Final Results

Sterling Energy PLC 07 May 2004 Sterling Energy plc Preliminary Announcement of Results for the Year Ended 31 December 2003 Highlights â€¢ Market Capitalisation increased from Â£25m to c.Â£110m â€¢ Â£39.5m acquisition of Fusion Oil & Gas plc o Chinguetti Field declared commercial o Tiof discovery â€¢ $39.5m Osprey acquisition in February 2004 o Doubles daily production and more than doubles US reserves â€¢ Shareholders' funds increased to Â£56.6 m up from Â£14.9 m â€¢ Turnover up from Â£0.6 m to Â£5.5 m; profitability reached with net Â£1.6m. â€¢ Â£10.9m cash raised through issue of new shares to institutions The Future: 2004 - 05 â€¢ Extensive 'carried' drilling programme in West Africa o Mauritania - 15+ wells o Guinea Bissau - 1 further well o Gabon - 2 wells in 4th Quarter 2004 + 2 contingent wells in 2005 â€¢ Ongoing farmout programmes for Cameroon & AGC areas â€¢ New exploration licences applied for â€¢ Unlock substantial reserves potential and value in Gulf of Mexico o 3+ wells planned for Osprey fields o 3+ wells & 4 workovers scheduled for other fields â€¢ Continue to capture strong gas prices in USA through forward sales â€¢ Consolidate assets and management For further information contact: Harry Wilson, Chief Executive, Sterling Energy plc: 01582 462 121 Graeme Thomson, Finance Director, Sterling Energy plc: 01582 462 121 Allan Piper, First City Financial Public Relations: 020 7436 7486 07050 203 304 Chris Callaway, Evolution Beeson Gregory 020 7071 4300 www.sterlingenergyplc.com Stock Symbol SEY CHAIRMAN AND CHIEF EXECUTIVE STATEMENT We are delighted to report that over the last year your company overall has exceeded all our expectations in terms of growth and future prospects. Our successful acquisition of Fusion Oil & Gas Plc has added an exciting West African exploration portfolio, especially Mauritania, which is fast becoming the hot spot of the region. Sterling can now look forward to a very active drilling programme where your company will have carried interests in up to 20 wells to be drilled over the next year. Many of these wells are aimed at sizeable new targets which if successful, could have a significant positive impact on the value of your company. The recent Osprey acquisition has significantly increased our reserve and production base in the Gulf of Mexico, which provides an excellent counter-balance to our exploration activities. The Osprey assets include significant incremental upside reserves and production which we are currently evaluating. In addition to our wells in West Africa, we anticipate that we will also have an active drilling and work-over programme in the Gulf of Mexico to look forward to. We are conscious that this rapid growth phase requires a period of consolidation and we are happy to report that the process of 'bedding down' the new acquisitions is now well advanced. Financial The accounts for 2003 include the Fusion acquisition, which was declared unconditional on 10th December 2003. The increase in production from the Gulf of Mexico has resulted in a net profit of Â£1.6m for the period compared to a loss of Â£0.1m for 2002. At the same time, the balance sheet has strengthened considerably with shareholders' funds rising to Â£56.6m from Â£14.9m at the end of 2002. Trading during 2004 has shown continued improvement following the Osprey acquisition in late February. Your company has raised Â£10.9m in cash through new share placings during 2003 and at the year-end there were 797m shares in issue including 16.3m shares allocated to Fusion shareholders at that time. The present shares in issue are 823m giving the company a market capitalisation of around Â£110m at recent share prices. Fusion purchase The strategic significance of this acquisition for Sterling cannot be understated. Sterling's stated objective has been to grow the exploration exposure of the group - in one step, Fusion brings a readymade portfolio that would have taken two to three years to assemble piecemeal. The fact that our bid was keenly contested suggests that the price was well pitched and this has been confirmed by the drilling successes in Mauritania since our offer was first made. The results of the drilling programme over the next two years are eagerly awaited. Your company will continue to evaluate those licences where drilling commitments have still to be made with a view to seeking farm-in partners later in the year. In addition, we are building on the Fusion portfolio and we have recently applied for new exploration licences in Africa. Gulf of Mexico & Osprey Our Gulf of Mexico production has increased steadily during the year and with the Osprey acquisition is now running at around 11 mmcfge per day. Inevitably with the concentration of effort and resources on the Fusion deal certain US operations were delayed and we are planning to carry these out over the next year. These are expected to include the drilling of at least 3 wells and a further 4 workovers of existing wells. The Osprey acquisition was important in that it not only more than doubled production and reserves, but it extends the average field life by several years and provides a broader balance to the production base. Our proven and probable reserves now exceed 50 bcfge. We have recently started expanding the Houston office to take over operations on both the Osprey fields and most of our other Gulf of Mexico interests. As operator we will now be able to more closely direct the operations and timing of activities. Organisation Sterling now has 3 offices; UK, which is responsible for corporate matters, new projects and finance; Houston, which handles all the production and operations in the Gulf of Mexico; and Perth, which continues to manage the West African assets, acquired with Fusion. During a period of dramatic growth, such as Sterling has gone through over the last year, staff and management issues need to be attended to carefully. We are pleased to report that the new teams have integrated well into the larger organisation. We would like to thank our fellow directors and all the staff who have put in a tremendous effort to achieve the gains of the last year. Outlook We have put in place the foundations of an exciting Exploration & Production company with a clear strategy and focus. Our plan for the next couple of years is to grow the company to a size where the production revenues can support a meaningful exploration programme on an ongoing basis. We will reach this ' critical mass' through a combination of organic growth (developing our existing assets) and further acquisitions. Our primary focus for production is in the Gulf of Mexico, but we will also be looking at production opportunities in Africa to complement our exploration activities there. The high level of drilling activity in Africa over the next 18 - 24 months could have a material impact on the value of your company - this drilling campaign will be at negligible cost to us. In farming out, we inevitably give away some of the upside, but we also retain a meaningful stake in the drilling outcome and most importantly remove the cost exposure. As we said earlier, in W Africa over the next year we expect to have carried interests in up to 20 wells. Although W Africa is our core area of exploration activity, we will continue to review exploration projects in other parts of the world where we have the technical and commercial knowledge to identify opportunities. In the US, continued high gas prices mean that incremental reserve drilling around our existing fields can be highly profitable and we will look to exploit these opportunities aggressively. We have locked in over $15m of gas sales for 2004/5 at an average price of around $5.64/mcf. Institutional and market interest in the upstream oil & gas sector has risen sharply in recent months as a result of geopolitical factors and high product prices. This has created an increasingly profitable environment for companies such as Sterling which have the technical and commercial capabilities to capitalise on opportunities as they arise. It will be difficult to match last year's activity, but 2004 has started well and - given Sterling's undoubted strengths - could deliver much more. Richard O'Toole Harry Wilson Chairman Chief Executive OPERATIONS REPORT 2003 was a landmark year for Sterling, culminating in the successful takeover of Fusion. The elevated pace and breadth of activity is set to continue in 2004, commencing with the announcement of the Osprey acquisition in the USA at the end of February 2004. These key acquisitions have resulted in a substantially broadened Group portfolio. A diverse suite of high potential West African exploration assets from Fusion is now balanced and underpinned by increasing revenue from a mix of proven gas assets in the Gulf of Mexico. Year-end proven plus probable reserves in the Gulf of Mexico are 23.3 bcfge, a net increase of 5.7 bcfge over the year. The Osprey assets are assessed to have proven and probable reserves in excess of 30 bcfge, so current 2P reserves now stand in excess of 50 bcfge. We have a programme of at least 6 development and exploration wells planned to be drilled in the Gulf of Mexico in 2004, which it is anticipated will see production increase further during the year to come. Over the course of 2004 and 2005 we expect to be booking oil reserves in Mauritania, as the Chinguetti and Tiof fields reach development plan approval. The recent entry of BG to the Mauritanian joint venture highlights the potential for significant gas reserves in this area, and we look forward to booking reserves in Banda and hopefully additional discoveries in the years to come. Sterling now has three main offices in three continents, as well as representation in Manila and in West Africa, in Dakar and Libreville. The wide geographical spread of our offices provides an opportunity to develop relationships across the globe that will help in the sourcing of new ventures as well as the marketing of our exploration opportunities to others when the time is right to seek additional partners. International Exploration Our team in the UK is headed up by Andrew Grosse, Exploration Manager. In 2003, the main activity was the running of our Philippines venture, and the search for new venture opportunities, which of course was dominated by the takeover of Fusion. In Perth we have been successful in retaining the services of Rob Hall (General Manager) and Laurie Brown (Exploration Manager) from the old Fusion team, and we have strengthened that team by the recent recruitment of three highly capable and widely respected senior geoscientists. We firmly believe we now have an exploration team capable of competing with the best in the industry. Fusion Portfolio Premier transaction In May 2003 Fusion announced a multi-asset transaction with Premier Oil involving Mauritania, Gabon, Western Sahara and Guinea Bissau assets. For various reasons, including the Sterling takeover, certain elements of this transaction remain to be consummated, but are nearing completion. In Mauritania, the interests owned by Fusion in PSC A and PSC B, respectively comprising a 3% and 6% working interest, will ultimately be replaced by a sliding scale royalty linked to oil prices on all sales of petroleum by Premier attributable to these interests. In addition Premier paid a bonus of $10m prior to the acquisition of Fusion by Sterling and will pay additional bonuses of $1m and $2m for every future commercial discovery in each of PSC A and B respectively. In Gabon, a transaction is nearing completion in which Premier will own 18% out of Fusion's original 38.57% interest in Iris Marin and Themis Marin and will carry the cost of 18% out of Fusion's remaining 20.57% stake for up to four wells. This leaves Fusion exposed to the upside potential of up to four wells in this well-established petroleum province, paying only 2.57% of well costs for its 20.57% retained interest. In Guinea Bissau, Sterling have an option to acquire a 5% working interest in each of the Sinapa and Esperanca permits on completion of the first well in each respective permit. Premier have recently completed drilling of the Sinapa-2 well, announced as a discovery, and Fusion is currently considering exercise of that option in the Sinapa permit In Western Sahara, Premier have an option to participate for 35% in any license awarded to Fusion in return for funding 70% (capped at $3m) of the initial exploration costs plus 35% of all pre-award costs. Mauritania 2003 was a landmark year for Fusion's interests in Mauritania, with not only a highly successful production test on the 2001 Chinguetti discovery, but the fresh discovery