As
filed with the Securities and Exchange Commission on August 6, 2008 Registration
No. 333-150458
UNITED
STATES
SECURITIES
AND EXCHANGE COMMISSION
Washington,
D.C. 20549
Amendment
No. 2 to
FORM
S-1
REGISTRATION
STATEMENT
UNDER
THE
SECURITIES ACT OF 1933
China
North East Petroleum Holdings, Limited
(Exact
name of registrant as specified in its charter)
Nevada
|
|
1311
|
|
87-0638750
|
(State
or other jurisdiction of
|
|
(Primary
Standard Industrial
|
|
(I.R.S.
Employer
|
incorporation
or organization)
|
|
Classification
Code Number)
|
|
Identification
Number)
|
445
Park
Avenue
New
York,
NY 10022
(212)
307-3568
(Address,
including zip code, and telephone number,
including
area code, of registrant’s principal executive offices)
Wang
Hong
Jun
445
Park
Avenue
New
York,
NY 10022
(212)
307-3568
(Name,
address, including zip code, and telephone number,
including
area code, of agent for service)
Copies
to:
Adam
M.
Guttmann, Esq.
Crone
Rozynko, LLP
101
Montgomery Street, Suite 1950
San
Francisco, California 94104
(415)
955-8900
(415)
955-8910 (fax)
Approximate
date of commencement of proposed sale to the public: As
soon
as practicable after the effective date of this registration statement.
If
any of
the securities being registered on this Form are to be offered on a delayed
or
continuous basis pursuant to Rule 415 under the Securities Act of 1933 check
the
following box. x
If
this
Form is filed to register additional securities for an offering pursuant to
Rule
462(b) under the Securities Act, please check the following box and list the
Securities Act registration statement number of the earlier effective
registration statement for the same offering. o
If
this
Form is a post-effective amendment filed pursuant to Rule 462(c) under the
Securities Act, check the following box and list the Securities Act registration
statement number of the earlier effective registration statement for the same
offering. o
If
this
Form is a post-effective amendment filed pursuant to Rule 462(d) under the
Securities Act, check the following box and list the Securities Act registration
statement number of the earlier effective registration statement for the same
offering. o
Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or a smaller reporting company.
See
the definition of “large accelerated filer,” “accelerated filer” and “smaller
reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
Large
accelerated filer o
|
Accelerated
filer box. o
|
|
|
Non-accelerated
filer o
|
Smaller
reporting company x
|
(Do
not
check if a smaller reporting company)
The
registrant hereby amends this registration statement on such date or dates
as
may be necessary to delay its effective date until the registrant shall file
a
further amendment which specifically states that this registration statement
shall thereafter become effective in accordance with Section 8(a) of the
Securities Act of 1933 or until the registration statement shall become
effective on such date as the Securities and Exchange Commission, acting
pursuant to said Section 8(a), may determine.
THE
INFORMATION IN THIS PROSPECTUS IS NOT COMPLETE AND MAY BE CHANGED. THE SELLING
STOCKHOLDERS MAY NOT SELL THESE SECURITIES UNTIL THE REGISTRATION STATEMENT
IS
FILED WITH THE SECURITIES AND EXCHANGE COMMISSION AND BECOMES EFFECTIVE. THIS
PROSPECTUS IS NOT AN OFFER TO SELL THESE SECURITIES AND IS NOT SOLICITING AN
OFFER TO BUY THESE SECURITIES IN ANY STATE WHERE THE SALE IS NOT
PERMITTED.
SUBJECT
TO COMPLETION, DATED AUGUST 6, 2008
PROSPECTUS
CHINA
NORTH EAST PETROLEUM HOLDINGS LIMITED
4,800,000
SHARES OF COMMON STOCK
This
prospectus relates to the resale by the selling stockholders identified in
this
prospectus of up to 4,800,000 shares of common stock issuable upon the exercise
of warrants. All of the shares, when sold, will be sold by these selling
stockholders. The selling stockholders may sell these shares from time to time
in the open market at prevailing prices or in individually negotiated
transactions, through agents designated from time to time or through
underwriters or dealers. We will not control or determine the price at which
the
selling stockholders decide to sell their shares. The selling stockholders
may
be deemed underwriters of the shares of common stock, which they are offering.
We will pay the expenses of registering these shares.
We
are
not selling any shares of common stock in this offering and therefore will
not
receive any proceeds from the sale of common stock hereunder. We may receive
proceeds from any exercise of outstanding warrants. The warrants may also be
exercised by surrender of the warrants in exchange for an equal value of shares
in accordance with the terms of the warrants.
Our
common stock is listed on the Over-The-Counter Bulletin Board under the symbol
“CNEH.” The last reported sales price per share of our common stock as reported
by the Over-The-Counter Bulletin Board on June 30, 2008, was $5.37.
Investing
in these securities involves significant risks. See “Risk Factors” beginning on
page 4.
No
underwriter or person has been engaged to facilitate the sale of shares of
common stock in this offering. None of the proceeds from the sale of stock
by
the selling stockholders will be placed in escrow, trust or any similar
account.
We
may
amend or supplement this prospectus from time to time by filing amendments
or
supplements as required. You should read the entire prospectus and any
amendments or supplements carefully before you make your investment
decision.
NEITHER
THE SECURITIES AND EXCHANGE COMMISSION NOR ANY STATE SECURITIES COMMISSION
HAS
APPROVED OR DISAPPROVED OF THESE SECURITIES OR DETERMINED IF THIS PROSPECTUS
IS
TRUTHFUL OR COMPLETE. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL
OFFENSE.
The
date
of this prospectus is ___________, 2008.
TABLE
OF CONTENTS
|
|
PAGE
NO.
|
|
SUMMARY
|
|
|
3
|
|
ABOUT
THIS OFFERING
|
|
|
3
|
|
RISK
FACTORS
|
|
|
4
|
|
SPECIAL
NOTE REGARDING FORWARD LOOKING STATEMENTS
|
|
|
11
|
|
USE
OF PROCEEDS
|
|
|
11
|
|
MARKET
FOR COMMON EQUITY AND RELATED STOCHOLDER MATTERS
|
|
|
11
|
|
MANAGEMENT’S
DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
|
|
|
12
|
|
DESCRIPTION
OF BUSINESS
|
|
|
22
|
|
DIRECTORS
AND EXECUTIVE OFFICERS
|
|
|
28
|
|
EXECUTIVE
COMPENSATION
|
|
|
29
|
|
CERTAIN
RELATIONSIHIPS AND RELATED TRANSACTIONS
|
|
|
31
|
|
SECURITY
OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
|
|
|
32
|
|
DESCRIPTION
OF SECURITIES
|
|
|
32
|
|
SELLING
STOCKHOLDERS
|
|
|
34
|
|
PLAN
OF DISTRIBUTION
|
|
|
35
|
|
DISCLOSURE
OF COMMISSION POSITION ON INDEMNIFICATION FOR SECURITIES ACT
LIABILITIES
|
|
|
37
|
|
LEGAL
MATTERS
|
|
|
37
|
|
EXPERTS
|
|
|
37
|
|
WHERE
YOU CAN FIND MORE INFORMATION
|
|
|
37
|
|
PROSPECTUS
SUMMARY
The
following summary highlights selected information contained in this prospectus.
This summary does not contain all the information you should consider before
investing in the securities. Before making an investment decision, you should
read the entire prospectus carefully, including the "risk factors" section,
the
financial statements and the notes to the financial statements. As used
throughout this prospectus, the terms “China North East Petroleum,” “CNEH,” the
“Company,” “we,” “us,” and “our” refer to China North East Petroleum, Ltd., its
subsidiaries,
Song
Yuan North East Petroleum Technical Service Co. Ltd. (“Song Yuan Technical”),
Song Yuan City Yu Qiao Oil and Gas Development Co. Ltd. (“Yu Qiao”) and Chang
Ling Longde Oil and Gas Development Co. Ltd. (“LongDe”).
OUR
COMPANY
Overview
We
are
engaged in the exploration and production of crude oil in Northern China. We
have an arrangement with the Jilin Refinery of PetroChina Group to sell our
crude oil production for use in the China marketplace. As of March 31, 2008,
we
operated 165 producing wells located in four oilfields in Northern China and
have plans for additional drilling projects. China North East Petroleum’s
principal headquarters are located in Song Yuan City, in the People’s Republic
of China and our telephone number at that address is +86-451-5558-0253. We
maintain an Internet website at www.cnepetroleum.com.
ABOUT
THIS OFFERING
This
prospectus relates to the resale by the selling stockholders identified in
this
prospectus of up to 4,800,000 shares of common stock, issuable upon the exercise
of common stock purchase warrants. All of the shares, when sold, will be sold
by
these selling stockholders. The selling stockholders may sell their shares
of
common stock from time to time at prevailing market prices. We will not receive
any proceeds from the sale of the shares of common stock by the selling
stockholders.
Common
Stock Offered:
|
|
Up
to 4,800,000 shares of common stock, issuable upon the exercise of
common
stock purchase warrants, of which (i) 1,200,000 shares have an initial
exercise price equal to $0.01 per share (“Class A Warrants”), (ii)
1,500,000 shares have an initial exercise price equal to $3.20 per
share
(“Class B Warrants”) and (iii) 2,100,000 shares have an initial exercise
price equal to $3.45, all warrant exercise prices are subject to
certain
adjustments.
|
|
|
|
Common
Stock Outstanding at April 22, 2008:
|
|
19,224,080
|
|
|
|
Use
of Proceeds:
|
|
We
will not receive any proceeds from the sale of the 4,800,000 shares
of
common stock subject to sale by the selling stockholders under this
prospectus. However, we may receive the sale price of any common
stock we
sell to the selling stockholders upon exercise of the outstanding
warrants. Any net proceeds we receive from the Selling Stockholders
through the exercise of warrants will be used for general corporate
purposes.
|
|
|
|
OTC
Bulletin Board Symbol:
|
|
CNEH
|
RISK
FACTORS
An
investment in our common stock is speculative and involves a high degree of
risk
and uncertainty. You should carefully consider the risks described below,
together with the other information contained in this prospectus, including
the
consolidated financial statements and notes thereto of our Company, before
deciding to invest in our common stock. The risks described below are not the
only ones facing our Company. Additional risks not presently known to us or
that
we presently consider immaterial may also adversely affect our Company. If
any
of the following risks occur, our business, financial condition and results
of
operations and the value of our common stock could be materially and adversely
affected.
Risks
Related To Our Business
Oil
prices fluctuate significantly, and lower prices for an extended period of
time
are likely to have a material adverse impact on our business.
Our
revenues, profitability and future growth depend substantially on prevailing
prices for crude oil. We sell to one customer, PetroChina, and we are paid
a
price per barrel equal to the international crude oil spot market price on
the
first day of every month. These prices also affect the amount of cash flow
available for capital expenditures and our ability to borrow and raise
additional capital. The lower prices may reduce the amount of crude oil that
we
can economically produce.
Among
the
factors that can cause fluctuations are:
|
•
|
The
price and availability of alternative
fuels;
|
|
•
|
disruptions
in supply and changes in demand caused by weather
conditions;
|
|
•
|
changes
in demand as a result of changes in
price;
|
|
•
|
political
conditions in oil and gas producing regions;
and
|
|
•
|
domestic
governmental regulations.
|
Our
future success depends on our ability to find, develop and acquire oil and
gas
reserves.
To
maintain production levels, we must locate and develop or acquire new crude
oil
reserves to replace those depleted by production. Without successful exploration
or acquisition activities, our reserves, production and revenues will steadily
decline. We may be unable to find and develop or acquire additional reserves
at
an acceptable cost. In addition, substantial capital is required to replace
and
grow reserves. If lower crude oil price or operating constraints or production
difficulties result in our cash flow from operations being less than expected,
we may be unable to expend the capital necessary to locate and develop or
acquire new crude oil reserves.
We
may need to raise substantial additional capital, which may result in
substantial dilution to existing stockholders.
Although
the Company currently has no plans to raise additional capital, the Company
may
need to raise additional capital to fully deploy wells onto its oilfields or
to
make acquisitions. There can be no assurance that we will be able to raise
sufficient capital at all or on terms favorable to our stockholders or us.
If we
issue equity securities in order to raise additional capital in the amounts
currently contemplated, the stockholders will experience immediate and
substantial dilution in their ownership percentage of the combined company.
In
addition, to raise the capital we need, we may need to issue additional shares
at a discount to the current market price. If the terms of such financing are
unfavorable to us or our stockholders, the stockholders may experience
substantial dilution in the net tangible book value of their stock. In addition,
any new equity securities may have rights, preferences or privileges senior
to
those of existing holders of common stock. If we cannot raise funds on
acceptable terms, we may not be able to fully develop or exploit our existing
oil reserves, take advantage of future opportunities or respond to competitive
pressures or unanticipated requirements all of which could have a material
adverse effect on us.
Environmental
and regulatory factors
The
oil
drilling industry in China to date has not been subject to the type and scope
of
regulation seen in Europe and the United States. However, the possibility exists
that new legislation or regulations may be adopted or that the enforcement
of
existing laws could become more stringent, either of which may have a
significant impact on our mining operations or our customers’ ability to use oil
and may require us or our customers to significantly change operations or to
incur substantial costs. We believe that our operations in China are in
compliance with China’s applicable legal and regulatory requirements. However,
there can be no assurance that China’s central or local governments will not
impose new, stricter regulations or interpretations of existing regulations
that
would require additional expenditures.
Reserve
degradation and depletion
Our
profitability depends substantially on our ability to exploit our oil reserves
at competitive costs. Replacement reserves may not be available when required
or, if available, may not be capable of being drilled at costs comparable to
those characteristics of the depleting oil field. We may in the future acquire
oil reserves from third parties. We may not be able to accurately assess the
geological characteristics of any reserves that we acquire, which may adversely
affect our profitability and financial condition. Exhaustion of reserves at
our
existing oil fields and at oil fields that we may acquire in the future can
also
have an adverse effect on operating results that is disproportionate to the
percentage of overall production represented by such oil fields.
Reserves
- title; leasehold interests
Our
proved reserves are estimates. Any material inaccuracies in our reserve
estimates or assumptions underlying our reserve estimates could cause the
quantities and net present value of our reserves to be overstated or
understated. There are numerous uncertainties inherent in estimating quantities
of proved reserves, including many factors beyond our control that could cause
the quantities and net present value of our reserves to be overstated. The
reserve information included or incorporated by reference in this report
represents estimates prepared by our internal engineers and examined by
independent petroleum consultants. Estimation of reserves is not an exact
science. Estimates of economically recoverable oil and natural gas reserves
and
of future net cash flows necessarily depend upon a number of variable factors
and assumptions, any of which may cause these estimates to vary considerably
from actual results, such as:
|
•
|
historical
production from an area compared with production from similar producing
areas;
|
|
•
|
assumed
effects of regulation by governmental
agencies;
|
|
•
|
assumptions
concerning future oil and natural gas prices, future operating costs
and
capital expenditures; and
|
|
•
|
estimates
of future severance and excise taxes, workover and remedial
costs.
|
Estimates
of reserves based on risk of recovery and estimates of expected future net
cash
flows prepared or audited by different engineers, or by the same engineers
at
different times, may vary substantially. Actual production, revenues and
expenditures with respect to our reserves will likely vary from estimates,
and
the variance may be material. The net present values referred to in this report
should not be construed as the current market value of the estimated oil
reserves attributable to our properties. In accordance with SEC requirements,
the estimated discounted net cash flows from proved reserves are generally
based
on prices and costs as of the date of the estimate, whereas actual future prices
and costs may be materially higher or lower.
Acquisitions
We
are
seeking to expand our operations and oil reserves in the regions in which we
operate through acquisitions of businesses and assets, including leases of
oil
reserves. Acquisition transactions involve inherent risks, such as:
|
•
|
uncertainties
in assessing the value, strengths, weaknesses, contingent and other
liabilities and potential profitability of acquisition or other
transaction candidates;
|
|
|
|
|
•
|
the
potential loss of key personnel of an acquired business;
|
|
|
|
|
•
|
the
ability to achieve identified operating and financial synergies
anticipated to result from an acquisition or other transaction;
|
|
|
|
|
•
|
problems
that could arise from the integration of the acquired business;
|
|
|
|
|
•
|
unanticipated
changes in business, industry or general economic conditions that
affect
the assumptions underlying the acquisition or other transaction rationale;
and
|
|
|
|
|
•
|
Unexpected
development costs, that adversely affect our profitability.
|
Any
one
or more of these factors could cause us not to realize the benefits anticipated
to result from the acquisition of businesses or assets.
Risks
Related To Doing Business In China
Our
operations are primarily located in China and may be adversely affected by
changes in the policies of the Chinese government.
The
political environment in the PRC may adversely affect the Company’s business
operations. The PRC has operated as a socialist state since 1949 and is
controlled by the Communist Party of China. In recent years, however, the
government has introduced reforms aimed at creating a “socialist market economy”
and policies have been implemented to allow business enterprises greater
autonomy in their operations. Changes in the political leadership of the PRC
may
have a significant effect on laws and policies related to the current economic
reforms program, other policies affecting business and the general political,
economic and social environment in the PRC, including the introduction of
measures to control inflation, changes in the rate or method of taxation, the
imposition of additional restrictions on currency conversion and remittances
abroad, and foreign investment. These effects could substantially impair the
Company’s business, profits or prospects in China. Moreover, economic reforms
and growth in the PRC have been more successful in certain provinces than in
others, and the continuation or increases of such disparities could affect
the
political or social stability of the PRC.
The
PRC’s economic, political and social conditions, as well as governmental
policies, could affect the financial markets in China and our liquidity and
access to capital and our ability to operate our business.
The
PRC
economy differs from the economies of most developed countries in many respects,
including the amount of government involvement, level of development, growth
rate, control of foreign exchange and allocation of resources. While the PRC
economy has experienced significant growth over the past, growth has been
uneven, both geographically and among various sectors of the economy. The PRC
government has implemented various measures to encourage economic growth and
guide the allocation of resources. Some of these measures benefit the overall
PRC economy, but may also have a negative effect on us. The PRC economy has
been
transitioning from a planned economy to a more market-oriented economy. Although
the PRC government has implemented measures since the late 1970s emphasizing
the
utilization of market forces for economic reform, the reduction of state
ownership of productive assets and the establishment of improved corporate
governance in business enterprises, a substantial portion of productive assets
in China is still owned by the PRC government. In addition, the PRC government
continues to play a significant role in regulating industry development by
imposing industrial policies. The PRC government also exercises significant
control over China’s economic growth through the allocation of resources,
controlling payment of foreign currency- denominated obligations, setting
monetary policy and providing preferential treatment to particular industries
or
companies. Since late 2003, the PRC government implemented a number of measures,
such as raising bank reserves against deposit rates to place additional
limitations on the ability of commercial banks to make loans and raise interest
rates, in order to slow down specific segments of China’s economy which it
believed to be overheating. These actions, as well as future actions and
policies of the PRC government, could materially affect our liquidity and access
to capital and our ability to operate our business.
The
Chinese government exerts substantial influence over the manner in which the
Company must conduct its business activities.
The
PRC
only recently has permitted greater provincial and local economic autonomy
and
private economic activities. The government of the PRC has exercised and
continues to exercise substantial control over virtually every sector of the
Chinese economy through regulation and state ownership. Accordingly, government
actions in the future, including any decision not to continue to support recent
economic reforms and to return to a more centrally planned economy or regional
or local variations in the implementation of economic policies, could have
a
significant effect on economic conditions in the PRC or particular regions
thereof, and could require the Company to divest the interests it then holds
in
Chinese properties or joint ventures. Any such developments could have a
material adverse effect on the business, operations, financial condition and
prospects of the Company.
Future
inflation in China may inhibit economic activity and adversely affect the
Company’s operations.
In
recent
years, the Chinese economy has experienced periods of rapid expansion and within
which some years with high rates of inflation and deflation, which have led
to
the adoption by the PRC government, from time to time, of various corrective
measures designed to restrict the availability of credit or regulate growth
and
contain inflation. While inflation has moderated since 1995, high inflation
may
in the future cause the PRC government to impose controls on credit and/or
prices, or to take other action, which could inhibit economic activity in China,
and thereby adversely affect the Company’s business operations and prospects in
the PRC.
We
may be restricted from freely converting the Renminbi to other currencies in
a
timely manner.
The
Renminbi is not a freely convertible currency at present. The Company receives
all of its revenue in Renminbi, which may need to be converted to other
currencies, primarily U.S. dollars, and remitted outside of the PRC. Effective
July 1, 1996, foreign currency “current account” transactions by foreign
investment enterprises, including Sino-foreign joint ventures, are no longer
subject to the approval of State Administration of Foreign Exchange (“SAFE,”
formerly, “State Administration of Exchange Control”), but need only a
ministerial review, according to the Administration of the Settlement, Sale
and
Payment of Foreign Exchange Provisions promulgated in 1996 (the “FX
regulations”). “Current account” items include international commercial
transactions, which occur on a regular basis, such as those relating to trade
and provision of services. Distributions to joint venture parties also are
considered a “current account transaction.” Other non-current account items,
known as “capital account” items, remain subject to SAFE approval. Under current
regulations, the Company can obtain foreign currency in exchange for Renminbi
from swap centers authorized by the government. The Company does not anticipate
problems in obtaining foreign currency to satisfy its requirements; however,
there is no assurance that foreign currency shortages or changes in currency
exchange laws and regulations by the Chinese government will not restrict the
Company from freely converting Renminbi in a timely manner. If such shortages
or
change in laws and regulations occur, the Company may accept Renminbi, which
can
be held or re-invested in other projects.
We
may suffer from exchange rate risks that could result in foreign currency
exchange loss.
Because
our business transactions are denominated in RMB and our funding and result
of
operations will be denominated in USD, fluctuations in exchange rates between
USD and RMB will affect our balance sheet and financial results. Since July
2005, RMB is no longer solely pegged with USD but is pegged against a basket
of
currencies as a whole in order to keep a more stable exchange rate for
international trading. With the very strong economic growth in China in the
last
few years, RMB is facing a very high pressure to appreciate against USD. Such
pressure would result more fluctuations in exchange rates and in turn our
business would be suffered from higher exchange rate risk.
There
are
very limited hedging tools available in China to hedge our exposure in exchange
rate fluctuations. They are also ineffective in the sense that these hedges
cannot be freely preformed in the PRC financial market, and more important,
the
frequent changes in PRC exchange control regulations would limit our hedging
ability for RMB.
We
may be unable to enforce our rights due to policies regarding the regulation
of
foreign investments in China.
The
PRC’s
legal system is a civil law system based on written statutes in which decided
legal cases have little value as precedents, unlike the common law system
prevalent in the United States. The PRC does not have a well-developed,
consolidated body of laws governing foreign investment enterprises. As a result,
the administration of laws and regulations by government agencies may be subject
to considerable discretion and variation, and may be subject to influence by
external forces unrelated to the legal merits of a particular matter. China’s
regulations and policies with respect to foreign investments are evolving.
Definitive regulations and policies with respect to such matters as the
permissible percentage of foreign investment and permissible rates of equity
returns have not yet been published. Statements regarding these evolving
policies have been conflicting and any such policies, as administered, are
likely to be subject to broad interpretation and discretion and to be modified,
perhaps on a case-by-case basis. The uncertainties regarding such regulations
and policies present risks that the Company will not be able to achieve its
business objectives. There can be no assurance that the Company will be able
to
enforce any legal rights it may have under its contracts or
otherwise.
Because
our assets are located overseas, stockholders may not receive distributions
that
they would otherwise be entitled to if we were declared bankrupt or insolvent.
Our
assets are, for the most part, located in the PRC. Because the Company’s assets
are located overseas, the assets of the Company may be outside of the
jurisdiction of U.S. courts to administer if the Company was the subject of
an
insolvency or bankruptcy proceeding. As a result, if the Company was declared
bankrupt or insolvent, the Company’s stockholders may not receive the
distributions on liquidation that they are otherwise entitled to under U.S.
bankruptcy law.
Our
acquisitions of LongDe and Yu Qiao were structured to attempt to fully comply
with PRC rules and regulations. However, such arrangements may be adjudicated
by
relevant PRC government agencies as not being in compliance with PRC
governmental regulations on foreign investment in oil and gas industries and
such structures may limit our control with respect to such entities.
PRC
rules
and regulations do not allow foreign investors to directly own 100% of a
domestic oil and gas business. As such, we are ineligible to own directly 100%
a
domestic oil and gas business in China. We acquired Hong Xiang Oil Development
through Hong Xiang Technical, our 100% owned subsidiary. We acquired a majority
interest of LongDe and Yu Qiao through Song Yuan Technical, our 90% owned joint
venture incorporated in the PRC. Our acquisition of Yu Qiao is currently
provided through a trust arrangement with a PRC citizen designated by
PetroChina, a government owned entity; pursuant to which they agree to hold
10%
securities of Yu Qiao for the benefit of Song Yuan Technical in compliance
with
the applicable law of the PRC. However, pursuant to the trust agreement, they
agree, among other things, to (i) vote the securities as directed by Song Yuan
technical, (ii) deliver all payments, distributions and other economic benefits
received with respect to the securities to Song Yuan Technical, (iii) not
transfer or encumber the securities without the consent of Song Yuan Technical
and (iv) to transfer the securities to Song Yuan Technical as soon as
permissible under the laws of the PRC.
Although
we have been advised by our PRC counsel that our arrangements with our
affiliated Chinese entities are valid under current PRC laws and regulations,
we
cannot assure you that we will not be required to restructure our organization
structure and operations in China to comply with changing and new PRC laws
and
regulations. Restructuring of our operations may result in disruption of our
business, diversion of management attention and the incurrence of substantial
costs.
Recent
PRC regulations relating to offshore investment activities by PRC residents
may
increase our administrative burden and restrict our overseas and cross-border
investment activities. If our shareholders who are PRC residents fail to make
any required applications and filings under such regulations, we may be unable
to distribute profits and may become subject to liability under PRC
laws.
The
PRC
National Development and Reform Commission, or NDRC, and SAFE recently
promulgated regulations that require PRC residents and PRC corporate entities
to
register with and obtain approvals from relevant PRC government authorities
in
connection with their direct or indirect offshore investment activities. These
regulations apply to our shareholders who are PRC residents and may apply to
any
offshore acquisitions that we make in the future.
Under
the
SAFE regulations, PRC residents who make, or have previously made, direct or
indirect investments in offshore companies will be required to register those
investments. In addition, any PRC resident who is a direct or indirect
shareholder of an offshore company is required to file with the local branch
of
SAFE, with respect to that offshore company, any material change involving
capital variation, such as an increase or decrease in capital, transfer or
swap
of shares, merger, division, long-term equity or debt investment or creation
of
any security interest over the assets located in China. If any PRC shareholder
fails to make the required SAFE registration, the PRC subsidiaries of that
offshore parent company may be prohibited from distributing their profits and
the proceeds from any reduction in capital, share transfer or liquidation,
to
their offshore parent company, and the offshore parent company may also be
prohibited from injecting additional capital into their PRC subsidiaries.
Moreover, failure to comply with the various SAFE registration requirements
described above could result in liability under PRC laws for evasion of
applicable foreign exchange restrictions.
We
cannot
assure you that all of our shareholders who are PRC residents will comply with
our request to make or obtain any registrations or approvals required under
these regulations or other related legislation. Furthermore, as the regulations
are relatively new, the PRC government has yet to publish implementing rules,
and much uncertainty remains concerning the reconciliation of the new
regulations with other approval requirements. It is unclear how these
regulations, and any future legislation concerning offshore or cross-border
transactions, will be interpreted, amended and implemented by the relevant
government authorities. The failure or inability of our PRC resident
shareholders to comply with these regulations may subject us to fines and legal
sanctions, restrict our overseas or cross-border investment activities, limit
our ability to inject additional capital into our PRC subsidiaries, and the
ability of our PRC subsidiaries to make distributions or pay dividends, or
materially and adversely affect our ownership structure. If any of the foregoing
events occur, our acquisition strategy, business operations and ability to
distribute profits to you could be materially and adversely affected.
PRC
regulation of loans and direct investment by offshore holding companies to
PRC
entities may delay or prevent us from raising finance to make loans or
additional capital contributions to our PRC operating subsidiaries and
affiliates.
As
an
offshore holding company of our PRC operating subsidiaries and affiliates,
we
may make loans to our PRC subsidiaries and consolidated PRC affiliated entities,
or we may make additional capital contributions to our PRC subsidiaries. Any
loans to our PRC subsidiaries or consolidated PRC affiliated entities are
subject to PRC regulations and approvals.
We
may
also determine to finance Song Yuan Technical, by means of capital
contributions. These capital contributions to Song Yuan Technical must be
approved by the PRC Ministry of Commerce or its local counterpart. We cannot
assure you that we can obtain these government registrations or approvals on
a
timely basis, if at all, with respect to future loans or capital contributions
by us to our operating subsidiaries. If we fail to receive such registrations
or
approvals, our ability to capitalize our PRC operations would be negatively
affected which would adversely and materially affect our liquidity and our
ability to expand our business.
Risks
Related To Corporate And Stock Matters
Our
authorized preferred stock exposes stockholders to certain
risks.
Our
Articles of Incorporation authorizes the issuance of up to 50,000,000 shares
of
preferred stock, par value $.001 per share. To date, no shares of preferred
stock have been issued. The authorized preferred stock constitutes what is
commonly referred to as “blank check” preferred stock. This type of preferred
stock allows the Board of Directors to divide the preferred stock into series,
to designate each series, to fix and determine separately for each series any
one or more relative rights and preferences and to issue shares of any series
without further stockholder approval. Preferred stock authorized in series
allows our Board of Directors to hinder or discourage an attempt to gain control
of us by a merger, tender offer at a control premium price, proxy contest or
otherwise. Consequently, the preferred stock could entrench our management.
In
addition, the market price of our common stock could be materially and adversely
affected by the existence of the preferred stock.
The
market for the Company’s common stock is illiquid.
The
Company’s common stock is traded on the Over-the-Counter Bulletin Board. It is
thinly traded compared to larger more widely known companies in its industry.
Thinly traded common stock can be more volatile than stock trading in an active
public market. The Company cannot predict the extent to which an active public
market for its common stock will develop or be sustained.
Our
stock is a penny stock. Trading of our stock may be restricted by the SEC’s
penny stock regulations which may limit a stockholder’s ability to buy and sell
our stock.
Our
stock
is a penny stock. The SEC has adopted Rule 15g-9 which generally defines “penny
stock” to be any equity security that has a market price (as defined) less than
$5.00 per share or an exercise price of less than $5.00 per share, subject
to
certain exceptions. Our securities are covered by the penny stock rules, which
impose additional sales practice requirements on broker-dealers who sell to
persons other than established customers and “accredited investors”. The term
“accredited investor” refers generally to institutions with assets in excess of
$5,000,000 or individuals with a net worth in excess of $1,000,000 or annual
income exceeding $200,000 or $300,000 jointly with their spouse. The penny
stock
rules require a broker-dealer, prior to a transaction in a penny stock not
otherwise exempt from the rules, to deliver a standardized risk disclosure
document in a form prepared by the SEC which provides information about penny
stocks and the nature and level of risks in the penny stock market. The
broker-dealer also must provide the customer with current bid and offer
quotations for the penny stock, the compensation of the broker-dealer and its
salesperson in the transaction and monthly account statements showing the market
value of each penny stock held in the customer’s account. The bid and offer
quotations, and the broker-dealer and salesperson compensation information,
must
be given to the customer orally or in writing prior to effecting the transaction
and must be given to the customer in writing before or with the customer’s
confirmation. In addition, the penny stock rules require that prior to a
transaction in a penny stock not otherwise exempt from these rules, the
broker-dealer must make a special written determination that the penny stock
is
a suitable investment for the purchaser and receive the purchaser’s written
agreement to the transaction. These disclosure requirements may have the effect
of reducing the level of trading activity in the secondary market for the stock
that is subject to these penny stock rules. Consequently, these penny stock
rules may affect the ability of broker-dealers to trade our securities. We
believe that the penny stock rules discourage investor interest in and limit
the
marketability of our common stock.
