10QSB 1 l10qsb093007.txt SOUTH TEXAS OIL COMPANY FORM 10-QSB U.S. SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-QSB (Mark One) [x] QUARTERLY REPORT UNDER SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended September 30, 2007 [ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE EXCHANGE ACT For the transition period from ___________ to ___________ Commission file number: 000-50732 South Texas Oil Company -------------------------------------------- (Name of small business issuer in its charter) Nevada 74-2949620 ------------------------ -------------- (State or other jurisdiction of (IRS Employer incorporation or organization) Identification No.) 769 Highway 95 N, Bastrop, TX 78602 ---------------------------------- --------- (Address of principal executive offices) (Zip Code) 512-772-2474 (Telephone) 512-263-5046 (Fax) -------------------------------------------- (Issuer's telephone number) Check whether the issuer (1) filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act during the past 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 [ ] APPLICABLE ONLY TO ISSUERS INVOLVED IN BANKRUPTCY PROCEEDING DURING THE PRECEDING FIVE YEARS Check whether the Registrant filed all documents and reports required to be filed by Section 12, 13 or 15(d) of the Exchange Act after the distribution of securities under a plan confirmed by a court. Yes [ ] No [ ] APPLICABLE ONLY TO CORPORATE ISSUERS The Registrant has 15,651,919 outstanding, par value $.001 per share as of November 13, 2007. Transitional Small Business Disclosure Format (check one): Yes [ ] No [X] 1 TABLE OF CONTENTS Page No. PART I. FINANCIAL INFORMATION Item 1. Financial Statements...................................... F-1 Balance Sheet (unaudited)................................. F-2 Statements of Operations (unaudited)...................... F-3 Statements of Changes in Stockholders' Equity............. F-4 Statements of Cash Flows (unaudited)...................... F-5 Notes to Financial Statements............................. F-6 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operation................................. 3 Item 3. Controls and Procedures..................................... 7 PART II. OTHER INFORMATION Item 1. Legal Proceedings......................................... 8 Item 2. Unregistered Sales of Equity and Use of Proceeds.......... 8 Item 3. Defaults upon Senior Securities........................... 8 Item 4. Submission of Matters to a Vote of Security Holders....... 8 Item 5. Other Information.......................................... 8 Item 6. Exhibits and Reports on Form 8-K........................... 9 Signatures........................................................... 10 2 PART I. FINANCIAL INFORMATION Item 1. Financial Statements. The condensed financial statements of South Texas Oil Company included herein have been prepared in accordance with the instructions to quarterly reports on Form 10-QSB pursuant to the rules and regulations of the Securities and Exchange Commission. Certain information and footnote data necessary for fair presentation of financial position and results of operations in conformity with accounting principles generally accepted in the United States of America have been condensed or omitted. It is therefore suggested that these financial statements be read in conjunction with the summary of significant accounting policies and notes to financial statements included in South Texas Oil Company's Annual Report on Form 10-KSB for the year ended December 31, 2006. In the opinion of management, all adjustments necessary in order to make the financial position, results of operations and changes in financial position at September 30, 2007, and for all periods presented not misleading have been made. The results of operations for the period ended September 30, 2007 are not necessarily an indication of operating results to be expected for the full year ending December 31, 2007. F-1 SOUTH TEXAS OIL COMPANY BALANCE SHEETS
UNAUDITED AUDITED 9/30/07 12/31/06 ----------- ----------- CURRENT ASSETS: Cash and cash equivalents $ 413,621 $ 1,273,150 Accounts receivable 3,437,571 40,230 Prepaid expenses 58,140 8,249 ----------- ----------- TOTAL CURRENT ASSETS 3,909,332 1,321,629 Office equipment, net of depreciation 89,543 30,206 Vehicles, net of depreciation 132,827 22,033 Drilling rigs, net of depreciation 3,044,373 - Proved reserves, net of depletion 18,057,536 2,024,548 Unproved reserves, net of depletion 33,765,018 1,085,975 OTHER ASSETS: Debt Issuance Cost 4,848,623 - Deposits 1,500 1,500 ----------- ----------- TOTAL OTHER ASSETS 4,850,123 1,500 ----------- ----------- TOTAL ASSETS $63,848,752 $ 4,485,891 =========== =========== CURRENT LIABILITIES: Accounts payable & accrued expenses $ 3,186,824 $ 17,252 Asset retirement obligation 479,460 28,283 Current portion of long term debt 1,207,517 - Customer advances 1,504,262 - Related party current portion of long-term debt 22,661 21,805 ----------- ----------- TOTAL CURRENT LIABILITIES 6,400,724 67,340 ----------- ----------- Long term loans Asset retirement obligation, long term 257,162 430,777 Long term notes payable 4,513,065 - Line of Credit 16,945,000 - Related party L.T. debt, net of current portion 21,103 46,176 ----------- ----------- TOTAL LIABILITIES 28,137,054 544,293 ----------- ----------- STOCKHOLDERS' EQUITY: Preferred stock, $0.001 par value 5,000,000 shares authorized, none issued - - Common stock, $0.001 par value, 50,000,000 shares authorized; 15,651,919 shares issued and outstanding at September 30, 2007 15,652 13,445 Additional paid-in capital 39,692,669 13,580,620 Subscribed stock - (7,500,000) Deferred compensation (16,625) - Accumulated deficit (3,979,998) (2,152,467) ----------- ----------- TOTAL STOCKHOLDERS' EQUITY 35,711,698 3,941,598 ----------- ----------- TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $63,848,752 $ 4,485,891 =========== ===========
The accompanying notes to financial statements are an integral part of these financial statements. F-2 SOUTH TEXAS OIL COMPANY STATEMENTS OF OPERATIONS For the Three and Nine Months Ended September 30, 2007 and 2006
