**U.S. SECURITIES AND EXCHANGE COMMISSION**

**Washington, D.C.  20549**

 

**FORM 10-KSB**

 

**For Annual and Transition Reportspursuant to Section 13 or 15(d) of theSecurities Exchange Act of 1934 (Mark One)**

 

| **ý** | **Annual Report pursuant to Section 13 or 15(d) of the Securities  Exchange Act of 1934** |
|------------|-------------------------------------------------------------------------------------------|

 

**For the fiscal year ended****December31, 2002**

 

| **o** | **Transition Report pursuant to Section 13 or 15(d) of the  Securities Exchange Act of 1934** |
|-------|-----------------------------------------------------------------------------------------------|

 

**Commission FileNumber:  333-60960**

 

**Transmeridian Exploration, Inc.**

(Exact name of Registrant as specified in itscharter)

 

| **Delaware**                                                                          |   | **76-0644935**                          |
|---------------------------------------------------------------------------------------|--------|-----------------------------------------|
| (State or other jurisdiction of incorporation)                                        |   | (I.R.S. Employer Identification Number) |
|                                                                                  |
| **397 N. Sam Houston Pkwy E, Suite 300  Houston, Texas**                              |   | **77060**                               |
| (Address of principal executive office)                                               |   | (Zip Code)                              |
|                                                                                  |
| Registrant’s telephone  number, including area code:  **(281) 999-9091**    |
|                                                                                  |
| Securities registered pursuant to Section 12(b)  of the Exchange Act:  **None.** |
|                                                                                  |
| Securities registered pursuant to Section 12(g)  of the Exchange Act:  **None.** |

 

Check whether theRegistrant (1) has filed all reports required to be filed by Section 13 or15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (orfor such shorter period that the Registrant was required to file such reports),and (2) has been subject to such filing requirements for the past 90days.             Yes  ý           No  o

 

Indicate by checkmark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-Kis not contained herein, and will not be contained, to the best of Registrant’sknowledge, in definitive proxy or information statements incorporated byreference in Part III of this Form 10-KSB or any amendment to this Form10-KSB.            ý

 

The Company, whichis in the development stage, had no revenues it its 2002 fiscal year.

 

The aggregatemarket value of the common stock held by non-affiliates of the Registrant wasapproximately $20,300,000 on May 14, 2003 based upon the closing sale price ofcommon stock on such date of $0.32 per share on the OTC Bulletin Board.  As of May 14, 2003, the Registrant had63,431,826 shares of common stock issued and outstanding.

 

**DOCUMENTSINCORPORATED BY REFERENCE:**

** **

**None.**

 

 

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**TABLE OFCONTENTS**

 
| **PART I**     |                                                                                  |
|----------------|---------------------------------------------------------------------------------------|
|           |                                                                                  |
| Item 1.        | Description of  Business                                                              |
|           |                                                                                  |
| Item 2.        | Description of  Properties                                                            |
|           |                                                                                  |
| Item 3.        | Legal Proceedings                                                                     |
|           |                                                                                  |
| Item  4.       | Submission  of Matters to a Vote of Security Holders                                  |
|           |                                                                                  |
| **PART II**    |                                                                                  |
|           |                                                                                  |
| Item  5.       | Market  for Registrant’s Common Equity and Related Stockholder Matters           |
|           |                                                                                  |
| Item  6.       | Management’s  Discussion and Analysis and Plan of Operations                     |
|           |                                                                                  |
| Item 7.        | Financial Statements                                                                  |
|           |                                                                                  |
| Item  8.       | Changes  in and Disagreements with Accountants on Accounting and Financial Disclosure |
|           |                                                                                  |
| **PART III**   |                                                                                  |
|           |                                                                                  |
| Item 9.        | Directors,  Executive Officers, Promoters and Control Persons                         |
|           |                                                                                  |
| Item 10.       | Executive Compensation                                                                |
|           |                                                                                  |
| Item  11.      | Security  Ownership of Certain Beneficial Owners and Management                       |
|           |                                                                                  |
| Item  12.      | Certain  Relationships and Related Transactions                                       |
|           |                                                                                  |
| Item 13.       | Exhibits and  Reports on Form 8-K                                                     |
|           |                                                                                  |
| Item 14.       | Controls and  Procedures                                                              |
|           |                                                                                  |
| **SIGNATURES** |                                                                                  |
|           |                                                                                  |
| Certifications |                                                                                  |

 

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**PART I**

 

**Item 1.  Description of Business**

 

TransmeridianExploration, Inc. (the “Company”) was incorporated in the State of Delaware inApril 2000.  We are engaged in thebusiness of development and production of oil and gas properties.  Our activities are primarily focused on theCaspian Sea region of the former Soviet Union and our principal property, theSouth Alibek Field (“South Alibek” or the “Field”), is located inKazakhstan.  We conduct our operationsin Kazakhstan through a wholly-owned subsidiary, Caspi Neft TME (“Caspi Neft”).  Caspi Neft is an Open Joint Stock Company(“OJSC”) organized under the laws of Kazakhstan.  We have also started a new venture to develop natural gasproperties in South Texas and the Gulf Coast regions of the U.S.

 

Our ChiefExecutive Officer, Mr. Lorrie T. Olivier, and our Vice President of Explorationand Geology, Mr. Bruce A. Falkenstein, both have extensive experience ininternational oil and gas operations, with a particular focus on the CaspianSea region.

 

Our businessstrategy is focused on the acquisition and development of oil and gasreserves.  We prefer to target oil andgas properties with proved or probable reserves and avoid significantexploration risk.  Through the contacts,technical knowledge and experience of our management team, we believe we cansuccessfully identify and acquire additional properties in Kazakhstan and theCaspian Sea region.  The execution ofour business strategy is largely dependent on the successful development of theSouth Alibek Field, which is intended to provide a base of production,operations and cash flow to exploit future opportunities.

 

**Offices and Employees**

 

Our corporateheadquarters office is in Houston, Texas, where we lease 6,725 square feet ofoffice space.  As of December 31, 2002,we had 5 full-time employees and 4 consultants in Houston.  We also maintain two offices in Kazakhstan,operated by Caspi Neft.  Caspi Neft’sadministrative offices are in Almaty, where it leases 6,400 square feet ofoffice space and has 29 full-time employees. Caspi Neft’s field operations are located in Aktobe and at the South AlibekField, where it has approximately 80 employees.

 

**Risk Factors**

 

***Limited Capital Resources and Liquidity***

 

Weare a development stage company and have not yet generated significantproduction or revenues from the development of our primary property in Kazakhstan.  We have accumulated significant operatinglosses and our current liabilities exceed our current assets by a substantialamount.  Further­more, the developmentof our primary asset, the South Alibek Field, will require substantialadditional funding before we can achieve significant production and revenuesfrom operations.  These factors raisesubstantial doubt about our ability to continue as a going concern.  Our plans regarding the operations andfinancing of the Company are discussed in Item 6, “Management’s Discussion andAnalysis and Plan of Operation” and Note 2 of the Notes to ConsolidatedFinancial Statements.  However, therecan be no assurance that we will be successful in executing these plans.

 

***Exploration and Development Risks***

 

Oursuccess is dependent on finding, developing and producing economic quantitiesof oil and gas.  We make use of the bestinformation available to us and employ current technologies and con­sultants toattempt to mitigate risks.  However,despite these efforts, our drilling operations may not be success­ful infinding economic reserves.  We are alsosubject to operating risks normally associated with the exploration,development and production of oil and gas. These risks include high pressure or irregularities in geologicalformations, blowouts, cratering, fires, shortages or delays in obtaining

 

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equipmentand qualified personnel, equipment failure or accidents, and adverse weatherconditions, such as winter snowstorms. These risks can result in catastrophic events, or they may result inhigher costs and operating delays.  Wedo not currently maintain insurance coverage to compensate for these risks assuch coverage is either not available or is not considered to becost-effective.

 

***Oil and Gas Reserve Risks***

 

Thereare numerous uncertainties inherent in estimating quantities of proved oil andgas reserves and projecting future rates of production and timing ofdevelopment expenditures.  Changes inprices and cost levels, as well as the timing of future development costs, maycause actual results to vary significantly from the data presented.  The oil and gas reserve data shown hereinrepresent estimates only and are not intended to be a forecast or fair marketvalue of our assets.  Our primaryproperty, the South Alibek Field, has one existing well which has provedreserves, but this well is not capable of production until further workoverprocedures are performed.  We arepresently drilling a second well in the Field which is located approximately900 meters from the existing well and which is outside the present boundariesof our proved reserves.  This well andsubsequent wells will delineate the extent and reserve potential of theField.  The economic success of theField is dependent on finding and developing sufficient reserves and rates ofproduction to generate positive cash flow and provide an economic rate ofreturn on our investments in the Field.

 

***Risks of International Operations***

 

Weare subject to risks inherent in international operations, including adversegovernmental actions, political risks, expropriation of assets, loss ofrevenues and the risk of civil unrest or war. Our primary oil and gas property is located in Kazakhstan, which until1990 was part of the Soviet Union. Kazakhstan retains many of the laws and customs from the former SovietUnion, but has developed and is continuing to develop its own legal, regulatoryand financial systems.  As the politicaland regulatory environment changes, we may face uncertainty about theinterpretation of our agreements and in the event of dispute, may have limitedrecourse within the legal and political system.

 

Ifwe are successful in establishing commercial production from the Field, anapplication will be made for an exploration and production contract.  The Company has the exclusive right tonegotiate this contract for the Field, and the government is required toconduct these negotiations under the Law of Petroleum.  Such contracts are customarily awarded upondetermination that the field is capable of commercial rates of production andthat the applicant has complied with the other terms of its license andexploration contract.  However, theCompany is not guaranteed the right to a production contract.  The terms of the exploration and productioncontract establish the royalty and other payments due to the government inconnection with commercial production. While we believe that we can successfully negotiate an exploration andproduction contract, we cannot be assured that we will be able to do so or thatthe terms of such contract will be favorable. If satisfactory terms cannot be negotiated, it could have a materialadverse effect on our financial position.

 

***Marketing and Oil Prices***

 

Ourfuture success is dependent on being able to transport and market ourproduction either within Kazakhstan or preferably through export tointernational markets.  Our presentagreements grant us the right to export oil and gas produced inKazakhstan.  The exportation of oil fromKazakhstan depends on access to transportation routes, primarily pipelinesystems, which can have limited available capacity and are subject to otherrestrictions.  We do not currently havetransportation contracts and there can be no assurance that sufficienttransportation will be available to us and on favorable terms.  There are currently no economic markets fornatural gas production and our gas reserves have been given no value in thefuture net cash flow data presented herein.

 

Ifwe are successful in establishing meaningful quantities of oil and gasproduction, the prices we receive for our oil production will have asignificant impact on our future financial position and results

 

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ofoperations.  Prices of oil and gas aresubject to significant volatility in response to changes in supply, marketuncertainty and a variety of other factors beyond our control.

 

***Environmental Risks***

 

Asan owner and operator of oil and gas properties, we are subject to variousfederal, state, local and foreign laws and regulations relating to discharge ofmaterials into, and protection of, the environment.  These laws and regulations may impose liability on us for the costof pollution cleanup resulting from operations and could subject us toliability for pollution damages.

 

***Transferability of Our Common Shares***

 

Ourstock has limited trading volume and is not listed on a national exchange.  Because our stock price is less than $5.00and is not listed on a national exchange, broker-dealers face additionalrestrictions on transactions in our stock. These restrictions are commonly referred to as “penny stock rules.”  They include the requirement to deliver topurchasers a standardized risk disclosure document prepared by the SEC, whichspecifies information about penny stocks and the risks involved with suchinvestments.  Additionally, these rulesrequire that broker-dealers make a written determination that the stock is a suitableinvestment for the purchaser and receive the purchaser’s written consent to thetransaction.  These factors couldadversely affect the liquidity, trading volume and trans­ferability of ourcommon shares.

 

***Control by Our Officers and Directors***

 

Inthe aggregate, our executive officers and directors control approximately 28%of the outstanding shares of our common stock. These stockholders, acting together, would be able to significantlyinfluence matters requiring stockholder approval.

 

***Key Personnel***

 

Oursuccess is dependent on the performance of our senior management and keytechnical per­sonnel.  The loss of ourChief Executive Officer or other key employees could have an adverse effect onour business.  We do not have employmentagreements in place with all of our senior management or key employees.

 

***Competition***

 

Theoil and gas industry is highly competitive, and our business could be harmed bycompetition with larger and better-financed companies.  We frequently compete for reserveacquisitions, exploration leases, licenses, concessions and marketingagreements against companies with financial and other resources substantiallygreater than ours.  Many of ourcompetitors have more established positions and stronger governmentalrelationships, which may make it more difficult for us to compete effectivelywith them.

 

**Item 2.  Description of Properties**

 

**Petroleum Industry in Kazakhstan**

 

Until 1990,Kazakhstan was one of 15 independent republics which comprised the formerSoviet Union.  It has chosen to alignwith Russia and 12 of the former republics in the Commonwealth of IndependentStates (“CIS”), a union of economic and political cooperation.  Kazakhstan is an area of significantinvestment activity for the international oil and gas industry.  Its proved reserves rank among the top 15 countriesin the world, with over 180 producing oil fields and 20 billion barrels ofproved reserves.  Its current productionis approximately 900,000 barrels of oil per day, of which approximately 2/3 isexported.

 

The entire formerSoviet Union region has recently seen significant foreign investments andstrategic

 

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alliances forexploration, acquisition and development of oil and gas reserves.  U.S. investments in Kazakhstan have exceeded$6 billion as of the end of 2002.  Themajority of this investment was focused in the petroleum industry andspecifically in the development of the Tengiz field, which has an estimated 6-9billion barrels of reserves, and Karachaganak, with an estimated 2.2 billionbarrels of reserves.  With Caspian Seadiscoveries now estimated to hold up to 30 billion barrels of reserves, foreigninvestment of as much as $140 billion may be required to develop infrastructurewithin Kazakhstan for production and distribution of these resources.

 

The oil industryin Kazakhstan has been codified with the development of the Law of Petroleumwhich sets out the conduct of the oil and gas industry and the roles ofparticipants, both private and governmental. The industry is regulated by the Ministry of Energy and NaturalResources, which administers all contracts, licenses and investmentprograms.  The national oil company hasbeen through several stages of consolidation since the country’s independencein 1991.  The government has beenmerging the various regional governmental companies previously handling theextraction and transportation sectors of the industry into one consolidatedentity to eliminate the bureaucracy and provide for a more efficient managementof the country’s natural resources. This entity maintains a direct ownership on behalf of the state in mostlarge oil field development projects as well as sole ownership and operation ofmany of the interconnecting oil and gas pipeline systems.   However, governmental ownership or participationin exploration and development projects is not required.

 

**Acquisition of the South AlibekField**

 

Transmeridian wasfounded in early 2000 by our CEO, Lorrie T. Olivier, and Peter L. Holstein withthe objective of identifying, acquiring and developing international oil andgas properties.  Although the search wasnot limited to the Caspian Sea region, most of the efforts of the founders werefocused in this area.  Mr. Olivierbelieved that this area held the greatest opportunity and was an area where hisknowledge, business contacts and experience could be applied to the bestadvantage.  Mr. Holstein resigned fromthe Company and the Board of Directors during 2002.

 

In May 1999, priorto the official formation of the Company, the founders signed a consultingagreement with Kornerstone Investment Group Ltd. (“Kornerstone”).  The controlling shareholder in Kornerstoneis a citizen of Kazakhstan who is involved in oil and gas production and otherbusiness endeavors.  He is also employedon a part-time basis as a consultant and manager of Caspi Neft.  Under this agreement, the founders engagedKornerstone to identify and assist in the acquisition of oil and gas propertiesin Kazakhstan and the Caspian Sea region. Since the founders had not received any significant funding for theCompany at that time, the agreement with Kornerstone provided that thecompensation would be in the form of a 10% carried working interest in theproperty.  The agreement requires us topay all costs of acquisition, development and operations attributable to the10% carried working interest.  We areentitled to recover all of our costs related to the carried interest from theproduction revenues attributable to this interest.  After these costs have been fully recovered, Kornerstone willparticipate as a 10% working interest owner in all development and operatingcosts incurred subsequent to that point.

 

In early 2000,Kornerstone identified an opportunity in Kazakhstan known as License 1557,which covered the South Alibek Field. The Alibekmola Field had been discovered in 1980 by a regionalexploration unit of the Ministry of Geology of the former Soviet Union.  The South Alibek field was discovered in aseparate fault block adjacent to the Alibekmola Field in 1993.  A total of 31 wells were drilled in theAlibekmola and South Alibek Fields to delineate the producing structures, twoof which are within the area covered by our License.  The discovery well for our field, the South Alibek No. 29, wasevaluated in 1996 and produced flowing oil during field testing.  After the breakup of the former SovietUnion, the successor to the Ministry of Geology did not have sufficient fundsto continue development of the Fields and the South Alibek Field was offered ina public tender in Kazakhstan’s privatization program.

 

The license andrelated exploration contract were initially acquired in the tender by asubsidiary of AIL Alpha Corporation, Ltd. (“Alpha”).  License 1557 was granted by the Republic of Kazakhstan on April29, 1999.  On March 24, 2000, we signeda Share Purchase Agreement with Alpha to acquire the subsidiary

 

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which held thetitle to License 1557.  The totalpurchase price was $4,000,000.  On March31, 2000, we sold an option to Tracer Petroleum Corporation (“Tracer”) topurchase up to 50% of our net interest in the field for consideration of$614,158.  These funds were used to meetour initial obligations under the Share Purchase Agreement with Alpha.  In the event that Tracer did not exercisethe option to acquire its 50% interest, the agreement provided that Tracerwould own 5% of our interest in the field, burdened by their share ofKornerstone’s carried working interest. Upon the expiration of the option in 2000, the Company recognized a gainof $414,146, based on the difference in the amount paid by Tracer and the costof the 5% interest.  Until December1999, Mr. Holstein was Chairman of the Board of Tracer.

 

On January 1,2001, we entered into an agreement with Tracer to exchange their 5% workinginterest in the South Alibek Field for 100,000 shares of convertible preferredstock and warrants to purchase 1,000,000 shares of our common stock for $1.00per share.  The preferred stock wasconverted according to its terms on February 27, 2002 into 1,500,000 shares ofcommon stock.  The warrants were notexercised and expired under their terms on January 1, 2003.

 

Of the balance of$3,385,842 due under the Share Purchase Agreement, $2,000,000 was paid during2000 from the proceeds of private placements of common stock.  On September 21, 2000, we negotiated anextension of our remaining payment obligations in exchange for a payment of$500,000.  We paid $385,842 in early2001 and signed a note for the final balance of $1,000,000, which was paid atmaturity on December 1, 2001.  This notewas repaid with the proceeds from bank borrowings.

 

**Overview of Regional Geology**

 

The South AlibekField is located in northwestern Kazakhstan within the prolific oil region ofAktobe.  It is in the Mugodzhar regionof the Aktubinsk Oblast, 75 miles south of the city of Aktobe.  South Alibek lies in a fairway of oil fieldsthat produce from carbonate reservoirs of Upper and Middle Carboniferous age.  The trend follows the carbonate shelf whichwas deposited in the shallow waters of an ancient sea in what are now themargins of the Pre-Caspian Basin. Prolific oil field trends are established in the southern and northernmargins of the basin, as well as in the south­eastern margins where the SouthAlibek Field is located.  The carbonatefields found along the margins of the Pre-Caspian Basin account forapproximately 70% of Kazakhstan’s oil reserves and production.  The fields in the trend are projected tocontain over 15 billion barrels of recoverable reserves, including thesuper-giant Tengiz field, which is estimated to hold 9 billion barrels ofrecoverable reserves.

