10-K 1 v336966_10k.htm 10-K

   

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, 2012

 

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

 

Commission file number: 001-33228

 

ZION OIL & GAS, INC.

(Exact name of registrant as specified in its charter)

 

Delaware

(State or other Jurisdiction of Incorporation or Organization)

 

20-0065053

(I.R.S. Employer Identification No.)

     

6510 Abrams Rd., Suite 300

Dallas, TX

(Address of Principal Executive Offices)

 

75231

(Zip Code)

 

(214) 221-4610

(Registrant's telephone number, including area code)

 

Securities registered under Section 12 (b) of the Exchange Act:

 

Common Stock, par value $0.01 per share  

NASDAQ Global Market

 

(Title of Class)   (Name of each exchange on which registered)

 

Securities registered under Section 12 (g) of the Exchange Act: None

 

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes ¨ 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 ¨ 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 ¨

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data 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 ¨

 

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of the 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.  ¨

 

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 ¨ Accelerated filer ¨ Non-accelerated filer ¨ Smaller Reporting Company x

 

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

 

The aggregate market value of the voting and non-voting common stock held by non-affiliates of the registrant as of June 29, 2012 was approximately $48.4 million. This amount is based on the closing price of the registrant’s common stock on the NASDAQ Global Market on that date.

 

The registrant had 32,771,210 shares of common stock, par value $0.01, outstanding as of February 21, 2013.

 

DOCUMENTS INCORPORATED BY REFERENCE

 

Portions of the registrant’s definitive proxy statement for its 2013 Annual Meeting of Stockholders to be held on June 11, 2013, are incorporated by reference herein in Items 10, 11, 12, 13 and 14 of Part III of this report.

 

 
 

 

2012 ANNUAL REPORT (SEC FORM 10-K)

 

Table of Contents

 

 

PART I
Item 1 Business 1
Item 1A Risk Factors 14
Item 1B Unresolved Staff Comments 23
Item 2 Properties 23
Item 3 Legal Proceedings 25
Item 4 Mine Safety Disclosures 25
     
PART II
Item 5 Market for the Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities 25
Item 6 Selected Financial Data 26
Item 7 Management's Discussion and Analysis of Financial Condition and Results of Operations 27
Item 7A Quantitative and Qualitative Disclosures about Market Risk 32
Item 8 Financial Statements and Supplementary Data 32
Item 9 Changes in and Disagreements with Accountants on Accounting and Financial Disclosure 32
Item 9A Controls and Procedures 33
Item 9B Other Information 33
     
PART III
Item 10 Directors, Executive Officer and Corporate Governance 33
Item 11 Executive Compensation 33
Item 12 Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters 34
Item 13 Certain Relationships and Related Transactions and Director Independence 34
Item 14 Principal Accountant Fees and Services 34
     
PART IV
Item 15 Exhibits, Financial Statement Schedules 34

 

 
 

 

FORWARD LOOKING STATEMENTS

 

This Annual Report on Form 10-K (herein, “Annual Report”) and the documents included or incorporated by reference in this Annual Report contain statements concerning our expectations, beliefs, plans, objectives, goals, strategies, future events or performance and underlying assumptions and other statements that are not historical facts. These statements are “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. You generally can identify our forward-looking statements by the words “anticipate,” “believe,” “budgeted,” “continue,” “could,” “estimate,” “expect,” “forecast,” “goal,” “intend,” “may,” “objective,” “plan,” “potential,” “predict,” “projection,” “scheduled,” “should,” “will” or other similar words. These forward-looking statements include, among others, statements regarding:

 

  our ability to explore for and develop natural gas and oil resources successfully and economically within our license areas;

 

  our ability to obtain the exploration license rights to continue our petroleum exploration program;

 

  the availability of equipment, such as drilling rigs and transportation pipelines;

 

  the impact of governmental regulations, permitting and other legal requirements in Israel relating to onshore exploratory drilling;

 

  our estimates of the timing and number of wells we expect to drill and other exploration activities and planned expenditures and the time frame within which they will be undertaken;

 

  changes in our drilling plans and related budgets;

 

  the quality of existing and future license areas with regard to, among other things, the existence of reserves in economic quantities;

 

  anticipated trends in our business;

 

  our future results of operations;

 

  our liquidity and our ability to raise capital to finance our exploration and development activities;

 

  our capital expenditure program;

 

  future market conditions in the oil and gas industry; and

  

  the demand for oil and natural gas, both locally in Israel and globally.

 

More specifically, our forward-looking statements include, among others, statements relating to our schedule, business plan, targets, estimates or results of our applications for new exploration rights and future drilling, including the number, timing and results of wells, the timing and risk involved in drilling follow-up wells, planned expenditures, prospects budgeted and other future capital expenditures, risk profile of oil and gas exploration, acquisition of seismic data (including number, timing and size of projects), planned evaluation of prospects, probability of prospects having oil and natural gas, expected production or reserves, acreage, working capital requirements, hedging activities, the ability of expected sources of liquidity to implement our business strategy, future hiring, future exploration activity, production rates, all and any other statements regarding future operations, financial results, business plans and cash needs and other statements that are not historical fact.

 

Such statements involve risks and uncertainties, including, but not limited to, those relating to the uncertainties inherent in exploratory drilling activities, the volatility of oil and natural gas prices, operating risks of oil and natural gas operations, our dependence on our key personnel, factors that affect our ability to manage our growth and achieve our business strategy, risks relating to our limited operating history, technological changes, our significant capital requirements, the potential impact of government regulations, adverse regulatory determinations, litigation, competition, the uncertainty of reserve information and future net revenue estimates, property acquisition risks, industry partner issues, availability of equipment, weather and other factors detailed herein and in our other filings with the Securities and Exchange Commission (the “SEC”).

 

(i)
   

 

We have based our forward-looking statements on our management’s beliefs and assumptions based on information available to our management at the time the statements are made. We caution you that assumptions, beliefs, expectations, intentions and projections about future events may and often do vary materially from actual results. Therefore, we cannot assure you that actual results will not differ materially from those expressed or implied by our forward-looking statements.

 

Some of the factors that could cause actual results to differ from those expressed or implied in forward-looking statements are described under “Risk Factors” in this Annual Report and in our other periodic reports filed with the SEC. Should one or more of these risks or uncertainties materialize, or should underlying assumptions prove incorrect, actual outcomes may vary materially from those indicated. All subsequent written and oral forward-looking statements attributable to us or persons acting on our behalf are expressly qualified in their entirety by reference to these risks and uncertainties. You should not place undue reliance on our forward-looking statements. Each forward-looking statement speaks only as of the date of the particular statement, and we undertake no duty to update any forward-looking statement.

 

(ii)
   

 

PART I

 

 ITEM 1.  BUSINESS

 

Overview

 

Zion Oil and Gas, Inc., a Delaware corporation (referred to herein as “we”, “our”, “us”, “Zion”, “Zion Oil”, or the “Company”) is an initial stage oil and gas exploration company with a history of over 12 years of oil and gas exploration in Israel. We were incorporated in Florida on April 6, 2000 and reincorporated in Delaware on July 9, 2003. We completed our initial public offering in January 2007. Our common stock currently trades on the NASDAQ Global Market under the symbol “ZN”.

 

We currently hold three petroleum exploration licenses, all onshore Israel, comprised of the Asher-Menashe License (covering approximately 78,824 acres), the Joseph License (covering approximately 83,272 acres),and the Jordan Valley License (covering approximately 55,845 acres). We have continuously held the Asher-Menashe License since June 2007 and the Joseph License since October 2007. We were awarded the Jordan Valley License in April 2011. The Asher-Menashe and Joseph License areas are geographically contiguous and within a similar geologic environment. The Joseph License is currently scheduled to expire on April 10, 2013, but is subject to extension through October 10, 2014. The Asher-Menashe License is scheduled to expire on June 9, 2013 and is subject to extension through June 9, 2014. The Jordan Valley License has a three-year primary term, which continues through April 12, 2014, and may be extended for additional one-year periods up to a maximum of seven years to 2018.

 

To date, we have drilled three exploratory wells in the Joseph License area and one exploratory well in the Asher-Menashe License area. While the presence of hydrocarbons was indicated while drilling certain of these wells, none of the exploratory wells that we have drilled to date in our license areas have been deemed capable of producing oil or gas in commercial quantities.

 

As a result of the evaluation of previous and recently acquired geological and geophysical data relating to our license areas, we are in the process of re-evaluating our exploration strategy going forward. In evaluating our seismic and geologic database, we have identified areas of potential petroleum exploration interest that are outside our current license configurations. In particular, we are the process of applying to the Israel Petroleum Commissioner (the “Petroleum Commissioner”) for a new exploration license that is contiguous with and directly abuts our existing Jordan Valley License area and extends westward to the Megiddo Valley (and includes the Jezreel Valley). See the discussion below under “Exploration Plans Going Forward”. Contemporaneous with this application for a new exploration license right, the applications for explorations rights for which we previously applied in 2011 with respect to the Dead Sea area (Central Israel) and other areas outside our current license configurations have been suspended. These applications were submitted prior to the circulation by Israeli energy related regulatory agencies of various regulations relating to the onshore petroleum exploration permitting process and preceded various geological and geophysical studies that we conducted since the submission. See the discussion below under Israeli Energy Related Regulations - “The Onshore Petroleum Exploration Permitting Process”.

 

At present, we have no revenues or operating income and are classified as a "development stage" company. Our ability to generate future revenues and operating cash flow will depend on the successful exploration and exploitation of our current and any future petroleum rights or the acquisition of oil and/or gas producing properties, and the volume and timing of such production. In addition, even if we are successful in producing oil and gas in commercial quantities, our results will depend upon commodity prices for oil and gas, as well as operating expenses including taxes and royalties.  

 

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Our executive offices are located at 6510 Abrams Road, Suite 300, Dallas, Texas75231, and our telephone number is (214) 221-4610. Our field office in Israel is located at 22 Bareket Street, North Industrial Park, Caesarea 38900, and the telephone number is +972-4-623-8500. Our website address is: www.zionoil.com.

  

Company Background

 

In 1983, during a visit to Israel, John M. Brown (our Founder, Chairman, and Interim Chief Executive Officer) became inspired and dedicated to finding oil and gas in Israel. During the next 17 years he made several trips each year to Israel, hired oil and gas consultants in Israel and Texas, met with Israeli government officials, made direct investments with local exploration companies, and assisted Israeli exploration companies in raising money for oil and gas exploration in Israel. This activity led Mr. Brown to form Zion Oil & Gas, Inc. in April 2000, in order to receive the award of a small onshore petroleum license from the Israeli government.

 

Zion’s vision, as exemplified by John Brown, of finding oil and/or natural gas in Israel, is biblically inspired. The vision is based, in part, on biblical references alluding to the presence of oil and/or natural gas in territories within the State of Israel that were formerly within certain ancient biblical tribal areas. While John Brown provides the broad vision and goals for our company, the actions taken by the Zion management team as it actively explores for oil and gas in Israel, are based on modern science and good business practice. Zion’s oil and gas exploration activities are supported by appropriate geological, geophysical and other science-based studies and surveys typically carried out by companies engaged in oil and gas exploration activities.

 

Upon the award of our first petroleum right (License No. 298/“Ma'anit” or the "Ma'anit License") in May 2000, the Israeli government gave us access to most of its data with respect to previous exploration in the area, including geologic reports, seismic records and profiles, drilling reports, well files, gravity surveys, geochemical surveys and regional maps. We also gathered information concerning prior and ongoing geological, geophysical and drilling activity relevant to our planned activities from a variety of publicly accessible sources.

 

The map below shows the outline of our current Joseph, Asher-Menashe and Jordan Valley License areas, the three exploratory wells drilled to date on the Joseph License area and the one exploratory well drilled in the Asher-Menashe License area. The Israeli government conducted most of the seismic surveys during the 1970s and 1980s to provide data to encourage oil companies to invest in exploratory drilling. Private and public Israeli, American and international companies conducted additional seismic surveys and drilled most of the wells in the period since 1980. We have also acquired and processed additional 2-D seismic lines and other geological and geophysical data in an effort to identify and refine any potential drilling prospects.

  

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EXPLORATION LICENSE AREAS CURRENTLY HELD BY ZION

 

  

As reflected on the Map, the Asher-Menashe License and Joseph License areas are geographically contiguous and within a similar geologic environment. The Jordan Valley License lies within the geographic area of the Jordan Valley, south of the Sea of Galilee. The Jordan Valley occupies the central part of the Jordan Rift — a tectonic plate boundary separating the Arabian Plate from the African Plate. 

 

3
 

 

In the event we drill an oil or gas discovery in any of our license areas, current Israeli law entitles us to convert the relevant portions of our licenses to 30-year production leases, extendable to 50 years, subject to compliance with a field development work program and production.

 

Summary of Exploration and Drilling Activities in our License Areas

 

Joseph License Area

 

The “Joseph License” covers approximately 83,272 acres on the Israeli coastal plain south of the Asher-Menashe License between Caesarea in the north to just south of Netanya. To date, we have completed drilling three exploratory wells in the Joseph License area, the last of which, the Ma’anit-Joseph #3 well, was completed in June 2011.

 

In 2005, we drilled our first exploratory well (the Ma’anit #1 well) to a depth of 15,842 feet (4,829 meters) to Triassic-age formations with encouraging but inconclusive results. However, notwithstanding these results, due to the mechanical condition of the wellbore, we determined that the well was incapable of producing oil and/or gas in commercial quantities and, consequently, in June 2007, we abandoned the well.

 

In 2009, we drilled our second well (the Ma’anit-Rehoboth #2 well) ‘directionally’ to a depth of 17,913 feet (5,460 meters). The purpose of the Ma’anit-Rehoboth #2 well was both to appraise the apparent findings of the Ma’anit #1 well in the Triassic-age formations (at a depth of between approximately 12,000 and 15,400 feet) and to test the deeper Permian-age horizons at an estimated depth of approximately 16,000 to 18,000 feet. The well penetrated a number of geologic formations that were initially thought to contain hydrocarbons and, during well operations, a small quantity of crude oil was retrieved. However, in April 2010, following the completion of testing procedures, we determined that commercial quantities of hydrocarbons were not present in the Ma'anit-Rehoboth #2 well and, accordingly, we suspended well drilling operations. As a result, we recognized a non-cash impairment charge to our unproved oil and gas properties in the quarter ended June 30, 2010.

 

As the Ma'anit-Rehoboth #2 well did not reach the deeper Permian-age geological formation, we drilled a subsequent well (the Ma'anit-Joseph #3 well), at a location near the Ma'anit-Rehoboth #2 well (in the Joseph License Area).The Ma'anit-Joseph #3 well commenced drilling in August 2010 and continued through June 13, 2011,whereupon we reached our target depth of approximately 19,357 feet (5,900 meters). We carried out open-hole wireline logging operations to learn more regarding the well's lithology (rock types) and hydrocarbon potential. The interpretation of the logging indicated that there was little chance that the Ma'anit-Joseph #3 well contained hydrocarbons in commercial quantities. However, during drilling, we had observed significant natural gas shows so we decided to test the well to gain extra insight into exactly from which stratigraphic interval(s) the gas was coming and to learn more about the future exploration potential in this part of northern Israel. In July 2011, we conducted an open-hole drill stem test and the results confirmed that the well did not contain hydrocarbons in commercial quantities in the zone tested. Following review and further analysis of the operations and geological reports prepared by our geoscientists, we concluded that commercial quantities of hydrocarbons were not present within the Ma'anit-Joseph #3 well. Accordingly, we recorded a non-cash impairment charge of $42,488,000 in the quarter ended September 30, 2011 to our unproved oil and gas properties in respect of both the Ma’anit-Joseph #3 and Elijah #3 wells (see Asher Menashe License below).

 

Israel’s Petroleum Commissioner approved our request to extend the term of the Joseph License to April 10, 2013 to accommodate delays caused by The Geophysical Institute of Israel(“GII”), our seismic services provider, in completing the below referenced 20 kilometer seismic survey. Under the terms of the Joseph License, as extended, we were required, among other things, to (i) obtain a seismic survey, process and integrate the data and submit the process report and ancillary material to the National Geophysical Archive maintained at GII by October 15, 2012, (ii) interpret, process and integrate the results of the new seismic survey with existing seismic lines, update the geophysical maps and submit a geophysical summary and file a report with the Israeli Petroleum Commissioner by December 15, 2012, (iii) identify and prepare a drilling prospectus that includes a geological description of the geological background, the desired drilling depths, a geological forecast and engineering plan for the proposed drilling by January 15, 2013, and (iv) execute a drilling contract to drill a new well (or re-enter the existing well) by February 15, 2013. As a result of further delays in seismic data acquisition by GII, in September 2012 we submitted a follow-up request letter to Israel’s Petroleum Commissioner seeking a further extension of the scheduled work program timeframes beyond April 2013.

 

We have re-processed existing seismic data in an effort to enhance the data quality and improve our exploration interpretation. In addition, in October-November 2012, we acquired two new seismic lines (approximately 20 kilometers combined length) in conjunction with the Geophysical Institute of Israel (GII), our seismic services provider. We obtained the seismic survey, processed the data and submitted such materials to the National Geophysical Archive. We have also integrated the new seismic results and submitted an updated geophysical summary report to the Petroleum Commissioner. Based on the interpreted results of the new seismic data, we currently do not plan to proceed with an additional drilling plan in the Joseph License area. Accordingly, we are in not in compliance with the express terms of the Joseph License.

 

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We expect to seek a one-year extension of the Joseph License beyond its scheduled expiration date of April 10, 2013 to allow for an orderly plugging and abandoning of the wells drilled to date in such license area as required by our license terms.

 

Asher-Menashe License Area

 

The “Asher-Menashe License” covers an area of approximately 78,824 acres located on the Israeli coastal plain and the Mount Carmel range between Caesarea in the south and Haifa in the north. To date, we have completed one exploratory well in the Asher-Menashe License area. In October 2009, we commenced drilling the Elijah #3 well, with target objectives into both Triassic-age and Permian-age formations, which we estimated would be found down to a total depth below 17,000 feet (5,182 meters). As of January 15, 2010, we had drilled to a depth of 10,938 feet (3,334 meters). In February 2010, we temporarily suspended drilling operations in the well following our unsuccessful efforts to retrieve a stuck pipe, pending further analysis of the situation.

 

Approximately 15 miles (25 kilometers) of 2-D seismic data were acquired in June 2010 and processed and integrated into our geological assessment by our geologists. Analysis of the acquired data helped us to refine the geologic model of the area and indicated that the Asher volcanic section, wherein the drilling tools were stuck, was likely substantially greater (i.e., thicker and deeper) than originally predicted by the older, original data. Following review and further analysis of the operations and geological reports prepared by our geoscientists, it was concluded that commercial quantities of hydrocarbons were not present within the deeper portions of the Elijah #3 wellbore and that no further deeper drilling would take place in this well. Accordingly, we recorded a non-cash impairment charge of $42,488,000 in the quarter ended September 30, 2011 to our unproved oil and gas properties in respect of both the Elijah #3 and the Ma’anit-Joseph #3 wells.

 

In 2011 and 2012, we reprocessed already existing seismic data, acquired new 2-D seismic data, as well as gravity and magnetic surveys, in our Asher-Menashe License area. In July 2012 we re-entered our existing Elijah #3 well in order to obtain additional wireline log information, a VSP (vertical seismic profile) survey and sidewall core samples. The primary purpose of this effort was to obtain additional geologic and geophysical data to better understand the hydrocarbon potential of a shallower zone through which we drilled while drilling the Elijah #3 well in 2009/2010. In November 2012, we acquired new reservoir fluid and pressure data in order to decide the future course of action to take with regard to the Elijah #3 well. We also sought third party analyses of the acquired data to add to our understanding of the exploration potential in this area.

 

Under the terms of the Asher-Menashe License, we were required to file a final report with the Israeli Petroleum Commissioner on all exploratory activities in the license area and recommendations for future plans by December 1, 2012, sign a drilling contract by December 1, 2012 and commence actual drilling in the license area by January 1, 2013. We submitted the report by December 1, 2012 and supplemented such report in early March 2013 with findings from third party analyses. Upon analysis and interpretation of all of the data, we decided that while there were oil shows and other indications of hydrocarbon potential observed in the shallower portion of the well, we do not plan to pursue additional drilling at the Elijah #3 wellsite at this time, although we may pursue additional in-well testing. As a result, we do not currently plan to submit a drilling contract or drill a well in this license area. We expect to seek a one-year extension of the Asher-Menashe License beyond its scheduled expiration date of June 9, 2013 to conduct the additional in-well testing and if unsuccessful, allow for an orderly plugging and abandoning of the Elijah #3 well. Accordingly, we are in not in compliance with the express terms of the Asher-Menashe License.

