B o r d e r s & S o u t h e r n P e t r o l e u m P l c A n n u a l R e p o r t a n d A c c o u n t s 2 0 1 1 Annual Report and Accounts 2011 Borders & Southern Petroleum Plc is an oil & gas exploration company focused on frontier and emerging basins. Based in London and listed on the London Stock Exchange (AIM), the company operates five Production licences (100% interest) covering an area of nearly 20,000 sq km in the Falkland Islands. We have acquired and evaluated 2,862 km of 2D and 1,492 sq km of 3D seismic data. Our first drilling programme is underway, where we have targeted two large structures located to the south of the Falklands. The first well has resulted in a gas condensate discovery and news from the second well is anticipated around the middle of the year. For up-to-date information on our share price and all the latest news please visit our website www.bordersandsouthern.com The Leiv Eiriksson drilling rig Go online www.bordersandsouthern.com Highlights O v e r v e w i ` Established an office and supply base in the Falkland Islands ` Finalised well engineering for the Darwin East and Stebbing wells ` Mobilised the Leiv Eiriksson drilling rig from Greenland to the Falkland Islands ` Drilled Darwin prospect, resulting in a gas condensate discovery ` Cash balance (including restricted use cash) as of 31 December 2011, $176.7m Contents Overview 01 Highlights 02 Borders & Southern at a glance Business review 04 Chairman’s statement 05 Operations review Corporate governance 08 Corporate responsibility 10 Risk management 11 Corporate governance 12 Board of directors 14 Directors’ report Financial statements 17 Independent auditor’s report 18 Consolidated statement of comprehensive income 19 Consolidated statement of financial position 20 Consolidated statement of changes in equity 21 Company statement of financial position 22 Company statement of changes in equity 23 Consolidated statement of cash flows 24 Company statement of cash flows 25 Notes to the financial statements IBC Corporate directory Borders & Southern Petroleum Plc Annual Report and Accounts 2011 01 Borders & Southern at a glance Our strategy and where we operate A focused strategy Our aim To create value for our shareholders through exploration‑led growth Our strategy ` Focus on frontier or emerging basins ` Gain early project access ` Hold high equity positions ` Target play fairways containing multiple high impact prospects Technical rigor Commercial discipline Corporate responsibility ` Build and develop an experienced team ` Identify and mitigate critical risks ` Ensure the safety of our people ` Apply leading‑edge technology ` Deliver strict financial control ` Minimise our impact on the environment ` Perform rigorous petroleum ` Negotiate robust contracts ` Maintain strong relationships with all systems analysis our stakeholders Progress What’s next ` Established an office and supply base in the Falkland Islands ` Mobilised the Leiv Eiriksson drilling rig from Greenland to the Falkland Islands ` Complete the current drilling campaign by spudding the Stebbing well ` Integrate all the new well data into our existing regional and license evaluations ` Spudded the company’s first exploration well ` Revise the company’s prospect inventory ` Made the company’s first discovery – Darwin ` Plan a new 3D seismic acquisition programme ` Opened up a new hydrocarbon basin ` Interrogate the rig market for the next phase of exploration and appraisal 02 Borders & Southern Petroleum Plc Annual Report and Accounts 2011 Go online www.bordersandsouthern.com O v e r v e w i 59˚ W 57˚ W 55˚ W 53˚ W Sea Lion 49˚ S Borders & Southern Petroleum Other operators Toroa Darwin Stebbing 51˚ S 53˚ S 55˚ S 01 PL018 02 PL019 03 PL020 04 PL021 05 PL022 (Quad 61, blocks 16 to 30) 3,668 sq km (Quad 62, blocks 16 to 30) 3,668 sq km (Quad 63, blocks 16 to 30) 3,668 sq km (Quad 64, blocks 1 to 30) 7,381 sq km (Quad 73, blocks 1 to 5) 1,213 sq km Borders & Southern Petroleum Plc Annual Report and Accounts 2011 03 Chairman’s statement Harry Dobson Non‑executive Chairman Recently we announced that the company’s first exploration well drilled in the Falkland Islands had resulted in a gas condensate discovery. This was a tremendous outcome and represents the culmination of seven years’ hard work since our listing on AIM in May 2005. We had acquired our acreage in late 2004 with the specific purpose of testing our ideas that a fold belt trend located to the south of the Falklands could contain hydrocarbons. At the time, the acreage was unlicensed, had not been promoted and had very little seismic data over it. No exploration wells had been drilled in the basin at that stage and so the acreage was considered relatively high risk. However, over the seven years we acquired a comprehensive database, firstly by acquiring 2D seismic and later 3D seismic. At each stage, our understanding of the basin increased and, in our opinion, the risks decreased, so that when we finally compiled our prospect inventory we had a very attractive list of prospects. Darwin was selected as our first test of the acreage. On paper it had many interesting geophysical characteristics. The prospect was large, structurally robust and viewed by the company as relatively low risk. Drilling operations commenced in January of this year and although we had some initial problems with rig equipment that caused delays we reached our target depth during April. It was only when we had run the wireline logs that we appreciated that we had discovered gas condensate in a good quality reservoir. It’s too early to talk about the size of the resource 04 Borders & Southern Petroleum Plc Annual Report and Accounts 2011 “ I would like to extend my thanks to all the people who have been involved with this project and who have helped make it a success.” as there is still plenty of work to be done but we are delighted with the result and are very excited about the future of the company. Drilling two deep water wells in a relatively remote location can provide many challenges, particularly from a logistical point of view. Our company has a small in‑house team and so relies on many different contractor groups to provide expertise in different disciplines. I would like to extend my thanks to all the people who have been involved with this project and who have helped make it a success. Our attention now turns to Stebbing, a completely independent prospect other than it requires the same regional source rock as Darwin (now proven). Again, it is a large structure with interesting geophysical attributes, so we look forward with great excitement. Harry Dobson Non‑executive Chairman Operations review Howard Obee Chief Executive Peter Fleming Finance Director Go online www.bordersandsouthern.com “ Not only has it opened up a new hydrocarbon basin and confirmed our current technical understanding, it unlocks an exciting prospect inventory.” i B u s n e s s r e v e w i We spent much of 2011 preparing for our two well drilling campaign in the Falkland Islands, where the operational logistics provide their own unique challenges. The majority of the supplies and services were sourced out of Europe so careful planning was essential. We set up an office and supply base with the help of local businesses and managed to have the bulk of the supplies in place before the end of the year. AGR, who now have considerable experience of conducting drilling operations in the Falklands following their work in the North Falkland Basin, managed the operation on our behalf. The well engineering was completed towards the end of the year and the well programmes were submitted to the Authorities in order to gain approval for drilling. In early December the Leiv Eiriksson was mobilised from Greenland, stopping briefly en route in Cape Verde. The rig arrived in the Falklands in January and after loading the riser, which had been transported down separately, moved to the first location and spudded on the 31 January. Well 61/17–1 was designed to test the Darwin prospect. Well 61/17–1 was the first deep water well and only the second well to be drilled in the South Falkland Basin. It was selected as the first test as it was considered relatively low risk. The prospect had been mapped on 2D data but it was the acquisition of 3D that had really reduced the risk profile. The geophysical attributes included an AVO anomaly, amplitude conformance to structure and a flat spot. Borders & Southern Petroleum Plc Annual Report and Accounts 2011 05 Operations review (continued) Darwin Discovery Licence: B&S interest: PL018 100% Structure: Reservoir: Seal: Tilted fault block Lower Cretaceous shallow marine sands Lower Cretaceous marine shales Water depth: Total depth: Gross interval: Net pay: Average porosity: Maximum porosity: 2011 m 4876 m 84.5 m 67.8 m 22% 30% Hydrocarbon phase: Gas condensate 06 Borders & Southern Petroleum Plc Annual Report and Accounts 2011 The large, clearly defined structure was located at a focus for hydrocarbon migration. Our pre‑drill prognosis anticipated that we would encounter a relatively massive, laterally continuous, shallow marine Lower Cretaceous sandstone with good porosity. The well operations initially experienced some delays due to technical problems with the rig. These issues were overcome and good progress was made. Further delays were caused by the geology. Slow rates of penetration were experienced at times and an additional string of casing had to be run for well stability reasons. As the company carried substantial contingency funds going into the programme, the additional costs of the time delays were able to be absorbed. On a positive note, the rig performed extremely well in the environment and no time was wasted due to adverse weather. The well reached its total depth of 4,876m in mid April and came in very close to prognosis. The top massive sandstone reservoir unit, identified on seismic, was 1m higher than anticipated. It was slightly thicker than expected and porosities slightly higher. Net pay encountered was 67.8m, average porosity 22%, with maximum values reaching 30%. Although good hydrocarbon shows were encountered whilst drilling, it was the TD wireline log data that confirmed to us that we had penetrated a good quality reservoir containing gas condensate. (A gas condensate is a low density mixture of hydrocarbon liquids dissolved in saturated natural gas that come out of solution when the pressure drops below the dewpoint.) Critical