of what is expected to be the largest Mauritanian find to date, Tiof, with the drilling in late 2003 of Tiof 1 and Tiof West 1. The Chinguetti-4-5 appraisal well, the fourth well on the Chinguetti structure was drilled in an up-dip location to the original Chinguetti-1 discovery well. The well location was selected to target a seismic attribute defined channel-like feature draped over the structure and interpreted to represent a zone of preferential reservoir development. The results from the well indeed suggest that this is the case as the well proved up a considerably greater reservoir thickness, with improved quality, compared to the Chinguetti-1 discovery well. On test the well flowed at a maximum stable rate of 15,680 bopd plus 6.6 million standard cubic feet of gas per day (on a 2' choke) and achieved a stabilised rate of approximately 11,500bopd (72/64' choke). All three major fault compartments of Chinguetti have now been penetrated by wells and based on these latest results reserves are estimated by the operator to be 123mmbbl (P50). The joint venture, operated by Woodside, declared the Chinguetti field commercial in January 2004 and is working towards a Final Investment Decision and development go-ahead later this year. First Oil is scheduled for end 2005 at an expected gross rate of 75,000 bopd. Three exploration wells were drilled following the Chinguetti-4-5 appraisal well. The first, Chinguetti-5-1 (Poune 1), was plugged and abandoned dry, but the subsequent well, Chinguetti-4-6 (Tiof 1), a test of a separate but similar canyon system to that of the Chinguetti reservoir 26km to the south, encountered a 50 metre gas column above an oil column of 38 metre in excellent quality Miocene reservoir. This was immediately followed up with the well Chinguetti-4-7 (Tiof West 1) which encountered 192 metres of, again excellent quality, Miocene aged reservoir 8 km to the west of the Tiof 1 well. Most significantly this second well established a significantly deeper and definitive oil water contact with a common pressure gradient to that of Tiof 1 indicating a likely connected oil column of over 210 metres in this sizeable accumulation. The full extent of the field needs to be appraised as it extends beyond the control of the existing 3D coverage and additional data is currently being acquired. Pending this and appraisal drilling later this year, reserves are provisionally estimated by Fusion to exceed 200 mmbbl, making this the largest discovery to date in Mauritania. Other partners have quoted estimates of as much as 375 mmbbl. Gabon (Fusion operated, 38.57% pending transfer to Premier of 18%) Fusion currently operates two shallow water permits, Iris Marin and Themis Marin, in the prolific petroleum province of the Southern Gabon Aptian Salt Basin. In late 2002 through early 2003, two 3D seismic surveys totalling 630 km2 were consecutively acquired over both these permits in order to help unlock their primary target sub-salt potential. A highly intensive year long processing project, known as pre-stack depth migration (PreSDM), was completed shortly after year end and interpretation is now well underway to assemble a ranked and risked prospect inventory Fusion is aiming to drill one well in each permit at the end of 2004. AGC The Agence de Gestion et de Cooperation entre le Senegal et le Guinee-Bissau (the AGC) was established as a Joint Commission between the Governments of the two countries to administer the petroleum and fishing rights within their shared maritime border. Fusion was a pioneer in this area and as a result has an unrivalled database and excellent relations with the AGC authorities. We own an interest in all three permits within the 11,500 km2 AGC concession area; Cheval Marin, Croix du Sud and Dome Flore. Fusion operates both the Dome Flore shallow water and Croix du Sud deepwater permits as well as owning a 10% stake in the AGIP operated Cheval Marin permit, also in deep water. Cheval Marin (Agip operated, Fusion 10%) A significant programme of almost 2500 km2 of 3D seismic was acquired in late 2002, and interpretation during 2003 has confirmed the area to be prospective. Several large structures initially interpreted from 2D seismic have been confirmed and pending further evaluation we have high hopes that a well will be drilled in 2005. The AGC has approved a one year extension to the existing term of the permit to allow completion of advanced PreSDM processing and other technical work by the operator, AGIP. All work commitments have been met for the first term through to January 2005. Croix du Sud (Fusion operated, 88%) A programme of 1529 km2 of 3D seismic covering approximately half the block was acquired in late 2002 by Amerada Hess as a result of the farm-in announced in 2002. Amerada decided not to proceed following their evaluation of the 3D and operatorship, along with the 3D, has now reverted to Fusion. This transfer has somewhat delayed the interpretation by Fusion of the data, but evaluation is currently well underway with focus on high resolution mapping of the dataset and a view to developing a prospect inventory and drilling proposal in the second half of 2004. The AGC has approved a one year extension to the existing term of Croix du Sud to allow Fusion to properly complete their evaluation, and we will be looking to bring in a new partner later in the year, with a view to drilling as early as next year. All work commitments have been met for the first term through to January 2005. Dome Flore (Fusion operated, 85%) The Dome Flore permit was awarded in January 2003 and design, planning, mobilisation and acquisition of a 380 km2 3D seismic programme undertaken immediately, completing in January that year. The permit, in the shallow waters of the AGC, includes two large salt diapirs, Dome Flore and Dome Gea. These diapirs have been drilled (although only two of the thirteen wells in the area are in the last thirty years) and a heavy oil resource, estimated to be in excess of 500 mmbbl has been discovered in Palaeogene carbonates. However, there are also instances of lighter oil both above and below the heavy oil occurrences and the exploration concept is to explore for deeper Cretaceous sandstone reservoirs, where light oil is the more likely result. This play type is exactly analogous to that being pursued by Premier Oil in the Sinapa and Esperanca concessions in Guinea Bissau, and the encouraging result of Sinapa 2, recently announced by Premier, is of great significance. Processing of the 3D seismic is almost complete and interpretation will begin in earnest in the coming months. We are optimistic that this will yield drilling targets, however, a drilling commitment decision is not required until January 2006 and all work programme commitments are fulfilled until that time. Guinea Bissau (5% option to participate in two permits, Sinapa and Esperanca) The results of the Sinapa 2 well were recently announced by Premier and we will be conducting our review of these results prior to reaching a decision on the exercise of the option to acquire a 5% interest from Premier, which we expect to reach in early July. Exercise of the option in Sinapa requires payment of net share costs going forward only, with no past costs, inclusive of the Sinapa-2 well costs. Although this well failed to find commercial quantities of hydrocarbons, the discovery of a column of over 500m of light oil in Albian age sands, and of good quality though water wet reservoir quality sands below, is highly significant for the prospectivity of the area, both in the Premier acreage and in the adjacent AGC. Exercise of the option in the Esperanca permit is independent of the current Sinapa option and not made until such a time as drilling of the first well in that permit is complete. Cameroon (Fusion operated, 100% pending re-assignment) The 2,300 km2 deepwater Ntem concession was, like Croix du Sud in the AGC, subject to a farmin agreement with Amerada Hess, and 1550 km2 of 3D seismic was acquired by Amerada prior to its decision to withdraw from the area in late 2003. As a result operatorship will, subject to government approvals expected in the short term, revert to Fusion. Although the transfer of interest has inevitably led to delays in interpretation, we are highly encouraged by the results to date, with three main play fairways identified, and with encouragement from drilling results north, east and south of the block. We are currently conducting further reprocessing of the seismic data to refine our ability to assess the seismic signature and identify stratigraphic variations, and hopefully, hydrocarbon indicators, with greater confidence. A number of companies have indicated interest in farming in to this area, and we expect to open a data room in late May or early June. Western Sahara (Fusion TCA, 100%) Fusion holds a Technical Cooperation Agreement (TCA) with the Saharawi Arab Democratic Republic (SADR) covering the whole of offshore Western Sahara, an area of over 210,000 km2 (almost the size of the whole of the United Kingdom). The TCA studies were completed in August 2003, and under the agreement Fusion may elect to submit applications for up to 3 license areas. Although the study results are encouraging and high-graded areas for possible license submission identified, any licenses applied for by Fusion to the SADR can only be ratified following admission of the SADR to the United Nations. Sterling Portfolio GSEC101, Philippines (Sterling 100%) Work on the GSEC101 (Reed Bank) concession has progressed steadily through the year, but was somewhat slowed by difficulties in accessing certain data. These difficulties are now resolved, and our work programme will be completed over the next few months. Our work has focused on two clear objectives; firstly, determining the reserve potential of the existing gas discoveries and the remainder of the concession, and secondly, developing a viable development strategy for this gas. The reserves potential of GSEC101 is currently being evaluated with the existing 2D seismic data, but it is expected that 3D seismic will ultimately be required to quantify the reserves. The application of innovative techniques to the existing 2D database has enabled a greater understanding of the geology and will also assist in designing a suitable 3D seismic survey. We are currently reprocessing 250 km of the 2D data through to PSDM, and this work is due to be completed by mid-year. Additionally, we are investigating using the reprocessed data to predict gas directly from the seismic response. This work in conjunction with our ongoing geological studies has considerably improved our understanding of the concession. The options for a viable development plan for the gas discoveries in GSEC101 have been thoroughly explored. Clearly, if volumes are large enough, this is not a problem, but the discoveries to date have been assessed to contain less than 1 tcf of gas. Whilst this is a huge amount compared to our gas reserves in the GOM, it is too small to justify a pipeline development in a region with little or no pipeline infrastructure. Worley Engineering have recently completed a study of the gas to liquid options for us and this will be presented to the DOE in Manila shortly. Other Areas We have a number of residual interests - onshore UK, Holland, Canada, USA - which are no longer material to Sterling and will be disposed of in the next year, where it is profitable to do so. New Ventures A number of license applications have been pursued in Africa aside from the Fusion takeover and two are currently in negotiation with host governments. A public announcement will be made if and when these deals are secured. Sterling intends to continue to acquire good exploration acreage in Africa, making good use of the contacts, knowledge and database owned by the Group. In due course it is expected that a wider range of projects is targeted in Africa, including producing assets and/or development opportunities where Sterling can add value. Gulf of Mexico (GOM) 2003 represented a step change in the building of our Gulf of Mexico portfolio. In January of 2003 Robert P. Munn was hired as the Vice President of our GOM company, Sterling Energy, Inc, in order to more effectively manage existing assets as well as grow the GOM position. A local office was established in February of 2003 in Houston Texas, the heart of the US industry. In early 2003 Sterling participated in the development of a single well gas field in Eugene Island 268, which was brought onstream in August 2003. Over the summer months workover operations were conducted on various properties and by year end production