DAYBREAK OIL AND GAS, INC. The following discussion is management's assessment of the current and historical financial and operating results of the Company and of our financial condition. It is intended to provide information relevant to an understanding of our financial condition, changes in our financial condition and our results of operations and cash flows and should be read in conjunction with our unaudited financial statements and notes thereto included elsewhere in this Quarterly Report on Form 10-Q for the six months endedAugust 31, 2021 and in our Annual Report on Form 10-K for the year endedFebruary 28, 2021 . References to "Daybreak", the "Company", "we", "us" or "our" meanDaybreak Oil and Gas, Inc.
Cautionary Statement Regarding Forward-Looking Statements
Certain statements contained in our Management's Discussion and Analysis of Financial Condition and Results of Operations ("MD&A") are intended to be covered by the safe harbor provided for under Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Exchange Act.
All statements other than statements of historical fact contained in this MD&A report are inherently uncertain and are forward-looking statements. Statements that relate to results or developments that we anticipate will or may occur in the future are not statements of historical fact. Words such as "anticipate," "believe," "could," "estimate," "expect," "intend," "may," "plan," "predict," "project," "will" and similar expressions identify forward-looking statements. Examples of forward-looking statements include, without limitation, statements about the following:
· Our future operating results;
· Our future capital expenditures;
· Our future financing;
· Our expansion and growth of operations; and
· Our future investments in and acquisitions of crude oil properties.
We have based these forward-looking statements on assumptions and analyses made in light of our experience and our perception of historical trends, current conditions, and expected future developments. However, you should be aware that these forward-looking statements are only our predictions and we cannot guarantee any such outcomes. Future events and actual results may differ materially from the results set forth in or implied in the forward-looking statements. Important factors that could cause actual results to differ materially from our expectations include, but are not limited to, the following risks and uncertainties:
· General economic and business conditions;
· National and international pandemics such as the novel coronavirus COVID-19
outbreak;
· Exposure to market risks in our financial instruments;
· Fluctuations in worldwide prices and demand for crude oil;
· Our ability to find, acquire and develop crude oil properties;
· Fluctuations in the levels of our crude oil exploration and development
activities;
· Risks associated with crude oil exploration and development activities;
· Competition for raw materials and customers in the crude oil industry;
· Technological changes and developments in the crude oil industry;
· Legislative and regulatory uncertainties, including proposed changes to federal
tax law and climate change legislation, regulation of hydraulic fracturing and
potential environmental liabilities;
· Our ability to continue as a going concern;
· Our ability to secure financing under any commitments as well as additional
capital to fund operations; and
· Other factors discussed elsewhere in this Form 10-Q; in our other public
filings and press releases; and discussions with Company management.
Our reserve estimates are determined through a subjective process and are subject to revision.
InDecember 2019 , the 2019 novel coronavirus ("COVID-19") surfaced inWuhan, China . TheWorld Health Organization declared a global emergency onJanuary 30, 2020 , with respect to the outbreak and most countries throughout the world initiated severe travel restrictions to and from other countries. This widespread health crisis and the governmental restrictions associated with it, have adversely affected demand for crude oil and natural gas, depressed crude oil prices, and affected our ability to access capital. These factors, in turn, have had a negative impact on our operations, and financial condition as evidenced by the unprecedented decline in crude oil prices and our revenues during this same time period. 17 Should one or more of the risks or uncertainties described above or elsewhere in our Form 10-K for the year endedFebruary 28, 2021 and in this Form 10-Q for the six months endedAugust 31, 2021 occur, or should any underlying assumptions prove incorrect, our actual results and plans could differ materially from those expressed in any forward-looking statements. We specifically undertake no obligation to publicly update or revise any information contained in any forward-looking statement or any forward-looking statement in its entirety, whether as a result of new information, future events, or otherwise, except
as required by law.
All forward-looking statements attributable to us are expressly qualified in their entirety by this cautionary statement.
Introduction and Overview We are an independent crude oil exploration, development and production company. Our basic business model is to increase shareholder value by finding and developing crude oil and natural gas reserves through exploration and development activities, and selling the production from those reserves at a profit. To be successful, we must, over time, be able to find crude oil reserves and then sell the resulting production at a price that is sufficient to cover our finding costs, operating expenses, administrative costs and interest expense, plus offer us a return on our capital investment. A secondary means of generating returns can include the sale of either producing or non-producing lease properties. Our longer-term success depends on, among many other factors, the acquisition and drilling of commercial grade crude oil properties and on the prevailing sales prices for crude oil along with associated operating expenses. The volatile nature of the energy markets makes it difficult to estimate future prices of crude oil and natural gas; however, any prolonged period of depressed prices or market volatility, would have a material adverse effect on our results of operations and financial condition. Our operations are focused on identifying and evaluating prospective crude oil and natural gas properties and funding projects that we believe have the potential to produce crude oil or natural gas in commercial quantities. We conduct all of our drilling, exploration and production activities inthe United States , and all of our revenues are derived from sales to customers withinthe United States . Currently, we are in the process of developing a multi-well oilfield project inKern County, California . Our management cannot provide any assurances that Daybreak will ever operate profitably. While, in the past, we have had positive cash flow from our crude oil operations inCalifornia , we have not yet generated sustainable positive cash flow or earnings on a company-wide basis. As a small company, we are more susceptible to the numerous business, investment and industry risks that have been described in Item 1A. Risk Factors of our Annual Report on Form 10-K for the fiscal year endedFebruary 28, 2021 and in Part III, Item 1A. Risk Factors of this 10-Q Report. Throughout this Quarterly Report on Form 10-Q, crude oil is shown in barrels ("Bbls"); natural gas is shown in thousands of cubic feet ("Mcf") unless otherwise specified, and hydrocarbon totals are expressed in barrels of crude oil equivalent ("BOE"). Below is brief summary of our crude oil projects inCalifornia andMichigan . Refer to our discussion in Item 2. Properties, in our Annual Report on Form 10-K for the year endedFebruary 28, 2021 for more information on our multi-well oilfield project inCalifornia and our exploratory joint drilling project inMichigan .