to the successful commercialisation and development concept of such a discovery is the gas:liquids ratio. Condensate is a valuable product and can sell at a premium to Brent. Extensive sampling of the reservoir fluid was undertaken. These samples will be shipped back to the UK for detailed laboratory analysis. Once understood, we will be able to comment on the scale of the discovery and its commerciality. Additional studies to be performed on the well samples collected whilst drilling include geochemistry, biostratigraphy, sedimentology and petrophysical analysis. The outcome of this first exploration well was really pleasing. It proved a working source rock, a good quality reservoir and a thick seal. Not only has it opened up a new hydrocarbon basin and confirmed our current technical understanding, it unlocks an exciting prospect inventory. There is a considerable amount of work ahead of us to refine these prospects now that we have well calibration for our seismic. Future technical work is likely to include the reprocessing of our existing 3D data along with the acquisition of a new 3D seismic survey. We will report later on the updated prospect inventory but the success of Darwin immediately highlights two other nearby tilted fault blocks, Covington and Chaffers, thought to contain similar aged shallow marine sandstone reservoirs. Furthermore, a submarine fan play fairway, containing stratigraphically trapped prospects Burgess and Bute, are thought to have a similar aged reservoir to Darwin. Additional 3D may reveal further examples of these Lower Cretaceous plays. So already we are starting to see a cluster of interesting prospects to build on the success of Darwin. From a financial point of view we started the year with funds of $194m. At that time we had ordered and paid for some of the long lead items for the drilling campaign. During 2012 the capital spending has increased as the rig and all the support equipment and people were moved to the Falkland Islands. As we have advised, the Darwin well was over budget for a variety of reasons, all of which were beyond the company’s control. As a result of these delays and to provide funds for the acquisition of some additional 3D seismic, the company raised a further $75m in April 2012, part of which is subject to approval at an EGM. Howard Obee Chief Executive Peter Fleming Finance Director Go online www.bordersandsouthern.com i B u s n e s s r e v e w i 36 inch drill bit, used to drill conductor hole from seabed at the Darwin and Stebbing wells Stanley Bulk Plant for storage of bulk materials (cement, barite and bentonite) prior to shipment to the rig Borders & Southern Petroleum Plc Annual Report and Accounts 2011 07 The company has always viewed its responsibility for safe operations and limiting its environmental impact as integral to everything it does. All people involved in these operations, whether they are employees, directors, partners or contractors are made aware of the company’s policies and procedures. In advance of drilling operations during 2012, all of its procedures and policies were reviewed and revised where appropriate. Key areas of focus during 2011 were: ` Health and safety ` Environmental impact ` Business ethics ` Community development ` Employee well‑being Corporate responsibility Limiting our environmental impact King Penguins at Volunteer Point, Falkland Islands In brief ` We have been working closely with the Falkland Islands Government to ensure that we are both compliant with local regulations and standards and with international standards and regulations ` All employees and contractors on the rig, the support vessels and on land are made aware of the HSE policies and standards ` The company undertook risk assessments during 2011 in readiness of drilling operations 08 Borders & Southern Petroleum Plc Annual Report and Accounts 2011 Go online www.bordersandsouthern.com Focus areas during 2011 Environmental impact During 2011 the company updated or developed and implemented policies and procedures designed to mitigate risks associated with the 2012 drilling campaign and future activities. Health and safety Risk assessments were undertaken during 2011 to ensure that all risks were mitigated and appropriate monitoring processes were in place. The company also works with the HSE. Business ethics Following the introduction of the Bribery Act, the company completed a risk assessment. This risk assessment was reviewed by a third party and compliance with the Act was sought from the company’s main suppliers. Corporate governance During 2011 the board reviewed its compliance with the UK Corporate Governance code, notwithstanding that it does not apply to AIM companies. As a result of this review some changes were made to company procedures and reporting. No board changes were proposed at this stage of the company’s development. Community support The company has, where possible, used local suppliers of goods and services and employed local people in the Falkland Island operations. This has led to a material boost to the local economy. C o r p o r a t e g o v e r n a n c e Surf Bay, Falkland Islands Borders & Southern Petroleum Plc Annual Report and Accounts 2011 09 Risk management Principal risks and uncertainties The key risks and uncertainties facing the business and the processes in place to mitigate and manage those risks are described below: Risk Mitigation Exploration risk Oil & Gas exploration is a risk business. All exploration and appraisal wells carry technical risk. Results can be positive, negative or inconclusive. The risks are higher where there is limited well data to calibrate seismic data and geological models. Major incidents The company is exposed to operational risks before, during and after the 2012 exploration programme. B & S has made considered judgments on the appropriate data required to minimise the technical risks. Rigorous petroleum systems analysis and geophysical attribute analysis based on high quality 3D seismic has been undertaken prior to prospect selection and well location. Major incident risks are continuously assessed and project-specific mitigations are developed. Management Systems and Safety Management Systems are in place and are regularly reviewed and updated. Safety critical equipment is inspected and function tested on a regular basis. Emergency equipment and procedures are tested regularly. Well designs and well operations are subjected to continuous independent scrutiny. Industry networks are used to disseminate lessons from major incidents worldwide. Health, Safety, Security and Environment (HSSE) incidents All exploration activity involves health, safety, security and environmental risks. This is particularly the case in harsh deep water environments. Project-specific Safety Management documents are developed to establish safety standards, roles and responsibilities, procedures, reporting lines and emergency actions. Risk assessments are conducted at key phases of each project and appropriate mitigation measures are then implemented. All incidents are thoroughly investigated to establish causes and ensure appropriate corrective actions are taken. Management are continuously involved in the management of HSSE. Regular auditing is conducted to verify compliance. Financial risk The company is exposed to a variety of financial risks that include price risk, liquidity risk and foreign exchange risk. The company has placed its cash deposits with high quality UK banks and seeks to match the currencies of the deposits with the currencies of the expected costs for the drilling campaign and other general administration costs. The company has contingent funds to provide for cost overruns. Failure to secure materials, services or resources The company’s operations are in a remote location and mainly sourced from Europe. The company has retained AGR Well Management to manage its drilling operations including logistics. AGR has significant experience in sourcing materials and services for remote drilling operations. We have constructed a supply base in Stanley to hold stocks of critical items. Bribery and corruption risk Inadequate systems to prevent bribery and corruption. Anti‑bribery and corruption processes were introduced during 2011 in line with the requirements of the UK Bribery Act. Funding risk Inability to fund the exploration work programme due to cost overruns. A prudent approach is applied in budgeting and business planning to ensure sufficient equity capital is available to meet commitments on exploration drilling. The well cost estimates are developed using probability based simulations that provide cost ranges. Based on the current estimates, we believe that we have sufficient funds, with reasonable contingencies to cover these ranges, to drill two wells. 10 Borders & Southern Petroleum Plc Annual Report and Accounts 2011 Corporate governance The company is committed to complying with the majority of the principles and provisions of the UK Corporate Governance Code notwithstanding that AIM companies are not required to. During 2011 the board reviewed its procedures and board committees and their composition and made some changes to move closer to compliance with the UK Corporate Governance Code. These will be regularly reviewed to ensure that they are consistent with good practice for companies of similar size and complexity. In reviewing the board composition, it considered the independence of the Non‑executive Directors. The board considered the independence of the Non‑executive Directors by applying the following criteria: ` the director provides an objective and robust challenge to the views and assumptions of the senior management; Having reviewed the independence of each of the Non‑executive Directors, the board concluded that they met the above criteria. The company has regular board meetings. The frequency of the board meetings has recently increased in line with the start of exploration operations to update the board on the operations and the financial position of the company. Any director who is unable to physically attend a board meeting is given the opportunity to be consulted and comment before the meeting and the opportunity to participate via teleconference. Communication with shareholders is considered important by the board. The CEO is primarily responsible for these communications in conjunction with the company’s brokers and investor relations company. ` acts at all times in the best