Consolidated Financial Statements Year Ending
Collins Barrow Calgary LLP 1400 First Alberta Place 777 8 th Avenue S.W. Calgary, Alberta, Canada T2P 3R5 T. 403.298.1500 F. 403.298.5814 e-mail: calgary@collinsbarrow.com Independent Auditors' Report To the Shareholders Sun Country Well Servicing Inc. We have audited the accompanying consolidated financial statements of Sun Country Well Servicing Inc. and its subsidiary, which comprise the consolidated statement of financial position as at, and the consolidated statement of income (loss) and comprehensive income (loss), statement of changes in shareholders' equity and statement of cash flows for the year then ended, and a summary of significant accounting policies and other explanatory information. Management's Responsibility for the Consolidated Financial Statements Management is responsible for the preparation and fair presentation of these consolidated financial statements in accordance with International Financial Reporting Standards, and for such internal control as management determines is necessary to enable the preparation of consolidated financial statements that are free from material misstatement, whether due to fraud or error. Auditors' Responsibility Our responsibility is to express an opinion on these consolidated financial statements based on our audit. We conducted our audit in accordance with Canadian generally accepted auditing standards. Those standards require that we comply with ethical requirements and plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free from material misstatement. An audit involves performing procedures to obtain audit evidence about the amounts and disclosures in the consolidated financial statements. The procedures selected depend on the auditors' judgment, including the assessment of the risks of material misstatement of the consolidated financial statements, whether due to fraud or error. In making those risk assessments, the auditor considers internal control relevant to the entity s preparation and fair presentation of the consolidated financial statements in order to design audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the entity s internal control. An audit also includes evaluating the appropriateness of accounting policies used and the reasonableness of accounting estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements. This office is independently owned and operated by Collins Barrow Calgary LLP. The Collins Barrow trademarks are used under license. -2-
We believe that the audit evidence we have obtained is sufficient and appropriate to provide a basis for our audit opinion. Opinion In our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of Sun Country Well Servicing Inc. and its subsidiary as at, and their financial performance and their cash flows for the year then ended in accordance with International Financial Reporting Standards. Calgary, Canada April 25, 2016 CHARTERED PROFESSIONAL ACCOUNTANTS -3-
Consolidated Statement of Financial Position Notes 2015 2014 Assets Current assets Cash $ 620,739 $ 198,345 Accounts receivable 4 1,633,002 3,100,160 Prepaid expenses 7,468 99,766 Total current assets 2,261,209 3,398,271 Non-current assets Property and equipment 5 14,804,168 16,363,393 Total assets $ 17,065,377 $ 19,761,664 Liabilities Current liabilities Accounts payable and accrued liabilities 7 $ 719,756 $ 668,747 Demand term loans 8 2,902,314 4,338,924 Equipment loan 9 157,442 - Total current liabilities 3,779,512 5,007,671 Non-current liabilities Deferred tax liabilities 10 1,510,852 1,887,357 Total liabilities 5,290,364 6,895,028 Shareholders' Equity Share capital 11 10,346,173 10,300,799 Contributed surplus 12 191,345 137,145 Retained earnings 1,237,495 2,428,692 Total shareholders' equity 11,775,013 12,866,636 Total liabilities and shareholders' equity $ 17,065,377 $ 19,761,664 Commitments (note 18) Subsequent event (note 19) See accompanying notes to the consolidated financial statements. Approved and authorized for issue on behalf of the Board of Directors on April 25, 2016. (signed) "Don Jones" (signed) "Rob Wasylyniuk", Director, Director -4-
Consolidated Statement of Income (Loss) and Comprehensive Income (Loss) For the Year Ended Notes 2015 2014 Revenue Service rigs $ 8,282,322 $ 16,901,490 Office rental 2,318 3,342 Mobile home rental 4,985 42,738 8,289,625 16,947,570 Expenses Field payroll 4,018,498 7,251,599 Other field 15 1,706,632 2,850,680 Operations 15 1,010,695 1,575,640 General and administrative 14,15 1,037,536 1,245,505 Mobile home operations 16,903 31,426 7,790,264 12,954,850 Income from operations 499,361 3,992,720 Interest 152,609 276,348 Share-based compensation 11 99,574 104,712 (Gain)/Loss on disposal of assets (14,285) 1,164 Depreciation 5 1,829,165 2,411,904 Income (loss) before tax $ (1,567,702) $ 1,198,592 Tax expense (recovery) - deferred 10 (376,505) 370,920 Net income (loss) and comprehensive income (loss) $ (1,191,197) $ 827,672 See accompanying notes to the consolidated financial statements. -5-
Consolidated Statement of Changes in Shareholders' Equity For the Year Ended Notes Share capital Common shares Contributed surplus Retained earnings Total shareholders' equity Balance at December 31, 2013 $ 10,235,796 $ 97,436 $ 1,601,020 $ 11,934,252 Share-based compensation 11 65,003 39,709-104,712 Net loss and comprehensive loss for the year - - 827,672 827,672 Balance at December 31, 2014 10,300,799 137,145 2,428,692 12,866,636 Share-based compensation 11 45,374 54,200-99,574 Net loss and comprehensive loss for the year - - (1,191,197) (1,191,197) Balance at $ 10,346,173 $ 191,345 $ 1,237,495 $ 11,775,013 See accompanying notes to the consolidated financial statements. -6-
