**SECURITIES AND EXCHANGECOMMISSION**

**Washington, D.C. 20549**

 

**FORM 10-Q**

 

**Quarterly Report Under Section 13or 15(d) of the**

**Securities Exchange Act of 1934**

 

**For the Six Months Ended June 30, 2008**

** **

**Commission File No. 000-51229**

 

**STRATUM HOLDINGS, INC.**

(Exact Name of Registrant as specified inits charter)

 

| **Nevada**                                       | ** ** | **51-0482104**                         |
|--------------------------------------------------|------------|----------------------------------------|
| (State or other  jurisdiction

of incorporation) |       | (IRS Employer  Identification  Number) |

 

| **Three  Riverway, Suite 1500** | ** ** | ** ** |
|--------------------------------------|------------|------------|
| **Houston,  Texas**                  | ** ** | **77056**  |
| (Address of principal                |       | (zip code) |
| executive offices)                   |       |       |

 

**(713)479-7000**

 (Registrant’s telephone number, including areacode)

 

Check whether the registrant: (1) filedall reports required to be filed by Section 13 or 15(d) of theExchange Act during the past 12 months (or for such shorter period that theregistrant was required to file such reports); and (2) has been subject tosuch filing requirements for the past 90 days. Yes x No o

 

Indicate by check mark whether theregistrant is a large accelerated filer o, anaccelerated filer o, anon-accelerated filer o, or asmaller reporting company x

 

Indicate by check mark whether theregistrant is a shell company (as defined in Rule 12b-2 of the ExchangeAct) Yes o No x

 

The number of shares outstanding ofCommon Stock, par value $.001 per share, as of August 12, 2008 was26,556,429 shares and the aggregate market value of such shares held bynon-affiliates of the registrant (based upon the closing bid price of suchshares as listed on the NASD Bulletin Board on August 12, 2008) wasapproximately $539,700.

 

 

 

----

 

**STRATUMHOLDINGS, INC.**

**FORM 10-Q**

**JUNE30, 2008**

 

**INDEX**

 
| PART I.  FINANCIAL INFORMATION                                                                      | **Page** |
|----------------------------------------------------------------------------------------------------------|----------|
|                                                                                                     |     |
| Item  1. Financial Statements                                                                            |     |
| Consolidated Balance Sheets as of  June 30, 2008 (Unaudited) andDecember 31, 2007 (Unaudited)  | 3        |
| Consolidated Statements of Operations  for the three months endedJune 30, 2008 and 2007 (Unaudited) | 4        |
| Consolidated Statements of Operations  for the six months endedJune 30, 2008 and 2007 (Unaudited)   | 5        |
| Consolidated Statements of Cash Flows  for the six months endedJune 30, 2008 and 2007 (Unaudited)   | 6        |
|                                                                                                     |     |
| Notes  to Unaudited Consolidated Financial Statements                                                    | 7        |
| Item  2. Management’s Discussion and Analysis of Financial Condition and Results of  Operations     | 14       |
| Item  3. Quantitative and Qualitative Disclosures About Market Risk                                      | 21       |
| Item  4. Controls and Procedures                                                                         | 21       |
| Item  4T. Controls and Procedures                                                                        | 21       |
|                                                                                                     |     |
| PART II.  OTHER INFORMATION                                                                         |     |
|                                                                                                     |     |
| Item  1. Legal Proceedings                                                                               | 22       |
| Item  1A. Risk Factors                                                                                   | 22       |
| Item  2. Unregistered Sales of Equity Securities and Use of Proceeds                                     | 22       |
| Item  3. Defaults Upon Senior Securities                                                                 | 22       |
| Item  4. Submission of Matters to a Vote of Security Holders                                             | 22       |
| Item  5. Other Information                                                                               | 22       |
| Item  6. Exhibits                                                                                        | 22       |
| Signatures                                                                                               | 24       |

 

2

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**STRATUM HOLDINGS, INC.**

**Consolidated Balance Sheet**

**(Unaudited)**

 
| ** **                                                                                                                                     | ** ** | **June 30,** | ** ** | **December 31,** | ** ** |
|------------------------------------------------------------------------------------------------------------------------------------------------|------------|-------------------|------------|-----------------------|------------|
| ** **                                                                                                                                     | ** ** | **2008**          | ** ** | **2007**              | ** ** |
| **Assets**                                                                                                                                     |       |              |       |                  |       |
| Current assets:                                                                                                                                |       |              |       |                  |       |
| Cash and cash equivalents                                                                                                                      |       | $                 | 296,811    |                  | $          | 238,395 |   |
| Restricted cash (Note 3)                                                                                                                       |       | 1,500,000         |       | —                |       |
| Accounts receivable                                                                                                                            |       | 2,840,923         |       | 2,970,842             |       |
| Prepaid expenses and other                                                                                                                     |       | 312,576           |       | 978,648               |       |
| Current assets of  discontinued operations                                                                                                     |       | 357,407           |       | 6,894,723             |       |
| Total current assets                                                                                                                           |       | 5,307,717         |       | 11,082,608            |       |
|                                                                                                                                           |       |              |       |                  |       |
| Property and equipment:                                                                                                                        |       |              |       |                  |       |
| Oil and gas properties  (full cost method)                                                                                                     |       | 13,854,590        |       | 13,653,081            |       |
| Other property and  equipment                                                                                                                  |       | 126,544           |       | 91,209                |       |
|                                                                                                                                           |       | 13,981,134        |       | 13,744,290            |       |
| Less: Accumulated  depreciation, depletion & amortization                                                                             |       | (8,132,008        | )          | (7,874,894            | )          |
| Net property and equipment                                                                                                                     |       | 5,849,126         |       | 5,869,396             |       |
|                                                                                                                                           |       |              |       |                  |       |
| Other assets:                                                                                                                                  |       |              |       |                  |       |
| Restricted cash (Note 3)                                                                                                                       |       | 1,604,408         |       | —                |       |
| Goodwill                                                                                                                                       |       | 4,936,313         |       | 4,936,313             |       |
| Deferred income taxes                                                                                                                          |       | —            |       | 451,400               |       |
| Other assets                                                                                                                                   |       | 82,766            |       | 132,361               |       |
| Noncurrent assets of  discontinued operations                                                                                                  |       | —            |       | 9,681,080             |       |
| Total other assets                                                                                                                             |       | 6,623,487         |       | 15,201,154            |       |
|                                                                                                                                           |       |              |       |                  |       |
| Total assets                                                                                                                                   |       | $                 | 17,780,330 |                  | $          | 32,153,158 |   |
|                                                                                                                                           |       |              |       |                  |       |
| **Liabilities and  Stockholders’ Equity**                                                                                                 |       |              |       |                  |       |
| Current liabilities:                                                                                                                           |       |              |       |                  |       |
| Current portion of  long-term debt                                                                                                             |       | $                 | 3,352,924  |                  | $          | 3,347,205 |   |
| Accounts payable                                                                                                                               |       | 2,067,017         |       | 2,491,527             |       |
| Accrued liabilities                                                                                                                            |       | 1,342,785         |       | 1,238,047             |       |
| Income taxes payable                                                                                                                           |       | 1,013,000         |       | —                |       |
| Current liabilities of  discontinued operations                                                                                                |       | —            |       | 4,639,716             |       |
| Total current liabilities                                                                                                                      |       | 7,775,726         |       | 11,716,495            |       |
|                                                                                                                                           |       |              |       |                  |       |
| Long-term debt, net of  current portion                                                                                                        |       |              |       |                  |       |
| Continuing operations                                                                                                                          |       | 3,567,104         |       | 9,018,603             |       |
| Discontinued operations                                                                                                                        |       | —            |       | 3,957,911             |       |
| Deferred income taxes                                                                                                                          |       | 1,168,500         |       | 1,193,400             |       |
| Total liabilities                                                                                                                              |       | 12,511,330        |       | 25,886,409            |       |
|                                                                                                                                           |       |              |       |                  |       |
| Stockholders’ equity:                                                                                                                     |       |              |       |                  |       |
| Preferred stock, $.01 par  value per share, 1,000,000 shares authorized, None issued                                                           |       | —            |       | —                |       |
| Common stock, $.001 par  value per share, 50,000,000 shares authorized, 26,556,429 and 25,393,572  shares issued and outstanding, respectively |       | 26,556            |       | 25,394                |       |
| Additional paid in capital                                                                                                                     |       | 12,641,134        |       | 12,095,362            |       |
| Accumulated deficit                                                                                                                            |       | (7,244,224        | )          | (5,825,688            | )          |
| Accumulated foreign  currency translation adjustment                                                                                           |       | (154,466          | )          | (28,319               | )          |
| Total stockholders’ equity                                                                                                                |       | 5,269,000         |       | 6,266,749             |       |
|                                                                                                                                           |       |              |       |                  |       |
| Total liabilities and  stockholders’ equity                                                                                               |       | $                 | 17,780,330 |                  | $          | 32,153,158 |   |

 

See accompanying notesto consolidated financial statements.