UNAUDITED UNAUDITED UNAUDITED UNAUDITED 3 MONTHS 3 MONTHS 9 MONTHS 9 MONTHS ENDED ENDED ENDED ENDED 9/30/07 9/30/06 9/30/07 9/30/06 ----------- ----------- ----------- ------------ REVENUE Oil and gas sales $ 1,575,011 $ 173,544 $ 2,466,906 $ 446,253 Drilling rig income 397,811 - 920,312 - ----------- ----------- ----------- ------------ Total revenues 1,972,822 173,544 3,387,218 446,253 EXPENSES General and administrative 314,931 122,861 781,246 299,419 Drilling rig costs 304,289 - 778,633 - Production costs 693,003 25,296 1,129,776 86,415 Depreciation, depletion, and amortization 347,275 36,125 750,947 101,370 Asset retirement obligation expense 6,912 - 20,400 - Plugging of wells - 15,821 - 56,676 Production taxes 31,277 10,721 36,073 14,174 ----------- ----------- ----------- ------------ Total expenses 1,697,687 210,824 3,497,075 558,054 ----------- ----------- ----------- ------------ OTHER INCOME (EXPENSE) Interest income 3,197 25,433 23,381 52,122 Forgiveness of debt - - - 12,222 Interest expense (773,475) - (1,741,055) (159,303) ----------- ----------- ----------- ------------ Total other income (expense) (770,278) 25,433 (1,717,674) (94,959) ----------- ----------- ----------- ------------ Loss before provision for income taxes (495,143) (11,847) (1,827,531) (206,760) Provision for income taxes - - - - ----------- ----------- ----------- ------------ NET LOSS $ (495,143) $ (11,847) $(1,827,531) $ (206,760) =========== =========== =========== ============ BASIC WEIGHTED AVERAGE NUMBER OF COMMON SHARES OUTSTANDING 15,558,214 10,818,266 14,072,084 7,855,972 =========== =========== =========== ============ DILUTED WEIGHTED AVERAGE NUMBER OF COMMON SHARES OUTSTANDING 15,558,214 10,818,266 14,072,084 7,855,972 =========== =========== =========== ============ BASIC NET LOSS PER SHARE $ (0.03) $ ** $ (0.13) $ (0.03) =========== =========== =========== ============ DILUTED NET LOSS PER SHARE $ (0.03) $ ** $ (0.13) $ (0.03) =========== =========== =========== ============
** = less than $0.01 per share The accompanying notes to financial statements are an integral part of these financial statements. F-3 SOUTH TEXAS OIL COMPANY CONSOLIDATED STATEMENT CHANGES IN STOCKHOLDER EQUITY FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2007 UNAUDITED
Subscribed Common Common Additional Stock / Stock Stock Paid-in Deferred Income Total Shares Amount Capital Compensation Deficit Equity ---------- ------- ----------- ------------ ----------- ----------- Balance at December 31, 2006 13,444,743 $13,446 $13,580,620 $ (7,500,000) $(2,152,467) $ 3,941,598 Issued for royalty payments 13,098 $ 13 $ 74,146 $ - $ - $ 74,159 Issued related to the cashless 50,000 $ 50 $ (50) $ - $ - $ - conversion of options Issued for services 6,000 $ 6 $ 56,994 $ (16,625) $ - $ 40,375 Warrants issued in accordance - $ - $ 5,700,945 $ - $ - $ 5,700,945 with loan agreement Purchase of Leexus Properties 2,000,000 $ 2,000 $18,978,000 $ - $ - $18,980,000 Purchase of Colorado Leases - - - $ 7,500,000 - $ 7,500,000 Contribution of vehicle-related - $ - $ 2,151 $ - $ - $ 2,151 party Purchase of Diversity 105,820 $ 105 $ 999,895 $ - $ - $ 1,000,000 Purchase of Drilling Rig 32,258 $ 32 $ 299,968 $ - $ - $ 300,000 Net Profit (Loss) for nine months Ended September 30, 2007 - $ - $ - $ - $(1,827,531) $(1,827,531) ---------- ------- ----------- ------------ ----------- ----------- Balance at September 30, 2007 15,651,919 $15,652 $39,692,669 $ (16,625) $(3,979,998) $35,711,698 ========== ======= =========== ============ =========== ===========
The accompanying notes to financial statements are an integral part of these financial statements. F-4 SOUTH TEXAS OIL COMPANY STATEMENT OF CASH FLOWS For the Nine Months Ended September 30, 2007 and 2006
UNAUDITED UNAUDITED 9 MONTHS 9 MONTHS ENDED ENDED 9/30/07 9/30/06 ----------- ----------- CASH FLOWS FROM OPERATING ACTIVITIES: Net loss $(1,827,531) $ (206,760) Stock issued for services and purchases 40,377 (3,055) Stock issued for settlement of debt and interest - 100,620 Debt issuance costs related to funding 852,323 - Notes issued for purchases 2,200,000 - Depreciation, depletion and amortization 750,947 101,370 Increase in accounts receivable (3,397,340) (34,127) Increase in deposits - (2,550) Increase in prepaid expenses (49,891) (4,074) Decrease in related party accrued interest - (9,000) Increase in accrued interest - 47,690 Increase in asset retirement obligation 277,562 - Decrease in payroll liabilities - (47,510) Increase in accounts payable 3,169,570 31,350 ----------- ----------- NET CASH PROVIDED (USED) BY OPERATING ACTIVITIES 2,016,016 (26,046) ----------- ----------- CASH FLOWS FROM INVESTING ACTIVITIES: Purchase of property and equipment (20,649,783) (578,228) ----------- ----------- CASH FLOWS FROM FINANCING ACTIVITIES: Increase (decrease) in loans payable 853,454 (66,650) Decrease in related party notes payable (24,216) (33,875) Increase in line of credit 16,945,000 - Sale of common stock - 1,124,531 ----------- ----------- NET CASH PROVIDED BY FINANCING ACTIVITIES 17,774,238 1,024,006 ----------- ----------- NET INCREASE (DECREASE) IN CASH (859,529) 419,732 BALANCE, BEGINNING 1,273,150 1,874,862 ----------- ----------- BALANCE, ENDING $ 413,621 $ 2,294,594 =========== =========== INTEREST PAID $ 656 $ - =========== =========== TAXES PAID $ - $ - =========== =========== Summary of Non Cash Items: Stock issued to pay royalty payments $ 74,159 Purchase of leases for note and stock $31,025,316 Contribution of Vehicle from related party $ 2,151 Capitalized debt issuance costs $ 5,700,945 Purchase of drilling rig with note and stock $ 1,000,000
The accompanying notes to financial statements are an integral part of these financial statements. F-5 SOUTH TEXAS OIL COMPANY NOTES TO FINANCIAL STATEMENTS NOTE 1 - History and Organization and Significant Accounting Policies South Texas Oil Company (formerly known as Nutek Oil, Inc.) was incorporated on December 3, 1998. The Company is in the oil producing business primarily in Colorado and Texas. The Company purchased selected equipment and assets from Clipper Operating Company and began operations as a separate company during 2001. Principles of Consolidation: The attached consolidated financial statements include the accounts of the Company and its wholly owned subsidiaries. All significant inter-company transactions have been eliminated in consolidation. RECLASSIFICATION Certain reclassifications, which have no effect on net income (loss), have been made in the prior period financial statements to conform to the current presentation. NOTE 2 - OIL PROPERTIES Oil properties are made up of the following: 09/30/07 12/31/06 ----------- ---------- Proved reserves $19,565,812 $2,892,358 Unproved reserves 33,981,800 1,238,950 Drilling rigs 3,073,098 - Office equipment 97,482 31,433 Vehicles 144,728 22,753 Accumulated depreciation (1,773,623) (1,022,732) ----------- ---------- $55,089,297 $3,162,762 =========== ========== The company has recorded the entire asset retirement obligation related to the wells in Big Foot / Kyote as a current liability due to the sale pending as of September 30, 2007. (See Note 9) NOTE 3 - LINES OF CREDIT The Company has a line of credit agreement with a financial institution which provides maximum