 

South Alibek islocated within 10 miles of two large developed fields, Kenkiyak and Zhanazhol,which contain estimated recoverable reserves of 200 and 750 million barrels ofoil, respectively.  It is immediatelyadjacent to the producing Alibekmola Field, from which it is separated by alarge fault.  The South Alibek Field isabout 1,000 feet lower than the Alibekmola Field and has a lower oil watercontact and generally higher oil quality.

 

The Mugodzharregion provides good infrastructure for oil and gas development and production,including oil and gas pipelines, electrical transmission connections,all-weather roads, small towns and trained oilfield labor.  This improves our development logistics andlowers our costs compared to drilling in a more remote location.

 

**Field Geology**

 

The primary oilreservoirs in the South Alibek and Alibekmola Fields are in the MiddleCarboniferous (KT1) and Lower Carboniferous (KT-2) limestones, which are themain reservoirs for many of the fields throughout the Southeastern Shelf of thePre-Cambrian Basin.  The tops of theseformations are found at an initial depth of 6,500 feet and they have a combinedgross thickness of as much as 5,000 feet in the area.  The thickness of net productive intervals can be several hundredfeet.

 

We have conductedan extensive evaluation of the information available about the Field.  This information consists of log data from the31 wells drilled prior to privatization and recent vintage 2D seismicdata.  We have also obtained access torecent 3D seismic data which was acquired by the operator of the adjacent

 

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Alibekmola Field,but which also covers our Field.  Basedon the evaluation of this data, we believe that the KT-1 and KT-2 carbonatesmay be productive over most of the area covered by our License.  Results from the six wells that haverecently been drilled in the Alibekmola Field further support thisinterpretation.

 

**License and Exploration Contract**

 

License 1557 (the“License”) covering the South Alibek Field was granted by the Republic ofKazakhstan on April 29, 1999.  Weacquired the License in 2000 as discussed above.  When we acquired the License, it covered an area of 3396acres.  During 2001, our team oftechnical specialists performed a detailed evaluation of the South AlibekField.  This study demonstrated that theproductive limits of the producing structure were likely to be significantlylarger than the boundaries of the original License.  Based on this field study, we applied to the Kazakhstan Ministryof Energy and Mineral Resources to expand the area covered by the License.  On November 7, 2001, our application wasapproved and the License was increased to cover an area of 14,111 acres.

 

Our ExplorationContract (the “Contract”) has a six-year term expiring in April 2005 andrequires total capital expenditures during this period of approximately $18million.  As of December 31, 2002, thecumulative capital expenditures which are creditable to our obligations underthe Contract totaled approximately $10 million and we have remainingexpenditure commitments of approximately $8 million under the Contract.  The Contract may be extended by mutualagreement for two extension periods of two years each.  During the primary term, we can producewells under a test program and pay a royalty of 2%.  Any extension periods would need to be renegotiated with thegovernment and would require additional capital commitments and couldpotentially include a reduction in the License area.

 

If we aresuccessful in establishing commercial production from the Field, an applicationwill be made for an exploration and production contract.  We have the exclusive right to negotiatethis contract for the Field, and the government is required to conduct thesenegotiations under the Law of Petroleum. However, we are not guaranteed the right to a production contract.  Such contracts are customarily awarded upondetermination that the field is capable of commercial rates of production andthat the applicant has complied with the other terms of its license andexploration contract.  An explorationand production contract will typically require a bonus payment upon execution,the amount of which is subject to negotiation. If satisfactory terms cannot be negotiated, we have the right to produceand sell oil under the Law of Petroleum for the term of our existingExploration Contract through April 2005 at a royalty rate of 2%.  The royalty rate under production contractsis subject to negotiation and varies in accordance with estimated reserve andproduction volumes.  Based on forecastvolumes, our average royalty rate over the term of the production contract isexpected to be 10% or less.  TheExploration Contract contains a provision which will allow the government torecover, from future revenues, approximately $4.8 million of exploration costswhich were incurred prior to privatization. The production contract, when executed, will contain the final terms forrecovery of these costs.

 

There are twogeneral forms of production contracts in Kazakhstan, production sharingcontracts and tax and royalty based contracts. We favor a tax and royalty based contract and expect to operate underthis structure.  Under this financialarrangement, we will pay 100% of the development and operating costs and willbe entitled to receive 100% of the revenues from the Field.  In addition to an up-front bonus payment andrecovery of certain costs incurred prior to conveyance of the Field, thegovernment will be entitled to a royalty based on the revenues from the Fieldand corporate income taxes.  Asdiscussed above, we expect our average royalty rate to be 10% or less.  Corporate income taxes in Kazakhstan varyfrom 30% to 40%.  Additionally, there isa windfall profit tax on oil and gas production which can have the effect oflimiting the rate of return, as defined, from production activities.

 

The government mayalso require that 10% of our production be sold into domestic markets at localprices.  We would expect these prices tobe lower than prices which we would receive in the export market.  However, our transportation costs would belower as well.  Most of the smallerproducers in the region are not currently being required to sell into thedomestic market.

 

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**Proved Reserves**

 

Our proved oil andgas reserve quantities were prepared by Ryder Scott Company, indepen­dent petro­leumengineers.  There are numerousuncertainties in estimating quantities of proved reserves and projecting futurerates of production and the timing of development expenditures.  They are only estimates and actual reservesmay vary substantially from these estimates. All of our proved reserves are in Kazakhstan.  Our net quantities of proved developed and undeveloped reservesof crude oil and standardized measure of future net cash flows are reflected inthe table below.  See further informationabout the basis of presentation of these amounts in Note 14 of the Notes toConsolidated Financial Statements.

 

We are theoperator and own a 100% working interest in the South Alibek Field, subject toa 10% carried working interest after recovery of costs.  The effect of the carried interest isreflected in the calculation of our net proved reserves.  Our proved reserves have been prepared underthe assumption that we obtain a commercial production contract which will allowproduction for the expected 25-year term of the contract, as more fullydiscussed above in “License and Production Contract.”  We have estimated the government royalty at a conservative rateof 10%.  We have not reflected thepotential reduction in our net proved reserves which would result from theexercise of KSP’s option (defined below) to acquire a 50% interest in CaspiNeft, because this option is subject to substantial financial performancerequirements and has not been exercised as of December 31, 2002.  If the option is exercised, our net provedreserves would be proportionately reduced.

 

All of our currentproved reserves relate to Well #29 and the area immediately surroundingit.  The well we are currently drilling,the South Alibek #1, is outside the boundaries of our proved reserves.  We believe that the Field containssignificantly larger reserve potential than this initial estimate, but thesereserves are con­sidered only probable or possible at this time.  We must drill additional successful wellsbefore these reserves can be classified as proved under SEC guidelines.

 

**NetProved Crude Oil Reserves and Future Net Cash Flows**

**As ofDecember 31, 2002**

**(Quantitiesin Barrels)**

 

| Proved Developed Non-Producing                    |   | 5,695,613      |            |
|---------------------------------------------------|--------|----------------|-----------------|
| Proved Undeveloped                                |   | 11,415,128     |            |
| **Total Proved Reserves**                         |   | **17,110,741** | ** **      |
|                                              |   |           |            |
| **Standardized Measure of Future Net Cash Flows** |   | **$**          | **143,999,000** | ** ** |
|                                                   |        |                |                 |  |

 

In June 2002, theKazakhstan Ministry of Energy and Natural Resources certified “C1” reserves of15 million barrels for the South Alibek Field. C1 Reserves are approximately similar to proved reserves under SECguidelines.  The primary differencesbetween the Ministry’s C1 reserve estimates and the proved reserves estimatedby Ryder Scott Company relate to assumptions about the productive zones and thereserves they contain and assumptions about the size of the productive areawhich is considered proved.  We believethat the reserve estimates prepared by Ryder Scott Company are reasonable andbased on valid assumptions and are generally consistent with the C1 reserves.

 

**Bank Financing and KSP Option**

 

In February 2002,Caspi Neft obtained a credit facility with a Kazakhstan bank which provides forborrowings totaling $20.0 million through July 1, 2003.  A $1.5 million loan agreement with the bankin 2001 served as bridge financing and was repaid with proceeds from the creditfacility in February 2002.  As ofDecember 31, 2002, we had borrowings outstanding of approximately $14.3 millionand had approximately $0.8 million in outstanding letters of credit, whichreduce the amounts available for borrowings. Under the terms of the credit facility, the parent company,Transmeridian Exploration, Inc., is required to repay accrued interest andprincipal on the first $2,233,000 of borrowings in August 2003.

 

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The accruedinterest outstanding at February 2004 is payable by Caspi Neft at thattime.  The remaining principal balance,together with accrued interest, is payable in 12 monthly installments fromFebruary 2004 through January 2005.

 

In connection withthis financing, the Company granted an option to Kazstroiproekt (“KSP”) toacquire 50% of the common stock of Caspi Neft. To exercise this option, KSP must make a capital contribution to CaspiNeft of $15 million, which would be used to repay part of the Facility, andprovide an additional $30 million in financing to Caspi Neft at marketrates.  The option expires in February2004.

 

**Field Operations**

 

Subsequent to theacquisition of the South Alibek Field in 2000, we embarked on an early start-upprogram to begin production testing of Well #29, one of the wells drilled priorto our acquisition of the Field. Permits were obtained and the work began in February 2001.  The initial work program included remedialwork to repair mechanical problems and the evaluation of potentially productivezones which had been identified but not tested in the original drilling andtesting of the well in 1996.  DuringApril 2001, the well produced an average of 180 barrels of oil per day during a30-day test period from a small section of the formation which was open toproduction without any treatment or improvement in production mechanics.  The oil produced had a high gravity of 39degrees API with a low sulfur content of about 0.8%.  Cumulative test production of approximately 5,000 barrels wastransported by truck and sold at a net price of approximately $10 per barrel.

 

Remedial work onWell #29 continued during mid-2001 with the perforation of additionalproductive intervals and design of an improved downhole artificial liftsystem.   During workover operations, weexperienced a mechanical failure and lost a significant amount of equipmentdown the hole.  It will require a largerworkover rig than we had on location at the time to retrieve this equipment andcontinue with completion operations. Our current plans are to contract this larger workover equipment tocomplete and test the South Alibek #1 well and then move the rig to Well #29.

 

On October 8,2002, we began drilling operations on the South Alibek #1, the first well wehave drilled on the property.  Weoriginally anticipated that drilling of this well would commence by June orJuly.  However, we experienced delays gettingthe drilling rig ready for operations and drilling did not commence on schedule.  As of December 31, 2002, the well wasdrilling at approximately 5,000 feet toward an estimated total depth of 12,500feet.  This well is locatedapproximately 900 meters from Well #29 and is outside the boundaries of ourcurrent proved reserves.  This well isintended to expand the known productive area of our target formations and wouldthereby increase our proved reserves.

 

To facilitatedrilling and production operations, we have invested significant amounts infield infrastructure, including all-weather roads for heavy equipment, anelectrical power substation and power lines and water supply facilities.  We have also constructed a field camp, withliving quarters, warehouse and vehicle repair facilities, small medical clinicand extensive winter protection for our drilling equipment and personnel.

 

We have beendeveloping production and crude oil transportation facilities on a paralleltrack with our drilling program to assure the earliest possible commercialsales of production.  We contracted witha Canadian firm for the construction of a central oil processing station forthe Field, which is part of an estimated $3.8 million project for productionfacilities.  We will be required toprocess our crude to remove mercaptans, an impurity in the crude oil, before itwill be accepted into the pipelines.

 

**Drilling Rig**

 

On December 28,2001, we purchased a land drilling rig for $5,300,000 in total consideration,including a note payable for $3,300,000 and $2,000,000 in redeemable commonstock.  The rig was acquired fordrilling operations in the South Alibek Field. The rig is a diesel and electric powered National 1320UE, with 2,000horsepower motors.  It has a depthrating of approximately 20,000 feet and has a 320 ton rating on the drawworks.  At the time of the purchase, therig was in storage in South America. During

 

10

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2002, we moved therig by marine transport vessel to Kazakhstan and undertook variousrefurbishments and modifications to the rig to make it suitable for use in ouroperations.  We entered into a contractwith a firm experienced with international drilling to conduct the operation ofthe rig and provide expatriate drilling personnel.  The rig began drilling on the South Alibek #1 well on October 8,2002.

 

**Transportation and Marketing**

 

Companies in thearea of the South Alibek Field utilize both the KazTrans Oil and RussianTransneft pipeline system to transport crude oil to regional hub exportlocations such as Samara, Ukraine and the Port of Odessa on the Black Sea andEuropean locations such as Poland, Hungry, Lithuania, Germany and Finland.  Pipeline capacity in the area hassignificantly improved with the opening of the Caspian Pipeline Consortium(“CPC”) pipeline, raising capacity from 250,000 barrels oil per day (“bopd”) toan expected 800,000 bopd.  Two oilpipelines currently service the nearby producing fields, Kenkiyak andZhanazhol, with capacities of 50,000 bopd and 93,000 bopd, respectively.  One of the pipelines is operating at lessthan full capacity.  These pipelinestransport oil to the Bestamak rail terminal and the oil refinery in Orsk, whichis a transfer point for swaps to Western markets.  The Alibekmola Field, adjacent to South Alibek, has beguncommercial production, and KazTrans Oil is constructing a pipeline across ourlicense area to connect Alibekmola production to its pipeline at the KenkiyakField.  We will have access to thispipeline, subject to capacity limitations.

 

In the future, wemay also be able to access the CPC pipeline by rail or through a planned280-mile pipeline from Kenkiyak to Atyrau to be constructed by KazTransOil.  The capacity of this pipelinewould be about 300,000 bopd and would provide an alternative routing for ourproduction.  Our current plans do notrely on entry in the CPC system for its export and sales routes but thisfacility provides a feasible alternative. All economic estimates assume the utilization of trucking, pipeline andrail facilities located within 35 miles of the field.

 

Prior tocompletion of pipeline facilities, our production will be transported by truckfor sale into the local market or for rail shipments to export markets,depending on pricing available at the time. During 2002, we advanced $338,730 to Emba Trans Ltd. which was used toacquire the Emba Terminal.  The EmbaTerminal is a facility for storing and loading crude oil for shipment byrail.  It is located approximately 35 milesfrom the Field.  The terminal has notbeen operational for several years and will require an estimated $1.5 millionin capital expenditures to make it suitable for our use.  We may also use the terminal to ship crudeoil for third parties if we do not require all of the capacity.  Of the advances, approximately $60,000 wasused to fund an engineering study, which included the development of plans forbringing the terminal into operational status. The Emba Terminal is intended primarily for use as an interim solutionto sell our production prior to the completion of pipeline and processingfacilities.  However, it will also serveas an alternative transportation outlet if our pipeline capacity isconstrained.  As of December 31, 2002,ownership of Emba Trans Ltd. had not been legally transferred to the Company,but we are working to complete the transfer of title.  We expect to own 100% of the legal title to the entity, of which75% is expected to be held by Caspi Neft.

 

**U.S. Activities**

 

During 2002, weacquired leasehold interests in two prospective natural gas properties inDewitt County, Texas for an acquisition cost of $33,484.  In order to reduce our capital requirementsand investment risk, we sold a 33.3% working interest at our cost to one of ourshareholders.  The properties areburdened by a 12.5% carried working interest and have a net revenue interest ofapproximately 77%.  These two propertiesare located within the Belitz Field in South Texas and cover a total area ofapproximately 200 acres.  Each of theproperties contains an existing non-producing well.  We plan to re-enter these two wells and attempt completion in ourtarget zones of the lower and upper Wilcox. The Belitz field was discovered in the 1960’s and has produced 34billion cubic feet of gas from several horizons of the Wilcox formation.  There have been 17 productive wells drilledin the Belitz field.  Our estimated netcosts for re-entry and completion of the two wells is approximately$500,000.  We are currently ready toproceed with the project and are attempting to secure funding at this time.

 

11

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We believe thereare compelling economics for the development of U.S. natural gas properties asa result of favorable gas prices.  Thisstrategy is expected to provide diversification of our asset base and build asource of cash flow to fund our U.S. operations and overhead.  We see additional opportunities to acquireand develop U.S. natural gas properties, which are dependent on theavailability of funds for investment.

 

**Item 3.  LegalProceedings**

 

On March 5, 2003,Private Capital Group LLC (“Plaintiff”) filed suit in U.S. District Court,Southern District of New York, against the Company, its Chief Executive Officerand the Company’s stock transfer agent (“Defendants”).  The suit alleges that the Defendants breachedtheir contractual obligations to the Plaintiff in connection with its $200,000investment in convertible debentures of the Company on August 5, 2002.  The Plaintiff asserts that the Company is indefault under the Registration Rights Agreement and other agreements associatedwith this investment.  The Plaintiffseeks damages estimated to be in excess of $500,000 and injunctive relief.  The Company believes that it is not indefault under the Registration Rights Agreement and has meritorious defenses inthis matter.  Additionally, the Companyhas countersued on the grounds of tortious interference with contract inconnection with a Registration Statement which the Company was forced towithdraw by the Plaintiff.  The Companyintends to vigorously contest this matter.

 

On February 6,2003, an attorney for the former Chief Financial Officer of the Company sent ademand letter asserting claims relating to his separation from service from theCompany and threatening further legal action. Attempts to settle this matter have been unsuccessful.  As of May 9, 2003, no suit had been filed inthis matter.

 

**Item 4.  Submission of Matters to a Vote of SecurityHolders**

 

There were nomatters submitted to a vote of security holders during our fiscal fourthquarter ended December 31, 2002.

 

**PART II**

 

**Item 5.  Market for Registrant’s Common Equity andRelated Stockholder Matters**

 

**Common Stock**

 

Our common stock,par value $0.0006 per share, began trading publicly on February 26, 2002 and istraded on the OTC Bulletin Board under the symbol “TMXN”.  There are 200,000,000 shares authorized byour Amended and Restated Certificate of Incorporation.  As of December 31, 2002, we had 60,147,129shares issued and outstanding, including 1,000,000 shares subject to mandatoryredemption, which were held by an estimated 350 beneficial owners.  The following table presents the high andlow sales prices for our common shares, as reported by the OTC Bulletin Board:

 

|                                             |   | **High** |   | **Low** |   |
|--------------------------------------------------|--------|----------|--------|---------|--------|
| Fourth quarter ended December 31, 2002           |   | $        | 0.37   |    | $      | 0.11 |   |
| Third quarter ended September 30, 2002           |   | $        | 0.52   |    | $      | 0.15 |   |
| Second quarter ended June 30, 2002               |   | $        | 0.76   |    | $      | 0.20 |   |
| Period from February 26, 2002 to March 31,  2002 |   | $        | 2.20   |    | $      | 1.20 |   |

 

**Preferred Stock**

 

We are authorizedby our Amended and Restated Certificate of Incorporation to issue up to5,000,000 shares of preferred stock.  Asof December 31, 2002, we had 3,000 shares of preferred stock outstanding.  These shares have a par value of $0.0006 pershare, but carry a preference value of $100 per share.  Dividends are cumulative at the rate of12.5% per year on the preference value. See Note 8 of the Notes to Consolidated Financial Statements for furtherdiscussion of preferred stock.  As ofDecember 31, 2002, we had accumulated and unpaid dividends totaling $37,520 onthe preferred stock.

 

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**Dividend Policy on Common Stock**

 

We have never paid cash dividends on our common stock.  We intend to retain future earnings, if any,to meet our working capital requirements and to finance the future operationsof our business.  Therefore, we do notplan to declare or pay cash dividends to the holders of our common stock in theforeseeable future.

 

**Recent Issuance of UnregisteredSecurities**

 

On February 8,2002, we sold 100 shares of common stock to an individual for cash proceeds of$200.

 

On March 13, 2002,we issued 1,500,000 shares of common stock upon the conversion of alloutstanding shares of Series A convertible preferred stock to common stockpursuant to the original terms.

 

On April 5, 2002,we issued 4,000,000 shares of common stock as compensation for investmentadvisory services to be performed over a two year period ending in February2004.

