SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-KSB/A AMENDMENT NO. 1 [x] Annual Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 [No Fee Required] for the fiscal year ended December 31, 2003. [ ] Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 [No Fee Required] Commission file number: 33-61888-FW Commission file number: 033-61888-FW COMPRESSCO, INC. (Name of small business issuer in its charter) DELAWARE 72-1235449 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 1313 SE 25th Street, OKLAHOMA CITY, OKLAHOMA 73129 (Address of principal executive offices) (Zip Code) Issuer's telephone number: (405) 677-0221 Securities registered pursuant to Section 12(b) of the Act: NONE Securities registered pursuant to Section 12(g) of the Act: NONE 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 / X / NO / / Check if there is no disclosure of delinquent filers in response to Item 405 of Regulation S-B not contained in this form, and no disclosure will be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-KSB or any amendment to this Form 10-KSB. [ X ] State issuer's revenues for its most recent fiscal year: $22,755,688 The aggregate market value of the voting stock held by non-affiliates of the registrant as of February 29, 2004 was $16,700,875 The number of shares outstanding of the issuer's classes of Common Stock as of February 29, 2004: Common Stock, $1.00 Par Value - 153,235 shares DOCUMENTS INCORPORATED BY REFERENCE: NONE 1 PART I SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS This Annual Report on Form 10-KSB (this "Report" or this "Form 10-KSB") contains certain forward-looking statements and information relating to Compressco, Inc. (the "Company") and its subsidiaries, our industry and the oil and gas industry that is based on the beliefs of our management, as well as assumptions made by and information currently available to management. All statements other than statements of historical facts contained in this Report, including statements regarding our future financial position, growth strategy, budgets, projected costs, plans and objectives of management for future operations, are forward-looking statements. Although we believe our expectations reflected in these forward-looking statements are based on reasonable assumptions, no assurance can be given that these expectations will prove to have been correct. Important factors that could cause actual results to differ materially from the expectations reflected in the forward-looking statements include, among other things: o conditions in the gas and oil industry, including the demand for natural gas and the price of oil and natural gas, o competition among the various providers of compression services and products, o changes in safety, health and environmental regulations pertaining to the production and transportation of natural gas, o changes in economic or political conditions in the markets in which we operate, and o introduction of competing technologies by other companies. In addition, the factors described in "Item 6. Management's Discussion and Analysis of Financial Condition and Results of Operations--Risk Factors" could cause our actual results to differ materially from the expectations reflected in the forward-looking statements contained herein. These statements relate to future events or our future financial performance. These forward-looking statements may be found in "Item. 1. Description of Business," "Item 6. Management's Discussion and Analysis of Financial Condition and Results of Operations" and other sections of this Report. In some cases, you can identify forward-looking statements by terminology such as "may," "will," "should," "expect," "plan," "intend," "anticipate," "believe," "estimate," "predict," "potential," or "continue," the negative of such terms or other comparable terminology. The forward-looking statements in this Report are based largely on our expectations and are subject to a number of risks and uncertainties which may be beyond our control. Actual results may differ materially from the anticipated or implied results in the forward-looking statements. We do not intend to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise. In light of these risks and uncertainties, we can give no assurances that the forward-looking events and circumstances included in this Report will occur. ITEM 1. DESCRIPTION OF BUSINESS. HISTORY AND ORGANIZATION Compressco, Inc., formerly Emerging Alpha Corporation, was incorporated in the State of Delaware on February 10, 1993 for the purpose of acquiring business opportunities. On October 29, 1999, we purchased Compressco Field Services, Inc., an Oklahoma corporation, and Compressco Testing L.L.C. Subsequent to the acquisition, the two companies became our wholly owned subsidiaries. In January 2000 the Company established a wholly owned energy production subsidiary, Providence Natural Gas, Inc., to acquire certain pressure depleted reservoirs, having key reservoir characteristics known to be receptive to well-head compression. We were not successful in this endeavor and management has elected to sell the acquired natural gas well in January 2003 and cease operations. In October 2001, we established a wholly owned Canadian subsidiary, Compressco Canada, Inc., to market the sale and rental of compressors in Canada. During the fall of 2001, we hired a Canadian representative, opened an office and began to service the Canadian market. At December 31, 2003, our Canadian operations had 97 compressors on rental and have sold 28 compressors since inception. At December 31, 2003, our Canadian operations had 2 compressors off rental and 15 compressors in transit to Canada to be placed on rental in early 2004. 2 COMPANY OVERVIEW AND STRATEGY OVERVIEW We are a unique leading provider of natural gas and oil well production enhancement strategies. These enhancement strategies principally involve reducing bottom hole pressures, removing well bore liquids, and overcoming high delivery pressures in older mature fields. Our Sales Engineers, Senior Gas Production Specialists and Service Representatives, in conjunction with our patented Gas Jack(R) compressor/production unit fleet, provide well operators with the ability to increase daily produced volumes and proven producing reserves. As part of our operations, we also design and fabricate low-pressure natural gas compressors, which include our patented designs. Central to our marketing and expansion efforts is our emphasis on geologic research and well data analysis. By focusing on geologic basins with reservoir characteristics known to be conducive to our technology, we can greatly improve our success rates. Furthermore, with the data available publicly at various regional geologic libraries, we are able to identify candidate wells that our customers operate for testing. By doing so we are able to differentiate ourselves from others in the industry by showing up with specific solutions and ideas to make our customers more money. Through our principal operating subsidiary, Compressco Field Services, we have been involved in the natural gas and oil services industry since 1990, and have improved our products and services since that time. We offer for rental or sale four models of Gas Jack(R) brand compressors/productions units, which we believe are superior to our competitors' compressors because they are more fuel efficient and more reliably handle variable liquid conditions in the wellbore. In addition, the Gas Jack(R) unit includes compression, liquid separation and optional gas metering all on one economic compact skid. Our Gas Jack(R) units utilize patented designs that allow operators to increase production and to extend the productive lives of low-volume or marginal gas and oil wells. In addition, with our E-Pumper(TM) product, a remote operation monitoring and alarm system, our customers are able to better monitor their wells, thereby reducing costly down time. Through Compressco Testing we provide natural gas measurement products, services and natural gas well monitoring. In connection with the acquisition of our principal operating subsidiary by a new investor group in October 1999, we installed a new management team, and placed a new emphasis on leveraging our proprietary technology to aggressively grow our business. As of December 31, 2003, we had 1,079 compressors in service, which represented an increase of approximately 42% over the past year. Total revenues for the year ended December 31, 2003 were $22.8 million compared to $14.9 million for the year ended December 31, 2002, an increase of $7.9 million or 53%. For the year ended December 31, 2003, our revenue related to compressor rentals was $17.9 million compared to $12.7 million for the year ended December 31, 2002, an increase of $5.2 million, or 41%. The revenue from the sale of compressor units increased in 2003 to $3,054,101 from $952,094 due to selling 58 units in 2003 compared to 24 units in 2002. The increase in the number of net units placed on rental and compressors sold in 2003 was due to our increased domestic sales staff in 2003, increased activity in our Canadian operations, combined with the higher price of natural gas during 2003, which increased demand for our products and services. We service our rental compressor fleet as well as provide maintenance services through our 50 mobile field technicians. Currently, all of our technicians are based in the mid-continent hydrocarbon producing regions of the United States and western Canada. These are the areas in which the majority of our customers operate. As a result, we are able to provide quality maintenance service without the expense of maintaining many costly service centers. INDUSTRY CONDITIONS As natural gas fields age, they lose pressure, thereby requiring new production enhancement technologies to produce the remaining reserves at economic volumes. The demand for our production enhancement service is linked to the prices of natural gas, although we are not as affected by commodity pricing as, for example, a drilling rig contractor. As a result, our financial performance historically has been less affected by the short-term market cycles and volatile commodity prices of oil and natural gas than some companies operating in other sectors of the energy industry. Demand for our services has increased over time, even during periods of volatile natural gas prices. We believe the natural gas compression and production enhancement service industry will continue to have significant growth potential, especially as it relates to marginal wells, due to the following factors: 3 o The number of new gas wells drilled in the United States has been on a downward trend for the past several years; o Many existing, mature gas fields in the United States are experiencing a more rapid loss of pressure than older fields and are requiring production enhancement at earlier stages to maintain production levels; o High activity can not overcome geologic reality-reduced supply from older basins; o Natural gas consumption is increasing in the United States at an average rate of approximately 2.0% to 2.5% per year and internationally at an average rate of approximately 3.0% to 4.0% per year; and o Natural gas producers are increasingly outsourcing production enhancement services to reduce overall cost, improve performance, reduce capital requirements and better meet changing compression needs. We believe that we are well positioned to participate in the future growth in this industry as we are one of the few compression service providers with fuel-efficient compressors that are designed to maximize and extend the reserve life of marginal wells. OUR GROWTH STRATEGY Our growth strategy is to continue to focus on meeting the evolving needs and demands of our customers by providing consistent, superior services and dependable, high quality products. We will continue to serve existing customers and increase market share of our core service area located in the mid-continent hydrocarbon producing regions of the United States and western Canada. The key elements of our strategy are described below: o Expanding our sales and service coverage in our core markets. We intend to expand the coverage of our sales force by increasing the number of sales and marketing personnel that we employ to market to, advise and service our customers in the south central United States and Canada. o Expanding into new geographic areas. Currently the majority of our customers operate in the south central United States. We believe there are, however, gas fields in other regions of the United States and Canada that would benefit by our compression products. Accordingly, we intend to expand our presence by engaging sales and service personnel outside our core geographic markets. o Continuing a standardized approach to our business. Since we design and fabricate four models of compressors, we are able to develop expertise in operating and maintaining our compressors, provide our customers with consistent, high quality service, optimize our inventory, reduce our costs and train our service technicians faster and more effectively. OPERATIONS Compressor Fleet Since inception in 1990 we have manufactured a total of 1,469 compressors, including 383 units in the year ended December 31, 2003. As of the end of 2003, we had a compressor fleet of 1,166 units; of these units, 1,079 are currently on rent. Our rental agreements are primarily on a month to month basis. These units, as well as certain sold units, are maintained by our company personnel. Since inception in 1990, an aggregate of 313 units has been sold to customers in the United States, Canada, Holland, Indonesia and Argentina. The Gas Jack(R) compressor utilizes an integral design as the frame for the compressor. A Ford industrial 460 cubic inch V-8 is modified so that one bank of four cylinders uses natural gas from the well to power the other bank of four cylinders that provide compression. This configuration is capable of handling suction pressures from vacuum conditions of up to 12 inches vacuum and discharge 4 pressures of up to 350 PSIG. This configuration allows the Company to provide a moderately priced, reliable well head compressor that is easy to maintain and does not require special parts, tools, fluids or training to operate. The design also allows for a compact unit that is easily transported and requires minimal site preparation, which assists the producer in testing and evaluating subject properties. Fabrication Our current manufacturing staff and facility is capable of producing up to 60 new units per month, as