 

3

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**STRATUMHOLDINGS, INC.**

**Consolidated Statements of Operations**

**(Unaudited)**

 
| ** **                                              | ** ** | **Three Months Ended June 30,** | ** ** |
|---------------------------------------------------------|------------|-----------------------------------------------------|------------|
| ** **                                              | ** ** | **2008**                                            | ** ** | **2007** | ** ** |
| Revenues:                                               |       |                                                |       |   |   |
| Energy services                                         |       | $                                                   | 4,648,573  |   | $ | 2,551,070 |   |
| Oil and gas sales                                       |       | 1,179,147                                           |       | 724,162 |   |
| Other                                                   |       | 11,322                                              |       | 8,527 |   |
|                                                    |       | 5,839,042                                           |       | 3,283,759 |   |
| Expenses:                                               |       |                                                |       |   |   |
| Energy services                                         |       | 4,418,048                                           |       | 2,272,856 |   |
| Lease operating expense                                 |       | 527,256                                             |       | 339,026 |   |
| Depreciation, depletion &  amortization        |       | 91,337                                              |       | 207,365 |   |
| Impairment expense                                      |       | —                                              |       | — |   |
| Workover expense                                        |       | 84,990                                              |       | 263,730 |   |
| Selling, general and  administrative                    |       | 810,908                                             |       | 1,109,957 |   |
|                                                    |       | 5,932,539                                           |       | 4,192,934 |   |
|                                                    |       |                                                |       |   |   |
| Loss from operations                                    |       | (93,497                                             | )          | (909,175 | ) |
| Other expenses:                                         |       |                                                |       |   |   |
| Interest expense                                        |       | (238,239                                            | )          | (391,178 | ) |
|                                                    |       |                                                |       |   |   |
| Loss from continuing  operations before income taxes    |       | (331,736                                            | )          | (1,300,353 | ) |
| Benefit from income taxes                               |       | 112,900                                             |       | 442,120 |   |
| Net loss from continuing  operations                    |       | (218,836                                            | )          | (858,233 | ) |
| Discontinued operations,  net of tax                    |       |                                                |       |   |   |
| Construction staffing                                   |       | —                                              |       | 66,734 |   |
| Energy services                                         |       | —                                              |       | 254,958 |   |
| Net loss                                                |       | $                                                   | (218,836   | ) | $ | (536,541 | ) |
|                                                    |       |                                                |       |   |   |
| Net income (loss) per  share, basic and diluted         |       |                                                |       |   |   |
| Net loss from continuing  operations                    |       | $                                                   | (0.01      | ) | $ | (0.03 | ) |
| Discontinued operations                                 |       | —                                              |       | 0.01 |   |
| Net loss                                                |       | $                                                   | (0.01      | ) | $ | (0.02 | ) |
|                                                    |       |                                                |       |   |   |
| Weighted average shares  outstanding, basic and diluted |       | 26,556,429                                          |       | 25,393,572 |   |

 

 See accompanying notes to consolidatedfinancial statements.

 

4

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**STRATUMHOLDINGS, INC.**

**Consolidated Statements of Operations**

**(Unaudited)**

 
| ** **                                              | ** ** | **Six Months Ended June 30,** | ** ** |
|---------------------------------------------------------|------------|---------------------------------------------------|------------|
| ** **                                              | ** ** | **2008**                                          | ** ** | **2007** | ** ** |
| Revenues:                                               |       |                                              |       |   |   |
| Energy services                                         |       | $                                                 | 12,402,762 |   | $ | 4,507,224 |   |
| Oil and gas sales                                       |       | 2,228,177                                         |       | 1,408,867 |   |
| Other                                                   |       | 97,433                                            |       | 77,499 |   |
|                                                    |       | 14,728,372                                        |       | 5,993,590 |   |
| Expenses:                                               |       |                                              |       |   |   |
| Energy services                                         |       | 11,341,863                                        |       | 4,087,834 |   |
| Lease operating expense                                 |       | 926,859                                           |       | 711,791 |   |
| Depreciation,  depletion & amortization        |       | 250,053                                           |       | 418,532 |   |
| Impairment expense                                      |       | —                                            |       | — |   |
| Workover expense                                        |       | 229,006                                           |       | 455,006 |   |
| Selling, general and  administrative                    |       | 2,662,995                                         |       | 1,883,560 |   |
|                                                    |       | 15,410,776                                        |       | 7,556,723 |   |
|                                                    |       |                                              |       |   |   |
| Loss from operations                                    |       | (682,404                                          | )          | (1,563,133 | ) |
| Other expenses:                                         |       |                                              |       |   |   |
| Interest expense                                        |       | (846,399                                          | )          | (706,548 | ) |
|                                                    |       |                                              |       |   |   |
| Loss from continuing  operations before income taxes    |       | (1,528,803                                        | )          | (2,269,681 | ) |
| Benefit from income taxes                               |       | 519,800                                           |       | 771,692 |   |
| Net loss from continuing  operations                    |       | (1,009,003                                        | )          | (1,497,989 | ) |
| Discontinued operations,  net of tax                    |       |                                              |       |   |   |
| Construction staffing                                   |       | —                                            |       | 176,897 |   |
| Energy services                                         |       | (409,533                                          | )          | 644,837 |   |
| Net loss                                                |       | $                                                 | (1,418,536 | ) | $ | (676,255 | ) |
|                                                    |       |                                              |       |   |   |
| Net income (loss) per  share, basic and diluted         |       |                                              |       |   |   |
| Net loss from continuing  operations                    |       | $                                                 | (0.04      | ) | $ | (0.06 | ) |
| Discontinued operations                                 |       | (0.01                                             | )          | 0.03 |   |
| Net loss                                                |       | $                                                 | (0.05      | ) | $ | (0.03 | ) |
|                                                    |       |                                              |       |   |   |
| Weighted average shares  outstanding, basic and diluted |       | 26,067,037                                        |       | 24,969,815 |   |

 

 See accompanying notes to consolidatedfinancial statements.

 

5

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**STRATUM HOLDINGS, INC.**

**ConsolidatedStatements of Cash Flows**

**(Unaudited)**

 
| ** **                                                                                              | ** ** | **Six Months Ended June 30,** | ** ** |
|---------------------------------------------------------------------------------------------------------|------------|---------------------------------------------------|------------|
| ** **                                                                                              | ** ** | **2008**                                          | ** ** | **2007** | ** ** |
| **Cash flows provided  (used in) operating activities:**                                                |       |                                              |       |   |   |
| Net loss from continuing  operations                                                                    |       | $                                                 | (1,009,003 | ) | $ | (1,497,989 | ) |
| Adjustments to reconcile  net loss from continuing operations to cash provided by (used in) operations: |       |                                              |       |   |   |
| Depreciation,  depletion & amortization                                                        |       | 250,053                                           |       | 418,532 |   |
| Impairment expense                                                                                      |       | —                                            |       | — |   |
| Deferred income taxes                                                                                   |       | (519,800                                          | )          | (771,692 | ) |
| Stock based compensation                                                                                |       | 546,934                                           |       | 226,307 |   |
| Other changes, net                                                                                      |       | (69,491                                           | )          | (131,006 | ) |
| Net cash flows from  continuing operations                                                              |       | (801,307                                          | )          | (1,755,848 | ) |
| Net cash flows from  discontinued operations                                                            |       | 1,838,587                                         |       | 1,394,618 |   |
| Total cash flows from  operating activities                                                             |       | 1,037,280                                         |       | (361,230 | ) |
|                                                                                                    |       |                                              |       |   |   |
| **Cash flows provided  (used in) investing activities:**                                                |       |                                              |       |   |   |
| Sale of subsidiary                                                                                      |       | 11,895,592                                        |       | — |   |
| Purchase of subsidiary                                                                                  |       | —                                            |       | (151,841 | ) |
| Purchase of property and  equipment                                                                     |       | (236,844                                          | )          | (279,668 | ) |
| Net cash flows from  investing activities                                                               |       | 11,658,748                                        |       | (431,509 | ) |
|                                                                                                    |       |                                              |       |   |   |
| **Cash flows provided  (used in) financing activities:**                                                |       |                                              |       |   |   |
| Proceeds from long term  debt                                                                           |       | —                                            |       | 2,507,593 |   |
| Payments of long term debt                                                                              |       | (12,704,339                                       | )          | (3,356,347 | ) |
| Net proceeds of  stockholder advances                                                                   |       | 66,727                                            |       | 650,297 |   |
| Proceeds from issuance of  common stock                                                                 |       | —                                            |       | 675,000 |   |
| Proceeds from exercise of  warrants                                                                     |       | —                                            |       | 75,000 |   |
| Proceeds from exercise of  options                                                                      |       | —                                            |       | 22,500 |   |
| Net cash flows from  financing activities                                                               |       | (12,637,612                                       | )          | 574,043 |   |
|                                                                                                    |       |                                              |       |   |   |
| Net increase in cash and  cash equivalents                                                              |       | 58,416                                            |       | (218,696 | ) |
|                                                                                                    |       |                                              |       |   |   |
| Cash and equivalents at  beginning of period                                                            |       | 238,395                                           |       | 261,010 |   |
|                                                                                                    |       |                                              |       |   |   |
| Cash and equivalents at  end of period                                                                  |       | $                                                 | 296,811    |   | $ | 42,314 |   |
|                                                                                                    |       |                                              |       |   |   |   |   |
| **Supplemental cash flow  data:**                                                                       |       |                                              |       |   |   |   |   |
| Cash paid for interest                                                                                  |       | $                                                 | 846,399    |   | $ | 706,548 |   |
| Cash paid for income taxes                                                                              |       |                                              | —     |   |   | — |   |
|                                                                                                    |       |                                              |       |   |   |   |   |
| **Supplemental investing  cash flow data:**                                                             |       |                                              |       |   |   |   |   |
| Restricted cash withheld  on sale of subsidiary—current                                            |       | $                                                 | 1,500,000  |   |   | — |   |
| Restricted cash withheld  on sale of subsidiary—noncurrent                                         |       |                                              | 1,600,000  |   |   | — |   |
|                                                                                                         |            |                                                   |            |  |  |  |  |  |  |

 

See accompanying notes to consolidatedfinancial statements.