NASD
sales practice requirements may also limit a stockholder’s ability to buy and
sell our stock.
In
addition to the “penny stock” rules described above, the NASD has adopted rules
that require that in recommending an investment to a customer, a broker-dealer
must have reasonable grounds for believing that the investment is suitable
for
that customer. Prior to recommending speculative low priced securities to their
non-institutional customers, broker-dealers must make reasonable efforts to
obtain information about the customer’s financial status, tax status, investment
objectives and other information. Under interpretations of these rules, the
NASD
believes that there is a high probability that speculative low priced securities
will not be suitable for at least some customers. The NASD requirements make
it
more difficult for broker-dealers to recommend that their customers buy our
common stock, which may limit your ability to buy and sell our stock and have
an
adverse effect on the market for our shares.
Stockholders
should have no expectation of any dividends.
The
holders of our common stock are entitled to receive dividends when, as and
if
declared by the board of directors out of funds legally available therefore.
To
date, we have not declared nor paid any cash dividends. The board of directors
does not intend to declare any dividends in the foreseeable future, but instead
intends to retain all earnings, if any, for use in our business operations.
Most of
our directors and officers are outside the United States, with the result that
it may be difficult for investors to enforce within the United States any
judgments obtained against us or any of our directors or officers.
Most of
our directors and officers are nationals and/or residents of countries other
than the United States, and all or a substantial portion of such persons’ assets
are located outside the United States. As a result, it may be difficult for
investors to effect service of process on our directors or officers, or enforce
within the United States or Canada any judgments obtained against us or our
officers or directors, including judgments predicated upon the civil liability
provisions of the securities laws of the United States or any state thereof.
Consequently, you may be effectively prevented from pursuing remedies under
U.S.
federal securities laws against them. In addition, investors may not be able
to
commence an action in a Canadian court predicated upon the civil liability
provisions of the securities laws of the United States.
If
we or our independent registered public accountants cannot attest our adequacy
in the internal control measures over our financial reporting, as required
by
Section 404
of the U.S. Sarbanes-Oxley Act, for the fiscal year ending
December 31,
2009, we may be adversely affected.
As
a
public company, we are subject to report our internal control structure and
procedures for financial reporting in our annual reports on Form 10-K, as a
requirement of Section 404 of the U.S. Sarbanes-Oxley Act of 2002 by the U.S.
Securities and Exchange Commission (the “SEC”). The report must contain an
assessment by management about the effectiveness of our internal controls over
financial reporting. Moreover, the independent registered public accountants
of
our company must attest to and report on management’s assessment of the same.
Even if our management attests to our internal control measure to be effective,
our independent registered public accountants may not satisfy with our internal
control structure and procedures. We cannot assure possible outcomes about
the
conclusion of the report and it could result in an adverse impact on us in
the
financial marketplace due to the loss of investor confidence in the reliability
of our financial statements, which could negatively impact to our stock market
price.
SPECIAL
NOTE REGARDING FORWARD-LOOKING STATEMENTS
Some
of
the statements under “Prospectus Summary,” “Risk Factors,” “Management’s
Discussion and Analysis of Financial Condition and Results of Operations,”
“Business,” and elsewhere in this prospectus constitute forward-looking
statements. These statements involve risks known to us, significant
uncertainties, and other factors which may cause our actual results, levels
of
activity, performance, or achievements to be materially different from any
future results, levels of activity, performance, or achievements expressed
or
implied by those forward-looking statements.
You
can
identify forward-looking statements by the use of the words “may,” “will,”
“should,” “could,” “expects,” “plans,” “anticipates,” “believes,” “estimates,”
“predicts,” “intends,” “potential,” “proposed,” or “continue” or the negative of
those terms. These statements are only predictions. In evaluating these
statements, you should specifically consider various factors, including the
risks outlined above. These factors may cause our actual results to differ
materially from any forward-looking statement.
Although
we believe that the exceptions reflected in the forward-looking statements
are
reasonable, we cannot guarantee future results, levels of activity, performance
or achievements.
USE
OF PROCEEDS
We
will
not receive any proceeds from the sale of our common stock by the Selling
Stockholders. However, we may receive the sale price of any common stock we
sell
to the selling stockholder upon exercise of outstanding warrants.
Unless
otherwise indicated in the applicable prospectus supplement, we anticipate
that
any net proceeds from the sale of securities that we offer under this prospectus
and any accompanying prospectus supplement will be used for general corporate
purposes. Such general purposes may include acquisitions, investments, repayment
of debt, capital expenditures, repurchase of our capital stock and any other
purposes that we may specify in any prospectus supplement. We may invest the
net
proceeds temporarily until we use them for their stated purpose.
MARKET
FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
CNEH
common stock is quoted on the Over-the-Counter Electronic Bulletin Board under
the symbol “CNEH.OB”. Presented below is the high and low bid information of
CNEH’s common stock for the periods indicated. The source of the following
information for 2007 and 2006 is Merrill Lynch. These quotations reflect
inter-dealer prices, without retail mark-up, mark-down or commission and may
not
represent actual transactions.
|
|
CNEH
COMMON
STOCK
|
|
|
|
HIGH
|
|
LOW
|
|
FISCAL
YEAR ENDING DECEMBER 31, 2008:
|
|
|
|
|
|
First
Quarter
|
|
$
|
2.59
|
|
$
|
1.61
|
|
FISCAL
YEAR ENDING DECEMBER 31, 2007:
|
|
|
|
|
|
|
|
Fourth
Quarter
|
|
$
|
4.12
|
|
$
|
2.00
|
|
Third
Quarter
|
|
$
|
4.24
|
|
$
|
0.37
|
|
Second
Quarter
|
|
$
|
0.50
|
|
$
|
0.30
|
|
First
Quarter
|
|
$
|
0.39
|
|
$
|
0.31
|
|
FISCAL
YEAR ENDING DECEMBER 31, 2006:
|
|
|
|
|
|
|
|
Fourth
Quarter
|
|
$
|
.51
|
|
$
|
.22
|
|
Third
Quarter
|
|
$
|
.45
|
|
$
|
.25
|
|
Second
Quarter
|
|
$
|
.55
|
|
$
|
.35
|
|
First
Quarter
|
|
$
|
.84
|
|
$
|
.20
|
|
Our
common shares are issued in registered form. Interwest Transfer Co. Inc.
(Telephone: 801-272-9294; Facsimile: 801-277-3147) is the registrar and transfer
agent for our common shares. The Company has no securities authorized for
issuance under any equity compensation plan.
Holders
As
of
June 30, 2008, there were approximately 85 holders of record of our common
stock.
Dividends
We
have
not declared any dividends since incorporation and do not anticipate that we
will do so in the foreseeable future. Although there are no restrictions that
limit the ability to pay dividends on our common shares, our intention is to
retain future earnings for use in our operations and the expansion of our
business.
MANAGEMENT'S
DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
The
following discussion and analysis should be read in conjunction with our
financial statements, included herewith. This discussion should not be construed
to imply that the results discussed 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 of our management.
The
following discussion and analysis of financial condition and results of
operations should be read in conjunction with our financial statements and
related notes included elsewhere in this report. This discussion contains
forward-looking statements that involve risks, uncertainties and assumptions.
Forward-looking statements can be identified by the fact that they do not relate
strictly to historic or current facts. They use words such as “anticipate,”
“estimate,” “project,” “intend,” “plan,” “believe” and other words and terms of
similar meaning in connection with any discussion of future operating or
financial performance. In particular, these include statements relating
to:
|
•
|
Our
expectation of continued growth in the demand for our
oil;
|
|
|
|
|
•
|
Our
expectation that we will continue to have adequate liquidity from
cash
flows from operations;
|
|
|
|
|
•
|
A
variety of market, operational, geologic, permitting, labor and weather
related factors; and
|
|
|
|
|
•
|
The
other risks and uncertainties which are described above under “RISK
FACTORS”, including, but not limited to, the following:
|
|
|
|
|
•
|
Unanticipated
conditions may cause profitability to fluctuate.
|
|
|
|
|
•
|
Decreases
in purchases of oil by our customer will adversely affect our revenues.
|
Overview
We
are
engaged in the exploration and production of crude oil in Northern China. We
have an arrangement with the Jilin Refinery of PetroChina Group to sell our
crude oil production for use in the China marketplace. As of March 31, 2008,
we
operated 165 producing wells located in four oilfields in Northern China and
have plans for additional drilling projects.
In
particular, through two of our subsidiaries, Song Yuan City Yu Qiao Oil and
Gas
Development Co. Ltd. (“Yu Qiao”) and Chang Ling Longde Oil and Gas Development
Co. Ltd. (“LongDe”), we have entered into binding sales agreements with the
PetroChina Group, whereby we sell our crude oil production for use in the China
marketplace.
We
currently operate 4 oilfields located in Northern China, which include:
Field
|
|
Acreage
(Gross
developed
and
undeveloped)
|
|
Producing Oil
Wells
|
|
Proved
Reserves
(Bbls)
|
|
Qian’an
112
|
|
|
5,115
|
|
|
140
|
|
|
1,963,319
|
|
Daan
34
|
|
|
2,298
|
|
|
7
|
|
|
168,335
|
|
Gudian
31
|
|
|
1,779
|
|
|
7
|
|
|
62,533
|
|
Hetingbao
301
|
|
|
2,471
|
|
|
11
|
|
|
274,637
|
|
The
following chart illustrates our company’s organizational structure.
Organizational
History
We
were
incorporated in the State of Nevada on August 20, 1999 under the name Draco
Holding Corporation. On March 29, 2004, we executed an Agreement for Share
Exchange with Hong Xiang Petroleum Group Limited, a corporation organized and
existing under the laws of the British Virgin Islands (“Hong Xiang”), and the
individual shareholders owning 100% of the outstanding common shares of Hong
Xiang (the “Hong Xiang Shareholders”).
Pursuant
to the Agreement for Share Exchange, we issued 18,700,000 shares of our common
stock to the Hong Xiang Shareholders in exchange for all of the shares of
capital stock of Hong Xiang owned by the Hong Xiang Shareholders at closing,
and
Hong Xiang became our wholly-owned subsidiary. On June 28, 2004, we changed
our
name to China North East Petroleum Holdings Ltd.
During
2004, we acquired a 100% ownership in Song Yuan City Hong Xiang Petroleum
Technical Services Co., Ltd. (“Hong Xiang Technical”), and Hong Xiang Technical
in turn acquired a 100% interest in Song Yuan City Yu Qiao Qianan Hong Xiang
Oil
and Gas Development Co., Ltd. (“Hong Xiang Oil Development”), which was engaged
in the exploration and production of crude oil in the Jilin region of the PRC.
As
a
result of the Yu Qiao acquisition discussed below, all operations, assets and
liabilities of the Company’s subsidiary Hong Xiang Oil Development were
transferred to Yu Qiao on March 19, 2007. Since Hong Xiang Oil Development
and
Hong Xiang Technical were no longer necessary elements of the Company’s
corporate structure, and they were liquidated and dissolved.
PetroChina
Oil Leases
Pursuant
to a 20-year exclusive Cooperative Oil Lease (the “Oil Lease”), among PetroChina
Group, Yu Qiao and the Company, entered into in May 2002, the Company has the
right to explore, develop and produce oil at Qian’an 112 Oilfield. Pursuant to
the Oil Lease, (i) PetroChina is entitled to 20% of the Company’s oil production
for the first ten years of the Oil Lease term and 40% of the Company’s oil
production for the remaining ten years of the Oil Lease term; and (ii) Yu Qiao
is entitled to 2% of the Company’s oil production as a management
fee.
LongDe
is
a party to a 20-year contract with PetroChina Group entered into in May 2003,
pursuant to which LongDe has the right to explore, develop and produce oil
at
the Hetingbao 301 oilfield in the PRC. Pursuant to such between PetroChina
and
LongDe, PetroChina is entitled to 20% of LongDe’s output in the first ten years
and 40% of LongDe’s output thereafter until the end of the contract.
As
the
controlling shareholder of Yu Qiao, the Company has the rights to extract and
develop Qian’an 112 and other oil fields under contracts that Yu Qiao has
entered into with PetroChina. These oilfields include the Daan 34 oilfield
and
Gudian 31 oilfield in Jilin Province.
Song
Yuan Technical Joint Venture
On
July
26, 2006, the Company entered into a joint venture agreement with Wang Hong
Jung
(“Mr. Wang”), the president and a stockholder of the Company and Ju Guizhi (“Ms.
Ju”), mother of Mr. Wang, to contribute to the increased registered capital of
Song Yuan North East Petroleum Technical Service Co. Ltd. (“Song Yuan
Technical”). The purpose of Song Yuan Technical is to acquire oil and gas
properties and to engage in the exploration of crude oil in the PRC. The Company
owns a 90% equity interest in Song Yuan Technical, and Ms. Ju owns the remaining
10% equity interest in Song Yuan Technical.
Acquisition
of LongDe
In
order
to comply with certain PRC laws relating to foreign entities’ ownership of oil
and gas company in the PRC, prior to March 17, 2008, Song Yuan Technical
directly owned a 70% equity interest in LongDe, while Sun Peng and Ai Chang
Shan, respectively, owned 10% and 20% of the equity interests in Long De in
trust for Song Yuan Technical. On March 17, 2008, Song Yuan Technical
additionally acquired an additional 20% equity interest in LongDe, of which
it
acquired a 10% of the equity interest in LongDe from Sun Peng, and 10% of the
equity interest in LongDe from Ai Chang Shan. Accordingly, Song Yuan Technical
now owns directly 90% of the equity interests in LongDe, with Ai ChangShan
holding the remaining 10% in trust for in trust for Song Yuan Technical. The
acquisition of LongDe was made pursuant to the laws of the PRC. As a 90% owner
of Song Yuan Technical, the Company effectively controls LongDe.
Acquisition
of Yu Qiao
On
January 26, 2007, the Company, through its 90% owned subsidiary Song Yuan
Technical, acquired beneficial ownership of all of the interests in Yu Qiao
from
Ms. Ju. In consideration for such acquisition, the Company issued to Ms. Ju
an
aggregate of 10 million shares of its common stock (the “Acquisition Shares”),
having a market value of approximately U.S.$3.1 million. However, on June 29,
2007, the Company, Mr. Wang and Ms. Ju entered into an agreement pursuant to
which, among other things, all of the Acquisition Shares were contributed to
the
Company.
In
order
to comply with certain PRC laws relating to foreign entities’ ownership of oil
and gas company in the PRC, the former owners of Yu Qiao, Wang Pingwu and Meng
Xiangyun, held 10%, and 20% of the equity interests, respectively, in Yu Qiao
in
trust for the benefit of Song Yuan Technical. The laws of the PRC govern the
agreements by which the Company acquired Yu Qiao and by which the former owners
of Yu Qiao hold equity interests in trust. See “Regulations Affecting Our
Business” under “Risk Factors.” Subsequently, on March 17, 2008, Song Yuan
Technical acquired from Meng Xiangyun the 20% equity interest which he had
held
in Yu Qiao. Accordingly, Song Yuan Technical currently directly holds a 90%
equity interest in Yu Qiao, while Wang Pingwu continues to hold a 10% equity
interest in Yu Qiao in trust for the benefit of Song Yuan Technical. Thus the
Company, through Song Yuan Technical, currently effectively controls 90% of
the
equity interests in Yu Qiao, while the remaining 10% equity interests in Yu
Qiao
is effectively controlled by Ms. Ju.
Oil
and Gas Properties and Activities
As
of
March
31,
2008,
the
Company had a total of 165 producing wells, including 140 producing wells
at the
Qian’an 112 oilfield, 11 producing wells at the Hetingbao 301 oilfield, 7
producing wells at the Daan 34 oilfield and 7 producing wells at the Gudian
31
oilfield. There were 144 traditional sucker-rod pumping machines in operation.
All
of
the Company’s crude oil production is sold to the Jilin Refinery of PetroChina
Group. The approximate distance of each of the Company’s oil fields from the
Jilin Refinery is as follows: the Qian’an 112 oilfield is four kilometers away,
the Hetingbao 301 oilfield is three kilometers away, the Daan 34 oilfield is
fifteen kilometers away and the Gudian Oilfield 31 is thirty kilometers
away.
PetroChina
pays the Company a price per barrel based on the international crude oil spot
market price on the first day of every month. The price is FOB the Jilin
Refinery.
CONSOLIDATED
RESULTS OF OPERATIONS
The
Company is paid by PetroChina based on the crude oil price in the international
commodity market. Prices in 2007 averaged RMB 3,937 per ton or approximately
$70.03 per barrel, which represents an increase of 8.7% over 2006.
Our
cost
of net revenues consists of cost of labor, well service and repair, location
maintenance, power and fuel, transportation, cost of product, property taxes,
production and severance taxes and production related general and administrative
costs.
General
and administrative expenses consist primarily of salaries and related expenses
for executive, finance, accounting, information technology, facilities and
human
resources personnel, recruiting expenses, professional fees and costs associated
with expanding our information systems.
Three
Months Ended March 31, 2008 Compared To Three Months Ended March 31,
2007
Revenues.
Revenues for the quarter ended March 31, 2008 were $10,823,974 compared
to $1,879,947 for the quarter ended March 31, 2007, an increase of
$8,944,027, or 476%. This increase was due to an increase in crude
oil production and crude oil price. Our output of crude oil for
the three months ended March 31, 2008 was 15,564 tons compared to 4,367
tons for the same quarter in 2007. The increase in production was mainly
because of (i) refracturing and other technical improvements made on
the existing wells; (ii) water injection network which efficiently
prevented the decrease of production of existing wells and maintain certain
production levels of such wells; and (iii) eight new wells brought into
production during the first quarter of 2008.
Cost
of sales. Cost
of sales increased by 442% from $885,772 for the three months ended March 31,
2007 to $4,801,159 for the three months ended March 31, 2008. The
increase in cost of sales resulted primarily from the increase in production
and
the payment of oil surcharge. For the three months ended March 31,
2008, the Company paid an oil surcharge of $2,211,320 to the PRC government
as
compared to $157,131 paid for the same quarter in 2007. Under a
regulation introduced in June 2006, a surcharge of 20% is imposed on the portion
of the selling price of crude oil which exceeds $40 per barrel and a surcharge
of 40% is imposed on the portion of the selling price of crude oil which exceeds
$60 per barrel.
Operating
Expenses.
Operating expenses increased by 112% from $299,417 for the three months ended
March 31, 2007 to $635,949 for the three months ended March 31,
2008. The increase is primarily a result of increase in
depreciation of fixed assets resulting from increase in number of oil wells
in
operation and the increase in professional fees paid to the Company's legal
counsel and auditors.
Net
Income. Net
income increased by 1,042% from $287,363 for the three months ended March 31,
2007 to $3,281,259 for the three months ended March 31, 2008, primarily as
a
result of a 476% increase in sales as described above.
Comparing
Fiscal Years Ended December 31, 2007 and 2006:
The
following table presents certain consolidated statement of operations
information. Financial information is presented for the 12-month period ending
as of December 31, 2007 and December 31, 2006.
|
|
2007
|
|
2006
|
|
Revenues,
net
|
|
$
|
19,482,069
|
|
$
|
5,321,905
|
|
Cost
and Expenses
|
|
$
|
10,236,486
|
|
$
|
3,957,655
|
|
Income
from Operations
|
|
$
|
9,245,583
|
|
$
|
1,364,250
|
|
Revenues.
Revenues for 2007 increased to $19,482,069 from $5,321,905 in 2006 as a result
of the increase in oil production and higher oil price. During the whole year,
the Company drilled 67 new oil wells in the four oilfields which are owned
by
the Company. Total number of producing wells increased from 90 in 2006 to 157
in
2007, a total increase of 74%. Aided by the addition of these new wells as
well
as the use of recovery techniques on our existing wells total production
increased in 2007 by 196% compared with the same periods in 2006. Total oil
production for 2007 was 267,516 barrels, or approximately a 196% increase,
as
compared to 90,520 barrels in the same period in 2006. Oil prices in 2007
averaged RMB 3,937per ton or approximately $70.03 per barrel, which represents
an increase of 8.7% over 2006.
Oilfield
|
|
2007 wells
|
|
2006 wells
|
|
2007 Production
|
|
2006 Production
|
|
Qian’an112
|
|
|
133
|
|
|
73
|
|
|
253,116
|
|
|
80,306
|
|
Hetingbao
301
|
|
|
11
|
|
|
6
|
|
|
11,318
|
|
|
6,642
|
|
Gudian31
|
|
|
6
|
|
|
5
|
|
|
502
|
|
|
962
|
|
Daan
34
|
|
|
7
|
|
|
6
|
|
|
2,580
|
|
|
2,610
|
|
Total
|
|
|
157
|
|
|
90
|
|
|
267,516
|
|
|
90,520
|
|
Company
|
|
2007 wells
|
|
2006 wells
|
|
2007 Production
|
|
2006 Production
|
|
Yu
Qiao
|
|
|
146
|
|
|
84
|
|
|
256,198
|
|
|
83,878
|
|
LongDe
|
|
|
11
|
|
|
6
|
|
|
11,318
|
|
|
6,642
|
|
Cost
of sales.
Cost of
sales increased by 228% from $2,723,477 for the year ended December 31, 2006
to
$8,941,976 for the year ended December 31, 2007. The increase in cost of sales
resulted primarily from the increased producing wells and higher production
in
2007. During 2007, with the addition of LongDe and Yu’Qiao, our total number of
producing wells increased from 90 in 2006 to 157 in 2007, a total increase
of
74%. Higher production also leaded a increase of Special Oil Surcharge. The
company paid a special oil surcharge of $2,857,376 to the PRC government while
$560,584 was paid to PRC government for the same period in 2006. In addition,
depreciation of oil and gas properties were increased by 234% to $3,562,265
in
2007, compared to $1,067,335 in the same period in 2006 by the result of
increase in producing wells.
Operating
Expenses.
Operating expenses increased by 5% from $1,234,178 for the year ended December
31, 2006 to $1,294,510 for the year ended December 31, 2007. The increase in
operating expenses resulted primarily from the higher depreciation due to the
increased fixed assets. During 2007, the Company paid approximately $108,500
for
consulting service in connection with its first full year as a U.S. public
traded company, as compared with $81,375 in 2006.
General
and administrative expenses.
General
and administrative expenses remained almost same for two years, with $880,161
for 2007 and $884,778 for 2006. We expect the general and administrative expense
will grow in 2008, as we plan to increase our production with the acquisition
of
Yu Qiao and engage in potential financing activities.
Net
Income.
The
Company’s net income increased by 439% to $5,132,581 for the year ended December
31, 2007, compared to $952,395 for the year ended December 31, 2006. The
increase in net income was primarily due to the increase in revenues and higher
crude oil price.
LIQUIDITY
AND CAPITAL RESOURCES
As
of
March 31, 2008, the Company had cash and cash equivalents of $12,734,345, total
current assets of $19,694,955 and current liabilities of approximately
$15,464,405. As
of
December 31, 2007, the Company had cash and cash equivalents of $74,638, other
current assets of $5,902,584 and current liabilities of $10,713,944.
For
the
three months ended March 31, 2008, our primary source of liquidity was
approximately $1,193,150 in net cash provided by operations and approximately
$13,455,974 in cash provided by financing activities. For
the
year ended December 31, 2007, our primary source of liquidity was $9,503,642
in
net cash provided by operations and $4,286,530 in loans made to the Company
by
related parties.
Net
cash
provided by operating activities was $1,193,150 for the three months ended
March
31, 2008 compared to $2,212,574 for the same period in 2007. The decrease is
primarily related to decrease in accounts payable during the period ended March
31, 2008.
Net
cash
provided by operating activities was $9,503,642 for the year ended December
31,
2007 compared to $16,291,534 for the year 2006. The decrease is primarily
related to a decrease in account payable as a result of the addition of 67
producing wells during the year.
Net
cash
used in investing activities was $1,134,534 for the three months ended March
31,
2008 compared to $2,866,757 for the same period in 2007. This decrease is
primarily due to the decrease in purchase of oil and gas properties of
$1,994,012 during the three months ended March 31, 2008.
Net
cash
used in investing activities was $12,334,036 for the year ended December 31,
2007 compared to $19,181,324 for the year 2006. The decrease is primarily a
result of decrease in the oil and gas properties under
construction.
Net
cash
provided by financing activities was $13,455,974 for the three months ended
March 31, 2008 as a result of the financing by Lotusbox Investments Limited
completed in the first quarter of 2008.
Net
cash
provided by financing activities was $4,362,473 for the year ended December
31,
2007 as a result of advances made to the Company by related
parties.
The
Company intends to pay for this development and oil wells under construction
with cash from operations as well as by raising funds through the sale of equity
or debt. The full and timely development and implementation of its business
plan
and growth strategy will require significant additional resources. As
of March 31, 2008, the Company has secured $15,000,000 in funding. To
fully implement the Company’s business plan and growth strategy the Company may
require additional resources. The Company’s ability to obtain
additional capital will also depend on market conditions, national and global
economies and other factors beyond its control. We cannot assure you
that the Company will be able to implement or capitalize on various financing
alternatives or otherwise obtain required capital, the need for which is
substantial given its operating loss history and its business and development
plan.
As
of
December 31, 2007, the Company’s current liabilities were $10,713,944 consisting
of $6,580,930 in accounts payable primarily comprised of costs related to the
drilling of an additional 67 wells in the whole year of 2007. In July 2007,
the
Company was able to negotiate new payment terms with its primary drilling
company, which extends the payment term for each well from over 12 to over
24
months beginning upon completion of the well. In addition, on June 29, 2007,
the
Company negotiated an agreement with Mr. Hong Jun Wang, the Company’s Chief
Executive Officer and Ms. Guizhi Ju, Mr. Wang’s mother pursuant to which Mr.
Wang and Ms. Ju contributed an aggregate of approximately $7.2 million owed
by
the Company to Mr. Wang and Ms. Ju to the capital of the Company, reducing
the
Company’s current liabilities by approximately $1.7 million and its long-term
liabilities by approximately $5.5 million.
Capital
Commitment
Pursuant
to Certificate of Approval for Establishment of Enterprises with foreign
Investment in the People’s Republic of China, the Company was obligated to
contribute $6,000,000 as registered capital of Song Yuan
Technical. As of March 31, 2008, the Company has received 90% of Song
Yuan Technical’s membership and profit interests. On April 22, 2008, the
Company fulfilled the outstanding capital contribution to Song Yuan
Technical.
Inflation
Inflation
did not have a material impact on our business in 2007 other than the increase
in oil price received as discussed above.
Material
Subsequent Events
On
February 28, 2008, we entered into a Securities Purchase Agreement (the
“Purchase Agreement”) with Lotusbox Investments Limited (the “Investor”).
Pursuant to which, the Company agreed to issue to the Investor a 8.00% Secured
Debenture due 2012 (the “Debenture”) in the aggregate principal amount of
$15,000,000, and agreed to issue to the Investor five-year warrants exercisable
for up to (i) 1,200,000 shares of the Company’s common stock at an initial
exercise price equal to $0.01 per share (“Class A Warrants”), (ii) 1,500,000
shares of the Company’s common stock at an initial exercise price equal to $3.20
per share (“Class B Warrants”) and (iii) 2,100,000 shares of the Company’s
common stock at an initial exercise price equal to $3.45, with all warrant
exercise prices being subject to certain adjustments. The Class B Warrants
are
subject to certain call rights by the Company.
As
of
March 25, 2008, the Company has received net proceeds of $13,815,500 from the
sale of the Debentures. The Company intends to use the net proceeds to fund
drilling operations, to increase production and for general working capital
purposes.
At
the
closing of the transaction, the Company entered into:
|
·
|
A
8.00% Secured Debenture due 2012;
|
|
|
|
|
·
|
A
registration rights agreement covering the shares of common stock
issuable
upon exercise of the Class A, Class B and Class C
Warrants;
|
|
|
|
|
·
|
A
share pledge agreement whereby the Company granted to the Investor
a
pledge on 66% of the Company’s equity interest in Song Yuan Technical as
collateral to secure the Debenture;
|
|
|
|
|
·
|
A
security agreement whereby the Company granted to the Investor a
security
interest in certain properties of the Company as collateral to secure
the
Debenture; and
|
|
|
|
|
·
|
An
option agreement whereby the Company grants the Investor an option
to
purchase up to 24% of the registered capital of Song Yuan Technical
at
fair market value, which option will vest immediately on the date
following the occurrence of an event of default which results in
the
acceleration of the Debenture.
|
In
addition, Hongjun Wang, President and Chief Executive Officer of the Company,
executed a pledge agreement whereby Mr. Wang, personally pledged 6,732,000
shares of common stock in the Company as collateral to secure the
Debenture.
Hong
Jie
Ltd. acted as the financial consultant for this transaction and is entitled
to
receive a cash fee equal to 6.5% of the aggregate principal amount of the
Debenture and warrants to purchase up to (i) 120,000 shares of common stock
in
the Company on the same terms as the Class A Warrants, (ii) 150,000 shares
of
common stock in the Company on the same terms as the Class B Warrants and (iii)
210,000 shares of common stock in the company on the same terms as the Class
C
Warrants.
The
Debenture will mature on February 27, 2012. The Company is required to make
payments on the principal amount of the Debenture as follows:
Repayment
Date
|
|
Repayment of
Principal
Amount
|
|
6
months from the issue date
|
|
$
|
750,000
|
|
12
months from the issue date
|
|
$
|
750,000
|
|
18
months from the issue date
|
|
$
|
1,875,000
|
|
24
months from the issue date
|
|
$
|
1,875,000
|
|
30
months from the issue date
|
|
$
|
3,375,000
|
|
36
months form the issue date
|
|
$
|
3,375,000
|
|
42
months from the issue date
|
|
$
|
1,500,000
|
|
48
months from the issue date
|
|
$
|
1,500,000
|
|
The
Company has the option to redeem the Debenture at any time after the second
anniversary of the issue date of the Debenture by prepaying 100% of the then
outstanding principal amount of the Debenture, all accrued but unpaid interest
and all other amounts due in respect of the Debenture. If any portion of the
payment pursuant to such redemption is not be paid by the Company, interest
will
accrue thereon at an interest rate equal to the lesser of 18% per annum and
the
maximum rate permitted by applicable law until such amount is paid in
full.
Interest
on the then outstanding principal amount of the Debenture will accrue at the
rate of 8% per annum, payable quarterly on January 1, April 1, July 1 and
October 1, beginning on the first such date after the issue date.
The
Debenture requires the Company to pay interest at the rate equal to the lesser
of 18% per annum or the maximum rate permitted under applicable law if certain
events of default occur, including but not limited to, the event where the
Company has not obtained a listing of its common stock on the Nasdaq Stock
Market or the American stock Exchange by one year anniversary of the issue
date
of the Debenture and use its best efforts to maintain such listing continuously
thereafter as long as the Debenture is outstanding.
The
Debenture limits the Company’s ability to incur debt and enter into transactions
with affiliates, among other things.
Upon
an
event of default, the Investor will have the right to require that the Company
pay any portion or all principal and accrued interest on the Debenture with
10
days' prior written notice to the Company.
CRITICAL
ACCOUNTING POLICIES
Proved
Reserves.
Proved
oil and gas reserves, as defined by SEC Regulation S-X Rule 4-10(a) (2i), (2ii),
(2iii), (3) and (4), are the estimated quantities of crude oil that geological
and engineering data demonstrate with reasonable certainty to be recoverable
in
future years from known reservoirs under existing economic and operating
conditions, i.e., prices and costs as of the date the estimate is made. Prices
include consideration of changes in existing prices provided only by contractual
arrangements, but not on escalations based upon future conditions.
The
Company’s estimates of proved reserves are made using available geological and
reservoir data as well as production performance data. These estimates, made
by
the Company’s engineers, are reviewed annually and revised, either upward or
downward, as warranted by additional data. Revisions are necessary due to
changes in, among other things, reservoir performance, prices, economic
conditions and governmental restrictions. Decreases in prices, for example,
may
cause a reduction in some proved reserves due to reaching economic limits
sooner.