 

 Jordan Valley License

 

The Jordan Valley License covers approximately 56,000 acres, just south of the Sea of Galilee.

 

We recently processed, interpreted and integrated into our geologic model the seismic and gravity data that we acquired in May 2012. Following the analysis of such data, we determined that additional pre-drilling exploratory work is needed before a drillable prospect, if any, can be matured and recommended in this license area. These additional studies could include acquiring additional seismic data and conducting basin history and petroleum system modeling, among other possibilities.

 

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Under the terms of the Jordan Valley License, we were to identify a drilling prospect in the license area and contract for the drilling of such prospect by October 13, 2012 and to drill a well to a target depth of approximately 16,400 feet (5,000 meters) by April 13, 2013. Additional license terms call for Zion to prepare and submit various geological, geophysical and geochemical maps and analyses during the license's primary term. We timely submitted our Jordan Valley License Prospect Report and informed the Petroleum Commissioner that we do not plan to drill a well in the Jordan Valley License area at this time so we will not be entering into a drilling contract or drilling a well by April 2013. Based on the data and our analysis, we have determined that the exploration risks of drilling a 5,000 meter well at this time within the current license configuration are too high. However, we have identified an area of potential petroleum exploration interest that is contiguous with and directly abuts our existing Jordan Valley License area and are in the process of applying to the Petroleum Commissioner for a new license here, although no assurance can be given that the Petroleum Commission will grant such application. See the discussion under “Exploration Plans Going Forward”. Accordingly, we are in not in compliance with the express terms of the Jordan Valley License.

 

At this point, we are unable to assess the implications of our non-compliance with the express terms of the Joseph, Asher-Menashe, or Jordan Valley Licenses. See Risk Factors.

 

Exploration PlanGoing Forward

  

Following the evaluation of the recently acquired geological and geophysical data, we are in the process of re-evaluating our exploration strategy going forward. In evaluating our seismic and geologic database, we have identified areas of potential petroleum exploration interest outside the configurations of our current license areas. One area, in particular, is contiguous with and directly abuts our existing Jordan Valley License area. Based on the discussions we held in February 2013 with the Petroleum Commissioner, we are in the process of applying for a new exploration license that is contiguous with and directly abuts our existing Jordan Valley License area and extends westward to the Megiddo Valley (and includes the Jezreel Valley). However, no assurance can be given that the Petroleum Commissioner will grant this application.

 

Prior to any actual drilling in the new areas of interest (assuming that we are awarded the applied for exploration rights), we will need to acquire additional seismic data so that we may better evaluate the area to determine if we would drill our next exploratory well there. See “Risk Factors”.

 

Contemporaneous with the application for a new exploration license right, the applications for explorations rights for which we previously applied in 2011 with respect to the Dead Sea area (Central Israel) and other areas outside our current license configurations have been suspended. The previous applications were submitted prior to the promulgation by Israeli energy-related regulatory agencies of various regulations relating to the onshore permitting process and preceded various geological and geophysical studies that the Company conducted since the submission. See the discussion below under the “Israeli Energy Related Regulations - The Onshore Permitting Process in Israel”.

 

Following the acquisition and interpretation of the new seismic data that we plan to obtain in the Jezreel-Meggido area (assuming that we are in fact granted exploration rights in this area) and the additional geological and geophysical studies for certain portions of the Asher-Menashe License, we believe that we will be in a position to determine the site of our next exploratory well. With respect to the Jordan Valley License area, we are in the process of preparing and submitting to the Petroleum Commissioner a work program for additional non-drilling exploratory activities in such license area. If accepted, our work program would cure our current non-compliance with the express license terms. However, no assurance can be granted that the Petroleum Commissioner will in fact accept our proposed work program. See “Risk Factors”. We are not in compliance with some of the terms of our existing petroleum exploration licenses and such non-compliance may result in the loss or forfeiture of such license(s). The loss or forfeiture of any of our licenses may have an adverse effect on our business and prospects”.

 

After we identify the site of our next exploratory well, we will need to begin the procedure of obtaining the needed authorizations and permits. We anticipate that the newly promulgated regulations will considerably increase the time needed to obtain all of the needed permits and authorizations from regulatory and local bodies in Israel. See the discussion under “Energy Related Regulations - The Onshore Petroleum Exploration Permitting Process in Israel” below.

 

Finally, prior to actually drilling our next exploratory well, we will need to enter into a contract with a drilling rig operator with the appropriate rig, equipment, and experienced drilling crew. We have not yet entered into any legally binding agreements for the use of a rig. In the event that we decide to import a drilling rig into Israel, we will need to obtain the appropriate regulatory consents and approvals for the importation of the rig and the accompanying crew. We will also need to obtain appropriate permits, regulatory consents and approvals with respect to the actual drilling site that we will ultimately determine. In addition, we will need to obtain the necessary approvals from the surface owners.

 

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We estimate that, in order to be commercially productive, any of the wells we may eventually drill would need to be capable of producing at least 150 barrels of oil equivalent per day. Such production levels will not likely pay out the cost of drilling the well, but only the costs of operating the well on a current basis. In order to justify the costs of drilling additional wells, there would need to be the expectation that each additional well would have initial production rates of at least 500 barrels of oil equivalent per day, based upon minimum oil prices of $90.00 per barrel.

 

Exploration Expenditures

 

The following table summarizes the amounts we expended on our exploration efforts between 2010 and 2012:

 

   2012   2011   2010 
   US $(000)   US $(000)   US $(000) 
Joseph Licenses               
Geological & Geophysical Operations   529    -    195 
Exploratory Drilling Operations   -    19,570    18,050 
                
Asher-Menashe License               
Geological & Geophysical Operations   2,134    66    180 
Exploratory Drilling Operations   -    297    5,153 
                
Issachar-Zebulun Permit Area (Expired on February 23, 2011)               
Geological & Geophysical Operations   -    -    567 
 JordanValley License               
                
Geological & Geophysical exploration   447    207    - 
                
Other   20    -    - 
                
Total   3,130    20,140    24,145 

 

Employees

 

As of December 31, 2012, we had 22 employees of whom all but one are on a full time basis. Of these employees, 11 work out of our Dallas office and 11 work out of the Caesarea, Israel office. None of our current employees is subject to any collective bargaining agreements and there have been no strikes. We regularly utilize independent consultants and contractors to perform various professional services, particularly for services connected to drilling operations, such as specialized engineering, logging, cementing and well-testing. 

 

Competition and Markets

 

The oil and gas exploration industry in Israel currently consists of a number of exploration companies. These include relatively small local or foreign companies with limited financial resource and consortia of local Israeli and foreign participants with substantial financial resources. Most groups are engaged primarily in off-shore activities, which is not an area in which we are currently active. So long as we hold each of our three licenses, Israeli law conveys an exclusive exploration right to Zion such that no additional companies may compete in our license areas.

 

Historically, primarily for geopolitical reasons, Israel (particularly on-shore) has not been an area of interest for international integrated or large or mid-size independent oil and gas exploration companies. Since the announcement of the Tamar and Leviathan discoveries, this situation has changed. However, given the current limited availability in Israel of oil field service companies, equipment and personnel, in periods of increased exploration interest and activity as at present, there is competition for available equipment and services. In this market Zion has no particular advantage. We attempt to enhance our position by developing and maintaining good professional relations with oil field service providers and a high level of credibility in making and meeting commercial commitments.

 

The oil & gas industry is cyclical, and from time to time there is a shortage of drilling rigs, equipment, supplies and qualified personnel. During these periods, the costs and delivery times of rigs, equipment and supplies are substantially greater. If the unavailability or high cost of drilling rigs, equipment, supplies or qualified personnel were particularly severe in the areas where we operate, we could be materially and adversely affected. We believe that there are potential alternative providers of drilling services and that it may be necessary to establish relationships with new contractors as our activity level and capital program grows. However, there can be no assurance that we can establish such relationships or that those relationships will result in increased availability of drilling rigs.

 

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If any of our exploratory wells are commercially productive, we would install the appropriate production equipment which includes among other items oil and gas separation facilities and storage tanks. Under the terms of the Petroleum Law, we may be required by the Minister of Energy and Water Resources to offer first refusal for any oil and gas discovered to Israeli domestic purchasers at market prices.

 

Because Israel imports all of its crude oil needs and the market for crude oil in Israel is limited to two local oil refineries, no special marketing strategy need be adopted initially with regard to any oil that we may ultimately discover. We believe that it would have a ready local market for our oil at market prices and would have the option of exporting to the international market, if any of our future exploratory wells are commercially productive.

   

Israel's Petroleum Law

 

Our business in Israel is subject to regulation by the State of Israel under the Petroleum Law. The administration and implementation of the Petroleum Law is vested in the Minister of Energy and Water Resources, the Petroleum Commissioner and an advisory council.  The following discussion includes a brief summary review of certain provisions of the Petroleum Law as currently in effect. This review is not complete and it should not be relied on as a definitive restatement of the law related to petroleum exploration and production activities in Israel.

 

Petroleum resources are owned by the State of Israel, regardless of whether they are located on state lands or the offshore continental shelf. No person is allowed to explore for or produce petroleum without being granted a specific right under the Petroleum Law.

 

License. The "license" is a petroleum exploration right, bestowing an exclusive right for further exploration work and requiring the drilling of one or more test wells. The initial term of a license is up to three years and it may be extended for up to an additional four years (in one year increments). A license area may not exceed 400,000 dunam (approximately 98,800 acres). One dunam is equal to 1,000 square meters (approximately 0.24711 of an acre). No one entity may hold more than 12 licenses or hold more than a total of four million dunam in aggregate license area.

 

Production lease. Upon discovery of petroleum in commercial quantities, a licensee has a statutory "right" to receive a production "lease." The initial lease term is 30 years, extendable for an additional 20 years (up to a maximum period of 50 years). A lease confers upon the lessee the exclusive right to explore for and produce petroleum in the lease area and requires the lessee to produce petroleum in commercial quantities (or pursue test or development drilling). The lessee is entitled to transport and market the petroleum produced, subject, however, to the right of the government to require the lessee to supply local needs first, at market price.

 

Petroleum rights fees. The holders of licenses and leases are required to pay fees to the government of Israel to maintain the rights. The fees vary according to the nature of the right, the size and location (onshore or offshore) of the right, acreage subject of the right and, in the case of a license, the period during which the license has been maintained. For a license, the initial year fees are approximately New Israeli Shekels (NIS) 106.09 (approx. US $28.42 at the Bank of Israel representative rate published on December 31, 2012 ) per dunam (approx. 247.11 acres) per year. Every subsequent year, the license fee increases incrementally.

 

Requirements and entitlements of holders of petroleum rights. The holder of a petroleum right (license or lease) is required to conduct its operations in accordance with a work program set as part of the petroleum right, with due diligence and in accordance with the accepted practice in the petroleum industry. The holder is required to submit progress and final reports; provided, however, the information disclosed in such reports remains confidential for as long as the holder owns a petroleum right on the area concerned.

 

If the holder of a petroleum right does not comply with the work program provided for by the terms of the right, the Petroleum Commissioner may issue a notice requiring that the holder cure the default within 60 days of the giving of the notice, together with a warning that failure to comply within the 60-day cure period may entail cancellation of the right. If the petroleum right is cancelled following such notice, the holder of the right may, within 30 days of the date of notice of the Commissioner's decision, appeal such cancellation to the Minister of Energy and Water Resources. No petroleum right shall be cancelled until the Minister has ruled on the appeal.

 

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We are obligated, according to the Petroleum Law, to pay royalties to the Government of Israel on the gross production of oil and gas from the oil and gas properties of Zion located in Israel (excluding those reserves serving to operate the wells and related equipment and facilities). The royalty rate stated in the Petroleum Law is 12.5% of the produced reserves.  At December 31, 2012 and 2011, the Company did not have any outstanding obligation with respect to royalty payments, since it is at the “development stage” and, to this date, no proved reserves have been found.

 

On March 30, 2011, the Israeli parliament enacted the Petroleum Profits Taxation Law, 2011, which imposes additional income tax on oil and gas production. Under the new tax regime, the present 12.5% royalty imposed on oil revenues remains unchanged. A levy at an initial rate of 20% will be imposed on profits from oil and gas and will gradually rise to 50%, depending on the levy coefficient (the R-Factor). The R-Factor refers to the percentage of the amount invested in the exploration, the development and the establishment of the project, so that the 20% rate will be imposed only after a recovery of 150% of the amount invested (R-Factor of 1.5) and will range linearly up to 50% after a recovery of 230% of the amount invested (R-Factor of 2.3). For purposes of the levy rate calculation, the minimal gas sale price, which will be accepted by the State, is the bi-annual average local price.

 

The grant of a petroleum right does not automatically entitle its holder to enter upon the land to which the right applies or to carry out exploration and production work thereon. Entry requires the consent of the private or public holders of the surface rights and of other public regulatory bodies (e.g. planning and building authorities, Nature Reserves Authority, municipal and security authorities, etc.). The holder of a petroleum right may request the government to acquire, on its behalf, land needed for petroleum purposes. The petroleum right holder is required to obtain all other necessary approvals.

 

Petroleum Taxation. Our activities in Israel will be subject to taxation both in Israel and in the United States. Under the U.S. Internal Revenue Code, we will be entitled to claim either a deduction or a foreign tax credit with respect to Israeli income taxes paid or incurred on our Israeli source oil and gas income. As a general rule, we anticipate that it will be more advantageous for us to claim a credit rather than a deduction for applicable Israeli income taxes on our U.S tax return. A tax treaty exists between the U.S. and Israel that would provide opportunity to use the tax credit. 

 

Exploration and development expenses. Under current U.S. and Israeli tax laws, exploration and development expenses incurred by a holder of a petroleum right can, at the option of such holder, either be expensed in the year incurred or capitalized and expensed (or amortized) over a period of years. Most of our expenses to date have been expensed for both U.S. and Israeli income tax purposes.

 

Depletion allowances. Until 2011, the holder of an interest in a petroleum license or lease was allowed a deduction for income tax purposes on account of the depletion of the petroleum reserve relating to such interest. This may have been by way of percentage depletion or cost depletion, whichever is greater. In 2010, the Finance Minister of Israel established an advisory committee to study the country’s fiscal policy as it relates to the upstream oil and natural gas sector, as well as various options, including an increase in royalties or cancellation of tax incentives. In January 2011, the Finance Ministry advisory committee issued its final recommendations which included cancellation of currently existing tax incentives, including the depletion allowance. In 2011, the depletion allowance was abolished.

  

Corporate tax. Under current Israeli tax laws, whether a company is registered in Israel or is a foreign company operating in Israel through a branch, it is subject to Israeli Companies Tax on its taxable income (including capital gains) from Israeli sources at a flat rate of 25%, effective January 1, 2012.

 

Import duties. Insofar as similar items are not available in Israel, the Petroleum Law provides that the owner of a petroleum right may import into Israel, free of most customs, purchase taxes and other import duties, all machinery, equipment, installations, fuel, structures, transport facilities, etc. (apart from consumer goods and private cars and similar vehicles) that are required for the petroleum exploration and production purposes, subject to the requirement that security be provided to ensure that the equipment is exported out of Israel within the agreed upon time frame.  

 

Israeli Energy Related Regulations

 

Our operations are subject to legal and regulatory oversight by energy-related ministries or other agencies of Israel, each having jurisdiction over certain relevant energy or hydrocarbons laws.

 

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The Onshore Petroleum Exploration Permitting Process in Israel

 

The permitting process in Israel with respect to petroleum exploration is undergoing significant modification, the result of which is to considerably increase the time period needed to obtain the necessary permits to undertake exploratory drilling once a drilling prospect was identified. Applications for new exploration licenses will need to comply with more demanding requirements relating to a license applicant’s financial capability, experience and access to experienced personnel.

 

In June 2012, the Ministry of Energy and Water Resources issued initial guidelines relating to onshore exploratory licensing. Under the guidelines, which have since been adopted, an application will have to meet certain specified conditions and provide detailed information with respect to the requested license area. The applicant must engage, at a minimum, an exploration manager, geologist, geophysicist and engineer with minimum years of experience in oil and gas exploration, and that at least one of these persons must be a resident of Israel. Additionally, if the license application relates to an area that has produced reserves in the past, and the submitted work plans include production of oil and gas from this area, then the applicant must also engage a production engineer. The applicant must also demonstrate the financial resources to support the estimated costs of non-drilling exploratory activities, and at least 50% of the estimated drilling costs, but in any event of not less than $5 million. The applicant will be deemed to have the requisite financial resources if it has liquid assets or equity equal to the required amount, less undertakings pursuant to other licenses or permits. The application will be published in a daily newspaper and the Ministry's web site, and other prospective license applicants will then have an opportunity to submit an application for the requested license area within three months from such publication. In the event of more than one application for a license area, the winner will be determined by a grading system that factors certain deemed pertinent factors (i.e., experience of the applicant, experience of the staff, financial resources, etc.). A condition to the issuance of any license is the submission by the licensee of a performance bank guarantee in an amount equal to 10% of the cost of the proposed work program. The performance bank guarantee is required at or prior to the award of the exploration rights.

 

In October 2012, the Ministry published proposed guidelines relating to the submission of performance guarantees for new and existing exploration license. By its terms, the October 2012 proposed guidelines also relate to offshore (as well as onshore) exploration rights. Under the proposed guidelines, an applicant for a new onshore exploration license must submit a performance bank guarantee for 10% of the cost of the proposed work program upon the award by the Petroleum Commissioner of the applied-for license. An existing onshore exploration license owner will be required to submit a performance bank guarantee equal to 10% of the cost of the balance of the planned work program, by the earlier of (a) the application for a license extension, (b) the application for transfer of license rights, or (c) the application for changes to the work program. The face amount of the performance bank guarantee for existing licenses is proposed to be based on an estimated budget for the balance of the planned work program that an existing license owner is to submit to the Petroleum Commissioner, which budget is subject to approval by the Petroleum Commissioner. In the event that the licensee violates (whether intentionally or not) any of the license terms, then the Petroleum Commissioner is entitled to demand payment of the bank guarantee, after giving the licensee notice and an opportunity to cure. In November 2012, the Association of Oil and Gas Exploration Industries in Israel (of which we are a member) submitted a response to the Ministry’s proposed guidelines, objecting to the guidelines.

 

In December 2012 the Ministry published additional proposed guidelines relating to the submission of bank guarantees for potential drilling-related environmental damages. The guidelines will apply to all petroleum exploration licenses to be granted on or after June 30, 2013. Under the proposed guidelines, prior to receiving the approval of the Commissioner to a proposed drilling program, the licensee must submit a bank guarantee in the amount of $100,000 with respect to a drilling depth of up to (and including) 1,000 meters and, if the drilling depth is more than 1,000 meters, the bank guarantee amount increases to $250,000. The Commissioner in entitled to demand a bank guarantee in excess of $250,000 in the event that the Commissioner determines that there is a substantial risk of environmental damage. In the event that the licensee causes environmental damage, the Commissioner is entitled to demand payment of the bank guarantee, after giving the licensee notice and an opportunity to respond to the damages allegation. In January 2013, the Association of Oil and Gas Exploration Industries in Israel (of which we are a member) submitted a response to the Ministry’s proposed guidelines, objecting to the guidelines.

 

Environmental/Safety

 

Oil and gas drilling operations could potentially harm the environment if there are polluting spills caused by the loss of well control.  The Petroleum Law and regulations provide that the conduct of petroleum exploration and drilling operations be pursued in compliance with “good oil field practices” and that measures of due care be taken to avoid seepage of oil, gas and well fluids into the ground and from one geologic formation to another. The Petroleum Law and regulations also require that, upon the abandonment of a well, it be adequately plugged and marked. Recently, as a condition for issuing the required permit for the construction of a drilling site, the planning commissions have required the submission of a site remediation plan, subject to approval of the environmental authorities.  The costs of future restoration and remediation can be estimated as the restoration and remediation are typical for the industry and part of “oil field best practices”.  At this time, we anticipate that the future cost of the environmental requirements, site remediation and plugging will not be greater than approximately $290,000 per well drilled on our existing license areas. Our operations are also subject to claims for personal injury and property damage caused by the release of chemicals or petroleum substance by us or others in connection with the conduct of petroleum operations on our behalf.

