1. ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES

General Overview

Hyperdynamics Corporation (“Hyperdynamics,” the “Company,” “we,” “us,” and “our”) is a Delaware corporation formed in March 1996. Hyperdynamics has two wholly-owned subsidiaries, SCS Corporation Ltd (“SCS”), a Cayman corporation, and HYD Resources Corporation (“HYD”), a Texas corporation. Through SCS, Hyperdynamics focuses on oil and gas exploration offshore the coast of West Africa. Our exploration efforts are pursuant to a Hydrocarbon Production Sharing Contract, as amended (the “PSC”). We refer to the rights granted under the PSC as the “Concession.” We began operations in oil and gas exploration, seismic data acquisition, processing, and interpretation in late fiscal 2002.

As used herein, references to “Hyperdynamics,” “Company,” “we,” “us,” and “our” refer to Hyperdynamics Corporation and our subsidiaries, including SCS. The rights in the Concession offshore Guinea are held by SCS.

Status of our Business, Liquidity and Going Concern

We have no source of operating revenue and there is no assurance when we will, if ever.

On March 31, 2017 we had $0.6 million in cash, and $2.2 million in accounts payable and accrued expense liabilities, all of which are current liabilities. Our net working capital will not be sufficient to meet our corporate needs and Concession related activities for the quarter ending June 30, 2017. We are currently pursuing several avenues to raise funds. We have no other material commitments other than ordinary operating costs and commitments relating to the PSC.

As of the date of filing, the Company’s trade accounts payable and accrued expenses exceeded its cash balances.

Following the execution of Amendment No. 1 to the PSC in March 2010 (the “First PSC Amendment”) and the receipt of a Presidential Decree in May 2010, we closed on a sale of a 23% gross interest in the Concession to Dana Petroleum, PLC (“Dana”), a subsidiary of the Korean National Oil Corporation. In December 2012, we closed a sale of a 40% gross interest to Tullow Guinea Ltd. (“Tullow”), and Tullow became the Operator on April 1, 2013.

Pursuant to the terms of sale between Tullow and us, Tullow paid us $26.0 million in cash and Tullow agreed to pay our entire participating interest share of expenditures associated with joint operations in the Concession up to a gross expenditure cap of $100.0 million incurred during the period of our carried interest while drilling the initial exploratory well that began on September 21, 2013. Tullow also agreed to pay our participating interest share of future costs for the drilling of an appraisal well following the initial exploration well, if drilled, up to an additional gross expenditure cap of $100.0 million.

A planned deepwater exploration well of the Concession during the first half of calendar 2014 was delayed by Tullow upon declaration of Force Majeure in March of 2014 based on the mere existence of the Department of Justice (“DOJ”) and Securities and Exchange Commission (“SEC”) investigations pursuant to the Foreign Corrupt Practices Act of the United States (“FCPA Investigations”). Tullow withdrew its Force Majeure declaration in May of 2014, but did not resume petroleum operations citing the continued existence of the FCPA Investigations and the Ebola outbreak in Guinea.

The DOJ investigation ended in May 2015, the SEC investigation ended in September 2015, and the World Health Organization declared Guinea Ebola free on December 29, 2015. Notwithstanding the resolution of the FCPA Investigations, Dana insisted on further specific title assurances from the Government of Guinea. Continued failure to resume petroleum operations by both Tullow and Dana in December 2015 forced us to file legal actions under our Joint Operating Agreement.

On August 15, 2016, we entered into a Settlement and Release Agreement with Tullow and Dana (“Settlement Agreement”) that returned to us 100% of the interest under the PSC, long-lead item property useful in the drilling of an exploratory well, and $0.7 million in cash, in return for a mutual release of all claims. We also agreed to pay Dana a success fee based upon the certified reserves of the Fatala-1 well if it results in a discovery.

We executed a Second Amendment to the PSC (“Second PSC Amendment”) with the Government of Guinea on September 15, 2016, and received a Presidential Decree that gave us a one year extension to the second exploration period of the PSC to September 22, 2017 (“PSC Extension Period”) and became the designated Operator of the Concession.

In addition to clarifying certain elements of the PSC, we agreed in the Second PSC Amendment to drill one exploratory well to a minimum depth of 2,500 meters below the seabed within the PSC Extension Period (the “Extension Well”) with the option of drilling additional wells. Fulfillment of this work obligations exempts us from the expenditure obligations during the PSC Extension Period.

In turn, we retained an area equivalent to approximately 5,000 square kilometers in the Guinea offshore waters and took on the obligation to provide the Government of Guinea: (1) A parent company guarantee for the well obligation, (2) monthly progress reports and a reconciliation of budget to actual expenditures, (failure to provide the reports and assurances on a timely basis could result in a notice of termination with a 30 day period to cure), and (3) certain guarantees.