interest of the company and its shareholders; and ` has relevant experience and expertise. Board committees The board has established an Audit Committee and a Remuneration Committee; the terms of reference and composition are outlined below: Go online www.bordersandsouthern.com “ Whilst the company is listed on AIM and is not subject to the Corporate Code on corporate governance, the board undertook a review of the Code during 2011 and implemented some changes to bring it more in line with the code.” C o r p o r a t e g o v e r n a n c e Group structure The board Remuneration Committee Audit Committee The Remuneration Committee meets at least annually and is responsible for: The Audit Committee meets at least biannually and is responsible for: ` reviewing the performance of the CEO and other executive directors and senior management of the company and determines their remuneration and the basis of their service agreements with due regard to the interests of shareholders; ` the payment of any bonuses to the CEO, other executive directors and senior management; and ` making recommendations to the board with respect to equity‑based incentive plans and to act as a preparatory body for the board of directors in the management of any company award and option plans. As and when the Remuneration Committee deems appropriate, it takes external advice on comparable remuneration levels within the AIM oil and gas exploration company sector. Remuneration consists of basic salary, bonus and a Long Term Incentive Plan in the form of options. The group does not operate a pension scheme for its directors or employees. ` reviewing the integrity of the financial statements and related disclosures, based on adequate books, records and internal controls and selection and consistent application of appropriate accounting policies; ` the appropriateness of the internal financial controls; ` the independent auditor’s qualifications, independence and performance; and ` the compliance with legal and regulatory requirements. Members Members Mr Harry Dobson (Chairman) Mr Nigel Hurst‑Brown (Non‑executive Director) Mr Stephen Posford (Non‑executive Director) Mr Nigel Hurst-Brown (Chairman) Mr Harry Dobson (Non‑executive Director) Mr Stephen Posford (Non‑executive Director) Borders & Southern Petroleum Plc Annual Report and Accounts 2011 11 Board of directors 2 4 3 1 5 12 Borders & Southern Petroleum Plc Annual Report and Accounts 2011 Go online www.bordersandsouthern.com 1. Harry Dobson (Non‑executive Chairman) 2. Howard Obee (Chief Executive) 3. Nigel Hurst-Brown (Non‑executive Director) Harry Dobson is a former investment banker and senior partner of Yorkton Securities. He currently engages in various venture capital activities in North America and Europe and has acted as Chairman of a number of resource companies. He is currently the Chairman of Kirkland Lake Gold Inc. (a Toronto Stock Exchange and AIM quoted Company) and Rambler Metals and Mining plc (an AIM quoted company). He is experienced in the organisation and funding of resource projects, including those in inaccessible locations. Harry is Chairman of the Remuneration Committee and sits on the Audit Committee. Howard Obee was appointed Chief executive when the company was incorporated in June 2004. He has a PhD in structural geology from Imperial College and has spent 25 years in the oil industry, initially with BP (1985–1992) and subsequently with BHP Billiton (1992–2004). He trained as an exploration geologist and has been appointed to various technical and commercial roles. He is experienced in the management of exploration projects, including those in frontier basins. Since qualifying as a Chartered Accountant Nigel Hurst‑Brown has pursued a career in fund management. From 1986–1990 he was Chairman of Lloyd’s Investment Managers. In 1990 he moved to Mercury Asset Management as a main board Director and following Mercury’s acquisition by Merrill Lynch in 1997 became a Managing Director of Merrill Lynch Investment Managers. Currently he is Chief Executive of Hotchkis and Wiley (UK) Limited and a member of the Executive Committee of its US parent Hotchkis and Wiley Capital Management LLC. He is also Chairman of Central Asia Metals plc. Nigel is Chairman of the Audit Committee and sits on the Remuneration Committee. 4. Peter Fleming (Finance Director) 5. Stephen Posford (Non‑executive Director) Peter Fleming has over 20 years of upstream oil and gas experience, the majority of which was gained at BHP Billiton both in London and Melbourne. Whilst at BHP Billiton, Peter held senior positions in exploration and business development, investment evaluation, acquisitions and disposals and strategic planning. He holds Masters degrees in Business Administration and Finance. Stephen Posford was a partner of stockbrokers W.Greenwell and Co. In 1986, he became Managing Director of Greenwell Montagu Gilt Edged and in 1989 moved to Salomon Brothers to head up their proprietary trading department in London. He then became Salomon Brothers European CEO before retiring in 1996. Stephen sits on the Audit and Remuneration Committees. Number of board meetings during the year: Attendance Harry Dobson Howard Obee Peter Fleming Stephen Posford Nigel Hurst‑Brown Board Remuneration Committee Audit Committee 5 5 5 4 5 1 1 1 2 2 2 Borders & Southern Petroleum Plc Annual Report and Accounts 2011 13 C o r p o r a t e g o v e r n a n c e Directors’ report for the year ended 31 December 2011 Directors and their interests The beneficial and other interests of the directors and their families in the share capital at the beginning of the year or the date of their appointment to the board, whichever is later, and at 31 December 2011, were as follows: Harry Dobson Stephen Posford Howard Obee Peter Fleming Nigel Hurst-Brown At 31 December 2011 Number At 31 December 2010 Number 26,670,000 27,500,000 10,000,000 2,200,000 1,530,000 26,670,000 27,500,000 10,000,000 2,200,000 1,530,000 The ordinary shares in which Mr Harry Dobson is interested are held by the Zila Corporation, a company owned by the Whitmill Trust Company Limited, as trustee of The Lotus Trust of which he is a beneficiary. The group has provided the directors with qualifying third party indemnity insurance. Share options Howard Obee Peter Fleming Nigel Hurst-Brown Number of options held at the beginning of the year Number of options held at the end of the year Fair value of options Exercise price Vesting period 300,000 300,000 250,000 1,300,000 1,300,000 250,000 24–30 pence 24–30 pence 32 pence 51–56 pence 51–56 pence 58 pence three years three years three years Directors’ remuneration and service contracts On 18 May 2005, all of the company’s directors entered into a service agreement with the company. The remuneration of the directors for the year ended 31 December 2011 was as follows: Harry Dobson Stephen Posford Howard Obee Peter Fleming Nigel Hurst-Brown Total Basic salary $ — — 264,514 215,136 — 479,650 Bonus $ Share-based payment $ — — — 32,070 — 32,070 — — 108,715 108,715 42,612 260,042 Total 2011 $ — — 373,229 355,921 42,612 771,762 Total 2010 $ — — 241,380 165,491 41,033 447,904 The share-based payments represent the fair value of options issued to the directors (note 7). Substantial shareholders At May 2012 the following had notified the company of disclosable interests in 3% or more of the nominal value of the company’s shares carrying voting rights: Landsdowne Partners Limited Partnership HSBC Client Holdings Capital Research and Management Company Stephen Posford Zila Corporation BlackRock Inc. Ignis Investment Services Limited 14 Borders & Southern Petroleum Plc Annual Report and Accounts 2011 Number of ordinary shares % of share capital 50,598,883 40,122,587 27,780,000 27,500,000 26,670,000 21,414,903 16,355,635 11.81% 9.36% 6.49% 6.40% 6.22% 4.99% 3.81% Go online www.bordersandsouthern.com Domicile The parent company of the group (which is also the ultimate parent), Borders & Southern Petroleum Plc, is a public limited company and is registered and domiciled in England. Principal activity The principal activity of the group is the exploration for oil and gas. Results and dividends The group statement of comprehensive income is set out on page 20 and shows the result for the year. The directors do not recommend the payment of a dividend (2010: $nil). Review of business and future developments A review on the operations and KPIs of the group is contained in the Chairman’s Statement and Operations Review on pages 4 to 7. The directors consider the KPIs to be the management of cash and capital expenditure, all of which are discussed in the Chairman’s Statement and Operations Review. Post-reporting date events All events that have occurred since the year end which require reporting have been disclosed in note 19. Charitable and political donations There were no political or charitable contributions made by the company or the group during the year (2010: $nil). Health, safety and environment The group has an overriding commitment to health, safety and environmental responsibility. The group works closely with host governments and communities in the country in which it operates, together with its contractors and partners, to ensure internationally recognised standards are implemented and maintained along with compliance to local legislation. The group’s exploration activities are subject to the relevant environmental protection acts. The group closely monitors its activities to ensure to the best of its knowledge there is no potential for the breach of such regulations. There have been no convictions in relation to breaches of these Acts recorded against the group during the reporting period. Creditor payment policy It is the group’s policy to settle the terms of payment with suppliers when agreeing the terms of the transaction, to ensure that suppliers are aware of these terms and to abide by them. The amounts owed to the company and group’s trade creditors at the year end represented two days (2010: four days) as a proportion of the total amounts invoiced by suppliers during the year. Financial instruments Details of the use of financial instruments by the company and its subsidiary undertaking are contained in note 20 of the financial statements. C o r p o r a t e g o v e r n a n c e Borders & Southern Petroleum Plc Annual Report and Accounts 2011 15 Directors’ report (continued) for the year ended 31 December 2011 Directors’ responsibilities The directors