well as the required reconditioning of units that are returned from rental. Over the last few years, we have improved our shop and suppliers scheduling, implemented shop and supplier quality control, maximized the use of our existing facility and personnel. This has resulted in cost reductions, minimized rework, improved inventory control and increased production efficiency. COMPETITION Our competitors include compressor rental, plunger lift, and other artificial lift product and service providers. In many instances, we utilize our technology in conjunction with other artificial lift technologies in order to effectively maximize a well's production. Primary competition for our compression manufacturing and rental services business is from various local and regional packagers that generally use a screw compressor with a separate engine driver or a reciprocating compressor with a separate engine driver. Our Gas Jack compressor competes with these packagers by making use of the engine for both compression and drive thereby eliminating a significant amount of the cost associated with the competitor offerings. We believe that our patented technology helps us to maintain a competitive position in the marginal well application of compressor technology. The gas compression industry is highly competitive but we believe we are positioned well because we have focused our products and efforts on low volume, low pressure oil and gas wells. EMPLOYEES As of December 31, 2003 we had a total of 109 employees. None of our employees are subject to a collective bargaining agreement. CUSTOMERS AND SUPPLIERS As of December 31, 2003, we had approximately 385 customers. During the year ended December 31, 2003, we did not have sales to any one customer comprising more than 10% of our total revenues. As of December 31, 2003, we had one customer, Chesapeake Operating Inc., which amounted to approximately 15% of our total accounts receivable balance. We purchase a substantial portion of its equipment, specifically, compressor engines and related items, from one supplier, Ford Motor Company. ITEM 2. DESCRIPTION OF PROPERTY. We lease approximately 20,000 square feet of space, located on approximately three acres, that is used for administrative offices, fabrication facilities, warehouse and outside storage space in Oklahoma City, Oklahoma pursuant to a lease agreement expiring on August 31, 2004. We have an option to purchase the facility for $550,000 in August 2004. ITEM 3. LEGAL PROCEEDINGS. None. 5 ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS. No matters were submitted to a vote of security holders during the last quarter of the fiscal period ended December 31, 2003. PART II ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS. Our Common Stock is not and has not been traded on a stock exchange or national quotation system. As of December 31, 2003, there were 332 stockholders of record. No dividends have been paid and none are expected to be paid in the foreseeable future. In addition, our ability to pay dividends is restricted by our existing bank credit facility. In March 2000, we issued 70,002 shares of our common stock through a private placement for $30.00 per share or total proceeds of $2.1 million. The equity proceeds were used in part to repay borrowings under our credit facility and the remaining proceeds were used primarily to fund the growth in our compressor fleet. In December 2000 and January 2001, we completed an offering of our subordinated promissory notes and warrants to purchase our common stock through a private placement. As of December 31, 2003, $5,550,000 of the subordinated promissory notes were issued. These notes are subordinated, unsecured obligations of ours and rank junior to all of our existing and future senior indebtedness. The notes are convertible by the holder into common stock of the Company at anytime prior to maturity at a conversion price of $150 per share. The notes mature on the earlier of (1) the consummation of an underwritten public offering of our capital stock or (2) March 31, 2005. We may, at any time, prepay any part of the principal balance on the notes, in increments of $10,000, without premium or penalty prior to maturity. Interest was payable at 13% per annum, 10% per annum effective from April 1, 2003, and is payable quarterly in arrears. Each purchaser of the notes also received warrants to purchase shares of our common stock at a purchase price of $120 per share. Each $1,000 of issued principal amount of notes received warrants to purchase 8.4 shares of common stock, or a total of 46,620 shares. Of the total proceeds received, $100,000 was allocated to the stock warrants. The offerings described above were completed in private placements pursuant to Section 4(2) of the Securities Act of 1933. ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATIONS. RESULTS OF OPERATIONS
SELECTED CONSOLIDATED FINANCIAL DATA FOR COMPRESSCO Year Ended Year Ended December 31, 2003 December 31, 2002 ------------------------ ------------------------ STATEMENT OF OPERATIONS DATA: Operating Revenues.......................................... $ 22,755,688 $ 14,921,504 Cost of Sales and Expenses.................................. 16,389,361 11,471,968 Operating Income............................................ 6,366,327 3,449,536 Net Income.................................................. 3,316,024 1,217,339 BALANCE SHEET DATA (AT END OF PERIOD): Cash........................................................ $ 388,030 $ 317,707 Total Assets................................................ 32,721,610 21,529,399 Total Liabilities........................................... 24,541,240 16,744,890 Stockholders' Equity........................................ 8,180,370 4,784,509
6 The following discussion regarding the consolidated financial statements of the Company should be read in conjunction with the consolidated financial statements and notes thereto. YEAR ENDED DECEMBER 31, 2003 COMPARED TO YEAR ENDED DECEMBER 31, 2002 Total revenues for the year ended December 31, 2003 were $22,755,688 compared to $14,921,504 for the year ended December 31, 2002, an increase of $7,834,184 or 53%. The increase was due primarily to increased rental revenue, which increased in 2003 to $17,914,457 from $12,674,142 in 2002, an increase of $5,240,315 or 41%. The increase in rental revenue was due to the compressor units on rental increasing 42% from 761 at December 31, 2002 to 1,079 units at December 31, 2003 combined with a full years of rental revenue from the 103 units placed on rental during 2002. The revenue from the sale of compressor units increased in 2003 to $3,054,101 from $952,094 due to selling 57 units in 2003 compared to 24 units in 2002. The increase in the number of net units placed on rental and compressors sold in 2003 was due to our increased domestic sales staff in 2003, increased activity in our Canadian operations, combined with the higher price of natural gas during 2003, which increased demand. The total cost of sales and operating expenses for the year ended December 31, 2003 were $14,425,333, or 63.4% of total revenues, compared to $9,871,293, or 66.2%, for the year ended December 31, 2002. Operating expenses for the year ended December 31, 2003 were $12,377,657or 63.9% of rental and service revenues compared to $ 9,165,496, or 67.1% for the year ended December 31, 2002. The decrease in cost of sales and operating expenses as a percentage of revenues in 2003 was due to the growth in rental revenue in 2003, resulting from increasing the rental units in service and increased rental rates, with lower increases in operating expenses to support the increased number of units in service and the increase in the number of compressors sold in 2003. We manufactured 383 compressors in the year ended December 31, 2003 compared to 70 in the year ended December 31, 2002. The increase in the number of compressors manufactured was due to higher demand as a result of our increased domestic sales staff in 2003, increased activity in our Canadian operation, combined with the higher price of natural gas in 2003. We had 87 compressors off rental as of December 31, 2003 compared to 80 units off rental at December 31, 2002. We manufacture new compressors, as needed, to meet the needs of our domestic and Canadian operations. Depreciation and amortization expense increased to $1,964,028 for the year ended December 31, 2003 compared to $1,600,675 for the year ended December 31, 2002. The increase was due to the increase in our compressor fleet in 2003 from 841 units at December 31, 2002 to 1,166 units at December 31, 2003 combined with a full years of depreciation expense revenue from the 41 units added to our compressor fleet during 2002. Operating income for the year ended December 31, 2003 was $6,366,327 compared to $3,449,536 for the year ended December 31, 2002. Operating income for the year ended December 31, 2003 was 28.0% of total revenue for the year ended December 31, 2003 compared to 23.1% for the year ended December 31, 2002. The increase in operating income as a percentage of revenues in 2003 was due to the growth in rental revenue in 2003, resulting from increasing the rental units in service and increased rental rates, with lower increases in operating expenses to support the increased number of units in service and the increase in the number of compressors sold in 2003. For the year ended December 31, 2003, interest expense was $1,106,859 compared to $1,268,413 of interest expense for the year ended December 31, 2002. The decrease in 2003 interest expense was due to lower interest rates in 2003 compared to 2002. Provision for income taxes for the year ended December 31, 2003 was $2,027,849 (38% effective rate) compared to $963,784 (44% effective rate) for 2002. The decrease in the effective income tax rate in 2003 was primarily due to utilizing the Canadian income tax loss carry forward from 2002 to offset a portion of Canadian income generated in 2003. As a result of the factors described above, 2003 net income was $3,316,024 compared to net income of $1,217,339 for the year ended December 31, 2002. 7 CRITICAL ACCOUNTING POLICIES AND PRACTICES The use of estimates is necessary in the preparation of our financial statements. The circumstances that make these judgments difficult, subjective and complex have to do with the need to make estimates about the effect of matters that are inherently uncertain. The use of estimates and assumptions affects the reported amounts of assets and liabilities at the date of the financial statements, as well as, the amounts of revenues and expenses recognized during the reporting period. The most significant estimates and assumptions that affect reported results are those related to the depreciation of our compressor fleet and the capitalization of fabrication shop costs related to the building of compressors. Changes in the lives or salvage value of the compressors would impact our calculation of depreciation expense. The capitalization of fabrication shop costs is based on the ratio of time spent on fabricating compressors and will vary with the level of production. Management believes it is necessary to understand the Company's significant accounting policies, "Item 7, Financial Statements and Supplementary Data--Note 2 - Summary of Significant Accounting Policies" of this Form 10-KSB, in order to understand our financial condition, changes in financial condition and results of operations. LIQUIDITY AND CAPITAL RESOURCES As of June 30, 2003, we entered into a credit agreement with a bank and repaid all amounts due on its prior line of credit and term facilities. Under the new credit agreement we may borrow up to the lesser of $17,500,000 or the sum of (i) 85% of the aggregate amount of eligible receivables, (ii) 50% of the aggregate amount of eligible inventory, and (iii) the lower of 80% of the appraised orderly liquidated value or the net book value of its compressor fleet. In addition no additional borrowings are allowed if utilization of the compressor fleet falls below 70%. As of December 31, 2003, the utilization rate of the compressor fleet was 92.5%. The balance outstanding under the line of credit agreement as of December 31, 2003 was $12,366,596. The borrowings under the credit facility bear interest between 0.25% and 0.5% over Wall Street Journal Prime Rate (4.25% at December 31, 2003) or between 3.0% and 3.25% over LIBOR (4.15% at December 31, 2003) based on the Company's ratio of debt to earnings before interest, taxes, depreciation and amortization. Interest is due quarterly with all outstanding borrowings due at maturity on the earlier of June 30, 2006 or 45 days prior to the maturity of the $5,550,000 subordinated promissory notes currently due March 31, 2005. The loan is secured with our assets and compressor rental agreements. Our credit facility imposes a number of financial and restrictive covenants that among things, limit our ability to incur additional indebtedness, create liens and pay dividends. As of December 31, 2003, we were in compliance with its loan covenant ratios. Management believes that we will be in compliance with the covenants under the credit facility at least through 2004. In December 2000 and January 2001, we completed an offering of subordinated promissory notes and stock warrants to qualified private investors. At December 31, 2002, $5,550,000 of the subordinated promissory notes were issued. The notes are subordinated unsecured obligations of the Company and rank subordinate to all existing indebtedness of the Company. In March 2003 the Company and the holders of the subordinated promissory notes agreed to amend the promissory notes to extend the maturity date from December 31, 2002 to March 31, 2005, change the interest from 13% to 10% effective April 1, 2003 and make the notes convertible by the holder into common stock of the Company at anytime prior to maturity at a conversion price of $150 per share. The notes mature on the earlier of (1) the consummation of an underwritten public offering of the Company's capital stock or (2) March 31, 2005. The Company may, at any time prepay any part of the principal balance on the notes, in increments of $10,000, without premium or penalty prior to maturity. Interest is payable at 13% per annum, 10% effective April 1, 2003, and is payable quarterly in arrears. Of the total proceeds received, $100,000 was allocated to the stock warrants. In March 2000, we issued 70,002 shares of our common stock through a private placement for $30.00 per share or total proceeds of $2.1 million. The equity proceeds were used in part to repay borrowings under our credit facility and the remaining proceeds were used primarily to fund the growth in our compressor fleet. Management believes that cash flow from operations and funds available under its credit facilities will provide the necessary working capital to fund our requirements for current operations through 2004. However, in connection with any expansion of operations or acquisition activities, it is likely that we will need additional sources of debt or equity financing. Our projected capital expenditures for 2004, based on current market conditions, are approximately $13 million. We cannot provide assurance that these funds will be available or if available will be available on satisfactory terms. 