 

6

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**STRATUM HOLDINGS, INC.**

**Notes to Consolidated Financial Statements**

**(Unaudited)**

 

**(1)****          ****Basis of Presentation**

 

Theaccompanying condensed consolidated financial statements have been prepared bythe Company without audit, in accordance with accounting principles for interimfinancial information and pursuant to the rules and regulations of theSecurities and Exchange Commission.  Inthe opinion of management, these condensed consolidated financial statementscontain all adjustments (consisting only of normal recurring adjustments)necessary to fairly state the financial position of the Company as of June 30,2008, the results of its operations for the three month and six month periodsended June 30, 2008 and 2007, and cash flows for the six month periodsended June 30, 2008 and 2007. Certain information and footnote disclosures normally included infinancial statements prepared in accordance with generally accepted accountingprinciples have been condensed or omitted. Interim results of operations arenot necessarily indicative of results for subsequent interim periods. Thesefinancial statements should be read in conjunction with our Annual Report on Form 10-KSBfor the year ended December 31, 2007.

 

TheCompany has recently undergone a change of control at the shareholder level asmore fully described in the Current Report on Form 8-K, filed onJune 3, 2008. As a result, the Company’s main focus is presently on thedomestic Exploration & Production business with a secondary focus onthe Canadian Energy Services business.

 

**(2)****          ****Corporate Acquisitions**

 

OnMay 23, 2006, the Company acquired the outstanding common stock of CYMRICorporation (“CYMRI”) for total consideration of $12.7 million paid in acombination of cash, notes payable and 12,540,000 shares of Common Stock.  At the time of the acquisition, CYMRI wasengaged in the Exploration & Production business with propertieslocated in Texas and Louisiana while its subsidiary, Petroleum Engineers, Inc.(“PEI”), performed Energy Services largely for customers in the UnitedStates.  The Company has accounted forthe acquisition of CYMRI, at a deemed effective date of June 1, 2006, as apurchase with Stratum treated as the acquirer. As further discussed in Note 3, the Company sold the capital stock ofPEI to a third party in March 2008 while retaining the Exploration &Production business.

 

OnMarch 2, 2007, the Company acquired the outstanding capital stock of DeccaConsulting, Ltd. (“Decca”) for total consideration of $5.1 million (plusworking capital) paid in a combination of cash, notes payable and 828,572shares of Common Stock.  At the time ofthe acquisition, Decca provided consulting services for the Canadian energyindustry.  The Company has accounted forthe acquisition of Decca, at a deemed effective date of March 1, 2007, asa purchase with Stratum treated as the acquirer.  The following is a condensed balance sheetshowing the fair values of the assets acquired and liabilities assumed fromDecca as of the date of the acquisition (including transaction costs of$300,000):

 
| Current assets                       |   | $          | 3,280,427 |   |
|--------------------------------------|--------|------------|-----------|--------|
| Property and equipment               |   | 9,675      |      |
| Goodwill arising in the  acquisition |   | 4,936,313  |      |
| Current liabilities                  |   | (2,442,015 | )         |
|                                 |   | $          | 5,784,400 |   |

 

OnMarch 11, 2008, the Company sold the capital stock of PEI to HamiltonEngineering, Inc. (“Hamilton”) for a total sales price of $15.0 millionand granted Hamilton a three month, non-binding option to acquire the capitalstock of Decca for $4.25 million which expired unexercised on June 9, 2008(see Note 3).  The Company presently hasno plans to sell Decca or any other assets or subsidiaries.

 

7

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**(3)****          ****Discontinued Operations**

 

OnOctober 26, 2007, the Company sold substantially all of the assets of itswholly-owned subsidiary, Tradestar Construction Services, Inc. (“TradestarConstruction”) to a private construction staffing company receiving cashproceeds of $3.2 million, plus a working capital adjustment, and applied thesales proceeds to the repayment of debt and other accrued obligations includingthe outstanding indebtedness of Tradestar Construction under a revolving bankcredit agreement in the amount of $1,810,210 and a bank term loan in the amountof $451,920 (see Note 4).  The Companyreported a pre-tax gain from the sale of these assets in the fourth quarter of2007 in the amount of $1,664,000.  Theresults of discontinued operations of Tradestar Construction for the six monthsended June 30, 2007 are summarized as follows:

 
| Construction staffing  revenues    |   | $          | 7,163,066 |   |
|------------------------------------|--------|------------|-----------|--------|
| Cost of construction  staffing     |   | (5,571,842 | )         |
| Gross profit                       |   | 1,591,224  |      |
| General &  administrative |   | (1,263,364 | )         |
| Interest expense, net              |   | (59,835    | )         |
| Net income before taxes            |   | 268,025    |      |
| Provision for income taxes         |   | (91,128    | )         |
| Net income                         |   | $          | 176,897   |   |

 

OnMarch 11, 2008, the Company sold the capital stock of its domestic EnergyServices subsidiary, PEI, to Hamilton for a total sales price of $15.0 millionand granted Hamilton a three month, non-binding option to acquire the capitalstock of its Canadian Energy Services subsidiary, Decca, for $4.25 millionwhich expired unexercised on June 9, 2008. The Company applied the sales proceeds to the repayment of debt andother accrued obligations including the outstanding indebtedness of PEI under arevolving bank credit agreement in the amount of $3.2 million and unsecuredseller debt and other liabilities in the amount of $4.5 million (see Note 4).  The Company recognized a pre-tax gain fromthe sale of PEI in the first quarter of 2008 in the estimated amount of$1,350,000.  The results of discontinuedoperations of PEI for the six months ended June 30, 2008 and 2007,including the gain in the first quarter of 2008, are summarized as follows:

 
| ** **                        | ** ** | **Six Months Ended June 30,** | ** ** |
|-----------------------------------|------------|---------------------------------------------------|------------|
| ** **                        | ** ** | **2008**                                          | ** ** | **2007** | ** ** |
|                              |       |                                              |       |   |   |
| Energy services revenues          |       | $                                                 | 3,876,949  |   | $ | 14,226,386 |   |
| Cost of energy services           |       | (2,919,987                                        | )          | (10,476,322 | ) |
| Gross profit                      |       | 956,962                                           |       | 3,750,064 |   |
| General & administrative |       | (914,929                                          | )          | (2,614,231 | ) |
| Interest expense, net             |       | (255,321                                          | )          | (158,808 | ) |
| Gain on sale                      |       | 1,349,855                                         |       | — |   |
| Net income before taxes           |       | 1,136,567                                         |       | 977,025 |   |
| Provision for income taxes        |       | (1,546,100                                        | )          | (332,188 | ) |
| Net income (loss)                 |       | $                                                 | (409,533   | ) | $ | 644,837 |   |

 

Asa result of the sale of PEI, the Company exited from the domestic EnergyServices segment leaving only its operations in the Canadian Energy Servicesand Exploration & Production segments. In conjunction with the sale of PEI, the Company has indemnifiedHamilton with respect to certain pre-sale contingencies for a two yearperiod.  In order to secure theseindemnities, Hamilton withheld $1.6 million of the sales proceeds in an escrowaccount.  Upon the expiration of theindemnity period, the unexpended balance of the escrow account will revert tothe Company.  The escrow account and a$1.5 million tax reserve related to the PEI sale are reflected as restrictedcash on the balance sheet as of June 30, 2008.

 

8

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**(4)****          ****Long Term Debt**

 

Asof June 30, 2008 and December 31, 2007, the Company had the followinglong-term debt obligations:

 
| ** **                                                                                                                                                                                                                                                                              | ** ** | **June 30,** | ** ** | **December 31,** | ** ** |
|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-------------------|------------|-----------------------|------------|
| ** **                                                                                                                                                                                                                                                                              | ** ** | **2008**          | ** ** | **2007**              | ** ** |
| $20,000,000 line of credit  with a bank, principal payable $115,000 per month through extended maturity  on January 1, 2009, interest at 1.0% above prime payable monthly,  secured by first lien on CYMRI’s oil and gas properties and deposits held by  stockholders        |       | $                 | 2,330,000  |                  | $          | 4,955,000 |   |
|                                                                                                                                                                                                                                                                                    |       |              |       |                  |       |
| $7,000,000 revolving line  of credit with a bank, interest at 1.0% above prime payable monthly through  maturity in May 2010, secured by accounts receivable of domestic  petroleum services businesses                                                                            |       | —            |       | 3,133,663             |       |
|                                                                                                                                                                                                                                                                                    |       |              |       |                  |       |
| Notes payable to former  CYMRI shareholders, bearing interest at 10%, payable in total monthly  installments of $65,335 beginning in June 2006 through maturity at  May 2008, and secured by substantially all assets, subject to liens on  oil and gas properties            |       | —            |       | 2,261,166             |       |
|                                                                                                                                                                                                                                                                                    |       |              |       |                  |       |
| Notes payable to 8  individuals, incurred in acquisition of CYMRI, bearing interest at 10%,  interest only payable monthly beginning in July 2006 through extended  maturity in March 2010, unsecured                                                                         |       | 1,125,000         |       | 2,250,000             |       |
|                                                                                                                                                                                                                                                                                    |       |              |       |                  |       |
| $4,000,000 (Cdn) revolving  line of credit with a bank, interest at 4.5% above Canadian prime payable  monthly through maturity in May 2010, secured by accounts receivable of  Canadian petroleum services business                                                               |       | 819,178           |       | 1,469,602             |       |
|                                                                                                                                                                                                                                                                                    |       |              |       |                  |       |
| $1,500,000 term loan from  a bank, interest at 4.0% above prime payable monthly through maturity in  March 2009, secured by accounts receivable of petroleum services  businesses                                                                                                  |       | —            |       | 506,020               |       |
|                                                                                                                                                                                                                                                                                    |       |              |       |                  |       |
| Notes payable to 3  individuals, incurred by CYMRI in acquisition of a subsidiary, bearing  interest at 8%, payable in total monthly installments of $54,219 beginning in  March 2005 through maturity at February 2010, secured by  subsidiary’s oil and gas properties |       | —            |       | 1,290,983             |       |
|                                                                                                                                                                                                                                                                                    |       |              |       |                  |       |
| Notes payable to 2  individuals, incurred in acquisition of Decca, bearing interest at 9%,  payable in monthly installments of $30,099 (Cdn) from April 1, 2007  through March 31, 2012, unsecured                                                                            |       | 1,085,608         |       | 1,381,684             |       |
|                                                                                                                                                                                                                                                                                    |       |              |       |                  |       |
| Advances from  stockholders, bearing interest at 10%, interest only payable monthly through  various maturities, unsecured                                                                                                                                                              |       | 1,457,318         |       | 1,357,317             |       |
|                                                                                                                                                                                                                                                                                    |       |              |       |                  |       |
| Other short term notes for  liability insurance and accrued payables, interest rates at 7% to 9%                                                                                                                                                                                        |       | 102,924           |       | 952,205               |       |
|                                                                                                                                                                                                                                                                                    |       | 6,920,028         |       | 19,557,640            |       |
| Current portion of long  term debt                                                                                                                                                                                                                                                      |       | (3,352,924        | )          | (6,581,127            | )          |
|                                                                                                                                                                                                                                                                                    |       |              |       |                  |       |
|                                                                                                                                                                                                                                                                                    |       | $                 | 3,567,104  |                  | $          | 12,976,513 |   |

 

Borrowingsunder the bank credit agreement secured by CYMRI’s oil and gas properties aresubject to a borrowing base, which is periodically redetermined, based on oiland gas reserves.  The terms of the bankcredit agreement require CYMRI to maintain certain financial covenantsregarding working capital ratio, interest coverage level, the ratio of loanbalance to loan balance plus stockholders’ equity, and the 

 

9

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non-paymentof dividends, for which CYMRI has received certain forbearances from the banksince the second quarter of 2007.  Thebank credit agreement expired on November 30, 2007, however, the bankagreed to initially extend the term of the debt to March 31, 2008, withthe requirement that CYMRI continue to make monthly payments of $115,000principal plus accrued interest. Pursuant to the terms of this extension, the Company made an additionalprincipal payment of $1,948,468 in March 2008 using a portion of theproceeds from the sale of PEI (see Note 3). In March 2008, the bank agreed to further extend the maturity ofthe debt to January 1, 2009, with the requirement that CYMRI continue tomake monthly payments of $115,000 principal plus accrued interest, reducing theoutstanding balance at June 30, 2008 to $2,330,000.  On August 5, 2008, CYMRI refinanced thisdebt with another bank under a new two year credit agreement, containingsimilar terms.  The new credit agreementhas an initial borrowing base of $3,400,000, reducing by $125,000 per month,beginning September 1, 2008.

 

TheCompany has a second bank credit agreement, which was secured by accountsreceivable of both its Construction Staffing and its domestic and CanadianEnergy Services businesses, through October 2007.  This credit agreement provided for arevolving borrowing base of 85% of qualifying accounts receivable up to$7,000,000 in the U.S. and $4,000,000 (Cdn) in Canada, with an interest rate of1% above prime.  As further discussed inNote 3: (a) In October 2007, the Company sold substantially all ofthe assets of Tradestar Construction to a private construction staffing companyreceiving cash proceeds of $3.2 million, plus a working capital adjustment,which were applied to the repayment of debt and other accrued obligations includingthe outstanding indebtedness of Tradestar Construction under the revolving bankcredit agreement in the amount of $1,810,210 and a bank term loan in the amountof $451,920; and (b) In March 2008, the Company sold the capitalstock of its domestic Energy Services subsidiary, PEI, to Hamilton for a totalsales price of $15.0 million and applied the sales proceeds to the repayment ofdebt and other accrued obligations including the outstanding indebtedness ofPEI under the revolving credit agreement in the amount of $3.2 million andunsecured seller debt and other liabilities in the amount of $4.5 million.  As a result of these two sales, the Companyterminated the U.S. portion of its revolving bank credit agreement in March 2008while retaining the Canadian portion.

 

**(5)****          ****Net Income (Loss) Per Share**

 

Basicincome (loss) per common share is computed by dividing the net income or lossby the weighted average number of shares of common stock outstanding during theperiod, including the issuance of 385,714 shares in a private placement at$1.75 per share for gross proceeds of $675,000 in the first quarter of2007.  Diluted income (loss) per commonshare is computed by dividing net income or loss by the weighted average numberof shares of common stock outstanding during the period and potentiallydilutive common share equivalents, consisting of stock options and warrants,under the Treasury Stock Method. The effects of potential common stockequivalents are not included in computations when their effect is anti-dilutive.  Because of the net loss for the three monthsand six months ended June 30, 2008 and 2007, the basic and diluted averageoutstanding shares are considered the same, since including the shares wouldhave an antidilutive effect on the net loss per share calculation.

 

**(6)****          ****Stock-Based Compensation**

 

TheCompany has a stock-based compensation plan which was approved by thestockholders in October 2005 and amended in October 2006.  Under the plan, as amended, a maximum of2,400,000 shares may be awarded to directors and employees in the form of stockoptions, restricted stock or stock appreciation rights.  The exercise price, terms and otherconditions applicable to each stock option grant are generally determined bythe Board of Directors.  The exerciseprice of stock options is set on the grant date and may not be less than thefair market value of the Company’s Common Stock on that date.  The stock options generally becomeexercisable over a three year period and expire after five years.

 

10

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Effective January 1,2006, the Company adopted SFAS No. 123 (revised 2004), “*Share-Based Paymen*t” (“SFAS 123R”)requiring that compensation expense related to share-based payment transactionswith employees be recognized in the financial statements.   The cost is measured at the grant date,based on the calculated fair value of the award, and is recognized as anexpense over the employee’s requisite service period (generally, the vestingperiod of the award).   Prior to January 1,2006, the Company accounted for share-based compensation to employees inaccordance with APB Opinion No. 25, “*Accounting for StockIssued to Employees”* (“APB 25”) and related interpretations.  The Company adopted SFAS 123R using themodified prospective method, accordingly, financial statements for priorperiods were not restated.

 

Option activitywith directors and employees since January 1, 2007 were as follows(including options granted to directors outside of the plan):

 
| ** **                             | ** ** | **Number** | ** ** | **Wtd.**** ****Avg.** | ** ** | **Wtd.**** ****Avg.** | ** ** | **Aggregate** | ** ** |
|----------------------------------------|------------|------------|------------|----------------------------|------------|----------------------------|------------|---------------|------------|
| ** **                             | ** ** | **of**     | ** ** | **Exercise**               | ** ** | **Remaining**              | ** ** | **Intrinsic** | ** ** |
| ** **                             | ** ** | **Shares** | ** ** | **Price**                  | ** ** | **Term (Yrs.)**       | ** ** | **Value**     | ** ** |
| Outstanding  at January 1, 2007   |       | 1,694,100  |       | $                          | 1.34       |                       |       |          |       |   |
| Options  granted                       |       | 400,000    |       | 2.10                       |       |                       |       |          |       |
| Options  exercised                     |       | (125,000   | )          | (0.18                      | )          |                       |       |          |       |
| Options  forfeited                     |       | (154,500   | )          | (2.10                      | )          |                       |       |          |       |
| Outstanding  at December 31, 2007 |       | 1,814,600  |       | 1.53                       |       |                       |       |          |       |
| Options  forfeited                     |       | (1,209,600 | )          | (2.10                      | )          |                       |       |          |       |
| Outstanding  at June 30, 2008     |       | 605,000    |       | $                          | 0.85       |                       | 2.6        |          | $          | — |   |
|                                   |       |       |       |                       |       |                       |       |          |       |
| Exercisable  at June 30, 2008     |       | 385,000    |       | $                          | 0.56       |                       | 2.4        |          | $          | — |   |

 

Stock-basedcompensation expense in the amounts of $266,934 and $226,307 for the six monthperiods ended June 30, 2008 and 2007, respectively, have been recognizedas a current period expense in the accompanying Consolidated FinancialStatements.  As of June 30, 2008,total unrecognized compensation cost of approximately $30,000 related to stockoptions is expected to be recognized over a weighted average period ofapproximately 3.2 years.  The estimatedfair value of the options granted to employees under the plan was calculatedusing a Black Scholes option pricing model. The following schedule reflects theassumptions included in this model as it relates to the valuation of suchoptions: (a) Expected volatility – 95%; (b) Expected risk freeinterest rate – 6%; (c) Expected dividend yield – zero; (d) Expectedoption term – 3 years; and (e) Forfeitures – 0%, subject to adjustment foractual experience.  The aggregateintrinsic value of employee options granted as of June 30, 2008 was zeroas there were no in-the-money options at that date.