 

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In August 2011, the Government of Israel approved a draft law entitled “Prevention of Land Contamination and Remediation of Contaminated Land”. In order for the draft law to become law, the Israeli Parliament must approve it after a second and third hearing. If adopted, the Government sponsored proposed law will provide for a regulatory regime that will require persons engaged in activities involving “polluted materials” (which are defined to include also petroleum crude oil or any other materials defined as such by the commissioner) including their production, treatment, handling, storage and transportation, that may affect land or water resources to prepare environmental impact statements and remediation plans either prior to commencing activities or following the occurrence of an event that may cause pollution to land or water resources or endanger public health. Under the proposal, persons responsible, directly or indirectly, will be liable for the clean-up costs; violations of the law may result in criminal sanction. We do not know and cannot predict whether any legislation in this area will be enacted and, if so, in what form and which of its provisions, if any, will relate to and affect our activities, how and to what extent nor what impact, if any, it might have on our financial statements. There are no known proceedings instituted by governmental authorities, pending or known to be contemplated against us under any environmental laws. We are not aware of any events of noncompliance in our operations in connection with any environmental laws or regulations and we are not aware of any potentially material contingencies related to environmental issues. However, we cannot predict whether any new or amended environmental laws or regulations introduced in the future will have a material adverse effect on our future business.

  

On January 9, 2012 the Ministry of Energy and Water Resources submitted for review a proposed code titled "Onshore Oil and Gas Exploration and Production-Environment (Health) and Safety Code – Draft". The purpose of the proposed draft code is to regulate and codify onshore environmental and safety matters relating to oil and gas exploration and production in Israel. Under the proposed draft of the code, as a condition to receiving a license for oil and gas exploration, an applicant will have to submit, in writing, an environmental assessment as well as a safety plan that will have to be periodically updated during and after operations. In addition, as a condition to receiving production rights (in the case of a discovery) an applicant will have to submit an environmental impact report as well as a production safety plan. These and related changes in Israel's regulatory regime regarding the petroleum regulations with respect to environmental and safety matters may delay drilling and production operations or result in the termination of drilling permits. We may be required to make substantial expenditures to comply with governmental laws and regulations.

 

In March 2011, the Ministry of Environmental Protection issued initial guidelines relating to oil and gas drilling. This is the first time that the Ministry published specific environmental guidelines for oil and gas drilling operations, relating to onshore and offshore Israel.

 

The guidelines are detailed and provide environmental guidelines for all aspects of drilling operations, commencing from when an application for a preliminary permit is filed, and continuing through license, drilling exploration, production lease, petroleum production and abandonment of the well. The guidelines address details that must be submitted regarding the drill site, surrounding area, the actual drilling operations, the storage and removal of waste and the closing or abandoning of a well. Following meetings between the Ministry and industry representatives in 2011, the Ministry indicated that certain of their initial published guidelines will be revised.

 

In April 2012, the “Environmental Protection Law (Emissions and Transfers to the Environment) Reporting Requirements and Register 2012” became effective. The newly enacted statute imposes reporting obligations on entities engaged in oil and gas exploration activities (amongst others) in Israel relating to quantities of pollutants emitted into the air, water, land and sea (on an annual basis) and the off-site transfer of waste generated in the facility for treatment. The annual report that is to be furnished in respect of 2012 is required to be submitted by June 30, 2013 and, thereafter, each annual report is to be submitted no later than March 31 (with respect to the preceding year). The statute provides for the appointment of a registrar whose function is to supervise the submission of the annual reports and their inclusion in the database. The registrar will be entitled to request additional information or clarifications to the annual report submitted. The law also calls for the Ministry of Environmental Protection to establish a database containing the information gleaned from annual reports submitted by all subject entities and which will be accessible to the public, free of charge.

 

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Proposed Fuel Market Law Legislation

 

In March 2012, the Ministry of Energy and Water Resources presented a draft law entitled “Fuel Market Law”. Under the proposal as currently drafted, the following activities among others as they relate to crude oil and its products would require licenses by the Director of the Fuel Authority in the Ministry of Energy and Water Resources: import, export, refining, storage, dispensing and loading, transport, marketing and sale. Further under the proposal a condition for the receipt of a license is that the licensee be a corporation incorporated under the Israeli Companies Law. As currently drafted, the proposal does not provide for exceptions for entities holding petroleum rights under the Petroleum Law; however, it is not certain that, even if enacted as currently proposed, the provisions of the proposed law would supersede the provisions of the Petroleum Law. We submitted comments to the Ministry with the aim of clarifying that any law to be presented for enactment clarify that the rights of holders of licenses and leases granted under the Petroleum Law will not be compromised. In July 2012 the Israeli Parliament approved at the first hearing the draft Fuel Market Law.

 

We do not know and cannot predict the results of any attempt to enact the proposed Fuel Market Law, as currently drafted or as may be amended or, if enacted, the effect of such law on our rights under the Petroleum Law or the results of any legal challenge to the law by a holder of a license or lease issued under the Petroleum Law.

 

Planning & Building

 

 On April 24, 2012, new regulations entitled “The Petroleum Regulations (Authorization to Deviate from the Provisions of the Planning and Building Law) 5772-2012” were adopted and detail a new permitting process. Among other things, the new regulations require the submission, to the local regulatory and permitting authorities, of a detailed environmental report relating to the proposed drilling site and surroundings. The report is to address, in detail, the environmental implications of the drilling, including hydrological analysis, surface water management, risk assessment, environmental impact, and abandonment and remediation of the drill site, among others.

 

The drilling application must be published and there are specified time frames (approximately 100 days) for any person (including environmental and other interested bodies) to comment on the drilling application. As a result, we believe that the time periods to obtain the necessary permits (prior to spudding a well) have been considerably increased. Currently, we are unable to accurately assess the time period that we would require to obtain the necessary permits to allow us to spud our next exploratory well.

 

Political Climate

 

We are directly influenced by the political, economic and military conditions affecting Israel. Specifically, we could be adversely affected by:

 

  any major hostilities involving Israel;

 

  the interruption or curtailment of trade between Israel and its present trading partners;

 

  a full or partial mobilization of the reserve forces of the Israeli army; and

 

  a significant downturn in the economic or financial condition of Israel.

 

Since the establishment of the State of Israel in 1948, a number of armed conflicts have taken place between Israel and its Arab neighbors, and a state of hostility, varying from time to time in intensity and degree, has led to security and economic problems for Israel. In an attempt to stop missile strikes from the Gaza Strip against Israelis, in January 2009 Israel became engaged in an armed conflict with Hamas in the Gaza Strip, during which missile attacks aimed at populated areas in parts of southern Israel (some of which are in vicinity of warehouse space we use) continued daily, disrupting most day-to-day civilian activity in these areas. In November 2012, Israel and the Hamas militant group were engaged in air strikes and rocket attacks resulting in civilian deaths. Although a ceasefire is currently in effect, some level of conflict is likely to continue. These developments have further strained relations between Israel and the Palestinians. Any on-going or future violence between Israel and the Palestinians, armed conflicts, terrorist activities, tension along Israel’s northern borders, or political instability in the region would likely disrupt international trading activities in Israel and may materially and negatively affect our business conditions and could harm our prospects and business.

 

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In addition, civil unrest, often accompanied by violence, has spread throughout the region. Protestors have demanded economic and political reforms, and to date, there have been several regime changes. Civil unrest could continue to spread throughout the region or grow in intensity, leading to regime changes resulting in governments that are hostile to the United States and Israel, civil wars, or regional conflict.  There have also been rising international tensions over Iran, which was censured by the United Nations over suspicions that it is trying to develop nuclear weapons. Certain countries have considered actions ranging from economic sanctions to pre-emptive strikes on suspected nuclear sites, and Iranian officials have threatened retaliation by, among other actions, closing the Strait of Hormuz, through which a significant portion of the global crude oil supply is transported. There is also concern in Israel that the internal conflict in Syria, with which Israel shares a border, may spill over into Israel.

 

We cannot predict the effect, if any, on our business of renewed hostilities between Israel and its neighbors or any other changes in the political climate in the area.

 

 Foundations

 

If we are successful in finding commercial quantities of hydrocarbons in Israel, 6% of our gross revenues from production will go to fund two charitable foundations that we established with the purpose of donating to charities in Israel, the U.S. and elsewhere in the world.

 

For charitable activities concerning Israel, the Bnei Joseph Foundation (R.A.) was established.  On November 11, 2008, both the Articles of Association and Incorporation Certificate were certified by the Registrar of Amutot (i.e. Charitable Foundations) in Israel.

 

For the U.S. and worldwide charitable activities, the Abraham Foundation - in Geneva, Switzerland was established.  On June 20, 2008, the Articles of Incorporation were executed and filed by the Swiss Notary in the Commercial Registrar in Geneva. On June 23, 2008, the initial organizational meeting of the founding members was convened in Israel.  Regulations for the Organization of the Abraham Foundation, signed by the founding members, were then filed with the Registrar.  On November 19, 2008, the Swiss Confederation approved the Foundation as an international foundation under the supervision of the federal government.  On December 8, 2008, the Republic of Geneva and the Federal government of Switzerland issued a tax ruling providing complete tax exemption for the Foundation.

 

Our shareholders, in a resolution passed at the 2002 Annual Meeting, gave authority to the Zion Board of Directors to transfer a 3% overriding royalty interest to each of the two foundations with regard to the Joseph and Asher-Menashe licenses.  In accordance with that resolution, we took steps to legally donate a 3% overriding royalty interest to the Bnei Joseph Foundation (in Israel) and a 3% overriding royalty interest to the Abraham Foundation (in Switzerland).

 

On June 22, 2009, we received an official letter from the Commissioner informing us that the 3% overriding royalty interest to each of the Bnei Joseph Foundation and the Abraham Foundation had been registered in the Israeli Oil Register with regard to the Joseph and Asher-Menashe licenses. On November 9, 2011, we received an official letter from the Commissioner informing us that the 3% overriding royalty interest to each of the Bnei Joseph Foundation and the Abraham Foundation had been registered in the Israeli Oil Register with regard to the Jordan Valley License.

 

Available Information

 

 Zion’s internet website address is “www.zionoil.com”. We make available, free of charge, on our website, under “SEC Reports”, our annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, Forms 3, 4 and 5 filed on behalf of directors and executive officers and amendments to those reports, as soon as reasonably practicable after providing the SEC such reports.

 

Our Corporate Governance Policy, the charters of the Audit Committee, the Compensation Committee and the Nominating and Governance Committee, and the Code of Ethics for directors, officers, employees and financial officers are also available on our website under “Corporate Governance” and in print to any stockholder who provides a written request to the Corporate Secretary at Zion Oil & Gas, Inc., 6510 Abrams Rd., Suite 300, Dallas, TX 75231, Attn:  Corporate Secretary.

  

We file annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, proxy statements and other documents with the SEC under the Securities Exchange Act of 1934, as amended. The public may read and copy any materials that we file with the SEC at the SEC’s Public Reference Room at 450 Fifth Street, N.W., Washington, D.C.20549. The public may obtain information on the operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330. Also, the SEC maintains an internet website that contains reports, proxy and information statements, and other information regarding issuers, including Zion Oil & Gas, Inc., that file electronically with the SEC. The public can obtain any document we file with the SEC at www.sec.gov. Information contained on or connected to our website is not incorporated by reference into this Form 10-K and should not be considered part of this report or any other filing that we make with the Securities and Exchange Commission.

 

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ITEM 1A. RISK FACTORS

 

In evaluating our company, the factors described below should be considered carefully. The occurrence of one or more of these events could significantly and adversely affect our business, prospects, financial condition and results of operations.

 

Risks Associated with our Company

 

We are a development stage company with no current source of revenue. Our ability to continue in business depends upon our continued ability to obtain significant financing from external sources and the ultimate success of our petroleum exploration efforts in onshore Israel, none of which can be assured.

 

We were incorporated in April 2000 and are still an development stage company. We have incurred negative cash flows from our operations, and presently all exploration activities and overhead expenses are financed solely by way of the issue and sale of equity securities. The recoverability of the costs we have incurred to date is uncertain and is dependent upon achieving commercial production or sale, none of which can be assured.  Our operations are subject to all of the risks inherent in exploration stage companies with no revenues or operating income. Our potential for success must be considered in light of the problems, expenses, difficulties, complications and delays frequently encountered in connection with a new business, especially the oil and gas exploration business, and in particular the deep, wildcat exploratory wells in which we are engaged in Israel. We cannot warrant or provide any assurance that our business objectives will be accomplished.

 

Subject to obtaining the new petroleum exploration license for which we are in the process of applying, we expect to incur substantial expenditures in our exploration and development programs.  Our existing cash balances will not be sufficient to satisfy our exploration and development plans going forward.  We are considering various alternatives to remedy any future shortfall in capital.  We may deem it necessary to raise capital through equity markets, debt markets or other financing arrangements, including participation arrangements that may be available.  Because of the absence of any oil and natural gas reserves and revenues in our license areas, there can be no assurance this capital will be available on commercially acceptable terms (or at all) and if it is not, we may be forced to substantially curtail or cease exploration expenditures which could lead to our inability to meet all of our commitments.

 

If we cannot obtain the new petroleum exploration license which we seek, then our business may be severely impaired.

 

While we continue to evaluate the hydrocarbon potential in the Asher-Menashe License area, we do not currently intend to submit a drilling program in any of our existing license areas. We have identified an area of potential petroleum exploration interest that is outside our current license configurations. Based, in part, on discussions we had in February 2013 with the Petroleum Commissioner and other Ministry representatives, we are in the process of applying to the Petroleum Commissioner for a new petroleum exploration license in the Jezreel-Megiddo area.

 

Our ability to obtain the desired exploration licenses on acceptable terms is subject to change in regulations and policies and to the discretion of the applicable government agencies in Israel. Additionally, the newly enacted onshore licensing and environmental and safety related regulations promulgated by the various energy related ministries in Israel during 2011-2012 are likely to render obtaining new exploration licenses increasingly expensive and more time consuming. Accordingly, there can be no assurance that we will be able to obtain these exploration rights. If we are unable for whatever reason to obtain the newly sought license applications that we deem necessary or desirable, our business may be severely impaired.

 

The spudding of our next exploratory well is subject to many contingencies outside of our control, and any considerable delay in obtaining all of the needed licenses, approvals and authorizations prior to actual drilling may severely impair our business.

 

Even if we receive the desired exploration license that we are seeking as described above, there are a number of risks and contingencies involved in identifying our next exploratory well prospect. We would need to also undertake, process and interpret additional seismic and other geological and geophysical studies in these areas following (and subject to) receipt of the license areas as we can undertake additional exploratory activities only in an authorized license areas. We would need to contract with GII (or other appropriate seismic services providers) to undertake these studies. Historically, we have had a significant time lag in contracting for and the actual performance of these seismic services by GII. GII is the only seismic services provider in Israel. We can provide no assurance that we will be able to undertake the needed studies in a timely manner.

 

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Finally, even if we are awarded the desired license areas and are able to perform the necessary geological and geophysical studies in a timely manner and are successful in identifying our next exploratory well drilling prospect, the newly implemented onshore exploration permitting process in Israel is anticipated to considerably increase the time needed to obtain all of the needed regulatory and local permits and approval needed to spud our next exploratory well. We estimate that the permitting process alone may take between 12 and 18 months following the identification of the site of our next exploratory well and the commencement of drilling. See the discussion under “Energy Related Regulations -The Onshore Petroleum Exploration Permitting Process in Israel”.

 

For the reasons above, we cannot accurately estimate when we will be able to drill our next exploratory well. Additionally, prior to actually commencing drilling, we will need to contract with a drilling rig operator with the appropriate drilling rig and crew to carry out the drilling. See “We have not signed an agreement with a drilling contractor and thus, we may be unable to conduct any future exploratory drilling within the contemplated time-frame.”

 

We require significant capital to realize our business plan.

 

Our planned work program is expensive. We believe that our current cash resources are sufficient to allow us to undertake non-drilling exploratory activities in our current license areas and in the additional areas of interest that we have identified which are currently outside of our exploration license areas and otherwise meet our plans through January 31, 2014. We estimate that, when we are not actively drilling a well, our monthly expenditure is approximately $520,000 per month. However, when we are engaged in active drilling operations, we estimate that there is an additional cost of approximately $2,500,000 per month. Additionally, the newly enacted onshore licensing and environmental and safety related regulations promulgated by the various energy related ministries in Israel during 2011-2012 are likely to render obtaining new explorations licenses increasingly expensive. For example, at the time of the award of any new exploration license, we will be required to submit performance bank guarantees for 10% of the cost of the planned drilling program as well as other amounts to cover potential environmental damages. See “Israel Energy Related Governmental Regulations”.

 

We have no commitments for any financing, and no assurance can be provided that we will be able to raise funds when needed. Further, we cannot assure you that our actual cash requirements will not exceed our estimates. Even if we were to discover hydrocarbons in commercial quantities, we will require additional financing to bring our interests into commercial operation and pay for operating expenses until we achieve a positive cash flow. Additional capital also may be required in the event we incur any significant unanticipated expenses.

 

Under the current capital and credit market conditions, we may not be able to obtain additional equity or debt financing on acceptable terms. Even if financing is available, it may not be available on terms that are favorable to us or in sufficient amounts to satisfy our requirements.

 

If we are unable to obtain additional financing, we may be unable to implement our business plan and our growth strategies, respond to changing business or economic conditions and withstand adverse operating results. If we are unable to raise further financing when required, our planned exploration activities may have to be scaled down or even ceased, and our ability to generate revenues in the future would be negatively affected.

 

Additional financing could cause your relative interest in our assets and potential earnings to be significantly diluted. Even if we have exploration success, we may not be able to generate sufficient revenues to offset the cost of dry holes and general and administrative expenses.

  

We are not in compliance with some of the terms of our existing petroleum exploration licenses and such non-compliance may result in the loss or forfeiture of such license(s). The loss or forfeiture of any of our licenses may have an adverse effect on our business and prospects.

 

Based on the results of seismic and other geological and geophysical tests that we have undertaken, we do not plan to commit to a drilling program in any of our current license areas. We are currently in the process of applying for a new exploration license for an identified area of potential exploration interest that we have identified in the Jezreel-Meggido area (abutting our current Jordan License area configuration), for which no assurance can be provided that we will be successful in obtaining such rights. We are also in the process of applying for a new work program to perform additional non-drilling exploratory work in the Jordan Valley License area. Thus, we are currently non-compliant with some of the express terms for each of our existing licenses. The non-compliance arises from our inability to identify drillable prospects in any of our current license configurations. Accordingly, we cannot assess the consequences of our non-compliance with the express terms of the current licenses, which may include the forfeiture of existing license rights or possible adverse implications with respect to our new license application (which we are in process of preparing). See discussion under “Summary of Exploration and Drilling Activities in our License Areas” and “Exploration Plans Going Forward”.

 

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The loss or forfeiture of one or more of current licenses or the refusal to extend such licenses when they are up for renewal may adversely affect our business and prospects.

 

We have not signed an agreement with a drilling contractor and thus, we may be unable to conduct any future exploratory drilling within the contemplated time-frame.

 

Following the completion of the Ma’anit-Joseph #3 well, the drilling rig that we used to drill our last three exploratory wells was exported by the owner from Israel in January 2012. Until such time as we sign a legally binding agreement, there can be no assurance that we will be able to come to an agreement with the drilling contractor to drill any future exploratory well(s) on commercially reasonable terms, or at all. Any delay in locating and contracting with an appropriate drilling rig owner/operator can have a material adverse effect on the expanded and new exploration rights that we are seeking and on the implementation of our business plan. 

 

We rely on independent experts and technical or operational service providers over whom we may have limited control.

 

The success of our oil and gas exploration efforts is dependent upon the efforts of various third parties that we do not control. These third parties provide critical engineering, geological, geophysical and other scientific analytical services, including 2-D seismic imaging technology to explore for and develop oil and gas prospects. Given our small size and limited resources, we do not have all the required expertise on staff.  As a result, we rely upon various companies and other third persons to assist us in identifying desirable hydrocarbon prospects to acquire and to provide us with technical assistance and services. In addition, we rely upon the owners and operators of drilling rigs and related equipment.

 

If any of these relationships with third-party service providers are terminated or are unavailable on commercially acceptable terms, we may not be able to execute our business plan. Our limited control over the activities and business practices of these third parties, any inability on our part to maintain satisfactory commercial relationships with them, their limited availability  or their failure to provide quality services could materially and adversely affect our business, results of operations and financial condition.

 

We typically commence exploration drilling operations without undertaking extensive analytical testing thereby potentially increasing the risk (and associated costs) of drilling a non-producing well.

