Citadel Exploration, Inc.

As of September 30, 2019, management decided to impair all unproved oil and gas properties. This decision was driven by the fact that the Company is currently in default on its senior secured loan, and as such the lender through court order has appointed a third-party trustee to oversee operations at the Kern Bluff Oil Field. Without operational control, management felt it was prudent to impair these unproved leases as the Company will not be in the position to renew leases and or develop the leases in the near term. Consequently, the Company recognized an impairment loss of $1,172,034 for the nine months ended September 30, 2019.

During the nine months ending September 30, 2019, given the annual lease payments coupled with the Company being in default on its senior secured loan facility, the Company has decided to impair all remaining unproved properties. Consequently, the Company recognized an impairment loss of $1,172,034 of which $328,460 was recognized in the second quarter of 2019 and the remaining $843,574 was recognized during the three months ended September 30, 2019.

In March of 2018, the Company closed on a $3,000,000 senior secured credit facility. The facility bears 10% interest and has a one-year term. For every two dollars drawn on the facility, the investor receives one five-year warrant to purchase common stock at a price of $0.10. The Company has drawn down $2,350,000 on the facility and issued 1,175,000 warrants. The warrants were valued using the relative fair value and the amount recorded as a debt discount amortized over the life of the line of credit using effective interest method. The unamortized debt discount as of December 31, 2018 of $62,973 was fully amortized during the nine months ended September 30, 2019. Future drawdowns are at the discretion of the lender. The senior secured facility is secured by a deed of trust on the Kern Bluff Oil Field. Proceeds from the first draw where used to retire the previous bridge loan and accrued interest. Subsequent draws were used for general corporate purposes. The facility required the Company to achieve $1,000,000 in EBITDA as of December 31, 2018, which it did not attain. As such, the Company was in default of the facility’s covenants as of January 1, 2019 requiring the Company to pay a default interest rate of 15%. As of September 30, 2019, the Company was in default on its loan. At this time, the Company has not been able to refinance the loan and remains in default.  On September 11, 2019 a court in Kern County, granted the lender’s request to appoint a third-party trustee to oversee the operations at the Kern Bluff Oil Field. Consequently, August’s 2019 gross production revenue receipts were turned over to the third-party trustee on September 15, 2019 amounting to $16,097. As of September 30, 2019, the net receivable from the third-party trustee amounted to $10,624 which is included in the consolidated balance sheet under prepaid expenses and other current assets.

On September 11, 2019 the court in Kern County, at the request of our senior secured lender, appointed a third-party trustee to oversee operations at the Kern Bluff Oil Field. The Trustee receives all cash related to the Company’s revenue and is responsible for all expenses related to the field. The Company continues to pursue several options to raise capital and meet its obligations under its senior secured loan. Until that time, the Company does not have control over operations, the receipt of revenues, or the payment of expenses at the oil field.

Operating expenses totaled $1,075,566 during the three-month period ended September 30, 2019 which was an increase of $441,462 over the three-month period ended September 30, 2018. Operating expenses totaled $2,262,605 during the nine-month period ended September 30, 2019 which was an increase of $234,903 over the nine-period ended September 30, 2018. Operating expenses consisted of lease operating expense, general and administrative costs, amortization and depreciation, professional fees, executive compensation, and impairment expenses. The majority of the increase was due to impairment charges. The Company elected to impair all unproved oil and gas properties as a consequence of being in default of its senior secured loan and its inability to pay annual rentals for those undeveloped leases.