borrowing of $75,000. Interest on outstanding balances accrues at prime plus 2% and is payable monthly. The interest rate at September 30, 2007 is 10.25%. The line must be renewed each year. The balance at September 30, 2007 is $0. On January 31, 2007, the Company received a 3 year, $15 million secured revolving credit facility. The lender received a warrant to purchase 1,000,000 shares at $10.00 per share for a period of five (5) years of South Texas Oil Company common stock as part of the funding commitment. Interest accrues at prime plus 4%, payable quarterly, in arrears. On September 25, 2007 the credit facility was increased to $30 million. The interest rate on September 30, 2007 was 11.75%. The balance owed as of September 30, 2007 is $16,945,000. Accrued and unpaid interest on September 30, 2007 was $432,351. South Texas Oil Company and/or its subsidiaries will execute and deliver to Lender those certain Conveyances of Overriding Royalty Interests, each in a form acceptable to Lender, whereby South Texas shall, and/or shall cause the applicable Subsidiaries to, grant perpetual overriding royalty interests in its and the subsidiaries' current and future interests in the hydrocarbon production of all of their leases in the Giddings and Bastrop properties (the "Override Properties") as follows: * Overriding royalty interests of Lender in the Override Properties equal to 4% until the Override Properties produce 1,000 bbls per day net to the subject working interests for 90 consecutive days; * Thereafter, overriding royalty interests of Lender in the Override Properties equal to 3% until the Override Properties produce 2,000 bbls per day net to the subject working interests for 90 consecutive days; and * Thereafter, overriding royalty interests of Lender in the Override Properties equal to 2%. Notwithstanding the foregoing, at any time after Borrower repays in full all of the outstanding Notes (as defined in the Security Agreement) and the Loan Agreement has been terminated, such overriding royalty interests of Lender in the Override Properties shall be 2%. F-6 Note 4 - Notes Payable The Company had loans outstanding of $5,720,582 as of September 30, 2007 as follows: INTEREST LOANS PAYABLE SEPT 30, RATE 2007 -------- --------------------------------------------------- -------- 4.90% Secured vehicle note payable, principal is $34,671, required monthly payment of $799 for 48 months, $ 31,030 matures April 28, 2011. 4.90% Secured vehicle note payable, principal is $30,090, required monthly payment of $693 for 48 months, 26,930 matures April 28, 2011. Unstated Note payable, principal of $180,000 with no stated interest rate, required monthly payment of $5,000 117,317 for 18 months, $22,500 for 4 months. (Refer to additional disclosure in Note 6 - Acquisition of Assets) Leexus shareholder note payable, payable out of 3,419,231 production (See Note 6) Diversity Petroleum, LP, payable at $62,500 1,426,074 per month for 24 months, matures October 2009 7.00% Granite Energy, Inc., payable at $31,341 per month 700,000 for 24 months, matures November 2009 --------- Total Notes Payable 5,720,582 --------- Less: Current portion of long-term debt (1,207,517) --------- Net Long-Term Debt $4,513,065 ========= NOTE 5 - RELATED PARTY TRANSACTIONS The Company has an outstanding note payable to Murray Conradie, the Company's CEO, related to the purchase of wells during the 2nd quarter of 2005, with a balance owed as of September 30, 2007 of $24,530. This note is to be paid monthly for a period of thirty six (36) months (from April 2005) with interest of seven percent (7%) accruing on the outstanding balance. The monthly payment amount is not to exceed the income from the minimum net revenue interest (NRI) from the prior month's production. Payment will be adjusted accordingly and the remaining balance increased by the monthly shortfall should any occur. The Company has an outstanding note payable to Jason Griffith, the Company's former CFO, related to the purchase of wells during the 2nd quarter of 2005, with a balance owed as of September 30, 2007 of $17,454. This note is to be paid monthly for a period of thirty six (36) months (from April 2005) with interest of seven percent (7%) accruing on the outstanding balance. The monthly payment amount is not to exceed the income from the minimum net revenue interest (NRI) from the prior month's production. Payment will be adjusted accordingly and the remaining balance increased by the monthly shortfall should any occur. F-7 Note 6 - Acquisition of Assets On April 20, 2007, South Texas Oil Company entered into an Agreement and Plan of Merger whereby Leexus Properties Corp was merged into Leexus Operating Company, a newly formed subsidiary of South Texas Oil Company. As consideration for the merger, the Company issued 2,000,000 shares of restricted common stock (valued as $18,980,000 or $9.49 per share) and provided $3 million in cash and issued a note for $4 million to the selling shareholders of Leexus Properties Corp. (Refer to Note 7 - Stockholders' Equity). Prior to the closing of the transaction, the seller spent additional funds on drilling and improving the assets being purchased. The $4 million note was increased to $4,485,241 based on the additional improvements made. The same terms apply to this note whereas the note is paid from production. This is a non-interest bearing note. Given this is a non-interest bearing note and the payments are made based on the lesser of 75% of the current months net production or 75% of the net production from the average December 2006, January 2007, and February 2007 production, the company recorded the discounted present valued assuming a 4.90% borrowing rate (based on current loans). This reduced the face value of the note to $3,378,059. During the quarter ended September 30, 2007, $41,172 of the discount was amortized to expense. The purchase price of $25,980,000 was allocated between proved and unproved reserves. $18,967,244 was allocated to unproven reserves, whereas $7,012,756 was allocated to proven reserves. The allocation was based on an estimate of a 48 month payback, based on prior production. The company is in the process of obtaining engineering reports for these properties. On June 18, 2007, the Company entered into an agreement to acquire certain oil and gas interests and certain assets of Senora Resources, Inc. and James D. Dobos, II (collectively the "Seller"). As consideration for the acquisition, the Company provided $1.8 million in cash. The entire purchase price of $1,800,000 was allocated to proven reserves. The company is in the process of obtaining engineering reports for these properties. On April 4, 2007, the Company entered