 

Larger oil and gas exploration companies typically conduct extensive analytical pre-drilling testing. These include 3-D seismic imaging, the drilling of an expendable “pilot” well or “stratigraphic test” to collect data (logs, cores, fluid samples, pressure data) to determine if drilling a well capable of producing oil or gas well (full completion with casing and well testing) is justified. The use of pilot or stratigraphic tests is often used in areas where there is little or no offset well data, like Israel, where our exploration license and permits areas are located.  While 3-D seismic imaging data is more useful than 2-D data in identifying potential new drilling prospect, its acquisition and processing costs are many multiples greater than that for 2-D data, and GII, our primary provider of geophysical data, has limited ability to acquire and process onshore 3-D data. In addition to using 2-D seismic technology prior to drilling, we have historically also utilized gravity and magnetic data, built cross section maps from offset wells and utilized geophysical analysis from similar geologic targets. We believe that the additional months, delays and associated costs associated with more extensive pre-drilling testing typically undertaken by larger oil and gas exploration companies is not necessarily justified when drilling vertical exploration wells (as we have historically been doing). Nonetheless, the absence of more extensive pre-drilling testing may potentially increase the risk of drilling a non-producing well, which would in turn result in increased costs and expenses. Additionally, we are typically engaged in drilling very deep onshore wildcat wells in Israel where only approximately 500 total wells have ever been drilled, the vast majority of which are relatively substantially shallower. As such, exploration risks are inherently very substantial.

 

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Exploratory well drilling locations that we decide to drill may not yield oil or natural gas in commercially viable quantities.

 

There is no way to predict in advance of drilling and testing whether any particular location will yield oil or natural gas in sufficient quantities to recover drilling or completion costs or to be economically viable. The use of technologies and the study of producing fields in the same area will not enable us to know conclusively prior to drilling whether oil, natural gas liquids (NGLs) or natural gas will be present or, if present, whether oil or natural gas will be present in sufficient quantities to be economically viable. Even if sufficient amounts of oil, NGLs or natural gas exist, we may damage the potentially productive hydrocarbon bearing formation or experience mechanical difficulties while drilling or completing a well, resulting in a reduction in production from the well or abandonment of the well. If we drill exploratory wells that we identify as dry holes in our future drilling locations, our business may be materially harmed. We cannot assure you that the analogies we draw from available data from other wells, more fully explored locations or producing fields will be applicable to our drilling locations. Ultimately, the cost of drilling, completing and operating any well is often uncertain, and new wells may not be productive.

 

Deterioration of political, economic and security conditions in Israel may adversely affect our operations.

 

Any major hostilities involving Israel, a substantial decline in the prevailing regional security situation or the interruption or curtailment of trade between Israel and its present trading partners could have a material adverse effect on our operations. Since the establishment of the State of Israel in 1948, a number of armed conflicts have taken place between Israel and its Arab neighbors and a state of hostility, varying in degree and intensity, has led to security and economic problems for Israel. Beginning in September 2000, the overall relationship and security situation between Israel and the Palestinians deteriorated significantly and continues to be marked by ongoing violence, also varying in its degree of severity. During the summer of 2006, Israel was engaged in an armed conflict with Hezbollah, a Lebanese Islamist Shiite militia group and political party; and during the winter of 2008-2009 and as recently as November 2012, Israel was engaged in an armed conflict with Hamas, a militia group and political party operating in the Gaza Strip. These conflicts involved missile strikes against civilian targets in various parts ofIsrael. To date, these matters have not had any material effect on our business and results of operations, but there can be no assurance that they will not do so in the future.

 

In addition, civil unrest, often accompanied by violence, has spread throughout the region. Protestors have demanded economic and political reforms, and to date, there have been several regime changes in other countries. Civil unrest could continue to spread throughout the region or grow in intensity, leading to regime changes resulting in governments that are hostile to the United States and Israel, civil wars, or regional conflict.  There have also been rising international tensions over Iran, which was censured by the United Nations over suspicions that it is trying to develop nuclear weapons. Certain countries have considered actions ranging from economic sanctions to pre-emptive strikes on suspected nuclear sites, and Iranian officials have threatened retaliation by, among other actions, closing the Strait of Hormuz, through which a significant portion of the global crude oil supply is transported.

 

Prolonged and/or widespread regional conflict in the Middle East could have the following results, among others:

 

  ·

capital market reassessment of risk and subsequent redeployment of capital to more stable areas making it more difficult for us to obtain financing for potential development projects;

 

  ·

security concerns in Israel, making it more difficult for our personnel or supplies to enter or exit the country;

 

  ·

security concerns leading to evacuation of our personnel;

 

  ·

damage to or destruction of our wells, production facilities, receiving terminals or other operating assets;

 

  ·

inability of our service and equipment providers to deliver items necessary for us to conduct  our operations in, resulting in delays; and

 

  · lack of availability of drilling rig and experienced crew, oilfield equipment or services if third party providers decide to exit the region.

 

Loss of property and/or interruption of our business plans resulting from hostile acts could have a significant negative impact on our earnings and cash flow. In addition, we may not have enough insurance to cover any loss of property or other claims resulting from these risks.

 

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We have a history of losses and we cannot assure you that we will ever be profitable.

 

We incurred net losses of $10,294,000 for the year ended December 31, 2012, $52,182,000 for the year ended December 31, 2011, $27,658,000 for the year ended December 31, 2010. We have incurred total net losses of $118,963,000 for period from April 6, 2000 (inception) to December 31, 2012. We cannot provide any assurance that we will ever be profitable.

 

Earnings, if any, will be diluted due to charitable contributions and key employee incentive plans.

 

We are legally bound to fund in the form of a royalty interest or equivalent net operating profits interest, 6% of our gross sales revenues, if any, to two charitable foundations. In addition, we may allocate 1.5% royalty interest or equivalent net operating profits interest to a key employee incentive plan designed as bonus compensation over and above our executive compensation payments. This means that the total royalty burden on our property (including the government royalty of 12.5%) may be up to 20% of gross revenue. As our expenses increase with respect to the amount of sales, these donations and allocation could significantly dilute future earnings and, thus, depress the price of the common stock.

 

Risks Associated with our Business

 

We are subject to increasing Israeli governmental regulations and environmental requirements that may cause us to incur substantial incremental costs and/or delays in our drilling program.

 

Our business is subject to laws and regulations promulgated by the State of Israel relating to the exploration for, and the development, production and marketing of, crude oil and natural gas, as well as safety matters. Legal requirements are frequently changed and subject to interpretation and we are unable to predict the ultimate cost of compliance with these requirements or their effect on our operations. We may be required to make substantial expenditures to comply with governmental laws and regulations.

 

Environmental laws and regulations change frequently and the implementation of new, or the modification of existing, laws or regulations could adversely impact our operations. The discharge of natural gas, crude oil, or other pollutants into the air, soil or water may give rise to substantial liabilities on our part to government agencies and third parties and may require us to incur substantial costs of remediation. In addition, we may incur costs and penalties in addressing regulatory agency procedures involving instances of possible non-compliance.

 

Our lack of diversification increases the risk of an investment in us, and our financial condition and results of operations may deteriorate if we fail to diversify.

 

Our business focus is on oil and gas exploration on a limited number of properties in Israel and exploitation of any significant reserves that are found within our license areas. As a result, we lack diversification, in terms of both the nature and geographic scope of our business. We will likely be impacted more acutely by factors affecting our industry or the regions in which we operate than we would if our business were more diversified. If we are unable to diversify our operations, our financial condition and results of operations could deteriorate.

 

We currently have no proved reserves or current production and we may never have any.

 

We do not have any proved reserves or current production of oil or gas. We cannot assure you that any wells will be completed or produce oil or gas in commercially profitable quantities.

  

Oil and gas exploration is an inherently risky business.

 

Exploratory drilling involves enormous risks, including the risk that no commercially productive oil or natural gas reservoirs will be discovered. Even when properly used and interpreted, seismic data analysis and other computer simulation techniques are only tools used to assist geoscientists in trying to identify subsurface structures and hydrocarbon indicators. They do not allow the interpreter to know conclusively if hydrocarbons are present or economically available. The risk analysis techniques we use in evaluating potential drilling sites rely on subjective judgments of our personnel and consultants. Additionally, we are typically engaged in drilling deep onshore wildcat exploratory wells in Israel where only approximately 500 total wells have ever been drilled, the vast majority of which are relatively substantially shallower. As such, exploration risks are inherently very substantial.

 

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Disclosure of certain operating information as required by Section 1504 of the Dodd-Frank Act could have a negative impact on our operations.

 

On August 22, 2012, the SEC issued final rules: Disclosure of Payments by Resource Extraction Issuers (Final Rules), as required by the Dodd-Frank Act. As a result, beginning in 2014, we must provide information about the type and total amount of payments made for each project related to the commercial development of oil, natural gas, or minerals, and the type and total amount of payments made to each government. If these required disclosures conflict with the general laws of the State of Israel (in which we operate), there could be substantial negative impacts on our operations, business or the price of stock.

 

A substantial and extended decline in oil or natural gas prices could adversely impact our future rate of growth and the carrying value of our unproved oil and gas assets.

 

Prices for oil and natural gas fluctuate widely. Fluctuations in the prices of oil and natural gas will affect many aspects of our business, including our ability to attract capital to finance our operations, our cost of capital, and the value of our unproved oil and natural gas properties. Prices for oil and natural gas may fluctuate widely in response to relatively minor changes in the supply of and demand for oil and natural gas, market uncertainty and a wide variety of additional factors (such as the current political turmoil in the Middle East) that are beyond our control, such as the domestic and foreign supply of oil and natural gas, the ability of members of the Organization of Petroleum Exporting Countries to agree to and maintain oil price and production controls, technological advances affecting energy consumption, and domestic and foreign governmental regulations.  Significant and extended reductions in oil and natural gas prices could require us to reduce our capital expenditures and impair the carrying value of our assets.

 

If we are successful in finding commercial quantities of oil and/or gas, our revenues, operating results, financial condition and ability to borrow funds or obtain additional capital will depend substantially on prevailing prices for oil and natural gas. Declines in oil and gas prices may materially adversely affect our financial condition, liquidity, ability to obtain financing and operating results. Lower oil and gas prices also may reduce the amount of oil and gas that we could produce economically.

 

Historically, oil and gas prices and markets have been volatile, with prices fluctuating widely, and they are likely to continue to be volatile, making it impossible to predict with any certainty the future prices of oil and gas. The insurance we carry is insufficient to cover all of the risks we face, which could result in significant financial exposure.

 

Exploration for and production of crude oil and natural gas can be hazardous, involving natural disasters and other unplanned events such as blowouts, well cratering, fire and explosion and loss of well control which can result in damage to or destruction of wells, injury to persons, loss of life, or damage to property and the environment. Exploration and production activities are also subject to risk from political developments such as terrorist acts, piracy, civil disturbances, war, expropriation or nationalization of assets, which can cause loss of or damage to our property.

 

As is customary within our industry, we maintain insurance against many, but not all, potential perils confronting our operations and in coverage amounts and deductible levels that we believe to be economic. Consistent with that profile, our insurance program is structured to provide us financial protection from unfavorable loss severity resulting from damages to or the loss of physical assets or loss of human life, liability claims of third parties, and exploratory drilling interruption attributed to certain assets and including such occurrences as well blowouts and resulting oil spills, at a level that balances cost of insurance with our assessment of risk and our ability to achieve a reasonable rate of return on our investments. Although we believe the coverages and amounts of insurance carried are adequate and consistent with industry practice, we do not have insurance protection against all the risks we face, because we chose not to insure certain risks, insurance is not available at a level that balances the cost of insurance and our desired rates of return, or actual losses exceed coverage limits. We regularly review our risks of loss and the cost and availability of insurance and revise our insurance program accordingly.

 

If an event occurs that is not covered by insurance or not fully protected by insured limits, it could have a significant adverse impact on our financial condition, results of operations and cash flows.

 

We face various risks associated with the trend toward increased activism against oil and gas exploration and development activities.

 

Opposition toward oil and gas drilling and development activity has been growing globally and is particularly pronounced in OECD countries which include the U.S., the U.K. and Israel.  Companies in the oil and gas industry, such as us, are often the target of activist efforts from both individuals and non-governmental organizations regarding safety, human rights, environmental compliance and business practices.  Future activist efforts could result in the following:

 

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  ·

delay or denial of drilling permits;

 

  ·

shortening license or reduction in lease size;

 

  ·

restrictions on installation or operation of gathering or processing facilities;

 

  ·

restrictions on the use of certain operating practices, such as hydraulic fracturing;

 

  ·

legal challenges or lawsuits;

 

  ·

damaging publicity about us;

 

  ·

increased costs of doing business;

 

  ·

reduction in demand for our products; and

 

  · other adverse affects on our ability to develop our properties and expand production.

 

Our need to incur costs associated with responding to these initiatives or complying with any resulting new legal or regulatory requirements resulting from these activities that are substantial and not adequately provided for, could have a material adverse effect on our business, financial condition and results of operations.

 

Economic risks may adversely affect our operations and/or inhibit our ability to raise additional capital.

 

Economically, our operations in Israel may be subject to:

 

  · exchange rate fluctuations;

 

  · royalty and tax increases and other risks arising out of Israeli State sovereignty over the mineral rights in Israel and its taxing authority; and

 

  · changes in Israel's economy that could cause the legislation of oil and gas price controls.

 

Consequently, our operations may be substantially affected by local economic factors beyond our control, any of which could negatively affect our financial performance and prospects.

 

Legal risks could negatively affect our market value.

 

Legally, our operations in Israel may be subject to:

 

  · changes in the Petroleum Law resulting in modification of license and permit rights;

 

  · adoption of new legislation relating to the terms and conditions pursuant to which operations in the energy sector may be conducted;

 

  · changes in laws and policies affecting operations of foreign-based companies in Israel; and

 

  · changes in governmental energy and environmental policies or the personnel administering them.

 

The Israeli Ministry of Energy and Water Resources is considering proposed legislation relating to licensing requirements for entities engaged in the fuel sector that, if adopted as currently proposed, may result in our having to obtain additional licenses to market and sell hydrocarbons that may be discovered by us. We cannot now predict whether or in what form the proposed legislation may be adopted or, if adopted, its possible impact on our operations.

 

Further, in the event of a legal dispute in Israel, we may be subject to the exclusive jurisdiction of Israeli courts or we may not be successful in subjecting persons who are not United States residents to the jurisdiction of courts in the United States, either of which could adversely affect the outcome of a dispute.

 

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The Ministry of Environmental Protection is considering proposed legislation relating to polluted materials, including their production, treatment, handling, storage and transportation, that may affect land or water resources.  Persons engaged in activities involving these types of materials will be required to prepare environmental impact statements and remediation plans either prior to commencing activities or following the occurrence of an event that may cause pollution to land or water resources or endanger public health.  We do now know and cannot predict whether any legislation in this area will be enacted and, if so, in what form and which of its provisions, if any, will relate to and affect our activities, how and to what extent.

  

There are limitations on the transfer of interests in our petroleum rights, which could impair our ability to raise additional funds to execute our business plan.

 

The Israeli government has the right to approve any transfer of rights and interests in any license or other petroleum right we hold or may be granted and any mortgage of any license or other petroleum rights to borrow money. If we attempt to raise additional funds through borrowings or joint ventures with other companies and are unable to obtain required approvals from the government, the value of your investment could be significantly diluted or even lost.

 

Our dependence on the limited contractors, equipment and professional services available in Israel may result in increased costs and possibly material delays in our work schedule.

 

Due to the lack of competitive resources in Israel, costs for our operations may be more expensive than costs for similar operations in other parts of the world. We are also more likely to incur delays in our drilling schedule and be subject to a greater risk of failure in meeting our required work schedule. Similarly, some of the oil field personnel we need to undertake our planned operations are not necessarily available in Israel or available on short notice for work in Israel. Any or all of the factors specified above may result in increased costs and delays in the work schedule.

 

Our dependence on Israeli local licenses and permits may require more funds than we have budgeted and may cause delays in our work schedule.

 

In connection with drilling operations, we are subject to a number of Israeli local licenses and permits. Some of these are issued by the Israeli security forces, the Civil Aviation Authority, the Israeli Water Commission, the Israel Lands Authority, the holders of the surface rights in the lands on which we intend to conduct drilling operations local and regional planning commissions and environmental authorities.

 

In the event of a commercial discovery and depending on the nature of the discovery and the production and related distribution equipment necessary to produce and sell the discovered hydrocarbons, we will be subject to additional licenses and permits, including from various departments in the Ministry of Energy and Water Resources, regional and local planning commissions, the environmental authorities and the Israel Lands Authority. If we are unable to obtain some or all of these permits or the time required to obtain them is longer than anticipated, we may have to alter or delay our planned work schedule, which would increase our costs.

 

If we are successful in finding commercial quantities of oil and/or gas, our operations will be subject to laws and regulations relating to the generation, storage, handling, emission, transportation and discharge of materials into the environment, which can adversely affect the cost, manner or feasibility of our doing business. Many Israeli laws and regulations require permits for the operation of various facilities, and these permits are subject to revocation, modification and renewal. Governmental authorities have the power to enforce compliance with their regulations, and violations could subject us to fines, injunctions or both.

 

If compliance with environmental regulations is more expensive than anticipated, it could adversely impact the profitability of our business.

 

Risks of substantial costs and liabilities related to environmental compliance issues are inherent in oil and gas operations. It is possible that other developments, such as stricter environmental laws and regulations, and claims for damages to property or persons resulting from oil and gas exploration and production, would result in substantial costs and liabilities. This could also cause our insurance premiums to be significantly greater than anticipated.

 

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The unavailability or high cost of drilling rigs, equipment, supplies, other oil field services and personnel could adversely affect our ability to execute our exploration and development plans on a timely basis and within our budget.

 

Our industry is cyclical and, from time to time, there is a shortage of drilling rigs, equipment, supplies and oilfield services. There may also be a shortage of trained and experienced personnel. During these periods, the costs of such items are substantially greater and their availability may be limited, particularly in locations that typically have limited availability of equipment and personnel, such as the Eastern Mediterranean, where our operations are located.

 

During periods of increasing levels of industry exploration and production, the demand for, and cost of, drilling rigs and oilfield services increases. The recovery of global crude oil prices during 2012 is resulting in increased global exploration and production activity, thus increasing demand pressure for drilling rigs and oilfield services, which could result in sector inflation. As a result, drilling rigs and oilfield services may not be available at rates that provide a satisfactory return on our investment.

 

Risks Related to our Common Stock

 

If we fail to comply with NASDAQ’s listing standards, it could result in the delisting of our common stock by NASDAQ from the NASDAQ Global Market and severely limit the ability to sell our common stock.

 

Our common stock is currently traded on the NASDAQ Global Market. Under NASDAQ’s listing maintenance standards, if the closing bid price of our common stock is under $1.00 per share for 30 consecutive trading days, NASDAQ will notify us that we may be delisted from the NASDAQ Global Market. If the closing bid price of our common stock does not thereafter regain compliance for a minimum of 10 consecutive trading days during the 180 days following notification by NASDAQ, NASDAQ may delist our common stock from trading on the NASDAQ Global Market. There can be no assurance that our common stock will remain eligible for trading on the NASDAQ Global Market. In addition, if our common stock is delisted, our stockholders would not be able to sell our common stock on the NASDAQ Global Market, and their ability to sell any of our common stock would be severely, if not completely, limited.

 

Between January 31 and March 8, 2013, the per share price of our common stock closed at between $0.85 and $1.29 on the NASDAQ Global Market.  If we are not able to maintain compliance with such continuing listing requirements going forward, our stock may be delisted from the NASDAQ Global Market, which could have a negative effect on the price of our common stock, as well as on our ability to raise additional funds.

 

We will likely issue additional common stock in the future, which would dilute our existing stockholders.

 

In the future we anticipate issuing additional securities in connection with capital raising efforts, including shares of our common stock or securities convertible into or exchangeable for our common stock, resulting in the dilution of the ownership interests of our stockholders. We are authorized under our amended and restated certificate of incorporation to issue 100,000,000 shares of common stock. As of February, 21, 2013, there were 32,771,210 shares of our common stock issued and outstanding.

 

We have effective shelf registration statements from which additional shares of our common stock and other securities can be issued. In addition, we may also issue additional shares of our common stock or securities convertible into or exchangeable for our common stock in connection with the hiring of personnel, future acquisitions, future private placements of our securities for capital raising purposes or for other business purposes. Future issuances of our common stock, or the perception that such issuances could occur, could have a material adverse effect on the price of our common stock.

 

Because we have no plans to pay dividends on our common stock, stockholders must look solely to appreciation of our common stock to realize a gain on their investments.

 

We do not anticipate paying any dividends on our common stock in the foreseeable future. We currently intend to retain future earnings, if any, to finance the expansion of our business. Our future dividend policy is within the discretion of our board of directors and will depend upon various factors, including our business, financial condition, results of operations, capital requirements and investment opportunities. Accordingly, stockholders must look solely to appreciation of our common stock to realize a gain on their investment. This appreciation may not occur.

 

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Our stock price and trading volume may be volatile, which could result in losses for our stockholders.

