xbor_424b3-031612.htm
 
 
Filed Pursuant to Rule 424(b)(3)
Registration No. 333-175761

 
PROSPECTUS SUPPLEMENT NO. 8 TO PROSPECTUS DATED AUGUST 2, 2011
 
THE DATE OF THIS SUPPLEMENT IS MARCH 16, 2012
________________________________________________________________________
 
CROSS BORDER RESOURCES, INC.
7,209,375 Shares of Common Stock

 
This Prospectus Supplement No. 8 supplements the information previously provided in the prospectus dated August 2, 2011(including any supplements thereto, the “Prospectus”) relating to the resale by selling stockholders identified therein of up to an aggregate of 7,209,375 shares of common stock of Cross Border Resources, Inc.
 
This Prospectus Supplement is filed to update and supplement the information included or incorporated by reference in the Prospectus with the information contained in our current report on Form 10-K, filed with the Securities and Exchange Commission on March 15, 2012.
 
This Prospectus Supplement is not complete without the Prospectus and should be read in conjunction with the Prospectus which is required to be delivered with this Prospectus Supplement.  The attached information modifies and supersedes, in part, the information in the Prospectus.  Any information that is modified or superseded in the Prospectus shall not be deemed to constitute a part of the Prospectus, except as modified or superseded by this Prospectus Supplement.
 
You should consider carefully the risks that we have described in the section entitled “Risk Factors” beginning on page 2 of the Prospectus before deciding whether to invest in our common stock.
 
Neither the Securities and Exchange Commission nor any state securities commission has approved or disapproved of these securities or determined if this prospectus is truthful or complete. Any representation to the contrary is a criminal offense.

 
 

 
 


 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-K

(Mark One)
x ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended December 31, 2011

o TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from _____to _____

COMMISSION FILE NUMBER 000-52738

CROSS BORDER RESOURCES, INC.
(Exact name of registrant as specified in its charter)

NEVADA
 
98-0555508
State or other jurisdiction of incorporation or organization
 
(I.R.S. Employer Identification No.)
     
22610 US Highway 281 N., Suite 218
   
San Antonio, TX
 
78258
(Address of principal executive offices)
 
(Zip Code)
     
Registrant’s telephone number, including area code:
 
(210) 226-6700
     
Securities registered pursuant to Section 12(b) of the Act:
 
NONE
     
Securities registered pursuant to Section 12(g) of the Act:
 
Common Stock, $0.001 Par Value Per Share.

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined by Rule 405 of the Securities Act.
Yes o No x

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.
Yes o No x

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No o

Indicate by check mark whether the registrant has submitted electronically and posted on its’ corporate Web site, if any, every Interactive Date File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files.
Yes x No o

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (s229.405 of this chapter) is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
 
Large accelerated filer o
 
Accelerated filer o
Non-accelerated filer o (Do not check if a smaller reporting company)
 
Smaller reporting company x

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). Yeso No x

State the aggregate market value of the voting and non-voting common equity held by non-affiliates computed by reference to the price at which the common equity was sold, or the average bid and asked price of such common equity, as of the last business day of the registrant’s most recently completed second fiscal quarter: $23,457,310 as of June 30, 2011, based on the closing price of $2.14 as quoted by the OTC Bulletin Board on that date.

Indicate the number of shares outstanding of each of the registrant’s classes of common stock, as of the latest practicable date. As of March 9, 2012, the Registrant had 16,151,946 shares of common stock outstanding.
 


 
 

 
 
CROSS BORDER RESOURCES, INC.
 
ANNUAL REPORT ON FORM 10-K
FOR THE YEAR ENDED DECEMBER 31, 2011
 
TABLE OF CONTENTS
 
       
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41
 
 
2

 
 
PART I

Certain statements contained in this Annual Report on Form 10-K constitute “forward-looking statements.” All statements that address operating performance, events or developments that we expect or anticipate will occur in the future are forward-looking statements. The forward-looking statements are contained principally in the sections entitled “Business,” “Risk Factors,” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations.” In some cases, you can identify forward-looking statements by terms such as “may,” “will,” “should,” “could,” “would,” “expects,” “plans,” “anticipates,” “believes,” “estimates,” “projects,” “predicts,” “potential” and similar expressions intended to identify forward-looking statements.

These forward-looking statements are based on management’s beliefs and assumptions and on information currently available to our management. Our management believes that these forward-looking statements are reasonable as and when made. However, you should not place undue reliance on any such forward-looking statements because such statements speak only as of the date when made. We do not undertake any obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise, except as required by law. In addition, forward-looking statements are subject to certain risks and uncertainties that could cause actual results, events and developments to differ materially from our historical experience and our present expectations or projections. These risks and uncertainties include, but are not limited to, those described in the section entitled “Part I - Item 1A. Risk Factors” and elsewhere in this Annual Report on Form 10-K and those described from time to time in our reports which we file with the Securities and Exchange Commission (the “SEC”). Copies of all of our filings with the SEC may be accessed by visiting the SEC site (http://www.sec.gov) and performing a search of our electronic filings.

ITEM 1. BUSINESS

General Overview

Cross Border Resources, Inc. is an oil and gas exploration company resulting from the business combination of Doral Energy Corp. and Pure Gas Partners II, L.P. (“Pure L.P.”), effective January 3, 2011. We own over 868,000 gross (approximately 295,000 net) mineral and lease acres in New Mexico and Texas. Approximately 26,000 of these net acres exist within the Permian Basin. A significant majority of our acreage consists of either owned mineral rights or leases held by production, allowing us to hold lease rental payments to under $5,000 annually. The remainder of our acreage interests consists of operated and non-operated working interests.
   
Current development of our acreage is focused on our prospective Bone Spring acreage located in the heart of the 1st and 2nd Bone Spring play. This play encompasses approximately 4,390 square miles across both New Mexico and Texas. We currently own varying, non-operated working interests in both Eddy and Lea Counties, New Mexico, along with our working interest partners that include Cimarex, Apache, and Mewbourne, all having significant footprints within this play.

Additional development is currently underway on our Abo, Yeso, and Wolfberry acreage with our other working interest partners, Concho Resources and Big Star. We currently have a drilling inventory across these formations with varying non-operated working interests ranging from 1.05% to 20%.

During 2011, we acquired non-operated working interests, ranging from 10% to 20%, in approximately 2,597 gross (308 net) acres in the Wolfberry trend, located in Dawson, Borden and Howard counties, Texas. Production from the Wolfberry represented nearly 11% of our daily average production at year end 2011.

Strategic Alternatives

The Company’s Board of Directors has decided to engage in a broad review of strategic alternatives aimed at maximizing shareholder value. The strategic review will evaluate the Company’s current long-term business plan against a range of alternatives that have the potential to maximize shareholder value including strategic financing opportunities, asset divestitures, joint ventures and/or a corporate sale, merger or other business combination. The Company engaged KeyBanc Capital Markets as its financial advisor to assist the Company with its evaluation of strategic opportunities. The strategic review process was not initiated as a result of any particular offer.
 
 
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Corporate History of Pure

Pure Energy Group, Inc. organized and incorporated in the State of Texas on August 18, 1999, as a startup company. In November 1999, Pure Energy Group, Inc. entered into a purchase and sale agreement, secured by a senior note, with Manix Energy, LLC (“Manix”) pursuant to which Pure Energy Group, Inc. and Bellweather Petroleum, Inc. entered into a joint venture in which each agreed to purchase from Manix a fifty percent (50%) undivided interest in all of the New Mexico acreage and production formerly owned by Fina Oil and Gas. The purchase included 234 non-operated producing wells, 790,000 gross (297,000 net) mineral acres, and preferential rights to purchase certain Conoco Oil and Gas properties in southwest New Mexico.

In November 2001, due to losses incurred as a result of a failed attempt on a second sizeable acquisition, funded primarily through proceeds of private debt issued to insiders, and the resulting inability to meet credit obligations, Pure Energy Group, Inc. filed for reorganization under Chapter 11 of the United States Bankruptcy Code in the United States Bankruptcy Court, Western District of Texas, San Antonio Division (the “Court Case”). On December 2, 2002, Pure Energy Group, Inc. reorganized and emerged from the Court Case following the infusion of additional capital. As part of the Court Case’s Plan of Reorganization, Pure Energy Group, Inc. paid the Manix senior secured seller note in full and received a release of all liens and encumbrances related to all properties acquired in the 1999 purchase.

In 2002, Pure Gas Partners, L.P. was formed as a Texas limited partnership to acquire all of the issued and outstanding common stock of Pure Energy Group, Inc., a Texas corporation, and to continue to acquire, develop, manage, lease and operate oil and gas properties. In 2004, Pure L.P. was formed to be the operating subsidiary of Pure Gas Partners, L.P. Pure Gas Partners, L.P. owned a 99.99% limited partner interest and Pure Energy Group, Inc. owned a 0.01% general partner interest in Pure L.P. (the operating subsidiary). Pursuant to the merger with Doral, Pure L.P. owns no assets.

Corporate History of Doral Energy Corp.

Doral Energy Corp. incorporated on October 25, 2005 under the laws of the State of Nevada under the name “Language Enterprises Corp.” On July 29, 2008, we acquired a working interest in 66 producing oil fields and approximately 186 wells (the “Eddy County Properties”) in and around Eddy County, New Mexico. As a result of our acquisition of the Eddy County Properties, we changed our business focus to the acquisition, exploration, operation and development of oil and gas projects, and we ceased being a “shell company.” On August 4, 2008, we filed our Form 8-K that included the information that would be required if we were filing a general form for registration of securities on Form 10 as a smaller reporting company.

On January 12, 2009, we completed a 6.25-for-1 reverse split of our common stock, decreasing our authorized share capital from 2,500,000,000 shares of common stock, par value $0.001 per share, to 400,000,000 shares of common stock, par value $0.001 per share. On September 14, 2009, we completed a 5-for-1 forward split of our common stock, increasing our authorized capital to 2,000,000,000 shares of common stock, par value $0.001 per share. Shareholder approval of the above actions was not required under Nevada law.

In June 2010, we closed a contract with Alamo Resources LLC to sell our domestic oil and gas properties located in Eddy County, New Mexico (the “Hanson Properties”) and fixed assets, except for fixed assets located in our corporate office in Midland ,Texas. Also in June 2010, the Company completed the acquisition of 6,800 acres of operated producing oil and gas assets (the “Stearns Properties”) located in Chavez County and Roosevelt County, New Mexico. The Stearns Properties consists of 15 leases then producing approximately 54 BOPD (8/8ths), with working interests ranging from 37.9% to 100%, with associated net revenue interests ranging from 32.3% to 87.5%.

2010 Reverse Split of Common Stock and Merger with Pure Gas Partners II, L.P.

Effective December 27, 2010, Doral completed a 1-for-55 reverse split of its common stock in accordance with Article 78.207 of the Nevada Revised Statutes (the “Reverse Split”). The Reverse Split resulted in a decrease in the Company’s authorized share capital from 2,000,000,000 shares of common stock, par value $0.001 per share, to 36,363,637 shares of common stock, par value, $0.001 per share, with a corresponding decrease in the number of issued and outstanding shares of the Company’s common stock from 135,933,086 shares to 2,471,544 shares (after accounting for fractional share interests being rounded up to the next whole number). Completion of the Reverse Split was a condition precedent for the merger with Pure L.P..

 
4

 

Effective January 3, 2011, we completed the acquisition of Pure Energy Group, Inc. (“Pure Sub”) as contemplated pursuant to the Agreement and Plan of Merger dated December 2, 2010, (the “Pure Merger Agreement”) among the Company, Doral Acquisition Corp., the Company’s wholly owned subsidiary (“Doral Sub”), Pure L.P. and Pure Sub, a wholly owned subsidiary of Pure L.P.

Pursuant to the provisions of the Pure Merger Agreement, all of Pure L.P.’s oil and gas assets and liabilities were transferred to Pure Sub. Pure Sub was then merged with and into Doral Sub, with Doral Sub continuing as the surviving corporation (the “Pure Merger”). Upon completion of the Pure Merger, the outstanding shares of Pure Sub were converted into an aggregate of 9,981,536 shares of the Company’s common stock. As a result of the Pure Merger, Pure L.P. was issued approximately 80% of the Company’s total outstanding shares on a fully diluted basis, with the Doral’s previous stockholders owning the remaining 20%. Since the Pure Merger, Pure L.P. has distributed all of its shares of the Company to the partners of Pure L.P. so that Pure L.P. is no longer a shareholder of the Company.

Upon closing of the Pure Merger, Lawrence J. Risley, Richard F. LaRoche Jr. and John Hawkins were appointed to the Company’s Board of Directors as nominees of the Pure Energy Group. Mr. Risley was also appointed as the Company’s President and Chief Operating Officer and P. Mark Stark was appointed as the Company’s Chief Financial Officer and Treasurer. Everett Willard Gray, II continued to act as the Company’s Chief Executive Officer and Chairman of the Company’s Board of Directors. Brad E. Heidelberg continued to serve on the Company’s Board of Directors.

Effective January 4, 2011, following closing of the Pure Merger, Doral Sub was merged with and into the Company, with the Company continuing as the surviving corporation. Upon completing the merger of Doral Sub with and into the Company, the Company changed its name to “Cross Border Resources, Inc.”

2011 Amendment to Bylaws adding a Change in Control Provision

Effective November 14, 2011, our Board of Directors unanimously adopted an amendment to the Company’s Bylaws adding Article XIII – Acquisition of a Controlling Interest (the “Amendment”). The following is a brief summary of the material terms of the Amendment. The following description of the Amendment does not purport to be complete and is qualified in its entirety by reference to the full text of the Amendment which is included in the Amended Bylaws attached as Exhibit 3.9 hereto and incorporated by reference herein.

The Amendment generally provides that any person who, individually or in association with others, acquires or offers to acquire, directly or indirectly, more than 30% of the outstanding stock of the Company obtains only such voting rights as are conferred by a resolution of the stockholders of the Company. A resolution of the stockholders granting such voting rights must be approved by the holders of a majority of the voting power of the Company excluding the shares of the acquirer that are defined as “Control Shares.” “Control Shares” are those outstanding voting shares that the acquirer and those persons acting in association with the acquirer acquired after the acquirer acquired the 30% and during the 90 days immediately preceding such date.

Any person who has made or offered to make an acquisition of more than 30% of our outstanding stock may request that the Board of Directors call a special meeting of the stockholders of the Company for the purpose of determining the voting rights to be accorded to the Control Shares provided that such person undertakes to pay the expenses of the meeting.

If the acquirer’s shares are accorded full voting rights at an annual or special meeting, any stockholder (other than the acquirer) whose shares are not voted in favor of authorizing voting rights for the Control Shares, may require the Company to purchase such shares in cash at a purchase price equal to the fair value of his, her or its shares. Fair value is defined by the Bylaws but is in no case less than the highest price the acquirer paid for the Control Shares.

 
5

 
 
2012 Amendment to Bylaws removing the Written Consent Provision

Effective February 27, 2012, the Company’s Board of Directors unanimously adopted an amendment to the Company’s Bylaws amending Article III, Section 13 to provide that stockholders may not act by written consent.

This amendment was adopted by the Board of Directors to protect all stockholders against a majority stockholder, or a group of stockholders holding a majority of the outstanding common shares, from taking actions without all stockholders having the opportunity to participate in the debate, deliberation and voting at a regularly scheduled annual or special meeting of stockholders. As disclosed in its Schedule 14A filed on February 24, 2012, the Company was notified that Red Mountain Resources, Inc. (“Red Mountain”) filed preliminary proxy materials in connection with a potential consent solicitation. The Board of Directors has unanimously agreed that the action by Red Mountain is not in the best interests of the stockholders and amended the Bylaws to protect the ability of all stockholders to participate in the election of directors at the Company’s 2012 annual meeting of stockholders.

Competitive Business Conditions

We operate in the oil and gas industry, which is a highly competitive environment. Competition is particularly intense with respect to the acquisition of desirable producing properties, the acquisition of oil and gas prospects suitable for enhanced production efforts, the marketing of oil and natural gas, and the hiring of experienced personnel. Our competitors in oil and gas acquisition, development, and production include the major oil companies in addition to numerous independent oil and gas companies, individual proprietors and drilling programs. Many of these competitors possess and employ financial and personnel resources substantially greater than those which are available to us and may be able to pay more for desirable producing properties, and prospects. These superior resources also permit those competitors to define, evaluate, bid for, and purchase a greater number of producing properties and prospects than we can. Our ability to acquire additional properties and to find and develop reserves in the future will depend on our ability to identify, evaluate, and select suitable properties and to consummate transactions in this highly competitive environment. Also, there is substantial competition for capital available for investment in the oil and gas industry.

