4.       COMMITMENTS AND CONTINGENCIES

Gabon

As part of securing the second ten year production license with the government of Gabon for the Etame Marin block, the Company agreed to a cash funding arrangement for the eventual abandonment of the offshore wells, platforms and facilities. The agreement provides for annual funding beginning with the calendar year 2012 and continuing over the remaining life of the production license. Amounts paid will be reimbursed through the cost account and are non-refundable to the Company. The initial funding took place in October 2014 for calendar years 2012 and 2013 totaling $2.4 million net to the Company. The funding for calendar year 2014 is expected to be paid in the fourth quarter of 2014 in the amount of $1.2 million net to the Company.  As in prior periods, the obligation for abandonment of the Gabon offshore facilities is included in the asset retirement obligation shown on the Company’s balance sheet.

The sixth exploration license for the Etame Marin block expired on July 7, 2014.  In the second quarter of 2014, and prior to the deadline, the Company submitted a proposal for a seventh exploration license and is in negotiations with the Republic of Gabon to obtain the extension.  As the Company would not be able to drill the remaining leasehold by the expiration of the exploration license, and due to the uncertainty of obtaining the exploration license, the balance of undeveloped leasehold costs of $0.8 million was recorded as exploration expense in the second quarter of 2014.

Angola

The Company is the operator of Block 5, offshore Angola, a 1.4 million acre property. The Company’s working interest is 40%. Additionally, the Company is required to carry the Angolan national oil company, Sonangol P&P, for 10% of the work program. The Company had a two well exploration commitment per the terms of the primary exploration period.  Due to the uncertainty that the primary term of the exploration license would be extended by the Republic of Angola before the November 30, 2014 expiration date, in October 2014, the Company entered into the Subsequent Exploration Phase (“SEP”), together with its working interest partner, Sonangol P&P, as provided for in the Production Sharing Agreement signed in 2006 with the Republic of Angola. The SEP extends the exploration period for an additional three year period such that the new expiry date for exploration activities is November 30, 2017. Entering into the SEP requires the Company and its partner to acquire 3D seismic covering six hundred square kilometers and to drill two additional exploration wells.

By entering the SEP, the Company is now required to drill a total of four exploration wells during the exploration extension period.  The four well obligations include the two well commitments under the primary exploration period that carries over to the SEP period.  A $10.0 million dollar assessment ($5.0 million dollars net to VAALCO) applies to each of the four commitment exploration wells, if any, that remain undrilled at the end of the exploration period in November 2017. Restricted cash of $10.0 million for the two new commitment wells will be recorded in the fourth quarter of 2014.

The Company has already satisfied the seismic obligation of the SEP with the purchase of 3D seismic in the outboard segment of the block which is currently being processed and will continue into 2015.

A drilling rig contract was signed in July 2014 for a semi-submersible rig to drill the exploration well on the Kindele prospect, a post-salt objective. The well is expected to begin drilling in December 2014. Drilling this well will satisfy one of the four exploration well obligations and release $5.0 million of the $10.0 million recorded as restricted cash at September 30, 2014 by the Company.

Asset Retirement Obligation

The Company is carrying $13.7 million of asset retirement obligation as of September 30, 2014, representing the present value of our future obligations for the future abandonment costs of tangible assets such as platforms, well, pipelines and other facilities.

A summary of the recording of the estimated fair value of the Company’s asset retirement obligations is presented as follows:

In the nine months ended September 30, 2014, the Company increased the asset retirement obligation to recognize the abandonment liability for two new platforms installed in the third quarter of 2014, in offshore Gabon.