IVAN (MM)

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

Forward-Looking Statements

With the exception of historical information, certain matters discussed in this Quarterly Report on Form 10-Q (“Form 10-Q”), including those within this Item 2 – Management’s Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”), are forward-looking statements that involve risks and uncertainties.

Statements that contain words such as “could”, “should”, “can”, “anticipate”, “estimate”, “propose”, “plan”, “expect”, “seek”, “believe”, “will”, “may” and similar expressions and statements relating to matters that are not historical facts constitute “forward-looking statements” within the meaning of the “safe harbor” provisions of the United States Private Securities Litigation Reform Act of 1995. In particular, forward-looking statements contained in this Form 10-Q include, but are not limited to, statements relating to or associated with individual wells, regions or projects; future crude oil prices; future production levels; future royalty and tax levels; future capital expenditures, their timing and their allocation to exploration and development activities; future asset acquisitions or dispositions; future sources of funding for the Company’s capital programs; future debt levels; availability of future credit facilities; possible commerciality of the Company’s projects; development plans or capacity expansions; future ability to execute dispositions of assets or businesses; plans related to the consolidation of the company’s common share; future formation of joint ventures and other business relationships with third parties; future sources of liquidity, cash flows and their uses; future drilling of new wells; ultimate recoverability of current and long term assets; ultimate recoverability of reserves or resources; expected operating costs; estimates on a per share basis; future foreign currency exchange rates, future expenditures and future allowances relating to environmental matters and the Company’s ability to comply therewith; dates by which certain areas will be developed, come on-stream or reach expected operating capacity; and changes in any of the foregoing.

Statements relating to “reserves” are forward-looking statements, as they involve the implied assessment, based on estimates and assumptions that the reserves described exist in the quantities predicted or estimated and can be profitably produced in the future.

The forward-looking statements contained in this Form 10-Q are based on certain assumptions and analyses made by the Company in light of its experience and its perception of historical trends, current conditions and expected future developments as well as other factors it believes are appropriate in the circumstances. By their nature, forward-looking statements involve inherent risks and uncertainties, including the risk that the outcome that they predict will not be achieved. Undue reliance should not be placed on forward-looking statements as a number of important factors could cause the actual results to differ materially from the beliefs, plans, objectives, expectations and anticipations, estimates and intentions expressed in the forward-looking statements, including those set out below and those detailed in Item 1A, “Risk Factors” and Item 7A, “Quantitative and Qualitative Disclosures About Market Risk” in the 2013 Form 10-K. Such factors include, but are not limited to: the Company’s short history of limited revenue, losses and negative cash flow from its current exploration and development activities in Canada, Ecuador, Mongolia and the United States; the Company’s limited cash resources and consequent need for additional financing; the ability to implement the common share consolidation; the ability to raise capital as and when required, or to raise capital on acceptable terms; the timing and extent of changes in prices for oil and gas; competition for oil and gas exploration properties from larger, better financed oil companies; environmental risks; title matters; drilling and operating risks; uncertainties about the estimates of reserves and the potential success of the Company’s Heavy-to-light (“HTL ^® ”) technology; the potential success of the Company’s oil and gas properties in Canada, Ecuador and Mongolia; the prices of goods and services; the availability of drilling rigs and other support services; legislative and government regulations; political and economic factors in countries in which the Company operates; and implementation of the Company’s capital investment program.

The forward-looking statements contained in this Form 10-Q are made as of the date hereof and the Company undertakes no obligation to update publicly or revise any forward-looking statements, whether as a result of new information, future events or otherwise, unless required by applicable securities laws. The forward-looking statements contained herein are expressly qualified in their entirety by this cautionary statement.

Special Note to Canadian Investors

The Company is a registrant under the Securities Exchange Act of 1934, as amended (the “Exchange Act”), and voluntarily files reports with the United States Securities and Exchange Commission (“SEC”) on Form 10-K, Form 10-Q and other forms used by registrants that are US domestic issuers. Therefore, the Company’s reserves estimates and securities regulatory disclosures generally follow SEC requirements of US domestic issuers. National Instrument 51-101 – Standards of Disclosure for Oil and Gas Activities (“NI 51-101”), adopted by the Canadian Securities Administrators (“CSA”), prescribes certain standards for the preparation, and disclosure of reserves and related information by Canadian issuers. The Company has been granted certain exemptions from NI 51-101. Please refer to the Special Note to Canadian Investors in the 2013 Form 10-K.

