e10vk
SECURITIES AND EXCHANGE
COMMISSION
Washington, D.C.
20549
Form 10-K
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MARK ONE
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ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
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TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
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FOR THE TRANSITION PERIOD
FROM TO
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For the
Year Ended December 31, 2007 |
Commission File Number: 1-8303 |
The Hallwood Group
Incorporated
(Exact name of registrant as
specified in its charter)
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Delaware
(State or other jurisdiction
of
incorporation or organization)
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51-0261339
(I.R.S. Employer
Identification Number)
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3710 Rawlins, Suite 1500,
Dallas, Texas
(Address of principal
executive offices)
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75219
(Zip Code)
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Registrants telephone number, including area code:
(214) 528-5588
Securities Registered Pursuant to Section 12(b) of the
Act:
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Name of Each Exchange
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Title of Class
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on Which Registered
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Common Stock ($0.10 par value)
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American Stock Exchange
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Securities Registered Pursuant to Section 12(g) of the
Act:
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Title of Class
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Series B Redeemable Preferred Stock
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Indicate by check mark if the registrant is a well-known
seasoned issuer, as defined in Rule-405 of the Securities
Act. YES o No þ
Indicate by check mark if the registrant is not required to file
reports pursuant to Section 13 or Section 15(d) of the
Act. YES o No þ
Indicate by check mark whether the registrant (1) has filed
all reports required to be filed by Section 13 or 15(d) of
the Securities Exchange Act of 1934 during the preceding
12 months (or for such shorter period that the registrant
was required to file such reports), and (2) has been
subject to such filing requirements for the past
90 days. YES þ NO o
Indicate by check mark if disclosure of delinquent filers
pursuant to Item 405 of
Regulation S-K
is not contained herein, and will not be contained, to the best
of registrants knowledge, in, definitive proxy or
information statements incorporated by reference in
Part III of this
Form 10-K
or any amendment to this
Form 10-K. þ
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 definition of
accelerated filer, large accelerated filer and smaller
reporting company in
Rule 12b-2
of the Exchange Act. (Check one):
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Large accelerated
filer o
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Accelerated
filer o
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Non-accelerated
filer o
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Smaller Reporting
Company þ
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(Do not check if a smaller
reporting company)
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Indicate by check mark if the registrant is a shell company (as
defined in
Rule 12b-2
of the
Act). YES o No þ
The aggregate market value of the Common Stock, held by
non-affiliates of the registrant as of June 30, 2007, based
on the closing price of $78.50 per share on the American Stock
Exchange, was $38,420,000.
1,520,666 shares of Common Stock were outstanding at
March 21, 2008.
DOCUMENTS
INCORPORATED BY REFERENCE
The information called for by Part III is incorporated by
reference to the definitive Proxy Statement for the Annual
Meeting of Stockholders of the Company.
THE
HALLWOOD GROUP INCORPORATED
FORM 10-K
TABLE OF
CONTENTS
2
PART I
The Hallwood Group Incorporated (Hallwood or the
Company) (AMEX:HWG), a Delaware corporation formed
in September 1981, is a holding company with interests in
textile products and energy. The Companys former real
estate and hotel business segments have been reported as
discontinued operations.
Textile Products. Textile products operations
are conducted through the Companys wholly owned
subsidiary, Brookwood Companies Incorporated
(Brookwood). Brookwood is an integrated textile firm
that develops and produces innovative fabrics and related
products through specialized finishing, treating and coating
processes.
Brookwood operates as a converter in the textile industry,
purchasing fabric from mills that is dyed, finished
and/or
laminated at its own plants or by contracting with independent
finishers. Upon completion of the finishing process, the fabric
is sold to customers. Brookwood is one of the largest coaters of
woven nylons in the United States of America. Brookwood is known
for its extensive, in-house expertise in high-tech fabric
development and is a major supplier of specialty fabric to
U.S. military contractors. Brookwood produces fabrics that
meet standards and specifications set by both government and
private industry, which are used by consumers, military and
industrial customers.
Brookwoods Strategic Technical Alliance, LLC subsidiary
(STA) markets advanced breathable, waterproof
laminate and other fabrics primarily for military applications.
Continued development of these fabrics for military, industrial
and consumer applications is a key element of Brookwoods
business plan.
Brookwoods Kenyon Industries, Inc. subsidiary
(Kenyon) uses the latest technologies and processes
in dyeing, finishing, coating and printing of woven synthetic
products. At its Rhode Island plant, Kenyon provides quality
finishing services for fabrics used in a variety of markets,
such as luggage and knapsacks, flag and banner, apparel,
industrial, military and sailcloth.
The Brookwood Laminating Incorporated subsidiary
(Brookwood Laminating), located in Connecticut, uses
the latest in processing technology to provide quality
laminating services for fabrics used in military clothing and
equipment, sailcloth, medical equipment, industrial applications
and consumer apparel. Up to seven layers of textile materials
can be processed using both wet and dry lamination techniques.
Brookwoods Roll Goods division serves manufacturers by
maintaining an extensive in-stock, short-lot service of woven
nylon and polyester fabrics, offering an expansive inventory
stocked in a wide array of colors and styles, including Cordura
nylon in solid colors as well as military prints, supplex nylon,
high visibility ansi compliant polyesters, waterproof breathable
laminates, polyester microfibers and coated polyester fabrics.
As speed is essential in this area, Brookwood Roll Goods has
positioned its sales and distribution facilities in Connecticut
and southern California to allow shipment on a same day/next day
basis.
Brookwoods First Performance Fabrics division buys and
sells promotional goods, remnants and mill seconds for a vast
assortment of coated and uncoated nylon products at promotional
prices. Products include nylon for consumer uses, such as
activewear, outerwear and swimwear as well as nylons used for
balloons, luggage, bags, flags and banners.
The textile industry historically experiences cyclical swings.
Brookwood has partially offset the effect of those swings by
diversifying its product lines and business base. Brookwood has
historically enjoyed a fairly steady base level stream of orders
that comprise its backlog. However, the backlog is subject to
market conditions and the timing of contracts granted to its
prime government contractor customers. Management believes that
Brookwood maintains a level of inventory adequate to support its
sales requirements and has historically enjoyed a consistent
turnover ratio.
In January 2003, Brookwood was granted a patent, which expires
in September 2019, for its breathable, waterproof laminate
and method for making same, which is a critical process in
its production of specialty fabric for U.S. military
contractors. Brookwood has ongoing programs of research and
development in all of its divisions adequate to maintain the
exploration, development and production of innovative products
and technologies.
3
In 2007 and 2006, the textile products segment accounted for all
of the Companys operating revenues. For details regarding
revenue, profit and total assets, see Note 17 to the
Companys consolidated financial statements.
Energy. Following the sale of Hallwood
Energy III, L.P. (HE III) in July 2005, the
Companys remaining affiliates were Hallwood
Energy II, L.P. (HE II), Hallwood
Energy 4, L.P. (HE 4) and Hallwood Exploration,
L.P. (Hallwood Exploration). At that time, the
Company owned between 20% and 26% of the entities (between 17%
and 21% on a fully diluted basis) and accounted for the
investments using the equity method of accounting, recording its
pro rata share of net income (loss), partners capital
transactions and comprehensive income (loss). These private
entities were principally involved in acquiring oil and gas
leases and drilling, gathering and sale of natural gas in the
Barnett Shale formation of Parker, Hood and Tarrant Counties in
North Texas, the Barnett Shale and Woodford Shale formations in
West Texas, the Fayetteville Shale formation in Central Eastern
Arkansas, and conducting
3-D seismic
surveys over optioned land covering a Salt Dome in South
Louisiana in order to determine how best to proceed with
exploratory activity.
Effective December 31, 2005, HE II and Hallwood Exploration
were consolidated into HE 4, which was renamed Hallwood
Energy, L.P. (Hallwood Energy). The partners
capital interests in Hallwood Energy were proportionate to the
capital invested in each of the consolidated entities. The
Companys initial investment in Hallwood Energy at
December 31, 2005 was comprised of its capital
contributions to each of the former private energy affiliates,
which totaled $40,854,000. The Company owned approximately 26%
(22% after consideration of profits interests) of Hallwood
Energy at that date. Due to a series of capital infusions since
that date, the Companys ownership at December 31,
2007 has been reduced to 23% (18% after consideration of profit
interests).
Hallwood Energy is a privately held independent oil and gas
limited partnership and operates as an upstream energy company
engaging in the acquisition, development, exploration,
production, and sale of hydrocarbons, with a primary focus on
natural gas assets. Hallwood Energy conducts its energy
activities from its corporate office located in Dallas, Texas
and production offices in Searcy, Arkansas and Lafayette,
Louisiana. Hallwood Energy had $17,590,000 of proved reserves at
December 31, 2007. Hallwood Energys results of
operations are and will be largely dependent on a variety of
factors, including, but not limited to fluctuations in natural
gas prices; success of its drilling activities; the ability to
transport and sell its natural gas; regional and national
regulatory matters; and the ability to secure, and the price of
goods and services necessary to develop its oil and gas leases.
In July 2006, Hallwood Energy completed the sale of a 60%
undivided working interest in its oil and gas properties in West
Texas and all of its interest in the Parker, Hood and Tarrant
County properties in North Texas to Chesapeake Energy
Corporation (Chesapeake), which became the operator
of these properties.
Hallwood Energys management has classified its energy
investments into three identifiable geographical areas:
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West Texas the Barnett Shale and Woodford Shale
formations,
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Central and Eastern Arkansas primary target is the
Fayetteville Shale formation, and
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South Louisiana various projects on and around the
LaPice Salt Dome.
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Refer also to Item 7, Managements Discussion
and Analysis of Financial Condition and Results of
Operations Investments in and Loans to Hallwood
Energy for a further description of the Companys
energy activities.
Segment and Related Information. For details
regarding revenue, profit (or loss) and total assets, see
Note 17 to the Companys consolidated financial
statements.
4
Number of
Employees
The Company had 467 and 447 employees as of
February 28, 2008 and 2007, respectively, comprised as
follows:
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February 28,
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2008
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2007
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Hallwood
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11
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11
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Brookwood
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456
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436
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Total
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467
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447
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Kenyon has entered into a three-year collective bargaining
agreement with the Union of Needletrades, Industrial and Textile
Employees, representing approximately 240 employees at its
Rhode Island plant facility, effective from March 1, 2007
through February 28, 2010. The union has recently raised
concerns over certain aspects of that agreement. Kenyons
management continues to work in good faith to maintain its
previous positive relationship with its union employees, as it
has with its non-union employees.
Available
Information
The Companys Annual Report on
Form 10-K,
Quarterly Reports on
Form 10-Q,
Current Reports on
Form 8-K
and amendments to reports filed pursuant to Sections 13(a)
and 15(d) of the Securities Exchange Act of 1934, as amended
(the Exchange Act), are available on its website at
www.hallwood.com, as soon as reasonably practicable after such
reports are electronically filed with the Securities and
Exchange Commission. Additionally, the Companys Code of
Business Conduct and Ethics, Whistle Blower Policy and Audit
Committee Charter may be accessed through the website.
Executive
Officers of the Company
In addition to Anthony J. Gumbiner, age 63, who serves as
Director, Chairman and Chief Executive Officer (see
Item 10), the following individuals also serve as executive
officers of the Company:
William L. Guzzetti, age 64, has served as President and
Chief Operating Officer of the Company since March 2005 and as
Executive Vice President from October 1989 to March 2005. He has
also served as President, Chief Operating Officer and a Director
of Hallwood Energy and each of the former energy affiliates
since their inception. Mr. Guzzetti had served as
President, Chief Operating Officer and a Director of Hallwood
Energy Corporation, formerly based in Denver, Colorado and sold
in May 2001, from December 1998 until May 2001 and of its
predecessors since 1985. From 1990 until its sale in 2004,
Mr. Guzzetti served as the President, Chief Operating
Officer and a Director of Hallwood Realty, LLC (Hallwood
Realty) and Hallwood Commercial Real Estate
(HCRE), respectively. He had served as the President
and a director of Hallwood Energy Corporation (HEC),
formerly based in Cleburne, Texas and sold in December 2004,
from December 2002 until December 2004. He is a member of the
Florida Bar and the State Bar of Texas.
Melvin J. Melle, age 65, has served as Vice President and
Chief Financial Officer of the Company since December 1984 and
as Secretary of the Company since October 1987. Mr. Melle
is a member of the American Institute of Certified Public
Accountants and of the Ohio Society of Certified Public
Accountants.
Amber M. Brookman, age 65, has served as President, Chief
Executive Officer and Director of Brookwood since 1989. From
July 2004 to April 2007, Ms. Brookman served as a director
of Syms Corporation, a national clothing retailer with
headquarters in Secaucus, New Jersey.
Risks
related to the Company
Influence of Significant Stockholder. The
Companys chairman and chief executive officer,
Mr. Anthony J. Gumbiner, owns approximately 66% of the
Companys outstanding common stock as of March 21,
2008. Accordingly, Mr. Gumbiner can exert substantial
influence over the affairs of the Company.
5
The Company is Dependent on its Key Personnel Whose Continued
Service Is Not Guaranteed. The Company is
dependent upon its executive officers for strategic business
direction and specialized industry experience. While the Company
believes that it could find replacements for these key
personnel, loss of their services could adversely affect the
Companys operations.
Compliance with Corporate Governance and Disclosure
Standards. The Company has spent and continues to
spend a significant amount of management time and resources to
comply with laws, regulations and standards relating to
corporate governance and public disclosure, including under the
Sarbanes-Oxley Act of 2002 (Sarbanes-Oxley), SEC
regulations and stock exchange rules. Section 404 of
Sarbanes-Oxley requires managements annual review and
evaluation of the Companys internal control over financial
reporting and attestations of the effectiveness of these
controls by management. Because the Company qualifies as a
smaller reporting company, the Companys independent
registered public accounting firm is not required to provide an
attestation report. In early 2008, the Company completed its
first Section 404 report for fiscal year 2007. The Company
expects to continue to enhance its internal controls, however,
there is no guarantee that these efforts will result in
management assurance or an attestation by our independent
registered public accounting firm that internal control over
financial reporting is effective in future periods. In the event
that our chief executive officer, chief financial officer or
independent registered public accounting firm determines that
the Companys internal control over financial reporting is
not effective as required by Section 404 of Sarbanes-Oxley,
investor perceptions of the Company may be adversely affected.
In addition, overhead may increase as a result of the additional
costs associated with complying with the complex legal
requirements associated with being a public reporting company.
Risks
related to our Textile Products Business
The Companys textile products business may be affected by
the following risk factors, each of which could adversely affect
the Company.
Suppliers. Brookwood purchases a significant
amount of the fabric and other materials it processes and sells
from a small number of suppliers. Brookwood believes that the
loss of any one of its suppliers would not have a long-term
material adverse effect because other manufacturers with which
Brookwood conducts business would be able to fulfill those
requirements. However, the loss of certain of Brookwoods
suppliers could, in the short term, adversely affect
Brookwoods business until alternative supply arrangements
were secured. In addition, there can be no assurance that any
new supply arrangements would have terms as favorable as those
contained in current supply arrangements. Some of
Brookwoods suppliers are entering the military markets in
competition to Brookwood, targeting specific military
specifications, however, there has been no adverse affect upon
Brookwoods business relationship to date. Brookwood has
not experienced any significant disruptions in supply as a
result of shortages in fabrics or other materials from its
suppliers.
Sales Concentration. Sales to one Brookwood
customer, Tennier Industries, Inc. (Tennier),
accounted for more than 10% of Brookwoods sales in each of
the three years ended December 31, 2007. Its relationship
with Tennier is ongoing. Sales to Tennier, which are included in
military sales, were $40,844,000, $31,300,000 and $56,883,000 in
2007, 2006 and 2005, respectively, which represented 30.8%,
27.9% and 42.7% of Brookwoods sales. Sales to another
customer, ORC Industries, Inc. (ORC), accounted for
more than 10% of Brookwoods sales in 2006, but decreased
in 2007. Its relationship with ORC is ongoing. Sales to ORC,
which are also included in military sales, were $8,971,000,
$12,609,000 and $10,099,000 in 2007, 2006 and 2005,
respectively, which represented 6.8%, 11.2% and 7.6% of
Brookwoods sales.
Military sales were $70,006,000, $53,885,000 and $72,456,000 in
2007, 2006 and 2005, respectively, which represented 52.8%,
48.0% and 54.4% of Brookwoods sales. Through 2005,
military sales, including the sales to Tennier and ORC,
generally comprised an increased portion of Brookwoods
total sales. Brookwood experienced reduced military sales in
2006 and in the 2007 first quarter; however the
U.S. government released orders beginning in the 2007
second quarter, which resulted in an overall increase in 2007
military sales. Brookwoods sales to the customers from
whom it derives its military business have been more volatile
and difficult to predict, a trend the Company believes will
continue. In recent years, orders from the military for goods
generally were significantly affected by the increased activity
of the U.S. military. If this activity does not continue or
declines, then orders from the military generally, including
orders for Brookwoods products, may be similarly affected.
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The military had limited orders in 2006 and in the 2007 first
quarter for existing products and adopted revised specifications
for new products to replace the products for which
Brookwoods customers have been suppliers. However, the
U.S. government released orders in the remaining 2007
quarters for goods that include Brookwoods products, which
resulted in a substantial increase in military sales. Changes in
specifications or orders present a potential opportunity for
additional sales; however, it is a continuing challenge to
adjust to changing specifications and production requirements.
Brookwood is currently conducting research and development on
various processes and products intended to comply with the
revised specifications and participating in the bidding process
for new military products. The 2007 sales included revenue from
some of these new military products. To the extent
Brookwoods products are not included in future purchases
by the U.S. government for any reason, Brookwoods
sales could be adversely affected. In addition, the
U.S. government is releasing contracts for shorter periods
than in the past. The Company acknowledges the unpredictability
in revenues and margins due to military sales and is unable at
this time to predict future sales trends.
Concentration of Credit. The financial
instruments that potentially subject Brookwood to concentration
of credit risk consist principally of accounts receivable.
Brookwood grants credit to customers based on an evaluation of
the customers financial condition. Exposure to losses on
receivables is principally dependent on each customers
financial condition. Brookwood manages its exposure to credit
risks through credit approvals, credit limits, monitoring
procedures and the use of factors.
The amount of receivables that Brookwood can factor is subject
to certain limitations as specified in individual factoring
agreements. The factoring agreements expose Brookwood to credit
risk if any of the factors fail to meet their obligations.
Brookwood seeks to manage this risk by conducting business with
a number of reputable factors and monitoring the factors
performance under their agreements. Though the current
tightening in the credit markets did not have an adverse effect
upon Brookwoods factoring arrangements in 2007, one of
Brookwoods principal factors announced in March 2008 that
it had been negatively impacted and was required to draw on its
bank credit lines to provide additional liquidity. Brookwood is
monitoring its factor relationships and developing alternative
strategies should economic conditions deteriorate further.
Loan Covenants. Brookwoods
revolving credit agreement requires compliance with various loan
covenants and financial ratios, principally a total debt to
tangible net worth ratio of 1.50 and a requirement that net
income in each quarter must exceed one dollar. Brookwood was in
compliance with its principal loan covenants as of
December 31, 2007 and for all interim periods during 2007,
although a waiver regarding a pro forma (inclusive of projected
dividend) total debt to tangible net worth ratio for the 2007
third quarter was granted to allow a $1,500,000 dividend payment
in November 2007.
Environmental. Kenyon and Brookwood Laminating
are subject to a broad range of federal, state and local laws
and regulations relating to the pollution and protection of the
environment. Among the many environmental requirements
applicable to Kenyon and Brookwood Laminating are laws relating
to air emissions, ozone depletion, wastewater discharges and the
handling, disposal and release of solid and hazardous substances
and wastes. Based on continuing internal review and advice from
independent consultants, Kenyon and Brookwood Laminating believe
that they are currently in substantial compliance with
applicable environmental requirements. Kenyon and Brookwood
Laminating are also subject to such laws as the Comprehensive
Environmental Response Compensation and Liability Act
(CERCLA), that may impose liability retroactively
and without fault for releases or threatened releases of
hazardous substances at
on-site or
off-site locations. Kenyon and Brookwood Laminating are not
aware of any releases for which they may be liable under CERCLA
or any analogous provision. Actions by federal, state and local
governments concerning environmental matters could result in
laws or regulations that could increase the cost of producing
the products manufactured by Kenyon and Brookwood Laminating or
otherwise adversely affect demand for their products. Widespread
adoption of any prohibitions or restrictions could adversely
affect the cost
and/or the
ability to produce products and thereby have a material adverse
effect upon Kenyon, Brookwood Laminating or Brookwood.
Brookwood does not currently anticipate any material adverse
effect on its business, results of operations, financial
condition or competitive position as a result of its efforts to
comply with environmental requirements. Some risk of
environmental liability is inherent, however, in the nature of
Brookwoods business. There can be no
7
assurance that material environmental liabilities will not
arise. It is also possible that future developments in
environmental regulation could lead to material environmental
compliance or cleanup costs.
Patent and Trademark. Brookwood considers its
patents and trademarks, in the aggregate, to be important to its
business and seeks to protect this proprietary know-how in part
through U.S. patent and trademark registrations. No
assurance can be given, however, that such protection will give
Brookwood any material competitive advantage. In addition,
Brookwood maintains certain trade secrets for which, in order to
maintain the confidentiality of such trade secrets, it has not
sought patent or trademark protection. As a result, such trade
secrets could be infringed upon and such infringement could have
a material adverse effect on its business, results of
operations, financial condition or competitive position.
In July 2007, Nextec Applications Inc. filed a lawsuit in the
United States District Court for the Southern District of New
York claiming that Brookwood infringed five United States
patents pertaining to internally-coated webs. Brookwood has
answered the lawsuit and intends to vigorously defend these
claims.
Competition. The cyclical nature of the
textile and apparel industries, characterized by rapid shifts in
fashion, consumer demand and competitive pressures, results in
both price and demand volatility. The demand for any particular
product varies from time to time based largely upon changes in
consumer and industrial preferences, military specifications,
and general economic conditions affecting the textile and
apparel industries, such as consumer expenditures for
non-durable goods. The textile and apparel industries are also
cyclical because the supply of particular products changes as
competitors enter or leave the market.
Brookwood sells primarily to domestic manufacturers, some of
which operate offshore sewing operations. Some of
Brookwoods customers have moved their business offshore
during the past few years. Brookwood has responded by shipping
fabric Asia to Asia and also by supplying finished products and
garments directly to manufacturers. Brookwood competes with
numerous domestic and foreign fabric manufacturers, including
companies larger in size and having greater financial resources
than Brookwood. The principal competitive factors in the woven
fabrics markets are price, service, delivery time, quality and
flexibility, with the relative importance of each factor
depending upon the needs of particular customers and the
specific product offering. Brookwoods management believes
that Brookwood maintains its ability to compete effectively by
providing its customers with a broad array of high-quality
fabrics at competitive prices on a timely basis.
There are an increasing number of competitors entering the
military market. These competitors vary and include converters
from other market segments, as well as, major mills, some of
which are Brookwood suppliers, who are selectively targeting
specific military specifications. As these companies enter the
military market, the competitive pressures may result in further
price and demand volatility.
Brookwoods competitive position varies by product line.
There are several major domestic competitors in the synthetic
fabrics business, none of which dominates the market. Brookwood
believes, however, that it has a strong competitive position. In
addition, Brookwood believes it is one of a few finishers
successful in printing camouflage on nylon for sale to apparel
suppliers of the U.S. government. Additional competitive
strengths of Brookwood include: knowledge of its customers
business needs; its ability to produce special fabrics such as
textured blends; waterproof breathable fabrics; state of the art
fabric finishing equipment at its facilities; substantial
vertical integration; and its ability to communicate
electronically with its customers.
Imports and Worldwide Trade Practices. Imports
of foreign-made textile and apparel products are a significant
source of competition for most sectors of the domestic textile
industry. The U.S. government has attempted to regulate the
growth of certain textile and apparel imports through tariffs
and bilateral agreements, which establish quotas on imports from
lesser-developed countries that historically account for
significant shares of U.S. imports. Despite these efforts,
imported apparel, which represents the area of heaviest import
penetration, is estimated to represent in excess of 90% of the
U.S. market.
The U.S. textile industry has been and continues to be
negatively impacted by existing worldwide trade practices,
including the North American Free Trade Agreement
(NAFTA), anti-dumping and duty enforcement
activities by the U.S. Government and by the value of the
U.S. dollar in relation to other currencies. The
establishment of the World Trade Organization (WTO)
in 1995 has resulted in the phase out of quotas on textiles and
apparel, effective January 1, 2005. Notwithstanding quota
elimination, Chinas accession agreement for
8
membership in the WTO provides that WTO member countries
(including the United States, Canada and European countries) may
re-impose quotas on specific categories of products in the event
it is determined that imports from China have surged and are
threatening to create a market disruption for such categories of
products. During 2005, the United States and China agreed to a
new quota arrangement, which will impose quotas on certain
textile products through the end of 2008. In addition, the
European Union also agreed with China on a new textile
arrangement, which imposed quotas through the end of 2007. The
European Union and China have announced that they will jointly
monitor the volume of trade in a number of highly sensitive
product categories during 2008. The United States may also
unilaterally impose additional duties in response to a
particular product being imported (from China or other
countries) in such increased quantities as to cause (or
threaten) serious damage to the relevant domestic industry
(generally known as anti-dumping actions). In
addition, China has imposed an export tax on all textile
products manufactured in China; Brookwood does not believe this
tax will have a material impact on its business.
Under NAFTA there are no textile and apparel quotas between the
U.S. and either Mexico or Canada for products that meet
certain origin criteria. Tariffs among the three countries are
either already zero or are being phased out. Also, the WTO
recently phased out textile and apparel quotas.
The U.S. has also approved the Central American Free Trade
Agreement (CAFTA) with several Central American
countries (Costa Rica, the Dominican Republic, El Salvador,
Guatemala, Honduras and Nicaragua). Under CAFTA, textile and
apparel originating from CAFTA countries will be duty and
quota-free, provided that yarn formed in the United States or
other CAFTA countries is used to produce the fabric. In
addition, the United States recently implemented bilateral free
trade agreements with Bahrain, Chile, Israel, Jordan, Morocco
and Singapore. Although these actions have the effect of
exposing Brookwoods market to the lower price structures
of the other countries and, therefore, continuing to increase
competitive pressures, management is not able to predict their
specific impact.
In 2002, the U.S. government unveiled a proposal to
eliminate worldwide tariffs for manufactured goods by 2015. The
European Union has also proposed significant reductions in
tariffs. These proposals have been discussed during the ongoing
WTO Doha Round of multilateral negotiations, and could lead to
further significant changes in worldwide tariffs beyond those
already anticipated. Accordingly, Brookwood believes it must
fully utilize other competitive strategies to replace sales lost
to importers. One strategy is to identify new market niches. In
addition to its existing products and proprietary technologies,
Brookwood has been developing advanced breathable, waterproof
laminate and other materials, which have been well received by
its customers. Continued development of these fabrics for
military, industrial and consumer application is a key element
of Brookwoods business plan. The ongoing enterprise value
of Brookwood is contingent on its ability to maintain its level
of military business and adapt to the global textile industry;
however, there can be no assurance that the positive results of
the past can be sustained or that competitors will not
aggressively seek to replace products developed by Brookwood.
The U.S. government engaged in discussions with a number of
countries or trading blocs with the intent of further
liberalizing trade. Authority to negotiate new fast
track agreements has been granted by Congress, making new
agreements in this field more likely. The U.S. government
has also entered into a free trade agreement with Australia,
Bahrain, Chile, Israel, Jordan, Morocco and Singapore.
Labor Relations. Kenyon has entered into a
three-year collective bargaining agreement with the Union of
Needletrades, Industrial and Textile Employees, representing
approximately 240 employees at its Rhode Island plant
facility, effective from March 1, 2007 through
February 28, 2010. The union has recently raised concerns
over certain aspects of that agreement. Kenyons management
continues to work in good faith to maintain its previous
positive relationship with its union employees, as it has with
its non-union employees.
Brookwood is Dependent on its Key Personnel Whose Continued
Service Is Not Guaranteed. Brookwood is dependent
upon its executive officers for strategic business direction and
specialized industry experience. While the Company believes that
it could find replacements for these key personnel, the loss of
their services could adversely affect Brookwoods
operations.
9
Risks
Related to our Energy Business
The Companys energy investment may be affected by the
following risk factors, each of which could adversely affect the
value of the investment.
Volatility of Natural Gas Prices. A decline in
natural gas prices could adversely affect financial results.
Revenues, operating results, profitability, cash flows, future
rate of growth and the value of the natural gas properties
depend primarily upon the prices received for natural gas sold.
Historically, the markets for natural gas have been volatile and
they are likely to continue to be volatile. Wide fluctuations in
natural gas prices may result from relatively minor changes in
the supply of and demand for natural gas, market uncertainty and
other factors that are beyond the Companys control,
including: worldwide and domestic supplies of natural gas;
weather conditions; the level of consumer demand; the price and
availability of alternative fuels; the availability of pipeline
capacity; domestic and foreign governmental regulations and
taxes; and the overall economic environment. These factors and
the volatility of the energy markets make it extremely difficult
to predict future natural gas price movements. Declines in
natural gas prices would not only reduce revenue, but could
reduce the amount of natural gas that can be produced
economically and, as a result, could have a material adverse
effect on the financial condition, results of operations and
reserves for our Hallwood Energy affiliate.
Drilling Activities. Hallwood Energys
success is materially dependent upon the success of its drilling
program. Future drilling activities may not be successful and,
if drilling activities are unsuccessful, such failure will have
an adverse effect on Hallwood Energys future results of
operations and financial condition. Oil and gas drilling
involves numerous risks, including the risk that no commercially
productive oil or gas reservoirs will be encountered, even if
the reserves targeted are classified as proved. The cost of
drilling, completing and operating wells is often uncertain, and
drilling operations may be curtailed, delayed or canceled as a
result of a variety of factors, including unexpected drilling
conditions, pressure or irregularities in formations, equipment
failures or accidents, adverse weather conditions, compliance
with governmental requirements and shortages or delays in the
availability of drilling rigs and the delivery of equipment.
Although numerous drilling prospects have been identified, there
can be no assurance that such prospects will be drilled or that
oil or natural gas will be produced from any such identified
prospects or any other prospects.
Significant Capital Expenditures
Required. Hallwood Energys acquisition,
exploration and development activities require substantial
capital expenditures. Historically, these capital expenditures
have been funded through operations, debt and equity issuances.
Future cash flows are subject to a number of variables, such as
level of production, natural gas prices and its success in
developing and producing new reserves, as well as availability
of additional debt or equity capital. If access to capital were
limited, Hallwood Energy would not have sufficient funds to
complete the capital expenditures required to fully develop its
reserves.
Regulations. The oil and gas industry is
subject to regulation at the federal, state and local level, and
some of the laws, rules and regulations carry substantial
penalties for noncompliance. Such regulations include
requirements for permits to drill and to conduct other
operations and for provision of financial assurances covering
drilling and well operations.
Operations are also subject to various conservation regulations.
These include the regulation of the size of drilling and spacing
units and the unitization or pooling of oil or natural gas
properties. In addition, state conservation laws establish
maximum rates of production.
Environmental regulations concerning the discharge of
contaminants into the environment, the disposal of contaminants
and the protection of public health, natural resources and
wildlife affect exploration, development and production
operations. Under state and federal laws, Hallwood Energy could
be required to remove or remedy previously disposed wastes or
suspend operations in contaminated areas or perform remedial
plugging operations to prevent future contamination.
Competition. Hallwood Energy operates in a
highly competitive area of acquisition, development, exploration
and production of natural gas properties with competitors who
have greater financial and other resources. Competitors from
both major and independent oil and natural gas companies may be
able to pay more for development prospects than the financial
resources or human resources of Hallwood Energy permit. Hallwood
Energys ability to develop and exploit its natural gas
properties and to acquire additional properties in the future
10
will depend on its ability to successfully conduct operations,
evaluate and select suitable properties and consummate
transactions in this highly competitive environment.
Quantity and Present Value of
Reserves. Financial information for Hallwood
Energy is based on estimates of proved reserves and the
estimated future net revenues for the proved reserves. These
estimates are based upon various assumptions relating to natural
gas prices, drilling and operating expenses, capital
expenditures, taxes and availability of funds. The process of
estimating natural gas reserves is complex and these estimates
are inherently imprecise. Actual results will most likely vary
from these estimates. Actual future prices and costs may be
materially higher or lower than the prices and costs as of the
date of an estimate.
Operational Hazards. Natural gas operations
are subject to many environmental hazards and risks, including
well blowouts, cratering and explosions, pipe failures, fires,
formations with abnormal pressures, uncontrollable flows of
natural gas, brine or well fluids, and other hazards and risks.
Drilling operations involve risks from high pressures and
mechanical difficulties such as stuck pipes, collapsed casings
and separated cables. If any of these risks occur, substantial
losses could result from injury or loss of life, severe damages
to or destruction of property, pollution or other environmental
damage,
clean-up
responsibilities, regulatory investigations and penalties and
suspension of operations. Insurance is maintained against some
of these risks, but may not adequately cover all of a
catastrophic loss.
Loan Indebtedness and Covenants. In April
2007, Hallwood Energy entered into a $100,000,000 senior secured
credit facility (the Senior Secured Credit Facility)
with an affiliate of one of the investors. As of
December 31, 2007, Hallwood Energy borrowed the full amount
available under the Senior Secured Credit Facility and in
January 2008, entered into a second loan facility (the
Junior Credit Facility and together with the Senior
Secured Credit Facility, the Secured Credit
Facilities) with the same lender and borrowed the full
$15,000,000 available under the Junior Credit Facility. The
level of indebtedness affects Hallwood Energys operations
in various ways: a portion of cash flows must be used to service
the debt and is not available for other purposes; it may put
Hallwood Energy at a competitive disadvantage as compared to
companies with less debt; and loan covenants may limit Hallwood
Energys financial and operational flexibility.
The Secured Credit Facilities contains various financial
covenants, including maximum general and administrative
expenditures and current and proved collateral coverage ratios.
The proved collateral coverage ratio covenant is effective
June 30, 2008. Non-financial covenants restrict the ability
of Hallwood Energy to dispose of assets, incur additional
indebtedness, prepay other indebtedness or amend certain debt
instruments, pay dividends, create liens on assets, enter into
sale and leaseback transactions, make investments, loans or
advances, make acquisitions, engage in mergers or consolidations
or engage in certain transactions with affiliates, and otherwise
restrict certain activities by Hallwood Energy. The lender may
demand that Hallwood Energy prepay the Secured Credit Facilities
in the event of a defined change of control, qualified sale or
event of default, including a material adverse event. The
Secured Credit Facilities contain a make-whole provision whereby
Hallwood Energy is required to pay the lender the present value
amount of interest that would have been payable on the principal
balance of the loan from the date of prepayment through
February 8, 2009.
Hallwood Energy was not in compliance with the Senior Secured
Credit Facility as of December 31, 2007 in regards to
meeting the current ratio test of 1:1. A second default event
related to a commitment agreement by three of Hallwood
Energys partners to fund $15,000,000 by November 1,
2007 that was only partially funded. The lender waived these
defaults in January 2008 and amended the loan agreement for the
Senior Secured Credit Facility, which established the next
current ratio test at April 30, 2008. Hallwood Energy does
not expect to maintain compliance with the required current and
proved collateral coverage ratios during the year ended
December 31, 2008, unless additional funds are raised
through issuance of debt or equity instruments.
Access to Additional Debt or Equity
Capital. Hallwood Energy anticipates that
substantial additional debt or equity funding will be required
over the next few years to complete budgeted property
acquisition, exploration and development activities. If Hallwood
Energy is unable to meet its loan agreement covenants and is
unable to obtain additional operating funds through the issuance
of debt or equity instruments, there is substantial doubt about
its ability to continue as a going concern. Hallwood Energy in
the process of seeking additional capital from external sources.
11
|
|
Item 1B.
|
Unresolved
Staff Comments
|
None.
Real
Properties
The general character, location and nature of the significant
real properties owned by the Company and its subsidiaries and
the encumbrances against such properties are described below.
Cost of real estate owned by property type and location as of
December 31, 2007 (in thousands):
|
|
|
|
|
|
|
Property Type
|
|
Location
|
|
Cost
|
|
|
Dyeing and finishing plant
|
|
Rhode Island
|
|
$
|
6,272
|
|
Parking Lot
|
|
Texas
|
|
|
50
|
|
|
|
|
|
|
|
|
Total
|
|
|
|
$
|
6,322
|
|
|
|
|
|
|
|
|
As of December 31, 2007, no single real estate property
constituted 10% or more of the Companys consolidated
assets.
The textile products dyeing and finishing plant is a
multi-shift facility well-suited for that particular business.
The development of new products requires the plant to be
constantly upgraded, along with various levels of utilization.
As the Brookwood capital stock is pledged as collateral under
Brookwoods Key Bank Credit Agreement, the plant is
indirectly encumbered. In addition, the Credit Agreement also
contains a covenant to reasonably maintain property and
equipment.
Leased
Facilities
The Company has a lease obligation for office space in Dallas,
Texas, which expires in November 2008. Since January 2005 and
August 2005, respectively, the Company shares its Dallas office
space with Hallwood Investments Limited (HIL), a
corporation associated with Mr. Anthony J. Gumbiner, the
Companys chairman, chief executive officer and principal
stockholder, and Hallwood Energy, each of which pays a pro-rata
share of lease and other office-related costs.
Brookwood leased its former corporate headquarters in New York
City, which expired in August 2006. In 2006, Brookwood entered
into a lease which commenced in August 2006 for the relocation
of its headquarters within New York City. This ten-year lease
expires in August 2016 and provides for additional marketing and
administrative space.
In January 2006, Brookwood Laminating entered into a lease for a
new facility in Plainfield, Connecticut which expires in
December 2010. This lease contains two five-year renewal options
and a purchase option for $3,200,000. Brookwoods Roll
Goods division shares a portion of the Connecticut facility and
also leases warehouse space in Gardena, California which expires
in April 2009.
|
|
Item 3.
|
Legal
Proceedings
|
Litigation. From time to time, the Company,
its subsidiaries, certain of its affiliates and others have been
named as defendants in lawsuits relating to various transactions
in which it or its affiliated entities participated. In the
Companys opinion, no litigation in which the Company,
subsidiaries or affiliates is a party is likely to have a
material adverse effect on its financial condition, results of
operations or cash flows.
On July 31, 2007, Nextec Applications, Inc. filed Nextec
Applications, Inc. v. Brookwood Companies Incorporated and
The Hallwood Group Incorporated in the United States
District Court for the Southern District of New York (SDNY
No. CV
07-6901)
claiming that the defendants infringed five United States
patents pertaining to internally-coated webs: U.S. Patent
No. 5,418,051; 5,856,245; 5,869,172; 6,071,602 and
6,129,978. On October 3, 2007, the U.S. District Court
dismissed The Hallwood Group Incorporated from the lawsuit.
Brookwood has answered the lawsuit and intends to vigorously
defend these claims.
12
Hallwood Energy. As a significant investor in
Hallwood Energy, the Company may be impacted by litigation
involving Hallwood Energy. Refer to Item 7,
Managements Discussion and Analysis of Financial
Condition and Results of Operations Investments in
and Loans to Hallwood Energy for a further description of
certain litigation involving Hallwood Energy.
Environmental Contingencies. A number of
jurisdictions in which the Company operates have adopted laws
and regulations relating to environmental matters. Such laws and
regulations may require the Company to secure governmental
permits and approvals and undertake measures to comply
therewith. Compliance with the requirements imposed may be
time-consuming and costly. While environmental considerations,
by themselves, have not significantly affected the
Companys business to date, it is possible that such
considerations may have a significant and adverse impact in the
future. The Company actively monitors its environmental
compliance and while certain matters currently exist, management
is not aware of any compliance issues which will significantly
impact the financial position, operations or cash flows of the
Company.
In August 2005, the Rhode Island Department of Health
(RIDOH) issued a compliance order to Kenyon,
alleging that Kenyon is a non-community water system and
ordering Kenyon to comply with the RIDOH program for public
water supply systems. Kenyon contested the compliance order and
an administrative hearing was held in November 2005. No decision
has been rendered. Complying with the RIDOH requirements would
necessitate revamping of the plants water supply system
and associated costs of approximately $100,000.
In August 2005, Kenyon received a Notice of Alleged Violation
from The Rhode Island Department of Environmental Management
(RIDEM) with notification that Kenyon had failed to
comply timely with a requirement to test the destruction
efficiency of a thermal oxidizer at its Kenyon plant and that
when the test was conducted the equipment was not operating at
the required efficiency. Since that time, Kenyon has upgraded
and retested the equipment, which met the requirements on the
retest. RIDEM has requested additional information regarding the
failed test and Kenyons remedial actions, which Kenyon has
provided.
In September 2005, Brookwood accrued $250,000 for anticipated
environmental remediation costs in connection with a plan to
remove, dewater, transport and dispose of sludge from its
lagoons. Brookwood accrued an additional $35,000 for remediation
costs in 2006. Brookwood received approval from RIDEM for the
remediation activities, which were completed in July 2006.
In June 2007, RIDEM issued a Notice Of Violation
(NOV) to Kenyon, alleging that the Company violated
certain provisions of its wastewater discharge permit and
seeking an administrative penalty of $79,000. Kenyon filed an
Answer and Request for Hearing to dispute certain allegations in
the NOV and the amount of the penalty. The informal meeting was
held in August 2007 and settlement negotiations are ongoing.
|
|
Item 4.
|
Submission
of Matters to a Vote of Security Holders
|
No matters were submitted to a vote of security holders during
the period.
13
PART II
|
|
Item 5.
|
Market
for Registrants Common Equity, Related Stockholder Matters
and Issuer Purchases of Equity Securities
|
The Companys shares of common stock, $0.10 par value
per share (the Common Stock), are traded on the
American Stock Exchange under the symbol of HWG. There were 588
stockholders of record as of March 21, 2008.
The following table sets forth a three-year record, by quarter,
of high and low closing prices on the American Stock Exchange
and cash dividends paid.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
Quarters
|
|
High
|
|
|
Low
|
|
|
Dividends
|
|
|
High
|
|
|
Low
|
|
|
Dividends
|
|
|
High
|
|
|
Low
|
|
|
Dividends
|
|
|
First
|
|
$
|
121.66
|
|
|
$
|
94.25
|
|
|
$
|
|
|
|
$
|
152.00
|
|
|
$
|
69.91
|
|
|
$
|
|
|
|
$
|
141.98
|
|
|
$
|
99.25
|
|
|
$
|
|
|
Second
|
|
|
106.50
|
|
|
|
78.50
|
|
|
|
|
|
|
|
141.00
|
|
|
|
80.75
|
|
|
|
|
|
|
|
159.00
|
|
|
|
73.00
|
|
|
|
37.70
|
|
Third
|
|
|
90.50
|
|
|
|
74.55
|
|
|
|
|
|
|
|
121.00
|
|
|
|
94.00
|
|
|
|
|
|
|
|
90.00
|
|
|
|
61.00
|
|
|
|
6.17
|
|
Fourth
|
|
|
81.49
|
|
|
|
60.98
|
|
|
|
|
|
|
|
122.50
|
|
|
|
80.50
|
|
|
|
|
|
|
|
81.00
|
|
|
|
56.50
|
|
|
|
|
|
During 2005, the Company paid two cash dividends. The first
dividend in the amount of $37.70 per share was paid on
May 27, 2005 to stockholders of record as of May 20,
2005. The second dividend in the amount of $6.17 per share was
paid on August 18, 2005 to stockholders of record as of
August 12, 2005. The two cash distributions were in partial
liquidation of the Company as a result of the Companys
disposition of its real estate interests and partnership units
relating to its former real estate affiliate, Hallwood Realty
Partners, L.P. (HRP) in July 2004, and the board of
directors determination to discontinue the Companys
real estate activities effective January 1, 2005, and
approximated the total amount received from the disposition of
its real estate interests related to HRP.
During 2006 and 2007, the Company purchased a total of 5,179 of
its common shares from certain officers of the Company in
connection with the exercise of stock options. The purchases
were equivalent to the exercise price and related tax
withholding requirement associated with the exercise of the
stock options at the fair market value of the common stock at
the date of exercise.
The closing price per share of the Common Stock was $60.00 at
March 21, 2008.