8 RISK FACTORS As described in "Part I. Special Note Regarding Forward-Looking Statements," this Report contains forward-looking statements regarding our business and industry. The risk factors described below, among others, could cause our actual results to differ materially from the expectations reflected in the forward-looking statements. If any of the following risks actually occur, our business, financial condition and operating results could be materially negatively impacted. Additional risks not presently known to us or which we currently consider immaterial may also negatively impact us. RISKS INHERENT IN OUR INDUSTRY We are significantly dependent on demand for natural gas, and a prolonged, substantial reduction in this demand could adversely affect the demand for our services and products. Gas compression operations are materially dependent upon the demand for natural gas. Demand may be affected by, among other factors, natural gas prices, demand for energy and availability of alternative energy sources. Any prolonged, substantial reduction in the demand for natural gas would, in all likelihood, depress the level of production, exploration and development activity and result in a decline in the demand for our compression services and products. This could materially adversely affect our results of operations. We intend to make substantial capital investments to implement our growth strategy. We anticipate that we will continue to make substantial capital investments to increase expand our compressor rental fleet and enhance our sales and marketing and service operations. For the year ended December 31, 2003, our capital expenditures totaled approximately $9 million, primarily associated with the expansion of our compressor rental fleet. Historically, we have financed these expenditures through equity placements and bank facilities. These significant capital expenditures require cash that we could otherwise apply to other business needs. However, if we do not incur these expenditures while our competitors make substantial investments to improve their rental fleets and other services, our market share may decline and our business may be adversely affected. In addition, if we are unable to generate sufficient cash internally or obtain alternative sources of capital, it could materially adversely affect our growth. Our business subjects us to potential liabilities that may not be covered by insurance. Natural gas service operations are subject to inherent risks, such as equipment defects, malfunction and failures and natural disasters which can result in uncontrollable flows of gas or well fluids, fires and explosions. These risks could expose us to substantial liability for personal injury, wrongful death, property damage, pollution and other environmental damages. Although we have obtained insurance against many of these risks, there can be no assurance that our insurance will be adequate to cover our liabilities. Further, there can be no assurance that insurance will be generally available in the future or, if available, that premiums will be commercially justifiable. If we were to incur substantial liability and such damages were not covered by insurance or were in excess of policy limits, or if we were to incur liability at a time when we are not able to obtain liability insurance, our business, results of operations and financial condition could be materially adversely affected. We are subject to substantial environmental regulation, and changes in these regulations could increase our costs or liabilities. We are subject to stringent and complex federal, state and local laws and regulatory standards, including regulations regarding the discharge of materials into the environment, emission controls and other environmental protection concerns. Environmental laws and regulations may, in certain circumstances, impose "strict liability" for environmental contamination, rendering us liable for cleanup costs, natural resource damages and other damages as a result of our conduct that was lawful at the time it occurred or the conduct of, or conditions caused by, prior operators or other third parties. In addition, it is not uncommon for the neighboring land owners and other third parties to file claims for personal injury, property damage and recovery of response costs. Cleanup costs and other damages arising as a result of environmental laws, and costs associated with changes in existing environmental laws and regulations or the adoption of new laws and regulations could be substantial and could have a 9 material adverse effect on our operations and financial condition. Moreover, failure to comply with these environmental laws and regulations may result in the imposition of administrative, civil and criminal penalties. We routinely deal with natural gas, oil and other petroleum products. As a result of our engineered products and overhaul and field operations, we generate, manage and dispose of or otherwise recycle hazardous wastes and substances, such as solvents, thinner, waste paint, waste oil and sandblast material. Although it is our policy to utilize generally accepted operating and disposal practices in accordance with applicable environmental laws and regulations, hydrocarbons or other wastes may have been disposed or released on, under or from properties owned, leased, or operated by us or on or under other locations where such wastes have been taken for disposal. These properties and the wastes disposed on them may be subject to investigatory, remedial and monitoring requirements under federal, state and local environmental laws. We believe that our operations are in substantial compliance with applicable environmental laws and regulations. Nevertheless, the modification or interpretation of existing federal, state and local environmental laws or regulations, the more vigorous enforcement of existing environmental laws or regulations, or the adoption of new environmental laws or regulations may also negatively impact oil and natural gas exploration and production companies, which in turn could have a material adverse effect on us and other similarly situated service companies. We operate in a highly competitive industry. The natural gas compression service and engineered products business is highly competitive. Our main competitors are large national and multinational companies, which have significantly greater financial resources than our company. These competitors offer a wide range of compressors for sale or rental. If these companies substantially increase the resources they devote to the development and marketing of competitive products and services, we may not be able to compete effectively. RISKS SPECIFIC TO AN INVESTMENT IN OUR COMPANY We are dependent on particular suppliers and are vulnerable to product shortages and price increases. All models of Gas Jack(R) compressors that we fabricate are powered by a Ford 460 cubic inch V-8 engine. Ford has discontinued the production of this engine model. As a result, we have implemented a strategy of purchasing remanufactured Ford 460 engines. Although we have not yet experienced a significant delay in receiving the requisite engines, a prolonged delay or substantial increase in the cost of new or remanufactured Ford 460 engines could materially adversely affect our results of operations. In addition, all of our compressor models share many components that we obtain from a single source or a limited group of suppliers. Our reliance on these suppliers involves several risks, including price increases, inferior component quality and a potential inability to obtain an adequate supply of required components in a timely manner. The partial or complete loss of certain of these sources could have at least a temporary material adverse effect on our results of operations and could damage our customer relationships. Further, a significant increase in the price of one or more of these components could have a material adverse effect on our results of operations. We are highly leveraged and vulnerable to interest rate changes. As of December 31, 2003, we had approximately $17.9 million in outstanding indebtedness, including the current portion of long-term debt, representing approximately 68% of our total capitalization. Of this amount, approximately $12.4 million bears interest at floating rates. Changes in economic conditions could result in higher interest and lease payment rates, thereby increasing our interest expense and lease payments and reducing our funds available for capital investment, operations or other purposes. In addition, a substantial portion of our cash flow must be used to service our debt, which may affect our ability to capital expenditures. Our patents may not be adequate or enforceable and others may use our proprietary technology. We have applied for and have received four patents related to the fully integrated engine design that we use in our Gas Jack(R) compressors. It is our understanding that our patents are narrowly drafted. We can offer no assurances, 10 however, that these patents will be enforceable. In addition, we know of one fabricator using a design, for which he also obtained a patent that is similar to our patented design. If the protection of our intellectual property proves to be inadequate, others may use our proprietary developments without compensating us and in competition against us, giving cost advantages to our competitors. Our success depends on key members of our management team, the loss of whom could disrupt our business. Our success depends to a significant degree upon the continued contributions of key management, operations, engineering, sales and marketing, customer support, finance and manufacturing personnel. We are particularly dependent on Brooks Mims Talton, our Chief Executive Officer. The Company has a $1.0 million key employee policy on Mr. Talton. Furthermore, we do not maintain and do not intend to obtain key employee life insurance for any of our other employees. The departure of any of our key personnel could have a material adverse effect on our business, operating results and financial condition. In addition, we believe that our success depends on our ability to attract and retain additional qualified employees. If we fail to recruit other skilled personnel, we could be unable to compete effectively. We are a holding company and rely on our subsidiaries for operating income. We are a holding company and, as such, we derive all of our operating income from our operating subsidiaries. We do not have any significant assets other than the equity of our operating subsidiaries. Consequently, we are dependent on the earnings and cash flow of our subsidiaries to meet our obligations and pay dividends. Our subsidiaries are separate legal entities that are not legally obligated to make funds available to us. We cannot assure you that our subsidiaries will be able to, or be permitted to, pay to us amounts necessary to meet our obligations or to pay dividends. A third party could be prevented from acquiring control of us because of the anti-takeover provisions in our charter and bylaws. There are provisions in our certificate of incorporation and bylaws that may make it more difficult for a third party to acquire, or attempt to acquire, control of us, even if a change in control would result in the purchase of your shares at a premium to the market price or would otherwise be beneficial to you. For example, our certificate of incorporation authorizes our board of directors to issue preferred stock without stockholder approval. If our board of directors elects to issue preferred stock, it could be more difficult for a third party to acquire us. In addition, provisions of our certificate of incorporation could make it more difficult for a third party to acquire control of us. Delaware corporation law may also discourage takeover attempts that have not been approved by our board of directors. ITEM 7. FINANCIAL STATEMENTS. The consolidated financial statements of the Company required to be included in Item 7 are set forth in the Financial Statements beginning on page F-1. ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE. None. ITEM 8A. CONTROLS AND PROCEDURES. (a) Evaluation of disclosure controls and procedures. We maintain disclosure controls and procedures designed to provide reasonable assurance that information required to be disclosed in the reports we file with the SEC is recorded, processed, summarized and reported within the time periods specified in the rules of the SEC. Within 90 days prior to the filing of the Annual Report on Form 10KSB, we carried out an evaluation, under the supervision and the participation of our management, including our Chief Executive Officer and Chief Financial Officer, of the design and operation of these disclosure controls and procedures pursuant to the Exchange Act Rule 13a-14. Based upon that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures are effective in timely alerting them to material information relating to the company (including our consolidated subsidiaries) required to be included in our periodic SEC filings. 11 (b) Changes in internal controls. There were no significant changes in internal controls or other factors that could significantly affect our internal controls subsequent to the date of our evaluation. PART III ITEM 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS; COMPLIANCE WITH SECTION 16(A) OF THE EXCHANGE ACT. DIRECTORS AND EXECUTIVE OFFICERS Directors are elected to serve until the annual meeting of shareholders and until their successors have been elected and have qualified. Officers are appointed to serve, subject to the discretion of the Board of Directors, until the meeting of the Board following the annual meeting of shareholders and until their successors have been elected and have qualified.