 

On April 8, 2002,we issued 4,000,000 shares of common stock to retire the remaining $200,000obligation to a consulting firm which assisted in arranging our $20 millioncredit facility.  At our option, thisamount was payable either in cash or 4,000,000 shares of common stock.

 

On April 12, 2002,the Board of Directors awarded 100,000 shares to a consultant as a bonus forhis services in increasing the area covered by the License 1557 from 3,396acres to 14,111 acres.

 

On August 5, 2002,the Company issued $200,000 in convertible debentures and warrants to purchase200,000 shares of common stock at $0.42 per share.  The convertible debentures are convertible into common stock at aconversion price equal to 85% of the average of the three lowest closing bidprices of the Company’s common stock during the previous twenty trading days.

 

On September 30,2002, we sold 500,000 shares of common stock to an individual for cash proceedsof $100,000.

 

Additionally,during 2002, two of our founders and major shareholders contributed 6,700,000shares of their personal common stock back to the Company.  These shares were subsequently retired.

 

The foregoingissuances of common stock were made in reliance upon the exemption fromregistration set forth in Section 4(2) of the Securities Act of 1933 fortransactions not involving a public offering. No underwriters were engaged in connection with the foregoing issuancesof securities.  The sales were madewithout general solicitation or advertising. Each purchaser was an “accredited investor” or a sophisticated investorwith access to all relevant information necessary to evaluate the investmentwho represented to the Company that the sales were being acquired forinvestment.

 

**Equity Compensation Plans**

 

On October 11,2001, our stockholders approved a plan under which we can grant options to purchasecommon shares to our officers, directors, employees and consultants.  We are authorized to issue a maximum of5,000,000 shares under the plan.  As ofDecember 31, 2002, no stock options had been granted under the plan.  From time to time, we have also used commonstock to compensate employees and consultants for services provided.  The common stock issued for services duringthe year ended December 31, 2002 are listed in the above section entitled“Recent Issuance of Unregistered Securities”.

 

**Item 6.  Management’s Discussion and Analysis andPlan of Operations**

 

TransmeridianExploration, Inc. (the “Company”) was incorporated in the State of Delaware inApril 2000.  We are a development stagecompany organized to acquire and develop oil and gas properties.  Our primary oil and gas property is License1557 and the related Exploration Contract for the development of the SouthAlibek Field (the “Field”) in Kazakhstan. The primary emphasis since our formation in 2000 has been theexploration and development of the Field. Our operations in the Republic of Kazakhstan are conducted through awholly owned subsidiary, Caspi Neft TME (“Caspi Neft”).

 

13

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***SEE DISCUSSION OF RISK FACTORS IN ITEM 1 OF THIS ANNUAL REPORTON FORM 10-KSB.***

 

**Critical Accounting Policies**

 

We have identifiedthe policies below as critical to our business operations and the understandingof our financial statements.  The impactof these policies and associated risks are discussed throughout Management’sDiscussion and Analysis and Plan of Operations where such policies affect ourreported and expected financial results. A complete discussion of our accounting policies in included in Note 1of the Notes to Consolidated Financial Statements.

 

***Development Stage and Going Concern***

 

Weare a development stage company and have not yet commenced our primaryrevenue-generating activities, which are the production and sales of oil andgas.  Our ability to realize thecarrying value of its assets is dependent on being able to produce and sell oilfrom the South Alibek Field.  Ourfinancial statements have been presented on the basis that we are a goingconcern, which contemplates the realization of assets and satisfaction ofliabilities in the normal course of business. We have accumulated losses totaling $6.4 million and have incurred asignificant amount of debt in the development phase of our operations.  To fully develop the Field and achievepositive cash flow, we will require substantial additional funding.  The consolidated financial statements do notinclude any adjustments relating to the recoverability and classification ofrecorded asset amounts or amounts and classification of liabilities which mightbe necessary should the Company be unable to continue in existence.

 

***Principles of Consolidation***

 

Ourconsolidated financial statements include all of our consolidated subsidiaries.Our most significant wholly-owned subsidiary is Caspi Neft, which holds License1557 and the related Exploration Contract for the South Alibek Field.  Except for the drilling rig, which is ownedby the parent company, the assets and results of operations of Caspi Neftrepresent substantially all of our consolidated assets and operations.  In February 2002, we granted Kazstroiproekt,Ltd. (“KSP”) a two-year option to acquire a 50% equity interest in Caspi Neft,the subsidiary which holds our interest in the South Alibek Field.  KSP must meet certain financial commitmentsto exercise its option, including paying $15 million of Caspi Neft’s bank debtand arranging an additional $30 million in bank financing for Caspi Neft.  KSP has until February 2004 to exercise itsoption. If KSP exercises its option, we may no longer be eligible to fullyconsolidate Caspi Neft, which would materially affect our financialstatements.  The resulting accountingtreatment would be dependent on the degree of management control we retain overCaspi Neft and other factors related to the economic substance of ourarrangement with KSP.  Additionally, ournet interest in the oil and gas reserves of the Field would be proportionallyreduced to reflect the new ownership structure.

 

***Oil and Gas Reserve Information***

 

Theinformation regarding our oil and gas reserves, the changes thereto and theestimated future net cash flows are dependent upon engineering, price and otherassumptions used in preparing our annual reserve study.  A qualified independent petroleum engineerwas engaged to prepare the estimates of our oil and gas reserves in accordancewith applicable engineering standards and in accordance with Securities andExchange Commission guidelines. However, there are numerous uncertainties inherent in estimatingquantities of proved reserves and in projecting future rates of production andthe timing of development expenditures. Changes in prices and cost levels, as well as the timing of futuredevelopment costs, may cause actual results to vary significantly from the datapresented.  Our oil and gas reserve datarepresent estimates only and are not intended to be a forecast or fair marketvalue of our assets.

 

14

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Ouroil and gas reserve data and estimated future net cash flows have been preparedassuming we are successful in negotiating a commercial production contractwhich will allow production for the expected 25-year term of the contract.  A conservative rate of 10% has been used tocalculate the government royalty.  Productioncontracts are customarily awarded upon determination that the field is capableof commercial rates of production and that the applicant has complied with theother terms of its license and exploration contract.  However, we are not guaranteed the right to a productioncontract.  If we were not successful innegotiating a production contract on acceptable terms, it would materiallychange our oil and gas reserve data and estimated future net cash flows.

 

***Successful Efforts Method of Accounting***

 

Wefollow the successful efforts method of accounting for our investments in oiland gas properties, as more fully described in Note 1 of the Notes toConsolidated Financial Statements.  Thisaccounting method has a pervasive effect on our reported financial position andresults of operations.  The well that wewere drilling at December 31, 2002, the South Alibek #1, is classified asexploratory under SEC and GAAP requirements, as it is outside the boundaries ofour current proved reserves.  Under thesuccessful efforts method of accounting, the costs of this well have initiallybeen capitalized pending the determination of whether the well increases provedreserves.  If it were not successful inadding proved reserves, these drilling costs would be charged to expense.

 

***Capitalized Interest Costs***

 

Wecapitalize interest costs on oil and gas projects under development, includingthe costs of unproved leasehold and property acquisition costs, wells inprogress and related facilities.  Wealso capitalized interest on our drilling rig during the time it was beingprepared for its intended use.  Duringthe year ended December 31, 2002, we capitalized $1,286,000 of interest costs,which reduced our reported net interest expense to $338,000.  Because most of our emphasis in 2002 hasbeen on the exploration and development of our Kazakhstan property, theresulting interest capitalized was significant.  This capitalized interest becomes part of the capitalized costsof our properties which will be amortized as a part of depreciation, depletionand amortization or charged to expense if the results of our drilling shouldprove unsuccessful.

 

**Review of Operations and CapitalTransactions**

 

Our two primarysources of funding have been private placements of common stock and borrowingsunder our $20 million credit facility with a Kazakhstan bank.  Through December 31, 2002, we have receiveda total of $6.4 million in net cash proceeds from sales of common stock.  We have also issued approximately 9.4million shares, valued at $1.5 million, in exchange for services provided.  Our cumulative proceeds from all borrowings,net of repayments, have amounted to $13.6 million since inception.  These proceeds have been used to fund thepurchase of the South Alibek Field, at an initial acquisition cost of $4.0million, and to fund expenditures for remedial work on South Alibek Well #29,drilling of the South Alibek #1 and costs of support and productionfacilities.  Our cumulative capitalizedcosts attributable to the South Alibek Field as of December 31, 2002 were $18.1million, including $1.1 million of capitalized interest.

 

In February 2002,we secured a $20 million credit facility to fund operations in the South AlibekField.  As of December 31, 2002, we hadborrowings of $14.3 million outstanding under the facility and had $0.8 millionof letters of credit outstanding.  Theavailable capacity under this Facility was fully utilized as of April 2003through additional borrowings.  Aportion of this facility, approximately $2.2 million, is due in August 2003,with the remaining principal balance payable in 12 monthly installmentsbeginning in February 2004.

 

We have investedapproximately $33,000 to acquire two U.S. properties, which are prospective fornatural gas.  These projects are readyfor drilling operations, pending availability of funds.

 

15

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We purchased adrilling rig in December 2001 for $5.3 million and spent an additional $0.5million on refurbishments and modifications to make it suitable for use in ouroperations in the South Alibek Field. We also capitalized interest of $0.2 million during the time the rig wasbeing prepared for use.  The acquisitioncost of the rig was financed with a $3.3 million note payable and $2.0 millionin common stock subject to mandatory redemption.  The rig has been drilling the South Alibek #1 since October 2002.

 

Our operating andadministrative costs during the period from inception through December 31,2002, have totaled $5.1 million. Interest expense, net of amounts capitalized totaled $1.3 million.  These are the primary components of ourcumulative loss attributable to common shareholders of $6.4 million.  Revenues from test production of oil havebeen relatively insignificant.  We areconsidered a development stage company until we establish commercial productionand revenues.

 

**Plan of Operations**

 

Our primarynear-term objective is to generate sufficient commercial production from theSouth Alibek Field to fund ongoing development and operating costs of the Fieldand allow us to service our debt in accordance with its terms.  Our current field development plans includean initial program of seven wells to identify the productive limits of thefield, including the South Alibek #1, which is currently drilling.  These wells are expected to costapproximately $3.5 million each to drill, or $21 million in total.  To accelerate this development plan, we planto contract for a second drilling rig. This will be dependent on securing our additional financing fordevelopment of the Field.  Ultimately,the first phase of field develop­ment may require as many as 44 wells.  In addition, we expect to incurapproximately $5-6 million for production facilities over the next 12-18 months

 

Our longer-termstrategic plan is to acquire and exploit other mid-sized fields in the CaspianSea Region.  We consider this anexcellent area for oil and gas development and we are actively evaluating newopportunities to build our reserve base in the area.

 

**Outlook for 2003**

 

***Credit Facility and Exercise of Option by KSP***

 

InFebruary 2002, we obtained $20.0 million in debt financing from a bank inKazakhstan.  As of December 31, 2002,the Company had borrowings of approximately $14.3 million and letters of creditof $0.8 million outstanding under this facility, resulting in approximately$4.9 million in available borrowing capacity. The available capacity under this facility was fully utilized duringApril 2003 through additional borrowings. KSP has indicated that it intends to exercise its option to purchase 50%of Caspi Neft in exchange for a $15 million equity contribution (to be appliedtoward the out­standing debt of Caspi Neft) and the arrangement of $30 millionin additional debt financing at market rates. The Company and KSP are negotiating the commercial terms of thisfinancing with our current bank.  InApril 2003, the bank extended $1.5 million in interim financing pendingcompletion of the larger facility.  Weare very encouraged by this interim financing and have a reasonable expectationthat KSP has the ability and intent to arrange the full $30 millionfacility.  However, completion of thisprocess is outside our control

 

***Continued Development of South Alibek Field***

 

Weare dependent on significant additional funding to continue development of theSouth Alibek Field.  Our near-term goalis to develop sufficient revenues from production to fund continuing capitalexpenditures and debt service requirements. The amount of capital needed is dependent on many factors outside ourcontrol, including the costs and results of drilling operations, the ability tofind and develop sufficient reserves and rates of production, the ability toeffectively bring its future crude oil production to market and the level offuture world oil prices.  Managementbelieves that $30 million of additional financing should be sufficient to bringthe Field to positive cash flow from operations and provide for the servicingof the Company’s debts.  The most likelysource of this $30 million is the additional financing that KSP is required toprovide in order to exercise its option to acquire 50% of

 

16

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CaspiNeft.  However, we are continuing toexplore other options to obtain this funding. We believe that we will be able to secure the necessary funding tocontinue development of the Field, but many of the factors required to executeour plans are outside our control.

 

***U.S. Operations and Funding of Overhead***

 

Wehave limited options to fund our U.S. overhead costs on a continuingbasis.  Current expenditures for U.S.personnel, occupancy and administrative costs total between $100,000 and$110,000 per month.  Proceeds fromborrowings in Kazakhstan are not available to the U.S. parent company to fundits U.S. operations, nor is it able to charge an overhead recovery ormanagement fee.  The U.S. parent companyowns the drilling rig used by Caspi Neft for operations in the South AlibekField and receives net cash flow from Caspi Neft of approximately $18,000 permonth after debt service attributable to the rig.  During 2002, we realized proceeds of approximately $100,000 fromthe private placement of common stock and proceeds of approximately $200,000from the issuance of convertible debentures. Additionally, certain shareholders and related parties loaned us$248,025.  We have taken steps to limitor reduce our U.S. overhead costs and believe that we will be able to continueto secure funding for these costs from the sale of common stock or additionalborrowings until we achieve positive cash flow from operations and such cashflow becomes available to fund our U.S. operations.

 

**Forward Looking Information**

 

In addition to thehistorical information contained herein, the discussion in this Form 10-KSBincludes forward-looking statements within the meaning of the Section 27A ofthe Securities Act of 1933, as amended and Section 21E of the SecuritiesExchange Act of 1934, as amended.  Theseinclude statements as to our beliefs, plans and expectations about our futureoperational and financial performance, and may include statements regarding ourperceived business opportunities.  Thesestatements are subject to numerous risk factors and uncertainties, includingthose described in this filing on Form 10-KSB. Although the Company believes the assumptions underlying theforward-looking statements contained herein are reasonable, there can be noassurance that such plans and expectations will be realized and actual resultsmay differ materially from those in the forward-looking statements.

 

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**Item 7.  Financial Statements**

 

**INDEX TOCONSOLIDATED FINANCIAL STATEMENTS**

 
| Report  of Independent Certified Public Accountants                                                                                              |
|--------------------------------------------------------------------------------------------------------------------------------------------------|
|                                                                                                                                             |
| Consolidated Balance Sheets  as of December 31, 2002 and 2001                                                                                    |
|                                                                                                                                             |
| Consolidated  Statements of Operations for the Years Ended December 31, 2002 and 2001 With  Cumulative Total from Inception to December 31, 2002 |
|                                                                                                                                             |
| Consolidated  Statements of Stockholders’ Equity for the Years Ended December 31, 2002 and  2001                                            |
|                                                                                                                                             |
| Consolidated  Statements of Cash Flows for the Years Ended December 31, 2002 and 2001 With  Cumulative Total from Inception to December 31, 2002 |
|                                                                                                                                             |
| Notes to Consolidated  Financial Statements                                                                                                      |

 

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**Report of Independent Certified Public Accountants**

 

 

Board of Directors

TransmeridianExploration, Inc. and Subsidiaries

 

We have auditedthe accompanying consolidated balance sheets of Transmeridian Exploration, Inc.and Subsidiaries (a development stage company) as of December 31, 2002 and2001, and the related consolidated statements of operations, stockholders’equity and cash flows for the years then ended and for the period frominception to December 31, 2002.  Thesefinancial statements are the responsibility of the Company’s management.  Our responsibility is to express an opinionon these financial statements based on our audits.

 

We conducted ouraudits in accordance with auditing standards generally accepted in the UnitedStates of America.  Those standardsrequire that we plan and perform the audit to obtain reasonable assurance aboutwhether the financial statements are free of material misstatement.  An audit includes examining, on a testbasis, evidence supporting the amounts and disclosures in the financialstatements.  An audit also includesassessing the accounting principles used and significant estimates made by management,as well as evaluating the overall financial statement presentation.  We believe that our audits provide areasonable basis for our opinion.

 

In our opinion,the financial statements referred to above present fairly, in all materialrespects, the consolidated financial position of Transmeridian Exploration Inc.and Subsidiaries at December 31, 2002 and 2001 and the consolidated results oftheir operations and cash flows for the years then ended and for the periodfrom inception to December 31, 2002, in conformity with accounting principlesgenerally accepted in the United States of America.

 

The accompanyingconsolidated financial statements have been prepared assuming that the Companywill continue as a going concern.  Asshown in the financial statements, the Company has incurred cumulative netlosses totaling $6,194,000 through December 31, 2002, and, as of that date, theCompany’s current liabilities exceeded its current assets by $5,823,000.  These factors, among others, including theCompany’s ability to develop its proved reserves, as discussed in Note 2 to theconsolidated financial statements, raise substantial doubt about the Company’sability to continue as a going concern. Management’s plans in regard to thesematters are also described in Note 2. The financial statements do not include any adjustments that mightresult from the outcome of this uncertainty.

 

 
| /s/                                 | John  A. Braden & Company, P.C. |   |
|-------------------------------------|-------------------------------------|--------|
| John  A. Braden & Company, P.C. |
|                                |
| Houston,  Texas                     |
| May 5,  2003                   |

 

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Transmeridian Exploration, Inc. and Subsidiaries

(A Development Stage Company)

ConsolidatedBalance Sheets

As of December 31, 2002 and 2001

 
|                                                                     |   | **2002**   |       | **2001**   |   |
|--------------------------------------------------------------------------|--------|------------|------------|------------|--------|
| **ASSETS**                                                               |   |       |       |       |   |
| Current assets:                                                          |   |       |       |       |   |
| Cash and cash equivalents                                                |   | $          | 624,807    |       | $      | 107,276 |   |
| Receivables                                                              |   | 5,527      |       | 270,112    |   |
| Prepaid expenses                                                         |   | 183,391    |       | —     |   |
| Total current assets                                                     |   | 813,725    |       | 377,388    |   |
|                                                                     |   |       |       |       |   |
| Property and equipment:                                                  |   |       |       |       |   |
| Oil and gas properties, successful efforts  method                       |   | 18,167,880 |       | 7,765,565  |   |
| Drilling rig and equipment                                               |   | 6,040,818  |       | 5,300,000  |   |
| Transportation equipment                                                 |   | 222,844    |       | 8,321      |   |
| Office and technology equipment                                          |   | 170,847    |       | 42,403     |   |
| Total property and equipment                                             |   | 24,602,389 |       | 13,116,289 |   |
| Less accumulated depreciation                                            |   | 205,790    |       | 10,430     |   |
| Net property and equipment                                               |   | 24,396,599 |       | 13,105,859 |   |
|                                                                     |   |       |       |       |   |
| Other assets                                                             |   | 1,061,090  |       | 400,000    |   |
| Total assets                                                             |   | $          | 26,271,414 |       | $      | 13,883,247 |   |
|                                                                     |   |       |       |       |   |
| **LIABILITIES AND STOCKHOLDERS’  EQUITY**                           |   |       |       |       |   |
|                                                                     |   |       |       |       |   |
| Current liabilities:                                                     |   |       |       |       |   |
| Accounts payable and accrued liabilities                                 |   | $          | 1,419,004  |       | $      | 1,021,739 |   |
| Current maturities of long-term debt                                     |   | 3,842,992  |       | 1,431,204  |   |
| Interest payable                                                         |   | 1,127,106  |       | 22,726     |   |
| Notes payable to related parties                                         |   | 248,025    |       | —     |   |
| Total current liabilities                                                |   | 6,637,127  |       | 2,475,669  |   |
|                                                                     |   |       |       |       |   |
| Long-term debt, net of current maturities                                |   | 13,752,304 |       | 3,368,796  |   |
| Redeemable common stock                                                  |   | 2,000,000  |       | 2,000,000  |   |
|                                                                     |   |       |       |       |   |
| Stockholders’ equity:                                               |   |       |       |       |   |
| Preferred stock, 5,000,000 shares  authorized                            |   | 2          |       | 62         |   |
| Common stock, $0.0006 par value per share,200,000,000  shares authorized |   | 35,488     |       | 33,448     |   |
| Additional paid-in capital                                               |   | 10,201,625 |       | 9,051,981  |   |
| Deficit accumulated during development  stage                            |   | (6,355,132 | )          | (3,046,709 | )      |
| Total stockholders’ equity                                          |   | 3,881,983  |       | 6,038,782  |   |
| Total liabilities and stockholders’ equity                          |   | $          | 26,271,414 |       | $      | 13,883,247 |   |

 

The accompanyingnotes are an integral part of these statements.