had increased from 3.3 mmcfge/d to 5.6 mmcfge/d. Sterling was also successful in adding the HI A94 exploration block in the August 2003 lease sale, its first purely exploratory venture in the GOM, and its first step as an operator in its own right. Post year end, the acquisition of the Osprey properties has virtually doubled the level of production, which is now about 11 mmcfge/d. We are especially excited by the strong reserve base this deal has brought to the group and the exciting upside that we believe future work will deliver. This deal established Sterling as an operator of 5 fields in Texas state waters. At the same time, Sterling has also taken over operatorship of two of its older fields, High Island 52 and High Island A68, and in doing so has qualified as an operator in Federal waters. The company has been transformed from a small company holding non-operating interests in 5 fields to an active independent operator, with a team in Houston respected by industry peers in the Gulf of Mexico. A solid reserve foundation now exists with Sterling holding an interest in 12 fields, 7 of which it operates. Building the Team In pursuit of the Group's goal to establish a secure base of cash flow from GOM production, one of the prime aims of the past 15 months has been to build an experienced and respected team in Houston to develop our assets and to add to them through acquisition. Jim Degraffenreid joined the team as Land Manager in June of 2003. Jim was instrumental in the Osprey acquisition as well as in qualifying Sterling as an operator in the Gulf of Mexico. Until the Osprey acquisition and the assumption of the role of operator, Sterling has successfully kept its overhead light in Houston, and the significant amount of deal screening and asset management was supported by the use of outside consultants. Since 2003 year end, two experienced engineers and an accountant have been added to the staff to handle field operations and manage the producing reservoirs in Sterling's various fields. We are currently expanding our small team of full time geoscientists to to ensure that we continue to set a high technical standard across the portfolio, as well as increasing the finance team. Operatorship Sterling Energy, Inc. is now an operator in both Texas State and Federal waters. We are now operating 7 of our 12 US properties. This commitment has been undertaken to allow us to control the quality of work performed in the field from drilling and workovers to the day to day operations. This step will also allow us to implement cost controls to properly manage all expenditures. Portfolio highlights A detailed technical evaluation has been completed on the assets owned at year end, and drilling, workover, and re-completion potential has been identified on these properties with a work programme to run through 2004 and into 2005, targeting those top ranked projects that will increase the proven reserve base and net daily production. El Gordo Field The El Gordo field was acquired by Sterling in 2002, and production has met the forecasts made at the time. The field has been produced since the 1970's, but 3D seismic is only now beginning to unlock the deeper, more complex traps lying below the main producing levels in the field. It was the recognition of this remaining potential which encouraged Sterling to acquire the field, as part of our strategy of acquiring proven reserves with scope for redevelopment or step out exploration. Sterling Energy currently holds a 46% to 75% WI in this field. Recent detailed mapping of both new seismic and well data has quantified the low risk potential still existing in the El Gordo field. A sidetrack well (MI520 SE/4 #4ST) was drilled in 2003 to develop additional reserves in the deepest zone drilled to date, and as reported during the year, was successful in finding four zones of gas pay. The thickest and deepest of these with 75 ft of net pay at close to 14,000 ft, was completed, but sanding problems prevented commercial production being established. Engineering studies have now been completed and a workover of this well will be scheduled this year once remapping of the improved 3D seismic data set has been completed. At slightly shallower levels, around 12,000 ft, the new interpretation work has already allowed us to move significant reserves from the possible to probable category and to finalize a new drilling location with potential for in excess of 24 bcf of gas. Sterling hopes to drill this well and to workover another currently non-producing well in 2004. High Island 52, A68 and A94 The High Island 52 and A68 properties were Sterling's first purchase in late 2000. Both were end of life fields on which additional potential was identified. In HI 52, this potential was confirmed with the discovery of the Bart Field by Gryphon Exploration, who farmed into the NE/4 of HI 52 in 2001. Sterling owns a 7.6% royalty interest in this field which has produced consistently at around 35 mmcfd of gas and around 600 bbls per day of condensate since the HI 52 C-2 well came onstream in early 2003. Aside from two the Gryphon wells production from the older wells ceased in 2003 in both HI 52 and in HI A68. In order to move these assets forward, as additional potential is still seen, Sterling has recently assumed operatorship and increased its working interest to 50% in each. In HI 52, a workover of one existing well, and the sidetracking of another are scheduled for 2004. In addition, new reprocessed 3D seismic data was acquired through an option agreement with Gryphon, and this is being interpreted to assess the potential for remaining development and deeper exploration opportunities. In HI A68, a high resolution seismic survey was acquired in late 2003 and following the interpretation of this data a sidetrack of an existing well will be spudded in May 2004. This well will target attic gas reserves updip from the older producing wells. Sterling is also evaluating the remaining exploration potential close to the HI A68 facility and in 2003 acquired HI A94 in the Western Gulf Lease Sale. This area of the Gulf is one of the very few shallow water areas where 3D seismic has not been acquired, and is as a result considerably less explored. Osprey Acquisition An aggressive plan to evaluate production opportunities in the GOM was undertaken in 2003 with the aim to add significantly to Sterling's GOM reserves. Numerous properties were evaluated and pursued culminating in the successful $39.5 million acquisition of the Osprey Properties in Texas State waters in late February 2004. As a result of an innovative bid structure, Sterling acquired these assets at a good price relative to the reserves acquired with access to considerable upside that will be the subject of intense technical effort in the coming months. The seller retained ownership of the more speculative leases and we will be working jointly with them to develop this portfolio. The properties include 11,300 acres of leasehold in water depths averaging 70 ft, consisting of 5 fields with 10 producing oil and gas wells. These wells produce from 7,800' to 15,000' below sea level, from the Frio section, which is one of the most prolific producing trends along the Texas Gulf Coast with field sizes ranging from 10 to 200+ bcf. These wells have long reserve life from 15 to 20 years, which compliment the existing producing portfolio. Significant drilling potential exists on these new properties and there is therefore a major opportunity to increase reserves and production. Upon completion of a detailed technical evaluation we hope to drill at least three of the lower risk opportunities in the coming year. If successful, these three projects alone could add 10 mmcfge/d net to Sterling's net production, and move significant reserves to the PDP category. The assets include a 90-100% ownership of the main gathering system in this area. This gathering system comprises 43 miles of pipeline which transports gas and oil (including third party gas and oil) to Sterling's two onshore facilities. Recent leasing activity in this area suggests third party drilling activity in the near future, with significant potential for third party fees for the use of our infrastructure. 2004 Activity We look forward to an active programme in 2004. In the Gulf of Mexico we anticipate drilling at least six wells in 2004 or early 2005, and to increasing production still further. In West Africa we have an intensive programme of seismic interpretation in the first half of the year before drilling gets under way in Gabon towards the end of 2004. 2005 should see drilling in several of our deep water projects, where the upside potential is very high. In Mauritania, we expect continued drilling activity from August 2004 onwards, which will include significant exploratory drilling as well as appraisal and development of the existing discoveries. All in all the next two years promise to be a very interesting time with plenty of drilling in a number of different plays with a range of prospect sizes and risks, but at very low cost to Sterling. Nigel Quinton Operations and Technical Director PROVEN AND PROBABLE RESERVES SUMMARY Oil Gas Attributable reserves (000 barrels) (million cubic ft) (million cubic feet equivalent) 1st January 2003 128 16,836 17,606 Asset Acquisitions (1) 0 4,140 4,140 Upwards/(Downwards) revision (9) 3,406 3,352 Production (20) (1,630) (1,751) ________________________________________________________________________________________________________________________ 31st December 2003 (2) 99 22,752 23,347 ________________________________________________________________________________________________________________________ Of which: Proven reserves 70 % 55 % 55 % Probable reserves 30 % 45 % 45 % ________________________________________________________________________________________________________________________ NOTES : 1. The reserves movements in 2003 are based on evaluation reports by independent petroleum engineers as of 31st December 2003, for the US offshore assets, with certain downward adjustments by the directors at the year-end where, in their opinion a higher risk assessment is appropriate. The net reserves for the onshore North American assets have been estimated by directors covering less than 1% of year-end 2003 reserves. 2. The acquisitions during the year were of a 60% working interest in the Eugene Island 268 lease offshore Louisiana, USA in April 2003 and the purchase of a further 2.5% interest in High Island 52 in June 2003. 3. The year-end 2003 figures all relate to North America. The upward revision is principally related to the El Gordo field where reprocessing of seismic data, well control and production history has led to mapping structures partially recoverable from producing wells but which are currently undeveloped. 