YEAR OFFICE WITH NAME AGE ELECTED COMPANY ---------- ------- ------------- ------------------ Burt H. Keenan 64 1993 Chairman of the Board Brooks Mims Talton, III 37 1999 Chief Executive Officer and Director Kenneth R. Reagan 69 2001 Chief Operating Officer Gary McBride 51 2000 Chief Financial Officer Jerry W. Jarrell 62 2000 Director and Secretary D. B. H. Chaffe III 70 1993 Director Jack Rettig 50 1999 Director J. Michael Drennen 51 2000 Director
Each officer and director will devote only such time to the business affairs of the Company as he deems appropriate, as discussed under the caption "Executive Compensation". Burt H. Keenan has served as our Chairman of the Board since inception in February 1993. He also served as President until October 1999. From August 1999 to September 2000, he was a non-executive Director of Independent Energy Holdings PLC. From April 1991 to August 1999, Mr. Keenan served as Executive Chairman of Independent Energy. In September 2000, Independent Energy became the subject of a receivership proceeding under U.K. law. Since 1987, he has been associated with Chaffe & Associates, Inc., an investment banking firm located in New Orleans, Louisiana, where he specializes in capital formation for emerging and middle market companies. From 1969 to 1986, Mr. Keenan was the founder, Chairman and CEO of Offshore Logistics, Inc., a public oil and gas service company operating a fleet of marine service vessels and helicopters worldwide. Mr. Keenan was a member of the National Advisory Council on Oceans and Atmosphere, a United States Presidential Commission, and of various industry associations. Mr. Keenan received Bachelors and Masters degrees in business administration from Tulane University. Brooks Mims Talton, III has served as our President, Chief Executive Officer and a Director since October 1999. He is also the founder and President of GJ Measurement, L.L.C., which we acquired in October 1999, operating since 1994 as a natural gas measurement, monitoring and control systems company. Customers range from small independents to major oil and gas companies. From 1991 to 1994, he was founder and Co-owner of Well Link Corporation. From 1989 to 1991 he operated as a sole proprietor, Mims Oil Tools specializing in automated plunger lift production systems. Prior to 1989, Mr. Talton worked for two oil and gas exploration and production companies performing prospect research and development. Mr. Talton serves on the Board of Advisory of the Greater Oklahoma City Chamber of Commerce, in addition to being active in a number of regional and national industry associations. Mr. Talton is a member of the Young President's Organization and TEC, an international organization of CEO's. Mr. Talton holds a B. A. Political Science with an emphasis on Energy/Public Policy from the University of Oklahoma. 12 Kenneth R. Reagan was employed in February 2001 as Chief Operating Officer. Mr. Reagan was with Weatherford Compression Company from 1988 to 1998 serving as Senior Area Sales Manager in Oklahoma City in 1997 and 1998; as Vice President of Sales and Marketing in Houston and Oklahoma City from 1991 to 1996; and as Vice President of Service in Corpus Christi from 1988 to 1990. He worked with Waukesha-Pierce Industries, Inc. from 1960 to 1988 including service as Vice President of Operations - Engine Division from 1984 to 1988 and Vice President of Marketing from 1981 to 1984. Mr. Reagan received a bachelor's degree in geology from the University of Oklahoma in 1958. Gary McBride was employed in November 2000 and, effective January 1, 2001, replaced Jerry W. Jarrell as the Chief Financial Officer. Mr. McBride previously served as Vice-President of Finance with Cain's Coffee Company in Oklahoma City and had been with Cain's since 1980. Cain's is a regional roaster, manufacturer and distributor of coffee, tea and spices with annual revenue of approximately $90 million and 550 employees. Mr. McBride attended the University of Central Oklahoma earning a B. S. degree in accounting and is a certified public accountant. Jerry W. Jarrell served as our Chief Financial Officer since inception in February 1993 through December 2000. Effective January 1, 2001, Mr. Jarrell resigned as Chief Financial Officer and was replaced by Gary McBride. Mr. Jarrell continues to serve as a director and secretary of the Company. From May 1998 to September 2000, he was a non-executive Director of Independent Energy Holdings PLC. From April 1991 to May 1998, Mr. Jarrell was an Executive Director and Chief Financial Officer of Independent Energy. In September 2000, Independent Energy became the subject of a receivership proceeding under U.K. law. He served as Chief Financial Officer for the Woodson Companies, an oil field construction company, from 1977 to 1990. From 1971 to 1977, he was Secretary-Controller for Offshore Logistics. From 1966 to 1971, he was a Certified Public Accountant with Arthur Andersen and Company, and holds a B. S. degree in accounting from Louisiana Tech University. D.B.H. Chaffe III has been President and CEO of Chaffe & Associates, Inc., an investment banking firm located in New Orleans, Louisiana, since 1982. From 1981 to 1985, Mr. Chaffe was President, CEO and Treasurer of Becker & Associates, Inc., a marine contracting firm, following a leveraged buy-out by Mr. Chaffe and two other individuals. From 1969 to 1981, he was Executive Vice President and Director and head of corporate finance at Howard, Weil, Labouisse, Friedrichs, Inc., Prior to 1969, Mr. Chaffe was a registered representative and principal of investment banking firms. He has served on advisory committees and has been a member of National Securities Associations and stock exchanges. Mr. Chaffe received a bachelor's degree in engineering from Tulane University. Jack Rettig was President of Moores Wireline, an oilfield service company, from 1993 to 1998 and currently is an independent consultant. During 1978 to 1993 he worked with various exploration and production companies including Exxon, Tee Operating, Pacific Enterprises and Walter International. He graduated from Louisiana State University in 1978 with a BS in mechanical engineering and is a registered professional engineer. J. Michael Drennen is currently a Vice President with Crawley Petroleum Corporation, an independent oil and gas producer in Oklahoma City, Oklahoma. He was with Devon Energy from 1976 to 2001. During this time he had held the positions of Manager of Corporate Acquisitions Engineering, Manager of Reservoir and Acquisitions Engineering, Manager of Production and District Engineer. Mr. Drennen is a registered petroleum engineer and graduated from the University of Oklahoma in 1974 with BS in petroleum engineering. INDEMNIFICATION The Delaware Supreme Court has held that directors' duty of care to a corporation and its stockholders requires the exercise of an informed business judgment. Having become informed of all material information reasonably available to them, directors must act with requisite care in the discharge of their duties. The Delaware General Corporation Law permits a corporation through its certificate of incorporation to exonerate or indemnify its directors from personal liability to the corporation or its stockholders for monetary damages or breach of fiduciary duty of care as a director, with certain exceptions. The Companies have adopted these exoneration and indemnification provisions in the Delaware General Corporation Law in their respective certificates of 13 incorporation and bylaws. The exceptions include a breach of the director's duty of loyalty, acts or omissions not in good faith or which involve intentional misconduct or knowing violations of law, improper declarations of dividends, and transaction from which the directors derived an improper personal benefit. The Company's Certificate of Incorporation exonerates its directors, acting in such capacity, from monetary liability to the extent permitted by this statutory provision. The limitation of liability provision does not eliminate a stockholder's right to seek non-monetary, equitable remedies such as an injunction or recision to redress an action taken by directors. However, as a practical matter, equitable remedies may not be available in all situations, and there may be instances in which no effective remedy is available. The extent to which the indemnification provisions of the Delaware General Corporation Law and the Companies' certificates of incorporation and bylaws provide indemnification to officers and directors for violations of the federal securities laws has not been settled by court precedent. The Companies understand that, in the position of the Securities and Exchange Commission, such indemnification is against public policy and is unenforceable. CODE OF ETHICS We have not yet adopted a code of ethics that applies to our principal executive officers, principal financial officer or principal accounting officer as our recent focus has been codifying internal controls as required by the Sarbanes-Oxley Act. ITEM 10. EXECUTIVE COMPENSATION. BOARD COMMITTEES AUDIT COMMITTEE Our audit committee consists of Jerry W. Jarrell, Burt H. Keenan and D.B.H. Chaffe III. The audit committee makes recommendations to the board of directors regarding the selection of independent auditors, reviews the results and scope of the audit and other services provided by our independent auditors and evaluates our internal accounting procedures. COMPENSATION COMMITTEE Our compensation committee consists of Burt H. Keenan, Jack Rettig and Jerry W. Jarrell. The compensation committee reviews and approves compensation and benefits for our executive officers. The compensation committee also administers our compensation and stock plans and makes recommendations to the board of directors regarding such matters. COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION Until October 1999, the Company had no employees and no compensation committee. No member of the compensation committee is or has been an employee of the Company at any time. None of our executive officers serves as a member of the board of directors or compensation committee of any other company that has one or more executive officers serving as a member of our board of directors or compensation committee. DIRECTOR COMPENSATION Other than reimbursing directors for customary and reasonable expenses incurred in attending board of directors and committee meetings, we do not currently compensate our directors. EXECUTIVE COMPENSATION The following table sets forth all compensation awarded to, earned by or paid to the named executive officers for the years ended December 31, 2003 and 2002. The remuneration described in the table includes the cost to the Company of benefits furnished to the named executive officers, including premiums for health insurance and other benefits provided to such individual that are extended in connection with the conduct of the Company's business. 14
ANNUAL LONG-TERM COMPENSATION COMPENSATION ---------------- SECURITIES ------------------------ UNDERLYING ALL OTHER NAME AND PRINCIPAL POSITION SALARY BONUS OPTIONS COMPENSATION - --------------------------------------------- ------------ ----------- ---------------------- ----------------------- Year ended December 31, 2003: Burt H. Keenan, Chairman of the Board -- -- -- $6,168 Brooks Mims Talton, CEO $100,000 $114,822 -- 8,673 Kenneth R. Reagan, COO 82,000 83,231 -- 7,066 Gary McBride, CFO 93,000 65,005 -- 8,937 Year ended December 31, 2002: Burt H. Keenan, Chairman of the Board -- -- -- -- Brooks Mims Talton, CEO $86,154 $50,000 -- $7,636 Kenneth R. Reagan, COO $77,881 $19,000 -- $6,068 Gary McBride, CFO $93,000 $18,000 -- $8,407
OPTION GRANTS No options were granted to the named executive officers during the year ended December 31, 2003. 2003 OPTION EXERCISES AND YEAR-END OPTION VALUES The following table sets forth information concerning the value realized upon exercise of options during 2003 and the number and value of unexercised options held by the named executive officers at December 31, 2003. The value of the unexercised in-the-money options is based on the fair market value of our common stock as of December 31, 2003, determined by the board of directors to be $157.00 per share, minus the per share exercise price, multiplied by the number of shares underlying the option. The fair market value of our common stock was determined based on the results of the year ending December 31, 2003 and using industry wide multiplies of earnings per share and earnings before interest, taxes, depreciation and amortization expenses and a total of 48% discount for the lack of control and marketability of the common stock at this time.