Consolidated Statement of Cash Flows For the Year Ended 2015 2014 Cash provided by (used in): Net income (loss) for the year $ (1,191,197) $ 827,672 Adjustments for: Share-based compensation 99,574 104,712 Depreciation 1,829,165 2,411,904 (Gain) Loss on disposal of assets (14,285) 1,164 Deferred tax (376,505) 370,920 Net cash inflow from operations before changes in noncash working capital 346,752 3,716,372 Changes in non-cash working capital: Accounts receivable 1,467,158 542,532 Prepaid expenses 92,298 28,222 Accounts payable and accrued liabilities 51,009 (337,407) Notes payable 157,442-1,767,907 233,347 Net cash inflow from operating activities 2,114,659 3,949,719 Financing activities Repayment of demand term loans (1,436,610) (3,677,700) Net cash outflow from financing activities (1,436,610) (3,677,700) Investing activities Purchase of property and equipment (383,656) (93,903) Disposal of property and equipment 128,001 - Net cash outflow from investing activities (255,655) (93,903) Net increase in cash 422,394 178,116 Cash, beginning of year 198,345 20,229 Cash, end of year Interest paid $ 620,739 $ 198,345 $ 152,609 $ 276,348 Non-cash transactions: During the year ended, the Corporation issued 19,728 (2014-26,317) common shares to directors in compensation for services provided valued at $45,374 (2014 - $65,003) (note 11). See accompanying notes to the consolidated financial statements. -7-
1. Nature of operations Sun Country Well Servicing Inc. (the "Corporation ) provides well completion and production services to oil and natural gas exploration and development companies in south eastern Saskatchewan. The Corporation, through its wholly owned subsidiary 101163483 Saskatchewan Ltd. ("101 Sask"), also rents mobile homes to tenants in Saskatchewan. In November 2015, the Corporation began an additional operation in Alberta based out of Westlock. The Corporation was incorporated under the laws of the province of Alberta on June 22, 2009. The Corporation's head office is located at 101 Supreme Street, Box 1646, Estevan, Saskatchewan, Canada, S4A 1C8, and the corporate office is located in Cochrane, Alberta, Canada. 2. Basis of preparation (a) Statement of compliance The consolidated financial statements have been prepared in accordance with International Financial Reporting Standards ( IFRS ) as issued by the International Accounting Standards Board ( IASB ) and interpretations of the International Financial Reporting Interpretations Committee ( IFRIC ). The consolidated financial statements were authorized for issue by the Board of Directors (the "Board") on April 25, 2016. (b) Basis of measurement The consolidated financial statements are presented in Canadian dollars and have been prepared on a historical cost basis, except for held-for-trading financial assets that are measured at fair value with changes in fair value recorded in earnings. See note 17 for the methods used to measure fair values. (c) Functional and presentation currency These consolidated financial statements are presented in Canadian dollars, which is the functional currency of the Corporation and its subsidiary. (d) Use of estimates and judgments The preparation of the consolidated financial statements in conformity with IFRS requires management to make judgments, estimates and assumptions that affect the reported amounts of assets and liabilities, disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amount of revenue and expenses during the period. The estimates and associated assumptions are based on historical experience and various other factors that are believed to be reasonable under the circumstances, the results of which form the basis of making the judgments about the carrying values of assets and liabilities that are not readily apparent from other resources. Actual results may differ from these estimates. The estimates and underlying assumptions are reviewed on an ongoing basis. Revisions to accounting estimates are recognized in the period in which the estimate is revised if the revision affects only that period or in the period of the revision and future periods if the revision affects both current and future periods. -8-
The Corporation performs ongoing credit evaluations of its customers and grants credit based upon a review of historical collection experience, current aging status, financial condition of the customer and anticipated industry conditions. Customer payments are regularly monitored and a provision for doubtful accounts is established based upon specific situations and overall industry conditions. Amounts recorded for depreciation are based on the estimated useful lives of the underlying assets. Useful lives are based on management s best estimate using knowledge of past events, and as such are subject to measurement uncertainty. The estimates are reviewed at least annually and are updated if expectations change as a result of physical wear and tear and legal or other limits to use. It is possible that changes in these factors may cause changes in the estimated useful lives of the Corporation s property and equipment in the future. The Corporation's assets are segregated into cash-generating units ("CGUs") based on their ability to generate largely independent cash flows and used for impairment testing. The determination of the Corporation's CGUs is subject to management's judgment. Impairment of property and equipment exists when the carrying value of an asset or CGU exceeds its recoverable amount, which is the higher of its fair value less cost of disposal and its value in use. The fair value less costs of disposal calculation is based on available data from binding sales transactions in an arm s length transaction of similar assets