Properties
and Equipment. The
Company uses the full cost method of accounting for exploration and development
activities as defined by the SEC. Under this method of accounting, the costs
of
unsuccessful, as well as successful, exploration and development activities
are
capitalized as properties and equipment. This includes any internal costs that
are directly related to exploration and development activities but does not
include any costs related to production, general corporate overhead or similar
activities. Gain or loss on the sale or other disposition of oil and gas
properties is not recognized, unless the gain or loss would significantly alter
the relationship between capitalized costs and proved reserves of oil and
natural gas attributable to a country. The application of the full cost method
of accounting for oil and gas properties generally results in higher capitalized
costs and higher DD&A rates compared to the successful efforts method of
accounting for oil and gas properties.
OFF-BALANCE
SHEET ARRANGEMENTS
We
do not
have any off-balance sheet arrangements that have or are reasonably likely
to
have a current or future effect on our financial condition, changes in financial
condition, revenues or expenses, results of operations, liquidity, capital
expenditures or capital resources that are material to our investors.
RECENT
ACCOUNTING PRONOUNCEMENTS
In
September 2006, the FASB issued SFAS No.157, Fair Value Measurements (“SFAS
157”), which addresses how companies should measure fair value when they are
required to use a fair value measure for recognition or disclosure purposes
under accounting principles generally accepted in the United States. SFAS No.
157 is effective for fiscal years beginning after November 15, 2007. In February
2008, the FASB issued FASB Staff Position No. 157-2 of which the effective
date
delays the effective date of SFAS 157 for certain non-financial assets and
non-financial liabilities to fiscal years beginning after November 15, 2008.
The
Company is currently evaluating the impact of the adoption of SFAS No. 157
on
its consolidated financial statements, but believes that it will not have a
material impact on the Company’s financial position.
In
February 2007, the FASB issued SFAS No. 159 (“SFAS 159”) The Fair Value Option
for Financial Assets and Financial Liabilities, providing companies with an
option to report selected financial assets and liabilities at fair value. This
Standard’s objective is to reduce both complexity in accounting for financial
instruments and the volatility in earnings caused by measuring related assets
and liabilities differently. Generally accepted accounting principles have
required different measurement attributes for different assets and liabilities
that can create artificial volatility in earnings. SFAS 159 helps to mitigate
this type of accounting-induced volatility by enabling companies to report
related assets and liabilities at fair value, which would likely reduce the
need
for companies to comply with detailed rules for hedge accounting. SFAS 159
also
establishes presentation and disclosure requirements designed to facilitate
comparisons between companies that choose different measurement attributes
for
similar types of assets and liabilities. This Standard requires companies to
provide additional information that will help investors and other users of
financial statements to more easily understand the effect of the Company’s
choice to use fair value on its earnings. It also requires entities to display
the fair value of those assets and liabilities for which the Company has chosen
to use fair value on the face of the balance sheet. SFAS 159 is effective for
fiscal years beginning after November 15, 2007. The adoption of SFAS 159 did
not
have a material impact on the Company’s financial statements.
In
June
2007, the Emerging Issues Task Force (Task Force) of the FASB reached a
consensus on Issue No. 07-3 (“EITF 07-3”), Accounting for Nonrefundable Advance
Payments for Goods or Services to Be Used in Future Research and Development
Activities . Under EITF 07-3, nonrefundable advance payments for goods or
services that will be used or rendered for research and development activities
should be deferred and capitalized. Such payments should be recognized as an
expense as the goods are delivered or the related services are performed, not
when the advance payment is made. If a company does not expect the goods to
be
delivered or services to be rendered, the capitalized advance payment should
be
charged to expense. EITF 07-3 is effective for new contracts entered into in
fiscal years beginning after December 15, 2007, and interim periods within
those
fiscal years. Earlier application is not permitted. The Company is currently
evaluating the impact of the adoption of EITF 07-3 on its consolidated financial
statements, but believes that it will not have a material impact on the
Company’s financial position.
In
its
December 2007 meeting, the FASB ratified the consensus reached by the Emerging
Issues Task Force (EITF or Task Force) in Issue No. 07-1 (“EITF 07-1”),
Accounting for Collaborative Arrangements . The scope of EITF 07-1 is limited
to
collaborative arrangements where no separate legal entity exists and in which
the parties are active participants and are exposed to significant risks and
rewards that depend on the success of the activity. The Task Force concluded
that revenue transactions with third parties and associated costs incurred
should be reported in the appropriate line item in each company’s financial
statements pursuant to the guidance in EITF 99-19, Reporting Revenue Gross
as a
Principal versus Net as an Agent . The Task Force also concluded that the equity
method of accounting under Accounting Principles Board Opinion 18, The Equity
Method of Accounting for Investments in Common Stock , should not be applied
to
arrangements that are not conducted through a separate legal entity. The Task
Force also concluded that the income statement classification of payments made
between the parties in an arrangement should be based on a consideration of
the
following factors: the nature and terms of the arrangement; the nature of the
entities’ operations; and whether the partners’ payments are within the scope of
existing GAAP. To the extent such costs are not within the scope of other
authoritative accounting literature, the income statement characterization
for
the payments should be based on an analogy to authoritative accounting
literature or a reasonable, rational, and consistently applied accounting policy
election. The provisions of EITF 07-1 are effective for fiscal years beginning
on or after December 15, 2008, and companies will be required to apply the
provisions through retrospective application to all collaborative arrangements
exiting at adoption as a change in accounting principle. If it impracticable
to
apply the consensus to a specific arrangement, disclosure is required regarding
the reason why retrospective application is not practicable and the effect
of
reclassification on the current period. The Company is currently evaluating
the
impact of the adoption of EITF 07-1 on its consolidated financial statements,
but believes that it will not have a material impact on the Company’s financial
position.
In
December 2007, the FASB issued SFAS No. 141(R), “Business Combinations” (“SFAS
141(R)”), which replaces SFAS No. 141. SFAS No. 141(R) establishes principles
and requirements for how an acquirer recognizes and measures in its financial
statements the identifiable assets acquired, the liabilities assumed, any
non-controlling interest in the acquiree and the goodwill acquired. The
Statement also establishes disclosure requirements which will enable users
to
evaluate the nature and financial effects of the business combination. SFAS
141(R) is effective for fiscal years beginning after December 15, 2008. The
adoption of SFAS 141(R) will have an impact on accounting for business
combinations once adopted, but the effect is dependent upon acquisitions at
that
time.
In
December 2007, the Financial Accounting Standards Board (FASB) issued SFAS
No.
160, “Noncontrolling Interests in Consolidated Financial Statements - an
amendment of ARB No. 51”. This statement improves the relevance, comparability,
and transparency of the financial information that a reporting entity provides
in its consolidated financial statements by establishing accounting and
reporting standards that require; the ownership interests in subsidiaries held
by parties other than the parent and the amount of consolidated net income
attributable to the parent and to the noncontrolling interest be clearly
identified and presented on the face of the consolidated statement of income,
changes in a parent’s ownership interest while the parent retains its
controlling financial interest in its subsidiary be accounted for consistently,
when a subsidiary is deconsolidated, any retained noncontrolling equity
investment in the former subsidiary be initially measured at fair value,
entities provide sufficient disclosures that clearly identify and distinguish
between the interests of the parent and the interests of the noncontrolling
owners. SFAS No. 160 affects those entities that have an outstanding
noncontrolling interest in one or more subsidiaries or that deconsolidate a
subsidiary. SFAS No. 160 is effective for fiscal years, and interim periods
within those fiscal years, beginning on or after December 15, 2008. Early
adoption is prohibited. The adoption of this statement is not expected to have
a
material effect on the Company's financial statements.
DESCRIPTION
OF BUSINESS
Overview
We
are
engaged in the exploration and production of crude oil in Northern China. We
have an arrangement with the Jilin Refinery of PetroChina Group to sell our
crude oil production for use in the China marketplace. As of March 31, 2008,
we
operated 165 producing wells located in four oilfields in Northern China and
have plans for additional drilling projects.
In
particular, through two of our subsidiaries, Song Yuan City Yu Qiao Oil and
Gas
Development Co. Ltd. (“Yu Qiao”) and Chang Ling Longde Oil and Gas Development
Co. Ltd. (“LongDe”), we have entered into binding sales agreements with the
PetroChina Group, whereby we sell our crude oil production for use in the China
marketplace.
We
currently operate 4 oilfields located in Northern China, which include:
Field
|
|
Acreage
Gross
developed
and
undeveloped)
|
|
Producing Oil
Wells
|
|
Proved
Reserves
(Bbls)
|
|
Qian’an
112
|
|
|
5,115
|
|
|
140
|
|
|
1,963,319
|
|
Daan
34
|
|
|
2,298
|
|
|
7
|
|
|
168,335
|
|
Gudian
31
|
|
|
1,779
|
|
|
7
|
|
|
62,533
|
|
Hetingbao
301
|
|
|
2,471
|
|
|
11
|
|
|
274,637
|
|
Organizational
History
We
were
incorporated in the State of Nevada on August 20, 1999 under the name Draco
Holding Corporation. On March 29, 2004, we executed an Agreement for Share
Exchange with Hong Xiang Petroleum Group Limited, a corporation organized and
existing under the laws of the British Virgin Islands (“Hong Xiang”), and the
individual shareholders owning 100% of the outstanding common shares of Hong
Xiang (the “Hong Xiang Shareholders”).
Pursuant
to the Agreement for Share Exchange, we issued 18,700,000 shares of our common
stock to the Hong Xiang Shareholders in exchange for all of the shares of
capital stock of Hong Xiang owned by the Hong Xiang Shareholders at closing,
and
Hong Xiang became our wholly-owned subsidiary. On June 28, 2004, we changed
our
name to China North East Petroleum Holdings Ltd.
During
2004, we acquired a 100% ownership in Song Yuan City Hong Xiang Petroleum
Technical Services Co., Ltd. (“Hong Xiang Technical”), and Hong Xiang Technical
in turn acquired a 100% interest in Song Yuan City Yu Qiao Qianan Hong Xiang
Oil
and Gas Development Co., Ltd. (“Hong Xiang Oil Development”), which was engaged
in the exploration and production of crude oil in the Jilin region of the PRC.
As
a
result of the Yu Qiao acquisition discussed below, all operations, assets and
liabilities of the Company’s subsidiary Hong Xiang Oil Development were
transferred to Yu Qiao on March 19, 2007. Since Hong Xiang Oil Development
and
Hong Xiang Technical were no longer necessary elements of the Company’s
corporate structure, and they were liquidated and dissolved.
PetroChina
Oil Leases
Pursuant
to a 20-year exclusive Cooperative Oil Lease (the “Oil Lease”), among PetroChina
Group, Yu Qiao and the Company, entered into in May 2002, the Company has the
right to explore, develop and produce oil at Qian’an 112 Oilfield. Pursuant to
the Oil Lease, (i) PetroChina is entitled to 20% of the Company’s oil production
for the first ten years of the Oil Lease term and 40% of the Company’s oil
production for the remaining ten years of the Oil Lease term; and (ii) Yu Qiao
is entitled to 2% of the Company’s oil production as a management
fee.
LongDe
is
a party to a 20-year contract with PetroChina Group entered into in May 2003,
pursuant to which LongDe has the right to explore, develop and produce oil
at
the Hetingbao 301 oilfield in the PRC. Pursuant to such between PetroChina
and
LongDe, PetroChina is entitled to 20% of LongDe’s output in the first ten years
and 40% of LongDe’s output thereafter until the end of the contract.
As
the
controlling shareholder of Yu Qiao, the Company has the rights to extract and
develop Qian’an 112 and other oil fields under contracts that Yu Qiao has
entered into with PetroChina. These oilfields include the Daan 34 oilfield
and
Gudian 31 oilfield in Jilin Province.
Song
Yuan Technical Joint Venture
On
July
26, 2006, the Company entered into a joint venture agreement with Wang Hong
Jung
(“Mr. Wang”), the president and a stockholder of the Company and Ju Guizhi (“Ms.
Ju”), mother of Mr. Wang, to contribute to the increased registered capital of
Song Yuan North East Petroleum Technical Service Co. Ltd. (“Song Yuan
Technical”). The purpose of Song Yuan Technical is to acquire oil and gas
properties and to engage in the exploration of crude oil in the PRC. The Company
owns a 90% equity interest in Song Yuan Technical, and Ms. Ju owns the remaining
10% equity interest in Song Yuan Technical.
Acquisition
of LongDe
In
order
to comply with certain PRC laws relating to foreign entities’ ownership of oil
and gas company in the PRC, prior to March 17, 2008, Song Yuan Technical
directly owned a 70% equity interest in LongDe, while Sun Peng and Ai Chang
Shan, respectively, owned 10% and 20% of the equity interests in Long De in
trust for Song Yuan Technical. On March 17, 2008, Song Yuan Technical
additionally acquired an additional 20% equity interest in LongDe, of which
it
acquired a 10% of the equity interest in LongDe from Sun Peng, and 10% of the
equity interest in LongDe from Ai Chang Shan. Accordingly, Song Yuan Technical
now owns directly 90% of the equity interests in LongDe, with Ai Chang Shan
holding the remaining 10% in trust for Song Yuan Technical. The acquisition
of
LongDe was made pursuant to the laws of the PRC. As a 90% owner of Song Yuan
Technical, the Company effectively controls LongDe.
Acquisition
of Yu Qiao
On
January 26, 2007, the Company, through its 90% owned subsidiary Song Yuan
Technical, acquired beneficial ownership of all of the interests in Yu Qiao
from
Ms. Ju. In consideration for such acquisition, the Company issued to Ms. Ju
an
aggregate of 10 million shares of its common stock (the “Acquisition Shares”),
having a market value of approximately U.S.$3.1 million. However, on June 29,
2007, the Company, Mr. Wang and Ms. Ju entered into an agreement pursuant to
which, among other things, all of the Acquisition Shares were contributed to
the
Company.
In
order
to comply with certain PRC laws relating to foreign entities’ ownership of oil
and gas company in the PRC, the former owners of Yu Qiao, Wang Pingwu and Meng
Xiangyun, held 10%, and 20% of the equity interests, respectively, in Yu Qiao
in
trust for the benefit of Song Yuan Technical. The laws of the PRC govern the
agreements by which the Company acquired Yu Qiao and by which the former owners
of Yu Qiao hold equity interests in trust. See “Regulations Affecting Our
Business” under “Risk Factors.” Subsequently, on March 17, 2008, Song Yuan
Technical acquired from Meng Xiangyun the 20% equity interest which he had
held
in Yu Qiao. Accordingly, Song Yuan Technical currently directly holds a 90%
equity interest in Yu Qiao, while Wang Pingwu continues to hold a 10% equity
interest in Yu Qiao in trust for the benefit of Song Yuan Technical. Thus the
Company, through Song Yuan Technical, currently effectively controls 90% of
the
equity interests in Yu Qiao, while the remaining 10% equity interests in Yu
Qiao
is effectively controlled by Ms. Ju.
Oil
and Gas Properties and Activities
As
of
March 31, 2008, the Company had a total of 165 producing wells, including
140
producing wells at the Qian’an 112 oilfield, 11 producing wells at the Hetingbao
301 oilfield, 7 producing wells at the Daan 34 oilfield and 7 producing wells
at
the Gudian 31 oilfield. There were 144 traditional sucker-rod pumping machines
in operation.
All
of
the Company’s crude oil production is sold to the Jilin Refinery of PetroChina
Group. The approximate distance of each of the Company’s oil fields from the
Jilin Refinery is as follows: the Qian’an 112 oilfield is four kilometers away,
the Hetingbao 301 oilfield is three kilometers away, the Daan 34 oilfield is
fifteen kilometers away and the Gudian Oilfield 31 is thirty kilometers
away.
PetroChina
pays the Company a price per barrel based on the international crude oil
spot market price on the first day of every month. The price is FOB the Jilin
Refinery.
Sales
Volumes and Prices
The
following table shows the Company’s annual sales volumes of crude oil for the
last two fiscal years.
|
|
2007
|
|
2006
|
|
|
|
(Bbls)
|
|
China
|
|
|
|
|
|
Crude
Oil
|
|
267,516
|
|
90,520
|
|
Proved
Reserves
As
of
December 31, 2007, total proven reserve was 2,468,824 barrels of crude oil.
The
Qian’an 112 Oilfield had proven reserve of 1,963,319 barrels. The Hetingbao 301
Oilfield had proven reserve of 274,637 barrels. The Gudian 31 Oilfield had
proven reserve of 62,533 barrels, and the Daan 34 Oilfield had proven reserve
of
168,335 barrels.
Proved
reserve estimates were made as of December 31, 2007 by Ralph E. Davis Associates
Inc., an independent worldwide petroleum consultant based in Houston TX. Ralph
E. Davis Associates Inc. conducted a study of each of the aforementioned
oilfields in accordance with generally accepted petroleum engineering and
evaluation principles in conformity with SEC definitions and guidelines.
The
Company’s estimates of proved reserves, proved developed reserves and proved
undeveloped reserves at December 31, 2007 and 2006 (restated) are contained
in
the Supplemental
Oil and Gas Disclosures— Unaudited (Supplemental Information) in
the
CNEH Consolidated Financial Statements (Consolidated Financial
Statements).
Also
contained in the Supplemental
Information in
the
Consolidated Financial Statements are the Company’s estimates of future net cash
flows and discounted future net cash flows from proved reserves. See
Operating
Results and
Critical
Accounting Policies and Estimates for
additional information on the Company’s proved reserves.
The
following table shows the Company’s annual average sales prices and average
production costs. Production costs are costs incurred to operate and maintain
the Company’s wells and related equipment and include cost of labor, well
service and repair, location maintenance, power and fuel, transportation, cost
of product, property taxes, production and severance taxes and production
related general and administrative costs. Additional detail of production costs
is contained in the Supplemental Information.
Qian’an
112 Oilfield
|
|
2007
|
|
2006
|
|
|
|
|
|
|
|
Average
annual sales price per barrel
|
|
$
|
70.03
|
|
$
|
64.45
|
|
Aggregate
annual sales
|
|
$
|
18,466,325
|
|
$
|
4,686,747
|
|
Average
annual production cost per barrel equivalent
|
|
$
|
10.50
|
|
$
|
12.41
|
|
Hetingbao
301 Oilfield
|
|
2007
|
|
2006
|
|
|
|
|
|
|
|
Average
annual sales price per barrel
|
|
$
|
70.03
|
|
$
|
64.45
|
|
Aggregate
annual sales
|
|
$
|
797,696
|
|
$
|
442,466
|
|
Average
annual production cost per barrel equivalent
|
|
$
|
16.05
|
|
$
|
9.32
|
|
Daan
34 Oilfield
|
|
2007
|
|
2006
|
|
|
|
|
|
|
|
Average
annual sales price per barrel
|
|
$
|
70.03
|
|
$
|
64.45
|
|
Aggregate
annual sales
|
|
$
|
177,231
|
|
$
|
140,777
|
|
Average
annual production cost per barrel equivalent
|
|
$
|
10.50
|
|
$
|
13.32
|
|
Gudian
31 Oilfield
|
|
2007
|
|
2006
|
|
|
|
|
|
|
|
Average
annual sales price per barrel
|
|
$
|
70.03
|
|
$
|
64.45
|
|
Aggregate
annual sales
|
|
$
|
40,817
|
|
$
|
51,915
|
|
Average
annual production cost per barrel equivalent
|
|
$
|
10.50
|
|
$
|
13.32
|
|
Drilling
Programs
During
2007, the Company drilled 60 new productive wells at the Qian’an 112 oilfield, 5
new productive wells at the Hetingbao 301oilfield, 1 new productive well at
the
Daan 34 oilfield, and 1 new productive well at the Gudian 31 oilfield.
Drilling
Statistics
The
following table shows the results of the oil and gas wells drilled and tested
as
of the end of the period indicated:
|
|
Net Exploratory
|
|
Net Development
|
|
|
|
|
|
Productive
|
|
Dry
Holes
|
|
Total
|
|
Productive
|
|
Dry
Holes
|
|
Total
|
|
Total
|
|
2007
|
|
|
0
|
|
|
0
|
|
|
0
|
|
|
157
|
|
|
0
|
|
|
157
|
|
|
157
|
|
2006
|
|
|
0
|
|
|
0
|
|
|
0
|
|
|
90
|
|
|
0
|
|
|
90
|
|
|
90
|
|
Properties
and Leases
The
following schedule shows the number of developed leases, undeveloped lease
and
fee mineral acres in which the Company held interests at December 31, 2007:
|
|
Developed Lease (1)
|
|
Undeveloped Lease (2)
|
|
Property
|
|
Gross
|
|
Net
|
|
Gross
|
|
Net
|
|
|
|
|
|
|
|
|
|
|
|
Qian’an
112
|
|
|
2894
|
|
|
2316
|
|
|
1275
|
|
|
1020
|
|
Hetingbao
301
|
|
|
475
|
|
|
380
|
|
|
432
|
|
|
346
|
|
Daan
34
|
|
|
173
|
|
|
139
|
|
|
497
|
|
|
398
|
|
Gudian
31
|
|
|
130
|
|
|
104
|
|
|
238
|
|
|
190
|
|
(1)
|
Developed
Proved Acres means the acres assigned to each productive well. Total
proved producing wells as of December 31, 2007
were 157.
|
(2)
|
Undeveloped
Proved Acres means the acres assigned to each undeveloped location
under
lease that contains proved oil
reserves.
|
Marketing
and Sales
Currently,
all of the Company’s crude oil production is sold to PetroChina’s Jilin
Refinery. We do not expect the Company to have any other customers during the
next twelve months. As restricted by contract with PetroChina, we may not
sell any crude oil to any other customer. PetroChina pays the Company an amount
per barrel based on the International spot price as of the first day of each
calendar month.
Employees
We
currently employ 312 people, of which 63 are in management and 249 are site
workers. All employees are located in Northern China. Many of them are highly
educated, including senior engineers and specialists with bachelors or masters
degrees. None of our employees belong to a union nor are any employed pursuant
to any collective bargaining agreement or similar agreement. We believe that
relationships with our employees are satisfactory.
Regulations
Restrictions
on Foreign Ownership in the Oil and Gas Industry
The
principal regulation governing foreign ownership of oil and gas companies in
China is the “Regulations on Mergers and Acquisitions of Domestic Enterprises by
the Foreign Investors” issued by Ministry of Commerce, Foreign Investment
Administration, Stock Exchange Committee (September 2006). Currently, qualified
foreign investors cannot own 100% of an oil and gas company in China. The
foreign investors’ equity holding ratios are subject to the approval of relevant
government authorities.
As
we
understand that any foreign investment in China should be subject to the
approval of the Ministry of Commerce and approvals of other authorities (if
applicable).
As
a
result of the rules and regulations described above, we conduct our businesses
in China through Yu Qiao and Wang Pingwu, who holds the equity interests of
Yu
Qiao in trust for the Company and LongDe and Ai ChangShan, who holds the equity
interests of LongDe in trust for the Company. We have entered into contractual
arrangements with Wang Pingwu and Ai ChangShan pursuant to which we believe,
based on the advice of PRC legal counsel, that:
|
•
|
|
we
are able to exert effective control over Yu Qiao and
LongDe;
|
|
|
|
|
|
•
|
|
substantially
all of the economic benefits of Yu Qiao and LongDe will be transferred
to
us; and
|
|
|
|
|
|
•
|
|
our
90% owned joint venture, Song Yuan Technical, has an exclusive option
to
purchase all or part of the equity interests in Yu Qiao and LongDe
to the
extent permitted by PRC law.
|
The
Company further believes, based on the advice of PRC legal counsel, that:
|
•
|
|
the
ownership structure of Yu Qiao and LongDe are in compliance with
existing
PRC laws and regulations;
|
|
|
|
|
|
•
|
|
the
contractual arrangements among Song Yuan Technical, Yu Qiao, Wang
Pingwu,
LongDe and Ai ChangShan are valid, binding and enforceable, and will
not
result in any violation of PRC laws or regulations currently in effect;
and
|
|
|
|
|
|
•
|
|
the
PRC business operations of Song Yuan Technical and Yu Qiao and LongDe
as
described in this annual report, are in compliance with existing
PRC laws
and regulations in all material
respects.
|
We
have
been further advised, however, that there are substantial uncertainties
regarding the interpretation and application of current and future PRC laws
and
regulations. Accordingly, there can be no assurance that the PRC regulatory
authorities will not in the future take a view that is contrary to the above
opinion of our PRC legal counsel.
Environmental
Regulations
We
are
subject to the environmental laws and regulations of the jurisdictions in which
we carry on our business. Existing or future laws and regulations could have
a
significant impact on the exploration and development of natural resources
by
us. However, to date, we have not been required to spend any material amounts
for environmental control facilities. The Chinese government strictly monitors
compliance with these laws but compliance therewith has not had any adverse
impact on our operations or our financial resources.
Special
Oil Fees
In
June
2006, the PRC government imposed a new regulation on all oil and gas producers.
Under this new regulation, all oil and gas producers are subject to a mandatory
special oil fee. The fee is calculated based on the per barrel selling price
of
crude oil received by the producer. If the selling price of crude oil received
by the producer exceeds $40 per barrel, the special oil fee is 20% of that
portion of the selling price that exceeds $40 per barrel. If the selling price
of the crude oil exceeds $60 per barrel, the special oil fee is 40% of the
portion of the selling price that exceeds $60 per barrel. As a result of this
new regulation, the Company paid additional special oil fees of $2,857,376
to
the PRC government during 2007. The Company will be required to continue to
pay
these special oil fees to the PRC government if the selling price of crude
oil
remains above $40 per barrel and these special oil fees will increase to the
extent that crude oil prices continue to rise.
Competition
By
virtue
of our binding contractual agreements with PetroChina Group as described above,
we have no competitor with respect to the extraction and production of crude
oil
from the oilfields where we operate.
Properties
China
North East Petroleum’s principal headquarters are located in Song Yuan
City, Jilin Province in the People’s Republic of China. The Company
leases an approximately 7,747 square foot facility for approximately $12,294
per
year that expires in June 30, 2015. These headquarters house all of our
administrative and clerical staff. The Company also leases an approximately
26,910 square foot facility as its production base for $160 per year that
expires in September 20, 2023.
The
Company’s crude oil exploration and production operations are conducted on
property which is located in the Jilin Oil Region.
The
Company also has an office located at the Qian’an 112 Oilfield. The Company owns
the buildings although the land is leased pursuant to the Oil Lease. Actual
oil
exploration and production operations are controlled from this office and
housing is provided for up to 60 workers. The Company pays no rent for use
of
this space. In addition the Company has no written agreement or formal
arrangement pertaining to the use of this space. No other businesses operate
from this office.
The
Company does not have an office located in the Hetingbao 301, Daan 34 or Gudian
31 Oilfields.
The
Company has no current plans to occupy any additional office space.
Legal
Proceedings
On
August
17, 2007, the Company filed a complaint in the Third Judicial District Court
in
and for Salt Lake County, State of Utah, naming Topworth Assets Limited
("Topworth") as the principal defendant. The Company asserted conversion, unjust
enrichment, breach of warranty, fraud, and for declaratory relief causes of
action. The actions arise out of the issuance of 3,715,000 shares of the
Company's stock to Topworth in or about early 2004. The Company was able to
recover from Topworth 2,715,000 of these shares shortly after their issuance,
and now contends it is entitled to recover the remaining 1,000,000 shares
because Topworth received all the stock by fraud. The Company sought and
obtained an injunction preventing Topworth's transfer of this disputed
stock.
In
response to the Company's complaint and the issuance of the injunction against
it, Topworth filed an answer to the complaint and a counterclaim against the
Company, Wei Guo Ping, and Wang Hong Jun on December 11, 2007. Topworth asserts
various legal theories that contend it performed consulting services to the
Company; was entitled to all of the disputed stock as compensation for services;
and was improperly required to return some of the disputed stock to the Company.
Overall,
the principal parties seek recovery of the ownership or value of all the shares
of stock the Company contends were fraudulently issued to Topworth. All of
the
disputed shares are currently deemed to be issued and outstanding. The Company
intends to vigorously pursue its claims for recovery against Topworth and to
defend against the counterclaim of Topworth.
We
know
of no other material, active or pending legal proceedings against our company,
and, other than as disclosed above, we are not involved as a plaintiff in any
other material proceeding or pending litigation. There are no proceedings in
which any of our directors, officers or affiliates, or any registered or
beneficial shareholder, is an adverse party or has a material interest adverse
to our interest.
DIRECTORS
AND EXECUTIVE OFFICERS
Management
and Board of Directors
The
following table sets forth the names, ages and positions of our directors and
executive officers:
Name
|
|
Age
|
|
Position
|
|
|
|
|
|
Wang
Hong Jun
|
|
37
|
|
President
and Chairman of the Board
|
Wei
Guo Ping
|
|
41
|
|
Director
|
Yu
Li Guo
|
|
36
|
|
Director
|
Robert
C. Bruce
|
|
46
|
|
Director
|
Edward
M. Rule
|
|
|
|
Director
|
Li
Jing Fu
|
|
59
|
|
Director
|
Zhang
Yang
|
|
27
|
|
Chief
Financial Officer
|
Jiang
Chao
|
|
29
|
|
Secretary
|
Each
Director will hold office until the next annual meeting of stockholders and
until his successor has been elected and qualified.
Background
of Executive Officers and Directors
WANG
HONG
JUN has served as Chairman and President of the Company since May 2004,
following completion of the share exchange transaction with Hong Xiang. Mr.
Wang
has over 15 years experience in the business management and oil industry
experience. Before he joined the company, Mr. Wang worked for Jilin Oil Field
and Drilling Company as an Executive with the responsibility of overseeing
operations and coordinating various projects.
WEI
GUO
PING has served as a Director of the Company since May 2004, following
completion of the share exchange transaction with Hong Xiang. From 1991 to
1997,
Mr. Wei was the Executive Officer for the Government Office of Heilongjiang
Province where he was responsible for evaluation and approval of business
projects. From 1997 to 2002, he was General Manager of Shui Tak Chemical Company
Limited and was responsible for handling day-to-day operations and strategic
planning. Mr. Wei received a bachelor degree from the Heilongjiang Petrochemical
Institute.
YU
LI GUO
has served as Director of the Company since June 2005. In 2003, Mr. Yu was
elected a director of Harbin Hong Xiang Petroleum Services Limited, a
wholly-owned subsidiary of Hong Xiang Petroleum Group Limited. From 2000 to
2003, Mr. Yu was employed by Jilin Yong Ji Telecommunication Company as General
Manager. Prior, Mr. Yu was employed by the Department of Industrial &
Commercial Bank of China as Vice Manager of Human Resources from 1997 to 2000.
Mr. Yu received a bachelor degree in International Finance from Jilin Financial
College.
ROBERT
C.
BRUCE has served as Director of the Company since May 2008. Mr. Bruce is
President of Oakmont Advisory Group, LLC, a financial management consulting
firm
located in Portland, Maine. Prior to founding Oakmont Advisory Group,
from 1999 through 2004 he served as Chief Operating Officer, Treasurer and
Director for Enterix Inc., a privately-held, venture-funded medical device
and
laboratory services company that was purchased by Quest Diagnostics. He also
previously served as Chief Financial Officer for Advantage Business Services
(1997 to 1998), a privately-held national payroll processing and tax filing
business that was subsequently acquired by PayChex. Mr. Bruce is a member
of the Board of Directors of Immucell Corp., a NASDAQ listed manufacturer of
animal health products. Mr. Bruce received his MBA from the Yale School of
Management, and a Bachelor of Arts degree in East Asian Studies
from Princeton University. Mr. Bruce speaks and reads Mandarin
Chinese.
EDWARD
M.