SHARES VALUE OF UNEXERCISED IN- ACQUIRED NUMBER OF UNEXERCISED THE-MONEY OPTIONS AT ON VALUE OPTIONS AT DECEMBER 31, 2003 DECEMBER 31, 2003 NAME EXERCISE REALIZED EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE - ----------------- ---------- ------------- ------------- -------------- ------------ -------------- Burt H.Keenan....... -- -- 6,500 -- $900,500 -- Brooks Mims Talton. -- -- -- -- -- -- Kenneth R. Reagan... -- -- -- 3,000 -- $381,000 Gary McBride......... -- -- 3,000 -- $381,000 --
ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS. The following table sets forth, as of February 29, 2004, the stock ownership of all persons known to own beneficially five percent or more of the Company's Common Stock and all directors and officers of the Company, individually and as a group. Each person has sole voting and investment power over the shares indicated, except as noted. 15
NUMBER OF SHARES OF COMMON STOCK NAME BENEFICIALLY OWNED PERCENT ---------- --------------------------- ------------- 5% Stockholders: John E. Koerner (1) 17,533 10.9% James Reiss, Jr. (2) 14,200 8.6% Antony F. Lundy (3) 13,606 8.8% Officers and Directors: Burt H. Keenan (4) 20,470 12.3% Brooks Mims Talton 25,833 16.9% Kenneth Reagan -- -- Gary McBride (5) 3,000 1.9% Jerry W. Jarrell (6) 9,132 5.7% D. B. H. Chaffe III (7) 6,320 4.1% Jack Rettig (8) 11,172 7.1% Michael Drennen (9) 2,000 1.3% All officers and directors as a group (8 persons) (10) 77,927 42.3% (1) Includes 4,200 shares issuable upon exercise of stock warrants and 3,333 shares issuable upon the conversion of subordinated promissory notes held by Koerner Capital Corporation. (2) Includes 4,200 shares issuable upon exercise of stock warrants and 3,333 shares issuable upon the conversion of subordinated promissory notes held by Mr. Reiss. (3) Includes 2,940 shares issuable upon exercise of stock warrants and 2,333 shares issuable upon the conversion of subordinated promissory notes held by Mr. Lundy. (4) Includes 6,300 shares issuable upon exercise of stock warrants and 6,500 shares issuable upon exercise of stock options held by Mr. Keenan. (5) Includes 3,000 shares issuable upon exercise of stock options held by Mr. McBride. (6) Includes 840 shares issuable upon exercise of stock warrants, 667 shares issuable upon the conversion of subordinated promissory notes and 5,500 shares issuable upon exercise of stock options held by Mr. Jarrell. (7) Includes 2,000 shares issuable upon exercise of stock options held by Mr. Chaffe. (8) Includes 1,260 shares issuable upon exercise of stock warrants, 1,000 shares issuable upon the conversion of subordinated promissory notes and 2,000 shares issuable upon exercise of stock options held by Mr. Rettig. (9) Includes 2,000 shares issuable upon exercise of stock options held by Mr. Drennen. (10) Includes 8,400 shares issuable upon exercise of stock warrants, 1,667 shares issuable upon the conversion of subordinated promissory notes and 21,000 shares issuable upon exercise of stock options held by the named executive officers and directors.
ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS. Consulting Agreement The Company has an oral agreement with Burt H. Keenan, a director, to provide consulting services to the Company. The agreement, which commenced on January 1, 2003, provides for $2,000 compensation per month and expires in December 2004. The Company has an oral agreement with Jerry W. Jarrell, a director, to provide consulting services to the Company. The agreement, which commenced on January 1, 1995, currently provides for $2,000 compensation per month and expires in October 2004. STOCK OPTION PLAN The Company, by resolution of its Board of Directors and stockholders, adopted a 1993 Stock Option Plan (the "Plan") on February 16, 1993. The Plan enables each Company to offer an incentive based compensation system to employees, officers and directors and to employees of companies who do business with the Company. In the discretion of a committee comprised of non-employee directors (the "Committee"), directors, officers, and key employees of the Company and its subsidiaries or employees of companies with which the Company does business become participants in the Plan upon receiving grants in the form of stock options or restricted stock. A total of 2,000,000 shares are authorized for issuance under the Plan, of which 33,750 shares are issuable under options granted to officers, directors and key employees at December 31, 2003. The Company may increase the number of shares authorized for issuance under the Plan 16 or may make other material modifications to the Plan without shareholder approval. However, no amendment may change the existing rights of any option holder. Any shares which are subject to an award but are not used because the terms and conditions of the award are not met, or any shares which are used by participants to pay all or part of the purchase price of any option may again be used for awards under the Plan. However, shares with respect to which a stock appreciation right has been exercised may not again be made subject to an award. Stock options may be granted as non-qualified stock options or incentive stock options, but incentive stock options may not be granted at a price less than 110% of the fair market value of the stock as of the date of grant; non-qualified stock options may not be granted at a price less than 85% of fair market value of the stock as of the date of grant. Restricted stock may not be granted under the Plan in connection with incentive stock options. Stock options may be exercised during a period of time fixed by the Committee except that no stock option may be exercised more than ten years after the date of grant or three years after death or disability, whichever is later. In the discretion of the Committee, payment of the purchase price for the shares of stock acquired through the exercise of a stock option may be made in cash, shares of the Company's Common Stock or by delivery of recourse promissory notes or a combination of notes, cash and shares of the Company's Common Stock or a combination thereof. Incentive stock options may only be issued to directors, officers and employees of the Company. Stock options granted under the Plan may include the right to acquire an Accelerated Ownership Non-Qualified Stock Option ("AO"). If an option grant contains the AO feature and if a participant pays all or part of the purchase price of the option with shares of the Company's Common Stock, then upon exercise of the option the participant is granted an AO to purchase, at the fair market value as of the date of the AO grant, the number of shares of common stock of the Company equal to the sum of the number of whole shares used by the participant in payment of the purchase price and the number of whole shares, if any, withheld by the Company as payment for withholding taxes. An AO may be exercised between the date of grant and the date of expiration, which will be the same as the date of expiration of the option to which the AO is related. Stock appreciation rights and/or restricted stock may be granted in conjunction with, or may be unrelated to stock options. A stock appreciation right entitles a participant to receive a payment, in cash or common stock or a combination thereof, in an amount equal to the excess of the fair market value of the stock at the time of exercise over the fair market value as of the date of grant. Stock appreciation rights may be exercised during a period of time fixed by the Committee not to exceed ten years after the date of grant or three years after death or disability, whichever is later. Restricted stock requires the recipient to continue in service as an officer, director, employee or consultant for a fixed period of time for ownership of the shares to vest. If restricted shares or stock appreciation rights are issued in tandem with options, the restricted stock or stock appreciation right is canceled upon exercise of the option and the option will likewise terminate upon vesting of the restricted shares. ITEM 13. EXHIBITS AND REPORTS ON FORM 8-K. (a) Exhibits. The following exhibits of the Company are included herein. 3. Certificate of Incorporation and Bylaws *3.1 Restated Certificate of Incorporation *3.2 Bylaws *3.3 Proposed Certificate of Amendment to the Restated Certificate of Incorporation 10. Material Contracts *10.1 1993 Stock Option Plan *10.2 Form of Stock Option Agreements with Messrs. Keenan, Killeen, Jarrell and Chaffe with Schedule of Details **10.3 Stock Purchase Agreement, dated as of October 29, 1999, by and between the Company and the Stockholders of Gas Jack, Inc. 17 ***10.4 Securities Purchase Agreement, dated as of December 22, 2000, between the Company and each investor party thereto ***10.5 Stock Warrant Agreement, dated as of December 22, 2000, between the Company and each investor party thereto ***10.6 Subordinated Promissory Note, dated December 22, 2000, issued by the Company to each purchaser of the notes ***10.7 Registration Rights Agreement, dated as of December 22, 2000, between the Company and each investor party thereto ****10.8 Credit Agreement, dated June 30, 2003, by and among Comerica Bank - Texas, the Company and Compressco Field Services, Inc. +31 Certification Pursuant to Section 302 of the Sarbanes- Oxley Act of 2002 +32 Certification Pursuant to Section 906 of the Sarbanes- Oxley Act of 2002 - ------------------ +Filed herewith. *Filed with Registration Statement on Form SB-2, File No. 33-61888-FW and incorporated by reference herein. **Filed with Current Report on Form 8-K (October 29, 1999) and incorporated by reference herein. ***Filed with Annual Report on 10-KSB for the year ended December 31, 2000 and incorporated by reference herein. ****Filed with Quarterly Report on 10-QSB for the quarter ended June 30, 2003 and incorporated by reference herein. ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES. Audit Fees Ernst & Young LLP's aggregate fees billed for professional services rendered for the audit of our annual financial statements for the 2003 fiscal year and the review of the financial statements included in our Forms 10-QSB for the 2003 fiscal year were $60,000. The engagement of Ernst & Young LLP for the 2003 fiscal year and the scope of audit-related services, including the audit and reviews described above were pre-approved by our audit committee. Ernst & Young LLP's aggregate fees billed for professional services rendered for the audit of our annual financial statements for the 2002 fiscal year and the review of the financial statements included in our Forms 10-QSB for the 2002 fiscal year were $43,000. The engagement of Ernst & Young LLP for the 2002 fiscal year and the scope of audit-related services, including the audit and reviews described above were pre-approved by our audit committee. Audit-Related Fees Ernst & Young LLP did not provide any other assurance or related services in the 2002 or 2003 fiscal years except as described under the caption "Audit Fees". Tax Fees Ernst & Young LLP's aggregate fees for all tax related services for the 2003 fiscal year were $425 for tax consulting services. Ernst & Young LLP's aggregate fees for all tax related services for the 2002 fiscal year were $4,261 for tax consulting services. All Other Fees Ernst & Young LLP did not provide any other professional services in the 2002 or 2003 fiscal years other than as described above. 18 INDEX TO FINANCIAL STATEMENTS COMPRESSCO, INC. Report of Independent Auditors F-2 Consolidated Balance Sheet as of December 31, 2003 F-3 Consolidated Statements of Operations for the Years Ended December 31, 2003 and 2002 F-4 Consolidated Statements of Comprehensive Income and Stockholders' Equity for the Years Ended December 31, 2003 and 2002 F-5 Consolidated Statements of Cash Flows for the Years Ended December 31, 2003 and 2002 F-6 Notes to Consolidated Financial Statements F-7 F - 1 REPORT OF INDEPENDENT AUDITORS To the Board of Directors and Stockholders of Compressco, Inc.: We have audited the accompanying consolidated balance sheet of Compressco, Inc. and subsidiaries as of December 31, 2003, and the related consolidated statements of operations, comprehensive income and stockholders' equity and cash flows for the years ended December 31, 2003 and 2002. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audit. We conducted our audit in accordance with auditing standards generally accepted in the United States. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Compressco, Inc. as of December 31, 2003, and the results of their operations and their cash flows for the years ended December 31, 2003 and 2002, in conformity with accounting principles generally accepted in the United States. Oklahoma City, Oklahoma Ernst & Young LLP February 10, 2004 F - 2
COMPRESSCO, INC. CONSOLIDATED BALANCE SHEET DECEMBER 31, 2003 ASSETS CURRENT ASSETS: Cash $ 388,030 Accounts receivable, net of allowance of $147,226 4,238,653 Inventories 3,427,074 Prepaid expenses 222,272 Deferred income tax asset 57,570 -------------- Total current assets 8,333,599 -------------- COMPRESSORS, cost 27,642,207 Less- Accumulated depreciation (4,593,948) -------------- Total compressors, net 23,048,259 -------------- VEHICLES, EQUIPMENT and OTHER PROPERTY, cost 1,970,129 Less- Accumulated depreciation (738,965) -------------- Total vehicles, equipment and other property, net 1,231,164 -------------- OTHER ASSETS 108,588 -------------- Total assets $ 32,721,610 ============ LIABILITIES AND STOCKHOLDERS' EQUITY CURRENT LIABILITIES: Accounts payable $ 1,778,308 Accrued liabilities 1,024,411 Income taxes payable 202,699 Deferred revenues 34,495 -------------- Total current liabilities 3,039,913 ------------- LONG-TERM DEBT 17,916,596 -------------- DEFERRED INCOME TAXES 3,584,731 -------------- Total liabilities 24,541,240 -------------- COMMITMENTS (Note 8) STOCKHOLDERS' EQUITY: Preferred stock, $1 par value; 200,000 shares authorized; no shares issued or outstanding - Common stock, $1 par value; 500,000 shares authorized; 153,235 shares issued and outstanding 153,235 Warrants outstanding 100,000 Additional paid-in capital 2,663,715 Accumulated other comprehensive income, net of tax expense of $50,000 79,837 Retained earnings 5,183,583 ------------- Total stockholders' equity 8,180,370 Total liabilities and stockholders' equity $32,721,610 =========== The accompanying notes are an integral part of this consolidated balance sheet.