are responsible for preparing the Directors’ Report and the financial statements in accordance with applicable law and regulations. Company law requires the directors to prepare financial statements for each financial year. Under that law the directors have prepared the group financial statements in accordance with International Financial Reporting Standards (IFRS) as adopted by the European Union and elected to prepare the company financial statements in accordance with International Financial Reporting Standards as adopted by the European Union. Under company law the directors must not approve the financial statements unless they are satisfied that they give a true and fair view of the state of affairs of the group and company and of the profit or loss of the group for that period. The directors are also required to prepare financial statements in accordance with the rules of the London Stock Exchange for companies trading securities on the Alternative Investment Market. In preparing these financial statements, the directors are required to: ` select suitable accounting policies and then apply them consistently; ` make judgements and accounting estimates that are reasonable and prudent; ` state whether they have been prepared in accordance with IFRS as adopted by the European Union, subject to any material departures disclosed and explained in the financial statements; and ` prepare the financial statements on the going concern basis unless it is inappropriate to presume that the company will continue in business. The directors are responsible for keeping adequate accounting records that are sufficient to show and explain the company’s transactions and disclose with reasonable accuracy at any time the financial position of the company and enable them to ensure that the financial statements comply with the requirements of the Companies Act 2006. They are also responsible for safeguarding the assets of the company and hence for taking reasonable steps for the prevention and detection of fraud and other irregularities. Website publication The directors are responsible for ensuring the annual report and the financial statements are made available on a website. Financial statements are published on the company’s website in accordance with legislation in the United Kingdom governing the preparation and dissemination of financial statements, which may vary from legislation in other jurisdictions. The maintenance and integrity of the company’s website is the responsibility of the directors. The directors’ responsibility also extends to the ongoing integrity of the financial statements contained therein. Auditor All of the current directors have taken all the steps that they ought to have taken to make themselves aware of any information needed by the company’s auditor for the purposes of their audit and to establish that the auditor is aware of that information. The directors are not aware of any relevant audit information of which the auditor is unaware. BDO LLP have expressed their willingness to continue in office and a Resolution to re-appoint them will be proposed at the annual general meeting. By order of the board William Slack Company Secretary 21 May 2012 16 Borders & Southern Petroleum Plc Annual Report and Accounts 2011 Independent auditor’s report to the members of Borders & Southern Petroleum Plc Go online www.bordersandsouthern.com We have audited the financial statements of Borders & Southern Petroleum Plc for the year ended 31 December 2011 which comprise the consolidated statement of comprehensive income, the consolidated statement of financial position, the consolidated statement of changes in equity, the company statement of financial position, the company statement of changes in equity, the consolidated statement of cash flows, the company statement of cash flows and the related notes. The financial reporting framework that has been applied in their preparation is applicable law and International Financial Reporting Standards (IFRSs) as adopted by the European Union and, as regards the parent company financial statements, as applied in accordance with the provisions of the Companies Act 2006. This report is made solely to the company’s members, as a body, in accordance with Chapter 3 of Part 16 of the Companies Act 2006. Our audit work has been undertaken so that we might state to the company’s members those matters we are required to state to them in an auditor’s report and for no other purpose. To the fullest extent permitted by law, we do not accept or assume responsibility to anyone other than the company and the company’s members as a body, for our audit work, for this report, or for the opinions we have formed. Respective responsibilities of directors and auditors As explained more fully in the statement of Directors’ responsibilities, the directors are responsible for the preparation of the financial statements and for being satisfied that they give a true and fair view. Our responsibility is to audit and express an opinion on the financial statements in accordance with applicable law and International Standards on Auditing (UK and Ireland). Those standards require us to comply with the Auditing Practices Board’s (APB’s) Ethical Standards for Auditors. Scope of the audit of the financial statements A description of the scope of an audit of financial statements is provided on the APB’s website at www.frc.org.uk/apb/scope/private.cfm. Opinion on financial statements In our opinion: ` the financial statements give a true and fair view of the state of the group’s and the parent company’s affairs as at 31 December 2011 and of the group’s loss for the year then ended; ` the group financial statements have been properly prepared in accordance with IFRS as adopted by the European Union; ` the parent company financial statements have been properly prepared in accordance with IFRS as adopted by the European Union and as applied in accordance with the provisions of the Companies Act 2006; and ` the financial statements have been prepared in accordance with the requirements of the Companies Act 2006. Opinion on other matters prescribed by the Companies Act 2006 In our opinion the information given in the Directors’ Report for the financial year for which the financial statements are prepared is consistent with the financial statements. Matters on which we are required to report by exception We have nothing to report in respect of the following matters where the Companies Act 2006 requires us to report to you if, in our opinion: ` adequate accounting records have not been kept by the parent company, or returns adequate for our audit have not been received from branches not visited by us; or ` the parent company financial statements are not in agreement with the accounting records and returns; or ` certain disclosures of Directors’ remuneration specified by law are not made; or ` we have not received all the information and explanations we require for our audit. Anthony Perkins (senior statutory auditor) For and on behalf of BDO LLP, statutory auditor London United Kingdom 21 May 2012 BDO LLP is a limited liability partnership registered in England and Wales (with registered number OC305127). Borders & Southern Petroleum Plc Annual Report and Accounts 2011 17 i F n a n c a i l s t a t e m e n t s Consolidated statement of comprehensive income for the year ended 31 December 2011 Administrative expenses Loss from operations Finance income Finance expense Loss before tax Tax expense Loss for the year and total comprehensive loss for the year attributable to owners of the parent Basic and diluted loss per share (see note 3) The notes on pages 25 to 36 form part of the financial statements. Note 2011 $ 2010 $ 2 8 8 9 (2,081,967) (1,504,467) (2,081,967) (1,504,467) 360,037 (13,465) 1,359,497 (20,313) (1,735,395) (165,283) (5,506) — (1,740,901) (165,283) (0.4) cents (0.039) cents 18 Borders & Southern Petroleum Plc Annual Report and Accounts 2011 Consolidated statement of financial position as at 31 December 2011 Go online www.bordersandsouthern.com Note 2011 $ $ 2010 $ $ 10 11 13 16 16 14 15 20,629 64,643,520 64,664,149 13,110 37,730,165 37,743,275 1,544,103 95,776,313 80,947,886 11,315,514 194,130,019 — 178,268,302 242,932,451 205,445,533 243,188,808 (1,330,112) (271,471) 241,602,339 242,917,337 7,675,453 238,034,095 1,046,565 (5,137,378) (16,396) 241,602,339 7,675,453 238,034,095 620,662 (3,396,477) (16,396) 242,917,337 Assets Non-current assets Property, plant and equipment Intangible assets Total non-current assets Current assets Other receivables Cash and cash equivalents Restricted use cash Total current assets Total assets Liabilities Current liabilities Trade and other payables Total net assets Equity Share capital Share premium Other reserves Retained deficit Foreign currency reserve Total equity The notes on pages 25 to 36 form part of the financial statements. The financial statements were approved by the board of directors and authorised for issue on 21 May 2012. Howard Obee Director Peter Fleming Director Company number 5147938 Borders & Southern Petroleum Plc Annual Report and Accounts 2011 19 i F n a n c a i l s t a t e m e n t s Consolidated statement of changes in equity for the year ended 31 December 2011 Share capital $ Share premium $ Other reserves $ Retained deficit $ Foreign currency reserve $ Total $ Balance at 1 January 2010 7,675,453 238,034,095 353,286 (3,231,194) (16,396) 242,815,244 Total comprehensive loss for the year Recognition of share-based payments — — — — — (165,283) 267,376 — — — (165,283) 267,376 Balance at 31 December 2010 7,675,453 238,034,095 620,662 (3,396,477) (16,396) 242,917,337 Total comprehensive loss for the year Recognition of share-based payments — — — — — (1,740,901) 425,903 — — — (1,740,901) 425,903 Balance at 31 December 2011 7,675,453 238,034,095 1,046,565 (5,137,378) (16,396) 241,602,339 The following describes the nature and purpose of each reserve within owners’ equity: Reserve Share capital Description and purpose This represents the nominal value of shares issued. Share premium Amount subscribed for share capital in excess of nominal value. Other reserves Fair value of options issued. Foreign currency reserve Differences arising on change of presentation and functional currency to US Dollars. Retained deficit Cumulative net gains and losses recognised in the consolidated statement of comprehensive income. The notes on pages 25 to 36 form part of the financial statements. 