RULE has served as Director of the Company since May 2008. Mr. Rule is Chairman
of TDR Capital International Limited, a Hong Kong based financial services
house. Most of his career has been spent in China, initially as a diplomat
and
subsequently as an investment banker with the Standard Chartered Group and
private equity professional with the $800 million Asian Infrastructure Fund.
He
is a graduate in Chinese language of the University of Melbourne and the
Australian National University. He speaks Mandarin Chinese and Cantonese. He
has
been director of several listed companies in Hong Kong and
Australia.
LI
JING
FU has served as Director of the Company since May 2008. Mr. Li is the Chairman
and top representative of Joint Management Committee of Qian Guo County Longhai
Petroleum & Natural Gas Co., Ltd. and was appointed to that position by
Petro China’s Jilin branch in 2005. Mr. Li has been in the petroleum
industry since 1970. In his extensive career he has served as Vice
Monitor for Jiang Han Oil Field’s comprehensive logging team, Secretary of
Command Department of Petroleum Hui Zhan in Jilin Province, Vice President
of
Jilin Oilfield Exploration and Development Research Institute. From
1995 to 2002, Mr. Li was appointed by PetroChina’s Jilin branch to serve as
General Manger of management and production operation of oil exploitation of
Jilin Jiyuan Petroleum & Natural Gas Development Co. Ltd. From
2002 to 2005, Mr. Li, served as Project Manager of Song Yua City Qian Yuan
Oil
& Gas Development Co., Ltd. also by appointment by PetroChina’s Jilin
branch. Mr. Li received his bachelor’s degree from Chang Chun Geology
Institute in Jilin, China.
ZHANG
YANG has served as Chief Financial Officer of the Company since January 2006.
Prior to CNEH, Mr. Zhang served as Controller of Harbin Gloria Inn from 2004
to
2005. Mr. Zhang received a Business degree in 2001, from London College of
International Business Study and a degree in Accounting from London South
Bank
University. Mr. Zhang is a candidate member under the Association of Chartered
Certified Accountants (ACCA).
JIANG
CHAO has served as Secretary of the Company since January 2006. Prior to
joining
CNEH, from 2004 to 2005, Mr. Jiang served as a Financial Manager at Songzai
International Holding Group, Inc., a Nevada corporation engaged in the
coal
mining business. Mr. Jiang holds a Master’s degree in International Business
Management from University of Surrey (UK) and received Business degree
from
University of Bradford (UK) and Heilongjiang University
(China).
There
are
no family relationships, or other arrangements or understandings between or
among any of the directors, executive officers or other person pursuant to
which
such person was selected to serve as a director or officer.
Corporate
Governance Matters
The
Company intends to appoint independent directors to its board of directors
during fiscal 2008, and to create an audit committee and compensation committee
of its board.
Code
of Ethics.
A Code
of Business Conduct and Ethics is a written standard designed to deter
wrongdoing and to promote (a) honest and ethical conduct, (b) full, fair,
accurate, timely and understandable disclosure in regulatory filings and public
statements, (c) compliance with applicable laws, rules and regulations, (d)
the
prompt reporting violation of the code and (e) accountability for adherence
to
the Code. We are not currently subject to any law, rule or regulation requiring
that we adopt a Code of Ethics, however, we have adopted a code of ethics that
applies to our principal executive officer, chief financial officer, principal
accounting officer or controller, or persons performing similar functions.
Such
code of ethics will be provided to any person without charge, upon request,
a
copy of such code of ethics by sending such request to us at our principal
office.
Audit
Committee. In
June 2008, Messrs. Bruce, Rule and Li were appointed to serve on the audit
committee of the Board of Directors.
Board
of Directors Independence.
Our
Board of Directors consists of six members. Three of the members of the
board of directors are “independent” as defined under the rules of the
NASDAQ Stock Market.
Audit
Committee Financial Expert.
Our
Board of Directors has determined that one member qualifies as an “audit
committee financial expert” and that three members are “independent”, in
each case as defined in Item 407(d)(5) of Regulation S-K of the Securities
Exchange Act of 1934, as amended. We believe that the members of our Board
of
Directors are collectively capable of analyzing and evaluating our financial
statements and understanding internal controls and procedures for financial
reporting.
Nominating
Committee.
We have
not yet established a nominating committee. Our board of directors, sitting
as a
board, performs the role of a nominating committee. We are not currently subject
to any law, rule or regulation requiring that we establish a nominating
committee.
Compensation
Committee.
In June
2008, Messrs. Rule, Wang and Li were appointed to serve on the compenstaion
committee of the Board of Directors.
At
this
stage of our development, we have elected not to expend our limited financial
resources to implement these measures. It is possible that if we were to adopt
some or all of the corporate governance measures described in this section,
shareholders would benefit from somewhat greater assurances that internal
corporate decisions were being made pursuant to objective criteria, by
disinterested directors and that policies had been implemented to define
responsible conduct.
EXECUTIVE
COMPENSATION
The
table
below sets forth information concerning compensation paid to the chief executive
officer and two of our most highly compensated officers of the Company. None
of
the Company’s other executive officers currently serving as such had annual
compensation exceeded $100,000 (U.S.) in the last fiscal year.
Summary
Compensation Table (1)
Name
and
Principal
Position
|
|
Year
|
|
Salary
($)
|
|
Bonus
($)
|
|
Stock
Awards
($)
|
|
Option
Awards
($)
|
|
Non-Equity
Incentive
Plan
Compensation
($)
|
|
Nonqualified
Deferred
Compensation
Earnings
($)
|
|
All
Other
Compensation
($)
|
|
Total
($)
|
|
(a)
|
|
(b)
|
|
(c)
|
|
(d)
|
|
(e)
|
|
(f)
|
|
(g)
|
|
(h)
|
|
(i)
|
|
(j)
|
|
Wang
Hong Jun,
|
|
|
2007
|
|
|
5,922
|
|
$
|
0
|
|
$
|
0
|
|
$
|
0
|
|
|
0
|
|
|
|
|
$
|
0
|
|
|
|
|
$
|
0
|
|
|
5,922
|
|
President,
and Chairman of the Board
|
|
|
2006
|
|
|
3,002
|
|
$
|
0
|
|
$
|
0
|
|
$
|
0
|
|
|
0
|
|
|
|
|
$
|
0
|
|
|
|
|
$
|
0
|
|
|
3,002
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Zhang
Yang,
|
|
|
2007
|
|
|
6,580
|
|
|
0
|
|
|
0
|
|
|
0
|
|
|
0
|
|
|
|
|
|
0
|
|
|
|
|
|
0
|
|
|
6,580
|
|
Chief
Financial Officer
|
|
|
2006
|
|
|
3,075
|
|
|
0
|
|
|
0
|
|
|
0
|
|
|
0
|
|
|
|
|
|
0
|
|
|
|
|
|
0
|
|
|
3,075
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Jiang
Chao
|
|
|
2007
|
|
|
12,000
|
|
|
0
|
|
|
0
|
|
|
0
|
|
|
0
|
|
|
|
|
|
0
|
|
|
|
|
|
0
|
|
$
|
12,000
|
|
|
|
|
2006
|
|
|
12,000
|
|
|
0
|
|
|
0
|
|
|
0
|
|
|
0
|
|
|
|
|
|
0
|
|
|
|
|
|
0
|
|
$
|
12,000
|
|
(1)
All
compensation is paid in RMB. The amounts in the foregoing table have been
converted to U.S. dollars at the conversion rate of one U.S. dollar to RMB
7.2946 for year 2007 and one U.S. dollar to RMB 7.8041 for year 2006.
During
the last fiscal year, none of our other officers had a salary and bonus greater
than $100,000.
Stock-Based
Compensation
No
deferred compensation or long-term incentive plan awards were issued or granted
to the Company’s officers and directors as at the fiscal year end, December 31,
2007. No employee, director, or executive officer has been granted any option
or
stock appreciation rights, options awards and stock awards, accordingly, no
tables relating to such items have been included within this Item.
Director
Compensation
The
non-employee directors received compensation in cash in connection with their
service on the Board of Directors during the years ended December 31, 2007.
Yu
Li Guo and Wei Guo Ping each received $4,935 (RMB 36,000) during 2007. Wang
Hong
Jun did not receive any compensation for his service on the Board during 2007.
The only compensation received by Wang Hong Jun was his salary disclosed above.
The following Director Compensation Table summarizes the compensation of our
directors for services rendered to the Company during the year ended December
31, 2007.
DIRECTOR
COMPENSATION TABLE
Name
|
|
Fees
Earned
or
Paid
in
Cash
($)
|
|
Stock
Awards
($)
|
|
Options
Awards
($)
|
|
Non-Equity
Incentive
Plan
Compensation
($)
|
|
Nonqualified
Deferred
Compensation
Earnings
($)
|
|
All
Other
Compensation
($)
|
|
Total
($)
|
|
Wang
Hong Jun
|
|
|
0
|
|
|
0
|
|
|
0
|
|
|
0
|
|
|
0
|
|
|
0
|
|
|
0
|
|
Wei
Guo Ping
|
|
|
4,935
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
4,935
|
|
Yu
Li Guo
|
|
|
4,935
|
|
|
0
|
|
|
0
|
|
|
0
|
|
|
0
|
|
|
0
|
|
|
4,935
|
|
(1)
All
compensation is paid in RMB. The amounts in the foregoing table have been
converted to U.S. dollars at the conversion rate of one U.S. dollar to RMB
7.2946 for year 2007.
For
2008,
the non-employee directors will each receive annual cash compensation of $20,000
paid on a quarterly basis. Each director will also receive $1,000 for
each meeting attended in person or by telephone, except for directors who reside
outside of Jilin or Heilongjiang provinces will receive $5,000 for each meeting
attended in person held at the Company’s principal office.
In
addition to cash compensation, each director will receive an option to purchase
up to 20,000 shares of the Company common stock, with 25% of the options vesting
upon grant and 25% vesting every three months thereafter.
Employment
Contracts and Termination of Employment and Change-In-Control
Arrangements
There
are
no employment contracts, compensatory plans or arrangements, including payments
to be received from the Company, with respect to any director or executive
officer of the Company which would in any way result in payments to any such
person because of his resignation, retirement or other termination of employment
with the Company, any change in control of the Company, or a change in the
person’s responsibilities following a change in control of the Company.
CERTAIN
RELATIONSHIP AND RELATED TRANSACTIONS
During
the last two fiscal years, we have not entered into any material transactions
or
series of transactions that would be considered material in which any officer,
director or beneficial owner of 5% or more of any class of our capital stock,
or
any immediate family member of any of the preceding persons, had a direct or
indirect material interest. There are no transactions presently proposed, except
as follows:
|
a)
|
Pursuant
to an agreement entered into by a stockholder, a related party and
the
Company on June 29, 2007, the stockholder and the related party
unconditionally and irrevocably contributed all of the advances owed
by
the Company as of March 31, 2007 amounting to $1,746,128 and $5,451,685
respectively to the Company. These contributions were recorded as
additional paid-in capital by the
Company.
|
|
b)
|
On
January 26, 2007, Song Yuan Technical entered into an agreement with
a
related party and certain third parties who are stockholders of Yu
Qiao to
acquire 100% of the equity interest of Yu Qiao. In consideration
for the
acquisition, the Company will issue to the related party an aggregate
of
10,000,000 shares of the Company’s common stock (“the Acquisition Shares”)
having a fair value of $3,100,000.
|
|
|
On
June 29, 2007, the Company and the related party entered into an
agreement
pursuant to which the related party unconditionally and irrevocably
contributed the Acquisition Shares to the Company. The contribution
of the
Acquisition Shares was recorded as additional paid-in capital by
the
Company.
|
|
c)
|
In
2007 and 2006, the Company owed a related party $3,118,085 and $4,255,441
respectively for advances made without fixed repayment terms. Imputed
interest expense is computed at 7% and 6% per annum on the amount
due
respectively.
|
|
d)
|
In
2007 and 2006, the Company owed a related party $13,672 and $12,806
respectively which is repayable on demand. Imputed interest expense
is
computed at 7% and 6% per annum on the amount due
respectively.
|
|
e)
|
In
2007, the Company owed a related party $14,364 which is repayable
on
demand. Imputed interest expense is computed at 7% per annum on the
amount
due.
|
|
f)
|
In
2006, a related party owed the Company $64,031 which is interest
free and
repayable on demand.
|
|
g)
|
In
2006, the Company owed a related party $43,029 which is repayable
on
demand. Interest is charged at 24% per annum. Interest expense paid
for
the year ended December 31, 2006 was
$351.
|
|
h)
|
In
2007 and 2006, the Company owed a stockholder $123,105 and $1,656,935
respectively which is repayable on demand. Imputed interest expense
is
computed at 7% and 6% per annum on the amount due
respectively.
|
|
i)
|
Total
imputed interest expenses recorded as additional paid-in capital
amounted
to $200,165 and $349,393 for the years ended December 31, 2007 and
2006
respectively.
|
|
j)
|
The
Company paid a stockholder $12,603 and $12,027 for leased office
spaces
for the years ended December 31, 2007 and 2006
respectively.
|
|
k)
|
On
April 3, 2006, the Company issued 700,000 shares of common stock
to a
related party for consulting services. The stock was valued at the
closing
price on the date of grant of $0.31 per share, yielding an aggregate
value
of $217,000.
|
Indemnification
Agreements
None.
Director
Independence
None
of
the members of the board of directors is “independent” as defined under the
rules of the NASDAQ Stock Market.
SECURITY
OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The
following tables set forth information as of June 30, 2008 regarding the
beneficial ownership of stock by (a) each stockholder who is known by the
Company to own beneficially in excess of 5% of the Company’s outstanding stock;
(b) each director; (c) the Company’s chief executive officer; and (d) the
executive officers and directors as a group. Except as otherwise indicated,
all
persons listed below have (i) sole voting power and investment power with
respect to their shares of common stock (the only class of outstanding stock),
except to the extent that authority is shared by spouses under applicable law,
and (ii) record and beneficial ownership with respect to their shares of stock.
The percentage of beneficial ownership is based upon 19,224,080 shares of common
stock outstanding, as of June 30, 2008.
Security
Ownership Of Certain Beneficial Owners, Directors And Executive Officers In
Common
Stock
NAME
AND ADDRESS OF
BENEFICIAL
OWNER(1)
|
|
AMOUNT
OF
BENEFICIAL
OWNERSHIP
|
|
PERCENT
OF CLASS OF STOCK
OUTSTANDING
|
|
|
|
|
|
|
|
Officers
and Directors
|
|
|
|
|
|
Wang
Hong Jun
|
|
|
6,732,000
|
|
|
35.02
|
%
|
Wei
Guo Ping
|
|
|
2,000
|
|
|
0.01
|
%
|
Yu
Li Guo
|
|
|
0
|
|
|
0.00
|
%
|
Robert
C. Bruce
|
|
|
19,000 |
(3) |
|
0.10 |
% |
Edward
M. Rule
|
|
|
10,000 |
(3) |
|
0.05 |
% |
Li
Jing Fu
|
|
|
10,000 |
(3) |
|
0.05 |
% |
Zhang
Yang
|
|
|
0
|
|
|
0.0
|
%
|
Jiang
Chao
|
|
|
0
|
|
|
0.0
|
%
|
|
|
|
|
|
|
|
|
All
Officers and Directors as a Group (eight persons)
|
|
|
6,773,000
|
|
|
35.23
|
%
|
|
|
|
|
|
|
|
|
5%
Beneficial Owners
|
|
|
|
|
|
|
|
N/A
|
|
|
|
|
|
|
|
|
(1)
|
Unless
otherwise indicated, the address of the stockholders is 445 Park
Avenue,
New York, NY 10022.
|
|
|
|
|
(2)
|
Security
ownership information for beneficial owners is taken from statements
filed
with the Securities and Exchange Commission pursuant to information
made
known by the Company. There are no shares issuable to any beneficial
owner, director or executive officer pursuant to stock options that
are/or
will become exercisable within 60 days of June 30, 2008.
|
|
|
|
|
(3)
|
Includes
10,000 shares issuable pursuant to options exercisable within 60 days
of
June 30, 2008. |
Securities
Authorized for Issuance under Equity Compensation Plan
None.
DESCRIPTION
OF SECURITIES
Our
authorized capital stock consists of 150,000,000 shares of common stock, $0.001
per share. As of April 22, 2008, 19,224,080 shares of common stock were issued
and outstanding.
Common
Stock
Voting,
Dividend and Other Rights.
Each
outstanding share of common stock entitles the holder to one vote on all matters
presented to the shareholders for a vote. Holders of shares of common stock
have
no cumulative voting, preemptive, subscription or conversion rights. All shares
of common stock to be issued pursuant to this registration statement will be
duly authorized, fully paid and non-assessable. Our Board of Directors
determines if and when distributions may be paid out of legally available funds
to the holders. To date, we have not declared any dividends with respect to
our
common stock. Our declaration of any cash dividends in the future will depend
on
our Board of Directors’ determination as to whether, in light of our earnings,
financial position, cash requirements and other relevant factors existing at
the
time, it appears advisable to do so. We do not anticipate paying cash dividends
on the common stock in the foreseeable future.
Rights
Upon Liquidation.
Upon
liquidation, subject to the right of any holders of the preferred stock to
receive preferential distributions, each outstanding share of common stock
may
participate pro rata in the assets remaining after payment of, or adequate
provision for, all our known debts and liabilities.
Majority
Voting.
The
holders of a majority of the outstanding shares of common stock constitute
a
quorum at any meeting of the shareholders. A plurality of the votes cast at
a
meeting of shareholders elects our directors. The common stock does not have
cumulative voting rights. Therefore, the holders of a majority of the
outstanding shares of common stock can elect all of our directors. In general,
a
majority of the votes cast at a meeting of shareholders must authorize
shareholder actions other than the election of directors. Most amendments to
our
certificate of incorporation require the vote of the holders of a majority
of
all outstanding voting shares.
Nevada
Anti-Takeover Law and Certain Charter and Bylaw Provisions
We
are
subject to the provisions of the Nevada private corporation law, which are
anti-takeover provisions. In general, the provisions of Sections 78.411-444
prohibit a publicly held Nevada corporation from engaging in a “business
combination” with an “interested stockholder” for a period of three years
following the date the person became an interested stockholder, unless (with
certain exceptions) the "business combination" or the transaction in which
the
person became an interested stockholder is approved in a prescribed manner.
Generally, a "business combination" includes a merger, asset or stock sale,
or
other transaction resulting in a financial benefit to the interested
stockholder. Generally, an "interested stockholder" is a person who, together
with affiliates and associates, owns or within three years prior to the
determination of interested stockholder status, did own, 10% or more of a
corporation's voting stock. The existence of this provision may have an
anti-takeover effect with respect to transactions not approved in advance by
the
board of directors, including discouraging attempts that might result in a
premium over the market price for the shares of common stock held by
stockholders.
Our
certificate of incorporation and our Bylaws contain certain provisions that
could have the effect of delaying, deferring or discouraging another party
from
acquiring control of us. These provisions may discourage coercive takeover
practices and inadequate takeover bids. These provisions also may encourage
persons seeking to acquire control of us to first negotiate with our Board
of
Directors. We believe that the benefits of increased protection of our potential
ability to negotiate with an unfriendly or unsolicited acquirer outweigh the
disadvantages of discouraging a proposal to acquire us because negotiation
of
these proposals could result in an improvement of their terms.
The
provisions of Nevada law and the provisions of our certificate of incorporation
and Bylaws, as amended, could have the effect of discouraging others from
attempting hostile takeovers and, as a consequence, they may also inhibit
temporary fluctuations in the market price of our common stock that often result
from actual or rumored hostile takeover attempts. These provisions may also
have
the effect of preventing changes in our management. It is possible that these
provisions could make it more difficult to accomplish transactions that
stockholders may otherwise deem to be in their best interests.
Transfer
Agent and Register
The
transfer agent and registrar for our common stock is Interwest Transfer, Inc.,
1981 East 4800s Suite 100, Salt Lake City, Utah 84117, telephone number (801)
272-9294.
Market
Information
Our
common stock price is quoted on the OTC Bulletin Board, or OTCBB, under the
symbol “CNEH.”
SELLING
STOCKHOLDERS
The
following table sets forth as of June 30, 2008, information regarding the
current beneficial ownership of our common stock by the persons identified,
based on information provided to us by them, which we have not independently
verified.
On
February 28, 2008, the Company sold to Lotusbox Investments Limited(the “Selling
Stockholder”) a 8.00% Secured Debenture due 2012 (the “Debenture”) in aggregate
principal amount of $15,000,000, and agreed to issue to the Selling Stockholder
five-year warrants exercisable for up to (i) 1,200,000 shares of the Company’s
common stock at an initial exercise price equal to $0.01 per share (“Class A
Warrants”), (ii) 1,500,000 shares of the Company’s common stock at an initial
exercise price equal to $3.20 per share (“Class B Warrants”) and (iii) 2,100,000
shares of the Company’s common stock at an initial exercise price equal to $3.45
(“Class C Warrants”), all warrant exercise prices are subject to certain
adjustments. The Debenture and each of the Class A, B and C Warrants were not
registered under the Securities Act of 1933, as amended (“Securities Act”) in
reliance upon the exemption from the registration requirements provided in
Section 4(2) of, and the safe harbor from such registration provided by
Regulation S, promulgated under the Securities Act.
Although
we have assumed for purposes of the table that the Selling Stockholder will
sell
all of the shares offered by this prospectus, because they may from time to
time
offer all or some of their shares under this prospectus or in another manner,
no
assurance can be given as to the actual number of shares that will be resold
by
the Selling Stockholder, or that will be held after completion of the resales.
In addition, the Selling Stockholder may have sold or otherwise disposed of
shares in transactions exempt from the registration requirements of the
Securities Act or otherwise since the date it provided information to us. The
Selling Stockholder is not making any representation that the shares covered
by
this prospectus will be offered for sale. Except as set forth below, no Selling
Stockholder has held any position nor had any material relationship with us
or
our affiliates during the past three years.
|
|
Shares of Common Stock
Beneficially Owned
Prior to Offering(1)
|
|
Shares
Being
|
|
Shares of Common
Stock
Beneficially Owned
After Offering(2)
|
|
Selling
Stockholder
|
|
Shares
|
|
%
|
|
Offered
|
|
Shares
|
|
%
|
|
Lotusbox
Investments Limited(3)
|
|
|
4,800,000
|
|
25
|
|
|
4,800,000
|
|
0
|
|
*
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
4,800,000
|
|
25%
|
|
|
4,800,000
|
|
0
|
|
*%
|
|
*
Less
than one percent
(1) |
This
table is based upon information supplied by the selling shareholder.
The
number and percentage of shares beneficially owned are based on
an
aggregate of 19,224,080 shares of our common stock outstanding
as of June
30, 2008.
|
(2) |
Because
the selling shareholder identified in this table may sell some,
all or
none of the shares owned by it that are registered under this registration
statement, and because, to our knowledge, there are currently no
agreements, arrangements or understandings with respect to the
sale of any
of the shares registered hereunder, no estimate can be given as
to the
number of shares available for resale hereby that will be held
by the
selling shareholders at the time of this registration statement.
Therefore, we have assumed for purposes of this table that the
selling
shareholder will sell all of the shares beneficially owned by
it.
|
(3) |
Harmony
Investment Fund Limited, through its directors Suresh Withana and
John
Robert Nicholls, exercises voting and investment over the securities
to be
offered for resale by the selling shareholder. The Selling Stockholder
has
advised the Company that it is not a registered broker-dealer or
an
affiliate of a registered
broker-dealer.
|
PLAN
OF DISTRIBUTION
The
Selling Stockholder of the common stock and any of its pledgees, assignees
and
successors-in-interest may, from time to time, sell any or all of its shares
of
common stock on the principal trading market or any other stock exchange, market
or trading facility on which the shares are traded or in private transactions.
These sales may be at fixed or negotiated prices. The Selling Stockholder may
use any one or more of the following methods when selling shares:
|
·
|
ordinary
brokerage transactions and transactions in which the broker-dealer
solicits purchasers;
|
|
·
|
block
trades in which the broker-dealer will attempt to sell the shares
as agent
but may position and resell a portion of the block as principal to
facilitate the transaction;
|
|
·
|
purchases
by a broker-dealer as principal and resale by the broker-dealer for
its
account;
|
|
·
|
an
exchange distribution in accordance with the rules of the applicable
exchange;
|
|
·
|
privately
negotiated transactions;
|
|
·
|
settlement
of short sales entered into after the effective date of the registration
statement of which this prospectus is a part;
|
|
·
|
broker-dealers
may agree with the Selling Stockholder to sell a specified number
of such
shares at a stipulated price per
share;
|
|
·
|
through
the writing or settlement of options or other hedging transactions,
whether through an options exchange or
otherwise;
|
|
·
|
a
combination of any such methods of sale;
or
|
|
·
|
any
other method permitted pursuant to applicable
law.
|
The
Selling Stockholder may also sell shares under Rule 144 under the Securities
Act
of 1933, if available, rather than under this prospectus.
Broker-dealers
engaged by the Selling Stockholder may arrange for other brokers-dealers to
participate in sales. Broker-dealers may receive commissions or discounts from
the Selling Stockholder (or, if any broker-dealer acts as agent for the
purchaser of shares, from the purchaser) in amounts to be negotiated, but,
except as set forth in a supplement to this Prospectus, in the case of an agency
transaction not in excess of a customary brokerage commission in compliance
with
NASDR Rule 2440; and in the case of a principal transaction a markup or markdown
in compliance with NASDR IM-2440.
In
connection with the sale of the common stock or interests therein, the Selling
Stockholder may enter into hedging transactions with broker-dealers or other
financial institutions, which may in turn engage in short sales of the common
stock in the course of hedging the positions it assumes. The Selling Stockholder
may also sell shares of the common stock short and deliver these securities
to
close out its short positions, or loan or pledge the common stock to
broker-dealers that in turn may sell these securities. The Selling Stockholder
may also enter into option or other transactions with broker-dealers or other
financial institutions or the creation of one or more derivative securities
which require the delivery to such broker-dealer or other financial institution
of shares offered by this prospectus, which shares such broker-dealer or other
financial institution may resell pursuant to this prospectus (as supplemented
or
amended to reflect such transaction).
The
Selling Stockholder and any broker-dealers or agents that are involved in
selling the shares may be deemed to be “underwriters” within the meaning of the
Securities Act in connection with such sales. In such event, any commissions
received by such broker-dealers or agents and any profit on the resale of the
shares purchased by them may be deemed to be underwriting commissions or
discounts under the Securities Act. The Selling Stockholder has informed the
Company that it does not have any written or oral agreement or understanding,
directly or indirectly, with any person to distribute the Common Stock. NASD
Rule 2710 requires FINRA members firms (unless an exemption applies) to satisfy
the filing requirements of Rule 2710 in connection with the resale, on behalf
of
selling shareholders, of the securities on a principal or agency basis. FINRA
has recently proposed rule changes to NASD Rule 2710 which may, if approved,
modify the requirements of its members to make filings under NASD Rule 2710.
Further, no FINRA member firm may receive compensation in excess of that
allowable under FINRA rules, including Rule 2710, in connection with the resale
of the securities by selling shareholders, which total compensation may not
generally exceed 8%, subject to the amount being raised in the offering.
The
Company is required to pay certain fees and expenses incurred by the Company
incident to the registration of the shares. The Company has agreed to indemnify
the Selling Stockholder against certain losses, claims, damages and liabilities,
including liabilities under the Securities Act.
Because
Selling Stockholder may be deemed to be an “underwriter” within the meaning of
the Securities Act, it will be subject to the prospectus delivery requirements
of the Securities Act including Rule 172 thereunder. In addition, any securities
covered by this prospectus which qualify for sale pursuant to Rule 144 under
the
Securities Act may be sold under Rule 144 rather than under this prospectus.
There is no underwriter or coordinating broker acting in connection with the
proposed sale of the resale shares by the Selling Stockholder.
We
agreed
to keep this prospectus effective until the earlier of (i) the date on which
the
shares may be resold by the Selling Stockholder without registration and without
regard to any volume limitations by reason of Rule 144(k) under the Securities
Act or any other rule of similar effect or (ii) all of the shares have been
sold
pursuant to this prospectus or Rule 144 under the Securities Act or any other
rule of similar effect. The resale shares will be sold only through registered
or licensed brokers or dealers if required under applicable state securities
laws. In addition, in certain states, the resale shares may not be sold unless
they have been registered or qualified for sale in the applicable state or
an
exemption from the registration or qualification requirement is available and
is
complied with.
Under
applicable rules and regulations under the Exchange Act, any person engaged
in
the distribution of the resale shares may not simultaneously engage in market
making activities with respect to the common stock for the applicable restricted
period, as defined in Regulation M, prior to the commencement of the
distribution. In addition, the Selling Stockholder will be subject to applicable
provisions of the Exchange Act and the rules and regulations thereunder,
including Regulation M, which may limit the timing of purchases and sales of
shares of the common stock by the Selling Stockholder or any other person.
We
will make copies of this prospectus available to the Selling Stockholder and
have informed it of the need to deliver a copy of this prospectus to each
purchaser at or prior to the time of the sale (including by compliance with
Rule
172 under the Securities Act).
The
Company has advised the Selling Stockholder that it may not use shares
registered on this Registration Statement to cover short sales of Common Stock
made prior to the date on which this Registration Statement shall have been
declared effective by the Commission. In addition, the Company has advised
the
Selling Stockholder that the Commission currently takes the position that
coverage of short sales “against the box” prior to the effective date of the
registration statement of which this prospectus is a part would be a violation
of Section 5 of the Securities Act, as described in Item 65, Section A, of
the
Manual of Publicly Available Telephone Interpretations, dated July 1997,
compiled by the Office of Chief Counsel, Division of Corporate
Finance.
If
the
Selling Stockholder uses this prospectus for any sale of the Common Stock,
it
will be subject to the prospectus delivery requirements of the Securities Act.
The Selling Stockholder will be responsible to comply with the applicable
provisions of the Securities Act and Exchange Act, and the rules and regulations
thereunder promulgated, including, without limitation, Regulation M, as
applicable to such Selling Stockholder in connection with resales of its shares
under this Registration Statement.
The
Company is required to pay all fees and expenses incident to the registration
of
the shares, but the Company will not receive any proceeds from the sale of
the
Common Stock. The Company has agreed to indemnify the Selling Stockholder
against certain losses, claims, damages and liabilities, including liabilities
under the Securities Act.
DISCLOSURE
OF COMMISSION POSITION OF INDEMNIFICATION FOR SECURITIES ACT
LIABILITIES
The
Company's directors and executive officers are indemnified as provided by the
Delaware General Corporation Law and the Company's Bylaws. These provisions
state that the Company's directors may cause the Company to indemnify a director
or former director against all costs, charges and expenses, including an amount
paid to settle an action or satisfy a judgment, actually and reasonably incurred
by him as a result of him acting as a director. The indemnification of costs
can
include an amount paid to settle an action or satisfy a judgment. Such
indemnification is at the discretion of the Company's board of directors and
is
subject to the Securities and Exchange Commission's policy regarding
indemnification.
Insofar
as indemnification for liabilities arising under the Securities Act of 1933
may
be permitted to directors, officers or persons controlling the Company pursuant
to the foregoing provisions, or otherwise, the Company has been advised that
in
the opinion of the Securities and Exchange Commission, such indemnification
is
against public policy as expressed in the Securities Act of 1933 and is,
therefore, unenforceable.
LEGAL
MATTERS
The
legality of the issuance of the shares offered in this prospectus will be passed
upon for us by Crone Rozynko LLP, San Francisco, California. Crone Rozynko
LLP
holds an option to purchase 100,000 shares of common stock at an initial
exercise price of $2.15 per share.
EXPERTS
The
consolidated financial statements of our company as of December 31, 2007 and
2006 included in this prospectus have been audited by Jimmy C.H. Cheung &
Co, Independent registered public accountants, as stated in its report appearing
herein and elsewhere in this prospectus, and have been so included in reliance
upon the report of this firm given upon their authority as experts in auditing
and accounting.