14
|
|
Item 6.
|
Selected
Financial Data
|
The following table sets forth, as of the dates and for the
periods indicated, selected financial information. The financial
information is derived from our audited consolidated financial
statements for such periods. The information should be read in
conjunction with Managements Discussion and Analysis
of Financial Condition and Results of Operations and the
consolidated financial statements and notes thereto contained in
this document. The following information is not necessarily
indicative of future results.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
2004
|
|
|
2003
|
|
|
|
(In thousands, except per share data)
|
|
|
Revenues
|
|
$
|
132,497
|
|
|
$
|
112,154
|
|
|
$
|
134,607
|
|
|
$
|
137,280
|
|
|
$
|
104,720
|
|
Expenses
|
|
|
125,247
|
|
|
|
111,382
|
|
|
|
134,554
|
|
|
|
125,609
|
|
|
|
100,145
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating income
|
|
|
7,250
|
|
|
|
772
|
|
|
|
53
|
|
|
|
11,671
|
|
|
|
4,575
|
|
Other income (loss):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Equity income (loss) from investments in energy affiliates(a)
|
|
|
(55,957
|
)
|
|
|
(10,418
|
)
|
|
|
(8,500
|
)
|
|
|
(9,901
|
)
|
|
|
50
|
|
Interest expense
|
|
|
(1,146
|
)
|
|
|
(616
|
)
|
|
|
(545
|
)
|
|
|
(1,197
|
)
|
|
|
(1,636
|
)
|
Other, net
|
|
|
399
|
|
|
|
566
|
|
|
|
1,532
|
|
|
|
2,918
|
|
|
|
2,390
|
|
Gain (loss) from disposition of HE III and HEC(b)
|
|
|
|
|
|
|
(17
|
)
|
|
|
52,312
|
|
|
|
62,288
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(56,704
|
)
|
|
|
(10,485
|
)
|
|
|
44,799
|
|
|
|
54,108
|
|
|
|
804
|
|
Income (loss) from continuing operations before income taxes
|
|
|
(49,454
|
)
|
|
|
(9,713
|
)
|
|
|
44,852
|
|
|
|
65,779
|
|
|
|
5,379
|
|
Income tax expense (benefit)
|
|
|
(16,629
|
)
|
|
|
(2,988
|
)
|
|
|
18,510
|
|
|
|
11,079
|
|
|
|
1,725
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income (loss) from continuing operations
|
|
|
(32,825
|
)
|
|
|
(6,725
|
)
|
|
|
26,342
|
|
|
|
54,700
|
|
|
|
3,654
|
|
Income (loss) from discontinued operations, net of tax:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income from real estate operations(c)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
39,002
|
|
|
|
4,339
|
|
Income (loss) from hotel operations
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
783
|
|
|
|
(568
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
39,785
|
|
|
|
3,771
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net Income (Loss)
|
|
$
|
(32,825
|
)
|
|
$
|
(6,725
|
)
|
|
$
|
26,342
|
|
|
$
|
94,485
|
|
|
$
|
7,425
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income (Loss) from Continuing Operations Per Common Share
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic
|
|
$
|
(21.61
|
)
|
|
$
|
(4.44
|
)
|
|
$
|
18.22
|
|
|
$
|
41.24
|
|
|
$
|
2.68
|
|
Diluted
|
|
|
(21.61
|
)
|
|
|
(4.44
|
)
|
|
|
17.47
|
|
|
|
36.79
|
|
|
|
2.59
|
|
Net Income (Loss) Per Common Share
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic
|
|
$
|
(21.61
|
)
|
|
$
|
(4.44
|
)
|
|
$
|
18.22
|
|
|
$
|
71.24
|
|
|
$
|
5.47
|
|
Diluted
|
|
|
(21.61
|
)
|
|
|
(4.44
|
)
|
|
|
17.47
|
|
|
|
63.55
|
|
|
|
5.30
|
|
Dividends Per Common Share
|
|
|
|
|
|
|
|
|
|
$
|
43.87
|
|
|
|
|
|
|
|
|
|
Weighted Average Shares Outstanding
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic
|
|
|
1,519
|
|
|
|
1,514
|
|
|
|
1,446
|
|
|
|
1,326
|
|
|
|
1,347
|
|
Diluted
|
|
|
1,519
|
|
|
|
1,514
|
|
|
|
1,508
|
|
|
|
1,487
|
|
|
|
1,390
|
|
Financial Condition
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total assets
|
|
$
|
90,745
|
|
|
$
|
107,597
|
|
|
$
|
108,801
|
|
|
$
|
157,317
|
|
|
$
|
83,554
|
|
Loans payable
|
|
|
17,366
|
|
|
|
10,892
|
|
|
|
6,812
|
|
|
|
9,136
|
|
|
|
23,938
|
|
Redeemable preferred stock
|
|
|
1,000
|
|
|
|
1,000
|
|
|
|
1,000
|
|
|
|
1,000
|
|
|
|
1,000
|
|
10% Debentures
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
6,569
|
|
Common stockholders equity
|
|
|
48,812
|
|
|
|
81,966
|
|
|
|
88,443
|
|
|
|
124,541
|
|
|
|
29,829
|
|
|
|
|
(a) |
|
In 2007, Hallwood Energy reported a net loss of $276,413,000,
which included an impairment of $232,002,000 associated with its
oil and gas properties. The Company recorded its proportionate
share of the net loss, to the extent of its carrying value. |
|
(b) |
|
In July 2005, the Company sold its investment in HE III. In
December 2004, the Company sold its investment in Hallwood
Energy Corporation. |
|
(c) |
|
In July 2004, the Company sold its investments in HRP. |
15
|
|
Item 7.
|
Managements
Discussion and Analysis of Financial Condition and Results of
Operations
|
Overview
General. Until July 2004, the Company was a
diversified holding company with interests in textiles, real
estate and energy. Since that time, the Company disposed of its
interests in Hallwood Realty Partners, L.P. (HRP) in
July 2004, which constituted substantially all of its real
estate activities, and Hallwood Energy Corporation
(HEC) and HE III, two of its energy affiliates, in
December 2004 and July 2005, respectively. The Company received
total cash proceeds from these transactions of approximately
$178,000,000. These proceeds were used to repay bank debt, the
Companys 10% Debentures and other obligations and
make additional investments in its energy affiliates. In
addition, the Company paid cash dividends to its common
stockholders of $56,789,000, or $37.70 per share, in May 2005,
and $9,324,000, or $6.17 per share, in August 2005. The Company
had $7,260,000 in cash and cash equivalents at December 31,
2007.
At December 31, 2007, the Company is a holding company with
interests in textiles and energy.
Textile Products. The Company derives
substantially all of its operating revenues from the textile
activities of its Brookwood subsidiary; consequently, the
Companys success is highly dependent upon Brookwoods
success. Brookwoods success will be influenced in varying
degrees by its ability to continue sales to existing customers,
cost and availability of supplies, Brookwoods response to
competition, its ability to generate new markets and products
and the effect of global trade regulations. Although the
Companys textile activities have generated positive cash
flow in recent years, there is no assurance that this trend will
continue.
While Brookwood has enjoyed substantial growth in its military
business, there is no assurance this trend will continue.
Brookwoods sales to the customers from whom it derives its
military business have been volatile and difficult to predict, a
trend the Company believes will continue. In recent years,
orders from the military for goods generally were significantly
affected by the increased activity of the U.S. military. If
this activity does not continue or declines, then orders from
the military generally, including orders for Brookwoods
products, may be similarly affected. Military sales of
$70,006,000, $53,885,000 and $72,456,000 for 2007, 2006 and
2005, respectively, were 29.9% higher in 2007 and 25.6% lower in
2006 from the previous year.
The military had limited orders in 2006 and in the 2007 first
quarter for existing products and adopted revised specifications
for new products to replace the products for which
Brookwoods customers have been suppliers. However, the
U.S. government released orders in the remaining 2007
quarters for goods that include Brookwoods products, which
resulted in a substantial increase in military sales. Changes in
specifications or orders present a potential opportunity for
additional sales; however, it is a continuing challenge to
adjust to changing specifications and production requirements.
Brookwood has regularly conducted research and development on
various processes and products intended to comply with the
revised specifications and participates in the bidding process
for new military products. The 2007 sales include revenue from
some of these new military products. However, to the extent
Brookwoods products are not included in future purchases
by the U.S. government for any reason, Brookwoods
sales could be adversely affected. In addition, the
U.S. government is releasing contracts for shorter periods
than in the past. The Company acknowledges the unpredictability
in revenues and margins due to military sales and is unable at
this time to predict future sales trends.
Unstable global nylon and chemical pricing, and increasing
domestic energy costs, coupled with a varying product mix, have
continued to cause fluctuations in Brookwoods margins, a
trend that appears likely to continue.
Brookwood continues to identify new market niches to replace
sales lost to imports. In addition to its existing products and
proprietary technologies, Brookwood has been developing advanced
breathable, waterproof laminates and other materials, which have
been well received by its customers. Continued development of
these fabrics for military, industrial and consumer applications
is a key element of Brookwoods business plan. The ongoing
success of Brookwood is contingent on its ability to maintain
its level of military business and adapt to the global textile
industry. There can be no assurance that the positive results of
the past can be sustained or that competitors will not
aggressively seek to replace products developed by Brookwood.
The textile products business is not interdependent with the
Companys other business operations. The Company does not
guarantee the Brookwood bank facility and is not obligated to
contribute additional capital.
16
Energy. Following the sale of HE III in July
2005, the Companys remaining affiliates were HE II, HE 4
and Hallwood Exploration. At that time, the Company owned
between 20% and 26% of the entities (between 17% and 21% on a
fully diluted basis) and accounted for the investments using the
equity method of accounting, recording its pro rata share of net
income (loss), partners capital transactions and
comprehensive income (loss). These private companies were
principally involved in acquiring oil and gas leases and
drilling, gathering and sale of natural gas in the Barnett Shale
formation of Parker, Hood and Tarrant Counties in North Texas,
the Barnett Shale and Woodford Shale formations in West Texas,
the Fayetteville Shale formation in Central Eastern Arkansas,
and conducting
3-D seismic
surveys over optioned land covering a Salt Dome in South
Louisiana in order to determine how best to proceed with
exploratory activity.
Effective December 31, 2005, HE II and Hallwood Exploration
were consolidated into HE4, which was renamed Hallwood Energy.
As of December 31, 2007, the Company owned approximately
23% (18% after consideration of profit interests) of Hallwood
Energy.
Refer also to the section Investments in and Loans to
Hallwood Energy for a further description of the
Companys energy activities.
Critical
Accounting Policies
The preparation of financial statements in conformity with
accounting principles generally accepted in the United States of
America requires management to make estimates and judgments that
affect the reported amounts of certain assets, liabilities,
revenues, expenses, and related disclosures. Actual results may
differ from these estimates under different assumptions or
conditions.
The Securities and Exchange Commission (SEC)
requested that registrants identify critical accounting
policies in Item 7 Managements
Discussion and Analysis of Financial Condition and Results of
Operations. The SEC indicated that a critical accounting
policy is one that is both important to the portrayal of
an entitys financial condition and results and requires
managements most difficult, subjective or complex
judgments, often as a result of the need to make estimates about
the effect of matters that are inherently uncertain. The Company
believes that the following of its accounting policies fit this
description:
Revenue Recognition. Textile products sales
are recognized upon shipment or release of product, when title
passes to the customer. Brookwood provides allowances for
expected cash discounts, returns, claims and doubtful accounts
based upon historical bad debt and claims experience and
periodic evaluation of the aging of accounts receivable. If the
financial condition of Brookwoods customers were to
deteriorate, resulting in an impairment of their ability to make
payments, additional allowances would be required.
On occasion, Brookwood receives instructions from some of its
customers to finish fabric, invoice the full amount and hold the
finished inventory until the customer sends shipping
instructions. In those cases, Brookwood records the sale and
sends the customer an invoice containing normal and usual
payment terms and identifies the inventory as separate from
Brookwoods inventory. Generally, a customer provides such
instructions to accommodate its lack of available storage space
for inventory. This practice is customary in the textile
industry and with respect to certain Brookwood customers. In
these cases, the Brookwood customer either dictates delivery
dates at the time the order is placed or when the customer has
not specified a fixed delivery date, the customer owns the goods
and has asked Brookwood to keep them in the warehouse until the
customer provides a delivery date. For all of its bill and
hold sales, Brookwood has no future obligations, the
customer is billed when the product is ready for shipment and
expected to pay under standard billing and credit terms,
regardless of the actual delivery date, and the inventory is
identified and not available for Brookwoods use.
Brookwoods total bill and hold sales in each of the three
years ended December 31, 2007 were less than one percent of
sales.
Deferred Income Tax Asset. A deferred income
tax asset is recognized for net operating loss and certain other
tax carryforwards, tax credits and temporary differences,
reduced by a valuation allowance, which is established when it
is more likely than not that some portion or all of the asset
will not be realized. Management is required to estimate taxable
income for future years and to use its judgment to determine
whether or not to record a valuation allowance to reduce part or
all of a deferred tax asset. Management considers various tax
planning strategies,
17
anticipated gains from the potential sale of investments and
projected income from operations to determine the valuation
allowance to be recorded, if any.
Impairment of Long-Lived Assets. Management
reviews its investments for impairment whenever events or
changes in circumstances indicate that the carrying amount of an
asset may not be recoverable. Unforeseen events and changes in
circumstances and market conditions could negatively affect the
fair value of assets and result in an impairment charge. In the
event such indicators exist for assets held for use, if
undiscounted cash flows before interest charges are less than
carrying value, the asset is written down to estimated fair
value. For assets held for sale, these assets are carried at the
lower of cost or estimated sales price less costs of sale. Fair
value is the amount at which the asset could be bought or sold
in a current transaction between willing parties and may be
estimated using a number of techniques, including quoted market
prices or valuations by third parties, present value techniques
based on estimates of cash flows, or multiples of earnings or
revenues performance measures. The fair value of the asset could
be different using different estimates and assumptions in these
valuation techniques. Significant assumptions used in this
process depend upon the nature of the investment, but would
include an evaluation of the future business opportunities,
sources of competition, advancement of technology and its impact
on patents and processes and the level of expected operating
expenses.
Impairment of Investments Accounted for Under Equity
Method. Investments that are accounted for under
the equity method of accounting are reviewed for impairment when
the fair value of the investment is believed to have fallen
below the Companys carrying value. When such a decline is
deemed other than temporary, an impairment charge is recorded to
the statement of operations for the difference between the
investments carrying value and its estimated fair value at
the time. In making the determination as to whether a decline is
other than temporary, the Company considers such factors as the
duration and extent of the decline, the investees
financial performance, and the Companys ability and
intention to retain its investment for a period that will be
sufficient to allow for any anticipated recovery in the
investments market value. However, a decline in the quoted
market price below the carrying amount or the existence of
operating losses is not necessarily indicative of a loss in
value that is other than temporary. All are factors to be
evaluated. Differing assumptions could affect whether an
investment is impaired. At least annually, the Company performs
impairment reviews and determines if a writedown is required.
During the year ended December 31, 2007, Hallwood Energy
recorded impairments of oil and gas properties of $31,680,000 in
the first quarter and $191,322,000 in the fourth quarter. The
Company recorded its proportionate share of such impairments
through the equity method of accounting as discussed below.
Principally due to the recording of these impairments, the
Companys carrying value of its investment in Hallwood
Energy at December 31, 2007 has been reduced to zero.
The Companys proportionate share of Hallwood Energys
2007 loss would have reduced the carrying value of its
investment in Hallwood Energy below zero by approximately
$11,700,000. The general rule for recording equity losses
ordinarily indicates that the investor shall discontinue
applying the equity method when the investment has been reduced
to zero and shall not provide for additional losses unless the
investor has guaranteed obligations of the investee or is
otherwise committed to provide further financial support to the
investee. Although no guarantee or commitment existed at
December 31, 2007, the Company loaned $5,000,000 to
Hallwood Energy in January 2008 to provide capital to continue
regular ongoing operations of Hallwood Energy. Accordingly, the
Company recorded an additional equity loss in 2007 to the extent
of the $5,000,000 loan. Hallwood Energy is currently seeking
additional capital and the Company has not determined to what
extent, if any, that it may advance additional funds to Hallwood
Energy. Due to this uncertainty and limitations on the
Companys available funds for additional investment, no
additional equity loss was recorded in 2007.
In prior years, the Companys evaluation of its investment
in Hallwood Energy contained assumptions including (i) an
evaluation of reserves using assumptions commonly used in the
industry, some of which were not the same as are required by the
SEC to be used for financial reporting purposes;
(ii) realization of fair value for various reserve
categories based upon Hallwood Energys historical
experience; and (iii) value per acre in a potential sale
transaction, based upon acreage owned in productive areas with
shale characteristics similar to acreage previously sold by HEC
and HE III and other recent sale activity of acreage with shale
formations.
Inventories. Inventories at the Brookwood
subsidiary are valued at the lower of cost
(first-in,
first-out or specific identification method) or market.
Inventories are reviewed and adjusted for changes in market
value based
18
on assumptions related to past and future demand and worldwide
and local market conditions. If actual demand and market
conditions vary from those projected by management, adjustments
to lower of cost or market value may be required.
The policies listed are not intended to be a comprehensive list
of all of our accounting policies. In most cases, the accounting
treatment of a particular transaction is specifically dictated
by accounting principles generally accepted in the United States
of America, with no need for managements judgment in the
application. There are also areas in which managements
judgment in selecting any available alternative would not
produce a materially different result than those recorded and
reported.
Presentation
The Company intends the discussion of its financial condition
and results of operations that follows to provide information
that will assist in understanding its financial statements, the
changes in certain key items in those financial statements from
year to year, and the primary factors that accounted for those
changes, as well as how certain accounting principles, policies
and estimates affect its financial statements.
Results
of Operations
The Company reported a net loss of $32,825,000 for the year
ended December 31, 2007, compared to a net loss of
$6,725,000 for 2006, and net income of $26,342,000 for 2005.
Revenue was $132,497,000 for 2007, $112,154,000 for 2006 and
$134,607,000 for 2005.
Revenues
Textile products sales of $132,497,000 in 2007 increased by
$20,343,000, or 18.1%, compared to $112,154,000 in 2006, which
was a decrease of $20,954,000, or 15.7%, compared to
$133,108,000 in 2005. The increase in 2007 and decrease in 2006
were principally due to an increase of $16,121,000 in 2007 and a
decrease of $18,571,000 in 2006 in sales of specialty fabric to
U.S. military contractors as a result of fluctuations in
orders from the military to Brookwoods customers.
Sales to one Brookwood customer, Tennier, accounted for more
than 10% of Brookwoods net sales in each of the three
years ended December 31, 2007. Its relationship with
Tennier is ongoing. Sales to Tennier, which are included in
military sales, were $40,844,000, $31,300,000 and $56,883,000 in
2007, 2006 and 2005, respectively, which represented 30.8%,
27.9% and 42.7% of Brookwoods sales. Sales to another
customer, ORC, accounted for more than 10% of Brookwoods
sales in 2006. The relationship with ORC is ongoing. Sales to
ORC, which are also included in military sales, were $8,971,000,
$12,609,000 and $10,099,000 in 2007, 2006 and 2005,
respectively, which represented 6.8%, 11.2% and 7.6% of
Brookwoods sales.
The Companys former Hallwood Petroleum, LLC subsidiary
(HPL) commenced operations in October 2004 as an
administrative and management company to facilitate
recordkeeping and processing for the energy affiliates. All
costs were rebilled to energy affiliates with no anticipated
profit element. In the 2005 second quarter, the Company
determined that its ownership of this pass-through entity
created unnecessary complexity; therefore, HPL was transferred
for nominal consideration to officers of the energy affiliates
that are not officers of the Company. The transfer was completed
on May 11, 2005. Administrative fees from energy affiliates
in 2005 were $1,499,000 beginning January 2005 through the
transfer date.
Expenses
Textile products cost of sales of $104,918,000 increased by
$11,784,000, or 12.6%, in 2007, compared to $93,134,000 in 2006,
which was a decrease of $12,165,000, or 11.6%, compared to
$105,299,000 in 2005. The 2007 increase principally resulted
from material costs associated with the higher sales volumes and
changes in product mix. Costs increased in 2007 for employee
related expenses by approximately $1,300,000, stabilized in
energy (due to energy reduction capital projects) increasing by
only $52,000, and decreased rent expense by $222,000 due to the
completion of the move to its Connecticut facility in 2006. The
2006 decrease principally resulted from reduced sales and
changes in product mix, partially offset by increases in energy
costs of $1,247,000, payroll costs of
19
$446,000 and rent expense of $324,000. Cost of sales includes
all costs associated with the manufacturing process, including
but not limited to, materials, labor, utilities, depreciation on
manufacturing equipment and all costs associated with the
purchase, receipt and transportation of goods and materials to
Brookwoods facilities, including inbound freight,
purchasing and receiving costs, inspection costs, internal
transfer costs and other costs of the distribution network.
Brookwood believes that the reporting and composition of cost of
sales and gross margin is comparable with similar companies in
the textile converting and finishing industry.
The gross profit margin was 20.8%, 17.0% and 20.9% in 2007, 2006
and 2005, respectively. The higher gross profit margin for 2007
principally resulted from higher sales volume and changes in
product mix and energy and rent savings. The reduced gross
profit margin for 2006 principally resulted from changes in
product mix and higher energy costs.
Administrative and selling expenses were comprised of the
following (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
Textile products
|
|
$
|
15,115
|
|
|
$
|
13,431
|
|
|
$
|
16,132
|
|
Corporate
|
|
|
5,214
|
|
|
|
4,817
|
|
|
|
11,624
|
|
Energy
|
|
|
|
|
|
|
|
|
|
|
1,499
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
20,329
|
|
|
$
|
18,248
|
|
|
$
|
29,255
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Textile products administrative and selling expenses of
$15,115,000 for 2007 increased by $1,684,000, or 12.5%, from the
2006 amount of $13,431,000, which decreased by $2,701,000, or
16.7%, compared to the 2005 amount of $16,132,000. The 2007
increase was primarily attributable to higher professional fees
of $275,000, increased salaries of $451,000 principally due to
additional personnel associated with increased compliance
requirements (e.g. Sarbanes-Oxley and environmental) and in
support of increased sales, increased performance and other
related payroll costs of $430,000 and increased sales
commissions of $330,000. The 2006 decrease was principally
attributable to reduced royalties of $1,932,000, costs in 2005
associated with the dissolution of a former subsidiary in the
amount of $471,000 and reduced salaries of $317,000, partially
offset by plant relocation costs to Connecticut of $530,000 in
2006. The textile products administrative and selling expenses
included items such as payroll, professional fees, sales
commissions, marketing, rent, insurance, travel and royalties.
Brookwood conducts research and development activities related
to the exploration, development and production of innovative
products and technologies. Research and development expenses
were approximately $605,000 in 2007, $594,000 in 2006 and
$335,000 in 2005.
Corporate administrative expenses were $5,214,000 for 2007,
compared to $4,817,000 for 2006 and $11,624,000 for 2005. The
2007 increase of 8.2% was principally attributable to
Sarbanes-Oxley costs of $697,000 and costs of $358,000
associated with the proposed plan of liquidation discussed
below. Professional fees and costs associated with the operation
of an office by HIL decreased in 2007 by $285,000 and $281,000,
respectively, compared to 2006. The 2006 decrease of $6,807,000
was principally attributable to bonus awards in 2005 of
$5,000,000 to Mr. Gumbiner and $1,341,000 to those officers
of the Company, other than Mr. Gumbiner, who held options
to purchase common stock of the Company, in lieu of amounts such
optionholders would have received had they exercised their
options prior to the record dates related to the May 2005 and
August 2005 cash distributions. Professional fees decreased by
$188,000 for 2006, compared to 2005.
Proposal and Subsequent Withdrawal of Plan of
Liquidation. In June 2007, the Company received a
proposal from Anthony J. Gumbiner, the chairman of the board and
beneficial owner of approximately 66% of the outstanding common
shares of the Company. Mr. Gumbiner proposed that the
Companys board of directors consider a liquidation of the
Company that would include a sale of all of the Companys
interests in its Brookwood subsidiary and a disposition of all
of the Companys interests in Hallwood Energy. In November
2007, Mr. Gumbiner advised the Company that because his
proposal to purchase the Companys interest in Hallwood
Energy could conflict with Hallwood Energys effort to
obtain additional capital among other things, he withdrew his
proposal that the board consider a liquidation of the Company.
The Companys board of directors determined that the
special committee that had been appointed to consider
Mr. Gumbiners proposal would continue to consider the
Companys strategic alternatives with respect to Brookwood,
however, and engaged a financial advisor in
20
December 2007 to assist the special committee in developing and
considering the various alternatives regarding Brookwood. There
can be no assurance that the special committee will recommend
that the Company take any action with respect to Brookwood, or
that any transaction will be completed. See also Note 10 to
the consolidated financial statements.
Administrative costs attributable to HPL, which commenced
operations in October 2004, were $1,499,000 for the period from
January 2005 to the previously described May 2005 date of
transfer.
Other
Income (Loss)
Equity income (loss) relating to the Companys
proportionate share of income (loss) in Hallwood Energy and its
predecessor affiliates, was comprised of the following (in
thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
Hallwood Energy
|
|
$
|
(55,957
|
)
|
|
$
|
(10,418
|
)
|
|
$
|
128
|
|
HE III
|
|
|
|
|
|
|
|
|
|
|
(8,628
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
(55,957
|
)
|
|
$
|
(10,418
|
)
|
|
$
|
(8,500
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
In the first nine months of 2007, Hallwood Energy reported a
loss of $54,602,000, which included an impairment of $31,680,000
associated with its oil and gas properties and interest expense
of $17,913,000. The interest expense included make-whole
provisions in the amounts of $7,100,000 related to its former
credit facility and $9,009,000 related to its present Senior
Secured Credit Facility.
In the 2007 fourth quarter, Hallwood Energy reported a net loss
of $221,811,000, which included an impairment of its oil and gas
properties of $191,322,000 and interest expense of $12,163,000.
A significant portion of the impairment charge, approximately
$111,000,000, related to the early lease surrenders and
writedowns of Arkansas leaseholds associated with low or
non-prospective oil and gas leases and approximately $52,829,000
related to its Louisiana properties from its drilling program
that has been unsuccessful to date. The fourth quarter interest
expense included $7,488,000 related to the change in the value
of the make-whole provision contained in its present Senior
Secured Credit Facility.
In July 2007, Hallwood Energy announced its first gas sales from
its newly constructed gathering system in Central Eastern
Arkansas. Natural gas began flowing through the system at rates
exceeding 6 million cubic feet of gas per day with a
current rate of 7 million cubic feet of gas per day. The
$15,242,000 system currently in service contains 36 miles
of gathering pipelines in White County to support the drilling
program presently underway.
The 2006 results for Hallwood Energy include production from two
wells in the Fort Worth Basin that were sold to Chesapeake.
In December 2006, Hallwood Energy recorded an impairment of
$28,408,000 associated with its oil and gas properties and
accrued $1,683,000 as a portion of a make-whole fee in
connection with a subsequent prepayment of a loan. The
make-whole fee was included in interest expense. The Company
recorded its proportionate share of such impairment and interest
expense in the approximate amount of $7,560,000.
As further discussed in the section entitled Investments In
and Loans to Hallwood Energy, Hallwood Energy is in the
process of seeking additional capital from external sources.
All three of the remaining areas, Central Eastern Arkansas, West
Texas, and South Louisiana were active in drilling
and/or
completion as of December 31, 2007.
The 2005 amounts for Hallwood Energy represent the aggregate
results of HE II, HE 4 and Hallwood Exploration for
comparability purposes. In connection with the July 2005
disposition of HE III, HE II sold all of its 856 net acre
lease holdings in Johnson County, Texas to Chesapeake for
$3,000,000. The Company included its pro rata share of the gain
from this transaction in 2005.
The Company recorded its proportionate share of HE IIIs
2005 loss, principally attributable to compensation expense in
connection with the settlement of profits interests with certain
HE III executives, concurrent with the completion of the merger
and sale in July 2005.
21
In March 2005, an agreement was entered into with a former
officer of the energy affiliates, who was not otherwise
affiliated with the Company, to purchase the officers four
percent profit interest in the energy affiliates for $4,000,000,
of which $3,500,000 was ascribed to HE III and $250,000 each to
HE II and Hallwood Exploration. The purchase amount was recorded
as compensation expense and the Company recorded its
proportionate share, approximately $1,100,000, through equity
accounting.
The Company earned interest income of $92,000 during 2007 from
loans it made to Hallwood Energy in the period from March to May
2007.
Interest expense was comprised of the following (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
Textile products
|
|
$
|
1,146
|
|
|
$
|
601
|
|
|
$
|
545
|
|
Corporate
|
|
|
|
|
|
|
15
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
1,146
|
|
|
$
|
616
|
|
|
$
|
545
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Textile products interest expense principally relates to
Brookwoods Revolving Credit Facility. Fluctuations in
interest expense year to year were principally due to increases
in the average outstanding loan amount.
Corporate interest expense of $15,000 in 2006 was attributable
to the completion of an Internal Revenue Service examination of
the Companys 2004 and 2005 federal income tax returns
(discussed below).
Interest and other income was $307,000 in 2007, compared to
$566,000 in 2006 and $1,532,000 in 2005. The 2007 decrease was
principally attributable to reduced interest income and lower
balances of cash and cash equivalents, partially offset by a
gain from the sale of a marketable security in March 2007. The
2006 decrease was principally due to reduced interest income
earned on lower balances of cash and cash equivalents and lower
income from investments in marketable securities which were sold
or matured in 2005.
The Company recorded a $17,000 loss from the disposition of HE
III in November 2006 in connection with the reduction of the
receivable. The Company reported a gain from the July 2005
disposition of its investment in HE III in the amount of
$52,425,000. HE III completed a merger with Chesapeake for
$246,500,000, subject to reduction for outstanding debt,
transaction costs, changes in working capital and certain other
matters. After the adjustment and the repayment of debt of HE
III, the Company received cash proceeds totaling $54,850,000 in
July 2005. In addition, the Company received $799,000 in
November 2005 from the final working capital adjustment. The net
investment in HE III at the date of sale was $3,693,000. In
addition, the Company also recorded a receivable in 2005 of
$469,000 for the settlement of a working capital adjustment with
HPL. The receivable, which was reduced to $452,000 by certain
post-closing adjustments, was contributed to Hallwood Energy in
November 2006 as an additional capital investment.
In 2005, the Company reported a reduction in the gain from the
2004 disposition of HEC, attributable to a post-closing
adjustment, in the amount of $113,000.
22
Income
Taxes
Following is a schedule of income tax expense (benefit) (in
thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
Federal
|
|
|
|
|
|
|
|
|
|
|
|
|
Current
|
|
$
|
(14,294
|
)
|
|
$
|
(2,189
|
)
|
|
$
|
13,688
|
|
Deferred
|
|
|
(2,998
|
)
|
|
|
(1,032
|
)
|
|
|
3,933
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Sub-total
|
|
|
(17,292
|
)
|
|
|
(3,221
|
)
|
|
|
17,621
|
|
State
|
|
|
|
|
|
|
|
|
|
|
|
|
Current
|
|
|
610
|
|
|
|
242
|
|
|
|
779
|
|
Deferred
|
|
|
53
|
|
|
|
(9
|
)
|
|
|
110
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Sub-total
|
|
|
663
|
|
|
|
233
|
|
|
|
889
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
(16,629
|
)
|
|
$
|
(2,988
|
)
|
|
$
|
18,510
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The income tax benefit for 2007 and 2006 was principally due to
the equity loss from the investment in Hallwood Energy. The
effective federal tax rate in 2007, 2006 and 2005 was 34%, 34%
and 35%, respectively, while state taxes were determined based
upon taxable income apportioned to those states in which the
Company does business at their respective tax rates.
It is anticipated that the Companys 2007 taxable loss will
be carried back for a refund, expected to be approximately
$12,239,000. The 2007 expected refund is reported on the balance
sheet as federal income tax receivable. A final determination
for the amount of the carryback can not be completed until the
filing of the Hallwood Energys 2007 partnership return and
the Companys 2007 consolidated federal income tax return.
The Company filed an application for tentative refund with the
Internal Revenue Service in March 2007 and received $1,000,000
in April 2007. Following the filing of the 2006 income tax
return in September 2007, the Company received an additional
refund of $376,000 in October 2007. The Company also filed a
carryback of its 2006 taxable loss in September 2007 and
obtained an additional refund of $4,512,000 in November 2007.
The 2005 tax expense was principally attributable to a gain from
the sale of HE III. Income tax expense in 2005 also included a
limitation on the deductibility of executive compensation.
In December 2006, the Internal Revenue Service completed an
examination of the Companys consolidated income tax
returns for the years ended December 31, 2004 and 2005. The
IRS proposed adjustments that resulted in a tax assessment of
$61,000 for 2004 and $103,000 for 2005, with associated interest
costs of $15,000. No penalties were assessed. The Company paid
the assessed tax and interest in December 2006.
At December 31, 2007 and 2006, the net deferred tax asset
was $4,600,000 and $1,655,000, respectively. The 2007 balance
includes $3,756,000 attributable to temporary differences
(including $1,406,000 associated with the Companys
investment in Hallwood Energy), that upon reversal, could be
utilized to offset income from operations and $844,000 of
alternative minimum tax credits. The 2006 balance included
$1,124,000 for temporary differences and $531,000 for tax
credits.
Related
Party Transactions
Hallwood Investments Limited. The Company has
entered into a financial consulting contract with Hallwood
Investments Limited (HIL), a corporation associated
with Mr. Gumbiner. The contract provides for HIL to furnish
and perform international consulting and advisory services to
the Company and its subsidiaries, including strategic planning
and merger activities, for annual compensation of $996,000
($954,000 prior to March 2005). The annual amount is payable in
monthly installments. The contract automatically renews for
one-year periods if not terminated by the parties beforehand.
Additionally, HIL and Mr. Gumbiner are also eligible for
bonuses from the Company or its subsidiaries, subject to
approval by the Companys or its subsidiaries board
of directors. The Company also reimburses HIL for reasonable
expenses in providing office space and administrative services
and for
23
travel and related expenses to and from the Companys
corporate office. In addition, the Company also reimbursed
Mr. Gumbiner for services, meals and other personal
expenses related to the office separately maintained by
Mr. Gumbiner. At Mr. Gumbiners recommendation,
the Companys board of directors determined in 2006 that
the reimbursement for personal expenses related to his office
would not continue after November 2006. A summary of the fees
and expenses related to HIL and Mr. Gumbiner are detailed
below (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
Consulting fees
|
|
$
|
996
|
|
|
$
|
996
|
|
|
$
|
989
|
|
Office expenses and administrative services
|
|
|
182
|
|
|
|
463
|
|
|
|
557
|
|
Travel expenses
|
|
|
70
|
|
|
|
267
|
|
|
|
257
|
|
Bonus
|
|
|
|
|
|
|
|
|
|
|
5,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
1,248
|
|
|
$
|
1,726
|
|
|
$
|
6,803
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
A special committee, consisting of independent members of the
board of directors of the Company, awarded a $5,000,000 bonus to
Mr. Gumbiner, in consideration of the significant profits
and long-term gains realized by the Company as a result of
Mr. Gumbiners performance over an extended period.
The bonus was paid in July 2005.
In addition, HIL and Mr. Gumbiner perform services for
certain affiliated entities that are not subsidiaries of the
Company, for which they receive consulting fees, bonuses, stock
options, net profit interests or other forms of compensation and
expenses. The Company recognizes a proportionate share of such
compensation and expenses, based upon its ownership percentage
in the affiliated entities, through the utilization of the
equity method of accounting.
HIL shares common offices, facilities and certain staff in its
Dallas office with the Company. The Company pays certain common
general and administrative expenses and charges HIL an overhead
reimbursement fee for its allocable share of the expenses. For
the years ended December 31, 2007, 2006 and 2005, HIL
reimbursed the Company $155,000, $142,000 and $113,000,
respectively, for such expenses.
In April 2007, HIL committed to fund one-half of potential
additional equity or subordinated debt funding calls totaling
$55,000,000, or $27,500,000, by Hallwood Energy, to the extent
other investors, including the Company, did not respond to a
call. In June 2007, HIL funded that portion of the
Companys share of the May Call that the Company did not
fund in the amount of $2,591,000 and contributed, along with the
Hallwood Energys lender, an additional amount in August
2007 to fully satisfy the May Call, to the extent other Hallwood
Energy investors did not respond to the May Call. In September
2007, HIL funded that portion of the Companys share of the
August Call in the amount of $1,842,000 that the Company did not
fund and contributed an additional amount, along with the
lender, in September 2007 to fully satisfy the August Call, to
the extent other Hallwood Energy investors did not respond to
the August Call. In September 2007, the $55,000,000 commitment
from HIL and the lender expired as a result of the receipt of
sufficient equity contributions from the April Call, May Call
and August Call.
In November 2007, HIL committed to fund $7,500,000 of additional
equity to Hallwood Energy no later than November 15, 2007.
HIL funded the full $7,500,000 in November under this agreement,
with Hallwood Energy executing a promissory note bearing
interest at 16% per annum. On January 2, 2008, as per the
commitment agreement, the outstanding amount plus accrued
interest was automatically converted into Hallwood Energy
Class C partnership interest.
In January 2008, HIL funded $5,000,000 to Hallwood Energy in
connection with a $30,000,000 issue of Convertible Notes. The
terms of the Convertible Note agreement are discussed in the
section entitled Investments in and Loans to Hallwood
Energy. As of March 1, 2008, HIL and one of its
affiliated entities have invested $19,156,000 in Hallwood Energy.
Hallwood Energy. Beginning August 1,
2005, Hallwood Energy and its predecessor entities share common
offices, facilities and certain staff in its Dallas office with
the Company. Hallwood Energy reimburses the Company for its
allocable share of the expenses. For the years ended
December 31, 2007 and 2006 and the five month period ended
December 31, 2005, Hallwood Energy reimbursed the Company
$297,000, $311,000 and $59,000, respectively, for such expenses.
24
Investments
in and Loans to Hallwood Energy
At December 31, 2007, the Company owned approximately 23%
(18% after consideration of profit interests) of Hallwood
Energy. The Company accounts for this investment using the
equity method of accounting and records its pro rata share of
Hallwood Energys net income (loss) and partner capital
transactions.
A description of Hallwood Energys activities is provided
below:
On December 31, 2005, the Company had investments in three
energy affiliates: HE II, HE 4 and Hallwood Exploration.
Effective December 31, 2005, HE II and Hallwood Exploration
were consolidated into HE 4, which was renamed Hallwood Energy.
The partners interests in Hallwood Energy were
proportionate to the capital invested in each of the
consolidated entities at December 31, 2005. The
Companys initial investment in Hallwood Energy was
comprised of its capital contributions to each of the former
affiliates, which totaled $40,854,000. Investments in two other
energy affiliates, HEC and HE III, were sold in December 2004
and July 2005, respectively.
Equity Investments. There are currently three
classes of limited partnership interests held in Hallwood Energy:
|
|
|
|
|
Class C interests bear a 16% priority return which
compounds monthly. The priority return will be accrued and
become payable when, as and if declared by the general partner
of Hallwood Energy. Hallwood Energy does not anticipate paying
any distributions in the foreseeable future. All distributions
of defined available cash and defined net proceeds from any
sales or other disposition of all or substantially all of the
then remaining assets of Hallwood Energy which is entered into
in connection with, or which will result in, the liquidation of
Hallwood Energy (the Terminating Capital
Transaction) must first be used to reduce any unpaid
Class C priority return and capital contributions to zero.
Unpaid Class C priority return and capital contributions
can be converted into Class A interests based on the ratio
of Class C contributions to the sum of Class A
contributions and the Class C limited partners
Class C partnership interest designated by the Class C
limited partner to be converted into Class A partnership
interest (the Class C Conversion Amount). The
Class C capital contributions and unpaid priority return
totaled approximately $76,922,000 and $5,706,000, respectively,
at December 31, 2007.
|
|
|
|
Class A interests have certain voting rights and with the
general partner would receive 100% of the distributions of
available cash and net proceeds from Terminating Capital
Transactions subsequent to the payment of all unpaid
Class C priority return and of all Class C capital
contributions until the unrecovered capital accounts of each
Class A partner interest is reduced to zero, and thereafter
share in all future distributions of available cash and net
proceeds from Terminating Capital Transactions with the holders
of the Class B interests.
|
|
|
|
Class B interests represent vested net profit interests
awarded to key individuals by Hallwood Energy. At
December 31, 2007 and 2006, outstanding Class B
interests had rights to receive 18.6% and 18.8%, respectively,
of distributions of defined available cash and net proceeds from
Terminating Capital Transactions after the unpaid Class C
priority return and capital contributions and the unreturned
Class A and general partner capital contributions have been
reduced to zero.
|
Following is a description of equity transactions completed by
Hallwood Energy in 2006, 2007 and the 2008 first quarter and the
Companys relative participation in those transactions:
In January 2006, the Company invested an additional $2,721,000
in Hallwood Energy.
In April 2006, Hallwood Energy sold a 5% Class A limited
partner interest to an affiliate of its former lender.
In November 2006, Hallwood Energy requested an additional
Class A capital contribution in the amount of $25,000,000
from its partners. The Company invested an additional $6,281,000
to maintain its proportionate interest in Hallwood Energy. The
Company utilized a $452,000 capital contribution receivable to
reduce its cash contribution to $5,829,000. In addition, certain
other investors in Hallwood Energy did not elect to fund their
proportionate interest of the additional capital contribution;
therefore, in December 2006, the Company invested an additional
$425,000 and $2,000 in January 2007 in excess of its
proportionate interest.
25
In April 2007, Hallwood Energy issued a $25,000,000 Class C
equity call to its partners (the April Call), which
was fully satisfied. Previously, Hallwood Energy received loans
of $7,000,000 each from the Company and an affiliate of the New
Lender. These loans were applied to the April Call. In May,
Hallwood Energy repaid $257,000 to the Company, which
represented the excess of its $7,000,000 advanced over the
Companys share of the capital contribution and related
oversubscription.
In April 2007, HIL and the New Lender each committed to fund
one-half of the April Call and potential additional equity or
subordinated debt funding calls totaling $55,000,000 by Hallwood
Energy, to the extent other investors, including the Company,
did not respond to equity calls.
In May 2007, Hallwood Energy issued a $20,000,000 Class C
equity call to its partners (the May Call), which
was fully satisfied. The Companys proportionate share of
the May Call was $5,091,000. Due to the fact that the Company
did not have available sufficient cash, the Company contributed
only $2,501,000 towards the May Call. Because of the
Companys inability to meet its full equity call
requirement, HIL funded $2,591,000 of the May Call that was not
funded by the Company. In connection with the funding of this
amount, Mr. Gumbiner agreed with a special committee of the
board of directors of the Company that he would discuss the
terms of this investment in the future.
In August 2007, Hallwood Energy issued a $15,000,000
Class C equity call to its partners (the August
Call) which was fully satisfied. The Companys
proportionate share of the August Call was $3,683,000. Due to
the fact that the Company did not have available sufficient
cash, the Company contributed only one-half, or $1,842,000,
towards the August Call. Because of the Companys inability
to meet its full equity call requirement, HIL funded $1,842,000
of the August Call that was not funded by the Company. In
October 2007, the special committee appointed to consider
HILs funding of these capital calls acknowledged the terms
of the funding of the capital calls by HIL and determined that,
in light of the circumstances, including the Companys
present inability to fund any amounts beyond those it had made,
no further action was required.
As a result of the receipt of sufficient equity contributions
from the April, May and August Calls, the $55,000,000 commitment
from HIL and the New Lender was extinguished.
In November 2007, Hallwood Energy issued $15,000,000 of
Class C partnership interest to a new equity partner. In
addition, HIL, another existing investor in Hallwood Energy, and
the New Lender entered into a letter agreement providing for a
total of up to $15,000,000 in additional funding. Under the
terms of this letter, HIL agreed to advance $7,500,000 and the
other investor agreed to advance $3,000,000 to Hallwood Energy
no later than November 15, 2007. These advances constituted
loans to Hallwood Energy with an interest rate of 16% per annum
and a maturity of March 1, 2010. The letter agreement
contained a provision that permitted Hallwood Energy to repay
the advances at any time without penalty in connection with a
recapitalization of Hallwood Energy providing for net proceeds
not less than the amount being repaid. If any part of these
advances remained outstanding on January 2, 2008, then on
that date the outstanding amount would automatically be
converted into preferred partnership interests having the same
terms as the existing class of preferred partnership interests.
In addition, if any portion of the advances was converted into
preferred partnership interests on January 2, 2008, then
the New Lender agreed to contribute to Hallwood Energy the same
proportion of $4,500,000 in exchange for preferred partnership
interests. Hallwood Energy also agreed that if any portion of
the agreed funding from HIL or the other existing investor was
not made, it would be an event of default under the Senior
Secured Credit Facility (discussed below). HIL advanced
$7,500,000 in November 2007, and the commitment from the other
investor was subsequently waived. On January 2, 2008, as
per the letter agreement, HILs loan and accrued interest
was converted into a Class C interest.
Loan Financing. In February 2006, Hallwood
Energy entered into a $65,000,000 loan facility (the
Former Credit Facility), and had drawn $40,000,000
as of December 31, 2006. During 2006, the Former Credit
Facility was amended twice. First, it was amended to allow for
the sale of undeveloped leaseholds to Chesapeake in July 2006
(discussed below). Secondly, it was amended in December 2006
(i) to cure several technical loan defaults because, among
other things, Hallwood Energys general and administrative
expenses exceeded the maximum amount permitted under the loan
facility and (ii) extend the test dates for proved
collateral coverage ratios and the make whole payment period. In
connection with the $25,000,000 capital contribution made by its
investors in
26
November 2006, the lender for the Former Credit Facility agreed
to waive the defaults, and a waiver and loan amendment were
completed.
Subsequent to December 31, 2006, Hallwood Energy was not in
compliance with the proved collateral coverage ratio required by
the Former Credit Facility.
In March and April 2007, the Company loaned a total of
$9,000,000 to Hallwood Energy, of which $7,000,000 was in the
form of demand notes bearing interest at 6% above prime rate,
and $2,000,000 was an advance that was repaid four days later
with interest. In connection with the issuance of the April
Call, the Company and Hallwood Energy agreed that the $7,000,000
loan would be applied as the Companys portion of the April
Call. In May 2007, Hallwood Energy repaid $257,000 to the
Company, which represented the excess of the $7,000,000 loaned
over the Companys share of the capital contribution and
related oversubscription.