 

20

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Transmeridian Exploration, Inc. and Subsidiaries

(A Development Stage Company)

Consolidated Statements of Operations

For the years ended December 31, 2002 and 2001

 
|                                           |   | **For the years ended  December 31,** |       | **Cumulative  Total from  Inception to December 31,** |   |
|------------------------------------------------|--------|---------------------------------------|------------|-------------------------------------------------------|--------|
|                                           |   | **2002**                              |       | **2001**                                              |   | **2002** |   |
|                                           |   |                                  |       |                                                  |   |   |   |
| Oil revenues                                   |   | $                                     | —     |                                                  | $      | 51,289 |   | $ | 51,289 |   |
|                                           |   |                                  |       |                                                  |   |   |   |
| Operating and administrative expenses          |   | 2,936,603                             |       | 1,975,534                                             |   | 5,099,277 |   |
|                                           |   |                                  |       |                                                  |   |   |   |
| Operating loss                                 |   | (2,936,603                            | )          | (1,924,245                                            | )      | (5,047,988 | ) |
|                                           |   |                                  |       |                                                  |   |   |   |
| Other income (expense):                        |   |                                  |       |                                                  |   |   |   |
| Gain on sale of working interest               |   | —                                |       | —                                                |   | 414,146 |   |
| Interest income                                |   | 3,929                                 |       | —                                                |   | 3,929 |   |
| Start-up costs                                 |   | —                                |       | —                                                |   | (246,484 | ) |
| Interest expense, net of capitalized  interest |   | (338,229                              | )          | (188,645                                              | )      | (1,317,944 | ) |
| Total other income (expense)                   |   | (334,300                              | )          | (188,645                                              | )      | (1,146,353 | ) |
|                                           |   |                                  |       |                                                  |   |   |   |
| Net loss                                       |   | (3,270,903                            | )          | (2,112,890                                            | )      | (6,194,341 | ) |
|                                           |   |                                  |       |                                                  |   |   |   |
| Preferred dividends                            |   | (37,520                               | )          | (123,271                                              | )      | (160,791 | ) |
|                                           |   |                                  |       |                                                  |   |   |   |
| Net loss attributable to common  stockholders  |   | $                                     | (3,308,423 | )                                                     | $      | (2,236,161 | ) | $ | (6,355,132 | ) |
|                                           |   |                                  |       |                                                  |   |   |   |
| Basic and diluted loss per share               |   | $                                     | (0.06      | )                                                     | $      | (0.04 | ) |   |   |
|                                           |   |                                  |       |                                                  |   |   |   |
| Weighted average common shares outstanding     |   | 58,142,461                            |       | 59,621,255                                            |   |   |   |

 

The accompanyingnotes are an integral part of these statements.

 

21

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Transmeridian Exploration, Inc. and Subsidiaries

(A Development Stage Company)

Consolidated Statements of Stockholders’ Equity

For the years ended December 31, 2002 and 2001

 
|                                                            |   | **Preferred  shares** |       | **Preferred  stock** |   | **Common  shares  (in 000’s)** |       | **Common  stock** |   | **Additional  paid-in  capital** |       | **Accumulated  deficit** |           | **Treasury  stock** |   | **Total**      |   |
|-----------------------------------------------------------------|--------|-----------------------|------------|----------------------|--------|-------------------------------------|------------|-------------------|--------|----------------------------------|------------|--------------------------|----------------|---------------------|--------|----------------|--------|
|                                                            |   |                  |       |                 |   |                                |       |              |   |                             |       |                     |           |                |   |           |   |
| **Balances  at December 31, 2000**                              |   | **3,000**             | ** ** | **$**                | **2**  | ** **                          | **57,797** | ** **        | **$**  | **34,678**                       | ** ** | **$**                    | **4,172,329**  | ** **          | **$**  | **(810,548**   | **)**  | **$** | **—** | ** ** | **$** | **3,396,461** | ** ** |
|                                                            |   |                  |       |                 |   |                                |       |              |   |                             |       |                     |           |                |   |           |   |
| Proceeds from the sale of common stock, net of offering costs   |   | —                |       | —               |   | 2,824                               |       | 1,694             |   | 1,633,319                        |       | —                   |           | —              |   | 1,635,013      |   |
| Preferred stock exchanged for working interest                  |   | 100,000               |       | 60                   |   | —                              |       | —            |   | 1,499,940                        |       | —                   |           | —              |   | 1,500,000      |   |
| Common stock issued for services                                |   | —                |       | —               |   | 126                                 |       | 76                |   | 153,424                          |       | —                   |           | —              |   | 153,500        |   |
| Purchase of treasury stock                                      |   | —                |       | —               |   | —                              |       | —            |   | —                           |       | —                   |           | (1,320              | )      | (1,320         | )      |
| Proceeds from the sale of treasury stock, net of offering costs |   | —                |       | —               |   | —                              |       | —            |   | 1,540,000                        |       | —                   |           | 1,320               |   | 1,541,320      |   |
| Beneficial conversion feature on convertible preferred stock    |   | —                |       | —               |   | —                              |       | —            |   | 52,969                           |       | (52,969                  | )              | —              |   | —         |   |
| Accrued dividends on convertible preferred stock                |   | —                |       | —               |   | —                              |       | —            |   | —                           |       | (70,302                  | )              | —              |   | (70,302        | )      |
| Retirement of common stock                                      |   | —                |       | —               |   | (5,000                              | )          | (3,000            | )      | —                           |       | —                   |           | —              |   | (3,000         | )      |
| Net loss                                                        |   | —                |       | —               |   | —                              |       | —            |   | —                           |       | (2,112,890               | )              | —              |   | (2,112,890     | )      |
|                                                            |   |                  |       |                 |   |                                |       |              |   |                             |       |                     |           |                |   |           |   |
| **Balances  at December 31, 2001**                              |   | **103,000**           | ** ** | **$**                | **62** | ** **                          | **55,747** | ** **        | **$**  | **33,448**                       | ** ** | **$**                    | **9,051,981**  | ** **          | **$**  | **(3,046,709** | **)**  | **$** | **—** | ** ** | **$** | **6,038,782** | ** ** |
|                                                            |   |                  |       |                 |   |                                |       |              |   |                             |       |                     |           |                |   |           |   |
| Conversion of preferred stock                                   |   | (100,000              | )          | (60                  | )      | 1,500                               |       | 900               |   | (840                             | )          | —                   |           | —              |   | —         |   |
| Common stock issued for services                                |   | —                |       | —               |   | 4,100                               |       | 2,460             |   | 767,540                          |       | —                   |           | —              |   | 770,000        |   |
| Proceeds from the sale of common stock, net of offering costs   |   | —                |       | —               |   | 500                                 |       | 300               |   | 99,900                           |       | —                   |           | —              |   | 100,200        |   |
| Common stock used to retire deferred financing obligation       |   | —                |       | —               |   | 4,000                               |       | 2,400             |   | 197,600                          |       | —                   |           | —              |   | 200,000        |   |
| Beneficial conversion feature on convertible debentures         |   | —                |       | —               |   | —                              |       | —            |   | 35,924                           |       | —                   |           | —              |   | 35,924         |   |
| Issuance of warrants in connection with convertible debentures  |   | —                |       | —               |   | —                              |       | —            |   | 20,000                           |       | —                   |           | —              |   | 20,000         |   |
| Capital contributed by stockholder                              |   | —                |       | —               |   | —                              |       | —            |   | 25,500                           |       | —                   |           | —              |   | 25,500         |   |
| Accrued dividends on convertible preferred stock                |   | —                |       | —               |   | —                              |       | —            |   | —                           |       | (37,520                  | )              | —              |   | (37,520        | )      |
| Retirement of common stock                                      |   | —                |       | —               |   | (6,700                              | )          | (4,020            | )      | 4,020                            |       | —                   |           | —              |   | —         |   |
| Net loss                                                        |   | —                |       | —               |   | —                              |       | —            |   | —                           |       | (3,270,903               | )              | —              |   | (3,270,903     | )      |
|                                                            |   |                  |       |                 |   |                                |       |              |   |                             |       |                     |           |                |   |           |   |
| **Balances  at December 31, 2002**                              |   | **3,000**             | ** ** | **$**                | **2**  | ** **                          | **59,147** | ** **        | **$**  | **35,488**                       | ** ** | **$**                    | **10,201,625** | ** **          | **$**  | **(6,355,132** | **)**  | **$** | **—** | ** ** | **$** | **3,881,983** | ** ** |

 

The accompanying notes are anintegral part of these statements.

 

22

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Transmeridian Exploration, Inc. and Subsidiaries

(A Development Stage Company)

ConsolidatedStatements of Cash Flows

For the years ended December 31, 2002 and 2001

 
|                                                                        |   | **For the years ended  December 31,** |       | **Cumulative  Total from  Inception to  December 31,** |   |
|-----------------------------------------------------------------------------|--------|---------------------------------------|------------|--------------------------------------------------------|--------|
|                                                                        |   | **2002**                              |       | **2001**                                               |   | **2002** |   |
|                                                                        |   |                                  |       |                                                   |   |   |   |
| **Cash flows from operating activities:**                                   |   |                                  |       |                                                   |   |   |   |
| Net loss                                                                    |   | $                                     | (3,270,903 | )                                                      | $      | (2,112,890 | ) | $ | (6,194,341 | ) |
| Adjustments to reconcile net loss to net  cashused in operating activities: |   |                                  |       |                                                   |   |   |   |
| Depreciation and amortization                                               |   | 51,859                                |       | 9,481                                                  |   | 62,290 |   |
| Amortization of debt financing costs                                        |   | 126,390                               |       | —                                                 |   | 126,390 |   |
| Amortization of prepaid contracts                                           |   | 306,250                               |       | —                                                 |   | 306,250 |   |
| Stock issued for services                                                   |   | 35,000                                |       | 153,500                                                |   | 734,900 |   |
| Imputed interest expense                                                    |   | 35,924                                |       | —                                                 |   | 35,924 |   |
| Gain on sale of working interest                                            |   | —                                |       | —                                                 |   | (414,146 | ) |
| Decrease (increase) in receivables                                          |   | 9,753                                 |       | (270,112                                               | )      | (260,359 | ) |
| Increase in prepaid expenses                                                |   | (157,891                              | )          | —                                                 |   | (207,451 | ) |
| Increase in accounts payableand accrued  liabilities                        |   | 807,321                               |       | 339,724                                                |   | 1,378,484 |   |
| Net cash used in operating activities                                       |   | (2,056,297                            | )          | (1,880,297                                             | )      | (4,432,059 | ) |
|                                                                        |   |                                  |       |                                                   |   |   |   |
| **Cash flows from investing activities:**                                   |   |                                  |       |                                                   |   |   |   |
| Capital expenditures                                                        |   | (11,486,100                           | )          | (1,813,713                                             | )      | (16,566,988 | ) |
| Non-cash portion of capital expenditures                                    |   | 1,127,106                             |       | —                                                 |   | 1,127,106 |   |
| Depreciation of support equipment                                           |   | 143,501                               |       | —                                                 |   | 143,501 |   |
| Advances to Emba Trans Ltd.                                                 |   | (83,898                               | )          | —                                                 |   | (83,898 | ) |
| Proceeds from the sale of working interest                                  |   | —                                |       | —                                                 |   | 614,146 |   |
| Net cash used in investing activities                                       |   | (10,299,391                           | )          | (1,813,713                                             | )      | (14,766,133 | ) |
|                                                                        |   |                                  |       |                                                   |   |   |   |
| **Cash flows from financing activities:**                                   |   |                                  |       |                                                   |   |   |   |
| Proceeds from long-term debt                                                |   | 14,672,759                            |       | 1,710,103                                              |   | 16,883,020 |   |
| Repayments of long-term debt                                                |   | (1,877,463                            | )          | (210,103                                               | )      | (2,087,566 | ) |
| Increase in notes payable to related  parties                               |   | 248,025                               |       | —                                                 |   | 248,025 |   |
| Payment of deferred financing costs                                         |   | (200,000                              | )          | —                                                 |   | (200,000 | ) |
| Payment of dividends on preferred stock                                     |   | (70,302                               | )          | —                                                 |   | (70,302 | ) |
| Purchase of treasury stock                                                  |   | —                                |       | (1,320                                                 | )      | (1,320 | ) |
| Proceeds from sale of treasury stock, net                                   |   | —                                |       | 1,541,320                                              |   | 1,541,320 |   |
| Proceeds from sale of common stock, net                                     |   | 100,200                               |       | 1,635,013                                              |   | 4,895,664 |   |
| Repayment of amounts due to third parties                                   |   | —                                |       | (1,385,842                                             | )      | (1,385,842 | ) |
| Net cash provided by financing activities                                   |   | 12,873,219                            |       | 3,289,171                                              |   | 19,822,999 |   |
|                                                                        |   |                                  |       |                                                   |   |   |   |
| Net increase (decrease) in cash and cash  equivalents                       |   | 517,531                               |       | (404,839                                               | )      | 624,807 |   |
|                                                                        |   |                                  |       |                                                   |   |   |   |
| Cash and cash equivalents, beginning of  period                             |   | 107,276                               |       | 512,115                                                |   | — |   |
|                                                                        |   |                                  |       |                                                   |   |   |   |
| Cash and cash equivalents, end of period                                    |   | $                                     | 624,807    |                                                   | $      | 107,276 |   | $ | 624,807 |   |

 

The accompanyingnotes are an integral part of these statements.

 

23

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Transmeridian Exploration, Inc. and Subsidiaries

(A Development Stage Company)

Consolidated Statements of Cash Flows –Supplemental Information

For the years ended December 31, 2002 and 2001

 
|                                                                      |   | **For the years ended  December 31,** |    | **Cumulative  Total from  Inception to  December 31,** |   |
|---------------------------------------------------------------------------|--------|---------------------------------------|---------|--------------------------------------------------------|--------|
|                                                                      |   | **2002**                              |    | **2001**                                               |   | **2002** |   |
|                                                                      |   |                                  |    |                                                   |   |   |   |
| **Amounts paid for:**                                                     |   |                                  |    |                                                   |   |   |   |
| Interest                                                                  |   | $                                     | 393,452 |                                                   | $      | 174,534 |   | $ | 1,359,055 |   |
| Interest capitalized (non-cash)                                           |   | (1,285,994                            | )       | —                                                 |   | (1,285,994 | ) |
| Income taxes                                                              |   | —                                |    | —                                                 |   | — |   |
|                                                                      |   |                                  |    |                                                   |   |   |   |
| **Non-cash transactions:**                                                |   |                                  |    |                                                   |   |   |   |
| Common stock issued for services                                          |   | $                                     | 770,000 |                                                   | $      | 153,500 |   | $ | 1,469,900 |   |
| Issuance of common stock to settle  deferred financing obligation         |   | 200,000                               |    | —                                                 |   | 200,000 |   |
| Accrued and unpaid dividends on  convertible preferred stock              |   | 37,520                                |    | 70,302                                                 |   | 37,520 |   |
| Capital contribution by stockholder for  investor relations services      |   | 25,500                                |    | —                                                 |   | 25,500 |   |
| Issuance of warrants in connection with  convertible debentures           |   | 20,000                                |    | —                                                 |   | 20,000 |   |
| Retirement of common stock                                                |   | 4,020                                 |    | 3,000                                                  |   | 7,020 |   |
| Exchange of convertible preferred stock  for common stock                 |   | 60                                    |    | —                                                 |   | 60 |   |
| Acquisition of drilling rig for debt and redeemable  common stock         |   | —                                |    | 5,300,000                                              |   | 5,300,000 |   |
| Issuance of convertible preferred stock in  exchange for working interest |   | —                                |    | 1,500,000                                              |   | 1,500,000 |   |
| Deferred financing costs incurred but notpaid  in cash                    |   | —                                |    | 400,000                                                |   | 200,000 |   |
| Acquisition of oil and gas properties for  debt                           |   | —                                |    | —                                                 |   | 1,385,842 |   |
| Conversion of debt to preferred stock                                     |   | —                                |    | —                                                 |   | 300,158 |   |
| Conversion of debt to common stock                                        |   | —                                |    | —                                                 |   | 200,000 |   |

 

The accompanyingnotes are an integral part of these financial statements.

 

24

----

 

Transmeridian Exploration, Inc. and Subsidiaries

(A Development Stage Company)

Notes to Consolidated Financial Statements

December 31, 2002

 

**Note 1 – Organization and Summaryof Significant Accounting Policies**

 

TransmeridianExploration, Inc. (the “Company”) was incorporated in the State of Delaware inApril 2000.  The Company’s primaryoperations are conducted in the Republic of Kazakhstan, through its whollyowned subsidiary, Caspi Neft TME (“Caspi Neft”), which is a KazakhstanSubsidiary Open Joint Stock Company.

 

**RiskFactors**

 

The Company is a developmentstage entity organized to acquire and develop oil and gas properties.  Its primary asset is License 1557 and therelated Exploration Contract for the development the South Alibek Field (the“Field”) in Kazakhstan.  The Company’sprimary emphasis since its formation in 2000 has been the exploration anddevelopment of the Field.  In 2002, theCompany made an initial investment in the U.S. with the purchase of two undevelopednatural gas properties in Dewitt County, Texas.

 

The Company’s operationsoutside the U.S. are subject to various risks inherent in foreignoperations.  These risks may includeloss of revenue, property or commercial rights as a result of government actionor other hazards, such as war or civil unrest. The Company’s business is also subject to all the operating risksnormally associated with the exploration and development of oil and gasproperties.

 

**Principles of Consolidation**

 

The consolidatedfinancial statements include the accounts of Transmeridian Exploration, Inc.and its wholly-owned subsidiaries.  Allsignificant intercompany transactions and balances have been eliminated.

 

In connection withthe development financing for the Field, the Company granted a two-year optionto Kazstroiproekt (“KSP”), an Open Joint Stock Company domiciled in Kazakhstan,under which KSP has the right to acquire a 50% interest in Caspi Neft upon thesatisfaction of certain additional financial require­ments, as more fullydescribed in Note 3.  This optionexpires in February 2004.  The Companyhas fully consolidated the operations of its 100% owned Caspi Neft subsidiary.  At such time as KSP exercises its option,the Company may no longer be eligible to fully consolidate Caspi Neft.

 

**Use of Estimates**

 

To preparefinancial statements in conformity with U.S. generally accepted accountingprinciples, manage­ment is required to make estimates and assumptions thataffect the reported amounts of assets and liabilities, the disclosure ofcontingent assets and liabilities at the date of the financial statements andthe reported amounts of revenues and expenses during the reporting period.  Actual results may differ materially fromthose estimates.

 

**Cash and Cash Equivalents**

 

The Companyconsiders all highly liquid instruments with an original maturity of threemonths or less to be cash equivalents. Certain of the Company’s cash balances are maintained in foreign bankswhich are not covered by deposit insurance. The cash balances in theCompany’s U.S. accounts may exceed federally insured limits.

