| APCO ARGENTINA INC/NEW ITEM 1A RISK FACTORS The reader should carefully consider the following risk factors in addition to the other information in this annual report |
| If any of the following risks were actually to occur, the Company’s business, results of operations, and financial condition could be materially adversely affected |
| In that case, the Company might not be able to pay dividends on its ordinary shares and the trading price of its ordinary shares could decline and shareholders could lose all or part of their investment |
| Risks Inherent to the Company’s Industry and Business Estimating reserves and future net revenues involves uncertainties and potential negative revisions to reserve estimates, and oil and gas price declines may lead to impairment of oil and gas assets |
| Estimates of the Company’s proved reserves included in the unaudited supplemental oil and gas information in this report on Form 10-K are prepared in accordance with guidelines established by GAAP and by the United States Securities and Exchange Commission (“SEC”) |
| The accuracy of a reserve estimate is a function of: (i) the quality and quantity of available data; (ii) the interpretation of that data; (iii) the accuracy of various mandated economic assumptions; and (iv) the judgment of the third party reserve engineer that prepares the estimate |
| The Company’s proved reserve information is based on estimates prepared by its independent reserve engineer |
| Estimates prepared by others may be higher or lower than the Company’s estimates |
| Because these estimates depend on many assumptions, all of which may substantially differ from actual results, reserve estimates may be different from the quantities of oil and gas that are ultimately recovered |
| In addition, results of drilling, testing and production after the date of an estimate may justify material revisions to the estimate |
| The present value of future net cash flows should not be assumed to be the current market value of the Company’s estimated proved reserves |
| In accordance with SEC requirements, the Company based the estimated discounted future net cash flows from proved reserves on prices and costs on the date of the estimate |
| Actual future prices and costs may be materially higher or lower than the prices and costs as of the date of the estimate |
| The Company’s estimates of proved reserves materially impact depreciation, depletion and amortization expense |
| If negative revisions in the estimated quantities the estimates of proved reserves were to occur, it would have the effect of increasing the rates of depreciation, depletion and amortization on the affected properties, which would decrease earnings or result in losses through higher decline, the rate at which the Company records depreciation, depletion, and amortization expense |
| The revisions may also be sufficient to trigger impairment losses on certain properties which would result in a further non-cash charge to earnings |
| Although unlikely, the revisions could also affect the evaluation of the Company’s goodwill for impairment purposes increases, reducing net income |
| In addition, the decline in proved reserve estimates may impact the outcome of the Company’s assessment of its oil and gas producing properties for impairment |
| 11 _________________________________________________________________ [43]Table of Contents Historic performance of the Company’s exploration and production program is no guarantee of future performance |
| The success rate of the Company’s exploration and drilling program in 2005 should not be considered a predictor of future performance |
| Performance of the Company’s exploration and production activities is affected in part by factors beyond its control, such as: • regulations and regulatory approvals; • availability of capital for drilling projects which may be affected by other risk factors discussed in this report; • cost-effective availability of drilling rigs and necessary equipment; • availability of cost-effective transportation for products; and • market risks discussed in this report |
| The Company’s drilling, production, gathering, processing, and transporting activities involve numerous risks that might result in accidents and other operating risks and costs |
| The Company’s operations are subject to all the risks and hazards typically associated with the development and exploration for, and the production and transportation of oil and gas |
| These operating risks include, but are not limited to: • blowouts, cratering, and explosions; • uncontrollable flows of oil, natural gas, or well fluids; • fires; • formations with abnormal pressures; • pollution and other environmental risks; and • natural disasters |
| Costs of environmental liabilities and complying with existing and future environmental regulations could exceed the Company’s current expectations |
| The Company’s operations are subject to environmental regulation pursuant to a variety of laws and regulations |
| Such laws and regulations impose, among other things, restrictions, liabilities, and obligations in connection with the generation, handling, use, storage, transportation, treatment, and disposal of hazardous substances and wastes, in connection with spills, releases, and emissions of various substances into the environment, and in connection with the operation, maintenance, abandonment, and reclamation of the Company’s facilities |
| Compliance with environmental legislation could require significant expenditures including for clean up costs and damages arising out of contaminated properties and for the possible failure to comply with environmental legislation and regulations that might result in the imposition of fines and penalties |