The actual price range of crude oil is established largely by major crude oil purchasers and commodities trading. Pricing for natural gas is based on regional supply and demand conditions. To this extent, we work to insure that we receive competitive oil and natural gas prices comparable to other producers in the areas which we operate. The risk of domestic overproduction at current prices is not deemed to be significant. We view our primary pricing risk to be related to a potential decline in oil and natural gas prices to a level which could render our current production uneconomical.

We are not subject to third-party gathering systems for our oil production. All oil production is transported by purchasers in trucks at prices competitively established in the area. However, during a period of high crude oil prices, trucking services are in high demand and production from some wells may be curtailed due to limited trucking service availability.

Major Customers

For the year ended December 31, 2011, we had crude oil and natural gas sales to two customers that exceeded 10% of our revenues. These customers were: ConocoPhillips Company (approximately 34%) and Apache Corporation (approximately 23%). However, we believe that the loss of either of these customers would not materially impact our business, because we could readily find other purchasers for our production of crude oil and natural gas.

 
6

 
 
Government and Environmental Regulation

The oil and gas industry is subject to heavy regulation at the federal, state and local levels. These regulations include regulations:

 
·
requiring permits for the drilling of wells,
 
·
requiring the posting of bonds for drilling and/or operating wells,
 
·
governing the location of wells,
 
·
governing the methods used to drill wells,
 
·
governing surface area usage and the restoration of the land upon which wells are drilled,
 
·
governing the plugging and abandoning of wells and the disposal of waste materials used in or generated in drilling operations, and
 
·
setting certain environmental conservation restrictions.

The cost of complying with these regulations is high and these regulations can have the effect of limiting our ability to engage in oil and gas exploration activities and when or where those activities take place. Some of these laws and regulations, including the federal Comprehensive Environmental Response, Compensation and Liability Act (also known as CERCLA or the “Superfund” law), may impose strict liability for environmental damage caused by hazardous wastes released during oil and gas exploration and production activities. As a result, we could become liable for the costs of environmental clean-ups, environmental damages and, in some cases, consequential damages, regardless of whether or not there was any negligence or fault on our part. In some cases, regulations may also require oil and gas production levels to be kept at a level that is lower than what would be economically optimal. In other cases, we may be completely prohibited from drilling exploratory or production wells in certain environmentally sensitive areas even if we believe that there are economically viable oil and gas deposits in those areas. If we violate any of these environmental laws or regulations, we could become subject to heavy fines or sanctions and/or be required to incur significant costs for environmental clean-up and remediation. In addition, neighboring landowners and other third parties could file claims for personal injury or for damage to property or natural resources caused by oil and gas exploration activities.

We believe that we are currently in substantial compliance with all applicable environmental laws and regulations. To date, we have not been required to expend substantial amounts of money in complying with these laws and regulations and we anticipate that the costs associated with future compliance will not have a materially adverse effect on our financial position.

However, the laws and regulations governing the oil and gas industry are subject to constant change as environmental issues relating to this industry remain highly politicized. Proposals and proceedings affecting oil and gas exploration activities are periodically presented to Congress and federal regulatory bodies as well as to state legislative and regulatory bodies. We cannot predict when or whether such proposals may become effective. There is no assurance that the future regulatory environment for oil and gas activities will be consistent with the current regulatory environment. We will need to constantly monitor developments in environmental and other laws and regulations applicable to oil and gas activities in order to ensure compliance. There is no assurance that we will be able to meet the costs associated with regulatory compliance in the future.

Hedging Transactions

In previous years, we entered into a “costless collar” hedging position, and later a combination of swaps and costless collars, which provided us with partial protection against variations in the price of crude oil. In 2010, we closed out all of our hedging positions. On March 23, 2011, we entered into a fixed price swap for 1,000 barrels (“Bbls”) of oil per month at a price of $104.55 NYMEX-WTI through February 28, 2013. On November 17, 2011, we entered into additional fixed price swaps at a price of $93.50 for 2,000 Bbls per month from December 2011 through November 2014. All of our hedging transactions are treated as mark-to-market hedges. Therefore, the changes in the fair market value of the hedges are recognized in the income statement in each fiscal period. An additional crude oil swap was put in place in February 2012 covering 1,000 Bbls of oil per month at a price of $106.50 per Bbl for a period beginning March 1, 2012 and ending February 28, 2014.

Employees

As of December 31, 2011, we employed five (5) full-time employees. Our employees are not represented by a labor union. We consider our relations with our employees to be satisfactory and have never experienced a work stoppage or strike.

We retain certain engineers, geologists, landmen, pumpers, and other personnel on a contract or fee basis as necessary for our field and office operations.

 
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ITEM 1A. RISK FACTORS

Our business faces many risks. We believe the risks described below are the material risks facing the Company. However, the risks described below may not be the only risks we face. Additional unknown risks or risks that we currently consider immaterial may also impair our business operations. If any of the events or circumstances described below actually occur, our business, financial condition or results of operations could suffer, and the trading price of our shares of common stock could decline significantly. Investors should consider the specific risk factors discussed below, together with the “Cautionary Note Regarding Forward-Looking Information” and the other information contained in this registration statement and the other documents that we file from time to time with the Securities and Exchange Commission.

The following are some of the important factors that could affect our financial performance or could cause actual results to differ materially from estimates contained in our forward-looking statements. We may encounter risks in addition to those described below. Additional risks and uncertainties not currently known to us, or that we currently deem to be immaterial, may also impair or adversely affect our business, financial condition or results of operation.

Risks Relating to Our Business

We have an operating deficit.

Currently, our operations are not profitable. Doral Energy Corp. (prior to the merger) incurred losses since inception. We may never be able to achieve profitability.

We have recently merged operations and therefore have a short combined operating history and limited combined audited financial statements.

On January 3, 2011, the Company effected a business combination with Pure L.P. Pure L.P. appointed three new directors, and the Company hired new officers. Because of this recent merger, the Company has a very short operating history for the combined operations. Furthermore, Doral’s fiscal year ended on July 31, 2010, and Pure L.P.’s fiscal year ended on December 31, 2010; therefore the Company does not have consolidated audited financial statements for the newly-combined entity prior to 2011.

Red Mountain Resources, Inc, which controls approximately 29.9% of our Common Stock, may be able to exert significant influence over the Company and has signaled its willingness to engage with the Company with respect to significant matters.

As of March 12, 2012, Red Mountain Resources, Inc. (“Red Mountain”) beneficially owned approximately 29.9% of the existing outstanding shares of our common stock.  As a result, Red Mountain has the ability to exercise significant influence over all matters requiring stockholder approval.  In addition, the concentration of ownership could have the effect of accelerating, delaying or preventing a change in control of the Company.  In February 2012, Red Mountain filed preliminary proxy materials in connection with a potential consent solicitation for a number of proposals, the effect of which would be to gain control of Cross Border’s Board of Directors by adding Red Mountain’s handpicked nominees to the Board, who would then control a majority of seats on the Board.  In addition, earlier this month Red Mountain submitted a notice to the Company disclosing its intention to solicit proxies from the company’s stockholders for the same set of proposals at the Company’s 2012 annual meeting of stockholders.  Red Mountain’s actions have caused the Company to incur, and are expected to continue to cause the Company to incur, significant legal and other advisory expenses.  Red Mountain has also initiated certain related legal proceedings (as described below under “Legal Proceedings”) and has indicated in its proxy materials filed with the SEC that it intends to pursue additional legal claims.  Such actions, or any other future actions that Red Mountain may take or that the Company make take in response to Red Mountain’s actions, may further divert the attention of the Company’s Board of Directors and management from the conduct of the Company’s business and enhancing stockholder value, may force the Company into a costly and divisive proxy contest that could be highly disruptive, may cause competitors to negatively use Red Mountain’s filings against Cross Border, may cause employees to seek other employment outside the Company, may disrupt any strategic initiatives or transactions in which the Company is involved, may expose the Company to additional litigation, and may cause the Company to incur additional significant legal, advisory and other expenses.  Accordingly, the continuation of Red Mountain’s activities could cause a material adverse effect on the operations of the Company’s core business.

The loss of our key persons, or our failure to attract and retain additional personnel could adversely affect our business.

Because we are a small company, our success depends greatly upon the efforts, abilities, and decision-making of our executive officers. The loss of any of these persons would have an adverse effect on our business prospects. Acquiring or maintaining the continued service of key persons may be particularly difficult due to the uncertainty created by Red Mountain’s consent and proxy initiatives. We do not currently maintain “key-man” life insurance. In the event that we should lose our officers and we are unable to find suitable replacements, we may not be able to maintain or develop our business, in which case investors might lose all of their investment.

If we issue additional shares of common stock in the future, this may result in dilution to our existing stockholders.

Our articles of incorporation, as amended, authorize the issuance of 36,363,637 shares of common stock. Our board of directors has the authority to issue additional shares of common stock up to the authorized capital stated in the articles of incorporation. We contemplate that our board of directors may authorize the issuance of some or all of such shares to provide the Company with additional capital or as compensation for consultants and independent contractors providing services to the Company.

The issuance of shares in connection with an offering or as stock compensation may result in a reduction of the book value or market price of the outstanding shares of our common stock. It will also cause a reduction in the proportionate ownership and voting power of all other stockholders.

We have never paid dividends and do not intend to pay any in the foreseeable future, which may delay or prevent recovery of your investment.

We have never paid any cash dividends and currently do not intend to pay any dividends in the foreseeable future. If we do not pay dividends, this may delay or prevent recovery of your investment. To the extent that we require additional funding currently not provided for in our financing plan, it is possible that our funding sources might prohibit the payment of dividends.

 
8

 
 
We have adopted provisions in our Bylaws that may make it more difficult to acquire the Company.

Our Board of Directors has adopted amendments to our Bylaws providing that shareholders may not act by written consent and that any person who, individually or in association with others, acquires or offers to acquire, directly or indirectly, more than 30% of the outstanding stock of the Company obtains only such voting rights as are conferred by a resolution of the stockholders of the Company. These provisions may make an acquisition of the Company more difficult and therefore may reduce the value of the Company stock.

Risks Relating to Our Industry

Our future performance depends upon our ability to obtain capital to find or acquire additional oil and natural gas reserves that are economically recoverable.

Unless we successfully replace the reserves that are reduced by production, our reserves will decline, resulting eventually in a decrease in oil and natural gas production and lower revenues and cash flows from operations. The business of exploring for, developing or acquiring reserves is capital intensive. Our ability to make the necessary capital investment to maintain or expand our oil and natural gas reserves is limited by our relatively small size. Further, we may commence drilling operations on our properties and any other properties that we acquire in an effort to increase production, which would require more capital than we have available from cash flow from operations or our existing debt facilities. We expect to require additional capital prior to the end of 2012 in order to maintain our reserves and will be required to seek additional sources of financing or limit our participation in additional drilling operations. In addition, our drilling activities are subject to numerous risks, including the risk that no commercially productive oil or gas reserves will be discovered.

The successful implementation of our business plan is subject to risks inherent in the oil and gas business, which if not adequately managed, could result in additional losses.

Our oil and gas operations will be subject to the economic risks typically associated with exploitation and development activities, including the necessity of making significant expenditures to locate and acquire properties and to drill development wells. In addition, the availability of drilling rigs and the cost and timing of drilling, completing and, if warranted, operating wells is often uncertain. In conducting exploitation and development activities, the presence of unanticipated formation pressure or irregularities in formations, miscalculations or accidents may cause our exploitation, development and production activities to be unsuccessful. This could result in a total loss of our investment in a particular well. If exploitation and development efforts are unsuccessful in establishing proved reserves and development activities cease, the amounts accumulated as unproved costs will be charged against earnings as impairments.

In addition, the availability of a ready market for our oil and gas production depends on a number of factors, including the demand for and supply of oil and gas and the proximity of reserves to pipelines and other facilities. Our ability to market such production depends in substantial part on the availability and capacity of gathering systems, pipelines and processing facilities, in most cases owned and operated by third parties. Failure to obtain such services on acceptable terms could materially harm our proposed oil and gas business. We may be required to shut in wells for lack of a market or because of inadequacy or unavailability of pipelines or gathering system capacity. If that occurs, we would be unable to realize revenue from those wells until arrangements are made to deliver such production to market.

Our future performance is dependent upon our ability to identify, acquire and develop oil and gas properties, the failure of which could result in under use of capital and losses.

The future performance of our oil and gas business will depend upon an ability to identify, acquire and develop oil and gas reserves that are economically recoverable. Success will depend upon the ability to acquire working and net revenue interests in properties upon which oil and gas reserves are ultimately discovered in commercial quantities, and the ability to develop prospects that contain proven oil and gas reserves to the point of production. Without successful acquisition, exploitation, and development activities, we will not be able to develop oil and gas reserves or generate revenues. There are no assurances oil and gas reserves will be identified or acquired on acceptable terms, or that oil and gas deposits will be discovered in sufficient quantities to enable us to recover our exploitation and development costs or sustain our business.

 
9

 
 
The successful acquisition and development of oil and gas properties requires an assessment of recoverable reserves, future oil and gas prices and operating costs, potential environmental risks, and other factors. Such assessments are inexact and uncertain. In addition, no assurances can be given that our exploitation and development activities will result in the discovery of any reserves. Operations may be curtailed, delayed or canceled as a result of lack of adequate capital and other factors, such as lack of availability of rigs and other equipment, title problems, weather, compliance with governmental regulations or price controls, mechanical difficulties, unusual or unexpected formation pressures, and other work interruptions. In addition, the costs of exploitation and development may materially exceed our initial estimates.

The oil and gas exploration and production industry historically is a cyclical industry and market fluctuations in the prices of oil and gas could adversely affect our business.

Prices for oil and gas tend to fluctuate significantly in response to factors beyond our control. These factors include, but are not limited to:

(a)
weather conditions in the United States and elsewhere;
(b)
economic conditions, including demand for petroleum-based products, in the United States and elsewhere;
(c)
actions by OPEC, the Organization of Petroleum Exporting Countries;
(d)
political instability in the Middle East and other major oil and gas producing regions;
(e)
governmental regulations, both domestic and foreign;
(f)
domestic and foreign tax policy;
(g)
the pace adopted by foreign governments for the exploration, development, and production of their national reserves;
(h)
the price of foreign imports of oil and gas;
(i)
the cost of exploring for, producing and delivering oil and gas and the discovery rate of new oil and gas reserves;
(j)
the rate of decline of existing and new oil and gas reserves;
(k)
available pipeline and other oil and gas transportation capacity;
(l)
the ability of oil and gas companies to raise capital;
(m)
the overall supply and demand for oil and gas; and
(n)
the availability of alternate fuel sources.

Changes in commodity prices may significantly affect our capital resources, liquidity and expected operating results. Price changes will directly affect revenues and can indirectly impact expected production by changing the amount of funds available to reinvest in exploration and development activities. Reductions in oil and gas prices not only reduce revenues and profits, but also could reduce the quantities of reserves that are commercially recoverable. Significant declines in prices could result in non-cash charges to earnings due to impairment. Changes in commodity prices may also significantly affect our ability to estimate the value of producing properties for acquisition and divestiture and often cause disruption in the market for oil and gas producing properties, as buyers and sellers have difficulty agreeing on the value of the properties. Price volatility also makes it difficult to budget for and project the return on acquisitions and the development and exploitation of projects. Commodity prices are expected to continue to fluctuate significantly in the future.

Hedging transactions may limit potential gains on increases to oil and gas prices.

From time to time, the Company may enter into hedging transactions. When we do enter into hedging transactions, they are for a portion of our expected production for the purpose of reducing the risk of fluctuations in oil and gas prices. Although these hedging transactions would be expected to provide us with some protection in the event of a decrease in oil and gas prices, they also may limit our potential gains in the event that oil and gas prices increase. Although we are currently engaged in hedging arrangements, if we choose not to engage in hedging arrangements in the future, we may be more adversely affected by changes in oil and natural gas prices than our competitors who engage in hedging arrangements.

We may encounter difficulty in obtaining equipment and services.

Higher oil and natural gas prices and increased oil and natural gas drilling activity generally stimulate increased demand and result in increased prices and unavailability for drilling rigs, crews, associated supplies, equipment and services. While we have recently been successful in acquiring or contracting for services, we could experience difficulty obtaining drilling rigs, crews, associated supplies, equipment and services in the future. These shortages could also result in increased costs or delays in timing of anticipated development or cause interests in oil and natural gas leases to lapse. We cannot be certain that we will be able to implement our drilling plans or at costs that will be as estimated or acceptable to us.