F - 3
COMPRESSCO, INC. CONSOLIDATED STATEMENTS OF OPERATIONS FOR THE YEARS ENDED DECEMBER 31, 2003 AND 2002 2003 2002 REVENUES: Rental revenue $ 17,914,457 $ 12,674,142 Sales - Compressors and parts 3,388,873 1,248,076 Service and other 1,452,358 999,286 ------------ ------------ Total revenues 22,755,688 14,921,504 ------------ ------------ COST OF SALES AND EXPENSES: Cost of sales 2,047,676 705,797 Operating expenses 12,377,657 9,165,496 Depreciation and amortization expense 1,964,028 1,600,675 ------------ ------------ Total cost of sales and expenses 16,389,361 11,471,968 ------------ ------------ OPERATING INCOME 6,366,327 3,449,536 OTHER INCOME (EXPENSE): Gain on sale of assets 84,405 --- Interest expense (1,106,859) (1,268,413) ------------ ----------- Total income (expense) (1,022,454) (1,268,413) INCOME BEFORE PROVISION FOR INCOME TAXES 5,343,873 2,181,123 PROVISION FOR INCOME TAXES 2,027,849 963,784 ------------ ------------ NET INCOME $ 3,316,024 $ 1,217,339 ============ ============ BASIC EARNINGS PER COMMON SHARE $ 21.64 $ 7.94 ========== ======== DILUTED EARNINGS PER COMMON SHARE $ 16.08 $ 7.00 ========== ======== The accompanying notes are an integral part of these consolidated financial statements.
F - 4
COMPRESSCO, INC. CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME AND STOCKHOLDERS' EQUITY FOR THE YEARS ENDED DECEMBER 31, 2003 AND 2002 ACCUMULATED COMPREHENSIVE COMMON STOCK OTHER INCOME PAR STOCK PAID-IN COMPREHENSIVE RETAINED ------ SHARES VALUE WARRANTS CAPITAL INCOME EARNINGS TOTAL ------ ----- -------- ------- ------ -------- ----- Balance December 31, 2001 $ - 153,235 $153,235 $ 100,000 $2,663,715 $ - $ 650,220 $3,567,170 Net income 1,217,339 - - - - - 1,217,339 1,217,339 ---------- -------- --------- --------- --------- --------- --------- --------- Balance December 31, 2002 $1,217,339 153,235 153,235 100,000 2,663,715 - 1,867,559 4,784,509 Net income $3,316,024 - - - - - 3,316,024 3,316,024 Foreign currency translation adjustment net of income tax 79,837 - - - - 79,837 - 79,837 -------- ------- --------- --------- -------- --------- --------- ----------- Total comprehensive income $3,395,861 ========== Balance December 31, 2003 153,235 $ 153,235 $ 100,000 $2,663,715 $ 79,837 $5,183,583 $8,180,370 ======= ========= ========== ========== ========== ========== =========== The accompanying notes are an integral part of these consolidated financial statements.
F - 5
COMPRESSCO, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS FOR THE YEARS ENDED DECEMBER 31, 2003 AND 2002 2003 2002 CASH FLOWS FROM OPERATING ACTIVITIES: Net income $ 3,316,024 $ 1,217,339 Adjustments to reconcile net income to net cash provided by (used in) operating activities- Depreciation and amortization 1,964,028 1,600,675 Provision for bad debts 82,270 109,353 Amortization of discount on subordinated 33,333 33,333 promissory notes Amortization of deferred financing costs 53,703 38,532 Other assets (15,327) 12,192 Gain on sale of operating equipment (84,405) (140) Deferred income taxes 1,825,150 963,784 Changes in current assets and liabilities: Accounts receivable (2,082,073) (750,792) Notes receivable --- 23,662 Inventories (1,398,411) (67,317) Prepaids and other 23,088 (58,449) Accounts payable 1,255,219 40,862 Accrued liabilities 416,291 (43,472) Income taxes payable 202,699 --- Deferred revenues (231,744) 266,239 ------------- ------------ Net cash provided by operating activities 5,359,845 3,385,801 ------------- ------------ CASH FLOWS FROM INVESTING ACTIVITIES: Additions to compressors (8,959,663) (1,630,577) Additions to vehicles and other property (679,947) (360,516) Proceeds from sale of operating equipment 191,600 8,980 -------------- ------------ Net cash used in investing activities (9,448,010) (1,982,113) ------------- -------------- CASH FLOWS FROM FINANCING ACTIVITIES: Proceeds from new bank credit agreement 12,366,596 --- Proceeds from line of credit 10,249,141 12,750,842 Principal payments on line of credit (17,343,695) (13,330,448) Principal payments on notes payable (1,026,642) (559,999) Deferred financing costs (86,912) --- Net cash (used in) provided by financing activities 4,158,488 (1,139,605) ------------- ------------ NET INCREASE IN CASH AND CASH EQUIVALENTS 70,323 264,083 CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD 317,707 53,624 ------------- ------------- CASH AND CASH EQUIVALENTS, END OF PERIOD $ 388,030 $ 317,707 ========== ======== SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION: Cash paid during the period for: Interest $ 1,105,849 $ 1,201,224 Income taxes -- -- SUPPLEMENTAL DISCLOSURES OF NONCASH INVESTING AND FINANCING ACTIVITIES None None The accompanying notes are an integral part of these consolidated financial statements.