| In connection with certain acquisitions and divestitures, the Company could acquire, or be required to provide indemnification against, environmental liabilities that could expose it to material losses, which may not be covered by insurance |
| In addition, the steps the Company could be required to take to bring certain facilities into compliance could be prohibitively expensive, and the Company might be required to shut down, divest or alter the operation of those facilities, which might cause us to incur losses |
| Although the Company does not expect that the costs of complying with current environmental legislation will have a material adverse effect on its financial condition or results of operations, no assurance can be given that the costs of complying with environmental regulation in the future will not have such an effect |
| The Company makes assumptions and develops expectations about possible expenditures related to environmental conditions based on current laws and regulations and current interpretations of those laws and regulations |
| If the interpretation of laws or regulations, or the laws and regulations themselves, change, the Company’s assumptions may change |
| The Company might not be able to obtain or maintain from time to time all required environmental regulatory approvals for certain 12 _________________________________________________________________ [44]Table of Contents development projects |
| If there is a delay in obtaining any required environmental regulatory approvals or if the Company fails to obtain and comply with them, the operation of its facilities could be prevented or become subject to additional costs, resulting in potentially material adverse consequences to its operations |
| Because of the natural decline in production from existing wells, the Company’s future success depends on its ability to obtain and successfully develop new reserves |
| The production from the Company’s existing wells will naturally decline over time, which could mean that the Company’s cash flows associated with its wells could also decline over time |
| Maintaining the Company’s current rate of production is dependent upon obtaining new oil and gas properties and successfully exploring, drilling, and producing products from the properties on economically feasible terms |
| Competition for oil and gas properties is high and exploring for and producing hydrocarbons from these properties is becoming increasingly expensive |
| Achieving growth is dependent upon the Company’s finding or acquiring additional reserves, as well as successfully developing current reserves, and risks associated with drilling may cause drilling operations to be delayed or cancelled |
| The Company has observed a reduction in the availability of drillings rigs in recent months |
| The Company’s ability to develop its reserves is dependent on its ability to contract drilling rigs |
| In recent months, the Company has observed a reduction in the availability of drilling rigs |
| If the Company is unable to contract for drilling rigs on reasonable prices and terms, its results and future growth could be adversely affected |
| The Company’s oil sales have historically depended on a relatively small group of customers |
| The lack of competition for buyers could result in unfavorable sales terms which, in turn, could adversely affect the Company’s financial results |
| The entire Argentine domestic refining market is small |
| There are five active refiners that constitute 99 percent of the total market |
| As a result, the Company’s oil sales have historically depended on a relatively small group of customers |
| The largest of these five companies refines only its own crude oil production, while the smallest of the five operates only in the northwest basin of Argentina |
| That leaves only three domestic refiners to which the Company can sell its Entre Lomas production |
| During 2005, the Company sold all of its Entre Lomas oil production, that constitutes more than 95 percent of its total oil production, to a refinery owned by Petrobras Energia |
| The lack of competition in this market could result in unfavorable sales terms which, in turn, could adversely affect the Company’s financial results |
| The Company is not the operator of all its hydrocarbon interests |
| The reliance on others to operate these interests could adversely affect the Company’s business and operating results |
| The Company relies on Petrolera as the operator of the Entre Lomas concession, which comprised approximately 90 percent of the Company’s total production in 2005 |
| The Company also relies on Pan American Energy and Roch as the operators of the Acambuco concession and the TDF Concessions, respectively |
| As the non operating partner, the Company has limited ability to control operations or the associated costs of such operations |
| The success of those operations is therefore dependent on a number of factors outside the Company’s control, including the competence and financial resources of the operators |
| Changes in, and volatility of, supply, demand, and prices for crude oil, natural gas and other hydrocarbons has a significant impact on the Company’s ability to generate earnings, fund capital requirements, and pay shareholder dividends Historically, the markets for crude oil, natural gas, and other hydrocarbons have been volatile and they are likely to continue to be volatile |