into an equipment purchase agreement with TeXana Drilling, LLC (TeXana) and CD Kirchner, an individual and sole member of TeXana Drilling, LLC to purchase an oil well drilling rig and related equipment for a total purchase price of $1,065,418. The purchase price is to be paid as follows in accordance with the agreement: a. The Company paid Six Hundred and Ten Thousand four hundred eighteen dollars ($610,418) to Republic Bank of Norman OK to settle the sellers outstanding loan. b. The Company paid Two Hundred and Seventy Five Thousand dollars ($275,000) at closing; and c. The balance of One Hundred and Eighty Thousand dollars ($180,000) will be paid as follows: i. Five Thousand dollars ($5,000) per month commencing sixty days after closing for a period of Eighteen (18) months; and ii. Twenty Two Thousand Five Hundred dollars ($22,500) per month for four (4) months commencing month Nineteen (19) after closing. The Company has deferred making the monthly payments because significant amounts of unanticipated repair work was required on the drill rig. Furthermore, the Company anticipates that the note will be reduced in the future by the amounts incurred for parts and repairs during the 90 day warranty period specified in the purchase agreement. The total amount of reduction of the notes incurred during the nine months ended September 30, 2007 was approximately $62,700. On September 17, South Texas Oil purchased a second drilling rig from Granite Energy, Inc. for $1,300,000. The Company paid $300,000 in cash, issued 32,258 shares of restricted stock valued at $300,000 and pay the remaining balance of $700,000 over a period of 24 months at 7% interest. On September 25, 2007, South Texas Oil Company, through a subsidiary STO Properties, LLC, purchased all rights, titles and interests (of whatever kind or character, whether legal or equitable, and whether vested or contingent) of Diversity Petroleum, LLP (including interests in oil, gas and/or mineral leases covering such lands and wells, overriding royalties, production payments and net profits interests in such lands, such leases and wells, and fee mineral interests, fee royalty interests and other interests in such oil, gas and other minerals)for an amount of $10 million by paying $7.5 million in cash, issuing a promissory note for $1.5 million at ten percent (10%) interest only if defaulted and issuing restricted shares valued at $1 million. Because the interest is only due upon default, the company recorded the note at its Net Present Value of $1,426,074. F-8 NOTE 7 - STOCKHOLDERS' EQUITY In January 2007, the Company issued 13,098 shares valued at $74,159 to royalty owners of a certain lease in order to obtain the assignment of all rights, title and interest in the production payment in leases. In January 2007, the Company issued 50,000 shares for options exercised on a cashless basis at $0.46 per share. In January 2007, the Company issued 6,000 shares of common stock valued at $57,000 in connection with a 12 month services agreement entered into on January 15, 2007. The Company expensed $40,375 for services rendered through September 30, 2007 and recorded deferred compensation for $16,625 as of September 30, 2007. In connection with the $15 million secured revolving credit facility obtained, the Company granted warrants to purchase 1,000,000 shares of the Company's common stock at an exercise price of $10 per share for a period of five (5) years. The Company capitalized this as debt issuance costs in the amount of $5,700,945, the fair value of the warrants on the date of grant. Since these warrants were issued in connection with the line of credit, the Company allocated the fair value between the line of credit and the warrants. The difference between the fair value and the allocated fair value is being amortized over the term of the line of credit. Fair value was determined using the Black Scholes option pricing model based on the following assumptions: expected dividends $-0-; volatility: 180%; risk free interest rate: 5.00%. The debt issuance costs will be amortized on a straight line basis over the life of the credit facility; three (3) years. For the three months ended September 30, 2007, the Company expensed $1,266,878 of debt issuance costs. The remaining debt issuance costs of $4,434,067 will be amortized over the next twenty eight (28) months at $158,360 per month. In connection with the agreement and plan of merger entered into between Leexus Properties Corp. and South Texas Oil Company, the Company issued 2,000,000 shares of restricted common stock valued as $18,980,000 or $9.49 per share, the fair market value of the stock on the date of acquisition. In June 2007, a related party contributed a vehicle with the fair market value of $2,151. Due to the related party nature of the transaction, the contributed capital was recorded to additional paid in capital. On November 2, 2006, the company signed a Letter of Intent for the purchase of up to 75% working interest (WI) and 60% Royalty Interest (RI), in approximately 20,000 acres in the DJ basin in Northeast Colorado at a cost of $15 million if the full 75% working interest is acquired. Concurrent with signing this letter of intent, the Company issued 2,419,355 shares of restricted common stock for consideration of $7,500,000 based upon a five day closing average of the South Texas Oil Company shares as agreed upon when the original Letter of Intent was signed. The transaction was closed during 2nd quarter and payment of the stock was made. As of September 30, 2007, the Company has only acquired 37.5% of the working interest in these leases. In connection with the recent acquisition on September 25, 2007, by South Texas Oil Company, through a subsidiary STO Properties, LLC, purchased all rights, titles and interests (of whatever kind or character, whether legal or equitable, and whether vested or contingent) of Diversity Petroleum, LLP (including interests in oil, gas and/or mineral leases covering such lands and wells, overriding royalties, production payments and net profits interests in such lands, such leases and wells, and fee mineral interests, fee royalty interests and other interests in such oil, gas and other minerals)for an amount of $10 million by paying $7.5 million in cash, issuing a promissory note for $1.5 million and issuing 105,820 restricted shares valued at $1 million. In connection with the purchase of the drilling rig during the 3rd quarter, the company issued 32,258 shares of restricted shares valued at $300,000. NOTE 8 - LEGAL PROCEEDINGS South Texas Oil Company is currently the Plaintiff in a lawsuit filed against Leexus LLP, Mr. Mark Jaehne and Mr. Bennie Jaehne for failing to adhere