FIVE YEAR FINANCIAL HISTORY
In '000's of dollars except per share amounts
Revenues (excluding discontinued operations)
Revenues (including discontinued operations)
Gross margin % (excluding discontinued operations) (1)
Gross margin % (including discontinued operations) (1)
EBITDAS from continuing operations (1)
Per share – diluted
EBITDAS (1)
Per share – diluted
Income from continuing operations
Per share – basic
Per share – diluted
Net income
Per share – basic
Per share – diluted
Cash dividends declared per share
Property and equipment additions and corporate acquisitions:
Paid or payable
Paid or payable in equity
Weighted average shares outstanding - basic ('000)
Weighted average shares outstanding – diluted ('000)
Working capital
Total assets
Long-term debt excluding current portion
Shareholders' equity
(1) Refer to MD&A; see "NON-GAAP MEASUREMENTS"
Table of contents
2010
141,396
143,799
47%
47%
38,899
1.06
37,964
1.03
20,529
0.56
0.56
18,015
0.49
0.49
0.24
35,233
-
35,233
36,453
36,791
18,536
2009
82,100
94,520
49%
45%
19,831
0.57
16,652
0.48
10,272
0.29
0.29
5,281
0.15
0.15
0.31
8,923
-
8,923
34,841
34,857
22,451
2008
2007
2006
153,120
123,424
112,066
178,928
145,106
138,254
47%
45%
48,907
1.51
50,468
1.55
32,108
1.00
0.99
30,139
0.94
0.93
0.84
47,618
-
47,618
32,215
32,463
17,435
53%
49%
46,046
1.45
46,731
1.47
28,634
0.91
0.90
24,863
0.79
0.78
0.84
19,857
-
19,857
31,402
31,781
16,947
56%
53%
45,985
1.46
52,793
1.68
31,929
1.04
1.02
35,348
1.16
1.12
0.805
26,436
1,820
28,256
30,578
31,423
15,051
194,060
173,537
183,872
131,032
125,221
34,502
109,115
39,526
97,422
40,233
91,859
17,441
79,250
15,552
76,223
2 Report to Shareholders
3 Management's Discussion and Analysis 17 Management's Report
17 Independent Auditors' Report
18 Consolidated Financial Statements
21 Notes to Consolidated Financial Statements
31 Officers and Directors
Annual Meeting:
Shareholders are invited to attend the Annual Meeting which will be held at 3:00pm on April 14, 2011 in the Royal Meeting Room of the Metropolitan Centre,
333 – 4th Avenue S.W., Calgary, Alberta.
1
Cathedral Energy Services Ltd. - 2010 Annual Report
REPORT TO SHAREHOLDERS
After facing difficult times in 2009, we saw 2010 as a bounce back year. This recovery was largely based on strong pricing for crude oil and related products.
Oil and liquids rich natural gas plays have been tremendous drivers for increasing drilling and completion activity. Despite weather supported demand, natural
gas pricing continues to be weak and will likely remain weak until the U.S. economy improves, thereby creating incremental demand.
The first quarter of 2011 has been very robust, with the oilfield service sector running beyond capacity. There is a shortage of both people and equipment and
Cathedral has taken a proactive approach to remedy such shortages. In early 2010, the Company began in-house training programs for the development of
both directional drillers and Measurement-While-Drilling ("MWD") hands and this has resulted in Cathedral adding a significant amount of field personnel. It is
expected that this ongoing training program will enable Cathedral to continue to grow our job count through 2011. On the equipment side Cathedral is in
reasonably good shape; although we have had some stress points during 2011 Q1, we have been able to support more than our planned activity levels. To
assist in the ability to service our equipment, we have been proactive in expanding our repair parts inventories and adding components where needed. Looking
forward, we are expanding our fleet of equipment to meet the expected increase in demand for our services.
Based upon customer input we are expecting to see activity levels remain at high levels throughout the rest of 2011.
As mentioned last year, the Company recognized that research and development was going to be the cornerstone of its future; the development of new
innovative products was going to expand the Company’s markets and differentiate Cathedral from its competitors. The focus of our efforts will be a complete
new MWD platform that we expect to launch in the second quarter of 2011. The new MWD platform will allow Cathedral to have a single platform, whether
electro-magnetic or pulse based transmission, and will include many features we have been working on for the last year including resistivity/Logging-While-
Drilling capabilities and a rotary steerable system interface.
Cathedral continues to focus on growth of the production testing division. In 2010, we added 21 units which amounted to 60% growth in the overall fleet and to
complement the fleet we also added the required auxiliary equipment. The majority of the production testing units (16 units) added were high pressure units.
Our updated capital budget includes the addition of 6 additional 1440 psi high pressure vessels plus additional auxiliary equipment. The high quality of
equipment, as well as the overall size of the production testing fleet, has made the division a very integral part of our organization. As well, Cathedral continues
to review opportunities to expand the production testing division into other U.S. markets.
As we look forward, we are excited about the future prospects for growth.
Sincerely,
Signed: "Mark L. Bentsen"
Mark L. Bentsen
President and Chief Executive Officer
Cathedral Energy Services Ltd.
March 2, 2011
Cathedral Energy Services Ltd. - 2010 Annual Report
2
MANAGEMENT’S DISCUSSION AND ANALYSIS
This Management's Discussion and Analysis ("MD&A") for the year ended December 31, 2010 provides an analysis of the consolidated results of operations,
financial position and cash flows of Cathedral Energy Services Ltd. (the "Company" or "Cathedral") and should be read in conjunction with the accompanying
audited consolidated financial statements and notes thereto for the year ended December 31, 2010, as well as the Company's 2010 interim MD&A's. This
MD&A is intended to assist the reader in the understanding and assessment of significant changes and trends, as well as the risks and uncertainties, related to
the results of the operations and financial position of the Company. Currency amounts are in '000's except for day rates and per share amounts. This MD&A is
dated March 2, 2011.
FORWARD LOOKING STATEMENTS
This MD&A contains certain forward-looking statements and forward-looking information (collectively referred to herein as "forward-looking statements") within
the meaning of applicable Canadian securities laws. All statements other than statements of present or historical fact are forward-looking statements. Forward-
looking statements are often, but not always, identified by the use of words such as "anticipate", "achieve", "believe", "plan", "intend", "objective", "continuous",
"ongoing", "estimate", "outlook", "expect", "may", "will", "project", "should" or similar words suggesting future outcomes. In particular, this MD&A contains
forward-looking statements relating to, among other things, : access to capital; projected capital expenditures and commitments and the financing thereof;
equipment delivery and deployment dates; establishment of new operating bases; customer commitments; financial results; activity levels; technology
advances; International Financial Reporting Standards ("IFRS") adjustments; tax rates; availability of insurance coverage; commencement of Venezuela
operations and dividends. The Company believes the expectations reflected in such forward-looking statements are reasonable as of the date hereof but no
assurance can be given that these expectations will prove to be correct and such forward-looking statements should not be unduly relied upon.
Various material factors and assumptions are typically applied in drawing conclusions or making the forecasts or projections set out in forward-looking
statements. Those material factors and assumptions are based on information currently available to the Company, including information obtained from third
party industry analysts and other third party sources. In some instances, material assumptions and material factors are presented elsewhere in this MD&A in
connection with the forward-looking statements. You are cautioned that the following list of material factors and assumptions is not exhaustive. Specific
material factors and assumptions include, but are not limited to:
● the performance of the Company's businesses, including current business and economic trends;
● oil and natural gas commodity prices and production levels;
● capital expenditure programs and other expenditures by the Company and its customers;
● the ability of the Company to retain and hire qualified personnel;
● the ability of the Company to obtain parts, consumables, equipment, technology, and supplies in a timely manner to carry out its activities;
● the ability of the Company to maintain good working relationships with key suppliers;
● the ability of the Company to market its services successfully to existing and new customers;
● the ability of the Company to obtain timely financing on acceptable terms;
● currency exchange and interest rates;
● risks associated with foreign operations including Venezuela;
● the ability of the Company to realize the benefit of its conversion from an income trust to a corporation;
● risks associated with the formation of Cathedral's joint venture company in Venezuela which is required prior to commencement of Venezuela operations,
some of which are out of the control of Cathedral;
● risks associated with Venezuela joint venture company being awarded work by the Venezuela state run oil and natural gas corporation;
● changes under governmental regulatory regimes and tax, environmental and other laws in Canada, United States ("U.S.") and Venezuela; and
● a stable competitive environment.
Forward-looking statements are not a guarantee of future performance and involve a number of risks and uncertainties some of which are described herein.
Such forward-looking statements necessarily involve known and unknown risks and uncertainties, which may cause the Company's actual performance and
financial results in future periods to differ materially from any projections of future performance or results expressed or implied by such forward-looking
statements. These risks and uncertainties include, but are not limited to, the risks identified in this MD&A and in the Company's Annual Information Form under
the heading "Risk Factors". Any forward-looking statements are made as of the date hereof and, except as required by law, the Company assumes no
obligation to publicly update or revise such statements to reflect new information, subsequent or otherwise.
All forward-looking statements contained in this MD&A are expressly qualified by this cautionary statement. Further information about the factors affecting
forward-looking statements is available in the Company's current Annual Information Form and Annual Report which have been filed with Canadian provincial
securities commissions and are available on www.sedar.com.
NON-GAAP MEASUREMENTS
This MD&A refers to certain financial measurements that do not have any standardized meaning within Canadian Generally Accepted Accounting Principles
("GAAP") and therefore may not be comparable to similar measures provided by other companies.
The specific measures being referred to include the following:
"Gross margin" - calculated as revenues less operating expenses is considered a primary indicator of operating performance (see tabular calculation
i)
under Results of Operations);
"Gross margin %" - calculated as gross margin divided by revenues is considered a primary indicator of operating performance (see tabular calculation
ii)
under Results of Operations);
iii)
"EBITDAS" - defined as earnings before interest on long-term debt, taxes, depreciation, non-cash compensation expense and unrealized foreign
exchange gain/loss; this measure is considered an indicator of the Company's ability to generate funds flow from operations prior to consideration of how
activities are financed, how the results are taxed and measured and non-cash expenses. The definition of EBITDAS was changed in 2009 Q2 to adjust for
unrealized foreign exchange gain/loss. Comparative amounts presented have been restated to the new calculation (see tabular calculation under EBITDAS);
"EBITDAS from continuing operations" - defined as earnings before interest on long-term debt, taxes, depreciation, non-cash compensation expense and
iv)
unrealized foreign exchange gain/loss excluding the portion due from discontinued operations in each component of the calculation;
"EBITDAS from discontinued operations" - defined as earnings before interest on long-term debt, taxes, depreciation, non-cash compensation expense
v)
and unrealized foreign exchange gain/loss from discontinued operations of the Company's former wireline division in each component of the calculation;
"Maintenance capital expenditures" - refers to capital expenditures required to maintain existing levels of service but excludes replacement cost of lost-in-
vi)
hole equipment to the extent the replacement equipment is financed from the proceeds on disposal of the equipment lost-in-hole; and
"Funds from continuing operations" - calculated as cash provided by operating activities before changes in non-cash working capital and cash flow from
vii)
discontinued operations is considered an indicator of the Company's ability to generate funds flow from operations but excluding changes in non-cash working
capital which is financed using the Company's bank indebtedness/line of credit facility.
3
Cathedral Energy Services Ltd. - 2010 Annual Report
MANAGEMENT’S DISCUSSION AND ANALYSIS
OVERVIEW
Cathedral Energy Services Ltd. (the "Company" or "Cathedral") is incorporated under the Business Corporations Act (Alberta) (the "Act"). The Company was
created as a result of the conversion of Cathedral Energy Services Income Trust (the "Trust") to a corporation pursuant to a plan of arrangement ("Plan of
Arrangement") under the Act, entered into by various entities including the Trust, Cathedral Energy Services Ltd. ("CES") and SemBioSys Genetics Inc. ("SBS")
(the "Reorganization").
Upon closing of the Reorganization on December 18, 2009, the Company became the operator of the business of the Trust and its subsidiaries and the existing
management and board of directors of CES, plus one director of SBS, became the management and board of directors of the Company. The Reorganization
resulted in the unitholders of the Trust becoming shareholders of the Company with no changes to the underlying business operations. The Company did not
acquire any additional business carried on by SBS. The former business of SBS is being carried on by a new entity named SemBioSys Genetics Inc. ("New
SBS") which is owned by the former shareholders of SBS.
Prior to the closing of the Reorganization, the consolidated financial statements included the accounts of the Trust, its subsidiaries and partnerships, all of which
were wholly owned. Subsequent to the Reorganization, the consolidated financial statements include the accounts of the Company and its subsidiaries, all of
which are wholly owned. The Company is considered a continuation of the Trust and these consolidated financial statements follow the continuity of interests
method of accounting. Under the continuity of interests method of accounting the transfer of assets, liabilities and equity from the Trust to the Company are
recorded at their net book values as at December 18, 2009.
As a result of the application of the continuity of interests method of accounting, certain terms such as shareholders'/unitholders', shares/units,
dividends/distributions and share-based/unit-based may be used interchangeably throughout this MD&A.
The Company is publicly traded on the Toronto Stock Exchange under the symbol CET. The Company together with its wholly owned subsidiary, Cathedral
Energy Services Inc., is engaged in the business of providing selected oilfield services to oil and natural gas companies in western Canada and selected oil and
natural gas basins in the U.S. The Company is in the process of establishing operations in Venezuela for providing directional drilling services through a joint
venture with Petroleos de Venezuela, S.A. ("PDVSA"), the state owned oil and gas corporation of the Bolivarian Republic of Venezuela. The Company strives
to provide its clients with value added technologies and solutions to meet their drilling and production testing requirements.
SELECTED ANNUAL INFORMATION
Revenues (excluding discontinued operations – 2010 - $2,403;
2009 - $12,420; 2008 - $25,808)
$
141,396 $
59,296 $
82,100 $
(71,020) $
153,120
2010
Increase
(decrease)
2009
Increase
(decrease)
2008
Gross margin % (1)
EBITDAS from continuing operations (1)
Per share - diluted
EBITDAS (1)
Per share - diluted
EBITDAS from continuing operations (1) as % of
revenues excluding discontinued operations
Income from continuing operations
Per share - basic
Per share - diluted
Net income
Per share - basic
Per share - diluted
Cash dividends declared per share
Weighted average shares outstanding – basic ('000)
Weighted average shares outstanding – diluted ('000)
Funds from continuing operations (1)
Working capital
Total assets
Long-term debt excluding current portion
Shareholders' equity
(1) See "NON-GAAP MEASUREMENTS"
RESULTS OF OPERATIONS
2010 COMPARED TO 2009
Overview
47%
38,899
1.06
37,964
1.03
28%
20,529
0.56
0.56
18,015
0.49
0.49
0.24
36,453
36,791
33,381
18,536
-%
19,068
0.49
21,312
0.55
4%
10,259
0.27
0.27
12,736
0.34
0.34
(0.07)
19,823
(4,313)
49%
19,831
0.57
16,652
0.48
24%
10,272
0.29
0.29
5,281
0.15
0.15
0.31
34,841
34,857
13,558
22,451
(2%)
(29,076)
(0.94)
(33,816)
(1.07)
(8%)
(21,836)
(0.71)
(0.70)
(24,858)
(0.79)
(0.78)
(0.53)
(27,266)
5,016
47%
48,907
1.51
50,468
1.55
32%
32,108
1.00
0.99
30,139
0.94
0.93
0.84
32,215
32,463
40,824
17,435
194,060
20,523
173,537
(10,335)
183,872
34,502
109,115
(5,024)
11,693
39,526
97,422
(707)
5,563
40,233
91,859
In 2010 Q1, the Company made the decision to discontinue the operations of its wireline division. On March 31, 2010, the Company closed its Canadian
slickline operations and on April 20, 2010 completed the sale of its U.S. wireline operations. As such, the revenues and expenses for the wireline business are
included in the statements of operations and retained earnings and statements of cash flows as discontinued operations and the related assets are classified as
held for sale in the balance sheet. The comparative figures have been reclassified to be consistent with this presentation.
