to an independent oil and gas company focused on Eagle Ford Shale drilling and development operations. The initial one year contract included rental and management of multiple sized fluid tanks, including 500 BBL water storage tanks, manifolds and other services.
On February 17, 2012, the Company, through its wholly owned subsidiary, GreenHunter Water, closed on the acquisition of 100% of the equity ownership interest of Hunter Disposal, LLC, a wholly-owned subsidiary of Magnum Hunter Resources Corporation. The terms and conditions of the equity purchase agreement between the parties were approved by the audit committee or an independent special committee for each party. The total consideration for this acquisition was approximately $9.9 million. The consideration paid consisted of $2.2 million in cash, 1,846,722 shares of the Company’s restricted common stock with a fair market value of $3.3 million, 22,000 shares of our 10% cumulative preferred stock with a stated value of $2.2 million, and a $2.2 million convertible promissory note due to the seller. In connection with the sale, Triad Hunter, LLC entered into agreements with Hunter Disposal, LLC and GreenHunter Water, LLC for wastewater hauling and disposal capacity in Kentucky, Ohio and West Virginia and a five-year tank rental agreement with GreenHunter Water, LLC.
Critical Accounting Policies and Other
Our significant accounting policies are disclosed in Note 3 of our consolidated financial statements. The following discussion addresses our most critical accounting policies, which are those that are both important to the portrayal of our financial condition and results of operations and that require significant judgment or use of complex estimates.
The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the period. Our estimates and assumptions are based on historical experience, industry conditions and various other factors which we believe are appropriate. The reported financial results and disclosures were determined using the significant accounting policies, practices and estimates described below. We believe the reported financial results are reliable and that the ultimate actual results will not differ significantly from those reported.
Property, Plant and Equipment
Property plant and equipment are stated at cost. Depreciation is computed using the straight-line method based on the following useful lives:
Transportation equipment
5 years
Furniture, fixtures & other
5 to 7 years
Water disposal, handling and storage equipment
7 to 20 years
Land improvements
15 years
Buildings
30 years
Water disposal and handling facilities
Estimated injectable barrels over the life of the well
Material expenditures which increase the life of an asset are capitalized and depreciated over the estimated remaining useful life of the asset. The cost of equipment sold, or otherwise disposed of, and the related accumulated depreciation or amortization is removed from the accounts, and any gains or losses are reflected in current operations. Water disposal and handling facilities not yet in service are not subject to depreciation while they are under construction. They will be placed in use and subject to depreciation once construction is completed.
Impairments
We periodically evaluate whether events and circumstances have occurred that may warrant revision of the estimated useful life of long-term assets or whether the remaining balance of long-term assets should be evaluated for possible impairment. We compare the estimate of the related undiscounted cash flows over the remaining useful lives of the applicable assets to the assets’ carrying values in measuring their recoverability. When the future cash flows are not sufficient to recover an asset’s carrying value, an impairment charge is recorded for the difference between the asset’s fair value and its carrying value.
During 2012, the Company determined that it had insufficient time, resources and a different business plan altogether which prevented the Company from continuing the development of the Mesquite Lake Biomass Project. As a result, management believes the carrying value of the asset is greater than the value that might be realized by the development or sale of the asset. The Company believes the fair value of the asset without a viable power purchase agreement which expired on March 31, 2013 should be its salvage value. We obtained an independent evaluation of the asset’s salvage value as of December 31, 2012, which was $2.0 million. The total carrying value of the project net assets prior to recording an impairment to its value was $17.9 million. The Company recorded an impairment of asset value of $12.9 million at September 30, 2012 and a further impairment of $3.0 million to reflect its salvage value at December 31, 2012. We recorded no impairments during 2011.
Goodwill
Goodwill represents the excess of the purchase price over the fair value of the net assets of businesses acquired. The Company has recently made an acquisition that has resulted in the recognition of goodwill. The carrying value of goodwill at December 31, 2012 was $3.0 million. Goodwill is not amortized. Instead, goodwill is required to be tested for impairment annually and between annual tests if events or circumstances lead to a determination that it is more likely than not that the fair value of a reporting unit is less than its carrying amount. The goodwill impairment test involves a two-step process; however, if after assessing the totality of events or circumstances, an entity determines it is not more likely than not that the fair value of a reporting unit is less than its carrying amount, then performing the two-step impairment test is unnecessary.
In the event a determination is made that it is more likely than not that the fair value of a reporting unit is less than its carrying value, the first step of the two-step process must be performed. The first step of the test, used to identify potential impairment, compares the estimated fair value of a reporting unit with its carrying amount, including goodwill. If the fair value of a reporting unit exceeds its carrying amount, goodwill of the reporting unit is not considered to be impaired and the second step of the impairment test is unnecessary. If the carrying amount of a reporting unit exceeds its fair value, the second step of the impairment test must be performed to measure the amount of the impairment loss, if any. The second step of the goodwill impairment test compares the implied fair value of reporting unit goodwill with the carrying amount of that goodwill. The implied fair value of goodwill is determined in the same manner as goodwill recognized in a business combination. If the carrying amount of the reporting unit goodwill exceeds the implied fair value of that goodwill, an impairment loss is recognized in an amount equal to that excess.
An entity has the option to bypass the qualitative assessment for any reporting unit in any period and proceed directly to performing the first step of the two-step goodwill impairment test. The Company made a qualitative assessment as of December 31, 2012 and concluded it was more likely than not that any of the reporting unit’s fair values were in excess of their carrying values at that time.
Stock-Based Compensation
The Company accounts for share-based compensation in accordance with the provisions of the ASC standards which require companies to estimate the fair value of share-based payment awards made to employees and directors, including stock options, restricted stock and employee stock purchases related to employee stock purchase plans, on the date of grant using an option-pricing model. The value of the portion of the award that is ultimately expected to vest is recognized as an expense ratably over the requisite service periods. We estimate the fair value of each share-based award using the Black-Scholes option pricing model. Certain of our grants have performance-based vesting terms. We amortize the fair value of these awards over their estimated vesting terms which are based on both the probability and estimated timing of the achievement of these performance goals. See Note 11 to the financial statements for additional information on our stock-based compensation.
Revenue recognition
The Company recognizes revenues in accordance with Accounting Standards Codification 605 (ASC 605 “Revenue Recognition”) and Staff Accounting Bulletin No 104, and accordingly all of the following criteria must be met for revenues to be recognized: persuasive evidence of an arrangement exists, delivery has occurred or services have been rendered, the price to the buyer
is fixed and determinable and collectability is reasonably assured. The majority of the Company’s revenue results from contracts with direct customers and revenues are generated upon performance of contracted services. The Company derives the majority of its revenue from water resource management as it relates to the oil and gas industry, including transportation and disposal of fresh and salt water by Company-owned trucks to customer sites for use in drilling and hydraulic fracturing activities and from customer sites to remove and dispose of backflow and produced water originating from oil and gas wells. Revenues are also generated through fees charged for use of the Company’s disposal wells and from the rental of tanks and other equipment. Transportation and disposal rates are generally based on a fixed fee per barrel of disposal water or, in certain circumstances, transportation is based on an hourly rate. Rates for other services are based on negotiated rates with the Company’s customers and revenue is recognized when the services have been performed. Excise and other taxes collected from customers and remitted to governmental authorities are not included in revenue.
Income Taxes
We account for income taxes under the liability method. Deferred tax assets and liabilities are determined based on differences between financial reporting and tax bases of assets and liabilities and are measured using the enacted tax rates and laws that will be in effect when the differences are expected to reverse. We measure and record income tax contingency accruals in accordance with ASC 740, Income Taxes.
We recognize liabilities for uncertain income tax positions based on a two-step process. The first step is to evaluate the tax position for recognition by determining if the weight of available evidence indicates that it is more likely than not that the position will be sustained on audit, including resolution of related appeals or litigation processes, if any. The second step requires us to estimate and measure the tax benefit as the largest amount that is more than 50% likely to be realized upon ultimate settlement. It is inherently difficult and subjective to estimate such amounts, as we must determine the probability of various possible outcomes. We reevaluate these uncertain tax positions on a quarterly basis or when new information becomes available to management. These reevaluations are based on factors including, but not limited to, changes in facts or circumstances, changes in tax law, successfully settled issues under audit, expirations due to statutes, and new audit activity. Such a change in recognition or measurement could result in the recognition of a tax benefit or an increase to the tax accrual.
We classify interest related to income tax liabilities as income tax expense, and if applicable, penalties are recognized as a component of income tax expense. The income tax liabilities and accrued interest and penalties that are anticipated to be due within one year of the balance sheet date are presented as current liabilities in our consolidated balance sheets.
Income or Loss Per Common Share
Basic net income or loss per common share is computed by dividing the net income or loss attributable to common stockholders by the weighted average number of shares of common stock outstanding during the period. Diluted net income or loss per common share is calculated in the same manner, but also considers the impact to net income and common shares for the potential dilution from stock options, stock warrants and any other outstanding convertible securities.
We have issued potentially dilutive instruments in the form of our 8% Series A Preferred Stock, Series B Preferred Stock, common stock warrants and common stock options granted to our employees. There were 14,780,440 and 22,778,356 potentially dilutive securities outstanding at December 31, 2012 and 2011, respectively. We did not include any of these instruments in our calculation of diluted loss per share during the period because to include them would be anti-dilutive due to our net loss during the periods.
Contractual Obligations and Commercial Commitments
We have the following contractual obligations as of December 31, 2012.
(a) See Note 7 - Notes Payable, for further discussion of variable-rate terms of notes.
(b) Assumes 9% interest over 1 year term due to its classification.
(c) Represents future minimum lease payments for non-cancelable operating leases for property, equipment and certain office equipment.
Off-Balance Sheet Arrangements
We do not have any off-balance sheet arrangements, unconsolidated variable interest entities, or financing partnerships.
Item 8.
Item 8. Financial Statements and Supplementary Data
See Item 15
Item 9.
Item 9. Changes In and Disagreements with Accountants on Accounting and Financial Disclosure
None
Item 9A(T).
Item 9A(T). Controls and Procedures
Evaluation of Disclosure Controls and Procedures.
Management, under the general direction of the principal executive officer and the principal financial officer, has performed an evaluation of the effectiveness of our disclosure controls and procedures (as defined in Rule 13a-15(e) promulgated under the Securities Exchange Act of 1934) as of the end of the period covered by this report. This evaluation included consideration of the controls and procedures that are designed to ensure that information required to be disclosed by us in reports that we file or submit under the Securities Exchange Act is recorded, processed, summarized and reported within the time periods specified in Securities and Exchange Commission rules and forms, and that information required to be disclosed in reports filed by us under the Securities Exchange Act is accumulated and communicated to management, including the principal executive officer and the principal financial officer, in such a manner as to allow timely decisions regarding the required disclosure. Based on this evaluation, the principal executive officer and the principal financial officer concluded that our disclosure controls and procedures were not effective as of the end of the period covered by this annual report due to the material weakness described below. We were not required to have, and did not engage, an independent registered public accounting firm to audit our assessment of the effectiveness of internal control over financial reporting.
To address the material weakness described in this Item 9A, we performed additional analyses and other post-closing procedures designed to provide reasonable assurance that our consolidated financial statements were prepared in accordance with generally accepted accounting principles in the United States of America (“US GAAP”). As a result of these procedures, we believe that the consolidated financial statements included in this report fairly present, in all material respects, our financial condition, results of operations, changes in stockholders’ equity and cash flows for the periods presented, in conformity with US GAAP.
Limitations inherent in all controls
Our management, including the CEO and CFO, recognizes that the disclosure controls and procedures (discussed above) and internal controls over financial reporting may not prevent or detect misstatements or fraud. Any controls system, no matter how well designed and operated, can only provide reasonable, and not absolute, assurance of achieving the desired control objectives. Because of such limitations there is a risk that material misstatements or instances of fraud will not be prevented or detected on a timely basis by the financial reporting process. However, these inherent limitations are known features of the financial reporting process. Therefore, it is possible to design into the process safeguards to reduce, though not eliminate, this risk.
Material Weakness
A material weakness is a control deficiency, or a combination of control deficiencies, in internal control over financial reporting, such that there is a reasonable possibility that a material misstatement of our annual or interim financial statements will not be prevented or detected on a timely basis.
In connection with the preparation of the financial statements included in this report, management identified the following material weakness: we had a lack of sufficient, qualified personnel to design and manage an effective control environment.