Additionally, we agreed to limit the cost recovery pool to date to our share of expenditures in the PSC since 2009 (estimated to be approximately $165,000,000 net to our interest) and began to move into the territory of Guinea the long lead items we received in the Settlement Agreement that are currently stored in Takoradi, Ghana. The movement of approximately $1.6 million of the $4.1 million of equipment was started on January 29, 2017 and was completed on February 5, 2017. The balance of the material still in Ghana will be moved at a later date. Finally, we agreed to allocate and administer a training budget during the PSC Extension Period for the benefit of the Guinea National Petroleum Office of $250,000 in addition to any unused portion of the training program under Article 10.3 of the PSC. The unused portion of the training program is now estimated to be approximately $400,000.

In mid-January 2017 we requested and received a notification letter dated January 24, 2017 from the General Director of the National Petroleum Office of the Republic of Guinea, informing us that the Republic of Guinea granted a postponement of our obligation to provide a mutually acceptable security of $5.0 million to February 20, 2017 (originally required by no later than January 21, 2017) as well as a clarification regarding the timing of the security under Article 4.2 of the Second PSC Amendment until the work on the Fatala-1 well is completed. On March 1, 2017, the Republic of Guinea issued a reservation of rights letter asserting that we did not satisfy our obligation to deposit mutually acceptable security of $5.0 million.

Following the signing of a Tri-Party Protocol on March 10, 2017 (the “Protocol”), with Guinea and South Atlantic Petroleum Limited (“SAPETRO”), a Nigerian independent oil company, we executed a Farmout Agreement (“Farmout Agreement”) with SAPETRO on March 30, 2017. Under the terms of the Farmout Agreement, upon closing, SAPETRO will receive a 50% participating interest in the PSC in exchange for its commitment to pay 50% of the expenditures associated with the Concession, including the drilling of the upcoming Fatala-1 well, (the minimum work program under the PSC). Further, SAPETRO agreed to reimburse us for half of the costs previously incurred in preparing for the well since the approval of the Second PSC Amendment. The approximate total amount of such costs is estimated to be $8-10 million depending on the timing of the closing of the Farmout Agreement.

As more fully described in Note 8, on April 12, 2017 SCS, SAPETRO and Guinea executed a Third Amendment to the PSC (the “Third PSC Amendment”) that was subject to the receipt of a Presidential Decree and the closing of the Farmout Agreement. We received a Presidential Decree on April 21, 2017. The Third PSC Amendment approves the assignment of 50% of SCS’ participating interest in the Guinea concession to SAPETRO and confirms the two companies’ rights to explore for oil and gas on a 5,000-square-area of our Concession offshore the Republic of Guinea. It further requires that drilling operations in relation to the Extension Well are to begin no later than May 30, 2017 and amends the security instrument requirements initially agreed under the Second PSC Amendment. In turn, we agreed SAPETRO would put in place a US $5 million security instrument within 30 days from the date of the Presidential Decree.

On May 20, 2017 we entered into Amendment No.1 to the Offshore Drilling Contract with a subsidiary of Pacific Operations Drilling Limited (“Pacific Amendment”) on May 20, 2017. The Pacific Amendment clarifies the use of the Pacific Scirocco drill ship for the upcoming drilling program offshore Guinea and provides for Special Mobilization and Standby Rate (“SMSR”) of $100,000 per day to apply at moment the drill ship enters Guinea territorial waters. It further provides that SMSR ends the later of when Pacific Sirocco receives from SCS a 28 day notice for drilling commencement or July 17, 2017. In consideration for the extension of the Pacific Sirocco Contract and reduction of the costs associated with it, we agreed with Pacific Scirocco Limited (“Pacific”) to issue and deliver to Pacific a number of shares of our Common Stock equal to $1,000,000 at a 10 day average market price preceding the date of the agreement to issue the shares.

The Pacific Sirocco drillship entered Guinea shelf waters as provided by the terms of the Third PSC Amendment on May 21, 2017, which is within the 30 days from the Presidential Decree signing date. It relieves SAPETRO and SCS from an obligation to place a $5 million security instrument with the Government of Guinea. Subsequent to arrival of the Pacific Sirocco in Guinea waters, SCS begins mobilization of additional equipment, materials and supplies on the rig to prepare for spudding the Fatala 1 well, which constitutes the commencement of the drilling operations before May 30, 2017 as required by the Third PSC Amendment.

In addition, SCS and SAPETRO separately agreed on April 12, 2017, that SCS’s “sufficient financing for the Obligation Well Costs” as defined in the Farmout Agreement will be $15 million in “cash and committed financing to the satisfaction of SAPETRO acting reasonably” in addition to costs already incurred. SAPETRO and SCS further agreed that SAPETRO may elect to pay for a portion of SCS’s Fatala-1 well costs so long as SCS is not in default of either the PSC or the Farmout Agreement and requires credit support. In case SAPETRO makes such payments for a share of SCS’s costs of, SCS shall assign to SAPETRO 2% of its participating interest in the Concession for each $ 1 million of SCS’s costs paid by SAPETRO.