F - 6 COMPRESSCO, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1. ORGANIZATION: Compressco, Inc., formerly Emerging Alpha Corporation (the "Company"), was incorporated in the State of Delaware on February 10, 1993 for the purpose of acquiring business opportunities. On October 29, 1999, the Company purchased Compressco Field Services, Inc., an Oklahoma corporation, and Compressco Testing L.L.C. The two companies are wholly owned subsidiaries of the Company. The Company is engaged primarily in the manufacture, rental and service of natural gas compressors that provide economical well head compression to mature, low pressure natural gas wells. The Company's compressors are currently sold and leased to natural gas producers located primarily in the mid-continent hydrocarbon producing regions of the United States and western Canada. Compressco Testing L.L.C. is a natural gas measurement, testing and service company, based in Oklahoma City that began operations in September 1999. In January 2000 the Company established a wholly owned energy production subsidiary, Providence Natural Gas, Inc., ("Providence") to acquire certain pressure depleted reservoirs, having key reservoir characteristics known to be receptive to well-head compression. The Company was not successful in this endeavor and management has elected to sell the acquired natural gas well in January 2003 and cease operations. In October 2001, the Company established a wholly owned Canadian subsidiary, Compressco Canada, Inc., to market the sale and rental of compressors in Canada. During the fall of 2001 the Company hired a Canadian representative, opened an office and began to service the Canadian market. At December 31, 2003 the Company had 97 compressors on rental and has sold 28 compressors since inception. At December 31, 2003, the Company had 2 compressors off rental and 15 compressors in transit to Canada to be placed on rental in early 2004. 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES: BASIS OF PRESENTATION The accompanying consolidated financial statements include the accounts and operations of the Company for the year ended December 31, 2003. All significant inter company accounts and transactions have been eliminated in the consolidated financial statements. CASH The Company considers all highly liquid investments with initial maturities of three months or less to be cash equivalents. INVENTORIES Inventories consist primarily of compressor components and parts, and work-in-progress, and are stated at the lower of cost or market using the standard cost method. OTHER ASSETS The Company includes in other assets gross deferred financing costs of $86,912 related to the new bank credit agreement entered into effective June 30, 2003. These costs are being amortized on a straight line basis over the three-year life of the related financing. Accumulated amortization as of December 31, 2003 was $14,484. COMPRESSORS, VEHICLES, EQUIPMENT AND OTHER PROPERTY Compressors include units currently being rented and available for rent. Compressors, vehicles and equipment are recorded at cost. Depreciation is computed using the straight-line method based on the following estimated useful lives: F - 7 Compressors 12 years Equipment and other property 7 years Vehicles 5 years Information systems 3 years REVENUE RECOGNITION Revenue on the sale of compressors and parts is recognized upon shipment of goods to customers. The Company rents compressors to customers on terms ranging from two weeks to one month. As of December 31, 2003, all monthly rental agreements are cancellable with 30 days written notice by the customer. Revenues from rental and service agreements are recognized as earned over the lives of the respective agreements. FABRICATION SHOP OVERHEAD COSTS The Company capitalizes certain fabrication shop overhead costs as part of the total cost of the compressors fabricated. The amount capitalized is based on the ratio of time spent on fabricating compressors and will vary with the level of production. The fabrication shop costs include payroll, burden, supplies, utilities, rent, freight and other miscellaneous costs. The portion of the fabrication shop overhead costs that is not capitalized as part of the compressors is expensed in the period incurred. INCOME TAXES Deferred income taxes are provided to reflect the future tax consequences of differences between the tax bases of assets and liabilities and their reported amounts in the financial statements. Deferred income tax assets and liabilities are computed using the currently enacted tax laws and rates that apply to the periods in which they are expected to affect taxable income. Income tax expense is the current tax payable or refundable benefit for the period plus or minus the net change in the deferred tax assets and liabilities. Deferred taxes are classified as current or noncurrent, depending on the classification of the assets and liabilities to which they relate. Deferred tax arising from temporary differences that are not related to an asset or liability are classified as current or noncurrent depending on the period in which the temporary differences are expected to be used. A valuation allowance is established when it is more likely than not that some portion or all of the deferred tax assets will not be realized. Income taxes payable are provided for current income taxes due on the taxable income of Compressco Canada, Inc. In 2003, net operating losses from prior years were used to reduce a portion of the current year taxable income for Compressco Canada. There was no current income tax expense on the company's domestic operations due to a tax loss being generated for 2003. EARNINGS PER COMMON SHARE Basic earnings per common share includes no dilution and is computed by dividing income available to common stockholders by the weighted-average number of shares outstanding for the period. The weighted-average number of shares used to compute basic earnings per common share was 153,235 for each year. Diluted earnings per common share for each year was determined on the assumption that the stock options and stock warrants outstanding were exercised at beginning of each year. The weighted-average of fully diluted shares used to calculate diluted basic earnings for the year ended December 31, 2003 and 2002 were 229,266 and 173,989 respectively. FOREIGN CURRENCY TRANSLATION Compressco Canada Inc., maintains their accounting records in their local currency, Canadian Dollars, which is also its functional currency. The functional currency financial statements are converted to United States Dollar equivalents with the effect of the foreign currency translation adjustment reflected as a component of accumulated other comprehensive income in the consolidated statements of comprehensive income and stockholders' equity. F - 8 BUSINESS SEGMENTS The Company operates as a single reportable business segment pursuant to Statement of Financial Accounting Standards (SFAS) No. 131, "Disclosures about Segments of an Enterprise and Related Information" which requires that companies disclose segment data based on how management makes decisions about allocating resources to segments and measuring performance. All of the Company revenues are from external customers and no single customer amounts to more than 10 percent of our total revenues. The Company is domiciled in the United States of America with operations in Canada. The Company attributes revenue to the countries based on the location of customers. Long-lived assets consists primarily of compressors and are attributed to the countries based on the physical location of the compressors at a given year-end. Information by geographic area is as follows: 2003 2002 ---- ---- Revenues: United States $18,916,054 $14,564,421 Canada 3,839,634 357,083 ---------- ------------ Total revenues $22,755,688 $14,921,504 =========== =========== Long-lived assets, net: United States $20,330,201 $15,626,555 Canada 3,949,222 954,644 -------------- ------------ Total long-lived assets $24,279,423 $16,581,199 =========== =========== USE OF ESTIMATES The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. STOCK BASED COMPENSATION The Company applies APB Opinion No. 25 in accounting for its fixed price stock options. Accordingly, no compensation cost for options has been recognized in the financial statements. The chart below sets forth the Company's net income and loss per share for year ended December 31, 2003 and 2002, as reported and on a pro forma basis as if the compensation cost of stock options had been determined consistent with SFAS 123. 2003 2002 Net Income, as reported $ 3,316,024 $ 1,217,339 Deduct: Total stock-based employee compensation expense determined under fair value based method for all awards, net of related tax effects (94,710) (104,678) -------- --------- Pro forma net income $ 3,221,314 $ 1,112,661 ========= ========= Basic Income per Share: As reported $ 21.64 $ 7.94 Pro forma 21.02 7.26 Diluted Income per Share: As reported $ 16.08 $ 7.00 Pro forma 15.67 6.40 F - 9 3. INVENTORIES: Inventories consist of the following at December 31, 2003: Components and parts $2,849,636 Work-in-progress 577,437 ----------- $3,427,073 ========= 4. LONG-TERM DEBT: Long-term debt consists of the following at December 31, 2003: Subordinated promissory notes (a) $ 5,550,000 Credit agreement (b) 12,366,596 ------------ Total long-term debt $17,916,596 =========== (a) On December 22, 2000, the Company offered an issue of subordinated promissory notes and stock warrants (see Note 10) to qualified private investors. At December 31, 2003, $5,550,000 of the subordinated promissory notes were outstanding. Of the $5,550,000 in proceeds, $100,000 was allocated to the stock warrants. The notes are subordinated unsecured obligations of the Company and rank subordinate to all existing indebtedness of the Company. In March 2003 the Company and the holders of the subordinated promissory notes agreed to amend the promissory notes to extend the maturity to March 31, 2005, change the interest rate from 13% to 10% effective April 1, 2003 and make convertible by the holder into common stock of the Company at anytime prior to maturity at a conversion price of $150 per share. The Notes mature on the earlier of (1) the consummation of an underwritten public offering of the Company's capital stock or (2) March 31, 2005. The Company may, at any time prepay any part of the principal balance on the Notes, in increments of $10,000, without premium or penalty prior to maturity. Interest is payable at 13% per annum, 10% effective April 1, 2003, and is payable quarterly in arrears. (b) The Company entered into a new credit agreement on June 30, 2003 with a bank and repaid all amounts due on its prior line of credit and term facilities. Under the new credit agreement the Company may borrow up to the lesser of $17,500,000 or the sum of (i) 85% of the aggregate amount of eligible receivables, (ii) 50% of the aggregate amount of eligible inventory, and (iii) the lower of 80% of the appraised orderly liquidated value or the net book value of its compressor fleet. In addition, no additional draws are permitted under the credit facility if utilization of the compressor fleet falls below 70%. As of December 31, 2003, the utilization rate of the compressor fleet was 92.5%. The balance outstanding under the line of credit agreement as of December 31, 2003 was $12,366,596. As of December 31, 2003 under the terms of the credit agreement the Company qualified to borrow the full $17,500,000 available under the credit agreement. The borrowing under the credit facility bear interest between 0.25% and 0.5% over Wall Street Journal Prime Rate (4.25% at December 31, 2003) or between 3.0% and 3.25% over LIBOR (4.15% at December 31, 2003) based on the Company's ratio of debt to earnings before interest, taxes, depreciation and amortization. Interest is due quarterly with all outstanding borrowings due at maturity on the earlier of June 30, 2006 or 45 days prior to the maturity of the $5,550,000 subordinated promissory notes currently due March 31, 2005. The loan is secured with the assets and compressor rental agreements of the Company. The Company's credit facility imposes a number of financial and restrictive covenants that among things, limit the Company's ability to incur additional indebtedness, create liens and pay dividends. As of December 31, 2003, the Company was in compliance with its loan covenant ratios. Management expects that the Company will be in compliance with the covenants under the credit facility for at least the next twelve months. F - 10 The annual maturities of long-term debt subsequent to December 31, 2003 are shown in the following table. The bank credit agreement is shown as maturing in 2005 based on its maturity date being the earlier of the maturity date of the subordinated promissory notes maturity of March 31, 2005 or the maturity of the bank credit agreement of June 30, 2006. 2004 --- 2005 17,916,596 2006 --- ------------ Total $ 17,916,596 ============= The carrying value of the Company's financial instruments approximates fair value at December 31, 2003. 5. INCOME TAXES: The components of income taxes for the years ended December 31, 2003 and 2002 are set forth as follows: 2003 2002 Current provision $ 202,699 $ - Deferred provision 1,825,150 963,784 ---------- ---------- Income taxes $ 2,027,849 $ 963,784 ============ =========== The differences between the provision for income taxes at the expected Federal statutory rate and the provision for income taxes recorded in the consolidated statements of operations for the years ended December 31, 2003 and 2002 are summarized as follows: 2003 2002 Federal income tax at statutory rate $ 1,816,917 $ 741,582 State income taxes, net of Federal income tax benefit 234,062 95,533 Nondeductible expenses 38,050 35,300 Canadian operations (61,180) 91,369 ----------- ---------- Provision for income taxes $ 2,027,849 $ 963,784 =============== ============ The significant components of the Company's deferred tax assets and liabilities are as follows at December 31, 2003: Deferred tax assets: Accounts receivable $ 57,570 ------------ Net current deferred tax asset $ 57,570 ========== Deferred tax liabilities: Depreciation $ (4,761,304) Foreign currency translation (50,000) Net operating losses 1,226,573 ------------ Net non-current deferred tax liability $ (3,584,731) =========== F - 11 At December 31, 2003, the Company has cumulative United States net operating loss carry forwards of approximately $3,196,000, which will begin to expire in 2014. 