Due to the lack of sufficient, qualified personnel, we did not have the appropriate level of accounting knowledge, experience and training in US GAAP to assess the completeness and accuracy of our accounting matters. In addition, we did not maintain effective controls over the period-end financial reporting process, including controls with respect to the preparation, review, supervision and monitoring of accounting operations. Specifically, we did not maintain effective controls to provide reasonable assurance that monthly account reconciliations were reviewed on a timely basis and that monthly and quarterly financial information was prepared and reviewed timely. Finally, we had insufficient segregation of duties and insufficient controls that would mitigate conflicting roles within the control environment to prevent material misstatement.
Remediation Plans
We have initiated a number of steps and plan to continue to implement measures designed to improve our internal control over financial reporting and disclosure controls and procedures in order to remediate the material weakness, noted specifically above.
To remediate the material weakness in our control environment, we plan to implement certain personnel changes to establish an environment necessary to prevent or detect potential deficiencies in the preparation of our financial statements and controls to support our desired internal control over financial reporting and disclosure controls and procedures. We will implement more formalized processes and controls to identify, review and document accounting treatment of normal, recurring transactions. To implement these processes and controls related to the complete and timely evaluation of accounting issues, we will continue to add staff and/or seek assistance from outside consultants, as warranted. Accordingly, we are in the process of expanding our accounting department to respond to our recent growth. We believe that the personnel we have recently added and that we plan to add in the near future, in combination with the other initiatives explained herein, will enable us to improve the scope and quality of our internal review of accounting matters and financial reporting and remediate this material weakness.
We are realigning the responsibilities and accountability in the financial reporting process and implementing additional monitoring and detective controls to remediate the material weakness in period-end financial reporting processes. These additional controls include: realignment of duties when segregation is needed and a financial close timetable and reporting calendar by department that will be monitored by the Chief Financial Officer to ensure these reviews are completed on a timely basis to allow sufficient time for review by management and permit the timely preparation and review of monthly and quarterly financial statements.
We believe the foregoing efforts will effectively remediate the material weakness.
Changes in Internal Control over Financial Reporting.
There have been no significant changes in our internal control over financial reporting that occurred during the quarter ended December 31, 2012 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
Item 9B.
Item 9B. Other Information
None.
PART III
Item 10.
Item 10. Directors, Executive Officers and Corporate Governance
GreenHunter Energy’s directors and executive officers, including their ages and current positions with us and/or certain additional information, are set forth below.
Gary C. Evans - Chairman
Mr. Evans has served as Chairman and Chief Executive Officer of GreenHunter Energy, Inc. since December 2006. Since January 1, 2013, Mr. Evans has served solely as the Company’s Chairman of the Board. Gary C. Evans presently serves as Chairman of the Board and Chief Executive Officer of Magnum Hunter Resources Corporation (NYSE “MHR”), a Houston based oil and gas exploration and production company specializing in unconventional resource plays in North America where he has held that position since May 2009. Mr. Evans previously founded and served as the Chairman and Chief Executive Officer of Magnum Hunter Resources Inc. (MHRI), a NYSE listed company, for twenty years before selling MHRI to Cimarex Energy for approximately $2.2 billion in June 2005. In 2005, Mr. Evans formed Wind Hunter Energy, LLC, a renewable energy company which was subsequently acquired in December 2006 by GreenHunter Energy, Inc. (NYSE MKT: “GRH”), an emerging water resource company focusing on oil field water management and clean water technologies active in the unconventional resource plays. Mr. Evans serves as an Individual Trustee of TEL Offshore Trust, a publicly listed oil and gas trust, and is a Director of Novavax Inc., a NASDAQ listed clinical-stage vaccine biotechnology company. Mr. Evans was recognized by Ernst and Young as the Southwest Area 2004 Entrepreneur of the Year for the Energy Sector and was subsequently inducted into the World Hall of Fame for Ernst & Young Entrepreneurs. Mr. Evans was recognized in 2013 as the Energy Industry Leader of the year. Mr. Evans serves on the Board of the Maguire Energy Institute at Southern Methodist University and speaks regularly at energy industry conferences around the world on the current affairs of the oil and gas business.
Roy E. Easley - Director
Mr. Easley has been a Director of the Company since February 14, 2012. Mr. Easley has over 32 years of business development and executive management experience in the oil and natural gas exploration and production industry. Mr. Easley is Managing Partner of Easley Exploration Partners, LLC in Dallas which was formed to develop exploration projects in Texas. Previously, Mr. Easley served in various roles with Hunt Oil Company including Senior Vice President of Hunt’s U.S. Exploration, U.S. Exploration and Production and Gulf Coast/Gulf of Mexico operations. Prior to Hunt, Mr. Easley was Director of Business Development for Chieftain International where he was responsible for acquisitions as well as assisting the Chief Operating Officer in management of the Company’s Gulf of Mexico business activities.
Mr. Easley was also associated with Tana Oil and Gas Corporation and he began his career with Exxon Company USA after graduating from the University of Texas at Austin with a Bachelor of Science Degree in Geological Sciences. Mr. Easley is a member of IPAA and recently served as Vice President and Director of the Dallas Petroleum Club.
Julie Silcock - Director
Ms. Silcock has been a Director of the Company since January 8, 2013. Ms. Silcock is Managing Director and Co-Head of Houlihan Lokey’s Investment Banking practice in the Southwest region of the U.S. She has more than 25 years of experience advising companies on M&A, equity and debt capital market transactions, private debt and equity placements, and high-yield offerings for growth-oriented companies across all industries. She joined Houlihan Lokey in March 2009 to expand its client coverage through her broad and deep relationships with CEOs and business leaders in these regions. Ms. Silcock is based in the Dallas office.
Before joining the firm, Ms. Silcock was Founder, Managing Director, and Head of Southwest Investment Banking for Citigroup Global Markets Inc. from 2000 to early 2009. From 1997 to 2000, she was a Managing Director with Donaldson, Lufkin & Jenrette’s Investment Banking Practice in Dallas, where she executed the full range of transactions for clients in the industrial, business and financial services, energy, consumer, technology, and media and telecom sectors. From 1989 to 1997, she was a Senior Managing Director at Bear Stearns & Co. in Dallas, where she focused on growth-oriented companies in the Southwest and Southeast. During the course of her career, she has led teams on initial and a series of subsequent capital market and M&A transactions for companies that have reached significant scale, including Affiliated Computer Services, Inc. (now part of Xerox Corp.), Aleris International, Inc. (taken private by TPG Capital), Brightstar Corp., Cinemark, Inc., Compaq Computer Corp. (now part of Hewlett-Packard Co.), Dean Foods Co., Outdoor Systems (now part of Clear Channel Communications Inc.), Ubiquitel, Inc. (Sprint affiliate sold to Sprint Nextel Corp.), and United Insurance Co. (now part of Aon PLC). Ms. Silcock began her career at Credit Suisse Group in New York in the Mergers and Acquisitions Group.
Ms. Silcock graduated cum laude with a B.A. from Princeton University and earned an MBA from the Stanford Graduate School of Business. She remains active with both Princeton and Stanford (Co-Chairman of Stanford’s 25th Reunion Fundraising Campaign in 2010), and is on the Board of the United States Ski and Snowboard Association, which supports Olympic athletes. She was formerly on the Board of Mesa Airlines, a publicly traded company. She is currently a member of Women Corporate Directors (WCD), an organization of women who serve on public company Boards.
Ronald H. Walker - Director
Ronald H. Walker has been a director of the company since November 1, 2007. Mr. Walker currently serves as the President of the Richard Nixon Foundation. Prior to his retirement in 2001, Mr. Walker was a senior partner with Korn/Ferry International, the world’s largest executive search firm, for over 20 years. At Korn/Ferry, Mr. Walker’s client base included the Fortune 100 companies. Mr. Walker’s extensive record of government services includes Special Assistant to the President of the United States from 1969 to 1972 where he was the founder and first director of the White House Advance Office. In this position, he was responsible for planning and coordinating all Presidential travel both domestic and international. Those visits included all 50 states and 25 countries. He personally directed the preparations for the President’s historic trips to the People’s Republic of China and Russia.
President Nixon appointed Mr. Walker the 8th Director of the National Park Service in December 1972 where he served until 1975. In this position, he was charged with the preservation and care of the country’s 300 National Park System areas encompassing 300 million acres of land. He administered a budget of $350 million and managed 15,000 employees who served the 230 million people that visit America’s parklands annually.
Mr. Walker previously served as a consultant to the White House Personnel Office. He has also served as a senior advisor to four Presidents and on Special Diplomatic assignments abroad. In addition, he has served as a senior advisor to nine Republican Conventions, highlighted by his Chairmanship and position of CEO of the 1984 Republican National Convention held in Dallas, Texas. At the request of President Ronald Reagan, he also chaired the 50th Presidential Inauguration.
Mr. Walker has served on numerous Boards, both public and private, including being a public sector member of the United States Olympic Committee (USOC), the National Collegiate Athletic Association (NCAA), Kennedy Center, Vice Chair of the President’s Council on Physical Fitness and Sports, past chairman of the Freedom’s Foundation at Valley Forge, the National Park Foundation, Grand Teton National Park Foundation, Ford’s Theatre, and Vice Chairman of the Bicentennial of the U.S. Constitution.
Mr. Walker is a distinguished graduate from the University of Arizona with a BA in Government and American History. He also served in the US Army reaching the rank of captain
Jonathan D. Hoopes - Director, President and Chief Operating Officer
Mr. Hoopes has served as a Director, President and Chief Operating Officer of the Company since October 1, 2009. As of January 1, 2013, Mr. Hoopes serves as the Company’s interim CEO. Mr. Hoopes is a fifteen-year veteran of Wall Street who has spent most of his professional career in the investment banking and financial services industry with a focus on the traditional and renewable energy sectors as well as the information technology sector. He has served in various capital markets, investment banking, and equity research roles at Goldman Sachs, Deutsche Bank, and UBS in New York, Hong Kong and London. Mr. Hoopes served as Managing Director at Think Equity, LLC where he led two teams of research analysts in the alternative energy and technology sectors. Mr. Hoopes also provided cross-border strategic consulting and M&A advisory services to corporate clients and private equity investors with energy technology and services interests in China. He holds an MBA in International Finance from the Wharton School and an MA in East Asian Studies from the University of Pennsylvania.
Morgan F. Johnston - Senior Vice President, General Counsel, and Secretary
Morgan F. Johnston has served as Senior Vice President, General Counsel and Secretary of the Company since March 1, 2007. From June 2005 until March 1, 2007, Mr. Johnston was a sole practitioner representing clients in corporate and securities law. He previously served as the Senior Vice President, General Counsel and Secretary of Magnum Hunter Resources, Inc. (MHR), a NYSE listed company, from January 1, 2003 to June of 2005. He served as MHR’s Vice President and General Counsel since April 1997 and also served as MHR’s Secretary since May 1996. Magnum Hunter Resources, Inc. was in the business of exploration and production of crude oil and natural gas.
Mr. Johnston was in private practice as a sole practitioner from May 1996 to April 1997, specializing in corporate and securities law. From February 1994 to May 1996, Mr. Johnston served as General Counsel for Millennia, Inc. and Digital Communications Technology Corporation, two AMEX listed companies. He also previously served as securities counsel for Motel 6 L.P., an NYSE listed company. Mr. Johnston graduated cum laude from Texas Tech Law School in May 1986 and was also a member of the Texas Tech Law Review. He is licensed to practice law in the State of Texas.
David S. Krueger - Vice President and Chief Financial Officer
David S. Krueger has served as Vice President and Chief Financial Officer of GreenHunter since May 2006. From June 2005 to May 2006, Mr. Krueger was Vice President and Chief Financial Officer for Sulphur River Exploration, Inc. in Dallas, Texas. Sulphur River Exploration, Inc. is an independent oil and gas exploration, production, and operating company.
Mr. Krueger served as Vice President and Chief Accounting Officer of Magnum Hunter Resources, Inc. from January 1997 to June 2005. Magnum Hunter Resources, Inc. was in the business of exploration and production of crude oil and natural gas. Mr. Krueger acted as Vice President-Finance of Cimarron Gas Holding Co., a gas processing and natural gas liquids marketing company in Tulsa, Oklahoma, from April 1992 until January 1997. Mr. Krueger served as Vice President/Controller of American Central Gas Companies, Inc., a gas gathering, processing and marketing company from May 1988 until April 1992. From 1974 to 1986, Mr. Krueger served in various managerial capacities for Southland Energy Corporation. Mr. Krueger, a certified public accountant, graduated from the University of Arkansas with a B.S. degree in Business Administration and earned his M.B.A. from the University of Tulsa.
Corporate Governance
The business, property and affairs of the Company are managed by the Chief Executive Officer under the direction of the Board of Directors. The Board has responsibility for establishing broad corporate policies and for overall performance and direction of the Company, but is not involved in the day-to-day operations. Members of the Board keep informed of the company’s business by participating in Board and committee meetings, by reviewing analyses and reports sent to them regularly, and through discussions with the Chief Executive Officer and other officers.