4. Sterling has not booked Mauritanian reserves as of year end, on the basis that government approval of the development plan is still outstanding. FINANCIAL REPORT Daily production rate up 70%; reserve replacement ratio over 200% 2003 was a year of continued financial transformation of Sterling. We have progressively built up our US Gulf of Mexico production to 5.6 mmcfge/d in the last quarter of 2003, from 3.3 mmcfge/d in the last quarter of 2002, an increase of 70% in the year. Approximately 93% of our production was gas. Our USA proven and probable reserves, based on final reports by independent petroleum engineers, rose 33% in the year to 23.3 bcfge at the end of 2003, of which 55% are proven. Additions from drilling and other work, as well as acquisitions, totalled 7.5 bcfge. Including future development costs this implies an associated finding and development cost of approximately $1.95/mcfge. Total production during the year amounted to 1.7bcfge, equivalent to approximately 7% of the end 2003 reserves. Profitability achieved Turnover increased over eight fold to Â£5.5 million in 2003, from Â£0.59 million in 2002. This reflected increasing production quarter-on-quarter from drilling, well improvement work and acquisitions, as well as the impact of the purchase of Sterling Energy Limited ('SEL') in October 2002. Average realised prices were approximately $5.22/mcfge, although the fall in the sterling exchange rate from $1.61 at the start of 2003 to $1.65 by mid 2003 and then to $1.79 at the end of 2003, has partly masked the actual improvement in performance when measured in US dollars. Of the totals, the average production for the first half was 4.2 mmcfge/d sold at an average price of $5.55/mcfge, whilst the second half production averaged 5.3mmcfge/d at an average price of $4.86/mcfge. After production costs of Â£0.97 million in the year (equivalent to $0.95/mcfge) and a depletion charge of Â£1.38 million (being approximately $1.15/mcfge), the gross profit increased to Â£3.19 million from Â£0.2 million in 2002. Reflecting the full year impact of the SEL acquisition, the impact of the opening of the Houston office in January 2003 and of the new Perth office acquired with Fusion in December 2003, overheads increased to approximately Â£1.5 million. Of this total approximately 20% comprised discretionary bonuses to staff and directors for the outstanding achievements and progress made during the year and Â£0.1 million reflected the results of Fusion's London and Perth offices and activities since it was acquired. An operating profit of Â£1.7 million in 2003 compared with a loss of Â£0.08 million in 2002, which with net financial income, mainly from interest on cash deposits, left a profit before tax of Â£1.81 million. As noted in the commentary with the interim statement in September 2003, a taxation charge of Â£0.2 million arose in the USA as brought forward tax losses have been utilised in the year. The current tax charge is nil in 2003 because of the use of USA tax losses brought forward and of accelerated depletion for tax purposes for certain USA drilling costs. We have provided a deferred tax charge of Â£0.23 million reflecting the expectation that in the future certain of these timing differences are expected to reverse. Basic earnings per share were 0.38p (2002: loss 0.1p), which on a fully diluted basis (which reflects the potentially dilutive impact of options, warrants and other contingent share elements) was 0.33p per share (2002: loss 0.1p). Cash flow generated from operations of Â£3.3 million The cash inflow from operations of Â£3.3 million compared with an outflow in 2002 of Â£1.1 million. A total of Â£10.9 million (net of expenses) was raised from the issue of shares for cash, being Â£9.5 million from the placing at 11p per share in October and from the final exercise of the warrants by the end of June. A total of Â£5.9 million was outlaid in connection with the Fusion acquisition, of which Â£5.0 million related to the cash elements of the offer which had been paid by the end of the year and the remainder was for the costs of the offer such as stamp duty, printing, legal and other advisors. These cashflows were partially offset by the Â£5.2 million of cash held by Fusion at the date of the acquisition. Subsequent to the end of the year the compulsory purchase provisions were commenced and these were fully completed in April with a further cash cost of approximately Â£0.01 million. After cash capital expenditures of Â£5.7 million, which mainly related to the drilling, appraisal and development of reserves in the Gulf of Mexico, cash resources increased by Â£8.1 million to a year-end unrestricted total of Â£13.6 million. Strengthened balance sheet Net current assets rose to Â£10.4 million at the end of 2003. Included in net current assets was a bank loan of Â£1.1 million which has subsequently been extended for repayment on 30 June 2006 and Â£2.7 million relating to amounts still owed to the minority shareholders of Fusion at year end-end. Since the year-end this deferred consideration has been settled via the issue of Sterling shares, save for approximately Â£10,000 which was paid to compulsorily acquire the remaining outstanding Fusion shares and thereby give Sterling 100% ownership of Fusion. At the date of this report the Group's cash balances were equivalent to approximately Â£5.5 million. Sterling's equity shareholders' funds increased to Â£56.6 million at the end of 2003 from Â£14.9 million at the end of 2002. This principally reflected the approximately Â£30.9 million share element arising by the year-end in relation to the Fusion purchase, which was declared unconditional in all respects on 10 December 2003, together with the October 2003 Â£10.0 million (gross) placing. The final exercises of warrants by their expiry date at the end of June 2003 raised a further Â£1.5 million (gross), whilst the adverse movement in exchange rates also produced an unrealised translation loss of Â£1.7 million when dollar assets were converted into sterling, being the reporting currency, at the end of the year. At the end of December 2003, Sterling held an interest of 93% in Fusion, which has since increased to 100% following the compulsory purchase in April 2004. At the year-end a total of 271,159,168 new Sterling shares had been issued for the Fusion purchase. Of these, 199,784,168 shares were issued at 10.5p, being the mid market price on the date the offer was declared unconditional and 71,375,000 shares were issued at 11.5p for the purchase of the initial 20% stake acquired in the purchase of Westmount Resources Limited. Acceptances for an additional 16,345,781 new Sterling shares had also been received at year-end in connection with this acquisition, although the corresponding shares were not issued until subsequent to the year-end. After taking into consideration further shares issued in relation to acceptances received subsequent to the year-end, a total of 313,245,243 new Sterling shares were issued for the Fusion acquisition. The issued ordinary share capital had increased to 822,712,323 shares at 28 April 2004. The balance sheet also includes a Â£11.6 million minority interest, being the fair value of the approximately 30% interest held by Premier in the two subsidiaries of Fusion which hold the working interests in the Mauritania contract areas. This will be released against intangible fixed assets when the conditional deal, relating to the sale of the Group's remaining interest in these subsidiaries to Premier, is fully completed. This disposal will, in substance, exchange Fusion's working interests in those contracts areas for a royalty interest which bears no further drilling or development costs, together with further 'success' payments to Sterling related to the size and number of further discoveries. The directors currently expect this conditional deal with Premier will be substantially completed in 2004/early 2005. In order to incentivise the new staff from the Fusion office in Perth and in Houston, as well as the other staff in the UK and to reflect the importance of all our operations to the success of the Group, subsequent to year -end the Board has issued approximately 18 million share options at 12.5p per share to staff, being the mid-market price at the date of grant. No amounts accrued in 2003 under the executive incentive bonus scheme approved at the AGM held in 2003. $39.5 million production purchase in February 2004 The acquisition of producing, development, pipeline and facilities from Osprey for $39.5 million as of 27 February 2004 has added over 30bcfe to our proven and probable reserves thereby more than doubling reserves and almost doubling our current production rate. This deal has resulted in Sterling becoming an operator in the Gulf of Mexico and we are expanding our office in Houston. The additional income from this purchase will impact the profit & loss from the date of completion. The funds for this deal came from a further $25.5 million bank funding from Hibernia National Bank, with the whole $27.5 million drawn under the facility being repayable in June 2006. The remainder of the consideration was met from cash resources, after deducting a $2.5 million closing adjustment, due to cash generated from these assets between effective date and completion. The loan from Hibernia includes a number of financial covenants which, amongst other matters, limits the level of funds that can be repatriated from the US to the rest of the Group in the next two years. The loan does not require any repayments before 30 June 2006, save on a voluntary basis or as a result of a standard twice-yearly borrowing base re-determination, the first of which is September 2004. The current interest rate payable is approximately 4.25%, with payments made quarterly. The bank has used a gas price for its initial borrowing base evaluation that is substantially below current prices. These fund repatriation restrictions are consistent with our desire to use the cash generated from operations principally to allow the further development of the assets and operations. The timing of a discretionary drilling programme in the Gulf of Mexico will be dependent on the funds generated and otherwise available to our operations. The key objective is to pursue a discretionary drilling and development programme aimed at enhancing asset values, which, if pursued vigorously, could require additional investment funds in excess of cash generated in some periods. For 2004/early 2005 we have to date used the futures markets to 'sell' approximately $15 million of gas at prices averaging $5.64/mcfge as part of our risk management programme. We intend to continue to progressively enter into such contracts to cover part of our forecast production. Extensive exploration and appraisal programme in West Africa projected for 2004/ 5 With its exciting portfolio of West African appraisal and exploration assets, 2004 will see a high level of activity, described elsewhere in the Operations Report. It is important to note that the expected 2004 programme offshore Mauritania of not less than 15 wells will, assuming the conditional Premier deal referred to above is completed, result in no further costs to the Group. With first oil expected by the end of 2005 this will provide an important addition to the Group cash flows, the effect of which is illustrated in the graph below, prepared by independent consulting engineers. The cash requirement for the exploration programme during the year is highly dependent on the results of the interpretation work currently being carried out on the other licences and any potential farm-outs, the result of current and proposed drilling in Guinea Bissau, and any new licences acquired. It should be noted that, at present, the committed costs for 2004 are approximately Â£1.3 million for these activities, assuming current farm-out negotiations are successful. This figure could be substantially higher if discretionary drilling is warranted and undertaken. As part of the planned increased exposure to high potential areas the Group will manage its risk-reward profile bearing in mind the resources available to it from time-to-time. Financial outlook With the increase in USA production following the Osprey deal, assuming successful drilling and with the forward gas sales entered into, the outlook is excellent for sustained further improvement in financial performance. A programme of development drilling would, if successful, further increase our commercial reserves and could result in further financial flexibility in the USA operations. Accordingly, the directors are optimistic that there will be a further improvement in results and cash generated from USA operations. The increased exposure in West Africa, especially exploration and appraisal activity in Mauritania, has laid the base for an exposure to some 20 wells by the end of 2005. New licence additions are planned. The increasing cash flow in the USA and later from Mauritania, should allow the Group to progressively build and ultimately sustain an increasing level of operational activity. An appropriate level of upside exposure in an increasingly diversified portfolio will be managed by our dedicated, growing and properly incentivised team, currently comprising a total of 27 personnel. With the Group now being one of the top 50 AIM companies in terms of market capitalisation, it is encouraging to note that Sterling has over 25 well-known institutions on its share register owning well over half of the shares and nearly 2,000 shareholders. An increased level of trading in the Sterling shares over the last year or so has also been accompanied by a reduction in the buy/ sell price differential, with resultant enhanced share liquidity. The directors intend to continue to build on these solid foundations in 2004, as they have done in 2003. The primary aim is to enhance shareholder value. Through the application of the high quality people skills available in the Group, with its improved financial condition and with the belief that the outlook in the energy sector remains excellent, the directors remain confident that Sterling's strong performance in 2003 will be maintained in the coming year. Graeme Thomson, FCA Finance Director Consolidated profit and loss account Year ended 31 December 2003 Note 2003 2002 Â£'000 Â£'000 TURNOVER Existing operations 1(c),2 5,253 22 Acquisitions 1(c),2 280 566 _______ _______ _______ 5,533 588 COST OF SALES Existing