Cathedral Energy Services Ltd. - 2010 Annual Report
4
MANAGEMENT’S DISCUSSION AND ANALYSIS
On April 20, 2010, the Company closed the sale of its U.S. based electric wireline business to Pure Energy Services Ltd. ("Pure") in exchange for the operating
assets of Pure's Motorworks division and $2,112 cash. The assets of the Motorworks division included 58 drilling motors, 23 drilling jars, spare mud motor
power sections and shop equipment valued at $4,980. The assets of the Motorworks operations are being utilized in Cathedral's directional drilling business,
and the net sale proceeds were used to reduce bank indebtedness.
The Company completed 2010 with revenues of $141,396 compared to 2009 at $82,100. The 2010 revenues were lead by the Company's directional drilling
division which represented 76% (2009 - 79%) of total revenues with the remainder composed of production testing division at 24% (2009 - 21%). In 2009, there
was a significant decline in drilling in the oil and gas sector due to low commodity prices and the overall decline in the economy. Since those low activity levels,
the Company experienced a significant increase in activities in all areas.
2010 EBITDAS was $37,964 ($1.03 per share - diluted) which represents a $21,312 or 128% increase from $16,652 ($0.48 per share - diluted) in 2009. 2009
EBITDAS is net of one-time charges in the amount of $1,130 of which $453 related to its restructuring of electric line ("E-Line") division and $677 related to the
conversion to a corporation. 2010 EBITDAS from continuing operations was $38,899 ($1.06 per share – diluted) an increase of $19,068 or 96% from $19,831
($0.57 per share – diluted) in 2009.
Revenues and operating expenses
Revenues
Operating expenses
Gross margin - $
Gross margin - %
Revenues
Canada
United States
2010
2009
$ Change
$ 141,396
74,585
$ 82,100
41,835
$ 59,296
32,750
$ 66,811
$ 40,265
$ 26,546
47%
49%
(2)%
%
72
78
66
Year ended December 31, 2010
Year ended December 31, 2009
Directional
drilling
$ 65,827
41,013
Production
testing
$ 18,569
15,987
Total
$ 84,396
57,000
Directional
drilling
$ 40,597
24,161
Production
testing
$
8,806
8,536
Total
$
49,403
32,697
$ 106,840
$ 34,556
$ 141,396
$ 64,758
$ 17,342
$
82,100
2010 revenues were $141,396 which represented an increase of $59,296 or 72% from 2009 revenues of $82,100. The increase was primarily attributed to the
focus on horizontal, multi-stage fracturing technology to complete conventional and unconventional resource plays in both Canada and the U.S. which has
allowed for continued strength in activity levels for the oilfield services sector. Demand for Cathedral's services has also been driven by both oil and liquids-rich
natural gas plays.
The directional drilling division revenues increased 65% from $64,758 in 2009 to $106,840 in 2010. This change was the net result of: i) a 75% increase in
activity days from 6,836 in 2009 to 11,969 in 2010; and ii) a decrease in the average day rate from $9,275 in 2009 to $8,761 in 2010, which was caused in large
part by a decrease in the Canadian dollar equivalent of U.S. day rates due to a strengthening of the Canadian dollar relative to the U.S. dollar. While the
average day rates have declined on a year-over-year basis due to market pressures, in Canada rates for 2010 Q4 have increased compared to rates at 2009
Q4 and in the U.S., the total average rate have increased from 2009 Q4 to 2010 Q4 in U.S. dollars. The increases in the Canadian rates were primarily to offset
increased field labour costs. Canadian activity days increased from 4,595 to 7,568 and U.S. activity days increased from 2,241 to 4,401.
The directional drilling division began the year with 62 Measurement-While-Drilling ("MWD") systems in Canada, 30 in the U.S. and 4 for international
operations. It ended 2010 with 65 MWD systems in Canada, 33 in the U.S. and 4 for international operations. The Company continuously reviews the demand
for its services and shifts equipment among its markets accordingly.
The Company's production testing division contributed $34,556 in revenues during 2010 which was a 99% increase over 2009 revenues of $17,342. The
division began the year with 21 units in Canada and 14 units in the U.S. and ended with 34 units in Canada and 22 in the U.S. The increase in revenues was in
part attributable to the increase in units plus the overall increase in oilfield service activities on a year-over-year basis. The increased use of multi-fracturing
technologies to complete wells has resulted in an increase in the amount of work associated with flowbacks after well stimulation.
The gross margin for 2010 was 47% down 2% from 49% in 2009. The decrease is attributed to a number of factors including increases in labour and rental
expense for auxiliary and specialty equipment.
General and administrative expenses
General and administrative expenses were $30,471 in 2010, an increase of $9,854 compared to $20,617 in 2009. The increase was primarily related to
increases in payroll related expenses and facility rental costs as well as other general increases due to increased activity levels, net of declines in certain
professional and other fees in the amount of $677 incurred in 2009 Q4 related to the Plan of Arrangement. In late 2008 and in 2009 due to the significant
declines in activity levels several measures were taken to reduce staffing costs; these included lay-offs, a hiring freeze, elimination of incentive based
compensation and wage roll-backs for all remaining staff. The first level of wage roll-backs were re-instated in late 2009 and the remainder in 2010; as well the
hiring freeze was removed and an incentive compensation plan was re-introduced in 2010. Facility rental costs increased due to expansions into Pennsylvania
and Texas. As a percentage of revenues, general and administrative expenses were 22% in 2010 and 25% in 2009.
Depreciation
Depreciation for 2010 was $10,626 which compared to $11,602 in 2009. The decrease was due to in part the declining balance depreciation method used by
the Company and is expected as its assets get older. In addition, the Company reviewed its estimate of useful lives of assets as at January 1, 2010 and
adjusted its declining balance depreciation rates accordingly (refer to note 2(d) to the audited consolidated financial statements for the year ended December
31, 2010). This change resulted in a decrease in depreciation of $2,733 in 2010. Despite additional capital expenditures in the year the previous factors
resulted in a decrease in depreciation. During 2010, approximately $7,482 (2009 - $10,163) of property and equipment was temporarily removed from service
and therefore no depreciation was recorded on these assets. As a percentage of revenues, depreciation amounted to 8% for 2010 and 14% for 2009.
5
Cathedral Energy Services Ltd. - 2010 Annual Report
MANAGEMENT’S DISCUSSION AND ANALYSIS
Interest expense
Interest expense related to long-term debt increased from $1,238 in 2009 to $1,256 in 2010 due to the net effect of a decrease in the average level of debt
outstanding and an increase in the effective interest rate on the related debt. Other interest expense increased from $290 in 2009 to $523 in 2010 and relates
mainly to interest charges on use by the Company of its bank indebtedness/line of credit facility. The increase in other interest expense was due to a
combination of increased utilization of the related credit facility and increased bank interest rates.
Foreign exchange gain
The Company's foreign exchange gain decreased from $3,340 in 2009 to $1,309 in 2010 due to smaller fluctuations in the Canadian dollar in comparison to the
U.S. dollar on a year-over-year basis. The Company's U.S. operations are considered to be self-sustaining and therefore gains and losses due to fluctuations
in the foreign currency exchange rates are recorded in other comprehensive income ("OCI") on the balance sheet as a component of equity. However, gains
and losses in the Canadian entity on U.S. denominated intercompany balances continue to be recognized in the statement of operations. Included in the 2010
foreign currency gain are unrealized gains of $987 (2009 - $3,682) related to intercompany balances.
Share-based compensation expense
For 2010, the Company had share-based compensation expense of $2,589 compared to $1,732 for 2009. The value of the options is being amortized against
income over the related vesting periods. Share-based compensation has increased mainly due to 579,066 options issued in 2009 Q4 and 1,887,400 options
issued in 2010. As at December 31, 2010 there were 3,024,526 options outstanding as compared to 1,741,736 as at December 31, 2009.
In October 2009, insiders of the Company forfeited all of their outstanding 1,303,334 options, resulting in share based compensation expense of $794. On
October 13, 2009, non-insider optionees with vested or unvested out-of-the-money options were invited to reduce the exercise price of their share options to
$3.81, which equaled the trust unit price on the last trading day immediately before the date of the modification. In exchange for this reduction in the exercise
price, longer vesting terms were established with due consideration of the original expiry date which did not change. A total of 1,034,003 options were re-
priced. The unrecognized compensation costs from the original grant are recognized over the remainder of the original requisite service period and the
incremental compensation costs for the modified share options are recognized over the new requisite service period.
Gain on disposal of property and equipment
During 2010 the Company had a gain on disposal of property and equipment of $2,760 compared to $815 in 2009. The Company's gains were mainly due to
recoveries of lost-in-hole equipment costs including previously expensed depreciation on the related assets. The timing of lost-in-hole recoveries is not in the
control of the Company and therefore can fluctuate significantly from quarter-to-quarter and year-to-year.
Taxes
For 2010, the Company had a tax expense of $4,886 compared to tax recovery of $1,331 in 2009.
In 2010, the effective tax rate on continuing operations was 19%. The 2010 future tax provision was net of $2,429 utilization of deferred credit. Excluding this
utilization of deferred credit, the effective tax rate was 29% which is approximately the expected tax rate for the Company. The Company's current income
taxes for 2010 primarily related to U.S. operations.
Included in the 2009 net tax recovery was $958 net tax expense related to tax on an internal reorganization related to ownership of assets. At the beginning of
2009 Q1 the Company's U.S. subsidiary sold the majority of its operating assets to the Company's Canadian operating entity, as part of an internal
reorganization related to ownership of operating assets within the Company. This transaction created a one-time current tax expense in the amount of $4,168
(current taxable income was created mainly due to U.S. recaptured tax depreciation) and a recovery of future taxes in the amount of $3,210; for a net tax cost of
$958. Subsequent to this transaction, the Company's U.S. subsidiary leases the majority of its operating equipment from its Canadian parent company. The
future tax recovery for 2009 related to reversal of timing differences on U.S. taxes (see comments above) and the remaining future tax recovery was attributable
to adjustments related to the future taxation of specified investment flow-through ("SIFT") income in Canada (prior to conversion to a corporation) and a tax
benefit recognized on the conversion from a trust to a corporation.
Loss from discontinued operations
On March 31, 2010, the Company closed its Canadian slickline operations and on April 20, 2010 completed the sale of its U.S. wireline operations. Cathedral
management had determined that the wireline operations were not part of the core business going forward. As such, operating results for the years ended
December 31, 2009 and 2010 for the wireline business have been included in the statements of operations and retained earnings and statements of cash flows
as discontinued operations. For 2010, the loss from discontinued operations was $2,514 compared to $4,991 for 2009. This amount is net of gain on disposal
of property and equipment of $256 compared to $160 in 2009.
Other comprehensive loss
The Company incurred a loss of $1,463 compared to $5,293 in 2009. Other comprehensive loss is comprised entirely of the foreign currency translation of the
Company's U.S. self-sustaining subsidiary and reflects the changing value of the Canadian dollar compared to the U.S. dollar. During 2010, the U.S. dollar
weakened against the Canadian dollar to a lesser extent than in 2009.
2009 COMPARED TO 2008
Overview
The Company completed 2009 with revenues of $82,100 compared to 2008 at $153,120. The 2009 revenues were lead by the Company's directional drilling
division which represented 79% (2008 - 89%) of total revenues with the remainder composed of production testing division at 21% (2008 - 11%) of total
revenues. The decline in drilling in the oil and gas sector due to low commodity prices and the overall decline in the economy have resulted in a significant
decline in revenues as compared to 2008.
2009 EBITDAS was $16,652 ($0.48 per share - diluted) which represents a $33,816 or 67% decrease from $50,468 ($1.55 per share - diluted) in 2008. 2009
EBITDAS is net of one-time charges in the amount of $1,130 of which $453 related to its restructuring of electric line ("E-Line") division and $677 related to the
conversion to a corporation.
Cathedral Energy Services Ltd. - 2010 Annual Report
6
MANAGEMENT’S DISCUSSION AND ANALYSIS
Revenues and operating expenses
Revenues
Operating expenses
Gross margin - $
Gross margin - %
Revenues
Canada
United States
2009
2008
$ Change
$ 82,100
41,835
$ 153,120
80,924
$ (71,020)
(39,089)
$ 40,265
$ 72,196
$ (31,931)
49%
47%
2%
%
(46)
(48)
(44)
Year ended December 31, 2009
Year ended December 31, 2008
Directional
drilling
$ 40,597
24,161
Production
testing
$
8,806
8,536
Total
$ 49,403
32,697
Directional
drilling
$ 71,886
64,113
Production
testing
$ 13,348
3,773
Total
$
85,234
67,886
$ 64,758
$ 17,342
$ 82,100
$ 135,999
$ 17,121
$ 153,120
2009 revenues were $82,100 which represented a decrease of $71,020 or 46% from 2008 revenues of $153,120. The decline was primarily attributed to the
decline in oil and natural gas activity in 2009 which was been caused by low commodity prices and the global recession. However, during 2009 commodity
prices for both oil and natural gas rose, which resulted in higher activity levels as the year progressed.
The directional drilling division revenues decreased from $135,999 in 2008 to $64,758 in 2009; a 52% decrease. This decrease was the net result of: i) a 54%
decrease in activity days from 14,766 in 2008 to 6,836 in 2009; and ii) an increase in the average day rate from $9,022 in 2008 to $9,275 in 2009, which were
caused in large part to the increase in U.S. day rates due to the change in foreign exchange rate for the Canadian dollar relative to the U.S. dollar. Canadian
activity days decreased from 7,843 to 4,595 and U.S. activity days decreased from 6,923 to 2,241.
The directional drilling division began the year with 59 Measurement-While-Drilling ("MWD") systems in Canada, 35 in the U.S. and 4 for international
operations. It ended 2009 with 62 MWD systems in Canada, 30 in the U.S. and 4 for international operations. The Company continuously reviews the demand
for its services and shifts equipment among its markets accordingly.
Expansion to the U.S. resulted in increased revenues for the Company's production testing division. The Company's production testing division contributed
$17,342 in revenues during 2009 which was a 1% increase over 2008 revenues of $17,121. The division began the year with 21 units in Canada and 8 units in
the U.S. and ended with 21 units in Canada and 14 in the U.S.
The gross margin for 2009 was 49% which increased from 47% in 2008. There were no significant changes in direct costs as a percentage of revenue basis
from 2008 to 2009. The Company undertook a detailed review of all operating costs and general and administrative expenditures and reduced costs to
enhance profitability including layoff of staff and wage rollbacks.
General and administrative expenses
General and administrative expenses were $20,617 in 2009; a decrease of $3,931 compared with $24,548 in 2008. As a percentage of revenues, general and
administrative expenses were 25% in 2009 and 16% in 2008. Recognizing the expected lower activity levels, the Company initiated several measures to
improve operating results and further strengthen its balance sheet; these included lay-offs, a hiring freeze, elimination of incentive based compensation and
wage roll-backs for all remaining staff. In addition, $677 of fees related to the conversion to a corporation were included in general and administrative expenses
for 2009.
Depreciation
Depreciation for 2009 was $11,602 which compared to $9,122 in 2008. This increase was due to the expansion of the equipment fleet since 2008 Q2. During
2009, approximately $10,163 (2008 - $nil) of property and equipment was temporarily removed from service and therefore no depreciation was recorded on
these assets. As a percentage of revenues, depreciation amounted to 14% for 2009 and 6% for 2008.
Interest expense
Interest expense related to long-term debt increased from $1,120 in 2008 to $1,238 in 2009 due to the combined net effect of an increase in the average level
of debt outstanding and a decrease in the effective interest rate on the related debt. Other interest expense decreased from $414 in 2008 to $290 in 2009 and
related mainly to interest charges on use by the Company of its bank indebtedness/line of credit facility.