 

**Property and Equipment**

 

The Company follows the“successful efforts” method of accounting for its costs of acquisition,exploration and development of oil and gas properties.

 

25

----

 

Oil and gas lease acquisition costs are capitalizedwhen incurred.  Unproved properties withsignificant acquisition costs are assessed quarterly on a property-by-propertybasis, and any impairment in value is recognized.  Unproved properties with acquisition costs which are notindividually significant are aggre­gated, and the portion of such costsestimated to be nonproductive, based on historical experience, is amortizedover the average holding period.  If theunproved properties are determined to be productive, the appropriate relatedcosts are transferred to proved oil and gas properties.  Lease rentals are expensed as incurred.

 

Oil and gas exploration costs, other than the costsof drilling exploratory wells, are charged to expense as incurred.  Such costs include seismic expenditures andother geological and geophysical costs. The costs of drilling exploratory wells are capitalized pendingdetermination of whether they have discovered proved commercial reserves.  If proved commercial reserves are notdiscovered, exploratory drilling costs are expensed.  Costs to develop proved reserves are capitalized, including thecosts of all development wells and related equipment used in the production ofcrude oil and natural gas.

 

Depreciation, depletion and amortization of thecosts of proved oil and gas properties is computed using the unit-of-productionmethod based upon estimated proved reserves. Estimated future dismantlement, restoration and abandonment costs, netof salvage values, are included in the calculation of costs to beamortized.  Under Statement of FinancialAccounting Standards (“SFAS”) No. 143, “Accounting for Asset RetirementObligations”, which the Company is required to implement effective January 1,2003, the discounted present value of future dismantlement, restoration andabandonment costs will be recognized as a liability on the balance sheet withthe offsetting entry recorded as part of the cost of the asset.  The accretion of the discounted liabilitywill be recognized as an operating expense. Based on the operations completed as of December 31, 2002, the estimatedfuture dismantlement, restoration and abandonment costs related to the SouthAlibek Field are not significant and there will not be any cumulative effect onthe financial statements from the implementation of SFAS No. 143.

 

Periodically, or when circumstances indicate thatan asset may be impaired, the Company compares expected undiscounted futurecash flows at a producing field level to the unamortized capitalized cost ofthe asset.  If the future undiscountedcash flows, based on the Company’s estimates of anticipated production fromproved reserves and future crude oil and natural gas prices and operatingcosts, are lower than the unamortized capitalized cost, the capitalized cost isreduced to fair value.  Fair value iscalculated by discounting the future cash flows at an appropriate risk-adjusteddiscount rate.

 

In December 2001, the Company purchased a drillingrig for use in the development of the South Alibek Field.  The rig was placed in service in October2002 and is being depreciated on the straight-line method over an estimateduseful life of 10 years.  Depreciationof the rig, as well as depreciation of other support equipment used inexploration and development activities, is capitalized under the successfulefforts method as part of the cost of oil and gas properties.

 

Transportation equipment and office and technologyequipment are depreciated on a straight-line basis over the estimated usefullives of the assets, which range from three to five years.

 

Maintenance and repairs are charged to expense asincurred.  Replacements and expenditureswhich improve or extend the life of assets are capitalized.  When assets are sold, retired or otherwisedisposed of, the applicable costs and accumulated depreciation and amortizationare removed from the accounts, and the resulting gain or loss is recognized.

 

**CapitalizedInterest Costs**

 

Certain interest costs havebeen capitalized as a part of the cost of unproved oil and gas properties,including property acquisition costs, wells in progress and relatedfacilities.  Additionally, interest wascapitalized on the drilling rig while it was being readied for its intendeduse.  Total interest costs

 

26

----

 

capitalized during the yearended December 31, 2002 totaled $1,286,000. No amounts were capitalized prior to December 31, 2002.

 

**IncomeTaxes**

 

The Company accounts for income taxes using theasset and liability method.  The assetand liability method requires the recognition of deferred tax assets andliabilities for the expected future tax consequences of (i) temporarydifferences between financial statement carrying amounts of assets andliabilities and the basis of these assets and liabilities for tax purposes and(ii) operating loss and tax credit carryforwards for tax purposes.  Deferred tax assets are reduced by avaluation allowance when management concludes that it is more likely than notthat a portion of the deferred tax assets will not be realized in a futureperiod.

 

**Start-upCosts**

 

Start-up costs, including organizational expenses,are expensed as incurred.

 

**DebtFinancing Costs**

 

In April 2001, the Company entered into an agreementto pay a business and financial consulting firm $400,000 for assistance inobtaining $20 million in financing for the development of the South AlibekField.  The consultant was successful inarranging the financing package, which closed in February 2002.  Under the terms of the agreement, one halfof the debt placement fee was to be paid in cash.  The balance of $200,000 could be retired with the issuance of4,000,000 shares of common stock or paid in cash at the Company’s option.  The Company paid one half of the obligationin cash in 2002 and elected to retire the balance with the issuance of commonstock.  The deferred debt financingcosts are being amortized over the three year term of the financing.

 

In August 2002, in connection with the issuance of$200,000 in convertible debentures, the Company issued 200,000 warrants at$0.42 per share to the lender.  Thesewarrants were valued at $20,000 using the Black-Scholes model and are beingamortized as deferred financing costs over the two year term of the convertibledebentures.

 

**Loss perCommon Share**

 

Basic net loss per common share is calculated bydividing the net loss attributable to common stockholders by the weightedaverage number of common shares outstanding during the period.  Diluted net loss per common share iscomputed based upon the weighted average number of common shares outstandingplus the common shares which would be issuable upon the conversion or exerciseof all potentially dilutive securities. Diluted net loss per share equals basic net loss per share for theperiods presented because the effects of potentially dilutive securities areantidilutive.

 

Net loss attributable to common stockholders iscalculated as the net loss after deductions for cumulative preferred stockdividends, whether paid or accrued.

 

**RevenueRecognition**

 

Revenues from the sale of crude oil and natural gasare recorded when production is delivered. Additionally, any natural gas revenues will be recorded using the salesmethod.  Under this method, revenues arerecognized based on actual volumes of gas sold to purchasers.  The volumes of gas sold may differ from thevolumes to which the Company is entitled based on its interests in theproperties.  These differences createimbalances which are recognized as a liability only when the estimatedremaining reserves will not be sufficient to enable the underproduced owner torecoup its entitled share

 

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through production.  No receivables are recorded for those wells where the Company hastaken less than its entitled share of production.  Gas imbalances are reflected as adjustments to proved gasreserves and future cash flows in the supplemental oil and gas disclosures.  As of December 31, 2002, the Company hassold only minimal test production from the South Alibek Field.

 

**ForeignExchange Transactions**

 

The Company’s functionalcurrency is the U.S. dollar.  Thefinancial statements of the Company’s foreign subsidiaries are measured in U.S.dollars.  Accordingly, transaction costsfor the conversion to various currencies for foreign operations are recognizedin the consolidated statements of operations at the time of each transaction.

 

**Stock-BasedCompensation**

 

The Company intends to account for employeestock-based compensation using the fair value method as prescribed in SFAS No.123.  Under this method, the Companywill record the fair value attributable to stock options granted, based on theBlack-Scholes model, and will amortize that amount to expense over the serviceperiod required to vest the options.

 

**FinancialInstruments**

 

The Company’s financial instruments consist of cashand cash equivalents, accounts receivable, accounts payable and long-termdebt.  The carrying values of cash andcash equivalents, receivables and accounts payable approximate fair value.  See Note 6 for discussion of long-term debt.

 

**Reclassificationsand Adjustments**

 

Certain prior period amounts have been reclassifiedto conform to the presentation in the consolidated financial statements as ofDecember 31, 2002.  The Company madecertain adjustments to its financial statements during the fourth quarter of2002 which affected the other interim periods of 2002.  These adjustments, which include changes toour accounting policies regarding carried working interests and drilling rigoperations and adjustments for capitalization of interest on unproved oil andgas properties, depreciation of drilling equipment, amortization of deferredfinancing costs and others are discussed in Current Reports on Form 8-K datedFebruary 20, 2003 and May 16, 2003.

 

**Note 2 –Going Concern**

 

The Company is a development stage company and hasnot yet commenced its primary revenue-generating operations, which are theproduction and sales of oil and gas. The ability of the Company to realize the carrying value of its assetsis dependent on being able to produce and sell oil from the South AlibekField.  The Company’s primary emphasissince inception has been the exploration and development of the Field, and theCompany has invested approximately $18.1 million through December 31,2002.  This amount includes the initialcosts of acquiring the Field, workover and drilling costs, and the costs ofsupport equipment.  The Field has oneexisting well which has proved reserves, but this well is not capable ofproduction until further workover procedures are performed.  The Company is currently drilling a secondwell in the Field approximately 900 meters from the existing well and which is outsidethe present boundaries of its proved reserves. This well and subsequent wells will delineate the extent and reservepotential of the Field.  The economicsuccess of the Field is dependent on finding and developing sufficient reservesand rates of production to generate positive cash flow and provide an economicrate of return on the investment in the Field. In order to sell significant quantities of oil from the Field, theCompany must obtain a production contract from the government of Kazakhstan.

 

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The Company’s financial statements have beenpresented on the basis that it is a going concern, which contemplates therealization of assets and satisfaction of liabilities in the normal course ofbusiness.  The Company has accumulatedlosses totaling $6,194,000 and has incurred a significant amount of debt in thedevelopment phase of its operations.  Asof December 31, 2002, current liabilities exceed current assets by $5,823,000.  Additionally, to fully develop the areacovered by the Field, the Company needs substantial additional funding.  Recoverability of a major portion of therecorded asset amounts shown in the accompanying consolidated balance sheet isdependent upon continued operations of the Company.  Continued operations are dependent upon the Company’s ability tomeet its financial obligations and to secure additional funding.  The consolidated financial statements do notinclude any adjustments relating to the recoverability and classification ofrecorded asset amounts or amounts and classification of liabilities which mightbe necessary should the Company be unable to continue as a going concern.

 

Management has taken steps and has the followingplans which it believes will be sufficient to enable the Company to continue inexistence:

 

1)               In February 2002,as more fully described in Note 6, the Company obtained $20,000,000 in debtfinancing from a bank in Kazakhstan.  Asof December 31, 2002, the Company had borrowings of $14,253,000 and letters ofcredit of $773,000 outstanding under this facility.  The available capacity under this facility was fully utilizedduring April 2003.  KSP has indicatedthat it intends to exercise its option to purchase 50% of Caspi Neft inexchange for a $15 million equity contribution (to be applied toward theoutstanding debt of Caspi Neft) and the arrangement of $30 million inadditional debt financing.  The Companybelieves that KSP has the ability and intent to consummate this transaction.  However, the timing of completion cannot bepredicted and is largely outside the control of the Company.  The Company is currently negotiating aninterim increase in the borrowing capacity under this loan facility.  During April 2003, the bank extended $1.5million in financing to Caspi Neft as an interim step pending arrangements foran expanded facility.

 

2)               The Company isdependent on significant additional funding to continue development of theSouth Alibek Field.  The Company’snear-term goal is to develop sufficient revenues from production to fundcontinuing capital expenditures and debt service requirements.  The amount of capital needed is dependent onmany factors outside the control of the Company, including the costs andresults of drilling operations, the ability to find and develop sufficientreserves and rates of production, the ability to effectively bring its futurecrude oil production to market and future world oil prices.  Management believes that $30 million ofadditional financing should be sufficient to bring the Field to positive cashflow from operations and provide for the servicing of the Company’s debts.  The most likely source of this $30 millionis the additional financing that KSP is required to provide in order toexercise its option to acquire 50% of Caspi Neft.  However, the Company is continuing to explore other options toobtain this funding.  The Companybelieves that it will be able to secure the necessary funding to continuedevelopment of the Field, but many of the factors required to execute its plansare outside the control of the Company.

 

3)               The Company haslimited options to fund its U.S. overhead costs on a continuing basis.  Current expenditures for U.S. personnel,occupancy and administrative costs total between $100,000 and $110,000 permonth.  Proceeds from borrowings inKazakhstan are not available to the parent company to fund its U.S. operations,nor is it able to charge an overhead recovery or management fee.  The parent company owns the drilling rigused by Caspi Neft for operations in the South Alibek Field and receives netcash flow of approximately $18,000 per month after debt service attributable tothe rig.  During 2002, the Companyrealized proceeds of approximately $100,000 from the private placement of itscommon stock and proceeds of approximately $200,000 from the issuance ofconvertible debentures.  Additionally,as discussed in Note 5, certain shareholders and related parties loaned theCompany $248,025.  The Company has takensteps to limit or reduce its U.S. overhead costs and believes that it will beable to continue to secure funding for these costs from the sale of commonstock or additional borrowings until it

 

29

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achieves positive cashflow from operations and such cash flow becomes available to fund the Company’sU.S. operations.

 

**Note 3 –Property and Equipment**

 

**Oil andGas Properties**

 

License 1557 (the “License”), covering the SouthAlibek Field, was granted by the Republic of Kazakhstan on April 29, 1999. ** **The original License covered 3,396acres.  In March 2000, the Companyacquired the License from an unrelated third-party for $4.0 million.  During 2001, based on its technical reviewand analysis of the probable productive area of the Field, the Company appliedto the Kazakhstan Ministry of Energy and Mineral Resources to expand the areacovered by license area.  In November2001, the Company’s application was approved and the License was expanded tocover an area of 14,111 acres.  ThroughCaspi Neft, the Company owns 100% of the working interest in the Field, subjectto a 10% carried working interest and an option agreement under which KSP mayacquire 50% of the stock of Caspi Neft, each as discussed below.

 

The Exploration Contract (the “Contract”)associated with the License has a six-year term which expires in April2005.  The Contract requires capitalexpenditures during this period of approximately $18 million.  As of December 31, 2002, the Company’scapital expenditures which are creditable to its obligations under the Licensetotaled approximately $10 million and the Company has remaining expenditurecommitments of approximately $8 million under the Contract.  The Contract may be extended by mutualagreement for two extension periods of two years each.  During the primary term, the Company canproduce wells under a test program and pay a royalty of 2%.  Any extension periods would need to berenegotiated with the government and would require additional capitalcommitments and could potentially include a reduction in the License area.  The Exploration Contract contains aprovision which will allow the government to recover, from future revenues,approximately $4.8 million of exploration costs which were incurred prior toprivatization.  The production contract,when executed, will contain the final terms for recovery of these costs.

 

If the Company is successful in establishingcommercial production from the Field, an application will be made for anexploration and production contract. The Company has the exclusive right to negotiate this contract for theField, and the government is required to conduct these negotiations under theLaw of Petroleum.  Such contracts arecustomarily awarded upon determination that the field is capable of commercialrates of production and that the applicant has complied with the other terms ofits license and exploration contract. However, the Company is not guaranteed the right to a productioncontract.  An exploration and productioncontract will typically require a bonus payment upon execution, the amount ofwhich is subject to negotiation.  Ifsatisfactory terms cannot be negotiated, the Company has the right to produceand sell oil under the Law of Petroleum for the term of its existingExploration Contract through April 2005 at a royalty rate of 2%.  The royalty rate under production contractsis subject to negotiation and varies in accordance with estimated reserve andproduction volumes.  Based on forecastvolumes, the average royalty over the term of the production contract isexpected to be 10% or less.

 

Kornerstone Investment Group Ltd. (“Kornerstone”)was originally engaged by the founders of the Company to identify and assist inthe acquisition of oil and gas properties in Kazakhstan and the Caspian Searegion.  The agreement with Kornerstoneprovided for compensation to Kornerstone in the form of a 10% carried workinginterest.  Under the terms of thiscarried interest, the Company is required to pay all acquisition, exploration,development and operating costs attributable to the 10% carried interest.  The Company is also entitled to receive allrevenues attributable to the 10% carried interest until the Company’s costs arerecovered.  Thereafter, Kornerstone willparticipate as a 10% working interest owner.

 

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The Company’s ownership of the South Alibek Fieldis held through its wholly-owned subsidiary, Caspi Neft.  In November 2001, the Company entered into aShare Purchase Agreement with KSP, which granted KSP the option to purchase a50% interest in Caspi Neft.  To exercisethis option, KSP must make a $15 million contribution of capital to Caspi Neft,which would be used to repay part of the existing bank debt and must arrange$30 million in additional financing at a market rate of interest.  The option expires in February 2004.  See further discussion of financingarrangements for development of the Field in Note 6.

 

During 2002, the Company spent $33,484 to acquireleasehold interests for the development of two natural gas wells in South Texas**.**

 

**DrillingRig and Equipment**

 

In December 2001, the Company purchased a drillingrig for $5,300,000 in total consideration, including a note payable for$3,300,000 and $2,000,000 in common stock, which is redeemable for cash at theoption of the seller of the rig.  SeeNotes 6 and 7 for further discussion.

 

The rig was acquired for drilling operations in theSouth Alibek Field.  At the time theCompany purchased the drilling rig, it was in storage in South America.  In early 2002, the Company arranged to havethe rig transported to Kazakhstan via marine cargo vessel.  In addition, the Company undertook variousrefurbishments and modifications to the rig to make it suitable for use in theCompany’s operations.  The Companycontracted with a firm experienced in international drilling to operate the rigand provide expatriate drilling personnel. The rig began drilling operations in October 2002.

 

**Note 4 – Other Assets**

 

Other assets consist of the following:

 

|                                      |   | **December 31,** |      |
|-------------------------------------------|--------|------------------|-----------|
|                                      |   | **2002**         |      | **2001** |   |
| Debt financing costs, net of amortization |   | $                | 293,610   |   | $ | 400,000 |   |
| Prepaid investment advisory contract      |   | 428,750          |      | — |   |
| Advances to Emba Trans Ltd.               |   | 338,730          |      | — |   |
|                                      |   | $                | 1,061,090 |   | $ | 400,000 |   |

 

See Note 1 (Debt FinancingCosts) for discussion of debt financing costs and Note 8 (Common Stock Issuedfor Services) for discussion of prepaid investment advisory contract.

 

As of December 31, 2002, theCompany has made cumulative advances of $338,730 to Emba Trans Ltd.  These advances were used to fund thepurchase of the Emba terminal, a facility for storing and loading crude oil forshipment by rail, which is intended to be used as an alternate transportationroute for the Company’s production from the South Alibek Field.  The terminal may also be used to ship crudeoil for third parties if the Company does not require all of the capacity.  The terminal has not been operational forseveral years and will require an estimated $1.5 million in capitalexpenditures to make it suitable for use by the Company.  Of the advances at December 31, 2002,approximately $60,000 was used to fund an engineering study, which included thedevelopment of plans for bringing the terminal into operational status.  As of December 31, 2002, ownership of EmbaTrans Ltd. had not been legally transferred to the Company, but the Company isworking to complete the transfer of title. The Company expects to own 100% of the legal title to the entity, ofwhich 75% is expected to be held by Caspi Neft.

 

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**Note5 – Notes Payable to Related Parties**

 

In a series of notes issuedbetween June 2002 and November 2002, certain shareholders and related parties,including the Chief Executive Officer of the Company, loaned the Company$248,025.  These notes bear interest at17% and are due on September 30, 2003.

 

**Note 6 –Long-Term Debt**

 

Long-term debt consists of the following:

 

|                                    |   | **December 31,** |       |
|-----------------------------------------|--------|------------------|------------|
|                                    |   | **2002**         |       | **2001** |   |
| Credit facility with a  Kazakhstan bank |   | $                | 14,253,000 |   | $ | — |   |
| Bridge loan from a  Kazakhstan bank     |   | —           |       | 1,500,000 |   |
| Note payable secured by  drilling rig   |   | 3,142,296        |       | 3,300,000 |   |
| Convertible debentures                  |   | 200,000          |       | — |   |
| Total debt (1)                          |   | 17,595,296       |       | 4,800,000 |   |
| Less current maturities                 |   | 3,842,992        |       | 1,431,204 |   |
| Long-term debt                          |   | $                | 13,752,304 |   | $ | 3,368,796 |   |

 

Management believes the fair value of debt atDecember 31, 2002 and 2001 approximates its book value.