20 Borders & Southern Petroleum Plc Annual Report and Accounts 2011 Company statement of financial position as at 31 December 2011 Go online www.bordersandsouthern.com Note 2011 $ $ 2010 $ $ 10 12 13 16 16 14 15 20,629 2 20,631 13,110 2 13,112 65,274,488 95,776,313 80,947,886 49,209,046 194,130,019 — 241,998,687 242,019,318 243,339,065 243,352,177 (241,635) (264,290) 241,777,683 243,087,887 7,675,453 238,034,095 1,046,565 (4,959,745) (18,685) 241,777,683 7,675,453 238,034,095 620,662 (3,223,638) (18,685) 243,087,887 Assets Non-current assets Property, plant and equipment Investments Total non-current assets Current assets Other receivables Cash and cash equivalents Restricted use cash Total current assets Total assets Liabilities Current liabilities Trade and other payables Total net assets Equity Called up share capital Share premium Other reserves Retained deficit Foreign currency reserve Total equity The notes on pages 25 to 36 form part of the financial statements. The financial statements were approved by the board of directors and authorised for issue on 21 May 2012. Howard Obee Director Peter Fleming Director Company number 5147938 Borders & Southern Petroleum Plc Annual Report and Accounts 2011 21 i F n a n c a i l s t a t e m e n t s Company statement of changes in equity for the year ended 31 December 2011 Share capital $ Share premium reserve $ Other reserves $ Retained deficit $ Foreign currency reserve $ Total $ Balance at 1 January 2010 7,675,453 238,034,095 353,286 (3,095,023) (18,685) 242,949,126 Total comprehensive loss for the year — Recognition of share-based payments — — — (128,615) 267,376 — — — (128,615) 267,376 Balance at 31 December 2010 7,675,453 238,034,095 620,662 (3,223,638) (18,685) 243,087,887 Total comprehensive loss for the year Recognition of share-based payments — — — — — (1,736,107) 425,903 — — — (1,736,107) 425,903 Balance at 31 December 2011 7,675,453 238,034,095 1,046,565 (4,959,745) (18,685) 241,777,683 The following describes the nature and purpose of each reserve within owners’ equity: Reserve Share capital Description and purpose This represents the nominal value of shares issued. Share premium Amount subscribed for share capital in excess of nominal value. Other reserves Fair value of options issued. Foreign currency reserve Differences arising on change of presentation and functional currency to US Dollars. Retained deficit Cumulative net gains and losses recognised in the statement of comprehensive income. The notes on pages 25 to 36 form part of the financial statements. 22 Borders & Southern Petroleum Plc Annual Report and Accounts 2011 Consolidated statement of cash flows for the year ended 31 December 2011 Cash flow from operating activities Loss before tax Adjustments for: Depreciation Share-based payment Finance income Finance expenses Cash flows from operating activities before changes in working capital Decrease/(increase) in other receivables Increase in trade and other payables Tax paid Net cash outflow from operating activities Cash flows used in investing activities Interest received Interest paid Purchase of intangible assets Purchase of property, plant and equipment Net cash used in investing activities Net decrease in cash and cash equivalents Cash and cash equivalents at the beginning of the year Exchange (loss)/gain on cash and cash equivalents Cash and cash equivalents and cash held in escrow at the end of the year Cash and cash equivalents Restricted use cash Cash and cash equivalents and restricted use cash at the end of the year Go online www.bordersandsouthern.com 2011 $ $ 2010 $ $ (1,735,395) (165,283) Note 10 7 8 8 13 14 13,606 425,903 (360,037) 13,465 (1,642,458) 402,423 1,058,641 (5,506) (186,900) 360,743 (254) 11 10 (17,545,073) (21,125) 520,830 (20,313) (10,479,407) (3,524) 16 16 (17,205,709) (17,392,609) 194,130,019 (13,211) 176,724,199 95,776,313 80,947,886 176,724,199 194,130,019 Borders & Southern Petroleum Plc Annual Report and Accounts 2011 23 9,930 267,376 (1,359,497) 20,313 (1,227,161) (1,847,804) 26,791 — (3,048,174) (9,982,414) (13,030,588) 206,321,177 839,430 194,130,019 194,130,019 — i F n a n c a i l s t a t e m e n t s Company statement of cash flows for the year ended 31 December 2011 Cash flow from operating activities Loss before tax Adjustments for: Depreciation Share-based payment Finance income Finance interest Foreign exchange loss Cash flows from operating activities before changes in working capital Decrease/(increase) in other receivables (Decrease)/increase in trade and other payables Tax paid Net cash outflow from operating activities Cash flows from investing activities Interest received Interest paid Increase in amounts due from group undertaking Purchase of tangible assets Net cash from investing activities Net decrease in cash and cash equivalents Cash and cash equivalents at the beginning of the year Exchange (loss)/gain on cash and cash equivalents Cash and cash equivalents and cash held in escrow at the end of the year Cash and cash equivalents Restricted use cash Cash and cash equivalents and restricted use cash at the end of the year 2011 $ $ 2010 $ $ (1,730,601) (128,615) Note 10 7 8 8 8 13 14 13,606 425,903 (360,037) 254 12,782 (1,638,093) 1,641,817 (22,655) (5,506) (24,437) 360,037 (254) 11 10 (17,707,259) (21,125) 520,830 (20,313) (10,516,079) (3,524) 16 16 (17,368,601) (17,393,038) 194,130,019 (12,782) 176,724,199 95,776,313 80,947,886 176,724,199 194,130,019 9,930 267,376 (1,359,497) 20,313 — (1,190,493) (1,847,804) 26,795 — (3,011,502) (10,019,086) (13,030,588) 206,321,177 839,430 194,130,019 194,130,019 — 24 Borders & Southern Petroleum Plc Annual Report and Accounts 2011 Notes to the financial statements for the year ended 31 December 2011 Go online www.bordersandsouthern.com 1 Accounting policies Basis of preparation The principal accounting policies adopted in the preparation of the financial statements are set out below and have been consistently applied to all years presented. These consolidated and parent financial statements have been prepared in accordance with International Financial Reporting Standards (IFRSs and IFRIC interpretations) issued by the International Accounting Standards Board (IASB) as adopted by the European Union IFRS and with those parts of the Companies Act 2006 applicable to companies preparing their accounts under IFRS. New and revised Standards effective for 31 December 2011 year end but are not currently relevant to the group New Standards IFRS 1 – Additional exemptions for first-time adopters (effective for accounting periods commencing on or after 1 February 2010). Amendments IAS 32 – Classification of Rights Issues (effective for accounting periods commencing on or after 1 February 2010). IAS 19 and IFRIC 14 – Limit of a defined benefit asset, minimum funding requirements and their interaction (effective for accounting periods commencing on or after 1 January 2011). Interpretations IFRIC 19 – Extinguishing Financial Liabilities with Equity Instruments (effective for accounting periods commencing on or after 1 July 2010). New and revised Standards effective for 31 December 2011 year end which are currently relevant to the group The IFRS financial information has been drawn up on the basis of accounting policies consistent with those applied in the financial statements for the year to 31 December 2010. The following standards, interpretations and amendments to existing standards have been adopted for the first time in 2011: Amendments IAS 24 (revised) – Revised definition of related party (effective for accounting periods commencing on or after 1 January 2011). The adoption of this amendment did not affect the Group results of operations or financial positions. The presentation of these financial statements incorporates changes arising from adoption of this amendment. New and revised Standards issued but not effective for 31 December 2011 year end The IASB and IFRIC have issued the following standards and interpretations which are effective for reporting periods beginning after the date of these financial statements, and which the group is not adopting early: New Standards IFRS 1* – Amendment – Severe Hyperinflation and Removal of Fixed Dates for First-time Adopters (effective for accounting periods commencing on or after 1 July 2011). This is not considered relevant to the group’s operations. IFRS 7* – Amendment – Transfer of financial assets (effective for accounting periods commencing on or after 1 July 2011). This is not considered relevant to the group’s operations. IFRS 9* – New standard replacing IAS 39 (effective for accounting periods commencing on or after 1 January 2013). This is not considered relevant to the group’s operations. IFRS 10* – Consolidated Financial Statements (effective for accounting periods commencing on or after 1 January 2013). The group will apply this amendment in the accounting period commencing 1 January 2013. IFRS 11* – Joint Arrangements (effective for accounting periods commencing on or after 1 January 2013). This is not considered relevant to the group’s operations. IFRS 12* – Disclosure of Interests in Other Entities (effective for accounting periods commencing on or after 1 January 2013). This is not considered relevant to the group’s operations. IFRS 13* – Disclosure of Interests in Other Entities (effective for accounting periods commencing on or after 1 January 2013). This is not considered relevant to the group’s operations. Borders & Southern Petroleum Plc Annual Report and Accounts 2011 25 i F n a n c a i l s t a t e m e n t s Notes to the financial statements (continued) for the year ended 31 December 2011 1 Accounting policies continued New and revised Standards issued but not effective for 31 December 2011 year end continued Amendments IAS 1* – Presentation of Items of Other Comprehensive Income (effective for accounting periods commencing on or after 1 July 2012). The group will apply this amendment in the accounting period commencing 1 January 2012. IAS 12* – Deferred Tax: Recovery of Underlying Assets (effective for accounting periods commencing on or after 1 January 2012). This is not considered relevant to the group’s operations. IAS 19* – Employee Benefits (effective for accounting periods commencing on or after 1 January 2013). This is not considered relevant to the group’s operations. IAS 27* – Separate Financial Statements (effective for accounting periods commencing on or after 1 January 2013). The group will apply