Foreign exchange gain/loss
The Company's foreign exchange gain/loss has changed from a $60 loss in 2008 to a gain of $3,340 in 2009 due to the fluctuations in the Canadian dollar in
comparison to the U.S. dollar. The Company's U.S. operations are considered to be self-sustaining and therefore gains and losses due to fluctuations in the
foreign currency exchange rates are recorded in OCI on the balance sheet as a component of equity. However, gains and losses in the Canadian entity on
U.S. denominated intercompany balances continue to be recognized in the statement of operations. Included in the 2009 foreign currency gain are unrealized
gains of $3,682 (2008 - $405) related to intercompany balances.
Share-based compensation expense
For 2009, the Company had share-based compensation expense of $1,732 compared to $1,705 for 2008. The value of the options is being amortized against
income over the related vesting periods. In October 2009, insiders of the Company forfeited all of the outstanding 1,303,334 options, resulting in share based
compensation expense of $794 (2008 - $nil). On October 13, 2009, non-insider optionees with vested or unvested out-of-the-money options were invited to
reduce the exercise price of their share options to $3.81, which equaled the trust unit price on the last trading day immediately before the date of the
modification. In exchange for this reduction in the exercise price, longer vesting terms were established with due consideration of the original expiry date which
did not change. A total of 1,034,003 options were re-priced. The unrecognized compensation costs from the original grant are recognized over the remainder
of the original requisite service period and the incremental compensation costs for the modified share options are recognized over the new requisite service
period.
7
Cathedral Energy Services Ltd. - 2010 Annual Report
MANAGEMENT’S DISCUSSION AND ANALYSIS
Gain on disposal of property and equipment
During 2009 the Company had a gain on disposal of property and equipment of $815 compared to $2,138 in 2008. For 2008, the Company's gains were mainly
due to recoveries of lost-in-hole equipment costs including previously expensed depreciation on the related assets. The timing of lost-in-hole recoveries is not in
the control of the Company and therefore can fluctuate significantly from quarter-to-quarter.
Taxes
For 2009, the Company had a tax recovery of $1,331 compared to tax expense of $5,257 in 2008. A significant portion of the current income taxes for 2008
related to U.S. operations. As profitability of these operations has fallen dramatically, so has the current income tax expense. Included in the 2009 net tax
recovery was a $958 net tax expense related to tax on an internal reorganization related to ownership of assets. At the beginning of 2009 Q1 the Company's
U.S. subsidiary sold the majority of its operating assets to the Company's Canadian operating entity, as part of an internal reorganization related to ownership of
operating assets within the Company. This transaction created a one-time current tax expense in the amount of $4,168 (current taxable income was created
mainly due to U.S. recaptured tax depreciation) and a recovery of future taxes in the amount of $3,210; for a net tax cost of $958. Subsequent to this
transaction, the Company's U.S. subsidiary leases the majority of its operating equipment from its Canadian parent company. The future tax recovery for 2009
related to reversal of timing differences on U.S. taxes (see comments above) and the remaining future tax recovery was attributable to adjustments related to
the future taxation of SIFT income in Canada (prior to conversion to a corporation) and a tax benefit recognized on the conversion from a trust to a corporation.
Other comprehensive income/loss
The Company incurred a loss of $5,293 compared to a gain of $3,326 in 2008. Other comprehensive income (loss) is comprised entirely of the foreign
currency translation of the Company's U.S. self-sustaining subsidiary and reflects the changing value of the Canadian dollar compared to the U.S. dollar.
During 2009, the U.S. dollar weakened against the Canadian dollar.
LIQUIDITY AND CAPITAL RESOURCES
The Company's primary source of liquidity is cash generated from operations. The Company also has the ability to fund liquidity requirements through its credit
facility and the issuance of debt and/or equity. At December 31, 2010, the Company had a demand operating line of credit with a major Canadian bank in the
amount of $20,000 (December 31, 2009 – $20,000) of which $8,765 (December 31, 2009 – $2,181) was drawn. The Company has a non-reducing revolving
term loan facility in the amount of $45,000 (December 31, 2009 – $45,000) of which $34,500 (December 31, 2009 – $39,500) was drawn as at December 31,
2010. In addition, at December 31, 2010, the Company had other long-term debt of $29 (December 31, 2009 – $234). Effective June 30, 2010 the Company
renewed its credit facility with a major Canadian bank and the new maturity date is June 29, 2011.
Operating activities
Cash provided by operating activities for 2010 was $26,465 compared to $18,564 in 2009. Funds from continuing operations (see Non-GAAP Measurements)
for 2010 were $33,381 compared to $13,558 in 2009. This increase was mainly caused by an increase in earnings due to increased activity levels. The
Company has a working capital position at December 31, 2010 at $18,536 compared to $22,451 at December 31, 2009.
Investing activities
Cash used in investing activities for 2010 amounted to $21,336 compared to $12,020 in 2009. During 2010 the Company invested $35,062 (2009 - $8,470) in
property and equipment for continuing operations. The main additions were 6 MWD systems, resitivity logging while drilling ("LWD") equipment, 21 production
testing units (including 9 production testing units acquired from a private company), production testing auxiliary equipment and $6,676 of maintenance capital,
which was mainly related to the retrofit and upgrades to downhole tools. These additions do not include the $4,980 of directional drilling assets acquired in the
asset swap with Pure during 2010 Q2. The actual property and equipment additions were lower than the 2010 budget amount as the budget anticipated the
addition of 13 MWD systems as opposed to the 6 actually added. The additional 7 MWD systems have been included in the 2011 budget discussed below.
In 2009, the Company made cash expenditures related to the Plan of Arrangement in the amount of $3,597. For the year ended December 31, 2010,
Cathedral had a source of funds by way of non-cash investing working capital in the amount of $3,438; the comparative figure for fiscal 2009 is a use of funds in
the amount of $3,719. Fluctuations in non-cash working capital related to investing activities are a function of when proceeds on disposal of property and
equipment are received and when payments for property and equipment purchases are made.
The following is a summary of major equipment owned by the Company:
Directional drilling equipment -
MWD systems
Drilling mud motors
Production testing units
2010
102
538
56
2009
96
468
35
Proceeds on disposal of property and equipment amounted to $10,459 (2009 - $4,219), excluding $4,980 of wireline equipment disposed of in the asset swap
with Pure during 2010 Q2. The 2010 year-over-year increase was the combined effect of a $2,652 increase in lost in hole equipment proceeds and a $3,588 in
wireline equipment proceeds.
For 2011, the Board of Directors has approved an updated capital budget of $35,500; this is an increase of $10,647 from the previously announced 2011 capital
budget. The increase is mainly attributed to the addition of 6 high pressure production testing units and LWD (resistivity) equipment. In summary, the major
items within the updated 2011 capital budget are: i) 27 MWD systems (including 7 carried forward from the 2010 capital budget) and related mud motors and
collars to complement the increased job capability; ii) LWD (resistivity) equipment; iii) 6 high pressure production testing units and auxiliary production testing
equipment to complement the overall fleet; iv) $4,654 allocated to the new head office and operations facility in Calgary; and v) $4,165 of maintenance capital.
The maintenance capital includes the retro-fit, upgrades and replacement of downhole tools. These capital expenditures are expected to be financed by way of
cash flow from operations and the Company's credit facility.
Cathedral Energy Services Ltd. - 2010 Annual Report
8
MANAGEMENT’S DISCUSSION AND ANALYSIS
Financing activities
Cash used in financing activities for 2010 amounted to $3,865 compared to $13,194 in 2009. In 2010 the Company repaid other long-term debt in the amount
of $5,205 (2009 - $5,206). Advances on (repayments of) bank indebtedness during 2010 were $6,584 compared to ($13,225) in 2009; fluctuations in bank
indebtedness relates to the timing of cash receipts and cash disbursements. During the year ended December 31, 2010 the Company paid dividends of
$6,556 compared to $13,117 in 2009. The trust distribution was $0.07 per trust unit in January 2009 and was reduced to $0.04 per trust unit per month from
February to July 2009; the distribution was suspended upon the announcement of the intention to convert from a trust to a corporation in August 2009. A
quarterly dividend of $0.06 per share was paid in 2010. During 2010 the Company received proceeds for the exercise of stock options of $1,312 versus $34 in
2009. In 2009 Q2 the Company issued 3,615,600 trust units at $4.15 for proceeds net of issuance costs of $13,820. As at December 31, 2010, the Company
was in compliance with all covenants under its credit facility.
Contractual obligations
In the normal course of business, the Company incurs contractual obligations. The following is a summary of the Company's contractual obligations:
Property and equipment additions
Operating lease obligations
Long-term debt repayments (1)
$
Total
8,983
7,929
34,529
$
2011
8,983
1,710
27
$
2012
-
1,452
5,752
$
2013
-
1,334
11,500
$
2014
-
1,243
11,500
2015
Thereafter
$
-
1,091
5,750
$
-
1,099
-
$ 51,441
$ 10,720
$
7,204
$ 12,834
$ 12,743
$
6,841
$
1,099
(1)
Minimum principal amounts to be paid under long-term debt assumes the Company elects prior to the maturity date of the revolving term loan to repay the loan over 36 months with interest only payable for the first 12 months.
The 2011 contractual obligations are expected to be financed by way of cash flow from operations and the Company's credit facility.
EBITDAS
EBITDAS (refer to Non-GAAP Measurements) is calculated as follows:
Income from continuing operations
Add (deduct):
Depreciation
Interest - long-term debt
Share-based compensation
Unrealized foreign exchange gain
Taxes
EBITDAS from continuing operations
EBITDAS from discontinued operations
EBITDAS
FUNDS FROM CONTINUING OPERATIONS
Funds from operations (refer to Non-GAAP Measurements) is calculated as follows:
Cash provided by operating activities
Add (deduct):
Cash flow from discontinued operations
Changes in non-cash operating working capital
Funds from continuing operations
RELATED PARTY TRANSACTIONS
2010
2009
$
20,529
$
10,272
10,626
1,256
2,589
(987)
4,886
38,899
(935)
11,602
1,238
1,732
(3,682)
(1,331)
19,831
(3,179)
$
37,964
$
16,652
2010
2009
$
26,465
$
18,564
1,807
5,109
1,290
(6,296)
$
33,381
$
13,558
A director of the Company is a partner in a law firm and, through that law firm, is involved in providing and managing the legal services provided to the
Company at market rates. The total amount paid for these legal services in 2010 was $185 (2009 - $635).
In 2009, StoneBridge Merchant Capital Corp. ("StoneBridge") acted as a special advisor to the Company in respect to the Plan of Arrangement and was paid a
fee of $572. A director of the Company is an officer of StoneBridge.
DIVIDENDS
It is the intent of the Company to pay quarterly dividends to shareholders. The Board of Directors will review the amount of dividends on a quarterly basis with
due consideration to current performance, historical and future trends in the business, the expected sustainability of those trends and enacted tax legislation
which will affect future taxes payable as well as required long-term debt repayments, maintenance capital expenditures required to sustain performance and
future growth capital expenditures. The Directors have approved a 2011 Q1 dividend in the amount of $0.06 per share which will have a date of record of
March 31, 2011 and a payment date of April 15, 2011.
9
Cathedral Energy Services Ltd. - 2010 Annual Report
MANAGEMENT’S DISCUSSION AND ANALYSIS
FOURTH QUARTER RESULTS
Revenues and operating expenses
Revenues
Operating expenses
Gross margin - $
Gross margin - %
Revenues
Canada
United States
2010 Q4
2009 Q4
$ Change
$ 42,877
21,765
$ 24,741
12,792
$ 18,136
8,973
$ 21,112
$ 11,949
$
9,163
49%
48%
1%
%
73
70
77
Three months ended December 31, 2010
Three months ended December 31, 2009
Directional
drilling
$ 20,411
11,156
Production
testing
$
6,757
4,553
Total
$ 27,168
15,709
Directional
drilling
$ 14,596
4,448
Production
testing
$
3,276
2,421
Total
$
17,872
6,869
$ 31,567
$ 11,310
$ 42,877
$ 19,044
$
5,697
$
24,741
Revenues in Q4 have increased to $42,877 in 2010 from $24,741 in 2009, an increase of $18,136 or 73%. The increase was primarily attributed to the focus
on horizontal, multi-stage fracturing technology to complete conventional and unconventional resource plays in both Canada and the U.S. which has allowed for
continued strength in activity levels for the oilfield services sector. Demand for Cathedral's services has also been driven by both oil and liquids-rich natural gas
plays.
The directional drilling division revenues have increased from $19,044 in 2009 Q4 to $31,567 in 2010 Q4; a 66% increase. This increase was the result of: i) a
55% increase in activity days from 2,200 in 2009 Q4 to 3,414 in 2010 Q4; and ii) an increase in the average day rate from $8,517 in 2009 Q4 to $9,079 in 2010
Q4, which was primarily to offset increased field labour costs. Canadian activity days increased from 1,740 to 2,209 and U.S. activity days increased from 460
to 1,205.
The Company's production testing division contributed $11,310 in revenues during 2010 Q4 which was a 99% increase over 2009 revenues of $5,697. The
division ended 2009 Q4 with 21 units in Canada and 14 units in the U.S. and ended 2010 Q4 with 34 units in Canada and 22 in the U.S. The increase in
revenues was in part attributable to this increase in units plus the overall increase in oilfield service activities on a year-over-year basis.
The gross margin for 2010 was 49% which increased 1% from 48% in 2009. The increase was attributed to a number of factors including increases in labour
offset by decreases in expenses for certain consumables and a reduction in repair costs.
General and administrative expenses were $8,409 in 2010 Q4; an increase of $2,909 compared with $5,500 in 2009. The increase was primarily related to
increases in payroll related expenses and facility rental costs as well as other general increases due to increased activity levels, net of declines in certain
professional and other fees incurred in 2009 Q4 in the amount of $677 related to the Plan of Arrangement. In late 2008 and in 2009 due to the significant
declines in activity levels several measures were taken to reduce staffing costs. These included lay-offs, a hiring freeze, elimination of incentive based
compensation and wage roll-backs for all remaining staff. The first level of wage roll-backs were re-instated in late 2009 and the remainder in 2010. In addition,
the hiring freeze was removed and an incentive compensation plan was re-introduced in 2010. Facility rental costs increased due to expansions into
Pennsylvania and Texas. As a percentage of revenues, general and administrative expenses were 20% in 2010 and 22% in 2009.
For 2010 Q4, the Company recorded a tax expense of $2,096 compared to the 2009 Q4 recovery of $829. In 2010 Q4, the effective tax rate on continuing
operations was 22%. The 2010 Q4 future tax provision is net of $812 utilization of deferred credit. Excluding this utilization of deferred credit, the effective tax
rate was 30% which is approximately the expected tax rate for the Company. The Company's current income taxes for 2010 Q4 primarily related to U.S.
operations.
Net income for 2010 Q4 was $7,662 ($0.21 per share - diluted) compared to $2,236 ($0.06 per share - diluted) in 2009 Q4.
SUMMARY OF QUARTERLY RESULTS
Three month period ended
Revenues (1)
EBITDAS
Income (loss) from continuing operations
Per share – basic and diluted
Net income (loss)
Per share – basic
Per share –diluted
Cash dividends declared per share
(1) Revenues have been rested to exclude discontinued operations.
Dec
2010
Sep
2010
Jun
2010
Mar
2010
Dec
2009
Sep
2009
Jun
2009
Mar
2009
$ 42,877
$ 38,864
$ 23,979
$35,676
$24,741
$20,176
$ 10,654
$ 26,529
13,103
11,967
2,415
10,479
7,508
0.20
7,662
0.21
0.21
0.06
7,140
0.20
7,056
0.19
0.19
0.06
(2,881)
(0.08)
(3,440)
(0.09)
(0.09)
0.06
8,762
0.24
6,737
0.19
0.18
0.06
5,864
3,409
0.10
2,236
0.06
0.06
-
5,724
3,717
0.10
3,125
0.09
0.09
0.04
(1,721)
699
0.02
(1,484)
(0.04)
(0.04)
0.12
6,785
2,447
0.07
1,404
0.04
0.04
0.15
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
The Company's consolidated financial statements have been prepared in accordance with Canadian Generally Accepted Accounting Principles ("GAAP") and
significant accounting policies utilized by the Company are described in notes 1 and 2 to the Company's audited consolidated financial statements.