The Board has adopted corporate governance guidelines that addresses significant issues of corporate governance and set forth the procedures by which the Board carries out its responsibilities. Among the areas addressed by the guidelines are director qualifications and responsibilities, Board committee responsibilities, selection and election of directors, director compensation and tenure, director orientation and continuing education, access to management and independent advisors, succession planning and management development, board meetings and board and committee performance evaluations. The Board’s Nominating/Corporate Governance committee is responsible for assessing and periodically reviewing the adequacy of these guidelines.
The guidelines provide that at least a majority of the members of the Board must be independent as required by NYSE MKT corporate governance listing standards. The Board has affirmatively determined that all directors, with the exception of Mr. Gary C. Evans, Chairman and Mr. Jonathan D. Hoopes, Interim CEO, President and COO, qualify as independent directors under these standards based on its review of all relevant facts and circumstances.
The company also has an audit committee established in accordance with the requirements of the NYSE MKT and the Securities Exchange Act of 1934, as amended. As the Company qualifies as a smaller reporting company, the audit committee is currently comprised of two independent directors: Ms. Julie E. Silcock, Chairman, and Mr. Ronald H. Walker.
Code of Conduct and Ethics
We have a code of conduct and ethics that applies to its officers, employees and directors. This code assists employees in resolving ethical issues that may arise in complying with our policies. Our senior financial officers are also subject to the code of ethics for senior financial officers. The purpose of these codes is to promote, among other things:
•
Ethical handling of actual or apparent conflicts of interest
•
Full, fair and accurate and timely disclosure in filings with the Securities and Exchange Commission and other public disclosures;
•
Compliance with the law and other regulations;
•
Protection of the Company’s assets;
•
Insider trading policies; and
•
Prompt internal reporting of violations of the codes.
Both of these codes are available on our website at www.greenhunterenergy.com. We will provide these codes free of charge to stockholders who request them. Any waiver of these codes with respect to officers and directors of the company may be made only by the Board of Directors and will be disclosed to stockholders on our website, along with any amendments to these codes.
Item 11.
Item 11. Executive Compensation
Summary Compensation Table.
The following table sets forth all compensation for the fiscal years ended 2012 and 2011 awarded to, earned by or paid to executive officers of the Company.
Summary Compensation Table.
* This column represents the employees’ car allowance for the applicable year.
** Mr. Evans’ compensation for 2012 includes $212,000 of deferred compensation from 2011. Mr. Krueger’s compensation for 2012 includes $140,674 of deferred compensation from 2011.
*** Mr. Evans received a stock option grant for 1,000,000 shares, vesting upon completion of certain performance criteria at an exercise price of $1.65 on February 13, 2012. Mr. Hoopes received a stock option grant for 250,000 shares, vesting upon completion of certain performance criteria at an exercise price of $1.65 on February 13, 2012. Mr. Krueger received a stock option grant for 100,000 shares, vesting over a three year period at an exercise price of $1.65 on February 13, 2012. Mr. Johnston received a stock option grant for 100,000 shares, vesting over a three year period at an exercise price of $1.65 on February 13, 2012.
**** Mr. Evans received a stock option grant for 1,000,000 shares, vesting over a three year period at an exercise price of $0.90 on April 6, 2011. Mr. Hoopes received a stock option grant for 400,000 shares, vesting over a three year period at an exercise price of $0.90 on April 6, 2011. Mr. Krueger received a stock option grant for 100,000 shares, vesting over a three year period at an exercise price of $0.90 on April 6, 2011. Mr. Johnston received a stock option grant for 150,000 shares, vesting over a three year period at an exercise price of $0.90 on April 6, 2011.
Outstanding Equity Awards at Fiscal Year-End
The following non-incentive stock options were outstanding to the below named executives at December 31, 2012:
* There was no public market for our common shares on the date of grant of the option. Accordingly, the amounts set out in this column are based upon the fair market value per common share as estimated by us as at the date of grant of the option, which was $5.00.
Director Compensation
The following compensation was paid to our independent members of the board of directors for the year ended December 31, 2012:
* Mr. Easley was not elected to the Board until February 14, 2012.
** The Board of Directors has deferred any cash compensation payments for acting as a Board member until the Company’s performance has improved. However, Board members are receiving restricted stock payments in lieu of their annual retainer payment. Mr. Ormand, Mr. Walker and Mr. Easley received 70,731 shares of restricted common stock. The number of shares each director received was based on the market price of the stock on the date the retainer was earned.
For fiscal 2013, our directors (other than members of our management) will be entitled to receive an annual retainer of $50,000, payable quarterly, plus $1,000 per meeting of our board of directors, $500 per meeting of a committee of the board attended or $250 if such board member attends a board or committee meeting by telephone. These directors will also be reimbursed for all out-of-pocket expenses incurred in their capacities as members of the board. We will also grant new independent directors 100,000 stock options at an exercise price equal to the then market value vesting over a three year period. We currently maintain directors and officers liability insurance coverage with an aggregate policy limit of $5,000,000.
Item 12.
Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
The following table sets forth information regarding beneficial ownership of our common stock as of March 28, 2013 held by (i) each of our directors and named executive officers; (ii) all directors and executive officers as a group; and (iii) any person (or group) who is known to GreenHunter to be the beneficial owner of more than 5% of any class of its common stock.
Unless otherwise specified, the address of each of the persons set forth is in care of GreenHunter Energy, Inc., 1048 Texan Trail, Grapevine, Texas 76051.
* Less than 1%.
(1) Beneficial Ownership is determined in accordance with the rules of the Securities and Exchange Commission and generally includes voting or investment power with respect to securities. Each of the beneficial owners listed below has direct ownership of and sole voting power and investment power with respect to the shares of GreenHunter’s common stock.
(2) Includes 10,167,100 shares held directly by Investment Hunter, LLC, 4,000,000 shares held directly by Evans Equities LP, and 11,800 shares held as custodian for his children. It also includes 250,000 common stock purchase warrants at an exercise price of $1.50, 250,000 common stock purchase warrants at an exercise price of $2.50, 352,000 common stock purchase options at an exercise price of $18.91 per share and 1,000,000 common stock purchase options at an exercise price of $1.96 and 333,333 common stock purchase options at an exercise price of $.90. Gary C. Evans is the manager of Investment Hunter, LLC and the general partner of Evans Equities LP and his children are the beneficial owners of each.
(3) Includes 33,333 common stock purchase options at an exercise price of $1.65 per share.
(4) Includes 25,000 common stock purchase warrants at an exercise price of $1.50, 25,000 common stock purchase warrants at an exercise price of $2.50
(5) Includes 100,000 common stock purchase options at an exercise price of $10.00 per share and 100,000 common stock purchase options at an exercise price of $1.96 per share.
(6) Includes 100,000 common stock purchase options at an exercise price of $1.41 per share and 133,333 common stock purchase options at an exercise price of $.90.
(7) Includes 500,000 common stock purchase options at an exercise price of $5.00 per share, 110,000 common stock purchase options at an exercise price of $18.91 per share, 300,000 common stock purchase options at an exercise price of $1.96 per share, 50,000 common stock purchase options at an exercise price of $.90 per share, 33,000 common stock purchase options at an exercise price of $1.65 per share.
(8) Includes 550,000 common stock purchase options at an exercise price of $5.00 per share, 110,000 common stock purchase options at an exercise price of $18.91 per share, 300,000 common stock purchase options at an exercise price of $1.96 per share, 33,333 common stock purchase options at an exercise price of $.90 per share, 33,000 common stock purchase options at an exercise price of $1.65 per share.
(9) A total of 33,444,445 shares of GreenHunter Energy’s Common Stock are considered to be outstanding pursuant to SEC Rule 13d-3(d)(1). For each Beneficial Owner below, any options exercisable or securities convertible into common within 60 days have been included in the denominator.
Item 13.
Item 13. Certain Relationships and Related Transactions, and Director Independence Transactions with Related Persons
Review, Approval or Ratification of Transactions with Related Persons
As provided by our audit committee charter, all related party transactions are to be reviewed and pre-approved by our audit committee. A “related party transaction” is defined to include any transaction or series of transactions exceeding $120,000 in which we are a participant and any related person has a material interest. Related persons would include our directors, executive officers (and immediate family members of our directors and executive officers), and persons controlling over five percent of our outstanding common stock. In determining whether to approve a related party transaction, the audit committee will generally evaluate the transaction in terms of the following:
•
The nature of the relationships among the parties;
•
The materiality of the transaction to the Company;
•
The availability of other sources for comparable products or services;
•
The terms available to unrelated third parties or to employees generally;
•
The related person’s interest in the transaction; and
•
The benefit of the transaction to the related person and to the Company.
Additionally, in cases of transactions in which a director or executive officer may have an interest, our board of directors also will evaluate the effect of the transaction on such individual’s willingness or ability to properly perform his or her duties at the Company.
The audit committee will then document its findings and conclusions in written minutes. In the event a transaction relates to a member of our audit committee, that member will not participate in the audit committee’s deliberations.
Transactions with Management and Others
On September 29, 2010 and December 30, 2010, we entered into a promissory note with Mr. Gary C. Evans, our Chairman, for $600,000 and $260,000, respectively, due on October 31, 2010 and January 1, 2011, respectively, at an interest rate of 10.0%. On May 6, 2011, we borrowed an additional $100,000 from our Chairman and the two existing promissory notes were combined into one promissory note with the additional borrowing and extended to December 31, 2011, with a total balance of $960,000. On June 21, 2011, $500,000 of the $960,000 principal balance of 10.0% promissory note due to our Chairman was converted into 250,000 units comprised of two shares of common stock and two common stock warrants that are immediately exercisable and expire on January 31, 2014, one with an exercise price of $1.50 and another with an exercise price of $2.50 per share at a price of $2.00 per unit.
We have also entered into an additional promissory note due to our Chairman for $570,000 due on December 31, 2011 at an interest rate of 14.0%. On November 28, 2011, the interest rate on the 10% promissory note was increased to 14.0%, retrospectively effective January 1, 2011. The promissory notes were also amended to provide Mr. Evans the right to convert the promissory notes into shares of our common stock with a conversion price equal to the closing price of the common stock on the day prior to his election to convert.
In 2011, we obtained accounting services (unrelated to those provided by our independent registered accounting firm) for a fee and provided office space and services for a fee to Magnum Hunter Resources Corporation, an entity for which our Chairman is a director, officer and major stockholder and of which one of our other directors, Ronald D. Ormand, is a director and officer. Also during 2011, we earned storage revenue for providing water storage tanks for lease to Triad Hunter, LLC, a wholly-owned subsidiary of Magnum Hunter Resources Corporation.
On October 13, 2011, we entered into an agreement to sell one of our office buildings in Grapevine, Texas, for $1.7 million to Magnum Hunter Resources Corporation. We recognized a gain of approximately $458 thousand on the sale of the building. A portion of the proceeds was used to reduce our note payable due November 30, 2017, by $1.4 million on the closing date.
On February 17, 2012, we closed on the acquisition of 100% of the equity ownership interest of Hunter Disposal, LLC, a former wholly owned subsidiary of Triad Hunter LLC. Triad Hunter LLC, is a wholly owned subsidiary of Magnum Hunter Resources Corporation. The terms and conditions of the equity purchase agreement between the parties were approved by the audit committee or an independent special committee for each party.
Item 14.
Item 14. Principal Accounting Fees and Services
(a) Includes fees paid to Hein & Associates LLP for our annual audit and quarterly reviews and services in connection with our filing of registration statements.
(b) Includes fees paid to Hein & Associates LLP for audit services related to acquisitions.
The Audit Committee generally makes recommendations to the Board regarding the selection of the independent registered accounting firm, reviews the independence of such accountants, approves the scope of the annual audit, approves the rendering of any material non-audit services by the independent accountants, approves the fee payable to the independent accountants and reviews the audit results. The Audit Committee approves all fees paid to our principal accountants.
Part IV
Item 15.
Item 15. Exhibits and Financial Statement Schedules
(a) Index to Financial Statements
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Stockholders
GreenHunter Energy, Inc.
We have audited the accompanying consolidated balance sheets of GreenHunter Energy, Inc. and subsidiaries (collectively, the “Company”) as of December 31, 2012 and 2011, and the related consolidated statements of operations, changes in stockholders’ equity, and cash flows for the each of the years then ended. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audits included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of GreenHunter Energy, Inc. and subsidiaries as of December 31, 2012 and 2011 and the results of their operations and their cash flows for each of the years then ended in conformity with U.S. generally accepted accounting principles.