6. EMPLOYEE BENEFIT PLANS: 401(k) Plan The Company implemented a 401(k) plan on October 1, 2001 in which substantially all full time employees of the Company are eligible to participate. The 401(k) plan provides that the Company will match 100% of the first 1% employee contribution and 50% of the next 2% of employee contributions to the plan. The employee vests in the Company's contribution 50% after one year and 100% after two years. The Company contributions to the 401(k) plan were $43,396 and $40,154 for the years ended December 31, 2003 and 2002 respectively. Hartford Life is the plan provider and provides the investment, administrative and reporting services for the participants. The plan assets are invested, at the employee's discretion, in a choice of several Hartford funds. Stock Ownership and Incentive Stock Option Plan The Company's 1993 Stock Option Plan provides for the issuance of up to 2 million shares of common stock at no less than 85% of market value at the time of grant (for non-qualified options) and no less than 110% of market value for incentive stock options. A summary of the Company's stock options as of December 31, 2003 and 2002 and changes during the years then ended are presented below: Number Weighted-Average of Shares Exercise Price Outstanding at December 31, 2001 30,950 $21.64 Granted 3,500 $39.00 Canceled (2,400) $30.00 ------- Outstanding at December 31, 2002 32,050 $22.91 ======= Granted 1,700 $39.00 Canceled ----- --- Outstanding at December 31, 2003 33,750 $26.54 ======= Exercisable at December 31, 2003 23,250 $18.87 ------- The following table summarizes information about stock options outstanding as of December 31, 2003: Exercise Number Weighted Average Number Price Outstanding Remaining Life (years) Exercisable ---------- ------------ ---------------------- ----------- $15.00 17,250 2.01 17,250 $30.00 11,300 3.14 6,000 $39.00 3,500 4.58 -------- $95.00 1,700 5.50 -------- -------- -------- Total 33,750 2.83 23,250 ====== ====== The stock options outstanding that are not exercisable at December 31, 2003 become exercisable beginning in February 2004 through September 2006. The stock options are exercisable for a period of three years. In October 1995, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 123 ("SFAS 123"), "Accounting for Stock-Based Compensation," effective for the Company at March 31, 1997. Under SFAS 123, companies can either record expense based on the fair value of stock-based compensation upon issuance or elect to remain under the current APB Opinion No. 25 method whereby no compensation cost is recognized upon grant if the exercise price of options are 100% or greater than the stock price at the grant date. The Company accounts for its stock-based compensation plan under APB Opinion No. 25. Entities electing to remain with the accounting in APB Opinion No. 25 must make disclosures as if SFAS 123 had been applied. The disclosure requirements of this Statement are effective for options granted in fiscal 1996 and later. F - 12 The SFAS No 123 method of accounting is based on several assumptions and should not be viewed as indicative of the operations of the Company in future periods. The fair value of each option grant is estimated on the date of grant using the Black-Scholes option pricing model with the following weighted-average assumptions used for grants in 2003 and 2002, as follows: 2003 2002 Interest rate 3.32% 3.74% Dividend yield 0.00% 0.00% Expected volatility 110.0% 110.00% Expected life 6 years 6 years The weighted average fair value per share of options granted using the Black-Scholes option pricing model for 2003 and 2002, respectively are $69.44 and $38.38. 7. RELATED PARTIES: Certain directors and their family members purchased a total of $1,550,000 of the subordinated promissory notes including 13,020 stock warrants from the offering made to private investors in December 2000. The directors and their family members purchased the Notes and Warrants under the same terms and conditions as all other investors. Certain officers and directors are compensated based on actual time and expenses devoted to the Company's business. During the years ended December 31, 2003 and 2002, a consulting fee of $2,000 per month was paid to a director who served as the Company's secretary. 8. COMMITMENTS: PURCHASE COMMITMENTS The Company entered into a purchase agreement on December 14, 2000, with a supplier to purchase 1,000 compressor engines by December 31, 2002. At December 31, 2003 the Company has taken delivery of 548 engines from the supplier. The purchase agreement was amended on February 24, 2003, to provide that the Company shall purchase 13 engines per month commencing January 1, 2003 and not less than 156 engines per year until the remaining balance of 452 engines have been purchased. The purchase agreement provides that the Company's liability to the supplier for any failure to purchase the full amount of engines is limited to (i) pay for engines delivered, (ii) reasonable direct out of pocket cost incurred by the supplier in acquiring material for production of the number of engines contemplated by the agreement and (iii) the reasonable costs incurred by the supplier for work in progress at the time of termination of the agreement including labor costs and reasonable quantities of parts and materials ordered by the supplier. The Company has complied with the requirements of the amended purchase agreement during 2003 and anticipates staying in compliance over the remaining life of the agreement. FACILITIES AND VEHICLE LEASES The Company has a three year lease terminating August 31, 2004 for its Oklahoma City manufacturing, warehouse and office facilities. The Company has a three year lease terminating September 5, 2004 for its warehouse and office facilities in New Mexico. Compressco Canada has a five year lease terminating December 31, 2008 for its warehouse and office facilities. The Company leases certain vehicles with original terms ranging up to two years. As of December 31, 2003, future annual minimum lease payments under noncancellable operating leases were approximately $451,000 for 2004, $267,000 for 2005, $154,000 for 2006, $79,000 for 2007 and $79,000 for 2008. Rent expense under all operating leases was approximately $529,000 and $517,000 for the years ended December 31, 2003 and 2002, respectively. 9. MAJOR CUSTOMERS: At December 31, 2003, the Company had approximately 385 customers. During the year ended December 31, 2003, we did not have sales to any one customer comprising more than 10% of our total revenues. At December 31, 2003, the F - 13 Company had one customer, Chesapeake Operating Inc., which amounted to approximately 15% of the Company's total trade accounts receivable balance. 10. STOCK WARRANTS: In connection with the offering of the subordinated promissory notes discussed in Note 4, the Company issued stock warrants to purchase 420 shares of the Company's common stock per every $50,000 amount of Notes purchased. The warrants have an exercise price of $120 per share. At December 31, 2003 total stock warrants of 46,620 were issued and outstanding. The warrants are exercisable upon issuance, and expire on March 31, 2005. No stock warrants have been exercised as of December 31, 2003. The Company obtained a valuation as to the amount to be assigned to the warrants from the total proceeds received from the issuance of the subordinated promissory notes. Based on the valuation estimate, the value assigned to the warrants is $100,000. This amount is shown as outstanding warrants in stockholders' equity and as a discount to the subordinated promissory notes. The discount will be amortized over the three-year life of the stock warrants as additional interest expense. The effective interest rate on the Notes is 13.84% when the value of the warrants is taken into consideration. The value was determined using the Valrex model, which is an option valuation model that uses established option pricing theory to price nontrading options and warrants. 11. NET INCOME PER COMMON SHARE Basic and diluted net income per common share are calculated as follows:
Net Income Shares Per Share (Numerator) (Denominator) Amount ---------- ----------- ----------- Year Ended December 31, 2003 Basic: Income available to common stockholders $3,316,024 153,235 $ 21.64 ======== Diluted: Effect of stock options and stock warrants --------- 39,031 Effect of conversion of subordinated promissory notes, net of income tax 370,504 37,000 ------- ------ Income available to common stockholders plus assumed exercises of stock options and stock warrants and conversion of subordinated promissory notes $3,686,528 229,266 $ 16.08 ========== ======= ======== Year Ended December 31, 2002 Basic: Income available to common stockholders $1,217,339 153,235 $ 7.99 ======== Diluted: Effect of stock options ---------- 20,754 ---------- -------- Income available to common stockholders plus assumed exercises of stock options $1,217,339 173,989 $ 7.00 ========== ======= ========
Stock warrants for 46,620 commons shares with an exercise price of $120.00 per share were excluded from the computation of diluted net income per common share for the year ended December 31, 2002 because the warrants' exercise price was greater than the average market price of the common shares. F - 14 SIGNATURES In accordance with Section 13 or 15(d) of the Exchange Act, the Registrant has caused this report to be signed on its behalf by the undersigned, thereunto duly authorized, on March 30, 2004. COMPRESSCO, INC. By: /S/ BROOKS MIMS TALTON ------------------------------------ Brooks Mims Talton Chief Executive Officer In accordance with the Exchange Act, this report has been signed below by the following persons on behalf of the Registrant and in the capacities on the dates indicated. By: /S/ BURT H. KEENAN Dated: March 30, 2004 -------------------------------------- Burt H. Keenan Chairman of Board and Director By: /S/ BROOKS MIMS TALTON Dated: March 30, 2004 -------------------------------------- Brooks Mims Talton Chief Executive Officer, President and Director By: /S/ GARY MCBRIDE Dated: March 30, 2004 -------------------------------------- Gary McBride Chief Financial Officer (Principal Financial and Accounting Officer) By: /S/ JERRY W. JARRELL Dated: March 30, 2004 -------------------------------------- Jerry W. Jarrell Director S - 1 Exhibit 31 Certification of Chief Executive Officer of Compressco, Inc. I, Brooks Mims Talton, certify that: 1. I have reviewed this annual report on Form 10-KSB of Compressco, Inc.; 2. Based on my knowledge, this annual report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under with such statements were made, not misleading with respect to the period covered by this annual report; 3. Based on my knowledge, the financial statements, and other financial information included in this annual report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this annual report; 4. The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and have: a) designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this annual report is being prepared; b) evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing of this annual report (the "Evaluation Date"); and c) presented in this annual report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date; 5. The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent functions): a) all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and 6. The registrant's other certifying officers and I have indicated in this annual report whether there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. Dated: March 30, 2004 /S/ BROOKS MIMS TALTON ------------------------------ Brooks Mims Talton Chief Executive Officer Certification of Chief Financial Officer of Compressco, Inc. I, Gary McBride, certify that: 1. I have reviewed this annual report on Form 10-KSB of Compressco, Inc.; 2. Based on my knowledge, this annual report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under with such statements were made, not misleading with respect to the period covered by this annual report; 3. Based on my knowledge, the financial statements, and other financial information included in this annual report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this annual report; 4. The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and have: a) designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this annual report is being prepared; b) evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing of this annual report (the "Evaluation Date"); and c) presented in this annual report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date; 5. The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent functions): a) all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and b) any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and 6. The registrant's other certifying officers and I have indicated in this annual report whether there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. Dated: March 30, 2004 /S/ GARY MCBRIDE ----------------------------------- Gary McBride Chief Financial Officer Exhibit 32 Certification of Chief Executive Officer of Compressco, Inc. This certification is provided pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 and accompanies the annual report on Form 10-KSB (the "form") for the year ended December 31, 2003 of Compressco, Inc. (the "Issuer"). I, Brooks Mims Talton, the Chief Executive Officer of Issuer certify that to the best of my knowledge: (i) the Form 10-KSB fully complies with the requirements of section 13(a) or section 15(d) of the Securities Exchange Act of 1934 (15 U.S.C. 78m(a) or 78o(d)); and (ii) the information contained in the Form 10-KSB fairly presents, in all material respects, the financial condition and results of operations of the Issuer. Dated: March 30, 2004 By: /S/ BROOKS MIMS TALTON ------------------------ Chief Executive Officer Certification of Chief Financial Officer of Compressco, Inc. This certification is provided pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 and accompanies the annual report on Form 10-KSB (the "form") for the year ended December 31, 2003 of Compressco, Inc. (the "Issuer"). I, Gary McBride, the Chief Financial Officer of Issuer certify that to the best of my knowledge: (i) the Form 10-KSB fully complies with the requirements of section 13(a) or section 15(d) of the Securities Exchange Act of 1934 (15 U.S.C. 78m(a) or 78o(d)); and (ii) the information contained in the Form 10-KSB fairly presents, in all material respects, the financial condition and results of operations of the Issuer. Dated: March 30, 2004 By: /S/ GARY MCBRIDE ---------------------- Chief Financial Officer