Management believes the accounting principles selected are appropriate under the circumstances and the Audit Committee of the Company has approved the
policies selected.
Cathedral Energy Services Ltd. - 2010 Annual Report
10
MANAGEMENT’S DISCUSSION AND ANALYSIS
Under Canadian GAAP, the Company is required to make certain estimates and assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during
the reporting period. The estimates and assumptions utilized are based on past experience and other information available to management at the time the
estimate or assumption is made. The estimates and assumptions used by management are constantly evaluated for relevance under the circumstances and if
circumstances on which the estimates or assumptions were based change, the impact is included in the results of operations for the period in which the change
occurs. Management believes the estimates, judgments and assumptions involved in its financial reporting are reasonable.
The following accounting policies require management's more significant judgments and estimates in the preparation of the Company's consolidated financial
statements, and as such, are considered to be critical.
Property and equipment Property and equipment are recorded at cost less accumulated depreciation. Depreciation is computed based upon the
Company's depreciation policies (see note 2 to the consolidated financial statements). The depreciation policies selected are intended to depreciate the related
property and equipment over their useful life. The use of different assumptions with regard to the useful life could result in different carrying amount for these
assets as well as for depreciation expense.
Impairment of long-lived assets Property and equipment are reviewed for impairment when events or changes in circumstances indicate that the carrying
value of assets may not be recoverable. In the assessment process management is required to make certain judgments, assumptions and estimates in
identifying such events and changes in circumstances, and in assessing their impact on the valuations and economic lives of the affected assets. Impairments
are recognized when the book values exceed management's estimate of the undiscounted future cash flows, or net recoverable amounts, associated with the
affected assets.
Goodwill and intangibles The carrying value of goodwill and intangibles on acquisitions is compared to its fair value at least annually to determine if a
permanent impairment exists, at which time the impairment would be recorded as a charge to earnings. Valuations are inherently subjective and necessarily
involve judgments and estimates regarding future cash flows and other operational variables.
Development costs Costs associated with the development of downhole equipment are capitalized during the development process. These costs are
identified as development costs and are recorded within property and equipment. Once the equipment becomes commercial in nature, the related
development costs are amortized over 5 years. The Company undertakes periodic reviews of each project on which development costs have been recorded to
determine if the carrying value of the project can be recovered for the undiscounted expected net future cash flow generated from the related equipment. If
there is no reasonable expectation that the costs can be recovered, the carrying value of the project is reduced and the excess is charged to earnings. This
process of estimation is subject to significant judgment with respect to revenues and direct costs associated with the equipment as well as market acceptance.
Income taxes The Company uses the asset and liability method of accounting for future income taxes whereby future income tax assets and liabilities are
determined based on temporary differences between the accounting basis and the tax basis of the assets and liabilities, and are measured using substantively
enacted tax rates and laws expected to apply when these differences reverse. As a result, a projection of taxable income is required for those years, as well as
an assumption of the ultimate recovery/settlement period for the temporary differences. The projection of future taxable income is based on management's
best estimate and may vary from actual taxable income. On an annual basis, the Company assesses its need to establish a valuation allowance for its future
income tax assets and if it is deemed more likely than not that its future income tax assets will not be realized on its taxable income projections a valuation
allowance is recorded.
The business and operations of the Company are complex and the Company has executed a number of significant financings, reorganizations, acquisitions
and other material transactions over the course of its history. The computation of income taxes payable as a result of these transactions involves many
complex factors as well as the Company's interpretation of relevant tax legislation and regulations. The Company's management believes that the provision for
income tax is adequate and in accordance with Canadian GAAP and applicable legislation and regulations. However, tax filing positions are subject to review
by taxation authorities who may successfully challenge the Company's interpretation of the applicable tax legislation and regulations.
Share-based compensation Share-based compensation is calculated using the fair value method based upon the Black-Scholes model. In order to
establish fair value, estimates and assumptions are used to determine risk-free interest rate, expected term, anticipated volatility and anticipated dividend yield.
The use of different assumptions could result in different book values for share-based compensation.
FUTURE ACCOUNTING POLICIES
In February, 2008, the Canadian Institute of Chartered Accountants confirmed that the use of International Financial Reporting Standards ("IFRS") will be
required in Canada for publicly accountable profit oriented enterprises for fiscal years beginning on or after January 1, 2011. The Company will report under
IFRS beginning January 1, 2011.
The Company has completed its initial assessment of the impact upon the opening balance sheet at January 1, 2010 and is in the process of having these
amounts reviewed by the Company's external auditors. After this review has been completed, the amounts will be presented to the audit committee for
approval. The impact of adoption of IFRS compared to the existing Canadian GAAP ("CGAAP") at January 1, 2010 is as follows:
Upon adoption of IFRS, the deferred credit which arose for CGAAP purposes on the 2009 reorganization, will be derecognized and will increase retained
earnings by $20,514. As a result of this change, the effective tax rate will be closer to the expected statutory rate as there will be no reduction to current tax
expense on the draw-down of the deferred credit.
For IFRS, goodwill and intangibles have to be allocated to and evaluated for impairment on a "cash-generating unit" basis. For CGAAP, they were assessed
on an enterprise basis. Upon adoption of IFRS and as a result of the test for impairment, all goodwill and intangible assets related to the discontinued wireline
operation are considered impaired and will be written off. These adjustments will reduce retained earnings. Goodwill will be reduced by approximately $13,900
and intangibles will be reduced by $293.
The Company has leases for vehicles. For CGAAP, these are classified as operating leases. Under IFRS, these will be classified as finance leases. As a
result of this reclassification property and equipment and long-term debt will increase by approximately $1,900. As at January 1, 2010 it is anticipated that this
change will not have a material impact on retained earnings. In 2010, expenses will be reduced by the amount of lease payments, offset by increases in
depreciation, interest expense and future tax expense.
In 2009, certain assets were temporarily removed from service and therefore no depreciation has been recorded for these assets under CGAAP. Upon
adoption of IFRS these assets will be depreciated in 2009 and as a result property and equipment and retained earnings will decrease by approximately $650.
Under CGAAP, development costs were classified as a component of property and equipment. Under IFRS, these amounts will be classified as intangible
assets. As a result of this reclassification property and equipment will be reduced by $884 and intangible assets will be increased by $884.
11
Cathedral Energy Services Ltd. - 2010 Annual Report
MANAGEMENT’S DISCUSSION AND ANALYSIS
The Company has elected to apply the IFRS 1 exemption to deem the fair value for certain wireline property and equipment to be the carrying value for IFRS.
As a result of this change property and equipment and retained earnings will increase by approximately $1,200.
Upon adoption of IFRS, the Company has elected to utilize the transitional exemption to reset the cumulative translation differences of its foreign subsidiaries to
$nil. As a result, retained earnings will decrease by $1,967 as at January 1, 2010. In addition, the method of accounting for foreign currency conversion for
Directional Plus International Ltd. and Directional Plus de Venezuela, C.A. will change and as a result of this change, the capital assets and retained earnings of
these companies will be reduced by approximately $725.
Under IFRS the Company's stock-based compensation expense is calculated separately for each tranche of options granted (i.e. graded vesting) and
incorporates estimated forfeitures. As a result contributed surplus will increase by and retained earnings will decrease by approximately $100.
The impact of the above adjustments is expected to decrease the deferred tax asset and retained earnings by approximately $300.
In addition, under the provisions of IFRS 1 for first time adopters the Company will utilize the following exemptions which are expected to result in no differences
in the Company's opening balance sheet under IFRS from CGAAP:
the Company has elected to not apply IFRS 3 "Business Combinations" retrospectively;
the Company has elected to apply IAS 23 "Borrowing Costs" to its borrowing costs related to capital acquisition prospectively; and
the Company has elected to apply IFRS 2 "Share-based payments" on share-based payments prospectively.
The Company is in the process of finalizing the impact of these changes for 2010 and ensuring there are no further changes to opening 2009 figures. The
Company has chosen to present its income statement on a function basis of presentation and this approach has been approved by the audit committee. Under
this presentation certain amounts which have been presented as separate line items on the income statement, such as depreciation and stock-based
compensation, will be reclassified as either cost of sales or selling and general and administrative expenses. In addition, some expenses which are netted
against revenue will be reclassified to cost of sales and some amounts currently presented as general and administrative expenses will be reclassified as cost
of sales.
The analysis will be completed prior to the issuance of 2011 Q1 results and will be disclosed in full in 2011 Q1 financial statements.
CONTROLS AND PROCEDURES
In order to ensure that information with regard to reports filed or submitted under securities legislation present fairly in all material respect the financial
information of the Company, management including the Chief Executive Officer ("CEO") and Chief Financial Officer ("CFO") are responsible for establishing
and maintaining disclosure controls and procedures, as well as internal controls over financial reporting.
Disclosure controls and procedures The Company's disclosure controls and procedures are designed to provide reasonable assurance that information
required to be disclosed by the Company is reported within the time periods specified under securities laws, and include controls and procedures that are
designed to ensure that information is communicated to management of the Company, including the CEO and CFO, to allow timely decisions regarding
required disclosure. An evaluation of the effectiveness of the Company's disclosure controls and procedures (as defined in Multilateral Instrument 52-109,
Certification of Disclosure in Issuers' Annual Financial and Interim Filings) was conducted as at December 31, 2010. Based on this evaluation, the CEO and
CFO of Cathedral have concluded that the design and operation of the Company's disclosure controls and procedures were effective as at December 31, 2010.
Internal controls over financial reporting Management is responsible for establishing and maintaining adequate internal controls over financial reporting to
provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with
Canadian GAAP. The CEO and CFO have designed or have caused such internal controls over financial reporting (as defined in Multilateral Instrument 52-
109, Certification of Disclosure in Issuers' Annual Financial and Interim Filings) to be designed under their supervision to provide reasonable assurance
regarding the reliability of financial reporting and preparation of the Company's financial statements for external purposes in accordance with Canadian GAAP.
In addition, the CEO and CFO directed the assessment of the design and operating effectiveness of the Company's internal controls over financial reporting as
at December 31, 2010 and based upon that assessment determined that the Company's internal controls over financial reporting were, in all material respects,
appropriately designed and operating effectively.
Management of the Company believe that "cost effective" disclosure controls and procedures and internal controls over financial reporting, no matter how well
conceived or implemented, can only provide reasonable assurance, and not absolute assurance, that the objective of controls and procedures are met.
Because of inherent limitations, disclosure controls and procedures and internal control over financial reporting may not prevent errors or fraud.
There has been no change in the Company's internal controls over financial reporting during the three months ended December 31, 2010 that has materially
affected, or is reasonably likely to materially affect, the Company's internal controls over financial reporting.
RISK FACTORS
Crude oil and natural gas prices Demand for the services provided by Cathedral is directly impacted by the prices that Cathedral's customers receive for
the crude oil and natural gas they produce and the prices received has a direct correlation to the cash flow available to invest in drilling activity and other oilfield
services. The markets for oil and natural gas are separate and distinct. Oil is a global commodity with a vast distribution network. As natural gas is most
economically transported in its gaseous state via pipeline, its market is dependent on pipeline infrastructure and is subject to regional supply and demand
factors. However, recent developments in the transportation of liquefied natural gas ("LNG") in ocean going tanker ships have introduced an element of
globalization to the natural gas market. Crude oil and natural gas prices are quite volatile, which accounts for much of the cyclical nature of the oilfield services
business. World crude oil prices and North American natural gas prices, including LNG, are not subject to control by Cathedral. With that in mind, Cathedral
attempts to partially manage this risk by way of maintaining a low cost structure and a variable cost structure that can be adjusted to reflect activity levels. A
significant portion of Cathedral's fieldwork is performed by sub-contractors and staff paid on a day rate basis which allows the Company to operate with lower
fixed overhead costs in seasonally low activity periods as well as extended downturns in the oilfield services sector.
Cash dividends to shareholders are dependent on the performance of the Company Cathedral's ability to make dividend payments to shareholders is
dependent upon the operations and business of Cathedral. There is no assurance regarding the amounts of cash that may be available from Cathedral's
operations and business that could be available to fund future dividends or if dividends will be declared at all. The actual amount of any dividends will depend
on a variety of factors, including without limitation, the current performance, historical and future trends in the business, the expected sustainability of those
trends and enacted tax legislation which will affect future taxes payable as well as required long-term debt repayments, maintenance capital expenditures
required to sustain performance, future growth capital expenditures, effect of acquisitions or dispositions on Cathedral's business, and other factors that may be
beyond the control of Cathedral or not anticipated by management of Cathedral. In the event significant cash requirements are necessary for non-dividend
purposes or the profitability of Cathedral declines, there would be a decrease in the amount of cash available for dividends to Shareholders and such decrease
could be material. The Company's dividend policy is subject to change at the discretion of its Board of Directors. In addition, the Company's bank facility
covenants include restrictions on the payment of cash dividends if the Company is not in compliance with debt covenants.
Cathedral Energy Services Ltd. - 2010 Annual Report
12
MANAGEMENT’S DISCUSSION AND ANALYSIS
Access to capital The credit facilities of Cathedral contain covenants that require it to meet certain financial tests and that restrict, among other things, the
ability of Cathedral to incur additional debt, dispose of assets or pay dividends in certain circumstances. To the extent the cash flow from operations is not
adequate to fund Cathedral's cash requirements and therefore, external financing may be required. Lack of timely access to such additional financing, or which
may not be on favorable terms, could limit the future growth of the business of Cathedral and, potentially have a material adverse effect on the amount of cash
available for dividends. To the extent that external sources of capital, including public and private markets, become limited or unavailable, Cathedral's ability to
make the necessary capital investments to maintain or expand its current business and to make necessary principal payments under it credit facility may be
impaired.
Forward-looking information may prove inaccurate Numerous statements containing forward-looking information are found in this MD&A, documents
incorporated by reference herein and other documents forming part of Cathedral's public disclosure record. Such statements and information are subject to
risks and uncertainties and involve certain assumptions, some, but not all, of which are discussed elsewhere in this document. The occurrence or non-
occurrence, as the case may be, of any of the events described in such risks could cause actual results to differ materially from those expressed in the forward-
looking information.
Third party credit risk relating to completion of the conversion Cathedral is or may be exposed to third party credit risk relating to any obligations of SBS
that are not transferred, or if transferred, from which obligations Cathedral has not been released. Cathedral has, through the contractual provisions in the
arrangement agreement ("Arrangement Agreement"), the indemnity agreement ("Indemnity Agreement") and divestiture agreement ("Divestiture Agreement")
contemplated thereby, attempted to ensure that the liabilities and obligations relating to the business of SBS were transferred to and assumed by New SBS,
that Cathedral is released from any such obligations and, even where such transfer or release is not effective or is not obtained, Cathedral is indemnified by
New SBS for all such obligations. However, in the event New SBS fails or is unable to meet such contractual obligations to Cathedral and to the extent any
applicable insurance coverage is not available, Cathedral may be liable for such obligations which could have a material adverse effect on the business,
financial condition and results of operations of Cathedral. In news releases, New SBS has announced that it is exploring strategic alternatives and, in addition,
announced they have engaged the services of a financial advisor to assist in this process. In light of these announcements, the ability of New SBS to provide
Cathedral with the indemnity protection as noted above may be impaired.
Due diligence Although Cathedral has conducted investigations of, and engaged legal counsel to review, the corporate, legal, financial and business
records of SBS and attempted to ensure, through the contractual provisions in the Arrangement Agreement, Indemnity Agreement and Divestiture Agreement,
that the liabilities and obligations relating to the business of SBS were transferred to and assumed by New SBS, there may be liabilities or risks that Cathedral,
after reasonable inquiry, may not have uncovered in its due diligence investigations, or that may have an unanticipated material adverse effect on Cathedral.
These liabilities and risks could have, individually or in the aggregate, a material adverse effect on the business, financial condition and results of operations of
Cathedral.