/s/ Hein & Associates LLP
Dallas, Texas
April 5, 2013
GREENHUNTER ENERGY, INC.
CONSOLIDATED BALANCE SHEETS
See accompanying notes to consolidated financial statements
GREENHUNTER ENERGY, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
See accompanying notes to consolidated financial statements
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY
FOR THE PERIOD FROM JANUARY 1, 2011 TO DECEMBER 31, 2012
See accompanying notes to consolidated financial statements
GREENHUNTER ENERGY, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
See accompanying notes to consolidated financial statements
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1. ORGANIZATION, NATURE OF OPERATIONS, AND LIQUIDITY
GreenHunter Energy, Inc. (“GreenHunter”) was incorporated in the State of Delaware on June 7, 2005 under the name BTHC IV, Inc. We were formed for the purpose of reincorporating BTHC IV, LLC, a Texas limited liability company, in the State of Delaware. BTHC IV, LLC was reincorporated in Delaware by means of a merger into our company on April 11, 2006.
On December 6, 2006, GreenHunter Wind Energy LLC (“Wind Energy”), completed a “reverse acquisition” with GreenHunter. In exchange for all of the membership interest of Wind Energy, we issued 14,560,000 shares of Common Stock to the sole shareholder of Wind Energy, or 97.1% of all of the issued and outstanding stock of the company. Simultaneous with the closing of the transaction with Wind Energy, we changed our name to GreenHunter Energy, Inc. and increased the number of authorized shares of common stock to 100,000,000, consisting of 90,000,000 shares of common stock, having a par value of $.001 per share and 10,000,000 shares of preferred stock, having a par value of $.001 per share.
Nature of Operations
Our business plan is to acquire businesses, develop projects, and operate assets involved in the clean water business as it relates to the oil and gas industry in the unconventional oil and natural gas resource plays. We had previously structured our business to become a leading provider of clean energy products offering industrial, business, and residential customers the opportunity to purchase and utilize clean energy generated from renewable sources. We have refocused our efforts beginning in 2011 on clean water management systems and services. Management has identified a significant unmet need and market opportunity in the area of clean water management as it relates to unconventional oil and natural gas resource plays in the energy industry.
On May 14, 2007, we acquired an inactive 18.5 megawatt (“MW”) (nameplate capacity) biomass plant located in Southern California. The plant is owned by our wholly-owned subsidiary, GreenHunter Mesquite Lake, Inc. (“Mesquite Lake”), which was formed for the purpose of operating and owning assets which convert waste material to electricity. We began refurbishing this bio-mass plant during July 2008 but ceased work during the fourth quarter of 2008 when we were informed that certain required permits at the facility were not in place. On August 19, 2009 we entered into a power purchase agreement with a major public utility based in Southern California. During 2012, the Company determined that it had insufficient time resources and a different business plan altogether which prevented the Company from continuing the development of the Mesquite Lake Biomass Project. As a result, management believes the carrying value of the asset is greater than the value that might be realized by the development or sale of the asset. The Company believes the fair value of the asset without a viable power purchase agreement which expired on March 31, 2013 should be its salvage value. We obtained an independent evaluation of the asset’s salvage value as of December 31, 2012, which was $2.0 million. The total carrying value of the project net assets prior to recording an impairment to its value was $17.9 million. The Company recorded an impairment of asset value of $12.9 million at September 30, 2012 and a further impairment of $3.0 million to reflect its salvage value at December 31, 2012. We recorded no impairments during 2011.
Our Wind Energy segment remained in the development stage prior to the sale of the rights we held to potential wind energy farm locations in California to operate and gather data produced from wind measurement equipment located on these sites. The sale of these rights for $2.9 million was finalized during 2012 and is reflected as discontinued operations. See Note 5 - Discontinued Operations.
Current Plan of Operations and Ability to Operate as a Going Concern
As of December 31, 2012, we had a working capital deficit of $11.1 million which includes $2.5 million related to earlier construction activities at our Mesquite Lake Biomass Plant.
We have continued to experience losses from ongoing operations. This raises doubt about our ability to continue as a going concern. We received a number of capital advances in 2011 and 2012 from our Chairman in exchange for promissory notes, all of which have been repaid through December 31, 2012. On August 15, 2011, the letter of guarantee from the Chairman of the Company was increased for up to $2.0 million of credit support if needed to fund future operations, all of which is available as of December 31, 2012. The letter of guarantee has been extended to December 31, 2013.
We have begun to generate revenue from our water management activities. Execution of our business plan for the next twelve months requires the ability to generate cash to satisfy planned operating requirements. We expect the revenue generated from our water management activities, which includes the White Top and Black Water acquisitions, the Hunter Disposal acquisition, the Blue Water acquisition, the Virco acquisition, our South Texas Water Joint Venture and other capital projects in Appalachia, South Texas and other regions, letter of guarantee, credit support and proceeds from sales of our 10% Series C Preferred Stock, we anticipate having sufficient cash reserves to meet all of our anticipated operating obligations for the next twelve months. Subsequent to December 31, 2012, the Company issued the remaining common stock and our non-convertible 10% Series C Cumulative Preferred Stock (“10% Series C Preferred Stock”) (liquidation preference of $25.00 per share) available under its current At-The-Market registration statement at a public offering price of $21.00 per share. The net cash proceeds received upon issuance of these securities was $5.2 million for the issuance of 221,946 shares of common stock and 265,436 shares of Series C Preferred Stock. Planned capital expenditures are wholly dependent on the Company’s ability to secure additional capital. As a result, we are in the process of seeking
additional capital through a number of different alternatives, and particularly with respect to procuring working capital sufficient for the development of our water management projects so that we can begin to generate positive cash flow to sustain operations. We continue to pursue numerous opportunities in the water resource management business as it specifically relates to the oil and gas industry.
There can be no assurance that we will be successful in generating sufficient cash flows to fund our planned development activities related to our water management business, or that the operations of our water management business will generate sufficient cash flows to fund our ongoing operations subsequent to its development. If we are unsuccessful in raising sufficient capital to fund the development of our water management business, or if our water management business fails to generate sufficient cash flows to fund our ongoing operating cash flow needs subsequent to its development, we will be required to seek alternative financing, sell our assets, or any combination thereof. Further, considering our financial condition, we may be forced to accept financing or sell assets at terms less favorable than would otherwise be available.
NOTE 2. PRINCIPLES OF CONSOLIDATION AND BASIS OF PRESENTATION
The accompanying consolidated financial statements include the accounts of GreenHunter Energy, Inc. and our wholly-owned subsidiaries, Hunter Disposal, LLC, GreenHunter Water, LLC, GreenHunter Mesquite Lake, LLC (“Mesquite Lake”), Hunter Hauling, LLC (“Hunter Hauling”), Eagle Ford Water Hunter Joint Venture (“Eagle Ford Water”), GreenHunter Wind Energy, LLC (“Wind”), Little Muskingum Drilling, LLC (“Virco”), Virco Realty, Inc, (“Virco”), White Top Oilfield Construction, LLC (“White Top”) and Black Water Services, LLC (“Black Water”). All significant intercompany transactions and balances have been eliminated. All significant intercompany transactions and balances have been eliminated.
NOTE 3. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Use of Estimates
The preparation of financial statements in accordance with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect reported amounts. These estimates are based on information available at the date of the financial statements. Therefore, actual results could differ materially from those estimates. Significant estimates include the allocation of purchase price to assets and liabilities acquired, allowance for doubtful accounts receivable, asset retirement obligations, fair value of stock-based compensation, contingent liabilities and the assessment of assets for impairment.
Reclassifications
Certain prior period amounts have been reclassified to conform to the current year presentation.
Cash and Cash Equivalents
Cash and cash equivalents include securities with maturities of 90 days or less at the date of purchase. At times, we have cash deposits in excess of federally insured limits.
Accounts Receivable
Accounts receivable consists of water disposal, transportation, storage and other revenue from rental of our water storage tanks. We review accounts receivable periodically and reduce the carrying amount with a valuation allowance that reflects our best estimate of the amount that may not be collectible. The allowance deemed necessary was $154 thousand and $0 thousand as of December 31, 2012 and 2011, respectively. Bad debt expense was $144 thousand and $0 for the year ended December 31, 2012 and 2011, respectively.
Fixed Assets
Fixed assets are stated at cost. The following is a schedule of our fixed assets as of December 31,:
Depreciation is computed using the straight-line method based on the following useful lives:
Transportation equipment
5 years
Furniture, fixtures & other
5 to 7 years
Water disposal, handling and storage equipment
7 to 20 years
Land improvements
15 years
Buildings
30 years
Water disposal and handling facilities
Estimated injectable barrels over the life of the well
Depreciation expense of $1.9 million and $190 thousand was recorded for the years ending December 31, 2012 and 2011, respectively. Material expenditures which increase the life of an asset are capitalized and depreciated over the estimated remaining useful life of the asset. The cost of equipment sold, or otherwise disposed of, and the related accumulated depreciation or amortization is removed from the accounts, and any gains or losses are reflected in current operations.
Water disposal and handling facilities not yet in service totaling $11.0 million were assets not being depreciated at December 31, 2012, as they were not in use. They will be placed in use and subject to depreciation once construction is completed. Items in Water disposal and handling facilities not yet in service are not subject to depreciation while they are under construction.
We acquired transportation equipment under capital leases with the Black Water and White Top acquisitions on December 31, 2012 totaling $1,203,350, which are included in transportation equipment above.
Deferred Financing Costs
Costs incurred in connection with issuing debt are capitalized and amortized as an adjustment to interest expense over the term of the debt instrument using the interest method. Deferred financing costs are related to the Series B debentures, which are in default and are classified as current liabilities. During 2012, we have exchanged for Series C Preferred Stock all but $90 thousand of these obligations, and the related deferred financing costs were written off at that time.
Other Non-Current Assets
Other non-current assets at December 31, 2012 and 2011 included the following (in thousands):
The power purchase agreement oil deposits of $50,000 were related to the Biomass facility and were written off and included in the impairment expense recorded in 2012, along with a related accrued liability of $1,096,000, for a net impairment of $350,000 included in our impairment expense of $15.9 million.
Impairments
We periodically evaluate whether events and circumstances have occurred that may warrant revision of the estimated useful life of long-term assets or whether the remaining balance of long-term assets should be evaluated for possible impairment. We compare our estimate of the related undiscounted cash flows over the remaining useful lives of the applicable assets to the assets’ carrying values in measuring their recoverability. When the future cash flows are not sufficient to recover an asset’s carrying value, an impairment charge is recorded for the difference between the asset’s fair value and its carrying value. During 2012, the Company determined that it had insufficient time and resources to sufficiently develop the Mesquite Lake Biomass Project so that power could be delivered into the power purchase agreement it had secured as the revenue stream for the project before it expired on March 31, 2013. As a result, management believes the carrying value of the asset is greater than the value that might be realized by the development or sale of the asset. The Company believes the fair value of the asset without a viable power purchase agreement should be its salvage value. We obtained an independent evaluation of the asset’s salvage value as of December 31, 2012, which was $2.0 million, a level three measurement in the fair value valuation hierarchy. The total carrying value of the project net assets prior to recording an impairment to its value was $17.9 million, including $50 thousand of other current assets are $350 thousand of other non-current assets (net of related accrued liabilities). The Company recorded an impairment of asset value of $12.9 million at September 30, 2012 and a further impairment of $3.0 million to reflect its salvage value at December 31, 2012. We recorded no impairments during 2011.
Goodwill
Goodwill represents the excess of the purchase price over the fair value of the net assets of businesses acquired. The Company has recently made an acquisition that has resulted in the recognition of goodwill. The carrying value of goodwill at December 31, 2012 was $3.0 million. Goodwill is not amortized. Instead, goodwill is required to be tested for impairment annually and between annual tests if events or circumstances lead to a determination that it is more likely than not that the fair value of a reporting unit is less than its carrying amount. The goodwill impairment test involves a two-step process; however, if after assessing the totality of events or circumstances, an entity determines it is not more likely than not that the fair value of a reporting unit is less than its carrying amount, then performing the two-step impairment test is unnecessary.
In the event a determination is made that it is more likely than not that the fair value of a reporting unit is less than its carrying value, the first step of the two-step process must be performed. The first step of the test, used to identify potential impairment, compares the estimated fair value of a reporting unit with its carrying amount, including goodwill. If the fair value of a reporting unit exceeds its carrying amount, goodwill of the reporting unit is not considered to be impaired and the second step of the impairment test is unnecessary. If the carrying amount of a reporting unit exceeds its fair value, the second step of the impairment test must be performed to measure the amount of the impairment loss, if any. The second step of the goodwill impairment test compares the implied fair value of reporting unit goodwill with the carrying amount of that goodwill. The implied fair value of goodwill is determined in the same manner as goodwill recognized in a business combination. If the carrying amount of the reporting unit goodwill exceeds the implied fair value of that goodwill, an impairment loss is recognized in an amount equal to that excess.