In April 2007, Hallwood Energy entered into a $100,000,000 loan
facility (the Senior Secured Credit Facility) with a
new lender (the New Lender), who is an affiliate of
one of the investors and drew $65,000,000 from the Senior
Secured Credit Facility. The proceeds were used to repay the
$40,000,000 balance of the Former Credit Facility, approximately
$9,800,000 for a make-whole fee and approximately $500,000 for
incremental interest related to the Former Credit Facility,
transaction fees of approximately $200,000 and provide working
capital. The Senior Secured Credit Facility is secured by
Hallwood Energys oil and gas leases, matures on
February 1, 2010, and bears interest at a rate of the
defined LIBOR rate plus 10.75% per annum. An additional 2% of
interest is added upon continuance of any defaulting event. The
New Lender may demand that Hallwood Energy prepay the
outstanding loans in the event of a defined change of control,
qualified sale or event of default, including a material adverse
event. In conjunction with executing the Senior Secured Credit
Facility, the New Lender resigned its position on Hallwood
Energys board of directors and assigned its general
partner interest to the remaining members.
The Senior Secured Credit Facility provided that if Hallwood
Energy raised $25,000,000 through an equity call or through debt
subordinate to the Senior Secured Credit Facility, the New
Lender would match subsequent amounts raised on a dollar for
dollar basis up to the remaining $35,000,000 under the Senior
Secured Credit Facility through the availability termination
date of July 31, 2008.
During the 2007 third quarter, Hallwood Energy borrowed an
additional $20,000,000 under the Senior Secured Credit Facility
and borrowed the remaining availability of $15,000,000 in
October 2007.
The Senior Secured Credit Facility contains various financial
covenants, including maximum general and administrative expenses
and current and proved collateral coverage ratios. The proved
collateral coverage ratio covenant is effective June 30,
2008. Non-financial covenants restrict the ability of Hallwood
Energy to dispose of assets, incur additional indebtedness,
prepay other indebtedness or amend certain debt instruments, pay
dividends, create liens on assets, enter into sale and leaseback
transactions, make investments, loans or advances, make
acquisitions, engage in mergers or consolidations or engage in
certain transactions with affiliates, and otherwise restrict
certain activities by Hallwood Energy. In October 2007, Hallwood
Energy entered into an amendment of the Senior Secured Credit
Facility to modify the calculation of the current ratio to
include certain capital funding commitments.
The Senior Secured Credit Facility contains a make-whole
provision whereby Hallwood Energy is required to pay the New
Lender the amount by which the present value amount of interest
that would have been payable on the principal balance of the
loan from the date of prepayment through February 8, 2009.
The New Lender received warrants exercisable for 2.5% of the
partnership interests at an exercise price of 2.5% of 125% of
the amount of the total capital contributed to Hallwood Energy
at December 31, 2006.
On January 2, 2008, the outstanding $7,500,000 advance from
HIL and accrued interest was converted into a Class C
partnership interest, consistent with the terms of the October
2007 commitment agreement.
Effective January 2008, Hallwood Energy entered into a
$30,000,000 convertible subordinated note agreement (the
Convertible Note). The Convertible Note bears
interest at an annual rate of 16%, which is payable on a
quarterly basis after the completion of a defined equity
offering and subject to the prior full payment of borrowings and
accrued interest under the Secured Credit Facilities. The
Convertible Note and accrued interest may be
27
converted into Class C interests on a dollar for dollar
basis. If no Class C interests are outstanding, the
Convertible Note may be converted into Class A interests or
such comparable securities as may be outstanding at the same
exchange ratio as the original Class C interests. Principal
and unpaid interest are due on the earlier of January 21,
2011, or upon a defined change of control. A change of control
redemption may also result in a make-whole provision whereby
Hallwood Energy would pay a premium based on the difference
between either $48,300,000 or $45,500,000 and the sum of
previously made Convertible Note principal and accrued interest
payments. As of March 24, 2008, $28,800,000 of the
convertible subordinated notes had been subscribed for and
issued. The Company subscribed for $5,000,000 of the Convertible
Note and provided the funds to Hallwood Energy in January 2008.
The Convertible Note lenders also received a warrant exercisable
at up to $3,750,000 for an equal dollar amount of Class C
interests, or such comparable securities as are outstanding at
the time of exercise at the same exchange ratio as the original
Class C interests. The warrant is exercisable until
January 21, 2011.
In January 2008, Hallwood Energy entered into the $15,000,000
Junior Credit Facility with the Senior Secured Credit
Facilitys New Lender and drew the full $15,000,000
available. The proceeds were used to fund working capital
requirements and future operational activities. Borrowings under
the Secured Credit Facilities are both secured by Hallwood
Energys oil and gas leases, mature on February 1,
2010, and bear interest at a rate of the defined LIBOR rate plus
10.75% per annum through April 30, 2008, thereafter
increases to 12.75% per annum until loan maturity or prepayment.
An additional 2% of interest is added upon continuance of any
defaulting event. The New Lender may demand that Hallwood Energy
prepay the outstanding loans in the event of a defined change of
control, qualified sale or event of default, including a
material adverse event. Hallwood Energy remains bound to a
deposit control agreement initiated with the Senior Credit
Facility.
The Junior Credit Facility contains various financial covenants,
materially consistent with the Senior Secured Credit Facility,
including maximum general and administrative expenditures and
current and proved collateral coverage ratios. The proved
collateral coverage ratio covenant becomes effective
June 30, 2008. Non-financial covenants restrict the ability
of Hallwood Energy to dispose of assets, incur additional
indebtedness, prepay other indebtedness or amend certain debt
instruments, pay dividends, create liens on assets, enter into
sale and leaseback transactions, make investments, loans or
advances, make acquisitions, engage in mergers or consolidations
or engage in certain transactions with affiliates, and otherwise
restrict certain Hallwood Energys activities.
The Junior Credit Facility contains a make-whole provision
whereby Hallwood Energy is required to pay the New Lender the
amount by which the present value of interest and principal from
the date of prepayment through January 31, 2009, exceeds
the principal amount on the prepayment date.
In connection with the Junior Credit Facility, the Senior
Secured Credit Facility was amended to bear and interest at the
defined LIBOR rate plus 12.75% per annum beginning May 1,
2008.
Hallwood Energy did not meet the current ratio covenant and was
in default of the Senior Credit Facility as of December 31,
2007. A second default event related to a commitment agreement
by three partners to fund $15,000,000 by November 1, 2007,
that was only partially funded. Hallwood Energy received a
waiver from the New Lender for both of these default events in
January 2008.
Senior Credit Facility borrowings have been included in current
liabilities on Hallwood Energys balance sheet at
December 31, 2007, as Hallwood Energy does not expect to
maintain compliance with the required current and proved
collateral coverage ratios during the year ended
December 31, 2008, unless additional funds are raised
through issuance of debt and equity instruments.
Hallwood Energy is in the process of seeking additional capital
from external sources.
Participation Agreement and Property Sale. In
January 2006, Hallwood Energy entered into a participation
agreement (the Participation Agreement) with Activa
Resources, Ltd. Under the Participation Agreement, upon
Activas payment of approximately $4,960,000 to Hallwood
Energy in April 2006, Hallwood Energy transferred to Activa an
undivided 25% interest in oil and gas leases with respect to
44,219 net acres that Hallwood Energy currently holds in
Central Eastern Arkansas. During the term of the Participation
Agreement, Hallwood Energy is designated as operator of the
leases. As operator, Hallwood Energy was required to commence
actual drilling
28
operations before June 2006 for the first of two initial wells.
Hallwood Energy commenced drilling before that date. Activa
agreed to participate to the extent of its participation
interest in the two initial wells, and paid 50% of the first
$750,000 incurred for costs associated with the drilling,
completion and equipping operations in connection with each of
the initial wells. The Participation Agreement also establishes
an area of mutual interest (the AMI) potentially
covering an area of approximately 184,000 gross acres,
which area includes the 44,219 acres. Pursuant to the AMI,
Hallwood Energy will have the right to an undivided 75%
participation interest, and Activa will have the right to an
undivided 25% participation interest, in any additional leases
acquired by either of the parties within the AMI. If either
party acquires any additional leases covering lands within the
AMI, it must offer the other party the right to acquire its
participation interest in the leases acquired. The agreement
related to the acquisition of additional leases expired in
December 2007.
In July 2006, Hallwood Energy completed the sale of a 60%
undivided working interest in its oil and gas properties in
Reeves and Culberson Counties in West Texas and all of its
interest in the properties in Parker, Hood and Tarrant Counties
in North Texas to Chesapeake. Chesapeake assumed operation of
these properties. The sales price of $39,400,000, including
reimbursement of certain development and drilling costs and
subject to any post closing adjustments, exceeded the book value
of the assets sold by $10,600,000. The excess amount was
credited to the full cost pool.
Litigation. In early 2006, Hallwood Energy and
Hallwood Petroleum entered into two two-year contracts with
Eagle Drilling, LLC (Eagle Drilling), under which
the contractor was to provide drilling rigs and crews to drill
wells in Arkansas at a daily rate of $18,500, plus certain
expenses for each rig (the Contracts). These
Contracts were subsequently assigned by Eagle Drilling, LLC to
Eagle Domestic Drilling Operations, LLC (Eagle
Domestic), on or about August 24, 2006. Before that,
on or about August 14, 2006, one of the masts on the rigs
provided under the Contracts collapsed. Hallwood Energy and
Hallwood Petroleum requested the contractor to provide
assurances that the mast on the other rig, and any mast provided
to replace the collapsed mast, were safe and met the
requirements of the Contracts. When the contractor refused to
provide assurances, Hallwood Energy and Hallwood Petroleum
notified the contractor that the Contracts were terminated and
on September 6, 2006, filed Hallwood Petroleum, LLC and
Hallwood Energy, L.P. v. Eagle Drilling, LLC and Eagle
Domestic Drilling Operations, LLC, in the
348th District Court of Tarrant County, Texas to recover
approximately $1,688,000 previously deposited with the
contractor under the Contracts. Since then, Eagle Domestic and
its parent filed for Chapter 11 bankruptcy protection in
Case
No. 07-30426-H4-11,
Jointly Administered Under Case
No. 07-30424-H4-11,
in the United States District Court for the Southern District of
Texas. After the filing of its bankruptcy case, Eagle Domestic
filed an adversary action on June 11, 2007 against Hallwood
Energy and Hallwood Petroleum in the bankruptcy proceeding to
recover unspecified damages, but purportedly in excess of
$50,000,000 (the Eagle Domestic Adversary), based on
disclosures made during the discovery phase of the case. Eagle
Domestic contends that Hallwood Energy and Hallwood Petroleum
breached the Contracts, tortiously interfered with Eagle
Domestics contracts with Quicksilver Resources and
disparaged Eagle Domestic. Hallwood Energy subsequently filed
its answer and counterclaim in the Eagle Domestic Adversary
asserting that Hallwood Energy owes nothing to Eagle Domestic,
and that Eagle Domestic owes Hallwood approximately $1,688,000
in unearned pre-payment under the Contracts. A jury trial in the
Eagle Domestic Adversary is currently set to begin on
May 20, 2008.
In October 2006, Eagle Drilling filed a related lawsuit against
Hallwood Energy and Hallwood Petroleum in Oklahoma state court
(the Eagle Drilling Action) alleging damages of over
$1,000,000 in connection with unpaid invoices, unpaid downtime
and other damages caused as a result of the mast collapsing. In
June 2007, the petition in the Eagle Drilling Action was amended
to include various additional claims for breach of contract,
negligence, tortious breach of contract and for declaratory
relief against Hallwood Energy and Hallwood Petroleum. On
September 20, 2007, Eagle Drilling filed for
Chapter 11 bankruptcy protection in the United States
Bankruptcy Court for the Western District of Oklahoma. On
October 12, 2007, Hallwood Energy filed its Notice of
Removal of the Cleveland County Action in Oklahoma Bankruptcy
Court, which initiated Adversary Proceeding
No. 07-01209
(the Energy Drilling Adversary) and automatically
removed the Eagle Drilling Action to the Oklahoma Bankruptcy
Court. Hallwood Energy has brought a claim against Eagle
Drilling for return of the approximately $1,688,000 in unearned
pre-payment from Eagle Drilling. On November 11, 2007,
Eagle Drilling filed its Motion to Remand the Eagle Drilling
Adversary back to Oklahoma state court, or in the alternative to
abstain from hearing the claims asserted therein. On
October 31, 2007, Hallwood Energy filed its Proof of Claim
in the Eagle Drilling
29
Chapter 11 Bankruptcy again asserting its approximate
$1,688,000 claim. On December 6, 2007, Hallwood Energy
filed its Notice of Removal of the Tarrant County Action and its
Motion to Transfer Venue of the Tarrant County Action, both in
the United States Bankruptcy Court for the Northern District of
Texas, Forth Worth Division, which granted the relief requested
in the Motion to Transfer, resulting in the initiation of
Adversary Proceeding
No. 08-01007
(the Hallwood Adversary) on or about
January 18, 2008 in the Oklahoma Bankruptcy Court. On
February 19, 2008, the Court held a status conference as to
the Eagle Drilling Adversary and the Hallwood Adversary, at
which the Debtor and Hallwood Energy and Hallwood Petroleum
agreed, among other things, that both adversary proceedings
would be consolidated under one adversary proceeding (the
Consolidated Adversary), which would be adjudicated
in the context of a jury trial to be conducted by this Court to
commence in September 2008. On or about February 21, 2008,
the Court approved the parties stipulated Order reflecting
the agreements reached at the status conference. No scheduling
order has yet been entered by the Oklahoma Bankruptcy Court in
the Consolidated Adversary. Further, although Eagle
Drillings counsel has stated that it anticipates
attempting to amend its pleadings in the Consolidated Adversary
to change or add claims against Hallwood Energy and Hallwood
Petroleum, to date no such amended pleadings have been filed or
served on Hallwood Energy and Hallwood Petroleum. Hallwood
Energy and Hallwood Petroleum are currently unable to determine
the impact that this litigation may have on its results of
operations or its financial position.
Drilling Activities and Capital
Requirements. Management of Hallwood Energy
continues to evaluate its drilling plans and capital
requirements for calendar year 2008. In the early stages of the
development of its three operating areas, the drilling plans and
capital requirements can vary widely and are dependent upon a
number of factors, including the availability and cost of
drilling rigs, personnel and other services, regulatory
requirements, the success of wells previously drilled by the
energy entities and third parties, and other risks and
uncertainties described in the section entitled
Item 1A. Risk Factors. Management of Hallwood
Energy plans to seek additional debt and equity financing in
excess of $100,000,000 from current and new investors to support
its working capital needs and adequately fund current operations
for at least the next twelve months. Hallwood Energy may also
consider additional strategic partnering arrangements for
drilling and development.
The following table reflects the status of Hallwood
Energys oil and gas investments as of March 1, 2008:
|
|
|
|
|
|
|
|
|
|
|
Central and
|
|
|
|
|
|
|
|
|
Eastern
|
|
South
|
|
West
|
|
|
Description
|
|
Arkansas
|
|
Louisiana
|
|
Texas(a)
|
|
Total
|
|
Principal focus
|
|
Fayetteville Shale
|
|
Salt Dome
|
|
Barnett and
Woodford Shale
|
|
|
Initial funding
|
|
3rd Quarter 2005
|
|
1st Quarter 2004
|
|
3rd Quarter 2004
|
|
|
Company investment
|
|
|
|
|
|
|
|
$66,481,000(b)
|
Company ownership percentage(c)
|
|
|
|
|
|
|
|
23%/18%
|
Net acres held(d)
|
|
274,500
|
|
(e)
|
|
17,300
|
|
|
Operator(f)
|
|
Hallwood
Energy
|
|
Hallwood
Energy
|
|
Chesapeake
|
|
|
Well type:(g)
|
|
|
|
|
|
|
|
|
Horizontal/directional
|
|
24
|
|
6
|
|
4
|
|
34
|
Vertical
|
|
17
|
|
|
|
3
|
|
20
|
Well status:
|
|
|
|
|
|
|
|
|
Producing
|
|
24
|
|
|
|
3
|
|
27
|
Drilling
|
|
6
|
|
1
|
|
|
|
7
|
Successful/waiting pipeline
|
|
|
|
|
|
|
|
|
Evaluating/completing
|
|
3
|
|
|
|
3
|
|
6
|
Unsuccessful
|
|
8
|
|
5
|
|
1
|
|
14
|
Net production (Mcf/day)
|
|
5,700
|
|
|
|
1,200
|
|
6,900
|
30
|
|
|
a) |
|
Hallwood Energy owns a 40% working interest in these properties. |
|
b) |
|
Represents $40,960,000 from HE 4, HE II and Hallwood Exploration
at the December 31, 2005 consolidation date and additional
investments of $9,427,000 in 2006, $2,000 in January 2007,
$6,744,000 in April 2007, $2,501,000 in June 2007, $1,846,000 in
September 2007 and $5,000,000 in January 2008, respectively. |
|
c) |
|
Before and after consideration of profit interests held by
management of Hallwood Energy. |
|
d) |
|
Net acres held is the sum of the total number of acres in which
Hallwood Energy owns a working interest multiplied by Hallwood
Energys fractional working interest. |
|
e) |
|
Hallwood Energy holds leases on approximately 17,000 acres.
Based on the results of
3-D seismic
data that have been analyzed, approximately
4,000-8,000 acres are expected to be retained for future
development. |
|
f) |
|
Hallwood Energy also participates in non-operated wells in
Arkansas and Louisiana. |
|
g) |
|
All wells are natural gas wells. Represents the gross number of
wells in which Hallwood Energy holds a working interest, both
operated and non-operated. |
A description of activities in each area is provided below.
Forward looking information is from current estimates by the
management of Hallwood Energy, based on existing and anticipated
conditions and assume that Hallwood Energy is successful in
securing additional capital as discussed below.
Central
and Eastern Arkansas
The primary objective formation is the Fayetteville Shale, which
appears to range in depth from approximately 2,700 to
9,400 feet and to have a thickness of 300 to 700 feet.
Hallwood Energy commenced drilling activities in the 2006 first
quarter and is currently drilling with one rig, with two under a
long term contract through 2008. Hallwood Energy executed an
amendment with the rig contractor to revise the contract to
provide for three rigs in 2007 and two rigs for 2008. Hallwood
Energys 2008 budget forecasts nine gross wells to be
drilled in this area utilizing the two rigs. Hallwood Gathering,
L.P. has in service a 36 mile six, eight and twelve-inch
gathering system in White County with a capacity of
15 million cubic feet of gas per day (Mcf/d), with
expansion potential to 60 Mcf/d. Natural gas sales began in
July 2007.
South
Louisiana
Hallwood Energy holds leases over approximately
17,000 acres to exploit a salt dome oil and gas opportunity
in St. James, Ascension and Assumption parishes. Based on the
results of the
3-D seismic
data that has been analyzed, approximately 4,000 to
8,000 acres are expected to be retained for future
development. Hallwood Energy utilized two rigs on this property.
The first rig started in October 2006 and fulfilled its two well
commitment in early 2007. The second rig began drilling in
December 2006 and is under contract for two years. The
expectations for 2008 are that four or five wells will be
drilled. Additional drilling equipment and funding will be
assessed and determined based on the results of the wells.
West
Texas
Hallwood Energy sold a 60% interest and transferred operations
in these properties to Chesapeake in July 2006. Chesapeake has
drilled to total depth on seven wells. Three of these wells are
currently producing and selling gas and three wells are being
evaluated or are waiting on completion. The 2008 budget provides
for these rigs to drill eight or nine gross wells in West Texas.
Fort Worth
Basin, North Texas
These properties were sold to Chesapeake in July 2006. Hallwood
Energy no longer has any involvement in activities related to
these properties. Hallwood Energys operating revenues in
the year ended December 31, 2006 were from the two
producing wells on these properties.
31
Hallwood Energy III, L.P. The Company owned
approximately 28% (24% after consideration of profit interests)
of HE III. The Company accounted for this investment using the
equity method of accounting and recorded its pro rata share of
HE IIIs net income (loss) and partner capital transactions.
In 2004, the Company invested $4,705,000 in HE III, which was
formed primarily to acquire and develop oil and gas lease
holdings in the Barnett Shale formation of Johnson and Hill
Counties, Texas. In March 2005, the Company invested an
additional $4,251,000.
In June 2004, HE III acquired from HEC approximately
15,000 net acres of undeveloped leasehold, three proven
developed non-producing natural gas properties, a limited amount
of gas transmission line and various other assets. As the
purchase was from a related entity, the assets were recorded at
net carrying value of approximately $4,400,000, of which the
Companys proportionate share was approximately $1,232,000.
During July 2004, HE III entered into an agreement with
Chesapeake, which owned approximately 12,000 net acres
contiguous to that of HE III, wherein it assigned a 44% interest
in its lease holdings to Chesapeake, which in turn assigned a
56% interest in its lease holdings to HE III. Under the joint
operating agreement between the two entities, HE III had been
designated as operator.
In December 2004, in connection with the sale of HEC, the
Company, as a shareholder in HEC, received its proportionate
share of debt from HE III owed to HEC in the amount of
$1,995,000, which it contributed to HE III as an additional
capital investment. In addition, the Company received its
proportionate share of HECs investment in its Hallwood
SWD, Inc. subsidiary, with a carrying value of approximately
$1,250,000, which was also contributed to HE III as an
additional capital investment.
HE III commenced commercial production and sales of natural gas
in June 2004.
As of July 18, 2005, HE III had drilled, acquired or was in
the process of drilling 36 wells in the Barnett Shale
formation in Johnson County, Texas. Twenty-four wells were
producing, two wells were being drilled, eight wells were in the
completion process and two wells were saltwater disposal wells.
On that date, HE III held oil and gas leases covering
approximately 29,000 gross and 14,000 net acres of
undeveloped leasehold, predominantly in Johnson County, Texas.
Natural gas production was approximately 21 million cubic
feet per day, net to HE IIIs interest.
On July 18, 2005, HE III completed a merger with
Chesapeake. The merger agreement provided for a total price of
$246,500,000 for all of the HE III production and reserves, as
well as the operational and administrative infrastructure in
Johnson County, and was subject to reduction for outstanding
debt, transaction costs, changes in working capital and certain
other matters. After these reductions and adjustments,
Chesapeake paid a total of approximately $235,000,000 at the
closing, including debt owed by HE III, and additional
$3,300,000, as a result of the final working capital adjustment
settled in October 2005.
In exchange for its interest in HE III, the Company received a
cash payment of $54,850,000 in July 2005 and received an
additional $799,000 in November 2005 from the final working
capital adjustment. In addition, the Company received a
distribution for its proportionate share of certain pipe
inventory owned by HE III, with a proportionate carrying value
of approximately $889,000, which was contributed to HE II as an
additional capital investment. The Company also recorded a
receivable in the amount of $470,000 for the settlement of a
working capital adjustment with HPL. The receivable was
contributed to Hallwood Energy in December 2006 as an additional
capital investment.
Hallwood Petroleum, LLC. The Companys
Hallwood Petroleum, LLC subsidiary (HPL) commenced
operation in October 2004 as an administrative and management
company to facilitate record keeping and processing for the
energy affiliates and has no financial value. All revenues were
credited to, and all costs were borne by, the other energy
affiliates with no profit element. All assets nominally in the
name of HPL were held solely for the benefit of the other energy
affiliates. HPL was formed as a subsidiary of the Company as a
convenience and it was not intended that it have any financial
impact on the Company. In the 2005 third quarter, the Company
determined that its ownership of this pass-through entity
created unnecessary complexity; therefore HPL was transferred
for nominal consideration to officers of the energy affiliates
that are not officers of the Company. The transfer was completed
in May 2005. HPL was acquired by Hallwood Energy for nominal
consideration in connection with the December 31, 2005
consolidation.
32
Liquidity
and Capital Resources
General. The Company principally operates in
the textile products and energy business segments. The
Companys cash position decreased by $2,794,000 during 2007
to $7,260,000 as of December 31, 2007. The principal
sources of cash in 2007 were $4,457,000 provided by operations
and $6,749,000 from additional borrowings. The principal uses of
cash in 2007 were $11,093,000 for investments in Hallwood
Energy, $2,358,000 for investments in property, plant and
equipment at Brookwood and $275,000 for repayment of bank
borrowings.
Textiles. The Companys textile products
segment generates funds from the dyeing, laminating and
finishing of fabrics and their sales to customers in the
consumer, industrial, medical and military markets. Brookwood
maintains a $25,000,000 (increased in December 2007 from
$22,000,000) working capital revolving credit facility and a
$3,000,000 equipment facility with Key Bank. The facilities have
a maturity of January 2010. At December 31, 2007, Brookwood
had $7,819,000 of unused borrowing capacity on its working
capital revolving credit facility and $2,815,000 on its
equipment facility.
One of Brookwoods principal factors announced in March
2008 that it had been negatively impacted by the current
tightening in the credit markets and was required to draw on its
bank credit lines to provide additional liquidity. Brookwood is
monitoring its factor relationships and developing alternative
strategies should economic conditions deteriorate further.
In the years ended December 31, 2007, 2006 and 2005,
Brookwood paid cash dividends to the Company of $6,000,000,
$6,000,000 and $8,000,000, respectively. In addition, Brookwood
made payments to the Company of $1,591,000, $738,000 and
$4,552,000, respectively, under its tax sharing agreement. In
the 2008 first quarter, Brookwood made dividend and tax sharing
payments of $1,500,000 and $2,190,000, respectively. Future cash
dividends and tax sharing payments are contingent upon
Brookwoods continued profitability and compliance with the
covenants contained in the revolving credit facility. As
Brookwoods total tangible net worth ratio (1.32 at
December 31, 2007) approaches the maximum allowable
ratio of 1.50, future payments from Brookwood may be limited.
The increase in the ratio is principally attributable to an
increase in inventory and receivables, the result of recent
increased orders and sales. There were no significant additional
capital requirements as of December 31, 2007.
Energy. During 2007, 2006 and 2005, the
Company invested $11,093,000, $9,427,000 (including a non-cash
contribution of $452,000) and $40,556,000, respectively in
Hallwood Energy, as part of a total equity funding to Hallwood
Energy of $61,468,000. In addition, Hallwood Energy received
proceeds of approximately $39,430,000 in July 2006 from the sale
of full or partial interests in its Texas properties. In
February 2006, Hallwood Energy entered into the Former Credit
Facility, and had drawn $40,000,000 as of December 31,
2006. Hallwood Energy was not in compliance with the proved
collateral coverage ratio, Hallwood Energy received from the
former lender a waiver of the default and negotiated an
amendment of the Former Credit Facility. In April 2007, Hallwood
Energy repaid the $40,000,000 outstanding principal balance of
the former loan and entered into a $100,000,000 Senior Secured
Credit Facility and had drawn $65,000,000 under the new Senior
Secured Credit Facility.
Prior to the April 2007 funding of the Senior Secured Credit
Facility, the Company had loaned $7,000,000 to Hallwood Energy
pursuant to demand notes bearing interest at 6% above prime
rate. In April 2007, Hallwood Energy made a request for
additional capital contributions in the amount of $25,000,000.
The Company and Hallwood Energy had agreed that the $7,000,000
amount previously loaned would be applied as the Companys
portion of this capital call. In May 2007, Hallwood Energy
repaid $257,000 to the Company, which represented the excess of
amounts advanced over the Companys share of the capital
contribution and related oversubscription.
In April 2007, HIL and the New Lender each committed to fund
one-half of the April Call and potential additional equity or
subordinated debt funding calls totaling $55,000,000 by Hallwood
Energy, to the extent other investors, including the Company, do
not respond to a call. On May 21, 2007, Hallwood Energy
issued a $20,000,000 equity call, the May Call, to its partners,
which was due on July 1, 2007, of which the Companys
proportionate share was $5,091,000. The Company funded
$2,500,000 of the May Call since the Company did not have funds
available to fully subscribe to its proportionate share. On
August 23, 2007, Hallwood Energy issued a $15,000,000
equity call, the August Call, to its partners which was due
September 14, 2007, of which the Companys
proportionate share was $3,684,000. The Company funded one-half,
or $1,842,000, of the August Call
33
since the Company did not have funds available to fully
subscribe to its proportionate share and does not anticipate it
will have funds to contribute substantial capital in connection
with future calls.
In November 2007, Hallwood Energy received $15,000,000 from a
new equity partner. In addition, HIL, another existing investor
and the New Lender entered into a letter agreement providing up
to $15,000,000 of additional funding to Hallwood Energy. HIL
funded $7,500,000 under the letter agreement, executing a
promissory note bearing 16% per annum. Two of the partners did
not fund under this agreement which constituted a default
condition under the Senior Secured Credit Facility, as
stipulated in the letter agreement. This default condition was
subsequently waived and on January 2, 2008, as per the
letter agreement, HILs loan and accrued interest was
converted into a Class C interest.
In January 2008, Hallwood Energy entered into the $30,000,000
Convertible Note agreement, of which $28,800,000 of the
convertible subordinated notes had been subscribed for and
issued. In addition, Hallwood Energy entered into the
$15,000,000 Junior Credit Facility in January 2008 and drew the
full $15,000,000 available.
Hallwood Energy also anticipates that it will likely require in
excess of $100,000,000 to finance its tentative 2008 operating
budget and is in the process of seeking additional capital from
external sources. To the extent the Company does not make future
capital contributions in proportion to its interest in Hallwood
Energy, its percentage ownership interest will be reduced. The
actual level of Hallwood Energys capital requirements
during 2008 and thereafter will depend on a number of factors
that cannot be determined at this time, including future gas
prices, costs of field operations, the ability to successfully
identify and acquire prospective properties and drill and
complete wells, access to gathering and transportation
infrastructure, and the availability of alternative sources of
capital, such as loans from third parties or equity
contributions from new investors.
Hallwood Energy was not in compliance with the Senior Secured
Credit Facility as of December 31, 2007 in regards to
meeting the current ratio test of 1:1. A second default event
related to a commitment agreement by three of Hallwood
Energys partners to fund $15,000,000 by November 1,
2007 that was only partially funded. The lender waived these
defaults in January 2008 and amended the loan agreement for the
Senior Secured Credit Facility, which established the next
current ratio test at April 30, 2008. Hallwood Energy does
not expect to maintain compliance with the required current and
proved collateral coverage ratios during the year ended
December 31, 2008, unless additional funds are raised
through issuance of debt or equity instruments.
Future Liquidity. The Companys ability
to generate cash flow from operations will depend on its future
performance and its ability to successfully implement business
and growth strategies. The Companys performance will also
be affected by prevailing economic conditions. Many of these
factors are beyond the Companys control. Considering its
current cash position, its anticipated cash flow from continuing
operations and an anticipated income tax refund of approximately
$12,239,000 in the 2008 fourth quarter, the Company believes it
has sufficient funds to meet its liquidity needs, although the
Companys ability to fund substantial additional capital
contributions to Hallwood Energy will be limited by funds
available at the time any additional funds are required by
Hallwood Energy.
Contractual
Obligations and Commercial Commitments
The Company and its subsidiaries have entered into various
contractual obligations and commercial commitments in the
ordinary course of conducting its business operations, which are
provided below as of December 31, 2007 (in thousands):
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|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Payments Due During the Years Ending December 31,
|
|
|
|
2008
|
|
|
2009
|
|
|
2010
|
|
|
2011
|
|
|
2012
|
|
|
Thereafter
|
|
|
Total
|
|
|
Contractual Obligations
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Long term debt
|
|
$
|
158
|
|
|
$
|
27
|
|
|
$
|
17,181
|
|
|
$
|
|
|
|
$
|
|
|
|
$
|
|
|
|
$
|
17,366
|
|
Redeemable preferred stock
|
|
|
|
|
|
|
|
|
|
|
1,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
1,000
|
|
Operating leases
|
|
|
1,146
|
|
|
|
791
|
|
|
|
758
|
|
|
|
359
|
|
|
|
371
|
|
|
|
1,361
|
|
|
|
4,786
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
1,304
|
|
|
$
|
818
|
|
|
$
|
18,939
|
|
|
$
|
359
|
|
|
$
|
371
|
|
|
$
|
1,361
|
|
|
$
|
23,152
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
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|
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|
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|
34
Interest costs associated with the Companys debt, which
principally bears interest at variable rates, are not a material
component of the Companys expenses. Estimated interest
payments, based on the current principal balances and weighted
average interest rates, assuming the contractual repayment of
the term loan debt at their maturity dates and a renewal of the
revolving credit facilities at their loan balances as of
December 31, 2007, are $1,163,000, $1,157,000, $1,156,000,
$1,156,000 and $1,156,000, for the years ending
December 31, 2008 through December 31, 2012,
respectively.
Employment Contracts. The Company and its
Brookwood subsidiary have compensation agreements with various
personnel and consultants. Generally, the agreements extend for
one-year terms and are renewable annually.
2005 Long-Term Incentive Plan for
Brookwood. In December 2005, the Company adopted
The Hallwood Group Incorporated 2005 Long-Term Incentive Plan
for Brookwood Companies Incorporated (2005 Long-Term
Incentive Plan for Brookwood) to encourage employees of
Brookwood to increase the value of Brookwood and to continue to
be employed by Brookwood. The terms of the incentive plan
provide for a total award amount to participants equal to 15% of
the fair market value of consideration received by the Company
in a change of control transaction, as defined, in excess of the
sum of the liquidation preference plus accrued unpaid dividends
on the Brookwood preferred stock (approximately $19,553,000 at
December 31, 2007). The base amount will fluctuate in
accordance with a formula that increases by the annual amount of
the dividend on the preferred stock accrued, currently
$1,823,000, and decreases by the amount of the cash dividends
actually paid. However, if the Companys board of directors
determines that certain specified Brookwood officers, or other
persons performing similar functions do not have, prior to the
change of control transaction, in the aggregate an equity or
debt interest of at lease two percent in the entity with whom
the change of control transaction is completed, then the minimum
amount to be awarded under the plan shall be $2,000,000. In
addition, the Company agreed that, if members of
Brookwoods senior management do not have, prior to a
change of control transaction, in the aggregate an equity or
debt interest of at least two percent in the entity with whom
the change of control transaction is completed (exclusive of any
such interest any such individual receives with respect to his
or her employment following the change of control transaction),
then the Company will be obligated to pay an additional
$2,600,000.
Hallwood Energy. The Companys Hallwood
Energy affiliate had various contractual obligations and
commercial commitments in the total amount of $167,860,000 at
December 31, 2007. Such obligations and commitments
included $100,000,000 for long-term debt, $39,074,000 for
interest, $28,691,000 for long-term rig commitments and $95,000
for operating leases.
Financial
Covenants
Brookwood. The principal ratios required to be
maintained under Brookwoods Working Capital Revolving
Credit Facility as of December 31, 2007 and the end of the
interim quarters are provided below:
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Quarters Ended in 2007
|
|
Description
|
|
Requirement
|
|
December 31,
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|
September 30,
|
|
|
June 30,
|
|
|
March 31,
|
|
|
Total debt to tangible net worth
|
|
must be less than ratio of 1.50
|
|
|
1.32
|
|
|
|
1.41
|
|
|
|
1.23
|
|
|
|
1.08
|
|
Net income
|
|
must exceed $1
|
|
|
Yes
|
|
|
|
Yes
|
|
|
|
Yes
|
|
|
|
Yes
|
|
Brookwood was in compliance with its principal loan covenants
under the Working Capital Revolving Credit Facility as of
December 31, 2007 and 2006 and for all interim periods
during 2007 and 2006, although a waiver regarding a pro forma
(inclusive of projected dividend) total debt to tangible net
worth ratio for the 2007 third quarter was granted to allow a
$1,500,000 dividend payment in November 2007.
Cash dividends and tax sharing payments are contingent upon
Brookwoods compliance with the covenants contained in the
loan agreement. The restricted net assets of Brookwood subject
to this payment limitation were $29,180,000 and $28,105,000 at
December 31, 2007 and 2006, respectively.
Hallwood Energy. The principal ratios and
covenants required to be maintained by Hallwood Energy under its
Senior Secured Credit Facility are provided below:
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|
|
General and administrative costs, excluding certain legal fees,
can not exceed $1,700,000 for any quarter, beginning
June 30, 2007
|
35
|
|
|
|
|
Current ratio must exceed 1:1 each quarter, beginning
June 30, 2007
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|
Proved collateral coverage ratio (including cash) must exceed
2:1 each quarter, beginning June 30, 2008
|
Non-financial covenants restrict the ability of Hallwood Energy
to dispose of assets, incur additional indebtedness, prepay
other indebtedness or amend certain debt instruments, pay
dividends, create liens on assets, enter into sale and leaseback
transactions, make investments, loans or advances, make
acquisitions, engage in mergers or consolidations or engage in
certain transactions with affiliates, and otherwise restrict
certain activities by Hallwood Energy. The New Lender may demand
that Hallwood Energy prepay the outstanding loan, including the
make-whole provision, in the event of a defined change of
control, qualified sale or event of default, including a
material adverse event.
Hallwood Energy was not in compliance with the Senior Secured
Credit Facility as of December 31, 2007 in regards to
meeting the current ratio test of 1:1. A second default event
related to a commitment agreement by three of Hallwood
Energys partners to fund $15,000,000 by November 1,
2007 that was only partially funded. The lender waived these
defaults in January 2008 and amended the loan agreement for the
Senior Secured Credit Facility, which established the next
current ratio test at April 30, 2008. Hallwood Energy does
not expect to maintain compliance with the required current and
proved collateral coverage ratios during the year ended
December 31, 2008, unless additional funds are raised
through issuance of debt or equity instruments.
In January 2008, Hallwood Energy entered into the Junior Credit
Facility and borrowed the full $15,000,000 available under the
facility. The Junior Credit Facility contains various financial
covenants materially consistent with the Senior Secured Credit
Facility.
Special
Purpose Entities
The Company has, in certain situations, created Special Purpose
Entities (SPE). These SPEs were formed to hold title
to specific assets and accomplish various objectives. In 1998,
the Company formed several SPEs to complete a consolidation of
its real estate assets into a new structure to facilitate
possible financing opportunities. In other situations, SPEs were
formed at the request of lenders for the express purpose of
strengthening the collateral for the loans by isolating (for
Federal bankruptcy law purposes) the assets and liabilities of
the SPEs. In all cases and since their various formation
dates, these wholly owned entities (including their assets,
liabilities and results of operations) have been fully
consolidated into the financial statements of the Company.
New
Accounting Pronouncements
In June 2006, the Financial Accounting Standards Board
(FASB) issued FASB Interpretation No. 48,
Accounting for Uncertainty in Income Taxes
(FIN 48). The Company adopted the
provisions of FIN 48 on January 1, 2007. FIN 48
clarifies the accounting for uncertainty in income taxes
recognized in an enterprises financial statements in
accordance with FASB Statement No. 109, Accounting
for Income Taxes, and prescribes a recognition
threshold and measurement process for financial statement
recognition and measurement of a tax position taken or expected
to be taken in a tax return. FIN 48 also provides guidance
on derecognition, classification, interest and penalties,
accounting in interim periods, disclosure and transition.
The Company has completed its evaluation and has determined that
as of the beginning of the year there were no significant
uncertain tax positions requiring recognition in its
consolidated financial statements. No additional reserves were
required during the year or as of December 31, 2007. The
evaluation was performed for the tax years ended
December 31, 2004 through 2007, the tax years which remain
subject to examination by major tax jurisdictions. The Company
does not believe there will be any material changes in its
unrecognized tax positions over the next 12 months.
The Company may from time to time be assessed interest or
penalties by major tax jurisdictions, although any such
assessments historically have been minimal and immaterial to its
financial results. In the event the Company incurs interest
and/or
penalties, they will be classified in the financial statements
as interest expense or administrative and selling expense,
respectively.
36
In September 2006, the FASB issued SFAS No. 157,
Fair Value Measurements. This Statement
defines fair value as used in numerous accounting
pronouncements, establishes a framework for measuring fair value
in generally accepted accounting principles and expands
disclosure related to the use of fair value measures in
financial statements. SFAS 157 is effective for financial
statements issued for fiscal years beginning after
November 15, 2007. The Company has not yet determined the
impact that adoption of this statement might have on its
financial position or results of operations.
In February 2007, the FASB issued SFAS No. 159,
The Fair Value Option for Financial Assets and
Financial Liabilities Including an Amendment of FASB
Statement No. 115. SFAS No. 159 permits
entities to choose to measure many financial instruments and
certain other items at fair value. The FASB believes the
statement will improve financial reporting by providing
companies the opportunity to mitigate volatility in reported
earnings by measuring related assets and liabilities differently
without having to apply complex hedge accounting provisions. Use
of the statement will expand the use of fair value measurements
for accounting for financial instruments. Although the Company
has not yet elected to present any financial assets or
liabilities at fair value under SFAS No. 159, it may
choose to do so in the future.
The Emerging Issues Task Force (EITF) of the FASB
has ratified EITF Issue
06-11,
Accounting for Income Tax Benefits of Dividends on
Share-Based Payment Awards
(EITF 06-11)
in June 2007. In a stock-based compensation arrangement,
employees may be entitled to dividends during the vesting period
for nonvested shares or share units and until the exercise date
for stock options. These dividend payments generally can be
treated as a deductible compensation expense for income tax
purposes, thereby generating an income tax benefit for the
employer. At issue was how such a realized benefit should be
recognized in the financial statements. The EITF has reached a
conclusion that an entity should recognize the realized tax
benefit as an increase in additional paid-in capital
(APIC) and that the amount recognized in APIC should
be included in the pool of excess tax benefits available to
absorb tax deficiencies on stock-based payment awards.
EITF 06-11
will be effective prospectively for the income tax benefits that
result from dividends on equity-classified employee share-based
payment awards that are declared in fiscal years beginning after
December 15, 2007. The Company is currently evaluating the
effect that this EITF will have on its financial statements, but
does not believe that it will have a material impact on its
financial statements.
Inflation
Inflation did not have a significant impact on the Company in
the three years ended December 31, 2007, and is not
anticipated to have a material impact in 2008.
Forward-Looking
Statements
In the interest of providing stockholders with certain
information regarding the Companys future plans and
operations, certain statements set forth in this
Form 10-K
relate to managements future plans, objectives and
expectations. Such statements are forward-looking statements.
Although any forward-looking statement expressed by or on behalf
of the Company is, to the knowledge and in the judgment of the
officers and directors, expected to prove true and come to pass,
management is not able to predict the future with absolute
certainty. Forward-looking statements involve known and unknown
risks and uncertainties, which may cause the Companys
actual performance and financial results in future periods to
differ materially from any projection, estimate or forecasted
result. Among others, these risks and uncertainties include
those described in Item 1A. Risk Factors. These risks and
uncertainties are difficult or impossible to predict accurately
and many are beyond the control of the Company. Other risks and
uncertainties may be described, from time to time, in the
Companys periodic reports and filings with the SEC.
|
|
Item 7A.
|
Quantitative
and Qualitative Disclosures about Market Risk
|
As the Company is a smaller reporting company, this item is not
applicable.
37
|
|
Item 8.
|
Financial
Statements and Supplementary Data
|
The Companys consolidated financial statements, together
with the report of independent registered public accounting firm
are included elsewhere herein. Reference is made to
Item 15, Financial Statements, Financial Statement
Schedules and Exhibits.
|
|
Item 9.
|
Changes
in and Disagreements with Accountants on Accounting and
Financial Disclosure
|
None.
|
|
Item 9A.
|
Controls
and Procedures
|
Disclosure
Controls and Procedures.
It is the conclusion of the Companys principal executive
officer and principal financial officer that the Companys
disclosure controls and procedures (as defined in Exchange Act
rules 13a-15(e)
and
15d-15(e)),
based on their evaluation of these controls and procedures as of
the end of the period covered by this Annual Report, are
effective at the reasonable assurance level in ensuring that
information required to be disclosed by the Company in the
reports that it files or submits under the Exchange Act is
recorded, processed, summarized and reported within the time
periods specified in the Securities and Commissions rules
and forms, and that information required to be disclosed by the
Company in the reports that it files or submits under the Act is
accumulated and communicated to the Companys management,
including its principal executive and principal financial
officers, or persons performing similar functions, as
appropriate to allow timely decisions regarding required
disclosure. Management necessarily applied its judgment in
assessing the costs and benefits of such controls and procedures
which, by their nature, can provide only reasonable assurance
regarding managements control objectives. The design of
any system of controls and procedures is based in part upon
certain assumptions about the likelihood of future events. There
can be no assurance that any design will succeed in achieving
its stated goals under all potential future conditions,
regardless of how remote.
In August 2003, the Companys independent registered public
accounting firm provided written communications to management
and the audit committee on the need to improve the financial
closing process at the Brookwood subsidiary. In April 2004, the
Company received further written communications from the
independent registered public accounting firm to management and
the audit committee on the continued need to improve the
Brookwood financial closing process. In March 2005, April 2006
and May 2007, the Company received communications from its
independent registered public accounting firm that further
improvements in the financial systems and processes at its
Brookwood subsidiary are still required. With the addition of
new staff, Brookwoods management believes it has made
substantial progress both in the timeliness and accuracy of the
closing process. Brookwood has implemented a new order
processing, manufacturing cost and inventory control system and
it has updated its general ledger system, which is integrating
various accounting processes. The new systems will further aid
in accelerating and automating the financial closing process.
Changes
in Internal Control Over Financial Reporting.
There were no changes in the Companys internal controls
over financial reporting that occurred during the last fiscal
quarter that have materially affected, or are reasonably likely
to materially affect, these controls.
Managements
Annual Report on Internal Control over Financial
Reporting
Management of the Company is responsible for the preparation and
integrity of the consolidated financial statements appearing in
the annual report on
Form 10-K.
The financial statements were prepared in conformity with
generally accepted accounting principles appropriate in the
circumstances and, accordingly, include certain amounts based on
our best judgments and estimates.
Management of the Company is responsible for establishing and
maintaining adequate internal control over financial reporting.