operations (2,210) (13) Acquisitions (138) (365) _______ _______ _______ (2,348) (378) _______ _______ _______ GROSS PROFIT Existing operations 3,043 9 Acquisitions 142 201 _______ _______ _______ 3,185 210 ADMINISTRATIVE EXPENSES Existing operations (1,455) (131) Acquisitions (26) (157) _______ _______ _______ (1,481) (288) _______ _______ _______ OPERATING PROFIT/(LOSS) Existing operations 1,588 (122) Acquisitions 116 44 _______ _______ _______ 1,704 (78) _______ _______ _______ Interest receivable and similar income 4 219 22 Interest payable and similar charges 5 (114) (42) _______ _______ _______ PROFIT/(LOSS) ON ORDINARY ACTIVITIES BEFORE TAXATION 3 1,809 (98) Taxation on profit/(loss) on ordinary activities 8 (228) - _______ _______ _______ PROFIT/(LOSS) ON ORDINARY ACTIVITIES AFTER TAXATION 1,581 (98) Minority interest 21 5 - _______ _______ _______ PROFIT(LOSS) FOR THE FINANCIAL YEAR 1,586 (98) ======= ======= ======== EARNINGS/(LOSS) PER SHARE : basic 10 0.38p (0.1)p ======= ======= ======== :diluted 10 0.33p (0.1)p ======= ======= ======== Consolidated balance sheet 31 December 2003 Note 2003 2002 Â£'000 Â£'000 FIXED ASSETS Intangible assets 11 49,957 4,096 Tangible assets 12 10,433 6,560 _______ _______ _______ 60,390 10,656 _______ _______ _______ CURRENT ASSETS Debtors 14 1,512 673 Cash at bank and in hand 15 14,485 7,334 _______ _______ _______ 15,997 8,007 CREDITORS: amounts falling due 16 (5,600) (1,006) within one year _______ _______ _______ NET CURRENT ASSETS 10,397 7,001 _______ _______ _______ TOTAL ASSETS LESS CURRENT LIABILITIES 70,787 17,657 CREDITORS: amounts falling due after more than one year 17 - (808) PROVISIONS FOR LIABILITIES AND CHARGES 18 (2,626) (1,939) _______ _______ _______ NET ASSETS 68,161 14,910 ======= ======= ======= CAPITAL AND RESERVES Called up equity share capital 19 7,806 3,538 Share premium account 20 50,753 13,334 Equity shares to be issued 19e, 19f 1,716 1,600 Currency translation reserve 20 (1,882) (173) Profit and loss account 20 (1,803) (3,389) _______ _______ _______ EQUITY SHAREHOLDERS' FUNDS 56,590 14,910 _______ _______ _______ Equity minority interest 21 11,571 - _______ _______ _______ TOTAL CAPITAL EMPLOYED 68,161 14,910 ======= ======= ======= Company balance sheet 31 December 2003 Note 2003 2002 Â£'000 Â£'000 FIXED ASSETS Intangible assets 11 22 18 Investments 13 47,278 8,412 _______ _______ _______ 47,300 8,430 _______ _______ _______ CURRENT ASSETS Debtors 14 7,548 1,195 Cash at bank and in hand 15 5,377 5,680 _______ _______ _______ 12,925 6,875 CREDITORS: amounts falling due 16 (3,267) (140) within one year _______ _______ _______ NET CURRENT ASSETS 9,658 6,735 _______ _______ _______ TOTAL ASSETS LESS CURRENT LIABILITIES, BEING NET ASSETS 56,958 15,165 ======= ======= ======= CAPITAL AND RESERVES Called up equity share capital 19e 7,806 3,538 Share premium account 20 50,753 13,334 Equity shares to be issued 19 1,716 1,600 Profit and loss account 20 (3,317) (3,307) _______ _______ _______ TOTAL CAPITAL EMPLOYED 56,958 15,165 ======= ======= ======= These financial statements were approved by the Board of Directors on 30 April 2004. Signed on behalf of the Board of Directors G P Thomson, FCA H G Wilson Director Director Consolidated statement of total recognised gains and losses Year ended 31 December 2003 2003 2002 Â£'000 Â£'000 Profit/(loss) for the financial year 1,586 (98) Currency translation adjustments (1,709) (209) _______ _______ _______ Total recognised losses relating to the year (123) (307) ======= ======= ======= Reconciliation of movements in Group shareholders' funds Year ended 31 December 2003 2003 2002 Â£'000 Â£'000 Profit/(loss) for the financial year 1,586 (98) Other recognised losses for the year (1,709) (209) Shares issued (net of expenses) 41,687 13,147 Shares to be issued 116 1,600 _______ _______ _______ Total movement in the year 41,680 14,440 Shareholders' funds at 1 January 14,910 470 _______ _______ _______ Shareholders' funds at 31 December 56,590 14,910 ======= ======= ======= Consolidated cash flow statement Year ended 31 December 2003 Note 2003 2002 Â£'000 Â£'000 Net cash inflow/(outflow) from operations 24 3,340 (1,104) Returns on investments and servicing of finance 25a 168 (3) Capital expenditure 25a (5,660) (79) Acquisitions 25a (690) 405 _______ _______ _______ Cash outflow before financing (2,842) (781) Financing 25a 10,925 6,574 _______ _______ _______ Increase in cash 25b 8,083 5,793 ======= ======= ======= 1 Accounting policies The principal accounting policies, which have all been applied consistently throughout the year and the preceding year, are set out below: a)Basis of accounting The financial statements are prepared under the historical cost convention, and in accordance with applicable United Kingdom accounting standards. The financial statements have also been prepared in accordance with the Statement of Recommended Practice 'Accounting for Oil and Gas Exploration, Development, Production and Decommissioning Activities' ('the SORP'). b)Consolidation The Group financial statements consolidate the results of Sterling Energy plc and its subsidiary undertakings drawn up to 31 December annually. The results of subsidiaries acquired are consolidated for the periods from which control passed. Acquisitions are accounted for under the acquisition method with goodwill, representing any excess of the fair value of the consideration given over the fair value of the identifiable assets and liabilities acquired, being capitalised within intangible assets and amortised over its estimated useful economic life. c)Turnover Turnover represents the value of the Group's share of hydrocarbon production in the year. d)Consortium accounting The Group's exploration, development and production activities are generally conducted as co-licensee in joint operations with other companies. The financial statements reflect the relevant proportions of production, capital expenditure and operating costs applicable to the Group's interests. e)Oil and gas interests The Group accounts for oil and gas exploration under the full cost basis as set out in the SORP. Licence acquisition costs, geographical and geophysical costs, costs of drilling exploration, appraisal and development wells, and an appropriate share of overheads (including appropriate directors' costs) are capitalised and accumulated in full cost pools within tangible fixed assets on a geographical basis. The Group's oil and gas assets are currently held in three cost pools, Western Europe, South East Asia and North America. Costs relating to the exploration and appraisal of oil and gas interests, which the directors consider to be unevaluated, are initially held outside the cost pool as intangible fixed assets. These costs are reassessed at each year end and when there are indications of impairment or at the conclusion of an appraisal programme the related costs are transferred to the appropriate full cost pool within tangible fixed assets. An impairment test is carried out at each balance sheet date to assess whether the net book value of the capitalised costs in each pool is covered by the associated recoverable amount, as outlined in FRS 11 'Impairment of Fixed Assets and Goodwill'. Impairment losses are recognised in the profit and loss account. Depletion is provided on balances held in each cost pool, plus the expected future costs to extract all commercial oil and gas reserves, using the unit of production method. Commercial oil and gas reserves are proven and probable oil and gas reserves as defined in the SORP. Depletion is not provided on interests held outside the cost pools. f) Depreciation of other tangible fixed assets Depreciation on other tangible fixed assets is provided at rates estimated to write off the cost, less estimated residual value, of each asset over its expected useful life as follows: Computer and office equipment - 33% straight line 1 Accounting policies (continued) g) Decommisioning Provision for decommissioning costs is recognised in accordance with Financial Reporting Standard No. 12 'Provisions, Contingent Liabilities and Contingent Assets'. Provisions are recorded at the present value of the expenditures expected to be required to settle the Group's future obligations. Provisions are reviewed at each balance sheet date to reflect the current best estimate of the cost at present value. The unwinding of the discount is reflected as a finance cost. A decommissioning asset is also established, since the future cost of decommissioning is regarded as part of the total investment to gain access to future economic benefits, and included in the relevant full cost pool. Depletion on this asset is calculated under the unit of production method based on estimated commercial reserves. h) Foreign currencies Transactions denominated in foreign currencies are translated into sterling at the rate of exchange ruling at the date of the transaction. Assets and liabilities in foreign currencies are translated into sterling at the rate of exchange ruling at the end of the financial year. All exchange differences are dealt with in the profit and loss account. The results of overseas operations are translated at the average rates of exchange during the period and their balance sheet at the rates ruling at the balance sheet date. Exchange differences arising on translation of the opening net assets and results of overseas operations are dealt with through the currency translation reserve. i) Taxation Current tax, including UK corporation tax and foreign tax, is provided at amounts expected to be paid (or recovered) using the tax rates and laws that have been enacted or substantively enacted by the balance sheet date. Deferred tax is recognised in respect of all timing differences that have originated but not reversed at the balance sheet date where transactions or events that result in an obligation to pay more tax in the future or a right to pay less tax in the future have occurred at the balance sheet date. Timing differences are differences between the Group's taxable profits and its results as stated in the financial statements that arise from the inclusion of gains and losses in tax assessments in periods different from those in which they are recognised in the financial statements. A net deferred tax asset is regarded as recoverable and therefore recognised only when, on the basis of all available evidence, it can be regarded as more likely than not that there will be suitable taxable profits from which the future reversal of the underlying timing differences can be deducted. Deferred tax is recognised in respect of the retained earnings of overseas subsidiaries only to the extent that, at the balance sheet date, dividends have been accrued as receivable or a binding agreement to distribute past earnings in future has been entered into by the subsidiary or associate. Deferred tax is measured at the average tax rates that are expected to apply in the periods in which the timing differences are expected to reverse, based on tax rates and laws that have been enacted or substantively enacted by the balance sheet date. Deferred tax is measured on a non-discounted basis. j) Investments Fixed asset investments are shown at cost less provision for impairment. k) Operating leases Rentals under operating leases are charged on a straight-line basis over the lease term, even if the payments are not made on such a basis. l) Derivative financial instruments The Group uses derivative financial instruments to manage its exposure to changes in prices of natural gas. These transactions are accounted for on an accruals basis. 