this amendment in the accounting period commencing 1 January 2013. IAS 28* – Investments in Associates and Joint Ventures (effective for accounting periods commencing on or after 1 January 2013). This is not considered relevant to the group’s operations. * These have not been endorsed by the EU. The Group is evaluating the impact of the above pronouncements but they are not expected to be material to the Group’s earnings or to shareholders’ funds. Basis of consolidation Where the company has the power, either directly or indirectly, to govern the financial and operating policies of another entity or business so as to obtain benefits from its activities, it is classified as a subsidiary. The consolidated financial statements present the results of the company and its subsidiaries (“the group”) as if they formed a single entity. Intercompany transactions and balances between group companies are therefore eliminated in full. Loss for the financial year The company has taken advantage of the exemption allowed under Section 408 of the Companies Act 2006 and has not presented its own income statement in these financial statements. The group loss for the year includes a loss after tax of $1,740,901 (2010: loss after tax of $165,283) which is dealt with in the financial statements of the parent company. The company’s investments in subsidiaries The parent company’s subsidiaries are carried at cost less amounts provided for impairment. Finance income Finance income consists of interest on cash deposits and foreign exchange gains. The treatment of foreign exchange gains on derivatives is discussed under financial instruments. Segment reporting Operating segments are reported in a manner consistent with the internal reporting provided to the chief operating decision-maker. The chief operating decision-maker, who is responsible for allocating resources and assessing performance of the operating segments, has been identified as the board of directors. Property, plant and equipment Office equipment is initially recorded at cost. Depreciation is provided on office equipment so as to write off the cost, less any estimated residual value, over their expected useful economic life as follows: Office equipment 33 1/3% Assets are depreciated from the date of acquisition and on a straight line basis. Exploration and evaluation expenditure As permitted under IFRS 6, the group has accounted for exploration and evaluation expenditure using the full cost method, whereby all costs associated with oil exploration are capitalised as intangible assets on a project-by-project basis, pending determination of feasibility of the project. Costs incurred include appropriate technical and administrative expenses but not general overheads. Where a licence is relinquished, a project is abandoned or is considered to be of no further value to the group, the related costs are written off. All capitalised costs are reviewed annually against the underlying value of oil and gas reserves. 26 Borders & Southern Petroleum Plc Annual Report and Accounts 2011 Go online www.bordersandsouthern.com 1 Accounting policies continued Impairment Exploration assets are reviewed regularly for indication of impairment, where circumstances indicate that the carrying value may not be recoverable. If an indication of impairment exists, the asset is tested for impairment in accordance with IFRS 6 and IAS 36. The carrying value is compared to the underlying value of oil and gas or against the expected recoverable amount, generally by reference to the present value of future net cash flows expected to be generated from the production of commercial reserves. The cash-generating unit (CGU) applied for impairment testing is usually the individual field, except that a number of fields may be grouped together to form a single CGU where the cash flows are interdependent. Any impairment loss arising from the review is charged to the statement of comprehensive income whenever the carrying amount of the asset exceeds its recoverable amount. Provisions A provision is recognised in the statement of financial position when the group has a present legal or constructive obligation as a result of a past event and it is probable that an outflow of economic benefits will be required to settle the obligation. Foreign currencies Transactions in foreign currencies are translated into US Dollars at the exchange rate ruling at the date of the transaction. Monetary assets and liabilities denominated in foreign currencies are translated into US Dollars at the closing rates at the reporting date and the exchange differences are included in the statement of comprehensive income. The functional and presentational currency of the parent and all group companies is the US Dollar. Operating leases Rentals payable under operating leases are charged to the statement of comprehensive income on a straight line basis over the lease term. Share-based payments The fair value of employee share option plans is calculated using the Black-Scholes pricing model. Non-employee options granted as part of consideration for services rendered are valued at the fair value of those services. Where information on the fair value of services rendered is not readily available, the fair value is calculated using the Black-Scholes pricing model. In accordance with IFRS 2 Share-based payments the resulting cost is charged to the statement of comprehensive income over the vesting period of the options. The amount of charge is adjusted each year to reflect expected and actual levels of options vesting. Where equity-settled share options are awarded, the fair value of the options at the date of grant is charged to the statement of comprehensive income over the vesting period. Non-market vesting conditions are taken into account by adjusting the number of equity instruments expected to vest at each reporting date so that, ultimately, the cumulative amount recognised over the vesting period is based on the number of options that eventually vest. Market vesting conditions are factored into the fair value of the options granted. As long as all other vesting conditions are satisfied, a charge is made irrespective of whether the market vesting conditions are satisfied. The cumulative expense is not adjusted for failure to achieve a market vesting condition. Where the terms and conditions of options are modified before they vest, the increase in the fair value of the options, measured immediately before and after the modification, is also charged to the consolidated statement of comprehensive income over the remaining vesting period. Financial instruments Financial instruments are initially recorded at fair value. Subsequent measurement depends on the designation of the instrument, as follows: ` trade and other receivables are initially recognised at fair value and subsequently at amortised cost using the effective rate of interest, net of allowances for impairment; ` trade and other payables are initially recognised at fair value and subsequently at amortised cost using the effective rate of interest; ` the group may use derivative financial instruments such as currency forward contracts to manage the risks associated with foreign exchange. They would be carried in the statement of financial position at fair value with changes in fair value recognised in the consolidated statement of comprehensive income in the finance income or expense line; ` financial instruments issued by group companies are treated as equity only to the extent that they do not meet the definition of a financial liability. The group’s and company’s ordinary shares are all classified as equity instruments; and ` cash and cash equivalents consist of cash at bank on demand and balances on deposit with an original maturity of three months or less. The group has no financial assets categorised as fair value through profit or loss, held to maturity or available for sale. It has no financial liabilities categorised as fair value through profit or loss. Borders & Southern Petroleum Plc Annual Report and Accounts 2011 27 i F n a n c a i l s t a t e m e n t s Notes to the financial statements (continued) for the year ended 31 December 2011 1 Accounting policies continued Taxes The major components of tax on the profit or loss include current and deferred tax. Current tax is based upon the profit or loss for the year adjusted for items that are non-assessable or disallowed and is calculated using tax rates that have been enacted, or substantively enacted, by the reporting date. Tax is charged or credited to the statement of comprehensive income, except where the tax relates to items credited or charged directly to equity, in which case the tax is also dealt within equity. Deferred tax assets and liabilities are recognised where the carrying amount of an asset or liability in the statement of financial position differs to its tax base. Recognition of deferred tax assets is restricted to those instances where it is probable that taxable profit will be available against which the difference can be utilised. The amount of the asset or liability is determined using tax rates that have been enacted or substantively enacted by the reporting date and are expected to apply when deferred tax liabilities and assets are settled or recovered. Critical accounting estimates and judgements and key sources of estimation uncertainty The preparation of the financial statements requires management to make estimates and assumptions that affect the reported amounts of revenues, expenses, assets and liabilities and the disclosure of contingent liabilities at the date of the financial statements. If in the future such estimates and assumptions, which are based on management’s best judgement at the date of the financial statements, deviate from the actual circumstances, the original estimates and assumptions will be modified as appropriate in the year in which the circumstances change. Where necessary, the comparatives have been reclassified from the previously reported results to take into accounts presentational changes. Management has made the following judgements which have the most significant effects on the amounts recognised in the financial statements: ` recoverability of exploration and evaluation costs The group uses the full cost method of accounting, whereby exploration and evaluation costs are capitalised as intangible assets if the associated project is commercially viable, and reviewed for impairment. This requires judgemental assessments as to (a) the likely future commerciality of the asset and (b) future revenues and costs relating to the project in order to determine the recoverable value of the asset. The key sources of estimation uncertainty at the reporting date, which may cause a material adjustment to the carrying amounts of assets and liabilities within the next financial year, is as follows: ` share options The group’s share-based payments were recognised at fair value using a 60% volatility rate. See note 7. 