to the terms of the merger Agreement signed in April. On August 29, 2007, South Texas Oil Company as plaintiff filed a Petition as Cause No. 2007-51820 in Harris County District Court, TX, against Leexus Oil and Gas, LLP, Mark Jaehne and Bennie Jaehne as defendants. South Texas Oil Company is claiming, conversion, breach of contract and breach of fiduciary duty. South Texas Oil Company is seeking the court to enforce the terms of the Merger Agreement which have being breached, the repayment of misappropriated funds and attorneys fees. On September 25, 2007 Bennie Jaehne and Mark Jaehne filed a countersuit Cause 26,710 in Bastrop County Texas against Murray Conradie, STO Operating Company (f/k/a Leexus Operating Company), and South Texas Oil Company (a/k/a Southern Texas Oil Company) as defendants. The Jaehne's are claiming South Texas's failure to comply with the Merger Agreement and are claiming damages in excess of $1,000,000. South Texas Oil Company believes the Jaehne's countersuit is without merit and will continue to pursue all legal remedies related to this matter. South Texas Oil Company is also confident it will prevail in the outcome of this litigation and therefore is not providing a reserve for this action. NOTE 9 - SUBSEQUENT EVENTS South Texas Oil sold its interests in Atascosa, Frio and Somerset Counties on October 5, 2007 to Granite Energy, Inc. for an amount of $3,061,937. This area of operation was comprised mainly of stripper wells and was considered non- core. This sale will allow the Company to focus its resources on its South Central Texas properties. While the sale was effective September 30, 2007, it was not completed until October 5, 2007, thus it will be reported in the 4th quarter. F-9 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations. The following is a discussion of certain factors affecting South Texas Oil Company's results of operations, liquidity and capital resources. You should read the following discussion and analysis in conjunction with the Registrant's consolidated financial statements and elated notes that are included herein under Item 1 above. Overview South Texas Oil Company was formed for the purpose of development and operation of oil properties with proven reserves. South Texas Oil Company's strategy is to focus in domestic areas where major oil producing companies have reduced their exploration efforts to move offshore and overseas in search of the larger reserves. Considerable oil reserves in proven fields remain to be exploited by well-managed independent oil companies capable of extracting these reserves at lower risk and lower cost than unproved prospects. South Texas Oil Company's initial development strategy has been to acquire such proven fields and increase production through the application of advanced technology and the exploration of other proven formations in the same fields. South Texas Oil Company's primary operational strategy includes the operation of its own projects, giving it substantial control over drilling and production costs. South Texas Oil Company has associated with highly experienced exploration and development engineering and geology personnel that strive to add production at lower costs through development drilling, work- overs, behind pipe re-completions and secondary recovery operations. South Texas Oil Company has recently purchased a second drilling rig to cost effectively drill its oil and gas wells. South Texas Oil derives its revenues from its producing oil and gas properties. These properties consist of working interests in producing oil and gas wells having proved reserves. South Texas Oil Company's capital for investment in producing oil properties has been provided by the sale of common stock to its shareholders. South Texas Oil Company's website address is http://www.southtexasoil.com South Texas Oil Company plans its future growth through a balance of acquisition of working interests in existing wells and leases, increased production on current leases and new drilling on leases. Short Term Goals 1. The Company recently purchased a second drilling rig to provide cost savings and flexibility in the drilling of its own wells. The company expects to have this second rig drilling in the Bastrop field before the end of November. 2. The Company intends to re-enter two of the Bastrop verticals and drill one horizontal leg in the Buda and one horizontal in the Chalk formation before year end. 3. The Company also intends to maintain its current schedule of drilling 2 Bastrop wells per month through the end of 2007. Long Term Goals 1. To drill and complete an additional 3-4 in-field wells in the 6 months following the drilling of the initial well should this in-field well produce a minimum of 5 barrels of oil per day. Funding for the drilling of these additional wells will be provided from the funding received. 2. To Drill 3-5 oil wells in our Colorado acreage. 3. Seek additional acquisitions that tie in with our focus of Texas properties. 3 Concerning working capital, historically our revenues have been insufficient to cover operations. Consequently, the Company has relied in part on private placements of common stock securities, bank debt, and loans from private investors to meet operational needs. This evaluation is based on the increased price of oil, the additional well workovers planned for the year, as well as the drilling of new wells. However, additional funding will be needed to cover the expenses over the next several months related to the drilling of oil wells. We entered into a funding agreement recently which provides South Texas Oil Company a $15 million credit facility, this facility was recently increased to $30 million. This should provide the necessary capital for our needs over the next twelve months. Results of Operations For the three months ended September 30, 2007 compared to the three months ended September 30, 2006. Oil sales. For the three months ended September 30, 2007, oil revenues were $1,575,011 compared to $173,544 for the same period during 2006, an increase of $1,401,467. The increase was the result of increased production in our exploration endeavors and additional interest purchased from properties of which the company already held a position. Depreciation, depletion and amortization. Our depreciation, depletion and amortization expenses were $347,275 for the three months ended September 30, 2007 compared to $36,125 for the same period in 2006, an increase of $311,150. The increased depreciation, depletion and amortization expenses were the result of the purchase of equipment and leasehold improvements for the period ended September 30, 2007. General and administrative expenses. General and