 
10

 
 
Our ability to produce oil and gas from our oil and gas assets may be adversely affected by a number of factors outside of our control.

The business of exploring for and producing oil and gas involves a substantial risk of investment loss. Drilling oil and gas wells involves the risk that the wells may be unproductive or that, although productive, the wells may not produce oil or gas in economic quantities. Other hazards, such as unusual or unexpected geological formation pressures, fires, blowouts, loss of circulation of drilling fluids or other conditions may substantially delay or prevent completion of any well. Adverse weather conditions can also hinder drilling operations. A productive well may become uneconomic if excessive water or other deleterious substances are encountered that impair or prevent the production of oil or gas from the well. In addition, production from any well may be unmarketable if it is contaminated with water or other deleterious substances. There can be no assurance that oil and gas will be produced from the properties in which we have interests. In addition, the marketability of oil and gas that may be acquired or discovered may be influenced by numerous factors beyond our control. These factors include the proximity and capacity of oil and gas, gathering systems, pipelines and processing equipment, market fluctuations in oil and natural gas prices, taxes, royalties, land lease tenure, allowable production volumes, and environmental protection regulations.

If we are unable to maintain our working interests in leases, our business will be adversely affected.

A portion of our oil and gas assets are held under oil and gas leases. A failure to meet the specific requirements of each lease may cause that lease to terminate or expire. There are no assurances the obligations required to maintain those leases will be met and that we will be able to meet the rental obligations under federal, state and private oil and gas leases. If we are unable to make rental payments and satisfy any other conditions on a timely basis, we may lose our rights in the properties that we may acquire.

Title deficiencies could render our leases worthless.

The existence of a material title deficiency can render a lease worthless and can result in a large expense to our business. In acquiring oil and gas leases or undivided interests in oil and gas leases, we may forgo the expense of retaining lawyers to examine the title to the oil or gas interest to be placed under lease or already placed under lease. Instead, we may rely upon the judgment of oil and gas landmen who perform the field work in examining records in the appropriate governmental office before attempting to place under lease specific oil or gas interest. This is customary practice in the oil and gas industry. As a result, we may be unaware of deficiencies in the marketability of the title to the lease. Such deficiencies could render the lease worthless.

If we fail to maintain adequate operating insurance, our business could be materially and adversely affected. The liability insurance we maintain may not be adequate to cover losses our business may incur.

Our oil and gas operations are subject to risks inherent in the oil and gas industry, such as blowouts, cratering, explosions, uncontrollable flows of oil, gas or well fluids, fires, pollution, earthquakes and other environmental risks. These risks could result in substantial losses due to injury and loss of life, severe damage to and destruction of property and equipment, pollution and other environmental damage, and suspension of operations. We could be liable for environmental damages caused by previous property owners. As a result, substantial liabilities to third parties or governmental entities may be incurred, the payment of which could have a material adverse effect on our financial condition and results of operations. Any prospective drilling contractor or operator which we hire will be required to maintain insurance of various types to cover its operations with policy limits and retention liability customary in the industry. We maintain well control, re-drill, environmental clean-up, and liability insurance on all of our field production and future drilling operations. However, the occurrence of a significant adverse event on such prospects that would happen to be not fully covered by insurance could result in the loss of all or part of our investment in a particular prospect, which could have a material adverse effect on our financial condition and results of operations.

 
11

 
 
Complying with environmental and other government regulations could be costly and could negatively impact prospective production.

The oil and gas business is governed by numerous laws and regulations at various levels of government. These laws and regulations govern the operation and maintenance of our facilities, the discharge of materials into the environment and other environmental protection issues. Such laws and regulations may, among other potential consequences, require that we acquire permits before commencing drilling and restrict the substances that can be released into the environment with drilling and production activities. Under these laws and regulations, we could be liable for personal injury, clean-up costs and other environmental and property damages, as well as administrative, civil and criminal penalties. Prior to commencement of drilling operations, we may secure limited insurance coverage for sudden and accidental environmental damages as well as environmental damage that occurs over time. However, we do not believe that insurance coverage for the full potential liability of environmental damages is available at a reasonable cost. Accordingly, we could be liable, or could be required to cease production on properties, if environmental damage occurs.

The costs of complying with environmental laws and regulations in the future may harm our business. Furthermore, future changes in environmental laws and regulations could occur, resulting in stricter standards and enforcement, larger fines and liability, and increased capital expenditures and operating costs, any of which could have a material adverse effect on our financial condition or results of operations.

The oil and gas industry is highly competitive, and we may not have sufficient resources to compete effectively.

The oil and gas industry is highly competitive. We will be competing with oil and natural gas companies and other individual producers and operators, many of which have longer operating histories and substantially greater financial and other resources than we have, as well as companies in other industries supplying energy, fuel and other needs to consumers. Larger competitors, by reason of their size and relative financial strength, can more easily access capital markets than we can and may enjoy a competitive advantage in the recruitment of qualified personnel. They may be able to absorb the burden of any changes in laws and regulation in the jurisdictions in which we do business and handle longer periods of reduced prices for oil and gas more easily than we can. Competitors may be able to pay more for oil and gas leases and properties and may be able to define, evaluate, bid for and purchase a greater number of leases and properties than we can. Further, these companies may enjoy technological advantages and may be able to implement new technologies more rapidly than we can. Our ability to acquire oil and gas properties will depend upon our ability to conduct efficient operations, evaluate and select suitable properties, implement advanced technologies and consummate transactions in a highly competitive environment.

Risks Relating to Our Stock

The trading price of our common stock may be volatile, with the result that an investor may not be able to sell any shares acquired at a price equal to or greater than the price paid by the investor.

Our common stock is quoted on the OTCQX under the symbol “XBOR.” Companies quoted on the OTC market have traditionally experienced extreme price and trading volume fluctuations. We have experienced price and volume fluctuations. In addition, our stock price may be adversely affected by factors that are unrelated or disproportionate to our operating performance. The Company is a former shell company and the market fluctuations, as well as general economic, political and market conditions such as recessions, interest rates or international currency fluctuations may adversely affect the market price of our common stock. As a result of this potential price and volume volatility, an investor may have difficulty selling any of our common stock that they acquire at a price equal or greater than the price paid by the investor.

 
12

 
 
Because our stock is a penny stock, stockholders will be limited in their ability to sell their stock.

The SEC has adopted rules that regulate broker-dealer practices in connection with transactions in penny stocks. Penny stocks are defined in Rule 3a51-1 under the Securities Exchange Act of 1934 (the “Exchange Act”) and include equity securities with a price of less than $5.00 and not listed to trade on certain national securities exchanges.

Because our securities constitute “penny stocks” within the meaning of the rules, the rules apply to us and to our securities. The rules may further affect the ability of owners of shares to sell our securities in any market that might develop for them. As long as the trading price of our common stock is less than $5.00 per share, the common stock will be subject to Rule 15g-9 under the Exchange Act. The penny stock rules require a broker-dealer, prior to a transaction in a penny stock, to deliver a standardized risk disclosure document prepared by the SEC that may be found at http://www.sec.gov/investor/schedule 15g.

In addition, the penny stock rules require that prior to a transaction in a penny stock not otherwise exempt from those rules; the broker-dealer must make a special written determination that the penny stock is a suitable investment for the purchaser (based on the purchaser’s financial situation, investment experience, and investment objectives) and receive the purchaser’s written acknowledgment of the receipt of a risk disclosure statement, a written agreement to transactions involving penny stocks, and a signed and dated copy of a written suitably statement. These disclosure requirements may have the effect of reducing the trading activity in the secondary market for our stock.

ITEM 1B. UNRESOLVED STAFF COMMENTS

This item is not applicable as the Company is neither an accelerated filer nor a well-known seasoned issuer.

ITEM 2. PROPERTIES

General Background

We have built our asset base primarily through property acquisitions and divestitures that are geographically focused in the Permian Basin of West Texas and southeastern New Mexico, which we have identified as the most attractive region in which to develop our business. Our properties consist of working, mineral and royalty interests owned by us in various oil and gas wells and oil and gas lease acreage located in Chaves, Eddy, Lea and Roosevelt Counties, New Mexico, and Borden, Howard and Dawson Counties, Texas. The holdings acquired in connection with the Pure Merger in January 2011 comprise approximately 99% of our current acreage holdings. Those holdings are described below under the Pure Assets subheading. The description of the Company’s other holdings follows the description of the Pure Assets.

Former Pure Assets:

In November 1999, Pure L.P. entered into a purchase and sale agreement with Manix Energy, LLC (“Manix”) whereby Pure L.P. and Bellwether Petroleum, Inc. (“Bellwether”) each agreed to purchase from Manix a 50% undivided interest in all of the New Mexico acreage and production formerly belonging to Fina Oil and Gas.

 
13

 
 
In November 2001, due to losses and the resulting inability to meet creditor obligations, Pure L.P. filed for Chapter 11 reorganization. In December 2002 with new management in place, Pure L.P. reorganized and emerged from bankruptcy after bringing in new investors and paying off the senior secured seller note.

In August 2003, Pure L.P. entered into a joint venture with Edge Petroleum Corporation (“Edge”) and Chisos, Ltd. (“Chisos”) to develop Pure and Chisos acreage in Lea and Eddy Counties. In the Edge joint venture, Pure L.P. committed one half of its interest in properties in all of Eddy, Lea and the lower two sections of Chaves Counties.

In January 2008, by mutual consent, the Edge joint venture was terminated and Edge was assigned half of the interest of Pure L.P. in properties within the joint venture area.

Former Doral Assets:

On June 14, 2010, Doral completed the acquisition of 6,800 gross acres of operated producing oil and gas assets (the “Stearns Properties”) located in Chavez County and Roosevelt County, New Mexico, acquired for $1,700,000 on June 14, 2010.

On July 15, 2010, Doral acquired additional working interest from Nordstrand Engineering located in Chavez County, New Mexico (“Chaves County Properties”), properties consisting of additional working interests in the same areas as the Stearns Properties, for a price of $20,000 on July 15, 2010.

2011 Acquisitions:

During 2011, we acquired non-operated working interests, ranging from 10% to 20%, in 2,597 gross (308 net) acres in the Wolfberry trend, located in Dawson, Borden and Howard counties, Texas. Production from the Wolfberry represented nearly 11% of our daily average production at year end 2011.

Management continues to evaluate these properties for further drilling and workover opportunities. Capital may be allocated to these properties for further development and exploitation opportunities in conjunction with the Company’s overall capital expenditure program.

Total Acreage

As of December 31, 2011, we hold approximately 868,000 gross leasehold acres and approximately 294,000 net acres. Gross acres are the total number of acres in which we have a working interest. Net acres are the sum of our fractional working interests owned in the gross acres. In certain leases, our ownership varies at different depths; therefore, the net acreage in these leases is calculated with consideration of the varying ownership interests.

Acreage
 
Gross
   
Net
 
Developed
    10,461       4,001  
Undeveloped
    858,028       290,174  
Total Acreage
    868,489       294,175  

Reserves

We have a portfolio of oil and natural gas reserves with approximately 81% of our proved reserves consisting of oil and 19% consisting of natural gas. Our proved reserves and the standardized measure of discounted future net cash flows of our interests in proved oil and gas reserves, as reflected in our December 31, 2011 reserve reports, are set forth below.
 
Proved Reserves
 
Oil (mBbls)
   
Natural Gas
(mmcf)
   
Discounted Future
Net Cash Flow
(at 10% per year)*
 (in thousands)
 
Developed
    528       1,592     $ 24,170  
Undeveloped
    1,180       793       20,692  
Total Proved
    1,708       2,385     $ 44,862  
*before income taxes
                       

 
14

 
 
The proved reserves estimates contained in the above tables were prepared by of Joe C. Neal & Associates, independent petroleum consultants to the Company. Joe C. Neal & Associates is an independent petroleum engineering consulting firm that has been providing petroleum consulting services throughout the world for 35 years. Joe C. Neal & Associates has extensive experience calculating reserves for other companies operating in the Permian Basin region and, as such, we believe that they have sufficient experience to estimate our reserves. Joe C. Neal & Associates is a Texas registered professional engineering firm. Our primary contact at Joe C. Neal & Associates is Alan Neal. Mr. Neal is a Licensed Professional Engineer in the State of Texas

The present values of the proved reserves of crude oil identified in the tables are prepared by discounting future projected net cash flows computed with constant oil prices of $87.91 per Bbl and constant future production and development costs less estimated future income tax expense. The estimated future net cash flows are then discounted at a rate of 10 percent per year. Similarly, the present values of the proved reserves of natural gas identified in the tables are prepared in the same manner using constant gas prices of $5.61 per mcf.

Reserve reports prepared by petroleum engineers and used by the Company are, by their very nature, inexact and subject to changes and revisions. Proved developed reserves are reserves expected to be recovered from existing wells with existing equipment and methods. Proved undeveloped reserves are expected to be recovered from new wells drilled to known reservoirs on undrilled acreage for which existence and recoverability of such reserves can be estimated with reasonable certainty, or from existing wells where a relatively major expenditure is required to establish production. No estimates of reserves have been included in any reports to any federal agency other than the SEC.

See Supplemental Information on Oil and Gas Producing Activities included as part of our consolidated financial statements. A copy of the Joe C. Neal & Associates, Inc. report “Estimated Reserves and Future Net Revenue as of December 31, 2011, Attributable to Interests Owned by Cross Border Resources, Inc. In Certain Properties Located in New Mexico and Texas (SEC Case)” is attached as Exhibit 99.1.

At the end of 2011, 65 proved undeveloped locations remained in the Company’s reserves, none of which have remained undeveloped for five or more years. During the year, we participated in the drilling of 16 wells at a capital cost of over $3.6 million, successfully completing 12 of these wells as producers by the end of 2011. As of March 9, 2012, two additional wells have been placed on production, and two wells are being completed. With the anticipated successful completion of the remaining two wells, we enjoyed a 100% success rate in the 2011 drilling program.

Internal Control Over Reserve Reporting

Management has established, and is responsible for, a number of internal controls designed to provide reasonable assurance that the estimates of reserves are computed and reported in accordance with rules and regulations provided by the SEC as well as established industry practices used by independent engineering firms and our peers. These internal controls consist of process workflows and qualified professional engineering and geological personnel with specific reservoir experience. We also retain an outside independent engineering firm to prepare estimates of our proved, probable and possible reserves. We work closely with this firm, and management is responsible for providing accurate operating and technical data to it including historical production data from our wells, historical lease operating expenses and differentials, updated working interest and net revenue interest information and geological and geophysical information from operators or generated internally. Our Chief Executive Officer and President/Chief Operating Officer review the reports prepared by the independent engineering firm and the assumptions relied upon in such reports.

Wells

The following summarizes the Company’s productive oil and gas wells as of December 31, 2011. Productive wells are producing wells and wells capable of production. Gross wells are the total number of wells in which the company has an interest. Net wells are the sum of the Company’s fractional working interests owned in the gross wells.

   
Gross
   
Net
 
Oil wells
    86       30  
Gas wells
    45       3  
Total wells
    131       33  

 
15

 
 
Production Sales Volume, Sales Price and Production Costs

The following summarizes our net production sold for the years ended December 31, 2011, 2010 and 2009:

   
2011
   
2010
   
2009
 
Oil (Bbls)
    56,740       36,963       38,830  
Gas (mcf)
    252,690       243,229       257,857  
Total barrels of oil equivalent (“boe”)*
    98,855       77,501       81,806  
Average boe per day (“boepd”)
    270.8       212.3       224.1  
* Oil and natural gas were combined by converting natural gas to oil equivalent on the basis of 6 mcf of gas = 1 boe.

Set forth in the following schedule is the average sales price per barrel of oil and per mcf of natural gas and average cost of production produced by us, on a barrels of oil equivalent basis, for the years ended December 31, 2011, 2010 and 2009:

   
2011
   
2010
   
2009
 
Average sales price
                 
Gas ($ per mcf)
  $ 6.03     $ 5.72     $ 4.13  
Oil ($ per Bbl)
  $ 86.70     $ 74.51     $ 53.11  
Average cost of production:
                       
Average production cost ($/boe)
  $ 12.69     $ 4.85     $ 6.35  
Average production taxes ($/boe)*
  $ 5.41     $ 4.88     $ 3.58  

Drilling and Other Exploratory and Development Activities

·
Our average production rate for December 2011 was 407.4 boepd, a 55% increase from the January 3, 2011 production rate of 271 boepd.
   
·
During 2011, we participated in 16 gross (1.9 net) wells, completion activities were in progress on three of these wells, while one was awaiting completion at year end 2011.
   
·
Our daily production mix was approximately 63% oil and liquids as of year-end 2011.
 