SBS operational risks Cathedral has, through the contractual provisions in the Arrangement Agreement, the Indemnity Agreement and Divestiture
Agreement contemplated thereby, attempted to ensure that the liabilities and obligations relating to the business of SBS were transferred to and assumed by
New SBS, that Cathedral is released from any such obligations and, even where such transfer or release is not effective or is not obtained, Cathedral is
indemnified by New SBS for all such obligations. However, in the event New SBS fails or is unable to meet such contractual obligations to Cathedral, Cathedral
could be exposed to liabilities and risks associated with the operations of SBS, which include, without limitations, risks relating to claims with respect to
intellectual property matters, product liability or environmental damages.
Tax related risks associated with the conversion The steps under the Plan of Arrangement pursuant to which the corporate conversion was completed
were structured to be tax-deferred to the entities within the Trust's structure and unitholders based on certain rules under the Income Tax Act (Canada). There
is a risk that the tax consequences contemplated by the Trust's entities or the tax consequences of the Plan of Arrangement to the Trust's entities and the
Trust's unitholders may be materially different from the tax consequences anticipated by the Trust in the undertaking the conversion. While Cathedral is
confident in its current position, there is a risk that the Canada Revenue Agency could successfully challenge the tax consequences of the Plan of Arrangement
or prior transactions of SBS. Such a challenge could potentially affect the availability or amount of the tax basis or other tax accounts of Cathedral and/or create
taxes payable.
Interest rates Cathedral's operating loan and its revolving term credit facility bear interest at a floating interest rate and, therefore, to the extent Cathedral
borrows under this facility, are at risk of rising interest rates. Management continually monitors interest rates and would consider locking in the rate of its term
debt.
Debt service Cathedral has a secured credit facility with a major Canadian bank in the amount of $65,000 ($20,000 demand operating loan and a $45,000
revolving term loan). Although it is believed that the credit facility is sufficient, there can be no assurance that the amount will be adequate for the financial
obligations of Cathedral. As well, if Cathedral requires additional financing such financing may not be available or, if available, may not be available on
favorable terms. Cathedral's lender has been provided with security over substantially all of the assets of Cathedral. The credit facility is subject to an annual
renewal and there is no assurance the current lender will renew the existing credit facility. Even if the credit facility is renewed it may only be renewable upon
unfavorable terms including, but not limited to, an increase interest rate margin, more stringent debt covenants, reduction in the credit amount available and
additional loan fees.
Additional shares If Cathedral's Board of Directors decides to issue additional common shares, preferred shares or securities convertible into common
shares, existing shareholders may suffer significant dilution.
Income tax matters The business and operations of Cathedral are complex and Cathedral and its predecessors have executed a number of significant
financings, reorganizations, acquisitions and other material transactions over the course of its history. The computation of income taxes payable as a result of
these transactions involves many complex factors as well as Cathedral's interpretation of relevant tax legislation and regulations. Cathedral's management
believes that the provision for income tax is adequate and in accordance with Canadian GAAP and applicable legislation and regulations. However, tax filing
positions are subject to review by taxation authorities who may successfully challenge Cathedral's interpretation of the applicable tax legislation and regulations.
Key personnel and employee/sub-contractor relationships Shareholders must rely upon the ability, expertise, judgment, discretion, integrity and good
faith of the management of Cathedral. The success of Cathedral is dependent upon its personnel and key sub-contractors. The unexpected loss or departure of
any of Cathedral's key officers, employees or sub-contractors could be detrimental to the future operations of Cathedral. Cathedral does not maintain key man
insurance on any of its officers. The success of Cathedral's business will depend, in part, upon Cathedral's ability to attract and retain qualified personnel as
they are needed. Additionally, the ability of Cathedral to expand its services is dependent upon its ability to attract additional qualified employees. Historically,
Cathedral has not had any significant issues with respect to attracting and the retention of quality office, shop and field staff. During high levels of activity,
attracting quality staff can be challenging due to competition for such services. Cathedral provides its staff with a quality working environment, effective training,
tools with current technology and competitive remuneration packages that allows it to attract and retain the quality of its workforce, whether in the field, shop or
office. There can be no assurance that Cathedral will be able to engage the services of such personnel or retain its current personnel.
13
Cathedral Energy Services Ltd. - 2010 Annual Report
MANAGEMENT’S DISCUSSION AND ANALYSIS
Competition The oil and natural gas service industry in which Cathedral and its operating entities conduct business is highly competitive. Cathedral
competes with other more established companies which have greater financial, marketing and other resources and certain of which are large international oil
and natural gas service companies which offer a wider array of oil and natural gas services to their clients than does Cathedral.
Access to parts, consumables and technology and relationships with key suppliers The ability of Cathedral to compete and expand will be dependent
on Cathedral having access, at a reasonable cost, to equipment, parts and components, which are at least technologically equivalent to those utilized by
competitors and to the development and acquisition of new competitive technologies. Failure by the Company to do so could have a material adverse affect on
the Company's business, financial condition, results of operations and cash flow and therefore on the Company's ability to pay dividends. The Company's
equipment may become obsolete or experience a decrease in demand due to competing products that are lower in cost, have enhanced performance
capabilities or are determined by the market to be more preferable for environmental or other reasons. Although Cathedral has very good relationships with its
key suppliers, there can be no assurances that those sources of equipment, parts, components or relationships with key suppliers will be maintained. If these
are not maintained, Cathedral's ability to compete may be impaired. If the relationships with key suppliers come to an end, the availability and cost of securing
certain parts, components and equipment may be adversely affected. In addition, Cathedral competes with other more established companies which have
greater financial resources to develop new technologies.
Operating risks and insurance Cathedral has an insurance and risk management plan in place to protect its assets, operations and employees. Cathedral
also has programs in place to address compliance with current safety and regulatory standards. Cathedral has a safety coordinator responsible for maintaining
and developing policies and monitoring operations vis-a-vis those policies. However, Cathedral's oilfield services are subject to risks inherent in the oil and gas
industry, such as equipment defects, malfunctions, failure and natural disasters. These risks could expose Cathedral to substantial liability for personal injury,
loss of life, business interruption, property damage or destruction, pollution and other environmental damages. In addition, Cathedral's operating activities
includes a significant amount of transportation and therefore is subject to the inherent risks including potential liability which could result from, among other
things, personal injury, loss of life or property damage derived from motor vehicle accidents. Cathedral carries insurance to provide protection in the event of
destruction or damage to its property and equipment, subject to appropriate deductibles and the availability of coverage. Liability insurance is also maintained
at prudent levels to limit exposure to unforeseen incidents. An annual review of insurance coverage is completed to assess the risk of loss and risk mitigation
alternatives. It is anticipated that insurance coverage will be maintained in the future, but there can be no assurance that such insurance coverage will be
available in the future on commercially reasonable terms or be available on terms as favorable as Cathedral's current arrangements. The occurrence of a
significant event outside of the coverage of Cathedral's insurance policies could have a material adverse affect on the results of the organization.
Risks of foreign operations Cathedral is in the process of initiating operations in Venezuela for providing directional drilling services through a joint venture
with a wholly-owned subsidiary of PDVSA, the state owned oil and natural gas corporation of the Bolivarian Republic of Venezuela. The joint venture company,
Vencana Servicios Petroleros, S.A. ("Vencana"), will be owned 60% by the PDVSA wholly-owned subsidiary and 40% by Cathedral's wholly-owned subsidiary,
Directional Plus International Ltd. Working outside of Canada gives rise to the risk of dealing with business and political systems that are different than
Cathedral is accustomed to in Canada. To date, there have been delays in the formation of the joint venture company which have prevented the
commencement of operations in Venezuela. These delays have been out of the control of Cathedral. The joint venture company expects to hire employees
and consultants (which includes Cathedral's designates for certain key positions) who have experience working in the international arena and it is committed to
recruiting qualified resident nationals on the staff of its operations. The allocation of oilfield service work in Venezuela is effectively controlled by PDVSA and
there are risks associated with joint venture company being awarded work by PDVSA. In recent history, PDVSA has been late in paying its bills as they come
due but with the formation of a joint venture company with PDVSA, Cathedral is expecting to mitigate the risk associated with PDVSA paying the joint venture
on a timely basis. There are risks inherent in the basic "joint venture" structure in that business decisions require both parties to the joint venture, Cathedral and
PDVSA, to agree on key business decisions. There may be times when Cathedral and PDVSA do not agree on key business decisions and this may result in
consequences that are detrimental to Cathedral. To assist in mitigating risks associated with foreign expansion, Cathedral is committed to continuing
expansion of its North American market. Potential risks associated with foreign operations, in addition to those noted above, include: expropriation or
nationalization; terrorist threats; civil insurrection; labour unrest; strikes and other political risks; fluctuation in foreign currency and exchange control; increases in
duties and taxes; and changes in laws and policies governing operations of foreign based companies. At December 31, 2010, Cathedral's investment in its
Venezuela subsidiary is approximately $7,243. During 2011, Cathedral expects an additional $4,000 of down hole and resistivity tools attributed to the
international business segment to be transferred into Venezuela as well as providing a loan guarantee to Vencana in the amount of 5,000 Venezuela Bolivars
(approximately $1,200).
Weather and seasonality A significant portion of Cathedral's operations are carried on in western Canada where activity levels in the oilfield services
industry are subject to a degree of seasonality. Operating activities in western Canada are generally lower during "spring breakup" which normally commences
in late March and continues through to May. Operating activities generally increase in the fall and peak in the winter months from December until late March.
Additionally, volatility in the weather and temperatures not only during this period, but year round, can create additional unpredictability in operational results.
Activity levels in the oil and natural gas basins in the U.S. are not subject to the seasonality to the same extent that it occurs in the western Canada region.
Foreign currency exchange rates Cathedral derives revenues from the U.S. which are denominated in the local currency. This causes a degree of foreign
currency exchange rate risk which Cathedral attempts to mitigate by matching local purchases in the same currency. Furthermore, Cathedral's Canadian
operations are subject to foreign currency exchange rate risk in that some purchases for parts, supplies and components in the manufacture of equipment are
denominated in U.S. dollars. In addition to foreign currency risk associated with the U.S. dollar, Cathedral is now exposed to foreign currency fluctuations in
relation to the Venezuelan Bolivar. Cathedral's foreign currency policy is to monitor foreign current risk exposure in its areas of operations and mitigate that risk
where possible by matching foreign currency denominated expense with revenues denominated in foreign currencies. Cathedral strives to maintain limited
amounts of cash and cash equivalents denominated in foreign currency on hand and attempts to further limit its exposure to foreign currency through collecting
and paying foreign currency denominated balance in a timely fashion.
In addition, the Company is exposed to currency exchange risk on assets denominated in U.S. dollars and Venezuelan Bolivars. Since the consolidated
financial statements are presented in Canadian dollars, any change in the value of the Canadian dollar relative to the U.S. dollar, and to a lesser extent, the
Venezuelan Bolivar, during a given financial reporting period would result in a foreign currency loss or gain on the translation of the Company's assets
measured in other currencies into Canadian dollars. Consequently, the Company's reported earnings could fluctuate materially as a result of foreign exchange
translation gains or losses.
Acquisitions Cathedral may undertake acquisitions of businesses and assets in the ordinary course of business. Achieving the benefits of acquisitions
depends in part on successfully consolidating functions, retaining key employees and customer relationships and integrating operations and procedures in a
timely and efficient manner. Such integration may require substantial management effort, time and resources and may divert management's focus from other
strategic opportunities and operational matters. Management continually assesses the value and contribution of services provided and assets required to
provide such services.
Cathedral Energy Services Ltd. - 2010 Annual Report
14
MANAGEMENT’S DISCUSSION AND ANALYSIS
Implementing strategy In implementing its strategy Cathedral may pursue new business opportunities or growth opportunities in new geographic markets
and may not be successful in implementing those opportunities. Cathedral may have difficulty executing the strategy because of, among other things,
increased global competition, difficulty entering new markets, ability to attract qualified personnel, barriers to entry into geographic markets, and changes in
regulatory requirements.
Credit risk All of Cathedral's accounts receivables are with customers involved in the oil and gas industry, whose revenue may be impacted by fluctuations in
commodity prices. Although collection of these receivables could be influenced by economic factors affecting this industry and thereby have a materially
adverse effect on operations, management considers risk of significant loss to be minimal at this time. To mitigate this risk, the Company's customers are
subject to an internal credit review along with ongoing monitoring of the amount and age of receivables balances outstanding.
Reliance on major customers Management of Cathedral believes it currently has a good mix of customers with only one customer accounting for revenues
in excess of 10% (at 22%) of Cathedral's consolidated revenues (2009 – one customer at 28%). While the Company believes that its relationship with existing
customers is good, the loss of any one or more of these customers, or a significant reduction in business done with Cathedral by one or more of these
customers, if not offset by sales to new or existing customers, could have a material adverse affect on Cathedral's business, results of operations and prospects
and therefore on the ability to pay dividends to shareholders. Mergers and acquisitions activity in the oil and natural gas exploration and production sector can
impact demand for Cathedral's services as customers focus on internal reorganization prior to committing funds to significant oilfield services. In addition,
demand for Cathedral's services could be negatively affected in that upon completion, the merger and acquisitions customers may re-direct their work to
Cathedral's competitors.
Environmental risks Cathedral is subject to various environmental laws and regulations enacted in the jurisdictions in which it operates which govern the
manufacture, processing, importation, transportation, handling and disposal of certain materials used in the Company's operations. Cathedral has established
procedures to address compliance with current environmental laws and regulations and monitors its practices concerning the handling of environmentally
hazardous materials. However, there can be no assurance that the Company's procedures will prevent environmental damage occurring from spills of
materials handled by the Company or that such damage has not already occurred. On occasion, substantial liabilities to third parties may be incurred. The
Company may have the benefit of insurance maintained by it or the operator; however the Company may become liable for damages against which it cannot
adequately insure or against which it may elect not to insure because of high costs or other reasons.
There is growing concern about the apparent connection between the burning of fossil fuels and climate change. The issue of energy and the environment has
created intense public debate in Canada, the U.S. and around the world in recent years that is likely to continue for the foreseeable future and could potentially
have a significant impact on all aspects of the economy including the demand for hydrocarbons resulting in lower demand for Cathedral's services. There can
be no assurance that the provincial, state and local governments or the Federal Governments of Canada and U.S. and other jurisdictions in which Cathedral
enters into to provide its services will not adopt new environmental regulations, rules or legislation or make modifications to existing regulations, rules or
legislation which could increase costs paid by Cathedral's customers. An increase in environmental related costs could reduce Cathedral's customers' earnings
and/or it could make capital expenditures by Cathedral's customers uneconomic. The Canadian Federal Government has announced its intention to regulate
greenhouse gases ("GHG") and other air pollutants. The Government is currently developing a framework that outlines its clean air and climate change action
plan. As this federal program is under development, Cathedral is unable to predict the total impact of the potential regulations upon its business. It is possible
that Cathedral's customers could face increases in operating costs in order to comply with GHG emissions legislation which could have the effect of curtailing
exploration and development by oil and natural gas producers and that in turn, could adversely affect Cathedral's operations by reducing demand for its
services.
Government regulation The oil and natural gas industry in Canada and the U.S. is subject to federal, provincial, state and municipal legislation and
regulation governing such matters as land tenure, commodity prices, production royalties, production rates, environmental protection controls, the exportation of
crude oil, natural gas and other products, as well as other matters. The industry is also subject to regulation by governments in such matters, including laws
and regulations relating to health and safety, the conduct of operations, the protection of the environment and the manufacture, management, transportation,
storage and disposal of certain materials used in the Company's operations.
Government regulations may change from time to time in response to economic or political conditions. The exercise of discretion by governmental authorities
under existing regulations, the implementation of new regulations or the modification of existing regulations affecting the crude oil and natural gas industry could
reduce demand for the Company's services or increase its costs, either of which could have a material adverse impact on the Company.