As more fully described in Note 7 and Note 8, between March 17 and April 26, 2017, we held four closings of a private placement offering (the “Series A Offering”) of an aggregate of 1,951 Units of our securities, at a purchase price of $1,000 per Unit. Each “Unit” consisted of (i) one share of the Company’s Series A Convertible Preferred Stock, with a Stated Value of $1,040 per share, and (ii) a warrant (the “Investor Warrant”) to purchase 223 shares of the Company’s common stock, exercisable from issuance until March 17, 2019, at an exercise price of $3.50 per share (subject to adjustment in certain circumstances). At the closings, we issued to the subscribers an aggregate of: (i) 1,951 Units of Series A Preferred Stock and (ii) Investor Warrants to purchase an aggregate of 435,073 shares of common stock with an exercise price of $3.50 per share.

The Company received an aggregate of $1,951,000 in gross cash proceeds, before deducting placement agent fees and expenses, and legal, accounting and other fees and expenses, in connection with the sale of the Units. We paid the Placement Agent a total of $175,555 of cash fees and issued to the Placement Agent or its designees Placement Agent Warrants to purchase an aggregate of 51,650 shares of common stock.

The delays have adversely affected our ability to date to explore the Concession and reduced the attractiveness of the Concession to prospective industry participants and financing parties. We have no source of operating revenue, and there is no assurance when we will, if ever. We have no operating cash flows, and absent cash inflows we will not have adequate capital resources to meet our current obligations as they become due, and therefore there is substantial doubt about our ability to continue as a going concern. Our ability to meet our current obligations as they become due and to be able to continue exploration, will depend on obtaining additional resources through sales of additional interests in the Concession, equity or debt offerings, or through other means. If we further farm-out additional interests in the Concession, our percentage will decrease. If we enter into equity or debt offerings, the terms of any such arrangements, if made, may not be advantageous and will be dilutive to our shareholders. Our need for additional funding may also be affected by the uncertainties involved with resumption of petroleum operations and the planned exploratory well.

No assurance can be given that any of these actions can be completed.

Principles of consolidation

The accompanying unaudited condensed consolidated financial statements include the accounts of Hyperdynamics and its direct and indirect wholly-owned subsidiaries. All intercompany accounts and transactions have been eliminated in consolidation. The financial statements have been prepared in accordance with accounting principles generally accepted in the United States and the rules of the Securities and Exchange Commission, and should be read in conjunction with the audited financial statements and notes thereto contained in our Annual Report filed with the SEC on Form 10-K for the year ended June 30, 2016.

In the opinion of management, all adjustments, consisting of normal recurring adjustments, necessary for a fair presentation of financial position and the results of operations for the interim periods presented have been reflected herein. The results of operations for interim periods are not necessarily indicative of the results to be expected for the full year. Notes to the financial statements which would substantially duplicate the disclosures contained in the audited financial statements for the most recent fiscal year ended June 30, 2016, as reported in the Form 10-K, have been omitted.

Use of estimates

The preparation of the consolidated financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities and expenses at the balance sheet date and for the period then ended. We believe our estimates and assumptions are reasonable; however, such estimates and assumptions are subject to a number of risks and uncertainties that may cause actual results to differ materially from such estimates. The following assumptions underlying these financial statements include:

estimates in the calculation of share-based compensation expense,

estimates in valuation of warrants derivative liability,

estimates made in our income tax calculations,

estimates in the assessment of current litigation claims against the Company,

estimates and assumptions involved in our assessment of unproved oil and gas properties for impairment, and

estimates and assumptions involved in our fair market value assessment of the well construction equipment received in the August 15, 2016 Settlement Agreement with Tullow and Dana.

We are subject, from time to time, to legal proceedings, claims, and liabilities that arise in the ordinary course of business. We accrue for losses when such losses are considered probable and the amounts can be reasonably estimated.

Cash and cash equivalents

Cash equivalents are highly liquid investments with an original maturity of three months or less. For the periods presented, we maintained all of our cash in bank deposit accounts which, at times, exceed the federally insured limits.

Earnings per share

Basic loss per common share has been computed by dividing net loss by the weighted average number of shares of common stock outstanding during each period. In period of earnings, diluted earnings per common share are calculated by dividing net income available to common shareholders by weighted-average common shares outstanding during the period plus weighted-average dilutive potential common shares. Diluted earnings per share calculations assume, as of the beginning of the period, exercise of stock options and warrants using the treasury stock method.