 

The public market for our common stock has been characterized by significant price and volume fluctuations.  There can be no assurance that the market price of our common stock will not decline below its current or historic price ranges.  The market price may bear no relationship to the prospects, stage of development, existence of oil and gas reserves, revenues, earnings, assets or potential of our company and may not be indicative of our future business performance.  The trading price of our common stock could be subject to wide fluctuations.  Fluctuations in the price of oil and gas and related international political events can be expected to affect the price of our common stock.  In addition, the stock market in general has experienced extreme price and volume fluctuations that have affected the market price for many companies, sometimes unrelated to the operating performance of these companies.  These market fluctuations, as well as general economic, political and market conditions, may have a material adverse effect on the market price of our common stock.  

 

Some of the factors that could negatively affect our share price or result in fluctuations in the price or trading volume of our common stock include:

 

  actual or anticipated quarterly variations in our operating results,
     
  changes in expectations as to our future financial performance or changes in financial estimates, if any,
     
  announcements relating to our business or the business of our competitors,
     
  conditions generally affecting the oil and natural gas industry,
     
  the success of our operating strategy, and
     
  the operating and stock performance of other comparable companies.

 

Many of these factors are beyond our control, and we cannot predict their potential effects on the price of our common stock. In addition, the stock market is subject to extreme price and volume fluctuations.  This volatility has had a significant effect on the market price of securities issued by many companies for reasons unrelated to their operating performance and could have the same effect on our common stock.

 

 In addition, following periods of volatility in the market price of a company’s securities, securities class action litigation has often been instituted against such companies.  Such litigation, if instituted, and irrespective of the outcome of such litigation, could result in substantial costs and a diversion of management’s attention and resources and have a material adverse effect on our business and financial condition.

 

ITEM 1B.  UNRESOLVED STAFF COMMENTS

 

Not Applicable

 

ITEM 2.  PROPERTIES

 

Our current oil and gas interests consist of three petroleum exploration licenses, all onshore Israel, comprised of the Joseph License (covering approximately 83,272 acres), the Asher-Menashe License (covering approximately 78,824 acres) and the Jordan Valley License (covering approximately 55,845 acres of land in the Jordan Valley area). We have continuously held the Joseph License since October 2007 and the Asher-Menashe License since June 2007. We were awarded the Jordan Valley License in April 2011. The Joseph License and Asher-Menashe License areas are geographically contiguous and within a similar geologic environment.

 

The table below summarizes certain data for our license areas for the year ended December 31, 2012:

 

Type of Right  Name  Area (Acres)  Working Interest  Expiration Date
License  Asher-Menashe  78,824  100% (1)  June 9, 2013 (2) (5)
             
License  Joseph  83,272  100% (1)  April 10, 2013 (3) (5)
             
License  Jordan Valley  55,845  100% (1)  April 12, 2014 (4) (5)

 

(1) All of the rights are subject to a 12.5% royalty interest due to the government of Israel under the Petroleum Law. Zion has also donated the equivalent of a 6% royalty interest (or equivalent net operating profits interest) to two foundations.  In addition, Zion may allocate a 1.5% royalty interest (or equivalent net operating profits interest) to a key employee incentive plan that may be established.

 

(2) Extendable through June 9, 2014, subject to compliance with the terms of the license as may be amended. As discussed above, we are currently not in full compliance with the terms of this license.

 

(3) Extendable through October 10, 2014, subject to compliance with the terms of the license as may be amended. As discussed above, we are currently not in full compliance with the terms of this license.

 

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(4) Extendable through April 2018, subject to compliance with the terms of the license as may be amended. As discussed above, we are currently not in full compliance with the terms of this license.

 

(5) Declaration of a commercial discovery during the license term, as may in certain circumstances be extended for two years to define the boundaries of the field, would entitle Zion to receive a 30-year lease (extendable for up to an additional 20 years - 50 years in all) subject to compliance with a field development work program and production.

 

Surface Rights

 

The surface rights to any prospective drill site in the Joseph License area are held under a long-term lease by Kibbutz Ma'anit. The rights are owned by the State of Israel and administered by the Israel Lands Authority. Permission has been granted to Zion by both Kibbutz Ma'anit and the Israel Lands Authority for the use of the surface rights.

 

The surface rights to any prospective drill site in the Asher-Menashe License area are held under a long-term lease by Kibbutz Ein Carmel. The rights are owned by the State of Israel and administered by the Israel Lands Authority. Permission has been granted to Zion by both Kibbutz Ein Carmel and the Israel Lands Authority for the use of the surface rights.

 

The surface rights to the possible drill sites in the Jordan Valley License area which we are currently contemplating are held by the Israel Electric Company and the Israel Lands Authority.

 

Summary of Exploration Activities/Present Activities

 

Please refer to the discussion above under Item 1, under the caption “Summary of Exploration and Drilling Activities” in our License Areas and “Exploration Plans Going Forward”. 

 

Office Properties

 

The Company has a rental lease for 3,600 square feet of corporate office space in Dallas, and such lease expired on October 31, 2011. On October 11, 2011, the Company and the landlord entered into an amended lease for the renewal of the lease of its current office premises in Dallas, Texas as well as the addition of additional adjacent space in the building. Pursuant to the Lease Amendment, the lease term on the existing office space as well as the additional premises described below was extended to October 31, 2015.

 

Rent is paid on a monthly basis and was $6,996 per month for each month from November 1, 2011 through October 31, 2012; thereafter, $7,534 for each month through October 31, 2013; $7,534 for each month through October 31, 2014 and $8,072 for each month through October 31, 2015. Notwithstanding the foregoing, the parties have agreed that so long as there is no event of default under the Lease Amendment then the monthly payments for Suite 304 in the monthly amount of $1,434 through October 31, 2012 and $1,544 thereafter through October 31, 2013 are to be abated. Accordingly, assuming an event of default has not occurred, the monthly rent for the period through October 31, 2012 will be $5,561 and for the period from November 1, 2012 through October 31, 2013 will be $5,989. We are also obligated to pay our pro-rated portion of all operating expenses.

 

The Company’s field office in Caesarea Israel consists of 5,565 square feet. The sublease term continues through March 31, 2014. Under the sublease agreement, at the end of the initial 12 months of the sublease term, either the sub-lessor or the Company may, at its sole discretion upon the furnishing to the other of written notice within seven days after the end of the initial 12 month period, terminate the sublease agreement, whereupon the Company will be required to vacate the subleased premises within six months of the giving of such notice. The right to terminate early as described above shall also inure to each of the Company and the sub-lessor at the end of each of the 18th and 24th month following the commencement of the sublease lease Agreement term. Under the sublease agreement, the Company is authorized to further sublease all or part of the subleased premises to a third party that is pre-approved by the sub-lessor.

 

Rent is paid on a monthly basis in the base amount of approximately NIS 28,400 per month (approximately $7,600 per month at the exchange rate in effect on the date of this report). The company is also obligated to pay all cost of living adjustments, as well as its pro-rated portion of all taxes, utilities, insurance and maintenance payments during the sublease term.

 

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ITEM 3.  LEGAL PROCEEDINGS

 

From time to time, we may be subject to routine litigation, claims, or disputes in the ordinary course of business. We defend our company vigorously in all such matters. In the opinion of management, no pending or known threatened claims, actions or proceedings against us are expected to have a material adverse effect on our financial position, results of operations or cash flows. However, we cannot predict with certainty the outcome or effect of any of the litigation or investigatory matters or any other pending litigation or claims. There can be no assurance as to the ultimate outcome of these lawsuits and investigations.

 

ITEM 4. MINE SAFETY DISCLOSURES

 

Not Applicable.

 PART II

  

ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY, RELATED  STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES

 

We completed the initial public offering of our common stock in January 2007. From January 3, 2007 and through September 1, 2009, shares of our common stock were   traded on the NYSE Amex under the symbol “ZN”. Since September 2, 2009, our common stock has been trading on the NASDAQ Global Market, also under the symbol “ZN”.

 

 The following table sets forth the high and low sales prices for the common stock for the periods indicated, as reported by the NASDAQ Global Market.

 

 

Fiscal Year   High     Low  
2012:                
First Quarter   $ 3.00     $ 2.31  
Second Quarter   $ 2.68     $ 1.55  
Third Quarter   $ 2.86     $ 1.66  
Fourth Quarter   $ 2.30     $ 1.70  

 

Fiscal Year   High     Low  
2011:                
First Quarter   $ 5.89     $ 4.31  
Second Quarter   $ 6.98     $ 4.76  
Third Quarter   $ 5.90     $ 1.44  
Fourth Quarter   $ 3.11     $ 1.76  

 

The closing per share sales price of our Common Stock on March 8, 2013 was $1.29.

 

Holders

 

As of March 8, 2013 there were approximately 4,161 shareholders of record of our common stock.  A significant number of shares of our Common Stock are held in either nominee name or street name brokerage accounts and, consequently, we are unable to determine the number of beneficial owners of our stock.

 

Dividends

 

We have never paid dividends on our common stock and do not plan to pay dividends on the common stock in the foreseeable future.  Whether dividends will be paid in the future will be in the discretion of our board of directors and will depend on various factors, including our earnings and financial condition and other factors our board of directors considers relevant. We currently intend to retain earnings to develop and expand our business.

 

Issuer Purchases of Equity Securities

 

We do not have a stock repurchase program for our common stock.

 

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ITEM 6.  SELECTED FINANCIAL DATA

 

The following selected financial data should be read in conjunction with the financial statements and the notes thereto and the information contained in Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations.” Historical results are not necessarily indicative of future results. The selected financial data for the years ended December 31 2009 and 2008 and at December 31, 2009 and 2008 are derived from our audited financial statements not included in this report. All data is in thousands of USD, except share data:

  

   2012   2011   2010   2009   2008   Period from
April 6, 2000
(inception) to
December 31,
2012
 
Statement of Operations Data                              
                               
Revenues                        
                               
General and administrative expenses                              
                               
Legal and professional   1,188    1,265    895    861    1,015    9,303 
                               
Salaries   3,890    3.730    2,393    2,360    1,663    18,081 
                               
Other   3,310    4,530    2,366    1,344    1,397    15,204 
                               
Impairment of unproved oil and gas properties   1,965    42,488    22,022    0    0    75,969 
                               
Other (expense) income, net   59    (169)   18    141    57    (406)
                               
Net loss   (10,294)   (52,182)   (27,658)   (4,424)   (4,018)   (118,963)
                               
Net loss per share of common stock   (0.33)   (1.86)   (1.25)   (0.34)   (0.39)   (8.29)
                               
Balance Sheet Data                              
                               
Cash and cash equivalents   14,983    22,231    21,243    20,734    1,726    - 
                               
Unproved oil and gas properties   4,700    3,535    25,882    23,759    5,246    - 
                               
Current liabilities   2,859    3,847    2,595    2,601    1,827    - 
                               
Total liabilities   3,058    4,275    2,934    2,786    2,121    - 
                               
Stockholders’ equity   18,246    22,492    46,369    43,439    5,555    - 

 

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

 

Introduction

 

The following discussion and analysis should be read in conjunction with Item 6. “Selected Financial Data” and our accompanying financial statements and the notes to those financial statements included elsewhere in this Annual Report. Some of our discussion is forward-looking and involve risks and uncertainties. For information regarding factors that could have a material adverse effect on our business, refer to Risk Factors under Item 1A of this Report.

 

Overview

 

Zion Oil is an initial stage oil and gas exploration company with a history of over 12 years of oil and gas exploration in Israel. As of December 31, 2012, we have no revenues or operating income and are considered to be an "exploration stage" company.

 

We are headquartered in Dallas, Texas and have a field office in Caesarea, Israel.

 

We hold three petroleum exploration licenses, named the “Joseph License”, the “Asher-Menashe License” and the "Jordan Valley License", covering approximately 218,000 acres of land onshore Northern Israel. To date, we have completed drilling three exploratory wells in the Joseph License and have completed drilling one exploratory well in the Asher-Menashe License area.While the presence of hydrocarbons were indicated during the drilling, none of the exploratory wells that we have drilled to date in our license areas have been deemed capable of producing oil or gas in commercial quantities.

 

As a result of the evaluation of previous and recently acquired geological and geophysical data relating to our license areas, we are in the process of re-evaluating our exploration strategy going forward. In evaluating our seismic and geologic database, we have identified areas of potential petroleum exploration interest that are outside our current license configurations. In particular, we are in the process of applying to the Petroleum Commissioner for a new exploration license that is contiguous with and directly abuts our existing Jordan Valley License area and extends westward to the Megiddo Valley (and includes the Jezreel Valley). See “Exploration Plans Going Forward”. There can be no assurance that the Petroleum Commissioner will grant our application.

 

If we are successful in our new license application to the Petroleum Commissioner, prior to any actual drilling in the new areas of interest, we will need to acquire additional seismic data so that we may better evaluate the area to determine if we would drill our next exploratory well there. See “Risk Factors”.

 

Following the acquisition and interpretation of the new seismic data that we plan to obtain in the new areas of interest (assuming that we are in fact granted these exploration rights) and the additional geological and geophysical studies for certain portions of the Asher-Menashe License, we will be in a position to determine the site of our next exploratory well.

 

After we identify the site of our next exploratory well, we will need to begin the procedure of obtaining the needed authorizations and permits. We anticipate that the newly promulgated regulations will considerably increase the time needed to obtain all of the needed permits and authorizations from regulatory and local bodies in Israel. See the discussion under “The Onshore Petroleum Exploration Permitting Process in Israel” above. Finally, prior to actually spudding our next exploratory well, we will need to contract with an appropriate rig contractor.

 

We anticipate that we will need to raise significant funds in order to complete any exploratory well that we spud. To date, we have funded our operations through the issuance of our securities. We anticipate that we will need to raise funds through the issuance of equity securities (or securities convertible into or exchangeable for equity securities). No assurance can be provided that we will be successful in raising the needed equity on terms favorable to use (or at all).

  

Principal Components of our Cost Structure

 

Our operating and other expenses primarily consist of the following:

 

  · Impairment of Unproved Oil and Gas Properties:  Impairment expense is recognized if a determination is made that a well will not be able to be commercially productive.  The amounts include amounts paid in respect of the drilling operations as well as geological and geophysical costs and various amounts that were paid to Israeli regulatory authorities.

 

  · General and Administrative Expenses: Overhead, including payroll and benefits for our corporate staff, costs of managing our exploratory operations, audit and other professional fees, and legal compliance are included in general and administrative expense. General and administrative expense also includes non-cash stock-based compensation expense, investor relations related expenses, lease and insurance and related expenses.

 

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  · Depreciation, Depletion, Amortization and Accretion. The systematic expensing of the capital costs incurred to explore for natural gas and oil. As a full cost company, we capitalize all costs associated with our exploration, and apportion these costs to each unit of production, if any, through depreciation, depletion and amortization expense. As we have yet to have production, the costs of abandoned wells are written off immediately versus being included in this amortization pool.

  

Critical Accounting Policies

 

Management's discussion and analysis of financial condition and results of operations is based upon 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 and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expense during the reporting period.

 

We have identified the accounting principles which we believe are most critical to the reported financial status by considering accounting policies that involve the most complex of subjective decisions or assessment.

 

Impairment of Oil and Gas Properties

 

We follow the full-cost method of accounting for oil and gas properties. Accordingly, all costs associated with acquisition, exploration and development of oil and gas reserves, including directly related overhead costs, are capitalized.

 

All capitalized costs of oil and gas properties, including the estimated future costs to develop proved reserves, are amortized on the unit-of-production method using estimates of proved reserves.  Investments in unproved properties and major development projects are not amortized until proved reserves associated with the projects can be determined or until impairment occurs. If the results of an assessment indicate that the properties are impaired, the amount of the impairment is included in income from continuing operations before income taxes and the adjusted carrying amount of the unproved properties is amortized on the unit-of-production method.

 

Our oil and gas properties represent an investment in unproved properties.  These costs are excluded from the amortized cost pool until proved reserves are found or until it is determined that the costs are impaired.  All costs excluded are reviewed at least quarterly to determine if impairment has occurred.  The amount of any impairment is charged to expense since a reserve base has not yet been established.  A further impairment requiring a charge to expense may be indicated through evaluation of drilling results, relinquishing drilling rights or other information.

 

Abandonment of properties is accounted for as adjustments to capitalized costs. The net capitalized costs are subject to a “ceiling test” which limits such costs to the aggregate of the estimated present value of future net revenues from proved reserves discounted at ten percent based on current economic and operating conditions, plus the lower of cost or fair market value of unproved properties. The recoverability of amounts capitalized for oil and gas properties is dependent upon the identification of economically recoverable reserves, together with obtaining the necessary financing to exploit such reserves and the achievement of profitable operations.

 

In July 2011, following production and other testing conducted at the Ma’anit-Joseph #3 well, we conducted an open-hole drill stem test and the test results confirmed that the well does not contain hydrocarbons in commercial quantities in the zone tested. Following review and further analysis of the operations and geological reports prepared by our geoscientists in consultation with outside consultants relating to the drilling and testing of the Ma’anit-Joseph #3 well, it was determined that commercial quantities of hydrocarbons are not present in the Ma’anit-Joseph #3 well. Accordingly, we recorded a non-cash impairment charge of $42,488,000 in the quarter ended September 30, 2011 to our unproved oil and gas properties in respect of the two wells. Following the conclusion of the re-entry operations into the Elijah #3 well and related geological and geophysical testing in the third-fourth quarters of 2012, we recorded in the quarter ended December 31, 2012 a non-cash impairment charge of $1,965,000 to our unproved oil and gas properties, comprised of $1,913,000 in respect of the Elijah #3 re-entry well operations and $52,000 in respect of the withdrawal of the three applications for petroleum exploration rights originally submitted in 2011.

 

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In June 2007, following the analysis of the results of the testing of our Ma’anit #1 well workover and an evaluation of the mechanical condition of the well, we determined that the well was incapable of producing oil and/or gas in commercial quantities.  In order to optimize drilling operations on the Company’s planned Ma’anit-Rehoboth #2 well, we ceased operations on the Ma’anit #1 well and, as required by the Petroleum Law, formally relinquished the Ma’anit-Joseph License.  As planned, we used the Ma’anit #1 wellbore, down to approximately 9,842 feet (3,000 meters), as the upper part of the wellbore for the Ma’anit-Rehoboth #2 well. This well was directionally drilled from that point to penetrate the middle and the lower Triassic. The Company drilled this well to a depth of 17,913 feet (5,460 meters). In April 2010, following production and other testing, management concluded that commercial quantities of hydrocarbons were not present in the Ma’anit-Rehoboth #2 well. Accordingly, the Company recorded a non-cash impairment charge of $22,022,000 in the quarter ended June 30, 2010 to its unproved oil and gas properties in respect of the Ma’anit-Rehoboth #2 well.

 

Following the impairment charges noted above, the total net book value of our unproved oil and gas properties under the full cost method is $4,700,000 at December 31, 2012.

 

Currency Utilized

 

Although our oil & gas properties and our principal operations are in Israel, we report all our transactions in United States dollars. Certain dollar amounts in the financial statements may represent the dollar equivalent of other currencies.

 

Valuation of deferred taxes

 

We record a valuation allowance to reduce our deferred tax asset to the amount that we believe is likely to be realized in the future.  In assessing the need for the valuation allowance we have considered not only future taxable income but also feasible and prudent tax planning strategies. In the event that we were to determine that it would be likely that we would, in the future, realize our deferred tax assets in excess of the net recorded amount, an adjustment to the deferred tax asset would be made.  In the period that such a determination was made, the adjustment to the deferred tax asset would produce an increase in our net income.

 

Asset Retirement Obligation

 

We record a liability for asset retirement obligation at fair value in the period in which it is incurred and a corresponding increase in the carrying amount of the related long lived assets.

 

RESULTS OF OPERATIONS

 

The following table sets forth our Statements of Operations data for the years ended December 31st. All data is in thousands of USD :

 

   2012   2011   2010 
General and administrative expenses               
                
Legal and professional   1,188    1,265    895 
                
Salaries   3,890    3,730    2,393 
                
Other   3,310    4,530    2,366 
                
Impairment of unproved oil and gas properties   1,965    42,488    22,022 
                
Other income (expense), net   59    (169)   18 
                
Net loss   (10,294)   (52,182)   (27,658)

 

 FOR THE YEAR ENDED DECEMBER 31, 2012 COMPARED TO DECEMBER 31, 2011

 

Revenue. We currently have no revenue generating operations as we are still a development stage company.