The East Slopes Project is located in the southeastern part of theSan Joaquin Basin nearBakersfield, California . Drilling targets are porous and permeable sandstone reservoirs that exist at depths of 1,200 feet to 4,500 feet. SinceJanuary 2009 , we have participated in the drilling of 25 wells in this project. We have been the Operator at theEast Slopes Project sinceMarch 2009 . The crude oil produced from our acreage in the Vedder Sand is considered heavy oil. The gravity of the crude oil ranges from 14° to 16°API (American Petroleum Institute ) gravity and must be heated to separate and remove water prior to sale. Our crude oil wells in theEast Slopes Project produce from five reservoirs at our Sunday, Bear, Black, Ball andDyer Creek locations. The Sunday property has six producing wells, while the Bear property has nine producing wells. The Black property is the smallest of all currently producing reservoirs, and currently has two producing wells at this property. The Ball property also has two producing wells while theDyer Creek property has one producing well. During the six months endedAugust 31, 2021 we had production from 20 crude oil wells. Our average working interest ("WI") and net revenue interest ("NRI") in these 20 wells is 36.6% and 28.4%, respectively. We plan on acquiring additional acreage exhibiting the same seismic characteristics and on trend with the Bear, Black andDyer Creek reservoirs. Some of these prospects, if successful, would utilize the Company's existing production facilities. In addition to the current field development, there are several other exploratory prospects that have been identified from the seismic data, which we plan to drill in the future. 18 California Drilling Plans Planned drilling activity and implementation of our oilfield development plan will not begin until there is a sustained improvement in crude oil prices and additional financing is in put in place. We do not plan to make any capital investments within theEast Slopes Project area in the 2021-2022 fiscal year if no new financing is in place. If new financing is secured, we plan to spend approximately$435,000 drilling three development wells in the 2021-2022 fiscal year. Michigan Acreage
InJanuary 2017 , Daybreak acquired a 30% working interest in 1,400 acres in theMichigan Basin . The leases have been secured and multiple targets were identified through a 2-D seismic interpretation. A3-D seismic survey was obtained in January and February of 2017. An analysis of the3-D seismic survey confirmed the first prospect originally identified on the 2-D seismic, as well as several additional drilling locations. We have plans to obtain an additional3-D survey on the second prospect after drilling a well on the first prospect. The two prospects are independent of each other and the success or lack of results of either prospect does not affect the potential of the other prospect. The wells will be drilled vertically with conventional completions and no hydraulic fracturing is anticipated. With the settlement of our debt obligations to a former lender inDecember 2018 , we acquired an additional 40% working interest, bringing our aggregate working interest to 70% inMichigan . The first well is expected to be drilled when additional financing is secured. Encumbrances
On
Results of Operations - Six months ended
California Crude Oil Prices The price we receive for crude oil sales inCalifornia is based on prices posted for Midway-Sunset crude oil delivery contracts, less deductions that vary by grade of crude oil sold and transportation costs. The posted Midway-Sunset price generally moves in correlation to, and at a discount to, prices quoted on theNew York Mercantile Exchange ("NYMEX") for spot West Texas Intermediate ("WTI") crude oil,Cushing, Oklahoma delivery contracts. We do not have any natural
gas revenues inCalifornia . There continues to be a significant amount of volatility in crude oil prices and a dramatic fluctuation in our realized sale price of crude oil since June of 2014, when the monthly average price of WTI crude oil was$105.79 per barrel and our realized sale price per barrel of crude oil was$98.78 . As an example, for the month ofApril 2020 the monthly average closing price of WTI crude oil was$16.55 and our monthly realized oil price was$16.96 per barrel. This volatility in crude oil prices continued through most of our 2020-2021 fiscal year. The volatility and decline in the price of crude oil has had a substantial negative impact on our cash flow from our producingCalifornia properties. While there has been some improvement in crude oil prices for the six months endedAugust 31, 2021 , there is no guarantee that this trend will continue. It is beyond our ability to accurately predict crude oil prices over any substantial length
of time. A comparison of the average WTI price and average realized crude oil sales price for the six months endedAugust 31, 2021 and 2020 is shown in the table below: Six Months Ended August 31, 2021 August 31, 2020 Percentage Change Average six month WTI crude oil price (Bbl) $ 66.80 $ 32.61 104.8 % Average six month realized crude oil sales price (Bbl) $ 64.77 $ 30.68 111.1 %
For the six months endedAugust 31, 2021 , the average WTI price was$66.80 and our average realized crude oil sale price was$64.77 , representing a discount of$2.03 per barrel or 3.0% lower than the average WTI price. In comparison, for the six months endedAugust 31, 2020 , the average WTI price was$32.61 and our average realized sale price was$30.68 representing a discount of$1.93 per barrel or 5.9% lower than the average WTI price. Historically, the sale price we receive forCalifornia heavy crude oil has been less than the quoted WTI price because of the lower API gravity of ourCalifornia crude oil in comparison to the API gravity of quoted WTI crude oil. 19
California Crude Oil Revenue and Production
Crude oil revenue inCalifornia for the six months endedAugust 31, 2021 increased$138,855 or 78.1% to$316,618 in comparison to revenue of$177,763 for the six months endedAugust 31, 2020 . The average sale price of a barrel of crude oil for the six months endedAugust 31, 2021 was$64.77 in comparison to$30.68 for the six months endedAugust 31, 2020 . The 2019 novel coronavirus ("COVID-19") that has spread throughout the world includingthe United States had a substantial negative impact on the demand for crude oil and was largely responsible for the decline in crude oil prices for the six months endedAugust 31, 2020 . The increase of$34.09 or 111.1% per barrel in the average realized price of a barrel of crude oil accounted for 142.3% of the increase in crude oil revenue for the six months endedAugust 31, 2021 . Our net sales volume for the six months endedAugust 31, 2021 was 4,888 barrels of crude oil in comparison to 5,794 barrels sold for the six months endedAugust 31, 2020 . This decrease in crude oil sales volume of 906 barrels or 15.6% was primarily due to fewer days of production during the six months endedAugust 31, 2021 and the timing of oil sales transportation. The gravity of our produced crude oil inCalifornia ranges between 14° API and 16° API. Production for the six months endedAugust 31, 2021 was from 20 wells resulting in 3,631 well days of production in comparison to 3,675 well days of production for the six months endedAugust 31, 2020 .