As defined in Exchange Act
Rule 13a-15(f),
internal control over financial reporting is a process designed
by, or under the supervision of, the Companys chief
executive officer and chief financial officer and effected by
the board of directors, management and other personnel, to
provide reasonable assurance regarding the
38
reliability of financial reporting and the preparation of
financial statements for external purposes in accordance with
generally accepted accounting principles and includes those
policies and procedures that (i) pertain to the maintenance
of records that in reasonable detail accurately and fairly
reflect the transactions and dispositions of the assets of the
Company; (ii) provide reasonable assurance that
transactions are recorded as necessary to permit preparation of
financial statements in accordance with generally accepted
accounting principles, and that receipts and expenditures of the
Company are being made only in accordance with authorizations of
management and directors of the Company; and (iii) provide
reasonable assurance regarding prevention or timely detection of
unauthorized acquisition, use or disposition of the
Companys assets that could have a material effect on the
financial statements. Because of its inherent limitations,
internal control over financial reporting may not prevent or
detect misstatements.
Management, including the Companys chief executive officer
and chief financial officer, assessed the effectiveness of the
Companys internal control over financial reporting as of
December 31, 2007. In making this assessment, management
used the criteria set forth by the Committee of Sponsoring
Organizations of the Treadway Commission (COSO) in Internal
Control-Integrated Framework. Based on this assessment,
management believes that, as of December 31, 2007, the
Companys internal control over financial reporting was
effective based on those criteria. This annual report does not
include an attestation report of the Companys independent
registered public accounting firm regarding internal control
over financial reporting. Managements report was not
subject to attestation by the Companys independent
registered public accounting firm pursuant to temporary rules of
the Securities and Exchange Commission that permit the Company
to provide only managements report in this annual report.
|
|
Item 9B.
|
Other
Information
|
None.
39
PART III
|
|
Item 10.
|
Directors,
Executive Officers and Corporate Governance
|
Certain of the information required by this Item 10 is
contained in the definitive proxy statement of the Company for
its Annual Meeting of Stockholders (the Proxy
Statement) under the headings Election of
Directors, and Procedures for Director
Nominations and such information is incorporated herein by
reference. The Proxy Statement will be filed with the Securities
and Exchange Commission. Additional information concerning the
executive officers of the Company is included under
Item 1. Business - Executive Officers of the
Company.
The Companys Code of Business Conduct and Ethics is
publicly available on the Companys Internet website at
http://www.hallwood.com
under the section Governance Policies.
|
|
Item 11.
|
Executive
Compensation
|
Information with respect to executive compensation is contained
in the Proxy Statement under the headings Executive
Compensation, Compensation of Directors and
Certain Relationships and Related Transactions, and
such information is incorporated herein by reference.
|
|
Item 12.
|
Security
Ownership of Certain Beneficial Owners and Management and
Related Stockholder Matters
|
The following table provides information as of December 31,
2007 about the Companys Common Stock that may be issued
upon the exercise of options granted pursuant to the 1995 Stock
Option Plan, as amended:
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|
|
|
|
|
|
|
|
|
|
|
Equity Compensation Plan Information
|
|
|
|
|
|
|
|
|
|
Number of securities available
|
|
|
|
Number of securities to
|
|
|
Weighted-average
|
|
|
for future issuance under
|
|
|
|
be issued upon exercise
|
|
|
exercise price of
|
|
|
equity compensations plans,
|
|
|
|
of outstanding options,
|
|
|
outstanding options,
|
|
|
excluding securities reflected
|
|
Plan category
|
|
warrants and rights(1)
|
|
|
warrants and rights
|
|
|
in first column(2)
|
|
|
Equity compensation plans approved by stockholders
|
|
|
4,500
|
|
|
$
|
10.31
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Equity compensation plans not approved by stockholders
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1) |
|
The number of shares is subject to adjustment for changes
resulting from stock dividends, stock splits, recapitalizations
and similar events. The Board of Directors in its discretion may
make adjustments, as appropriate, in connection with any
transaction. |
|
(2) |
|
The 1995 Stock Option Plan terminated on June 27, 2005.
Options issued prior to the termination are not affected;
however, no new options can be issued. |
Information regarding ownership of certain of the Companys
outstanding securities is contained in the Proxy Statement under
the heading Security Ownership of Certain Beneficial
Owners and Management, and such information is
incorporated herein by reference. Information regarding equity
compensation plans are contained in the Proxy Statement under
the heading Executive Compensation.
|
|
Item 13.
|
Certain
Relationships and Related Transactions, and Director
Independence
|
Information regarding certain relationships and related
transactions, and director independence is contained in the
Proxy Statement under the headings Compensation Committee
Interlocks and Insider Participation and Certain
Relationships and Related Transactions, and such
information is incorporated herein by reference.
|
|
Item 14.
|
Principal
Accounting Fees and Services
|
Information concerning principal accounting fees and services is
contained in the Proxy Statement under the heading Audit
Fees and Pre-Approval Policy and such information is
incorporated herein by reference.
40
PART IV
|
|
Item 15.
|
Financial
Statements, Financial Statement Schedules and
Exhibits
|
Reference is made to the Index to Financial Statements and
Schedules appearing after the signature page hereof.
1. Financial Statements.
Included in Part II, Item 8 of this report are the
following
Report of Independent Registered Public Accounting Firm
Consolidated Balance Sheets, December 31, 2007 and 2006
Consolidated Statements of Operations, Years ended
December 31, 2007, 2006 and 2005
Consolidated Statements of Comprehensive Income, Years ended
December 31, 2007, 2006 and 2005
Consolidated Statements of Changes in Stockholders Equity,
Years ended December 31, 2005, 2006 and 2007
Consolidated Statements of Cash Flows, Years ended
December 31, 2007, 2006 and 2005
Notes to Consolidated Financial Statements
2. Financial Statement Schedules.
I. Condensed Financial Information of Registrant
II. Valuation and Qualifying Accounts and Reserves
All other schedules are omitted since the required information
is not applicable or is included in the consolidated financial
statements or related notes.
Financial Statements of Hallwood Energy, L.P. and
Subsidiaries
Consolidated Financial Statements for the Years Ended
December 31, 2007, 2006 and 2005 and Report of Independent
Registered Public Accounting Firm
3. Exhibits.
(a) Exhibits.
|
|
|
|
|
|
|
|
3
|
.1
|
|
|
|
Second Restated Certificate of Incorporation of The Hallwood
Group Incorporated, is incorporated herein by reference to
Exhibit 4.2 to the Companys Form S-8 Registration
Statement, filed on October 26, 1995 File No. 33-63709.
|
|
|
|
|
|
|
|
|
3
|
.2
|
|
|
|
Amendment to Second Restated Certificate of Incorporation of The
Hallwood Group Incorporated, is incorporated herein by reference
to Exhibit 2.2 to the Companys Form 8-K filed on
May 14, 2004, File No. 1-8303.
|
|
|
|
|
|
|
|
|
3
|
.3
|
|
|
|
Restated Bylaws of the Company is incorporated herein by
reference to Exhibit 3.2 to the Companys
Form 10-K for the year ended December 31, 1997, File
No. 1-8303.
|
|
|
|
|
|
|
|
|
3
|
.4
|
|
|
|
Amendment to the Amended and Restated Bylaws of the Company,
dated November 14, 2007, to permit the Companys shares of
stock to be uncertificated, filed herewith.
|
|
|
|
|
|
|
|
|
*10
|
.1
|
|
|
|
Employment Agreement, dated January 1, 1994, between the
Company and Melvin John Melle, is incorporated by reference to
Exhibit 10.9 to the Companys Form 10-K for the fiscal
year ended July 31, 1994, File No. 1-8303.
|
41
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
10
|
.2
|
|
|
|
Tax Sharing Agreement, dated as of March 15, 1989, between
the Company and Brookwood Companies Incorporated is incorporated
herein by reference to Exhibit 10.25 to the Companys
Form 10-K for the fiscal year ended July 31, 1989, File
No. 1-8303.
|
|
|
|
|
|
|
|
|
*10
|
.3
|
|
|
|
Amended Tax-Favored Savings Plan Agreement of the Company,
effective as of February 1, 1992, is incorporated herein by
reference to Exhibit 10.33 to the Companys
Form 10-K for the fiscal year ended July 31, 1992,
File No. 1-8303.
|
|
|
|
|
|
|
|
|
*10
|
.4
|
|
|
|
Hallwood Special Bonus Agreement, dated as of August 1,
1993, between the Company and all members of its control group
that now, or hereafter, participate in the Hallwood Tax Favored
Savings Plan and its related trust, and those employees who,
during the plan year of reference are highly-compensated
employees of the Company, is incorporated herein by reference to
Exhibit 10.34 to the Companys Form 10-K for the
fiscal year ended July 31, 1994, File No. 1-8303.
|
|
|
|
|
|
|
|
|
*10
|
.5
|
|
|
|
Financial Consulting Agreement, dated as of December 31,
1996, between the Company and Hallwood Investments Limited,
formerly HSC Financial Corporation, is incorporated herein by
reference to Exhibit 10.22 to the Companys
Form 10-K for the year ended December 31, 1996, File
No. 1-8303.
|
|
|
|
|
|
|
|
|
*10
|
.6
|
|
|
|
Amendment to Financial Consulting Agreement, dated as of
May 16, 2001, between the Company and Hallwood Investments
Limited is incorporated herein by reference to Exhibit 10.9
to the Companys Form 10-K for the year ended
December 31, 2001, File No. 1-8303.
|
|
|
|
|
|
|
|
|
*10
|
.7
|
|
|
|
Amendment to Financial Consulting Agreement, dated as of
January 1, 2000, between the Company and Hallwood
Investments Limited, is incorporated herein by refinance to
Exhibit 10.15 to the Companys Form 10-Q for the
quarter ended March 31, 2000, File No. 1-8303.
|
|
|
|
|
|
|
|
|
10
|
.8
|
|
|
|
Promissory Note and Security Agreement regarding equipment term
loan in the amount of $541,976.24, dated as of February 25,
2002, between Brookwood Companies Incorporated, Kenyon
Industries, Inc., Brookwood Laminating, Inc., Ashford Bromely,
Inc., Xtramile, Inc., and Land Ocean III, Inc. and Key Leasing,
a division of Key Corporate Capital, Inc., Libor plus
325 basis points-floating, due February 25, 2007, is
incorporated herein by reference to exhibit 10.20 to the
Companys Form 10-Q for the quarter ended March 31,
2002, File No. 1-8303.
|
|
|
|
|
|
|
|
|
10
|
.9
|
|
|
|
Promissory Note and Security Agreement regarding equipment term
loan in the amount of $298,018, dated as of December 20,
2002, between Brookwood Companies Incorporated, Kenyon
Industries, Inc., Brookwood Laminating, Inc., Ashford Bromely,
Inc., Xtramile, Inc., Land Ocean III, Inc. and Strategic
Technical Alliance LLC and Key Leasing, a division of Key
Corporate Capital, Inc., fixed interest 4.67%, due
December 20, 2007, is incorporated herein by reference to
Exhibit 10.16 to the Companys Form 10-K for the year
ended December 31, 2002, File No. 1-8303.
|
|
|
|
|
|
|
|
|
10
|
.10
|
|
|
|
Second Amended and Restated Revolving Credit Loan and Security
Agreement, dated as of January 30, 2004, by and among Key Bank
National Association, Brookwood Companies Incorporated and
certain subsidiaries, is incorporated by reference to
Exhibit 10.21 to the Companys Form 10-K for the
year ended December 31, 2003, File No. 1-8303.
|
|
|
|
|
|
|
|
|
*10
|
.11
|
|
|
|
Amendment to Financial Consulting Agreement, dated
March 10, 2004, by and between the Company and Hallwood
Investments Limited, is incorporated by reference to
Exhibit 10.22 to the Companys Form 10-K for the
year ended December 31, 2003, File No. 1-8303.
|
|
|
|
|
|
|
|
|
*10
|
.12
|
|
|
|
Compensation Letter, dated May 11, 1998, between Brookwood
Companies Incorporated and Amber M. Brookman is incorporated by
reference to Exhibit 10.24 to the Companys Form 10-Q
for the quarter ended March 31, 2004, File No. 1-8303.
|
42
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
*10
|
.13
|
|
|
|
Amended 1995 Stock Option Plan for The Hallwood Group
Incorporated is incorporated by reference to Annex B of the
Companys Proxy Statement, as filed on April 18, 2001,
File No. 1-8303.
|
|
|
|
|
|
|
|
|
*10
|
.14
|
|
|
|
Form of Stock Option Agreement to 1995 Stock Option Plan for The
Hallwood Group Incorporated, is incorporated herein by reference
to Exhibit 10.16 to the Companys Form 10-K for
the year ended December 31, 2004, File No. 1-8303.
|
|
|
|
|
|
|
|
|
*10
|
.15
|
|
|
|
Amendment to Financial Consulting Agreement, dated March 9,
2005, by and between the Company and Hallwood Investments
Limited, is incorporated herein by reference to
Exhibit 10.16 to the Companys Form 10-K for the year
ended December 31, 2004, File No. 1-8303.
|
|
|
|
|
|
|
|
|
10
|
.16
|
|
|
|
First Amendment to Second Amended and Restated Revolving Credit
Loan and Security Agreement, dated as of March 25, 2005, by and
among Key Bank National Association, Brookwood Companies
Incorporated and certain subsidiaries, is incorporated by
reference to Exhibit 10.20 to the Companys Form 10-Q for
the quarter ended March 31, 2005, File No. 1-8303.
|
|
|
|
|
|
|
|
|
*10
|
.17
|
|
|
|
The Hallwood Group Incorporated 2005 Long-Term Incentive Plan
for Brookwood Companies Incorporated and Unit Agreement under
the Plan between Amber M. Brookman and the Company, is
incorporated herein by reference to Exhibits 99.1 and 99.2 to
the Companys Form 8-K dated January 17, 2006, File
No. 1-8303.
|
|
|
|
|
|
|
|
|
10
|
.18
|
|
|
|
Limited Partnership Agreement of Hallwood Energy 4, L.P., a
Delaware Limited Partnership, dated as of August 23, 2005;
Memorandum of Amendment Changing the Name of Hallwood Energy 4,
L.P. to Hallwood Energy, L.P., effective immediately before
midnight on December 31, 2005; and Amendment to Limited
Partnership Agreement of Hallwood Energy, L.P. dated as of
December 31, 2005, is incorporated by reference to Exhibit 10.21
to the Companys Form 10-K for the year ended
December 31, 2005, File No. 1-8303.
|
|
|
|
|
|
|
|
|
10
|
.19
|
|
|
|
Second Amendment to Second Amended and Restated Revolving Credit
Loan and Security Agreement, dated as of March 25, 2006, by and
among Key Bank National Association, Brookwood Companies
Incorporated and certain Subsidiaries, is incorporated by
reference to Exhibit 10.22 to the Companys Form 10-K for
the year ended December 31, 2005, File No. 1-8303.
|
|
|
|
|
|
|
|
|
10
|
.20
|
|
|
|
Third Amendment to Second Amended and Restated Revolving Credit
Loan and Security Agreement, dated as of December 12, 2007, by
and among Key Bank National Association, Brookwood Companies
Incorporated and certain subsidiaries, filed herewith.
|
|
|
|
|
|
|
|
|
*10
|
.21
|
|
|
|
Change in compensation payable to Amber Brookman is incorporated
herein by reference to Item 5.02 to the Companys Form 8-K
dated March 15, 2007, File No. 1-8303.
|
|
|
|
|
|
|
|
|
*10
|
.22
|
|
|
|
First Amendment to The Hallwood Group Incorporated 2005
Long-Term Incentive Plan for Brookwood Companies Incorporated,
dated June 19, 2007, is incorporated by reference to Exhibit
10.21 to the Companys Form 10-Q for the period ended June
30, 2007, File No. 1-8303.
|
|
|
|
|
|
|
|
|
10
|
.23
|
|
|
|
Third Amendment to Limited Partnership Agreement of Hallwood
Energy, L.P., dated as of May 24, 2007, filed herewith.
|
|
|
|
|
|
|
|
|
21
|
|
|
|
|
Active subsidiaries of the Registrant as of February 29, 2008,
filed herewith.
|
|
|
|
|
|
|
|
|
23
|
.1
|
|
|
|
Independent Registered Public Accounting Firms Consent,
dated March 31, 2008, filed herewith.
|
43
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
31
|
.1
|
|
|
|
Certification of the Chief Executive Officer, pursuant to
Section 302 of Sarbanes-Oxley Act of 2002, filed herewith.
|
|
|
|
|
|
|
|
|
31
|
.2
|
|
|
|
Certification of the Chief Financial Officer, pursuant to
Section 302 of Sarbanes-Oxley Act of 2002, filed herewith.
|
|
|
|
|
|
|
|
|
32
|
.1
|
|
|
|
Certification of the Chief Executive Officer and Chief Financial
Officer pursuant to Section 906 of the Sarbanes-Oxley Act of
2002, filed herewith.
|
|
|
|
* |
|
Constitutes a compensation plan or agreement for executive
officers. |
44
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the
Securities Exchange Act of 1934, the registrant has duly caused
this report to be signed on its behalf by the undersigned,
thereunto duly authorized.
THE HALLWOOD GROUP INCORPORATED
Melvin J. Melle
Vice President Finance
(Principal Financial and Accounting Officer)
Dated: March 31, 2008
Pursuant to the requirements of the Securities Exchange Act of
1934, this report has been signed below by the following persons
on behalf of the registrant on the
31st day
of March 2008.
|
|
|
|
|
/s/ Melvin
J. Melle
(Melvin
J. Melle)
|
|
Vice President Finance
(Principal Financial and Accounting Officer)
|
|
|
|
/s/ Anthony
J. Gumbiner
(Anthony
J. Gumbiner)
|
|
Director and Chairman of the Board
(Principal Executive Officer)
|
|
|
|
/s/ Charles
A. Crocco, Jr.
(Charles
A. Crocco, Jr.)
|
|
Director
|
|
|
|
/s/ A.
Peter Landolfo
(A.
Peter Landolfo)
|
|
Director
|
|
|
|
/s/ M.
Garrett Smith
(M.
Garrett Smith)
|
|
Director
|
|
|
|
/s/ J.
Thomas Talbot
(J.
Thomas Talbot)
|
|
Director
|
45
INDEX TO
FINANCIAL STATEMENTS AND SCHEDULES
|
|
|
|
|
|
|
Page
|
|
|
|
|
47
|
|
|
|
|
|
|
Financial Statements:
|
|
|
|
|
|
|
|
48
|
|
|
|
|
49
|
|
|
|
|
50
|
|
|
|
|
51
|
|
|
|
|
52
|
|
|
|
|
53
|
|
|
|
|
|
|
Schedules:
|
|
|
|
|
|
|
|
86
|
|
|
|
|
92
|
|
All other schedules are omitted since the required information
is not applicable or
is included in the consolidated financial statements or related
notes.
Financial Statements of Hallwood Energy, L.P. and
Subsidiaries
Consolidated Financial Statements for the Years Ended
December 31, 2007, 2006 and
2005 and Report of Independent Registered Public Accounting
Firm
46
REPORT OF
INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Stockholders of
The Hallwood Group Incorporated
Dallas, Texas
We have audited the accompanying consolidated balance sheets of
The Hallwood Group Incorporated and subsidiaries (the
Company) as of December 31, 2007 and 2006, and
the related consolidated statements of operations, comprehensive
income (loss), changes in stockholders equity, and cash
flows for each of the three years in the period ended
December 31, 2007. Our audits also included the financial
statement schedules listed in the Index at Item 15. These
financial statements and financial statement schedules are the
responsibility of the Companys management. Our
responsibility is to express an opinion on these financial
statements and financial statement schedules based on our audits.
We conducted our audits in accordance with the standards of the
Public Company Accounting Oversight Board (United States). Those
standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are
free of material misstatement. The Company is not required to
have, nor were we engaged to perform, an audit of its internal
control over financial reporting. Our audits included
consideration of internal control over financial reporting as a
basis for designing audit procedures that are appropriate in the
circumstances, but not for the purpose of expressing an opinion
on the effectiveness of the Companys internal control over
financial reporting. Accordingly, we express no such opinion. An
audit also includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial
statements, assessing the accounting principles used and
significant estimates made by management, as well as evaluating
the overall financial statement presentation. We believe that
our audits provide a reasonable basis for our opinion.
In our opinion, such consolidated financial statements present
fairly, in all material respects, the financial position of The
Hallwood Group Incorporated and subsidiaries as of
December 31, 2007 and 2006, and the results of their
operations and their cash flows for each of the three years in
the period ended December 31, 2007, in conformity with
accounting principles generally accepted in the United States of
America. Also, in our opinion, such financial statement
schedules, when considered in relation to the basic consolidated
financial statements taken as a whole, present fairly in all
material respects the information set forth therein.
As discussed in Note 1 to the consolidated financial
statements, effective January 1, 2006, the Company adopted
Statement of Financial Accounting Standards No. 123
(Revised 2004), Share-Based Payment.
Dallas, Texas
March 31, 2008
47
THE
HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
CONSOLIDATED
BALANCE SHEETS
(Dollars
in thousands, except per share amounts)
|
|
|
|
|
|
|
|
|
|
|
December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
ASSETS
|
Current Assets
|
|
|
|
|
|
|
|
|
Cash and cash equivalents
|
|
$
|
7,260
|
|
|
$
|
10,054
|
|
Accounts receivable, net
|
|
|
|
|
|
|
|
|
Due from factors
|
|
|
20,340
|
|
|
|
14,412
|
|
Trade and other
|
|
|
5,521
|
|
|
|
5,211
|
|
Related parties
|
|
|
249
|
|
|
|
161
|
|
Inventories, net
|
|
|
25,028
|
|
|
|
17,293
|
|
Federal income tax receivable
|
|
|
12,239
|
|
|
|
3,861
|
|
Deferred income tax, net
|
|
|
971
|
|
|
|
904
|
|
Prepaids, deposits and other assets
|
|
|
928
|
|
|
|
916
|
|
|
|
|
|
|
|
|
|
|
|
|
|
72,536
|
|
|
|
52,812
|
|
Noncurrent Assets
|
|
|
|
|
|
|
|
|
Investments in Hallwood Energy, net
|
|
|
|
|
|
|
39,864
|
|
Property, plant and equipment, net
|
|
|
14,443
|
|
|
|
13,853
|
|
Deferred income tax, net
|
|
|
3,629
|
|
|
|
751
|
|
Other assets
|
|
|
137
|
|
|
|
317
|
|
|
|
|
|
|
|
|
|
|
|
|
|
18,209
|
|
|
|
54,785
|
|
|
|
|
|
|
|
|
|
|
Total Assets
|
|
$
|
90,745
|
|
|
$
|
107,597
|
|
|
|
|
|
|
|
|
|
|
|
LIABILITIES AND STOCKHOLDERS EQUITY
|
Current Liabilities
|
|
|
|
|
|
|
|
|
Accounts payable
|
|
$
|
13,602
|
|
|
$
|
10,491
|
|
Payable additional investment in Hallwood Energy
|
|
|
5,000
|
|
|
|
|
|
Accrued expenses and other current liabilities
|
|
|
4,952
|
|
|
|
3,217
|
|
State income taxes payable
|
|
|
13
|
|
|
|
31
|
|
Current portion of loans payable
|
|
|
158
|
|
|
|
275
|
|
|
|
|
|
|
|
|
|
|
|
|
|
23,725
|
|
|
|
14,014
|
|
Noncurrent Liabilities
|
|
|
|
|
|
|
|
|
Long term portion of loans payable
|
|
|
17,208
|
|
|
|
10,617
|
|
Redeemable preferred stock
|
|
|
1,000
|
|
|
|
1,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
18,208
|
|
|
|
11,617
|
|
|
|
|
|
|
|
|
|
|
Total Liabilities
|
|
|
41,933
|
|
|
|
25,631
|
|
|
|
|
|
|
|
|
|
|
Contingencies and Commitments
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Stockholders Equity
|
|
|
|
|
|
|
|
|
Common stock, $0.10 par value; authorized
10,000,000 shares; issued 2,396,105 shares for both
periods; outstanding 1,520,666 and 1,515,438 shares,
respectively
|
|
|
240
|
|
|
|
240
|
|
Additional paid-in capital
|
|
|
56,469
|
|
|
|
56,451
|
|
Accumulated other comprehensive income
|
|
|
|
|
|
|
55
|
|
Retained earnings
|
|
|
5,576
|
|
|
|
38,401
|
|
Treasury stock, 875,439 and 880,667 shares, respectively;
at cost
|
|
|
(13,473
|
)
|
|
|
(13,181
|
)
|
|
|
|
|
|
|
|
|
|
Total Stockholders Equity
|
|
|
48,812
|
|
|
|
81,966
|
|
|
|
|
|
|
|
|
|
|
Total Liabilities and Stockholders Equity
|
|
$
|
90,745
|
|
|
$
|
107,597
|
|
|
|
|
|
|
|
|
|
|
See accompanying notes to consolidated financial statements.
48
THE
HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
CONSOLIDATED
STATEMENTS OF OPERATIONS
(Amounts
in thousands, except per share amounts)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
Revenues
|
|
|
|
|
|
|
|
|
|
|
|
|
Textile products sales
|
|
$
|
132,497
|
|
|
$
|
112,154
|
|
|
$
|
133,108
|
|
Administrative fees from energy affiliates
|
|
|
|
|
|
|
|
|
|
|
1,499
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
132,497
|
|
|
|
112,154
|
|
|
|
134,607
|
|
Expenses
|
|
|
|
|
|
|
|
|
|
|
|
|
Textile products cost of sales
|
|
|
104,918
|
|
|
|
93,134
|
|
|
|
105,299
|
|
Administrative and selling expenses
|
|
|
20,329
|
|
|
|
18,248
|
|
|
|
29,255
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
125,247
|
|
|
|
111,382
|
|
|
|
134,554
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating income
|
|
|
7,250
|
|
|
|
772
|
|
|
|
53
|
|
Other Income (Loss)
|
|
|
|
|
|
|
|
|
|
|
|
|
Investments in Hallwood Energy and affiliates
|
|
|
|
|
|
|
|
|
|
|
|
|
Equity loss
|
|
|
(55,957
|
)
|
|
|
(10,418
|
)
|
|
|
(8,500
|
)
|
Interest income
|
|
|
92
|
|
|
|
|
|
|
|
|
|
Interest expense
|
|
|
(1,146
|
)
|
|
|
(616
|
)
|
|
|
(545
|
)
|
Interest and other income
|
|
|
307
|
|
|
|
566
|
|
|
|
1,532
|
|
Gain (loss) from disposition of investments in energy affiliates
|
|
|
|
|
|
|
|
|
|
|
|
|
HE III
|
|
|
|
|
|
|
(17
|
)
|
|
|
52,425
|
|
HEC
|
|
|
|
|
|
|
|
|
|
|
(113
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(56,704
|
)
|
|
|
(10,485
|
)
|
|
|
44,799
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income (loss) before income taxes
|
|
|
(49,454
|
)
|
|
|
(9,713
|
)
|
|
|
44,852
|
|
Income tax expense (benefit)
|
|
|
(16,629
|
)
|
|
|
(2,988
|
)
|
|
|
18,510
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net Income (Loss)
|
|
$
|
(32,825
|
)
|
|
$
|
(6,725
|
)
|
|
$
|
26,342
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net Income (Loss) Per Common Share
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic
|
|
$
|
(21.61
|
)
|
|
$
|
(4.44
|
)
|
|
$
|
18.22
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Diluted
|
|
$
|
(21.61
|
)
|
|
$
|
(4.44
|
)
|
|
$
|
17.47
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted Average Shares Outstanding
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic
|
|
|
1,519
|
|
|
|
1,514
|
|
|
|
1,446
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Diluted
|
|
|
1,519
|
|
|
|
1,514
|
|
|
|
1,508
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
See accompanying notes to consolidated financial statements.
49
THE
HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS
EQUITY
Years Ended December 31, 2005, 2006 and 2007
(Amounts in thousands)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Accumulated
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Additional
|
|
|
|
|
|
Other
|
|
|
|
|
|
|
|
|
Total
|
|
|
|
Common Stock
|
|
|
Paid-In
|
|
|
Retained
|
|
|
Comprehensive
|
|
|
Treasury Stock
|
|
|
Stockholders
|
|
|
|
Shares
|
|
|
Par Value
|
|
|
Capital
|
|
|
Earnings
|
|
|
Income
|
|
|
Shares
|
|
|
Cost
|
|
|
Equity
|
|
|
Balance, January 1, 2005
|
|
|
2,396
|
|
|
$
|
240
|
|
|
$
|
54,792
|
|
|
$
|
85,443
|
|
|
$
|
|
|
|
|
1,070
|
|
|
$
|
(15,934
|
)
|
|
$
|
124,541
|
|
Net income
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
26,342
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
26,342
|
|
Cash dividends on common stock
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(66,113
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(66,113
|
)
|
Reissuance of treasury shares from exercise of stock options and
related income tax effect
|
|
|
|
|
|
|
|
|
|
|
1,466
|
|
|
|
(546
|
)
|
|
|
|
|
|
|
(185
|
)
|
|
|
2,753
|
|
|
|
3,673
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance, December 31, 2005
|
|
|
2,396
|
|
|
|
240
|
|
|
|
56,258
|
|
|
|
45,126
|
|
|
|
|
|
|
|
885
|
|
|
|
(13,181
|
)
|
|
|
88,443
|
|
Net loss
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(6,725
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(6,725
|
)
|
Reissuance of treasury shares from exercise of stock options and
related income tax effect
|
|
|
|
|
|
|
|
|
|
|
193
|
|
|
|
|
|
|
|
|
|
|
|
(5
|
)
|
|
|
73
|
|
|
|
266
|
|
Purchase of common stock for treasury
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
1
|
|
|
|
(73
|
)
|
|
|
(73
|
)
|
Unrealized increase in fair value of marketable securities
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
55
|
|
|
|
|
|
|
|
|
|
|
|
55
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance, December 31, 2006
|
|
|
2,396
|
|
|
|
240
|
|
|
|
56,451
|
|
|
|
38,401
|
|
|
|
55
|
|
|
|
881
|
|
|
|
(13,181
|
)
|
|
|
81,966
|
|
Net loss
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(32,825
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(32,825
|
)
|
Reissuance of treasury shares from exercise of stock options and
related income tax effect
|
|
|
|
|
|
|
|
|
|
|
18
|
|
|
|
|
|
|
|
|
|
|
|
(10
|
)
|
|
|
147
|
|
|
|
165
|
|
Purchase of common stock for treasury
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
4
|
|
|
|
(439
|
)
|
|
|
(439
|
)
|
Previously realized increase in fair value of marketable
securities sold during the period
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(55
|
)
|
|
|
|
|
|
|
|
|
|
|
(55
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance, December 31, 2007
|
|
|
2,396
|
|
|
$
|
240
|
|
|
$
|
56,469
|
|
|
$
|
5,576
|
|
|
$
|
|
|
|
|
875
|
|
|
$
|
(13,473
|
)
|
|
$
|
48,812
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
See accompanying notes to consolidated financial statements.
51
THE
HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
CONSOLIDATED
STATEMENTS OF CASH FLOWS
(In
thousands)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
CASH FLOWS FROM OPERATING ACTIVITIES
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income (loss)
|
|
$
|
(32,825
|
)
|
|
$
|
(6,725
|
)
|
|
$
|
26,342
|
|
Adjustments to reconcile net income (loss) to net cash provided
by (used in) operating activities:
|
|
|
|
|
|
|
|
|
|
|
|
|
Equity loss from investments in Hallwood Energy and affiliates
|
|
|
55,957
|
|
|
|
10,418
|
|
|
|
8,500
|
|
Deferred tax expense (benefit)
|
|
|
(2,945
|
)
|
|
|
(1,041
|
)
|
|
|
4,043
|
|
Depreciation and amortization
|
|
|
2,129
|
|
|
|
1,864
|
|
|
|
1,850
|
|
Proceeds from sale of marketable securities
|
|
|
148
|
|
|
|
|
|
|
|
6,051
|
|
(Income) loss from investments in marketable securities
|
|
|
(74
|
)
|
|
|
|
|
|
|
49
|
|
Excess tax benefits from share-based payment arrangements
|
|
|
|
|
|
|
(187
|
)
|
|
|
|
|
Gain from sale of investment in HE III
|
|
|
|
|
|
|
17
|
|
|
|
(52,425
|
)
|
Gain from sale of investment in HEC
|
|
|
|
|
|
|
|
|
|
|
113
|
|
Changes in assets and liabilities:
|
|
|
|
|
|
|
|
|
|
|
|
|
Increase (decrease) in income taxes receivable/payable
|
|
|
(8,247
|
)
|
|
|
(2,560
|
)
|
|
|
(1,014
|
)
|
(Increase) decrease in inventories
|
|
|
(7,735
|
)
|
|
|
(414
|
)
|
|
|
6,702
|
|
(Increase) decrease in accounts receivable
|
|
|
(6,326
|
)
|
|
|
(651
|
)
|
|
|
6,372
|
|
Increase (decrease) in accounts payable
|
|
|
2,750
|
|
|
|
3,055
|
|
|
|
(7,237
|
)
|
Increase (decrease) in accrued expenses and other current
liabilities
|
|
|
1,735
|
|
|
|
(1,631
|
)
|
|
|
(874
|
)
|
Increase (decrease) in other assets and liabilities
|
|
|
(110
|
)
|
|
|
160
|
|
|
|
45
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash provided by (used in) operating activities
|
|
|
4,457
|
|
|
|
2,305
|
|
|
|
(1,483
|
)
|
CASH FLOWS FROM INVESTING ACTIVITIES
|
|
|
|
|
|
|
|
|
|
|
|
|
Investment in Hallwood Energy and affiliates
|
|
|
(11,093
|
)
|
|
|
(8,975
|
)
|
|
|
(40,556
|
)
|
Investments in property, plant and equipment, net
|
|
|
(2,358
|
)
|
|
|
(4,197
|
)
|
|
|
(2,726
|
)
|
Proceeds from sale of investment in HE III
|
|
|
|
|
|
|
|
|
|
|
55,648
|
|
Proceeds from sale of investment in HEC
|
|
|
|
|
|
|
|
|
|
|
387
|
|
Proceeds from sale of investments in HRP
|
|
|
|
|
|
|
|
|
|
|
59
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash (used in) provided by investing activities
|
|
|
(13,451
|
)
|
|
|
(13,172
|
)
|
|
|
12,812
|
|
CASH FLOWS FROM FINANCING ACTIVITIES
|
|
|
|
|
|
|
|
|
|
|
|
|
Proceeds from (repayment of) revolving credit facilities, net
|
|
|
6,749
|
|
|
|
4,432
|
|
|
|
(1,977
|
)
|
Repayment of other bank borrowings and loans payable
|
|
|
(275
|
)
|
|
|
(352
|
)
|
|
|
(347
|
)
|
Purchase of common stock for treasury
|
|
|
(439
|
)
|
|
|
(73
|
)
|
|
|
|
|
Proceeds from exercise of stock options
|
|
|
165
|
|
|
|
79
|
|
|
|
2,207
|
|
Excess tax benefits from share-based payment arrangements
|
|
|
|
|
|
|
187
|
|
|
|
|
|
Cash dividends on common stock
|
|
|
|
|
|
|
|
|
|
|
(66,113
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash provided by (used in) financing activities
|
|
|
6,200
|
|
|
|
4,273
|
|
|
|
(66,230
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
|
|
|
(2,794
|
)
|
|
|
(6,594
|
)
|
|
|
(54,901
|
)
|
CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR
|
|
|
10,054
|
|
|
|
16,648
|
|
|
|
71,549
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
CASH AND CASH EQUIVALENTS, END OF YEAR
|
|
$
|
7,260
|
|
|
$
|
10,054
|
|
|
$
|
16,648
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
See accompanying notes to consolidated financial statements.
52
THE
HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
NOTES TO
CONSOLIDATED FINANCIAL STATEMENTS
|
|
Note 1
|
Organization
and Significant Accounting Policies
|
The Hallwood Group Incorporated (Hallwood or the
Company) (AMEX:HWG), a Delaware corporation, is a
holding company that currently operates in the textile products
and energy business segments.
Textile Products. Textile products operations
are conducted through the Companys wholly owned Brookwood
Companies Incorporated (Brookwood) subsidiary.
Brookwood is an integrated textile firm that develops and
produces innovative fabrics and related products through
specialized finishing, treating and coating processes.
Brookwoods subsidiary, Strategic Technical Alliance, LLC
(STA) markets advanced breathable, waterproof
laminate and other fabrics primarily for military applications.
Continued development of these fabrics for military, industrial
and consumer applications is a key element of Brookwoods
business plan.
Textile products accounted for all of the Companys
operating revenues in 2007 and 2006.
Energy. Prior to December 31, 2005, the
Company had investments in Hallwood Energy Corporation
(HEC), which was sold in December 2004 and Hallwood
Energy III, L.P. (HE III), which was sold in July
2005, Hallwood Energy II, L.P. (HE II), Hallwood
Energy 4, L.P. (HE 4) and Hallwood Exploration L.P.
(Hallwood Exploration). The Company owned between
20% and 28% of the entities (between 16% and 22% on a fully
diluted basis) and accounted for the investments using the
equity method of accounting, recording its pro rata share of net
income (loss), stockholders equity/partners capital
transactions and comprehensive income (loss).
Effective December 31, 2005, HE II and Hallwood Exploration
were consolidated into HE 4, which was renamed Hallwood Energy,
L.P. (Hallwood Energy). At the consolidation date,
Hallwood Energy was principally involved in acquiring oil and
gas leases and drilling, gathering and sale of natural gas in
the Barnett Shale formation located in Parker, Hood and Tarrant
Counties in North Texas and the Barnett Shale and Woodford Shale
formations in Reeves and Culberson Counties in West Texas and in
the Fayetteville Shale formation of Central Eastern Arkansas and
conducting
3-D seismic
surveys over optioned land covering a Salt Dome in South
Louisiana in order to determine how best to proceed with
exploratory activity.
Following the completion of the energy consolidation on
December 31, 2005, all energy activities are conducted by
Hallwood Energy. Following the July 2006 sale of its properties
in North Texas (discussed below), Hallwood Energys
management has classified its energy investments into three
identifiable areas: Central Eastern Arkansas, South Louisiana
and West Texas.
In July 2006, Hallwood Energy completed the sale of a 60%
undivided working interest in its oil and gas properties in
Reeves and Culberson Counties in West Texas and all of its
interest in the properties in Parker, Hood and Tarrant Counties
in North Texas to Chesapeake Energy Corporation
(Chesapeake). Chesapeake assumed operation of these
properties.
At December 31, 2007, the Company owned approximately 23%
(18% after consideration of profit interests) of Hallwood Energy.
Significant accounting policies, which are in accordance with
accounting principles generally accepted in the United States of
America, are as follows:
Principles
of Consolidation
The consolidated financial statements include the accounts of
the Company and its Brookwood Companies Incorporated and
subsidiaries. The Company fully consolidates all of the above
subsidiaries and records the equity in its Hallwood Energy, L.P.
affiliate. All intercompany balances and transactions have been
eliminated in consolidation.
53
THE
HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
Recognition
of Income
Textile products sales are recognized upon shipment or release
of product, when title passes to the customer. Brookwood
provides allowances for expected cash discounts, returns, claims
and doubtful accounts based upon historical bad debt and claims
experience and periodic evaluation of the aging of accounts
receivable. If the financial condition of Brookwoods
customers were to deteriorate, resulting in an impairment of
their ability to make payments, additional allowances may be
required.
On occasion, Brookwood receives instructions from some of its
customers to finish fabric, invoice the full amount and hold the
finished inventory until the customer sends shipping
instructions. In those cases, Brookwood records the sale and
sends the customer an invoice containing normal and usual
payment terms and segregates the inventory from Brookwoods
inventory.
Carrying
Value of Investments
Investments are recorded at fair value determined as of the date
acquired. Thereafter, for less than 50% owned investments,
equity accounting is utilized where the Company exercises
significant influence over the investees operating and
financial policies.
Impairment
Management reviews its investments for impairment losses when
events and circumstances indicate that the carrying amount of an
asset may not be recoverable. In the event such indicators exist
for assets held for use, and if undiscounted cash flows before
interest charges are less than carrying value, the asset is
written down to estimated fair value. Assets held for sale are
carried at the lower of cost or estimated sales price less costs
of sale.
Investments that are accounted for under the equity method of
accounting are reviewed for impairment when the fair value of
the investment is believed to have fallen below the
Companys carrying value. When such a decline is deemed
other than temporary, an impairment charge is recorded to the
statement of operations for the difference between the
investments carrying value and its estimated fair value at
the time. In making the determination as to whether a decline is
other than temporary, the Company considers such factors as the
duration and extent of the decline, the investees
financial performance, and the Companys ability and
intention to retain its investment for a period that will be
sufficient to allow for any anticipated recovery in the
investments market value. However, a decline in the quoted
market price below the carrying amount or the existence of
operating losses is not necessarily indicative of a loss in
value that is other than temporary. All are factors to be
evaluated. Differing assumptions could affect whether an
investment is impaired. At least annually, the Company reviews
and determines if a writedown is required.
Depreciation
and Amortization
Depreciation of textile products buildings, equipment and
improvements is computed on the straight-line method. Buildings
and improvements are depreciated over a period of 15 to
25 years. Equipment is depreciated over a period of
3 to 10 years.
Income
Taxes
The Company files a consolidated federal income tax return.
Deferred tax assets and liabilities are recorded based on the
difference between the tax basis of assets and liabilities and
their carrying amounts for financial reporting purposes,
referred to as temporary differences and the amount of net
operating loss carryforwards and tax credits reduced by a
valuation allowance as considered appropriate. Provision is made
for deferred taxes relating to temporary differences in the
recognition of income and expense for financial reporting.
54
THE
HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
Inventories
Inventories are valued at the lower of cost
(first-in,
first-out or specific identification method) or market. The
valuation of inventory requires the use of estimates regarding
the amount of inventory and the prices at which it will be sold.
The valuation includes an obsolescence reserve for excess and
slow moving inventory that considers a variety of factors, such
as the Companys historical loss experience, changes in
products, changes in customer demand and general economic
conditions.
Cash
and Cash Equivalents
The Company considers highly liquid investments with original
maturities of three months or less at the time of purchase to be
cash equivalents.
Marketable
Securities
Marketable securities classified as trading are
carried at fair value on the balance sheet. Unrealized gains and
losses are included in operations. Marketable securities
classified as available for sale are carried at fair
value on the balance sheet. Unrealized gains and losses are
included in a separate component of stockholders equity entitled
Accumulated Other Comprehensive Income. Unrealized
losses are included in operations if the decline in value is
determined to be other than temporary.
Environmental
Remediation Costs
The Company accrues for losses associated with environmental
remediation obligations when such losses are probable and can be
reasonably estimated. Accruals for estimated losses from
environmental remediation obligations generally are recognized
no later than completion of the remedial feasibility study. Such
accruals are adjusted as further information develops or
circumstances change. Recoveries of environmental remediation
costs from other parties are recorded as assets when their
receipt is deemed probable. Company management is not aware of
any environmental remediation obligations which would
significantly affect the operations, financial position or cash
flow of the Company.
Stock-Based
Compensation
On January 1, 2006, the Company adopted Statement of
Financial Accounting Standards (SFAS)
No. 123(R), Share-Based Payment, which
revised SFAS No. 123 Accounting for Stock-Based
Compensation, using a modified method of prospective
application. Under SFAS No. 123(R), all forms of
share-based payments to employees, including employee stock
options, are treated the same as other forms of compensation by
recognizing the related cost in the statement of operations. The
expense of the award would generally be measured at fair value
at the grant date. SFAS 123(R) eliminates the ability to
account for share-based compensation transactions using
Accounting Principals Board (APB) Opinion
No. 25. All options were fully vested as of
December 31, 2005. Because all of the Companys stock
options are fully vested, there was no impact on income before
taxes or net income from adopting SFAS No. 123(R).
Prior to January 1, 2006, the Company had elected, as
provided by SFAS No. 123, not to recognize employee
stock-based compensation expense as calculated under
SFAS No. 123, but had recognized such expense in
accordance with the provisions of APB Opinion No. 25,
Accounting for Stock Issued to Employees. As
all of the Companys options were fully vested prior to
December 21, 2003, there was no difference between the
historical operations and pro forma operations for the year
ended December 31, 2005 had the expense provisions of
SFAS No. 123 been adopted.
55
THE
HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
Research
and Development Costs
Expenditures relating to the development of new products and
processes, including significant improvements to existing
products, are expensed as incurred.
Other
Comprehensive Income
Other comprehensive income items are revenues, expenses, gains
and losses that under accounting principles generally accepted
in the United States of America are excluded from current period
net income and reflected as a component of stockholders
equity. The Company records a pro rata share of comprehensive
income items reported by its investments accounted for using the
equity method of accounting.
Use of
Estimates
The preparation of financial statements in conformity with
accounting principles generally accepted in the United States of
America requires management to make estimates and assumptions
that affect reported amounts of certain assets, liabilities,
revenues and expenses as of and for the reporting periods.
Actual results may differ from such estimates.
Concentration
of Credit Risk
The financial instruments of its wholly owned subsidiaries,
which potentially subject the Company to concentration of credit
risk, consist principally of accounts receivable. The Company
grants credit to customers based on an evaluation of the
customers financial condition. Exposure to losses on
receivables is principally dependent on each customers
financial condition. The Company controls its exposure to credit
risks through credit approvals, credit limits and monitoring
procedures and the use of factors.