| Wide fluctuations in prices might result from relatively minor changes in the supply of and demand for these commodities, market uncertainty, and other factors that are beyond the Company’s control, including: • worldwide and domestic supplies of and demand for electricity, natural gas, petroleum, and related commodities; • exploration discoveries throughout the world; • the level of development investment in the oil and gas industry; • turmoil in the Middle East and other producing regions; • terrorist attacks on production or transportation assets; • weather conditions; 13 _________________________________________________________________ [45]Table of Contents • the level of market demand; • the price and availability of other types of fuels; • the availability of pipeline capacity; • the price and level of foreign imports; • domestic and foreign governmental regulations and taxes; • adherence by Organization of Petroleum Exporting Countries (“OPEC”) member nations to production quotas, and future decisions by OPEC to either increase or decrease quotas • Argentine governmental actions; • the overall economic environment; and • the credit of participants in the markets where products are bought and sold |
| Although the level of oil prices achieved in 2005 has had a positive impact on the Company’s net income and cash flow, given the past volatility of world oil prices, there is no assurance that oil prices will remain at these levels in 2006 and beyond |
| Risks Associated with Operations in Argentina The right of the Company to explore for, drill for, and produce hydrocarbons in Argentina are generally derived from participation in concessions granted by the Argentine government, which have a finite term, the expiration or termination of which could materially affect the Company’s results |
| The right of the Company to explore for, drill for, and produce hydrocarbons in Argentina is generally derived from participation in concessions granted by the government, which have a finite term, the expiration or termination of which could materially affect the Company’s results |
| For example, the term of the Entre Lomas concession, which comprised approximately 90 percent of the Company’s total production in 2005, currently runs to the year 2016 |
| The term of a concession can be extended with the consent of the Argentine government |
| However, the government may withhold its consent at its sole discretion |
| Argentina has a recent history of economic instability |
| Because the Company’s operations are exclusively located in Argentina, its operations and financial results have been, and could be in the future, adversely affected by economic, market, currency, and political instability in the country as well as measures taken by the government in response to such instability |
| Refer to the section “Argentine and Political Environment” on page 27 for a description of Argentina’s economic crisis of 2002 and the governments reaction to that crisis |
| Reference is also made to the discussion under the caption “Requirements to Offer Products in Domestic Market” on page 23 |
| Some of those actions had an adverse effect on the Company’s results |
| Argentina’s economic and political situation continues to evolve and the Argentine government may enact future regulations or policies that, when finalized and adopted, may materially impact, among other items, (i) the realized prices the Company receives for the commodities it produces and sells as a result of new taxes; (ii) the timing of repatriations of cash to the Cayman Islands; (iii) the Company’s asset valuations; and (iv) peso-denominated monetary assets and liabilities |
| Reference is made to Item 7A, “Quantitative and Qualitative Disclosures about Market Risk |
| ” Strikes, work stoppages, and protests could increase the Company’s operating costs, hinder operations, reduce cash flow, and delay growth projects |
| Strikes, work stoppages, and protests could arise from the delicate political and economic situation in Argentina and these actions could increase the Company’s operating costs, hinder operations, reduce cash flow, and delay growth projects |
| 14 _________________________________________________________________ [46]Table of Contents Price reduction formulas in agreements to sell crude oil to refiners reduce considerably the increases in the sale price net back to the Company as the price of crude oil increases |
| Consequently, recent sharp increases in oil prices have benefited oil producers outside of Argentina more than the Company |
| Since Argentina’s economic crisis of 2002, the Argentine government has maintained that, in order to prevent excessive levels of inflation, it would do what it could to shield the Argentine consumer from rising fuel prices |
| Therefore, in order to maintain stability in Argentine gasoline and diesel prices and avoid inflationary pressures on the economy, the Argentine government, through the implementation of an oil export tax that has been raised on multiple occasions, has encouraged producers and refiners to take actions needed to alleviate the impact of higher crude oil prices on Argentina’s economy |
| As a result, producers and refiners, including the Company and Petrolera, have enacted reduction factors in price formulas that reduce considerably the increase in the sale price net back to Argentine producers as the price of crude oil increases |
| Consequently, recent sharp increases in oil prices have benefited oil producers outside of Argentina more than the Company |
| Risks Related to Regulations that Affect the Company’s Business The cost and outcome of legal and administrative claims and proceedings against the Company and its subsidiaries could adversely affect the Company’s results and operations |
| The Company is party to certain proceedings based upon alleged violation of foreign currency regulations as described in Note 13 of Notes to Consolidated Financial Statements |
| The process is in the very early stages and it is anticipated by the Company that this matter will remain open for some time |