administrative expenses were $314,931 for the three months ended September 30, 2007 compared to $122,861 for the same period in 2006, a decrease of $192,070. This increase was primarily related to the additions in support staff need for the increased drilling and operation activity the company has experienced compared to the period ended September 30, 2006. Interest expense (net of interest income). Interest expense was $773,475 for the three months ended September 30, 2007 compared to $0 for the same period in 2006, an increase of $773,475. The increase was due to asset acquisition through purchase oil and gas interest funded from our line of credit. Net income (loss). Net loss increased by $483,296 to $(495,143) for the three months ended September 30, 2007 from $(11,847) for the same period in 2006. The primary reasons for this decrease include a increase in administration costs of $192,070, an increase in production costs of $667,707, an increase in depreciation, depletion and amortization costs of $311,150, an increase in interest costs of ($773,475) associated with our recent funding, an decrease in plugging costs of $15,821 and an increase in production taxes of $20,556. For the nine months ended September 30, 2007 compared to the nine months ended September 30, 2006. Oil sales. For the nine months ended September 30, 2007, oil revenues were $2,466,906 compared to $446,253 for the same period during 2006, an increase of $2,020,653. The increase was the result of increased oil production as a result of workovers and increased oil prices. 4 Depreciation, depletion and amortization. Our depreciation, depletion and amortization expenses were $750,947 for the nine months ended September 30, 2007 compared to $101,370 for the same period in 2006, an increase of $649,577. The increased depreciation, depletion and amortization expenses were the result of the purchase of additional equipment and leasehold improvements during the period ended September 30, 2007. General and administrative expenses. General and administrative expenses were $781,246 for the nine months ended September 30, 2007 compared to $299,419 for the same period in 2006, an increase of $481,827. This increase was primarily related to the increase in overhead as a result of increased payroll costs, insurances, travel and lease administration costs. Interest expense (net of interest income). Interest expense was $1,741,055 for the nine months ended September 30, 2007 compared to $159,303 for the same period in 2006, an increase of $1,581,752. The increase was due to asset acquisition through purchase oil and gas interest funded from our line of credit. Net income (loss). Net loss increased by $1,620,771 to $(1,827,531) for the nine months ended September 30, 2007 from $(206,760) for the same period in 2006. The primary reasons for this decrease include an increase in interests costs of $1,581,752, an increase in drilling rig costs of $ 778,633, an increase in depreciation, depletion and amortization costs of $649,577, coupled with an offsetting increase in revenue of $2,940,965. Capital Resources and Liquidity Liquidity Management believes that its working interest revenues from the existing wells will meet its minimum general and administrative cost requirements and provide the basic liquidity South Texas Oil Company needs to operate at current levels over the next twelve months. For the nine month period ended September 30, 2007 South Texas Oil Company decreased its working capital from a positive $1,254,289 as at December 31, 2006 to a negative $2,491,392 as of September 30, 2007. This decrease in working capital was a result of a decrease of cash on hand of $859,529, an increase in accounts receivable of $3,397,341, an increase in prepaid expenses of $49,891, an increase in accounts payable of $3,169,572, an increase in asset retirement obligation of $277,562, an increase in current portion of long term debt of $1,185,712, and an increase in customer advances of $1,504,262, and an increase in related party debt, short term, of $856. Capital Resources The Registrant's capital resources are comprised primarily of private investors, including members of management, who are either existing contacts of South Texas Oil Company's management or who come to the attention of the Registrant through brokers, financial institutions and other intermediaries. South Texas Oil Company's access to capital is always dependent upon general financial market conditions, especially those which pertain to venture capital situations such as oil and gas exploration companies. 5 On September 30, 2007 South Texas Oil Company had total assets of $63,848,752 compared to $4,485,891 on December 31, 2006, an increase of $59,362,861. The reason for the increase in assets is a result of the decrease in cash on hand of $859,529, an increase in accounts receivable of $3,397,341, an increase in prepaid expenses of $49,891, along with a corresponding increase in the Property and Equipment and Reserves of $51,926,535, along with an increase in Debt Issue Cost of $4,848,623. South Texas Oil Company had a total stockholders' equity of $35,711,698 on September 30, 2007 compared to $3,941,598 on December 31, 2006, an increase in equity of $31,770,100. Significant Subsequent Events occurring after September 30, 2007: Effective October 1, 2007 the Company retained the services of Mr. Rickey Cooksey as CFO and Mr. James Grubb as Vice-President Geology of South Texas Oil Company. Mr. Cooksey is qualified as a CPA with over 24 years of experience in oil and gas accounting. Mr Grubb is a Certified Petroleum Geologist with a Master of Arts from Bowling Green University with over 30 years experience working both onshore and offshore. Effective October 31, 2007 South Texas Oil Company began trading on the NASDAQ Global Market under its current symbol STXX. The Company had been trading on the OTCBB under the same symbol since 2005. Disclosures about Market Risks Like other natural resource producers, South Texas Oil Company faces certain unique market risks. The most salient risk factors are the volatile prices of oil and gas and certain environmental concerns and obligations. Oil and Gas Prices Current competitive factors in the domestic oil and gas industry are unique. The actual price range of crude oil is largely established by major international producers. Because domestic demand for oil exceeds supply, there is little risk that all current production will not be sold at relatively fixed prices. To this extent South Texas Oil Company does not see itself as directly competitive with other producers, nor is there any significant risk that South Texas Oil Company could not sell all production at current