Derivatives
The Company accounts for derivative instruments in accordance
with Statement of Financial Accounting Standards
No. 133 Accounting for Derivative
Instruments and Hedging Activities
(SFAS No. 133). The Company does not
directly have any derivative instruments, however, Hallwood
Energy has such instruments. Accordingly, the Company recorded
its proportional share of any impact of these instruments in
accordance with the equity method of accounting.
Hallwood Energy has make-whole provisions contained within its
former and current loan facilities. The make-whole fee is
recorded at its estimated fair value on Hallwood Energys
balance sheet and changes in its fair value are recorded in
interest expense in Hallwood Energys statement of
operations.
Per
Common Share Calculations
Basic income (loss) per common share was computed by dividing
net income (loss) by the weighted average shares outstanding.
Diluted income (loss) per common share was computed by dividing
net income (loss) by the weighted average of shares and
potential shares outstanding. Stock options are considered to be
potential common shares. The number of potential common shares
from assumed exercise of options is computed using the
treasury stock method.
56
THE
HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
New
Accounting Pronouncements
In June 2006, the Financial Accounting Standards Board
(FASB) issued FASB Interpretation No. 48,
Accounting for Uncertainty in Income Taxes
(FIN 48). The Company adopted the
provisions of FIN 48 on January 1, 2007. FIN 48
clarifies the accounting for uncertainty in income taxes
recognized in an enterprises financial statements in
accordance with FASB Statement No. 109, Accounting
for Income Taxes, and prescribes a recognition
threshold and measurement process for financial statement
recognition and measurement of a tax position taken or expected
to be taken in a tax return. FIN 48 also provides guidance
on derecognition, classification, interest and penalties,
accounting in interim periods, disclosure and transition.
The Company has completed its evaluation and has determined that
as of the beginning of the year there were no significant
uncertain tax positions requiring recognition in its
consolidated financial statements. No additional reserves were
required during the year or as of December 31, 2007. The
evaluation was performed for the tax years ended
December 31, 2004 through 2007, the tax years which remain
subject to examination by major tax jurisdictions. The Company
does not believe there will be any material changes in its
unrecognized tax positions over the next 12 months.
The Company may from time to time be assessed interest or
penalties by major tax jurisdictions, although any such
assessments historically have been minimal and immaterial to its
financial results. In the event the Company incurs interest
and/or
penalties, they will be classified in the financial statements
as interest expense or administrative and selling expense,
respectively.
In September 2006, the FASB issued SFAS No. 157,
Fair Value Measurements. This Statement
defines fair value as used in numerous accounting
pronouncements, establishes a framework for measuring fair value
in generally accepted accounting principles and expands
disclosure related to the use of fair value measures in
financial statements. SFAS 157 is effective for financial
statements issued for fiscal years beginning after
November 15, 2007. The Company has not yet determined the
impact that adoption of this statement might have on its
financial position or results of operations.
In February 2007, the FASB issued SFAS No. 159,
The Fair Value Option for Financial Assets and
Financial Liabilities Including an Amendment of FASB
Statement No. 115. SFAS No. 159 permits
entities to choose to measure many financial instruments and
certain other items at fair value. The FASB believes the
statement will improve financial reporting by providing
companies the opportunity to mitigate volatility in reported
earnings by measuring related assets and liabilities differently
without having to apply complex hedge accounting provisions. Use
of the statement will expand the use of fair value measurements
for accounting for financial instruments. Although the Company
has not yet elected to present any financial assets or
liabilities at fair value under SFAS No. 159, it may
choose to do so in the future.
The Emerging Issues Task Force (EITF) of the FASB
has ratified EITF Issue
06-11,
Accounting for Income Tax Benefits of Dividends on
Share-Based Payment Awards
(EITF 06-11)
in June 2007. In a stock-based compensation arrangement,
employees may be entitled to dividends during the vesting period
for nonvested shares or share units and until the exercise date
for stock options. These dividend payments generally can be
treated as a deductible compensation expense for income tax
purposes, thereby generating an income tax benefit for the
employer. At issue was how such a realized benefit should be
recognized in the financial statements. The EITF has reached a
conclusion that an entity should recognize the realized tax
benefit as an increase in additional paid-in capital
(APIC) and that the amount recognized in APIC should
be included in the pool of excess tax benefits available to
absorb tax deficiencies on stock-based payment awards.
EITF 06-11
will be effective prospectively for the income tax benefits that
result from dividends on equity-classified employee share-based
payment awards that are declared in fiscal years beginning after
December 15, 2007. The Company is currently evaluating the
effect that this EITF will have on its financial statements, but
does not believe that it will have a material impact on its
financial statements.
57
THE
HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
|
|
Note 2
|
Cash and
Cash Equivalents
|
Cash and cash equivalents as of the balance sheet dates were as
follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
Cash
|
|
$
|
328
|
|
|
$
|
770
|
|
Cash equivalents
|
|
|
6,932
|
|
|
|
9,284
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
7,260
|
|
|
$
|
10,054
|
|
|
|
|
|
|
|
|
|
|
Cash equivalents consisted of secured bank repurchase
agreements, money market funds (consisting of AAA rated
institutional commercial paper), and interest-bearing demand
deposits.
Inventories as of the balance sheet dates were as follows (in
thousands):
|
|
|
|
|
|
|
|
|
|
|
December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
Raw materials
|
|
$
|
8,084
|
|
|
$
|
5,590
|
|
Work in progress
|
|
|
8,218
|
|
|
|
4,300
|
|
Finished goods
|
|
|
9,475
|
|
|
|
8,260
|
|
|
|
|
|
|
|
|
|
|
|
|
|
25,777
|
|
|
|
18,150
|
|
Less: Obsolescence reserve
|
|
|
(749
|
)
|
|
|
(857
|
)
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
25,028
|
|
|
$
|
17,293
|
|
|
|
|
|
|
|
|
|
|
|
|
Note 4
|
Property,
Plant and Equipment
|
Property, plant and equipment consists of the following (in
thousands):
|
|
|
|
|
|
|
|
|
|
|
December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
Machinery and equipment
|
|
$
|
21,150
|
|
|
$
|
19,342
|
|
Buildings and improvements
|
|
|
5,678
|
|
|
|
5,267
|
|
Office furniture and equipment
|
|
|
3,961
|
|
|
|
4,012
|
|
Construction in progress
|
|
|
1,666
|
|
|
|
2,737
|
|
Leasehold improvements
|
|
|
871
|
|
|
|
1,033
|
|
Land
|
|
|
594
|
|
|
|
594
|
|
|
|
|
|
|
|
|
|
|
|
|
|
33,920
|
|
|
|
32,985
|
|
Less: Accumulated depreciation
|
|
|
(19,477
|
)
|
|
|
(19,132
|
)
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
14,443
|
|
|
$
|
13,853
|
|
|
|
|
|
|
|
|
|
|
During 2007, Brookwood wrote off approximately $1,356,000 of
fully depreciated assets which had an original cost of less than
$10,000 per item.
|
|
Note 5
|
Operations
of Brookwood Companies Incorporated
|
Receivables. Brookwood maintains factoring
agreements which provide that receivables resulting from credit
sales to customers, excluding the U.S. Government, may be
sold to the factor, subject to a commission and the
58
THE
HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
factors prior approval. Commissions paid to factors were
approximately $599,000, $478,000 and $670,000 for the years
ended December 31, 2007, 2006 and 2005, respectively.
Factored receivables were $20,340,000 and $14,412,000 at
December 31, 2007 and 2006, which were net of a returned
goods dilution allowance of $91,000 and $62,000, respectively.
One of Brookwoods principal factors announced in March
2008 that it had been negatively impacted by the current
tightening in the credit markets and was required to draw on its
bank credit lines to provide additional liquidity. Brookwood is
monitoring its factor relationships and developing alternative
strategies should economic conditions deteriorate further.
Trade receivables were $5,157,000 and $4,987,000 at
December 31, 2007 and 2006, which were net of an allowance
for doubtful accounts of $52,000 and $72,000, respectively.
Sales Concentration. Sales to one Brookwood
customer, Tennier Industries, Inc. (Tennier),
accounted for more than 10% of Brookwoods sales in each of
the three years ended December 31, 2007. Its relationship
with Tennier is ongoing. Sales to Tennier, which are included in
military sales, were $40,844,000, $31,300,000 and $56,883,000 in
2007, 2006 and 2005, respectively, which represented 30.8%,
27.9% and 42.7% of Brookwoods sales. Sales to another
customer, ORC Industries, Inc. (ORC), accounted for
more than 10% of Brookwoods 2006 sales. Its relationship
with ORC is ongoing. Sales to ORC, which are included in
military sales, were $8,971,000, $12,609,000 and $10,099,000 in
2007, 2006 and 2005, respectively, which represented 6.8%, 11.2%
and 7.6% of Brookwoods sales.
Through 2005, military sales, including the sales to Tennier and
ORC, generally comprised an increased portion of
Brookwoods total sales. Brookwood had experienced reduced
military sales during 2006 and in the 2007 first quarter;
however, the U.S. government released orders beginning in
the 2007 second quarter, which resulted in an overall increase
in 2007 military sales. Military sales accounted for
$70,006,000, $53,885,000 and $72,456,000 in 2007, 2006 and 2005,
respectively, which represented 52.8%, 48.0% and 54.4% of
Brookwoods sales.
Research and Development. Research and
development expenses were approximately $605,000 in 2007,
$594,000 in 2006 and $335,000 in 2005.
Stockholders Equity. The Company is the
holder of all of Brookwoods outstanding $13,500,000
Series A, $13.50 annual dividend per share, redeemable
preferred stock and all of its 10,000,000 outstanding shares of
common stock. The preferred stock has a liquidation preference
of $13,500,000 plus accrued but unpaid dividends. At
December 31, 2007, cumulative dividends in arrears on the
preferred stock amounted to approximately $6,053,000.
2005 Long-Term Incentive Plan for
Brookwood. In December 2005, the Company adopted
The Hallwood Group Incorporated 2005 Long-Term Incentive Plan
for Brookwood Companies Incorporated (the 2005 Long-Term
Incentive Plan for Brookwood) to encourage employees of
Brookwood to increase the value of Brookwood and to be employed
by Brookwood. The terms of the incentive plan provide for a
total award amount to participants equal to 15% of the fair
market value of consideration received by the Company in a
change of control transaction, as defined, in excess of the sum
of the liquidation preference plus accrued unpaid dividends on
the Brookwood preferred stock (approximately $19,553,000 at
December 31, 2007). The base amount will fluctuate in
accordance with a formula that increases by the amount of the
annual dividend on the preferred stock, currently $1,823,000,
and decreases by the amount of the actual dividends paid by
Brookwood to the Company. However, if the Companys board
of directors determines that certain specified Brookwood
officers, or other persons performing similar functions do not
have, prior to the change of control transaction, in the
aggregate an equity or debt interest of at lease two percent in
the entity with whom the change of control transaction is
completed, then the minimum amount to be awarded under the plan
shall be $2,000,000. In addition, the Company agreed that, if
members of Brookwoods senior management do not have, prior
to a change of control transaction in the aggregate an equity or
debt interest of at least two percent in the entity with whom
the change of control transaction is completed (exclusive of any
such
59
THE
HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
interest any such individual receives with respect to his or her
employment following the change of control transaction), then
the Company will be obligated to pay an additional $2,600,000.
|
|
Note 6
|
Investment
in Hallwood Energy, L.P. and Predecessor Affiliates
|
Investments in Hallwood Energy, L.P. as of the balance sheet
dates were as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cost as of
|
|
|
Amount at Which
|
|
|
Equity Income (Loss) for the
|
|
|
|
December 31,
|
|
|
Carried at December 31,
|
|
|
Years Ended December 31,
|
|
Description of Investment
|
|
2007
|
|
|
2007
|
|
|
2006
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
Hallwood Energy, L.P.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Limited partner interest
|
|
$
|
61,468
|
|
|
|
|
|
|
$
|
39,859
|
|
|
$
|
(50,945
|
)
|
|
$
|
(10,417
|
)
|
|
$
|
(106
|
)
|
General partner interest
|
|
|
13
|
|
|
|
|
|
|
|
5
|
|
|
|
(12
|
)
|
|
|
(1
|
)
|
|
|
|
|
Convertible note
|
|
|
5,000
|
|
|
|
|
|
|
|
|
|
|
|
(5,000
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
66,481
|
|
|
|
|
|
|
$
|
39,864
|
|
|
$
|
(55,957
|
)
|
|
$
|
(10,418
|
)
|
|
$
|
(106
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
At December 31, 2007, the Company owned approximately 23%
(18% after consideration of profit interests) of Hallwood
Energy. The limited partner interest was comprised of
$50,384,000 in Class A partner interest and $11,084,000 in
Class C preferred partner interest at December 31,
2007. The Company accounts for this investment using the equity
method of accounting and records its pro rata share of Hallwood
Energys net income (loss) and partner capital transactions.
During the year ended December 31, 2007, Hallwood Energy
recorded impairments of oil and gas properties of $31,680,000 in
the first quarter and $191,322,000 in the fourth quarter. The
Company recorded its proportionate share of such impairments
through the equity method of accounting. Principally due to the
recording of these impairments, the Companys carrying
value of its investment in Hallwood Energy at December 31,
2007 has been reduced to zero.
Effective December 31, 2005, HE II and Hallwood Exploration
were consolidated into HE 4, which was renamed Hallwood Energy,
L.P. (Hallwood Energy). The equity loss for the year
ended December 31, 2005 was an aggregate of the income
previously reported by HE II, HE 4 and Hallwood Exploration.
The partners capital interests in Hallwood Energy were
proportionate to the capital invested in each entity at
December 31, 2005. The Companys initial investment in
Hallwood Energy at December 31, 2005 was comprised of its
capital contributions to each of the former private energy
affiliates, as follows (in thousands):
|
|
|
|
|
Entity
|
|
Amount
|
|
|
HE 4
|
|
$
|
22,325
|
|
HE II
|
|
|
14,011
|
|
Hallwood Exploration
|
|
|
4,624
|
|
Accumulated equity loss
|
|
|
(106
|
)
|
|
|
|
|
|
Total
|
|
$
|
40,854
|
|
|
|
|
|
|
Following the completion of the energy consolidation on
December 31, 2005, all energy activities are conducted by
Hallwood Energy. After completion of the July 2006 sale of its
properties in North Texas (discussed below), Hallwood
Energys management has classified its energy investments
into three identifiable areas: Central Eastern Arkansas, South
Louisiana and West Texas.
Certain of the Companys officers and directors are
investors in Hallwood Energy. In addition, as members of
management of Hallwood Energy, one director and officer and one
officer of the Company hold a profit interest in Hallwood Energy.
60
THE
HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
During 2006, the Company invested an additional $9,427,000 in
Hallwood Energy, of which $2,721,000 was invested in January
2006, $6,281,000 in November 2006 (including the contribution of
a $452,000 receivable) and $425,000 in December 2006.
During 2007, the Company invested an additional $11,093,000 in
Hallwood Energy, of which $2,000 was invested in January 2007,
$6,744,000 in April 2007, $2,501,000 in June 2007 and $1,846,000
in September 2007. At December 31, 2007, the Company
recorded an additional investment of $5,000,000 with a
corresponding obligation in the same amount. The obligation was
satisfied by the investment of $5,000,000 on January 11,
2008, pursuant to the terms of the Convertible Note agreement
(discussed below).
The Companys proportionate share of Hallwood Energys
2007 loss would have reduced the carrying value of its
investment in Hallwood Energy below zero by approximately
$11,700,000. The general rule for recording equity losses
ordinarily indicates that the investor shall discontinue
applying the equity method when the investment has been reduced
to zero and shall not provide for additional losses unless the
investor has guaranteed obligations of the investee or is
otherwise committed to provide further financial support to the
investee. Although no guarantee or commitment existed at
December 31, 2007, the Company loaned $5,000,000 to
Hallwood Energy in January 2008 to provide capital to continue
regular ongoing operations of Hallwood Energy. Accordingly, the
Company recorded an additional equity loss in 2007 to the extent
of the $5,000,000 loan. Hallwood Energy is currently seeking
additional capital and the Company has not determined to what
extent, if any, that it may advance additional funds to Hallwood
Energy. Due to this uncertainty and limitations on the
Companys available funds for additional investment, no
additional equity loss was recorded in 2007.
61
THE
HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
The following table sets forth summarized financial data of
Hallwood Energy as of December 31, 2007 and 2006 and for
the three years ended December 31, 2007 (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
Balance Sheet Data
|
|
|
|
|
|
|
|
|
|
|
|
|
Cash and cash equivalents
|
|
$
|
2,372
|
|
|
$
|
25,978
|
|
|
|
|
|
Oil and gas properties, net
|
|
|
107,248
|
|
|
|
179,986
|
|
|
|
|
|
Total assets
|
|
|
115,678
|
|
|
|
214,362
|
|
|
|
|
|
Note payable
|
|
|
101,990
|
|
|
|
42,105
|
|
|
|
|
|
Total liabilities
|
|
|
146,516
|
|
|
|
54,209
|
|
|
|
|
|
Partners capital (deficiency)
|
|
|
(30,838
|
)
|
|
|
160,153
|
|
|
|
|
|
Statement of Operations Data
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenues
|
|
|
|
|
|
|
|
|
|
|
|
|
Natural gas sales
|
|
$
|
4,761
|
|
|
$
|
774
|
|
|
$
|
|
|
Expenses
|
|
|
|
|
|
|
|
|
|
|
|
|
Impairment of oil and gas properties
|
|
|
223,002
|
|
|
|
28,408
|
|
|
|
|
|
General and administrative expenses
|
|
|
7,435
|
|
|
|
5,587
|
|
|
|
2,062
|
|
Operating expenses
|
|
|
5,789
|
|
|
|
2,076
|
|
|
|
|
|
Depreciation, depletion and amortization
|
|
|
14,805
|
|
|
|
555
|
|
|
|
211
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
251,031
|
|
|
|
36,626
|
|
|
|
2,273
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating loss
|
|
|
(246,270
|
)
|
|
|
(35,852
|
)
|
|
|
(2,273
|
)
|
Other Income and Expense
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest expense
|
|
|
(30,076
|
)
|
|
|
(7,204
|
)
|
|
|
|
|
Interest income
|
|
|
206
|
|
|
|
1,658
|
|
|
|
357
|
|
Other income (expense)
|
|
|
|
|
|
|
7
|
|
|
|
(209
|
)
|
Gain from sale of oil and gas properties
|
|
|
|
|
|
|
|
|
|
|
2,751
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(29,870
|
)
|
|
|
(5,539
|
)
|
|
|
2,899
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(Loss) income before income taxes
|
|
|
(276,140
|
)
|
|
|
(41,391
|
)
|
|
|
626
|
|
Income tax expense
|
|
|
273
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net (Loss) Income
|
|
$
|
(276,413
|
)
|
|
$
|
(41,391
|
)
|
|
$
|
626
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
A description of Hallwood Energys significant activities
during 2007 is provided below:
Loan Financing. In February 2006, Hallwood
Energy entered into a $65,000,000 loan facility (the
Former Loan Facility), and had drawn $40,000,000 as
of December 31, 2006. Subsequent to December 31, 2006,
Hallwood Energy was not in compliance with the proved collateral
coverage ratio.
In March and April 2007, the Company loaned a total of
$9,000,000 to Hallwood Energy, of which $7,000,000 was in the
form of demand notes bearing interest at 6% above prime rate,
and $2,000,000 was an advance that was repaid four days later
with interest. In April 2007, Hallwood Energy made a request for
additional capital contributions in the amount of $25,000,000
(the April Call). The Company and Hallwood Energy
had agreed that the $7,000,000 of loans would be applied as the
Companys portion of the April Call and as such was
recorded as a Class C partnership investment. In May 2007,
Hallwood Energy repaid $257,000 to the Company, which
represented the excess of the $7,000,000 loaned over the
Companys share of the capital contribution and related
oversubscription.
62
THE
HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
In April 2007, Hallwood Energy entered into a $100,000,000 loan
facility (the Senior Secured Credit Facility) with a
new lender (the New Lender), who is an affiliate of
one of the investors and drew $65,000,000 from the Senior
Secured Credit Facility. The proceeds were used to repay the
$40,000,000 balance of the Former Credit Facility, approximately
$9,800,000 for a make-whole fee and approximately $500,000 for
incremental interest related to Former Credit Facility,
transaction fees of approximately $200,000 and provide working
capital. The Senior Secured Credit Facility is secured by
Hallwood Energys oil and gas leases, matures on
February 1, 2010, and bears interest at a rate of the
defined LIBOR rate plus 10.75% per annum. An additional 2% of
interest is added upon continuance of any defaulting event. The
New Lender may demand that Hallwood Energy prepay the
outstanding loans in the event of a defined change of control,
qualified sale or event of default, including a material adverse
event. In conjunction with executing the Senior Secured Credit
Facility, the New Lender resigned its position on the board of
directors and assigned its general partner interest to the
remaining members.
The Senior Secured Credit Facility provided that, if Hallwood
Energy raised $25,000,000 through an equity call or through debt
subordinate to the Senior Secured Credit Facility, the New
Lender would match subsequent amounts raised on a dollar for
dollar basis up to the remaining $35,000,000 under the Senior
Secured Credit Facility through the availability termination
date of July 31, 2008. During the 2007 third quarter,
Hallwood Energy borrowed an additional $20,000,000 under the
Senior Secured Credit and borrowed the remaining $15,000,000
availability in October 2007. Accordingly, the Senior Secured
Credit Facility was fully funded with an outstanding balance of
$100,000,000 at December 31, 2007.
The Senior Secured Credit Facility contains various financial
covenants, including maximum general and administrative expenses
and current and proved collateral coverage ratios. The proved
collateral coverage ratio test is effective June 30, 2008,
and each quarter thereafter. Non-financial covenants restrict
the ability of Hallwood Energy to dispose of assets, incur
additional indebtedness, prepay other indebtedness or amend
certain debt instruments, pay dividends, create liens on assets,
enter into sale and leaseback transactions, make investments,
loans or advances, make acquisitions, engage in mergers or
consolidations or engage in certain transactions with
affiliates, and otherwise restrict certain activities by
Hallwood Energy. In October 2007, Hallwood Energy entered into
an amendment of the Senior Secured Credit Facility to modify the
calculation of the current ratio to include certain capital
funding commitments.
The Senior Secured Credit Facility contains a make-whole
provision whereby Hallwood Energy is required to pay the New
Lender the amount by which the present value of interest and
principal from the date of prepayment through January 31,
2009, exceeds the principal amount on the prepayment date. The
New Lender received warrants exercisable for 2.5% of the
partnership interests at an exercise price of 2.5% of 125% of
the amount of the total capital contributed to Hallwood Energy
at December 31, 2006.
On January 2, 2008, the outstanding $7,500,000 advance from
HIL and accrued interest was converted into Class C
partnership interests, consistent with the terms of the October
2007 commitment agreement.
Effective January 2008, the Hallwood Energy entered into a
$30,000,000 convertible subordinated note agreement (the
Convertible Note). The Convertible Note bears
interest which accrues at an annual rate of 16%, which is
payable on a quarterly basis after the completion of a defined
equity offering and subject to the prior full payment of
borrowings and accrued interest under the Secured Credit
Facilities. The Convertible Note and accrued interest may be
converted into Class C interests on a dollar for dollar
basis. If no Class C interests are outstanding, the
Convertible Note may be converted into Class A interests or
such comparable securities as may be outstanding at the same
exchange ratio as the original Class C interests. Principal
and unpaid interest are due on the earlier of January 21,
2011, or upon a defined change of control. A change of control
redemption may also result in a make-whole provision whereby
Hallwood Energy would pay a premium based on the difference
between either $48,300,000 or $43,700,000 and the sum of
previously made Convertible Note principal and accrued interest
payments. As of March 24, 2008, $28,800,000 of the
convertible subordinated notes had been subscribed for and
issued. The Company subscribed for $5,000,000 of the Convertible
Note and provided the funds to Hallwood Energy in January 2008.
63
THE
HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
The Convertible Note lenders also received a warrant exercisable
at up to $3,750,000 for an equal dollar amount of Class C
interests, or such comparable securities as are outstanding at
the time of exercise at the same exchange ratio as the original
Class C interests. The warrant is exercisable until
January 21, 2011.
In January 2008, Hallwood Energy entered into the $15,000,000
Junior Credit Facility with the Senior Secured Credit
Facilitys New Lender and drew the full $15,000,000
available. The proceeds were used to fund working capital
requirements and future operational activities. Borrowings under
the Secured Credit Facilities are both secured by Hallwood
Energys oil and gas leases, mature on February 1,
2010, and bear interest at a rate of the defined LIBOR rate plus
10.75% per annum through April 30, 2008, thereafter
increases to 12.75% per annum until loan maturity or prepayment.
An additional 2% of interest is added upon continuance of any
defaulting event. The New Lender may demand that Hallwood Energy
prepay the outstanding loans in the event of a defined change of
control, qualified sale or event of default, including a
material adverse event. Hallwood Energy remains bound to a
deposit control agreement initiated with the Senior Credit
Facility.
The Junior Credit Facility contains various financial covenants,
materially consistent with the Senior Secured Credit Facility,
including maximum general and administrative expenditures and
current and proved collateral coverage ratios. The proved
collateral coverage ratio covenant becomes effective
June 30, 2008. Non-financial covenants restrict the ability
of Hallwood Energy to dispose of assets, incur additional
indebtedness, prepay other indebtedness or amend certain debt
instruments, pay dividends, create liens on assets, enter into
sale and leaseback transactions, make investments, loans or
advances, make acquisitions, engage in mergers or consolidations
or engage in certain transactions with affiliates, and otherwise
restrict certain Hallwood Energys activities.
The Junior Credit Facility contains a make-whole provision
whereby Hallwood Energy is required to pay the New Lender the
amount by which the present value of interest and principal from
the date of prepayment through January 31, 2009, exceeds
the principal amount on the prepayment date.
In connection with the Junior Credit Facility, the Senior
Secured Credit Facility was amended to bear and interest at the
defined LIBOR rate plus 12.75% per annum beginning May 1,
2008.
Hallwood Energy did not meet the current ratio covenant and was
in default of the Senior Credit Facility as
of December 31, 2007. A second default event related
to a commitment agreement by three partners to fund $15,000,000
by November 1, 2007, that was only partially funded.
Hallwood Energy received a waiver from the New Lender for both
of these default events in January 2008.
Senior Credit Facility borrowings have been included in current
liabilities on Hallwood Energys balance sheet at
December 31, 2007, as Hallwood Energy does not expect to
maintain compliance with the required current and proved
collateral coverage ratios during the year ended
December 31, 2008, unless additional funds are raised
through issuance of debt and equity instruments.
Hallwood Energy is in the process of seeking additional capital
from external sources.
Equity Investments. There are currently three
classes of limited partnership interests held in Hallwood Energy:
|
|
|
|
|
Class C interests bear a 16% priority return which
compounds monthly. The priority return will be accrued and
become payable when, as and if declared by the general partner
of Hallwood Energy. Hallwood Energy does not anticipate paying
any distributions in the foreseeable future. All distributions
of defined available cash and defined net proceeds from any
sales or other disposition of all or substantially all of the
then remaining assets of Hallwood Energy which is entered into
in connection with, or which will result in, the liquidation of
Hallwood Energy (the Terminating Capital
Transaction) must first be used to reduce any unpaid
Class C priority return and capital contributions to zero.
Unpaid Class C priority return and capital contributions
can be converted into Class A interests based on the ratio
of Class C contributions to the sum of Class A
contributions and the Class C limited partners
Class C partnership interest designated by the Class C
limited partner to be converted into Class A partnership
interest. The Class C capital contributions and unpaid
priority return totaled approximately $76,922,000 and
$5,706,000, respectively, at December 31, 2007.
|
64
THE
HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
|
|
|
|
|
Class A interests have certain voting rights and with the
general partner would receive 100% of the distributions of
available cash and net proceeds from Terminating Capital
Transactions subsequent to the payment of all unpaid
Class C priority return and of all Class C capital
contributions until the unrecovered capital accounts of each
Class A partner interest is reduced to zero, and thereafter
share in all future distributions of available cash and net
proceeds from Terminating Capital Transactions with the holders
of the Class B interests.
|
|
|
|
Class B interests represent vested net profit interests
awarded to key individuals by Hallwood Energy. At
December 31, 2007 and 2006, outstanding Class B
interests had rights to receive 18.6% and 18.8%, respectively,
of distributions of defined available cash and net proceeds from
Terminating Capital Transactions after the unpaid Class C
priority return and capital contributions and the unreturned
Class A and general partner capital contributions have been
reduced to zero.
|
In April 2007, Hallwood Energy issued a $25,000,000 Class C
equity call to its partners (the April Call) which
was fully satisfied. Previously, Hallwood Energy received loans
of $7,000,000 each from the Company and an affiliate of the New
Lender. These loans were applied to the April Call. In May 2007,
Hallwood Energy repaid $257,000 to the Company, which
represented the excess of its $7,000,000 advanced over the
Companys share of the capital contribution and related
oversubscription.
In April 2007, Hallwood Investments Limited (HIL), a
corporation associated with Mr. Anthony J. Gumbiner, the
Companys chairman and principal stockholder, and the New
Lender each committed to fund one-half of the April Call and
potential additional equity or subordinated debt funding calls
totaling $55,000,000 by Hallwood Energy, to the extent other
investors, including the Company, did not respond to equity
calls.
In May 2007, Hallwood Energy issued a $20,000,000 Class C
equity call to its partners (the May Call), which
was fully satisfied. The Companys proportionate share of
the May Call was $5,091,000. Due to the fact that the Company
did not have available sufficient cash, the Company contributed
only $2,501,000 towards the May Call. Because of the
Companys inability to meet its full equity call
requirement, HIL funded $2,591,000 of the May Call that was not
funded by the Company. In connection with the funding of this
amount, Mr. Gumbiner agreed with a special committee of the
board of directors of the Company that he would discuss the
terms of this investment in the future.
In August 2007, Hallwood Energy issued a $15,000,000
Class C equity call to its partners (the August
Call) which was fully satisfied. The Companys
proportionate share of the August Call was $3,683,000. Due to
the fact that the Company did not have available sufficient
cash, the Company contributed only one-half, or $1,842,000,
towards the August Call. Because of the Companys inability
to meet its full equity call requirement, HIL funded $1,842,000
of the August Call that was not funded by the Company. In
October 2007, the special committee appointed to consider
HILs funding of these capital calls acknowledged the terms
of the funding of the capital calls by HIL and determined that,
in light of the circumstances, including the Companys
present inability to fund any amounts beyond those it had made,
no further action was required.
As a result of the receipt of sufficient equity contributions
from the April, May and August Calls, the $55,000,000 commitment
from HIL and the New Lender was extinguished.
In November 2007, Hallwood Energy issued $15,000,000 of
Class C partnership interest to a new equity partner. In
addition, HIL, another existing investor in Hallwood Energy, and
the New Lender entered into a letter agreement providing for a
total of up to $15,000,000 in additional funding. Under the
terms of this letter, HIL agreed to advance $7,500,000 and the
other investor agreed to advance $3,000,000 to Hallwood Energy
no later than November 15, 2007. These advances constituted
loans to Hallwood Energy with an interest rate of 16% per annum
and a maturity of March 1, 2010. The letter agreement
contained a provision that permitted Hallwood Energy to repay
the advances at any time without penalty in connection with a
recapitalization of Hallwood Energy providing for net proceeds
not less than the amount being repaid. If any part of these
advances remained outstanding on January 2, 2008, then on
that date the outstanding amount would automatically be
converted into preferred
65
THE
HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
partnership interests having the same terms as the existing
class of preferred partnership interests. In addition, if any
portion of the advances was converted into preferred partnership
interests on January 2, 2008, then the New Lender agreed to
contribute to Hallwood Energy the same proportion of $4,500,000
in exchange for preferred partnership interests. Hallwood Energy
also agreed that if any portion of the agreed funding from HIL
or the other existing investor was not made, it would be an
event of default under the Senior Secured Credit Facility. HIL
advanced $7,500,000 in November 2007, although the other
investor did not fulfill its commitment. On January 2,
2008, as per the letter agreement, HILs loan and accrued
interest was converted into a Class C interest.
Litigation. In early 2006, Hallwood Energy and
Hallwood Petroleum entered into two two-year contracts with
Eagle Drilling, LLC (Eagle Drilling), under which
the contractor was to provide drilling rigs and crews to drill
wells in Arkansas at a daily rate of $18,500, plus certain
expenses for each rig (the Contracts). These
Contracts were subsequently assigned by Eagle Drilling, LLC to
Eagle Domestic Drilling Operations, LLC (Eagle
Domestic), on or about August 24, 2006. Before that,
on or about August 14, 2006, one of the masts on the rigs
provided under the Contracts collapsed. Hallwood Energy and
Hallwood Petroleum requested the contractor to provide
assurances that the mast on the other rig, and any mast provided
to replace the collapsed mast, were safe and met the
requirements of the Contracts. When the contractor refused to
provide assurances, Hallwood Energy and Hallwood Petroleum
notified the contractor that the Contracts were terminated and
on September 6, 2006, filed Hallwood Petroleum, LLC and
Hallwood Energy, L.P. v. Eagle Drilling, LLC and Eagle
Domestic Drilling Operations, LLC, in the
348th District Court of Tarrant County, Texas to recover
approximately $1,688,000 previously deposited with the
contractor under the Contracts. Since then, Eagle Domestic and
its parent filed for Chapter 11 bankruptcy protection in
Case
No. 07-30426-H4-11,
Jointly Administered Under Case
No. 07-30424-H4-11,
in the United States District Court for the Southern District of
Texas. After the filing of its bankruptcy case, Eagle Domestic
filed an adversary action on June 11, 2007 against Hallwood
Energy and Hallwood Petroleum in the bankruptcy proceeding to
recover unspecified damages, but purportedly in excess of
$50,000,000 (the Eagle Domestic Adversary), based on
disclosures made during the discovery phase of the case. Eagle
Domestic contends that Hallwood Energy and Hallwood Petroleum
breached the Contracts, tortiously interfered with Eagle
Domestics contracts with Quicksilver Resources and
disparaged Eagle Domestic. Hallwood Energy subsequently filed
its answer and counterclaim in the Eagle Domestic Adversary
asserting that Hallwood Energy owes nothing to Eagle Domestic,
and that Eagle Domestic owes Hallwood approximately $1,688,000
in unearned pre-payment under the Contracts. A jury trial in the
Eagle Domestic Adversary is currently set for April 2008.
In October 2006, Eagle Drilling filed a related lawsuit against
Hallwood Energy and Hallwood Petroleum in Oklahoma state court
(the Eagle Drilling Action) alleging damages of over
$1,000,000 in connection with unpaid invoices, unpaid downtime
and other damages caused as a result of the mast collapsing. In
June 2007, the petition in the Eagle Drilling Action was amended
to include various additional claims for breach of contract,
negligence, tortious breach of contract and for declaratory
relief against Hallwood Energy and Hallwood Petroleum. On
September 20, 2007, Eagle Drilling filed for
Chapter 11 bankruptcy protection in the United States
Bankruptcy Court for the Western District of Oklahoma. On
October 12, 2007, Hallwood Energy filed its Notice of
Removal of the Cleveland County Action in Oklahoma Bankruptcy
Court, which initiated Adversary Proceeding
No. 07-01209
(the Energy Drilling Adversary) and automatically
removed the Eagle Drilling Action to the Oklahoma Bankruptcy
Court. Hallwood Energy has brought a claim against Eagle
Drilling for return of the approximately $1,688,000 in unearned
pre-payment from Eagle Drilling. On November 11, 2007,
Eagle Drilling filed its Motion to Remand the Eagle Drilling
Adversary back to Oklahoma state court, or in the alternative to
abstain from hearing the claims asserted therein. On
October 31, 2007, Hallwood Energy filed its Proof of Claim
in the Eagle Drilling Chapter 11 Bankruptcy again asserting
its approximate $1,688,000 claim. On December 6, 2007,
Hallwood Energy filed its Notice of Removal of the Tarrant
County Action and its Motion to Transfer Venue of the Tarrant
County Action, both in the United States Bankruptcy Court for
the Northern District of Texas, Forth Worth Division, which
granted the relief requested in the Motion to Transfer,
resulting in the initiation of Adversary Proceeding
No. 08-01007
(the Hallwood Adversary) on or about
January 18, 2008 in the Oklahoma Bankruptcy Court. On
February 19, 2008, the Court held a status conference as to
the Eagle Drilling Adversary and the Hallwood Adversary, at
which the Debtor and Hallwood Energy and Hallwood Petroleum
agreed, among other things, that
66
THE
HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
both adversary proceedings would be consolidated under one
adversary proceeding (the Consolidated Adversary),
which would be adjudicated in the context of a jury trial to be
conducted by this Court to commence in September 2008. On or
about February 21, 2008, the Court approved the
parties stipulated Order reflecting the agreements reached
at the status conference. No scheduling order has yet been
entered by the Oklahoma Bankruptcy Court in the Consolidated
Adversary. Further, although Eagle Drillings counsel has
stated that it anticipates attempting to amend its pleadings in
the Consolidated Adversary to change or add claims against
Hallwood Energy and Hallwood Petroleum, to date no such amended
pleadings have been filed or served on Hallwood Energy and
Hallwood Petroleum. Hallwood Energy and Hallwood Petroleum are
currently unable to determine the impact that this litigation
may have on its results of operations or its financial position.
The Companys share of certain items related to Hallwood
Energys oil and gas producing activities is provided below
(in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
As of or for the
|
|
|
|
Years Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
Capitalized costs
|
|
$
|
23,718
|
|
|
$
|
45,219
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Costs incurred in connection with acquisition, exploration and
development
|
|
$
|
39,467
|
|
|
$
|
46,739
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Proved oil and gas reserve quantities
|
|
|
|
|
|
|
|
|
|
|
|
|
Natural gas (in mcf)
|
|
|
1,408
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Standardized measure of discounted future net cash flows
|
|
$
|
3,890
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Results of operations
|
|
|
|
|
|
|
|
|
|
|
|
|
Natural gas revenues
|
|
$
|
1,012
|
|
|
$
|
197
|
|
|
|
|
|
Oil revenues
|
|
|
28
|
|
|
|
|
|
|
|
|
|
Gathering revenues
|
|
|
103
|
|
|
|
|
|
|
|
|
|
Natural gas production expense
|
|
|
(104
|
)
|
|
|
(127
|
)
|
|
|
|
|
Depletion expense
|
|
|
(3,418
|
)
|
|
|
(79
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Results from producing activities
|
|
$
|
(2,379
|
)
|
|
$
|
(9
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Additional Capital. Hallwood Energy is in the
process of seeking additional capital from external sources.
Hallwood
Energy II, L.P.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Amount at Which
|
|
|
|
|
|
|
|
|
|
|
|
|
Cost as of
|
|
|
Carried at
|
|
|
Equity Income (Loss) for the
|
|
|
|
December 31,
|
|
|
December 31,
|
|
|
Years Ended December 31,
|
|
Description of Investment
|
|
2007
|
|
|
2007
|
|
|
2006
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
Hallwood Energy II, L.P.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Limited partner interest
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
417
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Effective December 31, 2005, HE II and Hallwood Exploration
were consolidated into HE4, which was renamed Hallwood Energy.
At December 31, 2005, prior to the energy consolidation,
the Company owned approximately 24% (20% after consideration of
profit interests) of HE II. It accounted for this investment
using the equity method of accounting and recorded its pro rata
share of HE IIs net income (loss) and partner capital
transactions. HE II was formed to explore various oil and gas
exploration opportunities, primarily in Texas, and in areas not
associated with HEC and HE III. In 2005 and 2006, the Company
invested $2,430,000 and $10,691,000 in HE II, respectively.
67
THE
HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
In connection with the July 2005 disposition of HE III, the
Company received a deemed distribution of its proportionate
share of certain pipe inventory owned by HE III, with a
proportionate carrying value of approximately $889,000, which
was then deemed contributed to HE II as an additional capital
investment. In addition in July 2005, HE II sold all of its
835 net acres lease holdings in Johnson County, Texas to
Chesapeake for $3,000,000. The Company included its pro rata
share of the gain from this transaction in the 2005 third
quarter.
Certain of the Companys officers and directors were
investors in HE II. In addition, as members of management of HE
II, one director and officer and one officer of the Company held
a profit interest in HE II.
Hallwood
Exploration, L.P.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Amount at Which
|
|
|
|
|
|
|
|
|
|
|
|
|
Cost as of
|
|
|
Carried at
|
|
|
Equity Income (Loss) for the
|
|
|
|
December 31,
|
|
|
December 31,
|
|
|
Years Ended December 31,
|
|
Description of Investment
|
|
2007
|
|
|
2007
|
|
|
2006
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
Hallwood Exploration, L.P.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Limited partner interest
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
(165
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Effective December 31, 2005, HE II and Hallwood Exploration
were consolidated into HE4, which was renamed Hallwood Energy.
At December 31, 2005, prior to the energy consolidation,
the Company owned approximately 20% (17% after consideration of
profit interests) of Hallwood Exploration. It accounted for this
investment using the equity method of accounting and recorded
its pro rata share of Hallwood Explorations net income
(loss) and partner capital transactions. Hallwood Exploration
was formed to exploit a salt dome oil and gas opportunity in St.
James, Ascension and Assumption Parishes in South Louisiana. In
2004 and 2005, the Company invested $1,318,000 and $3,244,000 in
Hallwood Exploration, respectively.
Certain of the Companys officers and directors were
investors in Hallwood Exploration. In addition, as members of
management of Hallwood Exploration, one director and officer and
one officer of the Company held a profit interest in Hallwood
Exploration.
Hallwood
Energy 4, L.P. (renamed Hallwood Energy, L.P.)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Amount at Which
|
|
|
|
|
|
|
|
|
|
|
|
|
Cost as of
|
|
|
Carried at
|
|
|
Equity income (Loss) for the
|
|
|
|
December 31,
|
|
|
December 31,
|
|
|
Years Ended December 31,
|
|
Description of Investment
|
|
2007
|
|
|
2007
|
|
|
2006
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
Hallwood Energy 4, L.P.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Limited partner interest
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
(124
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
At December 31, 2005, prior to the energy consolidation,
the Company owned approximately 26% (21% after consideration of
profit interests) of HE 4. It accounted for this investment
using the equity method of accounting and recorded its pro rata
share of HE 4s net income (loss) and partner capital
transactions. In the 2005 third quarter, HE 4 was formed to
acquire, explore and develop oil and gas acreage in the
Fayetteville Shale in Central Eastern Arkansas. In September
2005 and December 2005, the Company invested $9,193,000 and
$13,130,000 in HE 4, respectively. Effective
December 31, 2005, in connection with the energy
consolidation, the name of this private energy affiliate was
changed to Hallwood Energy, L.P.
68
THE
HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
Hallwood
Energy III, L.P.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Amount at Which
|
|
|
|
|
|
|
|
|
|
|
|
|
Cost as of
|
|
|
Carried at
|
|
|
Equity Income (Loss) for the
|
|
|
|
December 31,
|
|
|
December 31,
|
|
|
Years Ended December 31,
|
|
Description of Investment
|
|
2007
|
|
|
2007
|
|
|
2006
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
Hallwood Energy III, L.P.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Limited partner interest
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
(8,628
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Prior to the sale of HE III in July 2005 (discussed below), the
Company owned approximately 28% (24% after consideration of
profit interests) of HE III. It accounted for this investment
using the equity method of accounting and recorded its pro rata
share of HE IIIs net income (loss) and partner capital
transactions. In 2004, the Company invested $4,705,000 in HE
III, which was formed primarily to acquire and develop oil and
gas lease holdings in the Barnett Shale formation of Johnson and
Hill Counties, Texas. In March 2005, the Company invested an
additional $4,251,000.
In June 2004, HE III acquired from HEC approximately
15,000 acres of undeveloped leasehold, three proven
developed, non-producing natural gas properties, a limited
amount of gas transmission line and various other assets. As the
purchase was from a related entity, for accounting purposes the
assets were recorded at net carrying value of approximately
$4,400,000, of which the Companys proportionate share was
approximately $1,232,000. During July 2004, HE III entered into
an agreement with Chesapeake, which owned approximately
12,000 net acres contiguous to that of HE III, wherein it
assigned a 44% interest in its lease holdings to Chesapeake,
which in turn assigned a 56% interest in its lease holdings to
HE III. Under the joint operating agreement between the
entities, HE III had been designated as operator for future
development.
In December 2004, in connection with the sale of HEC, the
Company, as a shareholder in HEC, received its proportionate
share of debt from HE III owed to HEC in the amount of
$1,995,000, which it contributed directly as an additional
capital investment. In addition, the Company received its
proportionate share of HECs investment in its Hallwood
SWD, Inc. subsidiary, with a carrying value of approximately
$1,250,000, which was contributed to HE III as an additional
capital investment.
In March 2005, an agreement was entered into with a former
officer of the energy affiliates, who is not otherwise
affiliated with the Company, to purchase the officers four
percent profit interest in the energy affiliates for $4,000,000,
of which $3,500,000 was ascribed to HE III and $250,000 each to
HE II and Hallwood Exploration. The purchase was settled by the
energy affiliates on July 1, 2005. The energy affiliates
recorded the purchase amount as compensation expense in the 2005
first quarter and the Company recorded its proportionate share,
approximately $1,100,000, through equity accounting.
The Companys proportionate share of HE IIIs 2005
loss was principally attributable to compensation expense in
connection with the settlement of profit interests concurrent
with the completion of the merger and sale in July 2005
discussed below.
Sale of HE III. On July 18, 2005, HE III
completed a merger with Chesapeake. The merger agreement
provided for a total price of $246,500,000 for all of the HE III
production and reserves, as well as the operational and
administrative infrastructure in Johnson County, and was subject
to reduction for outstanding debt, transaction costs, changes in
working capital and certain other matters. After these
reductions and adjustments, Chesapeake paid a total of
approximately $235,000,000 at the closing, including debt owed
by HE III, and an additional $3,300,000, as a result of the
final working capital adjustment settled in October 2005.