 

In conjunctionwith the sale of PEI to Hamilton in March 2008 (see Note 3), the Company’sChief Executive Officer resigned his position with the Company.  Pursuant to a Board approved severanceagreement, the Company made a cash severance payment to the former ChiefExecutive Officer in the amount of $200,000 and granted him an additionalseverance benefit via the issuance of 1,142,857 restricted shares of CommonStock with a then current value of $280,000. The value of the restricted shares issued to the former Chief ExecutiveOfficer was included in stock-based compensation expense in the first quarterof 2008.

 

**(7)****         ****Stockholder Advances**

 

The Companyreceived net stockholder advances in the amount of $67,000 in the six monthsended June 30, 2008 and received net stockholder advances in the amount of$650,000 in the six months ended June 30, 2007.  Stockholder advances, excluding amountsadvanced to finance the cash portion of the CYMRI purchase price (see Note 2),are reflected as unsecured long term debt obligations and accrue interest at arate of 10% per annum.

 

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** **

**(8)****         ****Contingencies**

 

Triumph Energy, Inc.,a subsidiary in the Exploration & Production segment, is a defendantin certain lawsuits involving professional liability arising in the normalcourse of business.  In June 2008,Triumph settled one of these lawsuits at a net cost to the company of $167,000which was recognized as an expense in the second quarter of 2008.  It is not practical at the present time todetermine the amount or likelihood of an unfavorable outcome to the Company’sconsolidated financial position or results of operations of any of the otheractions against Triumph.  However,management believes that Triumph has meritorious defenses in each case and isvigorously defending these matters.

 

A lawsuit wasfiled in February 2008 against Decca, the Company’s Canadian EnergyServices subsidiary, claiming unspecified damages related to work performed byDecca on a well drilled in the U.S. in late 2006, prior to the Company’sacquisition of Decca.  Pursuant to theterms of the stock purchase agreement under which the Company acquired Decca inMarch 2007 (see Note 2), management believes that the Company is indemnifiedby the prior owners of Decca for any losses that may be sustained as a resultof this litigation.  Decca believes thatit has a meritorious defense in this case and is vigorously defending thismatter.

 

**(9)****         ****Segment Information**

 

With the salesof Tradestar Construction in October 2007 and PEI in March 2008 (seeNote 3), the Company’s remaining operations are in the Canadian Energy Servicesand domestic Exploration & Production segments.  The table below reflects the allocation ofcertain Income Statement and Balance Sheet data between these two reportablesegments for the six months ended June 30, 2008 (in 000’s):

 
| ** **                                        | ** ** | **Energy**   | ** ** | **Exploration &** | ** ** | ** ** | ** ** |
|---------------------------------------------------|------------|--------------|------------|----------------------------|------------|------------|------------|
| ** **                                        | ** ** | **Services** | ** ** | **Production**             | ** ** | ** ** | ** ** |
| ** **                                        | ** ** | **(Can.)**   | ** ** | **(U. S.)**           | ** ** | **Total**  | ** ** |
| Income  Statement Data:                           | ** ** | ** **   | ** ** | ** **                 | ** ** | ** ** | ** ** |
| Operating  revenues                               |       | $            | 12,403     |                       | $          | 2,228      |       | $ | 14,631 |   |
| Other  revenues                                   |       | 97           |       | —                     |       | 97         |       |
| Total  revenues                                   |       | 12,500       |       | 2,228                      |       | 14,728     |       |
| Depreciation,  depletion & amortization  |       | —       |       | (250                       | )          | (250       | )          |
| Other  allocable operating expenses               |       | (11,342      | )          | (1,156                     | )          | (12,498    | )          |
| Gross profit                                      |       | 1,158        |       | 822                        |       | 1,980      |       |
| General &  administrative                |       |         |       |                       |       | (2,663     | )          |
| Loss from  operations                             |       |         |       |                       |       | (683       | )          |
| Interest  expense                                 |       |         |       |                       |       | (846       | )          |
| Net loss  from continuing operations before taxes |       |         |       |                       |       | $          | (1,529     | ) |
|                                              |       |         |       |                       |       |       |       |
| Balance  Sheet Data:                              |       |         |       |                       |       |       |       |
| Subsidiary  assets                                |       | $            | 2,262      |                       | $          | 7,003      |       | $ | 9,265 |   |
| Goodwill                                          |       | 4,936        |       | —                     |       | 4,936      |       |
| Segment  assets                                   |       | 7,198        |       | 7,003                      |       | 14,201     |       |
| Corporate  assets                                 |       |         |       |                       |       | 3,579      |       |
| Consolidated  assets                              |       |         |       |                       |       | $          | 17,780     |   |

 

 

12

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** **

Due to thesignificant organizational changes resulting from the sales of TradestarConstruction in October 2007 and PEI in March 2008, the Company doesnot believe that the presentation of segment information for the prior yearperiod is meaningful.

 

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** **
| **ITEM 2.** | **MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND  RESULTS OF OPERATIONS** |
|-------------|-------------------------------------------------------------------------------------------------|

 

The followingdiscussion of our financial condition and results of operations should be readin conjunction with, and is qualified in its entirety by, the condensedconsolidated financial statements and notes thereto included in Item 1 in thisQuarterly Report on Form 10-Q. This item contains forward-lookingstatements that involve risks and uncertainties. Actual results may differmaterially from those indicated in such forward-looking statements.

 

**Forward-LookingStatements**

 

This Quarterly Report on Form 10-Qand the documents incorporated herein by reference contain forward-lookingstatements that have been made pursuant to the provisions of the PrivateSecurities Litigation Reform Act of 1995. Such forward-looking statements arebased on current expectations, estimates, and projections about our industry,management beliefs, and certain assumptions made by our management. Words suchas “anticipates,” “expects,” “intends,” “plans,” “believes,” “seeks,”“estimates,” variations of such words, and similar expressions are intended toidentify such forward-looking statements. These statements are not guaranteesof future performance and are subject to certain risks, uncertainties, andassumptions that are difficult to predict; therefore, actual results may differmaterially from those expressed or forecasted in any such forward-lookingstatements. Unless required by law, we undertake no obligation to update publiclyany forward-looking statements, whether as a result of new information, futureevents, or otherwise. However, readers should carefully review the risk factorsset forth in other reports and documents that we file from time to time withthe Securities and Exchange Commission, particularly the Quarterly Reports on Form 10-Q,and future Annual Reports on Form 10-K and any Current Reports on Form 8-K.

** **

**Overviewand History**

 

Stratum Holdings, Inc. (formerly,Tradestar Services, Inc.) was incorporated in the State of Nevada on September 3,2003 under the name Frontier Staffing, Inc. We were formed to acquireTradestar Construction Services, Inc., a New Mexico corporation, whichoperated as an employment staffing service specializing in the placement ofboth long-term and short-term skilled and unskilled construction labor to theNew Mexico construction market. In January 2004, we acquired TradestarConstruction Services, Inc. in a stock-for-stock exchange. We issued atotal of 6,400,000 shares of Common Stock in connection with this transaction.

 

On July 7, 2004, we filed aregistration statement under cover of Form SB-2 with the SEC. Thisregistration statement was declared effective by the SEC on February 10,2005.  On March 30, 2005, we closedthis public offering.  We raised a totalof $600,000 and sold a total of 2,000,000 shares of Common Stock.  In October 2005, we changed our name toTradestar Services, Inc.

 

On May 23, 2006, we acquired theoutstanding common stock of CYMRI Corporation (“CYMRI”) for total considerationof $12.7 million paid in a combination of cash, notes payable and CommonStock.  At the time of the acquisition,CYMRI was engaged in the Exploration & Production business withproperties located in Texas and Louisiana while its subsidiary, PetroleumEngineers, Inc. (“PEI”), performed Energy Services largely for customersin the United States.

 

On March 2, 2007, we acquired theoutstanding capital stock of Decca Consulting, Ltd. (“Decca”) for totalconsideration of $5.1 million paid in a combination of cash, notes payable andCommon Stock.  At the time of theacquisition, Decca provided consulting services for the Canadian energyindustry.  In March 2007, we alsochanged our name to Stratum Holdings, Inc.

 

On October 26, 2007, we sold substantiallyall of the assets of Tradestar Construction to a private construction staffingcompany.  We received cash proceeds of$3.2 million plus a working capital adjustment. We applied the sales proceeds to the repayment of debt and other accruedobligations including the outstanding indebtedness of 

 

14

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our Construction Staffing subsidiaryunder a revolving bank credit agreement in the amount of $1,810,210 and a bankterm loan in the amount of $451,920.  Wereported a pre-tax gain from the sale of these assets in the fourth quarter of2007 in the amount of $1,664,000.  Wehave reported the revenues and expenses of Tradestar Construction for theperiod that we owned it in 2007 as discontinued operations in the accompanyingConsolidated Statement of Operations.