 

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General and administrative expenses. General and administrative expenses for the year ended December 31, 2012 were $10,353,000 compared to $52,013,000 for the year ended December 31, 2011. The decrease in general and administrative expenses in 2012 compared to 2011 is primarily attributable to the impairment charge of $42,488,000 recorded during the three months ended September 30, 2011 in respect of both the Ma’anit-Joseph #3 well and the Elijah #3 well, offset by an impairment charge of $1,965,000 recorded during the three months ended December 31, 2012 in respect of the Elijah #3 well re-entry. Salary expenses for the year ended December 31, 2012 were $3,890,000 compared to $3,730,000 for the year ended December 31, 2011. The slight increase in salary expenses during 2012 as compared to 2011 is primarily attributable to $2,074,000 in non-cash expenses related to the grant of incentive options and the payout of amounts to departing senior management personnel. Legal and professional fees for 2012 were $1,188,000 compared to $1,265,000 for 2011. The slight decrease in legal and professional fees is primarily attributable to the decreased utilization of legal services resulting from the decrease in operational activity in 2012. Other general and administrative expenses for the year ended December 31, 2012 were $3,310,000 compared to $4,530,000 for 2011. The decrease in other general and administrative expenses in 2012 as compared to 2011, which is comprised of non-compensation, non-professional expenses incurred, is primarily attributable to a significant decrease in drilling and operational related expenses that we recorded during 2012 ($766,000) compared to the amount recorded in 2011 ($1,524,000) and decreased investor relations related expenses for 2012 ($937,000) compared to 2011 ($1,311,000).

 

Other income (expense), net. Other income/(expense) for the year ended December 31, 2012 was $59,000 compared to ($169,000) for the year ended December 31, 2011. The increase in other income (loss), net is primarily attributable to currency exchange gains generated by exchange rate fluctuations of the U.S. dollar to the New Israeli Shekel during 2012.

 

Net Loss. Net loss for the year ended December 31, 2012 was $10,294,000 compared to $52,182,000 for the year ended December 31, 2011.

 

FOR THE YEAR ENDED DECEMBER 31, 2011 COMPARED TO DECEMBER 31, 2010

 

Revenue. We currently have no revenue generating operations as we are still a development stage company.

 

General and administrative expenses. General and administrative expenses for the year ended December 31, 2011 were $52,013,000 compared to $27,676,000 for the year ended December 31, 2010. The increase in general and administrative expenses in 2011 compared to 2010 is primarily attributable to  the impairment charge of $42,488,000 recorded during the three months ended September 30, 2011 in respect of both the Ma’anit-Joseph #3 well and the Elijah #3 well.  Salary expenses for the year ended December 31, 2011 were $3,730,000 compared to $2,393,000 for the year ended December 31, 2010. The increase in salary expenses during 2011 is mainly attributable to $1,253,000 in non-cash expenses related to the grant of incentive options. The remainder of the increase in salary expenses is attributable to the expansion of staff to support operations. Legal and professional fees for 2011 were $1,265,000 compared to $895,000 for 2010.  The increase in legal and professional fees is primarily attributable to the increased utilization of legal services resulting from the increase in operational activity in the first half of 2011. Other general and administrative expenses for the year ended December 31, 2011 were $4,530,000 compared to $2,366,000 for 2010. The $2,164,000 increase in other general and administrative expenses, which is comprised of non-compensation, non-professional and non-operational expenses incurred in our offices, is primarily attributable to drilling and production related expenses that we recorded in the fourth quarter of 2011 in the amount of $1,189,000 following the recording of the impairment charge during the quarter ended September 30, 2011 and investor relations related expenses in the amount of $932,000.

 

Other income (expense), net. Other income/(expense) for the year ended December 31, 2011 was ($169,000) compared to $18,000 for the year ended December 31, 2010. The decrease in other income(loss), net is primarily attributable to currency exchange losses generated by exchange rate fluctuations of the US dollar to the New Israeli Shekel during 2011.

 

Net Loss. Net loss for the year ended December 31, 2011 was $52,182,000 compared to $27,658,000 for the year ended December 31, 2010.

 

Liquidity and Capital Resources

 

Liquidity is a measure of a company’s ability to meet potential cash requirements. As discussed above, we have historically met our capital requirements through the issuance of common stock (or securities convertible into common stock) as well as proceeds from the exercise of warrants and options to purchase common equity.

 

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At December 31, 2012, we had approximately $14,983,000 in cash and cash equivalents compared to $22,231,000 at December 31, 2011.  Our working capital (current assets minus current liabilities) was $13,409,000 at December 31, 2012 and $19,000,000 at December 31, 2011.

 

During the year ended December 31, 2012, we did not record any expenses in relation to rights offerings as compared to $248,000 recorded during the year ended December 31, 2011 in respect of the rights offering completed in July 2011.  Net cash provided by financing activities was $3,974,000.  Net cash used for investment in our unproved oil and gas properties was $2,383,000 for the year ended December 31, 2012 and $19,578,000 for the year ended December 31, 2011; these amounts were primarily drilling related expenditures.

 

We expect to incur additional significant expenditures to further our exploration programs.  We estimate that, when we are not actively drilling a well, our monthly non operational expenditure is approximately $520,000 per month. However, when we are engaged in active drilling operations, we estimate that there is an additional cost of approximately $2,500,000 per month. The above estimates are subject to change. Management believes that our existing cash balance will be sufficient to satisfy our current obligations and maintain our operations through January 31, 2014. However, there are factors that can adversely impact our ability to fund our operating needs through such date, including (without limitation), unexpected or unforeseen cost overruns in planned non-drilling exploratory work (i.e., seismic acquisitions) in existing and newly sought license areas and the costs associated with extended delays in undertaking the required exploratory work, which is typical of what we have experienced in the past, or plugging and abandoning activities. We are considering various alternatives with respect to raising additional capital but to date have no commitments for such financing. We expect that when we seek to raise additional capital it will be through the sale of equity securities, debt or other financing arrangements.   Because of the absence of any oil and natural gas reserves, there can be no assurance this capital will be available and if it is not, we may be forced to substantially curtail or cease exploration, appraisal and development expenditures. 

 

Tabular Disclosure of Contractual Obligations

             

The following summarizes our contractual financial obligations for continuing operations at December 31, 2012 and the effect such obligations is expected to have on our liquidity and cash flow in future periods.

 

   Payment due by period (in Thousands of USD)     
   2013   2014   2015   2016   Thereafter   Total  
Exploration Related Commitments  1,511    -    -    -   -     1,511  
Operating Leases  190   128   81    -    -     399  
Employment Agreements  472    -    -    -    -     472  
TOTAL  2,173   128   81    -    -     2,382  

 

 Off-Balance Sheet Arrangements

 

We do not currently use any off-balance sheet arrangements to enhance our liquidity or capital resource position, or for any other purpose.

 

Recently Issued Accounting Pronouncements

 

During 2012, there were no recently issued accounting pronouncements which were issued and which have relevancy to our business.

 

 

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ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

 

 Market risk is a broad term for the risk of economic loss due to adverse changes in the fair value of a financial instrument. These changes may be the result of various factors, including interest rates, foreign exchange rates, commodity prices and/or equity prices. In the normal course of doing business, we are exposed to the risks associated with foreign currency exchange rates and changes in interest rates.

 

Foreign Currency Exchange Rate Risks. A portion of our expenses, primarily labor expenses and certain supplier contracts, are nominated in New Israeli Shekels “NIS”. As a result, we have significant exposure to the risk of fluctuating exchange rates with the US Dollar, our primary reporting currency. The recent weakness of the US Dollar in the international markets has been equally reflected against NIS and this may continue in the future. Since December 31, 2012, 2011, and 2010 to February 21, 2012, the US Dollar has devalued by approximately (2.2%), 5.3% and (1.0%) respectively against the NIS. Continuing devaluation of the US dollar against the NIS will result in higher operating costs from NIS denominated expenses. We do not currently hedge against currency exchange rate risks.

  

Interest Rate Risk.  Our exposure to market risk relates to our cash and investments. We maintain an investment portfolio of short term bank deposits and money market funds. The securities in our investment portfolio are not leveraged, and are, due to their very short-term nature, subject to minimal interest rate risk. We currently do not hedge interest rate exposure. Because of the short-term maturities of our investments, we do not believe that a change in market interest rates would have a significant negative impact on the value of our investment portfolio except for reduced income in a low interest rate environment. At December 31, 2012, we had cash, cash equivalents and short-term bank deposits of approximately $15,267,000.  The weighted average annual interest rate related to our cash and cash equivalents for the year ended December 31, 2012 was approximately 0.22%.

 

The primary objective of our investment activities is to preserve principal while at the same time maximizing yields without significantly increasing risk. To achieve this objective, we invest our excess cash in short-term bank deposits and money market funds that may invest in high quality debt instruments.

 

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

 

The financial statements required by this item are included beginning at page F-1 below.

 

ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE

 

None.

 

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ITEM 9A. CONTROLS AND PROCEDURES

 

EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES.

 

We carried out an evaluation required by the 1934 Act, under the supervision and with the participation of our principal executive officer and principal financial and accounting officer, of the effectiveness of the design and operation of our disclosure controls and procedures, as defined in Rule 13a-15(e) of the 1934 Act, as of December 31, 2012.  Based on this evaluation, our principal executive officer and our principal financial and accounting officer concluded that our disclosure controls and procedures were effective, as of December 31, 2012, to provide reasonable assurance that information required to be disclosed by us in the reports that we file or submit under the 1934 Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms and to provide reasonable assurance that such information is accumulated and communicated to our management, including our principal executive officer and principal financial and accounting officer, as appropriate to allow timely decisions regarding required disclosures.

 

MANAGEMENT’S REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING; CHANGES IN INTERNAL CONTROLS OVER FINANCIAL REPORTING.

  

 Our management is responsible for establishing and maintaining adequate internal control over financial reporting. Our management, including our principal executive officer and principal financial officer, conducted an evaluation of the effectiveness of our internal control over financial reporting based on the framework in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Based on its evaluation under the framework in Internal Control - Integrated Framework, our management concluded that our internal control over financial reporting was effective as of December 31, 2012.  Management reviewed the results of their assessment with our Audit Committee.

 

 Limitations on Controls

 

Our disclosure controls and procedures and internal control over financial reporting are designed to provide reasonable assurance of achieving their objectives as specified above. Management does not expect, however, that our disclosure controls and procedures or our internal control over financial reporting will prevent or detect all error and fraud. Any control system, no matter how well designed and operated, is based upon certain assumptions and can provide only reasonable, not absolute, assurance that its objectives will be met. Further, no evaluation of controls can provide absolute assurance that misstatements due to error or fraud will not occur or that all control issues and instances of fraud, if any, within the Company have been detected.

 

 Changes in Internal Control over Financial Reporting

 

During the quarter ended December 31, 2012, there were no changes in our internal controls over financial reporting that have materially affected, or are reasonably likely to materially affect, these controls.

 

ITEM 9B. OTHER INFORMATION

 

None.

 

PART III

 

ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE

 

The information required by this item is incorporated by reference to such information as set forth in our definitive Proxy Statement (the “2013 Proxy Statement”) for our 2013 annual meeting of stockholders. The 2013 Proxy Statement will be filed with the SEC not later than 120 days subsequent to December 31, 2012.

  

ITEM 11. EXECUTIVE COMPENSATION

 

The information required by this item is incorporated herein by reference to the 2013 Proxy Statement for the 2013 annual meeting of stockholders, which will be filed with the SEC not later than 120 days subsequent to December 31, 2012.

 

33
 

 

ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS

 

The information required by this item is incorporated herein by reference to the 2013 Proxy Statement for the 2013 annual meeting of stockholders, which will be filed with the SEC not later than 120 days subsequent to December 31, 2012.

 

ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS AND DIRECTOR INDEPENDENCE

 

The information required by this item is incorporated herein by reference to the 2013 Proxy Statement for the 2013 annual meeting of stockholders, which will be filed with the SEC not later than 120 days subsequent to December 31, 2012.

 

ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES

 

The information required by this item is incorporated herein by reference to the 2013 Proxy Statement for the 2013 annual meeting of stockholders, which will be filed with the SEC not later than 120 days subsequent to December 31, 2012.

  

 PART IV

 

ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES

 

(a) (1) Financial Statements:

 

Report of Independent Registered Public Accounting Firm – MaloneBailey, LLP

 

Report of Independent Registered Public Accounting Firm – KPMG Somekh Chaikin

 

Report of Independent Registered Public Accounting Firm – Lane Gorman Trubitt, PLLC

 

Balance Sheets as of December 31, 2012 and 2011

 

Statements of Operations for the Years Ended December 31, 2012, 2011 and 2010 and the Period from April 6, 2000 (Inception) to December 31, 2012.

 

Statements of Changes in Stockholders' Equity for the Period from April 6, 2000 (Inception) to December 31, 2012.

 

Statements of Cash Flows for the Years Ended December 31, 2012, 2011 and 2010 and the Period from April 6, 2000 (inception) to December 31, 2012.

 

Notes to Financial Statements

 

(b) Exhibits

 

Exhibit

Number

  Description
3.1  

Certificate of Amendment to Amended and Restated Certificate of Incorporation of Zion Oil & Gas, Inc. Incorporation (incorporated herein by reference to the Company’s Quarterly Report on Form 10-Q, for the quarter ended June 30, 2011, filed with the SEC on August 9, 2011, Exhibit 3.1)

 

3.2  

Amended and Restated Bylaws of Zion Oil & Gas, Inc. (incorporated by reference to Exhibit 3.2 to the Company’s Form 10-KSB for the year ended December 31, 2007 as filed with the SEC on March 28, 2008)

 

10.1  

Joseph License (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K as filed with the SEC on October 16, 2007)

 

10.2  

Asher –Menashe License (incorporated by reference to Exhibit 10.2 to the Company’s Form 10-QSB for the quarter ended June 30, 2007 as filed with the SEC on August 20, 2007) Memorandum

 

10.3  

Executive Employment and Retention Agreements (Management Agreements)

 

 

34
 

 

   

(i) Employment Agreement dated as of November 1, 2007, between Zion Oil & Gas, Inc. and Richard J. Rinberg (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K as filed with the SEC on December 10, 2007)

 

   

(ii) Retention and Management Services Agreement dated as of November 1, 2005, between Zion Oil & Gas and Richard Rinberg (incorporated by reference to Exhibit 10.4 to the Company’s Form 10-KSB for the year ended December 31, 2005 as filed with the SEC on September 14, 2006)

 

   

(iii) Employment Agreement dated as of January 1, 2010 between Zion Oil & Gas, Inc. and John Brown (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K as filed with the SEC on January 27, 2010)

 

    (iv) Employment Agreement dated as of January 1, 2010 between Zion Oil & Gas, Inc. and William L. Ottaviani (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K as filed with the SEC on February 1, 2010)

 

   

(v) Amended and Restated Employment Agreement dated as of March 19, 2012 between Zion Oil & Gas, Inc. and Victor G. Carrillo (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K as filed with the SEC on March 20, 2012)

 

   

(vi) Third Amended and Restated Employment Agreement dated as of April 29, 2012 between Zion Oil & Gas, Inc. and Ilan Sheena (incorporated by reference to Exhibit 10.1 to the Company’s Quarterly Report on Form 10-Q for the quarter ended March 31, 2012 as filed with the SEC on May 3, 2012)

 

   

 (vii) First Amended and Restated Employment Agreement dated June 25, 2012 between the Company and Mr. Richard Rinberg (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K as filed with the SEC on June 29, 2012)  

(viii) Agreement, dated as of October 18, 2012 between Zion Oil & Gas, Inc. and Richard Rinberg (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K as filed with the SEC on June 29, 2012).   

 

10.4  

International Daywork Drilling Contract – Land dated as of September 12, 2008 between Zion Oil & Gas, Inc. and Aladdin Middle East Ltd. (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K as filed with the SEC on September 16, 2008)

 

10.5  

Amendment No. 1, dated as of December 7, 2008, to International Daywork Drilling Contract – Land dated as of September 12, 2008 between Zion Oil & Gas, Inc. and Aladdin Middle East Ltd. (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K as filed with the SEC on December 16, 2008)

 

 

10.6  

2005 Stock Option Plan (incorporated by reference to Exhibit 10.5 to the Company’s Form 10-KSB for the year ended December 31, 2005 as filed with the SEC on September 14, 2006)

 

10.7  

Amendment No. 4, dated as of April 23, 2010, to International Daywork Drilling Contract – Land dated as of September 12, 2008 between Zion Oil & Gas, Inc. and Aladdin Middle East Ltd. (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K as filed with the SEC on May 24, 2010)

 

10.8  

Settlement Agreement dated as of July 8, 2010, between Zion Oil & Gas, Inc. and Sandra F. Green (incorporated by reference to Exhibit 10.1 to the Company’s Current Report Form 8-K as filed with the SEC on July 9, 2010)

 

10.9  

Office Sublease Agreement dated as of December 30, 2010 between Zion Oil & Gas, Inc. and Spectrum Dynamics (Israel) Ltd., as sublessor (incorporated by reference to Exhibit 10.14 to the Company’s Annual Report Form 10-K for the year ended December 31, 2010  as filed with the SEC on March 16, 2011)

 

10.10  

Jordan Valley License (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K as filed with the SEC on June 1, 2011)

 

 

35
 

 

10.11  

Settlement Agreement dated as of August 3, 2011 between Zion Oil & Gas, Inc. and Patti Beals (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K as filed with the SEC on August 5, 2011)

 

10.12  

Third Amendment to Lease Agreement dated as of October 11, 2011 between Zion Oil & Gas, Inc. and Hermosa LP (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K as filed with the SEC on October 17, 2011)

 

10.13  

Settlement Agreement dated as of October 3, 2011 between Zion Oil & Gas, Inc. and William L. Ottaviani (incorporated by reference to Exhibit 99.1 to the Company’s Current Report on Form 8-K as filed with the SEC on October 19, 2011)

 

10.14  

2011 Equity Incentive Plan (filed as Annex B to the Company’s Definitive Proxy Statement on Schedule 14 A field with the SEC on May 9, 2011)

 

10.15  

2011 Non-Employee Directors Stock Option Plan (filed as Annex C to the Company’s Definitive Proxy Statement on Schedule 14 A field with the SEC on May 9, 2011)

 

10.16  

Amendment to Jordan Valley License (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K as filed with the SEC on April 26, 2012)

 

10.17  

Extension to Asher-Menashe License (incorporated by reference to Exhibit 10.1 to the Company’s Quarterly Report on Form 10-Q for the quarter ended March 31, 2012 as filed with the SEC on May 3, 2012)

 

10.18  

Memorandum of Understanding dated as of June 4, 2012 between Zion Oil & Gas, Inc. and Lapidoth Israel Oil Prospectors Corp. Ltd. (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K as filed with the SEC on June 7, 2012)

 

10.19  

Extension to Joseph License (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K as filed with the SEC on October 27, 2011) (incorporated by reference to Exhibit 10.1 to the Company’s Current Report on Form 8-K as filed with the SEC on August 16, 2012)

     
14.1   Code of Ethics (incorporated by reference to Exhibit 14.1 to the Company’s Current Report on Form 8-K as filed with the SEC on December 10, 2007)

  

23.1*  

Consent of MaloneBailey, LLP

 

23.2*  

Consent of Lane Gorman Trubitt, PLLC

 

23.3*  

Consent of Somekh Chaikin, a member of KPMG International

 

31.1*  

Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

 

31.2*  

Certification of Chief Financial and Accounting Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

 

32.1*  

Certification of Chief Executive Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

 

32.2*  

Certification of Chief Financial and Accounting Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 

 

101.INS* (1)   XBRL Instance Document
     
101.SCH*(1)   XBRL Taxonomy Extension Schema
     
101.CAL*(1)        XBRL Taxonomy Extension Calculation Linkbase

 

36
 

 

101.DEF*(1)   XBRL Taxonomy Extension Definition Linkbase
     
101.LAB*(1)   XBRL Taxonomy Extension Label Linkbase
     
101.PRE*(1)   XBRL Taxonomy Extension Presentation Linkbase

 

*filed herewith 

 

1. Pursuant to Rule 406T of Registration S-T, these interactive data files are deemed not filed or part of a registration statement or prospectus for purposes of Section 11 or 12 of the Securities Act of 1933 or Section 18 of the Securities Exchange Act of 1934 and otherwise are not subject to liability under these sections.

  

37
 

 

SIGNATURES

 

Pursuant to the requirements of Section 13 or 15(d) 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.