prices with a reasonable profit margin. The risk of domestic overproduction at current prices is not deemed significant. The primary competitive risks would come from falling international prices which could render current production uneconomical. Environmental and Government Compliance and Costs. All oil and gas operations are subject to extensive environmental permitting and governmental regulation. All drilling and rework operations are subject to inspection by local, state and federal regulators. Violation of these requirements or environmentally damaging spills or accidents due to non- compliance in these areas can result in fines and, depending on the severity of the negligence, criminal prosecution. South Texas Oil Company is not currently a party to any judicial or administrative proceedings which involve environmental regulations or requirements and management believes that it is in substantial compliance with all applicable environmental regulations. In many cases there is a bond required of operators to ensure that a prospective well is properly plugged and abandoned when its useful life is determined to be concluded. South Texas Oil Company has posted such a bond in the amount of $50,000 with the Texas Rail Road Commission to cover its projects. Such bonds are additions to the cost of South Texas Oil Company's projects. The current bond of $50,000 covers the wells operated by South Texas Oil Company as required by the 6 (cont) Rail Road Commission of Texas under the Texas Administrative Code, Title 16 Economic Regulation, Chapter 3 Oil and Gas Division, Rule {section}3.78 Fees, Performance Bonds and Alternate Forms of Financial Security Required To Be Filed. Off-Balance Sheet Arrangements. South Texas Oil Company currently does not have any off-balance sheet arrangements. Forward-Looking Information Certain statements in this Section and elsewhere in this report are forward-looking in nature and relate to trends and events that may affect South Texas Oil Company's future financial position and operating results. Such statements are made pursuant to the safe harbor provision of the Private Securities Litigation Reform Act of 1995. The terms "expect," "anticipate," "intend," and "project" and similar words or expressions are intended to identify forward-looking statements. These statements speak only as of the date of this report. The statements are based on current expectations, are inherently uncertain, are subject to risks, and should be viewed with caution. Actual results and experience may differ materially from the forward-looking statements as a result of many factors, including changes in economic conditions in the markets served by South Texas Oil Company, increasing competition, fluctuations in lease operating costs and energy prices, and other unanticipated events and conditions. It is not possible to foresee or identify all such factors. South Texas Oil Company makes no commitment to update any forward-looking statement or to disclose any facts, events, or circumstances after the date hereof that may affect the accuracy of any forward-looking statement. Item 3. Controls and Procedures. (a) Our Chief Executive Officer (CEO) has evaluated the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934, as amended) as of the end of the period covered by this report. Based upon this evaluation, the CEO concluded that the disclosure controls and procedures are effective in ensuring all required information relating to South Texas Oil Company is included in this quarterly report. We also maintain a system of internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f)) designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with accounting principles generally accepted in the United States of America. During our most recent fiscal quarter, there have been no changes in our internal control over financial reporting that occurred that have materially affected or are reasonably likely to materially affect our internal control over financial reporting. (b) Changes in internal controls. During our most recent fiscal quarter, there have been no changes in our internal control over financial reporting that occurred that have materially affected or are reasonably likely to materially affect our internal control over financial reporting. 7 PART II. OTHER INFORMATION Item 1. Legal Proceedings. South Texas Oil Company is currently the Plaintiff in a lawsuit filed against Leexus LLP, Mr. Mark Jaehne and Mr. Bennie Jaehne for failing to adhere to the terms of the merger Agreement signed in April. To the knowledge of management, no federal, state or local governmental agency is presently contemplating any proceeding against South Texas Oil Company. On August 29, 2007, South Texas Oil Company as plaintiff filed a Petition as Cause No. 2007-51820 in Harris County District Court, TX, against Leexus Oil and Gas, LLP, Mark Jaehne and Bennie Jaehne as defendants. South Texas Oil Company is claiming, conversion, breach of contract and breach of fiduciary duty. South Texas Oil Company is seeking the court to enforce the terms of the Merger Agreement which have being breached, the repayment of misappropriated funds and attorneys fees. On September 25, 2007 Bennie Jaehne and Mark Jaehne filed a countersuit Cause 26,710 in Bastrop County Texas against Murray Conradie, STO Operating Company (f/k/a Leexus Operating Company), and South Texas Oil Company (a/k/a Southern Texas Oil Company) as defendants. The Jaehne's are claiming South Texas's failure to comply with the Merger Agreement and are claiming damages in excess of $1,000,000. South Texas Oil Company believes the Jaehne's countersuit is without merit and will continue to pursue all legal remedies related to this matter. South Texas Oil Company is also confident it will prevail in the outcome of this litigation and therefore is not providing a reserve for this action. To the knowledge of management, no director, executive officer or affiliate of South Texas Oil Company is a party adverse to South Texas Oil Company or has a material interest adverse to South Texas Oil Company in any proceeding. Item 2. Unregistered Sales of Equity Security and Use of Proceeds. During the three months ended September 30, 2007, South Texas Oil Company issued securities using the exceptions available under the Securities Act of 1933 including unregistered sales made pursuant to Section 4(2) of the Securities Act of 1933 as follows: On September 25, 2007, South Texas Oil Company, through a subsidiary STO Properties, LLC, purchased all rights, titles and interests (of whatever kind or character, whether legal or equitable, and whether vested or contingent) of Diversity Petroleum, LLP (including