There can be no assurance that the provincial, state and local governments or the Federal Governments of Canada and U.S. and other jurisdictions in which
Cathedral enters into to provide its services will not adopt a new royalty regime or modify the methodology of royalty calculation which could increase the
royalties paid by Cathedral's customers. An increase in royalties could reduce Cathedral's customers' earnings and/or it could make capital expenditures by
Cathedral's customers uneconomic. Although Cathedral is not a direct investor in the oil and gas market it does affect Cathedral's customers' cash flow
available to invest in drilling activity and other oilfield services.
Conflict of interest Certain directors and officers of Cathedral are also directors and/or officers of other oil and natural gas exploration and/or production
entities and conflicts of interest may arise between their duties as officers and directors of Cathedral and as officers and directors of such other companies.
Such conflicts must be disclosed in accordance with, and are subject to such other procedures and remedies as apply under the Act.
Legal proceedings Cathedral is involved in litigation from time to time in the ordinary course of business. Although Cathedral is not currently a party to any
material legal proceedings, legal proceedings could be filed against Cathedral in the future. No assurance can be given as to the final outcome of any legal
proceedings or that the ultimate resolution of any legal proceedings will not have a materially adverse effect on Cathedral.
OFF-BALANCE SHEET ARRANGEMENTS
As at December 31, 2010, the Company has entered into $7,929 of commitments under operating leases for premises and vehicles (refer to note 17 to the
consolidated financial statements). The Company has indemnified obligations to its directors and officers. Pursuant to such obligations, the Company
indemnifies these individuals, to the extent permitted by law, against any and all claims or losses (including amounts paid in settlement of claims) incurred as a
result of their service to the Company. The maximum amount payable under these indemnities cannot be reasonably estimated. The Company expects that it
would be covered by insurance for most tort liabilities.
GOVERNANCE
The Audit Committee of the Board of Directors has reviewed this MD&A and the related audited consolidated financial statements and recommended they be
approved by the Board of Directors. Following a review by the full Board, the MD&A and audited consolidated financial statements were approved.
15
Cathedral Energy Services Ltd. - 2010 Annual Report
MANAGEMENT’S DISCUSSION AND ANALYSIS
SUPPLEMENTARY INFORMATION
At March 2, 2011, the Company had 36,769,069 shares and 2,994,527 options outstanding. Additional information regarding the Company, including the
Annual Information Form ("AIF"), is available on SEDAR at www.sedar.com.
OUTLOOK
Demand for Cathedral's services is currently being driven by both oil and liquids-rich natural gas plays. Natural gas prices are expected to remain weak in the
near term despite natural gas storage levels being below its five year average. In due course, natural gas prices are expected to improve and thereby become
a meaningful driver in demand for oilfield services. The focus on horizontal, multi-stage fracturing to complete conventional and unconventional resource plays
across North America has been a tremendous boost for the services provided by Cathedral. Directional drilling and production testing flow back operations are
considered key services in applying this new completion technology. Cathedral has seen strong demand for all of its services in 2011 Q1, which is typically the
busiest time for oilfield services in Canada. The outlook post breakup is expected to remain robust as evidenced by customer's commitments to projects that
are longer term in nature.
To accommodate the expected increase in activity levels, Cathedral continues its program to add new equipment and to train field personnel. In 2011
Cathedral expects to add 27 MWD systems (including a carryover of 7 from the 2010 capital budget) and related mud motors and drill collars to complement
the increased job capability. The Production Testing division is expected to add 6 high pressure units and auxiliary equipment to complement its overall fleet.
Cathedral will continue to invest in resources – personnel and technology – to expand its offering of technologies to penetrate new markets as well as expand
markets in which it operates. The Company has focused its research and development spending on its MWD platform system to allow the MWD systems to
drill deeper with the most efficient technologies and expects to introduce additional enhancements in the near term. In-house design and manufacturing has
allowed Cathedral to react to drilling issues on a timely basis. The Company has made significant inroads towards the vertical integration of the design and
manufacture of MWD systems and will look towards expanding this vertical integration to further elements of its operations thereby gaining increased control of
the Company's needs.
To assist in the ability to service the U.S. market, Cathedral opened a directional drilling operations/repair facility in Houston, Texas in November 2010. This
operations base, which will be used to service activity in the prolific Haynesville and Eagleford plays, is fully operational and commenced repairing equipment in
January 2011. Cathedral now services its U.S. directional drilling market from facilities in Colorado, Wyoming, Pennsylvania and Texas.
Cathedral continues to work towards providing directional drilling services in Venezuela with its joint venture partner, PDVSA, the state-owned oil and natural
gas corporation of the Bolivarian Republic of Venezuela. PDVSA and Cathedral are currently in the process of incorporating and registering the joint venture
company and this process has taken longer than expected. Management's expectation was to commence operations in Venezuela in 2011 Q1 and this has
been delayed. Upon completion of the incorporation/registration process, Cathedral and PDVSA will work towards a start-up date for Vencana's operations.
Cathedral Energy Services Ltd. - 2010 Annual Report
16
MANAGEMENT’S REPORT
The consolidated financial statements have been prepared by the management in accordance with Canadian generally accepted accounting principles and,
where appropriate, reflect estimates based upon management's judgment. Financial information contained elsewhere in the annual report has been prepared
on a consistent basis with that in the consolidated financial statements.
Management is also responsible for a system of internal controls which is designed to provide reasonable assurance that the Company's assets are
safeguarded and accounting systems provide timely, accurate financial reports.
The Audit Committee of the Board of Directors has reviewed in detail the consolidated financial statements with management and the external auditor. The
Board of Directors has approved the consolidated financial statements on the recommendation of the Audit Committee.
KPMG LLP, an independent firm of chartered accountants, have examined the Company's consolidated financial statements in accordance with Canadian
generally accepted auditing standards and provided an independent professional opinion. The auditors have full and unrestricted access to the Audit
Committee to discuss their audit and their related findings as to the integrity of the financial reporting process.
Signed: "Mark L. Bentsen"
Mark L. Bentsen
President and Chief Executive Officer
Signed: "P. Scott MacFarlane"
P. Scott MacFarlane
Chief Financial Officer
INDEPENDENT AUDITORS' REPORT
To the Shareholders
We have audited the accompanying consolidated financial statements of Cathedral Energy Services Ltd., which comprise the consolidated balance
sheets as at December 31, 2010 and 2009, the consolidated statements of operations and retained earnings, consolidated statements of
comprehensive income and accumulated other comprehensive loss and consolidated cash flows for the years then ended, and notes, comprising 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 Canadian
generally accepted accounting principles, 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 audits. We conducted our audits 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 our 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, we consider 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.
We believe that the audit evidence we have obtained in our audits 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 consolidated financial position of Cathedral Energy
Services Ltd. as at December 31, 2010 and 2009, and the results of its consolidated operations and its consolidated cash flows for the years then
ended in accordance with Canadian generally accepted accounting principles.
Signed: "KPMG LLP"
Chartered Accountants
Calgary, Canada
March 2, 2011
17
Cathedral Energy Services Ltd. - 2010 Annual Report
CONSOLIDATED BALANCE SHEETS
December 31, 2010 and 2009
Dollars in '000s
Assets
Current assets:
Cash and cash equivalents
Accounts receivable
Income taxes recoverable
Inventory
Assets held for sale (note 4)
Prepaid expenses and deposits
Property and equipment (note 3)
Assets held for sale (note 4)
Future income taxes (note 7)
Intangibles
Goodwill
Liabilities and Shareholders' Equity
Current liabilities:
Bank indebtedness (note 5)
Accounts payable and accrued liabilities
Dividends payable
Income taxes payable
Current portion of long-term debt (note 6)
Long-term debt (note 6)
Deferred credit (note 7)
Shareholders' equity:
Share capital (note 8)
Contributed surplus (note 9)
Retained earnings
Accumulated other comprehensive loss
Commitments and contingencies (note 17)
Subsequent event (note 18)
See accompanying notes to consolidated financial statements.
Approved by the Directors:
Signed: "Mark L. Bentsen"
Mark L. Bentsen
Director
Signed: "Rod Maxwell"
Rod Maxwell
Director
2010
2009
$
1,740
37,794
-
7,648
1,754
1,958
50,894
104,217
1,457
19,044
-
18,448
$
491
27,727
2,550
5,389
740
1,629
38,526
77,425
14,027
23,491
293
19,775
$ 194,060
$ 173,537
$
8,765
21,309
2,204
53
27
32,358
34,502
18,085
84,945
70,753
6,533
35,259
(3,430)
109,115
$
2,181
13,686
-
-
208
16,075
39,526
20,514
76,115
68,995
4,390
26,004
(1,967)
97,422
$ 194,060
$ 173,537
Cathedral Energy Services Ltd. - 2010 Annual Report
18
CONSOLIDATED STATEMENTS OF OPERATIONS AND
RETAINED EARNINGS
Years ended December 31, 2010 and 2009
Dollars in '000s except per share amounts
Revenues
Expenses:
Operating
General and administrative
Depreciation
Share-based compensation
Interest - long-term debt
Interest - other
Foreign exchange gain
Gain on disposal of property and equipment
Income before taxes and discontinued operations
Taxes (note 7):
Current
Future (recovery)
Income from continuing operations
Loss from discontinued operations (note 4)
Net income
Retained earnings, beginning of year
Dividends declared
Retained earnings, end of year
Income from continuing operations per share (note 10):
Basic and diluted
Loss from discontinued operations per share (note 10):
Basic and diluted
Net income per share (note 10):
Basic and diluted
See accompanying notes to consolidated financial statements.
2010
2009
$ 141,396
$
82,100
74,585
30,471
10,626
2,589
1,256
523
(1,309)
118,741
22,655
2,760
25,415
1,502
3,384
4,886
20,529
(2,514)
18,015
26,004
(8,760)
41,835
20,617
11,602
1,732
1,238
290
(3,340)
73,974
8,126
815
8,941
4,220
(5,551)
(1,331)
10,272
(4,991)
5,281
31,559
(10,836)
$ 35,259
$
26,004
$
0.56
$
0.29
$
(0.07)
$
(0.14)
$
0.49
$
0.15
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(LOSS) AND ACCUMULATED OTHER COMPREHENSIVE LOSS
Years ended December 31, 2010 and 2009
Dollars in '000s except per share amounts
Net income
Other comprehensive loss:
Unrealized foreign exchange loss on translation of self-sustaining foreign operations
Comprehensive income (loss)
Accumulated other comprehensive income (loss), beginning of year
Other comprehensive loss
Accumulated other comprehensive loss, end of year
See accompanying notes to consolidated financial statements.
19
Cathedral Energy Services Ltd. - 2010 Annual Report
2010
2009
$ 18,015
$
5,281
(1,463)
$ 16,552
$
(1,967)
(1,463)
$
(3,430)
(5,293)
(12)
3,326
(5,293)
$
$
$
(1,967)
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years ended December 31, 2010 and 2009
Dollars in '000s except per share amounts
Cash provided by (used in):
Operating activities:
Income from continuing operations
Items not involving cash:
Depreciation
Future income tax (recovery)
Unrealized foreign exchange gain
Share-based compensation
Gain on disposal of property and equipment
Cash flow from continuing operations
Cash flow from discontinued operations (note 4)
Changes in non-cash operating working capital (note 14)
Investing activities:
Property and equipment additions from continuing operations
Property and equipment additions from discontinued operations
Transaction with SemBioSys Genetics Inc. (note 7)
Proceeds on disposal of property and equipment from continuing operations
Proceeds on disposal of property and equipment from discontinued operations
Changes in non-cash investing working capital (note 14)
Financing activities:
Advances under long-term debt
Repayment of long-term debt
Dividends paid
Shares issued for cash, net of issuance costs (note 8)
Proceeds on exercise of options (note 8)
Changes in bank indebtedness
Effect of exchange rate on changes in cash and cash equivalents
Change in cash and cash equivalents
Cash and cash equivalents, beginning of year
Cash and cash equivalents, end of year
See accompanying notes to consolidated financial statements.
2010
2009
$ 20,529
$
10,272
10,626
3,384
(987)
2,589
(2,760)
33,381
(1,807)
(5,109)
26,465
(35,062)
(171)
-
4,151
6,308
3,438
(21,336)
-
(5,205)
(6,556)
-
1,312
6,584
(3,865)
(15)
1,249
491
11,602
(5,551)
(3,682)
1,732
(815)
13,558
(1,291)
6,297
18,564
(8,470)
(453)
(3,597)
1,499
2,720
(3,719)
(12,020)
4,500
(5,206)
(13,117)
13,820
34
(13,225)
(13,194)
(410)
(7,060)
7,551
$
1,740
$
491
Cathedral Energy Services Ltd. - 2010 Annual Report
20
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Years ended December 31, 2010 and 2009
Dollars in '000s except per share amounts
1. Basis of Presentation
Cathedral Energy Services Ltd. (the "Company") is incorporated under the Business Corporations Act (Alberta) (the "Act"). The Company was created as
a result of the conversion of Cathedral Energy Services Income Trust (the "Trust") to a corporation pursuant to a Plan of Arrangement under the Act,
entered into by various entities including the Trust, Cathedral Energy Services Ltd. ("CES") and SemBioSys Genetics Inc. ("SBS") (the "Reorganization").
Upon closing of the Reorganization on December 18, 2009, the Company became the operator of the business of the Trust and its subsidiaries and the
existing management and board of directors of CES, plus one director of SBS, became the management and board of directors of the Company. The
Reorganization resulted in the unitholders of the Trust becoming shareholders of the Company with no changes to the underlying business operations.
The Company did not acquire any additional business carried on by SBS. The former business of SBS is being carried on by a new entity named
SemBioSys Genetics Inc. which is owned by the former shareholders of SBS.
Prior to the closing of the Reorganization, the consolidated financial statements included the accounts of the Trust, its subsidiaries and partnerships, all of
which were wholly owned. Subsequent to the Reorganization, the consolidated financial statements include the accounts of the Company and its
subsidiaries, all of which are wholly owned. The Company is considered a continuation of the Trust and these consolidated financial statements follow the
continuity of interest's method of accounting. Under the continuity of interest's method of accounting the transfer of assets, liabilities and equity from the
Trust to the Company are recorded at their net book values as at December 18, 2009.
As a result of the application of the continuity of interest's method of accounting, certain terms such as shareholders'/unitholders' and share-based/unit-
based may be used interchangeably throughout these consolidated financial statements.
The Company is publicly traded on the Toronto Stock Exchange under the symbol "CET". The Company together with its wholly owned subsidiary,
Cathedral Energy Services Inc., is engaged in the business of providing selected oilfield services to oil and natural gas companies in western Canada and
selected oil and natural gas basins in the United States ("U.S.").
The Company is in the process of initiating operations in Venezuela for providing directional drilling services through a joint venture. Cathedral's wholly-
owned subsidiary, Directional Plus International Ltd. ("DPI"), has entered into a Joint Venture and Strategic Alliance Agreement (the "JVSAA") with
PDVSA Servicios Petroleros, S.A. ("PDVSA Servicios Petroleros"), a wholly-owned subsidiary of Petróleos de Venezuela S.A. ("PDVSA"), the state-
owned oil and natural gas corporation of the Bolivarian Republic of Venezuela. The JVSAA provides for the formation of a joint stock company, Vencana
Services Petroleros, S.A, ("Vencana") in which PDVSA Servicios Petroleros would own 60% of the capital stock and DPI would own the remaining 40%.
Vencana's mandate is the supply of oilfield services in Venezuela to the oil and natural gas industry and commenced with the provision of directional
drilling services; it is the intent for the services provided by Vencana to expand as mutually agreed between PDVSA Servicios Petroleros and DPI.
2. Significant accounting policies
These financial statements have been prepared by management in accordance with Canadian generally accepted accounting principles and include the
following significant accounting policies:
(a) Principles of consolidation
These consolidated financial statements include the accounts of the Company and its wholly-owned entities, Cathedral Energy Services Inc.,
Directional Plus International Ltd. and Directional Plus de Venezuela, C.A.