Our crude oil sales revenue for the six months ended
Six Months Ended Six Months Ended
August 31, 2021 August 31, 2020
Project Revenue Percentage Revenue PercentageCalifornia - East Slopes Project$ 316,618 100.0 %$ 177,763
100.0 %
*Our average realized sale price on a BOE basis for the six months ended August
31, 2021 was $64.77 in comparison to $30.68 for the six months ended August 31,
2020 , representing an increase of $34.09 or 111.1% per barrel.
Operating Expenses
Total operating expenses for the six months ended August 31, 2021 were $415,366 ,
an increase of $1,349 or 0.3% compared to $414,017 for the six months ended
August 31, 2020 . Operating expenses for the six months ended August 31, 2021 and
2020 are set forth in the table below:
Six Months Ended Six Months Ended
August 31, 2021 August 31, 2020
BOE BOE
Expenses Percentage Basis Expenses Percentage Basis
Production expenses $ 99,569 24.0 % $ 82,637 20.0 %
Exploration and drilling expenses 201 0.0 % - 0.0 %
Depreciation, depletion,
amortization ("DD&A") 28,808 6.9 % 28,827 7.0 %
General and administrative ("G&A")
expenses 286,788 69.1 % 302,553 73.0 %
Total operating expenses $ 415,366 100.0 % $ 84.98 $ 414,017 100.0 % $ 71.46
Production expenses include expenses associated with the production of crude
oil. These expenses include contract pumpers, electricity, road maintenance,
control of well insurance, property taxes and well workover expenses; and,
relate directly to the number of wells that are in production. For the six
months ended August 31, 2021 , these expenses increased by $16,932 or 20.5% to
$99,569 in comparison to $82,637 for the six months ended August 31, 2020 . For
the six months ended August 31, 2021 and 2020, we had 20 wells on production in
California . Production expense on a barrel of oil equivalent ("BOE") basis for
the six months ended August 31, 2021 and 2020 was $20.37 and $14.26 ,
respectively. Production expenses represented 24.0% and 20.0% of total operating
expenses for the six months ended August 31, 2021 and 2020, respectively.
Exploration and drilling expenses include geological and geophysical ("G&G")
expenses as well as leasehold maintenance, plugging and abandonment ("P&A")
expenses and dry hole expenses. For the six months ended August 31, 2021 , these
expenses were $201 in comparison to $-0 - the six months ended August 31, 2020 .
Exploration and drilling expenses represented 0.0% and 0.0% of total operating
expenses for the six months ended August 31, 2021 and 2020, respectively.
20
Depreciation, depletion and amortization ("DD&A") expenses relate to equipment,
proven reserves and property costs, along with impairment, and is another
component of operating expenses. For the six months ended August 31, 2021 , DD&A
expenses decreased $19 or 0.1% to $28,808 in comparison to $28,827 for the six
months ended August 31, 2020 . On a BOE basis, DD&A expense was $5.89 and $4.98
for the six months ended August 31, 2021 and 2020, respectively. DD&A expenses
represented 6.9% and 7.0% of total operating expenses for the six months ended
August 31, 2021 and 2020, respectively.
General and administrative ("G&A") expenses include the salaries of six
employees, including management. Other items included in our G&A expenses are
legal and accounting expenses, investor relations fees, travel expenses,
insurance expenses and other administrative expenses necessary for an operator
of crude oil properties as well as for running a public company. For the six
months ended August 31, 2021 , G&A expenses decreased $15,765 or 5.2% to $286,788
in comparison to $302,553 for the six months ended August 31, 2020 . We received,
as Operator, administrative overhead reimbursement of $26,644 during the six
months ended August 31, 2021 for the East Slopes Project which was used to
directly offset certain employee salaries. We are continuing a program of
controlling our G&A costs wherever possible. G&A expenses represented 69.1% and
73.0% of total operating expenses for the six months ended August 31, 2021 and 2020, respectively.
During the six months endedAugust 31, 2021 , the Company recognized a gain on asset disposal of$9,614 . The gain was the result of an insurance settlement on the theft of a company vehicle that was fully depreciated. Interest expense, net for the six months endedAugust 31, 2021 decreased$10,347 or 8.2% to$115,597 in comparison to$125,944 for the six months endedAugust 31, 2020 .