or observable market prices less incremental costs for disposing of the asset. The value in use calculation is based on a discounted cash flow model. The cash flows are derived from the budgeted net cash flows to be generated by the asset or CGU over the next five years and do not include restructuring activities that the Corporation is not yet committed to or significant future investments that will enhance the asset s performance of the asset or CGU being tested. The recoverable amount is most sensitive to the discount rate used for the discounted cash flow model as well as the expected future cash inflows and the growth rate used for extrapolation purposes. The fair value of stock options is estimated at the grant date using the Black-Scholes option pricing model, which includes underlying assumptions related to the value of the corporation's shares at grant date, the risk-free interest rate, average expected option life, estimated forfeitures and estimated volatility of the Corporation s shares. The fair value of shares issued as director compensation is estimated based on the fair value of the services received by comparing to market expectations if payment for their services were to be paid in cash. Provisions for current taxes are made using the best estimate of the amount expected to be paid based on a qualitative assessment of all relevant factors. The Corporation reviews the adequacy of these provisions at the end of the reporting period. However, it is possible that at some future date an additional liability could result from audits by taxation authorities. Tax interpretations, regulations and legislation in the various jurisdictions in which the Corporation operates are subject to change. As such, taxes are subject to measurement uncertainty. -9-
3. Significant accounting policies (a) Principles of consolidation The consolidated financial statements include the accounts of the Corporation and its wholly owned subsidiary 101 Sask. (b) Subsidiaries A subsidiary is an entity controlled by the Corporation. Control exists when the Corporation has the power, directly or indirectly, to govern the financial and operational policies of an entity to obtain benefits from its activities. In assessing control, potential voting rights that are presently exercisable are taken into account. The financial statements of subsidiaries are included in the consolidated financial statements from the date that control commences until the date that control ceases and all intercompany transactions are eliminated. (c) Accounts receivable Accounts receivable are initially recognized at fair value and thereafter stated at amortized cost less impairment for bad and doubtful debts. Impairment losses for bad and doubtful debts are measured as the difference between the carrying amount of the financial asset and the present value of estimated future cash flows. (d) Property and equipment Property and equipment are stated at cost less accumulated depreciation and accumulated impairment losses. Cost includes expenditures that are directly attributable to the acquisition of the asset. Subsequent costs are included in the asset s carrying amount or recognized as a separate asset, as appropriate, only when it is probable that future economic benefits associated with the item will flow to the Corporation and the cost can be measured reliably. The carrying amount of a replaced asset is derecognized when replaced. Repairs and maintenance costs are charged to the statement of income and comprehensive income during the period in which they are incurred. The major categories of property and equipment are depreciated on the following basis: Expected life Residual value Basis of depreciation Service rigs 20,000 service hours 10% units-of-service hours Heavy duty vehicles and trailers 10 years 10% straight-line Other field equipment 3 to 10 years - straight-line Computers, furniture and office equipment 5 years - straight-line Leasehold improvements Term of lease - straight-line Mobile homes 15 years - straight-line Both the useful life of an asset and its residual value, if any, are re-assessed at the end of each reporting period. -10-
Gains or losses arising from the retirement or disposal of an item of property and equipment are determined as the difference between the net disposal proceeds and the carrying amount of the item and are recognized in the statement of income (loss) and comprehensive income (loss) on the date of retirement or disposal. (e) Impairment of non-financial assets The carrying value of the Corporation's non-financial assets is reviewed annually for indicators that the carrying value of an asset or CGU may not be recoverable. If indicators of impairment exist, the recoverable amount of the asset or CGU is estimated. If the carrying value of the asset or CGU exceeds the recoverable amount, the asset or CGU is written down with an impairment recognized in net income. The recoverable amount of an asset or CGU is the greater of its fair value less costs of disposal and its value in use. Fair value is determined to be the amount for which the asset could be sold for in an arm s length transaction. The fair value less costs of disposal values used to determine the recoverable amounts are classified as Level 3 fair value measurements. Refer to note 3 (k)(i) for information on fair value hierarchy. Value in use is determined by estimating the present value of the future net cash flows to be derived from the continued use of the asset or CGU in its present form. Reversals of impairments are recognized when there are indicators that an impairment loss recognized in prior periods may no longer exist, or may have decreased. In this event, the carrying amount