3. South Mountain Project

12 Months Ended

Dec. 31, 2016

Notes

3. South Mountain Project

3.             South Mountain Project

On November 8, 2012, the Company, through its wholly-owned subsidiary South Mountain Mines, Inc., (“SMMI”), and Idaho State Gold Company II, LLC (“ISGC II”) formed the Owyhee Gold Trust, LLC, (“OGT”) a limited liability company. The Company’s initial contribution in accordance with the Operating Agreement, was the non-cash contribution of its South Mountain Mine property and related mining claims located in southwestern Idaho in Owyhee County which had a carrying value of $479,477 at the date of contribution, but for purposes of the Operating Agreement, valued at $6.725 Million.  As its initial contribution to OGT, ISGC II agreed to fund operations totaling $18 million; or $8 million if the Company exercises its option to participate pro-rata after ISGC II expends $8 million and completes work commitments including a Feasibility Study, and a certain amount of required underground core drilling.  ISGC II was the initial manager of OGT LLC. Upon payment of $1 million, and a work commitment of $2 million in pre-determined qualifying expenditures not later than December 31, 2014, ISGC II was to receive 2,000 units representing a vested 25% ownership.   As of December 31, 2014, none of those ownership units were issued to ISGC II.  

In 2015 and through November 2016, disagreements between SMMI and ISGC II resulted in litigation about the status of OGT.      In November 2016, the parties entered into a Settlement Agreement and Release (“Settlement Agreement”) with the following key terms:

·         SMMI and ISGC II have 75% and 25% ownership, respectively, in the OGT;

·         Equipment owned by OGT was transferred to SMMI and ISGC II based upon an agreed-upon equipment schedule;

·         OGT retained the South Mountain mineral interests and land;

·         Under a new OGT operating agreement, SMMI is the sole manager and all expenses for exploration of the property are to be paid by SMMI;

·         SMMI and OGT also entered into a separate Mining Lease with Option to Purchase (“Lease Option”) under which SMMI has an option to purchase the South Mountain mineral interest for a capped $5 million less royalties paid through the date of exercise.  The option expires in November 2026. If SMMI exercises the option, the option payment $5 million less advance royalties will be distributed 100% to ISGC II. 

·         The Lease Option requires SMMI to pay OGT an annual advanced royalty of $5,000.  Once in production, SMMI will pay OGT 5% of net smelter returns.  Upon exercise of the option, all royalty payments terminate.  The royalty payments received by OGT from SMMI are to be distributed 100% to ISGC II.   SMMI will not share the royalty income.

·         The OGT operating agreement provides that during the lease period when the aggregate amount of distributions to ISGC II for royalties and capped option payment equals $5,000,000, ISGC II’s membership interest in OGT is to be completely and fully liquidated.

Prior to 2015, the Company accounted for its investment in OGT using the cost method because it did not have significant influence over OGT’s management and operations.  Its investment had a carrying value of $479,477 which represented the carrying value of the South Mountain mineral interests that the Company contributed as its initial investment in OGT in 2012.

During 2015 and through the settlement date (November, 6, 2016), the Company managed the South Mountain mineral interests and recognized expenses as Company expenses.   For the year ending December 31, 2016 and 2015, the Company incurred expenses of $637,075 and $693,592, respectively, relating to the South Mountain project.  Included in these amounts are compensation expense for services performed relating to the operation of OGT was $294,500 and $274,000 in 2016 and 2015, respectively.  The compensation was earned by three of the Company’s officers whose balances at December 31, 2016 are as follows:  Eric Jones, President and Chief Executive Officer - $230,000 (2015 – $110,000), James Collord, Vice President and Chief Operating Officer - $230,000 (2015 - $110,000), and Larry Thackery, Chief Financial Officer - $108,500 (2015 - $54,000).    

With the Settlement Agreement signed on November 6, 2016, the Company has established 75% ownership and full management of the property.  Thus, OGT’s financial information is included 100% in the Company’s consolidated financial statements as of December 31, 2016. The Company’s consolidated financial statements reflect ISGC II’s 25% non-controlling, and capped interest in OGT.   

Due to the status of the Company’s investment both before and after the Settlement Agreement, management determined that the settlement should be accounted for as a transaction between companies under common control.  As a result, the assets of OGT have been recognized in the consolidated financial statements at their net book value.  For accounting purposes, OGT was not considered to be a business at the time of settlement thus prior period financial statements have not been recast to consolidate OGT.

On the date of the settlement, OGT assets included land, mineral interests, and equipment.  Upon gaining control, the original carrying value of the mineral interests of $479,477 before the establishment of OGT in 2012 was deemed to be OGT’s carrying value in accordance with accounting guidance.  The equipment had a net book value of $601,040 of which $233,965 was transferred to SMMI and the remainder was transferred to ISGC II under the terms of the settlement agreement.  Thus OGT had no equipment on the settlement date.  Management identified future reclamation costs at the South Mountain site of $65,000 as part of OGT’s net assets on settlement date.

The carrying value of OGT’s net assets consisted of the following on the settlement date after the transfer of equipment:

	Net Asset Value on Settlement Date	SMMI at 75%	ISGC II at 25%
Land	$  280,333	$  210,250	$    70,083
Mineral Interest	479,477	359,608	119,869
Accrued Reclamation	(65,000)	(48,750)	(16,250)
Net Assets	694,810	521,108	173,702
OGT equipment transferred to SMMI	233,965	233,965
Investment in OGT eliminated in consolidation with OGT	(479,477)	(479,477)
	$   449,298	$   275,596	$   173,702

The total net asset value of $449,298 was recognized as an increase in additional paid in capital.