Of the four in-progress wells that began during 2011 and were awaiting completion as of year-end 2011, two have been placed on production and the remaining two wells are undergoing completion efforts as of March 9, 2012. With the expected successful completion of the remaining two wells, we enjoyed a 100% completion rate in the 2011 drilling program.

Also in 2011, we expanded our holdings beyond the Southeastern New Mexico area of the Permian Basin into the Texas Wolfberry play of the Permian. At year end, we held 2,597 gross (308 net) acres in the Wolfberry and production from the area represented nearly 11% of our daily average production.

We participate in exploratory and development wells in the Permian Basin. Our current focus within the Permian Basin is primarily on the 2nd Bone Spring located within Eddy and Lea Counties, New Mexico, due to the oil-weighted nature of this unconventional play and our operators’ ability to identify and drill above-average economical wells. Our working interest in these wells ranges from 1.05% to 37.52%. The following table shows our well participation and results for the 2009 through 2011 calendar years:

   
Well Participation
   
Well Results
 
   
Development
   
Exploratory
   
Producing
   
Dry Hole
   
In Progress
 
   
Gross
   
Net
   
Gross
   
Net
   
Gross
   
Net
   
Gross
   
Net
   
Gross
   
Net
 
Year
                                                           
2009
    3       0.46       -       0.09       3       0.56       -       -       -       -  
2010
    5       0.41       1       0.22       5       0.58       1       0.05       -       -  
2011
    7       0.48       9       1.42       12       1.53       -       -       4       0.37  
      15       1.35       10       1.73       20       2.17       1       0.05       4       0.37  

 
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We do not anticipate investing in or purchasing assets and/or property for the purpose of capital gains. It is our intention to purchase assets and/or property for the purpose of enhancing our primary business operations. We are not limited as to the percentage amount of our assets we may use to purchase any additional assets or properties.

The Company’s anticipated capital expenditures for 2012 are described under Item 7.

Delivery Commitments

As of December 31, 2011, the Company had no obligations or delivery commitments under any existing contracts.

ITEM 3. LEGAL PROCEEDINGS

On May 4, 2011, Clifton M. (Marty) Bloodworth filed a lawsuit in the State District Court of Midland County, Texas, against Doral West Corp. d/b/a Doral Energy Corp., Patrick Seale and Everett Willard Gray II (Mr. Gray has not yet been served). Mr. Bloodworth alleges that Mr. Gray, as CEO of the Company, made false representations which induced Mr. Bloodworth to enter into an employment contract that was subsequently breached by the Company. The claims that Mr. Bloodworth has alleged are: breach of his employment agreement with Doral, common law fraud, civil conspiracy breach of fiduciary duty, and violation of the Texas Deceptive Trade Practices-Consumer Protection Act. Mr. Bloodworth is seeking damages of approximately $280,000. Mr. Gray and the Company deny that Mr. Bloodworth’s claims have any merit.

On December 12, 2011, Red Mountain Resources, Inc. and Black Rock Capital, Inc., as direct and indirect shareholders of the Company, filed a lawsuit against the Company in the District Court of Clark County, Nevada as Case No. A-11-653-089-B. The plaintiffs have asked the Court (i) to order the Company to hold an annual shareholders’ meeting for the purpose of electing directors, and (ii) to declare that the solicitation or securing of proxies pursuant to a proxy solicitation made in accordance with the law shall not constitute or be deemed an “Association” as such term is defined in the Amendment to Bylaws adopted by the Company’s Board of Directors in November 2011. On January 23, 2012, we filed a motion to dismiss the lawsuit arguing that the complaint failed to state a claim upon which relief may be granted. Specifically, we contend that: (i) the Plaintiffs’ claims are derivative in nature and the Plaintiffs failed to make a demand on the board or plead that such a demand would be futile; (ii) the Plaintiffs’ request for an order directing us to conduct a meeting of stockholders was not ripe; and (iii) the plain language of our amended bylaws compels a determination that a proxy agreement is and “Association,” as defined in the amended bylaws. On February 29, 2012, the District Court of Clark County granted in part and denied in part our motion to dismiss the lawsuit. The court denied our motion to dismiss on the claim requiring the Company to hold an annual meeting. The Company is proceeding with its plans to hold an annual meeting on May 9, 2012. The Court granted our motion to dismiss on the other claims but granted the plaintiff the right to amend its complaint on or before March 26, 2012.

Other than the lawsuits described above, we are not currently a party to any legal proceedings.

ITEM 4. MINE SAFETY DISCLOSURES

The Company is not an operator of a coal or other mine. This item is not applicable.

 
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PART II

MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES

Market Information

Commencing on June 15, 2011, our shares of common stock began trading on the OTCQX U.S. Premier (“OTCQX”) under the symbol “XBOR”. The Company traded on the OTC Bulletin Board prior to the OTCQX listing and traded under the symbol “DRLY” prior to January 3, 2011.

The following table sets forth, for the periods indicated, the high and low bid prices for our common stock in the OTC Market. These over-the-counter market quotations reflect interdealer prices, without retail mark-up, mark-down or commission and may not necessarily represent actual transactions.

Year 2010
           
First quarter
    10.45       1.00  
Second quarter
    5.23       1.65  
Third quarter
    2.48       1.10  
Fourth quarter
    3.49       0.51  
                 
Year 2011
               
First quarter
    4.70       2.00  
Second quarter
    2.30       1.10  
Third quarter
    2.25       1.11  
Fourth quarter
    1.70       1.12  

(1) Quotations have been adjusted to give retroactive effect to the Company’s 1-for-6.25 reverse split effected January 12, 2009, 5-for-1 forward split effected September 14, 2009 and 1-for-55 reverse split effected December 27, 2010.

As of March 9, 2012, we had 16,151,946 shares of common stock issued and outstanding, and there were 111 holders of record of our common stock. The closing sales price for our common stock on March 9, 2012 was $1.80, as reported by the OTCQX.

Dividends

We have not declared any dividends on our common stock since our inception. Pure L.P. did make distributions on a routine basis. However, we currently intend to retain any earnings to finance the operation and expansion of our business and do not anticipate paying any cash dividends for the foreseeable future. The declaration and payment of any dividends in the future by us will be subject to the sole discretion of our board of directors and will depend upon many factors, including our financial condition, earnings, capital requirements, covenants associated with certain of our debt obligations and other factors deemed relevant by our board of directors.

There are no dividend restrictions that limit our ability to pay dividends on our common stock in our Articles of Incorporation, as amended, or Bylaws. Our governing statute, Chapter 78 of the Nevada Revised Statutes (the “NRS”), does provide limitations on our ability to declare dividends. Section 78.288 of the NRS prohibits us from declaring dividends where, after giving effect to the distribution of the dividend, we would not be able to pay our debts as they become due in the usual course of business; or our total assets would be less than the sum of our total liabilities plus the amount that would be needed, if we were to be dissolved at the time of distribution, to satisfy the preferential rights upon dissolution of stockholders who may have preferential rights and whose preferential rights are superior to those receiving the distribution.

 
18

 

ITEM 6. SELECTED FINANCIAL DATA.

The Company qualifies as a smaller reporting company and is not required to provide this information.

ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

OVERVIEW

The Company is an oil and gas exploration and production company resulting from the business combination of Doral Energy Corp. and Pure L.P., effective January 3, 2011, which is described in “Item 1, Business.” The merger impacts all comparisons to the prior year. Pure L.P. is the accounting predecessor entity upon which the 2010 numbers are based. Additionally, drilling activity increased in 2011 from 2010 levels. There is a lag time of several months between the expenditure of funds for drilling and completion, and the receipt of revenue from the new wells.

RESULTS OF OPERATION

Summary of Production

The following summarizes our net production sold of oil, expressed in barrels (“Bbls”), and of natural gas, expressed in thousand cubic feet (“mcf”) for the years ended December 31:

               
Percentage
 
   
2011
   
2010 (Predecessor)
   
Increase / (Decrease)
 
Oil (Bbls)
    56,740       36,963       54 %
Gas (mcf)
    252,690       243,229       4 %
Total barrels of oil equivalent*
    98,855       77,501       28 %
Average boe per day
    270.8       212.3       28 %
* Oil and natural gas were combined by converting natural gas to oil equivalent on the basis of 6 mcf of gas = 1 boe.

This increase in oil and gas sales volumes is due primarily to a combination of increased production from wells added period over period and increased production brought on through the Pure Merger.

Set forth in the following schedule is the average sales price per unit and average cost of production produced by us for the years ended December 31:

             
Percentage
 
   
2011
   
2010 (Predecessor)
 
Increase / (Decrease)
 
Average sales price:
                 
Oil ($ per Bbl)
  $ 86.70     $ 74.51       16 %
Gas ($ per mcf)
  $ 6.03     $ 5.72       5 %
Average cost of production:
                       
Average production cost ($/boe)
  $ 12.69     $ 4.85       162 %
Average production taxes ($/boe)
  $ 5.41     $ 4.88       11 %

 
19

 

Summary of Year End Results

   
Year Ended December 31
   
Percentage
 
         
2010
   
Increase /
 
   
2011
   
(Predecessor)
   
(Decrease)
 
Revenue
  $ 7,313,149     $ 3,808,879       92 %
Operating costs
    (8,239,655 )     (3,105,618 )     165 %
Other income (expense)
    (269,934 )     (420,272 )     (36 )%
Income tax benefit (expense )
    -       -       n/a  
Net income (loss)
  $ (1,196,440 )   $ 282,989       n/m  
n/m - When moving from income to expense/loss, or the reverse, the percentage change is not meaningful.

Revenues

We recognized $6.6 million in revenues from sales of oil and natural gas during the year ended December 31, 2011, compared to $3.7 million for the prior year. This increase in oil and gas sales revenue is due primarily to a combination of increased production from wells added period over period and increased production brought on through the Pure Merger. Sales volumes on a boe basis were up approximately 28% for the 2011 over 2010. In addition, average prices for the oil and natural gas sold period over period increased. We report our revenues on wells in which we have a working interest based on information received from operators. The recognition of revenues in this manner is in accordance with generally accepted accounting principles.

We recognized a $0.6 million gain on the sale of certain oil and gas properties during 2011, with no comparable gain during 2010. Other revenue, primarily the recognition of deferred revenues, was $129,915 in 2011, as compared to $97,436 during 2010. The deferred revenues primarily related to a two-year term assignment to a private party of certain oil and gas working interests located in southeastern New Mexico beginning in April 2010. Approximately $32,000 remains to be recognized during 2012.

Operating Expenses

Our operating expenses for the years ended December 31, 2011 and 2010, consisted of the following:

   
Year Ended December 31
   
Percentage
 
   
2011
   
2010
(Predecessor)
   
Increase /
(Decrease)
 
Operating costs
  $ 1,378,674     $ 450,774       206 %
Production taxes
    555,698       379,370       46 %
Depreciation, depletion, and amortization
    2,507,266       1,199,365       109 %
Abandonment expense
    49,234       -       n/a  
Accretion expense
    84,428       59,269       42 %
General and administrative
    3,664,355       1,016,840       260 %
Total
  $ 8,239,655     $ 3,105,618       165 %

Operating costs were higher primarily as a result of costs related to operated assets acquired in the Pure Merger (the Stearn properties in Chavez County, New Mexico), environmental remediation and delayed joint interest billings from an operating partner. Production taxes and depletion were higher as a result of higher production and a larger depletable base. We wrote off a dry hole (the Full Moon 29#1, with a working interest of 4.69%) that was spud during 2010, which will be plugged and abandoned by the operator. We recognized $3.9 million in general and administrative expense (“G&A”) during 2011 compared to $1.0 million during 2010. The increase in G&A resulted primarily from higher costs for accounting and legal services, consistent with being a public company and approximately $300,000 in one-time costs related to the merger in January 2011, as well as $681,294 of non-cash share-based compensation for employees, directors and consultants during 2011, with no comparable costs during 2010, and the addition of three full-time employees following the merger.

 
20

 
 
Price Risk Management Activities

During 2011, we recognized a net loss of $11,771 on our derivative positions, which includes a non-cash $84,994 mark to market loss (on the remaining term of our crude oil fixed price swaps), reduced by realized a gain of $73,223 for hedge settlements received (for the difference between the hedged price and the market price for the closed months).

We have two crude oil fixed price swaps in place with one counter-party as of December 31, 2011. The first swap covers 1,000 Bbls of oil per month at a price of $104.55 NYMEX-WTI through February 28, 2013. The second swap covers 2,000 Bbls of oil per month at a price of $93.50 NYMEX-WTI through November 30, 2014. An additional crude oil swap was put in place in February 2012 covering 1,000 Bbls of oil per month at a price of $106.50 per Bbl for a period beginning March 1, 2012 and ending February 28, 2014.

LIQUIDITY AND CAPITAL RESOURCES

Working Capital and Current Ratio
 
         
At December 31,
   
Percentage
 
   
At December 31,
   
2010
   
Increase /
 
   
2011
   
(Predecessor)
   
(Decrease)
 
Current assets
  $ 3,488,192     $ 1,737,747       101 %
Current liabilities
    (2,388,349 )     (1,849,490 )     29 %
Working capital (deficit)
  $ 1,099,843     $ (111,743 )     n/m  
Current ratio
    1.46       0.94       55 %
n/m - When moving from a net liability to a net asset, or the reverse, the percentage change is not meaningful.

Cash Flows
 
   
Year Ended
   
Year Ended
 
   
December 31, 2011
   
December 31, 2010
 
Cash provided by (used in) operating activities
  $ (1,724,683 )   $ 2,410,828  
Cash (used in) investing activities
    (3,250,793 )     (1,579,929 )
Cash provided by (used in) financing activities
    4,473,320       (612,895 )
Net increase (decrease) in cash during period
  $ (502,156 )   $ 218,004  

Cash used in operating activities is calculated by starting with the net income or loss for the period and adjusting for the non-cash income and expense items during the period, as well as for the change in operating assets and liabilities. As an example: During 2011 we paid down our accounts payable balance from a combined liability of $1,033,636 to $359,633. This reduction of $674,003 in accounts payable increases the cash used in operating activities, but improves the current ratio. Additionally, the increase in accounts receivable, from higher sales, is also an increase to cash used in operating activities.

Cash used in investing activities represents the net of capital expenditures, for the drilling of wells and acquisitions of lease interests, and proceeds from the sale of interests in certain capital assets. The increase in this measure is a reflection of the increased level of drilling and completion activity for wells on our acreage.

Cash provided by financing activities represents funds from the sale of equity, or new borrowings, reduced by repayments of indebtedness. The provision in 2011 is primarily the result of the equity offering in May 2011.

Amended and Restated Credit Agreement with Texas Capital Bank

On January 31, 2011, we entered into an amended and restated credit agreement (the “Credit Agreement”) with Texas Capital Bank, N.A. (“TCB”), with a maturity date of January 31, 2014. The Credit Agreement provided the Company with an initial borrowing base of $4.0 million. Provided that the trustee for the Company’s Debentures consents, the amount available under the Credit Agreement may be increased by TCB up to $25.0 million based on the Company’s reserve reports and the value of the Company’s oil and gas properties. If the trustee for the Debentures does not consent, the maximum allowed under the Indenture for the Debentures will be limited to $5.0 million.

The borrowing base was increased to $4.5 million as of December 20, 2011. At year-end 2011, the balance of the loan with TCB was $2,381,000 and the available balance was $2,119,000 million under the credit facility.

 
21

 
 
As of March 1, 2012, the Company’s borrowing base was increased to $9.5 million, and $4.3 million was immediately drawn for the Company’s redemption of the Pure Debentures (as described below) and other corporate purposes. At March 9, 2012, the balance due on the credit facility was $8.8 million, and the balance available for borrowing was $0.7 million.

Redemption of Pure Debentures

On January 31, 2012, the Company called for payment prior to maturity all of the debentures originally issued by Pure L.P. pursuant to the provisions of the Trust Indenture dated as of March 1, 2005 (the “Pure Debentures”). The redemption of the Pure Debentures was conditional upon the anticipated increase in the line of credit issued by TCB, and upon such increase, the redemption of 100% of the Pure Debentures was completed on March 1, 2012.

2011 Equity Financing

On May 26, 2011, the Company closed a private offering exempt from registration under the Securities Act of 1933 pursuant to Rule 506 of Regulation D promulgated thereunder. In the offering, the Company issued an aggregate of 3,600,000 units. Each unit was sold at $1.50 and was comprised of one share of common stock and one five-year warrant to purchase a share of common stock at an exercise price of $2.25 per share. The warrants became exercisable on November 26, 2011. The Company agreed to use the net proceeds from the sale of the units for general business and working capital purposes and not to use such proceeds for the redemption of any common stock or common stock equivalents.