of the asset or CGU is increased to its revised recoverable amount with an impairment reversal recognized in net earnings. The revised recoverable amount is limited to the original carrying amount less depreciation as if no impairment had been recognized for the asset or CGU for prior periods. (f) Trade and other payables Trade and other payables are initially recognized at fair value and subsequently stated at amortized cost. (g) Share-based compensation The Corporation has a stock option plan which is described in note 11. The fair value of the stock options is measured at the grant date and recognized as share-based compensation expense, with a corresponding increase in contributed surplus over the vesting period. The Corporation measures share based payments to non-employees at the fair value of the goods or services received at the date of receipt of the goods or services. If the fair value of the goods or services cannot be measured reliably, the value of the stock options granted will be used, measured using the Black-Scholes option-pricing model. A forfeiture rate is estimated on the grant date and is adjusted to reflect the actual number of stock options that will ultimately vest. When the stock options are exercised, the amount previously recorded to contributed surplus is reclassified as share capital. -11-
(h) Tax Tax expense is comprised of current and deferred tax. Tax expense is recognized in profit or loss except to the extent that it relates to items recognized directly in equity, in which case the tax is also recognized in equity. Current tax is the expected tax payable on the taxable income for the year, using tax rates enacted or substantively enacted at the statement of financial position date, plus any adjustment to tax payable in respect of previous years. Deferred tax assets and liabilities arise from deductible and taxable temporary differences respectively, being the differences between the carrying amounts of assets and liabilities for financial reporting purposes and their tax bases. Deferred tax assets also arise from unused tax losses and unused tax credits. All deferred tax liabilities, and all deferred tax assets to the extent that it is probable that future taxable profits will be available against which the assets can be utilized, are recognized. The amount of deferred tax recognized is measured based on the expected manner of realization or settlement of the carrying amount of the assets and liabilities, using tax rates enacted or substantively enacted at the statement of financial position date. Deferred tax assets and liabilities are not discounted. The carrying amount of a deferred tax asset is reviewed at each statement of financial position date and is reduced to the extent that it is no longer probable that sufficient taxable profits will be available to allow the related tax benefit to be utilized. Any such reduction is reversed to the extent that it becomes probable that sufficient taxable profits will be available. Current tax balances and deferred tax balances, and movements therein, are presented separately from each other and are not offset. (i) Revenue Service Rigs Revenue is recognized when services are rendered, provided it is probable that the economic benefits will flow to the Corporation and the revenue and applicable costs can be measured reliably. The Corporation's services are generally provided based on fixed or determinable hourly rates. Office and Mobile Home Rental Revenue is recognized on a straight-line basis over the term of occupancy based on the monthly or daily lease rate as negotiated with tenants, provided it is probable that the economic benefits will flow to the Corporation and the revenue and applicable costs can be measured reliably. (j) Interest paid The Corporation has classified interest paid on long-term debt as an operating activity on the consolidated statement of cash flows. -12-
(k) Financial instruments (i) Classification and measurement Financial instruments are measured at fair value on initial recognition of the instrument. Measurement in subsequent periods depends on whether the financial instrument has been classified as "fair value through profit or loss", "loans and receivables", "availablefor-sale", "held-to-maturity", or "financial liabilities measured at amortized cost" as defined by las 39, "Financial Instruments: Recognition and Measurement". Financial assets and financial liabilities classified as "fair value through profit or loss" are either classified as "held for trading" or "designated at fair value through profit or loss" and are measured at fair value, with changes in fair value recognized in the consolidated statement of income (loss) and comprehensive income (loss). Transaction costs are expensed when incurred. The Corporation has designated cash as "fair value through profit or loss". Financial assets and financial liabilities classified as "loans and receivables", "held-tomaturity", or "financial liabilities measured at amortized cost" are measured at amortized cost using the effective interest method. "Loans and receivables" are non-derivative financial assets with fixed or determinable payments that are not quoted in an active market. "Held-to-maturity" financial assets are non-derivative investments that an entity has the positive intention and ability to hold to maturity. "Financial liabilities measured at amortized cost" are those financial liabilities that are not designated as "fair value through profit or loss" and that are not derivatives. The Corporation has designated accounts receivable as "loans and receivables" and accounts payable and accrued liabilities, demand term loans and equipment loan as "financial liabilities