In exchange for its interest in HE III, the Company received a
cash payment of $54,850,000 in July 2005 and received an
additional $799,000 in November 2005 from the final working
capital adjustment. In addition, the Company received a
distribution for its proportionate share of certain pipe
inventory owned by HE III, with a proportionate carrying value
of approximately $889,000, which was contributed to HE II as an
additional capital
69
THE
HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
investment. The Company also recorded a receivable at
December 31, 2005 in the amount of $469,000 for the
settlement of a working capital adjustment with Hallwood
Petroleum. The receivable, which was reduced to $452,000 by
certain post-closing adjustments, was contributed to Hallwood
Energy in November 2006 as an additional capital investment.
Certain of the Companys officers and directors were
investors in HE III. In addition, as members of management of HE
III, one director and officer and one officer of the Company
held a profit interest in HE III.
Hallwood
Petroleum, LLC
Hallwood Petroleum, LLC. The Companys
former Hallwood Petroleum, LLC subsidiary (HPL)
commenced operation in October 2004 as an administrative and
management company to facilitate record keeping and processing
for the energy affiliates and had no financial value. All
revenues were credited to, and all costs were borne by, the
other energy affiliates with no profit element. All assets
nominally in the name of HPL were held solely for the benefit of
the other energy affiliates. HPL was formed as a subsidiary of
the Company as a convenience and it was not intended that it
have any financial impact on the Company. In the 2005 second
quarter, the Company determined that its ownership of this
pass-through entity created unnecessary complexity, therefore
HPL was transferred for nominal consideration to officers of the
energy affiliates that are not officers of the Company. The
transfer was completed on May 11, 2005. HPL was acquired by
Hallwood Energy for nominal consideration in connection with the
December 31, 2005 energy consolidation.
Other
The Company invested nominal amounts in other affiliated
entities which served as general partners for the energy
affiliates. These entities were included in the energy
consolidation on December 31, 2005.
Loans payable at the balance sheet dates were as follows (in
thousands):
|
|
|
|
|
|
|
|
|
|
|
December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
Bank Debt
|
|
|
|
|
|
|
|
|
Working capital revolving credit facility, interest at Libor +
1.25% − 1.75% or Prime; due January 2010
|
|
$
|
17,181
|
|
|
$
|
10,432
|
|
Equipment term loans, interest at various rates; due at various
dates through April 2009
|
|
|
185
|
|
|
|
460
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
17,366
|
|
|
|
10,892
|
|
Current portion
|
|
|
(158
|
)
|
|
|
(275
|
)
|
|
|
|
|
|
|
|
|
|
Noncurrent portion
|
|
$
|
17,208
|
|
|
$
|
10,617
|
|
|
|
|
|
|
|
|
|
|
Revolving Credit Facility. The Companys
Brookwood subsidiary has a revolving credit facility in an
amount up to $25,000,000 with Key Bank National Association (the
Working Capital Revolving Credit Facility). In
December 2007, Brookwood entered into an amendment to this
facility to increase the credit limit amount by $3,000,000 from
$22,000,000 to $25,000,000. Borrowings are collateralized by
accounts receivable, certain finished goods inventory, machinery
and equipment and all of the issued and outstanding capital
stock of Brookwood and its subsidiaries. The facility bears
interest at Brookwoods option of Prime or
Libor + 1.25% − 1.75% (variable
depending on compliance ratios) and contains various covenants.
The interest rate was a blended rate of 6.73% and 7.48% at
December 31, 2007 and 2006, respectively. The outstanding
balance was $17,181,000 at December 31, 2007 and Brookwood
had $7,819,000 of borrowing availability under this facility.
70
THE
HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
Equipment Term Loans. Brookwood has a
revolving equipment credit facility in an amount up to
$3,000,000 with Key Bank. Interest rates for the equipment loans
varied between 5.60% and 8.20%, with a blended rate of 6.53% and
7.17% at December 31, 2007 and 2006, respectively. Monthly
principal and interest payments are required for each of the
borrowings. The outstanding balance at December 31, 2007
was $185,000 and Brookwood had $2,815,000 of borrowing
availability under this facility.
Loan Covenants. The Working Capital Revolving
Credit Facility provides for a maximum total debt to tangible
net worth ratio and a covenant that Brookwood shall maintain a
quarterly minimum net income of not less than one dollar. Cash
dividends and tax sharing payments to the Company are contingent
upon Brookwoods compliance with the covenants. As of the
end of all interim periods in 2007 and 2006 and as of
December 31, 2007 and 2006, Brookwood was in compliance
with its principal loan covenants, although a waiver regarding a
pro forma (inclusive of projected dividend) total debt to
tangible net worth ratio for the 2007 third quarter was granted
to allow a $1,500,000 dividend payment in November 2007.
Renewal of Credit Facilities. Both of the Key
Bank facilities, which had original maturities of January 2007,
were renewed in March 2006 for a period of three years with a
new maturity of January 30, 2010. The amounts of the
respective facilities and the loan covenants were unchanged at
that time; however, the interest rate on the Working Capital
Revolving Credit Facility was reduced, at Brookwoods
option, from Prime plus 0.25% or
Libor + 1.75% − 3.00% (variable
depending on compliance ratios).
Restricted Net Assets. Cash dividends and tax
sharing payments by Brookwood to the Company are contingent upon
compliance with the Key Bank loan covenants. This limitation on
the transferability of assets constitutes a restriction of
Brookwoods net assets, which were $29,180,000 and
$28,105,000 at December 31, 2007 and 2006, respectively.
Schedule of Maturities. Maturities of loans
payable for the next five years and thereafter are presented
below (in thousands):
|
|
|
|
|
Years Ending December 31,
|
|
Amount
|
|
|
2008
|
|
$
|
158
|
|
2009
|
|
|
27
|
|
2010
|
|
|
17,181
|
|
|
|
|
|
|
Total
|
|
$
|
17,366
|
|
|
|
|
|
|
|
|
Note 8
|
Redeemable
Preferred Stock
|
The Company has outstanding 250,000 shares of redeemable
preferred stock (the Series B Preferred Stock).
The holders of Series B Preferred Stock were entitled to
cash dividends for the first five years in an annual amount of
$0.20 per share (total annual amount of $50,000), which were
paid in each of the years beginning in 1996. No dividend was
paid during the three years ended December 31, 2007. For
the first five years, dividends were cumulative and the payment
of cash dividends on any common stock was prohibited before the
full payment of any accrued dividends. Beginning in 2001,
dividends accrue and are payable only if and when declared by
the Board of Directors. The Series B Preferred Stock has
dividend and liquidation preferences to the Companys
common stock. The shares are subject to mandatory redemption on
July 20, 2010, which is fifteen years from the date of
issuance, at 100% of the liquidation preference of $4.00 per
share plus all accrued and unpaid dividends, and may be redeemed
at any time on the same terms at the option of the Company. The
holders of the shares of Series B Preferred Stock are not
entitled to vote on matters brought before the Companys
stockholders, except as otherwise provided by law.
71
THE
HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
|
|
Note 9
|
Stockholders
Equity
|
Common Stock. The Companys Second
Restated Certificate of Incorporation contained a provision that
restricted transfers of the Companys common stock in order
to protect certain federal income tax benefits. The restriction
prohibited any transfer of common stock to any person that
resulted in ownership in excess of 4.75% of the then outstanding
shares. At the May 2004 annual meeting for the Company, the
shareholders of the Company voted to amend the Second Restated
Certificate of Incorporation by deleting this restriction.
As a result of a change in the rules of the American Stock
Exchange, on which the Companys common stock is listed, it
was necessary to amend the Companys Bylaws to permit the
Companys shares of stock to be uncertificated. The
amendment was approved by the Companys board of directors
in November 2007.
Preferred Stock. Under its Second Restated
Certificate of Incorporation, the Company is authorized to issue
500,000 shares of preferred stock, par value $0.10 per
share, and did issue 250,000 shares of redeemable
Series B Preferred Stock.
Treasury Stock. During 2005,
184,875 shares of common stock were reissued out of
treasury in connection with the exercise of stock options by
certain directors and officers. The treasury stock account
balance was reduced by the average cost per treasury share which
aggregated $2,753,000.
During 2006, 4,875 shares of common stock were reissued out
of treasury, in connection with the exercise of stock options by
two officers and 657 common shares were purchased from an
officer. The treasury stock account balance was reduced by the
average cost per treasury share which aggregated $73,000.
During 2007, 9,750 shares of common stock were reissued out
of treasury, in connection with the exercise of stock options by
the two officers and 4,522 common shares were purchased from the
two officers. The treasury stock account balance was reduced by
the average cost per treasury share which aggregated $164,000.
Stock Options. The Company established the
1995 Stock Option Plan for The Hallwood Group Incorporated which
authorized the granting of nonqualified stock options to
employees, directors and consultants of the Company to purchase
up to 244,800 shares of common stock of the Company. The
exercise prices of all options granted were at the fair market
value of the Companys stock on the date of grant, had an
expiration date of ten years from date of grant and were fully
vested on the date of grant. At December 31, 2007, there
were 4,500 fully vested outstanding options, that expire in May
2010. The 1995 Stock Option Plan terminated on June 27,
2005. Options issued prior to the termination were not affected;
however, no new options can be issued under the 1995 Plan.
On January 1, 2006, the Company adopted
SFAS No. 123(R), Share-Based Payment
using a modified method of prospective application. Under
SFAS No. 123(R), all forms of share-based payments to
employees, including employee stock options, are treated the
same as other forms of compensation by recognizing the related
cost in the statement of operations. The expense of the award
would generally be measured at fair value at the grant date.
SFAS No. 123(R) eliminates the ability to account for
share-based compensation transactions using APB Opinion
No. 25. All options were fully vested as of
December 31, 2005. Because all of the Companys stock
options were fully vested, there was no impact on income before
taxes or net income from adopting SFAS No. 123(R). The
Company granted no options in the three years ended
December 31, 2007.
During 2007, two officers of the Company exercised options to
purchase a total of 9,750 shares of the Companys
common stock that were scheduled to expire in 2007. The officers
paid the exercise price and related tax withholding requirement
by exchanging an equivalent number of common shares valued at
the fair market value at the date of exercise. The net result of
the exercises and exchanges was the reissuance of
5,228 shares from treasury.
In May 2006, the estate of a former officer of the Company
exercised its remaining options to purchase 3,375 shares of
the Companys common stock. The Company received proceeds
of $56,000 from the exercise of these options and reissued the
shares out of treasury stock. The difference between the option
proceeds and the average cost of reissued treasury shares was
recorded as an increase in additional paid-in capital.
72
THE
HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
In December 2006, one officer of the Company exercised options
to purchase 1,500 shares of the Companys common stock
that were scheduled to expire in February 2007. The officer paid
the exercise price and related tax withholding requirement by
exchanging an equivalent number of common shares valued at the
fair market value at the date of exercise. The net result of the
exercise and exchange was the reissuance of 843 shares from
treasury.
In the 2005 second quarter, the Companys chairman and two
directors exercised all of their options to purchase a total of
180,000 shares of the Companys common stock, and
three officers exercised a portion of their options to purchase
an additional 4,875 shares. The Company received proceeds
of $2,207,000 from the exercise of these 184,875 options. The
$546,000 difference between the option proceeds of $2,207,000
and the average cost of reissued treasury shares of $2,753,000
was recorded as a reduction in retained earnings.
Option activity for the year ended December 31, 2007 and
status of outstanding options are as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Weighted
|
|
|
|
|
|
|
|
|
|
|
|
|
Average
|
|
|
|
|
|
|
|
|
|
Weighted
|
|
|
Remaining
|
|
|
|
|
|
|
|
|
|
Average
|
|
|
Contractual
|
|
|
Aggregate
|
|
|
|
Number of
|
|
|
Exercise
|
|
|
Term
|
|
|
Intrinsic
|
|
|
|
Options
|
|
|
Price
|
|
|
(In years)
|
|
|
Value
|
|
|
Outstanding, January 1, 2007
|
|
|
14,250
|
|
|
$
|
14.77
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Granted
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Exercised
|
|
|
(9,750
|
)
|
|
$
|
16.82
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Forfeited
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Outstanding, December 31, 2007
|
|
|
4,500
|
|
|
$
|
10.31
|
|
|
|
2.42
|
|
|
$
|
305,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Options exercisable and vested at December 31, 2007
|
|
|
4,500
|
|
|
|
|
|
|
|
2.42
|
|
|
$
|
305,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The aggregate intrinsic value in the table above represents the
total pre-tax intrinsic value (the difference between the
Companys closing stock price on the last trading day of
the 2007 calendar year and the exercise price, multiplied by the
number of options). The intrinsic value of the options exercised
during 2007 was approximately $786,000.
A summary of options granted and the changes therein for the
1995 Stock Option Plan during the three years ended
December 31, 2007 are presented below:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
|
|
|
|
Weighted
|
|
|
|
|
|
Weighted
|
|
|
|
|
|
Weighted
|
|
|
|
Number
|
|
|
Average
|
|
|
Number
|
|
|
Average
|
|
|
Number
|
|
|
Average
|
|
|
|
of
|
|
|
Exercise
|
|
|
of
|
|
|
Exercise
|
|
|
of
|
|
|
Exercise
|
|
|
|
Options
|
|
|
Price
|
|
|
Options
|
|
|
Price
|
|
|
Options
|
|
|
Price
|
|
|
Outstanding, beginning of year
|
|
|
14,250
|
|
|
$
|
14.77
|
|
|
|
19,125
|
|
|
$
|
15.10
|
|
|
|
204,000
|
|
|
$
|
12.23
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Granted
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Exercised
|
|
|
(9,750
|
)
|
|
$
|
16.82
|
|
|
|
(4,875
|
)
|
|
$
|
16.09
|
|
|
|
(184,875
|
)
|
|
$
|
11.94
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Forfeited
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Reacquired
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Outstanding, end of year
|
|
|
4,500
|
|
|
$
|
10.31
|
|
|
|
14,250
|
|
|
$
|
14.77
|
|
|
|
19,125
|
|
|
$
|
15.10
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The Company did not grant any stock options and all options
outstanding were fully vested and exercisable in the three year
period ended December 31, 2007; therefore, no pro forma
amounts are required to be reported.
73
THE
HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
|
|
Note 10
|
Proposal
and Subsequent Withdrawal of Plan of Liquidation
|
In June 2007, the Company received a proposal from Anthony J.
Gumbiner, the chairman of the board and beneficial owner of 66%
of the outstanding common shares of the Company.
Mr. Gumbiner proposed that the Companys board of
directors consider a liquidation of the Company that would
include a sale of all of the Companys interests in its
Brookwood subsidiary and a disposition of all of the
Companys interests in Hallwood Energy. As part of the
liquidation proposal, Mr. Gumbiner proposed that Brookwood
be sold for cash and the net sale proceeds be distributed to all
the Company shareholders pro rata. He also proposed that his pro
rata portion of the Companys interests in Hallwood Energy
be distributed to him and that he enter into negotiations to
purchase the Companys remaining interests in Hallwood
Energy for cash, which would be distributed to the other
shareholders of the Company. Finally, Mr. Gumbiner proposed
that if he were to purchase the Companys remaining
interests in Hallwood Energy, other accredited and
otherwise qualified shareholders of the Company be given the
opportunity to receive in lieu of cash a pro rata portion of the
Hallwood Energy interests.
The Companys board of directors established a special
committee of directors to review the proposal. The special
committee was authorized by the Companys board of
directors to review any alternative proposals that may be
received by the Company or the special committee.
In November 2007, Mr. Gumbiner advised the special
committee that because his proposal to purchase the
Companys interest in Hallwood Energy could conflict with
Hallwood Energys effort to obtain additional capital (as
described in Item 2. Managements Discussion and
Analysis of Financial Condition and Results of
Operations Liquidity and Capital
Resources), among other things, he has withdrawn his
proposal that the board consider a liquidation of the Company.
The board of directors determined that the special committee
would continue to consider the Companys strategic
alternatives with respect to Brookwood, however, and engaged a
financial advisor in December 2007 to assist the special
committee in developing and considering the various
alternatives. There can be no assurance that the special
committee will recommend that the Company take any action with
respect to Brookwood, or that any transaction will be completed.
Following is a schedule of the income tax expense (benefit) (in
thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
Federal
|
|
|
|
|
|
|
|
|
|
|
|
|
Current
|
|
$
|
(14,294
|
)
|
|
$
|
(2,189
|
)
|
|
$
|
13,688
|
|
Deferred
|
|
|
(2,998
|
)
|
|
|
(1,032
|
)
|
|
|
3,933
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Sub-total
|
|
|
(17,292
|
)
|
|
|
(3,221
|
)
|
|
|
17,621
|
|
State
|
|
|
|
|
|
|
|
|
|
|
|
|
Current
|
|
|
610
|
|
|
|
242
|
|
|
|
779
|
|
Deferred
|
|
|
53
|
|
|
|
(9
|
)
|
|
|
110
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Sub-total
|
|
|
663
|
|
|
|
233
|
|
|
|
889
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
(16,629
|
)
|
|
$
|
(2,988
|
)
|
|
$
|
18,510
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
74
THE
HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
Reconciliations of the expected tax or (benefit) at the
statutory tax rate to the recorded tax or (benefit) are as
follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
Expected tax expense (benefit) at the statutory tax rate
|
|
$
|
(16,814
|
)
|
|
$
|
(3,303
|
)
|
|
$
|
15,698
|
|
Increase in deferred state tax asset valuation allowance
|
|
|
2,000
|
|
|
|
|
|
|
|
|
|
State taxes
|
|
|
(1,545
|
)
|
|
|
154
|
|
|
|
578
|
|
Other
|
|
|
(299
|
)
|
|
|
41
|
|
|
|
2,236
|
|
Permanent items
|
|
|
29
|
|
|
|
120
|
|
|
|
|
|
Foreign loss not taxable
|
|
|
|
|
|
|
|
|
|
|
(2
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Recorded tax or (benefit)
|
|
$
|
(16,629
|
)
|
|
$
|
(2,988
|
)
|
|
$
|
18,510
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The net deferred tax asset was $4,600,000 and $1,655,000 at
December 31, 2007 and 2006, respectively. At
December 31, 2007, the deferred tax asset was comprised of
$3,756,000 attributable to temporary differences (including
$1,406,000 associated with the Companys investment in
Hallwood Energy), that upon reversal, can be utilized to offset
income from operations and $844,000 of alternative minimum tax
credits. The 2006 amount was attributable to temporary
differences of $1,124,000 and alternative minimum tax credits of
$531,000.
In 2007, the Company reported a taxable loss, principally
attributable to the flow-through of its pro-rata partnership
losses from its Hallwood Energy investment. Hallwood Energy
anticipates reporting a taxable loss in excess of $200,000,000,
principally from a significant amount of intangible drilling
costs and an impairment charge related to the early lease
surrenders and writedowns of Arkansas leaseholds associated with
low or non-prospective oil and gas leases and costs related to
its Louisiana properties. It is anticipated that the 2007
taxable loss will be carried back to the 2005 tax year for a
refund, and as a result the Company recorded a federal current
tax benefit.
The Company reported a taxable loss in 2006, principally
attributable to significant amount of intangible drilling costs
from its Hallwood Energy investment which was carried back to
the 2004 tax year and as a result recorded a federal current tax
benefit of $2,189,000. The Company reported significant taxable
income in 2005, principally attributable to the gain from
disposition of its investment in HE III and incurred federal
current tax expense of $13,688,000.
The federal income tax receivable was $12,239,000 and $3,861,000
and net state taxes receivable were $68,000 and $200,000 at
December 31, 2007 and 2006, respectively. The Company
received federal income tax refunds of $5,888,000 in 2007,
comprised of $1,376,000 attributable to the return of estimated
tax payments and $4,512,000 from the carryback of the 2006
taxable loss.
At December 31, 2007, the Company has approximately
$5,985,000 and $56,925,000 of net operating loss carryforwards
for federal and state income tax purposes, respectively. The
Companys net operating loss carryforward for federal
income tax purposes was approximately $786,000 greater that its
net operating loss carryforward for financial reporting purposes
due to the Companys inability to realize excess tax
benefits under SFAS 123(R) until such benefits reduce
income taxes payable. The federal net operating loss
carryforward will expire in 2027. The state net operating loss
carryforwards will begin to expire in 2011 and through 2021. The
Company has a tax credit for the state of Texas in the
approximate amount of $670,000 which can be utilized over a
period of 20 years at prescribed levels permitted by Texas.
At December 31, 2007, the Company has approximately
$844,000 of alterative minimum tax credit carryforwards for
federal income tax purposes. This alternative minimum tax credit
carries forward indefinitely.
Financial statement deferred tax assets must be reduced by a
valuation allowance if, based on the weight of available
evidence, it is more likely than not that some portion or all of
the deferred tax assets will not be realized. The Company
believes that the deferred state tax assets in the amount of
$2,040,000 may not be realized, therefore
75
THE
HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
the Company has recorded a valuation allowance of $2,000,000 as
of December 31, 2007. There was no valuation allowance as
of December 31, 2006.
The Internal Revenue Service completed an examination of the
Companys consolidated income tax returns for the years
ended December 31, 2004 and 2005. The IRS proposed
adjustments that resulted in a tax assessment of $61,000 for
2004 and $103,000 for 2005, with associated interest costs of
$15,000. No penalties were assessed. The Company paid the
assessed tax and interest in December 2006.
In May 2006, the Governor of the State of Texas signed into law
a Texas margin tax (H.B. No. 3) which
restructures the state business by replacing the taxable capital
and earned surplus components of the current franchise tax with
a new taxable margin component. Because the tax base
on the Texas margin tax is derived from an income-based measure,
the Company believes the margin tax is an income tax and,
therefore, the provisions of SFAS No. 109 regarding
the recognition of deferred taxes apply to the new margin tax.
In accordance with SFAS No. 109, the effect on
deferred tax assets of a change in tax law should be included in
tax expense attributable to continuing operations in the period
that includes the enactment date. Although the effective date of
H.B. No. 3 is January 1, 2008, certain effects of the
change should be reflected in the financial statements of the
first interim or annual reporting period that includes
May 18, 2006. H.B. No. 3 also created provisions
allowing for future credits against the margin tax. The Company
has recorded a net deferred tax asset of $442,000 as of
December 31, 2007 relating to this future credit which has
a full valuation allowance since the Company believes that it is
more likely than not that the benefits of the credit will not be
realized.
A schedule of the types and amounts of existing temporary
differences and NOLs, at the blended statutory tax rate of
34%, as of the balance sheet dates are as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Deferred Tax Asset, Net
|
|
|
|
December 31,
|
|
|
December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
|
Assets
|
|
|
Liabilities
|
|
|
Assets
|
|
|
Liabilities
|
|
|
Net operating loss carryforward federal
|
|
$
|
2,035
|
|
|
$
|
|
|
|
$
|
|
|
|
$
|
|
|
Net operating loss carryforward state
|
|
|
2,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Equity in earnings of unconsolidated affiliates
|
|
|
1,248
|
|
|
|
|
|
|
|
696
|
|
|
|
|
|
Reserves recorded for financial statement purposes and not for
tax purposes
|
|
|
1,035
|
|
|
|
|
|
|
|
1,024
|
|
|
|
|
|
Tax credits
|
|
|
844
|
|
|
|
|
|
|
|
531
|
|
|
|
|
|
Depreciation and amortization
|
|
|
|
|
|
|
562
|
|
|
|
|
|
|
|
596
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Deferred tax assets and liabilities
|
|
|
7,162
|
|
|
$
|
562
|
|
|
|
2,251
|
|
|
$
|
596
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Less: Deferred tax liabilities
|
|
|
(562
|
)
|
|
|
|
|
|
|
(596
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
6,600
|
|
|
|
|
|
|
|
1,655
|
|
|
|
|
|
Less: Valuation allowance
|
|
|
(2,000
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Deferred tax asset, net
|
|
$
|
4,600
|
|
|
|
|
|
|
$
|
1,655
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
76
THE
HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
|
|
Note 12
|
Supplemental
Disclosures to the Consolidated Statements of Cash
Flows
|
The following transactions affected recognized assets or
liabilities but did not result in cash receipts or cash payments
(in thousands):
Supplemental
schedule of non-cash investing and financing
activities.
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
Change in payable additional investment in Hallwood
Energy
|
|
$
|
5,000
|
|
|
$
|
|
|
|
$
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Change in accrued capital expenditures in accounts payable
|
|
$
|
361
|
|
|
$
|
162
|
|
|
$
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income tax effect from exercise of stock options:
|
|
|
|
|
|
|
|
|
|
|
|
|
Income taxes payable
|
|
$
|
|
|
|
$
|
(187
|
)
|
|
$
|
(1,466
|
)
|
Additional paid-in capital
|
|
|
|
|
|
|
187
|
|
|
|
1,466
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
|
|
|
$
|
|
|
|
$
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Contribution of receivable as investment in Hallwood Energy
|
|
$
|
|
|
|
$
|
452
|
|
|
$
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Increase in value of available for sale
marketable securities
|
|
$
|
(55
|
)
|
|
$
|
55
|
|
|
$
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Transfer of HPL net assets to officers of the energy affiliates:
|
|
|
|
|
|
|
|
|
|
|
|
|
Restricted cash
|
|
|
|
|
|
|
|
|
|
$
|
218
|
|
Prepaids, deposits and other assets
|
|
|
|
|
|
|
|
|
|
|
85
|
|
Property, plant and equipment, net
|
|
|
|
|
|
|
|
|
|
|
588
|
|
Other noncurrent assets
|
|
|
|
|
|
|
|
|
|
|
138
|
|
Accounts payable
|
|
|
|
|
|
|
|
|
|
|
(584
|
)
|
Accrued expenses and other current liabilities
|
|
|
|
|
|
|
|
|
|
|
(445
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
|
|
|
$
|
|
|
|
$
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Supplemental disclosures of cash payments
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest paid
|
|
$
|
1,138
|
|
|
$
|
594
|
|
|
$
|
455
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income taxes (refunded) paid
|
|
$
|
(5,523
|
)
|
|
$
|
608
|
|
|
$
|
15,158
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
77
THE
HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
|
|
Note 13
|
Computation
of Income (Loss) Per Common Share
|
The following table reconciles weighted average shares
outstanding from basic to diluted and reconciles net income
(loss) used in the computation of income (loss) per share for
the basic and diluted methods (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
Weighted Average Shares Outstanding
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic
|
|
|
1,519
|
|
|
|
1,514
|
|
|
|
1,446
|
|
Potential shares from assumed exercise of stock options
|
|
|
|
|
|
|
|
|
|
|
88
|
|
Potential repurchase of shares from stock options proceeds
|
|
|
|
|
|
|
|
|
|
|
(26
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Diluted
|
|
|
1,519
|
|
|
|
1,514
|
|
|
|
1,508
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net Income (Loss)
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic and diluted
|
|
$
|
(32,825
|
)
|
|
$
|
(6,725
|
)
|
|
$
|
26,342
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Due to the net losses for the years ended December 31, 2007
and 2006, potential shares from assumed exercise of stock
options of 4,500 shares and 14,000 shares,
respectively, were antidilutive.
|
|
Note 14
|
Fair
Value of Financial Instruments
|
Estimated fair value amounts have been determined using
available market information or other appropriate valuation
methodologies that require considerable judgment in interpreting
market data and developing estimates. Accordingly, the estimates
presented herein are not necessarily indicative of the amounts
that the Company could realize in a current market exchange. The
use of different market assumptions
and/or
estimation methodologies may have a material effect on the
estimated fair value amounts.
The fair value of financial instruments that are short-term or
reprice frequently and have a history of negligible credit
losses are considered to approximate their carrying value. These
include cash and cash equivalents, short term receivables,
accounts payable and other liabilities.
Management has reviewed the carrying value of its loans payable
in connection with interest rates currently available to the
Company for borrowings with similar characteristics and
maturities. Management has determined that the estimated fair
value of the loans payable would be approximately $17,359,000
and $10,881,000 at December 31, 2007 and 2006, compared to
the carrying value of $17,366,000 and $10,892,000, respectively.
The fair value information presented as of December 31,
2007 and 2006 is based on pertinent information available to
management. Although management is not aware of any factors that
would significantly affect the estimated fair value amounts,
such amounts have not been comprehensively revalued for purposes
of these financial statements since that date and, therefore
current estimates of fair value may differ significantly from
the amounts presented herein.
|
|
Note 15
|
Related
Party Transactions
|
Hallwood Investments Limited. The Company has
entered into a financial consulting contract with Hallwood
Investments Limited (HIL), a corporation associated
with Mr. Anthony J. Gumbiner, the Companys chairman
and principal stockholder. The contract provides for HIL to
furnish and perform international consulting and advisory
services to the Company and its subsidiaries, including
strategic planning and merger activities, for annual
compensation of $996,000 ($954,000 prior to March 2005). The
annual amount is payable in monthly installments. The contract
automatically renews for one-year periods if not terminated by
the parties beforehand. Additionally, HIL and Mr. Gumbiner
are also eligible for bonuses from the Company or its
subsidiaries, subject to approval by the Companys or its
subsidiaries board of directors. The Company also
reimburses HIL for reasonable expenses in
78
THE
HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
providing office space and administrative services and for
travel and related expenses to and from the Companys
corporate office. In addition, the Company also reimbursed
Mr. Gumbiner for services, meals and other personal
expenses related to the office separately maintained by
Mr. Gumbiner. At Mr. Gumbiners recommendation,
the Companys board of directors determined in 2006 that
the reimbursement for personal expenses related to his office
would not continue after November 2006.
A summary of the fees and expenses related to HIL and
Mr. Gumbiner are detailed below (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
Consulting fees
|
|
$
|
996
|
|
|
$
|
996
|
|
|
$
|
989
|
|
Office space and administrative services
|
|
|
182
|
|
|
|
463
|
|
|
|
557
|
|
Travel expenses
|
|
|
70
|
|
|
|
267
|
|
|
|
257
|
|
Bonus
|
|
|
|
|
|
|
|
|
|
|
5,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
1,248
|
|
|
$
|
1,726
|
|
|
$
|
6,803
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
A special committee, consisting of independent members of the
board of directors of the Company, awarded a $5,000,000 bonus to
Mr. Gumbiner, in consideration of the significant profits
and long-term gains realized by the Company as a result of
Mr. Gumbiners performance over an extended period.
The bonus was paid in July 2005.
In addition, HIL and Mr. Gumbiner perform services for
certain affiliated entities that are not subsidiaries of the
Company, for which they receive consulting fees, bonuses, stock
options, net profit interests or other forms of compensation and
expenses. The Company recognizes a proportionate share of such
compensation and expenses, based upon its ownership percentage
in the affiliated entities, through the utilization of the
equity method of accounting.
HIL shares common offices, facilities and certain staff in its
Dallas office with the Company. The Company pays certain common
general and administrative expenses and charges HIL an overhead
reimbursement fee for its allocable share of the expenses. For
the years ended December 31, 2007, 2006 and 2005, HIL
reimbursed the Company $155,000, $142,000 and $113,000,
respectively, for such expenses.
In April 2007, HIL committed to fund one-half of potential
additional equity or subordinated debt funding calls totaling
$55,000,000, or $27,500,000, by Hallwood Energy, to the extent
other investors, including the Company, did not respond to a
call. In June 2007, HIL funded that portion of the
Companys share of the May Call that the Company did not
fund in the amount of $2,591,000 and contributed, along with the
New Lender, an additional amount in August 2007 to fully satisfy
the May Call, to the extent other Hallwood Energy investors did
not respond to the May Call. In September 2007, HIL funded that
portion of the Companys share of the August Call in the
amount of $1,842,000 that the Company did not fund and
contributed an additional amount, along with the New Lender, in
September 2007 to fully satisfy the August Call, to the extent
other Hallwood Energy investors did not respond to the August
Call. In September 2007, the $55,000,000 commitment from HIL and
the New Lender expired as a result of the receipt of sufficient
equity contributions from the April Call, May Call and August
Call.
In November 2007, HIL committed to fund $7,500,000 of additional
equity to Hallwood Energy no later than November 15, 2007.
HIL funded the full $7,500,000 in November under this agreement,
with Hallwood Energy executing a promissory note bearing
interest at 16% per annum. On January 2, 2008, as per the
commitment agreement, the outstanding amount plus accrued
interest was automatically converted into Class C
partnership interest.
In January 2008, HIL funded $5,000,000 to Hallwood Energy in
connection with a $30,000,000 issue of Convertible Notes. The
terms of the Convertible Note agreement are discussed in the
section entitled Investments in and Loans to Hallwood
Energy. As of March 1, 2008, HIL and one of its
affiliated entities have invested $19,156,000 in Hallwood Energy.
79
THE
HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
Hallwood Energy. Beginning August 1,
2005, Hallwood Energy and its predecessor entities shares common
offices, facilities and certain staff in its Dallas office with
the Company. Hallwood Energy reimburses the Company for its
allocable share of the expenses. For the years ended
December 31, 2007 and 2006 and the five month period ended
December 31, 2005, Hallwood Energy reimbursed the Company
$297,000, $311,000 and $59,000, respectively, for such expenses.
|
|
Note 16
|
Litigation,
Contingencies and Commitments
|
Litigation. From time to time, the Company,
certain of its affiliates and others have been named as
defendants in lawsuits relating to various transactions in which
it or its affiliated entities participated. In the
Companys opinion, no litigation in which the Company,
subsidiaries or affiliates is a party is likely to have a
material adverse effect on its financial condition, results of
operations or cash flows.
On July 31, 2007, Nextec Applications, Inc. filed Nextec
Applications, Inc. v. Brookwood Companies Incorporated and
The Hallwood Group Incorporated in the United States
District Court for the Southern District of New York (SDNY
No. CV
07-6901)
claiming that the defendants infringed five United States
patents pertaining to internally-coated webs: U.S. Patent
No. 5,418,051; 5,856,245; 5,869,172; 6,071,602 and
6,129,978. On October 3, 2007, the U.S. District Court
dismissed The Hallwood Group Incorporated from the lawsuit.
Brookwood has answered the lawsuit and intends to vigorously
defend these claims.
Hallwood Energy. As a significant investor in
Hallwood Energy, the Company may be impacted by litigation
involving Hallwood Energy. Refer to Note 6 for a further
description of certain litigation involving Hallwood Energy.
Environmental Contingencies. A number of
jurisdictions in which the Company operates have adopted laws
and regulations relating to environmental matters. Such laws and
regulations may require the Company to secure governmental
permits and approvals and undertake measures to comply
therewith. Compliance with the requirements imposed may be
time-consuming and costly. While environmental considerations,
by themselves, have not significantly affected the
Companys business to date, it is possible that such
considerations may have a significant and adverse impact in the
future. The Company actively monitors its environmental
compliance and while certain matters currently exist, management
is not aware of any compliance issues which will significantly
impact the financial position, operations or cash flows of the
Company.
In August 2005, the Rhode Island Department of Health
(RIDOH) issued a compliance order to Kenyon,
alleging that Kenyon is a non-community water system and
ordering Kenyon to comply with the RIDOH program for public
water supply systems. Kenyon contested the compliance order and
an administrative hearing was held in November 2005. No decision
has been rendered. Complying with the RIDOH requirements would
necessitate revamping of the plants water supply system
and associated costs of approximately $100,000.
In August 2005, Kenyon received a Notice of Alleged Violation
from The Rhode Island Department of Environmental Management
(RIDEM) with notification that Kenyon had failed to
comply timely with a requirement to test the destruction
efficiency of a thermal oxidizer at its Kenyon plant and that
when the test was conducted the equipment was not operating at
the required efficiency. Since that time, Kenyon has upgraded
and retested the equipment, which met the requirements on the
retest. RIDEM has requested additional information regarding the
failed test and Kenyons remedial actions, which Kenyon has
provided.
In September 2005, Brookwood accrued $250,000 for anticipated
environmental remediation costs in connection with a plan to
remove, dewater, transport and dispose of sludge from its
lagoons. Brookwood accrued an additional $35,000 for remediation
costs in 2006. Brookwood received approval from RIDEM for the
remediation activities, which were completed in July 2006.
In June 2007, RIDEM issued a Notice Of Violation
(NOV) to Kenyon, alleging that the Company violated
certain provisions of its wastewater discharge permit and
seeking an administrative penalty of $79,000. Kenyon
80
THE
HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
filed an Answer and Request for Hearing to dispute certain
allegations in the NOV and the amount of the penalty. The
informal meeting was held in August 2007 and settlement
negotiations are ongoing.
Commitments. Total lease expense for
noncancelable operating leases was $1,135,000, $1,227,000 and
$812,000 for the years ended December 31, 2007, 2006 and
2005, respectively. The Company leases certain buildings and
equipment. The leases generally require the Company to pay
property taxes, insurance and maintenance of the leased assets.
The Company shares certain executive office facilities with
Hallwood Energy and HIL and pays a proportionate share of the
lease expense.
At December 31, 2007 aggregate minimum annual rental
commitments under noncancelable operating leases having an
initial or remaining term of more than one year, were as follows
(in thousands):
|
|
|
|
|
Years Ending
|
|
|
|
December 31,
|
|
Amount
|
|
|
2008
|
|
$
|
1,146
|
|
2009
|
|
|
791
|
|
2010
|
|
|
758
|
|
2011
|
|
|
359
|
|
2012
|
|
|
371
|
|
Thereafter
|
|
|
1,361
|
|
|
|
|
|
|
Total
|
|
$
|
4,786
|
|
|
|
|
|
|
Employment Contracts. The Company and its
Brookwood subsidiary have compensation agreements with various
personnel and consultants. Generally, the agreements extend for
one-year terms and are renewable annually.
2005 Long-Term Incentive Plan for
Brookwood. In December 2005, the Company adopted
The Hallwood Group Incorporated 2005 Long-Term Incentive Plan
for Brookwood Companies Incorporated (2005 Long-Term
Incentive Plan for Brookwood) to encourage employees of
Brookwood to increase the value of Brookwood and to continue to
be employed by Brookwood. The terms of the incentive plan
provide for a total award amount to participants equal to 15% of
the fair market value of consideration received by the Company
in a change of control transaction, as defined, in excess of the
sum of the liquidation preference plus accrued unpaid dividends
on the Brookwood preferred stock (approximately $19,553,000 at
December 31, 2007). The base amount will fluctuate in
accordance with a formula that increases by the amount of the
annual dividend on the preferred stock, currently $1,823,000,
and decreases by the amount of the actual dividends paid by
Brookwood to the Company. However, if the Companys board
of directors determines that certain specified Brookwood
officers, or other persons performing similar functions do not
have, prior to the change of control transaction, in the
aggregate an equity or debt interest of at lease two percent in
the entity with whom the change of control transaction is
completed, then the minimum amount to be awarded under the plan
shall be $2,000,000. In addition, the Company agreed that, if
members of Brookwoods senior management do not have, prior
to a change of control transaction is completed in the aggregate
an equity or debt interest of at least two percent in the entity
with whom the change of control transaction (exclusive of any
such interest any such individual receives with respect to his
or her employment following the change of control transaction),
then the Company will be obligated to pay an additional
$2,600,000.
|
|
Note 17
|
Segment
and Related Information
|
The Company is a holding company and classifies its continuing
business operations into two reportable segments; textile
products and energy. Both segments have different management
teams and infrastructures that engage in different businesses
and offer different services. See Notes 5 and 6.
81
THE
HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
The following represents the Companys reportable amounts
by business segment, as of and for the three years ended
December 31, 2007 (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Textile
|
|
|
|
|
|
|
|
|
|
|
|
|
Products
|
|
|
Energy
|
|
|
Other
|
|
|
Consolidated
|
|
|
Year Ended December 31, 2007
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total revenue from external sources
|
|
$
|
132,497
|
|
|
|
|
|
|
|
|
|
|
$
|
132,497
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating income (loss)
|
|
$
|
12,464
|
|
|
|
|
|
|
$
|
(5,214
|
)
|
|
$
|
7,250
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other income (loss), net
|
|
$
|
(1,145
|
)
|
|
$
|
(55,865
|
)
|
|
$
|
306
|
|
|
|
(56,704
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss before income taxes
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
(49,454
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Identifiable assets, December 31, 2007
|
|
$
|
66,197
|
|
|
|
|
|
|
|
|
|
|
$
|
66,197
|
|
Cash allocable to segment
|
|
|
178
|
|
|
|
|
|
|
$
|
7,082
|
|
|
|
7,260
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Segment assets
|
|
$
|
66,375
|
|
|
|
|
|
|
|
|
|
|
|
73,457
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Corporate assets
|
|
|
|
|
|
|
|
|
|
$
|
17,288
|
|
|
|
17,288
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total assets, December 31, 2007
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
90,745
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Depreciation and amortization
|
|
$
|
2,098
|
|
|
|
|
|
|
$
|
31
|
|
|
$
|
2,129
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Capital expenditures/acquisitions
|
|
$
|
2,306
|
|
|
|
|
|
|
$
|
52
|
|
|
$
|
2,358
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31, 2006
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total revenue from external sources
|
|
$
|
112,154
|
|
|
|
|
|
|
|
|
|
|
$
|
112,154
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating income (loss)
|
|
$
|
5,588
|
|
|
|
|
|
|
$
|
(4,816
|
)
|
|
$
|
772
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other income (loss), net
|
|
$
|
(602
|
)
|
|
$
|
(10,435
|
)
|
|
$
|
552
|
|
|
|
(10,485
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Loss before income taxes
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
(9,713
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Identifiable assets, December 31, 2006
|
|
$
|
51,720
|
|
|
$
|
39,864
|
|
|
|
|
|
|
$
|
91,584
|
|
Cash allocable to segment
|
|
|
387
|
|
|
|
|
|
|
$
|
9,667
|
|
|
|
10,054
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Segment assets
|
|
$
|
52,107
|
|
|
$
|
39,864
|
|
|
|
|
|
|
|
101,638
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Corporate assets
|
|
|
|
|
|
|
|
|
|
$
|
5,959
|
|
|
|
5,959
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total assets, December 31, 2006
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
107,597
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Depreciation and amortization
|
|
$
|
1,844
|
|
|
|
|
|
|
$
|
20
|
|
|
$
|
1,864
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Capital expenditures/acquisitions
|
|
$
|
4,149
|
|
|
|
|
|
|
$
|
48
|
|
|
$
|
4,197
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
82
THE
HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Textile
|
|
|
|
|
|
|
|
|
|
|
|
|
Products
|
|
|
Energy
|
|
|
Other
|
|
|
Consolidated
|
|
|
Year Ended December 31, 2005
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total revenue from external sources
|
|
$
|
133,108
|
|
|
$
|
1,499
|
|
|
|
|
|
|
$
|
134,607
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating income (loss)
|
|
$
|
11,677
|
|
|
|
|
|
|
$
|
(11,624
|
)
|
|
$
|
53
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other income (loss), net
|
|
$
|
(545
|
)
|
|
$
|
43,812
|
|
|
$
|
1,532
|
|
|
|
44,799
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income before income taxes
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
44,852
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Identifiable assets, December 31, 2005
|
|
$
|
48,132
|
|
|
$
|
40,854
|
|
|
|
|
|
|
$
|
88,986
|
|
Cash allocable to segment
|
|
|
281
|
|
|
|
|
|
|
$
|
16,367
|
|
|
|
16,648
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Segment assets
|
|
$
|
48,413
|
|
|
$
|
40,854
|
|
|
|
|
|
|
|
105,634
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Corporate assets
|
|
|
|
|
|
|
|
|
|
$
|
3,167
|
|
|
|
3,167
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total assets, December 31, 2005
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
108,801
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Depreciation and amortization
|
|
$
|
1,738
|
|
|
$
|
97
|
|
|
$
|
15
|
|
|
$
|
1,850
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Capital expenditures/acquisitions
|
|
$
|
2,654
|
|
|
$
|
69
|
|
|
$
|
3
|
|
|
$
|
2,726
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Note 18
|
Employee
Benefit Retirement Plans
|
The Company maintains a contributory, tax-deferred 401(k) tax
favored savings plan covering substantially all of its non-union
employees. The plan provides that (i) eligible employees
may contribute up to 15% of their compensation to the plan;
(ii) the Companys matching contribution is
discretionary, to be determined annually by the Companys
Board of Directors; and (iii) excludes highly compensated
employees from a matching contribution, although this group
receives a compensatory bonus in lieu of such contribution and
diminution of related benefits. Amounts contributed by employees
are 100% vested and non-forfeitable. The Companys matching
contributions, which were 50% of its employees
contributions up to the first 6% contributed, for each of the
three years ended December 31, 2007, vest at a rate of 20%
per year of service and become fully vested after five years.
Brookwood has a separate 401(k) plan which is similar to the
Companys plan. Aggregate contributions to the plans for
the years ended December 31, 2007, 2006 and 2005,
respectively, were $274,000, $273,000 and $283,000, respectively.
Brookwoods union employees belong to a pension fund
maintained by their union. The Company contributes $108 per
month ($90 per month prior to March 2007), per employee to the
fund. Total contributions for the three years ended
December 31, 2007 were $310,000, $310,000 and $306,000,
respectively.
May 2005. On April 22, 2005, the Company
announced a cash distribution in partial liquidation to
stockholders and an equivalent bonus to option holders. The cash
distribution in the amount of $37.70 per share, totaling
approximately $56,789,000, was paid on May 27, 2005 to
stockholders of record as of May 20, 2005. The distribution
was in partial liquidation of the Company, as a result of the
Companys disposition of its real estate interests and
partnership units relating to HRP in July 2004, and the board of
directors determination to discontinue the Companys
real estate activities effective January 1, 2005. In
connection with the plan of partial liquidation, the board of
directors determined to review the cash position of the Company
at any time through December 31, 2005, and consider
declaring additional liquidating distributions not to exceed
(together with the May distribution) the approximately
$66,119,000 received in the disposition of the HRP interests.