 

Future maturities of long-term debt at December 31,2002, are as follows:

 
| 2003       |   | $          | 3,842,992  |   |
|------------|--------|------------|------------|--------|
| 2004 (1)   |   | 12,750,638 |       |
| 2005       |   | 1,001,666  |       |
| 2006       |   | —     |       |
| 2007       |   | —     |       |
| Thereafter |   | —     |       |
|       |   | $          | 17,595,296 |   |

 

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(1)          Does not include$2 million redeemable common stock due February 4, 2004.  See Note 7.

 

**CreditFacility and Bridge Loan**

 

In February 2002, Caspi Neft entered into a creditfacility with a Kazakhstan bank (the “Facility”).  The Facility provides for borrowings totaling $20 million throughJuly 1, 2003 for development of the South Alibek Field and is secured by theField, the stock of certain subsidiaries, and the stock and other assets ofCaspi Neft.  The facility carries aninterest rate of 15% and a commitment fee of 0.5% on the unused portion of theFacility.  The parent company,Transmeridian Exploration, Inc. has provided a corporate guarantee of $7million.  A $1.5 million loan agreementwith the bank in 2001 served as bridge financing and was repaid with proceedsfrom the Facility in February 2002. Under the terms of the Facility, the parent company is required to repayaccrued interest and principal on the first $2,233,000 of borrowings in August2003.  The accrued interest outstandingon the loan in February 2004 is payable by Caspi Neft at that time.  The remaining principal balance, togetherwith accrued interest, is payable in 12 monthly installments from February 2004through January 2005.

 

In addition to the borrowings outstanding, theCompany had approximately $773,000 in outstanding letters of credit issuedunder the Facility, which reduces the amounts available for borrowings.  The Facility contains certain restrictivecovenants, including restrictions on disposing of material assets, payingdividends and incurring additional indebtedness.  The Company is required to provide audited

 

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financial statements of Caspi Neft to the bankwithin 90 days of the end of the fiscal year. The Company did not meet this requirement, but such non-compliance hasbeen waived by the bank.

 

In connection with this financing, the Companygranted an option to KSP to acquire 50% of the common stock of Caspi Neft.  See additional discussion in Note 3.  To exercise of this option, KSP must make acapital contribution to Caspi Neft of $15 million, which would be used to repaypart of the Facility, and provide an additional $30 million in financing toCaspi Neft at market rates.  The optionexpires in February 2004.  Inconsideration for the option, KSP paid the Company approximately $65,000 in2001, which is refundable should they not exercise the option.  This amount is recorded as a currentliability.

 

**NotePayable Secured by Drilling Rig**

 

In connection with the acquisition of a drillingrig, the Company issued a note payable for $3,300,000.  The note was originally payable in 24monthly installments of $152,278 from February 1, 2002 through January 1, 2003,which included interest at 10%.  TheCompany did not make all scheduled payments during 2002.  In December 2002, a revised agreement wasexecuted which provides for 22 monthly payments of $152,278 from January 1,2003 though October 1, 2004, with a final payment of $84,670 due on November 1,2004.  The interest rate remained at10%.  The note is secured by thedrilling rig.

 

**ConvertibleDebentures**

 

On August 5, 2002, the Company issued $200,000 inconvertible debentures to Private Capital Group (“PCG”).  The debentures bear interest at 7% and aredue in August 2004.  PCG has the rightto convert the principal and interest due pursuant to the note into shares ofcommon stock of the Company.  The numberof shares upon conversion shall be computed based upon a conversion ratio equalto the lesser of (i) $0.36 per common share or (ii) 85% of the average of thethree lowest closing bid prices of the Company’s common stock during the twentytrading days immediately preceding the date that notice of conversion is given.

 

The 15% discount contained in the conversion termsrepresents a beneficial conversion feature as addressed in EITF 98-5,“Accounting for Convertible Securities with Beneficial Conversion Features orContingently Adjustable Conversion Ratios.” Under EITF 98-5, a portion of the proceeds received from the convertibledebentures is allocable to the beneficial conversion feature.  The amount assigned to the beneficialconversion feature is determined as the excess of the market value of thecommon stock issuable upon conversion over the stated value at the date ofissuance.  The amount attributable tothe beneficial conversion feature was $35,924. This amount is recorded as additional paid-in capital and is required tobe recognized as additional interest expense over the period ending with theearliest conversion date.  Since thedebentures are immediately convertible, the Company recognized the additionalinterest expense during 2002.

 

Additionally, PCG was granted warrants to purchase200,000 shares of Company common stock at $0.42 per share, which expire inAugust 2005.  The warrants were valuedat $20,000 using the Black-Scholes model. This amount has been recorded as additional paid-in capital and deferredfinancing costs which will be amortized to interest expense over the two-yearterm of the convertible debentures.

 

The Chief Executive Officer of the Company pledged2.5 million shares of the Company’s common stock owned by him as security forthe Company’s obligations under the debentures.  The Company was also required to file a Registration Statementand complete its effectiveness within 120 days of the date of borrowings.  As discussed in Note 13, on March 5, 2003,PCG filed suit for breach of contract relating to the convertible debentures.  The Company intends to vigorously contestthis matter.

 

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**Note 7 –Redeemable Common Stock**

 

During December 2001, the Company purchased adrilling rig for use in its Kazakhstan operations.  Part of the consideration for the purchase was 1,000,000 sharesof common stock.  Under the terms of thepurchase agreement, these shares were redeemable, at the option of the seller,for $2.00 per share, or $2,000,000 in the aggregate, by the end of 2002.  This obligation was renegotiated on December28, 2002 and now requires the redemption of the stock, at the option of theholder, on February 1, 2004.  Therevised agreement also provides interest at 10% on the unpaid balance of theredemption amount.  In the event theseller sells any of the shares prior to February 1, 2004, the proceeds of suchsales would reduce the redemption obligation of the Company.

 

**Note 8 –Stockholders’ Equity**

 

**12.5%Convertible Preferred**

 

During 2000, the Company borrowed $300,158 from athird party, which carried interest at 12.5%. The Company also issued warrants to purchase 1,200,000 common shares atan exercise price of $1.00 per share. The Company entered into a credit conversion agreement on August 23,2000 under which the notes were exchanged for $300,158 of convertible preferredstock, consisting of 3,000 shares, with a par value of $0.0006 per share and apreference value of $100 per share.  Theconvertible preferred stock accrues dividends at 12.5%.  At the Company’s option, the preferredshares may be converted to common stock or redeemed in cash.  The conversion rate is 85% of the averagebid price for the five previous consecutive trading days prior to theconversion date.  In connection withthis credit conversion agreement, the Company issued 1,200,000 shares of commonstock in exchange for cancellation of the 1,200,000 warrants outstanding.  During 2002, these shares were purchasedjointly by the CEO of the Company and the operations manager of our Kazakhstanoperations.

 

The 15% discount contained in the conversion termsrepresents a beneficial conversion feature as addressed in EITF 98-5,“Accounting for Convertible Securities with Beneficial Conversion Features orContingently Adjustable Conversion Ratios.” Under EITF 98-5, a portion of the proceeds received from the convertiblepreferred stock is allocable to the beneficial conversion feature.  The amount assigned to the beneficialconversion feature is determined as the excess of the market value of thecommon stock issuable upon conversion over the stated value of the preferredstock.  This amount attributable to thebeneficial conversion feature was $52,969. This amount is treated as additional paid-in capital and is recognizedas an additional preferred stock dividend charged to retained earnings over theperiod ending with the earliest conversion date.  Since the preferred shares are immediately convertible, theCompany recognized the additional preferred stock dividends during 2001.

 

At December 31, 2002 and 2001, the Company hadaccrued preferred stock dividends of $37,520 and $70,302, respectively, whichwere included in accrued liabilities.

 

**2001Convertible Preferred**

 

In connection with the acquisition of a 5% workinginterest in the South Alibek Field in April 2001, the Company issued 100,000shares of convertible preferred stock. This convertible preferred stock had no dividend obligation and wasconvertible into 1,500,000 shares of the Company’s common stock.  In March 2002, the preferred stock wasconverted to common stock.

 

**CommonStock Reserved for Issuance**

 

There are 200,000,000 common shares authorized bythe Company’s Amended and Restated Certificate of Incorporation and 59,147,129and 55,747,029 common shares were issued and outstanding as of

 

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December 31, 2002 and 2001, respectively.  These share totals exclude redeemable commonstock.  Shares of common stock reservedfor issuance at December 31, 2002 are summarized as follows:

 
| Stock option plan (1)              |   | 5,000,000  |   |
|------------------------------------|--------|------------|--------|
| Convertible preferred  stock (2)   |   | 2,207,000  |   |
| Convertible debentures  (2)        |   | 1,470,000  |   |
| Warrants which expire  in 2003 (3) |   | 1,375,500  |   |
| Redeemable common stock  (4)       |   | 1,000,000  |   |
| Warrants which expire  in 2005     |   | 200,000    |   |
| Total                              |   | 11,252,500 |   |

 

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1)              As of December 31,2002, there were no stock options issued and outstanding under this plan.

2)              These instrumentsare convertible into a variable number of common shares according to formulaswhich include a discount to the current market price of the common shares.  The above table reflects the approximatenumber of shares which would have been issuable upon conversion based on theclosing stock price of $0.16 per share at December 31, 2002.  The actual number of shares issuable uponconversion could differ substantially from these amounts based on currentmarket prices at the time of conversion.

3)              These warrantsexpired without being exercised subsequent to December 31, 2002.

4)              These shares havebeen issued, but are subject to mandatory redemption by the Company.  Accordingly, they are not reflected in commonshares outstanding.

 

**CommonStock Issued for Services**

 

The Company has entered into several agreements toexchange common stock for services, including investment advisory services,financial consulting and other services related to the operations of theCompany.  The stock has been valuedbased on the fair market value of the stock at the time of the agreements orthe value of the services rendered, whichever was more clearly evident.  During the year ended December 31, 2002, theCompany issued 4,100,000 common shares for services.  This amount included 4,000,000 shares issued as compensation forinvestment advisory services, which was recorded as a prepaid expense of$735,000.  The agreement covers a twoyear period ending in February 2004 and the prepaid amount is being amortizedto expense over its term.  During theyear ended December 31, 2001, the Company issued 126,429 shares in exchange forservices.

 

In December 2002, the Chief Executive Officer ofthe Company transferred, from his personal holdings, 150,000 shares of theCompany’s common stock as compensation for a contract with an investorrelations firm.  The common stock wasvalued at $0.17 per share, or $25,500 in the aggregate, and has been recordedas contributed capital and a prepaid expense. The cost of the services will be charged to expense over the 90-day termof the contract.

 

**Retirementof Common Stock**

 

On several occasions, the founders and majorshareholders of the Company have contributed common shares back to the Company,which were then retired.  Such sharecontributions were generally made to mitigate the dilutive effects of othershare issuances by the Company.  Duringthe years ended December 31, 2002 and 2001 the founders returned 6,700,000 and5,000,000 common shares, respectively. Additionally, in 2001, the Company purchased 2,200,000 shares oftreasury stock from the founders at par value. These shares were subsequently sold in a private placement.

 

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**Warrants**

 

As of December 31, 2002, the Company hadoutstanding warrants to purchase 1,375,500 shares of the Company’s common stockat $1.00 per share, which expire in January and February of 2003.  These warrants expired unexercisedsubsequent to year end.

 

In connection with the issuance of $200,000 ofconvertible debentures in 2002, the Company issued warrants to purchase 200,000shares of the Company’s common stock at $0.42 per share.  These warrants expire in August 2005.  The value of the warrants, calculated inaccordance with the Black-Scholes model, was $20,000 and will be recognized asadditional interest expense over the two year term of the debentures.

 

**StockOption Plans**

 

The Company has an incentive stock option plan (the“Plan”) under which 5,000,000 shares of common stock may be granted toofficers, board members, key employees and consultants through December 31,2010.  Under the Plan, the exerciseprice of each option equals the fair market value of the Company’s common stockon the date of grant and all options granted have a maximum term of fiveyears.  The vesting period is to bedetermined by the Board of Directors at the date of grant.  As of December 31, 2002, no options had beengranted under this Plan.

 

**Note 9 –Income Taxes**

 

Income before income taxes is composed of thefollowing:

 
|          |   | **Years Ended December 31,** |       |
|---------------|--------|------------------------------|------------|
|          |   | **2002**                     |       | **2001** |   |
| United States |   | $                            | (2,064,614 | ) | $ | (135,320 | ) |
| International |   | (1,206,289                   | )          | (1,977,570 | ) |
|          |   | $                            | (3,270,903 | ) | $ | (2,112,890 | ) |

 

A reconciliation of the federal statutory incometax amounts to the effective amounts is shown below:

 
|                                            |   | **Years Ended December 31,** |       |
|-------------------------------------------------|--------|------------------------------|------------|
|                                            |   | **2002**                     |       | **2001** |   |
| Income tax benefit  computed at statutory rates |   | $                            | (1,112,107 | ) | $ | (718,383 | ) |
| Adjustment to valuation  allowance              |   | 1,112,107                    |       | 718,383 |   |
|                                            |   | $                            | —     |   | $ | — |   |

 

At December 31, 2002 and 2001 the components of theCompany’s deferred tax assets and liabilities were as follows:

 
|                              |   | **As of December 31,** |     |
|-----------------------------------|--------|------------------------|----------|
|                              |   | **2002**               |     | **2001** |   |
| Capitalized interest              |   | $                      | (437,000 | ) | $ | — |   |
| Net operating loss  carryforwards |   | 2,543,000              |     | 990,000 |   |
| Valuation allowance               |   | (2,106,000             | )        | (990,000 | ) |
|                              |   | $                      | —   |   | $ | — |   |

 

As of December 31, 2002, the Company has estimatednet operating loss carryforwards of $3,236,000 in the U.S. and $4,244,000 inKazakhstan.  The net operating losscarryforwards include the deduction of $1,286,000 in interest which has beencapitalized for book purposes.  If theyare not utilized prior to these

 

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dates, the U.S. net operating losses will expirebetween 2020 and 2022, while the Kazakhstan net operating losses will expire in2009 and 2010.

 

The Company has not recorded any deferred taxassets or income tax benefits from the net operating losses for the years endedDecember 31, 2002 and 2001.  The Companyhas placed a 100% valuation allowance against the deferred tax asset becausefuture realization of the net operating losses is not assured.

 

**Note 10– Commitments and Contingencies**

 

**ThreatenedClaims**

 

On February 6, 2003, an attorney for the formerChief Financial Officer of the Company sent a demand letter asserting claimsrelating to his separation from service from the Company and threateningfurther legal action.  Attempts tosettle this matter have been unsuccessful. As of May 9, 2003, no suit had been filed in this matter.

 

In addition to the claims relating to hisseparation from service from the Company, this individual has alleged thatcertain of the Company’s filings with the Securities and Exchange Commissionduring his tenure as Chief Financial Officer may contain financial informationand other disclosures which are inaccurate or misleading, or may fail toinclude information which is required to be disclosed.  This individual has further alleged thatcertain transactions may not have been properly authorized or made incompliance with the Company’s internal control procedures and may not have beenproperly recorded in the Company’s financial statements.

 

These allegations were referred to the Company’saudit committee, which initiated an investigation into the matter.  The Company has resolved, to thesatisfaction of the audit committee, all of the allegations about which it hassufficient information to pursue. However, this individual has also made non-specific allegations, withoutproviding sufficient information to enable the Company’s management or theaudit committee to assess the veracity or materiality of these allegations orto determine what changes, if any, should be made to the Company’s current orprevious SEC filings.  As discussed inNote 1, the Company filed Current Reports on Form 8-K on February 20, 2003 andMay 16, 2003 to amend the financial statements for the interim periods of theyear ended December 31, 2002. Management of the Company believes it has taken prudent steps to addressthese allegations and provide reasonable assurance that the financialstatements and other disclosures in its annual report on Form 10-K are notmisleading.  The Company is not aware ofany further adjustments which would be necessary as a result of these allegations.  However, the audit committee will continueto investigate any further allegations or information which it receives.

 

**InternationalCommitments**

 

The Company, through its subsidiary Caspi Neft, issubject to the terms of License 1557 and the related Exploration Contractcovering 14,111 acres in the South Alibek field in Kazakhstan.  In connection with the Exploration Contract,the Company has committed to spend approximately $18 million on develop­ment ofthe Field through 2005.  As of December31, 2002, the Company had a remaining expenditure commitment of approximately$8 million.  

 

**Environmental**

 

The Company, as an owner and operator of oil andgas properties, is subject to various federal, state, local and foreign countrylaws and regulations relating to discharge of materials into, and protectionof, the environment.  These laws andregulations may impose liability on the lessee under an oil and gas

 

37

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lease or concession for the cost of pollutionclean-up resulting from operations and also may subject the lessee to liabilityfor pollution damages.

 

**LeaseCommitments**

 

The Company has operating leases for officefacilities and certain equipment.  Netrental expense under all operating leases and rental agreements was $378,000and $178,000 in 2002 and 2001, respectively.

 

The Company leases office facilities in Houston andKazakhstan under leases greater than one year. Future minimum lease commitments under long-term non-cancelableoperating leases are as follows:

 
| 2003       |   | $       | 186,000 |   |
|------------|--------|---------|---------|--------|
| 2004       |   | 186,000 |    |
| 2005       |   | 186,000 |    |
| 2006       |   | 186,000 |    |
| 2007       |   | 86,000  |    |
| Thereafter |   | —  |    |
|       |   | $       | 830,000 |   |

 

**Note 11– Business Segment Information**

 

The Company’s business activities relate solely tooil and gas exploration and production. The primary emphasis since its formation in 2000 has been thedevelopment of the South Alibek Field. In 2002, the Company made an initial investment in U.S. properties.  The drilling rig purchased in 2001 is usedto support the Company’s development activities in Kazakhstan.  At December 31, 2002 and 2001, substantiallyall of the Company’s assets were located in Kazakhstan.  For each of the two years ended December 31,2002, substantially all of the Company’s results of operations were general andadministrative, operating and other start-up costs associated with itsoperations in Kazakhstan.

 

**Note 12– Conveyance of Working Interest**

 

During the year ended December 31, 2000, theCompany sold an option to acquire a 5% working interest in the South AlibekField for $614,146 in cash.  TheCompany’s costs attributable to this working interest were $200,000, whichresulted in a gain of $414,146.  InApril 2001, the Company reacquired the 5% working interest for consideration of100,000 shares of convertible preferred stock, 1,000,000 warrants for thepurchase of common stock at $1.00 per share and the forgiveness ofapproximately $50,000 of joint interest billings.

 

**Note 13– Subsequent Events**

 

On March 5, 2003, Private Capital Group LLC(“Plaintiff”) filed suit against the Company, its Chief Executive Officer andthe Company’s stock transfer agent (“Defendants”).  The suit alleges that the Defendants breached their contractualobligations to the Plaintiff in connection with its $200,000 investment inconvertible debentures of the Company on August 5, 2002.  The Plaintiff asserts that the Company is indefault under the Registration Rights Agreement and other agreements associatedwith this investment.  The Plaintiffseeks damages estimated to be in excess of $500,000 and injunctive relief.  The Company believes that it is not indefault under the Registration Rights Agreement and has meritorious defenses inthis matter.  Additionally, the Companyhas countersued on the grounds of tortious interference with contract inconnection with a Registration Statement which the Company was forced towithdraw by the Plaintiff.  The Companyintends to vigorously contest this matter.