The investors in the offering received registration rights. The Company filed a registration statement covering the resale of the common stock issued and the common stock underlying the warrants issued to the Selling Stockholders on July 25, 2011, which was declared effective by the SEC on August 5, 2011. If at the time of exercise of the warrants there is no effective registration statement covering the resale of the shares underlying the warrant, then the Selling Stockholder has the right at such time to exercise warrants in full or in part on a cashless basis.

In addition to registration rights, the Selling Stockholders were offered a right of first refusal to participate in future offerings of common stock if the principal purpose of which is to raise capital. This right of first refusal terminates upon the earlier of a sale, merger, consolidation or reorganization of the Company or on May 26, 2012.

Potential Warrant Exercise Proceeds

In connection with the equity offering closed on May 26, 2011, the Company issued warrants to purchase an aggregate of 3,600,000 shares of the Company’s common stock at a per-share price of $2.25 (the “$2.25 Warrants”). The Company also has outstanding warrants to purchase 3,125 shares of the Company’s common stock at a per-share price of $5.00.

The $2.25 Warrants contain a limitation prohibiting exercise of the warrants if the shares issued would cause the holder to own more than 20% of the outstanding stock. The holder of 2,136,164 of the $2.25 Warrants currently would be disallowed from exercising those warrants under this provision. If all of the remaining 1,463,836 warrants are exercised for cash, the Company would receive $3,293,631 in aggregate proceeds. The $2.25 Warrants became exercisable in November 2011. We cannot make assurances that any of the warrants will ever be exercised for cash or at all.

2012 Capital Expenditures

We expect to participate in 24 new wells and three work-overs with our operating partners during 2012, in the Bone Spring, Abo, Yeso and Wolfberry formations on our Permian Basin leasehold acreage in southeast New Mexico and west Texas. Our Board has approved a capital expenditures budget of $12 million for these activities in 2012. In the first two months of 2012, we participated in three new wells. As of March 9, 2012, one of the three new wells is completed and producing, while two wells are at total depth and awaiting completion. Additionally, two of the four wells that were awaiting completion at December 31, 2011 have now been put on production. The remaining two wells are undergoing completion activities.

 
22

 
 
OFF-BALANCE SHEET ARRANGEMENTS

We have no significant off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on our financial condition, changes in financial condition, revenue or expenses, results of operations, liquidity, capital expenditures or capital resources that is material to our stockholders.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

Management’s Discussion and Analysis of Financial Condition and Results of Operations discusses our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. On an ongoing basis, management evaluates the estimates and judgments, including those related to revenue recognition, recovery of oil and gas reserves, financing operations, and contingencies and litigation.

Oil and Gas Properties

We use the successful efforts method of accounting for oil and gas producing activities. Costs to acquire mineral interests in oil and gas properties, to drill and equip exploratory wells that find proved reserves, to drill and equip development wells and related asset retirement costs are capitalized. Costs to drill exploratory wells that do not find proved reserves, geological and geophysical costs, and costs of carrying and retaining unproved properties are expensed.

Unproved oil and gas properties that are individually significant are periodically assessed for impairment of value, and a loss is recognized at the time of impairment by providing an impairment allowance. Capitalized costs of producing oil and gas properties, after considering estimated residual salvage values, are depreciated and depleted by the unit-of-production method.

On the sale or retirement of a complete unit of a proved property, the cost, and related accumulated depreciation, depletion, and amortization are eliminated from the property accounts, and the resultant gain or loss is recognized. On the retirement or sale of a partial unit of proved property, the cost is charged to accumulated depreciation, depletion, and amortization with a resulting gain or loss recognized in income.

On the sale of an entire interest in an unproved property for cash or cash equivalent, gain or loss on the sale is recognized, taking into consideration the amount of any recorded impairment if the property had been assessed individually. If a partial interest in an unproved property is sold, the amount received is treated as a reduction of the cost of the interest retained.

Reserve Estimates

Our estimate of proved reserves is based on the quantities of oil and gas that geological and engineering data demonstrate, with reasonable certainty, to be recoverable in future years from known reservoirs under existing economic and operating conditions. The accuracy of any reserve estimate is a function of the quality of available data, engineering and geological interpretation and judgment. For example, we must estimate the amount and timing of future operating costs, severance taxes, development costs and workover costs, all of which may in fact vary considerably from actual results. In addition, as prices and cost levels change from year to year, the estimate of proved reserves also changes. The future drilling costs associated with reserves assigned to proved undeveloped locations may ultimately increase to an extent that these reserves may be later determined to be uneconomic. For these reasons, estimates of economically recoverable quantities of oil and natural gas attributable to any particular group of properties, classifications of such reserves based on risk of recovery, and estimates of future net cash flows expected there from may vary substantially. Any significant variance in the assumptions could materially affect the estimated quantity and value of the reserves, which could affect the carrying value of our oil and natural gas properties and/or the rate of depletion of the oil and natural gas properties. Actual production, revenues and expenditures, with respect to our reserves, will likely vary from estimates and such variances may be material. We contract with independent engineering firms to provide reserve estimates for reporting purposes.

Despite the inherent imprecision in these engineering estimates, our reserves are used throughout our financial statements. For example, since we use the units-of-production method to amortize our oil and gas properties, the quantity of reserves could significantly impact our depreciation, depletion and amortization expense. Finally, these reserves are the basis for our supplemental oil and gas disclosures.

 
23

 

Impairment of Oil and Natural Gas Properties

We review our oil and natural gas properties for impairment at least annually and whenever events and circumstances indicate a decline in the recoverability of their carrying value. We estimate the expected future cash flows of our oil and natural gas properties and compare such future cash flows to the carrying amount of the properties to determine if the carrying amount is recoverable. If the carrying amount exceeds the estimated undiscounted future cash flows, we will adjust the carrying amount of the oil and natural gas properties to their fair value. The factors used to determine fair value include, but are not limited to, estimates of proved reserves, future commodity pricing, future production estimates, anticipated capital expenditures, and a discount rate commensurate with the risk associated with realizing the expected cash flows projected. Given the complexities associated with oil and natural gas reserve estimates and the history of price volatility in the oil and natural gas markets, events may arise that would require us to record an impairment of the recorded book values associated with oil and natural gas properties. We have not recognized impairments in either the current nor prior year. However, there can be no assurance that impairments will not be required in the future.

Revenue and Cost Recognition

We use the sales method to account for sales of crude oil and natural gas. Under this method, revenues are recognized based on actual volumes of oil and gas sold to purchasers. The volumes sold may differ from the volumes to which the Company is entitled based on the interest in the properties. Costs associated with production are expensed in the period incurred.

Stock-based Compensation.

We estimate the fair value of stock option awards on the date of grant using the Black-Scholes option pricing model. This valuation method requires the input of certain assumptions, including expected stock price volatility, expected term of the award, the expected risk-free interest rate, and the expected dividend yield of the Company’s stock. The risk-free interest rate used is the U.S. Treasury yield for bonds matching the expected term of the option on the date of grant. Our dividend yield is zero, as we do not pay a dividend. Because of our limited trading experience of our common stock and limited exercise history of our stock option awards, estimating the volatility and expected term is very subjective. We base our estimate of our expected future volatility, along with our own limited trading history while operating as an oil and natural gas producer. Future estimates of our stock volatility could be substantially different from our current estimate, which could significantly affect the amount of expense we recognize for any future stock-based compensation awards.

Income Taxes

Income taxes are provided for the tax effects of transactions reported in the financial statements and consist of taxes currently payable plus deferred income taxes related to certain income and expenses recognized in different periods for financial and income tax reporting purposes. Deferred income tax assets and liabilities represent the future tax return consequences of those differences, which will either be taxable or deductible when assets are recovered or settled. Deferred income taxes are also recognized for tax credits that are available to offset future income taxes. Deferred income taxes are measured by applying currently enacted tax rates to the differences between financial statement and income tax reporting. We periodically assess the realizability of our deferred tax assets. If we conclude that it is more likely than not that some portion or all of the deferred tax assets will not be realized under accounting standards, the tax asset would be reduced by a valuation allowance. We consider future taxable income in making such assessments. Numerous judgments and assumptions are inherent in the determination of future taxable income, including factors such as future operating conditions (particularly as related to prevailing oil and natural gas prices).

Derivatives

Derivative financial instruments that are utilized to manage or reduce commodity price risk related to our production are accounted for under the provisions of Accounting Standards Codification (“ASC”) 815-25 (formerly SFAS No. 133 “Accounting for Derivative Instruments and Hedging Activities”). Under this pronouncement, derivatives are carried on the balance sheet at fair value. If the derivative is not designated as a hedge, changes in the fair value are recognized in other income (expense).

We are permitted to net the fair values of derivative assets and liabilities for financial reporting purposes, if such assets and liabilities are with the same counterparty and subject to a master netting arrangement. We have elected to employ net presentation of derivative assets and liabilities when these conditions are met. We routinely exercise our contractual right to net realized gains against realized losses when settling with our swap counterparty.

 
24

 
 
Business Combinations

We follow ASC 805, Business Combinations (“ASC 805”), and ASC 810-10-65, Consolidation (“ASC 810-10-65”). ASC 805 requires most identifiable assets, liabilities, non-controlling interests, and goodwill acquired in a business combination to be recorded at “fair value.” The statement applies to all business combinations, including combinations among mutual entities and combinations by contract alone. Under ASC 805, all business combinations will be accounted for by applying the acquisition method. Accordingly, transactions costs related to acquisitions are to be recorded as a reduction of earnings in the period they are incurred and costs related to issuing debt or equity securities that are related to the transaction will continue to be recognized in accordance with other applicable rules under U.S. GAAP. ASC 810-10-65 requires non-controlling interests (previously referred to as minority interests) to be treated as a separate component of equity, not as a liability or other item outside of permanent equity. The statement applies to the accounting for non-controlling interests and transactions with non-controlling interest holders in consolidated financial statements.

ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.

The Company qualifies as a smaller reporting company and is not required to provide this information.

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.

Index to Financial Statements:

Audited financial statements as of December 31, 2011, including:

Financial Statements of Cross Border Resources, Inc.

F-1
F-2
F-4
F-5
F-6
F-7 – F-25

 
25

 
 
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
 
To the Board of Directors and
Stockholders of Cross Border Resources, Inc.
San Antonio, Texas

We have audited the accompanying balance sheets of Cross Border Resources, Inc. (CBR) as of December 31, 2011 and 2010 and the related statements of income, stockholders’ equity and comprehensive income, and cash flows for the years then ended.  CBR’s management is responsible for these financial statements.  Our responsibility is to express an opinion on these financial statements based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States).  Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement.  The company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting.  Our audits included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the company’s internal control over financial reporting.  Accordingly, we express no such opinion.  An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation.  We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of CBR as of December 31, 2011 and 2010, and the results of its operations and its cash flows for the years then ended in conformity with accounting principles generally accepted in the United States of America.

As described in Note 1 to the accompanying financial statements of CBR, the beginning retained earnings as of December 31, 2008 has been restated to correct misstatements from the Company’s previously issued financial statements.

 
/s/DARILEK BUTLER & ASSOCIATES, PLLC
 
San Antonio, Texas
 
March 15, 2012
 
 
 
F - 1

 

Cross Border Resources, Inc.
Balance Sheets
December 31, 2011 and 2010

   
2011
   
2010
(Predecessor)
 
         
(As Restated)
 
ASSETS
           
             
Current Assets:
           
Cash and cash equivalents
  $ 472,967     $ 975,123  
Accounts receivable - production
    1,184,544       512,624  
Accounts receivable - related party
    -       250,000  
Prepaid expenses
    1,808,944       -  
Current tax asset
    21,737       -  
Total Current Assets
    3,488,192       1,737,747  
                 
Property and Equipment:
               
Oil and gas properties (successful efforts method)
    30,540,978       19,421,621  
Less accumulated depletion and depreciation
    (9,870,830 )     (7,328,326 )
Net Property and Equipment
    20,670,148       12,093,295  
                 
Other Assets:
               
Other property and equipment, net of accumulated depreciation of $126,473 and $94,759 in 2011 and 2010, respectively
    95,988       124,776  
Deferred bond costs, net of accumulated amortization of $344,300 and $293,915 in 2011 and 2010, respectively
    159,554       209,939  
Deferred bond discount, net of accumulated amortization of $127,483 and $108,827 in 2011 and 2010, respectively
    59,077       77,733  
Intangible assets, net of accumulated amortization of $197,616 and $-0- in 2011 and 2010, respectively
    1,778,541       -  
Goodwill
    1,395,807       -  
Other Assets
    119,070       112,532  
Total Other Assets
    3,608,037       524,980  
                 
TOTAL ASSETS
  $ 27,766,377     $ 14,356,022  

The accompanying notes are an integral part of these  financial statements

 
F - 2

 

Cross Border Resources, Inc.
Balance Sheets
December 31, 2011 and 2010

   
2011
   
2010
(Predecessor)
 
         
(As Restated)
 
LIABILITIES AND STOCKHOLDERS’ EQUITY
           
             
Current Liabilities:
           
Accounts payable - trade
  $ 103,759     $ 875,881  
Accounts payable - revenue distribution
    143,215       49,880  
Interest payable
    112,659       107,875  
Accrued expenses
    418,290       28,460  
Deferred revenues
    32,479       162,394  
Notes payable - current
    764,278       -  
Bonds payable - current portion
    570,000       475,000  
Creditors payable - current portion
    186,761       150,000  
Derivative liability - current portion
    56,908       -  
Total Current Liabilities
    2,388,349       1,849,490  
                 
Other Liabilities:
               
Asset retirement obligations
    1,186,260       508,588  
Deferred income tax liability
    21,737       -  
Line of credit
    2,381,000       1,582,426  
Derivative liability, net of current portion
    28,086       -  
Bonds payable, net of current portion
    2,825,000       3,740,000  
Creditors payable, net of current portion
    1,352,783       1,656,305  
Total Non-Current Liabilities
    7,794,866       7,487,319  
                 
TOTAL LIABILITIES
    10,183,215       9,336,809  
                 
STOCKHOLDERS’ EQUITY
               
Common stock, $0.001 par value, 36,363,637 shares authorized,16,151,946 shares issued and outstanding at December 31, 2011
    16,152       -  
Additional paid-in capital
    32,617,690       -  
Retained earnings (accumulated deficit) (1)
    (15,050,680 )     5,019,213  
TOTAL STOCKHOLDERS’ EQUITY
    17,583,162       5,019,213  
                 
TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY
  $ 27,766,377     $ 14,356,022  

(1) Retained earnings as of December 31, 2010 (as restated) includes all equity accounts, including all Predecessor partner’s capital accounts.