All potential dilutive securities, including potentially dilutive options, warrants and convertible securities were excluded from the computation of dilutive net loss per common share for the three and nine month periods ended March 31, 2017 and 2016, respectively, because their effects in the computation are antidilutive due to our net loss for those periods.

Stock options to purchase approximately 1.2 million common shares at an average exercise price of $4.06 were outstanding at March 31, 2017. Using the treasury stock method, had we had net income, approximately 1,158 common shares attributable to our outstanding stock options would have been included in the fully diluted earnings per share for the three-month period ended March 31, 2017 while approximately 1,173 common shares attributable to our outstanding stock options would have been included in the fully diluted earnings per share for the nine-month period ended March 31, 2017.

Stock options to purchase approximately 1.2 million common shares at an average exercise price of $ 5.67 were outstanding at March 31, 2016. Using the treasury stock method, had we had net income, approximately 1,182 common shares attributable to our outstanding stock options would have been included in the fully diluted earnings per share for the three-month period ended March 31, 2016 while approximately 958 common shares attributable to our outstanding stock options would have been included in the fully diluted earnings per share for the nine-month period ended March 31, 2016.

Contingencies

We are subject to legal proceedings, claims and liabilities. We accrue for losses associated with legal claims when such losses are probable and can be reasonably estimated. These accruals are adjusted as additional information becomes available or circumstances change. Legal fees are charged to expense as they are incurred. See Note 6 for more information on legal proceedings and settlements.

Fair Value Measurements

The accounting standards define fair value, establish a three-level valuation hierarchy for disclosures of fair value measurements and enhance disclosure requirements for fair value measures. The three levels of valuation hierarchy are defined as follows:

	Level 1 - inputs to the valuation methodology are quoted prices (unadjusted) for identical assets or liabilities in active markets.

	Level 2 - inputs to the valuation methodology include quoted prices for similar assets and liabilities in active markets, and inputs that are observable for the asset or liability, either directly or indirectly, for substantially the full term of the financial instrument.

	Level 3 - inputs to the valuation methodology are unobservable and significant to the fair value measurement.

As discussed in Note 2, we determined a fair value of the well construction equipment material (Level 3 fair value measurement) that we received at the time of our legal settlement with Tullow and Dana. The fair value estimate was based on the combination of cost and market approaches taking into consideration a number of factors, which included but were not limited to the original cost and the condition of the material and demand for steel and tubulars at the time of measurement. As discussed further below the fair value of the warrants was determined using the Black Scholes option-pricing model. The warrants derivative liability is carried on the balance sheet at its fair value. Significant Level 3 inputs used to calculate the fair value of the warrants include expected volatility, risk-free interest rate and expected dividends.

Financial assets and liabilities are classified in their entirety based on the lowest level of input that is significant to the fair value measurement. The Company has determined that Investor Warrants and Placement Agent Warrants issued in March 2017 qualify as derivative financial instruments. These warrant agreements include provisions designed to protect holders from a decline in the stock price (‘down-round’ provision) by reducing the exercise price of warrants in the event we issue equity shares at a price lower than the exercise price of the warrants. As a result of this down-round provision, these warrants are considered derivative liabilities and as such, are recorded at fair value at date of issuance and at each reporting date. Change in fair value of derivative instruments during the period are recorded in earnings as “Other income (expense) — Gain (loss) on warrants derivative liability.” The change in fair value between preferred stock issuance dates in March 2017 and March 31, 2017 was immaterial.

The following table sets forth by level within the fair value hierarchy our financial assets and liabilities that were accounted for at fair value on a recurring basis as of March 31, 2017 (in thousands).

	Carrying Value at		Fair Value Measurement at March 31, 2017
	March 31, 2017		Level 1		Level 2		Level 3

Warrants derivative liability	$	205	$	—	$	—	$	205

The following describes some of the key inputs into our fair value model as it relates to valuation of warrants.

Expected Volatility

As the Company’s stock has been extremely volatile during 2016-2017 as a result of uncertainty surrounding the Company’s target spud date, the expected stock price volatility for the Company’s common stock was estimated by taking the average of the observed volatility of daily returns of the Company’s stock and the historic price volatility for industry peers based on daily price observations. Industry peers consist of several public companies in the Company’s industry which were the same as the comparable companies used in the common stock valuation analysis. The Company intends to continue to consistently apply this process using the same or similar public companies until a statistically significant amount of historical information regarding the volatility of its own share price becomes available, or unless circumstances change such that the identified companies are no longer similar to the Company, in which case, more suitable companies whose share prices are publicly available would be used in the calculation.

Risk-Free Interest Rate

The risk-free interest rate is based on the zero-coupon U.S. Treasury notes.

Expected Dividend Yield

The Company does not anticipate paying any dividends on the Common Stock in the foreseeable future and, therefore, uses an expected dividend yield of zero in the Black-Scholes option-valuation model.