WHERE
YOU CAN FIND MORE INFORMATION
We
have
filed with the Securities and Exchange Commission a registration statement
on
Form S-1 (including exhibits) under the Securities Act, with respect to the
shares to be sold in this offering. This prospectus does not contain all the
information set forth in the registration statement. For further information
with respect to our company and the common stock offered in this prospectus,
reference is made to the registration statement, including the exhibits filed
thereto, and the financial statements and notes filed as a part thereof. With
respect to each such document filed with the SEC as an exhibit to the
registration statement, reference is made to the exhibit for a more complete
description of the matter involved.
We
file
quarterly and annual reports, proxy statements and other information with the
SEC. You may read and copy any document that we file at the public reference
facilities of the SEC in Washington, D.C. You may call the SEC at 1-800-SEC-0330
for further information on the public reference rooms. Our SEC filings are
also
available to the public from the SEC’s website at
http://www.sec.gov.
INDEX
TO CONSOLIDATED FINANCIAL STATEMENTS
CHINA
NORTH EAST PETROLEUM HOLDINGS LIMITED AND SUBSIDIARIES
Condensed
Consolidated Balance Sheets
|
|
March 31,
|
|
December 31,
|
|
|
|
2008
|
|
2007
|
|
|
|
(Unaudited)
|
|
(Audited)
|
|
ASSETS
|
|
CURRENT
ASSETS
|
|
|
|
|
|
Cash
and cash equivalents
|
|
$
|
12,734,345
|
|
$
|
74,638
|
|
Accounts
receivable, net
|
|
|
5,981,125
|
|
|
4,852,633
|
|
Prepaid
expenses and other current assets
|
|
|
682,928
|
|
|
398,046
|
|
Current
portion of deferred financing costs, net
|
|
|
296,557
|
|
|
-
|
|
Value
added tax recoverable
|
|
|
-
|
|
|
651,905
|
|
Total
Current Assets
|
|
|
19,694,955
|
|
|
5,977,222
|
|
|
|
|
|
|
|
|
|
PROPERTY
AND EQUIPMENT
|
|
|
|
|
|
|
|
Oil
and gas properties, net
|
|
|
42,616,236
|
|
|
40,345,008
|
|
Fixed
assets, net
|
|
|
1,046,714
|
|
|
885,474
|
|
Oil
and gas properties under construction
|
|
|
1,127,198
|
|
|
2,550,058
|
|
Total
Property and Equipment
|
|
|
44,790,148
|
|
|
43,780,540
|
|
|
|
|
|
|
|
|
|
LAND
USE RIGHTS, NET
|
|
|
44,045
|
|
|
45,076
|
|
|
|
|
|
|
|
|
|
LONG-TERM
DEFERRED FINANCING COSTS, NET
|
|
|
864,959
|
|
|
-
|
|
TOTAL
ASSETS
|
|
$
|
65,394,107
|
|
$
|
49,802,838
|
|
|
|
|
|
|
|
|
|
LIABILITIES
AND STOCKHOLDERS' EQUITY
|
CURRENT
LIABILITIES
|
|
|
|
|
|
|
|
Accounts
payable
|
|
$
|
7,732,748
|
|
$
|
6,580,930
|
|
Current
portion of secured debenture, net of discount
|
|
|
737,342
|
|
|
-
|
|
Other
payables and accrued liabilities
|
|
|
1,561,934
|
|
|
1,020,980
|
|
Due
to related parties
|
|
|
14,241
|
|
|
28,036
|
|
Note
payable
|
|
|
284,811
|
|
|
273,444
|
|
Income
tax and other taxes payable
|
|
|
5,001,942
|
|
|
2,687,449
|
|
Due
to a stockholder
|
|
|
131,387
|
|
|
123,105
|
|
Total
Current Liabilities
|
|
|
15,464,405
|
|
|
10,713,944
|
|
|
|
|
|
|
|
|
|
LONG-TERM
LIABILITIES
|
|
|
|
|
|
|
|
Accounts
payable
|
|
|
8,665,641
|
|
|
15,467,661
|
|
Secured
debenture, net of discount
|
|
|
6,636,074
|
|
|
-
|
|
Deferred
tax payable
|
|
|
475,445
|
|
|
543,100
|
|
Due
to a related party
|
|
|
1,579,572
|
|
|
3,118,085
|
|
Total
Long-term Liabilities
|
|
|
17,356,732
|
|
|
19,128,846
|
|
|
|
|
|
|
|
|
|
TOTAL
LIABILITIES
|
|
|
32,821,137
|
|
|
29,842,790
|
|
|
|
|
|
|
|
|
|
COMMITMENTS
AND CONTINGENCIES
|
|
|
-
|
|
|
-
|
|
|
|
|
|
|
|
|
|
MINORITY
INTERESTS
|
|
|
1,646,440
|
|
|
1,124,964
|
|
|
|
|
|
|
|
|
|
STOCKHOLDERS'
EQUITY
|
|
|
|
|
|
|
|
Common
stock, $0.001 par value, 150,000,000 shares authorized,
|
|
|
|
|
|
|
|
19,224,080
shares issued and outstanding
|
|
|
19,224
|
|
|
19,224
|
|
Additional
paid-in capital
|
|
|
19,207,082
|
|
|
11,361,579
|
|
Deferred
stock compensation
|
|
|
-
|
|
|
(27,125
|
)
|
Retained
earnings
|
|
|
|
|
|
|
|
Unappropriated
|
|
|
8,482,166
|
|
|
5,200,907
|
|
Appropriated
|
|
|
916,263
|
|
|
916,263
|
|
Accumulated
other comprehensive income
|
|
|
2,301,795
|
|
|
1,364,236
|
|
Total
Stockholders' Equity
|
|
|
30,926,530
|
|
|
18,835,084
|
|
|
|
|
|
|
|
|
|
TOTAL
LIABILITIES AND STOCKHOLDERS' EQUITY
|
|
$
|
65,394,107
|
|
$
|
49,802,838
|
|
The
accompanying notes are an integral part of these condensed consolidated
financial statements
|
CHINA
NORTH EAST PETROLEUM HOLDINGS LIMITED AND SUBSIDIARIES
Condensed
Consolidated Statements of Operations and Comprehensive
Income
|
|
(Unaudited)
|
|
|
|
Three months ended March 31,
|
|
|
|
2008
|
|
2007
|
|
|
|
|
|
|
|
NET
SALES
|
|
$
|
10,823,974
|
|
$
|
1,879,947
|
|
|
|
|
|
|
|
|
|
COST
OF SALES
|
|
|
|
|
|
|
|
Production
costs
|
|
|
712,305
|
|
|
336,790
|
|
Depreciation
of oil and gas properties
|
|
|
1,874,692
|
|
|
389,227
|
|
Amortization
of land use rights
|
|
|
2,842
|
|
|
2,624
|
|
Government
oil surcharge
|
|
|
2,211,320
|
|
|
157,131
|
|
Total
Cost of Sales
|
|
|
4,801,159
|
|
|
885,772
|
|
|
|
|
|
|
|
|
|
GROSS
PROFIT
|
|
|
6,022,815
|
|
|
994,175
|
|
|
|
|
|
|
|
|
|
OPERATING
EXPENSES
|
|
|
|
|
|
|
|
Selling,
general and administrative expenses
|
|
|
257,594
|
|
|
220,265
|
|
Professional
fees
|
|
|
57,512
|
|
|
16,000
|
|
Consulting
fees
|
|
|
81,630
|
|
|
27,125
|
|
Amortization
of deferred financing costs
|
|
|
24,713
|
|
|
-
|
|
Amortization
of discount on debenture
|
|
|
162,268
|
|
|
-
|
|
Depreciation
of fixed assets
|
|
|
52,232
|
|
|
36,027
|
|
Total
Operating Expenses
|
|
|
635,949
|
|
|
299,417
|
|
|
|
|
|
|
|
|
|
INCOME
FROM OPERATIONS
|
|
|
5,386,866
|
|
|
694,758
|
|
|
|
|
|
|
|
|
|
OTHER
INCOME (EXPENSE)
|
|
|
|
|
|
|
|
Other
expense
|
|
|
(2,311
|
)
|
|
-
|
|
Interest
expense
|
|
|
(119,697
|
)
|
|
(10,591
|
)
|
Imputed
interest expenses
|
|
|
(26,896
|
)
|
|
(131,846
|
)
|
Interest
income
|
|
|
4,042
|
|
|
248
|
|
Total
Other Expense, net
|
|
|
(144,862
|
)
|
|
(142,189
|
)
|
|
|
|
|
|
|
|
|
NET
INCOME BEFORE TAXES AND MINORITY INTERESTS
|
|
|
5,242,004
|
|
|
552,569
|
|
|
|
|
|
|
|
|
|
Income
tax expense
|
|
|
(1,439,269
|
)
|
|
(221,407
|
)
|
|
|
|
|
|
|
|
|
Minority
interests
|
|
|
(521,476
|
)
|
|
(43,799
|
)
|
|
|
|
|
|
|
|
|
NET
INCOME
|
|
|
3,281,259
|
|
|
287,363
|
|
|
|
|
|
|
|
|
|
OTHER
COMPREHENSIVE INCOME
|
|
|
|
|
|
|
|
Foreign
currency translation gain
|
|
|
937,559
|
|
|
87,251
|
|
|
|
|
|
|
|
|
|
COMPREHENSIVE
INCOME
|
|
$
|
4,218,818
|
|
$
|
374,614
|
|
|
|
|
|
|
|
|
|
Net
income per share
|
|
|
|
|
|
|
|
-
basic
|
|
$
|
0.17
|
|
$
|
0.01
|
|
-
diluted
|
|
$
|
0.17
|
|
$
|
0.01
|
|
|
|
|
|
|
|
|
|
Weighted
average number of shares outstanding during the period
|
|
|
|
|
|
|
|
-
basic
|
|
|
19,224,080
|
|
|
29,224,080
|
|
-
diluted
|
|
|
20,537,854
|
|
|
29,224,080
|
|
The
accompanying notes are an integral part of these condensed consolidated
financial statements
|
|
CHINA
NORTH EAST PETROLEUM HOLDINGS LIMITED AND
SUBSIDIARIES
Condensed
Consolidated Statements of Cash Flows
For
the three months ended March 31, 2008 and 2007
(Unaudited)
|
|
2008
|
|
2007
|
|
CASH
FLOWS FROM OPERATING ACTIVITIES
|
|
|
|
|
|
Net
income
|
|
$
|
3,281,259
|
|
$
|
287,363
|
|
Adjusted
to reconcile net income to cash provided
|
|
|
|
|
|
|
|
by
operating activities:
|
|
|
|
|
|
|
|
Depreciation
of oil and gas properties
|
|
|
1,874,692
|
|
|
389,227
|
|
Depreciation
of fixed assets
|
|
|
52,232
|
|
|
36,027
|
|
Amortization
of land use rights
|
|
|
2,842
|
|
|
2,624
|
|
Amortization
of deferred financing costs
|
|
|
24,713
|
|
|
-
|
|
Amortization
of discount on debenture
|
|
|
162,268
|
|
|
-
|
|
Warrants
issued for services
|
|
|
29,755
|
|
|
-
|
|
Minority
interests
|
|
|
521,476
|
|
|
43,799
|
|
Stocks
issued for services
|
|
|
27,125
|
|
|
27,125
|
|
Imputed
interest expenses
|
|
|
26,896
|
|
|
131,846
|
|
Changes
in operating assets and liabilities
|
|
|
|
|
|
|
|
(Increase)
decrease in:
|
|
|
|
|
|
|
|
Accounts
receivable
|
|
|
(1,128,492
|
)
|
|
358,931
|
|
Prepaid
expenses and other current assets
|
|
|
(284,882
|
)
|
|
(28,390
|
)
|
Due
from related parties
|
|
|
-
|
|
|
(49,836
|
)
|
Value
added tax recoverable
|
|
|
651,905
|
|
|
58,901
|
|
Deferred
financing costs
|
|
|
(1,186,229
|
)
|
|
-
|
|
Increase
(decrease) in:
|
|
|
|
|
|
|
|
Accounts
payable
|
|
|
(5,650,202
|
)
|
|
490,089
|
|
Other
payables and accrued liabilities
|
|
|
540,954
|
|
|
2,296
|
|
Income
tax and other taxes payable
|
|
|
2,314,493
|
|
|
462,572
|
|
Deferred
tax payable
|
|
|
(67,655
|
)
|
|
-
|
|
Net
cash provided by operating activities
|
|
|
1,193,150
|
|
|
2,212,574
|
|
|
|
|
|
|
|
|
|
CASH
FLOWS FROM INVESTING ACTIVITIES
|
|
|
|
|
|
|
|
Purchase
of oil and gas properties
|
|
|
(748,820
|
)
|
|
(2,742,832
|
)
|
Purchase
of fixed assets
|
|
|
(174,005
|
)
|
|
(123,925
|
)
|
Additions
to oil and gas properties under construction
|
|
|
(211,709
|
)
|
|
-
|
|
Net
cash used in investing activities
|
|
|
(1,134,534
|
)
|
|
(2,866,757
|
)
|
|
|
|
|
|
|
|
|
CASH
FLOWS FROM FINANCING ACTIVITIES
|
|
|
|
|
|
|
|
Proceeds
from the issuance of secured debenture
|
|
|
15,000,000
|
|
|
-
|
|
Decrease
in other loans payable
|
|
|
-
|
|
|
(25,612
|
)
|
Increase
in amount due to a stockholder
|
|
|
8,282
|
|
|
89,193
|
|
(Decrease)
increase in amounts due to related parties
|
|
|
(1,552,308
|
)
|
|
1,170,121
|
|
Net
cash provided by financing activities
|
|
|
13,455,974
|
|
|
1,233,702
|
|
|
|
|
|
|
|
|
|
EFFECT
OF EXCHANGE RATE ON CASH
|
|
|
(854,883
|
)
|
|
(67,207
|
)
|
|
|
|
|
|
|
|
|
NET
INCREASE IN CASH AND CASH EQUIVALENTS
|
|
|
12,659,707
|
|
|
512,312
|
|
|
|
|
|
|
|
|
|
CASH
AND CASH EQUIVALENTS AT BEGINNING OF PERIOD
|
|
|
74,638
|
|
|
13,746
|
|
|
|
|
|
|
|
|
|
CASH
AND CASH EQUIVALENTS AT END OF PERIOD
|
|
$
|
12,734,345
|
|
$
|
526,058
|
|
|
|
|
|
|
|
|
|
SUPPLEMENTAL
DISCLOSURE OF CASH FLOW INFORMATION:
|
|
|
|
|
|
|
|
Cash
paid during the period for:
|
|
|
|
|
|
|
|
Income
tax expense
|
|
$
|
1,283,180
|
|
$
|
60,462
|
|
|
|
|
|
|
|
|
|
Interest
expense
|
|
$
|
11,204
|
|
$
|
10,591
|
|
The
accompanying notes are an integral part of these condensed consolidated
financial statements
CHINA
NORTH EAST PETROLEUM HOLDINGS LIMITED
AND
SUBSIDIARIES
NOTES
TO
THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
AS OF MARCH 31, 2008
(UNAUDITED)
NOTE
1 BASIS OF PRESENTATION
The
accompanying unaudited condensed consolidated financial statements have been
prepared in accordance with accounting principles generally accepted in the
United States of America for interim financial information and pursuant to
the
rules and regulations of the Securities and Exchange Commission. Accordingly,
they do not include all of the information and footnotes required by generally
accepted accounting principles for complete financial statements.
In
the
opinion of management, the unaudited condensed consolidated financial statements
contain all adjustments consisting only of normal recurring accruals considered
necessary to present fairly the Company's financial position at March 31, 2008,
the results of operations for the three ended March 31, 2008 and 2007 and
cash flows for the three months ended March 31, 2008 and 2007. The results
for the three months ended March 31, 2008 are not necessarily indicative of
the
results to be expected for the entire fiscal year ending December 31,
2008.
These
financial statements should be read in conjunction with the Company's annual
report on Form 10-K as filed with the Securities and Exchange
Commission.
NOTE
2 ORGANIZATION
China
North East Petroleum Holdings Limited (“North East Petroleum”) is a US listed
company which was incorporated in Nevada on August 20, 1999 under the name
of
Draco Holding Corporation (“Draco”).
Hong
Xiang Petroleum Group Limited ("Hong Xiang Petroleum Group") was incorporated
in
the British Virgin Islands (“BVI”) on August 28, 2003 as an investment
holding company.
On
December 5, 2003, Song Yuan City Hong Xiang Petroleum Technical Services Co.,
Ltd. (“Hong Xiang Technical”) was incorporated in the People’s Republic of China
(“PRC”) which provided technical advisory services to oil and gas exploration
companies in the PRC.
During
2004, Hong Xiang Petroleum Group acquired a 100% ownership of Hong Xiang
Technical.
During
2004, Hong Xiang Technical acquired a 100% interest in Song Yuan City Yu Qiao
Qianan Hong Xiang Oil and Gas Development Co., Ltd. (“Hong Xiang Oil
Development”) which is engaged in the exploration and production of crude oil in
the Jilin Oil Region, of the PRC.
During
2004, Draco executed a Plan of Exchange to acquire 100% of Hong Xiang Petroleum
Group.
On
July
26, 2006, the Company entered into a Joint Venture Agreement (the “JV
Agreement”) with a principal stockholder and a related party, hereafter referred
to as the “Related Parties,” to acquire oil and gas properties for the
exploration of crude oil in the PRC. Pursuant to the JV Agreement,
the Company and the Related Parties are obligated to contribute $1 million
and
$121,000, respectively, to the registered capital of Song Yuan North East
Petroleum Technical Service Co., Ltd. (“Song Yuan Technical”), and
the Company and the Related Parties will each share 90% and 10% respectively
of
the equity and profit interests of Song Yuan Technical.
On
June
1, 2005, Song Yuan Technical acquired from third parties 100% equity interest
of
LongDe Oil & Gas Development Co. Ltd. (“LongDe”) at a consideration of
$120,773 in cash. LongDe is engaged in the exploration and production of crude
oil in the Jilin Oil Region, of the PRC.
On
January 26, 2007, Song Yuan Technical acquired 100% of the equity interest
of
Song Yuan City Yu Qiao Oil and Gas Development Limited Corporation (“Yu Qiao”)
for 10,000,000 shares of the Company’s common stock having a fair value of
$3,100,000 based on the preceding 30-day average of the high bid and the low
ask
price for the Company’s common stock as quoted on the Over-the-Counter Bulletin
Board as of the date of the closing of the transaction. Prior to this
transaction, Yu Qiao was owned 70% by a related party of the Company and 30%
by
third parties held on behalf of the related party.
CHINA
NORTH EAST PETROLEUM HOLDINGS LIMITED
AND
SUBSIDIARIES
NOTES
TO
THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
AS OF MARCH 31, 2008
(UNAUDITED)
NOTE
2 ORGANIZATION (CONTINUED)
Yu
Qiao
was incorporated in Song Yuan City, Jinlin Province, PRC on
May 24, 2002 as a limited liability company. Yu Qiao is engaged in the
extraction and production of crude oil in Jilin Province, PRC and operates
3 oilfields with a total exploration area of 39.2 square kilometers. Pursuant
to
a 20-year exclusive Cooperative Exploration Contract (the “Oil Lease”) which was
entered into on May 28, 2002 with PetroChina Group, a corporation organized
and existing under the laws of PRC (“PetroChina”), the Company has the right to
explore, develop and extract oil at Qian’an 112, Da 34 and Gu 31 area. Pursuant
to the Oil Lease, PetroChina is entitled to 20% of the Company’s oil production
for the first ten years of the Oil Lease term and 40% of the Company’s oil
production for the remaining ten years of the Oil Lease term. On May 28,
2002, the Company also executed an Agreement of leasing 20.7 square kilometers
of Qian’an 112 area to Hong Xiang Oil Development and the Company is entitled to
2% of total sales revenue as consideration. This agreement was cancelled upon
the dissolution of Hong Xiang Oil Development.
The
acquisition of Yu Qiao was accounted for as a reorganization of entities under
common control. Accordingly, the operations of Yu Qiao for the years ended
December 31, 2007 and 2006 were included in the consolidated financial
statements as if the transactions had occurred retroactively.
In
March
2007, the Company approved the dissolution of its wholly owned subsidiaries,
Hong Xiang Technical and Hong Xiang Oil Development.
North
East Petroleum, Hong Xiang Petroleum Group, Song Yuan Technical, LongDe and
Yu
Qiao are hereinafter referred to as (“the Company”).
NOTE
3 PRINCIPLES OF CONSOLIDATION
The
accompanying unaudited condensed consolidated financial statements include
the
unaudited financial statements of North East Petroleum and its wholly owned
subsidiary, Hong Xiang Petroleum Group and 90% equity interest owned
subsidiaries, Song Yuan Technical, LongDe and Yu Qiao (collectively, “the
Company”). The minority interests represent the minority shareholders’ 10% share
of the results of Song Yuan Technical, LongDe and Yu Qiao.
All
significant inter-company accounts and transactions have been eliminated in
consolidation.
CHINA
NORTH EAST PETROLEUM HOLDINGS LIMITED
AND
SUBSIDIARIES
NOTES
TO
THE CONDENSED CONSOLIDATED FINANCIALSTATEMENTS
AS OF MARCH 31, 2008
(UNAUDITED)
NOTE
4 SECURED DEBENTURE
The
following is a summary of secured debenture at March 31, 2008 and December
31,
2007:
|
|
March
31,
|
|
December
31,
|
|
|
|
2008
|
|
2007
|
|
|
|
(Unaudited)
|
|
(Audited)
|
|
|
|
|
|
|
|
$15,000,000
8% Secured Debenture, net of unamortized
|
|
|
|
|
|
discount
of $7,626,584 as of March 31, 2008 at 8% interest
|
|
|
|
|
|
per
annum, secured by 66% of the Company's equity
|
|
|
|
|
|
interest
in Song Yuan Technical and certain properties of the Company and
6,732,000
shares of
common
stock of the Company owned by a stockholder, due on February 27,
2012
|
|
$
|
7,373,416
|
|
$
|
-
|
|
|
|
|
7,373,416
|
|
|
-
|
|
Less:
current maturities
|
|
|
(737,342
|
)
|
|
-
|
|
Long-term
portion
|
|
$
|
6,636,074
|
|
$
|
-
|
|
On
February 28, 2008, the Company entered into a Securities Purchase Agreement
(the
"Purchase Agreement") with Lotusbox Investments Limited (the
"Investor"). Pursuant to which, the Company agreed to issue to the
Investor an 8% Secured Debenture due 2012 (the "Debenture") in the aggregate
principal amount of $15,000,000, and agreed to issue to the Investor five-year
warrants exercisable for up to (i) 1,200,000 shares of the Company's common
stock at an initial exercise price equal to $0.01 per share ("Class A
Warrants"), (ii) 1,500,000 shares of the Company's common stock at an initial
exercise price equal to $3.20 per share ("Class B Warrants") and (iii) 2,100,000
shares of the Company's common stock at an initial exercise price equal to
$3.45, with all warrant exercise prices being subject to certain
adjustments. The Class B Warrants are subject to certain call rights
by the Company. The Company also granted the Investor an option up to 24%
of the registered capital of Song Yuan Technical at fair market value which
option shall vest immediately on the date following the occurrence of an event
of default.
The
Company accounts for warrants as liability instruments in accordance with
paragraph 8 of EITF 00-19, Accounting for Derivative Financial Instruments
Indexed to, and Potentially settled in, a Company’s Own Stock. The beneficial
conversion feature associated with the secured debenture is measured at its
intrinsic value after allocation between the warrant and the debenture and
before transaction costs in accordance with EITF 00-27, Application of Issue
98-5 to Certain Convertible Instruments. Debt proceeds are first allocated
to
the warrant (as it is mark-to-market, fair-value liability instrument) and
the
remaining proceeds are allocated to the debt. The debenture will be accreted
to
liquidation value over two years, using the effective interest rate
method.
The
Company has recorded a cost of $7,788,852 for the beneficial conversion feature
granted to the Investor. The beneficial conversion feature is reflected as
a
discount on the debenture and is being amortized as additional interest expense
over the term of the debenture.
Interest
expense and discount amortized for the three months ended March 31, 2008 was
$108,493 and $162,268 respectively.
CHINA
NORTH EAST PETROLEUM HOLDINGS LIMITED
AND
SUBSIDIARIES
NOTES
TO
THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
AS OF MARCH 31, 2008
(UNAUDITED)
NOTE 5 NET
INCOME PER SHARE
The
following is a reconciliation of the numerators and denominators used in
computing basic and diluted net income per share (in thousands, except per
share
amounts):
|
|
Three months ended March 31,
|
|
|
|
2008
|
|
2007
|
|
Numerator:
|
|
|
|
|
|
Net
income used in computing basis net income per share
|
|
$
|
3,281
|
|
$
|
287
|
|
Interest
on 8% Secured Debenture
|
|
|
108
|
|
|
-
|
|
Net
income used in computing diluted net income per share
|
|
|
3,389
|
|
$
|
287
|
|
|
|
|
|
|
|
|
|
Denominator:
|
|
|
|
|
|
|
|
Shares
used in computation of basic net income per share
|
|
|
|
|
|
|
|
(weighted
average common stock outstanding)
|
|
|
19,224
|
|
|
29,224
|
|
Dilutive
potential common stock:
|
|
|
|
|
|
|
|
Warrants
|
|
|
1,314
|
|
|
-
|
|
Shares
used in computation of diluted net income per share
|
|
|
20,538
|
|
|
29,224
|
|
Basic
net income per share
|
|
$
|
0.17
|
|
$
|
0.01
|
|
Diluted
net income per share
|
|
$
|
0.17
|
|
$
|
0.01
|
|
For
the
three months ended March 31, 2008, warrants to purchase 4,010,000 shares of
common stock with exercise prices greater than the average fair market value
of
the Company’s stock of $2.12 were not included in the calculation because the
effect is anti-dilutive.
NOTE
6 COMMITMENTS AND CONTINGENCIES
(A) Lease
commitment
The
Company leases office spaces from a stockholder, land and office spaces from
third parties under six operating leases which expire on September 20, 2023,
June 30, 2015, April 10, 2010, November 14, 2008, June 1, 2008 and June 1,
2008
at annual rental of $178, $13,671, $8,687, $10,680, $3,418, and $1,396
respectively.
As
of
March 31, 2008, the Company had outstanding commitments with respect to the
above operating leases, which are due as follows:
2008
|
|
$
|
24,825
|
|
2009
|
|
|
22,536
|
|
2010
|
|
|
16,021
|
|
2011
|
|
|
13,849
|
|
Thereafter
|
|
|
45,981
|
|
|
|
$
|
123,212
|
|
On
March
13, 2008, the registered capital of Song Yuan Technical was increased from
$1,121,000 to $6,000,000. The capital contribution is payable on or before
March
13, 2011.
As
of
March 31, 2008, the Company had capital commitments of $2,777,000 with two
contractors for the completion of drilling of 15 oil wells under
construction.
As
of
March 31, 2008, the Company had capital commitments of $300,000 with a
contractor for purchase of office spaces.
CHINA
NORTH EAST PETROLEUM HOLDINGS LIMITED
AND
SUBSIDIARIES
NOTES
TO
THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
AS OF MARCH 31, 2008
(UNAUDITED)
NOTE
7 STOCKHOLDERS’ EQUITY
Issuance
of warrants
Pursuant
to a Consulting Agreement (“the Agreement”) with effect from January 1, 2008 for
a term of one year, the Company issued to a consultant for Investor Relations
Services a warrant for 50,000 shares of the common stock of the Company at
an
exercise price equal to $2.65 per share. The Company’s stock was trading at
$2.36 at the time of issuance of the warrants. The warrant shall be exercisable
as of the effective date of the Agreement. The warrant has been determined
to
have a market value of $54,112 using the Black-Scholes option pricing model
with
market value per common stock of $1.08, an exercise period of 1 year and a
volatility of 130%. The Company expensed $13,528 in the three months ended
March
31, 2008.
On
February 28, 2008, the Company issued to a consultant five-year warrants
exercisable for up to (i) 120,000 shares of the Company's common stock at an
initial exercise price equal to $0.01 per share ("Class A Warrants"), (ii)
150,000 shares of the Company's common stock at an initial exercise price equal
to $3.20 per share ("Class B Warrants") and (iii) 210,000 shares of the
Company's common stock at an initial exercise price equal to $3.45, with all
warrant exercise prices being subject to certain adjustments. The
Class B Warrants are subject to certain call rights. The Company’s stock was
trading at $2.14 at the time of issuance of warrants. The warrants have been
determined to have a total market value of $778,885 using the Black-Scholes
option pricing model with market value per common stock of $2.13, $1.47 and
$1.44 for Class A Warrants, Class B Warrants and Class C Warrants respectively,
an exercise period of 2 years and a volatility of 158%. The Company expensed
$16,227 in the three months ended March 31, 2008.
NOTE 8 RELATED
PARTY TRANSACTIONS
|
a)
|
As
of March 31, 2008, the Company owed a stockholder of $131,387
which is
repayable on demand. Imputed interest is computed at 5% per annum on the
amount due.
|
|
b)
|
As
of March 31, 2008, the Company owed a related party of $14,241 which
is
repayable on demand. Imputed interest is computed at 5% per annum
on the
amount due.
|
|
c)
|
As
of March 31, 2008, the Company owed a related party of $1,579,572
which
has no fixed terms of repayment. Imputed interest is computed at
5% per
annum on the amount due.
|
|
d)
|
Total
imputed interest expenses recorded as additional paid-in capital
amounted
to $26,896 for the three months ended March 31,
2008.
|
|
e)
|
The
Company paid a stockholder $3,345 for leased office spaces for the
three
months ended March 31, 2008.
|
NOTE 9 CONCENTRATIONS
AND RISKS
During
2008, 100% of the Company's assets were located in the PRC and 100% of the
Company's revenues were derived from one customer located in the PRC. The Oil
Lease requires the Company to sell crude oil to PetroChina only.
NOTE 10 RECLASSIFICATIONS
Certain
reclassifications have been made in the consolidated financial statements for
the three months ended March 31, 2007 to conform to the current period’s
presentation.
NOTE 11 THE
EFFECT OF RECENTLY ISSUED ACCOUNTING STANDARDS
In
September 2006, the FASB issued SFAS No. 157, “Fair
Value Measurements”.
The
objective of SFAS 157 is to increase consistency and comparability in fair
value
measurements and to expand disclosures about fair value
measurements. SFAS 157 defines fair value, establishes a framework
for measuring fair value in generally accepted accounting principles, and
expands disclosures about fair value measurements. SFAS 157 applies under other
accounting pronouncements that require or permit fair value measurements and
does not require any new fair value measurements. The provisions of SFAS No.
157
are effective for fair value measurements made in fiscal years beginning after
November 15, 2007. The adoption of this statement did not have a material effect
on the Company's future reported financial position or results of
operations.
CHINA
NORTH EAST PETROLEUM HOLDINGS LIMITED
AND
SUBSIDIARIES
NOTES
TO
THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
AS OF MARCH 31, 2008
(UNAUDITED)
NOTE 11 THE
EFFECT OF RECENTLY ISSUED ACCOUNTING STANDARDS (CONTINUED)
In
February 2007, the Financial Accounting Standards Board (FASB) issued SFAS
No.
159, “The
Fair Value Option for Financial Assets and Financial Liabilities - Including
an
Amendment of FASB Statement No. 115”. This
statement permits entities to choose to measure many financial instruments
and
certain other items at fair value. Most of the provisions of SFAS No. 159 apply
only to entities that elect the fair value option. However, the amendment to
SFAS No. 115 “Accounting
for Certain Investments in Debt and Equity Securities”
applies
to all entities with available-for-sale and trading securities. SFAS No. 159
is
effective as of the beginning of an entity’s first fiscal year that begins after
November 15, 2007. Early adoption is permitted as of the beginning of a fiscal
year that begins on or before November 15, 2007, provided the entity also elects
to apply the provision of SFAS No. 157, “Fair
Value Measurements”.