An entity has the option to bypass the qualitative assessment for any reporting unit in any period and proceed directly to performing the first step of the two-step goodwill impairment test. The Company made the first step of the goodwill impairment test as of December 31, 2012 and concluded that the fair value of the reporting unit exceeded its carrying amount and that goodwill of the reporting unit did not need to be impaired at December 31, 2012. likely than not that any of the reporting unit’s fair values were in excess of their carrying values at that time.
Asset Retirement Obligations
The Company accounts for asset retirement obligations based on the guidance of ASC 410 which addresses accounting and reporting for obligations associated with the retirement of tangible long-lived assets and the associated asset retirement costs. ASC 410 requires that the fair value of a liability for an asset’s retirement obligation be recorded in the period in which it is incurred and the corresponding cost capitalized by increasing the carrying amount of the related long-lived asset. The liability is accreted to its then present value each period, and the capitalized cost is depreciated over the estimated useful life of the related asset. During 2012, we recorded an estimate of the asset retirement obligation on our disposal wells acquired and drilled based on estimated costs to plug and abandon these wells and an analysis of the capacity of the water disposal wells to accept fluid and the effect on useful lives and well plugging cost estimates, a level three measurement in the fair value valuation hierarchy. The following table summarizes the Company’s asset retirement obligation transactions during the year ended December 31, 2012. We had no retirement obligation for the year ended December 31, 2011.
Repairs and Maintenance
We charge the cost of repairs and maintenance, including the cost of replacing minor items not constituting substantial betterment, to selling, general and administrative expenses as these costs are incurred.
Revenue Recognition
The Company recognizes revenues in accordance with Accounting Standards Codification 605 (ASC 605 “Revenue Recognition”) and Staff Accounting Bulletin No 104, and accordingly all of the following criteria must be met for revenues to be recognized: persuasive evidence of an arrangement exists, delivery has occurred or services have been rendered, the price to the buyer is fixed and determinable and collectability is reasonably assured. The majority of the Company’s revenue results from contracts with direct customers and revenues are generated upon performance of contracted services. The Company derives the majority of its revenue from water resource management as it relates to the oil and gas industry, including transportation and disposal of fresh and salt water by Company-owned trucks to customer sites for use in drilling and hydraulic fracturing activities and from customer sites to remove and dispose of backflow and produced water originating from oil and gas wells. Revenues are also generated through fees charged for use of the Company’s disposal wells and from the rental of tanks and other equipment. Transportation and disposal rates are generally based on a fixed fee per barrel of disposal water or, in certain circumstances, transportation is based on an hourly rate. Rates for other services are based on negotiated rates with the Company’s customers and revenue is recognized when the services have been performed. Excise and other taxes collected from customers and remitted to governmental authorities are not included in revenue.
Concentration of Customer Risk
Three of the Company’s customers comprised 61% of the Company’s consolidated revenues for the year ended December 31, 2012 and 60% of the Company’s consolidated accounts receivable at December 31, 2012 consisted of accounts receivable due from three customers. In 2011, the majority of our customer base consisted of related parties and affiliates.
Stock-Based Compensation
The Company accounts for share-based compensation in accordance with the provisions of the ASC standards which require companies to estimate the fair value of share-based payment awards made to employees and directors, including stock options, restricted stock and employee stock purchases related to employee stock purchase plans, on the date of grant using an option-pricing model. The value of the portion of the award that is ultimately expected to vest is recognized as an expense ratably over the requisite service periods. We estimate the fair value of each share-based award using the Black-Scholes option pricing model for service and performance based awards and the lattice model for market-based awards. Certain of our grants have performance-based vesting terms. We amortize the fair value of these awards over their estimated vesting terms which are based on both the probability and estimated timing of the achievement of these performance goals. See Note 11 for additional information on our stock-based compensation.
Income Taxes
We account for income taxes under the asset and liability method. Deferred tax assets and liabilities are determined based on differences between financial reporting and tax bases of assets and liabilities and are measured using the enacted tax rates and laws that will be in effect when the differences are expected to reverse. We measure and record income tax contingency accruals in accordance with ASC 740, Income Taxes.
We recognize liabilities for uncertain income tax positions based on a two-step process. The first step is to evaluate the tax position for recognition by determining if the weight of available evidence indicates that it is more likely than not that the position will be sustained on audit, including resolution of related appeals or litigation processes, if any. The second step requires us to estimate and measure the tax benefit as the largest amount that is more than fifty percent likely to be realized upon ultimate settlement. It is inherently difficult and subjective to estimate such amounts, as we must determine the probability of various possible outcomes. We reevaluate these uncertain tax positions on a quarterly basis or when new information becomes available to management. These reevaluations are based on factors including, but not limited to, changes in facts or circumstances, changes in tax law, successfully settled issues under audit, expirations due to statutes, and new audit activity. Such a change in recognition or measurement could result in the recognition of a tax benefit or an increase to the tax accrual.
We classify interest related to income tax liabilities as income tax expense, and if applicable, penalties are recognized as a component of income tax expense. The income tax liabilities and accrued interest and penalties that are anticipated to be due within one year of the balance sheet date are presented as current liabilities in our consolidated balance sheets.
Fair Value of Financial Instruments
Accounting standards define fair value as 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. The standards also establish a framework for measuring fair value and a valuation hierarchy based upon the transparency of inputs used in the valuation of an asset or liability. Classification within the hierarchy is based upon the lowest level of input that is significant to the fair value measurement. The valuation hierarchy contains three levels:
•
Level 1 - Quoted prices (unadjusted) for identical assets or liabilities in active markets
•
Level 2 - Quoted prices for similar assets or liabilities in active markets; quoted prices for identical or similar assets or liabilities in markets that are not active; and model-derived valuations whose inputs or significant value drivers are observable
•
Level 3 - Significant inputs to the valuation model are unobservable
The following table shows assets and liabilities measured at fair value on a recurring basis as of December 31, 2012 and 2011 and the input categories associated with those assets and liabilities.
The significant assumptions used in calculating the fair values of the convertible securities in 2011 were a present value factor of 99.84%, a probability of occurrence of a dilutive event of 0.1%, and a volatility of 80.0%
The following schedule shows the changes in fair value measurements during the year ended December 31, 2012:
The carrying value of cash and cash equivalents, receivables, and accounts payable approximate their respective fair values due to the short-term nature of these instruments. Based on borrowing rates which management believes would currently be available to the Company for similar issues of debt, taking into account the current credit risk of the Company and other market factors, the carrying value of the Company’s debt obligations approximate their fair value.
Income or Loss Per Common Share
Basic income or loss per common share is net income or loss applicable to common stockholders divided by the weighted average number of common shares outstanding during the period. Diluted income or loss per common share is calculated in the same manner, but also considers the impact to net income or loss and common shares outstanding for the potential dilution from stock options, warrants, convertible debentures, preferred stock, and convertible promissory notes.
Shares of our common stock underlying the following securities were not included in dilutive weighted average shares outstanding for the years ended December 31, 2012 and 2011, as their effects would have been anti-dilutive.
Our Series C Preferred Stock is only convertible to common stock at the shareholders election upon a change in control of the Company. The potential dilutive effect of Series C Preferred Stock based on the closing price as of December 31, 2012 would be 24,091,728 common shares.
NOTE 4. RECENTLY ISSUED ACCOUNTING STANDARDS
In September 2011, the FASB issued ASU No. 2011-08, Testing Goodwill for Impairment (“ASU 2011-08”). The amendments in this update provide an entity the option to first assess qualitative factors to determine whether the existence of events or circumstances leads to a determination that it is more likely than not that the fair value of a reporting unit is less than its carrying amount. If, after assessing the totality of events or circumstances, an entity determines it is not more likely than not that the fair value of the reporting unit is less than its carrying amount, then performing the two-step impairment test is unnecessary. However, if an entity concludes otherwise, then it is required to perform the first step of the two-step impairment test by calculating the fair value of the reporting unit and comparing the fair value with the carrying amount of the reporting unit. The amendment does not change the requirement to perform the second step of the interim goodwill impairment test to measure the amount of an impairment loss, if any, if the carrying amount of a reporting unit exceeds its fair value. Under the amendments in this update, an entity has the option to bypass the qualitative assessment for any reporting unit in any period and proceed directly to performing the first step of the two-step goodwill impairment test. An entity may resume performing the qualitative assessment in any subsequent period. The amendments in this update were effective for annual and interim goodwill impairment tests performed for fiscal years beginning after December 15, 2011, which for us was the annual period starting January 1, 2012. The adoption of this amendment did not have a material effect on the Company’s financial statements.
NOTE 5. DISCONTINUED OPERATIONS
On October 11, 2012, we received a cash payment of $2.9 million as consideration for the sale of the assets of GreenHunter Wind Energy, LLC, consisting of our Ocotillo wind project. The divestiture of our interests in this project resulted in a gain of $2.9 million, and is reflected as income from discontinued operations.
The following table provides summarized income statement information related to GreenHunter Wind Energy’s discontinued operations for the year ended December 31, 2012:
NOTE 6. ACQUISITIONS AND DIVESTITURES
White Top and Black Water
On December 31, 2012, we completed an acquisition of two oilfield water service and construction companies that provide services to oil and natural gas producers in the Eagle Ford Shale. The two entities, White Top Oilfield Construction, LLC (“White Top”) and Black Water Services, LLC (“Black Water”), with common management, have been providing services since 2008 to operators active in the Eagle Ford Shale play of South Texas. Combined assets include vacuum water trucks, dump trucks, drilling rig wash trailers and heavy equipment. Located in Louise, Wharton County, Texas. White Top and Black Water service E&P operators predominantly concentrated in the Texas Counties of Gonzales, Karnes and DeWitt.
Pursuant to the terms of the acquisition agreements, the companies were acquired for an aggregate $1,200,000 cash, 41,000 shares of the Company’s 10% Series C Preferred Stock and 589,657 shares of the Company’s common stock. The shares of Series C Preferred Stock and common stock are to be issued to a small group of former shareholders of White Top and Black Water. The shares of Series C Preferred Stock are generally not convertible into or exchangeable for any of the Company’s other property or securities except that the shares of Series C Preferred Stock are convertible into shares of the Company’s common stock under certain circumstances in connection with a change of ownership or control transaction. $450,050 of the cash price was paid on December 31, 2012 and the balance of the cash price, $750,000, was paid in January 2013. There are certain post closing adjustments which may effectively lower the purchase price and are still being evaluated.
The acquisition of White Top and Black Water was accounted for using the acquisition method of accounting, which requires the net assets acquired to be recorded at their fair values. All valuations of assets, including assessment of identifiable intangibles, and liabilities assumed are preliminary and subject to further review and adjustment. The following table summarizes the preliminary purchase price and the preliminary estimate of the fair values of the net assets acquired at the date of acquisition as determined as of December 31, 2012:
The goodwill recognized is attributable to White Top and Black Water’s assembled workforce and the premium associated with the opportunity to further diversify the Company’s operations and service offerings.
Virco
On November 2, 2012, we acquired two water disposal wells, land, buildings and equipment from two entities, Little Muskingum Drilling, LLC, and Virco Realty, Inc., (collectively “Virco”) for $300,000 in cash and 91,425 shares of our Series C Preferred Stock having a fair value of $1,970,209 on the acquisition date. The shares of Series C Preferred Stock were issued to a small group of former shareholders of Virco.
The following table summarizes the purchase price and the preliminary estimate of the fair values of the net assets acquired at the date of acquisition as determined as of December 31, 2012:
Hunter Disposal
On February 17, 2012, the Company, through its wholly owned subsidiary, GreenHunter Water, closed on the acquisition of 100% of the equity ownership interest of Hunter Disposal, LLC, a wholly-owned subsidiary of Magnum Hunter Resources Corporation. The terms and conditions of the equity purchase agreement between the parties were approved by an independent special committee of the Board of Directors for each company. The total consideration for this acquisition was approximately $9.9 million. The consideration paid consisted of $2.2 million in cash, 1,846,722 shares of the Company’s restricted common stock with a fair market value of $3.3 million, 22,000 shares of our Series C Preferred Stock with a stated value of $100 per share or $2.2 million, and a $2.2 million convertible promissory note due to the seller. On April 25, 2012, we changed the stated liquidation value of our Series C Preferred Stock from $100 per share to $25 per share. As a result, the 22,000 shares of our Series C Preferred Stock issued in connection with the acquisition of Hunter Disposal were converted to 88,000 shares of Series C Preferred Stock. In connection with the sale, Triad Hunter, LLC, a wholly owned subsidiary of Magnum Hunter Resources Corporation, entered into agreements with Hunter Disposal and GreenHunter Water for wastewater hauling and disposal capacity in the states of Kentucky, Ohio and West Virginia and a five-year tank rental agreement with GreenHunter Water.