83
THE
HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
In connection with the cash distribution, a special committee of
the board of directors of the Company declared a special bonus
to those officers of the Company, other than Mr. Gumbiner,
who held outstanding options to purchase common stock of the
Company, in lieu of amounts such holders would have received if
they had exercised their options prior to the record date. The
special bonus was equal to the amount of the cash distribution
per share on the number of shares subject to options that each
individual held as of the record date, and totaled approximately
$905,000.
August 2005. On July 27, 2005 the Company
announced an additional cash distribution in partial liquidation
to stockholders and an equivalent bonus to option holders. This
cash distribution in the amount of $6.17 per share, totaling
approximately $9,324,000, was paid on August 18, 2005 to
stockholders of record as of August 12, 2005. The two
distributions approximate the total amount received from the
disposition of its real estate interests and partnership units.
In connection with the additional cash distribution, the board
of directors declared a special bonus to those officers of the
Company who held outstanding options to purchase common stock of
the Company, in lieu of amounts such holders would have received
if they exercised their options prior to the record date. The
special bonus was equal to the amount of the cash distribution
per share on the number of shares subject to options that each
individual held on the record date, and totaled approximately
$118,000.
|
|
Note 20
|
Summary
of Quarterly Financial Information (Unaudited)
|
Results of operations by quarter for the years ended
December 31, 2007 and 2006, are summarized below (in
thousands, except per share amounts):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31, 2007
|
|
|
|
March 31
|
|
|
June 30
|
|
|
September 30
|
|
|
December 31
|
|
|
Operating revenues
|
|
$
|
28,308
|
|
|
$
|
32,065
|
|
|
$
|
32,576
|
|
|
$
|
39,548
|
|
Other income (loss)
|
|
|
(10,536
|
)
|
|
|
(2,021
|
)
|
|
|
(1,540
|
)
|
|
|
(42,607
|
)
|
Gross profit
|
|
|
4,019
|
|
|
|
6,107
|
|
|
|
6,527
|
|
|
|
10,926
|
|
Income (loss) before income taxes
|
|
|
(11,121
|
)
|
|
|
(641
|
)
|
|
|
(292
|
)
|
|
|
(37,400
|
)
|
Net income (loss)
|
|
|
(7,324
|
)
|
|
|
(573
|
)
|
|
|
(367
|
)
|
|
|
(24,561
|
)
|
Comprehensive income
|
|
|
(55
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
Per share data:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income (loss)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic
|
|
|
(4.83
|
)
|
|
|
(0.38
|
)
|
|
|
(0.24
|
)
|
|
|
(16.15
|
)
|
Diluted
|
|
|
(4.83
|
)
|
|
|
(0.38
|
)
|
|
|
(0.24
|
)
|
|
|
(16.15
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year Ended December 31, 2006
|
|
|
|
March 31
|
|
|
June 30
|
|
|
September 30
|
|
|
December 31
|
|
|
Operating revenues
|
|
$
|
30,775
|
|
|
$
|
28,698
|
|
|
$
|
25,055
|
|
|
$
|
27,626
|
|
Other income (loss)
|
|
|
(359
|
)
|
|
|
(692
|
)
|
|
|
(670
|
)
|
|
|
(8,764
|
)
|
Gross profit
|
|
|
5,956
|
|
|
|
4,700
|
|
|
|
4,120
|
|
|
|
4,244
|
|
Income (loss) before income taxes
|
|
|
947
|
|
|
|
(624
|
)
|
|
|
(1,254
|
)
|
|
|
(8,782
|
)
|
Net income (loss)
|
|
|
464
|
|
|
|
(499
|
)
|
|
|
(848
|
)
|
|
|
(5,842
|
)
|
Comprehensive income
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
55
|
|
Per share data:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net income (loss)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Basic
|
|
|
0.31
|
|
|
|
(0.33
|
)
|
|
|
(0.56
|
)
|
|
|
(3.86
|
)
|
Diluted
|
|
|
0.30
|
|
|
|
(0.33
|
)
|
|
|
(0.56
|
)
|
|
|
(3.86
|
)
|
84
THE
HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
NOTES TO
CONSOLIDATED FINANCIAL
STATEMENTS (Continued)
Year ended December 31, 2007. In the
first nine months of 2007, Hallwood Energy reported a loss of
$54,602,000, which included an impairment of its oil and gas
properties of $31,680,000 and interest expense of $17,913,000.
The Company recorded its proportionate share of such loss in the
amount of $13,648,000.
In the 2007 fourth quarter, Hallwood Energy reported a loss of
$221,811,000, which included an impairment of its oil and gas
properties of $191,322,000, related to the early lease
surrenders and writedowns of Arkansas leaseholds associated with
low or non-prospective oil and gas leases and approximately
$52,829,000 related to its Louisiana properties. The Company
recorded its proportionate share of such loss, to the extent of
its carrying value, in the amount of $42,309,000.
Year ended December 31, 2006. In December
2006, Hallwood Energy recorded an impairment of $28,408,000
associated with its oil and gas properties and accrued
$1,683,000 as a portion of a make-whole fee in connection with a
subsequent prepayment of a loan. The make-whole fee was included
in interest expense. The Company recorded its proportionate
share of such impairment and interest expense in the approximate
amount of $7,560,000.
85
THE
HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
SCHEDULE I
CONDENSED
FINANCIAL INFORMATION OF REGISTRANT (PARENT COMPANY)
BALANCE
SHEETS
(In
thousands)
|
|
|
|
|
|
|
|
|
|
|
December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
ASSETS
|
Current Assets
|
|
|
|
|
|
|
|
|
Cash and cash equivalents
|
|
$
|
7,082
|
|
|
$
|
9,667
|
|
Federal income tax receivable
|
|
|
12,239
|
|
|
|
3,861
|
|
Tax receivable from subsidiary
|
|
|
1,734
|
|
|
|
|
|
Deferred income tax, net
|
|
|
931
|
|
|
|
860
|
|
Receivables and other current assets
|
|
|
355
|
|
|
|
242
|
|
|
|
|
|
|
|
|
|
|
|
|
|
22,341
|
|
|
|
14,630
|
|
Noncurrent Assets
|
|
|
|
|
|
|
|
|
Investments in Hallwood Energy, net
|
|
|
|
|
|
|
39,864
|
|
Investments in subsidiaries
|
|
|
29,230
|
|
|
|
28,156
|
|
Deferred income tax, net
|
|
|
3,629
|
|
|
|
751
|
|
Other noncurrent assets
|
|
|
85
|
|
|
|
196
|
|
|
|
|
|
|
|
|
|
|
|
|
|
32,944
|
|
|
|
68,967
|
|
|
|
|
|
|
|
|
|
|
Total Assets
|
|
$
|
55,285
|
|
|
$
|
83,597
|
|
|
|
|
|
|
|
|
|
|
|
LIABILITIES AND STOCKHOLDERS EQUITY
|
Current Liabilities
|
|
|
|
|
|
|
|
|
Payable additional investment in Hallwood Energy
|
|
$
|
5,000
|
|
|
$
|
|
|
Accounts payable and accrued expenses
|
|
|
460
|
|
|
|
177
|
|
Income taxes payable
|
|
|
13
|
|
|
|
31
|
|
Tax payable to subsidiary
|
|
|
|
|
|
|
423
|
|
|
|
|
|
|
|
|
|
|
|
|
|
5,473
|
|
|
|
631
|
|
Noncurrent Liabilities
|
|
|
|
|
|
|
|
|
Redeemable preferred stock
|
|
|
1,000
|
|
|
|
1,000
|
|
|
|
|
|
|
|
|
|
|
Total Liabilities
|
|
|
6,473
|
|
|
|
1,631
|
|
Stockholders Equity
|
|
|
|
|
|
|
|
|
Common stock
|
|
|
240
|
|
|
|
240
|
|
Additional paid-in capital
|
|
|
56,469
|
|
|
|
56,451
|
|
Accumulated other comprehensive income
|
|
|
|
|
|
|
55
|
|
Retained earnings
|
|
|
5,576
|
|
|
|
38,401
|
|
Treasury stock, at cost
|
|
|
(13,473
|
)
|
|
|
(13,181
|
)
|
|
|
|
|
|
|
|
|
|
Total Stockholders Equity
|
|
|
48,812
|
|
|
|
81,966
|
|
|
|
|
|
|
|
|
|
|
Total Liabilities and Stockholders Equity
|
|
$
|
55,285
|
|
|
$
|
83,597
|
|
|
|
|
|
|
|
|
|
|
The Notes to Consolidated Financial Statements of The
Hallwood Group Incorporated and Subsidiaries are an
integral part of these statements.
See accompanying Notes to Condensed Financial Information
of Registrant.
86
THE
HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
SCHEDULE I (Continued)
CONDENSED
FINANCIAL INFORMATION OF REGISTRANT (PARENT COMPANY)
STATEMENTS
OF OPERATIONS
(In
thousands)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
Revenues
|
|
$
|
|
|
|
$
|
|
|
|
$
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Expenses
|
|
|
5,206
|
|
|
|
4,810
|
|
|
|
11,019
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating Loss
|
|
|
(5,206
|
)
|
|
|
(4,810
|
)
|
|
|
(11,019
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Other Income (Loss)
|
|
|
|
|
|
|
|
|
|
|
|
|
Investments in Hallwood Energy and affiliates
|
|
|
|
|
|
|
|
|
|
|
|
|
Equity loss
|
|
|
(55,957
|
)
|
|
|
(10,418
|
)
|
|
|
(8,500
|
)
|
Interest income
|
|
|
92
|
|
|
|
|
|
|
|
|
|
Equity in net income of subsidiaries
|
|
|
7,067
|
|
|
|
3,159
|
|
|
|
5,764
|
|
Interest and other income
|
|
|
307
|
|
|
|
566
|
|
|
|
1,539
|
|
Interest expense
|
|
|
(1
|
)
|
|
|
(15
|
)
|
|
|
|
|
Gain (loss) from disposition of investments in energy affiliates:
|
|
|
|
|
|
|
|
|
|
|
|
|
HE III
|
|
|
|
|
|
|
(17
|
)
|
|
|
52,425
|
|
HEC
|
|
|
|
|
|
|
|
|
|
|
(113
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(48,492
|
)
|
|
|
(6,725
|
)
|
|
|
51,115
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income (loss) before income taxes
|
|
|
(53,698
|
)
|
|
|
(11,535
|
)
|
|
|
40,096
|
|
Income tax expense (benefit)
|
|
|
(20,873
|
)
|
|
|
(4,810
|
)
|
|
|
13,754
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net Income (Loss)
|
|
$
|
(32,825
|
)
|
|
$
|
(6,725
|
)
|
|
$
|
26,342
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The Notes to Consolidated Financial Statements of The
Hallwood Group Incorporated and Subsidiaries are an
integral part of these statements.
See accompanying Notes to Condensed Financial Information
of Registrant.
87
THE
HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
SCHEDULE I (Continued)
CONDENSED
FINANCIAL INFORMATION OF REGISTRANT (PARENT COMPANY)
STATEMENTS
OF COMPREHENSIVE INCOME (LOSS)
(In
thousands)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
Net Income (Loss)
|
|
$
|
(32,825
|
)
|
|
$
|
(6,725
|
)
|
|
$
|
26,342
|
|
Other Comprehensive Income (Loss)
|
|
|
|
|
|
|
|
|
|
|
|
|
Unrealized increase in fair value of marketable securities
|
|
|
(55
|
)
|
|
|
55
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Comprehensive Income (Loss)
|
|
$
|
(32,880
|
)
|
|
$
|
(6,670
|
)
|
|
$
|
26,342
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The Notes to Consolidated Financial Statements of The
Hallwood Group Incorporated and Subsidiaries are an
integral part of these statements.
See accompanying Notes to Condensed Financial Information
of Registrant.
88
THE
HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
SCHEDULE I (Continued)
CONDENSED
FINANCIAL INFORMATION OF REGISTRANT (PARENT COMPANY)
STATEMENTS
OF CASH FLOWS
(In
thousands)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended December 31,
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
NET CASH PROVIDED BY (USED IN) OPERATING ACTIVITIES
|
|
$
|
8,789
|
|
|
$
|
2,398
|
|
|
$
|
(6,174
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
CASH FLOWS FROM INVESTING ACTIVITIES
|
|
|
|
|
|
|
|
|
|
|
|
|
Investments in Hallwood Energy and affiliates
|
|
|
(11,093
|
)
|
|
|
(8,975
|
)
|
|
|
(40,556
|
)
|
Return of (additional) investment in subsidiaries
|
|
|
(7
|
)
|
|
|
(259
|
)
|
|
|
(285
|
)
|
Proceeds from sale of investment in HE III
|
|
|
|
|
|
|
|
|
|
|
55,648
|
|
Proceeds from sale of investment in HEC
|
|
|
|
|
|
|
|
|
|
|
387
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash (used in) provided by investing activities
|
|
|
(11,100
|
)
|
|
|
(9,234
|
)
|
|
|
15,194
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
CASH FLOWS FROM FINANCING ACTIVITIES
|
|
|
|
|
|
|
|
|
|
|
|
|
Proceeds from exercise of stock options
|
|
|
165
|
|
|
|
79
|
|
|
|
2,207
|
|
Purchase of common stock for treasury
|
|
|
(439
|
)
|
|
|
(73
|
)
|
|
|
|
|
Excess tax benefits from share-based payment arrangement
|
|
|
|
|
|
|
187
|
|
|
|
|
|
Cash dividends on common stock
|
|
|
|
|
|
|
|
|
|
|
(66,113
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash (used in) provided by financing activities
|
|
|
(274
|
)
|
|
|
193
|
|
|
|
(63,906
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
|
|
|
(2,585
|
)
|
|
|
(6,643
|
)
|
|
|
(54,886
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR
|
|
|
9,667
|
|
|
|
16,310
|
|
|
|
71,196
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
CASH AND CASH EQUIVALENTS, END OF YEAR
|
|
$
|
7,082
|
|
|
$
|
9,667
|
|
|
$
|
16,310
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The Notes to Consolidated Financial Statements of The
Hallwood Group Incorporated and Subsidiaries are an
integral part of these statements.
See accompanying Notes to Condensed Financial Information
of Registrant.
89
THE
HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
SCHEDULE I (Continued)
CONDENSED
FINANCIAL INFORMATION OF REGISTRANT (PARENT COMPANY)
STATEMENTS
OF CASH FLOWS
(In
thousands)
Supplemental schedule of non-cash investing and financing
activities. The following transactions affected
recognized assets or liabilities but did not result in cash
receipts or cash payments (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Years Ended December 31,
|
|
Description
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
Change in payable additional investment in Hallwood
Energy
|
|
$
|
5,000
|
|
|
$
|
|
|
|
$
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Income tax effect from exercise of stock options:
|
|
|
|
|
|
|
|
|
|
|
|
|
Income taxes payable
|
|
$
|
|
|
|
$
|
(187
|
)
|
|
$
|
(1,466
|
)
|
Additional paid-in capital
|
|
|
|
|
|
|
187
|
|
|
|
1,466
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
$
|
|
|
|
$
|
|
|
|
$
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Increase in value of available-for-sale marketable securities
|
|
$
|
(55
|
)
|
|
$
|
55
|
|
|
$
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Contribution of receivable as investment in Hallwood Energy
|
|
$
|
|
|
|
$
|
452
|
|
|
$
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Supplemental disclosures of cash payments.
|
|
|
|
|
|
|
|
|
|
|
|
|
Income taxes (refunded) paid
|
|
$
|
(5,780
|
)
|
|
$
|
206
|
|
|
$
|
14,620
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest paid
|
|
$
|
|
|
|
$
|
15
|
|
|
$
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The Notes to Consolidated Financial Statements of The
Hallwood Group Incorporated and Subsidiaries are an
integral part of these statements.
See accompanying Notes to Condensed Financial Information
of Registrant.
90
CONDENSED
FINANCIAL INFORMATION OF REGISTRANT (PARENT COMPANY)
NOTES TO
CONDENSED FINANCIAL STATEMENTS
|
|
Note 1
|
Basis of
Presentation
|
Schedule I, Condensed Financial Information of Registrant,
is to be included in Securities and Exchange Commission
(SEC) filings when restricted net assets of
consolidated subsidiaries exceed 25% of consolidated net assets
at the end of the latest fiscal year. Cash dividends and tax
sharing payments by Brookwood to the Company are contingent upon
compliance with loan covenants in Brookwoods Working
Capital Revolving Credit Facility. This limitation on the
transferability of assets constitutes a restriction of
Brookwoods net assets, which were $29,180,000 at
December 31, 2007 and exceed 25% of the Companys
consolidated net assets.
Pursuant to the rules and regulations of the SEC, the condensed
financial statements of the Registrant do not include all of the
information and notes normally included with financial
statements prepared in accordance with accounting principles
generally accepted in the United States of America. In addition,
for purposes of this schedule, the investments in majority owned
subsidiaries are accounted for using the equity method of
accounting which is not in accordance with accounting principles
generally accepted in the United States of America. It is,
therefore suggested that these condensed financial statements be
read in conjunction with the consolidated financial statements
and notes thereto included in the Registrants annual
report as referenced in
Form 10-K,
Part II, Item 8.
|
|
Note 2
|
Dividends
From Subsidiary
|
The Company received dividends from its Brookwood subsidiary of
$6,000,000, $6,000,000 and $8,000,000 in 2007, 2006 and 2005,
respectively. The Company also received a dividend payment of
$1,500,000 in March 2008.
|
|
Note 3
|
Litigation,
Contingencies and Commitments
|
See Note 16 to the consolidated financial statements.
91
THE
HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
SCHEDULE II
CONDENSED
FINANCIAL INFORMATION OF REGISTRANT (PARENT COMPANY)
VALUATION
AND QUALIFYING ACCOUNTS AND RESERVES
(In
thousands)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Charged to
|
|
|
|
|
|
|
|
|
|
|
|
|
Balance,
|
|
|
(Recovery of)
|
|
|
Charged
|
|
|
|
|
|
Balance,
|
|
|
|
Beginning
|
|
|
Costs and
|
|
|
to Other
|
|
|
|
|
|
End of
|
|
|
|
of Year
|
|
|
Expenses
|
|
|
Accounts
|
|
|
Deductions
|
|
|
Year
|
|
|
Textile Products
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Allowance for losses accounts receivable
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year ended December 31, 2007
|
|
$
|
72
|
|
|
$
|
(5
|
)
|
|
$
|
|
|
|
$
|
(15
|
)
|
|
$
|
52
|
|
Year ended December 31, 2006
|
|
|
64
|
|
|
|
68
|
|
|
|
|
|
|
|
(60
|
)
|
|
|
72
|
|
Year ended December 31, 2005
|
|
|
253
|
|
|
|
(189
|
)
|
|
|
|
|
|
|
|
|
|
|
64
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Obsolescence reserve inventories
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year ended December 31, 2007
|
|
$
|
857
|
|
|
$
|
(108
|
)
|
|
$
|
|
|
|
$
|
|
|
|
$
|
749
|
|
Year ended December 31, 2006
|
|
|
574
|
|
|
|
283
|
|
|
|
|
|
|
|
|
|
|
|
857
|
|
Year ended December 31, 2005
|
|
|
1,101
|
|
|
|
(527
|
)
|
|
|
|
|
|
|
|
|
|
|
574
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Deferred Tax Asset
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Valuation allowance
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year ended December 31, 2007
|
|
$
|
|
|
|
$
|
|
|
|
$
|
2,000
|
|
|
$
|
|
|
|
$
|
2,000
|
|
Year ended December 31, 2006
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Year ended December 31, 2005
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
92
Hallwood Energy, L.P. and
Subsidiaries
Consolidated Financial
Statements
as of December 31, 2007 and 2006 and for the
Years Ended December 31, 2007, 2006, and 2005, and
Report of Independent Registered Public Accounting
Firm
REPORT OF
INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Partners of
Hallwood Energy, L.P.
Dallas, Texas
We have audited the accompanying consolidated balance sheets of
Hallwood Energy, L.P. and subsidiaries (the
Partnership) as of December 31, 2007 and 2006,
and the related consolidated statements of operations,
partners capital (deficiency), and cash flows for each of
the three years in the period ended December 31, 2007.
These financial statements are the responsibility of the
Partnerships management. Our responsibility is to express
an opinion on these financial statements based on our audits.
We conducted our audits in accordance with the standards of the
Public Company Accounting Oversight Board (United States). Those
standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are
free of material misstatement. The Partnership is not required
to have, nor were we engaged to perform, an audit of its
internal control over financial reporting. Our audits included
consideration of internal control over financial reporting as a
basis for designing audit procedures that are appropriate in the
circumstances, but not for the purpose of expressing an opinion
on the effectiveness of the Partnerships internal control
over financial reporting. Accordingly, we express no such
opinion. An audit also includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial
statements, assessing the accounting principles used and
significant estimates made by management, as well as evaluating
the overall financial statement presentation. We believe that
our audits provide a reasonable basis for our opinion.
In our opinion, such financial statements present fairly, in all
material respects, the financial position of the Partnership as
of December 31, 2007 and 2006, and the results of its
operations and its cash flows for each of the three years in the
period ended December 31, 2007, in conformity with
accounting principles generally accepted in the United States of
America.
The accompanying consolidated financial statements have been
prepared assuming that the Partnership will continue as a going
concern. As discussed in Note 2 to the financial
statements, the Partnerships difficulties in meeting its
loan agreement covenants and need to obtain additional operating
funds through the issuance of debt and equity instruments raise
substantial doubt about its ability to continue as a going
concern. Managements plans in regard to these matters are
also discussed in Note 2 to the financial statements. The
financial statements do not include any adjustments that might
result from the outcome of this uncertainty.
Dallas, Texas
March 31, 2008
HALLWOOD
ENERGY, L.P. AND SUBSIDIARIES
CONSOLIDATED
BALANCE SHEETS
AS OF DECEMBER 31, 2007 AND 2006
|
|
|
|
|
|
|
|
|
|
|
2007
|
|
|
2006
|
|
|
ASSETS
|
CURRENT ASSETS:
|
|
|
|
|
|
|
|
|
Cash and cash equivalents
|
|
$
|
2,371,575
|
|
|
$
|
25,978,205
|
|
Restricted cash
|
|
|
|
|
|
|
|
|
Accounts receivable
|
|
|
1,434,028
|
|
|
|
57,111
|
|
Accounts receivable from affiliate
|
|
|
2,000
|
|
|
|
|
|
Prepaid expenses
|
|
|
621,695
|
|
|
|
382,318
|
|
|
|
|
|
|
|
|
|
|
Total current assets
|
|
|
4,429,298
|
|
|
|
26,417,634
|
|
|
|
|
|
|
|
|
|
|
PROPERTY AND EQUIPMENT:
|
|
|
|
|
|
|
|
|
Oil and gas properties, full-cost method of accounting:
|
|
|
|
|
|
|
|
|
Unevaluated properties
|
|
|
51,649,487
|
|
|
|
150,289,300
|
|
Work-in-progress
|
|
|
24,201,477
|
|
|
|
29,179,694
|
|
Evaluated properties
|
|
|
283,429,304
|
|
|
|
28,285,497
|
|
Office equipment, facilities, and other
|
|
|
14,663,684
|
|
|
|
1,125,945
|
|
|
|
|
|
|
|
|
|
|
|
|
|
373,943,952
|
|
|
|
208,880,436
|
|
Accumulated depreciation, depletion, amortization, and impairment
|
|
|
(266,696,444
|
)
|
|
|
(28,893,958
|
)
|
|
|
|
|
|
|
|
|
|
Property and equipment net
|
|
|
107,247,508
|
|
|
|
179,986,478
|
|
|
|
|
|
|
|
|
|
|
OTHER ASSETS:
|
|
|
|
|
|
|
|
|
Tubular inventory
|
|
|
3,484,935
|
|
|
|
7,263,621
|
|
Loan costs net
|
|
|
429,910
|
|
|
|
607,424
|
|
Deposits
|
|
|
86,500
|
|
|
|
86,500
|
|
|
|
|
|
|
|
|
|
|
Total other assets
|
|
|
4,001,345
|
|
|
|
7,957,545
|
|
|
|
|
|
|
|
|
|
|
TOTAL ASSETS
|
|
$
|
115,678,151
|
|
|
$
|
214,361,657
|
|
|
|
|
|
|
|
|
|
|
|
LIABILITIES AND PARTNERS CAPITAL (DEFICIENCY)
|
CURRENT LIABILITIES:
|
|
|
|
|
|
|
|
|
Note payable, including make-whole fee (net of unamortized
discount of $9,746,239)
|
|
$
|
101,990,401
|
|
|
$
|
|
|
Accrued additions to property and equipment
|
|
|
7,024,954
|
|
|
|
9,662,449
|
|
Accounts payable and accrued expenses
|
|
|
26,964,431
|
|
|
|
2,119,112
|
|
Advances from third parties
|
|
|
2,118,160
|
|
|
|
222,715
|
|
Advances from limited partners
|
|
|
|
|
|
|
76,000
|
|
Revenue payables
|
|
|
402,141
|
|
|
|
|
|
Accounts payable to affiliate
|
|
|
36,100
|
|
|
|
23,173
|
|
|
|
|
|
|
|
|
|
|
Total current liabilities
|
|
|
138,536,187
|
|
|
|
12,103,449
|
|
|
|
|
|
|
|
|
|
|
LONG TERM LIABILITIES:
|
|
|
|
|
|
|
|
|
Note payable, including make-whole fee (net of unamortized
discount of $981,000)
|
|
|
|
|
|
|
42,105,000
|
|
Partner advances
|
|
|
7,500,000
|
|
|
|
|
|
Deferred income tax
|
|
|
272,932
|
|
|
|
|
|
Asset retirement obligations
|
|
|
207,198
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total long term liabilities
|
|
|
7,980,130
|
|
|
|
42,105,000
|
|
|
|
|
|
|
|
|
|
|
COMMITMENTS AND CONTINGENCIES (Note 7)
|
|
|
|
|
|
|
|
|
PARTNERS CAPITAL (DEFICIENCY):
|
|
|
|
|
|
|
|
|
Limited partners:
|
|
|
|
|
|
|
|
|
Class C (unpaid 16% return of $5,706,128)
|
|
|
76,914,388
|
|
|
|
|
|
Class A
|
|
|
(107,748,620
|
)
|
|
|
160,137,193
|
|
Class B
|
|
|
|
|
|
|
|
|
General partner
|
|
|
(3,934
|
)
|
|
|
16,015
|
|
|
|
|
|
|
|
|
|
|
Total partners capital (deficiency)
|
|
|
(30,838,166
|
)
|
|
|
160,153,208
|
|
|
|
|
|
|
|
|
|
|
TOTAL
|
|
$
|
115,678,151
|
|
|
$
|
214,361,657
|
|
|
|
|
|
|
|
|
|
|
See notes to consolidated financial statements.
2
HALLWOOD
ENERGY, L.P. AND SUBSIDIARIES
CONSOLIDATED
STATEMENTS OF OPERATIONS
YEARS
ENDED DECEMBER 31, 2007, 2006, AND 2005
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
REVENUES
|
|
$
|
4,761,018
|
|
|
$
|
774,046
|
|
|
$
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
EXPENSES:
|
|
|
|
|
|
|
|
|
|
|
|
|
Lease operating
|
|
|
1,205,531
|
|
|
|
497,785
|
|
|
|
|
|
Other operating
|
|
|
4,583,466
|
|
|
|
1,577,742
|
|
|
|
|
|
General and administrative
|
|
|
7,434,901
|
|
|
|
5,587,261
|
|
|
|
2,062,056
|
|
Depreciation, depletion, and amortization
|
|
|
14,800,685
|
|
|
|
553,827
|
|
|
|
211,199
|
|
Impairment of oil and gas properties
|
|
|
223,001,801
|
|
|
|
28,408,359
|
|
|
|
|
|
Accretion of asset retirement obligations
|
|
|
4,644
|
|
|
|
1,450
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total expenses
|
|
|
251,031,028
|
|
|
|
36,626,424
|
|
|
|
2,273,255
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
OPERATING LOSS
|
|
|
(246,270,010
|
)
|
|
|
(35,852,378
|
)
|
|
|
(2,273,255
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
OTHER (EXPENSE) INCOME:
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest (expense)
|
|
|
(30,076,268
|
)
|
|
|
(7,204,469
|
)
|
|
|
|
|
Interest income
|
|
|
205,756
|
|
|
|
1,657,785
|
|
|
|
357,228
|
|
Gain (loss) from sale of office equipment and other
|
|
|
|
|
|
|
7,501
|
|
|
|
(208,801
|
)
|
Gain from sale of oil and gas properties
|
|
|
|
|
|
|
|
|
|
|
2,751,090
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total other (expense) income
|
|
|
(29,870,512
|
)
|
|
|
(5,539,183
|
)
|
|
|
2,899,517
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(Loss) income before income taxes
|
|
|
(276,140,522
|
)
|
|
|
(41,391,561
|
)
|
|
|
626,262
|
|
Income tax expense
|
|
|
272,932
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
NET (LOSS) INCOME
|
|
$
|
(276,413,454
|
)
|
|
$
|
(41,391,561
|
)
|
|
$
|
626,262
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
See notes to consolidated financial statements.
3
HALLWOOD
ENERGY, L.P. AND SUBSIDIARIES
CONSOLIDATED
STATEMENTS OF PARTNERS CAPITAL (DEFICIENCY)
YEARS
ENDED DECEMBER 21, 2007, 2006, AND 2005
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Limited Partners
|
|
|
General
|
|
|
|
|
|
|
Class C
|
|
|
Class A
|
|
|
Partner
|
|
|
Total
|
|
|
BALANCE January 1, 2005
|
|
$
|
|
|
|
$
|
16,236,659
|
|
|
$
|
64,167
|
|
|
$
|
16,300,826
|
|
Net income
|
|
|
|
|
|
|
626,199
|
|
|
|
63
|
|
|
|
626,262
|
|
Partners capital contributions
|
|
|
|
|
|
|
139,540,777
|
|
|
|
13,955
|
|
|
|
139,554,732
|
|
Adjustment to general partner and limited partner split upon
merger of predecessor partnerships
|
|
|
|
|
|
|
62,537
|
|
|
|
(62,537
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
BALANCE December 31, 2005
|
|
|
|
|
|
|
156,466,172
|
|
|
|
15,648
|
|
|
|
156,481,820
|
|
Net loss
|
|
|
|
|
|
|
(41,387,422
|
)
|
|
|
(4,139
|
)
|
|
|
(41,391,561
|
)
|
Partners capital contributions
|
|
|
|
|
|
|
45,058,443
|
|
|
|
4,506
|
|
|
|
45,062,949
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
BALANCE December 31, 2006
|
|
|
|
|
|
|
160,137,193
|
|
|
|
16,015
|
|
|
|
160,153,208
|
|
Net loss
|
|
|
|
|
|
|
(276,385,813
|
)
|
|
|
(27,641
|
)
|
|
|
(276,413,454
|
)
|
Issuance of warrants
|
|
|
|
|
|
|
8,500,000
|
|
|
|
|
|
|
|
8,500,000
|
|
Partners capital contributions
|
|
|
76,914,388
|
|
|
|
|
|
|
|
7,692
|
|
|
|
76,922,080
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
BALANCE December 31, 2007
|
|
$
|
76,914,388
|
|
|
$
|
(107,748,620
|
)
|
|
$
|
(3,934
|
)
|
|
$
|
(30,838,166
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
See notes to consolidated financial statements.
4
HALLWOOD
ENERGY, L.P. AND SUBSIDIARIES
CONSOLIDATED
STATEMENTS OF CASH FLOWS
YEARS
ENDED DECEMBER 31, 2007, 2006, AND 2005
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
CASH FLOWS FROM OPERATING ACTIVITIES:
|
|
|
|
|
|
|
|
|
|
|
|
|
Net (loss) income
|
|
$
|
(276,413,454
|
)
|
|
$
|
(41,391,561
|
)
|
|
$
|
626,262
|
|
Adjustments to reconcile net (loss) income to net cash provided
by (used in) operating activities:
|
|
|
|
|
|
|
|
|
|
|
|
|
Depreciation, depletion, and amortization
|
|
|
14,800,685
|
|
|
|
553,827
|
|
|
|
211,199
|
|
Accretion of asset retirement obligations
|
|
|
4,644
|
|
|
|
1,450
|
|
|
|
|
|
Loan cost amortization
|
|
|
740,321
|
|
|
|
134,555
|
|
|
|
|
|
Loan discount amortization
|
|
|
2,128,434
|
|
|
|
422,000
|
|
|
|
|
|
Change in fair value of make-whole fee
|
|
|
9,342,968
|
|
|
|
1,683,000
|
|
|
|
|
|
Impairment of oil and gas properties
|
|
|
223,001,801
|
|
|
|
28,408,359
|
|
|
|
|
|
Impairment of tubular inventory
|
|
|
1,151,751
|
|
|
|
|
|
|
|
|
|
(Loss) gain from sale of office equipment and other
|
|
|
|
|
|
|
(7,501
|
)
|
|
|
208,801
|
|
(Loss) from sale of oil and gas properties
|
|
|
|
|
|
|
|
|
|
|
(2,751,090
|
)
|
Changes in assets and liabilities:
|
|
|
|
|
|
|
|
|
|
|
|
|
Accounts receivable and other assets
|
|
|
(1,378,917
|
)
|
|
|
123,070
|
|
|
|
55,642
|
|
Prepaid expenses
|
|
|
(239,377
|
)
|
|
|
(281,252
|
)
|
|
|
(97,224
|
)
|
Accounts payable and accrued expenses and other liabilities
|
|
|
25,520,392
|
|
|
|
1,692,491
|
|
|
|
(372,250
|
)
|
Accounts payable to affiliate
|
|
|
12,927
|
|
|
|
23,173
|
|
|
|
(637,008
|
)
|
Advances from third parties
|
|
|
1,895,445
|
|
|
|
(87,462
|
)
|
|
|
310,177
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash provided by (used in) operating activities
|
|
|
567,620
|
|
|
|
(8,725,851
|
)
|
|
|
(2,445,491
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
CASH FLOWS FROM INVESTING ACTIVITIES:
|
|
|
|
|
|
|
|
|
|
|
|
|
Additions to oil and gas properties
|
|
|
(167,392,702
|
)
|
|
|
(179,088,972
|
)
|
|
|
(53,355,013
|
)
|
Additions to office equipment, facilities, and other
|
|
|
(105,755
|
)
|
|
|
(492,541
|
)
|
|
|
(148,021
|
)
|
Proceeds from sale of oil and gas properties
|
|
|
|
|
|
|
36,795,795
|
|
|
|
3,000,000
|
|
Proceeds from sale of office equipment and other
|
|
|
|
|
|
|
7,501
|
|
|
|
98,950
|
|
Proceeds from sale of tubular inventory
|
|
|
725,181
|
|
|
|
2,856,920
|
|
|
|
|
|
Purchase (sale of) tubular inventory, net of asset sale
|
|
|
1,901,754
|
|
|
|
881,684
|
|
|
|
(7,344,164
|
)
|
Increase (decrease) in restricted cash
|
|
|
|
|
|
|
76,884
|
|
|
|
(26,884
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash (used in) investing activities
|
|
|
(164,871,522
|
)
|
|
|
(138,962,729
|
)
|
|
|
(57,775,132
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
CASH FLOWS FROM FINANCING ACTIVITIES:
|
|
|
|
|
|
|
|
|
|
|
|
|
Proceeds from note payable and partner advances
|
|
|
107,500,000
|
|
|
|
40,000,000
|
|
|
|
|
|
Repayments of note payable and make-whole fee
|
|
|
(43,086,000
|
)
|
|
|
|
|
|
|
|
|
Loan fees
|
|
|
(562,808
|
)
|
|
|
(741,979
|
)
|
|
|
|
|
Partners capital contributions
|
|
|
76,922,080
|
|
|
|
45,062,949
|
|
|
|
135,896,671
|
|
(Decrease) increase in advances from limited partners
|
|
|
(76,000
|
)
|
|
|
(1,890,164
|
)
|
|
|
1,966,164
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Net cash provided by financing activities
|
|
|
140,697,272
|
|
|
|
82,430,806
|
|
|
|
137,862,835
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS
|
|
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(23,606,630
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)
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|
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(65,257,774
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)
|
|
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77,642,212
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CASH AND CASH EQUIVALENTS Beginning of year
|
|
|
25,978,205
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|
|
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91,235,979
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|
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13,593,767
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|
|
|
|
|
|
|
|
|
|
|
|
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CASH AND CASH EQUIVALENTS End of year
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|
$
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2,371,575
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|
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$
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25,978,205
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$
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91,235,979
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|
|
|
|
|
|
|
|
|
|
|
|
|
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See notes to consolidated financial statements.
5
HALLWOOD
ENERGY, L.P. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED DECEMBER 31, 2007, 2006, AND 2005
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1.
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ORGANIZATION
AND NATURE OF OPERATIONS
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Formation Hallwood Energy, L.P.
(Hallwood Energy or the Partnership) is
a privately held independent oil and gas limited partnership
organized in the state of Delaware. On December 31, 2005,
Hallwood Energy was the surviving entity in the consolidation of
three privately held energy partnerships: Hallwood Energy II,
L.P. (HE II), Hallwood Energy 4, L.P. (HE 4), and Hallwood
Exploration, L.P. (Hallwood Exploration). The board
of directors and management of the three partnerships
recommended the consolidation because they believed it would
simplify the structure and operations of the affiliated
partnerships, align all the investors interests, improve
potential debt and financing opportunities, and facilitate
future exit strategies. Following the completion of the
consolidation, all energy activities are conducted by Hallwood
Energy from its corporate office located in Dallas, TX and
production offices in Searcy, AR and Lafayette, LA.
Principles of Consolidation Hallwood Energy
fully consolidates all majority owned entities into its
financial statements. All intercompany balances and transactions
have been eliminated in consolidation. As of December 31,
2007, Hallwood Energy had three wholly owned subsidiaries:
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Hallwood Petroleum, LLC (HPL) is a wholly owned subsidiary that
serves as the drilling operations entity on behalf of Hallwood
Energy. HPL is an administrative and management company to
facilitate record keeping and processing; it has no financial
value.
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Hallwood Gathering, L.P. is a wholly owned subsidiary that holds
pipelines and other related facilities to gather and transport
production to market locations.
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Hallwood SWD, LLC is a wholly owned subsidiary that will hold
wells and facilities designed to dispose of salt water produced
from the drilling and completion process.
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For presentation purposes, the consolidated financial statements
for the year ended December 31, 2005 includes the combined
activities of HE II, HE 4, and Hallwood Exploration. The
consolidated financial statements are not indicative of the
financial position and results of operations that might have
occurred had the entities been combined and operated as a single
entity during the period presented. The consolidation was
accounted for as a reorganization of entities under common
control and common management. The consolidated financial
statements reflect the historical costs of the combined entities.
Operations Hallwood Energy is an upstream
energy company engaging in the acquisition, development,
exploration, production, and sale of hydrocarbons with a primary
focus on natural gas assets. Hallwood Energys results of
operations are and will be largely dependent on a variety of
variable factors, including but not limited to fluctuations in
natural gas prices, success of its exploratory drilling
activities, the ability to transport and sell its natural gas,
regional and national regulatory matters and the ability to
secure, and price of goods and services necessary to develop its
oil and gas leases.
As of December 31, 2007, Hallwood Energys management
has classified its energy investments into three identifiable,
geographical areas:
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Central and Eastern Arkansas primary target is the
Fayetteville Shale formation,
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South Louisiana various projects on and around the
LaPice Salt Dome, and
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West Texas the Barnett Shale and Woodford Shale
formations in the Delaware Basin.
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Hallwood Energy is or intends to be involved in the drilling,
gathering and sale of oil and natural gas in each of these areas.
6
HALLWOOD
ENERGY, L.P. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
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2.
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GOING
CONCERN UNCERTAINTY
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These consolidated financial statements have been prepared on a
going concern basis. At December 31, 2007, the Partnership
was not in compliance with certain covenants of its loan
agreement. Although the lender temporarily waived the covenants
(see Notes 5 and 10), the Partnership does not expect to
maintain compliance with the required ratios per the amended
credit agreement unless additional funds are raised through
issuance of debt and equity instruments.
Currently, the Partnership does not have adequate working
capital to meet its obligations for the next 12 months.
Management of the Partnership plans to seek additional debt and
equity financing in excess of $100,000,000 from current and new
investors to support its working capital needs and adequately
fund current operations for at least the next 12 months.
The consolidated financial statements do not include any
adjustments that might result from the outcome of this
uncertainty.
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3.
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SIGNIFICANT
ACCOUNTING POLICIES
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Use of Estimates The preparation of
consolidated financial statements in conformity with accounting
principles generally accepted in the United States of America
requires management to make estimates and assumptions that
affect the reported amounts of certain assets and liabilities
and disclosure of contingent assets and liabilities at the date
of the consolidated financial statements and the reported
amounts of revenues and expenses during each reporting period.
Management believes its estimates and assumptions will be
reasonable; however, such estimates and assumptions will be
subject to a number of risks and uncertainties, which may cause
actual results to differ materially from the Partnerships
estimates.
Significant estimates underlying these consolidated financial
statements include the estimated quantities of proved oil and
natural gas reserves used to compute depletion of natural gas
properties and the related present value of estimated future net
cash flows there from, estimates of production receivable based
upon expectations for actual deliveries and prices received,
unevaluated properties, the estimated fair value of asset
retirement obligations, and the valuation of the make-whole fee
and warrants associated with the note payable. Proved oil and
natural gas reserves, which are the basis for unit-of-production
depletion and the ceiling test, have numerous inherent
uncertainties. The accuracy of any reserve estimate is a
function of the quality of available data and of engineering and
geological interpretation and judgment. Results of drilling,
testing, and production subsequent to the date of the estimate
may justify revision of such estimate. Accordingly, reserve
estimates are often different from the quantities of oil and
natural gas that are ultimately recovered. In addition, reserve
estimates are vulnerable to changes in wellhead prices of crude
oil and natural gas. Such prices have been volatile in the past
and can be expected to be volatile in the future.
The significant estimates are based on current assumptions that
may be materially affected by changes to future economic
conditions, such as the market prices received for sales of
volumes of oil and natural gas. Future changes to these
assumptions may affect these significant estimates materially in
the near term.
Property and Equipment The Partnership began
oil and gas development activities during 2006 and follows the
full cost method of accounting. Accordingly, all costs
associated with the acquisition, exploration and development of
oil and gas properties, including costs of undeveloped
leasehold, geological and geophysical expenses, dry holes,
leasehold equipment and overhead charges directly related to
acquisition, exploration and development activities are
capitalized. There were $192,000 and $0 of capitalized internal
costs associated with acquisition, exploration and development
activities for the years ended December 31, 2007 and 2006,
respectively.
Dispositions of oil and natural gas properties are accounted for
as adjustments to capitalized costs with no gain or loss
recognized, unless such adjustments and proceeds are significant
and would alter the relationship between capitalized costs and
proved reserves.
7
HALLWOOD
ENERGY, L.P. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
The sum of net capitalized costs, including estimated costs to
develop proved reserves and estimated dismantlement and
abandonment costs, net of estimated salvage values, are depleted
on the equivalent unit-of-production method, based on proved oil
and gas reserves as determined by independent petroleum
engineers. Excluded from amounts subject to depletion are costs
associated with the acquisition and evaluation of unproved
properties. Such unproved properties are assessed for impairment
at least annually, and any impairment provision is transferred
to the full cost amortization base.
Net capitalized costs are limited to the lower of unamortized
cost, net of deferred tax, or the cost center ceiling. The cost
center ceiling is defined as the sum of (i) estimated
future net revenues, discounted at 10% per annum, from proved
reserves, based on unescalated year-end prices and costs,
adjusted for contract provisions; (ii) the cost of
properties not being amortized; (iii) the lower of cost or
market value of unproved properties included in the cost being
amortized; less (iv) income tax effects related to
differences between the book and tax basis of the natural gas
and crude oil properties. The Partnership has only one cost
center.
Property and equipment, such as gathering systems and salt water
disposal facilities, are stated at original cost and depreciated
using the straight-line method based on estimated useful lives
from ten to fifteen years. Property and equipment, such as
office furniture and equipment, are stated at original cost and
depreciated using the straight-line method based on estimated
useful lives from three to five years.
Asset Retirement Obligations In June 2001,
the Financial Accounting Standards Board (FASB) issued FASB
Statement No. 143, Accounting for Asset Retirement
Obligations. FASB Statement No. 143 requires that an
asset retirement obligation (ARO) associated with the retirement
of a tangible long-lived asset be recognized as a liability in
the period in which a legal obligation is incurred and becomes
determinable, with an offsetting increase in the carrying amount
of the associated asset. The costs of the tangible asset,
including the initially recognized ARO, are depleted such that
the cost of the ARO is recognized over the useful life of the
asset. The ARO is recorded at fair value, and accretion expense
is recognized over time as the discounted liability is accreted
to its expected settlement value. The fair value of the ARO is
measured using expected future cash outflows discounted at the
Partnerships credit-adjusted, risk-free interest rate.
In accordance with the provisions of FASB Statement
No. 143, the Partnership records an abandonment liability
associated with its oil and natural gas wells in the period in
which it is incurred.