Results of Operations - Three months ended
A comparison of the average WTI price and average realized crude oil sales price at ourEast Slopes Project inCalifornia for the three months endedAugust 31, 2021 and 2020 is shown in the table below: Three Months Ended August 31, 2021 August 31, 2020 Percentage Change Average three month WTI crude oil price (Bbl) $ 70.52 $ 40.45 74.3 % Average three month realized crude oil sales price (Bbl) $ 67.75 $ 36.86 83.8 % For the three months endedAugust 31, 2021 , the average WTI price was$70.52 and our average realized crude oil sale price was$67.75 , representing a discount of$2.77 per barrel or 3.9% lower than the average WTI price. In comparison, for the three months endedAugust 31, 2020 , the average WTI price was$40.45 and our average realized sale price was$36.86 representing a discount of$3.59 per barrel or 8.9% lower than the average WTI price. Historically, the sale price we receive forCalifornia heavy crude oil has been less than the quoted WTI price because of the lower API gravity of ourCalifornia crude oil in comparison to the API gravity of quoted WTI crude oil.
California Crude Oil Revenue and Production
Crude oil revenue inCalifornia for the three months endedAugust 31, 2021 , increased$60,754 or 56.0% to$169,318 in comparison to revenue of$108,564 for the three months endedAugust 31, 2020 . The average sale price of a barrel of crude oil for the three months endedAugust 31, 2021 was$67.75 in comparison to$36.86 for the three months endedAugust 31, 2020 . The increase of$30.89 or 83.8% per barrel in the average realized price of a barrel of crude oil accounted for 149.7% of the increase in crude oil revenue for the three months endedAugust 31, 2021 . Our net sales volume for the three months endedAugust 31, 2021 was 2,499 barrels of crude oil in comparison to 2,945 barrels sold for the three months endedAugust 31, 2020 . This decrease in crude oil sales volume of 446 barrels or 15.1% was primarily due to fewer days of production during the three months endedAugust 31, 2021 and the timing of oil sales transportation. The gravity of our produced crude oil inCalifornia ranges between 14° API and 16° API. Production for the three months endedAugust 31, 2021 was from 20 wells resulting in 1,822 well days of production in comparison to 1,837 well days of production for the three months endedAugust 31, 2020 . 21
Our crude oil sales revenue for the three months ended
Three Months Ended Three Months Ended
August 31, 2021 August 31, 2020
Project Revenue Percentage Revenue PercentageCalifornia - East Slopes Project$ 169,318 100.0 %
$ 108,564 100.0 %
*Our average realized sale price on a BOE basis for the three months ended
Operating Expenses
Total operating expenses for the three months ended
Three Months Ended Three Months Ended
August 31, 2021 August 31, 2020
BOE BOE
Expenses Percentage Basis Expenses Percentage Basis
Production expenses $ 52,843 28.3 % $ 43,442 20.9 %
Exploration and drilling expenses 201 0.1 % - 0.0 %
Depreciation, depletion,
amortization ("DD&A") 14,860 7.9 % 14,668 7.0 %
General and administrative ("G&A")
expenses 119,163 63.7 % 150,184 72.1 %
Total operating expenses $ 187,067 100.0 % $ 74.86 $ 208,294 100.0 % $ 70.73
Production expenses for the three months ended August 31, 2021 , increased by
$9,401 or 21.6% to $52,843 in comparison to $43,442 for the three months ended
August 31, 2020 . For the three months ended August 31, 2021 and 2020, we had 20
wells on production in California . Production expense on a barrel of oil
equivalent ("BOE") basis for the three months ended August 31, 2021 and 2020
were $21.15 and $14.75 , respectively. Production expenses represented 28.3% and
20.9% of total operating expenses for the three months ended August 31, 2021 and
2020, respectively.
Exploration and drilling expenses for the three months ended August 31, 2021
were $201 in comparison to $-0 -for the three months ended August 31, 2020 .
Exploration and drilling expenses represented 0.1% and 0.0% of total operating
expenses for the three months ended August 31, 2021 and 2020, respectively.
DD&A expenses for the three months ended August 31, 2021 , increased $192 or 1.3%
to $14,860 in comparison to $14,668 for the three months ended August 31, 2020 .
DD&A on a BOE basis was $5.95 and $4.98 for the three months ended August 31,
2021 and 2020, respectively. DD&A expenses represented 7.9% and 7.0% of total
operating expenses for the three months ended August 31, 2021 and 2020,
respectively.
General and administrative ("G&A") expenses include the salaries of six
employees, including management. Other items included in our G&A expenses are
legal and accounting expenses, investor relations fees, travel expenses,
insurance expenses and other administrative expenses necessary for an operator
of crude oil properties as well as for running a public company. G&A expenses
for the three months ended August 31, 2021 , decreased $31,021 or 20.7% to
$119,163 in comparison to $150,184 for the three months ended August 31, 2020 .
We received, as Operator in California , administrative overhead reimbursement of
$13,322 during the three months ended August 31, 2021 for the East Slopes
Project which was used to directly offset certain employee salaries. We are
continuing a program of controlling our G&A costs wherever possible. G&A
expenses represented 63.7% and 72.1% of total operating expenses for the three
months ended August 31, 2021 and 2020, respectively.