The acquisition of Hunter Disposal was accounted for using the acquisition method of accounting, which requires the net assets acquired to be recorded at their fair values. The following table summarizes the purchase price and the estimated fair values of the net assets acquired at the date of acquisition:
On September 30, 2012, we recorded a change in estimate of the asset retirement obligation on the Hunter Disposal wells as a result of an analysis of the capacity of the water disposal wells to accept fluid and the effect on useful lives and well plugging cost estimates. As a result of our analysis, we increased our estimate of asset retirement cost from $27,355 to $225,202 with a resulting increase in carrying value of the asset.
Blue Water
On April 27, 2012, we entered into an Option Agreement and a Pledge Agreement with Midwest Continent Holding, LLC (“Midwest”) to acquire 100% of Midwest’s membership interest in Blue Water Energy Solutions, LLC (“Blue Water”) on or before June 30, 2012 for $2.5 million. Blue Water owns three existing salt water disposal wells and related facilities located in Oklahoma, near the emerging Mississippian Lime Shale Play. Midwest previously owned 100% of the membership interest of Blue Water until April 30, 2012. The price we paid for the option was $750,000, consisting of a cash payment of $250,000 and $500,000 of our 10% Series C Preferred Stock. Midwest has pledged its membership interest in Blue Water as security for the Option Agreement. On June 29, 2012, we paid $515,000 in cash and issued 247,876 shares of our common stock valued at $513 thousand under the option agreement and extended our purchase option until July 31, 2012. On July 31, 2012, we exercised our option to acquire Blue Water for
a final cash payment of $675 thousand. In addition, we spent approximately $458 thousand to improve the properties during the option period. The Option Agreement contained other covenants during the option period, including naming us as the sole Manager of Blue Water Energy Solutions, LLC during the option term.
The acquisition of Blue Water was accounted for using the acquisition method of accounting, which requires the net assets acquired to be recorded at their fair values. The following table summarizes the purchase price and the preliminary estimate of the fair values of the net assets acquired at the date of acquisition as determined as of September 30, 2012:
On May 18, 2012, we entered into a definitive joint venture agreement to develop seven salt water disposal wells in Gonzalez, Karnes, DeWitt, Frio and La Salle Counties in South Texas. These new wells are and will be strategically located in the heart of the Eagle Ford Shale Play. On May 21, 2012, we closed on the rights to two of the wells and on June 8, 2012, we closed on the rights to two more of the wells. The total acquisition cost of the rights to the four wells was $2.1 million, consisting of $1.2 million in cash, 16,000 shares of our Series C Preferred Stock, and 242,471 shares of our common stock. On June 30, 2012, we also agreed to pay $150,000 for drilling permits on the final three wells, which can be offset against our $1.5 million cost (on the same basis as the first four wells) to acquire rights to the remaining three joint venture wells should we decide to close on that part of the agreement. The $150,000 was refunded to us in September 2012 because of difficulty in securing the necessary permits from the Railroad Commission of Texas. The development of the final three wells has been suspended at this time. We have completed development of the initial four wells in the venture, the first of which became operational in January 2013.
The following unaudited summary, prepared on a pro forma basis, presents the results of operations for the years ended December 31, 2012 and 2011, as if the acquisition of Hunter Disposal, along with transactions necessary to finance the acquisition, had occurred on January 1, 2011. White Top, Black Water and Virco were not included as we are still in the process of gathering information needed to make a meaningful presentation. Blue Water was not included as there are no historical operations. The pro forma information includes the effects of adjustments for interest expense, dividends and depreciation expense. The pro forma results are not necessarily indicative of what actually would have occurred if the acquisition had been completed as of the beginning of each period presented, nor are they necessarily indicative of future consolidated results.
NOTE 7. NOTES PAYABLE
Notes Payable at December 31, 2012 and 2011 consisted of the following:
The following table presents the approximate annual maturities of debt and capital lease obligations as of December 31, 2012:
Debt Covenants
The terms of the Company’s obligations collateralized by equipment and real estate, require the Company to comply, on a quarterly basis, with certain financial covenants, including a debt service coverage ratio. The Company is required to maintain a ratio of Debt Service Coverage equal to or in excess of 1.30 to 1.00, and is calculated as the ratio of consolidated EBITDA to required principal and interest payments on all indebtedness, as defined in the credit agreement. The Company was in compliance with applicable debt covenants as of December 31, 2012.
Notes Payable
On January 23, 2012, we entered into a note payable with a bank for the purchase of a water hauling truck in the amount of $179 thousand, bearing a fixed interest rate of 7.99% with principal and interest payable monthly over the term of the loan. The note payable has a final maturity date of January 24, 2015.
On February 17, 2012, we entered into a note payable with a bank in the amount of $2.2 million, bearing a fixed interest rate of 5.5% with principal and interest payable monthly over the term of the loan, to finance a portion of the consideration paid in our acquisition of Hunter Disposal. The note is collateralized by the equipment acquired, and has a final maturity date of February 17, 2015. See Note 6-Acquisitions and Divestitures, for additional information.
On May 17, 2012, we entered into a note payable with a bank for the purchase of ten water hauling trucks and trailers in the amount of $1.7 million, bearing interest at a rate of one-month LIBOR plus 4%, currently 4.25%, with principal and interest payable monthly over the term of the loan. The note payable has a final maturity date of August 17, 2017.
On August 28, 2012, we entered into a note payable with a bank for the purchase of four trucks in the amount of $650 thousand, bearing interest at a rate of one-month LIBOR plus 4%, currently 4.25%, with principal and interest payable monthly over the term of the loan. The note payable has a final maturity date of September 28, 2017.
On August 29, 2012, we entered into a note payable with a bank for the purchase of four trailers in the amount of $143 thousand, bearing interest at a rate of 15.19%, with principal and interest payable monthly over the term of the loan. The note payable has a final maturity date of September 1, 2015.
On August 29, 2012, we entered into a note payable with a bank for the purchase of four trucks in the amount of $332 thousand, bearing an interest rate of 9.92%, with principal and interest payable monthly over the term of the loan. The note payable has a final maturity date of October 1, 2016.
On May 15, July 13, July 17, and September 27, 2012, we entered into various premium finance agreements to finance certain insurance premiums. The combined amount financed under these agreements was $301 thousand. The agreements bear a weighted average interest rate of 6.73% and are due in monthly installments extending through July 2013.
On December 28, 2012, we entered into a note payable with a bank in the amount of $1.12 million, collateralized by real estate obtained through the Virco acquisition. The note has a LIBOR based interest rate, currently 4.25%, monthly payments of $7 thousand, and matures during December 2032.
The Company has a note payable for the building that serves as the location of the Company’s corporate headquarters. The note has an interest rate of 5.7%, monthly payments of $11 thousand, and matures during November 2017.
9% Series B Senior Secured Redeemable Debentures
The Company had not paid interest on the Series B debentures for the period March 2011 through December 2012. Therefore, we were technically in default on our Series B Debentures at December 31, 2012. Upon an event of default, the debentures become due and payable upon demand, so we have classified the debentures as a current liability as of December 31, 2012. These debentures are secured by GreenHunter Energy’s interest in GreenHunter Mesquite Lake, LLC, and are otherwise non-recourse to GreenHunter Energy.
On October 21, 2011, we offered the holders of the 9% Series B Redeemable Debentures the opportunity to convert the principal and accrued but unpaid interest on the debentures to shares of our Series C Preferred Stock. The offer was extended until August 31, 2012. During the year ended December 31, 2012, holders of $5,211,808 principal amount of our Series B Debentures elected to convert their principal and accrued interest. The principal balance of the debentures that remained outstanding at December 31, 2012, was $90 thousand.
Note Payable to Related Party
During the year ended December 31, 2012, the Company borrowed an additional $1.3 million under a promissory note due to the Company’s Chairman and Chief Executive Officer, and the company repaid $300 thousand of the borrowings on that note during the second quarter of 2012, and the remaining balance of the note was repaid in full during the third quarter of 2012. Interest expense related to this note was $191 thousand for the year ended December 31, 2012. As of December 31, 2012, there is $2.0 million available under this facility. Should the Company borrow any available amounts, they will carry an interest rate of 14% per annum which is convertible to common stock.
Convertible Promissory Note Payable to Related Party
On February 17, 2012, the Company entered into a 10% convertible promissory note for $2.2 million payable to Triad Hunter as partial consideration in the Hunter Disposal acquisition. Terms of payment under the note are interest only due quarterly from May 17, 2012 to February 17, 2013. Thereafter, beginning May 17, 2013 and continuing quarterly until February 17, 2017, the payments due will include accrued interest and principal payments of $137,500 per quarter. Interest expense related to this note was $165 thousand for the year ended December 31, 2012. The promissory note matures on February 17, 2017 and is convertible at any time by the holder into shares of common stock of the Company at a conversion price of $2.50 per share. See Note 6-Acquisitions and Divestitures, for additional information.
Black Water and White Top Notes Payable
Certain notes were assumed by the Company as part of the White Top and Black Water acquisition. See Note 6-Acquisitions and Divestitures, for additional information.
NOTE 8. INCOME TAXES
The total provision for income taxes consists of the following:
At December 31, 2012, we had available for U.S. federal income tax reporting purposes, a net operating loss (NOL) carry-forward for regular tax purposes of approximately $61 million which expires in varying amounts during the tax years 2027 through 2032. No provision for federal income tax benefit is reflected on the statement of operations for the year ended December 31, 2012 because we are uncertain as to our ability to utilize our NOL in the future.
The NOL above includes $2.6 million of deductions for excess stock-based compensation. Excess stock-based compensation deductions represent stock-based compensation that have generated tax deductions that have not yet resulted in a cash tax benefit because the Company has NOL carry-forwards. The Company plans to recognize the federal NOL tax assets associated with excess stock-based compensation tax deductions only when all other components of the federal NOL tax assets have been fully utilized. If and when the excess stock-based compensation related NOL tax assets are realized, the benefit will be credited directly to equity.
The following is a reconciliation of the reported amount of income tax expense (benefit) for the years ended December 31, 2012 and 2011, to the amount of income tax expense that would result from applying domestic federal statutory tax rates to pretax income:
The components of our deferred income taxes were as follows for the years ended December 31, 2012 and 2011:
In June 2006, the FASB issued ASC 740 Accounting for Uncertainty in Income Taxes, an Interpretation of FASB Statement No. 109. We adopted ASC 740 on January 1, 2007. Under ASC 740, tax benefits are recognized only for tax positions that are more likely than not to be sustained upon examination by tax authorities. The amount recognized is measured as the largest amount of benefit that is greater than fifty percent likely to be realized upon ultimate settlement. Unrecognized tax benefits are tax benefits claimed in our tax returns that do not meet these recognition and measurement standards.
Upon the adoption of ASC 740, we had no liabilities for unrecognized tax benefits, and, as such, the adoption had no impact on our financial statements, and we have recorded no additional interest or penalties. The adoption of ASC 740 did not impact our effective tax rates.
Our policy is to recognize potential interest and penalties accrued related to unrecognized tax benefits within income tax expense. For the years ended December 31, 2012 and 2011, we did not recognize any interest or penalties in our consolidated condensed statement of operations, nor did we have any interest or penalties accrued in our consolidated condensed balance sheet at December 31, 2012 and 2011 relating to unrecognized tax benefits.
The tax years 2009-2012 remain open to examination for federal income tax purposes and by the other major taxing jurisdictions to which we are subject. The tax years 2008-2012 remain open for the Texas Margin tax.
The goodwill recorded which is attributable to the acquisition of White Top and Black Water will be amortized over 15 years for tax purposes.
NOTE 9. STOCKHOLDERS’ EQUITY
The following table reflects changes in our outstanding preferred stock, common stock, treasury stock and warrants during the periods reflected in our financial statements:
Preferred Stock
The Company has authorized a total of 10,000,000 shares for five classes of Preferred Stock, which includes an authorization limit of 2,000,000 shares of our Series C Preferred Stock. Series A Preferred Stock has been fully converted to Series C Preferred Stock, Series B Preferred Stock has been fully converted to common stock, Series D and Series E Preferred Stock have not been issued as of December 31, 2012. The Series C Preferred Stock is redeemable solely at the Company’s option after June 30, 2015 at the stated value of $25.00 per share. The Series C Preferred Stock pays a dividend at 10% per annum. If it is ever redeemed, a deemed dividend of the variance between the stated value and the carrying value will be recognized upon redemption.