2 Loss from operations Staff costs (note 5) Share-based payment – equity-settled Services provided by the auditor: Audit: fees payable to the company’s auditor for the audit of the parent company and consolidated financial statements Fees payable to the company’s auditor/or: – tax services – other services Depreciation of office equipment Operating lease expenses – property 2011 $ 789,931 425,903 21,015 9,080 9,131 13,606 274,493 2010 $ 533,910 267,376 49,852 21,476 — 9,930 209,801 28 Borders & Southern Petroleum Plc Annual Report and Accounts 2011 Go online www.bordersandsouthern.com 3 Basic and dilutive loss per share The calculation of the basic and dilutive loss per share is based on the loss attributable to ordinary shareholders divided by the weighted average number of shares in issue during the year. The loss for the financial year for the group was $1,740,901 (2010: loss $165,283) and the weighted average number of shares in issue for the year was 428,578,404 (2010: 428,578,404). Due to the loss in the year the diluted loss per share has not been calculated. At the reporting date, there were 5,350,000 (2010: 2,450,000) potentially dilutive ordinary shares being the share options (note 7). 4 Segment analysis The company operates in one operating segment (exploration for oil and gas) and in substantially one geographical market (the Falkland Islands), therefore no additional segmental information is presented. Of the group’s total non-current assets, the property, plant and equipment is based in the UK; all other non-current assets are located in the Falkland Islands. 5 Staff costs Company and group Staff costs (including directors) comprise: Wages and salaries Employers national insurance contribution Share-based payment – equity-settled 2011 $ 699,657 90,274 789,931 349,218 1,139,149 2010 $ 476,165 57,745 533,910 220,944 754,854 The average number of employees (including directors) employed during the year by the company was six (2010: six) and for the group was six (2010: six). All employees and directors of the group and the company are considered to be the key management personnel. Of the $425,903 (2010: $267,376) share-based payment charge included in the consolidated statement of comprehensive income, $349,218 (2010: $220,944) has been charged in respect of share options granted to staff (including directors) in the current and prior years. The remaining $76,685 (2010: $46,432) relates to share options granted to external parties, see note 7 for further details. 6 Directors’ emoluments The directors’ emoluments for the year are as follows: Directors’ fees Share-based payments – equity-settled i F n a n c a i 2011 $ 511,720 260,042 771,762 l s t a t e m e n t s 2010 $ 324,805 123,099 447,904 The fees and share-based payments made to each director are disclosed in the Directors’ Report. In 2009, the group granted to three directors of Borders & Southern Petroleum Plc, for nil consideration, 250,000 share options each, with a total fair value of $374,446. Of this amount $127,838 (2010: $123,099) has been expensed during the year. In 2011, the group granted to two directors of Borders & Southern Petroleum Plc, for nil consideration, 1,000,000 share options each, with a total fair value of $774,447. Of this amount $132,204 has been expensed during the year. Borders & Southern Petroleum Plc Annual Report and Accounts 2011 29 Notes to the financial statements (continued) for the year ended 31 December 2011 7 Share-based payment In June, September and October 2011, the group granted 2,900,000 share options to two directors, an employee of the group and to external parties. The options vest after three years and expire after ten years. Because of the difficulty in measuring the fair value of the services received, this has been determined by reference to the fair value of the options granted. A Black-Scholes model has been used to determine the fair value of options granted (see below). Outstanding at the beginning of the year Granted during the year Outstanding at the end of the year 31 December 2011 Weighted average exercise price 54p 50p 52p 31 December 2011 Number 2,450,000 2,900,000 5,350,000 31 December 2010 Weighted average exercise price 53p 74p 54p 31 December 2010 Number 2,250,000 200,000 2,450,000 The weighted average contractual life of the options outstanding at the year end was seven years (2010: four years). At 31 December 2011, there were 1,000,000 options exercisable at a weighted average exercise price of 50 pence (2010: 700,000 at 42 pence). The following information is relevant in the determination of the fair value of the options granted during the year under the scheme operated by the company. Equity-settled scheme Option pricing model used Weighted average share price at grant date Exercise price Weighted average contractual life (days) Expected volatility Risk-free interest rate Fair value of options 31 December 2011 31 December 2010 Black-Scholes Black-Scholes 50p 50p 1,460 60% 2.0% 23p 74p 74p 1,460 50% 2.5% 31p The expected volatility used to calculate the share-based payment expense was based on the standard deviation of the company’s monthly close share prices since inception. Share-based payment expense for the year in respect of the equity-settled scheme for options granted during the year Share-based payment expense for the year in respect of the equity-settled scheme for options granted during 2007 Share-based payment expense for the year in respect of the equity-settled scheme for options granted during 2008 Share-based payment expense for the year in respect of the equity-settled scheme for options granted during 2009 Share-based payment expense for the year in respect of the equity-settled scheme for options granted during 2010 Total share-based remuneration expense for the year $165,504 — — $5,710 $30,590 $54,028 $197,055 $189,751 $32,754 $425,903 $17,887 $267,376 30 Borders & Southern Petroleum Plc Annual Report and Accounts 2011 8 Finance income and expense Finance income Bank interest received Foreign exchange gain Finance expense Bank interest paid Foreign exchange loss 9 Tax expense Current tax expense UK corporation tax on loss for the year Adjustments recognised in the current year in relation to the current taxation of prior years Total current and deferred tax for the year Go online www.bordersandsouthern.com 2011 $ 360,037 — 360,037 2011 $ 254 13,211 13,465 2011 $ — 5,506 5,506 2010 $ 520,067 839,430 1,359,497 2010 $ 20,313 — 20,313 2010 $ — — — Factors affecting current year tax charge The reasons for the difference between the actual tax charge for the year and the standard rate of corporation tax in the UK applied to losses for the year are as follows: Loss before taxation Standard rate corporation tax charge (26.5%) Expenses not deductible for tax purposes Capital allowances in excess of depreciation Unutilised tax losses carried forward Adjustments recognised in the current year in relation to the taxation of prior years Tax losses brought forward utilised Total current and deferred tax for the year 2011 $ (1,735,395) (459,880) 273,982 (2,342) 188,240 5,506 — 5,506 2010 $ (165,283) (44,626) 188,756 1,545 — — (145,675) — Factors that may affect future tax charges The group has a deferred tax asset of approximately $178,000 (2010: $41,000) in respect of unrelieved tax losses of approximately $710,000 at 31 December 2011 (2010: $146,000). The rate of tax used in the calculation of the deferred tax asset is 25% (2010: 27%). The deferred tax asset has not been recognised in the financial statements as the timing of the economic benefit is uncertain. Borders & Southern Petroleum Plc Annual Report and Accounts 2011 31 i F n a n c a i l s t a t e m e n t s Notes to the financial statements (continued) for the year ended 31 December 2011 10 Property, plant and equipment Group and company Cost As at 1 January 2010 Additions As at 31 December 2010 Depreciation As at 1 January 2010 Charge for the year As at 31 December 2010 Net book value As at 31 December 2010 As at 31 December 2009 Cost As at 1 January 2011 Additions As at 31 December 2011 Depreciation As at 1 January 2011 Charge for the year As at 31 December 2011 Net book value As at 31 December 2011 11 Intangible assets Group Cost As at 1 January 2010 Additions As at 31 December 2010 Net book value As at 31 December 2010 As at 31 December 2009 32 Borders & Southern Petroleum Plc Annual Report and Accounts 2011 Office equipment $ 83,257 3,524 86,781 63,741 9,930 73,671 13,110 19,516 $ 86,781 21,125 107,906 73,671 13,606 87,277 20,629 Exploration and evaluation costs $ 36,619,040 1,111,125 37,730,165 37,730,165 36,619,040 11 Intangible assets continued Group Cost As at 1 January 2011 Additions As at 31 December 2011 Net book value As at 31 December 2011 Go online www.bordersandsouthern.com Exploration and evaluation costs $ 37,730,165 26,913,355 64,643,520 64,643,520 On 19 January 2010 it was confirmed by the Acting Governor of the Falkland Islands that it consented to extend the licenses to 1 November 2012 with a commitment to drill one well prior to 1 November 2012. All capitalised costs are reviewed annually against underlying value of oil and gas reserves, the directors consider that no impairment triggers exist and therefore accordingly no impairments are required. 12 Investments in subsidiary Company Cost As at 1 January and 31 December Net book value As at 31 December 2011 $ 2 2 2010 $ 2 2 The company owns the one ordinary £1 subscriber share, being 100% of the issued share capital, in Borders and Southern Falkland Islands Limited. The company was registered in England and its principal activity is oil and gas exploration. 13 Other receivables Amounts owed by group undertakings Other receivables Prepayments and accrued income Group 2011 $ — 239,325 1,304,778 1,544,103 2010 $ — 1,883,812 9,431,702 Company 2011 $ 64,969,073 239,325 66,090 11,315,514 65,274,488 2010 $ 47,261,814 1,883,812 63,420 49,209,046 All amounts shown under receivables fall due for payment within one year. Amounts owed by group undertakings are not interest-bearing and are payable on demand. 