measured at amortized cost". The Corporation has no assets that have been designated as "held to maturity". Financial assets classified as "available-far-sale" are measured at fair value, with changes in fair value recognized in other comprehensive income. "Available-for-sale" financial assets are non-derivatives that are either designated in this category or not classified in any of the other categories. The Corporation has no financial assets in this category. The significance of inputs used in making fair value measurements are examined and classified according to a fair value hierarchy. Fair values of assets and liabilities included in level 1 are determined by reference to quoted prices in active markets for identical assets and liabilities. Assets and liabilities in Level 2 include valuations using inputs other than quoted prices for which all significant outputs are observable, either directly or indirectly, and are based on valuation models and techniques where the inputs are derived from quoted indices. Level 3 valuations are based on inputs that are unobservable and significant to the overall fair value measurement. (ii) Equity instruments Common shares are classified as equity. Incremental costs directly attributable to the issue of common shares and stock options are recognized as a deduction from equity, net of any tax effects. -13-
(iii) Impairment The Corporation assesses at each statement of financial position date, whether there is objective evidence that financial assets, other than those designated as fair value through profit or loss are impaired. When impairment has occurred, the cumulative loss is recognized in the statement of income (loss) and comprehensive income (loss). For financial assets carried at amortized cost, the amount of the impairment loss recognized is the difference between the asset's carrying amount and the present value of estimated future cash flows, discounted at the financial asset's original effective interest rate. When an "available-far-sale" financial asset is considered to be impaired, cumulative gains or losses previously recognized in other comprehensive income are reclassified to the statement of income (loss) and comprehensive income (loss) in the period. Impairment losses may be reversed in subsequent periods. (l) Recent accounting pronouncements The following accounting pronouncements have been released but have not yet been adopted by the Corporation: Financial Instruments IFRS 9 - Financial Instruments IFRS 9, Financial Instruments provides a comprehensive new standard for accounting for all aspects of financial instruments. It includes a logical model for classification and measurement, a single, forward-looking expected-loss impairment model and a substantially reformed approach to hedge accounting. The new standard is effective for years beginning on or after January 1, 2018. Revenue Recognition IFRS 15 - Revenue from Contracts and Customers IFRS 15, Revenue From Contracts With Customers, will replace IAS 11, Construction Contracts, IAS 18, Revenue, and several revenue-related interpretations. IFRS 15 establishes a single revenue recognition framework that applies to contracts with customers. The standard requires an entity to recognize revenue to reflect the transfer of goods and services for the amount it expects to receive, when control is transferred to the purchaser. Disclosure requirements have also been expanded. In July 2015, the IASB amended IFRS 15 to defer the effective date to years beginning on or after January 1, 2018, with early adoption permitted. The standard may be applied retrospectively or using a modified retrospective approach. The Corporation has not yet completed its assessment and evaluation of the effect of adopting the new standards and the impact they may have on its consolidated financial statements. -14-
4. Accounts receivable 2015 2014 Trade receivables $ 1,623,173 $ 3,100,160 Other receivables 9,829 - $ 1,633,002 $ 3,100,160 All of the trade and other receivables are expected to be recovered within one year. Trade receivables are due within 30 days from the date of billing. See note 17 for further details on the Corporation's credit risk. The aging analysis of trade receivables that are neither individually nor collectively considered to be impaired are as follows: 2015 2014 Current $ 1,159,918 $ 1,648,013 31-60 days 420,747 1,227,191 61-90 days 42,508 121,774 91 + days - 103,182 $ 1,623,173 $ 3,100,160 Trade receivables are primarily from publicly traded oil and natural gas exploration and production companies. The Corporation does not hold any collateral over these balances. As at, the Corporation estimated an allowance for doubtful accounts of $NIL (2014 - $NIL). -15-
5. Property and equipment Cost Service rigs Heavy duty vehicles and trailers Other field equipment Computers, furniture, office equipment and leasehold improvements Mobile homes Balance at December 31, 2013 $ 15,856,633 $ 7,856,901 $ 2,195,398 $ 168,909 $ 166,200 $ 26,244,041 Additions - - 90,303 3,600-93,903 Disposals - - - (3,652) - (3,652) Balance at December 31, 2014 15,856,633 7,856,901 2,285,701 168,857 166,200 26,334,292 Additions - - 380,457 3,199-383,656 Disposals - - - (21,332) (166,200) (187,532) Balance at December 31, 2015 $ 15,856,633 $ 7,856,901 $ 2,666,158 $ 150,724 $ - $ 26,530,416 Total Accumulated depreciation Balance at December 31, 2013 $ 4,360,161 $ 1,968,394 $ 1,118,801 $ 71,009 $ 43,118 $ 7,561,483 Disposals - - - (2,488) - (2,488) Depreciation charge for the year 1,309,491 713,562 342,105 32,106 14,640 2,411,904 Balance at December 31, 2014 5,669,652 2,681,956 1,460,906 100,627 57,758 9,970,899 Disposals - - - (8,278) (65,538) (73,816) Depreciation