 

On March 11, 2008, we sold thecapital stock of our domestic Energy Services subsidiary, PEI, to HamiltonEngineering, Inc. (“Hamilton”) for a total sales price of $15.0 millionand granted Hamilton a three month, non-binding option to acquire the capitalstock of our Canadian Energy Services subsidiary, Decca, for $4.25 millionwhich expired unexercised on June 9, 2008. We presently have no plans to sell Decca or any other assets orsubsidiaries.  We applied the salesproceeds to the repayment of debt and other accrued obligations including theoutstanding indebtedness of PEI under a revolving bank credit agreement in theamount of $3.2 million and unsecured seller debt and other liabilities in the amountof $4.5 million.  We recognized a pre-taxgain from the sale of PEI in the first quarter of 2008 in the estimated amountof $1,350,000.  We have reported therevenues and expenses of PEI for the period that we owned it in 2008 and 2007as discontinued operations in the accompanying Consolidated Statement ofOperations.  As a result of this sale, weexited from the domestic portion of our Energy Services segment leaving us withthe Canadian portion of our Energy Services segment as well as our operationsin the Exploration & Production segment.

 

Following the PEI sale, our main focus isnow on the domestic Exploration & Production business with a secondaryfocus on the Canadian Energy Services business.

 

**Resultsof Operations**

 

The following discussion reflects therevenues and expenses of our retained Canadian Energy Services and Exploration &Production segments as continuing operations while the revenues and expenses ofour exited domestic Energy Services and Construction Staffing segments arereported as discontinued operations.

 

*Three months ended June 30, 2008 versus three months ended June 30,2007*— Total revenues from continuingoperations for the three months ended June 30, 2008 were $5,839,000compared to $3,284,000 for the three months ended June 30, 2007.

 

Revenues from continuing Energy Services forthe three months ended June 30, 2008 were $4,649,000 compared to$2,551,000 for the three months ended June 30, 2007.  The amounts in both periods were entirelyattributable to Decca, acquired effective March 1, 2007.  Total billings for continuing Energy Servicesin the three months ended June 30, 2008, exclusive of cost reimbursements,were approximately 3,500 man days at an average billing rate of approximately$1,325 per day.

 

Revenues from oil and gas sales for the threemonths ended June 30, 2008 were $1,179,000 compared to $724,000 for thethree months ended June 30, 2007.  In the three months ended June 30, 2008, revenues from oilproduction were $982,000, reflecting volumes of 9,679 barrels at an averageprice of $101.43 per barrel, while gas revenues were $197,000, reflectingvolumes of 21,805 Mcf at an average price of $9.06 per Mcf.  In the three months ended June 30, 2007,revenues from oil production were $553,000, reflecting volumes of 9,527 barrelsat an average price of $58.08 per barrel, while gas revenues were $171,000,reflecting volumes of 23,781 Mcf at an average price of $7.18 per Mcf.

 

Costs of continuing Energy Services forthe three months ended June 30, 2008 were $4,418,000 versus $2,273,000 forthe three months ended June 30, 2007. The amounts in both periods were entirely attributable to Decca,acquired effective March 1, 2007. Costs of Energy Services for the three months ended June 30, 2008represented approximately 95% of revenues, consistent with the historicalpercentage experienced by Decca for this period, which is typically the quarterof lowest service volumes.

 

15

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Lease operating expenses (“LOE”), includingproduction taxes, were $527,000 for the three months ended June 30, 2008versus $339,000 for the three months ended June 30, 2007, representing LOEof CYMRI’s oil and gas production operations, acquired effective June 1,2006.  This increase was due to certainnon-recurring expenses in the second quarter of 2008.

 

Depreciation, depletion and amortization(“DD&A”) expense for the three months ended June 30, 2008 was $91,000versus $207,000 for the three months ended June 30, 2007, largelyrepresenting DD&A of CYMRI’s oil and gas properties, acquired effective June 1,2006.  This decrease was primarily due toa non-cash impairment adjustment in the carrying value of CYMRI’s oil and pasproperties which was booked in the third quarter of 2007 in the amount of$7,000,000.

 

Workover expenses for the three months ended June 30,2008 were $85,000 versus $264,000 for the three months ended June 30,2007, representing workovers on CYMRI’s South Texas oil and gas properties,acquired effective June 1, 2006. This decrease was due to the decline in the number of workoveroperations in the second quarter of 2008 compared to the second quarter of2007.

 

Selling, general and administrative(“SG&A”) expenses attributable to continuing operations for the threemonths ended June 30, 2008 were $811,000 compared to $1,110,000 for thethree months ended June 30, 2007. This decrease was primarily due to the reduction in corporate overheadexpenses following the sale of PEI to Hamilton in March 2008.

 

Interest expense attributable to continuingoperations for the three months ended June 30, 2008 was $238,000 versus$391,000 for the three months ended June 30, 2007.  This decrease was primarily due to therepayment of certain corporate debt obligations in conjunction with the sale ofPEI to Hamilton in March 2008.

 

Income taxes attributable to continuingoperations were a benefit of $113,000 and $442,000 for the three months ended June 30,2008 and 2007, respectively, and reflect a benefit rate of 34% on a pre-tax netloss of $332,000 in the three months ended June 30, 2008.

 

Income from discontinued ConstructionStaffing operations, net of income taxes, was zero for the three months ended June 30,2008 versus $67,000 for the three months ended June 30, 2007.  As further described in Note 3 of theConsolidated Financial Statements, we sold substantially all of the assets ofTradestar Construction to a private construction staffing company in October 2007.  The results of operations of our ConstructionStaffing business have been classified as discontinued operations in theConsolidated Statement of Operations, net of income tax expense at thestatutory rate.

 

Income from discontinued Energy Servicesoperations, net of income taxes, was zero for the three months ended June 30,2008 versus $255,000 for the three months ended June 30, 2007.  As further described in Note 3 of theConsolidated Financial Statements, we sold the capital stock of our domesticEnergy Services subsidiary, PEI, to Hamilton in March 2008.  The results of operations of our domesticEnergy Services business have been classified as discontinued operations in theConsolidated Statement of Operations, net of income tax expense at thestatutory rate.

 

*Sixmonths ended June 30, 2008 versus six months ended June 30, 2007*—Total revenues from continuing operations for the six months ended June 30,2008 were $14,728,000 compared to $5,994,000 for the six months ended June 30,2007.

 

Revenues from continuing Energy Services forthe six months ended June 30, 2008 were $12,403,000 compared to $4,507,000for the six months ended June 30, 2007. The 2008 amount consists of six months of revenues from Decca, acquiredeffective March 1, 2007, whereas the 2007 amount only includes four monthsof Decca’s revenues.  Total billings forcontinuing Energy Services in the six months ended June 30, 2008,exclusive of cost reimbursements, were approximately 9,940 man days at anaverage billing rate of approximately $1,250 per day.

 

16

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Revenues from oil and gas sales for the sixmonths ended June 30, 2008 were $2,228,000 compared to $1,409,000 for thesix months ended June 30, 2007.  Inthe six months ended June 30, 2008, revenues from oil production were$1,860,000, reflecting volumes of 19,321 barrels at an average price of $96.29per barrel, while gas revenues were $368,000, reflecting volumes of 44,321 Mcfat an average price of $8.30 per Mcf.  Inthe six months ended June 30, 2007, revenues from oil production were$1,062,000, reflecting volumes of 18,689 barrels at an average price of $56.82per barrel, while gas revenues were $347,000, reflecting volumes of 48,565 Mcfat an average price of $7.14 per Mcf.

 

Costs of continuing Energy Services forthe six months ended June 30, 2008 were $11,342,000 versus $4,088,000 forthe six months ended June 30, 2007. The 2008 amount consists of six months of costs from Decca, acquiredeffective March 1, 2007, whereas the 2007 amount only includes four monthsof Decca’s costs.   Costs of EnergyServices for the six months ended June 30, 2008 represented approximately92% of revenues, consistent with the historical percentage experienced by Deccafor this period.

 

Lease operating expenses (“LOE”), includingproduction taxes, were $927,000 for the six months ended June 30, 2008versus $712,000 for the six months ended June 30, 2007, representing LOEof CYMRI’s oil and gas production operations, acquired effective June 1,2006.  This increase was due to certainnon-recurring expenses in the second quarter of 2008.

 

Depreciation, depletion and amortization(“DD&A”) expense for the six months ended June 30, 2008 was $250,000versus $418,000 for the six months ended June 30, 2007, largelyrepresenting DD&A of CYMRI’s oil and gas properties, acquired effective June 1,2006.  This decrease was primarily due toa non-cash impairment adjustment in the carrying value of CYMRI’s oil and pasproperties which was booked in the third quarter of 2007 in the amount of$7,000,000.

 

Workover expenses for the six months ended June 30,2008 were $229,000 versus $455,000 for the six months ended June 30, 2007,representing workovers on CYMRI’s South Texas oil and gas properties, acquiredeffective June 1, 2006.  Thisdecrease was due to the decline in the number of workover operations in the firsthalf of 2008 compared to the first half of 2007.

 

Selling, general and administrative(“SG&A”) expenses attributable to continuing operations for the six monthsended June 30, 2008 were $2,663,000 compared to $1,883,000 for the sixmonths ended June 30, 2007.  Thisincrease was due to non-recurring SG&A expenses associated with the sale ofPEI to Hamilton in March 2008 (including Board approved executiveseverance costs of $675,000) as well as SG&A expenses applicable to Decca’sCanadian Energy Services operations, acquired effective March 1, 2007, fora total of six months in the 2008 period versus only four months in the 2007period.

 

Interest expense attributable to continuingoperations for the six months ended June 30, 2008 was $846,000 versus$707,000 for the six months ended June 30, 2007.  This increase largely reflected interestexpense applicable to Decca’s Canadian Energy Services operations, acquiredeffective March 1, 2007, for a total of six months in the 2008 periodversus only four months in the 2007 period.