 

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In January 2003, the Company issued 1,500,000shares to settle all remaining obligations in connection with the April 2002resignation of the former Chairman of the Company, including obligationsrelated to a consulting contract.  As ofDecember 31, 2002, the Company had a liability of $180,000 associated withthese obligations, which approximated the fair market value of the common stockupon settlement.

 

In February 2003, the Company issued 1,500,000shares of common stock, valued at $147,000, in exchange for drill pipe for usein its Kazakhstan operations.

 

**Note 14– Supplemental Oil and Gas Disclosures**

 

**CostsIncurred**

 

Cost incurred in oil and gas property acquisition,exploration and development activities, whether expensed or capitalized, arereflected in the table below.  Thisschedule does not include the costs of the drilling rig which was purchased andmodified for use in the Company’s development activities in Kazakhstan.  Costs incurred for the drilling rig were$741,000 and $5,300,000 in 2002 and 2001, respectively.

 
|                              |   | **Kazakhstan** |       | **United States** |       | **Total**  |       |
|-----------------------------------|--------|----------------|------------|-------------------|------------|------------|------------|
| **Year ended December 31, 2002:** |   |           | ** ** |              | ** ** |       | ** ** |
| Acquisition costs of  properties: |   |           | ** ** |              | ** ** |       | ** ** |
| Proved                            |   | $              | —     |              | $          | —     |       | $ | — |   |
| Unproved                          |   | 7,915          |       | 28,463            |       | 36,378     |       |
| Exploration costs                 |   | 9,300,423      |       | —            |       | 9,300,423  |       |
| Development costs                 |   | —         |       | 5,021             |       | 5,021      |       |
| Capitalized interest              |   | 1,060,495      |       | —            |       | 1,060,495  |       |
| Total                             |   | $              | 10,368,833 |              | $          | 33,484     |       | $ | 10,402,317 |   |
|                              |   |           | ** ** |              | ** ** |       | ** ** |
| **Year ended December 31, 2001:** |   |           | ** ** |              | ** ** |       | ** ** |
| Acquisition costs of  properties: |   |           | ** ** |              | ** ** |       | ** ** |
| Proved                            |   | $              | 1,653,023  |              | $          | —     |       | $ | 1,653,023 |   |
| Unproved                          |   | —         |       | —            |       | —     |       |
| Exploration costs                 |   | —         |       | —            |       | —     |       |
| Development costs                 |   | 1,667,090      |       | —            |       | 1,667,090  |       |
| Capitalized interest              |   | —         |       | —            |       | —     |       |
| Total                             |   | $              | 3,320,113  |              | $          | **—** |       | $ | 3,320,113 |   |

 

39

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**CapitalizedCosts**

 

The aggregate amount of capitalized costs relatedto oil and gas producing activities and the aggregate amount of the relatedaccumulated depreciation, depletion and amortization (“DD&A”), includingany accumulated valuation allowances, were as follows.  These capitalized costs do not include thedrilling rig which was purchased and modified for use in the Company’sdevelopment activities in Kazakhstan. Capitalized costs for the drilling rig were $6.0 million and $5.3million at December 31, 2002 and 2001, respectively.

 
|                          |   | **Kazakhstan** |       | **United States** |       | **Total**  |       |
|-------------------------------|--------|----------------|------------|-------------------|------------|------------|------------|
| **As of December 31, 2002**   |   |           | ** ** |              | ** ** |       | ** ** |
| Proved properties             |   | $              | 7,765,565  |              | $          | —     |       | $ | 7,765,565 |   |
| Unproved properties           |   | 10,368,831     |       | 33,484            |       | 10,402,315 |       |
| Total oil and gas  properties |   | 18,134,396     |       | 33,484            |       | 18,167,880 |       |
| Accumulated DD&A          |   | —         |       | —            |       | —     |       |
| Net oil and gas  properties   |   | $              | 18,134,396 |              | $          | 33,484     |       | $ | 18,167,880 |   |
|                          |   |           | ** ** |              | ** ** |       | ** ** |
| **As of December 31, 2001**   |   |           | ** ** |              | ** ** |       | ** ** |
| Proved properties             |   | $              | 7,765,565  |              | $          | —     |       | $ | 7,765,565 |   |
| Unproved properties           |   | —         |       | —            |       | —     |       |
| Total oil and gas  properties |   | 7,765,565      |       | —            |       | 7,765,565  |       |
| Accumulated DD&A          |   | —         |       | —            |       | —     |       |
| Net oil and gas  properties   |   | $              | 7,765,565  |              | $          | —     |       | $ | 7,765,565 |   |

 

**Oil andGas Reserve Information (Unaudited)**

 

**Basis ofPresentation**

 

Proved oil and gas reserve quantities are based onestimates prepared by Ryder Scott Company, indepen­dent petroleumengineers.  There are numerousuncertainties in estimating quantities of proved reserves and projecting futurerates of production and the timing of development expenditures.  The following reserve data representestimates only and actual reserves may vary substantially from theseestimates.  All of the Company’s provedreserves were in Kazakhstan in 2002 and 2001. The Company’s net quantities of proved developed and undevelopedreserves of crude oil and changes therein are reflected in the table below.

 

The Company is the operator and owns a 100% workinginterest in the South Alibek Field, subject to a 10% carried working interestafter recovery of costs.  The effect ofthis carried interest is reflected in the calculation of the Company’s netproved reserves and future net cash flows.

 

As discussed in Notes 3 and 6, the Company hasgranted KSP an option to acquire a 50% interest in Caspi Neft, the wholly ownedsubsidiary which holds title to the Company’s interest in the Field.  In order to exercise this option, KSP mustmake a $15 million capital contribution, which would be used to repay part ofthe outstanding bank debt of Caspi Neft, and arrange an additional $30 millionin financing.  In the event that KSPexercises its option to acquire a 50% interest, the Company may no longer beeligible to fully consolidate Caspi Neft. In that event, the Company’s effective interest in the reserves would beproportionately reduced.  As this optionis subject to substantial performance requirements and has not been exercisedas of December 31, 2002, net proved reserves and future net cash flows do notreflect this potential reduction in the Company’s interest.

 

The Company is operating under an ExplorationContract with the government of Kazakhstan which ends in April 2005.  At such time as the Company is successful inestablishing commercial production from the

 

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Field, an application will be made for anexploration and production contract.  The Company has the exclusive right to negotiate this contract forthe Field, and the government is required to conduct these negotiations underthe Law of Petroleum.  However, theCompany is not guaranteed the right to a production contract.  Such contracts are customarily awarded for aperiod of 25 years upon determination that the field is capable of commercialrates of production and that the applicant has complied with the other terms ofits license and exploration contract. If satisfactory terms cannot be negotiated, the Company has the right toproduce and sell oil under the Law of Petroleum for the term of its existingExploration Contract through April 2005 at a royalty rate of 2%.  The royalty rate under production contractsis subject to negotiation and varies in accordance with estimated reserve andproduction volumes.  Based on forecastproduction volumes, the average royalty over the term of the productioncontract is expected to be 10% or less. The Company’s oil and gas reserve data and future net cash flows havebeen prepared assuming a commercial production contract is obtained which willallow production for the expected 25 year term of the production contract.  A conservative rate of 10% has been used tocalculate the government royalty.

 

**Estimated Quantities of Net Proved Crude Oil Reserves**

**(Quantities in Barrels)**

 
|                                         |   | **Years ended December 31,** |   |
|----------------------------------------------|--------|------------------------------|--------|
|                                         |   | **2002**                     |   | **2001** |   |
| Net proved crude oil  reserves:              |   |                         |   |   |   |
| Beginning of year                            |   | 17,645,418                   |   | 17,213,772 |   |
| Revisions of previous  estimates             |   | (534,677                     | )      | 431,646 |   |
| Extensions, discoveries  and other additions |   | —                       |   | — |   |
| Production                                   |   | —                       |   | — |   |
| End of year                                  |   | 17,110,741                   |   | 17,645,418 |   |
|                                         |   |                         |   |   |   |
| Net proved developed  reserves:              |   |                         |   |   |   |
| Beginning of year                            |   | 5,808,683                    |   | 5,675,781 |   |
| End of year                                  |   | 5,695,613                    |   | 5,808,683 |   |

 

**StandardizedMeasure of Discounted Future Net Cash Flows (Unaudited)**

 

**Basis ofPresentation**

 

The standardized measure data includes estimates ofoil and gas reserve volumes and forecasts of future production rates over thereserve lives.  Estimates of futureproduction expenditures, including taxes and future development costs, arebased on management’s best estimate of such costs assuming a continuation ofcurrent economic and operating conditions. No provision is included for depletion, depreciation and amortization ofproperty acquisition costs or indirect costs. Income tax expense has been computed using expected future tax rates andgiving effect to tax deductions and credits available, under current laws, andwhich relate to oil and gas producing activities.  The sales prices used in the calculation are the year-end pricesof crude oil, including condensate and natural gas liquids, which as ofDecember 31, 2002 and 2001 were $23.99 and $15.37 per barrel, respectively.  These prices were based on North Sea Brentcrude prices, less a discount for transportation and qualitydifferentials.  No value was assigned tonatural gas reserves, as there is not currently an established market orpipeline facilities for gas sales. Changes in prices and cost levels, as well as the timing of futuredevelopment costs, may cause actual results to vary significantly from the datapresented.  This information is notintended to represent a forecast or fair market value of the Company’s oil andgas assets, but does present a standardized disclosure of discounted future netcash flows that would result under the assumptions used.  The standardized measure of discountedfuture net cash flows relating to proved oil and gas reserves for 2002 and 2001were as follows:

 

41

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**Standardized Measure of Discounted Future Net Cash Flows**

**(Amounts in Thousands)**

 
| **December 31, 2002:**                                    |   |     |    |
|-----------------------------------------------------------|--------|----------|---------|
| Future cash inflows                                       |   | $        | 410,487 |   |
| Future production and  development costs                  |   | (36,575  | )       |
| Undiscounted future net  cash flows before income tax     |   | 373,912  |    |
| 10% discount for  estimated timing of cash flows          |   | (169,595 | )       |
| Present value of future  net cash flows before income tax |   | 204,317  |    |
| Future income tax  expense, discounted at 10%             |   | (60,318  | )       |
| Standardized measure of  discounted future net cash flows |   | $        | 143,999 |   |

 
| **December 31, 2001:**                                    |   |     |    |
|-----------------------------------------------------------|--------|----------|---------|
| Future cash inflows                                       |   | $        | 271,298 |   |
| Future production and  development costs                  |   | (37,889  | )       |
| Undiscounted future net  cash flows before income tax     |   | 233,409  |    |
| 10% discount for  estimated timing of cash flows          |   | (104,492 | )       |
| Present value of future  net cash flows before income tax |   | 128,917  |    |
| Future income tax  expense, discounted at 10%             |   | (39,511  | )       |
| Standardized measure of  discounted future net cash flows |   | $        | 89,406  |   |

 

The following table presents a reconciliation ofchanges in the standardized measure of discounted future net cash flows:

 

**Changes in the Standardized Measure of Discounted Future NetCash Flows**

**(Amounts in Thousands)**

 
|                                                                 |   | **Years ended December 31,** |        |
|----------------------------------------------------------------------|--------|------------------------------|-------------|
|                                                                 |   | **2002**                     |        | **2001** |   |
|                                                                 |   |                         | ** **  |   | ** ** |
| **Standardized Measure, beginning  of year**                         |   | **$**                        | **89,406**  | ** ** | **$** | **98,986** | ** ** |
| Sales and transfers of  oil and gas produced,net of production costs |   | —                       |        | (51 | ) |
| Net changes in prices,  development andproduction costs              |   | 83,980                       |        | (24,905 | ) |
| Extensions, discoveries  and improvedrecovery, less related costs    |   | —                       |        | — |   |
| Purchase of minerals in  place                                       |   | —                       |        | — |   |
| Development costs  incurred and changesduring the period             |   | 252                          |        | 616 |   |
| Revisions of previous  quantity estimates                            |   | (6,630                       | )           | 3,274 |   |
| Increase in present  value due to passage ofone year                 |   | 12,892                       |        | 14,946 |   |
| Net changes in  production rates and other                           |   | (15,094                      | )           | (14,419 | ) |
| Net change in income  taxes                                          |   | (20,807                      | )           | 10,959 |   |
| **Standardized Measure, end of  year**                               |   | **$**                        | **143,999** | ** ** | **$** | **89,406** | ** ** |

 

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**Item 8.  Changes in and Disagreements withAccountants on Accounting and Financial Disclosure**

 

On May 15, 2002, the Company notified GrantThornton LLP that they would no longer be engaged as the Company’s principalindependent accountants.  This decisionwas recommended by the Company’s management and approved by the Company’s AuditCommittee and Board of Directors.  Inconnection with its audits for the most recent fiscal years ended December 31,2001 and 2000, there were no disagreements with Grant Thornton LLP on anymatters of accounting principles or practices, financial statement disclosures,or auditing scope or procedures.  GrantThornton LLP’s reports on the financial statements for each of those fiscalyears contained an emphasis paragraph as to uncertainty about the Company’sability to continue as a going concern.

 

The Company engaged John A. Braden & Co., P.C.as its new independent accountants effective May 15, 2002.  The Braden firm conducted a re-audit of thefinancial statements for the fiscal years ended December 31, 2001 and 2000 andhas issued an opinion on those financial statements.  This opinion also contains an emphasis paragraph as touncertainty about the Company’s ability to continue as a going concern.

 

**PART III**

 

**Item 9.  Directors****, Executive Officers, Promoters and Control Persons**

 

The following table provides information about ourExecutive Officers and Directors:

 
| **Officer / Director** |   | **Age** |   | **Title**                                  |   | **Tenure** |
|------------------------|--------|---------|--------|--------------------------------------------|--------|------------|
| Lorrie T. Olivier      |   | 52      |   | President & CEO, Chairman of the Board |   | 2000       |
| Bruce A. Falkenstein   |   | 44      |   | Vice President of Exploration and Geology  |   | 2000       |
| Jeff S. Tucker         |   | 32      |   | Assistant Secretary                        |   | 2002       |
| Philip J. McCauley     |   | 41      |   | Director                                   |   | 2000       |
| Angus G.P.M. Simpson   |   | 39      |   | Director                                   |   | 2000       |
| James H. Dorman        |   | 70      |   | Director                                   |   | 2002       |

 

**LorrieT. Olivier** co-founded the Company and has served as itsPresident and Chief Executive Officer since inception.  Mr. Olivier became Chairman of theBoard in February 2002.  From 1991 to2000, Mr. Olivier was employed by American International Petroleum Corporationas Vice President of Operations and President of American InternationalPetroleum Kazakhstan, American Eurasia Petroleum and American InternationalPetroleum Holdings.  He was the keyexecutive in charge of developing AIPC’s interests in the Caspian Searegion.  Mr. Olivier has devoted hisentire career to international oil and gas exploration and production, servingwith Occidental Petroleum and Shell Oil.

 

**Bruce A.Falkenstein** joined the Company in 2000 and has served as VicePresident of Exploration and Geology since its inception.  Prior to joining Transmeridian, he servedfor 20 years with Amoco and BP, its successor, where he last held the positionof Manager and Chief Geophysicist of the Kazakhstan Exploration team for BPAmoco.  Since 1992, he has workedexclusively on the technical evaluation and acquisition of oil fields andoperating licenses in Kazakhstan and the Caspian Sea region.  Mr. Falkenstein has some fluency in Russian.

 

**Jeff S.Tucker** has served as Manager of Administration and Reporting and AssistantSecretary.  From 2000 until 2001 heserved as Contract Manager for a media technology company in Dallas,Texas.  From 1990 until 2000 he was aVice President, Secretary, Controller and a Director of CrossroadsEnvironmental Corp.

 

**PhilipJ. McCauley** has been a Director of the Company since itsformation in 2000.  He is currently theChief Executive Officer of Energy Telecom Ltd., a reseller oftelecommunications services.  From 1999to 2002, Mr. McCauley was Chairman and Chief Executive Officer of AudioNavigation Ltd.  From 1983 to 1999, Mr.McCauley was the Chief Executive Officer of TTL Group Ltd.

 

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**AngusG.M.P Simpson** has been a Director of the Company since itsformation in 2000.  He currently servesas a Director of Glencairn Limited and Director and Executive Chairman ofGlencairn Specialist Risk, positions he has held since 1998 and 1999,respectively.  Both firms provide riskmanagement and specialized insurance brokerage services.  From 1993 to 1998, Mr. Simpson served as aDirector of Crawley Warren & Co. Ltd., also a specialist insurance broker.

 

**James H.Dorman** joined the Board of Directors in October 2002.  Mr. Dorman has 45 years of experience as aprofessional geologist and oil and gas executive.  In 1996, Mr. Dorman founded Doreal Energy Corporation, apublicly-held international exploration and production company, and served asPresident, Chief Executive Officer and a Director until retiring in 2001.  He began his career with Tenneco, Inc.,serving for 28 years, where he last held the position of Exploration VicePresident.

 

**Item 10.  Executive Compensation**

 

The following table provides information about thecompensation we paid our Chief Executive Officer and the four other most highlycompensated executive officers during the last two fiscal years.  There was no cash compensation paid forperiods prior to December 31, 2001.

 

**Summary Compensation Table**

** **
|                                         |   |             |   | **Annual Compensation (a)** |    |
|----------------------------------------------|--------|------------------|--------|-----------------------------|---------|
| **Name and Principal Position**              |   | **Fiscal  Year** |   | **Salary**                  |    | **Bonus** |   | **Other  Annual  Compensatio****n** |   |
|                                         |   |             |   |                        |    |   |   |   |   |
| Lorrie T. Olivier                            |   | 2002             |   | $                           | 200,000 |   | — |   | — |   |
| *Chairman and Chief Executive  Officer*      |   | 2001             |   | 200,000                     |    | — |   | — |   |
|                                         |   |             |   |                        |    |   |   |   |   |
| Peter L. Holstein                            |   | 2002             |   | $                           | 78,000  |   | — |   | — |   |
| *Former Chairman of the Board  (b)*          |   | 2001             |   | 105,000                     |    | — |   | — |   |
|                                         |   |             |   |                        |    |   |   |   |   |
| Bruce A. Falkenstein                         |   | 2002             |   | $                           | 120,000 |   | — |   | — |   |
| *Vice President of Geology and  Exploration* |   | 2001             |   | 110,000                     |    | — |   | — |   |
|                                         |   |             |   |                        |    |   |   |   |   |
| Jim W. Tucker                                |   | 2002             |   | $                           | 100,000 |   | — |   | — |   |
| *Former Chief Financial Officer  (c)*        |   | 2001             |   | 94,444                      |    | — |   | — |   |

 

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(a)                    There was nolong-term compensation, such as stock options or restricted stock awards, orother compensation paid to these individuals during the last two fiscal years.

 

(b)                   Mr. Holsteinresigned as Chairman of the Board effective February 15, 2002 and resigned fromthe Board of Directors on September 8, 2002. In January 2003, the Company issued 1,500,000 shares of common stock toMr. Holstein to settle all remaining obligations in connection with hisseparation from service.

 

(c)                    Mr. Tucker’semployment with the Company ended effective January 3, 2003.  The Company and Mr. Tucker have been unableto agree on the financial terms of his separation from service.  As discussed in Item 3, Legal Proceedingsand Note 10 of the Notes to Consolidated Financial Statements, an attorney forMr. Tucker sent the Company a demand letter asserting claims relating to Mr.Tucker’s separation from service and threatening further legal action.

 

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**Compensationof Directors**

 

Directors who are not employees of the Company werenot compensated for their service as Directors during the past fiscalyear.  We do not currently have anyformal plan to compensate our Directors, although they may in the futurereceive compensation in the form of cash, stock awards or stock options.