2 Segment information The Group operates in one business segment, the exploration for and production of oil and gas. The Group has interests in four geographical segments, Western Europe, North America, South East Asia and Africa as follows: Western Europe North America South East Asia Africa Total ____ _____ ______ ______ ______ ______ ______ ______ ______ ____ _____ ______ ______ ______ ______ ______ ______ ______ ______ 2003 2002 2003 2002 2003 2002 2003 2002 2003 2002 Â£'000 Â£'000 Â£'000 Â£'000 Â£'000 Â£'000 Â£'000 Â£'000 Â£'000 Â£'000 Turnover* - existing operations - - 5,253 22 - - - - 5,253 22 - acquisitions - - 280 566 - - - - 280 566 ____ _____ ______ ______ ______ ______ ______ ______ ______ ____ _____ ______ ______ ______ ______ ______ ______ ______ ______ Profit/ (Loss) before taxation (237) (135) 2,063 37 - - (17) - 1,809 (98) ====== ====== ====== ====== ====== ====== ====== ====== ======= ====== ====== ====== ====== ====== ====== ====== ====== ======= ======= Net assets** 1,956 4,611 14,955 10,264 211 35 51,039 - 68,161 14,910 ====== ====== ====== ====== ====== ====== ====== ====== ======= ====== ====== ====== ====== ====== ====== ====== ====== ======= ======= * All turnover is sold to third parties within the segment of origin ** Net assets exclude intra-group financing. They include Â£45.1 million in respect of the Fusion acquisition during the year (see note 23b), of which Â£11.6 million is attributable to the minority interest (see note 21) 3 Profit/(loss) on ordinary activities before taxation Profit/(loss) on ordinary activities before taxation is stated after charging: 2003 2002 Â£'000 Â£'000 Depletion of tangible fixed assets 1,350 166 Depreciation of tangible fixed assets - other assets 34 4 Auditors' remuneration (see below) - audit fees 52 25 - further assurance services 38 56 Operating lease rentals 62 11 ====== ====== ====== Auditors' remuneration The non-audit fees shown above for 2003 were recorded as part of the cost of investment in subsidiaries as they related to the acquisition of Fusion Oil and Gas plc described in note 23(b). The non-audit fees for 2002 were recorded against the share premium account as they related to a placing and open offer in October 2002. All audit fees for both years were charged to the Company. 4 Interest receivable and similar income 2003 2002 Â£'000 Â£'000 Interest receivable and similar income 203 18 Interest receivable on restricted account (see note 15) 5 4 Other 11 - ______ ______ ______ 219 22 ====== ====== ====== 5 Interest payable and similar charges 2003 2002 Â£'000 Â£'000 Interest and fees arising on bank loans 41 21 Unwinding of discount on provisions (see note 18) 73 21 ______ ______ ______ 114 42 ====== ====== ====== 6 Employee information The average monthly number of employees (including executive directors) during the year was 10 (2002 - 2). Due to the small size of the Company there is no formal classification of duties. Employee costs during the year (including executive directors) amounted to: 2003 2002 Â£'000 Â£'000 Wages and salaries 1,006 132 Social security costs 66 4 ______ ______ ______ 1,072 136 ====== ====== ====== Included within wages and salaries above is Â£180,000 (2002 - Â£23,000) which has been capitalised. The Group does not provide pension arrangements or make pension contributions for its directors or staff. 7 Directors' remuneration Aggregate remuneration Directors' remuneration consists of the following: Fees / basic Bonus Benefits in Total Total salary kind 2003 2002 Â£ Â£ Â£ Â£ Â£ Executive directors H.G. Wilson 100,000 90,000 - 190,000 44,374 G.P. Thomson 100,000 65,000 2,546 167,546 25,269 N.A. Quinton 100,000 65,000 - 165,000 20,430 Non-executive directors R.A. O'Toole 30,000 10,000 - 40,000 12,875 P.K. Wilde 15,000 - - 15,000 27,837 Dr E. J. Butler 15,000 - - 15,000 17,837 ___________ ________ ________ ________ ___________ ________ ________ ________ ________ Aggregate emoluments 360,000 230,000 2,546 592,546 148,621 =========== ======== ======== ======== =========== ======== ======== ======== ======== The Company provides limited directors' and officers' liability insurance, at a cost of approximately Â£9,000 in 2003 (2002 - Â£7,000). This cost is not included in the above table. Details of directors' interests in the issued shares of the Company are shown in the Directors' report. 7. Directors' remuneration (continued) Directors' and staff share options Details of options to acquire ordinary shares in the Company under the scheme approved in 2001 are as follows: At 01 Jan Granted At 31 Dec Exercise Exercise period 2003 2003 price H.G.Wilson 700,000 - 700,000 4p Up to 24 July 2011 4,300,000 - 4,300,000 4p Up to 18 October 2012 - 2,900,000 2,900,000 7p 18 January 2005 to 18 January 2013 _________ _________ _________ _________ _________ 5,000,000 2,900,000 7,900,000 G.P. Thomson 700,000 - 700,000 4p Up to 24 July 2011 4,300,000 - 4,300,000 4p Up to 18 October 2012 - 1,700,000 1,700,000 7p 18 January 2005 to 18 January 2013 _________ _________ _________ _________ _________ 5,000,000 1,700,000 6,700,000 N.A. Quinton - - - 4p Up to 24 July 2011 5,000,000 - 5,000,000 4p Up to 18 October 2012 - 1,900,000 1,900,000 7p 18 January 2005 to 18 January 2013 _________ _________ _________ _________ _________ 5,000,000 1,900,000 6,900,000 R.A. O'Toole 700,000 - 700,000 4p Up to 24 July 2011 4,300,000 - 4,300,000 4p Up to 18 October 2012 - 1,250,000 1,250,000 7p 18 January 2005 to 18 January 2013 _________ _________ _________ _________ _________ 5,000,000 1,250,000 6,250,000 P.K. Wilde 250,000 - 250,000 4p Up to 24 July 2011 1,250,000 - 1,250,000 4p Up to 18 October 2012 _________ _________ _________ _________ _________ 1,500,000 - 1,500,000 Dr E.J. Butler 250,000 - 250,000 4p Up to 24 July 2011 1,250,000 - 1,250,000 4p Up to 18 October 2012 _________ _________ _________ _________ _________ 1,500,000 - 1,500,000 Other grantees 50,000 - 50,000 4p Up to 24 July 2011 3,250,000 - 3,250,000 4p Up to 18 October 2012 - 1,250,000 1,250,000 7p 18 January 2005 to 18 January 2013 _________ _________ _________ _________ _________ 3,300,000 1,250,000 4,550,000 _________ _________ _________ _________ _________ 26,300,000 9,000,000 35,300,000 ========= ========= ========= ========= ========= 7. Directors' remuneration (continued) No options were exercised or lapsed during the year. At 31 December 2002, the directors also had the following warrants or interests in warrants to subscribe for further shares at 6p each no later than 30 June 2003: 125,000 for Dr Butler, 1,664,799 for Mr O'Toole, 1,738,134 for Mr Quinton, 1,241,997 for Mr Thomson, 161,000 for Mr Wilde and 3,683,014 for Mr Wilson. All these warrants or interests in warrants were disposed of on 13 May 2003. The mid-market price of the ordinary shares at 31 December 2003 was 10.5p (2002: 7.0p) and the range during the year was 5.75p to 13.125p (2002: 3.6p to 7.5p). 8 Taxation The Group tax charge comprises: 2003 2002 Â£'000 Â£'000 - Current tax - - Deferred tax - origination and reversal of timing differences 228 - ______ _______ 228 - ______ ______ _______ The difference between the current tax charge of Â£nil and the amount calculated by applying the applicable standard rate of tax is as follows: 2003 2002 Â£'000 Â£'000 Profit/(loss) on ordinary activities before tax 1,809 (98) Tax on profit/(loss) on ordinary activities at standard US corporation tax rate of 34% (2002: 35%) 615 (34) Effects of: Expenses not deductible for tax purposes 64 32 Capital allowances (in excess of)/exceeded by depreciation (791) 52 Other temporary differences 12 (17) Difference in overseas tax rates 1 (1) Adjustment for tax losses 99 (32) ______ ______ _______ Current tax charge for the year - - ====== ====== ======= During 2002 and 2003, the Group generated its results primarily in the US. Therefore the tax rate in the above reconciliation for 2002 and 2003 is the standard rate for US corporation tax. 9 Loss attributable to Sterling Energy plc The loss for the financial year dealt with in the accounts of Sterling Energy plc was Â£10,000 (2002 - loss of Â£95,000). As provided by s230 of the Companies Act 1985, no profit and loss account is presented in respect of Sterling Energy plc. 10 Earnings per share The calculation of basic earnings per share is based on the profit for the financial year of Â£1,586,000 (2002 - loss of Â£98,000) and on 417,759,246 (2002 - 90,983,836) ordinary shares, being the weighted average number of ordinary shares in issue. The calculation of diluted earnings per share is based on the profit for the financial year as for basic earnings per share. The number of shares outstanding is adjusted as follows: 2003 Number of shares For basic earnings per share 417,759,246 Exercise of options 16,545,643 Exercise of warrants 3,192,172 Conversion of 2002 shares to be issued into ordinary shares (see note 19f) 40,000,000 Issue of remaining shares related to Fusion acquisition (see note 23b) 2,421,390 ___________ For diluted earnings per share 479,918,451 =========== In 2002 diluted earnings per share was the same as basic earnings per share as the effect of potential ordinary shares was anti-dilutive. 11 Intangible fixed assets - unevaluated oil and gas interests Group Company Â£'000 Â£'000 ______ _______ At 1 January 2003 4,096 18 Acquisition of subsidiary undertakings (see note 23b) 45,797 - Additions 498 4 Currency translation adjustment (434) - ______ ______ _______ At 31 December 2003 49,957 22 ====== ======= Group net book value at 31 December 2003 comprises Â£3,765,000 for North America, Â£62,000 for Western Europe, Â£211,000 for South East Asia, and Â£45,919,000 for Africa. Group net book value at 31 December 2002 comprised Â£4,037,000 for North America, Â£24,000 for Western Europe and Â£35,000 for South East Asia. 12 Tangible fixed assets Oil and gas Computer & office Total interests equipment Â£'000 Â£'000 Â£'000 Group Cost At 1 January 2003 6,719 51 6,770 Acquisition of subsidiary undertakings (see note 23b) - 208 208 Additions 5,720 48 5,768 Currency translation adjustment (784) - (784) ________ ________ ________ ________ ________ At 31 December 2003 11,655 307 11,962 ________ ________ ________ ________ ________ Accumulated depreciation At 1 January 2003 206 4 210 Charge for the year 1,350 34 1,384 Currency translation adjustment (65) - (65) ________ ________ ________ ________ ________ At 31 December 2003 1,491 38 1,529 ________ ________ ________ ________ ________ Net book value At 31 December 2003 10,164 269 10,433 ======== ======== ======== ======== ======== At 1 January 2003 6,513 47 6,560 ======== ======== ======== ======== ======== The net book value of oil and gas interests at 31 December 2003 comprises Â£10,140,000 (2002: Â£6,489,000) and Â£24,000 (2002: Â£24,000) relating to the North America and Western Europe cost pools respectively. 13 Fixed asset investments - investment in subsidiaries Company Â£'000 _______ Cost At 1 January 2003 8,412 Additions 38,866 _______ At 31 December 2003 47,278 ======= 13. Fixed asset investments - investment in subsidiaries (continued) Principal investments In September 2003, the Company acquired 100% of the issued capital of Westmount Resources Limited ('Westmount') for a total consideration of Â£8,208,125 satisfied by the issue of ordinary shares. Westmount is incorporated in Jersey and holds an investment of approximately 20.40% of the issued share capital of Fusion Oil and Gas plc ('Fusion'). In December 2003, the Company announced that its offer for the whole of the remaining share capital of Fusion had become unconditional in all respects. The total consideration in respect of the Fusion acquisition, including the shares acquired via the Westmount transaction described above, was Â£39,538,000 and was paid and payable in a combination of shares and cash. The company only addition shown above is inclusive of an intercompany loan inherited at acquisition which is eliminated on group consolidation. Fusion is incorporated in the United Kingdom and is an oil and gas exploration company with various subsidiary undertakings with beneficial interests in Western Africa. Further details of these acquisitions are provided in note 23. Following these acquisitions, as at 31 December 2003 the parent company had investments in the following subsidiary undertakings which principally affected the assets or profits of the Group: Proportion of Country of Class of voting incorporation shares rights held held Nature of business LEPCO Oil & Gas Canada Canada Ordinary 100% Exploration for & production of Ltd. oil and gas Sterling Energy (UK) UK Ordinary 100% Exploration for of oil and Limited gas Sterling Energy, USA Ordinary 100% Exploration for & production of Inc.