(b) Foreign currency translation
The Company's U.S. operations are classified as self-sustaining. As such the consolidated financial statements are being translated using the
current rate method. Under the current rate method of translation, revenues and expenses of the subsidiary are translated at the rate in effect at the
time of the transactions while assets and liabilities are translated at the current exchange rate in effect at the balance sheet date. Upon consolidation
the U.S. operations translation gains and losses due to fluctuations in the foreign currency exchange rates are deferred on the balance sheet as a
separate component of Accumulated Other Comprehensive Income ("AOCI"). Accumulated other comprehensive income (loss) forms part of
shareholders' equity.
The Company's international operations other than in the U.S. are considered integrated and the Company uses the temporal method of foreign
currency translation for these operations.
(c)
Inventory
Inventory is comprised of parts to be used in repairing equipment and operating supplies. Inventory is valued at the lower of cost and net realizable
value.
(d) Property and equipment
Property and equipment are stated at cost less accumulated depreciation.
Effective January 1, 2010, the Company conducted a review of its estimate of useful life of all property and equipment and adjusted its declining
balance depreciation rates accordingly. These changes in declining balance rates are considered a change in estimate and as such have been
accounted for prospectively, without retroactive restatement of prior periods. The rates on the following items changed:
Directional drilling equipment
Production testing equipment
Wireline equipment
Office equipment
10 to 15% (previously 10 to 25%)
15 to 20% (previously 20 to 25%)
15 to 20% (previously 20%)
20 to 30% (previously 20%)
As a result of these changes, depreciation recorded in these consolidated financial statements was reduced by $2,732 for the year ended December
31, 2010.
The remaining rates remained unchanged and are as follows:
Automotive equipment
Buildings
Computer equipment
20 to 25%
4%
20%
Leasehold improvements are depreciated on a straight-line basis over the term of the lease.
21
Cathedral Energy Services Ltd. - 2010 Annual Report
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
2. Significant accounting policies (continued)
(d) Property and equipment (continued)
Development costs are expenses incurred with respect to the pre-commercialization of downhole equipment. These costs are amortized on a
straight-line basis over 5 years upon commercialization of the equipment.
(e) Future income taxes
The Company uses the asset and liability method of accounting for future income taxes whereby future income tax assets and liabilities are
determined based on temporary differences between the accounting basis and the tax basis of the assets and liabilities, and are measured using
substantively enacted tax rates and laws expected to apply when these differences reverse. Tax expense is the sum of the Company's provision for
current taxes and the difference between the opening and ending balances of the future income tax assets and liabilities.
(f) Revenue recognition
Revenue is recognized as services are rendered based upon daily, hourly or job rates. Revenue related to the rental of downhole tools is recognized
in the period during which the rental hours/days occur.
(g) Per share amounts
Basic net income per share is computed by dividing net income by the weighted average number of shares outstanding for the year. Diluted per
share amounts reflect the potential dilution that could occur if securities or other contracts to issue shares were exercised or converted to shares.
The treasury stock method is used to determine the dilutive effect of options and other dilutive instruments.
(h) Share-based compensation plan
i) Option plan
The Company has an option plan as described in note 8. The related share-based compensation expense is recorded for options issued to
employees and non-employees using the fair value method. The fair value of employee options is valued on the date of grant and the resulting fair
value is recorded as an expense over the vesting period of the option. The fair value of non-employee options are revalued each reporting date with
the change in fair value on the vested options recorded in the income statement, and the change in fair value on unvested options expensed over
the remaining vesting period. In determining the fair value of the options granted, the Black-Scholes model is used and assumptions regarding
interest rates, underlying volatility of the shares, dividend yield and expected life of the options are made.
ii) Phantom option plan
The Company had a phantom option plan that provided for the granting of stock appreciation rights ("SARs") to key employees. The plan was
terminated on October 18, 2009 when the holders forfeited their options (see note 8 (f)). The SARs provided the holder with the opportunity to earn a
cash award equal to the fair market value of the share less the price at which the SAR was issued. Compensation expense was measured based
on the market price of the Company's shares at the end of the reporting period.
(i) Cash and cash equivalents
Cash and cash equivalents consist of cash and highly liquid investments which have maturities of less than three months at the date of acquisition.
(j) Goodwill
Goodwill represents the excess of the purchase price over the value attributed to the net tangible and intangible assets acquired. Goodwill is not
subject to amortization but is subject to an annual review for impairment (or more frequently if events or changes in circumstances indicate that
goodwill is impaired) which consists of a comparison of the Company's fair value of the net assets to their carrying value. The net carrying value of
goodwill would be written down if the value is determined to be impaired.
(k)
Intangible assets
Intangible assets are comprised of values attributed to customer relationships and non-compete agreements and are amortized on a straight-line
basis over 8 and 4 years, respectively. Management assesses the carrying value of intangible assets on a periodic basis for indications of
impairment. When an indication of impairment is present, a test for impairment is carried out by comparing the carrying value of the asset to its
expected future cash flows. If the carrying amount is greater than the expected future cash flow, the asset would be considered impaired and an
impairment loss would be realized to reduce the asset's carrying value to its estimated fair value.
(l) Use of estimates
The preparation of financial statements in conformity with Canadian generally accepted accounting principles requires management to make
estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenues and expenses during the reporting period.
The most significant estimates relate to the depreciation of property and equipment, the cost recovery of property and equipment, goodwill and
intangible assets and the determination of share-based compensation. Actual results could differ from those estimates.
(m) Financial instruments
Financial instruments are measured at fair value and are classified as either "held-for-trading", "available-for-sale", "held-to-maturity", "loans and
receivables" or "other financial liabilities". Financial assets and liabilities classified as "held-for-trading" are measured at fair value with gains and
losses being recognized in net income during the period in which they occur. Financial assets classified as "available-for-sale" are measured at fair
value with unrealized gains and losses, net of tax, recognized in comprehensive income until the asset is sold. If an unrealized loss is considered
other than temporary, such a loss is recognized in net income in the period in which it occurs. Financial assets classified as "held-to-maturity" or as
"loans and receivables" and financial liabilities classified as "other financial liabilities" are measured at amortized costs using the effective interest rate
method. Transaction costs directly attributed to the acquisition or issue of a financial asset or liability are added to the carrying value of the
respective financial asset or liability.
The Company will assess at each reporting period whether a financial asset, other than those classified as "held for trading", is impaired. An
impairment loss, if any, is included in net earnings. The Company does not use derivative instruments or hedges.
(n)
International Financial Reporting Standards
In February, 2008, the Canadian Institute of Chartered Accountants confirmed that the use of International Financial Reporting Standards ("IFRS")
will be required in Canada for publicly accountable profit oriented enterprises for fiscal years beginning on or after January 1, 2011. The Company
will be required to report using IFRS beginning January 1, 2011.
The Company has substantially completed the quantification of the impact of IFRS on its opening IFRS balance sheet as at January 1, 2010 and is
in the process of quantifying the impact on balances to December 31, 2010. It is in the process of having its auditors review managements'
calculations and subsequent to this will have the Company's Audit Committee approve the transition adjustments.
Cathedral Energy Services Ltd. - 2010 Annual Report
22
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
3. Property and equipment
2010
Directional drilling equipment
Production testing equipment
Automotive equipment
Office and computer equipment
Leasehold improvements
Development costs
Buildings
Land
$
Cost
104,319
36,314
895
3,676
1,037
2,557
10,373
3,937
Accumulated
depreciation
Net book
value
$
$
41,028
11,783
450
2,217
621
2,170
622
-
63,291
24,531
445
1,459
416
387
9,751
3,937
$
163,108
$
58,891
$
104,217
During 2010, $7,482 of property and equipment was not depreciated as it was temporarily removed from service.
2009
Directional drilling equipment
Production testing equipment
Automotive equipment
Office and computer equipment
Leasehold improvements
Development costs
Buildings
Land
$
Cost
85,653
21,928
619
3,267
790
2,677
9,098
3,937
Accumulated
depreciation
Net book
value
$
$
36,820
8,907
287
1,788
479
1,792
471
-
48,833
13,021
332
1,479
311
885
8,627
3,937
$
127,969
$
50,544
$
77,425
Included in the 2009 property and equipment are assets under capital lease with a cost of $425 and a net book value of $165. During 2009, $10,163 of
property and equipment was not depreciated as it was temporarily removed from service.
4. Assets held for sale and discontinued operations
Effective March 31, 2010, the Company ceased operating its Canadian slickline business. On April 20, 2010, the Company also completed the
sale of the assets of its U.S. based electric wireline business including inventory and property and equipment. As such, all remaining Canadian
wireline property and equipment has been reclassified as assets held for sale on the consolidated balance sheet. The remaining wireline
assets are expected to be sold in 2011. The assets and liabilities of the wireline business held for sale comprise of the following:
Current assets held for sale:
Inventory
Property and equipment
Long-term assets held for sale:
Property and equipment
2010
-
1,754
1,754
1,457
$
$
$
2009
740
-
740
14,027
$
$
$
Operating results related to this division have been included in loss from discontinued operations on the consolidated statements of operations
and retained earnings. Comparative periods have been reclassified to include this division as discontinued operations. The following table
provides information with respect to amounts included in the statements of operations related to discontinued operations.
Revenues
Expenses:
Operating
General and administrative
Depreciation
Impairment of goodwill
Impairment of intangibles
Interest – long-term debt
Interest – other
Gain on disposal of property and equipment
Loss before taxes
Taxes:
Current (recovery)
Future (recovery)
2010
2009
$
2,403
$
12,420
2,285
1,933
557
699
257
17
3
5,751
(3,348)
256
(3,092)
(28)
(550)
(578)
10,294
5,466
3,739
-
-
-
20
19,519
(7,099)
160
(6,939)
(2,069)
121
(1,948)
(4,991)
Loss from discontinued operations
$
(2,514)
$
23
Cathedral Energy Services Ltd. - 2010 Annual Report
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
4. Assets held for sale and discontinued operations (continued)
The gain on disposal of property and equipment for 2010 is comprised of gain on disposal of property and equipment of $883, net of an additional
impairment of goodwill of $627.
The following table provides information with respect to amounts included in the statements of cash flows related to discontinued operations.
Operating activities:
Loss from discontinued operations
Items not involving cash:
Depreciation
Impairment of goodwill
Impairment of intangibles
Future taxes (recovery)
Gain on disposal of property and equipment
Cash flow from discontinued operations
5. Bank indebtedness
2010
2009
$
(2,514)
$
(4,991)
557
699
257
(550)
(256)
3,739
-
-
121
(160)
$
(1,807)
$
(1,291)
The Company has a $20,000 demand operating line of credit with a major Canadian bank that bears interest, at the Company's option, at the bank's
prime rate plus 0.50 % to 2.00% or bankers' acceptance rate plus 2.00% to 3.50% with interest payable monthly and is secured as described in note 6.
Interest rates spreads for the credit facility will depend on the level of funded debt to EBITDA (earnings before interest on long-term debt, taxes,
depreciation, amortization and non-cash compensation expense – as defined in the credit agreement).
6. Long-term debt
2010
2009
Bank revolving term loan with a major Canadian bank at an authorized amount of $45,000, bearing interest at
the bank's prime rate plus 0.75 % to 2.25% or bankers' acceptance rate plus 2.00% to 3.50%, without
repayment terms, maturing June 29, 2011 subject to an annual extension upon agreement between the
borrower and the bank for a further one-year period. Interest rates spreads for the credit facility will
depend on the level of funded debt to EBITDA (earnings before interest on long-term debt, taxes,
depreciation, amortization and non-cash compensation expense – as defined in the credit agreement).
Prior to maturity the borrower may convert its revolving term loan to a non-revolving term loan repayable
monthly over 36 months with interest only for the first 12 months
Non-interest bearing loans secured by the related automotive equipment with various maturity dates up to
2012
Capital lease obligations
Less: current portion of long-term debt
$
34,500
$
39,500
29
-
34,529
(27)
122
112
39,734
(208)
$
34,502
$
39,526
The credit facility with a major Canadian bank is secured by a general security agreement over all present and future personal property with a first charge
over certain real estate assets and is subject to certain covenants regarding the payment of dividends and the maintenance of certain financial ratios.
Minimum principal amounts to be paid under long-term debt (assuming the Company elects prior to the maturity date of the revolving term loan to repay
the loan over 36 months with interest only for the first 12 months) during the next five years are approximately as follows:
2011
2012
2013
2014
2015
7.
Income taxes
$
27
5,752
11,500
11,500
5,750
On December 18, 2009, the Company converted from a trust to a corporation by way of a Plan of Arrangement with various entities including the Trust,
CES and SBS as described in note 1. SBS had: a) non-capital losses which are available to reduce the future taxable income of the Company in the
amount of approximately $33,213; b) research and development expenditures which are available to reduce the future taxable income of the Company in
the amount of approximately $41,045 and have an unlimited carry-forward period; and c) investment tax credits which are available to reduce future
federal taxes payable of the Company in the amount of $6,747.
A future income tax asset of $24,936 was recognized with respect to the Plan of Arrangement. As part of the Plan of Arrangement, SBS was paid $3,671
including $2,846 paid in cash and $825 through the issuance of 189,200 common shares of the Company. In addition, advisor and professional fees
associated with the transaction in the amount of $751 were capitalized for a total cost of $4,422. The difference between the future income tax asset
recognized and the cost of the tax pools was recorded as a deferred tax credit in the amount of $20,514. SBS also had capital losses of $9,058, however,
due to their limited use the benefits of these capital losses was not recognized in the initial recording of the transaction.
Cathedral Energy Services Ltd. - 2010 Annual Report
24
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
7.
Income taxes (continued)
The following table summarizes the temporary differences that give rise to the future income tax asset as at December 31, 2010 and 2009:
Property and equipment
Non capital losses and scientific research and development expenditures
carried forward
Investment tax credits
Other
2010
(5,313)
$
$
19,220
4,825
312
2009
(3,327)
21,488
5,043
287
$
19,044
$
23,491
The business and operations of the Company is complex and the Company has executed a number of significant financings, reorganizations, acquisitions
and other material transactions over the course of its history. The computation of income taxes payable as a result of these transactions involves many
complex factors as well as the Company's interpretation of relevant tax legislation and regulations. The Company's management believes that the
provision for income tax is adequate and in accordance with Canadian generally accepted accounting principles and applicable legislation and regulations.
However, tax filing positions are subject to review by taxation authorities who may successfully challenge the Company's interpretation of the applicable
tax legislation and regulations.
As at December 31, 2010, the Company has non-capital losses that if not utilized, will expire as follows:
2027
2028
2029
2029
As at December 31, 2010, the Company has investment tax credits that if not utilized, will expire as follows:
2020
2021
2022
2023
2024
2025
2026
2027
2028
2029
$
10,558
22,684
36
3,953
$
37,231
$
$
205
260
202
288
1,037
1,036
128
1,575
1,120
574
6,425
Income tax expense for 2010 and 2009 differs from the amount that would be expected by applying the expected statutory income tax rates for the
following reasons:
Effective tax rate
Income before income taxes
Income allocated to trust unitholders
Income before taxes subject to corporate tax
Effective tax rate applied to income subject to corporate tax
Utilization of deferred credit
Adjustment to future taxes for change in effective tax rates
Income taxed in jurisdictions with different tax rates
Non-deductible expenses
Recognition of previously unrecognized tax losses
Non-taxable portion of gain on disposal of property and equipment
Change in unrecognized temporary differences
Benefit realized on conversion to corporation
Other
2010
28.1%
$ 25,415
-
$ 25,415
$
7,142
(2,428)
(131)
668
646
(422)
(328)
(146)
-
(115)
$
$
$
2009
29.3%
8,941
(6,460)
2,481
727
-
(1,403)
160
443
-
(326)
-
(1,010)
78
$
4,886
$
(1,331)
25
Cathedral Energy Services Ltd. - 2010 Annual Report
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
8. Share Capital
Pursuant to the Plan of Arrangement discussed in note 1, the Company acquired and cancelled all of the issued and outstanding trust units on December
18, 2009. Each former trust unit holder received one common share of the Company in exchange for one trust unit. Shareholders of SBS received
189,200 common shares of the Company.