 

Income taxes attributable to continuingoperations were a benefit of $520,000 and $772,000 for the six months ended June 30,2008 and 2007, respectively, and reflect a benefit rate of 34% on a pre-tax netloss of $1,529,000 in the six months ended June 30, 2008.

 

Income from discontinued ConstructionStaffing operations, net of income taxes, was zero for the six months ended June 30,2008 versus $177,000 for the six months ended June 30, 2007.  As further described in Note 3 of the ConsolidatedFinancial Statements, we sold substantially all of the assets of TradestarConstruction to a private construction staffing company in October 2007.  The results of operations of our ConstructionStaffing business have been classified as discontinued operations in theConsolidated Statement of Operations, net of income tax expense at thestatutory rate.

 

17

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Income from discontinued Energy Servicesoperations, net of income taxes, was a net loss of $410,000 for the six monthsended June 30, 2008 versus net income of $645,000 for the six months endedJune 30, 2007.  As further describedin Note 3 of the Consolidated Financial Statements, we sold the capital stockof our domestic Energy Services subsidiary, PEI, to Hamilton in March 2008.  The results of operations of our domesticEnergy Services business, including the pre-tax gain in the estimated amount of$1,350,000 realized on the sale, have been classified as discontinuedoperations in the Consolidated Statement of Operations, net of applicableincome tax expense reflecting the estimated taxable gain on the sale in the2008 period.

 

**Liquidityand Capital Resources**

* *

*Operating**activities.*  Net cash used in operating activities fromcontinuing operations for the six months ended June 30, 2008 was $801,000compared to $1,756,000 for the six months ended June 30, 2007.  Net cash provided by operating activitiesfrom discontinued operations for the six months ended June 30, 2008 was$1,838,000 compared to $1,395,000 for the six months ended June 30,2007.  This increase in operating cashflow was primarily due to changes in relative timing between the accrual andpayment of accounts receivable and accounts payable associated withdiscontinued operations.

 

*Investing**activities. *Netcash provided by investing activities for the six months ended June 30,2008 was $11,659,000 compared to net cash used in investing activities of$432,000 for the six months ended June 30, 2007.  This increase was largely due to the sale ofPEI to Hamilton in March 2008 for $15.0 million, less purchases of currentrestricted cash in the amount of $1.5 million and non-current restricted cashin the amount of $1.6 million, pursuant to the securities purchase agreementwith Hamilton.

 

*Financing activities.*Netcash used in financing activities for the six months ended June 30, 2008was $12,638,000 compared to net cash provided by financing activities of$574,000 for the six months ended June 30, 2007.  This decrease in financing cash flows wasprimarily due to non-recurring repayments of long term debt and stockholderadvances which were made with the proceeds of the sale of PEI to Hamilton in March 2008in the gross amount of $15.0 million.  Asfurther described in the next two paragraphs, we have significantly reduced,but not eliminated, the Company’s ongoing debt service requirements.

** **

Following the sales ofTradestar Construction in October 2007 and PEI in March 2008, we haveremaining long term debt obligations to banks and other lenders (see Note 4,“Long Term Debt”).  A substantial portionof our long term debt is in the form of a bank credit facility secured byCYMRI’s producing oil and gas properties. Borrowings under the bank credit agreement are subject to a borrowingbase, which is periodically redetermined, based on oil and gas reserves.  The terms of the bank credit agreementrequire CYMRI to maintain certain financial covenants regarding working capitalratio, interest coverage level, the ratio of loan balance to loan balance plusstockholders’ equity, and the non-payment of dividends, for which CYMRI hasreceived certain forbearances from the bank since the second quarter of2007.  The bank credit agreement expiredon November 30, 2007, however, the bank agreed to initially extend theterm of the debt to March 31, 2008, with the requirement that CYMRIcontinue to make monthly payments of $115,000 principal plus accruedinterest.  Pursuant to the terms of thisextension, the Company made an additional principal payment of $1,948,468 in March 2008using a portion of the proceeds from the sale of PEI.  In March 2008, the bank agreed tofurther extend the maturity of the debt to January 1, 2009, with therequirement that CYMRI continue to make monthly payments of $115,000 principalplus accrued interest, reducing the outstanding balance at June 30, 2008to $2,330,000.  On August 5, 2008,CYMRI refinanced this debt with another bank under a new two year creditagreement, containing similar terms.  Thenew credit agreement has an initial borrowing base of $3,400,000, reducing by$125,000 per month, beginning September 1, 2008.  With the increase in the borrowing base andthe elimination of the previous requirement for mandatory monthly principalpayments, we believe that the new credit agreement represents a significantimprovement for CYMRI over the existing credit agreement.

 

18

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We also have a second bankcredit agreement, which was secured by accounts receivable of both ourConstruction Staffing and our domestic and Canadian Energy Services businessesthrough October 2007.  Borrowingsunder that revolving bank credit agreement were substantially reduced in thesales of our Construction Staffing and domestic Energy Services businesses in October 2007and March 2008, respectively, as more fully described in Note 4, “LongTerm Debt.”

 

To meet short term liquidityneeds following the CYMRI acquisition, we commenced a private offering ofshares of Common Stock and Warrants to a group of Accredited Investors in October 2006.  In the fourth quarter of 2006, we sold atotal of 314,286 shares of Common Stock to Accredited Investors at $1.75 pershare for gross proceeds of $550,000 and issued one year Warrants to suchInvestors to purchase an additional 314,286 shares of its Common Stock at $2.50per share.   In the first quarter of2007, we sold a total of 385,714 shares of Common Stock to Accredited Investorsat $1.75 per share for gross proceeds of $675,000 and issued one year Warrantsto such Investors to purchase an additional 385,714 shares of our Common Stockat $2.50 per share.

 

With the completion of oursales of Tradestar Construction in October 2007 and PEI in March 2008,our primary ongoing capital expenditures are in theExploration & Production segment.  Generally speaking, the Exploration &Production business can be highly capital intensive.  In this business, expenditures for thedrilling and equipping of oil and gas wells are typically required to maintainor increase existing production levels and production often declines in arelatively short period of time if maintenance capital is not investedtimely.  Further, acquisitions ofadditional lease acreage are often needed to drill new oil and gas wells.  As is the case with most companies with oiland gas producing operations, the Company attempts to finance its capitalexpenditure requirements through a combination of cash flow from operations andsecured bank borrowings.

 

**StrategicPlans**

 

The Company has reported substantialconsolidated operating losses and working capital deficits since completing theacquisitions of CYMRI/PEI in May 2006 and Decca in March 2007.  In order to address its liquidity needs, theCompany’s Board of Directors authorized Management in July 2007 to pursuea range of alternative actions including the sale of one or more of theCompany’s operating assets or businesses. This decision by the Board of Directors ultimately led the Company toseek the sales of: (a) Tradestar Construction to a private constructionstaffing company in October 2007; and (b) PEI to an affiliate ofHamilton in March 2008. Additionally, the Company granted Hamilton a three month, non-bindingoption to acquire Decca which expired unexercised on June 9, 2008.  The Company presently has no plans to sellDecca or any other assets or subsidiaries.

 

**RecentlyIssued Accounting Pronouncements**

 

In May 2008, the Financial Accounting Standards Board (“FASB”)issued Statement No. 162 “*The Hierarchy*of *Generally Accepted Accounting Principles*”(“SFAS 162”), which identifies the sources of accounting principles and theframework for selecting the principles to be used in the preparation offinancial statements of nongovernmental entities that are presented inaccordance with generally accepted accounting principles (GAAP) in theU.S.  This Statement is not expected toresult in a change in current practice for financial statement issuers in theU.S.  This Statement does not requireformal adoption and we do not expect it to have a material impact on ourconsolidated financial statements.

 

In March 2008, the FASB issued Statement No. 161 “*Disclosures about Derivative Instruments and Hedging Activities, **an amendment of**FASB Statement No. 133*” (“SFAS 161”), which establishes new disclosurerequirements for derivative instruments and hedging activities.  We do not presently engage in hedgingactivities, therefore, we do not expect the adoption of SFAS 161 to have amaterial impact on our consolidated financial statements.

 

19

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In December 2007, the FASB issued Statement No. 160 “*Non-controlling Interests in Consolidated Financial Statements, **an amendment ofARB No. 51***” (“SFAS 160”), which establishesaccounting and reporting standards for the non-controlling interest in asubsidiary and the deconsolidation of a subsidiary.  SFAS 160 is effective for fiscal yearsbeginning after December 15, 2008. We do not expect the adoption of SFAS 160 to have a material impact onour consolidated financial statements.

 

In December 2007, the FASB issued Statement No. 141(R), “*Business Combinations”* (“SFAS 141(R)”) a revision of SFAS No. 141.  SFAS 141(R) retains the purchase methodof accounting for acquisitions, but requires a number of changes, includingchanges in the way assets and liabilities are recognized in purchaseaccounting.  It also changes therecognition of assets acquired and liabilities assumed arising fromcontingencies and requires the expensing of acquisition-related costs asincurred.  Generally, SFAS 141(R) willbe effective for the Company on a prospective basis for all businesscombinations for which the acquisition date is on or after January 1,2009. We do not expect the adoption of SFAS 141(R) to have a materialimpact on our financial position or results of operations, provided we do notundertake a significant acquisition or business combination.