Interest expense, net for the three months ended
Due to the nature of our business, we expect that revenues, as well as all categories of expenses, will continue to fluctuate substantially on a quarter-to-quarter and year-to-year basis. Revenues are highly dependent on the volatility of hydrocarbon prices and production volumes. Production expenses will fluctuate according to the number and percentage ownership of producing wells as well as the amount of revenues we receive based on the price of crude oil. Exploration and drilling expenses will be dependent upon the amount of capital that we have to invest in future development projects, as well as the success or failure of such projects. Likewise, the amount of DD&A expense will depend upon the factors cited above including the size of our proven reserves base and the market price of energy products. G&A expenses will also fluctuate based on our current requirements, but will generally tend to 22
increase as we expand the business operations of the Company. An on-going goal
of the Company is to improve cash flow to cover the current level of G&A
expenses and to fund our drilling programs in
Capital Resources and Liquidity
Our primary financial resource is our proven crude oil reserve base. Our ability to fund any future capital expenditure programs is dependent upon the prices we receive from crude oil sales, the success of our drilling programs inCalifornia andMichigan and the availability of capital resource financing. There continues to be a significant amount of volatility in crude oil prices and dramatic fluctuation in our realized sale price of crude oil since June of 2014, when the monthly average price of WTI crude oil was$105.79 per barrel, and our realized sale price per barrel of crude oil was$98.78 . As an example, for the month ofApril 2020 the monthly average closing price of WTI crude oil was$16.55 and our monthly realized oil price was$16.96 per barrel. This volatility in crude oil prices continued through most of our 2020-2021 fiscal year. The volatility and decline in the price of crude oil has had a substantial negative impact on our cash flow from our producingCalifornia properties. While there has been some improvement in crude oil prices for the six months endedAugust 31, 2021 , there is no guarantee that this trend will continue. It is beyond our ability to accurately predict crude oil prices over any substantial length of time. We plan to spend approximately$435,000 drilling three development wells in the current 2021-2022 fiscal year if new financing is secured; however our actual expenditures may vary significantly from this estimate if our plans for exploration and development activities change during the year or if we are not able to obtain financing to fund these capital investments. Factors such as changes in operating margins and the availability of capital resources could increase or decrease our ultimate level of expenditures during the current fiscal year.
Changes in our capital resources at
February 28, Increase Percentage
August 31, 2021 2021 (Decrease) Change
Cash $ 57,139 $ 33,528 $ 23,611 70.4 %
Current assets $ 212,471 $ 283,239 $ (70,768 ) (25.0 %)
Total assets $ 828,039 $ 912,125 $ (84,086 ) (9.2 %)Current liabilities$ (4,404,453 ) $ (4,469,074 ) $
(64,621 ) (1.4 %) Total liabilities$ (6,146,962 ) $ (6,029,265 ) $ 117,697 2.0 % Working capital$ (4,191,982 ) $ (4,185,835 ) $ 6,147 0.1 % Our working capital deficit increased approximately$6,000 or 0.1% to approximately$4.192 million atAugust 31, 2021 in comparison to approximately$4.186 million atFebruary 28, 2021 . The increase in our working capital deficit was primarily due to a decrease in our current assets. We anticipate an increase in our cash flow will occur when we are able to return to our planned drilling program that will result in an increase in the number of wells on production. Our business is capital intensive. Our ability to grow is dependent upon favorably obtaining outside capital and generating cash flows from operating activities necessary to fund our investment activities. There is no assurance that we will be able to achieve profitability. Since our future operations will continue to be dependent on successful exploration and development activities and our ability to seek and secure capital from external sources, should we be unable to achieve sustainable profitability this could cause any equity investment in the Company to become worthless. Major sources of funds in the past for us have included the debt or equity markets and the sale of assets. We anticipate that we will have to rely on these capital markets to fund future operations and growth. Our business model is focused on acquiring exploration or development properties as well as existing production. Our ability to generate future revenues and operating cash flow will depend on successful exploration, and/or acquisition of crude oil producing properties, which may very likely require us to continue to raise equity or
debt capital from outside sources.
Daybreak has ongoing capital commitments to develop certain leases pursuant to
their underlying terms. Failure to meet such ongoing commitments may result in
the loss of the right to participate in future drilling on certain leases or the
loss of the lease itself. These ongoing capital commitments will cause us to
seek additional forms of financing through various methods, including issuing
debt securities, equity securities, bank debt, or combinations of these
instruments which could result in dilution to existing security holders and
increased debt and leverage. The current uncertainty in the credit and capital
markets as well as the instability and volatility in crude oil prices since June
of 2014, has restricted our ability to obtain needed capital. The 2019 novel
coronavirus ("COVID-19") that spread to countries throughout the world including
the United States had a substantial negative impact on the demand for crude oil
and is largely responsible for the decline in crude oil prices. No assurance can
be given that we will be able to obtain funding under any loan commitments or
any additional financing on favorable terms, if at all. Sales of interests in
our assets may be another source of cash flow available to us.
23
The Company's financial statements for the six months endedAugust 31, 2021 have been prepared on a going concern basis, which contemplates the realization of assets and the settlement of liabilities in the normal course of business. We have incurred net losses since entering the crude oil exploration industry in 2005, and as of the six months endedAugust 31, 2021 , we have an accumulated deficit of$29.6 million and a working capital deficit of$4.2 million which raises substantial doubt about our ability to continue as a going concern. In the current fiscal year, we will continue to seek additional financing for our planned exploration and development activities inCalifornia andMichigan . We could obtain financing through one or more various methods, including issuing debt securities, equity securities, or bank debt, or combinations of these instruments, which could result in dilution to existing security holders and increased debt and leverage. No assurance can be given that we will be able to obtain funding under any loan commitments or any additional financing on favorable terms, if at all. Sales of interests in our assets may be another source of cash flow.
Changes in Financial Condition
During the six months endedAugust 31, 2021 , we received crude oil sales revenue from 20 wells inCalifornia . Our commitment to improving corporate profitability remains unchanged. We experienced an increase in revenues of$138,855 or 78.1% to$316,618 for the six months endedAugust 31, 2021 in comparison to revenues of$177,763 for the six months endedAugust 31, 2020 . The increase of$34.09 or 111.1% per barrel in the average realized price of a barrel of crude oil accounted for 142.3% of the increase in crude oil revenue for the six months endedAugust 31, 2021 . For the six months endedAugust 31, 2021 , we had an operating loss of$98,748 in comparison to an operating loss of$236,254 for the six months endedAugust 31, 2020 .
Our balance sheet at
AtAugust 31, 2021 , total liabilities were approximately$6.15 million in comparison to approximately$6.03 million atFebruary 28, 2021 . The increase in liabilities of approximately$118,000 was primarily due to recognition of the paycheck protection program (PPP) second-draw loan received during the six months endedAugust 31, 2021 .