 

**Item 11.  Security Ownership of Certain BeneficialOwners and Management**

 

The following table sets forth, as of February 22,2003, information about the beneficial ownership of our common stock by ourExecutive Officers and Directors and persons believed by us to be thebeneficial owners of more than 5% of the outstanding shares of our commonstock.  In compiling this table, we haverelied on the records of our transfer agent, public filings and other informationavailable to us.  We believe thisinformation is reliable.  However, theseholdings are subject to change and in many cases the beneficial owners of ourstock do not have any obligation to inform us of purchases, sales or otherchanges in their holdings.  Accordingly,we may not become aware of new owners who acquire more than 5% of our commonstock.  The percentage information isbased on 63,147,129 common shares outstanding as of the above date, whichincludes 1,000,000 shares subject to mandatory redemption by the Company.

 
| **Name of Beneficial Owner**                                                             |   | **Shares  Owned (a)** |   | **Percent  of Class** |   |
|------------------------------------------------------------------------------------------|--------|-----------------------|--------|-----------------------|--------|
| Executive Officers and  Directors:                                                       |   |                  |   |                  |   |
| Lorrie T. Olivier (b)                                                                    |   | 15,287,000            |   | 24.2                  | %      |
| Bruce A. Falkenstein  (c)                                                                |   | 1,532,500             |   | 2.4                   | %      |
| Philip J. McCauley (d)                                                                   |   | 550,000               |   | 0.9                   | %      |
| Angus G.M.P. Simpson                                                                     |   | 50,000                |   | 0.1                   | %      |
| James H. Dorman                                                                          |   | —                |   | —                |   |
| All directors and  officers as a group                                                   |   | 17,419,500            |   | 27.6                  | %      |
|                                                                                     |   |                  |   |                  |   |
| Other Beneficial  Owners:                                                                |   |                  |   |                  |   |
| JMJC Investments, Inc.  (b)                                                              |   | 6,300,000             |   | 10.0                  | %      |
| 397 N. Sam Houston Pkwy. E., Suite 300  Houston, TX 77060                                |   |                  |   |                  |   |
| Kornerstone Investment  Group, Ltd.                                                      |   | 5,000,000             |   | 7.9                   | %      |
| Trident Chambers  P.O. Box 146  Wickhams Cay, Road Town  Tortola, British Virgin Islands |   |                  |   |                  |   |
| Peter L. Holstein (e)                                                                    |   | 4,510,000             |   | 7.1                   | %      |
| 10 Strada Principale  Henderson, NV 89011                                                |   |                  |   |                  |   |
| Carl Martin Nagel (f)                                                                    |   | 3,254,700             |   | 5.2                   | %      |
| Akazienweg 8  Bad Vilbel  Hessen, Germany 61118                                          |   |                  |   |                  |   |

 

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(a)          Each person hassole voting and investment power with respect to the common shares listed,except as noted below.  The address foreach of the Executive Officers and Directors is 397 N. Sam Houston Pkwy E.,Suite 300, Houston, TX 77060.

(b)         Includes 6,300,000common shares owned by JMJC Investments, Inc. and 800,000 common shares ownedby Colamer Ltd., both which are entities controlled by Mr. Olivier.  The shares held by JMJC Investments, Inc.are

 

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also reflected separately as this entityindividually owns more than 5% of our common shares.

(c)          Includes 1,187,500common shares owned by Falkenstein Family Living Trust, an entity controlled byMr. Falkenstein.

(d)         Includes 500,000common shares owned by Zen Trust, an entity controlled by Mr. McCauley.

(e)          Includes 3,000,000common shares owned by Sovereign Trust, an entity con­­trolled by Mr. Holstein.  Does not include any shares that may be heldfor the account of Mr. Holstein by brokerage firms or other nominees.

(f)            Includes 2,154,760common shares owned by CM Nagel, Gmbh, an entity controlled by Mr. Nagel.

(g)         The sole owner ofKornerstone is employed on a part-time basis as a con­sultant and manager ofCaspi Neft.

 

During 2002, 1,500 shares, or 50%, of ourconvertible preferred stock, which had previously been owned by RatcliffInternational Ltd., were acquired by Lorrie T. Olivier.  As discussed in Note 8 of the Notes toConsolidated Financial Statements, the preferred stock is convertible into avariable number of common shares based on the market price of our commonstock.  Using the closing price onDecember 31, 2002, the preferred shares owned by Mr. Olivier would have beenconvertible into approximately 1,103,500 common shares.  Upon conversion, his ownership wouldincrease to 16,390,500 common shares, or 25.5% of the common shares outstandingafter conversion and the ownership of all executive officers and directors as agroup would increase to 28.8% of the shares outstanding.  The remaining 1,500 preferred shares out­standingwere acquired by the operations manager of Caspi Neft TME, our Kazakhstanoperating subsidiary.  Upon conversionof his preferred stock, that individual’s ownership would increase to 2,603,500common shares, or 4.1% of the common shares outstanding after conversion.

 

**Item 12.  Certain Relationships and RelatedTransactions**

 

1)              KornerstoneInvestment Group, Ltd. (Kornerstone) is the beneficial owner of more than 5% ofthe Company’s common stock.  None of ourexecutive officers or directors has a financial interest in Kornerstone.  As discussed in Item 2, Description ofProperties, in connection with the acquisition of the South Alibek Field, wegranted Kornerstone a 10% carried working interest in the Field, effectiveafter we recover all costs attributable to the carried interest.  Additionally, we paid Kornerstone $400,000 inconnection with arranging our $20 million credit facility.  We paid $200,000 of the amount in cash andthe balance was paid with 4,000,000 shares of common stock pursuant to anagreement between the parties.

 

2)              Carl Martin Nagelis a German citizen who owns more than 5% of our common shares out­standing.  During 2002, in order to reduce our requiredcapital commitments and investment risk in connection with the development ofour U.S. natural gas properties, we conveyed a 33.3% working interest in theseproperties to Mr. Nagel.  He prepaid hisshare of certain property acquisition and future develop­ment costs in theamount of $106,000, which was recorded as a current liability.  As of December 31, 2002, approximately$11,000 of such costs had been incurred. Additionally, Mr. Nagel received 4,000,000 shares in April 2002 ascompensation for investment advisory services. Of this amount, 2,100,000 shares were transferred to OTC Support, Inc.of Sarasota, Florida.  Michael DellaDonna is a principal officer of OTC Support, Inc.

 

3)              During 2002, Mr.Olivier and entities under his control advanced cash totaling $130,000 to theCompany.  Additionally, three of ourshareholders, none of whom owns more than 5% of our common shares outstanding,made advances totaling $118,025.  All ofthese advances are evidenced by promissory notes which bear interest at 17% andhave a maturity date of September 30, 2003.

 

4)              In connection witha contract for investor relations services for the Company, Mr. Olivier trans­ferred150,000 shares from his personal holdings of our common stock to the firm whichwas contracted to provide these services. This payment in common stock covered the period from

 

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December 15, 2002 through March 15, 2003.  The value of these shares was $0.17 pershare, or $25,500 in total.

 

5)              Mr. Olivier andMr. Holstein are considered promoters or founders of the Company within themeaning of Rule 405 of Securities Act of 1933. Mr. Olivier and Mr. Holstein each received 18,900,000 common shares inconnection with the initial formation of the Company.  Additionally, five other individuals received a total of3,500,000 common shares.  Of the sharesissued to the founders, Mr. Olivier subsequently returned 5,600,000 shares andMr. Holstein returned 8,300,000 shares to the Company to mitigate the dilutiveeffects of other common share issuances by the Company.

 

**Item 13.  Exhibits and Reports on Form 8-K**

 

**(a)****         ****Exhibits**

 

**Index toExhibits**

** **
| **Exhibit  Number** |   | **Description**                                                                                                                                                  |   | **Incorporation by Reference**       |
|---------------------|--------|------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|--------------------------------------|
|                |   |                                                                                                                                                             |   |                                 |
| 3.1                 |   | Amended and Restated Certificate of  Incorporation of the Company                                                                                                |   | Form  SB-2 filed May 15, 2001        |
|                |   |                                                                                                                                                             |   |                                 |
| 3.2                 |   | Bylaws of the Company                                                                                                                                            |   | Form  SB-2 filed May 15, 2001        |
|                |   |                                                                                                                                                             |   |                                 |
| 10.1                |   | License 1557 dated April 29, 1999 from the  Republic of Kazakhstan for Oil and Gas Exploration of the South Alibek Field                                         |   | Form  SB-2 filed May 15, 2001        |
|                |   |                                                                                                                                                             |   |                                 |
| 10.2                |   | Exploration Contract dated April 29, 1999  covering the South Alibek Field                                                                                       |   | Form  SB-2 filed May 15, 2001        |
|                |   |                                                                                                                                                             |   |                                 |
| 10.3                |   | Letter from the Kazakhstan Ministry of  Energy                                                                                                                   |   | Form  SB-2/A filed October 3, 2001   |
|                |   |                                                                                                                                                             |   |                                 |
| 10.4                |   | General Loan Agreement dated February 4,  2002 by and among Bank TuranAlem, OJSC Caspi Neft TME, Transmeridian  Exploration, Inc. (BVI) and Kazstroiproekt, Ltd. |   | Filed  Herewith                      |
|                |   |                                                                                                                                                             |   |                                 |
| 10.5                |   | 7% Convertible Note Agreement dated August  5, 2002 in the principal amount of $200,000                                                                          |   | Form  SB-2/A filed November 20, 2002 |
|                |   |                                                                                                                                                             |   |                                 |
| 10.6                |   | Convertible Debentures and Warrant  Purchase Agreement dated August 5, 2002 between Transmeridian Exploration,  Inc and Private Capital Group, LLC               |   | Form  SB-2/A filed November 20, 2002 |
|                |   |                                                                                                                                                             |   |                                 |
| 10.7                |   | Modification to Convertible Debenture and  Warrant Purchase Agreement and Related Documents dated October 25, 2002                                               |   | Form  SB-2/A filed November 20, 2002 |
|                |   |                                                                                                                                                             |   |                                 |
| 10.8                |   | Registration Rights Agreement dated August  5, 2002 between Transmeridian Exploration, Inc. and Private Capital Group LLC                                        |   | Form  SB-2/A filed November 20, 2002 |
|                |   |                                                                                                                                                             |   |                                 |
| 10.9                |   | Stock Pledge Agreement between Lorrie T.  Olivier and Private Capital Group LLC                                                                                  |   | Form  SB-2/A filed November 20, 2002 |
|                |   |                                                                                                                                                             |   |                                 |
| 10.10               |   | Stock Purchase Warrant dated August 5,  2002 in favor of Private Capital Group LLC                                                                               |   | Form  SB-2/A filed November 20, 2002 |
|                |   |                                                                                                                                                             |   |                                 |
| 21.1                |   | List of Subsidiaries                                                                                                                                             |   | Filed  Herewith                      |

 

**(b)****         ****Reports on Form 8-K**

 

The Company didnot file any Current Reports on Form 8-K during the fourth quarter of 2002.

 

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**Item 14.  Controls and Procedures**

 

**CorporateDisclosure Controls**

 

During 2002, and during the time period withinninety (90) days of the filing of this report, the Company’s certifying officerconducted a review of the Company’s disclosure controls and procedures anddetermined that they were in need of improve­ment.  As a result of this review, we engaged financial consultants withexperience in accounting for oil and gas operations and SEC reportingrequirements to conduct a review of our financial reporting procedures anddisclosure controls.  That reviewresulted in changes to the Company’s accounting policies and procedures andalso resulted in adjustments to the financial statements for the year endedDecember 31, 2002.

 

As disclosed in a Current Report on Form 8-K filedFebruary 20, 2003, we changed our accounting policies with regard to carriedworking interests and drilling rig operations. This change in accounting policies resulted in adjustments to thefinancial statements for the interim periods ended June 30, 2002 and September30, 2002.  These adjusted financialstatements were included in the Form 8-K.

 

Additionally, as reported in a Current Report onForm 8-K dated May 16, 2003, during the fourth quarter of 2002 we made certainother adjustments to our financial statements which affected the other interimperiods of 2002.  These adjustmentsincluded capitalization of interest on unproved oil and gas properties, adjustmentsto the depreciation of drilling equipment, amortization of deferred financingcosts and certain other adjustments as discussed in the Form 8-K.  The Form 8-K included adjusted financialstatements for the interim periods of the year ended December 31, 2002.  There were no adjustments made to periodsprior to December 31, 2001.

 

These adjustments and other procedures inconnection with the review caused us to be late filing this Annual Report onForm 10-K.  As a result of the review,we have implemented new accounting policies and procedures at the corporatelevel in Houston to improve the accuracy and quality of our financialreporting.

 

**KazakhstanInternal Controls**

 

The volume and dollar amount of Company’stransactions in Kazakhstan have increased significantly during the pastyear.  We have undertaken improvementsin our accounting procedures and personnel in Kazakhstan, including theimplementation of a computer-based accounting system and additional training ofpersonnel.  We have detailed policiesand procedures relating to the procurement of goods and services for ouroperations in Kazakhstan and cash disbursements for purchases, and we areconfident that these procedures are being consistently followed.  As a result of communication issues betweenour U.S. and Kazakhstan accounting and operating personnel, we face continuingchallenges to improve the timeliness of our accounting and financial reportingand the quality of information reported to the Houston office.  Our independent auditors have advisedmanagement of the Company and the audit committee that they believe the issuesrelated to our reporting structure and the timeliness and quality ofinformation reported from Kazakhstan present a material weakness in internalcontrol.  We intend to address andresolve those issues during 2003.

 

**ThreatenedClaims**

 

As discussed in Note 10 of the Notes toConsolidated Financial Statements, the former Chief Financial Officer of theCompany has alleged that certain of our filings with the Securities andExchange Commission during his tenure as Chief Financial Officer may containfinancial information and other disclosures which are inaccurate or misleading,or may fail to include information which is required to be disclosed.  This individual has further alleged thatcertain transactions may not have been properly authorized or made incompliance with our internal control procedures and may not have been properlyrecorded in our financial statements.

 

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These allegations were referred to our auditcommittee, which initiated an investigation into the matter.  We have resolved, to the satisfaction of theaudit committee, all of the allegations about which we had sufficientinformation to pursue.  However, thisindividual has also made non-specific allegations, without providing specificinformation, and we are unable to assess the veracity or materiality of theseallegations or determine what changes, if any, should be made to our current orprevious SEC filings.  We believe thatwe have taken prudent steps to address these allegations and provide reasonableassurance that the financial statements and other disclosures in this annualreport on Form 10-K are not misleading. We are not aware of any further adjustments which would be necessary asa result of these allegations.  However,the audit committee will continue to investigate any further allegations orinformation which it receives.

 

**Summaryand Conclusion**

 

Since January 2003, the Chief Executive Officer hasbeen serving in the dual roles of CEO and Chief Financial Officer, and we haveutilized consultants to perform many of the required financial reportingduties.  We are currently evaluatingthis arrangement and may seek to hire a full-time Chief Financial Officer inthe near future.  Given the challengesfunding our U.S. overhead costs, there are financial con­siderations as well asreporting and control issues involved in this decision.  We have made significant improvements in ourfinancial reporting and disclosure controls subsequent to year end.  We believe that these new procedures andcontrols, including improvements we are undertaking in Kazakhstan, will providean effective means to insure that we can timely and accurately disclose theinformation we are required to disclose under applicable laws and regulations.

 

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**SIGNATURES**

 

Pursuant to the requirements of Section 13 or 15(d)of the Securities Exchange Act of 1934, the Registrant has duly caused thisannual report to be signed on its behalf by the undersigned, thereunto dulyauthorized.

 
|   | Transmeridian Exploration, Inc.                                                                      |
|--------|------------------------------------------------------------------------------------------------------|
|   |                                                                                                 |
|   |                                                                                                 |
|   | By: /s/ Lorrie T. Olivier                                                                            |   |
|   | Lorrie T. Olivier                                                                                    |
|   | Chairman  of the Board of Directors, President,  Chief Executive Officer and Chief Financial Officer |

 

Pursuant to the requirements of the SecuritiesExchange Act of 1934, this report has been signed below by the followingpersons on behalf of the Registrant and in the capacities and on the datesindicated.

 
| **Date**     |   | **Signature**            |   | **Title**                                                        |
|--------------|--------|--------------------------|--------|------------------------------------------------------------------|
|         |   |                     |   |                                                             |
| May 16, 2003 |   | /s/ Lorrie T. Olivier    |   | Chairman of the Board of Directors,                              |
|         |   | Lorrie T. Olivier        |   | President, Chief  Executive Officer and  Chief Financial Officer |
|         |   |                     |   |                                                             |
| May 16, 2003 |   | /s/ Bruce A. Falkenstein |   | Vice President of Exploration and Geology                        |
|         |   | Bruce A. Falkenstein     |   |                                                             |
|         |   |                     |   |                                                             |
| May 16, 2003 |   | /s/ Jeff S. Tucker       |   | Manager of Accounting and Assistant Secretary                    |
|         |   | Jeff S. Tucker           |   |                                                             |
|         |   |                     |   |                                                             |
| May 16, 2003 |   | /s/ Phillip J. McCauley  |   | Director                                                         |
|         |   | Phillip J. McCauley      |   |                                                             |
|         |   |                     |   |                                                             |
| May 16, 2003 |   | /s/ Angus G.M.P. Simpson |   | Director                                                         |
|         |   | Angus G.M.P. Simpson     |   |                                                             |
|         |   |                     |   |                                                             |
| May 16, 2003 |   | /s/ James H. Dorman      |   | Director                                                         |
|         |   | James H. Dorman          |   |                                                             |

 

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**CERTIFICATION OF CHIEF EXECUTIVE OFFICER AND CHIEF FINANCIALOFFICER**

 

I, Lorrie T. Olivier, certify that:

 

1)              I have reviewedthis annual report on Form 10-KSB of Transmeridian Exploration, Inc.;

 

2)              Based on myknowledge, this annual report does not contain any untrue statement of amaterial fact or omit to state a material fact necessary to make the statementsmade, in light of the circumstances under which such statements were made, notmisleading with respect to the period covered by this annual report;

 

3)              Based on myknowledge, the financial statements, and other financial information includedin this annual report, fairly present in all material respects the financialcondition, results of operations and cash flows of the registrant as of, andfor, the periods presented in this annual report;

 

4)              The registrant’sother certifying officers and I are responsible for establishing andmaintaining disclosure controls and procedures (as defined in Exchange ActRules 13a-14 and 15d-14) for the registrant and have:

 

a.               designed suchdisclosure controls and procedures to ensure that material information relatingto the registrant, including its consolidated subsidiaries,  is made known to us by others within thoseentities, particularly during the period in which this annual report is beingprepared;

 

b.              evaluated theeffectiveness of the registrant’s disclosure controls and procedures as of adate within 90 days prior to the filing date of this quarterly report (the“Evaluation Date”); and

 

c.               presented in thisannual report our conclusions about the effectiveness of the disclosurecontrols and procedures based on our evaluation as of the Evaluation Date;

 

5)              The registrant’sother certifying officers and I have disclosed, based on our most recentevaluation, to the registrant’s auditors and the audit committee of registrant’s board of directors (orpersons performing the equivalent functions):

 

a.               all significantdeficiencies in the design or operation of internal controls which couldadversely affect the registrant’s ability to record, process, summarize andreport financial data, and  have identifiedfor the registrant’s auditors any material weaknesses in internal controls; and

 

b.              any fraud, whetheror not material, that involves management or other employees who have asignificant role in the registrant’s internal controls; and

 

6)              The registrant’sother certifying officers and I have indicated in this annual report whether ornot there were significant changes in internal controls or in other factorsthat could significantly affect internal controls subsequent to the date of ourmost recent evaluation, including any corrective actions with regard tosignificant deficiencies and material weaknesses.

 
| Date: May 16, 2003                                                        |
|---------------------------------------------------------------------------|
|                                                                      |
| /s/ Lorrie T. Olivier                                                     |   |
| Lorrie T. Olivier                                                         |
| Chairman, President, Chief Executive  Officer and Chief Financial Officer |

 

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