LNG

Business Context and Reporting Period

Company: Cheniere Energy, Inc.
Filing Type: Form 10-K (Annual Report)
Period Ended: December 31, 2002
Business Overview: Cheniere is a Houston-based independent energy company engaged in oil and gas exploration, development, and exploitation, primarily in the Gulf of Mexico. The Company is also developing a liquefied natural gas (LNG) receiving terminal business. Its strategy focuses on generating drilling prospects using 3D seismic data and selling interests to industry partners to fund operations, while simultaneously advancing LNG terminal projects in Texas and Louisiana.

Key Financial Metrics

Production Data (2002): Oil: 495 Bbls; Gas: 91,470 Mcf; Gas Equivalents: 94,441 Mcfe.
Proved Reserves (2002): 3,980 Bbls Oil; 1,333,000 Mcf Gas (1,356,880 Mcfe).
Investment in Affiliate: Cheniere's investment in Gryphon Exploration Company was reduced to zero during 2002 due to cumulative losses and preferred dividend arrearages.

Material Changes vs. Prior Period

• Revenue Decline: Revenues dropped 90% to $239,055 from $2.37 million in 2001. This was primarily due to the sale of Cheniere's producing wells at West Cameron Block 49 in April 2002 and a decrease in average gas prices ($2.58/Mcf in 2002 vs. $4.48/Mcf in 2001).
• Improved Net Loss: Net loss decreased by 52% to $5.63 million from $11.67 million in 2001. The improvement was driven by the absence of a $5.13 million ceiling test write-down recorded in 2001 and a gain of $340,257 on the sale of proved oil and gas properties.
• Production Costs: Production costs decreased 79% to $90,038, reflecting the cessation of direct production operations following the asset sale.
• Equity in Affiliate Loss: Cheniere recorded an equity loss of $2.18 million related to its unconsolidated affiliate, Gryphon Exploration Company. This included Gryphon's net loss and accrued preferred dividend arrearages of $5.84 million.
• Liquidity Position: The working capital deficit widened to $1.41 million from $530,000 in 2001, though a $750,000 note payable outstanding at year-end was canceled in March 2003 upon the sale of an interest in the Freeport LNG project.

Guidance, Outlook, and Risks

Management Commentary & Outlook:

• LNG Focus: Management expects to continue focusing on the development of LNG receiving terminals. The Freeport, Texas project was substantially completed in the design and planning phase, with a FERC filing anticipated in March 2003. Construction could commence as early as 2004 if financing and regulatory approvals are secured.
• Exploration Strategy: The Company plans to continue generating prospects via seismic data interpretation but will leverage industry partners to bear capital costs through farm-out arrangements rather than direct drilling.
• Capital Needs: Management anticipates needing substantial additional capital to fund LNG development (estimated at $3 million per year per terminal) and to exercise lease options. Sources may include equity offerings, debt, or sales of project interests.

Risks and Contingencies:

• Going Concern: The 2001 audit report raised substantial doubt about the Company's ability to continue as a going concern due to recurring losses and negative working capital. While management believes liquidity needs for the next 12 months can be met, future expansion depends on securing additional financing.
• Regulatory Approval: The LNG business is highly regulated. Failure to obtain necessary permits (e.g., from FERC) could render the project unviable and result in the loss of invested capital.
• Commodity Prices: Financial results are highly sensitive to oil and gas prices. Declines in prices could trigger future ceiling test write-downs and reduce the economic viability of reserves.
• Financing Risk: The Company has a history of relying on private placements. Failure to raise capital on acceptable terms could materially harm operations.

Investor Verification Checklist

• Financing Status: Verify the Company's ability to secure the estimated $3 million+ annual funding required for LNG terminal development and whether the $750,000 note payable cancellation in March 2003 has stabilized the balance sheet.
• LNG Regulatory Progress: Confirm the submission and status of the FERC filing for the Freeport LNG project, as this is a critical path item for the Company's primary growth strategy.
• Gryphon Ownership: Review the effective ownership percentage in Gryphon Exploration Company (9.3% on an as-converted basis) and the potential for further dilution if Cheniere declines future capital calls.
• Reserve Estimates: Scrutinize the proved reserve estimates (1.36 Bcfe) and the PV-10 value ($5.13 million) given the Company's minimal direct production and reliance on royalty interests.
• Accountant Change: Note the dismissal of PricewaterhouseCoopers LLP in October 2002 and the engagement of Mann Frankfort Stein & Lipp CPAs, L.L.P., and review the reasons for the change.