* oil and gas Westmount Resources USA Ordinary 100% Exploration for & production of Inc. oil and gas Westmount Resources Limited Jersey, C.I. Ordinary 100% Investment Fusion Oil & UK Ordinary 100%** Investment holding company Gas plc Fusion Oil & Australia Ordinary 100%** Exploration for oil and gas Gas NL*** Fusion Northwest Africa Holdings Limited*** Jersey, C.I. Ordinary 100%** Investment holding company Fusion Mauritania A Jersey, C.I. Ordinary 70.1%** Exploration for oil and gas Limited **** Fusion Mauritania B Jersey, C.I. Ordinary 70.1%** Exploration for oil and gas Limited **** Fusion Cameroon Jersey, C.I. Ordinary 100%** Exploration for oil and gas Limited **** Fusion Croix du Sud Jersey, C.I. Ordinary 100%** Exploration for oil and gas Limited **** Fusion Cheval Marin Jersey, C.I. Ordinary 100%** Exploration for oil and gas Limited **** Fusion Dome Flore Jersey, C.I. Ordinary 100%** Exploration for oil and gas Limited **** Fusion Oil & Gas (Iris Marin) Jersey, C.I. Ordinary 100%** Exploration for oil and gas Limited **** Fusion Oil & Gas (Themis Jersey, C.I. Ordinary 100%** Exploration for oil and gas Marin) Limited **** Iris Marin Holdings Jersey, C.I. Ordinary 100%** Exploration for oil and gas Limited **** Themis Marin Holdings Jersey, C.I. Ordinary 100%** Exploration for oil and gas Limited **** * Held through Sterling Energy (UK) Limited ** After taking into account the conversion of 7% of shares held by minority shareholders of Fusion Oil & Gas plc subsequent to year-end (see note 21) *** Held directly by Fusion Oil & Gas plc ****Held directly or indirectly through Fusion Northwest Africa Holdings Limited 14 Debtors Group Company _____________ _____________ 2003 2002 2003 2002 Â£'000 Â£'000 Â£'000 Â£'000 Trade debtors 754 520 1 14 Amounts owed by subsidiary undertakings - - 7,477 1,148 Other debtors 300 33 65 25 Prepayments and accrued income 458 120 5 8 _____ _____ _____ _____ _____ _____ 1,512 673 7,548 1,195 ===== ===== ===== ===== ===== ===== 15 Cash at bank and in hand Included in cash at bank and in hand for the Group is an amount of approximately Â£856,000 (2002 - Â£858,000) held in a restricted account to be used for the sole purpose of the payment of decommissioning costs on two US producing licences. 16 Creditors: Amounts falling due within one year Group Company _____________ _____________ 2003 2002 2003 2002 Â£'000 Â£'000 Â£'000 Â£'000 Bank loan (see below) 1,117 435 - - Trade creditors 671 233 62 44 Other taxation and social security 18 6 - - Other creditors 37 - - - Accruals and deferred income 1,053 332 501 96 Deferred consideration (see note 23b) 2,704 - 2,704 - _____ _____ _____ _____ _____ _____ 5,600 1,006 3,267 140 ===== ===== ===== ===== ===== ===== Sterling Energy, Inc. has entered into a US$10,000,000 revolving credit facility and mortgage with Hibernia National Bank in the USA (the 'facility'). The amount that can be drawn under this facility is determined by a twice yearly borrowing base calculation which at the end of 2003 was $2,750,000. At 31 December 2003, $2,000,000 (Â£1,117,000) had been drawn down under this facility, all of which was due in less than one year (2002 - Â£435,000) and Â£nil was due between one and two years (2002 - Â£808,000). In addition, a further $175,000 (2002 - $175,000) is pledged under a letter of credit. The mortgage is secured by a floating charge over certain of the tangible net assets of Sterling Energy, Inc. and is non-recourse to the rest of the Group, although an intra-group loan of approximately Â£5.328 million (2002 - Â£3.83 million) is subordinated to the facility. Interest is payable at a margin over either the Eurodollar rate or the Wall Street Journal Prime Rate at the preference of Sterling Energy, Inc. The mortgage also includes certain financial and non-financial covenants. 17 Creditors: Amounts falling due after more than one year Group _____________________ Bank loan (see note 16) 2003 2002 Â£'000 Â£'000 Between one and two years - 808 ===== ===== ===== 18 Provisions for liabilities and charges Group _____________________ 2003 2002 Â£'000 Â£'000 Decommissioning 2,412 1,939 Deferred tax 214 - _____ _____ ______ 2,626 1,939 _____ _____ ______ Decommissioning 2003 Â£'000 At 1 January 2003 1,939 Adjustments to estimates 601 Unwinding of discount 73 Currency translation adjustment (201) ______ At 31 December 2003 2,412 ====== The amount shown above represents the estimated costs for decommissioning the Group's producing interests in North America, which are expected to occur between 2009 and 2017. Deferred taxation 2003 Â£'000 At 1 January 2003 - Charged to profit and loss account 228 Currency translation adjustment (14) ____ At 31 December 2003 214 ==== The provision at 31 December 2003 consists of the following: Â£'000 Accelerated capital allowances 1,023 Tax losses available (809) ____ 214 ==== A deferred tax asset of Â£1,536,956 (2002:Â£918,438), primarily related to tax losses carried forward, has not been recognised. This amount principally relates to the UK and Australia. The Australian asset (Â£568,194) has not been recognised as the losses principally relate to activities prior to the acquisition of Fusion and there is insufficient certainty that the Group can offset these losses against future taxable profits. The UK asset (Â£894,866) has not been recognised as there is insufficient certainty that future taxable profits will arise to offset the losses which give rise to this asset. 19 Called up equity share capital 2003 2002 Â£'000 Â£'000 Authorised: 1,250,000,000 ordinary shares of 1p 12,500 12,500 ====== ====== ====== Called up, allotted and fully paid: 780,626,248 ordinary shares of 1p each (2002 - 353,792,382 ordinary shares of 1p each) 7,806 3,538 ====== ====== ====== Movements during the year were as follows: a. 24,683,108 new ordinary shares with a nominal value of Â£246,831 were issued from the exercise of warrants at 6p per share, before their expiry on 30 June 2003. b. 82,500 new ordinary shares with a nominal value of Â£825 were issued to an employee at 6p per share as part of his employment agreement. c. 71,375,000 new ordinary shares (the 'Westmount shares') with a nominal value of Â£713,750 were issued at 11.5p per share, under an agreement dated 19 September 2003 and completed on 26 September 2003, under which the Company purchased the whole of the issued share capital of Westmount Resources Limited, whose assets principally comprised an approximately 20% interest in the ordinary share capital of Fusion Oil & Gas plc ('Fusion'). d. 90,909,090 new ordinary shares with a nominal value of Â£909,091 were issued on 1 October 2003 under a placing at a price of 11p per share. This placing raised a total of Â£10.0 million before expenses in order to provide funds to cover the expenses of this placing and to meet any costs and the maximum cash elements of making an offer to the shareholders of Fusion ('the Offer'), as described in a circular dated 1 October 2003. e. 199,784,168 new ordinary shares with a nominal value of Â£1,997,842 were issued as partial satisfaction of the Offer, between the date it was declared unconditional on 10 December 2003 and the end of the year. The fair value of the shares at 10 December 2003 was 10.5p. In addition, acceptances for an additional 16,345,781 shares had also been received by year end, the fair value of Â£1,716,000 has been classified as 'Shares to be issued' in the balance sheet. In conjunction with the Westmount shares, described in c. above, as of 31 December 2003 the Company either owned or had acceptances for approximately 93% of the issued ordinary share capital of Fusion. Since then these shares to be issued and a further 25,740,294 new ordinary shares have been issued and the compulsory purchase procedure has been completed , thereby acquiring all of the issued share capital of Fusion. f. 40,000,000 new ordinary shares with a nominal value of Â£400,000 were issued on 31 December 2003 at 4p per share, being the final payment for the purchase of Sterling Energy Limited (now called Sterling Energy (UK) Limited) in October 2002. No warranty claims arose and accordingly the full number of shares arising under the agreement were issued. The fair value of these shares at 31 December 2002 of Â£1.6 million was classified as 'Shares to be issued' in the prior year comparatives. 20 Reserves Group Share Currency translation Profit and loss Total premium account account account Â£'000 Â£'000 Â£'000 Â£'000 At 1 Janary 2003 13,334 (173) (3,389) 9,772 Premium on shares 38,003 - - 38,003 issued Expenses of share issues (584) - - (584) Currency translation adjustments - (1,709) - (1,709) Profit for the - - 1,586 1,586 year _______ __________ ______________ _______ __________ ______________ ________ At 31 December 50,753 (1,882) (1,803) 47,068 2003 ======= ========== ============= ======= ========== ============= ======== Company Share Profit and loss account Total premium account Â£'000 Â£'000 Â£'000 At 1 January 2003 13,334 (3,307) 10,027 Premium on shares issued in year 38,003 - 38,003 Expenses of share issues (584) - (584) Loss for the year - (10) (10) ______ _______________ ______ _______________ ________ At 31 December 2003 50,753 (3,317) 47,436 ====== =============== ====== =============== ======== 21 Equity minority interest Â£'000 At 1 January 2003 - Acquisition of subsidiary undertaking (see note 23b) 11,571 _______ At 31 December 2003 11,571 ======= The above represents a 29.9% third party interest in the fair value of the entities that hold the Group's interests in Mauritania, Fusion Mauritania A Limited and Fusion Mauritania B Limited. In addition there was deferred consideration of Â£2.7 million at 31 December 2003 relating to the 7% of shares in Fusion Oil & Gas plc still held by minority shareholders at that date, which is classified within creditors due within one year. The minority interest in the profit and loss account of Â£5,000 represents their share of the results of the group headed by Fusion in the period between 10 December and 31 December 2003. 22 Financial commitments (a) Annual commitments under non-cancellable operating leases are as follows: Group Land and Buildings Land and Buildings 2003 2002 Â£'000 Â£'000 Operating leases with an option to terminate between two and five years 107 52 ======= ======= ======= (b) Exploration expenditure commitments are as follows: ______________ 2003 2002 Â£'000 Â£'000 Due within one year 3,477 - Due later than one year but within two years 1,017 - ______________ 4,494 - ______________ In acquiring its oil and gas interests the Group has pledged that various work programmes will be undertaken on each permit/interest. The exploration commitments above are an estimate of the cost of performing these work programmes. Commitments shown as due within one year include Â£3,217,000 of costs that it is anticipated will be met by Joint Venture Partners under farmout agreements currently under negotiation. 23 Acquisition of subsidiary undertakings (a) Westmount Resources Limited On 19 September 2003, the Company announced that it had agreed to acquire Westmount Resources Limited ('Westmount'), a wholly owned subsidiary of Westmount Energy Limited. Westmount's assets consisted of 20,000,000 ordinary shares of 1p each in Fusion Oil and Gas plc and 500,000 partly paid ordinary shares in Fusion Oil and Gas NL, a wholly owned subsidiary of Fusion Oil and Gas plc. The consideration payable was 71,375,000 new ordinary shares of 1p each in the Company, comprising 70,000,0000 shares as payment for the 20,000,000 Fusion Oil and Gas plc shares with the balance of 1,375,000 shares being payment for the partly paid shares. The fair value of Sterling's shares at the date of acquisition was 11.5p. The assets and liabilities of Westmount at the date of acquisition and the total consideration are set out in the following table: Book value Fair value adjustments Fair value Â£'000 Â£'000 Â£'000 Assets Investment in Fusion 1,027 7,186 8,213 Liabilities Creditors (5) - (5) _______ _______ _______ Net assets 1,022 7,186 8,208 ======= ======= ======= Satisfied by: Issue of ordinary shares at fair value 8,208 ======= The fair value of consideration of Â£8.2 million shown above is included within the fair value of consideration in respect of the acquisition of Fusion of Â£39.5 million described in note 23(b) below. Westmount's unaudited management accounts indicate that there was neither a profit nor loss incurred for the period from 1 July 2002 to the effective date of acquisition. Results for the year ended 30 June 2002 were not made available to the Group at the time of the acquisition. (b) Fusion Oil & Gas plc On 12 September 2003, the Company announced that it had approached the board of Fusion with the possibility of an offer for the entire share capital of Fusion. A formal offer was made by the Company to the shareholders of Fusion on 1 October 2003 consisting of either 3.5 Sterling shares for each Fusion share, or 10p in cash and 2.5 Sterling shares for each Fusion share or an election for a higher cash amount. On 4 December 2003 the Company announced that it either owned or had received valid acceptances for approximately 51.37% of the issued Fusion shares. On 10 December 2003 the Company announced that its offer for the whole of the issued and to be issued share capital of Fusion had become unconditional in all respects. The mid-market share price of Sterling shares at that date was 10.5p and has been used to compute the fair value set out below. The assets and liabilities of Fusion and its subsidiaries (the 'Fusion group') at the date of acquisition and the total consideration are set out in the following table: Book Fair value adjustments Fair value value Â£'000 Â£'000 Â£'000 Assets Intangible fixed assets 11,579 34,218 45,797 Tangible fixed assets 208 - 208 Debtors 113 - 113 Cash at bank and in hand 5,238 - 5,238 ______ ______ ______ ______ ______ 17,138 34,218 51,356 Liabilities Creditors (247) - (247) Minority interest (1,741) (9,830) (11,571) ______ ______ ______ ______ ______ Net assets 15,150 24,388 39,538 Satisfied by: Issue of ordinary shares at fair value 29,185 Shares to be issued 1,716 Deferred consideration 2,709 Cash (including costs of the acquisition) 5,928 ______ 39,538 ====== 23. Acquisition of subsidiary undertakings (continued) (b) Fusion Oil & Gas plc (continued) The fair value adjustments to the fixed assets acquired were determined by the directors, having regard to reports by independent petroleum consulting engineers. 