14 Trade and other payables Trade payables Other taxes and social security costs Other payables Accruals and deferred income Group 2011 $ 138,650 26,257 42,228 1,122,977 1,330,112 2010 $ 115,704 24,216 33,635 97,916 271,471 Company 2011 $ 138,650 26,257 42,228 34,500 241,635 2010 $ 115,704 24,216 33,635 90,735 264,290 Borders & Southern Petroleum Plc Annual Report and Accounts 2011 33 i F n a n c a i l s t a t e m e n t s Notes to the financial statements (continued) for the year ended 31 December 2011 15 Share capital Authorised 2011 $ 2010 $ 750,000,000 ordinary shares of 1 pence each (2010: 750,000,000) 14,926,125 14,926,125 Allotted, called up and fully paid 428,578,404 ordinary shares of 1 pence each (2010: 428,578,404) 7,675,453 7,675,453 16 Cash and cash equivalents Group and company Cash available on demand Cash on deposit Restricted use cash Total 2011 $ 2,589,436 93,186,877 80,947,886 2010 $ 2,204,126 191,925,893 — 176,724,199 194,130,019 Cash and cash equivalents consist of cash at bank on demand and balances on deposit with an original maturity of three months or less. Restricted use cash is made up of deposits used as security for a letter of credit and funds held in an escrow account in both cases to provide suppliers with security of payment. 17 Related party transactions Company During the year Borders & Southern Petroleum Plc paid expenses of $17,702,259 (2010: $10,516,079) on behalf of Borders & Southern Falkland Islands Limited. At the year end $64,969,073 (2010: $47,261,814) was due from the subsidiary. The employees and directors of the group and the company are considered to be the key management personnel. There were no transactions between the group, the company and the key management personnel during the year. The remuneration paid to the key management personnel is disclosed in note 5. 18 Commitments The total future value of minimum lease payments on office property is due as follows: Not later than one year Later than one year but not later than five years Land and buildings 2011 $ 135,255 — 135,255 2010 $ 109,066 56,312 165,378 On 5 May 2011 the company entered into a contract with Ocean Rig UDW Inc. for the provision of mobile drilling rig services using the Leiv Eiriksson drilling unit. Under the contract the company committed to drill two wells with options to drill a further three wells. On 18 May 2011, the company signed an agreement to assign 2 of its option wells to Falkland Islands Oil and Gas Limited. 34 Borders & Southern Petroleum Plc Annual Report and Accounts 2011 Go online www.bordersandsouthern.com 18 Commitments continued The company’s committed costs for drilling two wells, including mobilisation and de-mobilisation, are currently estimated to be $76m and the company anticipates these costs will be incurred within twelve months from the statement of financial position date. The group licence commitment is to drill one well by 1 November 2012. 19 Events after the reporting period On 31 January 2012 the company commenced drilling operations on the first well within its Falkland Islands licences. On 26 April 2012 the company announced it had raised $75m before costs through a placement of shares. In April 2012 the company announced that a gas condensate discovery was made with the Darwin well. The Stebbing well was shortly after spudded. 20 Financial instruments The main risks arising from the group’s operations are cash flow interest rate risk, foreign currency translation risk and credit risk. The group monitors risk on a regular basis and takes appropriate measures to ensure risks are managed in a controlled manner. Liquidity is not considered to be a risk due to the sufficient cash funds readily available by the group at the year end. The group is exposed to risks that arise from its use of financial instruments. This note describes the group’s objectives, policies and processes for managing those risks and the methods used to measure them. There have been no substantive changes in the group’s exposure to financial instrument risks, its objectives, policies and processes for managing those risks or the methods used to measure them from previous periods unless otherwise stated in the note. Principal financial instruments The principal financial instruments used by the group from which financial instrument risk arises, held by category, are as follows: ` other receivables: ` cash and cash equivalents; and ` trade and other payables. The fair values of the group’s financial assets and liabilities at 31 December 2011 and as at 31 December 2010 are materially equivalent to the carrying value as disclosed in the statement of financial position and related notes. a) Cash flow interest rate risk The group is exposed to cash flow interest rate risk from monies held at bank and on deposit at variable rates. The group’s financial assets and liabilities accrue interest at prevailing floating rates in the United Kingdom or at pre-arranged fixed rates, as described further below. The group does not currently use derivative instruments to manage its interest rate risk. i F n a n c a i At 31 December 2011 the company held cash at bank and in deposits under its control of $176,724,199 (2010: $194,130,019), which forms the majority of the group’s working capital. Of the cash at bank and in deposit, $2,589,436 (2010: $2,204,126) relates to deposits placed with banking institutions that are available on demand which carry interest at prevailing United Kingdom deposit floating rates. The balance represents restricted deposits of $80,947,886 (2010: nil) and cash on deposit of $93,186,877(2010: $191,925,893) with weighted average interest rate of 0.2% (2010: 0.2%) for three months. If there was a 1% change in interest rates the impact on the statement of comprehensive income would be $1,767,242 (2010: $1,986,481). l s t a t e m e n t s b) Foreign currency translation risk The functional currency of the oil and gas exploration and evaluation activities of the group is US$ and the group’s functional and presentational currency is US$. Foreign exchange risk arises because some of the group’s services and cash is in UK Sterling, which results in gains or losses on retranslation into US$. To minimise this foreign currency risk cash balances are held in both £ Sterling and US$. Borders & Southern Petroleum Plc Annual Report and Accounts 2011 35 Notes to the financial statements (continued) for the year ended 31 December 2011 20 Financial instruments continued b) Foreign currency translation risk continued The foreign currency profile of financial assets and liabilities of the group and the company are as follows: Current financial assets Held in UK£: Other receivables Cash and cash equivalents and cash held in escrow Total current financial assets held in UK£ Held in US$: Trade and other receivables Cash and cash equivalents Total financial assets Group Company Other receivables measured at amortised cost 2011 $ Other receivables measured at amortised cost 2010 $ Other receivables measured at amortised cost 2011 $ Other receivables measured at amortised cost 2010 $ 247,468 1,883,812 247,468 1,883,812 41,023,045 41,270,513 38,318,280 40,202,092 41,023,045 41,270,513 38,318,280 40,202,092 — — 135,701,154 155,811,739 64,969,073 135,701,154 47,261,814 155,811,739 176,971,667 196,013,831 241,940,740 243,275,645 If there was a 10% change in the year-end exchange rate there would be a movement in the US$ equivalent of financial assets held in UK£ of $4,113,128 (2010: $4,783,311) for the group and company. Group Company Financial liabilities measured at amortised cost 2011 $ 1,330,112 1,330,112 Financial liabilities measured at amortised cost 2010 $ 271,471 271,471 Financial liabilities measured at amortised cost 2011 $ 241,635 241,635 Financial liabilities measured at amortised cost 2010 $ 264,290 264,290 Held in UK£: Trade and other payables Total financial liabilities If there was a 10% change in the year-end exchange rate there would be a movement in the US$ equivalent of financial liabilities held in the UK£ of $18,088 (2010: $14,934) for the group and company. c) Credit risk The group has no customers so formal credit procedures are in the process of being established. Credit risk on cash balances is managed by only banking with reputable financial institutions with high credit ratings. The only significant concentration of credit risk is cash held at bank and the maximum credit risk exposure for the group and company is detailed in the table below: 2011 Carrying value $ Maximum exposure $ 2010 Carrying value $ Maximum exposure $ Cash and cash equivalents and cash held in escrow 176,724,199 176,724,199 194,130,019 194,130,019 Maximum credit risk exposure 176,724,199 176,724,199 194,130,019 194,130,019 Capital The objective of the directors is to maximise shareholder return and minimise risk by keeping a reasonable balance between debt and equity. To date the group has minimised risk by being purely equity financed. The group considers its capital to comprise its ordinary share capital, share premium, accumulated retained deficit and other reserves. 36 Borders & Southern Petroleum Plc Annual Report and Accounts 2011 Corporate directory Solicitors Registrars Bankers Independent auditor Investor relations SNR Denton UK LLP One Fleet Place London EC4M 7WS Capita Registrars Northern House Woodsome Park Fenay Bridge Huddersfield HD8 0LA Lloyds TSB Bank plc 19–21 The Quadrant Richmond Surrey PW9 1BP HSBC Bank plc 70 Pall Mall London SW1Y 5EZ BDO LLP 55 Baker Street London W1U 7EU Tavistock Communications 131 Finsbury Pavement London EC2A 1NT Directors Harry Dobson Peter Fleming Nigel Hurst-Brown Howard Obee Stephen Posford Company secretary William Slack Registered office Business address Nominated advisor and joint broker Joint broker Joint broker 3 Copthall Avenue London EC2R 7BH 33 St James’s Square London SW1Y 4JS Panmure Gordon & Co Moorgate Hall 155 Moorgate London EC2M 6XB Mirabaud Securities LLP 33 Grosvenor Place London SW1X 7HY Ocean Equities Limited 3 Copthall Avenue London EC2R 7BH 33 St James’s Square London SW1Y 4JS United Kingdom Telephone: +44 (0)20 7661 9348 Fax: +44 (0)20 7661 8055 info@bordersandsouthern.com www.bordersandsouthern.com B o r d e r s & S o u t h e r n P e t r o l e u m P l c A n n u a l R e p o r t a n d A c c o u n t s 2 0 1 1