charge for the year 815,181 710,217 272,056 23,931 7,780 1,829,165 Balance at December 31, 2015 $ 6,484,833 $ 3,392,173 $ 1,732,962 $ 116,280 $ - $ 11,726,248 Net book value As at December 31, 2014 $ 10,186,981 $ 5,174,945 $ 824,795 $ 68,230 $ 108,442 $ 16,363,393 As at December 31, 2015 $ 9,371,800 $ 4,464,728 $ 933,196 $ 34,444 $ - $ 14,804,168 At each period end the Corporation assesses whether any CGUs have indicators of impairment. When indicators of impairment are identified, the Corporation assesses the recoverable amount of the applicable CGU based on the greater of fair value less costs of disposal and value in use as at the reporting date. The current downturn in the oil and gas sector which has resulted in a reduction in activity and demand for lower day rates is an indication that CGUs may be impaired. For the purposes of determining whether impairment of assets has occurred, and the extent of any impairment, management exercises judgment in estimating future cash flows for the recoverable amount. The carrying value of service rigs was reviewed to ensure that their carrying values exceeded their recoverable amounts. Management performed a value in use calculation based on expected discounted future net cash flows and it was determined that no impairment of assets was required. -16-
6. Operating loan The Corporation has available a $3,000,000 (2014 - $3,000,000) demand revolving loan (the Operating Loan ) bearing interest at a Canadian chartered bank s prime rate plus 1.5% (2014-1.1%) per annum. The Operating Loan is available by way of overdraft on the Corporation s bank account and is not to exceed the aggregate of 75% of accounts receivable which have been outstanding not more than 90 days, minus priority claims. The Operating Loan is secured by a general security agreement and an assignment of risk insurance. The Operating Loan is secured jointly with the Rig Loans as described in note 8. The Operating Loan and the Rig Loans are subject to loan covenants as described in note 16. As at and December 31, 2014, $NIL had been drawn on the loan. 7. Accounts payable and accrued liabilities 2015 2014 Trade creditors $ 443,131 $ 378,259 Other payables and accrued liabilities 244,805 238,397 Goods and services tax 31,820 52,091 $ 719,756 $ 668,747 All of the accounts payable and accrued liabilities are expected to be settled within one year. 8. Demand term loans 2015 2014 Rig 8 Loan - Initial advance of $1,800,000 on December 21, 2011. Repayable in blended monthly payments of $33,604. Full repayment is due on December 31, 2016 if not demanded earlier. Rig 9 Loan - Initial advance of $1,800,000 on August 15, 2012. Repayable in blended monthly payments of $33,523. Full repayment is due on August 25, 2017 if not demanded earlier. Rig 10 Loan - Initial advance of $1,800,000 on November 19, 2012. Repayable in blended monthly payments of $33,557. Full repayment is due on November 25, 2017 if not demanded earlier. Rig 11 Loan - Initial advance of $1,725,000 on November 29, 2013. Repayable in blended monthly payments of $28,750. Full repayment is due on November 25, 2018 if not demanded earlier $ 389,315 $ 767,929 644,510 1,011,838 734,074 1,098,171 1,134,415 1,425,863-17-
101 Sask Loan - Initial advance of $105,000 on October 18, 2010. Repayable in blended monthly payments of $1,677. This loan was repaid in September 2015. - 35,123 $ 2,902,314 $ 4,338,924 The loans obtained to finance the purchase of Rigs 4 through 10 (the "Rig Loans") were advanced under a demand term loan facility ("Service Rig Facility"). The Service Rig Facility has a limit of $7,119,136 (2014 - $7,119,136) and is available by way of separate term loan draws against each of the rigs. Advances are not to exceed 60% of the net book value of all capital assets. The loans obtained to finance the purchase of Rigs 4 through 7 were paid off prior to December 31, 2014. The loan obtained to finance the purchase of Rig 11 ("Rig loan") was advanced under a separate demand term loan facility ("Service Rig Facility #2"). Both facilities were made available by the same Canadian chartered bank. Service Rig Facility #2 has a limit of $1,800,000 (2014 - $1,800,000) and is available by way of individual advance against the Rig. All advances under the facilities bear interest at the bank's prime rate plus 1.75% (2014-1.35%) per annum and are repayable in equal blended monthly installments of principal and interest based on an amortization period of 60 months. All amounts are payable on demand and all advances, in any event, must be repaid within 60 months of the initial advance. The loans are jointly secured with the Operating Loan as described in note 6. The Operating Loan and Rig Loans are subject to loan covenants as described in note 16. 101 Sask Loan was advanced to the Corporation's subsidiary for the purchase of two mobile homes to be used for housing employees. The loan bore interest at the bank's prime rate plus 1.50% (2014-1.5%) per annum and was repayable in blended monthly installments of principal and interest based on an amortization period of 72 months. During 2015, the loan was repaid in full with the proceeds from the sale of the two mobile homes. The loan was secured by a general security agreement over 101 Sask, assignment of risk insurance, and a $105,000 (2014 - $105,000) limited corporate guarantee from the Corporation. Assuming renewal at similar terms, the estimated principal payments due are as follows: 2016 $1,448,894 2017 933,858 2018 328,526 2019 191,036 $2,902,314 9. Equipment loan On November 17, 2015 the Corporation entered into an agreement to purchase equipment valued at $291,559 inclusive of GST. The Corporation paid $116,624 (being 40% of the loan amount) in November 2015 upon delivery of the equipment. The remainder will be paid in ten equal monthly instalments of $17,494 beginning in December 2015. $157,442 remained outstanding as at December 31, 2015. The loan is non-interest bearing and secured by a general security agreement over the equipment purchased. -18-