We were not able to pay dividends in cash on our Series A Preferred Stock for the quarters ending December 31, 2008 through September 30, 2012. In accordance with the terms of this preferred stock, accrued dividends of $2.3 million were added to the stated value of the preferred stock through June 30, 2012. On August 27, 2012, we exchanged 345,000 shares of our Series C Preferred Stock with a fair value of $7,701,435, based on the closing trading price of $22.32 per share on August 27, 2012 and a liquidation preference of $8,625,000, based on stated liquidation price of $25.00 per share for all of the outstanding Series A Preferred Stock, plus accrued dividends through August 27, 2012. The stated value, including accrued dividends, of the 5,978 shares of Series A Preferred Stock received in exchange was $8,625,000. We recorded a deemed dividend of $(923,565) as a result of this transaction. Also on August 27, 2012, we exchanged 2,450,500 shares of our common stock for all of the outstanding Series B Preferred Stock. The stated value of the 9,802 shares of Series B Preferred Stock received in exchange was $9,802,000. The exchange rate used to calculate the number of common shares issued was $4.00 per share. The Series B Preferred Stock was convertible into shares of our common stock at $7.50 per share by its terms of the original issuance. As a result of the exchange, we recognized a deemed dividend payment of $2,573,025.
During 2012, we further reduced the stated value of our non-convertible 10% Series C Preferred Stock (liquidation preference of $25.00 per share) to reflect discounts and expenses associated with acquisitions of White Top, Black Water and Virco as well as our public offering executed in December of 2012. The reduction of the stated value, if ever redeemed solely at the Company’s option after June 30, 2015, or due to a change of control, will be treated as a dividend upon exchange of our Series C Preferred Stock.
On February 17, 2012, we issued 22,000 shares of our 10% Series C Preferred Stock as partial consideration in our acquisition of Hunter Disposal. On April 25, 2012, we changed the stated liquidation value of our 10% Series C Preferred Stock from $100 per share to $25 per share. As a result, the 22,000 shares of our 10% Series C Preferred Stock issued in connection with the acquisition of Hunter Disposal were converted to 88,000 shares of 10% Series C Preferred Stock. See Note 6-Acquisitions and Divestitures, for additional information. The Series C Cumulative Preferred Stock earns 10% dividends paid monthly and is not convertible into common shares of the company except for under certain circumstances in the event of a change of control.
On April 27, 2012, the Company issued 20,000 shares of our 10% Series C Preferred Stock as partial consideration in the closing of the Blue Water Acquisition. See Note 6-Acquisitions and Divestitures, for additional information.
On June 29, 2012, the Company issued 16,000 shares of our 10% Series C Preferred Stock as partial consideration in the closing of four permitted disposal well sites for the Eagle Ford Water Hunter Joint Venture.
On July 31, 2012, the Company closed a public offering of 425,000 shares of its non-convertible 10% Series C Preferred Stock (liquidation preference of $25.00 per share) at a public offering price of $21.00 per share. The net proceeds to the Company from the offering were approximately $7.9 million, net of underwriter discounts, commissions and estimated offering expenses.
On November 27, 2012, the Company issued 91,425 shares of our 10% Series C Preferred Stock as partial consideration in the closing of the Virco Acquisition. See Note 6-Acquisitions and Divestitures, for additional information.
On December 31, 2012, the Company issued 41,000 shares of our 10% Series C Preferred Stock as partial consideration in the closing of the White Top and Black Water Acquisition. See Note 6-Acquisitions and Divestitures, for additional information.
On December 11, 2012, the Company closed a public offering of 300,000 shares of its non-convertible 10% Series C Preferred Stock (liquidation preference of $25.00 per share) at a public offering price of $21.00 per share. The net proceeds to the Company from the offering were approximately $5.9 million, net of underwriter discounts, commissions and estimated offering expenses. We sold an additional 2,183 shares through our At-The-Market (“ATM”) facility for net proceeds of $42,941 in December 2012.
During the year ended December 31, 2012, the Company issued 232,536 shares of our 10% Series C Preferred Stock upon conversion of $5.2 million in principal along with accrued interest of $602 thousand on our Series B Debentures.
Common Stock and Common Stock Warrants
We have 90,000,000 authorized shares of common stock. We cannot pay any dividends on our common stock until all Series A cumulative preferred dividends have been satisfied. All Series A cumulative preferred dividends were paid in the exchange of Series C Preferred Stock on August 27, 2012.
On February 17, 2012, the Company issued 1,846,722 shares of common stock with a fair market value of $3.3 million based on stock price of $1.79, as partial consideration in the acquisition of Hunter Disposal. See Note 6-Acquisitions and Divestitures, for additional information.
On June 27, 2012, the Company issued 247,876 shares of our common stock valued at $512 thousand (based on a closing price of $2.11 per share as of June 27, 2012) as partial consideration for entry into the joint venture agreement with Blue Water Energy Solutions, LLC.
On June 29, 2012, the Company issued 242,471 shares of our common stock valued at $506 thousand, (based on a closing price of $2.04 per share as of June 29, 2012) as partial consideration for the acquisition of four permitted disposal well sites for the Eagle Ford Water Hunter Joint Venture.
On December 20, 2012, the Company amended a public offering to include issuance of common stock, par value $0.001 per share, as well as 10% Series C Preferred Stock (liquidation preference of $25.00 per share) at a public offering price of $21.00 per share. The shares are to be sold from time to time at market.
On December 31, 2012, the Company issued 589,657 of our common stock valued at $955,244 (based on a closing price of $1.62 per share as of December 31, 2012) as partial consideration for the acquisition of White Top and Black Water.
During the year ended December 31, 2012, the Company issued 1,111,111 shares of common stock to Gary C. Evans for payment of a Board of Director and Stockholder approval fee for providing a line of credit to the Company for up to $2 million. The shares were valued at $2.0 million based on the closing price of $1.81 per share on November 26, 2012, the date the transaction was approved by stockholders. The Company also issued 111,848 of our common stock valued at $202 thousand based on the closing price of $1.81 per share, to executive officers of the Company for deferred and bonus pay approved by the stockholders at our annual meeting on November 26, 2012.
During the year ended December 30, 2012, the Company issued 70,000 shares of common stock upon exercise of 70,000 of our $1.50 warrants.
Treasury Stock
During the year ended December 31, 2012, the Company issued 13,984 shares of the Company’s common stock out of treasury, with a cost of $211 thousand, for payment of shares owed for fully vested share grants under our share based compensation plan.
Common Stock Warrants
The following is a summary of warrant activity for the two years ended December 31, 2012 and 2011.
On January 28, 2011, the Company entered into a private placement of common equity securities with accredited investors. The equity securities sold consisted of units comprised of two shares of common stock and two common stock warrants, one with an exercise price of $1.50 and another with an exercise price of $2.50 per share for $2.00 per unit. The sale of these units resulted in new proceeds of $1.0 million to the Company. The warrants are exercisable immediately and expire on January 31, 2014.
The Company’s private placement entered into on January 28, 2011, triggered the antidilutive provision on 5,443,911 common stock warrants outstanding at that time, which adjusted the exercise price for the warrants to $1.50, of which 4,984,864 expired during 2011.
On June 21, 2011, the Company issued 1,545,000 shares of common stock, 772,500 warrants with an exercise price of $1.50, and 772,500 warrants with an exercise price of $2.50 upon the conversion of shares of preferred stock with a stated value of $1.8 million. The fair value of the antidilutive provision on the converted preferred shares on June 21, 2011, of $1.2 million was reclassed to additional paid in capital upon the conversion of the preferred shares.
On June 21, 2011, the Company issued 500,000 shares of common stock, 250,000 common stock warrants with an exercise price of $1.50, and 250,000 common stock warrants with an exercise price of $2.50 upon the conversion of $500 thousand in principal of our promissory notes with a related party.
During the year ended December 31, 2012, 459,047 of our $1.50 common stock warrants have expired.
Employee Benefit Plans
The Company sponsors a defined contribution 401KSOP plan that is subject to the provisions of the Employee Retirement Income Security Act of 1974 (“ERISA”). Under this plan, the Company match a percentage of the participant’s contributions up to a specified amount. Contributions to the plans were $164,628 for the year ended December 31, 2012.
NOTE 10. CONVERTIBLE SECURITIES
Effective January 1, 2009, the Company adopted the provisions of Emerging Issues Task Force (EITF) 07-05, Determining Whether an Instrument (or Embedded Feature) Is Indexed to an Entity’s Own Stock, which was primarily codified into FASB ASC 815, Derivatives and Hedging (“ASC 815”). The Company had current derivative liabilities resulting from the antidilutive features on its common stock warrants, Series A Convertible Preferred Stock, and Series B Convertible Preferred Stock. The estimated fair value of the convertible securities liability is revalued at each balance sheet date, with changes in value recorded as other income or expense in the consolidated statements of operations.
As of December 31, 2012 and 2011, the fair value of the unrealized loss associated with the antidilution provisions on convertible securities was estimated to be $0 and $24 thousand, respectively, using a form of the income approach. As of December 31, 2012, there are no convertible warrants, and all Series A and Series B Preferred Stock have been converted to common stock. The Company recorded a $24 thousand non-cash gain, and a $186 thousand non-cash charge related to the change in fair value of unrealized gain or loss on convertible securities for the years ended December 31, 2012 and 2011, respectively.
NOTE 11. STOCK-BASED COMPENSATION
In September 2010, the Company adopted its 2010 Long-Term Incentive Compensation Plan (the “Incentive Plan”), which provides for equity incentives to be granted to employees, officers or directors of the Company, as well as key advisers or consultants. Equity incentives may be in the form of stock options with an exercise price not less than the fair market value of the underlying shares on the date of grant, stock appreciation rights, restricted stock awards, stock bonus awards, other stock-based awards, or any combination of the foregoing. A maximum of 5,000,000 shares of Common Stock were authorized for issuance under the Incentive Plan.
We recorded share-based compensation expense of $4.4 million and $818 thousand during the years ended December 31, 2012 and 2011, respectively.
Common Stock Options
During the year ended December 31, 2012, the Company granted 2,025,750 common stock options to members of management and employees of the Company at an average exercise price of $1.65 with an average estimated fair value of $0.98 per share. The options have a life of ten years and vest in equal amounts over a three year period beginning one year from the date of grant.
We recorded share based compensation of approximately $2.0 million and $804 thousand for the year ended December 31, 2012 and 2011 related to vesting of employee common stock options, respectively.
As of December 31, 2012, there was $1.4 million of total unrecognized compensation cost related to unvested shares associated with stock options which will be recognized over a weighted-average period of 1.22 years. We recognize compensation expense for our stock options on a straight-line basis over their vesting term. We are required to issue new shares of common stock upon the exercise of the stock options by such holder(s).
We estimated the fair value of each stock based grant using the Black-Scholes option pricing method for service and performance based options, and the Lattice Model for market based awards. The weighted average values for options issued for the year ended December 31, 2012 are as follows:
(a) Based on our expectation of when the options will be exercised. The options have a life of ten years.
(b) The expected volatility of our common stock was estimated using an average of volatilities of publicly traded companies in similar energy businesses. This also approximates the Company’s five year historical volatility.
The following is a summary of stock option activity during the years ended December 31, 2012 and 2011.
* The Aggregate Intrinsic Value was calculated using the December 31, 2012 and 2011 closing stock price of $1.62 and $0.87.
The following is a summary of stock options outstanding at December 31, 2012:
Share Awards
During the year ended December 31, 2012, we granted 47,582 shares of common stock to the nonemployee members of the Board of Directors in lieu of receiving cash for their fees. These common shares vested immediately and were valued at weighted average price of $2.24 per share based on the quoted market value of the stock on the date of the grant. We recognized $106 thousand of expense in our selling, general, and administrative expenses for the year ended December 31, 2012, related to these shares. These shares were not issued as of December 31, 2012, but are included in weighted average basic shares outstanding as of December 31, 2012.
On February 13, 2012, we granted 3,500 restricted shares to employees. These common shares vested immediately and were valued at a weighted average of $1.65 per share, based on the quoted market value of the stock on the date of the grant. We recognized $6 thousand of expense in our selling, general, and administrative expenses for the year ended December 31, 2012, related to these shares. These shares were issued out of treasury.
During April 2011, the compensation committee approved the grant of shares of the Company’s common stock valued at $1.0 million, which is equivalent to 1,111,111 shares of common stock based on the closing price per share of $0.90 on April 5, 2011, to the Company’s Chairman, pending shareholder approval. On July 10, 2012, our Chairman converted $50 thousand of accrued and unpaid payroll into 27,322 shares of our common stock.