The issued and outstanding shares of common stock at
Additional paid in capital (APIC) increased
Cash Flows
Changes in the net funds provided by and (used in) our operating, investing and financing activities are set forth in the table below:
Six Months Six Months
Ended Ended Increase Percentage
August 31, 2021 August 31, 2020 (Decrease) Change
Net cash provided by (used in)
operating activities $ 41,329 $ (84,922 ) 126,251 (148.7 %)
Net cash (used in) investing
activities $ (13,107 ) $ - 13,107 N/A
Net cash (used in) provided by
financing activities $ (4,611 ) $ 9,980 (14,591 ) (146.2 %)
Cash Flow Provided By (Used In) Operating Activities
Cash flow from operating activities is derived from the production of our crude oil reserves and changes in the balances of non-cash accounts, receivables, payables or other non-energy property asset account balances. For the six months endedAugust 31, 2021 , cash flow provided by operating activities was$41,329 in comparison to cash flow used in operating activities of$84,922 for the six months endedAugust 31, 2020 . The increase in our cash flow provided by operating activities for the six months endedAugust 31, 2021 was due to a reduction in net loss. Changes in non-cash account balances primarily relating to DD&A and amortization of debt discount. Variations in cash flow from operating activities may impact our level of exploration and development expenditures. 24
Cash Flow (Used In) Investing Activities
Cash flow from investing activities is derived from changes in crude oil property balances and any lending activities. Cash flow used in our investing activities for the six months endedAugust 31, 2021 was$13,107 in comparison to cash flow used in our investing activities of$-0 - for the six months endedAugust 31, 2020 .
Cash Flow (Used In) Provided By Financing Activities
Cash flow from financing activities is derived from changes in long-term liability account balances or in equity account balances, excluding retained earnings. Cash flow used in our financing activities was$4,611 for the six months endedAugust 31, 2021 in comparison to cash flow provided by our financing activities of$9,980 for the six months endedAugust 31, 2020 . This decrease in cash provided by our cash flow activities was primarily due to insurance financing payments and payments on our line of credit offset by proceeds received from theSmall Business Administration (SBA) second-draw paycheck protection program loan. For the six months endedAugust 31, 2021 , we made total payments of$30,000 to our line of credit withUBS Bank .
The following discussion is a summary of cash flows provided by, and used in,
the Company's financing activities at
Current debt (Short-term borrowings)
Note Payable InDecember 2018 , the Company was able to settle an outstanding balance owed to one of its third-party vendors. This settlement resulted in a$120,000 note payable being issued to the vendor. Additionally, the Company agreed to issue 2,000,000 shares of the Company's common stock as a part of the settlement agreement. Based on the closing price of the Company's common stock on the date of the settlement agreement, the value of the common stock transaction was determined to be$6,000 . The common stock shares were issued during the twelve months endedFebruary 29, 2020 . The note has a maturity date ofJanuary 1, 2022 and bears an interest rate of 10% rate per annum. Monthly interest is accrued and payable onJanuary 1st of each anniversary date until maturity of the note.
At
Note Payable -Related Party OnDecember 22, 2020 , the Company entered into a Secured Promissory Note (the "Note"), as borrower, withJames Forrest Westmoreland andAngela Marie Westmoreland , Co-Trustees of theJames and Angela Westmoreland Revocable Trust , or its assigns (the "Noteholder"), as the lender.James F. Westmoreland is the Company's Chairman, President and Chief Executive Officer. Pursuant to the Note, the Noteholder loaned the Company an aggregate principal amount of$155,548 . After the deduction of loan fees of$10,929 the net proceeds from the loan were$144,619 . The loan fees are being amortized as original issue discount (OID) over the term of the loan. The interest rate of the loan is 2.25%. The Note requires monthly payments on the Note balance until repaid in full. The maturity date of the Note isDecember 21, 2035 . For the three months endedAugust 31, 2021 , the Company made principal payments of$4,271 and amortized debt discount of$364 . The obligations under the Note are secured by a lien on and security interest in the Company's oil and gas assets located inKern County, California , as described in a Deed of Trust entered into by the Company in favor of the Noteholder to secure the obligations under the Note. Such lien shall be a first priority lien, subject only to a pre-existing lien filed by a working interest partner of the Company. The Company may prepay the Note at any time. Upon the occurrence of any Event of Default and expiration of any applicable cure period, and at any time thereafter during the continuance of such Event of Default, the Noteholder may at its option, by written notice to theCompany: (a) declare the entire principal amount of the Note, together with all accrued interest thereon and all other amounts payable hereunder, immediately due and payable; (b) exercise any of its remedies with respect to the collateral set forth in the Deed of Trust; and/or (c) exercise any or all of its other rights, powers or remedies under applicable law.