10. Taxes Reconciliation of effective tax rate: 2015 2014 Income (loss) before tax $ (1,567,702) $ 1,198,592 Expected tax rate 27.00% 26.90% Expected tax expense (423,280) 322,421 Share-based compensation 26,885 28,168 Rate changes and other 19,890 20,331 $ (376,505) $ 370,920 Significant components of deferred taxes are as follows: 2015 2014 Deferred tax liabilities Property and equipment $ 2,487,722 $ 2,337,654 Less deferred tax assets Non-capital losses (974,462) (448,748) Unamortized share issue costs and other (2,408) (1,549) Net deferred tax liability $ 1,510,852 $ 1,887,357 At, the Corporation and its subsidiary had unused non-capital loss carry forwards of approximately $3,609,115 which may be applied to reduce future years' taxable income. The loss carry forwards expire as follows: 2030 $ 607,467 2031 837,870 2033 221,518 2035 1,942,260 $ 3,609,115 The movements of deferred tax assets and liabilities are shown below: Balance December 31, 2013 Recognized in profit or loss Balance December 31, 2014 Recognized in profit or loss Balance December 31, 2015 Property and equipment $ 2,122,603 $ 215,051 $ 2,337,654 $ 150,068 $ 2,487,722 Non-capital losses (603,522) 154,774 (448,748) (525,714) (974,462) Unamortized share issue costs and other (2,644) 1,095 (1,549) (859) (2,408) $ 1,516,437 $ 370,920 $ 1,887,357 $ (376,505) $ 1,510,852-19-
11. Share capital Authorized Unlimited number of voting common shares with no stated par value Issued and outstanding: Common share capital Number of shares Stated capital Balance at December 31, 2013 9,742,685 $ 10,235,796 Share-based compensation to directors 26,317 65,003 Balance, December 31, 2014 9,769,002 10,300,799 Share-based compensation to directors 19,728 45,374 Balance, 9,788,730 $ 10,346,173 (a) Common shares On, the Corporation issued 19,728 (2014-26,317) common shares to the Corporation's five non-executive directors as compensation for attending Board of Directors and committee meetings. The fair value of the common shares was $45,374 (2014 - $65,003) on the date of issuance and the amount was recorded as an expense in share-based compensation. (b) Share-based compensation The Corporation adopted a stock option plan under which options are granted to directors, officers, employees and consultants of the Corporation. During the year ended December 31, 2015, options were granted to purchase 60,000 (2014 - NIL) shares at the price of $2.11. The options shall vest on the basis of one-third of the option shares on each of the first, second and third anniversaries of the grant date. The following options have been awarded under the stock option plan: Number 2015 2014 Weighted Weighted Average Average Exercise Exercise Price Number Price Outstanding, beginning of year 165,000 $ 1.79 165,000 $ 1.79 Granted 60,000 2.11 - - Outstanding, end of year 225,000 $ 1.87 165,000 $ 1.79-20-
The following table summarizes the expiry terms and exercise prices of the Corporation's outstanding stock options as at : Date of Grant Outstanding Options Exercise Price Weighted Average Remaining contractual life (years) Number of stock options exercisable October 28, 2011 45,000 $ 1.48 0.82 45,000 May 16, 2012 60,000 $ 1.70 1.37 60,000 April 22, 2013 60,000 $ 2.10 2.31 40,000 April 23, 2015 60,000 $ 2.11 4.31 - Outstanding, end of year 225,000 2.29 145,000 Compensation costs of $54,200 (2014 - $39,709) have been recorded in the consolidated statement of income (Ioss) and comprehensive income (loss), with a corresponding increase to contributed surplus for the year ended. The fair value of each option granted for the year ended, was estimated using the Black-Scholes option pricing model. The weighted average assumptions used for the 2015 grants were a risk-free interest rate of 0.92%, expected life of 5 years, 93% volatility of expected share prices and no dividends. Volatility was calculated by analyzing market volatility of public companies in the oilfield service industry. A forfeiture rate of NIL% was used when recording share-based compensation as it is expected that the employees will continue with the Corporation over the vesting period. The fair value of the options issued was $2.21 per option. 12. Contributed surplus A summary of the Corporation's contributed surplus is: 2015 2014 Balance, beginning of year $ 137,145 $ 97,436 Share-based compensation - stock options 54,200 39,709 Balance, end of year $ 191,345 $ 137,145 13. Significant customers During the year ended, revenue from the provision of rigs of $6,408,079 (2014 - $12,657,434), representing 77% (2014-74%) of total service rigs revenue, was to four (2014 - four) oil and natural gas companies. Included in accounts receivable is $1,207,282 (2014 - $2,300,708), representing 74% (2014-74%) of total accounts receivable, from these oil and natural gas companies. -21-