Inherent in the fair value calculation of ARO are numerous
assumptions and judgments including the ultimate settlement
amounts, inflation factors, credit adjusted discount rates,
timing of settlement, and changes in the legal, regulatory,
environmental, and political environments. To the extent future
revisions to these assumptions impact the fair value of the
existing ARO liability, a corresponding adjustment is made to
the oil and natural gas property balance. Settlements greater
than or less than amounts accrued with the ARO are recovered as
a gain or loss upon settlement.
In March 2005, the FASB issued Interpretation
FIN No. 47, Accounting for Conditional Asset
Retirement Obligations an interpretation of FASB
Statement No. 143. FIN No. 47 requires an
entity to recognize a liability for the fair value of a
conditional asset retirement obligation if the fair value can be
reasonably estimated. FIN No. 47 states that a
conditional asset retirement obligation is a legal obligation to
perform an asset retirement activity in which the timing or
method of settlement are conditional upon a future event that
may or may not be within control of the entity.
FIN No. 47 is effective no later than the end of the
first fiscal year ending after December 15, 2005. The
adoption of FIN No. 47 did not have a material impact
on the Partnerships financial position or results of
operations.
Oil and Natural Gas Reserve Estimates The
process of estimating quantities of proved reserves is
inherently uncertain. Reserve engineering is a subjective
process of estimating underground accumulations of hydrocarbons
that cannot be measured in an exact manner. The process relies
on interpretation of available geologic, geophysical,
engineering, and production data. The extent, quality, and
reliability of this data can vary.
8
HALLWOOD
ENERGY, L.P. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
The process also requires certain economic assumptions, some of
which are mandated, regarding drilling and operating expense,
capital expenditures, taxes, and availability of funds.
Proved reserve estimates prepared by others may be substantially
higher or lower than the Partnerships estimates. Because
these estimates depend on many assumptions, all of which may
differ from actual results, reserve quantities actually
recovered may be significantly different than estimated.
Material revisions to reserve estimates may be made depending on
the results of drilling, testing, and rates of production. One
should not assume that the present value of future net cash
flows is the current market value of the Partnerships
estimated proved reserves.
The Partnerships rate of recording depreciation,
depletion, and amortization expense for proved properties is
dependent on the Partnerships estimate of proved reserves.
If reserve estimates decline, the rate at which the Partnership
records these expenses will increase. The Partnerships
full cost ceiling test will also depend on the
Partnerships estimate of proved reserves. If reserve
estimates decline, the Partnership may be subjected to a full
cost ceiling write-down.
Cash and Cash Equivalents and Supplemental Cash Flow
Information The Partnership considers highly
liquid investments with original maturities of three months or
less at the time of purchase to be cash equivalents. Cash paid
for interest was $20,799,262, $4,962,164, and $0 in 2007, 2006,
and 2005, respectively. Supplemental disclosure of non-cash
investing and financing activities:
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As of December 31, 2007, 2006, and 2005, the Partnership
had an accounts payable for unproved, unevaluated leasehold
costs of $7,024,954, $9,662,449, and $5,154,863, respectively.
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During 2005, partners contributed $3,658,061, at cost, of
tubular inventory to the Partnership.
|
Tubular Inventory Inventory consists of
various sizes and types of oil field tubular pipes and casings,
used in the ordinary course of the Partnerships drilling
activities and is carried on a
first-in
first-out basis at the lower of cost or market. The inventory on
hand at the end of each year is assessed against current market
values for pipe of like size and specification on a price per
foot basis. During the year ended December 31, 2006, the
Partnership sold at book value, excess tubular inventory for
$2,856,920. As such, no gain or loss was recognized. At
December 31, 2007 it was determined that the pipe value
carried on the books was in excess of market. As a result the
inventory value was written down by $1,151,751 and charged to
other operating expenses.
Revenue Recognition Revenues are recognized
when title to the products transfers to the purchaser. The
Partnership follows the sales method of accounting
for its commodity revenue, so that the Partnership recognizes
sales revenue on all commodities sold to its purchasers,
regardless of whether the sales are proportionate to the
Partnerships ownership in the property.
Income Taxes Currently, Hallwood Energy is a
non-taxable entity. Federal and most state income taxes, if any,
are the responsibility of the individual partners. Accordingly,
the consolidated financial statements do not include a provision
for income taxes except for the Texas Margin Tax, effective for
the year ending December 31, 2007, which by statute is
attributable to the Partnership entity as opposed to each
limited partner. Additionally, certain business and franchise
taxes are also the responsibility of Hallwood Energy and its
subsidiaries. These business and franchise taxes, included in
general and administrative expenses, were $5,543, $1,513, and
$24,680 in 2007, 2006, and 2005, respectively. Hallwood
Energys tax returns are subject to examination by federal
and state taxing authorities. If Hallwood Energys taxable
income is ultimately changed by the taxing authorities, the tax
liability of the partners could be changed accordingly.
Disclosure of Fair Value of Financial
Instruments The Partnerships financial
instruments include cash, time deposits, accounts receivable,
accounts payable, note payable, and accrued make-whole fee. The
carrying amounts reflected in the consolidated balance sheets
for financial assets classified as current assets and the
carrying amounts for financial liabilities classified as current
liabilities and the note payable approximate fair value due to
the short maturity of such instruments.
9
HALLWOOD
ENERGY, L.P. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
Derivative Instruments and Hedging Activities
The Partnership has not entered into financial derivative
instruments to hedge the price risk for the sale of its natural
gas although the Partnership may, in the future, enter in to
such financial instruments. The Partnership does not intend to
enter into financial derivatives for trading or speculative
purposes. All freestanding derivative financial instruments,
including the derivative instruments embedded in other contracts
if certain criteria are met, are recognized at fair value on the
consolidated balance sheets. Derivative instruments that are not
recognized as hedges must be adjusted to fair value through the
consolidated statement of operations. Changes in the fair value
of derivative instruments that are designated as cash-flow
hedges are deferred in other comprehensive operations until such
time that the hedged items are recognized in operations. The
ineffective portion of a change in value of a derivative
instrument is recognized in operations immediately.
Since February 2006, Hallwood Energy operated under two credit
facilities, both of which contained make-whole provisions which
are accounted for as embedded derivatives. These embedded
derivatives are recognized at fair value on the consolidated
balance sheet as part of the carrying value of the debt. Changes
in fair value are recognized within interest expense in the
consolidated statement of operations.
Credit Risk Credit risk is the risk of loss
as a result of nonperformance by counterparties of their
contractual obligations. The Partnership monitors its exposure
to counterparties by reviewing credit ratings, financial
statements and credit service reports. Each customer
and/or
counterparty of the Partnership is reviewed as to credit
worthiness prior to the extension of credit and on a regular
basis thereafter. Further assurances including, but not limited
to Letters of Credit are required as necessary. In this manner,
the Partnership manages its credit risk.
New Accounting Pronouncements In July 2006,
the FASB issued FASB Interpretation FIN No. 48,
Accounting for Uncertainty in Income Taxes. FIN
No. 48 clarifies the accounting and reporting for income
taxes recognized in accordance with FASB Statement No. 109,
Accounting for Income Taxes. FIN 48 prescribes a
comprehensive model for the financial statement recognition,
measurement, presentation, and disclosure of uncertain tax
positions taken or expected to be taken in income tax returns.
The Partnership determined that the impact of the adoption of
FIN 48 on January 1, 2007 did not have a material
impact on its financial position or results of operations.
In September 2006, the FASB issued FASB Statement No. 157,
Fair Value Measurements. This Statement defines fair
value as used in numerous accounting pronouncements, establishes
a framework for measuring fair value in generally accepted
accounting principles and expands disclosure related to the use
of fair value measures in financial statements. FASB Statement
157 is effective for financial statements issued for fiscal
years beginning after November 15, 2007. The Partnership
has not yet determined the impact this pronouncement will have
on its financial statements.
On February 15, 2007, the FASB issued FASB Statement
No. 159, The Fair Value Option for Financial Assets and
Financial Liabilities Including an amendment of FASB
Statement No. 115. FASB Statement No. 159 permits
entities to choose to measure many financial instruments and
certain other items at fair value. The FASB believes the
statement will improve financial reporting by providing
companies the opportunity to mitigate volatility in reported
earnings by measuring related assets and liabilities differently
without having to apply complex hedge accounting provisions. Use
of the statement will expand the use of fair value measurements
for accounting for financial instruments. FASB Statement
No. 159 is effective for the Partnership on January 1,
2008. Although the Partnership has not yet elected to present
any financial assets or liabilities at fair value under FASB
Statement No. 159, it may choose to do so in the future.
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4.
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OIL AND
GAS PROPERTIES
|
Classification Oil and gas property is
generally classified into three distinct categories;
unevaluated,
work-in-progress
(WIP), and evaluated. Unevaluated property is predominately
leasehold and associated cost that has not been assessed either
by drilling, seismic, or other evaluation method used to
determine whether there is
10
HALLWOOD
ENERGY, L.P. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
economic value attributable to those properties. As funds are
spent to complete a well or project, the costs are classified
and accumulated in WIP accounts until the asset is either placed
in service or in the case of a well, determined to be productive
or not. At the service or decision date, the cost in the WIP
accounts, along with any associated unevaluated costs are
transferred into evaluated property accounts.
Impairment An annual assessment is performed
on the unevaluated leasehold investment to ensure that there is
no impairment of these assets. Considered in this assessment are
the current acquisitions of similar leasehold within the
geographic area as well as drilling activities performed by
other operators in those areas. Additionally, a review of the
remaining term of the leases is performed to ensure that there
is ample time to evaluate the leasehold prior to expiration. For
the evaluated property, at least annually a ceiling test is
performed to determine if the economic value of the assets
equals or exceeds the cost basis. If the cost exceeds the
economic value, an impairment is recorded in the consolidated
statement of operations for the difference.
At December 31, 2006, the unamortized cost of the
Partnerships oil and gas properties exceeded the full cost
ceiling limitation by $28,408,359. An impairment charge for such
amount was recorded in 2006. There is no tax effect, since the
Partnership is a non-taxable entity.
At December 31, 2007, the unamortized cost of the
Partnerships oil and gas properties exceeded the full cost
ceiling limitation by $223,001,801. A significant portion of the
impairment charge, approximately $111,000,000, related to early
lease surrenders and leasehold write-downs in Arkansas related
to low or non-prospective oil and gas leases. There is no tax
effect as the Partnership is a non-taxable entity.
Gain from Sale of Undeveloped Leaseholds In
July 2005, HE II completed a
purchase-and-sale
agreement with Chesapeake Energy Corporation
(Chesapeake) that included undeveloped leaseholds in
Johnson County, Texas, for $3,000,000. The sale was
consideration in exchange for 66 individual leases covering
863 gross (835 net) acres with a cost basis of $249,000,
yielding a gain on sale of $2,751,090. This gain has been
included in other income (expense) as the Partnership had no
development operations at the time of sale and, therefore, the
properties were unevaluated.
In July 2006, the Partnership completed the sale of a 60%
undivided working interest in 37 oil and gas leases
(43,285 net acres) in Reeves and Culberson Counties in West
Texas and a 100% ownership in seven leases (1,203 net
acres) in Parker, Hood, and Tarrant Counties in North Texas to
Chesapeake. Chesapeake assumed operation of these properties.
The sales price of $39,652,715, including reimbursement of
certain development and drilling costs, exceeded the
proportionate book value of the assets by $10,160,030. No gain
was recognized as required by the Partnerships accounting
policies set forth in Note 3, and accordingly, the excess
amount was credited to oil and gas property.
There were no property sales of either proved or unproven assets
in 2007.
Participation Agreement During the first
quarter of 2006, the Partnership entered into a participation
agreement (the Participation Agreement) with Activa
Resources, Ltd (Activa). Under the Participation
Agreement, Activa paid $4,960,000 to the Partnership in April
2006, and the Partnership transferred to Activa an undivided 25%
interest in oil and gas leases with respect to 44,219 net
acres that the Partnership currently holds in East Arkansas. No
gain was recognized as required by the Partnerships
accounting policies set forth in Note 3 and, accordingly,
the amount was credited to oil and gas property. During the term
of the Participation Agreement, the Partnership is designated as
operator of the leases. As operator, the Partnership was
required to commence actual drilling operations before June 2006
for the first of two initial wells. The Partnership commenced
this drilling. Activa agreed to participate to the extent of its
participation interest in the two initial wells and paid 50% of
the first $750,000 incurred for costs associated with the
drilling, completion, and equipping operations in connection
with each of the initial wells.
In addition, the Participation Agreement establishes an area of
mutual interest (the AMI) potentially covering an
area of approximately 184,000 gross acres, which area
includes the 44,219 acres. Pursuant to the AMI,
11
HALLWOOD
ENERGY, L.P. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
the Partnership will have the right to an undivided 75%
participation interest, and Activa will have the right to an
undivided 25% participation interest in any additional leases
acquired by either of the parties within the AMI. If either
party acquires any additional leases covering lands within the
AMI, it must offer the other party the right to acquire its
participation interest in the leases acquired. The agreement, in
its entirety, expired in December 2007.
No leases were transferred or acquired by Activa under this
agreement during 2007.
Unevaluated Natural Gas and Crude Oil Properties Not Subject
to Amortization Under full cost accounting, the
Partnership may exclude certain unevaluated and
work-in-progress
costs from the amortization base pending the determination of
whether proved reserves have been discovered or impairment has
occurred.
Costs are transferred into the amortization base on an ongoing
basis, as the projects are evaluated and proved reserves are
established or impairment is determined. Pending determination
of proved reserves attributable to the above costs, the
Partnership cannot assess the future impact on the amortization
rate. As of December 31, 2007, unevaluated and
work-in-progress
costs are $75,850,964. These costs will be transferred into the
amortization base as the undeveloped properties and areas are
evaluated. The Partnership anticipates that the majority of this
activity should be completed during the next two years.
Depletion per thousands of cubic feet of natural gas equivalent
(Mcfe) was $19.52, $3.18, and $0, for the years
ended December 31, 2007, 2006, and 2005, respectively.
In February 2006, the Partnership entered into a $65,000,000
loan facility and immediately drew $40,000,000 from this
facility. The proceeds were primarily used to acquire oil and
gas leases and fund exploration and drilling activities. The
loan was secured by the Partnerships oil and gas leases,
matured on January 31, 2009, and had an interest rate of
London Interbank Offer Rate (LIBOR) plus 8.75% per annum (14.12%
as of December 31, 2006). An additional 2% of interest was
added upon continuance of any defaulting event.
The loan facility contained various financial covenants,
including maximum general and administrative expenditures and
current and proved collateral coverage ratios. Non-financial
covenants restricted the ability of the Partnership to dispose
of assets; incur additional indebtedness; prepay other
indebtedness or amend certain debt instruments; pay dividends;
create liens on assets; enter into sale and leaseback
transactions; make investments, loans, or advances; make
acquisitions; engage in mergers or consolidations or engage in
certain transactions with affiliates; and otherwise restrict
certain partnership activities.
During 2006, the loan facility was amended twice. First, it was
amended to allow for the sale of undeveloped leaseholds to
Chesapeake in July 2006 (see Note 4). Second, it was
amended in December 2006 to address and cure several technical
loan defaults because of, among other things, the
Partnerships general and administrative expenses exceeding
the maximum amount permitted under the loan facility and to
extend the test dates for proved collateral coverage ratios and
the make-whole payment period.
Subsequent to December 31, 2006, the Partnership was not in
compliance with the proved collateral coverage ratio. The
Partnership repaid the loan facility in April 2007 with proceeds
borrowed from the senior secured credit facility (the
Senior Credit Facility) discussed below.
There was a make-whole provision in the facility whereby the
Partnership was required to pay the lender the present value
amount of interest that would have been payable on the principal
balance of the loan from the date of any prepayment through
February 8, 2009. At the time of the initial drawing in
February 2006, the make-whole fee was recorded at its estimated
fair value of $1,403,000, and the note payable was discounted by
that amount. Amortization of the discount was $422,000 during
2006 and was charged to interest expense. The note payable is
presented on the December 31, 2006 consolidated balance
sheet net of the unamortized discount of $981,000. At
December 31, 2006, the make-whole fee had been recorded at
its estimated fair value of $3,086,000, which is
12
HALLWOOD
ENERGY, L.P. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
included in the note payable balance. The change in the fair
value of the make-whole fee of $1,683,000 during 2006 has been
recorded in interest expense.
In April 2007, Hallwood Energy entered into a $100,000,000
Senior Credit Facility with an affiliate of one of the investors
(New Lender) and drew $65,000,000 from the Senior
Credit Facility. The proceeds were used to repay the $40,000,000
drawn under the former loan facility, pay approximately
$9,800,000 for a make-whole fee and incremental interest of
approximately $500,000 to the original lender related to the
$40,000,000 note payable, and transaction fees of approximately
$200,000.
During the remainder of 2007 third quarter, Hallwood Energy drew
the additional $35,000,000 available under the Senior Credit
Facility.
Borrowings under the Senior Credit Facility are secured by
Hallwood Energys oil and gas leases, mature on
February 1, 2010, and bear interest at a rate of the
defined LIBOR rate plus 10.75% per annum. An additional 2% of
interest is added upon continuance of any defaulting event. The
New Lender may demand that Hallwood Energy prepay the
outstanding loans in the event of a defined change of control,
qualified sale or event of default, including a material adverse
event. Hallwood Energy has also entered into a deposit control
agreement. In conjunction with executing the Senior Credit
Facility, the representatives of the New Lender resigned its
position on the board of directors and assigned its interest in
the general partner to the remaining members.
The Senior Credit Facility contains various financial covenants,
including maximum general and administrative expenditures and
current and proved collateral coverage ratios. The proved
collateral coverage ratio covenant is effective June 30,
2008. Non-financial covenants restrict the ability of the
Partnership to dispose of assets, incur additional indebtedness,
prepay other indebtedness or amend certain debt instruments, pay
dividends, create liens on assets, enter into sale and leaseback
transactions, make investments, loans or advances, make
acquisitions, engage in mergers or consolidations or engage in
certain transactions with affiliates, and otherwise restrict
certain activities by the Partnership.
The Partnership was not in compliance with the Senior Credit
Facility as of December 31, 2007, in regards to meeting the
current asset ratio test of 1:1. The New Lender waived this
default and amended the loan agreement accordingly (see
Note 10). Borrowings under the Senior Credit Facility have
been classified as a component of current liabilities as of
December 31, 2007, as the Partnership does not expect to
maintain compliance with the required current and proved
collateral coverage ratios during the year ending
December 31, 2008, unless additional funds are raised
through issuance of debt and equity instruments.
The Senior Credit Facility contains a make-whole provision
whereby the Partnership is required to pay the New Lender the
amount by which the present value of interest and principal from
the date of prepayment through January 31, 2009, exceeds
the principal amount on the prepayment date. At the time of the
initial drawing of the Senior Credit Facility, the make-whole
fee was recorded at its estimated fair value of $2,393,035, and
the note payable was discounted by that amount. Amortization of
the discount was $580,130 during 2007 and was charged to
interest expense. The note payable is presented on the
December 31, 2007, consolidated balance sheet net of the
unamortized discount of $1,812,905. At December 31, 2007,
the make-whole fee had been recorded at its estimated fair value
of $11,736,282. The change in the fair value of the make-whole
fee of $9,342,968 during 2007 has been recorded in interest
expense.
The New Lender also received warrants exercisable for 2.5% of
Class A partnership interests at December 31, 2006,
for an exercise price of $6,058,000. The exercise period is ten
years. The fair value of these warrants was estimated to be
$8,500,000 at the time the Senior Credit Facility was entered
into. This was recorded as an additional discount to the Senior
Credit Facility and included as a component of the Class A
interests in Partners Capital (Deficiency) at
December 31, 2007. Amortization of the discount was
$566,667 during 2007 and was charged to interest expense. The
unamortized discount related to the warrants was $7,933,333 at
December 31,
13
HALLWOOD
ENERGY, L.P. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
2007. The fair value of the warrants was estimated on the date
the Senior Credit Facility was entered using the Black-Scholes
option pricing model with the following weighted average
assumptions:
|
|
|
|
|
|
|
April 19, 2007
|
|
|
Estimated Fair Value of warrants
|
|
$
|
10,199,172
|
|
Exercise price
|
|
$
|
6,058,000
|
|
Term (years)
|
|
|
10
|
|
Wtd avg volatility
|
|
|
66.50
|
%
|
Wtd avg risk-free interest rate
|
|
|
4.81
|
%
|
Expected dividends
|
|
$
|
|
|
In October 2007, three partners executed a commitment agreement
by which the partners would fund an additional $15,000,000 by
November 1, 2007. One of the partners, Hallwood Investments
Limited (HIL), funded $7,500,000 under this agreement, executing
a promissory note bearing 16% per annum. Two of the partners did
not fund under this agreement which constituted a default
condition under the Senior Credit Facility, as stipulated in the
commitment agreement. This default condition was subsequently
waived (see Note 10). On January 2, 2008, as per the
commitment agreement, principal of $7,500,000 and accrued
interest of $151,233 were converted into Class C
partnership interest by HIL.
|
|
6.
|
PARTNERS
CAPITAL (DEFICIENCY)
|
The general partner holds a 0.01% partnership interest in the
Partnership and has contributed $27,909 and $20,217 at December
2007 and 2006, respectively. The partnership interests of the
limited partners are in the aggregate 99.99%.
There are currently three classes of limited partnership
interests held in the Partnership:
|
|
|
|
|
Class C interests bear a 16% priority return which
compounds monthly. The priority return will be accrued and
become payable when, as and if declared by the general partner
of Hallwood Energy. Hallwood Energy does not anticipate paying
any distributions in the foreseeable future. All Partnership
distributions of defined available cash and defined net proceeds
from any sales or other disposition of all or substantially all
of the then remaining assets of the Partnership which is entered
into in connection with, or which will result in, the
liquidation of the Partnership (terminating capital
transaction) must first be used to reduce any unpaid
Class C priority return and capital contributions to zero.
Unpaid Class C priority return and capital contributions
can be converted into Class A interests based on the ratio
of Class C contributions to the sum of Class A
contributions and the Class C limited partners
Class C partnership interest designated by the Class C
limited partner to be converted into Class A partnership
interest (Class C conversion amount). The
Class C capital contributions and unpaid priority return
totaled $76,922,080 and $5,706,128, respectively, at
December 31, 2007.
|
|
|
|
Class A interests have certain voting rights and with the
general partner would receive 100% of the distributions of
available cash and net proceeds from terminating capital
transactions subsequent to the payment of all unpaid
Class C priority return and of all Class C capital
contributions until the unrecovered capital accounts of each
Class A partner interest is reduced to zero, and thereafter
share in all future distributions of available cash and net
proceeds from terminating capital contributions with the holders
of the Class B interests.
|
|
|
|
Class B interests represent vested net profit interests
awarded to key individuals by the Partnership. At
December 31, 2007 and 2006, outstanding Class B
interests had rights to receive 18.6% and 18.8%, respectively,
of distributions of defined available cash and net proceeds from
terminating capital transactions after the unpaid Class C
priority return and capital contributions and the unreturned
Class A and general partner capital contributions have been
reduced to zero.
|
14
HALLWOOD
ENERGY, L.P. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
The originally assigned $8,500,000 value of the Senior Credit
Facility warrants exercisable for 2.5% of the partnership
interests as of December 31, 2006 is included as a
component of the Class A interests in Partners
Capital (Deficiency) at December 31, 2007.
In December 2005, Hallwood Energy solicited a Class A
equity cash call totaling $90M from its partners to fund the
2006 capital drilling program, of which $9,197,607 remained
uncollected as of December 31, 2005. The remaining funds
were received in January 2006 and partners capital
increased accordingly.
In April 2006, Hallwood Energy sold a 5% Class A partner
interest to an affiliate of its lender at that time for
$10,865,343. In December 2006, Hallwood Energy solicited and
collected a Class A equity cash call totaling $25,000,000
from its partners to replenish cash and to fund the 2007 capital
drilling program.
In April, July, and September of 2007, Hallwood Energy solicited
and collected Class C equity cash calls of $25,000,000,
$20,000,000, and $15,000,000, respectively. These three equity
cash calls totaling $60,000,000 were used to replenish cash and
to fund the 2007 capital drilling program.
In November 2007, Hallwood Energy issued $15,000,000 of
Class C partnership interest to a new equity partner whom
was subsequently elected to the general partners Board of
Directors.
In December 2007, Hallwood Energy solicited and collected a
Class C equity cash call of $1,924,000 from its partners to
replenish cash.
|
|
7.
|
COMMITMENTS
AND CONTINGENCIES
|
Litigation In early 2006, Hallwood Energy and
HPL entered into two two-year contracts with Eagle Drilling, LLC
(Eagle Drilling), under which the contractor was to
provide drilling rigs and crews to drill wells in Arkansas at a
daily rate of $18,500, plus certain expenses for each rig (the
Contracts). These Contracts were subsequently
assigned by Eagle Drilling, LLC to Eagle Domestic Drilling
Operations, LLC (Eagle Domestic), on or about
August 24, 2006. Before that, on or about August 14,
2006, one of the masts on the rigs provided under the Contracts
collapsed. Hallwood Energy and HPL requested the contractor to
provide assurances that the mast on the other rig, and any mast
provided to replace the collapsed mast, were safe and met the
requirements of the Contracts. When the contractor refused to
provide assurances, Hallwood Energy and HPL notified the
contractor that the Contracts were terminated and on
September 6, 2006, filed Hallwood Petroleum, LLC and
Hallwood Energy, L.P. v. Eagle Drilling, LLC and Eagle
Domestic Drilling Operations, LLC, in the
348th District Court of Tarrant County, Texas to recover
approximately $1,688,000 previously deposited with the
contractor under the Contracts. Since then, Eagle Domestic and
its parent filed for Chapter 11 bankruptcy protection in
Case No.
07-30426-H4-11,
Jointly Administered Under Case
No. 07-30424-H4-11,
in the United States District Court for the Southern District of
Texas. After the filing of its bankruptcy case, Eagle Domestic
filed an adversary action on June 11, 2007, against
Hallwood Energy and Hallwood Petroleum in the bankruptcy
proceeding to recover unspecified damages, but purportedly in
excess of $50,000,000 (the Eagle Domestic Adversary)
based on disclosures made during the discovery phase of the
case. Eagle Domestic contends that Hallwood breached the
Contracts, tortuously interfered with Eagle Domestics
contracts with Quicksilver Resources and disparaged Eagle
Domestic. Hallwood Energy subsequently filed its answer and
counterclaim in the Eagle Domestic Adversary asserting that
Hallwood Energy owes nothing to Eagle Domestic, and that Eagle
Domestic owes Hallwood approximately $1,688,000 in unearned
pre-payment under the Contracts. A jury trial in the Eagle
Domestic Adversary is currently set for April 2008. In October
2006, Eagle Drilling filed a related lawsuit against Hallwood
Energy and HPL in Oklahoma state court (the Eagle Drilling
Action) alleging damages of over $1,000,000 in connection
with unpaid invoices, unpaid downtime and other damages caused
as a result of the mast collapsing. In June 2007, the petition
in the Eagle Drilling Action was amended to include various
additional claims for breach of contract, negligence, tortuous
breach of contract and for declaratory relief against Hallwood
Energy and HPL. On September 20, 2007, Eagle Drilling filed
for Chapter 11 bankruptcy protection in the United States
Bankruptcy Court for the Western District of Oklahoma. On
October 12, 2007, Hallwood Energy filed its Notice of
Removal of the Cleveland County Action in
15
HALLWOOD
ENERGY, L.P. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
Oklahoma Bankruptcy Court, which initiated Adversary Proceeding
No. 07-01209
(the Energy Drilling Adversary) and automatically
removed the Eagle Drilling Action to the Oklahoma Bankruptcy
Court. Hallwood Energy has brought a claim against Eagle
Drilling for return of the approximately $1,688,000 in unearned
pre-payment from Eagle Drilling. On November 11, 2007,
Eagle Drilling filed its Motion to Remand the Eagle Drilling
Adversary back to Oklahoma state court, or in the alternative to
abstain from hearing the claims asserted therein. On
October 31, 2007, Hallwood filed its Proof of Claim in the
Eagle Drilling Chapter 11 Bankruptcy again asserting its
approximate $1,688,000 claim. On December 6, 2007, Hallwood
filed its Notice of Removal of the Tarrant County Action and its
Motion to Transfer Venue of the Tarrant County Action, both in
the United States Bankruptcy Court for the Northern District of
Texas, Forth Worth Division, which granted the relief requested
in the Motion to Transfer, resulting in the initiation of
Adversary Proceeding
No. 08-01007
(the Hallwood Adversary) on or about
January 18, 2008 in the Oklahoma Bankruptcy Court.
On February 19, 2008, the Court held a status conference as
to the Eagle Drilling Adversary and the Hallwood Adversary, at
which the Debtor and Hallwood agreed, among other things, that
both adversary proceedings would be consolidated under one
adversary proceeding (the Consolidated Adversary),
which would be adjudicated in the context of a jury trial to be
conducted by this Court to commence in September 2008. On or
about February 21, 2008, the Court approved the
parties stipulated Order reflecting the agreements reached
at the status conference. No scheduling order has yet been
entered by the Oklahoma Bankruptcy Court in the Consolidated
Adversary. Further, although Eagle Drillings counsel has
stated that it anticipates attempting to amend its pleadings in
the Consolidated Adversary to change or add claims against
Hallwood, to date no such amended pleadings have been filed or
served on Hallwood. Hallwood Energy and HPL are currently unable
to determine the impact that this litigation may have on its
results of operations or its financial position.
In Roddy Harrison as Trustee for the Harrison Trust v.
Hallwood Energy, L.P., the plaintiffs alleged a breach of
contract related to purchase of caliche and water on their
property for $300,000. This property is currently operated by
Chesapeake who acquired 60% of this property and had the
responsibility to litigate or resolve this claim. Hallwood
Energys exposure was capped at $300,000 under the terms of
the Purchase and Sale Agreement with Hallwood Energy in July
2006. Hallwood Energy paid $125,000 in August 2007 to settle
this issue. No other claims are outstanding related to this
issue.
The Partnership is subject to various possible contingencies
that arise primarily from interpretation of federal and state
laws and regulations affecting the natural gas and crude oil
industry. Such contingencies include differing interpretations
as to the prices at which natural gas and crude oil sales may be
made and the prices at which royalty owners may be paid for
production from their leases, environmental issues, and other
matters. Although management believes it has complied with the
various laws and regulations, administrative rulings, and
interpretations thereof, adjustments could be required as new
interpretations and regulations are issued. In addition,
production rates, marketing, and environmental matters are
subject to regulation by various federal and state agencies.
Sales Agreement On May 1, 2006, the
Partnership entered into a gas purchase and sales contract
whereby the Partnership is to sell its natural gas production in
certain counties and parishes of Arkansas, Texas, and Louisiana,
respectively, to a third party reseller with the purchase price
based on a percentage of the buyers resale price.
Quantities will depend upon the amount of gas which is both
received by a gathering or pipeline company and purchased by the
buyers resale market. The term of the contract is five
years and will automatically renew and extend annually until
such annual extensions are cancelled by either party. There is a
buyout provision with a minimum exercise price of $100,000 at
the option of the Partnership. The first production sold under
this agreement was in July 2007 and all of Hallwood
Energys 2007 production was sold under this agreement.
16
HALLWOOD
ENERGY, L.P. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
Contractual Obligations and Commercial
Commitments The Partnership has entered into
various contractual obligations and commercial commitments in
the ordinary course of conducting its business operations, which
are provided below as of December 31, 2007:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Payments Due During the
|
|
|
|
|
|
|
|
|
|
Years Ending December 31,
|
|
|
|
|
|
|
|
Contractual Obligations
|
|
2008
|
|
|
2009
|
|
|
2010
|
|
|
Thereafter
|
|
|
Total
|
|
|
Long term debt
|
|
$
|
|
|
|
$
|
|
|
|
$
|
100,000,000
|
|
|
$
|
|
|
|
$
|
100,000,000
|
|
Interest
|
|
|
18,348,000
|
|
|
|
18,688,000
|
|
|
|
2,038,000
|
|
|
|
|
|
|
|
39,074,000
|
|
Long term rig contracts
|
|
|
28,691,000
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
28,691,000
|
|
Operating leases
|
|
|
56,300
|
|
|
|
38,800
|
|
|
|
|
|
|
|
|
|
|
|
95,100
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
47,095,300
|
|
|
$
|
18,726,800
|
|
|
$
|
102,038,000
|
|
|
$
|
|
|
|
$
|
167,860,100
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The long term debt and interest obligations are attributable to
the Partnerships loan facility (see Note 5). The rig
contracts consist of two rigs from Union Drilling for the
Arkansas area and one Grey Wolf rig operating in South
Louisiana. The day rates range from $19,200 per day to $25,700
per day. Rig contract payments were approximately $24,441,255,
$17,950,000, and $1,062,000 for the years ended
December 31, 2007, 2006, and 2005 respectively. The
Partnership has operating leases that cover real property and
certain office equipment that expire at various dates through
2009 and, in some cases, have options to extend their terms.
Rent expense was approximately $187,785, $209,000, and $41,900
for the years ended December 31, 2007, 2006, and 2005,
respectively.
|
|
8.
|
RELATED-PARTY
TRANSACTIONS
|
The general partner is Hallwood Energy Management, LLC (HEM).
HEM is owned equally by two entities: The Hallwood Group
Incorporated (HWG) and Stratford Group 1, Ltd.
HWG is a Delaware corporation formed in September 1981 and is
publicly traded on the American Stock Exchange under the ticker
symbol HWG. HWG is a holding company that operates in the
textile products and energy business segments.
Two directors and officers of HEM are also directors or officers
of HWG, which holds approximately 23% (18% after consideration
of profit interests) of the total Class A and Class C
Limited Partnership Interests in the Partnership and as
previously mentioned 50% interest in the general partner. In
addition, certain officers and directors of HWG are investors in
the Partnership and, as members of management of the
Partnership, hold a Class B Limited Partnership profit
interest in the Partnership. Each of these individuals held
similar positions with the general partners of the predecessor
entities and interests in the predecessor entities.
Beginning August 1, 2005, Hallwood Energy and its
predecessor entities share leased office space, facilities, and
certain staff with HWG in Dallas, Texas. Hallwood Energy
reimburses HWG for its allocable share of such expenses.
Hallwood Energy reimbursed HWG approximately $261,000, $309,000,
and $59,000 for such expenses for 2007, 2006, and 2005,
respectively.
In 2005, HPL, a wholly-owned subsidiary of Hallwood Energy,
entered into a financial consulting contract with Anthony J.
Gumbiner, to furnish and perform consulting and advisory
services to the Partnership and its subsidiaries, including
strategic planning and merger activities, for annual
compensation of $200,000. Mr. Gumbiner is chairman and
chief executive officer of both HWG and Hallwood Energy and
chairman and managing director of HIL, as well as a Class B
limited partner of Hallwood Energy. The annual amount is payable
in quarterly installments. The contract automatically renews for
one-year periods, if not terminated by the parties beforehand.
17
HALLWOOD
ENERGY, L.P. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
As of December 31, 2005, the Partnership held approximately
$1,966,000 of funds from certain limited partners, of which
$1,900,000 was applied to the December 2006 equity cash call.
The remaining $66,000 has been retained to resolve a claim filed
against HPL while operating HE II properties in 2005.
On May 18, 2006, the Texas Governor signed into law a Texas
margin tax which restructures the state business tax by
replacing capital and earned surplus components of the current
franchise tax with a new taxable margin component.
The Partnership considered the impact of this tax law and
determined that a deferred tax liability of $272,932 should be
recorded on the consolidated balance sheet and consolidated
statement of operations.
On January 2, 2008, the outstanding $7,500,000 HIL advance
and accrued interest was converted into Class C partnership
interests, consistent with the terms of the October 2007
commitment agreement (see Note 5).
Effective January 2008, the Partnership entered into a
$30,000,000 convertible subordinated note agreement (the
Convertible Note). The Convertible Note bears
interest which accrues at an annual rate of 16%, which is
payable on a quarterly basis after the completion of a defined
equity offering and subject to the prior full payment of
borrowings and accrued interest under the Senior Credit Facility
and Junior Credit Facility. The Convertible Note and accrued
interest may be converted into Class C interests on a
dollar for dollar basis. If no Class C interests are
outstanding, the Convertible Note may be converted into
Class A interests or such comparable securities as may be
outstanding at the same exchange ratio as the original
Class C interests. Principal and unpaid interest are due on
the earlier of January 21, 2011, or upon a defined change
of control. A change of control redemption may also result in a
make-whole provision whereby the Partnership would pay a premium
based on the difference between either $48,300,000 or
$45,500,000 and the sum of previously made Convertible Note
principal and accrued interest payments. As of March 24,
2008, $28,800,000 of the convertible subordinated notes had been
subscribed for and issued.
The Convertible Note lenders also received a warrant exercisable
at up to $3,750,000 for an equal dollar amount of Class C
Partnership interests, or such comparable securities as are
outstanding at the time of exercise at the same exchange ratio
as the original Class C interests. The warrant is
exercisable until January 21, 2011.
In January 2008, Hallwood Energy entered into a $15,000,000
junior secured credit facility (the Junior Credit
Facility) with the Senior Credit Facilitys New
Lender and drew the full $15,000,000 available. The proceeds
were used to fund working capital requirements and future
operational activities. Borrowings under the Senior Credit
Facility (see Note 5) and the Junior Credit Facility
are both secured by Hallwood Energys oil and gas leases,
mature on February 1, 2010, and bear interest at a rate of
the defined LIBOR rate plus 10.75% per annum through
April 30, 2008, thereafter increases to 12.75% per annum
until loan maturity or prepayment. An additional 2% of interest
is added upon continuance of any defaulting event. The New
Lender may demand that Hallwood Energy prepay the outstanding
loans in the event of a defined change of control, qualified
sale or event of default, including a material adverse event.
Hallwood Energy remains bound to a deposit control agreement
initiated with the Senior Credit Facility.
The Junior Credit Facility contains various financial covenants,
materially consistent with the Senior Credit Facility, including
maximum general and administrative expenditures and current and
proved collateral coverage ratios. The proved collateral
coverage ratio covenant is effective June 30, 2008.
Non-financial covenants restrict the ability of Hallwood Energy
to dispose of assets, incur additional indebtedness, prepay
other indebtedness or amend certain debt instruments, pay
dividends, create liens on assets, enter into sale and leaseback
transactions, make investments, loans or advances, make
acquisitions, engage in mergers or consolidations or engage in
certain transactions with affiliates, and otherwise restrict
certain Partnership activities.
18
HALLWOOD
ENERGY, L.P. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
The Junior Credit Facility contains a make-whole provision
whereby the Partnership is required to pay the New Lender the
amount by which the present value of interest and principal from
the date of prepayment through January 31, 2009, exceeds
the principal amount on the prepayment date. In connection with
the Junior Credit Facility, the Senior Credit Facility was
amended to bear and interest at the defined LIBOR rate plus
12.75% per annum beginning May 1, 2008.
Hallwood Energy did not meet the current ratio covenant and was
in default of the Senior Credit Facility as of December 31,
2007. A second default event related to a commitment agreement
by three partners to fund $15,000,000 by November 1, 2007,
that was only partially funded. Hallwood Energy received a
waiver from the New Lender for both of these default events in
January 2008.
Senior Credit Facility borrowings have been included in current
liabilities on the Partnerships balance sheet at
December 31, 2007, as the Partnership does not expect to
maintain compliance with the required current and proved
collateral coverage ratios during the year ended
December 31, 2008, unless additional funds are raised
through issuance of debt and equity instruments.
Hallwood Energy is in the process of seeking additional capital
from external sources.
|
|
11.
|
SUPPLEMENTAL
INFORMATION (UNAUDITED)
|
Capitalized costs relating to oil and gas producing activities
at December 31, 2007 and 2006 were as follows:
|
|
|
|
|
|
|
|
|
|
|
2007
|
|
|
2006
|
|
|
Unevaluated properties
|
|
$
|
51,649,487
|
|
|
$
|
150,289,300
|
|
Work-in-progress
|
|
|
24,201,477
|
|
|
|
29,179,694
|
|
Evaluated properties
|
|
|
283,429,304
|
|
|
|
28,285,497
|
|
Equipment and facilities
|
|
|
13,513,613
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
372,793,881
|
|
|
|
207,754,491
|
|
Less accumulated depreciation, amortization, and impairment
|
|
|
(265,977,997
|
)
|
|
|
(28,408,359
|
)
|
Total
|
|
$
|
106,815,884
|
|
|
$
|
179,346,132
|
|
|
|
|
|
|
|
|
|
|
Costs incurred in connection with the acquisition, exploration,
and development of the Partnerships natural gas properties
for the years ended December 31, 2007, 2006, and 2005, were
as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
Acquisition of properties
|
|
$
|
2,409,455
|
|
|
$
|
111,244,664
|
|
|
$
|
50,349,956
|
|
Exploration costs
|
|
|
50,936,029
|
|
|
|
64,690,902
|
|
|
|
6,101,177
|
|
Development costs
|
|
|
110,999,589
|
|
|
|
7,660,992
|
|
|
|
1,255,934
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$
|
164,345,073
|
|
|
$
|
183,596,558
|
|
|
$
|
57,707,067
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
19
HALLWOOD
ENERGY, L.P. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Continued)
Results of operations from producing activities for the years
ended December 31, 2007, 2006, and 2005, were as follows:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2007
|
|
|
2006
|
|
|
2005
|
|
|
Natural gas revenues
|
|
$
|
4,215,872
|
|
|
$
|
774,046
|
|
|
$
|
|
|
Oil revenues
|
|
|
118,364
|
|
|
|
|
|
|
|
|
|
Gathering revenues
|
|
|
426,782
|
|
|
|
|
|
|
|
|
|
Natural gas production expense
|
|
|
434,703
|
|
|
|
497,785
|
|
|
|
|
|
Depletion expense
|
|
|
14,232,523
|
|
|
|
312,108
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Results from producing activities
|
|
$
|
(9,906,208
|
)
|
|
$
|
(35,847
|
)
|
|
$
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Average sales price of natural gas, per thousand cubic feet
|
|
$
|
5.79
|
|
|
$
|
7.03
|
|
|
$
|
|
|
Proven reserves were established during 2007 and the principal
sources of change in the standardized measure of discounted
future net cash flows are as follows:
|
|
|
|
|
|
|
2007
|
|
|
Standardized measure 1/1/2007
|
|
$
|
|
|
Sales of oil and gas produced
|
|
|
(4,334,236
|
)
|
Net changes in prices and production costs
|
|
|
|
|
Extensions and discoveries
|
|
|
21,924,536
|
|
Changes in future development costs
|
|
|
|
|
Development costs during the period
|
|
|
|
|
Revisions of previous quantity estimates
|
|
|
|
|
Purchase of reserves in place
|
|
|
|
|
Sale of reserves in place
|
|
|
|
|
Accretion of discount
|
|
|
|
|
Geological and geophysical
|
|
|
|
|
|
|
|
|
|
Standardized measure 12/31/2007
|
|
$
|
17,590,300
|
|
|
|
|
|
|
Presented below is a summary of changes in estimated reserves of
Hallwood Energy for the year ended December 31, 2007:
|
|
|
|
|
|
|
|
|
|
|
Gas
|
|
|
Oil
|
|
|
|
MCF
|
|
|
MBO
|
|
|
Proved Reserves January 1, 2007
|
|
|
|
|
|
|
|
|
Extensions, discoveries
|
|
|
7,096,450
|
|
|
|
1.46
|
|
Revisions
|
|
|
|
|
|
|
|
|
Production
|
|
|
(727,880
|
)
|
|
|
(1.46
|
)
|
Sales of reserves
|
|
|
|
|
|
|
|
|
Purchase of reserves
|
|
|
|
|
|
|
|
|
Proved Reserves December 31, 2007
|
|
|
6,368,570
|
|
|
|
|
|
Proved developed reserves January 1, 2007
|
|
|
|
|
|
|
|
|
Proved developed reserves December 31, 2007
|
|
|
5,561,570
|
|
|
|
|
|
* * * * * *
20
THE
HALLWOOD GROUP INCORPORATED AND SUBSIDIARIES
INDEX TO
EXHIBITS
|
|
|
|
|
Exhibit
|
|
|
Number
|
|
Description
|
|
|
|
|
|
|
|
3
|
.4
|
|
Amendment to the Amended and Restated Bylaws of the Company,
dated November 14, 2007, to permit the Companys
shares of stock to be uncertificated
|
|
|
|
|
|
|
10
|
.20
|
|
Third Amendment to Second Amended and Restated Revolving Credit
Loan and Security Agreement, dated as of December 12, 2007,
by and among Key Bank National Association, Brookwood Companies
Incorporated and certain Subsidiaries
|
|
|
|
|
|
|
10
|
.23
|
|
Third Amendment to Limited Partnership Agreement of Hallwood
Energy, L.P., dated as of May 24, 2007
|
|
|
|
|
|
|
21
|
|
|
Active subsidiaries of the Registrant as of February 29,
2008
|
|
|
|
|
|
|
23
|
.1
|
|
Independent Registered Public Accounting Firms Consent,
dated March 31, 2008
|
|
|
|
|
|
|
31
|
.1
|
|
Certification of the Chief Executive Officer, pursuant to
Section 302 of Sarbanes-Oxley Act of 2002
|
|
|
|
|
|
|
31
|
.2
|
|
Certification of the Chief Financial Officer, pursuant to
Section 302 of Sarbanes-Oxley Act of 2002
|
|
|
|
|
|
|
32
|
.1
|
|
Certification of the Chief Executive Officer and Chief Financial
Officer pursuant to Section 906 of the Sarbanes-Oxley Act
of 2002
|