'Shares to be issued' represents the fair value of shares issued subsequent to year end but for which valid acceptances had been received by 31 December 2003. In conjunction with shares issued by that date, Sterling held an interest of 93% in Fusion at year end. The remaining 7% minority shareholders were acquired subsequent to year end for a combination of Sterling shares and cash. The fair value of this deferred consideration amounted to Â£2.7 million and has been recorded in creditors due within one year (see note 16). From the effective date of acquisition on 10 December 2003 to 31 December 2003 the Fusion group contributed an operating loss of Â£26,000 to the Group and a loss of Â£17,000 to the Group's loss on ordinary activities before taxation. The profit after tax of the Fusion group for the year to 30 June 2003 was Â£3,219,855 of which Â£636,856 is related to exceptional operating income and Â£4,235,663 related to the profit on the partial sale of a subsidiary undertaking. For the period from 1 July to 9 December 2003 the Fusion group made a loss after tax of Â£1,534,438.The summarised profit and loss account for the period from 1 July to 9 December 2003, shown on the basis of the accounting policies of Fusion prior to the acquisition, were as follows: 1 July to 9 December 2003 Â£'000 Turnover - Cost of sales (147) ________ Gross loss (147) Other operating expenses (1,574) ________ Operating loss (1,721) Interest income 4 Interest payable - Foreign exchange gains 183 ________ Loss on ordinary activities before and after tax (1,534) ======== There were no recognised gains and losses for the period other than the loss shown above. (c) Other During the year the Group acquired a 60% interest in the Eugene Island 268 lease offshore Louisiana. The consideration of Â£98,000 related to this asset transaction is included within additions to oil and gas interests in note 12. 24 Reconciliation of operating profit/(loss) to net cash inflow/(outflow) from operations 2003 2002 Â£'000 Â£'000 Operating profit/(loss) 1,704 (78) Depreciation and depletion 1,384 170 Increase in debtors (726) (334) Increase/(decrease) in creditors 978 (862) _____ _____ _____ Net cash inflow/(outflow) from operations 3,340 (1,104) ===== ===== ===== 25 Notes to the cash flow statement (a) Gross cash flows 2003 2002 Â£'000 Â£'000 Returns on investments and servicing of finance Interest received 209 18 Interest paid (41) (21) _____ _____ _____ Net cash inflow/(outflow) 168 (3) ===== ===== ===== Capital expenditure Purchase of intangible fixed assets (498) (33) Purchase of tangible fixed assets (5,162) (46) _____ _____ _____ Net cash outflow (5,660) (79) ===== ===== ===== Acquisitions (see note 23) Purchase of subsidiary undertakings (5,928) (202) Cash acquired with subsidiary undertakings 5,238 607 _____ _____ _____ Net cash (outflow)/inflow (690) 405 ===== ===== ===== Financing Issue of ordinary shares, net of expenses 10,925 6,574 ===== ===== ===== Companies acquired in the year contributed Â£49,000 to the Group's net operating cash outflows, received Â£9,000 in respect of net returns on investment and servicing of finance, utilised Â£28,000 for capital expenditure and generated Â£nil in respect of net financing. During 2003, the Group also completed material mainly non-cash transactions, being the acquisition of Westmount Resources Limited for shares and the acquisition of Fusion Oil and Gas plc principally for shares (see note 23). 25. Notes to the cash flow statement (continued) (b) Analysis and reconciliation of net funds Group 1 Cash Other non-cash Exchange 31 January flow changes movement December 2003 2003 Â£'000 Â£'000 Â£'000 Â£'000 Â£'000 Cash in hand and at bank* 6,476 8,083 - (930) 13,629 _______ _______ _______ _______ _______ _______ _______ _______ ______ Debt due after 1 year (808) - 726 82 - Debt due within 1 year (435) - (726) 44 (1,117) _______ _______ _______ _______ _______ _______ _______ _______ ______ Net funds (debt) 5,233 8,083 - (804) 12,512 ======= ======= ======= ======= ======= ======= ======= ======= ======= * The cash balance at 31 December 2003 excludes Â£ 856,000 of restricted cash (2002 - Â£858,000) as described further in note 15. 2003 2002 Â£'000 Â£'000 Increase in cash in the year 8,083 5,793 Translation difference (804) 166 Loans acquired with subsidiary undertakings - (1,292) _____ _____ _____ Movement in net funds in year 7,279 4,667 Net funds at 1 January 5,233 566 _____ _____ _____ Net funds at 31 December 12,512 5,233 ===== ===== ===== 26 Post balance sheet events On 27 February 2004, the Company announced that it had concluded the acquisition of five producing gas fields in the Gulf of Mexico, USA from Osprey Petroleum Partners LP for $39.5 million in cash. The fields are located in shallow water, offshore Texas, in the Gulf of Mexico, and include the associated gas gathering system and onshore facilities. The consideration was paid in cash with an effective date of 1 November 2003 and was funded from a new bank loan facility from Hibernia National Bank of $27.5 million and from internal cash resources. The loan, which is repayable on or before 30 June 2006, contains a number of normal conditions such as a twice yearly borrowing base review and limitation on cash usage elsewhere in the Group and carries a current interest rate of 4.25%. Included in other debtors at 31 December 2003, was an amount of Â£220,000 due for repayment by 10 April 2004 under an interest bearing loan secured by mortgages against a number of producing properties owned by the operator of certain of Sterling's producing assets. This loan was not repaid by the due date or as of the date of these financial statements. Also at the year-end a further Â£117,000 was owed to Sterling from the same entity for net production revenues, which are recorded within trade debtors and which has not yet been settled. As of the date of these financial statements the amount owed to the Group for net production revenues, based on estimates to the end of March 2004, had increased to approximately Â£350,000. The directors have not made any provision in respect of the above debtors in the financial statements for a number of reasons, including the potential for initiating legal action to enforce the mortgages, currently under consideration by the Group, the value of the assets secured by the mortgages being estimated to be significantly in excess of the carrying value of the loan and the directors' understanding that the operator is progressing with a refinancing to improve its financial position. Action taken subsequent to the year end to limit the Group's financial exposure has included taking over operatorship of some of the fields and, since March, selling its share of production with payment made directly to itself. In March 2004, 17,950,000 share options were issued to employees at 12.5p per share, all with an exercise period of no longer than 10 years from the date of grant and not exercisable within the first two years. 27. Derivatives and other financial instruments This note provides the narrative and numerical disclosures required by FRS 13 'Derivatives and Other Financial Instruments: Disclosures'. As permitted by FRS 13, short term debtors and creditors have been excluded from the disclosures, other than the currency disclosures. The Group's objective and policy is to use financial instruments to manage its risk profile commensurate with the complexity of its underlying operations. During the year, the Group's financial assets and liabilities consisted of : â€¢ Cash at bank and in hand (see note 15) â€¢ Short term loan facility with Hibernia National Bank (see notes 16 and 17) â€¢ Short term gas commodity swaps using forward sales contracts in the gas trading markets These are used to manage the working capital requirements of the Group. The main risks arising from the Group's operations are interest rate risk, gas price risk and foreign currency translation risk. The Group monitors risk on a regular basis and takes appropriate measures to ensure risks are managed in a controlled manner. Interest rate risk The Group's financial assets and liabilities accrue interest at prevailing floating rates in either the United States of America or the United Kingdom, as described further below. The Group does not currently use derivative instruments to manage its interest rate risk although it continues to monitor the need for such instruments on an ongoing basis. Gas price risk The Group uses natural gas hedging instruments (forward sales) to manage exposure to volatility in gas prices. At the end of 2003 it had entered into hedging transactions for a number of months in 2004 covering part of its projected production. Foreign currency translation risk The functional currency of the oil and gas producing activities of the Group is US$ and of its management, services and treasury functions is Â£ sterling. Balances are held in US$ and A$ to meet immediate local operating or administrative needs. At the end of 2003 there were no material monetary liabilities or assets not denominated in the functional currency of the subsidiary involved, except for intra-group financings. The Group does not enter into derivative transactions to manage its foreign currency translation or transaction risk. Interest rate risk profile of financial assets and liabilities Financial assets 2003 2002 Â£'000 Â£'000 Pounds sterling (Â£) 10,148 6,476 United States dollars (US$) 4,109 858 Other 228 - ______ ______ ______ At 31 December 14,485 7,334 ====== ====== ====== At 31 December 2003 the Group's financial assets principally comprised cash at bank and in hand under its control of Â£13,629,000 (2002 - Â£6,476,000), which forms the majority of its working capital. This balance relates to deposits placed with banking institutions that are available on demand or within seven days, which are principally denominated in pounds sterling and which carry interest at prevailing United Kingdom deposit floating rates. The group's financial assets also include restricted cash balances denominated in US$ of Â£856,000 (2002 - Â£858,000) as disclosed in note 15 which bear interest at the prevailing US$ bank floating rate. Derivatives and other financial instruments (continued) Financial liabilities At 31 December 2003 the Group's financial liabilities comprised a US$10 million revolving credit loan facility. A summary of the loan facility available to the Group at 31 December 2003, including its maturity profile and interest rate profile, is set out in note 16. Fair values The fair values of the Group's financial assets and liabilities at 31 December 2003 and 31 December 2002 are materially equivalent to their carrying value, save for forward gas swaps entered into for 2004 which, when compared to the forward market prices prevailing at the balance sheet date, showed a fair value loss of US$95,000; Â£53,068 (2002 - US$138,000; Â£85,720). Extraction of financial information The financial information set out above does not constitute statutory accounts within the meaning of section 240 of the Companies Act 1985. Statutory accounts for 2002 have been delivered to the Registrar of Companies, and those for 2003 will be delivered following the Company's Annual General Meeting. The statutory accounts for 2003 were approved by the Board on 30 April 2004. The auditors have reported on those accounts; their report was unqualified and did not contain statements under s237(2) and (3) of the Companies Act 1985. The auditors have also reported on the accounts for the year ended 31 December 2002; their report was unqualified and did not contain statements under s237(2) and (3) of the Companies Act 1985. This information is provided by RNS The company news service from the London Stock Exchange BDPK

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