The
adoption of this statement did not have a material effect on the Company's
financial statements.
In
December 2007, the Financial Accounting Standards Board (FASB) issued SFAS
No.
160, “Noncontrolling
Interests in Consolidated Financial Statements - an amendment of ARB No.
51”. This
statement improves the relevance, comparability, and transparency of the
financial information that a reporting entity provides in its consolidated
financial statements by establishing accounting and reporting standards that
require; the ownership interests in subsidiaries held by parties other than
the
parent and the amount of consolidated net income attributable to the parent
and
to the noncontrolling interest be clearly identified and presented on the face
of the consolidated statement of income, changes in a parent’s ownership
interest while the parent retains its controlling financial interest in its
subsidiary be accounted for consistently, when a subsidiary is deconsolidated,
any retained noncontrolling equity investment in the former subsidiary be
initially measured at fair value, entities provide sufficient disclosures that
clearly identify and distinguish between the interests of the parent and the
interests of the noncontrolling owners. SFAS No. 160 affects those
entities that have an outstanding noncontrolling interest in one or more
subsidiaries or that deconsolidate a subsidiary. SFAS No. 160 is
effective for fiscal years, and interim periods within those fiscal years,
beginning on or after December 15, 2008. Early adoption is prohibited. The
adoption of this statement is not expected to have a material effect on the
Company's financial statements.
In
March
2008, the FASB issued SFAS No. 161, “Disclosures about Derivative
Instruments and Hedging Activities, an amendment of FASB Statement
No. 133” (SFAS
161).
This statement is intended to improve transparency in financial reporting by
requiring enhanced disclosures of an entity’s derivative instruments and hedging
activities and their effects on the entity’s financial position, financial
performance, and cash flows. SFAS
161
applies to all derivative instruments within the scope of SFAS 133, “Accounting
for Derivative Instruments and Hedging Activities” (SFAS 133) as well as related
hedged items, bifurcated derivatives, and nonderivative instruments that are
designated and qualify as hedging instruments. Entities with instruments subject
to SFAS
161
must
provide more robust qualitative disclosures and expanded quantitative
disclosures. SFAS
161
is
effective prospectively for financial statements issued for fiscal years and
interim periods beginning after November 15, 2008, with early application
permitted. We are currently evaluating the disclosure implications of this
statement.
NOTE
12 SUBSEQUENT EVENT
On
April
22, 2008, the Company has fulfilled the outstanding capital contribution of
$4,400,000 to Song Yuan Technical.
CHINA
NORTH EAST PETROLEUM HOLDINGS LIMITED
AND
SUBSIDIARIES
CONSOLIDATED
FINANCIAL STATEMENTS
AS
OF
DECEMBER 31, 2007 AND 2006
CHINA
NORTH EAST PETROLEUM HOLDINGS LIMITED
AND
SUBSIDIARIES
CONTENTS
|
|
Pages
|
|
|
|
Report
of Independent Registered Public Accounting Firm
|
|
1
|
|
|
|
Consolidated
Balance Sheets as of December 31, 2007 and 2006
|
|
2
|
|
|
|
Consolidated
Statements of Operations and Comprehensive Income for the years ended
December 31, 2007 and 2006
|
|
3
|
|
|
|
Consolidated
Statements of Stockholders’ Equity for the years ended December 31, 2007
and 2006
|
|
4
|
|
|
|
Consolidated
Statements of Cash Flows for the years ended December 31, 2007 and
2006
|
|
5
|
|
|
|
Notes
to the Consolidated Financial Statements as of December 31, 2007
and 2006
|
|
6
-
22
|
|
Jimmy
C.H. Cheung & Co
Certified
Public Accountants
(A
member of Kreston
International)
|
Registered
with the Public Company
Accounting
Oversight Board
|
REPORT
OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To
the
Board of Directors of:
China
North East Petroleum Holdings Limited
We
have
audited the accompanying consolidated balance sheets of China North East
Petroleum Holdings Limited and subsidiaries as of December 31, 2007 and 2006
and
the related consolidated statements of operations and comprehensive income,
stockholders’ equity and cash flows for the years ended December 31, 2007 and
2006. 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. An audit includes examining,
on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes 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 of the financial
statements provide a reasonable basis for our opinion.
In
our
opinion, the financial statements referred to above present fairly, in all
material respects, the financial position of China North East Petroleum Holdings
Limited and subsidiaries as of December 31, 2007 and 2006, and the results
of
its operations and its cash flows for the years ended December 31, 2007 and
2006, in conformity with accounting principles generally accepted in the United
States of America.
JIMMY
C.H. CHEUNG & CO
Certified
Public Accountants
Hong
Kong
Date:
March 3, 2008
1607
Dominion Centre, 43 Queen’s Road East, Wanchai, Hong Kong
|
|
|
Tel:
(852) 25295500 Fax: (852) 28651067
|
|
|
|
Website:
http://www.jimmycheungco.com
|
CHINA
NORTH EAST PETROLEUM HOLDINGS LIMITED AND SUBSIDIARIES
CONSOLIDATED
BALANCE SHEETS
AS
OF
DECEMBER 31, 2007 AND 2006
|
|
2007
|
|
2006
|
|
ASSETS
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
CURRENT
ASSETS
|
|
|
|
|
|
|
|
Cash
and cash equivalents
|
|
$
|
74,638
|
|
$
|
13,746
|
|
Accounts
receivable, net
|
|
|
4,852,633
|
|
|
750,684
|
|
Prepaid
expenses and other current assets
|
|
|
398,046
|
|
|
925,358
|
|
Due
from a related party
|
|
|
-
|
|
|
64,031
|
|
Value
added tax recoverable
|
|
|
651,905
|
|
|
447,603
|
|
Total
Current Assets
|
|
|
5,977,222
|
|
|
2,201,422
|
|
|
|
|
|
|
|
|
|
PROPERTY
AND EQUIPMENT
|
|
|
|
|
|
|
|
Oil
and gas properties, net
|
|
|
40,345,008
|
|
|
22,858,367
|
|
Fixed
assets, net
|
|
|
885,474
|
|
|
754,052
|
|
Oil
and gas properties under construction
|
|
|
2,550,058
|
|
|
8,955,976
|
|
Total
Property and Equipment
|
|
|
43,780,540
|
|
|
32,568,395
|
|
|
|
|
|
|
|
|
|
LAND
USE RIGHTS, NET
|
|
|
45,076
|
|
|
52,669
|
|
|
|
|
|
|
|
|
|
TOTAL
ASSETS
|
|
$
|
49,802,838
|
|
$
|
34,822,486
|
|
|
|
|
|
|
|
|
|
LIABILITIES
AND STOCKHOLDERS' EQUITY
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
CURRENT
LIABILITIES
|
|
|
|
|
|
|
|
Accounts
payable
|
|
$
|
6,580,930
|
|
$
|
21,236,864
|
|
Other
payables and accrued liabilities
|
|
|
1,020,980
|
|
|
1,393,269
|
|
Due
to related parties
|
|
|
28,036
|
|
|
55,835
|
|
Notes
payable
|
|
|
273,444
|
|
|
128,062
|
|
Other
loans payable
|
|
|
-
|
|
|
25,612
|
|
Income
tax and other taxes payable
|
|
|
2,687,449
|
|
|
104,912
|
|
Due
to a stockholder
|
|
|
123,105
|
|
|
1,656,935
|
|
Total
Current Liabilities
|
|
|
10,713,944
|
|
|
24,601,489
|
|
|
|
|
|
|
|
|
|
LONG-TERM
LIABILITIES
|
|
|
|
|
|
|
|
Accounts
payable
|
|
|
15,467,661
|
|
|
-
|
|
Deferred
tax payable
|
|
|
543,100
|
|
|
202,752
|
|
Due
to a related party
|
|
|
3,118,085
|
|
|
4,255,441
|
|
Note
payable
|
|
|
-
|
|
|
256,125
|
|
Total
Long-term Liabilities
|
|
|
19,128,846
|
|
|
4,714,318
|
|
|
|
|
|
|
|
|
|
TOTAL
LIABILITIES
|
|
|
29,842,790
|
|
|
29,315,807
|
|
|
|
|
|
|
|
|
|
COMMITMENTS
AND CONTINGENCIES
|
|
|
-
|
|
|
-
|
|
|
|
|
|
|
|
|
|
MINORITY
INTERESTS
|
|
|
1,124,964
|
|
|
402,594
|
|
|
|
|
|
|
|
|
|
STOCKHOLDERS'
EQUITY
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Common
stock ($0.001 par value, 150,000,000 shares authorized, 19,224,080
shares
issued and outstanding as of December 31, 2007; 29,224,080 shares
issued
and outstanding as of December 31, 2006)
|
|
|
19,224
|
|
|
29,224
|
|
Additional
paid-in capital
|
|
|
11,361,579
|
|
|
3,953,601
|
|
Deferred
stock compensation
|
|
|
(27,125
|
)
|
|
(135,625
|
)
|
Retained
earnings
|
|
|
|
|
|
|
|
Unappropriated
|
|
|
5,200,907
|
|
|
696,955
|
|
Appropriated
|
|
|
916,263
|
|
|
287,634
|
|
Accumulated
other comprehensive income
|
|
|
1,364,236
|
|
|
272,296
|
|
Total
Stockholders' Equity
|
|
|
18,835,084
|
|
|
5,104,085
|
|
TOTAL
LIABILITIES AND STOCKHOLDERS' EQUITY
|
|
$
|
49,802,838
|
|
$
|
34,822,486
|
|
The
accompanying notes are an integral part of these financial
statements
CHINA
NORTH EAST PETROLEUM HOLDINGS LIMITED
AND
SUBSIDIARIES
CONSOLIDATED
STATEMENTS OF OPERATIONS AND
COMPREHENSIVE
INCOME
FOR
THE
YEARS ENDED DECEMBER 31, 2007 AND 2006
|
|
2007
|
|
2006
|
|
|
|
|
|
|
|
NET
SALES
|
|
$
|
19,482,069
|
|
$
|
5,321,905
|
|
|
|
|
|
|
|
|
|
COST
OF SALES
|
|
|
|
|
|
|
|
Production
costs
|
|
|
2,872,990
|
|
|
1,091,190
|
|
Depreciation
of oil and gas properties
|
|
|
3,562,265
|
|
|
1,067,335
|
|
Amortization
of intangible assets
|
|
|
10,711
|
|
|
4,368
|
|
Government
oil surcharge
|
|
|
2,857,376
|
|
|
560,584
|
|
Recovery
of deposit from a supplier previously written off
|
|
|
(361,366
|
)
|
|
-
|
|
Total
Cost of Sales
|
|
|
8,941,976
|
|
|
2,723,477
|
|
|
|
|
|
|
|
|
|
GROSS
PROFIT
|
|
|
10,540,093
|
|
|
2,598,428
|
|
|
|
|
|
|
|
|
|
OPERATING
EXPENSES
|
|
|
|
|
|
|
|
Selling,
general and administrative expenses
|
|
|
880,161
|
|
|
884,778
|
|
Professional
fees
|
|
|
186,214
|
|
|
164,577
|
|
Consulting
fees
|
|
|
108,500
|
|
|
81,375
|
|
Depreciation
of fixed assets
|
|
|
187,766
|
|
|
103,448
|
|
Gain
on disposal of fixed assets
|
|
|
(68,131
|
)
|
|
-
|
|
Total
Operating Expenses
|
|
|
1,294,510
|
|
|
1,234,178
|
|
|
|
|
|
|
|
|
|
INCOME
FROM OPERATIONS
|
|
|
9,245,583
|
|
|
1,364,250
|
|
|
|
|
|
|
|
|
|
OTHER
INCOME (EXPENSE)
|
|
|
|
|
|
|
|
Other
expense
|
|
|
(13,144
|
)
|
|
(33,930
|
)
|
Other
income
|
|
|
-
|
|
|
78,888
|
|
Interest
expense
|
|
|
(81,434
|
)
|
|
(55,775
|
)
|
Interest
expense on overdue payables
|
|
|
-
|
|
|
(61,814
|
)
|
Imputed
interest expense
|
|
|
(200,165
|
)
|
|
(349,393
|
)
|
Interest
income
|
|
|
1,760
|
|
|
883
|
|
Total
Other Expense, net
|
|
|
(292,983
|
)
|
|
(421,141
|
)
|
|
|
|
|
|
|
|
|
NET
INCOME BEFORE TAXES AND MINORITY INTERESTS
|
|
|
8,952,600
|
|
|
943,109
|
|
|
|
|
|
|
|
|
|
Income
tax (expense) benefits
|
|
|
(3,097,649
|
)
|
|
16,852
|
|
|
|
|
|
|
|
|
|
Minority
interests
|
|
|
(722,370
|
)
|
|
(7,566
|
)
|
|
|
|
|
|
|
|
|
NET
INCOME
|
|
|
5,132,581
|
|
|
952,395
|
|
|
|
|
|
|
|
|
|
OTHER
COMPREHENSIVE INCOME
|
|
|
|
|
|
|
|
Foreign
currency translation gain
|
|
|
1,091,940
|
|
|
325,859
|
|
|
|
|
|
|
|
|
|
COMPREHENSIVE
INCOME
|
|
$
|
6,224,521
|
|
$
|
1,278,254
|
|
|
|
|
|
|
|
|
|
Net
income per share-basic and diluted
|
|
$
|
0.21
|
|
$
|
0.03
|
|
|
|
|
|
|
|
|
|
Weighted
average number of shares outstanding during the year- basic and diluted
|
|
|
24,128,190
|
|
|
29,003,806
|
|
The
accompanying notes are an integral part of these financial
statement
CHINA
NORTH EAST PETROLEUM HOLDINGS LIMITED AND SUBSIDIARIES
CONSOLIDATED
STATEMENTS OF STOCKHOLDERS’ EQUITY
FOR
THE
YEARS ENDED DECEMBER 31, 2007 AND 2006
|
|
|
|
|
|
|
|
|
|
Unappropriated
|
|
|
|
|
|
|
|
|
|
Common stock
|
|
Additional
|
|
Deferred
|
|
retained
earnings
|
|
Appropriated
|
|
Accumulated
other
|
|
|
|
|
|
Number of
|
|
|
|
paid-in
|
|
stock
|
|
(Accumulated
|
|
retained
|
|
comprehensive
|
|
|
|
|
|
shares
|
|
Amount
|
|
capital
|
|
compensation
|
|
deficit)
|
|
earnings
|
|
income (loss)
|
|
Total
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance at
December 31, 2005 (business combination under common
control)
|
|
|
28,274,080
|
|
$
|
28,274
|
|
$
|
3,300,658
|
|
$
|
-
|
|
$
|
(110,390
|
)
|
$
|
142,584
|
|
$
|
(53,563
|
)
|
$
|
3,307,563
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Issuance
of common stock for services
|
|
|
250,000
|
|
|
250
|
|
|
87,250
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
87,500
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Issuance
of common stock for services
|
|
|
700,000
|
|
|
700
|
|
|
216,300
|
|
|
(135,625
|
)
|
|
-
|
|
|
-
|
|
|
-
|
|
|
81,375
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
income for the year
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
952,395
|
|
|
-
|
|
|
-
|
|
|
952,395
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Foreign
currency translation gain
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
325,859
|
|
|
325,859
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Comprehensive
income
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
1,278,254
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Imputed
interest expenses on advances from a stockholder and related
parties
|
|
|
-
|
|
|
-
|
|
|
349,393
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
349,393
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Transfer
from retained earnings to statutory and staff welfare
reserves
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
(145,050
|
)
|
|
145,050
|
|
|
-
|
|
|
-
|
|
Balance
at December 31, 2006
|
|
|
29,224,080
|
|
|
29,224
|
|
|
3,953,601
|
|
|
(135,625
|
)
|
|
696,955
|
|
|
287,634
|
|
|
272,296
|
|
|
5,104,085
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Amortization
of deferred stock compensation related to common stocks issued for
services
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
108,500
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
108,500
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Contribution
from a stockholder by waive of repayment of advance from the
stockholder
|
|
|
-
|
|
|
-
|
|
|
1,746,128
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
1,746,128
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Contribution
from a related party by waive of repayment of advance from the related
party
|
|
|
-
|
|
|
-
|
|
|
5,451,685
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
5,451,685
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Contribution
from a related party by cancellation of common stock previously issued
to
the related party
|
|
|
(10,000,000
|
)
|
|
(10,000
|
)
|
|
10,000
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net
income for the year
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
5,132,581
|
|
|
-
|
|
|
-
|
|
|
5,132,581
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Foreign
currency translation gain
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
1,091,940
|
|
|
1,091,940
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Comprehensive
income
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
6,224,521
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Imputed
interest expenses on advances from a stockholder and related
parties
|
|
|
-
|
|
|
-
|
|
|
200,165
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
200,165
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Transfer
from retained earnings to statutory and staff welfare
reserves
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
-
|
|
|
(628,629
|
)
|
|
628,629
|
|
|
-
|
|
|
-
|
|
Balance
at December 31, 2007
|
|
|
19,224,080
|
|
$
|
19,224
|
|
$
|
11,361,579
|
|
$
|
(27,125
|
)
|
$
|
5,200,907
|
|
$
|
916,263
|
|
$
|
1,364,236
|
|
$
|
18,835,084
|
|
The
accompanying notes are an integral part of these financial
statements
CHINA
NORTH EAST PETROLEUM HOLDINGS LIMITED
AND
SUBSIDIARIES
CONSOLIDATED
STATEMENTS OF CASH FLOWS
FOR
THE
YEARS ENDED DECEMBER 31, 2007 AND 2006
|
|
2007
|
|
2006
|
|
CASH
FLOWS FROM OPERATING ACTIVITIES
|
|
|
|
|
|
|
|
Net
income
|
|
$
|
5,132,581
|
|
$
|
952,395
|
|
Adjusted
to reconcile net income to cash provided by operating activities:
|
|
|
|
|
|
|
|
Depreciation
of oil and gas properties
|
|
|
3,562,265
|
|
|
1,067,335
|
|
Depreciation
of fixed assets
|
|
|
187,766
|
|
|
103,448
|
|
Amortization
of intangible assets
|
|
|
10,711
|
|
|
4,368
|
|
Minority
interests
|
|
|
722,370
|
|
|
7,566
|
|
Stocks
issued for services
|
|
|
108,500
|
|
|
109,148
|
|
Imputed
interest expense
|
|
|
200,165
|
|
|
349,393
|
|
Gain
on disposal of fixed assets
|
|
|
(68,131
|
)
|
|
-
|
|
Changes
in operating assets and liabilities
|
|
|
|
|
|
|
|
(Increase)
decrease in:
|
|
|
|
|
|
|
|
Accounts
receivable
|
|
|
(4,101,949
|
)
|
|
(285,527
|
)
|
Prepaid
expenses and other current assets
|
|
|
527,312
|
|
|
231,213
|
|
Due
from related parties
|
|
|
64,031
|
|
|
484,983
|
|
Value
added tax recoverable
|
|
|
(204,302
|
)
|
|
(378,375
|
)
|
Increase
(decrease) in:
|
|
|
|
|
|
|
|
Accounts
payable
|
|
|
811,727
|
|
|
13,876,620
|
|
Other
payables and accrued liabilities
|
|
|
(372,289
|
)
|
|
333,218
|
|
Income
tax and other taxes payable
|
|
|
2,582,537
|
|
|
(530,284
|
)
|
Deferred
tax payable
|
|
|
340,348
|
|
|
(33,967
|
)
|
Net
cash provided by operating activities
|
|
|
9,503,642
|
|
|
16,291,534
|
|
CASH
FLOWS FROM INVESTING ACTIVITIES
|
|
|
|
|
|
|
|
Purchase
of oil and gas properties
|
|
|
(9,699,958
|
)
|
|
(9,814,502
|
)
|
Purchase
of fixed assets
|
|
|
(352,219
|
)
|
|
(410,846
|
)
|
Additions
to oil and gas properties under construction
|
|
|
(2,448,587
|
)
|
|
(8,955,976
|
)
|
Proceeds
from the disposal of fixed assets
|
|
|
166,728
|
|
|
-
|
|
Net
cash used in investing activities
|
|
|
(12,334,036
|
)
|
|
(19,181,324
|
)
|
CASH
FLOWS FROM FINANCING ACTIVITIES
|
|
|
|
|
|
|
|
Proceeds
from the issuance of notes payable
|
|
|
-
|
|
|
12,440
|
|
Repayment
of note payable
|
|
|
(110,743
|
)
|
|
-
|
|
Decrease
in other loans payable
|
|
|
(25,612
|
)
|
|
(17,759
|
)
|
Increase
in amount due to a stockholder
|
|
|
212,298
|
|
|
550,572
|
|
Increase
in amounts due to related parties
|
|
|
4,286,530
|
|
|
2,079,717
|
|
Net
cash provided by financing activities
|
|
|
4,362,473
|
|
|
2,624,970
|
|
EFFECT
OF EXCHANGE RATE ON CASH
|
|
|
(1,471,187
|
)
|
|
(354,741
|
)
|
NET
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
|
|
|
60,892
|
|
|
(619,561
|
)
|
CASH
AND CASH EQUIVALENTS AT BEGINNING OF YEAR
|
|
|
13,746
|
|
|
633,307
|
|
CASH
AND CASH EQUIVALENTS AT END OF YEAR
|
|
$
|
74,638
|
|
$
|
13,746
|
|
SUPPLEMENTAL
DISCLOSURE OF CASH FLOW INFORMATION:
|
|
|
|
|
|
|
|
Cash
paid during the year for:
|
|
|
|
|
|
|
|
Income
tax expenses
|
|
$
|
1,681,005
|
|
$
|
552,794
|
|
Interest
expenses
|
|
$
|
81,434
|
|
$
|
117,589
|
|
The
accompanying notes are an integral part of these financial
statements
CHINA
NORTH EAST PETROLEUM HOLDINGS LIMITED
AND
SUBSIDIARIES
NOTES
TO
THE CONSOLIDATED FINANCIAL STATEMENTS
AS
OF
DECEMBER 31, 2007 AND 2006
1.
|
SUMMARY
OF SIGNIFICANT ACCOUNTING POLICIES AND ORGANIZATION
|
China
North East Petroleum Holdings Limited (“North East Petroleum”) is a US listed
company which was incorporated in Nevada on August 20, 1999 under the name
of
Draco Holding Corporation (“Draco”).
Hong
Xiang Petroleum Group Limited ("Hong Xiang Petroleum Group") was incorporated
in
the British Virgin Islands (“BVI”) on August 28, 2003 as an investment holding
company.
On
December 5, 2003, Song Yuan City Hong Xiang Petroleum Technical Services Co.,
Ltd. (“Hong Xiang Technical”) was incorporated in the People’s Republic of China
(“PRC”) which provided technical advisory services to oil and gas exploration
companies in the PRC.
During
2004, Hong Xiang Petroleum Group acquired a 100% ownership of Hong Xiang
Technical.
During
2004, Hong Xiang Technical acquired a 100% interest in Song Yuan City Yu Qiao
Qianan Hong Xiang Oil and Gas Development Co., Ltd. (“Hong Xiang Oil
Development”) which is engaged in the exploration and production of crude oil in
the Jilin Oil Region, of the PRC.
During
2004, Draco executed a Plan of Exchange to acquire 100% of Hong Xiang Petroleum
Group.
On
July
26, 2006, the Company entered into a Joint Venture Agreement (the “JV
Agreement”) with a principal stockholder and a related party, hereafter referred
to as the “Related Parties,” to acquire oil and gas properties for the
exploration of crude oil in the PRC. Pursuant to the JV Agreement, the Company
and the Related Parties are obligated to contribute $1 million and $121,000,
respectively, to the registered capital of Song Yuan North East Petroleum
Technical Service Co., Ltd. (“Song Yuan Technical”), and the Company and the
Related Parties will each share 90% and 10% respectively of the equity and
profit interests of Song Yuan Technical.
On
June
1, 2005, Song Yuan Technical acquired from third parties 100% equity interest
of
LongDe Oil & Gas Development Co. Ltd. (“LongDe”) at a consideration of
$120,773 in cash. LongDe is engaged in the exploration and production of crude
oil in the Jilin Oil Region, of the PRC.
On
January 26, 2007, Song Yuan Technical acquired 100% of the equity interest
of Yu
Qiao for 10,000,000 shares of the Company’s common stock having a fair value of
$3,100,000 based on the preceding 30-day average of the high bid and the low
ask
price for the Company’s common stock as quoted on the Over-the-Counter Bulletin
Board as of the date of the closing of the transaction. Prior to this
transaction, Yu Qiao was owned 70% by a related party of the Company and 30%
by
third parties held on behalf of the related party.
Yu
Qiao
was incorporated in Song Yuan City, Jinlin Province, PRC on May 24, 2002 as
a
limited liability company. Yu Qiao is engaged in the extraction and production
of crude oil in Jilin Province, PRC and operates 3 oilfields with a total
exploration area of 39.2 square kilometers. Pursuant to a 20-year exclusive
Cooperative Exploration Contract (the “Oil Lease”) which was entered into on May
28, 2002 with PetroChina Group, a corporation organized and existing under
the
laws of PRC (“PetroChina”), the Company has the right to explore, develop and
extract oil at Qian’an 112, Da 34 and Gu 31 area. Pursuant to the Oil Lease,
PetroChina is entitled to 20% of the Company’s oil production for the first ten
years of the Oil Lease term and 40% of the Company’s oil production for the
remaining ten years of the Oil Lease term. On May 28, 2002, the Company also
executed an Agreement of leasing 20.7 square kilometers of Qian’an 112 area to
Hong Xiang Oil Development and the Company is entitled to 2% of total sales
revenue as consideration. This agreement was cancelled upon the dissolution
of
Hong Xiang Oil Development.
The
acquisition of Yu Qiao was accounted for as a reorganization of entities under
common control. Accordingly, the operations of Yu Qiao for the years ended
December 31, 2007 and 2006 were included in the consolidated financial
statements as if the transactions had occurred retroactively.
In
March
2007, the Company approved the dissolution of its wholly owned subsidiaries,
Hong Xiang Technical and Hong Xiang Oil Development.
CHINA
NORTH EAST PETROLEUM HOLDINGS LIMITED
AND
SUBSIDIARIES
NOTES
TO
THE CONSOLIDATED FINANCIAL STATEMENTS
AS
OF
DECEMBER 31, 2007 AND 2006
1.
|
SUMMARY
OF SIGNIFICANT ACCOUNTING POLICIES AND ORGANIZATION
(CONTINUED)
|
|
(B)
|
Principles
of consolidation
|
The
accompanying consolidated financial statements for 2007 include the financial
statements of North East Petroleum and its wholly owned subsidiary, Hong Xiang
Petroleum Group and 90% equity interest owned subsidiaries, Song Yuan Technical,
LongDe and Yu Qiao (collectively, “the Company”). The minority interests
represent the minority shareholders’ 10% share of the results of Song Yuan
Technical, LongDe and Yu Qiao.
The
accompanying consolidated financial statements for 2006 include the financial
statements of North East Petroleum and its wholly owned subsidiaries, Hong
Xiang
Petroleum Group, Hong Xiang Petroleum Technical and Hong Xiang Oil Development
Co., Ltd. and 90% equity interest owned subsidiaries, Song Yuan Technical,
LongDe and Yu Qiao. The minority interests represent the minority shareholders’
10% share of the results of Song Yuan Technical, LongDe and Yu Qiao.
All
significant inter-company accounts and transactions have been eliminated in
consolidation.
The
preparation of the financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions
that
affect the reported amount of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates. The most significant
assumptions are for estimated reserves of oil and gas. Oil and gas reserve
estimates are developed from information provided by the Company to Ralph E.
Davis Associates, Inc. of Houston, Texas for the years ended December 31, 2007
and 2006, respectively. In 2007, management’s estimate of its proved reserves
was revised upward from 2,242,194 to about 2,468,824 barrels of oil. The
estimates were made using performance methods that utilize extrapolations of
various historical data including, but not limited to oil, gas and water
production. For the undeveloped reserves, estimates were made using analogy
to
wells within each respective field and reservoir. While reserves are not
reflected on the Company’s Consolidated Balance Sheets, the revision in estimate
has affected the depreciation expense associated with its oil and gas properties
which is calculated on the basis of proved reserves. The change was accounted
for as a revision in an estimate, and the effect was to decrease the net income
by approximately $1,766,000.
|
(D)
|
Cash
and cash equivalents
|
For
purpose of the statements of cash flows, cash and cash equivalents include
cash
on hand and demand deposits with a bank with a maturity of less than three
months.
The
Company extends unsecured credit to its customers in the ordinary course of
business but mitigates the associated risks by performing credit checks and
actively pursuing past due accounts. An allowance for doubtful accounts is
established and recorded based on managements’ assessment of the credit history
with the customer and current relationships with them.
As
of
December 31, 2007 and 2006, the Company considers all its accounts receivable
to
be collectible and no provision for doubtful accounts has been made in the
financial statements.
|
(F)
|
Oil
and gas properties
|
The
Company follows the full cost method of accounting for oil and gas properties.
Accordingly, all costs associated with the acquisition of development rights,
and the development of oil reserves, including direct related overhead costs,
are capitalized.
Depreciation,
depletion and amortization of capitalized costs, excluding unproved properties,
are based on the unit-of-production methods based on proved reserves.
Investments in unproved properties and major development projects are not
amortized until proved reserves associated with the projects can be determined
or until impairment occurs. If the results of an assessment indicate that the
properties are impaired, the amount of the impairment is added to the
capitalized costs to be amortized.
CHINA
NORTH EAST PETROLEUM HOLDINGS LIMITED
AND
SUBSIDIARIES
NOTES
TO
THE CONSOLIDATED FINANCIAL STATEMENTS
AS
OF
DECEMBER 31, 2007 AND 2006
1.
|
SUMMARY
OF SIGNIFICANT ACCOUNTING POLICIES AND ORGANIZATION
(CONTINUED)
|
|
(F)
|
Oil
and gas properties (Continued)
|
In
addition, the capitalized costs are subject to a “ceiling test”, which basically
limits such costs to the aggregate of the “estimated present value”, discounted
at a 10-percent interest rate of future net revenues from proved reserves,
based
on current economic and operating conditions, plus the lower of cost or fair
market value of unproved properties.
Sales
of
portion of development rights and other proved and unproved properties are
accounted for as adjustments to capitalized costs with no gain or loss
recognized, unless such adjustments would significantly alter the relationship
between capitalized costs and proved reserves of oil and gas, in which case
the
gain or loss is recognized as income.
Abandonment
of oil and gas properties other than the development rights are accounted for
as
adjustments of capitalized costs with no loss recognized.
Fixed
assets are stated at cost, less accumulated depreciation. Expenditures for
additions, major renewals and betterments are capitalized and expenditures
for
maintenance and repairs are charged to expense as incurred.
Depreciation
is provided on a straight-line basis, less estimated residual values over the
assets’ estimated useful lives. The estimated useful lives are as
follows:
Buildings
|
20
Years
|
|
|
Furniture,
fixtures and equipment
|
5
Years
|
|
|
Motor
vehicles
|
5
Years
|
Land
use
rights are stated at cost, less accumulated amortization and are amortized
over
the term of the relevant rights of 6 years from the date of
acquisition.
The
Company accounts for long-lived assets under the Statements of Financial
Accounting Standards (“SFAS”) Nos. 142 and 144 “Accounting for Goodwill and
Other Intangible Assets” and “Accounting for Impairment or Disposal of
Long-Lived Assets” (“SFAS No. 142 and 144”). In accordance with SFAS No. 142 and
144, long-lived assets held and used by the Company are reviewed for impairment
annually in the fourth quarter or more frequently if events or changes in
circumstances indicate that the carrying amount of an asset may not be
recoverable. For purposes of evaluating the recoverability of long-lived assets,
when undiscounted future cash flows will not be sufficient to recover an asset’s
carrying amount, the asset is written down to its fair value. The long-lived
assets of the Company, which are subject to evaluation, consist primarily of
oil
and gas properties. For the years ended December 31, 2007 and 2006, the Company
has not recognized any allowances for impairment.
|
(I)
|
Fair
value of financial instruments
|
SFAS
No.