(a) Authorized: An unlimited number of common shares
(b) Trust units issued
Balance, December 31, 2008
Issued for cash on May 19, 2009
Less share issuance cost
Issued on exercise of options
Contributed surplus on options exercised (note 9)
Converted into common shares
Balance, December 31, 2009
(c) Common shares issued
Balance, December 31, 2008
Converted from trust units
Plan of Arrangement (notes 1 and 7)
Balance, December 31, 2009
Issued on exercise of options
Contributed surplus on options exercised (note 9)
Balance, December 31, 2010
(d) Options
Number of trust units
32,582,022
3,615,600
-
13,239
-
(36,210,861)
$
Amount
54,311
15,005
(1,185)
34
5
(68,170)
-
$
-
Number of shares
-
36,210,861
189,200
36,400,061
339,009
-
36,739,070
$
Amount
-
68,170
825
68,995
1,312
446
$
70,753
The Company's share based compensation plan is a "rolling number" type option plan which provides that the number of authorized but
unissued common shares that may be subject to options granted under the share option plan at anytime can be up to 10% of the number
of common shares outstanding from time to time.
Under the plan, the exercise price of each option at the date of issuance equals the fair market value of the Company's common shares
on the day immediately prior to the grant, and has a maximum term till expiry of ten years (also refer to share-based payment
modifications in note 8(e)). Options vest over a period of three years from the date of grant as employees, trustees or consultants render
continuous service to the Company.
A summary of the status of the Company's equity based compensation plan as at December 31, 2010 and 2009, and changes during the
years then ended is presented below:
Outstanding, beginning of year
Granted
Exercised
Forfeited
Outstanding, end of year
Exercisable, end of year
2010
Weighted average
exercise price
Number
2009
Weighted average
exercise price
Number
1,741,736
1,887,400
(339,009)
(265,601)
$ 3.67
5.80
3.87
4.21
3,053,430
693,066
(13,239)
(1,991,521)
3,024,526
$ 5.03
1,741,736
256,146
$ 3.76
15,667
$ 10.27
3.77
2.59
9.95
$
$
3.67
8.49
The range of exercise prices for the options outstanding at December 31, 2010 is as follows:
Total options outstanding
Exercisable
Range
$3.35 to $3.68
$3.81
$4.96 to $5.05
$6.01 to $6.74
$2.59 to $6.74
Number
40,000
1,154,126
362,200
1,468,200
3,024,526
$ 3.58
3.81
5.04
6.02
$ 5.03
Weighted average
exercise price
Weighted average
remaining life (years)
Number
-
256,146
-
-
Weighted average
exercise price
$
-
3.76
-
-
4.61
2.52
3.28
3.07
2.91
256,146
$
3.76
During the year ended December 31, 2010, the Company has recorded share-based compensation expense of $2,589 (2009 - $1,732)
related to the share option plan.
Cathedral Energy Services Ltd. - 2010 Annual Report
26
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
8. Share Capital (continued)
(d) Options (continued)
The following table sets out the assumptions used in applying the Black-Scholes model for options issued in 2010 and 2009 as well as the
resulting fair value:
Date of issue
Number of options issued
Exercise price
Fair value per option
Expected dividend yield
Risk-free interest rate
Expected volatility
Expected life (in years)
September 24 September 7
2010
2010
May 7 January 20
2010
2010
January 4 October 13 August 18
2009
2009
2010
12,000
$ 6.74
$ 1.91
3.56%
1.40%
53.9%
3.50
15,000
$ 6.01
$ 1.73
3.99%
1.40%
56.4%
3.50
317,200
$ 5.05
$ 1.52
4.75%
2.19%
60.5%
3.50
1,441,200
$ 6.01
$ 1.77
3.99%
1.77%
62.4%
3.50
102,000
$ 5.00
$ 1.62
4.80%
1.77%
61.8%
3.50
579,066
$ 3.81
$ 1.02
6.30%
2.32%
52.0%
3.50
54,000
$ 3.68
$ 0.98
6.52%
2.49%
52.0%
3.50
July 16
2009
$
$
60,000
3.35
0.54
14.33%
2.44%
52.0%
3.50
The Black-Scholes option valuation model used by the Company to determine fair value was developed for use in estimating the fair value of freely
traded options, which are fully transferable and have no vesting restrictions. The Company's options are not transferable, cannot be traded and are
subject to vesting restrictions and exercise restrictions under the Company's blackout policy which would tend to reduce the fair value of the
Company's options. In addition, this model requires the input of highly subjective assumptions, including future stock price volatility and expected
time until exercise that can cause a significant variation in the estimate of the fair value of the options.
(e) Share-based payment modification
On October 13, 2009, non-insider optionees with vested or unvested out-of-the-money options were invited to reduce the exercise price of their
share options to $3.81, which equaled the trust unit price on the last trading day immediately before the date of the modification. In exchange for this
reduction in the exercise price, longer vesting terms were established with due consideration of the original expiry date which did not change. A total
of 1,034,003 options were re-priced. The unrecognized compensation costs from the original grant are recognized over the remainder of the original
requisite service period and the incremental compensation costs for the modified share options are recognized over the new requisite service period.
In October 2009, insiders of the Company forfeited all of the outstanding 1,303,334 options, resulting in share based compensation expense of $794.
The following sets out the assumptions used in applying the Black-Scholes model for the modified options issued on or about October 13,
2009:
Number of options re-priced
Exercise price
Weighted average increment fair value per option
Expected dividend yield
Risk-free interest rate
Expected volatility
Expected life (in years)
(f) Phantom option plan
1,034,003
$ 3.81
$ 0.62
6.30%
1.3% to 2.3%
48.5% to 71.9%
1.4 to 5.0
The Company had a phantom option plan that provided for the granting of stock appreciation rights ("SARs") to key employees. During 2009
120,000 SARs were issued and on October 13, 2009, the holders forfeited all 120,000 SARs outstanding. During the year ended December 31,
2009 $nil compensation expense related to the SARs was recorded.
9. Contributed surplus
Balance, December 31, 2008
Share-based compensation expense related to option plan (note 8)
Less: Contributed surplus on options exercised
Balance, December 31, 2009
Share-based compensation expense related to option plan (note 8)
Less: Contributed surplus on options exercised
Balance, December 31, 2010
10. Per share amounts
$
2,663
1,732
(5)
4,390
2,589
(446)
$
6,533
In calculating the per share amounts, the Company utilizes the treasury method to determine the dilutive effect of options. Under the treasury stock
method, only "in the money" dilutive instruments impact the diluted calculations.
At December 31, 2010, the basic weighted average number of shares outstanding was 36,453,458 (2009 – 34,840,714). At December 31, 2010, the
diluted number of shares outstanding was 36,790,732 (2009 – 34,856,564), which includes the addition of 337,274 shares (2009 – 15,850) to the basic
weighted average number of shares outstanding during the year for the dilutive effect of options.
27
Cathedral Energy Services Ltd. - 2010 Annual Report
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
11. Management of capital
The Company views its capital as the combination of long-term debt/capital lease obligations and shareholders' equity excluding AOCI. The Company's
objectives when managing capital are to maintain a balance between the level of long-term debt/capital lease obligations and shareholders' equity that will
allow access to capital markets and long-term debt to fund growth and working capital with due consideration to the cyclical nature of the oilfield services
sector. Historically the Company has maintained a conservative ratio of long-term debt/capital lease obligations to long-term debt/capital lease obligations
plus shareholders' equity excluding AOCI. As at December 31, 2010 and 2009 this ratio was as follows:
Long-term debt, net of current portion
Shareholders' equity excluding AOCI
Total capitalization
Long-term debt, net of current portion to total capitalization
2010
$ 34,502
112,545
$ 147,047
0.23
2009
$
39,526
99,389
$ 138,915
0.28
The Company is subject to a leverage test covenant on its credit facility. The management of the Company monitors its credit facility covenants on an on-
going basis and is in compliance with the debt covenants as at and for the period ended December 31, 2010.
To assist in the management of its capital the Company prepares annual operating and capital expenditure budgets, which are updated as necessary
depending on varying factors including general industry conditions. In order to maintain or adjust the capital structure the Company may, with the approval
of its Board of Directors, alter the amount of dividends paid to shareholders, issue new shares, issue new debt, and/or issue new debt to replace existing
debt with different characteristics.
The Company's overall strategy with respect to capital management remains unchanged from the year ended December 31, 2009.
12. Financial instruments
The Company has designated its financial instruments into the following categories applying the indicated measurement methods:
Financial Instrument
Cash and cash equivalents
Accounts receivable
Bank indebtedness/Accounts payable and accrued
liabilities/Dividends payable/ /Long-term debt
Category
Held for trading
Loans and receivables
Measurement Method
Fair value
Amortized cost
Other liabilities
Amortized cost
The fair value of cash and cash equivalents, accounts receivable, income taxes recoverable/payable, bank indebtedness, dividends payable and accounts
payable and accrued liabilities approximate their carrying values due to their short term maturities. The fair value of long-term debt at December 31, 2010
approximated its carrying value as it bears interest at floating rates.
The Company is exposed to risks of varying degrees of significance which could affect its ability to achieve its strategic objectives for growth and
shareholder returns. The principal financial risks to which the Company is exposed are described below.
(a) Credit risk:
Substantially all of the Company's accounts receivable are due from customers in the oil and gas industry and are subject to normal industry credit
risks. The carrying value of accounts receivable reflects management's assessment of the associated credit risks. At December 31, 2010 the
Company's provision for doubtful accounts is $106 (2009 - $526) and for the year ended had a bad debt expense of $189 (2009 - $nil). Included in
accounts receivable are amounts of $2,304 (2009 - $2,867) which have been outstanding for greater than 90 days, but which are considered
collectable and for which no provision for doubtful accounts has been made.
(b) Liquidity risk:
Liquidity risk is the risk that the Company will encounter difficulty in meeting obligations associated with its financial liabilities. The Company
manages liquidity risk through regular monitoring of forecast and actual cash flows, and also the management of its capital structure and financial
leverage as outlined in note 11. The Company's credit facility are outlined in notes 5 and 6.
(c) Foreign currency exchange risk:
The Company has an exposure to fluctuations in the Canada/U.S. foreign currency exchange rate primarily due its operations in the U.S..
Management attempts to mitigate this exposure by matching local purchases in the same currency. In addition, the Company became exposed to
fluctuations in Canadian Dollar versus Venezuelan Bolivars foreign currency exchange rate fluctuations related to funds on deposit in Venezuela.
Currently, the Company's net foreign currency exposure risk is not significant enough to warrant an active management program to mitigate the
foreign currency exchange exposure.
(d)
Interest rate risk:
At December 31, 2010, the Company was exposed to changes in interest rates on its bank indebtedness and most of its long-term debt. A 1%
increase in the Company's bank's lending rate would cause interest expense to increase by approximately $433 (2009 - $417) per annum based
upon the balance of bank indebtedness and long-term debt with a floating interest rate outstanding as at December 31, 2010.
13. Reorganization costs
To effect the December 18, 2009 conversion to a corporation, the Company incurred $1,428 of reorganization costs in 2009. These 2009 costs include
fees paid to financial, tax and legal advisors plus regulatory fees and other costs. $677 of these costs have been recognized as general and
administrative expenses of the year and the remaining $751 have been recognized as additions to the future tax asset recorded upon the Reorganization.
Cathedral Energy Services Ltd. - 2010 Annual Report
28
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
14. Supplemental cash flow disclosures
Components of non-cash working capital are as follows:
Accounts receivable
Inventory
Prepaid expenses and deposits
Accounts payable and accrued liabilities
Income taxes payable (recoverable)
Changes in working capital related to investing activities
Changes in working capital related to operating activities
Interest paid
Income taxes paid (refunded)
15. Segmented information
2010
(10,478)
(454)
(356)
7,816
1,801
(1,671)
(3,438)
(5,109)
2,020
(1,798)
$
$
$
$
2009
15,020
2,343
(151)
(12,954)
(1,681)
2,577
3,720
6,297
1,701
3,445
$
$
$
$
The Company and its wholly-owned subsidiaries are engaged in the business of providing selected oilfield services to oil and natural gas companies in
western Canada, selected basins in the U.S. and Venezuela, and is viewed as a single operating segment by the chief operating decision maker of the
Company for the purpose of resource allocation and assessing performance.
Oilfield services are currently being provided in both Canada and the U.S. and are expected to occur in Venezuela in 2011. The amounts related to each
segment are as follows:
Revenues
Canada
United States
Revenues by operating division
Directional drilling
Production testing
Property and equipment, goodwill and intangibles
Canada
United States
International
2010
84,396
57,000
$
$
141,396
2010
$
106,840
34,556
$
141,396
$
2010
89,059
25,516
8,090
$
$
$
$
$
2009
49,403
32,697
82,100
2009
64,758
17,342
82,100
2009
72,661
17,478
7,354
$
122,665
$
97,493
During the year ended December 31, 2010, one customer accounted for 22% (2009 – 28%) of consolidated revenues.
16. Related party transactions
A director of the Company is a partner in a law firm and, through that law firm, is involved in providing and managing the legal services provided to the
Company at market rates. The total amount paid for these legal services in 2010 was $185 (2009 - $635).
In 2009, StoneBridge Merchant Capital Corp. ("StoneBridge") acted as a special advisor to the Company in respect to the Plan of Arrangement and was
paid a fee of $572. A director of the Company is an officer of StoneBridge. This transaction was recorded at the exchange amount.
17. Commitments and contingencies
(a) Leases
The Company has commitments under operating leases for premises and vehicles. Amounts to be paid under these leases during the next five
years and thereafter are approximately as follows:
2011
2012
2013
2014
2015
Thereafter
$
1,710
1,452
1,334
1,243
1,091
1,099
(b) Property and equipment additions
At December 31, 2010, the Company has committed to purchase $8,983 (2009 – $5,910) of property, equipment and operating supplies. The
Company anticipates expending these funds in 2011 Q1.
29
Cathedral Energy Services Ltd. - 2010 Annual Report
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
17. Commitments and contingencies (continued)
(c) Legal and other claims
The Company, in the normal course of operations, will become subject to a variety of legal and other claims against the Company. Management
and the Company's legal counsel evaluate all claims on their apparent merits, and accrue management's best estimate of the estimated costs to
satisfy such claims. Management believes that the outcome of legal and other claims filed against the Company will not be material.
(d) Loan guarantee
In respect of the Company's expansion into Venezuela, pursuant to the JVSAA, the Company has agreed to provide Vencana with a loan guarantee
for up to 5,000 Venezuelan Bolivars (approximate equivalent of $1,200),
18. Subsequent event
In February 2011, the Company sold land and building classified as part of assets held for sale. The net proceeds on sale were approximately $2,069 and
will result in a gain on sale of approximately $316.
Cathedral Energy Services Ltd. - 2010 Annual Report
30
OFFICERS
Mark L. Bentsen, President and Chief Executive Officer
Randy H. Pustanyk, Vice President, Operations
P. Scott MacFarlane, Chief Financial Officer
John Ruzicki, Vice President
David Diachok, Vice President, Sales
DIRECTORS
Rod Maxwell
Jay Zammit
Scott Sarjeant
Robert L.Chaisson
P. Daniel O'Neil
Ian S. Brown
Mark L. Bentsen
Randy H. Pustanyk
AUDITORS
KPMG LLP
Calgary, Alberta
LEGAL COUNSEL
Burstall Winger LLP
Calgary, Alberta
REGISTRAR AND TRANSFER AGENT
Computershare Trust Company of Canada
Calgary, Alberta
BANKER
The Bank of Nova Scotia
STOCK EXCHANGE LISTING
Toronto Stock Exchange (TSX: CET)
1700,715 – 5th Avenue S.W.
Calgary, Alberta T2P 2X6
Tel: 403.265.2560 Fax: 403.262.4682
www.cathedralenergyservices.com