 

ZION OIL & GAS, INC.    
(Registrant)    
     
By: /s/ John Brown   By: /s/ Ilan Sheena
  John Brown     Ilan Sheena,
 

Interim Chief Executive Officer & Executive Chairman

(Principal Executive Officer)

   

Chief Financial Officer

(Principal Financial and Accounting Officer)

Date: March 12, 2013   Date: March 12, 2013

 

Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated:
 

/s/ John M. Brown        
John M. Brown   Chairman of the Board, Interim Chief Executive Officer (Principal Executive Officer)    March 12, 2013
         
/s/ Victor G. Carrillo        
Victor G. Carrillo   President, Chief Operating Officer, and Director    March 12, 2013
         
/s/ Ilan Sheena        
Ilan Sheena   Chief Financial Officer
(Principal Financial and Accounting Officer)
   March 12, 2013
         
/s/ Paul Oroian        
Paul Oroian   Director    March 12, 2013
         
/s/  Yehezkel Druckman        
Yehezkel Druckman   Director    March 12, 2013
         
/s/ Julian Taylor        
 Julian Taylor   Director    March 12, 2013
         
/s/ Robert Render        
Robert Render   Director    March 12, 2013
         
/s/ Forrest A. Garb        
Forrest A. Garb   Director    March 12, 2013
         
/s/ Justin Furnace        
Justin Furnace   Director    March 12, 2013
         
/s/ Gene Scammahorn        
Gene Scammahorn   Director    March 12, 2013
         
/s/ Kent Siegel        
Kent Siegel   Director    March 12, 2013

  

38
 

 

Zion Oil & Gas, Inc.

(A Development Stage Company)

 

INDEX TO FINANCIAL STATEMENTS
  Page
   
Report of Independent Registered Public Accounting Firm – MaloneBailey, LLP F-2
   
Report of Independent Registered Public Accounting Firm - KPMG Somekh Chaikin F-3
   
Report of Independent Registered Public Accounting Firm - Lane Gorman Trubitt, PLLC F-5
   
Balance Sheets F-6
   
Statements of Operations F-7
   
Statements of Changes in Stockholders' Equity F-8
   
Statements of Cash Flows F-20
   
Notes to Financial Statements F-22

 

F-1
   

 

 Report of Independent Registered Public Accounting Firm

 

To the Board of Directors and Stockholders

Zion Oil & Gas, Inc.

(a development stage company)

Dallas, Texas

  

We have audited the accompanying balance sheets of Zion Oil & Gas, Inc. (a development stage company) (the “Company”) as of December 31, 2012 and 2011, and the related statements of operations, changes in stockholders’ equity, and cash flows for each of the years then ended and for the period from April 6, 2000 (inception) through December 31, 2012. These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits. The financial statements for the period from April 6, 2000 (inception) through December 31, 2010 were audited by other auditors whose reports have been furnished to us. Our opinion, insofar as it relates to amounts for the period from April 6, 2000 (inception) through December 31, 2010 is based solely on the report of other auditors.

 

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 audit 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 include 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, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinions.

 

In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of Zion Oil & Gas, Inc as of December 31, 2012 and 2011, and the results of its operations and its cash flows for each of the years then ended and for the period from April 6, 2000 (inception) through December 31, 2012, in conformity with accounting principles generally accepted in the United States of America.

 

/s/ MALONEBAILEY, LLP

www.malone-bailey.com

Houston, Texas

 

March 12, 2013

 

F-2
   

  

Report of Independent Registered Public Accounting Firm

 

The Board of Directors and Stockholders

Zion Oil & Gas, Inc.

 

We have audited the accompanying statements of operations, changes in stockholders’ equity, and cash flows of Zion Oil & Gas, Inc. (a development stage company) for the year ended December 31, 2010 and for the period from April 6, 2000 (inception) to December 31, 2010. These financial statements are the responsibility of Zion Oil & Gas, Inc.’s management. Our responsibility is to express an opinion on these financial statements based on our audits.

 

The cumulative statements of operations, stockholders’ equity, and cash flows for the period from April 6, 2000 (inception) to December 31, 2010 include amounts for the period from April 6, 2000 (inception) to December 31, 2010 and for each of the years in the four-year period ending December 31, 2004 which were audited by other auditors whose report has been furnished to us, and our opinion, insofar as it relates to the amounts included for the period from April 6, 2000 (inception) through December 31, 2004 is based solely on the report of other auditors.

 

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 audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes 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.

 

 

F-3
   

  

In our opinion, based on our audits and the report of other auditors, the financial statements referred to above present fairly, in all material respects, the results of Zion Oil & Gas, Inc.’s operations and its cash flows for the year ended December 31, 2010 and for the period from April 6, 2000 (inception) to December 31, 2010, in conformity with U.S generally accepted accounting principles.

 

The accompanying financial statements have been prepared assuming that the Company will continue as a going concern. As discussed in Note 1 to the financial statements, the Company is in its development stage and has no operating revenue, limited capital resources and a loss from operations, all of which raise substantial doubt about its ability to continue as a going concern. Management’s plans in regards to these matters are also described in Note 1. The financial statements do not include any adjustments that might result from the outcome of this uncertainty.

 

 

/s/ Somekh Chaikin

Certified Public Accountants (Isr.),

A Member of KPMG International

Tel Aviv, Israel

March 16, 2011

 

F-4
   

 

Report of Independent Registered Public Accounting Firm

 

Board of Directors and Stockholders

Zion Oil & Gas, Inc.

 

We have audited the cumulative amounts from April 6, 2000 (inception) to December 31, 2004 included in the statements of operations, changes in stockholders’ equity, and cash flows of Zion Oil & Gas, Inc. (a development stage company). These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these cumulative financial statements based on our audit.

 

We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion.

 

In our opinion, the cumulative amounts since inception to December 31, 2004 referred to above present fairly, in all material respects, the results of operations and cash flows of Zion Oil & Gas, Inc. since inception to December 31, 2004, in conformity with accounting principles generally accepted in the United States of America.

 

As described in the first paragraph in Note 1B to the 2012 financial statements, the financial statements for all periods from April 6, 2000 (inception) until December 31, 2004 were previously restated.

 

The cumulative amounts referred to above have been prepared assuming that the Company will continue as a going concern. As discussed in Note 1 to the 2011 financial statements, the Company is in its development stage and has insignificant operating revenue. In addition, the Company has limited capital resources and has initiated a new phase of activity, all of which raise substantial doubt about its ability to continue as a going concern. Management’s plans in regard to these matters are also discussed in Note 1 to the 2011 financial statements. The financial statements do not include any adjustments that might result from the outcome of this uncertainty.

 

/s/ Lane Gorman Trubitt, PLLC

Dallas, Texas

April 15, 2005, except for the first

paragraph in Note 1B as to

which the date is July 26, 2006

 

F-5
   

  

Zion Oil & Gas, Inc.

(A Development Stage Company

Balance Sheets as of

 

   December 31   December 31 
   2012   2011 
   US$ thousands   US$ thousands 
Current assets          
Cash and cash equivalents   14,983    22,231 
Fixed short term bank deposits - restricted   284    269 
Prepaid expenses and other   394    347 
Other receivables   607    - 
Total current assets   16,268    22,847 
           
Unproved oil and gas properties, full cost method   4,700    3,535 
           
Property and equipment          
Net of accumulated depreciation of $246,000 and $172,000   222    239 
           
Other assets          
Assets held for severance benefits   114    146 
           
Total assets   21,304    26,767 
           
Liabilities and Stockholders’ Equity          
           
Current liabilities          
Accounts payable   631    261 
Asset retirement obligation   870    870 
Accrued liabilities   1,358    2,716 
Total current liabilities   2,859    3,847 
           
Provision for severance benefits   199    428 
           
Total liabilities   3,058    4,275 
           
Commitments and contingencies (See Note 8 )          
           
Stockholders’ equity          
Common stock, par value $.01; Authorized: 100,000,000 at December 31, 2012 and 2011: Issued and outstanding: 32,768,710 and 30,432,760 shares at December 31, 2012 and 2011 respectively   328    304 
Additional paid-in capital   136,881    130,857 
Deficit accumulated in development stage   (118,963)   (108,669)
Total stockholders’ equity   18,246    22,492 
           
Total liabilities and stockholders' equity   21,304    26,767 

  

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

 

F-6
   

Zion Oil & Gas, Inc.

(A Development Stage Company)

Statements of Operations

 

               Period from 
               April 6, 2000 
               (inception) to 
   For the year ended December 31,   December 31 
   2012   2011   2010   2012 
   US$ thousands   US$ thousands   US$ thousands   US$ thousands 
                 
Revenues   -    -    -    - 
                     
General and administrative expenses                    
Legal and professional   1,188    1,265    895    9,303 
Salaries   3,890    3,730    2,393    18,081 
Other   3,310    4,530    2,366    15,204 
Impairment of unproved oil and gas properties   1,965    42,488    22,022    75,969 
Loss from operations   (10,353)   (52,013)   (27,676)   (118,557)
                     
Other income (expense), net                    
Termination expenses of offerings   -    -    -    (527)
Other income, net   -    -    -    80 
Foreign exchange gain (loss)   27    (194)   (11)   (149)
Interest income, net   32    25    29    190 
                     
Loss before income taxes   (10,294)   (52,182)   (27,658)   (118,963)
Income taxes   -    -    -    - 
                     
Net loss   (10,294)   (52,182)   (27,658)   (118,963)
                     
Net loss per share of common stock -
basic and diluted (in US$)
   (0.33)   (1.86)   (1.25)   (8.29)
                     
Weighted-average shares outstanding –
basic and diluted (in thousands)
   31,321    27,986    22,168    14,345 

 

 

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

 

F-7
   

 

Zion Oil & Gas, Inc.

(A Development Stage Company)

Statements of Changes in Stockholders' Equity

 

               Deficit     
               Additional   Accumulated     
   Preferred Stock   Common Stock   Paid-in   in development     
   Shares   Amount   Shares   Amount   capital   stage   Total 
   Thousands   US$ thousands   Thousands   US$ thousands   US$ thousands   US$ thousands   US$ thousands 
Balances on April 6, 2000   -    -    -    -    -    -    - 
                                    
Issued for cash ($0.001 per share)   -    -    2,400    -*   2    -    2 
                                    
Issuance of shares and warrants in a private offering ($1 per share)   -    -    100    -*   100    -    100 
                                    
Costs associated with the issuance of shares   -    -    -    -    (24)   -    (24)
                                    
Waived interest on conversion of debt   -    -    -    -    -*   -    -*
                                    
Value of warrants granted to employees   -    -    -    -    2    -    2 
Net loss   -    -    -    -    -    (5)   (5)
Balances as of December 31, 2000   -    -    2,500    -*   80    (5)   75 
                                    
Issuance of shares and warrants in a private offering in January 2001 ($1 per share)   -    -    135    -*   135    -    135 
                                    
Issuance of shares and warrants in a private offering
which closed in September 2001 ($1 per share)
   -    -    125    -*   125    -    125 
                                    
Payment of accounts payable through issuance of shares and warrants   -    -    40    -*   40    -    40 
                                    
Payment of note payable through issuance of shares and warrants   -    -    25    -*   25    -    25 
                                    
Issuance of shares and warrants in a private offering which closed in November 2001 ($1 per share)   -    -    175    -*   175    -    175 
                                    
Costs associated with the issuance of shares   -    -    -    -    (85)   -    (85)
Waived interest on conversion of debt   -    -    -    -    1    -    1 
Value of warrants granted to employees   -    -    -    -    37    -    37 
Value of warrants granted to directors and consultants   -    -    -    -    3    -    3 
Net loss   -    -    -    -    -    (207)   (207)
Balances as of December 31, 2001   -    -    3,000     

-

*   536    (212)   324 

 

* Represents an amount less than US$ 1 thousand.

 

F-8
   

  

Zion Oil & Gas, Inc.

(A Development Stage Company)

Statements of Changes in Stockholders' Equity (cont’d)

 

               Deficit     
                   Accumulated     
  

Preferred Stock

  

Common Stock

   Additional
Paid-in
   in
Development
     
  

Shares

  

Amount

  

Shares

  

Amount

  

Capital

  

Stage

  

Total

 
  

Thousands

  

US$ thousands

  

Thousands

  

US$ thousands

  

US$ thousands

  

US$ thousands

  

US$ thousands

 
Change in par value of common shares from $ 0.0001 per share to $0.01 per share   -    -    -    30    (30)   -    - 
                                    
Issuance of shares and warrants in a private offering which closed in January 2002 ($1 per share)   -    -    20     -*   20    -    20 
                                    
Issuance of shares and warrants in a private offering which closed in November 2002 ($10 per share)   25     -*   22     -*   254    -    254 
                                    
Payment of accounts payable through issuance of preferred shares and warrants   13    -*   -    -    127    -    127 
                                    
Payment of accounts payable through issuance of common shares and warrants   -    -    111    1    131    -    132 
                                    
Payment of note payable through issuance of shares and warrants   5     -*   -    -    50    -    50 
                                    
Payment of accounts payable to employee through issuance of shares upon exercise of warrants   -    -    400    4    76    -    80 
                                    
Costs associated with the issuance of shares   -    -    -    -    (160)   -    (160)
                                    
Waived interest on conversion of debt   -    -    -    -    3    -    3 
                                    
Deferred financing costs on debt conversions / modifications   -    -    -    -    21    -    21 
                                    
Value of warrants granted to employees   -    -    -    -    1    -    1 
                                    
Value of warrants granted to directors and consultants   -    -    -    -    13    -    13 
                                    
Net loss   -    -    -    -    -    (403)   (403)
                                    
Balances as of December 31, 2002   43    

-

*   3,553    35    1,042    (615)   462 

 

* Represents an amount less than US$ 1 thousand.

F-9
   

 

Zion Oil & Gas, Inc.

(A Development Stage Company)

Statements of Changes in Stockholders' Equity (cont’d)

 

               Deficit     
                   Accumulated     
  

Preferred Stock

  

Common Stock

   Additional
Paid-in
   in
Development
     
  

Shares

  

Amount

  

Shares

  

Amount

  

Capital

  

Stage

  

Total

 
  

Thousands

  

US$ thousands

  

Thousands

  

US$ thousands

  

US$ thousands

  

US$ thousands

  

US$ thousands

 
Issuance of shares in connection with executive employment   -    -    50    1    49    -    50 
                                    
Issuance of share on warrants exercise   -    -    165    2    31    -    33 
                                    
Issuance of dividend shares to record holders as of December 31, 2002   4     -*   -    -     -*   -    - 
                                    
Issuance of shares and warrants in a private offering which closed in February 2003 ($10 per share):                                   
for cash consideration   10     -*   -    -    105    -    105 
for reduction of accounts payable   5     -*   -    -    45    -    45 
                                    
Issuance of shares and warrants as compensation for extension of $100,000 line of credit   1     -*   -    -    10    -    10 
                                    
Payment of account payable through issuance of shares and warrants    -*    -*   -    -    1    -    1 
                                    
Conversion of preferred shares to common shares in reincorporation merger   (63)   (-)*   763    7    (7)   -    - 
                                    
Issuance of shares in a private offering which closed in July 2003 ($3 per share):                                   
for cash consideration   -    -    33     -*   99    -    99 
for reduction of accounts payable   -    -    3     -*   9    -    9 
                                    
Issuance of shares upon exercise of warrants:                                   
for cash consideration   -    -    25     -*   25    -    25 
for reduction of accounts payable   -    -    124    1    142    -    143 
                                    
Issuance of shares upon exercise of warrants for cash consideration   -    -    63    1    82    -    83 
                                    
Payment of account payable through issuance of shares   -    -    80    1    139    -    140 
                                    
Costs associated with the issuance of shares   -    -    -    -    (58)   -    (58)
                                    
Value of warrants granted to employees   -    -    -    -    47    -    47 
                                    
Deferred financing costs on debt conversions / modifications   -    -    -    -    (10)   -    (10)
                                    
Net loss   -    -    -    -    -    (873)   (873)
                                    
Balances as of December 31, 2003   -    -    4,859    48    1,751    (1,488)   311 

 

* Represents an amount less than US$ 1 thousand.


F-10
   

Zion Oil & Gas, Inc.

(A Development Stage Company)

Statements of Changes in Stockholders' Equity (cont’d)

 

           Deficit     
       Additional   Accumulated     
  

Common Stock

   Paid-in   in Development     
  

Shares

  

Amounts

  

Capital

  

Stage

  

Total

 
  

Thousands

  

US$ thousands

  

US$ thousands

  

US$ thousands

  

US$ thousands

 
                          
Issuance of shares on warrants exercise   123    1    183    -    184 
                          
Issuance of shares and warrants in a private offering   251    3    1,002    -    1,005 
                          
Payment of officer salaries through issuance of shares and warrants   46    1    184    -    185 
                          
Payment of accounts payable to officers and consultants upon exercise of warrants   80    1    99    -    100 
                          
Payment of director honorariums through issuance of shares and warrants   11    -*   45    -    45 
                          
Payment of account payable through issuance of shares and warrants   13     -*   50    -    50 
                          
Payment of bridge loan through issuance of shares and warrants   125    1    499    -    500 
                          
Payment of bridge loan interest and commitment fee through issuance of shares and warrants   8     -*   30    -    30 
                          
Payment of bridge loan finders fee through issuance of shares and warrants   2     -*   7    -    7 
                          
Payment of service bonus through issuance of shares and warrants   20     -*   20    -    20 
                          
Costs associated with the issuance of shares   -    -    (59)   -    (59)
                          
Value of warrants granted to employees   -    -    41    -    41 
                          
Deferred financing costs on debt conversions / modifications   -    -    30    -    30 
                          
Net loss   -    -    -    (1,737)   (1,737)
                          
Balances as of December 31, 2004   5,538    55    3,882    (3,225)   712 

 

* Represents an amount less than US$ 1 thousand.

 

F-11
   

 

Zion Oil & Gas, Inc.

(A Development Stage Company)

Statements of Changes in Stockholders' Equity (cont’d)

 

           Deficit     
       Additional   Accumulated     
  

Common Stock

   Paid-in   in Development     
  

Shares

  

Amounts

  

Capital

  

Stage

  

Total

 
  

Thousands

  

US$ thousands

  

US$ thousands

  

US$ thousands

  

US$ thousands

 
Issuance of shares on warrants exercised:                         
For cash   493    5    872    -    877 
For payment of deferred officer salaries   17    -*   21    -    21 
For exchange of shares of common stock   120    1    (1)   -    - 
                          
Issuance of shares and warrants in a private offering that closed in March 2005:                         
For cash   519    5    2,070    -    2,075 
For payment of deferred officer salaries   10    -*   40    -    40 
For payment of accounts payable   6    -*   25    -    25 
                          
Issuance of shares and warrants in a private offering that closed in June 2005:                         
For cash   259    3    1,292    -    1,295 
For payment of directors honoraria   14    -*   70    -    70 
For payment of accounts payable   3    -*   15    -    15 
                          
Issuance of shares in a private offering that closed in October 2005:                         
For cash   584    6    2,914    -    2,920 
For payment of deferred officer salaries   40    -*   200    -    200 
For payment of accounts payable   22    -*   110    -    110 
                          
Issuance of shares in a private offering that closed in December 2005   80    1    439    -    440 
                          
Shares to be issued for services provided by director   -    -    42    -    42 
                          
Value of warrants and options granted to employees   -    -    216    -    216 
                          
Value of warrants granted to directors and consultants   -    -    16    -    16 
                          
Deferred financing costs on debt conversions /modifications   -    -    44    -    44 
                          
Costs associated with the issuance of shares   -    -    (275)   -    (275)
                          
Net loss   -    -    -    (1,605)   (1,605)
                          
Balances as of December 31, 2005   7,705    76    11,992    (4,830)   7,238 

 

* Represents an amount less than US$ 1 thousand.

 

F-12
   

 

Zion Oil & Gas, Inc.

(A Development Stage Company)

 

Statements of Changes in Stockholders' Equity (cont’d)

 

           Deficit     
       Additional   Accumulated     
  

Common Stock

   Paid-in   in Development     
  

Shares

  

Amounts

  

Capital

  

Stage

  

Total

 
  

Thousands

  

US$ thousands

  

US$ thousands

  

US$ thousands

  

US$ thousands

 
                     
Issuance of shares on warrants exercised:                         
For cash   253    3    1,151    -    1,154 
For debt   60    1    276    -    277 
                          
Issuance of shares and warrants in private offering closings in first quarter 2006:                         
For cash   66    1    362    -    363 
For payment of accounts payable   3    -*   14    -    14 
                          
Shares issued for services provided by officer   200    2    248    -    250 
                          
Issuance of shares and warrants in a private offering that closed in September 2006 for cash   23    -*   126    -    126 
                          
Value of options granted to employees   -    -    162    -    162 
                          
Value of warrants granted to underwriter   -    -    20    -    20 
                          
Value of shares gifted to directors, employees and service providers   -    -    147    -    147 
                          
Costs associated with the issuance of shares   -    -    (681)   -    (681)
                          
Funds received from public offering for subscription shares:                         
For cash   410    4    2,867    -    2,871 
For debt   27    -*   188    -    188 
                          
Net loss   -    -    -    (2,510)   (2,510)
                          
Balances as of December 31, 2006   8,747    87    16,872    (7,340)   9,619 

 

* Represents an amount less than US$ 1 thousand.