Current portion of note payable -related party balances at
August 31, 2021 February 28, 2021
Note payable - related party, current portion $ 8,713 $ 8,598
Unamortized debt issuance expenses (729 ) (728 )
Note payable - related party, current portion, net $ 7,984 $ 7,870 25
Note payable -related party long-term balances at
August 31, 2021 February 28, 2021
Note payable - related party, non-current $ 141,154 $ 145,540
Unamortized debt issuance expenses (9,715 ) (10,080 )
Note payable - related party, non-current, net $ 131,439 $
135,460
Future estimated payments on the outstanding note payable - related party are set forth in the table below:
Twelve month periods ending August 31, 2022$ 7,984 2023 8,218 2024 8,458 2025 8,704 2026 8,957 Thereafter 107,546 Total$ 149,867 12% Subordinated Notes The Company's 12% Subordinated Notes ("the Notes") issued pursuant to aJanuary 2010 private placement offering to accredited investors, resulted in$595,000 in gross proceeds (of which$250,000 was from a related party) to the Company and accrue interest at 12% per annum, payable semi-annually onJanuary 29th andJuly 29th . OnJanuary 29, 2015 , the Company and 12 of the 13 holders of the Notes agreed to extend the maturity date of the Notes for an additional two years toJanuary 29, 2017 . EffectiveJanuary 29, 2017 , the maturity date of the Notes and the expiration date of the warrants that were issued in conjunction with the Notes were extended for an additional two years toJanuary 29, 2019 . The Company has informed the Note holders that the payment of principal and final interest will be late and is subject to future financing being completed. The Notes principal of$565,000 was payable in full at the amended maturity date of the Notes,January 29, 2019 , and has not been paid. The terms of the Notes, state that should the Board of Directors decide that the payment of the principal and any unpaid interest would impair the financial condition or operations of the Company, the Company may then elect a mandatory conversion of the unpaid principal and interest into the Company's common stock at a conversion rate equal to 75% of the average closing price of the Company's common stock over the 20 consecutive trading days precedingDecember 31, 2018 . As ofMay 31, 2021 , no conversion of the unpaid principal and interest into the Company's common stock has occurred. The accrued interest on the 12% Notes atAugust 31, 2021 andFebruary 28, 2021 was$374,221 and$340,042 , respectively. 12% Note balances atAugust 31, 2021 andFebruary 28, 2021 are set forth in the table below: August 31, 2021 February 28, 2021 12% Subordinated Notes $ 315,000 $ 315,000
12% Subordinated Notes - related party 250,000
250,000
Total 12% Subordinated Note balance $ 565,000 $ 565,000
The accrued interest owed on the 12% Subordinated Note to the related party is presented on the Company's Balance Sheets under the caption Accounts payable - related partyrather than under the caption Accrued interest. Production Revenue Payable
Beginning inDecember 2018 , the Company conducted a fundraising program to fund the drilling of future wells inCalifornia andMichigan and to settle some of its historical debt. The purchaser(s) of a production revenue payment interest would receive a production revenue payment on future wells to be drilled inCalifornia andMichigan in exchange for their purchase. The production revenue payment program balance as ofAugust 31, 2021 was$950,100 of which$550,100 was owed to a related party - the Company's Chairman, President and Chief Executive Officer. The production payment interest entitles the purchasers to receive production payments equal to twice their original amount paid, payable from a percentage of the Company's future net production payments from wells drilled after the date of the purchase and until the Production Payment Target (as described below) is met. The Company shall pay fifty percent of its net production payments from the relevant wells to the purchasers until each purchaser has received two times the purchase price (the "Production Payment Target"). Once the Company pays the purchasers amounts equal to the Production Payment Target, it shall thereafter pay a pro-rated eight 26 percent (8%) of$1.3 million on its net production payments from the relevant wells to each of the purchasers. However, if the total raised is less than the target$1.3 million , then the payment will be a proportionate amount of the eight percent (8%). Additionally, if the Production Payment Target is not met within the first three years, the Company shall pay seventy-five percent of its production payments from the relevant wells to the purchasers until the Production Payment Target is met. The Company accounted for the amounts received from these sales in accordance with ASC 470-10-25 and 470-10-35 which require amounts recorded as debt to be amortized under the interest method as described in ASC 835-30, Interest Method. Consequently, the program balance of$950,100 has been recognized as a production revenue payable. The Company determined an effective interest rate based on future expected cash flows to be paid to the holders of the production payment interests. This rate represents the discount rate that equates estimated cash flows with the initial proceeds received from the sales and is used to compute the amount of interest to be recognized each period. Estimating the future cash outflows under this agreement requires the Company to make certain estimates and assumptions about future revenues and payments and such estimates are subject to significant variability. Therefore, the estimates are likely to change which may result in future adjustments to the accretion of the interest expense and the amortized cost based carrying value of the related payables. Accordingly, the Company has estimated the cash flows associated with the production revenue payments and determined a discount of$1,024 ,590as ofAugust 31, 2021 , which is being accounted as interest expense over the estimated period over which payments will be made based on expected future revenue streams. For the three months endedAugust 31, 2021 and 2020, amortization of the debt discount on these payables amounted to$54,304 and$66,652 , respectively, which has been included in interest expense in the statements of operations. Production revenue payable balances atAugust 31, 2021 andFebruary 28, 2021 are set forth in the table below:August 31, 2021 February 28, 2021
Estimated payments of production revenue payable$ 1,974,690
$ 2,000,258
Less: unamortized discount (416,964 ) (496,836 )
1,557,726 1,503,422
Less: current portion (54,901 ) (111,753 )Net production revenue payable - long-term$ 1,502,825
$ 1,391,669 Line of Credit The Company has an existing$890,000 line of credit for working capital purposes withUBS Bank USA ("UBS"), established pursuant to a Credit Line Agreement datedOctober 24, 2011 that is secured by the personal guarantee of its Chairman, President and Chief Executive Officer. OnJuly 10, 2017 , a$700,000 portion of the outstanding line of credit balance was converted to a 24 month fixed term annual interest rate of 3.244% with interest payable monthly. OnJuly 10, 2021 , the fixed term loan amount of$700,000 was renewed at an annual percentage interest rate of 3.20%. The remaining principal balance of the line of credit has a stated reference rate of 0.249% + 337.5 basis points with interest payable monthly. The reference rate is based on the 30 day LIBOR ("London Interbank Offered Rate") and is subject to change fromUBS . During the six months endedAugust 31, 2021 and 2020, the Company did not receive any advances on the line of credit. During the six months endedAugust 31, 2021 and 2020, the Company made payments to the line of credit of$30,000 and$30,000 , respectively. Interest converted to principal for the six months endedAugust 31, 2021 and 2020 was$13,951 and$14,706 , respectively. AtAugust 31, 2021 andFebruary 28, 2021 , the line of credit had an outstanding balance of$824,855 and$840,904 , respectively.