On November 26, 2012, upon approval of our stockholders, certain executive officers of the Company were granted a total of 84,526 shares of our common stock in lieu of cash compensation owed these executives. The stockholders also approved the 1,111,111 and 27,322 share grants to Mr. Evans on this date. These grants were valued at $1.81 per share, which was the closing price of our common stock on that date. The total value of these grants recorded in stock compensation expense for the year ended December 31, 2012 was approximately $2.2 million. These shares were not issued as of December 31, 2012 but are included in weighted average basic shares outstanding as of December 31, 2012.
During the year ended December 31, 2012, we recorded approximately $3 thousand of expense for shares previously granted to Mr. Jonathan Hoopes, our President and Chief Operating Officer, related to a restricted stock grant. The portion of the restricted stock grant that fully vested in 2012 was 25,000 shares. These were not issued as of December 31, 2012, but are included in weighted average basic shares outstanding at December 31, 2012.
During the year ended December 31, 2011, we granted 28,090 shares of common stock to the nonemployee members of the Board of Directors as payment for their fees for the first quarter of 2011 in lieu of receiving cash for their fees. These common shares vest immediately and were valued at weighted average of $0.89 per share, based on the quoted market value of the stock on the date of the grant. We recognized $391 thousand of expense in our selling, general, and administrative expenses as of December 31, 2011, related to these shares. These shares were not issued as of December 31, 2011 but are included in weighted average basic shares outstanding as of December 31, 2011. At December 31, 2011, there were 198,690 shares owed to the nonemployee members of the Board of Directors that were not issued but are included in weighted average basic shares outstanding as of December 31, 2011.
The following is a summary of unvested share awards for the year ended December 31, 2012:
NOTE 12. COMMITMENTS AND CONTINGENCIES
On March 29, 2012, GreenHunter Water entered into a five year commercial lease agreement for an existing truck and barge transloading and water storage facility located in Washington County, Ohio. The facility is located on approximately 10 acres of land and contains 70,000 barrels (BBL) of functional bulk liquids storage tank capacity, a barge transloading station, a covered loading station with multiple truck servicing bays and office space. The lease commitment is for five years with monthly payments of $8 thousand for the first year, $10 thousand for the second year and $12 thousand for years three through five of the lease. Additionally, we are required to pay an additional fee of $0.04 per barrel for all wastewater delivered to and stored on the leased premises.
Leases
The Company rents property, equipment and certain office equipment under operating leases. Lease expense under operating leases and rental contracts amounted to $538 thousand and $5 thousand for the years ended December 31, 2012 and 2011, respectively.
Future minimum lease payments, by year and in the aggregate, for non-cancelable operating leases with initial or remaining terms of one year or more are as follows at:
ABB, Inc., Plaintiff v. GreenHunter Energy, Inc., Defendant, In the Superior Court of California, County of Imperial, Case No. ECU07002. ABB, Inc. was a subcontractor to Crown Engineering for the work done at our Mesquite Lake plant in Imperial County, California. GreenHunter Energy, Inc. had a construction contract directly with Crown Engineering only. On or about January 18, 2010, GreenHunter entered into a settlement agreement with Crown Engineering settling any disputes between the parties regarding the work done at our Mesquite Lake plant. Green Hunter performed all of its obligations under the settlement agreement. ABB is attempting to enforce payment of its claim, approximately $327,555 by asserting it is a third party beneficiary under our settlement agreement with Crown Engineering. Management is actively defending this claim and we believe we will ultimately prevail on the merits.
Heckmann Water Resources, Plaintiff v. Hunter Disposal LLC and GreenHunter Energy, Inc., Defendants, In the Court of Common Pleas, Washington County, Ohio, Case No.120T233, filed July 16, 2012. Heckmann Water Resources alleges a breach of contract against Hunter Disposal for failure to pay for certain transportation services on behalf of Hunter Disposal. Heckmann alleges GreenHunter made representations to Heckmann that GreenHunter would make any payments on Hunter Disposal’s behalf. On February 20, 2013, Heckmann amended its complaint to state that as of the date of the amended complaint Hunter Disposal has failed to pay for services in the amount of $77,706. Hunter Disposal has recently made all payments to Heckmann and the parties are currently preparing a dismissal of the complaint.
NOTE 13. RELATED PARTY TRANSACTIONS
During the year ended December 31, 2012, we earned storage rental revenue for providing water storage tanks and equipment for lease to Eagle Ford Hunter, LLC and Triad Hunter, LLC, both wholly owned subsidiaries of Magnum Hunter Resources Corporation, an entity for which Gary C. Evans, our Chairman, and Ronald D. Ormand, a former Board Member and former Chairman of our Audit Committee, are officers and significant shareholders, as well as Virco, LLC and White Top Oilfield Construction, LLC, entities acquired by the Company during the year ended December 31, 2012. We also provided water disposal and transport services for Triad Hunter and White Top during the year ended December 31, 2012. Revenue from the affiliated companies totaled $3.5 million for the year ended December 31, 2012 and $1.0 for the year ended December 31, 2011. Accounts receivable related to that revenue totaled $383 thousand and $203 thousand as of December 31, 2012 and 2011, respectively.
We utilized drilling services provided by Alpha Hunter Drilling, a wholly owned subsidiary of Magnum Hunter Resources Corporation, during the year ended December 31, 2012 to drill water disposal wells in South Texas. Total charges for services provided by Alpha Hunter were $1.7 million.
We obtained accounting services from Magnum Hunter Resources Corporation for a fee of $75 thousand for the year ended December 31, 2012, and $162 thousand for the year ended December 31, 2011. We also paid management and operating fees to Triad Hunter for administrative and operations support for our Appalachian region of $97 thousand for the year ended December 31, 2012. We also paid for air travel services from a company owned by Mr. Evans of $115 thousand for the year ended December 31, 2012. We paid $33 thousand to Magnum Hunter for other construction services in 2012 versus none in 2011.
On October 13, 2011, the Company sold an office building for $1.7 million to Magnum Hunter Resources Corporation. We purchased a pickup and equipment trailer from Mr. Evans for $40 thousand in 2012. We paid $1.1 million to White Top for construction services, $25 thousand to Virco for disposal services, and $2 thousand to Triad Hunter for other services in 2012 versus none in 2011.
The Company has an accounts receivable from Pilatus Hunter, a company owned by Mr. Evans, totaling $52 thousand at December 31, 2012 for pilot expenses.
The Company had promissory notes outstanding to the Chairman and Chief Executive Officer. The balance under these promissory notes was $0 at December 31, 2012, and $889 thousand at December 31, 2011. The notes were convertible into common stock at the holder’s option based on the closing price of the company’s common stock on the day prior to the election to convert. As of August 9, 2012, the balance on these promissory notes had been repaid. We paid Mr. Evans $187 thousand in interest on these notes in 2012. Total related party payables were $2.0 million at December 31, 2012.
On February 17, 2012, the Company, through its wholly owned subsidiary, GreenHunter Water, closed on the acquisition of 100% of the equity ownership interest of Hunter Disposal, LLC, a wholly-owned subsidiary of Magnum Hunter Resources Corporation. The terms and conditions of the equity purchase agreement between the parties were approved by an independent special committee of the Board of Directors for each party. The total consideration for this acquisition was approximately $9.9 million. The consideration paid consisted of $2.2 million in cash, 1,846,722 shares of the Company’s restricted common stock with a fair value of $3.3 million, 22,000 shares of our 10% Series C Preferred Stock with a stated value of $100 per share, or $2.2 million, and a $2.2 million convertible promissory note due to the seller. On April 25, 2012, we changed the stated liquidation value of our 10% Series C Preferred Stock from $100 per share to $25 per share. As a result, the 22,000 shares of our 10% Series C Preferred Stock issued in connection with the acquisition of Hunter Disposal were converted to 88,000 shares of 10% Series C Preferred Stock. In connection with the sale, Triad Hunter, LLC, entered into agreements with Hunter Disposal, and GreenHunter Water, for wastewater hauling and disposal capacity in the states of Kentucky, Ohio and West Virginia and a five-year tank rental agreement with GreenHunter Water.
NOTE 14. SEGMENT DATA
We currently have two reportable segments: Water Management, and Biomass. Each of our segments is a strategic business that offers different products and services. They are managed separately because each business unit requires different technology, marketing strategies and personnel. Our Biomass segment is still in development stages with no significant operations.
Our Water Management segment is currently in operation and has a number of projects under development.
In previous years, we reported a Wind Energy segment. We no longer have this segment since we sold our last wind project and received final payment in 2012. We recorded a gain from sale of discontinued operations of $2.9 million in 2012.
On May 14, 2007, we acquired an inactive 18.5 megawatt (“MW”) (nameplate capacity) biomass plant located in Southern California. The plant is owned by our wholly-owned subsidiary, GreenHunter Mesquite Lake, Inc. (“Mesquite Lake”), which was formed for the purpose of operating and owning assets which convert waste material to electricity. We began refurbishing this bio-mass plant during July 2008 but ceased work during the fourth quarter of 2008 when we were informed that certain required permits at the facility were not in place. On August 19, 2009 we entered into a power purchase agreement with a major public utility based in Southern California. During 2012, the Company determined that it had insufficient time resources and a different business plan altogether which prevented the Company from continuing the development of the Mesquite Lake Biomass Project. As a result, management believes the carrying value of the asset is greater than the value that might be realized by the development or sale of the asset. The Company believes the fair value of the asset without a viable power purchase agreement which expired on March 31, 2013 should be its salvage value. We obtained an independent evaluation of the asset’s salvage value as of December 31, 2012, which was $2.0 million. The total carrying value of the project net assets prior to recording an impairment to its value was $17.9 million. The Company recorded an impairment of asset value of $12.9 million at September 30, 2012 and a further impairment of $3.0 million to reflect its salvage value at December 31, 2012.
Our Biomass segment was designed to produce energy from organic matter available at or near the plant sites.
The accounting policies for our segments are the same as those described in Note 3. There are no intersegment revenues or expenses.
Segment data for the two years ended December 31, 2012 and 2011 follows:
NOTE 15. SUBSEQUENT EVENTS-UNAUDITED
On January 8, 2013, Ms. Julie Silcock was appointed to the Board of Directors of the Company, replacing Mr. Ronald D. Ormand, who resigned on that date. As compensation for joining the Board of Directors, Ms. Silcock was granted 100,000 options of the Company’s common stock. The options are exercisable through January 8, 2023 at an exercise price of $1.53 per share, and vest in three equal tranches annually beginning January 8, 2014. The options were granted under the Company’s 2010 Long-Term Incentive Compensation Plan.
On February 1, 2013, the Board of Directors approved the Company’s 2013 Long-Term Incentive Compensation Plan. This Plan provides for equity incentives to be granted to employees, officers or directors of the Company as well as key advisors or consultants. Equity incentives may be in the form of stock options with an exercise price not less than the fair market value of the underlying shares on the date of grant, stock appreciation rights, restricted stock awards, stock bonus awards, other stock-based awards, or any combination of the foregoing. A maximum of 7,000,000 shares of Common Stock were authorized for issuance under the Incentive Plan. This Plan requires stockholder approval before it becomes effective and has been included in Proxy material for a Special Meeting of Stockholders which has been called for May 8, 2013.
On February 1, 2013, the Board of Directors approved the granting of 985,000 options on the Company’s common stock to employees under the 2010 Long-Term Incentive Compensation Plan. The options have an exercise price of $1.74 per share and vest in an equal amount over a three year period beginning one year from the date of grant.
During January 2013, the Company paid the remaining cash portion of the acquisition price to acquire White Top and Black Water, which was $750,000.
Subsequent to December 31, 2012, the Company issued the remaining common stock and Series C Preferred Stock available under its current registration statement. The net cash proceeds received upon issuance of these securities was $5.2 million for the issuance of 221,946 shares of common stock and 265,436 shares of Series C Preferred Stock.
On March 13, 2013, the Company acquired a 10.8 acre barging terminal facility located in Wheeling, West Virginia, for $750,000 through a new 10.5 year variable-rate loan facility with a bank that also includes an additional $350,000 of borrowing capacity for construction and refurbishment purposes. The variable interest rate is based on the prime rate of the 10 largest U.S. banks.
In January 2013 and February 2013, the promissory notes assumed in the acquisition of White Top and Black Water, respectively, entered payment default. The agreements for both notes contain a Post Maturity Rate clause which increases the interest rate to 18% per annum upon entering default. The Company expects to retire these notes during 2013.
(b) Exhibits
 Filed herewith
 Furnished herewith
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacity and on the dates indicated.