107, "Disclosure About Fair Value of Financial Instruments," requires certain
disclosures regarding the fair value of financial instruments. Fair value of
financial instruments is made at a specific point in time, based on relevant
information about financial markets and specific financial instruments. As
these
estimates are subjective in nature, involving uncertainties and matters of
significant judgment, they cannot be determined with precision. Changes in
assumptions can significantly affect estimated fair values.
The
carrying value of cash and cash equivalents, accounts receivable (trade and
others), accounts payable (trade and related party), accrued liabilities, notes
payable and other loans payable approximate their fair values because of the
short-term nature of these instruments. The management of the Company is of
the
opinion that the Company is not exposed to significant interest or credit risks
arising from these financial instruments.
CHINA
NORTH EAST PETROLEUM HOLDINGS LIMITED
AND
SUBSIDIARIES
NOTES
TO
THE CONSOLIDATED FINANCIAL STATEMENTS
AS
OF
DECEMBER 31, 2007 AND 2006
1.
|
SUMMARY
OF SIGNIFICANT ACCOUNTING POLICIES AND ORGANIZATION
(CONTINUED)
|
|
(I)
|
Fair
value of financial instruments (Continued)
|
The
Company’s major operation is in the PRC, which may give rise to significant
foreign currency risks from fluctuations and the degree of volatility of foreign
exchange rates between the United States dollars (“US$”) and the Chinese
Renminbi (“RMB”). On July 21, 2005, the PRC allowed the RMB to fluctuate ending
its decade-old valuation peg to the US$. The new RMB rate reflects an
approximately 2% increase in value against the US$. Historically, the PRC
government has benchmarked the RMB exchange ratio against the US$, thereby
mitigating the associated foreign currency exchange rate fluctuation risk.
The
Company does not believe that its foreign currency exchange rate fluctuation
risk is significant, especially if the PRC government continues to benchmark
the
RMB against the US$.
The
Company recognizes revenue upon the delivery of its share of crude oil extracted
to its sole customer, PetroChina at which time title is passed; there are no
uncertainties regarding customer acceptance; persuasive evidence of an
arrangement exists; the sales price is fixed and determinable; and
collectability is deemed probable.
Pursuant
to the Oil Lease entered into on May 28, 2002 with PetroChina Group, the Company
is entitled to 80% of the Company’s oil production for the first ten years to
2012 and 60% of the Company’s oil production for the remaining ten years to
2022.
The
Company accounts for income taxes under the SFAS No. 109, “Accounting for Income
Taxes” (“SFAS 109”). Under SFAS 109, deferred tax assets and liabilities are
recognized for the future tax consequences attributable to differences between
the financial statement carrying amounts of existing assets and liabilities
and
their respective tax bases. Deferred tax assets and liabilities are measured
using enacted tax rates expected to apply to taxable income in the years in
which those temporary differences are expected to be recovered or settled.
Under
SFAS 109, the effect on deferred tax assets and liabilities of a change in
tax
rates is recognized in income in the period that included the enactment
date.
|
(L)
|
Foreign
currency translation
|
Except
for North East Petroleum and Hong Xiang Petroleum Group, which maintain their
accounting records in their functional currency in US$, all other subsidiaries
of the Company maintain their accounting records in their functional currency
in
RMB.
Foreign
currency transactions during the year are translated to their functional
currencies at the approximate rates of exchange on the dates of transactions.
Monetary assets and liabilities denominated in foreign currencies at the balance
sheet date are translated at the approximate rates of exchange at that date.
No-monetary assets and liabilities are translated at the rates of exchange
prevailing at the time the asset or liability was acquired. Exchange gains
or
losses are recorded in the statement of operations.
The
financial statements of the subsidiaries whose functional currencies are RMB
are
translated into US$ using the closing rate method. The balance sheet items
are
translated into US$ using the exchange rates at the respective balance sheet
dates. The capital and various reserves are translated at historical exchange
rates prevailing at the time of the transactions while income and expenses
items
are translated at the average exchange rate for the year. All exchange
differences are recorded as a component of accumulated other comprehensive
income within equity. Translation gain for
the
years ended December 31, 2007 and 2006 was $1,091,940
and $325,859 respectively.
The
foreign currency translation gain or loss resulting from the translation of
the
financial statements expressed in RMB to US$ is reported as other comprehensive
income in the statements of operations and stockholders’ equity. Other
comprehensive income for the years ended December 31, 2007 and 2006 was
$1,091,940
and $325,859 respectively.
CHINA
NORTH EAST PETROLEUM HOLDINGS LIMITED
AND
SUBSIDIARIES
NOTES
TO
THE CONSOLIDATED FINANCIAL STATEMENTS
AS
OF
DECEMBER 31, 2007 AND 2006
1.
|
SUMMARY
OF SIGNIFICANT ACCOUNTING POLICIES AND ORGANIZATION
(CONTINUED)
|
Basic
earnings per share are computed by dividing income available to common
stockholders by the weighted average number of common stocks outstanding during
the year. Diluted income per share is computed similar to basic income per
share
except that the denominator is increased to include the number of additional
common stocks that would have been outstanding if the potential common stocks
had been issued and if the additional common stocks were diluted. There were
no
potentially dilutive securities for 2007 and 2006.
The
Company operates in only one segment. Thereafter segment disclosure is not
presented.
The
PRC
has adopted extensive environmental laws and regulations that affect the
operations of the oil and gas industry. The outcome of environmental liabilities
under proposed or future environmental legislation cannot be reasonably
estimated at present, and could be material. Under existing legislation,
however, the management believes that there are no probable liabilities that
will have a material adverse effect on the financial position of the Company.
Hence no reserves have been set up for environmental costs.
|
(Q)
|
Asset
retirement obligations
|
The
Company adopts the provisions of SFAS No. 143, Accounting for Asset Retirement
Obligations. This Statement generally applies to legal obligations associated
with the retirement of long-lived assets that result from the acquisition,
construction, development and/or the normal operation of a long-lived asset.
SFAS No. 143 requires the Company to recognize the fair value of asset
retirement obligations in the financial statements by capitalizing that cost
as
a part of the cost of the related asset. With regard to the Company, asset
retirement obligations primarily relate to the abandonment of oil producing
facilities. The Company did not incur and does not anticipate to incur any
material dismantlement, restoration and abandonment costs given the nature
of
its producing activities and the current PRC regulations surrounding such
activities.
|
(R)
|
Recent
accounting pronouncements
|
In
September 2006, the FASB issued SFAS No.157, Fair Value Measurements (“SFAS
157”), which addresses how companies should measure fair value when they are
required to use a fair value measure for recognition or disclosure purposes
under accounting principles generally accepted in the United States. SFAS No.
157 is effective for fiscal years beginning after November 15, 2007. In February
2008, the FASB issued FASB Staff Position No. 157-2 of which the effective
date
delays the effective date of SFAS 157 for certain non-financial assets and
non-financial liabilities to fiscal years beginning after November 15, 2008.
The
Company is currently evaluating the impact of the adoption of SFAS No. 157
on
its consolidated financial statements, but believes that it will not have a
material impact on the Company’s financial position.
In
February 2007, the FASB issued SFAS No. 159 (“SFAS 159”) The Fair Value Option
for Financial Assets and Financial Liabilities, providing companies with an
option to report selected financial assets and liabilities at fair value. This
Standard’s objective is to reduce both complexity in accounting for financial
instruments and the volatility in earnings caused by measuring related assets
and liabilities differently. Generally accepted accounting principles have
required different measurement attributes for different assets and liabilities
that can create artificial volatility in earnings. SFAS 159 helps to mitigate
this type of accounting-induced volatility by enabling companies to report
related assets and liabilities at fair value, which would likely reduce the
need
for companies to comply with detailed rules for hedge accounting. SFAS 159
also
establishes presentation and disclosure requirements designed to facilitate
comparisons between companies that choose different measurement attributes
for
similar types of assets and liabilities. This Standard requires companies to
provide additional information that will help investors and other users of
financial statements to more easily understand the effect of
the
CHINA
NORTH EAST PETROLEUM HOLDINGS LIMITED
AND
SUBSIDIARIES
NOTES
TO
THE CONSOLIDATED FINANCIAL STATEMENTS
AS
OF
DECEMBER 31, 2007 AND 2006
1.
|
SUMMARY
OF SIGNIFICANT ACCOUNTING POLICIES AND ORGANIZATION
(CONTINUED)
|
|
(R)
|
Recent
accounting pronouncements (Continued)
|
Company’s
choice to use fair value on its earnings. It also requires entities to display
the fair value of those assets and liabilities for which the Company has chosen
to use fair value on the face of the balance sheet. SFAS 159 is effective for
fiscal years beginning after November 15, 2007. The adoption of SFAS 159 did
not
have a material impact on the Company’s financial statements.
In
June
2007, the Emerging Issues Task Force (Task Force) of the FASB reached a
consensus on Issue No. 07-3 (“EITF 07-3”), Accounting for Nonrefundable Advance
Payments for Goods or Services to Be Used in Future Research and Development
Activities . Under EITF 07-3, nonrefundable advance payments for goods or
services that will be used or rendered for research and development activities
should be deferred and capitalized. Such payments should be recognized as an
expense as the goods are delivered or the related services are performed, not
when the advance payment is made. If a company does not expect the goods to
be
delivered or services to be rendered, the capitalized advance payment should
be
charged to expense. EITF 07-3 is effective for new contracts entered into in
fiscal years beginning after December 15, 2007, and interim periods within
those
fiscal years. Earlier application is not permitted. The Company is currently
evaluating the impact of the adoption of EITF 07-3 on its consolidated financial
statements, but believes that it will not have a material impact on the
Company’s financial position.
In
its
December 2007 meeting, the FASB ratified the consensus reached by the Emerging
Issues Task Force (EITF or Task Force) in Issue No. 07-1 (“EITF 07-1”),
Accounting for Collaborative Arrangements . The scope of EITF 07-1 is limited
to
collaborative arrangements where no separate legal entity exists and in which
the parties are active participants and are exposed to significant risks and
rewards that depend on the success of the activity. The Task Force concluded
that revenue transactions with third parties and associated costs incurred
should be reported in the appropriate line item in each company’s financial
statements pursuant to the guidance in EITF 99-19, Reporting Revenue Gross
as a
Principal versus Net as an Agent . The Task Force also concluded that the equity
method of accounting under Accounting Principles Board Opinion 18, The Equity
Method of Accounting for Investments in Common Stock , should not be applied
to
arrangements that are not conducted through a separate legal entity. The Task
Force also concluded that the income statement classification of payments made
between the parties in an arrangement should be based on a consideration of
the
following factors: the nature and terms of the arrangement; the nature of the
entities’ operations; and whether the partners’ payments are within the scope of
existing GAAP. To the extent such costs are not within the scope of other
authoritative accounting literature, the income statement characterization
for
the payments should be based on an analogy to authoritative accounting
literature or a reasonable, rational, and consistently applied accounting policy
election. The provisions of EITF 07-1 are effective for fiscal years beginning
on or after December 15, 2008, and companies will be required to apply the
provisions through retrospective application to all collaborative arrangements
exiting at adoption as a change in accounting principle. If it impracticable
to
apply the consensus to a specific arrangement, disclosure is required regarding
the reason why retrospective application is not practicable and the effect
of
reclassification on the current period. The Company is currently evaluating
the
impact of the adoption of EITF 07-1 on its consolidated financial statements,
but believes that it will not have a material impact on the Company’s financial
position.
In
December 2007, the FASB issued SFAS No. 141(R), “Business Combinations” (“SFAS
141(R)”), which replaces SFAS No. 141. SFAS No. 141(R) establishes principles
and requirements for how an acquirer recognizes and measures in its financial
statements the identifiable assets acquired, the liabilities assumed, any
non-controlling interest in the acquiree and the goodwill acquired. The
Statement also establishes disclosure requirements which will enable users
to
evaluate the nature and financial effects of the business combination. SFAS
141(R) is effective for fiscal years beginning after December 15, 2008. The
adoption of SFAS 141(R) will have an impact on accounting for business
combinations once adopted, but the effect is dependent upon acquisitions at
that
time.
CHINA
NORTH EAST PETROLEUM HOLDINGS LIMITED
AND
SUBSIDIARIES
NOTES
TO
THE CONSOLIDATED FINANCIAL STATEMENTS
AS
OF
DECEMBER 31, 2007 AND 2006
1.
|
SUMMARY
OF SIGNIFICANT ACCOUNTING POLICIES AND ORGANIZATION
(CONTINUED)
|
|
(R)
|
Recent
accounting pronouncements (Continued)
|
In
December 2007, the Financial Accounting Standards Board (FASB) issued SFAS
No.
160, “Noncontrolling
Interests in Consolidated Financial Statements - an amendment of ARB No.
51”.
This
statement improves the relevance, comparability, and transparency of the
financial information that a reporting entity provides in its consolidated
financial statements by establishing accounting and reporting standards that
require; the ownership interests in subsidiaries held by parties other than
the
parent and the amount of consolidated net income attributable to the parent
and
to the noncontrolling interest be clearly identified and presented on the face
of the consolidated statement of income, changes in a parent’s ownership
interest while the parent retains its controlling financial interest in its
subsidiary be accounted for consistently, when a subsidiary is deconsolidated,
any retained noncontrolling equity investment in the former subsidiary be
initially measured at fair value, entities provide sufficient disclosures that
clearly identify and distinguish between the interests of the parent and the
interests of the noncontrolling owners. SFAS No. 160 affects those entities
that
have an outstanding noncontrolling interest in one or more subsidiaries or
that
deconsolidate a subsidiary. SFAS No. 160 is effective for fiscal years, and
interim periods within those fiscal years, beginning on or after December 15,
2008. Early adoption is prohibited. The adoption of this statement is not
expected to have a material effect on the Company's financial
statements.
2.
|
BUSINESS
COMBINATIONS BETWEEN ENTITIES UNDER COMMON CONTROL
|
On
January 26, 2007, Song Yuan Technical acquired 100% of the equity interest
of Yu
Qiao for 10,000,000 shares of the Company’s common stock having a fair value of
$3,100,000 based on the preceding 30-day average of the high bid and the low
ask
price for the Company’s common stock as quoted on the Over-the-Counter Bulletin
Board as of the date of the closing of the transaction. Prior to this
transaction, Yu Qiao was owned 70% by a related party and 30% by third parties
held on behalf of the related party. As of January 26, 2007, Yu Qiao has become
a 90% owned subsidiary of the Company.
This
transaction was accounted for as a reorganization of entities under common
control. Accordingly, the operations of Yu Qiao for the years ended December
31,
2007 and 2006 were included in the consolidated financial statements as if
the
transactions had occurred at the beginning of the first period presented, each
account stated at its historical cost. In this regard, the prior year’s
financial statements and financial information have been amended to combine
the
previously separate entities to furnish comparative information. The results
of
this change in presentation were to increase the total assets, total liabilities
and additional paid-in capital as of December 31, 2006 by $18,453,923,
$15,638,857 and $1,949,583 respectively, and to increase the net income for
the
year ended December 31, 2006 by $26,782. (Note 19)
3.
|
ACCOUNTS
RECEIVABLE, NET
|
Accounts
receivable at December 31, 2007 and 2006 consisted of the following:
|
|
2007
|
|
2006
|
|
|
|
|
|
|
|
Accounts
receivable from PetroChina
|
|
$
|
4,852,633
|
|
$
|
750,684
|
|
Less:
allowance for doubtful accounts
|
|
|
-
|
|
|
-
|
|
Accounts
receivable, net
|
|
$
|
4,852,633
|
|
$
|
750,684
|
|
As
of
December 31, 2007 and 2006, the Company considered all accounts receivable
collectable and has not recorded a provision for doubtful
accounts.
CHINA
NORTH EAST PETROLEUM HOLDINGS LIMITED
AND
SUBSIDIARIES
NOTES
TO
THE CONSOLIDATED FINANCIAL STATEMENTS
AS
OF
DECEMBER 31, 2007 AND 2006
4.
|
PREPAID
EXPENSES AND OTHER CURRENT ASSETS
|
Prepaid
expenses and other current assets at December 31, 2007 and 2006 consist of
the
following:
|
|
2007
|
|
2006
|
|
|
|
|
|
|
|
Prepaid
expenses
|
|
$
|
150,973
|
|
$
|
223,551
|
|
Deposits
paid to suppliers
|
|
|
183,562
|
|
|
627,171
|
|
Other
receivables
|
|
|
63,511
|
|
|
74,636
|
|
|
|
$
|
398,046
|
|
$
|
925,358
|
|
5.
|
OIL
AND GAS PROPERTIES
|
The
following is a summary of oil and gas properties at December 31, 2007 and 2006:
|
|
2007
|
|
2006
|
|
|
|
|
|
|
|
Oil
and gas properties, proven reserves
|
|
$
|
47,594,281
|
|
$
|
26,172,718
|
|
Intangible
mining right
|
|
|
13,445
|
|
|
13,445
|
|
Less:
accumulated depreciation
|
|
|
(7,262,718
|
) |
|
(3,327,796
|
)
|
Oil
and gas properties, net
|
|
$
|
40,345,008
|
|
$
|
22,858,367
|
|
Depreciation
expense for the years ended December 31, 2007 and 2006 was $3,562,265 and
$1,067,335 respectively.
The
following is a summary of fixed assets at December 31, 2007 and 2006:
|
|
2007
|
|
2006
|
|
|
|
|
|
|
|
Buildings
|
|
$
|
308,067
|
|
$
|
249,512
|
|
Furniture,
fixtures and equipment
|
|
|
197,171
|
|
|
158,959
|
|
Motor
vehicles
|
|
|
798,613
|
|
|
588,838
|
|
|
|
|
1,303,851
|
|
|
997,309
|
|
Less:
accumulated depreciation
|
|
|
(418,377
|
)
|
|
(243,257
|
)
|
Fixed
assets, net
|
|
$
|
885,474
|
|
$
|
754,052
|
|
Depreciation
expense for the years ended December 31, 2007 and 2006 was $187,766 and $103,448
respectively.
CHINA
NORTH EAST PETROLEUM HOLDINGS LIMITED
AND
SUBSIDIARIES
NOTES
TO
THE CONSOLIDATED FINANCIAL STATEMENTS
AS
OF
DECEMBER 31, 2007 AND 2006
The
following is a summary of land use rights at December 31:
|
|
2007
|
|
2006
|
|
|
|
|
|
|
|
Land
use rights
|
|
$
|
66,927
|
|
$
|
62,688
|
|
Less:
accumulated amortization
|
|
|
(21,851
|
)
|
|
(10,019
|
)
|
Land
use rights, net
|
|
$
|
45,076
|
|
$
|
52,669
|
|
The
land
use rights are amortized over six years of the term of the leases. The
amortization expense for the years ended December 31, 2007 and 2006 was $10,711
and $4,368 respectively.
During
the year, the Company negotiated new payment terms with its primary drilling
company that enabled the Company to pay the drilling expenses for each well
over
24 months commencing from the completion of the well. Accordingly, $15,467,661
was re-classified as long-term liabilities as of December 31, 2007.
9.
|
OTHER
PAYABLES AND ACCRUED LIABILITIES
|
Other
payables and accrued liabilities at December 31, 2007 and 2006 consist of the
following:
|
|
2007
|
|
2006
|
|
|
|
|
|
|
|
Other
payables
|
|
$
|
662,941
|
|
$
|
892,004
|
|
Accrued
professional fees
|
|
|
154,869
|
|
|
152,204
|
|
Other
accrued liabilities
|
|
|
203,170
|
|
|
349,061
|
|
|
|
$
|
1,020,980
|
|
$
|
1,393,269
|
|
Notes
payable at December 31, 2007 and 2006 consist of the following:
|
|
2007
|
|
2006
|
|
|
|
|
|
|
|
Note
payable to a bank, interest rate of 10.60% per annum, guaranteed
by a
subsidiary, due June 2007
|
|
$
|
-
|
|
$
|
128,062
|
|
|
|
|
|
|
|
|
|
Note
payable to a bank, interest rate of 11.16% per annum, secured by
a
property owned by a stockholder, due July 2008
|
|
|
273,444
|
|
|
256,125
|
|
|
|
|
273,444
|
|
|
384,187
|
|
Less:
current maturities
|
|
|
273,444
|
|
|
128,062
|
|
Long-term
portion
|
|
$
|
-
|
|
$
|
256,125
|
|
Interest
expense paid for the years ended December 31, 2007 and 2006 was $81,434 and
$43,541 respectively.
CHINA
NORTH EAST PETROLEUM HOLDINGS LIMITED
AND
SUBSIDIARIES
NOTES
TO
THE CONSOLIDATED FINANCIAL STATEMENTS
AS
OF
DECEMBER 31, 2007 AND 2006
As
of
December 31, 2006, the Company has two outstanding short-term loans in the
amount of $12,806 and $12,806, which were borrowed from third parties in October
2005 without fixed repayment terms. Interest is charged at 36% per
annum.
Interest
expense paid for the years ended December 31, 2007 and 2006 was $0 and $11,883
respectively.
12.
|
COMMITMENTS
AND CONTINGENCIES
|
The
full
time employees of LongDe and Yu Qiao are entitled to employee benefits including
medical care, welfare subsidies, unemployment insurance and pension benefits
through a Chinese government mandated multi-employer defined contribution plan.
The Company is required to accrue for those benefits based on certain
percentages of the employees’ salaries and make contributions to the plans out
of the amounts accrued for medical and pension benefits. The total provision
and
contributions made for such employee benefits for the years ended December
31,
2007 and 2006 was $92,835 and $54,175 respectively. The Chinese government
is
responsible for the medical benefits and the pension liability to be paid to
these employees.
The
Company leases office spaces from a stockholder, land and office spaces from
third parties under six operating leases which expire on September 20, 2023,
June 30, 2015, April 10, 2010, November 14, 2008, June 1, 2008 and June 1,
2008
at annual rental of $171, $13,125, $8,340, $10,254, $3,281 and $1,340
respectively.
As
at
December 31, 2007, the Company has outstanding commitments with respect to
the
above operating leases, which are due as follows:
2008
|
|
$
|
32,961
|
|
2009
|
|
|
21,636
|
|
2010
|
|
|
15,381
|
|
2011
|
|
|
13,296
|
|
Thereafter
|
|
|
47,947
|
|
|
|
$
|
131,221
|
|
According
to the amended Articles of Association of Song Yuan Technical, the Company
has
to fulfill registered capital contribution of $1 million. As of December 31,
2007, the Company has fulfilled $490,000 of the registered capital requirement
and has outstanding capital contributions of $510,000.
As
of
December 31, 2007, the Company had capital commitments of $1,780,000 with a
contractor for the completion of drilling of 19 oil wells under
construction.
CHINA
NORTH EAST PETROLEUM HOLDINGS LIMITED
AND
SUBSIDIARIES
NOTES
TO
THE CONSOLIDATED FINANCIAL STATEMENTS
AS
OF
DECEMBER 31, 2007 AND 2006
On
January 26, 2007, Song Yuan Technical entered into an agreement with a related
party and third parties who are the stockholders of Yu Qiao to acquire 100%
of
the equity interest of Yu Qiao. In consideration for the acquisition, the
Company will issue to the related party an aggregate of 10,000,000 shares of
the
Company’s common stock (“the Acquisition Shares”) having a fair value of
$3,100,000.
On
June
29, 2007, the Company and the related party entered into an agreement pursuant
to which the related party unconditionally and irrevocably contributed the
Acquisition Shares to the Company. The contribution of the Acquisition Shares
was recorded as additional paid-in capital by the Company.
|
(B)
|
Appropriated
retained earnings
|
The
Company’s PRC subsidiaries are required to make appropriations to reserve funds,
comprising the statutory surplus reserve, statutory public welfare fund and
discretionary surplus reserve, based on the after-tax net income determined
in
accordance with the laws and regulations of the PRC. Prior to January 1, 2006
the appropriation to the statutory surplus reserve should be at least 10% of
the
after tax net income determined in accordance with the laws and regulations
of
the PRC until the reserve is equal to 50% of the entities’ registered capital.
Appropriations to the statutory public welfare fund are at 5% to 10% of the
after tax net income determined by the Board of Directors. Effective January
1,
2006, the Company is only required to contribute to one statutory reserve fund
at 10 percent of net income after tax per annum, such contributions not to
exceed 50 percent of the respective companies’ registered capital.
The
statutory reserve funds are restricted for use to set off against prior period
losses, expansion of production and operation or for the increase in the
registered capital of the Company. The statutory public welfare fund is
restricted for use in capital expenditures for the collective welfare of
employees. These reserves are not transferable to the Company in the form of
cash dividends, loans or advances. These reserves are therefore not available
for distribution except in liquidation.
During
2007 and 2006, the Company appropriated $628,629 and $145,050 respectively
to
the reserves funds based on its net income in accordance with the laws and
regulations of the PRC.
14.
|
RELATED
PARTY TRANSACTIONS
|
|
a)
|
Pursuant
to an agreement entered into by a stockholder, a related party and
the
Company on June 29, 2007, the stockholder and the related party
unconditionally and irrevocably contributed all of the advances owed
by
the Company as of March 31, 2007 amounting to $1,746,128 and $5,451,685
respectively to the Company. These contributions were recorded as
additional paid-in capital by the Company.
|
|
b)
|
On
January 26, 2007, Song Yuan Technical entered into an agreement with
a
related party and certain third parties who are stockholders of Yu
Qiao to
acquire 100% of the equity interest of Yu Qiao. In consideration
for the
acquisition, the Company will issue to the related party an aggregate
of
10,000,000 shares of the Company’s common stock (“the Acquisition Shares”)
having a fair value of $3,100,000.
|
On
June
29, 2007, the Company and the related party entered into an agreement pursuant
to which the related party unconditionally and irrevocably contributed the
Acquisition Shares to the Company. The contribution of the Acquisition Shares
was recorded as additional paid-in capital by the Company.
|
c)
|
In
2007 and 2006, the Company owed a related party $3,118,085 and $4,255,441
respectively for advances made without fixed repayment terms. Imputed
interest expense is computed at 7% and 6% per annum on the amount
due
respectively.
|
CHINA
NORTH EAST PETROLEUM HOLDINGS LIMITED
AND
SUBSIDIARIES
NOTES
TO
THE CONSOLIDATED FINANCIAL STATEMENTS
AS
OF
DECEMBER 31, 2007 AND 2006
14.
|
RELATED
PARTY TRANSACTIONS (CONTINUED)
|
|
d)
|
In
2007 and 2006, the Company owed a related party $13,672 and $12,806
respectively which is repayable on demand. Imputed interest expense
is
computed at 7% and 6% per annum on the amount due respectively.
|
|
|
|
|
e)
|
In
2007, the Company owed a related party $14,364 which is repayable
on
demand. Imputed interest expense is computed at 7% per annum on the
amount
due.
|
|
|
|
|
f)
|
In
2006, a related party owed the Company $64,031 which is interest
free and
repayable on demand.
|
|
|
|
|
g)
|
In
2006, the Company owed a related party $43,029 which is repayable
on
demand. Interest is charged at 24% per annum. Interest expense paid
for
the year ended December 31, 2006 was $351.
|
|
|
|
|
h)
|
In
2007 and 2006, the Company owed a stockholder $123,105 and $1,656,935
respectively which is repayable on demand. Imputed interest expense
is
computed at 7% and 6% per annum on the amount due respectively.
|
|
|
|
|
i)
|
Total
imputed interest expenses recorded as additional paid-in capital
amounted
to $200,165 and $349,393 for the years ended December 31, 2007 and
2006
respectively.
|
|
|
|
|
j)
|
The
Company paid a stockholder $12,603 and $12,027 for leased office
spaces
for the years ended December 31, 2007 and 2006 respectively.
|
|
|
|
|
k)
|
On
April 3, 2006, the Company issued 700,000 shares of common stock
to a
related party for consulting services. The stock was valued at the
closing
price on the date of grant of $0.31 per share, yielding an aggregate
value
of $217,000.
|
It
is
management's intention to reinvest all the income attributable to the Company
earned by its operations outside of the US. Accordingly, no US corporate income
taxes are provided for in these financial statements.
The
Company is subject to income taxes on an entity basis on income arising in
or
derived from the tax jurisdiction in which each entity is
domiciled.
North
East Petroleum was incorporated in the United States and has incurred net
operating loss as for income tax purposes for 2007 and 2006.
North
East Petroleum has net operating loss carry forwards for income taxes amounting
to approximately $1,942,000 as at December 31, 2007 which may be available
to
reduce future years’ taxable income. These carry forwards, will expire, if not
utilized, commencing in 2024. Management believes that the realization of the
benefits from these losses appears uncertain due to the Company’s operating
history income and continuing losses. Accordingly, a full deferred tax asset
valuation allowance has been provided and no deferred tax asset benefit has
been
recorded. The valuation allowances at December 31, 2007 and December 31, 2006
were $660,286 and $553,815 respectively. The net change in the valuation
allowance was an increase of $106,471.
Hong
Xiang Petroleum Group was incorporated in the British Virgin Islands (the "BVI")
and income earned is not subject to income tax.
CHINA
NORTH EAST PETROLEUM HOLDINGS LIMITED
AND
SUBSIDIARIES
NOTES
TO
THE CONSOLIDATED FINANCIAL STATEMENTS
AS
OF
DECEMBER 31, 2007 AND 2006
15.
|
INCOME
TAX (CONTINUED)
|
Song
Yuan
Technical, Yu Qiao and LongDe were incorporated in the PRC and are subject
to
PRC income tax which is computed according to the relevant laws and regulations
in the PRC. The applicable tax rate has been 33% and no tax benefit is expected
from the tax credits in the future. The income tax expense (benefits) for 2007
and 2006 are summarized as follows:
|
|
Year
ended December 31,
|
|
|
|
2007
|
|
2006
|
|
|
|
|
|
|
|
Current
|
|
|
2,784,009
|
|
|
24,127
|
|
Deferred
|
|
|
313,640
|
|
|
(40,979
|
)
|
|
|
$
|
3,097,649
|
|
$
|
(16,852
|
)
|
Deferred
income tax liabilities for 2007 and 2006 reflect the effect of temporary
differences between amounts of assets, liabilities, and equity for financial
reporting purposes and the bases of such assets, liabilities, and equity as
measured by tax laws.
Deferred
income tax liabilities mainly result from temporary differences for revenues
earned but not yet taxable under the PRC tax regulations. All the deferred
tax
liabilities are classified as long-term liabilities as the Company will not
be
demanded for payment within the next twelve months.
16.
|
CONCENTRATIONS
AND RISKS
|
During
2007 and 2006, 100% of the Company's assets were located in the PRC and 100%
of
the Company's revenues were derived from one customer located in the PRC. The
Oil Lease requires the Company to sell crude oil to PetroChina
only.
Certain
reclassifications have been made in the consolidated financial statements for
the year ended December 31, 2006 to conform to the current year’s
presentation.
On
February 28, 2008, the Company entered into a Securities Purchase Agreement
(the
"Purchase Agreement") with Lotusbox Investments Limited (the "Investor").
Pursuant to which, the Company agreed to issue to the Investor a 8.00% Secured
Debenture due 2012 (the "Debenture") in the aggregate principal amount of
$15,000,000, and agreed to issue to the Investor five-year warrants exercisable
for up to (i) 1,200,000 shares of the Company's common stock at an initial
exercise price equal to $0.01 per share ("Class A Warrants"), (ii) 1,500,000
shares of the Company's common stock at an initial exercise price equal to
$3.20
per share ("Class B Warrants") and (iii) 2,100,000 shares of the Company's
common stock at an initial exercise price equal to $3.45, with all warrant
exercise prices being subject to certain adjustments. The Class B Warrants
are
subject to certain call rights by the Company.