Paycheck Protection Program (PPP) Loans
InMarch 2020 , the Coronavirus Aid, Relief, and Economic Security Act commonly referred to as the CARES Act became law. One component of the CARES Act was the paycheck protection program ("PPP") which provides small business with the resources needed to maintain their payroll and cover applicable overhead. The PPP is implemented by theSmall Business Administration ("SBA") with support from theDepartment of the Treasury . The Company applied for, and was accepted to participate in this program. OnMay 11, 2020 , the Company received funding for approximately$74,355 . OnFebruary 12, 2021 , the Company applied for loan forgiveness under the provisions of Section 1106 of the CARES Act. Loan forgiveness was subject to the sole approval of the SBA. OnFebruary 23, 2021 , the SBA notified our lender that the loan was forgiven and repaid the loan
in full. 27
OnMarch 4, 2021 , the Company applied for, and was accepted to participate in the SBA PPP Second Draw program with funding pursuant to the Economic Aid Act that was passed in December, 2020. OnMarch 15, 2021 , Daybreak received funding for$72,800 . The second-draw loan is a five-year loan with a maturity date ofMarch 6, 2026 . The loan bears an annual interest rate of 1%. The monthly payment is$1,670 with the first payment due onJuly 6, 2022 . The Company's has applied for full loan forgiveness for the PPP Second Draw PPP loan. Loan forgiveness is subject to the sole approval of the SBA. OnOctober 6, 2021 , the SBA notified our lender that the loan was forgiven and repaid the loan in full. The loan forgiveness will be reflected on the Company's financial statements covering the three month and nine month periods endedNovember 30, 2021 . Encumbrances OnOctober 17, 2018 , a working interest partner inCalifornia filed a UCC financing statement in regards to payable amounts owed to the partner by the Company. As ofAugust 31, 2021 , we had no encumbrances on our crude oil project inMichigan . Operating Leases The Company leases approximately 988 rentable square feet of office space from an unaffiliated third party for our corporate office located in SpokaneValley, Washington . Additionally, we lease approximately 416 and 695 rentable square feet from unaffiliated third parties for our regional operations office inFriendswood, Texas and storage and auxiliary office space inWallace, Idaho , respectively. The lease inFriendswood is a 12 month lease that expires inOctober 2021 .The Spokane Valley andWallace leases are currently on a month-to-month basis. The Company's lease agreements do not contain any residual value guarantees, restrictive covenants or variable lease payments. The Company has not entered into any financing leases. The Company determines if an arrangement is a lease at inception. Operating leases are recorded in operating lease right of use assets, net, operating lease liability - current, and operating lease liability - long-term on its balance sheet.
Rent expense for the six months ended
Related Party Transactions InCalifornia at theEast Slopes Project , two of the vendors that the Company uses for services are partially owned by a related party, the Company's Chief Operating Officer. The Company's Chief Operating Officer is a 50% owner in bothGreat Earth Power andABPlus Net Holdings .Great Earth Power began providing a portion of the solar power electrical service for production operations inJuly 2020 .ABPlus Net Holdings began providing portable tank rentals to the Company as a part of its water treatment and disposal operations inSeptember 2020 . The services provided byGreat Earth Power andABPlus Net Holdings are competitive with other vendors and save the Company significant expense. For the six months endedAugust 31, 2021 ,Great Earth Power and ABPlus Net holdings were paid$10,675 and$5,760 , respectively. Capital Commitments
Daybreak has ongoing capital commitments to develop certain leases pursuant to their underlying terms. Failure to meet such ongoing commitments may result in the loss of the right to participate in future drilling on certain leases or the loss of the lease itself. These ongoing capital commitments may also cause us to seek additional capital from sources outside of the Company. The current uncertainty in the credit and capital markets, and the current economic downturn in the energy sector, may restrict our ability to obtain needed capital.
Management Plans to Continue as a Going Concern
We continue to implement plans to enhance Daybreak's ability to continue as a going concern. The Company currently has a net revenue interest in 20 producing crude oil wells in ourEast Slopes Project located inKern County, California . The revenue from these wells has created a steady and reliable source of revenue for the Company. Our average working interest in these wells is 36.6% and the average net revenue interest is 28.4%. We anticipate revenues will continue to increase as the Company participates in the drilling of more wells in theEast Slopes Project inCalifornia and as our drilling operations begin inMichigan . However given the current volatility and instability in hydrocarbon prices, the timing of any drilling activity inCalifornia andMichigan will be dependent on a sustained improvement in hydrocarbon prices and a successful refinancing or restructuring of our credit facility. 28 We believe that our liquidity will improve when there is a sustained improvement in hydrocarbon prices. Our sources of funds in the past have included the debt or equity markets and the sale of assets. While the Company does have positive cash flow from its crude oil properties, it has not yet established a positive cash flow on a company-wide basis. It will be necessary for the Company to obtain additional funding from the private or public debt or equity markets in the future. However, we cannot offer any assurance that we will be successful in executing the aforementioned plans to continue as a going concern. Our financial statements as ofAugust 31, 2021 do not include any adjustments that might result from the inability to implement or execute Daybreak's plans to improve our ability to continue as a going concern. Critical Accounting Policies
Refer to Daybreak's Annual Report on Form 10-K for the fiscal year ended
Off-Balance Sheet Arrangements
As ofAugust 31, 2021 , we did not have any off-balance sheet arrangements or relationships with unconsolidated entities or financial partners that have been, or are reasonably likely to have, a material effect on our financial position or results of operations. 29
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