interests in oil, gas and/or mineral leases covering such lands and wells, overriding royalties, production payments and net profits interests in such lands, such leases and wells, and fee mineral interests, fee royalty interests and other interests in such oil, gas and other minerals)for an amount of $10 million by paying $7.5 million in cash, issuing a promissory note for $1.5 million and issuing restricted shares valued at $1 million. This transaction was exempt from the registration requirements of the Securities Act of 1933, as amended, by virtue of the exemptions provided under section 4(2) was available because: - The transfer or issuance did not involve underwriters, underwriting discounts or commissions; - A restriction on transfer legend was placed on all certificates issued; - The distributions did not involve general solicitation or advertising; and, - The distributions were made only to insiders, accredited investors or investors who were sophisticated enough to evaluate the risks of the investment. Each shareholder was given access to all information about our business and the opportunity to ask questions and receive answers about our business from our management prior to making any investment decision. None. Item 3. Defaults Upon Senior Securities None. Item 4. Submission of Matters to a Vote of Security Holders None. Item 5. Other Information None. Item 6. Exhibits and Reports on Form 8-K Exhibits (a) Exhibit 31. Certifications required by Rule 13a-14(a) or Rule 15d- 14(a) 31.1 Certification of Chief Executive Officer pursuant to 18 U.S.C.ss.1350 as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. 31.2 Certification of Principal Financial Officer pursuant to 18 U.S.C.ss.1350 as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. (b) Exhibit 32. Certifications required by Rule 13a-14(b) or Rule 15d- 14(b) and section 906 of the Sarbanes-Oxley Act of 2002, 18 U.S.C. Section 1350 32.1 Certification of Chief Executive Officer pursuant to 18 U.S.C.ss.1350 as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 32.2 Certification of Principal Financial Officer pursuant to 18 U.S.C.ss.1350 as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. 8 Reports on Form 8-K (a) Report on Form 8-K filed July 19, 2007, item 2.01 and 8.01. On July 12, 2007, South Texas Oil Company issued a news release reporting that South Texas Oil Company had acquired additional oil and gas interests. On June 18, 2007, South Texas Oil Company agreed to acquire certain oil and gas interests and certain related assets of Senora Resources, Inc and James D. Dobos, II, individually, (collectively the "Seller"). There exists no material relationship other than in respect of the transaction, between the registrant or any of its affiliates, or any officer and director and the Seller of the mineral interests. South Texas Oil Company provided $1.8 million in cash as consideration for the purchase of the additional mineral interests. (b) Report on Form 8-K filed July 31, 2007, item 7.01. On July 31, 2007, South Texas Oil Company provided a Corporate update to the shareholders of the Company. The purpose of this Regulation FD Disclosure, is to provide the shareholders of South Texas Oil Company a comprehensive overview of operations to date and provide disclosure on items the Company intends to discuss with the investment community (c) Report on Form 8-K filed August 28, 2007, item 5.02. On August 28, 2007, South Texas Oil Company filed a Current Report on Form 8-K, stating that Effective August 27, 2007, Mr. Conrad Humbke has resigned as a member of our Board. Mr. Humbke will be replaced by Mr. Stanley Hirschman as an independent Director. Mr. Hirschman will be joined by Mr. Owen Naccarato and Mr. David Lieberman as independent Directors bringing the total Board members to 5. (d) Report on Form 8-K filed September 26, 2007, item 1.01 and 8.01. On August 28, 2007, South Texas Oil Company filed a Current Report on Form 8-K, stating that on January 31, 2007, South Texas Oil Company received a 3 year, $15 million revolving credit facility. On September 25, 2007, South Texas Oil Company increased the credit facility from $15 million to $30 million. Additionally, on September 25, 2007, South Texas Oil Company, through a subsidiary STO Properties, LLC, purchased all rights, titles and interests (of whatever kind or character, whether legal or equitable, and whether vested or contingent) of Diversity Petroleum, LLP (including interests in oil, gas and/or mineral leases covering such lands and wells, overriding royalties, production payments and net profits interests in such lands, such leases and wells, and fee mineral interests, fee royalty interests and other interests in such oil, gas and other minerals)for an amount of $10 million by paying $7.5 million in cash, issuing a promissory note for $1.5 million and issuing restricted shares valued at $1 million. (e) Report on Form 8-K filed October 2, 2007, item 5.02. Effective September 30, 2007, Marlene Hutcheson resigned as the Chief Financial Officer of the Company to focus on other professional obligations. Ms. Hutcheson has not had any disagreements with management or the company on any matter relating to the company's operations, policies or practices. Effective October 1, 2007 Mr. Rickey Cooksey was appointed as Chief Financial Officer of South Texas Oil. Mr. Cooksey is qualified as a CPA with over 24 years of experience in accounting. (f) Report on Form 8-K filed November 7, 2007, item 7.01. On November 7, 2007, South Texas Oil Company provided a Corporate update to the shareholders of the Company. The purpose of this Regulation FD Disclosure, is to provide the shareholders of South Texas Oil Company a comprehensive overview of operations to date and provide disclosure on items the Company intends to discuss with the investment community. 9 SIGNATURES In accordance with Section 13 or 15(d) of the Exchange Act, the registrant caused this report to be signed on its behalf by the undersigned, hereunto duly authorized. South Texas Oil Company /s/ Murray N. Conradie ---------------------- Murray N. Conradie, CEO, Chairman and Director (Principal Executive Officer) /s/ Rickey Cooksey, CPA ---------------------- Rickey Cooksey, Chief Financial Officer (Principal Financial Officer) Date: November 16, 2007 Pursuant to the requirements of Section 12 of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. South Texas Oil Company /s/ Murray N. Conradie ---------------------- Murray N. Conradie, CEO, Chairman and Director (Principal Executive Officer) /s/ Rickey Cooksey, CPA ---------------------- Rickey Cooksey, CPA Chief Financial Officer (Principal Financial Officer) Date: November 16, 2007 10