| Under the pertinent foreign exchange regulations, the central bank of Argentina may impose significant fines on the Company |
| The result of an adverse decision could adversely affect the Company |
| In addition, the cost and outcome of any future legal or administrative claims could adversely affect the Company |
| Changes in Argentine laws and regulations to which the Company is subject, including tax, environmental and employment laws, and regulations, could have a material affect on its operations and results |
| The Company is subject to numerous laws and regulations in Argentina, which, among others, include those related to taxation, environmental regulations, and employment |
| Regulation of certain aspects of the Company’s business that are currently unregulated in the future and changes in the laws or regulations could materially affect the Company’s results and operations |
| Risks Related to Accounting Standards Potential changes in accounting standards might cause the Company to revise its financial results and disclosure in the future, which might change the way analysts measure the Company’s business or financial performance |
| Accounting irregularities discovered in the past few years in various industries have forced regulators and legislators to take a renewed look at accounting practices, financial disclosures, companies’ relationships with their independent auditors, and retirement plan practices |
| Because it is still unclear what laws or regulations will ultimately develop, the Company cannot predict the ultimate impact of any future changes in accounting regulations or practices in general with respect to public companies or the energy industry or in its operations specifically |
| In addition, the Financial Accounting Standards Board or the SEC could enact new accounting standards that might impact how the Company is required to record revenues, expenses, assets, and liabilities |
| If the terms of the concessions in which the Company participates are extended, for an additional ten-year period, asset retirement obligations provided for by the Company under current concession terms could be greater than currently estimated |
| The Company estimates its asset retirement obligation based on the number of wells it expects to abandon through the end of the term of its concessions |
| If the Company is granted the ten year extension, the estimate of its asset retirement obligation will increase by the number of wells that have an expected productive life beyond 2016 but are expected to cease production during the ten year extension period |
| Risks Related to Employees Institutional knowledge residing with current employees might not be adequately preserved |
| 15 _________________________________________________________________ [47]Table of Contents Certain of the Company’s employees who have many years of service have extensive institutional knowledge |
| As these employees reach retirement age, the Company may not be able to replace them with employees of comparable knowledge and experience |
| Other qualified individuals could leave the Company or refuse its offers of employment if the Company’s recruiting and retention efforts are unsuccessful |
| The Company’s efforts at knowledge transfer could be inadequate |
| Risks Related to Weather, other Natural Phenomena, and Business Disruption The Company’s assets and operations can be affected by weather and other natural phenomena |
| The Company’s assets and operations can be adversely affected by hurricanes, earthquakes, tornadoes, and other natural phenomena and weather conditions including extreme temperatures, making it more difficult for the Company to realize the historic rates of return associated with these assets and operations |
| FORWARD-LOOKING STATEMENTS Certain matters discussed in this annual report, excluding historical information, include forward looking statements that discuss the Company’s expected future results based on current and pending business operations |
| The Company makes these forward-looking statements in reliance on the safe harbor protections provided under the Private Securities Litigation Reform Act of 1995 |
| All statements, other than statements of historical facts, included in this Form 10-K, which address activities, events or developments which we expect, believe or anticipate will or may occur in the future are forward-looking statements |
| Forward-looking statements can be identified by words such as “anticipates,” “believes,” “could,” “continues,” “estimates,” “expects,” “forecasts,” “might,” “planned,” “potential,” “projects,” “scheduled,” or similar expressions |
| These forward-looking statements include, among others, such things as: • amounts and nature of future capital expenditures; • expansion and growth of the Company’s business and operations; • business strategy; • estimates of proved gas and oil reserves; • reserve potential; • development drilling potential; and • oil and gas prices and demand for those products |
| These statements are based on certain assumptions and analysis made by us in light of experience and perception of historical trends, current conditions and expected future developments as well as other factors believed to be appropriate in the circumstances |
| Although the Company believes these forward-looking statements are based on reasonable assumptions, statements made regarding future results are subject to numerous assumptions, uncertainties, and risks that may cause future results to be materially different from the results stated or implied in this document |
| You should carefully consider the risk factors described in Items 1A “Risk Factors,“ in addition to other information in this annual report |
| Each of these factors could adversely affect the value of an investment in the Company’s securities |