The accompanying notes are an integral part of these financial statements

 
F - 3

 

Cross Border Resources, Inc.
Statements of Operations
For the years ended December 31, 2011 and 2010

   
2011
   
2010
(Predecessor)
 
REVENUES AND GAINS:
 
 
   
(As Restated)
 
Oil and gas sales
  $ 6,584,134     $ 3,711,443  
Gain on sale of oil and gas properties
    599,100       -  
Other
    129,915       97,436  
Total Revenues And Gains
  $ 7,313,149     $ 3,808,879  
                 
OPERATING EXPENSES:
               
Operating costs
    1,378,674       450,774  
Production taxes
    555,698       379,370  
Depreciation, depletion and amortization
    2,507,266       1,199,365  
Abandonment expense
    49,234       -  
Accretion expense
    84,428       59,269  
General and administrative
    3,664,355       1,016,840  
Total Operating Expenses
    8,239,655       3,105,618  
                 
GAIN (LOSS) FROM OPERATIONS
    (926,506 )     703,261  
                 
OTHER INCOME (EXPENSE):
               
Bond issuance amortization
    (50,385 )     (50,385 )
Gain (loss) on derivatives
    (11,771 )     -  
Interest expense
    (460,275 )     (413,338 )
Miscellaneous other income (expense)
    252,497       43,451  
Total Other Income (Expense)
    (269,934 )     (420,272 )
                 
GAIN (LOSS) BEFORE INCOME TAXES
    (1,196,440 )     282,989  
                 
Current tax benefit (expense)
    197,890       (5,886 )
Deferred tax benefit (expense)
    (197,890 )     5,886  
Income tax benefit (expense)
    -       -  
                 
NET INCOME (LOSS)
  $ (1,196,440 )   $ 282,989  
                 
NET GAIN (LOSS) PER SHARE:
               
Basic and diluted
  $ (0.08 )   $  
WEIGHTED AVERAGE SHARES OUTSTANDING:
               
Basic and diluted
    14,945,782        

The accompanying notes are an integral part of these financial statements

 
F - 4

 
 
Cross Border Resources, Inc.
Statements of Cash Flows
For the years ended December 31, 2011 and 2010
 
  
 
2011
   
2010
(Predecessor)
 
CASH FLOWS FROM OPERATING ACTIVITIES
       
(As Restated)
 
Net income (loss)
 
$
(1,196,440
)
 
$
282,989
 
Adjustments to reconcile net income (loss) to cash used by operating activities:
               
Depreciation, depletion and amortization
   
2,507,266
     
1,199,365
 
Accretion
   
84,428
     
59,269
 
(Gain) loss on disposition of assets
   
(583,766
)
   
-
 
Share-based compensation
   
681,294
     
-
 
Amortization of debt discount and deferred financing costs
   
69,041
     
69,042
 
Changes in operating assets and liabilities:
               
Accounts receivable
   
(577,110
)
   
27,595
 
Prepaid expenses and other current assets
   
(1,750,195
)
   
18,046
 
Accounts payable
   
(1,122,000
)
   
590,999
 
Accrued expenses
   
207,720
     
1,129
 
Deferred revenue
   
(129,915
)
   
162,394
 
Derivative liability
   
84,994
     
-
 
NET CASH PROVIDED BY (USED IN) OPERATING ACTIVITIES
   
(1,724,683
)
   
2,410,828
 
                 
CASH FLOWS FROM INVESTING ACTIVITIES
               
Cash impact of merger, net
   
(62,797
)
   
-
 
Capital expenditures - oil and gas properties
   
(3,980,470
)
   
(1,579,929
)
Proceeds from sale of interest in properties
   
799,100
     
-
 
Capital expenditures - other assets
   
(6,626
)
   
-
 
NET CASH USED IN INVESTING ACTIVITIES
   
(3,250,793
)
   
(1,579,929
)
                 
CASH FLOWS FROM FINANCING ACTIVITIES
               
Proceeds from issuance of common stock, net of expenses
   
5,090,728
     
-
 
Net borrowings (payments) on line of credit
   
798,574
     
-
 
Proceeds from renewing notes
   
139,359
     
-
 
Repayments of notes payable
   
(382,081
)
   
-
 
Repayments of bonds
   
(810,000
)
   
(490,000
)
Repayments to creditors
   
(266,760
)
   
(122,895
)
Payments to purchase stock options
   
(96,500
)
   
-
 
NET CASH PROVIDED BY (USED IN) FINANCING ACTIVITIES
   
4,473,320
     
(612,895
                 
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
   
(502,156
)
   
218,004
 
Cash and cash equivalents, beginning of year
   
975,123
     
757,119
 
Cash and cash equivalents, end of year
 
$
472,967
   
$
975,123
 
                 
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
               
Interest paid
 
$
183,440
   
$
408,307
 
Income taxes and dividends paid
 
$
-
   
$
-
 

The above changes in current assets and current liabilities differ from changes between amounts reflected in the December 31, 2011 balance sheet due to current assets and current liabilities acquired in connection with the Company’s reverse acquisition with Pure Energy Group, Inc. and Pure Gas Partners II, LP, as more fully described in Note 1 to the unaudited financial statements.

The accompanying notes are an integral part of these financial statements

 
F - 5

 

Cross Border Resources, Inc.
Statements of Stockholders’ Equity
December 31, 2011


               
Additional
   
Retained Earnings
       
   
Common
   
Par
   
Paid-In
   
(Accumulated
       
   
Shares*
   
Amount
   
Capital
   
Deficit)
   
Total
 
Balance at December 31, 2010, (Predecessor)
(as restated)
    -     $ -     $ -     $ 5,019,213     $ 5,019,213  
Merger with Doral Energy Corp. - January 2011
    12,476,946       12,477       27,115,712       (18,873,453 )     8,254,736  
Shares issued for services
    75,000       75       168,675       -       168,750  
Share-based compensation
    -       -       512,544       -       512,544  
Stock issued for cash, net of issuance costs of $479,144
    3,600,000       3,600       4,917,259       -       4,920,859  
Purchase of stock options from employees
                    (96,500 )             (96,500 )
Net income (loss)
    -       -       -       (1,196,440 )     (1,196,440 )
Balance at December 31, 2011
    16,151,946     $ 16,152     $ 32,617,690     $ (15,050,680 )   $ 17,583,162  

*
The Accounting Acquirer was a partnership. Prior years’ reconciliations are not shown here as the format is not comparable. See the “Reverse Acquisition” section of Note 1 for the prior two years partners’ capital reconciliations.

(1) Retained earnings as of December 31, 2010 (as restated) includes all equity accounts, including all Predecessor partner’s capital accounts.

The accompanying notes are an integral part of these financial statements.

 
F - 6

 
 
Cross Border Resources, Inc.
Notes to Financial Statements

NOTE 1 – ORGANIZATION AND BUSINESS OPERATIONS

Nature of Operations

The Company is an independent natural gas and oil company engaged in the exploration, development, exploitation, and acquisition of natural gas and oil reserves in North America. The Company’s primary area of focus is the Permian Basin in southeastern New Mexico and western Texas.

Reverse Acquisition

Effective December 27, 2010, the Company completed a 1-for-55 reverse split of its common stock in accordance with Article 78.207 of the Nevada Revised Statutes (the “Reverse Split”). The Reverse Split resulted in a decrease in the Company’s authorized share capital from 2,000,000,000 shares of common stock, par value $0.001 per share, to 36,363,637 shares of common stock, par value, $0.001 per share, with a corresponding decrease in the number of issued and outstanding shares of the Company’s common stock from 135,933,086 shares to 2,471,544 shares (after accounting for fractional share interests being rounded up to the next whole number). Completion of the Reverse Split was a condition precedent for the merger with Pure Gas Partners II, L.P. (“Pure”).

Effective January 3, 2011, the Company completed the acquisition of Pure Energy Group, Inc. (“Pure Sub”) as contemplated pursuant to the Agreement and Plan of Merger dated December 2, 2010 (the “Pure Merger Agreement”) among the Company, Doral Acquisition Corp., the Company’s wholly owned subsidiary (“Doral Sub”), Pure Gas Partners II, L.P. (“Pure”) and Pure Sub, a wholly owned subsidiary of Pure (Pure Sub and Pure being collectively referred to herein as the “Pure Energy Group” or the “Predecessor”).

Pursuant to the provisions of the Pure Merger Agreement, all of Pure’s oil and gas assets and liabilities were transferred to Pure Sub. Pure Sub was then merged with and into Doral Sub, with Doral Sub continuing as the surviving corporation (the “Pure Merger”). Upon completion of the Pure Merger, the outstanding shares of Pure Sub were converted into an aggregate of 9,981,536 shares of the Company’s common stock. As a result of the Pure Merger, the previous Pure shareholders owned approximately 80% of the Company’s total outstanding shares on a fully diluted basis, with the Company’s previous stockholders owning the remaining 20%, immediately following the merger.

The purchase price of the assets of the Company arising from the reverse acquisition with the Pure Energy Group was $8,085,984, representing eighty percent (80%) of the appraised value of 2,471,511 post-split shares of the Company which were issued and outstanding immediately prior to the reverse acquisition. The allocation of the purchase price and the purchase price accounting is based upon estimates of the assets and liabilities effectively acquired on January 3, 2011 in accordance with Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”) 805, Business Combinations.

 
F - 7

 
 
NOTE 1 – ORGANIZATION AND BUSINESS OPERATIONS (continued)

The allocation of the purchase price is as follows:

Cash and cash equivalents
 
$
(62,798
Accounts receivable
   
94,810
 
Prepaid expenses and other current assets
   
5,769
 
Proved oil and gas properties
   
6,964,255
 
Property and equipment
   
12,643
 
Goodwill
   
1,395,807
 
Intangible assets
   
1,976,157
 
Other assets
   
228,268
 
Total assets
   
10,614,911
 
Accounts payable
   
(378,079
)
Accounts payable- related party
   
(69,917
)
Accrued liabilities
   
(182,110
)
Long-term debt
   
(1,018,322
)
Notes payable to related party
   
(250,000
)
Asset retirement obligation
   
(630,499
)
Purchase price
 
$
8,085,984
 

The statements of income include the results of operations for Cross Border Resources, Inc. commencing on January 4, 2011. As a result, information provided for the year ended December 31, 2011 presented below includes the actual results of operations from January 4, 2011 to December 31, 2011 and the combined historical financial information for Cross Border Resources, Inc. (formerly Doral Energy) and Pure for the period January 1, 2011 to January 3, 2011. The unaudited pro forma financial information for the year ended December 31, 2010 presented below combines the historical financial information for Cross Border Resources, Inc. and Pure for that period. The following unaudited pro forma information is not necessarily indicative of the results of future operations:

 
 
Year Ended December 31,
 
   
2011
   
2010
 
         
(Predecessor)
 
Revenues
  $ 7,313,149     $ 6,517,924  
Operating income (loss)
    (937,736 )     (10,832,955 )
Net income (loss)
    (1,209,354 )     (12,165,051 )
                 
Earnings (loss) per share *
  $ (0.08 )   $ (0.98 )
 
* For purposes of this pro forma presentation of earnings per share we have assumed the same number of shares outstanding in the prior year periods as were outstanding at January 3, 2011.

 
F - 8

 

NOTE 1 – ORGANIZATION AND BUSINESS OPERATIONS (continued)

The following table shows a reconciliation of the Partners’ Capital accounts for our Predecessor for the years ended December 31, 2010 and 2009.

   
Class A
   
Class B
   
Class C
         
Non-
       
   
Limited
   
Limited
   
Limited
   
General
   
controlling
       
   
Partners
   
Partners
   
Partners
   
Partner
   
Interest
   
Total
 
Balance as Previously Reported – December 31, 2008
  $ 37,638     $ 4,995,302     $ 12,566     $ 32,494     $ 987,236     $ 6,065,236  
Prior Period Adjustment
    (127,644 )     (42,906 )     (42,906 )     (1,071 )     -       (214,527 )
Balance as Restated – December 31, 2008
    (90,006 )     4,952,396       (30,340 )     31,423       987,236       5,850,709  
Less: Distributions
    -       -       -       -       (26,838 )     (26,838 )
Net Income (Loss)
    (619,449 )     (208,218 )     (208,218 )     (5,205 )     (46,557 )     (1,087,647 )
Balance – December 31, 2009
    (709,455 )     4,744,178       (238,558 )     26,218       913,841       4,736,224  
Net Income (Loss), as Restated
    79,113       34,704       137,560       1,266       30,346       282,989  
Conversion of Options Exercised
    296,028       -       648,159       -       (944,187 )     -  
Balance – December 31, 2010, as Restated
  $ (334,314 )   $ 4,778,882     $ 547,161     $ 27,484     $ -     $ 5,019,213  

Basis of presentation

The financial statements of the Company have been prepared in accordance with generally accepted accounting principles in the United States of America (“GAAP”) and the Securities and Exchange Commission Act 1934.

The Balance Sheet as of December 31, 2011 and the Statements of Operations and Cash Flows for the year ended December 31, 2011 include the accounts of the predecessor company Pure for the period of January 1, 2011 to January 3, 2011 and the accounts of Pure and the Company for the period January 4, 2011 (date of reverse acquisition as discussed above) to December 31, 2011 (collectively, “Cross Border Resources, Inc.” or the “Company”). The comparative Balance Sheet as of December 31, 2010 and the Statements of Operations and Cash Flows for the year ended December 31, 2010 represent the accounts of Pure only, as Predecessor. The consolidation effected by the business combination has been accounted for as a reverse acquisition wherein Pure is treated as the acquirer for accounting purposes.

In the opinion of management, all adjustments (consisting of normal recurring adjustments) considered necessary for a fair presentation have been included. Certain reclassifications have been made to the prior period to conform to current presentation.

Prior Period Correction of an Error

In Pure’s 2010 financial statements, the Company recorded goodwill in connection with the 2005 acquisition of Pure Energy Group, Inc. During 2011, the Company re-evaluated its obligations with respect to its initial accounting for the transaction and determined that consideration paid in excess of the fair market value of the assets and liabilities transferred should have been allocated to the acquired oil and gas properties and subsequently tested for impairment. As a result, the Company retroactively stated its oil and gas properties as of December 31, 2010 to reflect the allocation of goodwill. In addition, the Company did not consider the need to impair the value of its acquired oil and gas properties based on the future cash flows of the assets. The correction of this error reduced net income for the year ended December 31, 2010 by $320,660 and beginning retained earnings as of January 1, 2010 was adjusted by the same amount. The tax effect of this transaction was determined to be immaterial to the overall financial statements.

 
F - 9

 

NOTE 2 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Use of Estimates

The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues, expenses and related disclosures. Actual results could differ from those estimates and assumptions. Significant estimates include volumes of oil and gas reserves used in calculating depletion of proved oil and natural gas properties and costs to abandon oil and gas properties.

Management believes that it is reasonably possible the following material estimates affecting the financial statements could significantly change in the coming year: (1) estimates of proved oil and gas reserves, and (2) forecast forward price curves for natural gas and crude oil. The oil and gas industry in the United States has historically experienced substantial commodity price volatility, and such volatility is expected to continue in the future. Commodity prices affect the level of reserves that are considered commercially recoverable; significantly influence the Company’s current and future expected cash flows; and impact the PV10 derivation of proved reserves.

Oil and Gas Properties

Successful Efforts Method

We use the successful efforts method of accounting for oil and gas producing activities. Costs to acquire mineral interests in oil and gas properties, to drill and equip exploratory wells that find proved reserves, to drill and equip development wells and related asset retirement costs are capitalized. Costs to drill exploratory wells that do not find proved reserves, geological and geophysical costs, and costs of carrying and retaining unproved properties are expensed.

Unproved oil and gas properties that are individually significant are periodically assessed for impairment of value, and a loss is recognized at the time of impairment by providing an impairment allowance. Capitalized costs of producing oil and gas properties, after considering estimated residual salvage values, are depreciated and depleted by the unit-of-production method.

On the sale or retirement of a complete unit of a proved property, the cost, and related accumulated depreciation, depletion, and amortization are eliminated from the property accounts, and the resultant gain or loss is recognized. On the retirement or sale of a partial unit of proved property, the cost is charged to accumulated depreciation, depletion, and amortization with a resulting gain or loss recognized in income.

On the sale of an entire interest in an unproved property for cash or cash equivalent, gain or loss on the sale is recognized, taking into consideration the amount of any recorded impairment if the property had been assessed individually. If a partial interest in an unproved property is sold, the amount received is treated as a reduction of the cost of the interest retained.

Business Combinations

We follow ASC 805, Business Combinations (“ASC 805”), and ASC 810-10-65, Consolidation (“ASC 810-10-65”). ASC 805 requires most identifiable assets, liabilities, non-controlling interests, and goodwill acquired in a business combination to be recorded at “fair value.” The statement applies to all business combinations, including combinations among mutual entities and combinations by contract alone. Under ASC 805, all business combinations will be accounted for by applying the acquisition method. Accordingly, transactions costs related to acquisitions are to be recorded as a reduction of earnings in the period they are incurred and costs related to issuing debt or equity securities that are related to the transaction will continue to be recognized in accordance with other applicable rules under U.S. GAAP. ASC 810-10-65 will require non-controlling interests (previously referred to as minority interests) to be treated as a separate component of equity, not as a liability or other item outside of permanent equity. The statement applies to the accounting for non-controlling interests and transactions with non-controlling interest holders in consolidated financial statements.

 
F - 10

 
 
NOTE 2 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)

Cash and Cash Equivalents

For purposes of the balance sheet and statement of cash flows, we consider all highly liquid debt instruments purchased with maturity of three months or less to be cash equivalents. At December 31, 2011 and 2010, we had no cash equivalents. We may, in the normal course of operations, maintain cash balances in excess of federally insured limits. We had cash balances of $472,967 and $975,123 as of December 31, 2011 and 2010, respectively.

Accounts Receivable - Production

Accounts Receivable - Production consists of amounts due from customers for oil and gas sales and are considered fully collectible by the Company as of December 31, 2011 and 2010. The Company determines when receivables are past due based on how recently payments have been received and has not experienced a bad debt loss in the last three years.

Concentrations of Credit Risk

All of our receivables are due from crude oil and natural gas purchasers. We sold approximately 34% and 23% of our crude oil and natural gas production to two customers during the year ended December 31, 2011. At December 31, 2011, these two customers accounted for approximately 14% and 36%, respectively of Accounts Receivable-Production. During 2010, we sold approximately 34%, 19% and 15% to three customers.