14. Management compensation During the year ended, salaries and benefits for key management personnel, defined as the Corporation's executive officers, was $686,013 (2014 - $1,050,056) which is included in general and administrative expenses. Share-based compensation for key management personnel was $NIL (2014 - $NIL). The compensation to directors consisting of the fair value of shares issued to the directors was $45,374 (2014 - $65,003) for the year ended. 15. Employee wages and benefits During the year ended, employee and management salaries and benefits totaled $4,573,753 (2014 - $7,665,765), of which $3,252,314 (2014 - $5,927,691) is included as field payroll expenses, $655,933 (2014 - $935,189) is included as operations expenses and $655,506 (2014 - $802,885) is included as general and administrative expenses. 16. Capital management The Corporation s primary objectives when managing capital are to safeguard the Corporation s ability to continue as a going concern and provide returns to shareholders. The Corporation defines capital as the total of the operating loan, demand term loans and all components of equity. A summary of the Corporation's "capital" is: 2015 2014 Demand term loans $ 2,902,314 $ 4,338,924 Equity 11,775,013 12,866,636 $ 14,677,327 $ 17,205,560 The Corporation s capital structure is regularly reviewed and managed. Adjustments are made to the capital structure in light of changes in economic conditions affecting the Corporation. The Corporation is subject to the following bank covenants on its Operating Loan and Rig Loans: Current ratio not less than 1.25:1 tested quarterly. Demand term loans, current portion of demand term loans and payables relating to rig builds are excluded from current liabilities. Debt to tangible net worth not to exceed 2.50:1 tested quarterly. Debt excludes any deferred tax liability. Tangible net worth is defined as equity less any intangible assets. Debt service coverage ratio not to be less than 1.25:1 tested annually. Debt service coverage ratio is calculated as EBITDA (net income before interest, taxes and depreciation) for the trailing 12 month period divided by principal and interest payments over the same corresponding period. As at, the Corporation has a calculated current ratio of 2.60:1, a debt to tangible net worth ratio of 0.32:1 and a debt service coverage ratio of 0.33:1. -22-
The Corporation is in violation of its debt service coverage ratio covenant at. As no amounts were outstanding under the operating loan and all rig loans are demand in nature, this had no impact on the presentation of the consolidated financial statements for year ended December 31, 2015. The bank has not called any loans as of April 25, 2016. There have been no changes to the Corporation's capital management structure during the year. 17. Financial instruments and risk management The Corporation is exposed to credit, liquidity and interest rate risks in the normal course of the Corporation s operations. These risks are mitigated by the Corporation s financial management policies and practices described below. (a) Credit risk Credit risk is the risk that one party to a financial instrument will cause a financial loss for the other party by failing to discharge an obligation. The Corporation s credit risk is primarily attributable to accounts receivable. receivable are due primarily from publicly traded oil and natural gas producers. Accounts The Corporation s exposure to credit risk is influenced mainly by the individual characteristics of each customer and by general economic conditions affecting the oil and natural gas industry. Management believes the default risk is minimal. Further quantitative disclosures in respect of the Corporation s exposure to credit risk arising from accounts receivable, are set out in notes 4 and 13. The Corporation is also exposed to credit risk associated with cash. The risk is mitigated as the cash is maintained with a major financial institution. The maximum exposure to credit risk is represented by the carrying amount of each financial asset on the consolidated statement of financial position. (b) Liquidity risk Liquidity risk is the risk that the Corporation will encounter difficulty in meeting obligations associated with financial liabilities. The Corporation s policy is to regularly monitor current and expected liquidity requirements to ensure that it maintains sufficient reserves of cash to meet its liabilities when due. The Corporation has no contractual obligations other than accounts payable and accrued liabilities (note 7), operating loan and demand term loans (notes 6 and 8), equipment loan (note 9) and future commitments as disclosed in note 18. (c) Interest rate price risk Interest rate price risk is the risk that the fair value or future cash flows of a financial instrument will fluctuate because of changes in market interest rates. -23-
The Corporation is exposed to interest rate risk to the extent that the operating loan and demand term loans bear interest at floating interest rates. For the year ended, if interest rates had been 1% lower, with all other variables held constant, after tax net earnings for the period would have been approximately $21,000 (2014 - $32,000) higher due to lower interest expense. An equal but opposite impact would have occurred to net earnings had interest rates been 1% higher. (d) Fair values 18. Commitments The fair values of the Corporation s accounts receivable, accounts payable and accrued liabilities, demand term loans, and equipment loan approximate their carrying values due to their short-term nature or because they bear interest at variable rates. Cash is measured at fair value based on a Level 1 designation. The Corporation is committed under various leases for an office in Cochrane, a shop in Estevan, and vehicles for its officers. Lease payments recognized as an expense during the year were $196,210 (2014 - $228,302). The future minimum lease payments exclusive of occupancy costs are as follows: 2016 $ 184,765 2017 92,426 2018 21,327 $ 298,518 19. Subsequent event In January 2016, the Corporation entered into an agreement with a vendor for the delivery of oilfield equipment valued at $182,924 inclusive of GST. Payment is due in 12 equal monthly payments starting in January 2016. -24-