As
of
March 25, 2008, the Company has received net proceeds of $13,815,500 from the
sale Debentures. The Company intends to use the net proceeds to fund drilling
operations, to increase production and for general working capital
purposes.
At
the
closing of the transaction, the Company entered into:
|
-
|
A
8.00% Secured Debenture due 2012;
|
|
-
|
A
registration rights agreement covering the shares of common stock
issuable
upon exercise of the Class A, Class B and Class C Warrants;
|
CHINA
NORTH EAST PETROLEUM HOLDINGS LIMITED
AND
SUBSIDIARIES
NOTES
TO
THE CONSOLIDATED FINANCIAL STATEMENTS
AS
OF
DECEMBER 31, 2007 AND 2006
18.
|
SUBSEQUENT
EVENTS (CONTINUED)
|
|
(A)
|
Private
placement (Continued)
|
|
-
|
A
share pledge agreement whereby the Company granted to the Investor
a
pledge on 66% of the Company's equity interest in Song Yuan Technical
as
collateral to secure the Debenture;
|
|
-
|
A
security agreement whereby the Company granted to the Investor a
security
interest in certain properties of the Company as collateral to secure
the
Debenture; and
|
|
-
|
An
option agreement whereby the Company grants the Investor an option
to
purchase up to 24% of the registered capital of Song Yuan Technical
at
fair market value, which option will vest immediately on the date
following the occurrence of an event of default which results in
the
acceleration of the Debenture.
|
In
addition, Hongjun Wang, President and Chief Executive Officer of the Company,
executed a pledge agreement whereby Mr. Wang, personally pledged 6,732,000
shares of common stock in the Company as collateral to secure the
Debenture.
Hong
Jie
Ltd. acted as the financial consultant for this transaction and is entitled
to
receive a cash fee equal to 6.5% of the aggregate principal amount of the
Debenture and warrants to purchase up to (i) 120,000 shares of common stock
in
the Company on the same terms as the Class A Warrants, (ii) 150,000 shares
of
common stock in the Company on the same terms as the Class B Warrants and (iii)
210,000 shares of common stock in the company on the same terms as the Class
C
Warrants.
The
Debenture will mature on February 27, 2012. The Company is required to make
payments on the principal amount of the Debenture as follows:
Repayment
Date
|
|
Repayment of Principal
Amount
|
|
|
|
|
|
6
months from the issue date
|
|
$
|
750,000
|
|
12
months from the issue date
|
|
$
|
750,000
|
|
18
months from the issue date
|
|
$
|
1,875,000
|
|
24
months from the issue date
|
|
$
|
1,875,000
|
|
30
months from the issue date
|
|
$
|
3,375,000
|
|
36
months form the issue date
|
|
$
|
3,375,000
|
|
42
months from the issue date
|
|
$
|
1,500,000
|
|
48
months from the issue date
|
|
$
|
1,500,000
|
|
The
Company has the option to redeem the Debenture at any time after the second
anniversary of the issue date of the Debenture by prepaying 100% of the then
outstanding principal amount of the Debenture, all accrued but unpaid interest
and all other amounts due in respect of the Debenture. If any portion of the
payment pursuant to such redemption is not be paid by the Company, interest
will
accrue thereon at an interest rate equal to the lesser of 18% per annum and
the
maximum rate permitted by applicable law until such amount is paid in
full.
Interest
on the then outstanding principal amount of the Debenture will accrue at the
rate of 8% per annum, payable quarterly on January 1, April 1, July 1 and
October 1, beginning on the first such date after the issue date.
The
Debenture requires the Company to pay interest at the rate equal to the lesser
of 18% per annum or the maximum rate permitted under applicable law if certain
events of default occur, including but not limited to, the event where the
Company has not obtained a listing of its common stock on the Nasdaq Stock
Market or the American stock Exchange by one year anniversary of the issue
date
of the Debenture and use its best efforts to maintain such listing continuously
thereafter as long as the Debenture is outstanding.
The
Debenture limits the Company's ability to incur debt and enter into transactions
with affiliates, among other things.
Upon
an
event of default, the Investor will have the right to require that the Company
pay any portion or all principal and accrued interest on the Debenture with
10
days' prior written notice to the Company.
CHINA
NORTH EAST PETROLEUM HOLDINGS LIMITED
AND
SUBSIDIARIES
NOTES
TO
THE CONSOLIDATED FINANCIAL STATEMENTS
AS
OF
DECEMBER 31, 2007 AND 2006
18.
|
SUBSEQUENT
EVENTS (CONTINUED)
|
|
(B)
|
Fulfillment
of capital commitments
|
On
March
4, 2008, the Company has fulfilled the remaining balance of $510,000 capital
contribution to Song Yuan Technical.
|
(C)
|
Increase
of registered capital of a subsidiary of the Company
|
On
March
13, 2008, the registered capital of Song Yuan Technical was increased from
$1,121,000 to $6,000,000. The capital contribution is payable on or before
March
13, 2011.
19.
|
PRESENTATION
OF FINANCIAL STATEMENTS
|
The
Company has amended the audited consolidated financial statements for the year
ended December 31, 2006 to reflect the retroactive effects on the acquisition
of
Yu Qiao as a reorganization of entities under common control.
20.
|
SUPPLEMENTAL
OIL AND GAS DISCLOSURES (UNAUDITED)
|
The
accompanying table presents information concerning the Company’s crude oil
producing activities as required by SFAS No. 69, Disclosures about Oil and
Gas
Producing Activities.
|
A.
|
Capitalized
costs relating to oil and gas producing activities are as follows:
|
|
|
2007
|
|
2006
|
|
|
|
|
|
|
|
Proved
crude oil properties
|
|
$
|
47,594,281
|
|
$
|
26,172,718
|
|
Intangible
mining right
|
|
|
13,445
|
|
|
13,445
|
|
Accumulated
depreciation, depletion and amortization
|
|
|
(7,262,718
|
)
|
|
(3,327,796
|
)
|
Net
capitalized costs
|
|
$
|
40,345,008
|
|
$
|
22,858,367
|
|
|
B.
|
Cost
incurred in oil and gas property acquisitions, exploration and development
activities are as follows:
|
|
|
2007
|
|
2006
|
|
|
|
|
|
|
|
Property
acquisition costs (net of costs of properties sold) Proved reserves
|
|
$
|
12,518,210
|
|
$
|
9,151,521
|
|
|
|
|
|
|
|
|
|
Property
development costs
|
|
$
|
35,076,071
|
|
$
|
17,021,197
|
|
|
C.
|
The
results of operations for oil and gas producing activities are as
follows:
|
|
|
2007
|
|
2006
|
|
|
|
|
|
|
|
Net
sales
|
|
$
|
19,482,069
|
|
$
|
5,321,905
|
|
Production
costs
|
|
|
(2,872,990
|
)
|
|
(1,091,190
|
)
|
Depreciation,
depletion and amortization
|
|
|
(3,760,742
|
)
|
|
(1,175,151
|
)
|
Government
oil surcharge
|
|
|
(2,857,376
|
)
|
|
(560,584
|
)
|
General
and administrative expenses
|
|
|
(880,161
|
)
|
|
(884,778
|
)
|
Income
tax (expense) benefits
|
|
|
(3,097,649
|
)
|
|
16,852
|
|
Results
of operations from oil and gas producing activities (excluding corporate
overhead and financing costs)
|
|
$
|
6,013,151
|
|
$
|
1,627,054
|
|
CHINA
NORTH EAST PETROLEUM HOLDINGS LIMITED
AND
SUBSIDIARIES
NOTES
TO
THE CONSOLIDATED FINANCIAL STATEMENTS
AS
OF
DECEMBER 31, 2007 AND 2006
20.
|
SUPPLEMENTAL
OIL AND GAS DISCLOSURES (UNAUDITED) (CONTINUED)
|
|
D.
|
Estimated
quantities of proved oil and gas reserves
|
The
following schedule estimates proved crude oil reserves attributable to the
Company. Proved reserves are estimated quantities of oil which geological and
engineering data demonstrate with reasonable certainty to be recoverable in
future years from known reservoirs under existing economic and operating
conditions. Proved developed reserves are those which are expected to be
recovered through existing wells with existing equipment and operating methods.
Reserves are stated in barrels of oil (Bbls). Geological and engineering
estimates of proved oil and natural gas reserves at one point in time are highly
interpretive, inherently imprecise and subject to ongoing revisions that may
be
substantial in amount. Although every reasonable effort is made to ensure that
the reserve estimates reported represent the most accurate assessments possible,
these estimates are by their nature generally less precise than other estimates
presented in connection with financial statement disclosures.
|
|
Bbls
|
|
Proved
oil reserves
|
|
|
|
|
Balance
at January 1, 2006
|
|
|
2,419,021
|
|
Discoveries
and extensions
|
|
|
-
|
|
Revisions
of previous estimates
|
|
|
(89,631
|
)
|
Production
|
|
|
(87,196
|
)
|
Balance
at December 31, 2006
|
|
|
2,242,194
|
|
Discoveries
and extensions
|
|
|
-
|
|
Revisions
of previous estimates
|
|
|
494,146
|
|
Production
|
|
|
(267,516
|
)
|
Balance
at December 31, 2007
|
|
|
2,468,824
|
|
Proved
developed producing reserves at December 31, 2007
|
|
|
1,369,401
|
|
Proved
developed producing reserves at December 31, 2006
|
|
|
898,516
|
|
The
following schedule presents the standardized measure of estimated discounted
future net cash flows from the Company’s proved developed reserves for the years
ended December 31, 2007 and 2006. Estimated future cash flows were based on
independent reserves evaluation from Ralph E. Davis Associates, Inc. and R.A.
Lenser and Associates, Inc. for the years ended December 31, 2007 and 2006,
respectively. Because the standardized measure of future net cash flows was
prepared using the prevailing economic conditions existing at December 31,
2007
and 2006, it should be emphasized that such conditions continually change.
Accordingly, such information should not serve as a basis in making any judgment
on the potential value of the Company’s recoverable reserves or in estimating
future results of operations.
Estimated
future net cash flows represent an estimate of future net revenues from the
production of proved reserves using current sales prices, along with estimates
of the operating costs, production taxes and future development and abandonment
costs (less salvage value) necessary to produce such reserves. The average
prices per barrel used at December 31, 2007 for four oilfields were $95.95
and
at December 31, 2006 for Qian’an 112, Gu 31, Da 34 and He 301 were $72.58,
$64.45, $70.65 and $69.70 respectively. No deduction has been made for
depreciation, depletion or any indirect costs such as general corporate overhead
or interest expense.
Operating
costs and production taxes are estimated based on current costs with respect
to
producing gas properties. Future development costs are based on the best
estimate of such costs assuming current economic and operating conditions.
Income
tax expense is computed based on applying the appropriate statutory tax rate
to
the excess of future cash inflows less future production and development costs
over the current tax basis of the properties involved, less applicable carry
forwards, for both regular and alternative minimum tax.
CHINA
NORTH EAST PETROLEUM HOLDINGS LIMITED
AND
SUBSIDIARIES
NOTES
TO
THE CONSOLIDATED FINANCIAL STATEMENTS
AS
OF
DECEMBER 31, 2007 AND 2006
20.
|
SUPPLEMENTAL
OIL AND GAS DISCLOSURES (UNAUDITED) (CONTINUED)
|
|
D.
|
Estimated
quantities of proved oil and gas reserves (Continued)
|
The
future net revenue information assumes no escalation of costs or prices, except
for gas sales made under terms of contracts which include fixed and determinable
escalation. Future costs and prices could significantly vary from current
amounts and, accordingly, revisions in the future could be significant.
Standardized
measures of discounted future net cash flows relating to proved oil and gas
reserves at December 31, 2007 and 2006 is as follows:
|
|
2007
|
|
2006
|
|
|
|
|
|
|
|
Future
cash inflows
|
|
$
|
235,187,861
|
|
$
|
160,225,370
|
|
Future
production costs and taxes
|
|
|
(68,891,575
|
)
|
|
(40,574,908
|
)
|
Future
development costs
|
|
|
(28,713,919
|
)
|
|
(8,587,200
|
)
|
Future
income tax expense
|
|
|
(33,801,457
|
)
|
|
(25,131,207
|
)
|
|
|
|
|
|
|
|
|
Future
net cash flows
|
|
|
103,780,910
|
|
|
85,932,055
|
|
Discount
at 10% for timing of cash flows
|
|
|
(64,469,078
|
)
|
|
(49,592,849
|
)
|
Standardized
measure of discounted future net cash related to proved reserves
|
|
$
|
39,311,832
|
|
$
|
36,339,206
|
|
Of
the
Company’s total proved reserves as of December 31, 2007 and 2006, 55% and 40%
respectively were classified as proved developed producing. All of the Company’s
reserves are located in the PRC.
The
following table sets forth the changes in the standardized measure of discounted
future net cash flows from proved reserves for December 31, 2007 and 2006.
|
|
2007
|
|
2006
|
|
|
|
|
|
|
|
Balance,
beginning of year
|
|
$
|
36,339,206
|
|
$
|
24,425,715
|
|
Purchase
of minerals in place
|
|
|
12,148,545
|
|
|
18,770,478
|
|
Sales
and transfers of oil and gas produced, net of production costs
|
|
|
(13,522,379
|
)
|
|
(4,217,906
|
)
|
Changes
in prices and production costs
|
|
|
23,455,903
|
|
|
39,720,407
|
|
Revision
of quantity estimates
|
|
|
36,712,367
|
|
|
(4,746,885
|
)
|
Changes
in estimated future development and acquisition costs
|
|
|
(32,275,264
|
)
|
|
(15,282,478
|
)
|
Net
changes in income taxes
|
|
|
(8,670,317
|
)
|
|
(5,949,064
|
)
|
Accretion
of discount
|
|
|
(14,876,229
|
)
|
|
(16,381,061
|
)
|
Standardized
measure, end of year
|
|
$
|
39,311,832
|
|
$
|
36,339,206
|
|
PART
II
INFORMATION
NOT REQUIRED IN PROSPECTUS
OTHER
EXPENSES OF ISSUANCE AND DISTRIBUTION
We
estimate that expenses in connection with the distribution described in this
registration statement (other than brokerage commissions, discounts or other
expenses relating to the sale of the shares by the selling security holders)
will be as set forth below. We will pay all of these expenses. The amounts
shown
below, with the exception of the Securities and Exchange Commission registration
fee, are estimates.
SEC
registration fee
|
|
$
|
620
|
|
Accounting
Fees and Expenses
|
|
|
15,000
|
|
Legal
Fees and Expense
|
|
|
25,000
|
|
Printing
Expenses
|
|
|
1,000
|
|
Miscellaneous
|
|
|
0
|
|
|
|
|
|
|
Total
|
|
$
|
41,620
|
|
INDEMNIFICATION
OF DIRECTORS AND OFFICERS
The
Company's directors and executive officers are indemnified as provided by the
Delaware General Corporation Law and the Company's Bylaws. These provisions
state that the Company's directors may cause the Company to indemnify a director
or former director against all costs, charges and expenses, including an amount
paid to settle an action or satisfy a judgment, actually and reasonably incurred
by him as a result of him acting as a director. The indemnification of costs
can
include an amount paid to settle an action or satisfy a judgment. Such
indemnification is at the discretion of the Company's board of directors and
is
subject to the Securities and Exchange Commission's policy regarding
indemnification.
Insofar
as indemnification for liabilities arising under the Securities Act of 1933
may
be permitted to directors, officers or persons controlling the Company pursuant
to the foregoing provisions, or otherwise, the Company has been advised that
in
the opinion of the Securities and Exchange Commission, such indemnification
is
against public policy as expressed in the Securities Act of 1933 and is,
therefore, unenforceable.
RECENT
SALES OF UNREGISTERED SECURITIES
The
following securities were issued within the past three years and were not
registered under the Securities Act of 1933. Shares issued to China North East
Petroleum’s shareholders were not registered under the Securities Act of 1933,
as amended (“Securities Act”) in reliance upon the exemption from the
registration requirements provided in Section 4(2) of, or the safe harbor from
such registration provided by Regulation S, promulgated under the Securities
Act.
On
April
3, 2006, the Company issued 700,000 shares of common stock to a related party
for consulting services. The stock was valued at the closing price on the date
of grant of $0.31 per share, yielding an aggregate value of
$217,000.
On
January 26, 2007, the Company, through its 90% owned subsidiary Song Yuan
Technical, acquired beneficial ownership of all of the interests in Yu Qiao
from
Ms. Ju. In consideration for such acquisition, the Company issued to Ms. Ju
an
aggregate of 10 million shares of its common stock, having a market value of
approximately U.S.$3.1 million. However, on June 29, 2007, the Company, Mr.
Wang
and Ms. Ju entered into an agreement pursuant to which, among other things,
all
of the 10 million shares were contributed to the Company.
On
February 28, 2008, the Company sold to Lotusbox Investments Limited (the
“Investor”) a 8.00% Secured Debenture due 2012 (the “Debenture”) in aggregate
principal amount of $15,000,000, and agreed to issue to the Investor five-year
warrants exercisable for up to (i) 1,200,000 shares of the Company’s common
stock at an initial exercise price equal to $0.01 per share (“Class A
Warrants”), (ii) 1,500,000 shares of the Company’s common stock at an initial
exercise price equal to $3.20 per share (“Class B Warrants”) and (iii) 2,100,000
shares of the Company’s common stock at an initial exercise price equal to $3.45
(“Class C Warrants”), all warrant exercise prices are subject to certain
adjustments.
In
addition, Hongjun Wang, President and Chief Executive Officer of the Company,
executed a pledge agreement whereby Mr. Wang, personally pledged 6,732,000
shares of common stock in the Company as collateral to secure the
Debenture.
Also
on
February 29, 2008, the Company issued to Hong
Jie
Ltd. warrants to purchase up to (i) 120,000 shares of common stock in the
Company on the same terms as the Class A Warrants, (ii) 150,000 shares of common
stock in the Company on the same terms as the Class B Warrants and (iii) 210,000
shares of common stock in the company on the same terms as the Class C
Warrants.
Except
as
expressly set forth above, the individuals and entities to which we issued
securities as indicated in this section of the registration statement are
unaffiliated with us.
EXHIBITS
Exhibit
No.
|
|
Description
|
|
|
|
2.1
|
|
Distribution
Agreement between Draco Holding Corporation and Jump’n Jax, dated April
30, 2004, is incorporated herein by reference from Registrant’s Current
Report on Form 8-K filed with the SEC on May 14, 2004.
|
|
|
|
2.2
|
|
Agreement
for Share Exchange dated as of March 29, 2004, by and among Draco
Holding
Corp., Hong Xiang Petroleum International Holdings, Ltd., and the
shareholders of Hong Xiang is incorporated herein by reference from
Registrant’s Current Report on Form 8-K filed with the SEC on March 30,
2004.
|
|
|
|
3.1
|
|
Articles
of Incorporation are incorporated herein by reference from Registrant’s
Annual Report on Form 10-KSB filed with the SEC on March 28, 2001.
|
|
|
|
3.2
|
|
By-laws
are incorporated herein by reference from Registrant’s Annual Report on
Form 10-KSB filed with the SEC on March 28, 2001.
|
|
|
|
3.3
|
|
Certificate
of Amendments to Articles of Incorporation is incorporated herein
by
reference from Registrant’s Information Statement on Form 14C filed with
the SEC on May 26, 2004.
|
|
|
|
4.1
|
|
2006
Stock Option/Stock Issuance Plan is incorporated herein by reference
from
Registrant’s Registration Statement on Form S-8 filed with the SEC on
February 27, 2006.
|
|
|
|
4.2
|
|
8%
Secured Debenture issued to Lotusbox Investments Limited is incorporated
herein by reference from Registrant’s Current Report on Form 8-K filed
with the SEC on March 3, 2008.
|
|
|
|
4.3
|
|
Form
of Series A and C Common Stock Warrant is incorporated herein by
reference
from Registrant’s Current Report on Form 8-K filed with the SEC on March
3, 2008.
|
|
|
|
4.4
|
|
Form
of Series B Common Stock Warrant is incorporated herein by reference
from
Registrant’s Current Report on Form 8-K filed with the SEC on March 3,
2008.
|
|
|
|
5.1
|
|
Opinion
of Crone Rozynko, LLP. *
|
|
|
|
10.1
|
|
Loan
Contract between Song Yuan City Yu Qiao Qian’an Hong Xiang Oil and Gas
Development Limited Company and Song Yuan City Wu Lan Da Jie Cheng
Shi Xin
Yong She is incorporated herein by reference from Registrant’s Quarterly
Report on Form 10-QSB filed with the SEC on November 23, 2005. (Translated
from the original Mandarin)
|
|
|
|
10.2
|
|
Loan
Contract between Song Yuan City Yu Qiao Qian’an Hong Xiang Oil and Gas
Development Limited Company and Song Yuan City Wu Lan Da Jie Cheng
Shi Xin
Yong She is incorporated herein by reference from Registrant’s Quarterly
Report on Form 10-QSB filed with the SEC on November 23, 2005. (Translated
from the original Mandarin)
|
10.3
|
|
Warranty
Deed between Lien holder: Song Yuan City Wu Lan Da Jie Cheng Shi
Xin Yong
She and Mortgager: Wang Hongjun, Sun Jishuang is incorporated herein
by
reference from Registrant’s Quarterly Report on Form 10-QSB filed with the
SEC on November 23, 2005. (Translated from the original Mandarin)
|
|
|
|
10.4
|
|
Guarantee
Contract between Creditor: Song Yuan City Wu Lan Da Jie Cheng Shi
Xin Yong
She and Assurer: Songyuan City Hongxiang Petroleum Technical Services
Co.,
Ltd is incorporated herein by reference from Registrant’s Quarterly Report
on Form 10-QSB filed with the SEC on November 23, 2005. (Translated
from
the original Mandarin)
|
|
|
|
10.5
|
|
Qian-112
Oilfield Cooperative Development Contract among PetroChina Oil and
Gas
Company Limited, Jilin Oil Field Branch Company; Song Yuan City Yu
Qiao
Oil and Gas Development Company Limited, dated as of May 28, 2003
is
incorporated by reference from Registrant’s annual report on Form 10-KSB
filed with the SEC on April 17, 2006.
|
|
|
|
10.6
|
|
Joint
Venture Agreement among the Registrant, Ms. Ju GuiZhi and Mr. Wang
Hongjun, to form a joint venture limited liability company in China,
to be
named Song Yuan North East Petroleum Technical Service Co., Ltd is
incorporated herein by reference from Registrant’s Current Report on Form
8-K filed with the SEC on July 28, 2006.
|
|
|
|
10.7
|
|
Equity
Transfer Agreement by and among LongDe Oil & Gas Development Co. Ltd
and Song Yuan North East Petroleum Technical Service Co., Ltd. dated
June
1, 2005 is incorporated by reference from Registrant’s Current Report on
Form 8-K filed with the SEC on December 28, 2006.
|
|
|
|
10.8
|
|
Hetingbao
301 Oilfield Cooperative Development Contract among PetroChina Oil
and Gas
Company Limited and Chang Ling LongDe Oil and Gas Development Company
Limited dated as of May 28, 2003.
|
|
|
|
10.9
|
|
Agreement
for the Purchase and Sale of Stock among Song Yuan North East Petroleum
Technical Service Co., Ltd., China North East Petroleum Holdings,
Limited,
Ju Guizhi, Ping Wu Wang, Meng Xiangyun, dated January 26, 2007 is
incorporated by reference from Registrant’s Current Report on Form 8-K
filed with the SEC on January 29, 2007.
|
|
|
|
10.10
|
|
Trust
Agreement between Bing Wu Wang and Song Yuan North East Petroleum
Technical Service Co., Ltd. is incorporated by reference from Registrant’s
Current Report on Form 8-K filed with the SEC on January 29, 2007.
|
|
|
|
10.11
|
|
Trust
Agreement between Meng Xiangyun and Song Yuan North East Petroleum
Technical Service Co., Ltd. is incorporated by reference from Registrant’s
Current Report on Form 8-K filed with the SEC on January 29, 2007.
|
|
|
|
10.12
|
|
Cooperative
Development Contract among PetroChina Oil and Gas Company Limited,
Jilin
Oil Field Branch Company and Song Yuan City Yu Qiao Oil and Gas
Development Company Limited dated as May 28, 2003 to develop Qian
112
Oilfield, Da 34 Oilfield and Gu 31 Oilfield is incorporated by reference
from Registrant’s Current Report on Form 10-K filed with the SEC on April
16, 2007.
|
|
|
|
10.13
|
|
Capital
Contribution Agreement, dated as of June 29, 2007, by and among the
Company, Mr. Hong Jun Wang and Ms. Guizhi Ju is incorporated by reference
from Registrant’s Current Report on Form 8-K filed with the SEC on July 7,
2007.
|
|
|
|
10.14
|
|
Securities
Purchase Agreement dated February 28, 2008 between the Company and
Lotusbox Investments Limited is incorporated herein by reference
from
Registrant’s Current Report on Form 8-K filed with the SEC on March 3,
2008.
|
|
|
|
10.15
|
|
Security
Agreement dated February 28, 2008 between the Company and Lotusbox
Investments Limited is incorporated herein by reference from Registrant’s
Current Report on Form 8-K filed with the SEC on March 3, 2008.
|
|
|
|
10.16
|
|
Agreement
of Pledge dated February 28, 2008 between the Company and Lotusbox
Investments Limited is incorporated herein by reference from Registrant’s
Current Report on Form 8-K filed with the SEC on March 3, 2008.
|
|
|
|
10.17
|
|
Registration
Rights Agreement dated February 28, 2008 between the Company and
Lotusbox
Investments Limited is incorporated herein by reference from Registrant’s
Current Report on Form 8-K filed with the SEC on March 3, 2008.
|
|
|
|
10.18
|
|
Option
Agreement dated February 28, 2008 between the Company and Lotusbox
Investments Limited is incorporated herein by reference from Registrant’s
Current Report on Form 8-K filed with the SEC on March 3, 2008.
|
14.1
|
|
Code
of Ethics of China North East Petroleum Holdings, Ltd. is incorporated
herein by reference from Registrant’s Annual Report on Form 10-KSB filed
with the SEC on May 18, 2005.
|
|
|
|
21.1
|
|
List
of Subsidiaries is incorporated herein by reference from Registrant’s
Annual Report on Form 10-K filed with the SEC on March 31, 2008.
|
|
|
|
23.1
|
|
Consent
of Independent Registered Public Accounting Firm.*
|
|
|
|
23.2
|
|
Consent
of Crone Rozynko, LLP (contained in Exhibit 5.1).
|
23.3
|
|
Consent
of Independent Petroleum Consultants Ralph E. Davis & Associates,
Inc.*
|
*Previously
filed.
**
Filed
herewith .
UNDERTAKINGS
(a)
The
undersigned registrant will:
(1)
File,
during any period in which it offers or sells securities, a post-effective
amendment to this registration statement to:
(i)
include any prospectus required by Section 10(a)(3) of the Securities
Act;
(ii)
reflect in the prospectus any facts or events which, individually or together,
represent a fundamental change in the information in the registration statement;
and notwithstanding the foregoing, any increase or decrease in volume of
securities offered (if the total dollar value of securities offered would not
exceed that which was registered) and any deviation from the low or high end
of
the estimated maximum offering range may be reflected in the form of prospectus
filed with the Commission pursuant to Rule 424(b) if, in the aggregate, the
changes in volume and price represent no more than a 20% change in the maximum
aggregate offering price set forth in the “Calculation of Registration Fee”
table in the effective registration statement; and
(iii)
include any additional or changed material information on the plan of
distribution.
(2)
For
determining liability under the Securities Act, treat each post-effective
amendment as a new registration statement of the securities offered, and the
offering of the securities at that time to be the initial bona fide
offering.
(3)
File
a post-effective amendment to remove from registration any of the securities
that remain unsold at the end of the offering.
(b)
For
determining liability of the registrant under the Securities Act to any
purchaser in the initial distribution of the securities, the registrant
undertakes that in a primary offering of securities of the registrant pursuant
to this registration statement, regardless of the underwriting method used
to
sell the securities to the purchaser, if the securities are offered or sold
to
such purchaser by means of any of the following communications, the registrant
will be a seller to the purchaser and will be considered to offer or sell such
securities to such purchaser:
(1)
Any
preliminary prospectus or prospectus of the registrant relating to the offering
required to be filed pursuant to Rule 424;
(2)
Any
free writing prospectus relating to the offering prepared by or on behalf of
the
registrant or used or referred to by the registrant;
(3)
The
portion of any other free writing prospectus relating to the offering containing
material information about the registrant or its securities provided by or
on
behalf of the registrant; and
(4)
Any
other communication that is an offer in the offering made by the registrant
to
the purchaser.
(c)
Insofar as indemnification for liabilities arising under the Securities Act
of
1933 may be permitted to directors, officers and controlling persons of the
registrant pursuant to the foregoing provisions, the registrant has been advised
that in the opinion of the Securities and Exchange Commission such
indemnification is against public policy as expressed in the Act and is,
therefore, unenforceable. In the event that a claim for indemnification against
such liabilities (other than the payment by the registrant of expenses incurred
or paid by a director, officer or controlling person of the registrant in the
successful defense of any action, suit or proceeding) is asserted by such
director, officer or controlling person in connection with the securities being
registered, the registrant will, unless in the opinion of its counsel the matter
has been settled by controlling precedent, submit to a court of appropriate
jurisdiction the question whether such indemnification by it is against public
policy as expressed in the Securities Act and will be governed by the final
adjudication of such issue.
(d)
The
undersigned registrant hereby undertakes that, for the purpose of determining
liability under the Securities Act of 1933 to any purchaser, each prospectus
filed pursuant to Rule 424(b) as part of a registration statement relating
to an
offering, shall be deemed to be part of and included in the registration
statement as of the date it is first used after effectiveness. Provided,
however, that no statement made in a registration statement or prospectus that
is part of the registration statement or made in a document incorporated or
deemed incorporated by reference into the registration statement or prospectus
that is part of the registration statement will, as to a purchaser with a time
of contract of sale prior to such first use, supersede or modify any statement
that was made in the registration statement or prospectus that was part of
the
registration statement or made in any such document immediately prior to such
date of first use.
SIGNATURES
Pursuant
to the requirements of the Securities Act of 1933, the Registrant has duly
caused this Amendment No. 2 to Registration Statement to be signed on its
behalf by the undersigned, in Song Yuan City, the People’s Republic of China,
on August 6, 2008.
CHINA
NORTH EAST PETROLEUM LIMITED
|
|
|
By:
|
/s/
Wang Hong Jun
|
|
|
Wang
Hong Jun
|
|
Chairman
of the Board and President
|
Pursuant
to the requirements of the Securities Act of 1933, this Registration Statement
has been signed by the following persons in the capacities and on the dates
stated.
Signature
|
|
Title
|
|
Date
|
|
|
|
|
|
/s/
Wang Hong Jun
|
|
Chairman
of the Board of Directors and President
|
|
August
6, 2008
|
Wang
Hong Jun
|
|
(Principal
Executive Officer)
|
|
|
|
|
|
|
|
/s/
Zhang Yang
|
|
Chief
Financial Officer, Treasurer
|
|
|
Zhang
Yang
|
|
(Principal
Financial and Accounting Officer)
|
|
|
|
|
|
|
|
/s/
Wei Guo Ping
|
|
Director
|
|
|
Wei
Guo Ping
|
|
|
|
|
|
|
|
|
|
/s/
Yu Li Guo
|
|
Director
|
|
|
Yu
Li Guo
|
|
|
|
|
|
|
|
|
|
/s/
Robert C. Bruce
|
|
|
|
|
Robert
C. Bruce
|
|
Director
|
|
|
|
|
|
|
|
/s/
Edward M. Rule
|
|
|
|
|
Edward
M. Rule
|
|
Director
|
|
|
|
|
|
|
|
/s/
L. Jing Fu |
|
|
|
|
L.
Jing Fu
|
|
Director
|
|
|