Note 3 – Acquisitions

On June 1, 2013, the Company and its wholly-owned Ohio subsidiary, GNR, completed the acquisition of substantially all of the assets and certain liabilities of JDOG Marketing, an Ohio company engaged in the marketing of natural gas. The Osborne Trust is the majority owner of JDOG Marketing. Richard M. Osborne, father of the Company’s chief executive officer and the Company’s former chairman and chief executive officer, is the sole trustee of the Osborne Trust. The Company believes the natural gas marketing business complements its existing natural gas distribution business in Ohio. In addition, it currently conducts natural gas marketing in Montana and Wyoming, which the Company believes allowed it to integrate the Ohio marketing operations into Gas Natural with minimal increases in staff or overhead. Costs related to this acquisition totaled $0.6 million and were expensed as incurred.

Pursuant to the terms of the purchase agreement, the consummation of the transaction depended upon the satisfaction or waiver of a number of certain customary closing conditions, the receipt of regulatory approvals and the consent of certain of Gas Natural’s lenders. In addition, the transaction was subject to the approval of Gas Natural’s shareholders, and the receipt of a fairness opinion by an independent investment banking firm. All of these conditions were satisfied and the acquisition was completed on June 1, 2013. In accordance with U.S. GAAP, the consideration given, assets received, and liabilities assumed by the Company were recorded at their fair market value as of this date.

Under the purchase agreement, Gas Natural issued to JDOG Marketing 256,926 shares of the Company’s common stock. These shares had an acquisition date fair value of $2,641,199. There were no underwriting discounts or commissions in connection with the issuance, as no underwriters were used to facilitate the acquisition. The shares were not registered under the Securities Act of 1933, as amended (the “Act”), in reliance on the exemption from registration provided by Section 4(2) of the Act.

In addition, the purchase agreement provides for contingent “earn-out” payments for a period of five years after the closing of the transaction if GNR achieves an annual EBITDA target in the amount of $810,432, which was JDOG Marketing’s EBITDA for the year ended December 31, 2011. If GNR’s actual EBITDA for a given year is less than the target EBITDA, then no earn-out payment will be due and payable for that particular period. If GNR’s actual EBITDA for a given year meets or exceeds the target EBITDA, then an earn-out payment in an amount equal to actual EBITDA divided by target EBITDA times $575,000 will have been earned for that year. Due to the earn-out structure, the maximum amount that could be earned over the five year period is unlimited.

Earn-out payments are to be settled annually in validly issued, fully paid and non-assessable shares of the Company’s common stock. The share price to be used to determine the number of shares to be issued for each earn-out payment will be the average closing price of Gas Natural’s common stock for the 20 trading days preceding issuance of Gas Natural’s common stock for such earn-out payment. The Company estimated the acquisition date fair value of this liability to be $2,250,000, of which $669,396 was classified as current. The fair value of this liability is remeasured on a recurring basis. The Company’s current estimate of the total liability was $ 682,000 at September 30, 2014. See Note 4– Fair Value Measurements for details regarding this valuation. The Company calculated a first year earn-out payment of $671,638 as its best estimate for financial reporting purposes and this amount is included in the Contingent consideration, current portion line of the Company’s Condensed Consolidated Balance Sheet. The Company does not believe an earn-out payment is due to JDOG Marketing as a result of payments made by the Ohio utilities to JDOG Marketing during 2013 that were disallowed by the PUCO. Mr. Osborne believes that JDOG Marketing is entitled to the earn-out. Mr. Osborne and JDOG Marketing have filed a suit against the Company for the earn-out payment. See Note 15 – Commitments and Contingencies for more information.

The Company applied the acquisition method to the business combination and valued each of the assets acquired (property, plant and equipment and customer relationships) and liabilities assumed (earn-out liability) at fair value as of the acquisition date. The Company used the net book value of property, plant, and equipment received as this closely approximated the fair value. The Company used the present value of expected net cash flows associated with the acquired customer contracts to approximate the assets’ fair values. These customer contracts represent established and ongoing contracts to provide natural gas to the former customers of JDOG Marketing acquired by the Company as part of the acquisition. These customer contracts will be fully amortized over their 10 year estimated useful lives. The Company recorded the fair value of the earn-out liability as the present value of estimated future earn-out payments as of the acquisition date. In addition to the assets acquired and liabilities assumed in the transaction, the Company also effectively settled a note due from JDOG Marketing. As a result of the purchase, $2,101,744 was allocated to goodwill. The Company expects none of the goodwill to be deductible for tax purposes.

The results of GNR are included in the Company’s Marketing and Production Operations reporting segment. For the three and nine months ended September 30, 2014, GNR contributed $0.6 million and $3.1 million to the Company’s revenues, respectively, and income of $8,900 and loss of $23,179 to the Company’s net income, respectively. For the three and nine months ended September 30, 2013, GNR contributed $0.5 million and $0.8 million to the Company’s revenues and losses of $47,399 and $16,632 to the Company’s net income.

Historically, the Company has been a party to transactions with JDOG Marketing primarily for the purchase of natural gas. In addition to these purchases, the Company also had a note receivable outstanding from JDOG Marketing and an operating lease agreement. Both of these relationships were effectively settled with the completion of the transaction. See Note 14 – Related Party Transactions for more information regarding the Company’s transactions with JDOG Marketing prior to the acquisition.