 

F-13
   

 

Zion Oil & Gas, Inc.

(A Development Stage Company)

 

Statements of Changes in Stockholders' Equity (cont’d)

 

           Deficit     
       Additional   Accumulated     
  

Common Stock

   Paid-in   in Development     
  

Shares

  

Amounts

  

Capital

  

Stage

  

Total

 
  

Thousands

  

US$ thousands

  

US$ thousands

  

US$ thousands

  

US$ thousands

 
                     
Funds received from public offering for subscription shares:                         
For cash   1,336    14    9,338    -    9,352 
For debt   33   *    235    -    235 
                          
Compensation in respect of shares previously issued for services provided by officer   -    -    208    -    208 
                          
Value of options granted to employees   -    -    337    -    337 
                          
Value of warrants granted to underwriter   -    -    79    -    79 
                          
Value of shares granted to employees   5   *    25    -    25 
                          
Value of shares gifted to employees   -    -    7    -    7 
                          
Costs associated with the issuance of shares   -    -    (1,027)   -    (1,027)
                          
Net loss   -    -    -    (13,047)   (13,047)
                          
Balances as of December 31, 2007   10,121    101    26,074    (20,387)   5,788 

 

* Represents an amount less than US$ 1 thousand.

 

F-14
   

 

Zion Oil & Gas, Inc.

(A Development Stage Company)

 

Statements of Changes in Stockholders' Equity (cont’d)

 

           Deficit     
       Additional   Accumulated     
  

Common Stock

   Paid-in   in Development     
  

Shares

  

Amounts

  

Capital

  

Stage

  

Total

 
  

Thousands

  

US$ thousands

  

US$ thousands

  

US$ thousands

  

US$ thousands

 
                     

Funds received from Unit

Offering for subscription shares:

                         
For cash   405    4    4,040    -    4,044 
For debt   12   *    120    -    120 
                          
Value of warrants and options granted to employees   -    -    266    -    266 
                          
Value of options granted to directors and consultants   -    -    44    -    44 
                          
Value of shares granted to employees   4   *    25    -    25 
                          
Value of shares gifted to employees   -    -    101    -    101 
                          
Costs associated with the issuance of shares   -    -    (815)        (815)
                          
Net loss   -    -    -    (4,018)   (4,018)
                          
Balances as of December 31, 2008   10,542    105    29,855    (24,405)   5,555 

 

* Represents an amount less than US$ 1 thousand.

 

F-15
   

 

Zion Oil & Gas, Inc.

(A Development Stage Company)

 

Statements of Changes in Stockholders' Equity (cont’d)

 

           Deficit     
       Additional   Accumulated     
  

Common Stock

   Paid-in   in Development     
  

Shares

  

Amounts

  

capital

  

Stage

  

Total

 
  

Thousands

  

US$ thousands

  

US$ thousands

  

US$ thousands

  

US$ thousands

 
                     
Funds received from Unit Offering for subscription shares:                         
For cash   237    3    2,370    -    2,373 
For debt   13    -*   126    -    126 
                          
Funds received from Rights Offering   4,200    42    20,958    -    21,000 
                          
Funds received from Second Rights Offering   3,600    36    17,964    -    18,000 
                          
Funds received from warrant exercises   59    1    414    -    415 
                          
Underwriter warrants exercised in cashless exercise   13    -    -    -    - 
                          
Director warrants and options exercised in cashless exercises   37    -    -    -    - 
                          
Value of options granted to employees   -    -    494    -    494 
                          
Value of options granted to directors and consultants   -    -    328    -    328 
                          
Value of shares granted to consultants for services   5   *    46    -    46 
                          
Value of shares gifted to employees   -    -    4    -    4 
                          
Costs associated with the issuance of shares   -    -    (478)   -    (478)
                          
Net loss   -    -    -    (4,424)   (4,424)
                          
Balances as of December 31, 2009   18,706    187    72,081    (28,829)   43,439 

 

* Represents an amount less than US$ 1 thousand.

 

F-16
   

 

           Deficit     
       Additional   Accumulated     
  

Common Stock

   Paid-in   in Development     
  

Shares

  

Amounts

  

Capital

  

Stage

  

Total

 
  

Thousands

  

US$ thousands

  

US$ thousands

  

US$ thousands

  

US$ thousands

 
                     
Funds received from the Third Rights Offering   2,471    25    12,331    -    12,356 
                          
Funds received from the Fourth Rights Offering   3,643    36    18,178    -    18,214 
                          
Funds received from warrant exercises   *    *    3    -    3 
                          
Funds received from option exercises   44   *    -    -    - 
                          
Value of options granted to employees   -    -    479    -    479 
                          
Value of shares granted to consultants for services   3   *    15    -    15 
                          
Costs associated with the issuance of shares   -    -    (479)   -    (479)
                          
Net loss   -    -    -    (27,658)   (27,658)
                          
Balances as of December 31, 2010   24,867    248    102,608    (56,487)   46,369 

 

* Represents an amount less than US$ 1 thousand.

 

F-17
   

 

           Deficit     
       Additional   accumulated     
  

Common Stock

   paid-in   in development     
  

Shares

  

Amounts

  

capital

  

stage

  

Total

 
  

Thousands

  

US$ thousands

  

US$ thousands

  

US$ thousands

  

US$ thousands

 
                     
Funds received from warrant exercises   457    5    1,820    -    1,825 
                          
Funds received from option exercises   194    2    -    -    2 
Funds received from the Fifth Rights Offering   4,915    49    24,528    -    24,577 
                          
Value of options granted to employees   -    -    2,149    -    2,149 
Costs associated with the issuance of shares   -    -    (248)   -    (248)
                          
Net loss   -    -    -    (52,182)   (52,182)
                          
Balances as of December 31, 2011   30,433    304    130,857    (108,669)   22,492 

 

F-18
   

 

           Deficit     
       Additional   accumulated     
  

Common Stock

   paid-in   in development     
  

Shares

  

Amounts

  

capital

  

stage

  

Total

 
  

Thousands

  

US$ thousands

  

US$ thousands

  

US$ thousands

  

US$ thousands

 
                     
Funds received from warrant exercises   2,262    23    3,950    -    3,973 
                          
Funds received from option exercises   74    1   *    -    1 
                          
Value of options granted to employees   -    -    2,074    -    2,074 
                          
Net loss   -    -    -    (10,294)   (10,294)
                          
Balances as of December 31, 2012   32,769    328    136,881    (118,963)   18,246 

 

(*)Represents an amount less than US$ 1 thousand.

 

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

 

F-19
   

Zion Oil & Gas, Inc.

(A Development Stage Company)

Statements of Cash Flows

 

           Period from 
           April 6, 2000 
           (inception) to 
  

For the year ended December 31

   December 31, 
  

2012

  

2011

  

2010

  

2012

 
  

US$ thousands

  

US$ thousands

  

US$ thousands

  

US$ thousands

 
                 
Cash flows from operating activities                    
Net loss   (10,294)   (52,182)   (27,658)   (118,963)
Adjustments required to reconcile net loss to net cash                    
used in operating activities:                    
                     
Depreciation   74    56    34    252 
Officer, director and other fees, paid via common stock   -    -    15    2,330 
Cost of warrants issued to employees, directors & others   1,893    1,732    479    6,210 
Interest on short term bank deposits   (15)   (6)   -    (21)
Interest paid through issuance of common stock   -    -    -    17 
Write-off of costs associated with public offering   -    -    -    507 
Loss on disposal of equipment   -    -    -    4 
Asset retirement obligation   -    240    -    290 
Impairment of unproved oil and gas properties   1,965    42,488    22,022    75,969 
                     
Change in assets and liabilities, net:                    
Decrease in inventories   -    -    -    150 
Prepaid expenses and other   (47)   529    (229)   (394)
Change in other receivables   (607)   801    160    (607)
Severance pay, net   (197)   35    108    85 
Accounts payable   (176)   (127)   229    733 
Accrued liabilities   (1,378)   1,014    221    1,772 
Increase (decrease) in deferred officers' compensation, net   -    (21)   (456)   240 
Net cash used in operating activities   (8,782)   (5,441)   (5,075)   (31,426)
                     
Cash flows from investing activities                    
Increase in short term deposits   -    (13)   (250)   (263)
Acquisition of property and equipment   (57)   (136)   (115)   (476)
Investment in oil and gas properties   (2,383)   (19,578)   (24,145)   (79,509)
Net cash used in investing activities   (2,440)   (19,727)   (24,510)   (80,248)
                     
Cash flows from financing activities                    
Deferred financing costs on debt conversions and modification   -    -    -    89 
Loan proceeds – related party   -    -    -    259 
Loan principal repayments – related party   -    -    -    (259)
Loan proceeds – other   -    -    -    500 
Proceeds from sale of stock and warrants   3,974    26,404    30,573    130,558 
Costs associated with the issuance of stock and warrants   -    (248)   (479)   (4,490)
Net cash provided by financing activities   3,974    26,156    30,094    126,657 
                     
Net increase (decrease) in cash and cash equivalents   (7,248)   988    509    14,983 
Cash and cash equivalents – beginning of period   22,231    21,243    20,734    - 
Cash and cash equivalents – end of period   14,983    22,231    21,243    14,983 

 

F-20
   

 

Zion Oil & Gas, Inc.

(A Development Stage Company)

Statements of Cash Flows (cont'd)

  

               Period from 
               April 6, 2000 
               (inception) to 
  

For the year ended December 31

   December 31, 
  

2012

  

2011

  

2010

  

2012

 
  

US$ thousands

  

US$ thousands

  

US$ thousands

  

US$ thousands

 
Supplemental information                    
                     
Cash paid for interest   -    -    14    78 
Cash paid for income taxes   -    -    -    - 
                     
Non-cash investing and financing activities:                    
                     
Payment of note payable through issuance of common stock   -    -    -    575 

Payment of accounts payable through issuance of note payable

   -    -    -    35 
Financing costs paid through issuance of common stock   -    -    -    25 
Increase in accounts payable for financing costs   -    -    -    382 
Waived interest on debt conversions   -    -    -    4 
Shares issued for debt conversion   -    -    -    940 
Cost of options capitalized to Oil & Gas Properties   181    417    -    598 
Value of warrants granted to underwriters   -    -    -    99 
Investment in Oil & Gas Properties   566    146    -    712 
Deferred financing costs   -    -    -    85 
Transfer of inventory to Oil & Gas Properties   -    -    -    150 

 

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

 

F-21
   

 

Notes to Financial Statements

December 31, 2012

 

Note 1 - Nature of Operations and Basis of Presentation

 

A.Nature of Operations

 

Zion Oil & Gas, Inc., a Delaware corporation (“we”, “our”, “Zion” or the “Company”) is a development stage oil and gas exploration company with a history of more than 12 years of oil & gas exploration in Israel.

 

As of December 31, 2012, the Company has no revenues from its oil and gas operations, so the Company’s activities are considered to be those of a “Development Stage Enterprise”.  Consequently, the Company’s financial statements must be identified as those of a development stage enterprise.  In addition, the statements of operations, stockholders’ equity and cash flows are required to disclose all activity since the Company’s date of inception.  The Company will continue to prepare its financial statements and related disclosures as those of a development stage enterprise until such time that the Company achieves a discovery and has revenues from sales of oil and/or gas.

 

Exploration Rights /Exploration Activities

 

The Company currently holds three petroleum exploration licenses, all onshore Israel, comprised of the Asher-Menashe License (covering approximately 78,824 acres), the Joseph License (covering approximately 83,272 acres) and the Jordan Valley License (covering approximately 55,845 acres of land).

 

(1) The Asher-Menashe License covers an area of approximately 78,824 acres located on the Israeli coastal plain and the Mount Carmel range between Caesarea in the south and Haifa in the north. The Asher-Menashe License had an initial three-year term, which commenced on June 10, 2007, and has been continuously extended for additional one-year periods and is currently scheduled to expire on June 9, 2013. At the option of the Petroleum Commissioner of the State of Israel (the “Commissioner”), the Asher-Menashe License may be extended for one additional one-year period through June 9, 2014.

 

(2) The Joseph License covers approximately 83,272 acres on the Israeli coastal plain south of the Asher-Menashe License between Caesarea in the north and Netanya in the south. The Joseph License had an initial three-year term, which commenced on October 11, 2007 and has been continuously extended for additional one-year periods and is currently scheduled to expire on April 10, 2013. At the option of the Commissioner, the Joseph License may be extended through October 10, 2014.

 

(3) The Jordan Valley License covers approximately 55,845 acres, just south of the Sea of Galilee in the Jordan Valley area. The Jordan Valley License, which commenced on April 13, 2011, has an initial three year term which expires on April 12, 2014, and may be extended for additional one-year periods through April 2018 at the option of the Commissioner.

 

F-22
   

 

Note 1 - Nature of Operations and Basis of Presentation – cont’d

 

A.Nature of Operations – cont’d

 

The Company has identified areas of potential petroleum exploration interest that are outside its current license area configurations. The Company is in the process of applying to the Israel Petroleum Commissioner for a petroleum exploration license right to one of these areas. Contemporaneous with this new application, the applications for exploration rights for which the Company previously applied in 2011 with respect to the Dead Sea area (Central Israel) and other areas outside its current license configurations have been suspended. These applications were submitted prior to the circulation by Israeli energy related regulatory agencies of various regulations relating to the onshore petroleum exploration permitting process and preceded various geological and geophysical studies that the Company conducted since the submission. Therefore, the Company no longer seeks approval of and has suspended further action on the 2011 applications.

 

Joseph License

 

To date, the Company completed drilling three exploratory wells in the Joseph License area. The first exploratory well (the Ma’anit #1 well) was completed in June 2007. Due to the mechanical condition of the wellbore, the Company determined that the well was incapable of producing oil and/or gas in commercial quantities and, consequently, in June 2007, it abandoned the well. The second exploratory well (the Ma’anit-Rehoboth #2 well), was drilled in 2009 ‘directionally’ to a depth of 17,913 feet (5,460 meters). The well penetrated a number of geologic formations that were initially thought to have hydrocarbon potential. However, in April 2010, following the completion of testing procedures, the Company determined that commercial quantities of hydrocarbons were not present in the Ma'anit-Rehoboth #2 well and, accordingly, it suspended drilling operations in that well. In August 2010, the Company commenced drilling the third exploratory well (the Ma’anit-Joseph #3 well) and the well was completed in June 2011. In July 2011, the Company conducted an open-hole drill stem test and the test results confirmed that the well does not contain hydrocarbons in commercial quantities in the zone tested. Following the evaluation of recently acquired geological and geophysical data, the Company believes that the southern portion of the Joseph License area does not have significant exploration prospects that could lead to commercial production.

 

Asher-Menashe License

 

To date, the Company has completed drilling one exploratory well in the Asher-Menashe License area. In October 2009, the Company commenced drilling the Elijah #3 well. In February 2010, the Company temporarily suspended drilling operations in the well following unsuccessful efforts to retrieve a stuck pipe. Following review and further analysis of additional geological and geophysical data, it was concluded that commercial quantities of hydrocarbons were not present within the deeper segment of the Elijah #3 wellbore and that no further deeper drilling would take place in this well.

 

In July 2012 the Company re-entered the existing Elijah #3 well to obtain additional wireline log information, a vertical seismic profile (VSP) survey and sidewall core samples to see if there is hydrocarbon potential in a shallower zone that exhibited hydrocarbon shows while the Company originally drilled the well in 2009/2010. Upon analysis and interpretation of all of the data acquired from these and other tests, the Company determined that while indications of hydrocarbon potential were observed in the shallower portion of the well, the Company does not plan to pursue additional drilling activities at the Elijah #3 wellsite, although it may pursue additional in-well testing. The Company continues to evaluate exploration prospects in certain other portions of the Asher-Menashe License area. See Note 4 with respect to impairment charges recorded by the Company during the quarter ended December 31, 2012.

 

F-23
   

 

Note 1 - Nature of Operations and Basis of Presentation – cont’d

 

A.Nature of Operations – cont’d

 

Jordan Valley License

 

In 2012, the Company processed, interpreted and integrated into its geologic model the seismic and gravity data that it acquired in May 2012. Following the analysis of such data, the Company determined that additional pre-drilling exploratory work is needed before a drillable prospect, if any, can be matured and recommended in this license area. These additional studies could include acquiring additional seismic data and conducting basin history and petroleum system modeling, among other possibilities.

 

B.Basis of Presentation

 

The financial statements for all periods from inception (April 6, 2000) until December 31, 2005 were previously restated to reflect additional expenses related to stock warrants issued to employees and non-employees during the above mentioned period and compensation cost with respect to equity awards provided with new debt issuances and/or debt modification.

  

Note 2 - Summary of Significant Accounting Policies

 

A.Financial Statements in United States Dollars

 

The currency of the primary economic environment in which the operations of the Company are conducted is the United States dollar (“dollar”).  Therefore, the dollar has been determined to be the Company’s functional currency. Non-dollar transactions and balances have been translated into dollars in accordance with the principles set forth in Accounting Standards Codification (“ASC”) 830 “Foreign Currency Matters”. Transactions in foreign currency (primarily in New Israeli Shekels – “NIS”) are recorded at the exchange rate as of the transaction date. Monetary assets and liabilities denominated in foreign currency are translated on the basis of the representative rate of exchange at the balance sheet date. Non-monetary assets and liabilities denominated in foreign currency are stated at historical exchange rates. All exchange gains and losses from re-measurement of monetary balance sheet items denominated in non-dollar currencies are reflected in the statement of operations as they arise.

 

B.Cash and Cash Equivalents

 

The Company maintains cash balances with three banks, of which two banks are located in the United States and one in Israel and money market mutual funds.  For purposes of the statement of cash flows and balance sheet, the Company considers all highly liquid investments with a maturity of three months or less to be cash equivalents. At times, the Company maintains deposits in financial institutions in excess of federally insured limits. The Company has not experienced any losses in such accounts and does not believe it is exposed to any significant credit risk on cash.

 

F-24
   

 

Note 2 - Summary of Significant Accounting Policies – cont’d

 

C.Oil and Gas Properties and Impairment

 

The Company follows the full-cost method of accounting for oil and gas properties.  Accordingly, all costs associated with acquisition, exploration and development of oil and gas reserves, including directly related overhead costs, are capitalized.

 

All capitalized costs of oil and gas properties, including the estimated future costs to develop proved reserves, are amortized on the unit-of-production method using estimates of proved reserves.  Investments in unproved properties and major development projects are not amortized until proved reserves associated with the projects can be determined or until impairment occurs. If the results of an assessment indicate that the properties are impaired, the amount of the impairment is included in loss from continuing operations before income taxes and the adjusted carrying amount of the unproved properties is amortized on the unit-of-production method.

 

The Company’s oil and gas property represents an investment in unproved properties.  These costs are excluded from the amortized cost pool until proved reserves are found or until it is determined that the costs are impaired.  All costs excluded are reviewed at least quarterly to determine if impairment has occurred.  The amount of any impairment is charged to expense since a reserve base has not yet been established.  Impairment requiring a charge to expense may be indicated through evaluation of drilling results, relinquishing drilling rights or other information.

 

In July 2011, following production and other testing conducted at the Ma’anit-Joseph #3 well, the Company conducted an open-hole drill stem test. The test results confirmed that the Ma’anit-Joseph #3 well does not contain hydrocarbons in commercial quantities in the zone tested. Following the conclusions as to the Ma’anit-Joseph #3 well, the Company also concluded it is not likely that commercial quantities of hydrocarbons are present within the deeper portion of the Elijah #3 wellbore. As a result of the above determinations, in the quarter ended September 30, 2011, the Company recorded a non-cash impairment charge to its unproved oil and gas properties of the two wells totaling $42,488,000. Following re-entry into the Elijah #3 wellbore in 2012 and upon analysis and interpretation of all of the data, in January 2013 the Company determined to not pursue additional exploration activities at the Elijah #3 well at this time.

 

During the three months ended December 31, 2012, the Company recorded a non-cash impairment charge of $1,965,000 of its unproved oil and gas properties (see Note 4) which was comprised of:

 

1)$1,913,000 incurred in connection with the Elijah #3 re-entry well operations. This decision was based upon analysis and interpretation of all of the data showing that while there were oil shows and other indications of hydrocarbon potential observed in the zone of interest, the Company will not pursue additional exploration activities at the Elijah #3 well at this time. However, the Company continues to evaluate exploration prospects in certain other portions of the Asher-Menashe License area.

 

2)$52,000 incurred in connection with the previous three exploration rights applications submitted in 2011 and since withdrawn. See Note 1A “Exploration Rights/Exploration Activities”.

 

F-25
   

 

Note 2 - Summary of Significant Accounting Pol