Property and Equipment

Property and equipment is stated at cost. Depreciation is computed on a straight-line basis over the estimated useful lives ranging from three to ten years.

Asset Retirement Obligation

The Company accounts for asset retirement obligations under the provisions of ASC 410, Asset Retirement and Environmental Obligations, which provides for an asset and liability approach to accounting for Asset Retirement Obligations (ARO). Under this method, when legal obligations for dismantlement and abandonment costs, excluding salvage values, are incurred, a liability is recorded at fair value and the carrying amount of the related oil and gas properties is increased. Accretion of liability is recognized each period using the interest method of allocation and the capitalized cost is depleted over the useful life of the related asset. Asset retirement obligations as of December 31, 2011 and 2010 were $1,186,260 and $508,588, respectively.

Our asset retirement obligations represent our best estimate of the fair value of our future abandonment costs associated with our oil and gas properties, including the costs of removal and disposition of tangible equipment, site and environmental restoration. We estimate the fair value of our retirement costs in the period in which the liability is incurred, if a reasonable estimate can be made. The determination of the fair value of an asset retirement obligation generally involves estimating the fair value of the obligation at the end of the property’s useful life and then discounting it to present value using a credit adjusted, risk free rate of return. Estimating future asset removal costs is difficult and requires management to make estimates and judgments regarding the expected removal and site restoration costs, timing and present value discount rates. Changes in the estimated useful life and the fair value of the asset retirement obligation are imprecise since the removal activities will generally occur several years in the future and asset removal technologies and costs are constantly changing, as are political, environmental and safety considerations that may ultimately impact the amount of the obligations.

 
F - 11

 

NOTE 2 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)

Derivatives

Due to the volatility of oil and natural gas prices, the Company periodically enters into price-risk management transactions (e.g., swaps, collars and floors) for a portion of its oil and natural gas production. This allows it to achieve a more predictable cash flow, as well as to reduce exposure from price fluctuations. These arrangements apply to only a portion of the Company’s production, provide only partial price protection against declines in oil and natural gas prices, and limit the Company’s potential gains from future increases in prices. None of these instruments are used for trading purposes.

All of these price-risk management transactions are considered derivative instruments and accounted for under the provisions of ASC 815-25 (formerly SFAS No. 133 “Accounting for Derivative Instruments and Hedging Activities”). Under this pronouncement, derivatives are carried on the balance sheet at fair value. These derivative instruments are intended to hedge the Company’s price risk and may be considered hedges for economic purposes, but certain of these transactions may or may not qualify for cash flow hedge accounting. All derivative instrument contracts are recorded on the Balance Sheets at fair value.

We are permitted to net the fair values of derivative assets and liabilities for financial reporting purposes, if such assets and liabilities are with the same counterparty and subject to a master netting arrangement. We have elected to employ net presentation of derivative assets and liabilities when these conditions are met. When derivative assets and liabilities are presented net, the fair value of the right to reclaim collateral assets (receivable) or the obligation to return cash collateral (payable) is also offset against the net fair value of the corresponding derivative. We routinely exercise our contractual right to net realized gains against realized losses when settling with our swap counterparty.

If the derivative is not designated as a hedge, as in our case, changes in the fair value are recognized in Other Income (Expense) on the Statements of Operations.

Income Taxes

The Company is a taxable entity for federal or state income tax purposes for which an income tax provision has been made in the accompanying financial statements. Deferred income tax assets and liabilities are computed annually, under the provisions of ASC 740 (formerly SFAS No. 109, Accounting for Income Taxes), for differences between the financial statement and tax bases of assets and liabilities that will result in taxable or deductible amounts in the future based on enacted tax laws and rates applicable to the periods in which the differences are expected to affect taxable income. Valuation allowances are established when necessary to reduce deferred tax assets to the amount expected to be realized. Income tax expense is the tax payable or refundable for the period plus or minus the change during the period in deferred tax assets and liabilities. Differences between the enacted tax rates and the effective tax rates are primarily the result of timing differences in the recognition of depletion and accretion expenses. These differences do not create a material variance between the enacted tax rate and the effective tax rate.

Contingencies

Legal - The Company is subject to environmental laws and regulations of various U.S. jurisdictions. These laws, which are constantly changing, regulate the discharge of materials into the environment and may require the Company to remove or mitigate the environmental effects of the disposal or release of petroleum or chemical substances at various sites.

Environmental - Environmental costs that relate to current operations are expensed or capitalized as appropriate. Costs are expensed when they relate to an existing condition caused by past operations and will not contribute to current or future revenue generation.

Liabilities related to environmental assessments and/or remedial efforts are accrued when property or services are provided or can be reasonably estimated.

Revenue and Cost Recognition

The Company recognizes oil and natural gas revenue from its interests in producing wells when oil and natural gas is produced and sold from those wells. Costs associated with production are expensed in the period incurred.

 
F - 12

 

NOTE 2 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)

Stock-Based Compensation

ASC 718, “Compensation-Stock Compensation” requires recognition in the financial statements of the cost of employee services received in exchange for an award of equity instruments over the period the employee is required to perform the services in exchange for the award (presumptively the vesting period). We measure the cost of employee services received in exchange for an award based on the grant-date fair value of the award. We account for non-employee share-based awards based upon ASC 505-50, “Equity-Based Payments to Non-Employees.”

Stock based compensation for the year ended December 31, 2011 was $681,294. No related costs were incurred during 2010 by the Company’s predecessor. These amounts are recorded as General and Administrative expenses.

Earnings (Loss) per Common Share

The Company accounts for earnings (loss) per share in accordance with ASC 260 - 10 (formerly SFAS No. 128, Earnings per Share), which establishes the requirements for presenting earnings per share (“EPS”). ASC 260 - 10 requires the presentation of “basic” and “diluted” EPS on the face of the statement of operations. Basic EPS amounts are calculated using the weighted average number of common shares outstanding during each period. Diluted EPS assumes the exercise of all stock options, warrants and convertible securities having exercise prices less than the average market price of the common stock during the periods, using the treasury stock method. When a loss from continuing operations exists, as in the periods presented in these financial statements, potential common shares are excluded from the computation of diluted EPS because their inclusion would result in an anti-dilutive effect on per share amounts.

Fair value of financial instruments

The carrying value of cash and cash equivalents, accounts payable and accrued expenses and other liabilities approximates fair value due to the short term maturity of these instruments. The carrying value of the notes payable are believed to approximate their fair value as of December 31, 2011 based upon the relatively short period until maturity for these instruments.

New Accounting Pronouncements

In May 2011, the FASB issued Accounting Standards Update (“ASU”) 2011-04. The ASU is the result of joint efforts by the FASB and the International Accounting Standards Board (“IASB”) to develop a single, converged fair value framework. Thus, there are few differences between the ASU and its international counterpart, IFRS 13. This ASU is largely consistent with existing fair value measurement principles in U.S. GAAP; however it expands ASC 820’s existing disclosure requirements for fair value measurements and makes other amendments. The ASU is effective for interim and annual periods beginning after December 15, 2011. The Company does not expect the provisions of ASU 2011-04 to have a material effect on the financial position, results of operations or cash flows of the Company.

In June 2011, the FASB issued ASU 2011-05, which revises the manner in which entities present comprehensive income in their financial statements. The new guidance removes the presentation options in ASC 220 and requires entities to report components of comprehensive income in either (1) a continuous statement of comprehensive income or (2) two separate but consecutive statements. The ASU does not change the items that must be reported in other comprehensive income. The amendments are effective for fiscal years, and interim periods within those years, beginning after December 15, 2011. The Company does not expect the provisions of ASU 2011-05 to have a material effect on the financial position, results of operations or cash flows of the Company.

In September 2011, the FASB issued ASU 2011-08, which simplifies how entities test goodwill for impairment. This accounting update permits an entity to first assess qualitative factors to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying amount as a basis for determining whether it is necessary to perform the two-step good will impairment test described in ASC 350. The more-likely-than-not threshold is defined as having a likelihood of more than 50 percent. ASU 2011-08 will be effective for annual and interim goodwill impairment tests performed for fiscal years beginning after December 15, 2011 with early adoption permitted. We do not believe that the adoption of ASU 2011-08 will have a material impact on the Company’s consolidated results of operation and financial condition.

 
F - 13

 
 
NOTE 2 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (continued)

In December 2011, the FASB issued ASU No, 2011-11. ASU 2011-11 requires an entity to disclose information about offsetting and related arrangements on its financial position. This includes the effect or potential effect of rights of offset associated with an entity’s recognized assets and recognized liabilities and require improved information about financial instruments and derivative instruments that are either (1) offset in accordance with Section 210-20-45 or Section 815-10-45 or (2) subject to an enforceable master netting arrangement or similar agreement, irrespective of whether they are offset in accordance with Section 210-20-45 or Section 915-10-45. The amendments are effective for annual reporting periods beginning on or after January 1, 2013 and retrospective disclosure is required for all comparative periods presented. No early adoption is permitted.

In December 2011, the FASB issued ASU No. 2011-12. ASU 2011-12 defers changes in Update 2011-05 that relate to the presentation of reclassification adjustments. ASU 2011-12 is effective for fiscal years, and interim periods within those years, beginning after December 15, 2011. The Company does not believe that the adoption of ASU 2011-12 will have a material impact on the Company’s consolidated results of operation and financial condition.

The Company does not expect that the adoption of recently issued accounting pronouncements will have a material impact on its financial position, results of operations, or cash flows.

NOTE 3 – ASSET RETIREMENT OBLIGATION

The following is a description of the changes to the Company’s asset retirement obligations for the period ended December 31, 2011 and 2010:

 
 
2011
   
2010
(Predecessor)
 
Asset retirement obligations at beginning of year
  $ 508,588     $ 449,319  
Asset retirement obligations acquired in acquisition
    630,499        
Revision of previous estimates
    (158,452 )      
Accretion expense
    84,428       59,269  
Additions
    121,197          
Asset retirement obligations at end of year
  $ 1,186,260     $ 508,588  

NOTE 4 – BONDS & NOTES PAYABLE

7½% Debentures, Series 2005

On March 1, 2005, Pure Energy Group, Inc. and its subsidiary Pure Gas Partners, II, L.P., issued 7 ½ % Debentures, Series 2005, in the principal amount of $5,500,000. The Debentures are secured by all revenues of the issuer and all money held in the funds and accounts created under the Indenture. The Debentures mature on March 1, 2015, with principal and interest payable semi-annually on March 1 and September 1. As of December 31, 2011 and 2010 the balance payable was $3,395,000 and $4,215,000, respectively. The balances are shown on the Balance Sheets as Bonds Payable. Interest expense for the years ended December 31, 2011 and 2010 was $292,036 and $324,079, respectively.

Aggregate long-term debt, consisting of the 7½% Debentures, Series 2005, is estimated to be repayable annually as follows:

2012
   
570,000
 
2013
   
1,020,000
 
2014
   
1,175,000
 
2015
   
630,000
 
Total
 
$
3,395,000
 

 
F - 14

 
 
NOTE 4 – BONDS & NOTES PAYABLE (continued)

As permitted by the bond debt agreement, the Company purchases bonds back on the open market at its discretion. Bonds held by the Company at December 31, 2011 and 2010 totaled $260,000 and $185,000, respectively. The bonds held at year end 2011 were purchased at a discount of $16,719 during 2011, while those held at the prior year end were purchased at a discount of $15,145 during 2010. The bonds held by the Company are shown as a reduction of bonds payable on the balance sheet as follows:
    
2011
   
2010 (Predecessor)
 
Bonds payable, net of current portion
 
$
3,085,000
   
$
3,740,000
 
Sinking fund payments due within 12 months
   
830,000
     
660,000
 
Less: Bonds held by the Company
   
(260,000
)
   
(185,000
)
Bonds payable, current portion
   
570,000
     
475,000
 
Total Bonds payable
 
$
3,395,000
   
$
4,215,000
 

See Note 14 for a discussion of the redemption of all outstanding bonds subsequent to year end 2011.

Notes Payable Green Shoe Investments

In connection with the merger, the Company, as the accounting acquirer, assumed an unsecured loan from Green Shoe Investments Ltd. (“Green Shoe”). At that time the principal amount was $487,000 with an interest rate of 5.0%

On April 26, 2011, Cross Border Resources, Inc. (the “Company”) entered into a Loan Agreement with Green Shoe, and the Company executed and delivered a Promissory Note to Green Shoe in connection therewith. The amount of the Promissory Note and the loan from Green Shoe (the “Green Shoe Loan”) is $550,936 and the purpose of the Green Shoe Loan is to consolidate and extend all of the loans owed by the Company and its predecessors to Green Shoe including without limitation the following: (i) loan dated May 9, 2008 in the principal amount of $100,000, (ii) loan dated May 23, 2008 in the principal amount of $150,000, (iii) loan dated July 18, 2008 in the principal amount of $50,000, (iv) loan dated February 24, 2009 in the principal amount of $100,000, and (v) loan dated April 29, 2009 in the principal amount of $87,000 plus accrued interest of $63,936. The Green Shoe Loan is unsecured.

Beginning March 31, 2011 (the effective date of the Promissory Note), the amounts owed under the Promissory Note began to accrue interest at a rate of 9.99%, and the Promissory Note provides that no payments of principal or interest are due until the maturity date of September 30, 2012. The Company is obligated to pay all accrued interest and make a principal payment equal to one-third of the principal owed upon the closing of an equity offering resulting in a specified amount of net proceeds to the Company. In addition, Green Shoe was granted the right to convert the principal and interest owed into shares of common stock of the Company at a conversion price of $4.00 per share. The principal balance of these amounts as of December 31, 2011 is $367,309, which is shown in Current Liabilities on the Balance Sheets.

Notes Payable Little Bay Consulting

In connection with the merger, the Company, as the accounting acquirer, assumed an unsecured loan from Little Bay Consulting SA (“Little Bay”). At that time the principal amount was $520,000 with an interest rate of 5%.

On April 26, 2011, the Company entered into a Loan Agreement with Little Bay, and the Company executed and delivered a Promissory Note to Little Bay in connection therewith. The amount of the Promissory Note and the loan from Little Bay (the “Little Bay Loan”) is $595,423 and the purpose of the Little Bay Loan is to consolidate and extend all of the loans owed by the Company and its predecessors to Little Bay including without limitation the following: (i) loan dated March 7, 2008 in the original principal amount of $220,000, (ii) loan dated July 18, 2008 in the original principal amount of $100,000, and (iii) loan dated October 3, 2008 in the principal amount of $200,000 plus accrued interest of $75,423. The Little Bay Loan is unsecured.

Beginning March 31, 2011 (the effective date of the Promissory Note), the amounts owed under the Promissory Note began to accrue interest at a rate of 9.99%, and the Promissory Note provides that no payments of principal or interest are due until the maturity date of September 30, 2012. The Company is obligated to pay all accrued interest and make a principal payment equal to one-third of the principal owed upon the closing of an equity offering resulting in a specified amount of net proceeds to the Company. In addition, Little Bay was granted the right to convert the principal and interest owed into shares of common stock of the Company at a conversion price of $4.00 per share. The principal balance of these borrowings as of December 31, 2011 is $396,968, which is shown in Current Liabilities on the Balance Sheets.

 
F - 15

 
 
NOTE 5 – OPERATING LINE OF CREDIT

As of December 31, 2011 and 2010, the borrowing base on the line of credit was $4,500,000 and $2,350,000, respectively. The interest rate is calculated at the greater of the adjusted base rate or 4%. The line of credit is collateralized by producing wells and matures on January 31, 2014. As of December 31, 2011 and 2010, the outstanding balance on the line of credit was $2,381,000 and $1,582,426, respectively. Interest expense for years ended December 31, 2011 and 2010 was $96,805 and $52,864, respectively. The line of credit is reported as long-term debt because the maturity date is greater than one year. During December 2011, the borrowing base was increased from $4,000,000 to $4,500,000 on this facility. At December 31, 2011 our available balance was $2,119,000.

Effective March 1, 2012, the borrowing base was increased to $9,500,000. Subsequent to year end, the Company has borrowed an additional $6,419,000, bringing the outstanding balance to $8,800,000 at March 9, 2012.

NOTE 6 – CREDITORS PAYABLE

In 2002, the prior owner of Pure Sub filed a petition for reorganization with the United States Bankruptcy Court. According to the plan of reorganization, three creditors were to receive a combined amount of approximately $3,000,000 for their claims out of future net revenues of Pure Sub (defined as revenues from producing wells net of lease operating expenses and other direct costs).

The net estimated revenue distribution due to creditors in 2012 based on 2011 net revenues is $186,761 as of December 31, 2011 and is presented as a current liability. The net revenue distribution to creditors in 2011 based on 2010 net revenues was estimated at $150,000 as of December 31, 2010 and was presented as a current liability. As of December 31, 2011 and 2010, the combined creditors’ payable balance were $1,539,545 and $1,806,305, respectively.