 

In February 2007, the FASB issued Statement No. 159 “**The Fair ValueOption for Financial Assets and Financial Liabilities—Including an amendment ofFASB Statement No. 115** “ (“SFAS 159”), which allowsmeasurement at fair value of eligible financial assets and liabilities that arenot otherwise measured at fair value. SFAS 159 is effective for fiscal yearsbeginning after November 15, 2007. We do not expect the adoption of SFAS 159 to have a material impact onour consolidated financial statements.

 

In September 2006, the FASB issued Statement No. 158 “*Employers’ Accounting for Defined Benefit Pension andOther Postretirement Plans, an amendment of FASB Statements No. 87, 88,106, and 132(R)*” (“SFAS 158”), which requires companies to recognizethe funded status of a defined benefit postretirement plan as an asset orliability in its balance sheet.  SFAS 158 is effective for fiscal yearsending after December 15, 2006.  Theadoption of SFAS 158 has not had a material effect on us since we have nodefined benefit plans.

 

In September 2006, the FASB issued SFAS No. 157, “*Fair Value Measurements*” (“SFAS 157”),which defines fair value, establishes a framework for measuring fair value andexpands disclosures about fair value measurements. This Statement applies underother accounting pronouncements that require or permit fair value measurements,the FASB having previously concluded in those accounting pronouncements thatfair value is the relevant measurement attribute. SFAS 157 is effective forfiscal years beginning after December 15, 2007.  We do not expect the adoption of SFAS 157 tohave a material impact on our consolidated financial statements.

 

In July 2006, the FASB issued Financial Interpretation No. 48,“*Accounting for Uncertainty in Income Taxes –an interpretation of FASB Statement No. 109*” (“FIN 48”), toclarify certain aspects of accounting for uncertain tax positions, includingissues related to the recognition and measurement of those tax positions. Thisinterpretation is effective for fiscal years beginning after December 15,2006.  The adoption of FIN 48 has not hada material effect on our consolidated financial statements.

** **

**CriticalAccounting Policies and Estimates**

 

Our discussion and analysis of ourfinancial condition and results of operations are based on consolidatedfinancial statements which have been prepared in accordance with generallyaccepted accounting principles in the United States. The preparation of thesefinancial statements requires us to make estimates and judgments that affectthe reported amounts of assets, liabilities, revenues and expenses. We believethat certain accounting policies affect our more significant judgments and estimatesused in the preparation of our consolidated financial statements as indicatedbelow.  See our Annual Report on Form 10-KSBfor the year ended December 31, 2007 for a further description of ourcritical accounting policies and estimates.

 

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** **
| **ITEM  3.** | **QUANTITATIVE AND QUALITATIVE  DISCLOSURES ABOUT MARKET RISK** |
|--------------|-----------------------------------------------------------------|

 

Information for this Item is not requiredas the Registrant is a “smaller reporting company” as defined in Rule 12b-2of the Exchange Act.

** **
| **ITEM 4.** | **CONTROLS  AND PROCEDURES** |
|-------------|------------------------------|

 

As of the date of this report, our ChiefExecutive Officer and our Chief Financial Officer evaluated the effectivenessof the design and operation of our disclosure controls and procedures pursuantto Rule 13a-15b under the Securities Exchange Act of 1934.  Based on their review of our disclosurecontrols and procedures, they have concluded that our disclosure controls andprocedures are effective in timely alerting each of them to materialinformation relating to us that is required to be included in our periodic SECfilings. Further, there were no significant changes in the internal controls orin other factors that could significantly affect these disclosure controlsafter the evaluation date and the date of this report. Nor were there anysignificant deficiencies or material weaknesses in such disclosure controls andprocedures requiring corrective actions. As a result, no corrective actionswere taken.  The Company has made nochanges in its internal controls over financial reporting in the most recentquarterly reporting period that has materially affected, or is reasonablylikely to affect, the Company’s internal controls over financialreporting.  The Company is continuing tomake certain organizational changes as a result of the sale of PEI in March 2008as well as the election of a new Chief Executive Officer and the resignation ofcertain Board members on May 27, 2008. The Company believes that these organizational changes are appropriatein light of its current level of operations. However, the Company does not expect that these changes will result insubstantially diminished internal controls over financial reporting.

** **
| **ITEM 4T.** | **CONTROLS AND PROCEDURES** |
|--------------|-----------------------------|

** **

Following the Company’s recent strategicdecision to not sell any of its remaining assets or businesses, management willundertake the necessary procedures to perform an evaluation of the Company’sinternal controls over financial reporting in the year ending December 31,2008.

 

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** **
| **PART II.** | **OTHER INFORMATION**                                                                                                                                                                                                                              |
|-------------------|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| ** **        | ** **                                                                                                                                                                                                                                         |
| **ITEM 1.**       | **LEGAL PROCEEDINGS**                                                                                                                                                                                                                              |
|              | See  Note 8 to Condensed Consolidated Financial Statements.                                                                                                                                                                                        |
| ** **        | ** **                                                                                                                                                                                                                                         |
| **ITEM 1A.**      | **RISK FACTORS**                                                                                                                                                                                                                                   |
|              |                                                                                                                                                                                                                                               |
|              | Information  for this Item is not required as the Registrant is a “smaller reporting  company” as defined in Rule 12b-2 of the Exchange Act.                                                                                        |
|              |                                                                                                                                                                                                                                               |
| **ITEM 2.**       | **UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS**                                                                                                                                                                                    |
|              | None.                                                                                                                                                                                                                                              |
|              |                                                                                                                                                                                                                                               |
| **ITEM 3.**       | **DEFAULTS UPON SENIOR SECURITIES**                                                                                                                                                                                                                |
|              | None.                                                                                                                                                                                                                                              |
|              |                                                                                                                                                                                                                                               |
| **ITEM 4.**       | **SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS**                                                                                                                                                                                            |
|              | None.                                                                                                                                                                                                                                              |
|              |                                                                                                                                                                                                                                               |
| **ITEM 5.**       | **OTHER INFORMATION**                                                                                                                                                                                                                              |
|              | None.                                                                                                                                                                                                                                              |
|              |                                                                                                                                                                                                                                               |
| **ITEM 6.**       | **EXHIBITS**                                                                                                                                                                                                                                       |
| ** **        | ** **                                                                                                                                                                                                                                         |
| 10.1              | Stock Purchase Agreement, dated May 27,  2008, by and among Larry M. Wright, Michael W. Hopkins, Frederick A. Huttner,  Sheryl Huttner, Huttner 1999 Partnership Ltd., Richard A. Piske, III and  Robert G. Wonish                       |
|              |                                                                                                                                                                                                                                               |
| 10.2              | Second Amended and Restated Credit Agreement,  dated August 5, 2008, among CYMRI, L.L.C. and Triumph Energy, Inc.  (as Borrowers) and Texas Capital Bank, N.A. (as Lender) for a Reducing  Revolving Line of Credit of up to $25,000,000 |
|              |                                                                                                                                                                                                                                               |
| 10.3              | Guaranty Agreement, dated August 5, 2008,  executed by Stratum Holdings, Inc. (Guarantor) for benefit of Texas  Capital Bank, N.A (as Lender).                                                                                           |
|              |                                                                                                                                                                                                                                               |
| 10.4              | Promissory Note, dated August 5, 2008,  issued by CYMRI, L.L.C. and Triumph Energy, Inc. (as Makers) to Texas  Capital Bank, N.A. (as Payee) in amount of $25,000,000                                                                    |
|              |                                                                                                                                                                                                                                               |
| 10.5              | Security Agreement, dated August 5, 2008,  among CYMRI, L.L.C. and Triumph Energy, Inc. (as Debtors) and Texas  Capital Bank, N.A. (as Secured Party)                                                                                    |

 

22

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| 31.1   | Certification of Chief Executive Officer  pursuant to Rule 13a-14(a)/15(d)-14(a)                                                                         |
|--------|---------------------------------------------------------------------------------------------------------------------------------------------------------------|
|   |                                                                                                                                                          |
| 31.2   | Certification of Chief Financial Officer  pursuant to Rule 13a-14(a)/15(d)-14(a)                                                                         |
|   |                                                                                                                                                          |
| 32.1   | Certification of Chief Executive Officer  pursuant to 18 U.S.C. Section 1350, as adopted pursuant to  Section 906 of the Sarbanes-Oxley Act of 2002 |
|   |                                                                                                                                                          |
| 32.2   | Certification of Chief Financial Officer  pursuant to 18 U.S.C. Section 1350, as adopted pursuant to  Section 906 of the Sarbanes-Oxley Act of 2002 |
|   |                                                                                                                                                          |

 

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** **

**SIGNATURES**

 

 

Pursuant to the requirements of theSecurities Exchange Act of 1934, the registrant has duly caused this report tobe signed on its behalf by the undersigned, thereunto duly authorized.

 

 
|                  | STRATUM HOLDINGS, INC. |
|-----------------------|------------------------|
|                  |                   |
|                  |                   |
|                  | /s/                    | Larry M. Wright |
|                  |                   | Larry M. Wright |
|                  |                   | Chief  Executive Officer |
|                  |                   |   |
|                  | /s/                    | D. Hughes Watler, Jr. |
|                  |                   | D. Hughes Watler, Jr. |
|                  | ** **             | Chief  Financial Officer |
| ** **            | ** **             | ** ** |
| ** **            | ** **             | ** ** |
| August 13,  2008 |                   |   |

 

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