NOTE 7 – OPERATING LEASES

The Company has a non-cancelable operating lease for office space expiring in June 2014. As of December 31, 2011, the remaining future minimum lease payments under the existing lease are as follows:

Year Ending December 31,
 
Operating Lease
 
2012
   
50,000
 
2013
   
51,250
 
2014
   
26,250
 
2015
   
 
Total minimum lease payments
 
$
127,500
 

Rent expense related to leases for the years ended December 31, 2011 and 2010 was $55,687 and $159,408, respectively.

NOTE 8 – RELATED PARTY TRANSATIONS

The Company paid $163,000 and $174,500 in consulting fees in the years ended December 31, 2011 and 2010, respectively to BDR Consulting, Inc. (BDR), a member of CCJ/BDR Investments, L.L.C., who owned a combined 64.108% limited partnership interest in the Pure Gas Partners, L.P. The president of BDR also served on the Board of Directors and was the Chief Executive Officer of Pure Energy Group, Inc. In addition, the Company rented office space from BDR on a month-to-month basis through September 2010. The Company paid BDR $18,000 in rental fees in the year ended December 31, 2010.

The Company has a development contract with Aztec Energy Partners I, L.P. (Aztec), whereby Aztec agreed to fund 100% of costs through completion on certain wells to be drilled in two counties in New Mexico. Certain partners in Aztec were also indirect limited partners and members of the Board of Directors of the Pure Energy Group. On certain wells, the Company owns a working interest. On those wells, Aztec will receive working interest and net revenue interest. During the years ended December 31, 2011 and 2010, the Company paid Aztec $379,989 and $356,145, for Aztec’s share of well income, net of related well costs, based on production.

 
F - 16

 

NOTE 8 – RELATED PARTY TRANSATIONS (continued)

Aztec Managing GP, LLC (Aztec MP) is the managing general partner of Aztec Energy Partners I, L.P. The principals of Aztec MP also served on the Board of Directors of the Pure Energy Group. During the years ended December 31, 2011 and 2010, the Company paid Aztec MP $111,297 and $154,314, respectively, for Aztec MP’s share of well income, net of related well costs, based on production.

At December 31, 2010, the Predecessor had a related party receivable on the balance sheet from Doral Energy Corporation with a balance of $250,000 with interest payable thereon at a rate of 5% per annum. This loan amount was settled as part of the purchase price allocation upon the closing of the reverse acquisition on January 3, 2011.

NOTE 9 – COMMITMENTS AND CONTINGENCIES

On May 4, 2011, Clifton M. (Marty) Bloodworth filed a lawsuit in the State District Court of Midland County, Texas, against Doral West Corp. d/b/a Doral Energy Corp., Patrick Seale and Everett Willard Gray II. Mr. Bloodworth alleges that Mr. Gray, as CEO of the Company, made false representations which induced Mr. Bloodworth to enter into an employment contract that was subsequently breached by the Company. The claims that Mr. Bloodworth has alleged are: breach of his employment agreement with Doral, common law fraud, civil conspiracy breach of fiduciary duty, and violation of the Texas Deceptive Trade Practices-Consumer Protection Act. Mr. Bloodworth is seeking damages of approximately $280,000.

On December 12, 2011, Red Mountain Resources, Inc. and Black Rock Capital, Inc., as direct and indirect shareholders of the Company, filed a lawsuit against the Company in the District Court of Clark County, Nevada as Case No. A-11-653-089-B. The plaintiffs have asked the Court (i) to order the Company to hold an annual shareholders’ meeting for the purpose of electing directors, and (ii) to declare that the solicitation or securing of proxies pursuant to a proxy solicitation made in accordance with the law shall not constitute or be deemed an “Association” as such term is defined in the Amendment to Bylaws adopted by the Company’s Board of Directors in November 2011. On January 23, 2012, we filed a motion to dismiss the lawsuit arguing that the complaint failed to state a claim upon which relief may be granted.. Specifically, we argued that: (i) the Plaintiffs’ claims are derivative in nature and the Plaintiffs failed to make a demand on the board or plead that such a demand would be futile; (ii) the Plaintiffs’ request for an order directing us to conduct a meeting of stockholders was not ripe; and (iii) the plain language of our amended bylaws compels a determination that a proxy agreement is an “Association,” as defined in the amended bylaws.

Other than the lawsuits described above, we are not currently a party to any legal proceedings outside of ordinary routine proceedings incidental to our business and which, in the aggregate, do not involve amounts greater than 10% of our current assets.

The Company, as an owner or lessee and operator of oil and gas properties, is subject to various federal, state and local laws and regulations relating to discharge of materials into, and protection of, the environment. These laws and regulations may, among other things, impose liability on the lessee under an oil and gas lease for the cost of pollution clean-up resulting from operations and subject the lessee to liability for pollution damages. In some instances, the Company may be directed to suspend or cease operations in the affected area. We maintain insurance coverage, which we believe is customary in the industry, although we are not fully insured against all environmental risks. The Company is not aware of any environmental claims existing as of December 31, 2011, which have not been provided for, covered by insurance or otherwise have a material impact on its financial position or results of operations. There can be no assurance, however, that current regulatory requirements will not change, or past non-compliance with environmental laws will not be discovered on the Company’s properties.

 
F - 17

 
 
NOTE 10 – INCOME TAXES
Income tax benefit (expense) attributable to income from continuing operations consists of:

   
Current
   
Deferred
   
Total
 
Year ended December 31, 2011:
                 
U.S. federal
  $ 197,890     $ (197,890 )   $ -  
                         
Year ended December 31, 2010:
                       
U.S. federal
  $ (5,886 )   $ 5,886     $ -  

Income tax expense attributable to income from continuing operations was $0 for both the years ended December 31, 2011 and 2010, respectively, and differed from the amounts computed by applying the U.S. federal income tax rate of 15% to pretax income from continuing operations as a result of the following:

Tax Rate Reconciliation
 
2011
   
2010
(Predecessor)
 
Computed “expected” tax rate
  $ (179,466 )   $ 42,448  
Increase (reduction) income taxes resulting from:
               
Pass-through income (loss) – PGP II
    -       (36,562 )
Change in valuation allowance
    206,149       (5,886 )
Deferred revenues
    (30,417 )     -  
Other, net
    3,734       -  
Net tax expense
  $ -     $ -  
 
Deferred tax assets consist of the following:
 
 
2011
   
2010
(Predecessor)
 
         
(As Restated)
 
Operating loss carry-forwards at beginning of year
  $ 71,962     $ 77,848  
Operating loss carry-forwards acquired at Pure Merger
    2,445,021       -  
Benefit (expense)
    206,149       (5,886 )
Operating loss carry-forwards before valuation allowance
    2,723,132       71,962  
Less: Valuation allowance
    (2,723,132 )     (71,962 )
Deferred tax asset at end of year
  $ -     $ -  

During 2010, deferred tax assets decreased by $5,886 to $71,962 due to the generation of loss carry-forwards that can be used to offset future taxable income. During 2011, deferred tax assets increased by $2,445,021 due to carry forward acquired during the Acquisition. These carry-forwards are limited to the lesser of operating income generated from the Doral legacy assets and the total consolidated operating income of the Company. In addition, the Company’s carry-forwards increased by $211,444 due to the generation of loss carry-forward used to offset taxable income.

As of December 31, 2011, the Company had net operating loss (“NOL”) carry-forwards totaling $18,050,857 that may be used to offset future taxable income. These NOL carry-forwards expire at December 31, of the years shown as follows:

Year
 
Amount
 
2023
  $ 351,402  
2026
    5,165  
2027
    39,650  
2028
    454,889  
2029
    1,991,545  
2030
    12,673,006  
2031
    1,303,470  
2032
    1,231,730  
Total NOL carry-forwards
  $ 18,050,857  
 
 
F - 18

 
 
NOTE 10 – INCOME TAXES (continued)

In assessing the realizability of deferred tax assets, management considers whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. The ultimate realization of deferred tax assets is dependent upon the generation of future taxable income during the periods in which those temporary differences become deductible. Management considers the scheduled reversal of deferred tax liabilities (including the impact of available carry-back and carry-forward periods), projected future taxable income, and tax planning strategies in making this assessment. In order to fully realize the deferred tax asset, the Company will need to generate future taxable income of approximately $18,050,857 prior to the expiration of the net operating loss carryforwards in 2032. The Company was in a loss position for the year ended December 31, 2011. Based upon the level of historical taxable income and projections for future taxable income over the periods in which the deferred tax assets are deductible, management believes it is more likely than not that the Company will not realize the benefits of these deductible differences and, as such has recorded a valuation allowance for the total amount of carry-forwards at December 31, 2011. The amount of the deferred tax asset considered realizable, however, could be increased in the near term if estimates of future taxable income during the carry-forward period are increased.

NOTE 11 – STOCKHOLDERS’ EQUITY AND EARNINGS PER SHARE

2011 Equity Financing

On May 26, 2011, the Company closed a private offering exempt from registration under the Securities Act of 1933 pursuant to Rule 506 of Regulation D promulgated thereunder. In the offering, the Company issued an aggregate of 3,600,000 units. Each unit was sold at $1.50 and was comprised of one share of common stock and one five-year warrant to purchase a share of common stock at an exercise price of $2.25 per share. The warrants are exercisable beginning on November 26, 2011. The Company agreed to use the net proceeds from the sale of the units for general business and working capital purposes and not to use such proceeds for the redemption of any common stock or common stock equivalents.

The investors in the offering received registration rights. The Company agreed to file a registration statement covering the resale of the common stock issued and the common stock underlying the warrants issued to the Selling Stockholders within sixty days after the closing date. If the registration statement is was not declared effective by the SEC within the time periods defined within the agreement, then the Company would have made pro rata cash payments to each Purchaser as liquidated damages in an amount equal to 1.0% of the aggregate amount invested by such Purchaser for each 30-day period or pro rata for any portion thereof following the date by which such Registration Statement should have been effective. If at the time of exercise of the warrants there is no effective registration statement covering the resale of the shares underlying the warrant, then the Selling Stockholder has the right at such time to exercise warrants in full or in part on a cashless basis. The Company filed an S-1 registrations statement registering the shares on July 25, 2011, which was declared effective on August 5, 2011.

In addition to registration rights, the Selling Stockholders were offered a right of first refusal to participate in future offerings of common stock if the principal purpose of which is to raise capital. This right of first refusal terminates upon the earlier of a sale, merger, consolidation or reorganization of the Company or the one-year anniversary of the Closing Date.

Warrants

In connection with the equity offering closed on May 26, 2011, the Company issued warrants to purchase an aggregate of 3,600,000 shares of the Company’s common stock at a per share price of $2.25 (the “$2.25 Warrants”). The Company also has outstanding warrants to purchase 3,125 shares of the Company’s common stock at a per share price of $5.00.

The $2.25 Warrants contain a limitation prohibiting exercise of the warrants if the shares issued would cause the holder to own more than 20% of the outstanding stock. The holder of 2,136,164 of the $2.25 Warrants currently would be disallowed from exercising those warrants under this provision. If all of the remaining 1,463,836 warrants are exercised for cash, the Company would receive $3,293,631 in aggregate proceeds. The $2.25 Warrants became exercisable in November 2011. The Company does not expect the immediate exercise of these warrants as the exercise price exceeds the average closing market price for the Company’s common stock. Furthermore, no assurances can be made that any of the warrants will ever be exercised for cash or at all.

 
F - 19

 
 
NOTE 11 – STOCKHOLDERS’ EQUITY AND EARNINGS PER SHARE (continued)

Stock Issued for Services

During 2011, the Company issued a total of 75,000 shares of its common stock as compensation for services by consultants. Non-cash expense of $172,500 was recognized in 2011 over the respective service periods. The valuation of the stock was based on the closing market price for the Company’s common stock on the effective dates of the issuances.

Stock Options

In January 2011, the Company issued options to purchase a total of 1,602,500 shares of its common stock at option prices ranging from $4.80 to $6.38 per share. Of that total, 1,265,000 were issued to employees, 250,000 were issued to a consultant and 87,500 were issued to the Company’s directors. During 2011, unvested options to purchase 325,000 shares were forfeited by an employee and a consultant whose relationship with the company ended. Also vested options to purchase 225,000 shares expired unused during 2011. In October 2011, the Company’s board of directors offered to purchase all options held by current employees at $0.10 per option share. All employees accepted the offer, resulting in a total payment by the Company of $96,500. The Company subsequently cancelled the options purchased. At December 31, 2011, options to purchase 87,500 shares of stock at $4.80 per share remained outstanding, all of which are exercisable and held by members of the Company’s board of directors.

Stock option activity summary is presented in the table below:

               
Weighted-
       
               
average
       
         
Weighted-
   
Remaining
       
         
average
   
Contractual
   
Aggregate
 
   
Number of
   
Exercise
   
Term
   
Intrinsic
 
   
Shares
   
Price
   
(years)
   
Value
 
Outstanding at December 31, 2010 (Predecessor)
    -     $ -       -     $ -  
Granted
    1,602,500       5.21                  
Cancelled
    (965,000 )     5.23                  
Exercised
    -       -                  
Forfeited
    (325,000 )     5.33                  
Expired
    (225,000 )     4.80                  
Outstanding and exercisable at December 31, 2011
    87,500     $ 4.80       4.08     $ -  

There is no intrinsic value in the outstanding options since the option price is in excess of the market price of the Company’s common stock.

The fair value of the options granted during 2011 was estimated at the date of grant using the Black-Scholes option-pricing model with the following assumptions:

Closing market price of stock on grant date
 
$3.11
Risk-free interest rate
 
2.43%
Dividend yield
 
0.00%
Volatility factor
 
50%
Expected life
 
2.5 years

 
F - 20

 

NOTE 11 – STOCKHOLDERS’ EQUITY AND EARNINGS PER SHARE (continued)

Earnings Per Share

The following table illustrates the calculation of earnings per share for the years ended December 31:
 
   
2011
   
2010
(Predecessor)
 
Net income (loss)
  $ (1,196,440 )   $ 282,989  
Weighted-average number of common shares
    14,945,782       n/a  
Earnings per common share:
               
Basic
  $ (0.08 )     n/a  
Diluted
  $ (0.08 )     n/a  

In periods where a net loss is incurred, any assumed exercise of stock options or warrants would be anti-dilutive. The exercise prices of all outstanding stock options and warrants exceeded the market price for the Company’s common stock throughout the periods shown. Therefore there would have been no dilutive impact from these items if there were net income for the periods. Prior to the merger, effective January 3, 2011, the accounting acquirer was a privately held partnership. No earnings per share can be calculated for those periods.

NOTE 12 – DERIVATIVE INSTRUMENTS AND PRICE RISK MANAGEMENT ACTIVITIES

ASC 815-25 (formerly SFAS No. 133 “Accounting for Derivative Instruments and Hedging Activities”) requires that all derivative instruments be recorded on the balance sheet at their fair value. Changes in the fair value of each derivative is recorded each period in current earnings or other comprehensive income, depending on whether the derivative is designated as part of a hedge transaction and, if it is, the type of hedge transaction. When choosing to designate a derivative as a hedge, management formally documents the hedging relationship and its risk-management objective and strategy for undertaking the hedge, the hedging instrument, the item, the nature of the risk being hedged, how the hedging instrument’s effectiveness in offsetting the hedged risk will be assessed, and a description of the method of measuring effectiveness. This process includes linking all derivatives that are designated as cash-flow hedges to specific cash flows associated with assets and liabilities on the balance sheet or to specific forecasted transactions. Based on the above, management has determined the swaps noted above do not qualify for hedge accounting treatment.

At December 31, 2011, we had a net derivative liability of $84,994, with no comparable item at the prior year end. Therefore, the total net derivative liability of $84,994 represents the change in fair value and is reflected in “other income (expense)” on the Statement of Operations. Net realized hedge settlement gains totaled $73,223 during 2011.

As of December 31, 2011, we have crude oil swaps in place relating to a total of 3,000 Bbls per month, as follows:
 
 
Transaction
         
 
Price
Per
 
 
Volumes Per
 
Fair Value of Outstanding
Derivative Contracts (1)
(in thousands)
as of December 31,
 
 
Date
 
Type (2)
 
Beginning
 
Ending
 
Unit
 
Month
  2011   2010 (Predecessor)  
March 2011
 
Swap
 
04/01/2011
 
02/28/2011
 
$104.55
 
1,000
 
$
83,594
 
$
-
 
November 2011
 
Swap