Advisories

This Form 10-Q should be read in conjunction with the Company’s June 30, 2014 unaudited condensed consolidated financial statements (the “Financial Statements”) contained herein, and the audited consolidated financial statements and Management’s Discussion and Analysis of Financial Condition and Results of Operations contained in the 2013 Form 10-K. The Financial Statements have been prepared using accounting policies consistent with International Financial Reporting Standards (“IFRS”) and in accordance with International Accounting Standard 34, Interim Financial Reporting (“IAS 34”).

As a foreign private issuer in the United States, Ivanhoe is permitted to file with the SEC financial statements prepared under IFRS, as issued by the International Accounting Standards Board, without a reconciliation to US GAAP. It is possible that some of the Company’s accounting policies under IFRS could be different from US GAAP.

ALL TABULAR AMOUNTS ARE EXPRESSED IN THOUSANDS OF U.S. DOLLARS, EXCEPT PER SHARE DATA.

Electronic copies of the Company’s filings with the SEC and the CSA are available, free of charge, through the Company’s website (www.ivanhoeenergy.com) or, upon request, by contacting its investor relations department at (403) 261-1700. Alternatively, the SEC and the CSA each maintains a website (www.sec.gov and www.sedar.com) from which the Company’s periodic reports and other public filings with the SEC and the CSA can be obtained. Copies of the charters for each of the committees of the Company's board of directors are available through the Company’s website at www.ivanhoeenergy.com. The information contained on or accessible through the Company’s website is not incorporated by reference.

Net loss from continuing operations for the six months ended June 30, 2014 was $18.0 million, which was $2.4 million lower compared to a net loss from continuing operations of $20.4 million incurred during the same period in 2013. The decrease is primarily due to a $7.8 million decrease in general and administrative (“G&A”) expenses and a $0.6 million net decrease in other expense items impacting net loss from continuing operations. This was partially offset by a $2.9 million decrease in foreign currency exchange gains, a $1.7 million decrease in deferred income tax recoveries and a $1.4 million increase in finance expense. These changes are explained in detail below.

RESULTS OF OPERATIONS 

General and Administrative

G&A expenses mainly consist of staff, office and legal and other contract services costs.

G&A expenses for the three months ended June 30, 2014 were $6.0 million, which was $2.4 million lower compared to G&A expenses of $8.4 million incurred during the same period in 2013. The decrease is primarily due to a $0.7 million decrease in staff costs related to severance and retention of key employees in the Asia segment incurred in 2013 as well as reduced staffing levels in 2014, a $0.6 million decrease in legal costs related to the proceedings discussed in Part II, Item 1 “Legal Proceedings” disclosed within this Form 10-Q, $0.3 million decrease in accrued bonuses as no bonuses were accrued in 2014, and a $0.8 million net decrease related to other miscellaneous G&A items.

G&A expenses for the six months ended June 30, 2014 were $13.3 million, which was $7.8 million lower compared to G&A expenses of $21.1 million incurred during the same period in 2013. The decrease is primarily due to a $2.3 million decrease in staff costs related to severance and retention of key employees in the Asia segment incurred in 2013 as well as reduced staffing levels in 2014, a $1.9 million decrease in legal costs related to the proceedings discussed in Part II, Item 1 “Legal Proceedings” disclosed within this Form 10-Q, a $1.5 million decrease in accrued bonuses as no bonuses were accrued in 2014, a $1.2 million decrease in travel and business expenses due to reduced business activities, and a $0.9 net decrease related to other miscellaneous G&A items.

Foreign Currency Exchange

The gain or loss on foreign currency exchange results from the revaluation of monetary assets and liabilities denominated in currencies other than the Company’s functional currency, the US dollar, at each period end and from the settlement of the Company’s receivables and payables denominated in foreign currencies.

Foreign currency exchange losses for the three months ended June 30, 2014 were $2.0 million, which was $3.6 million lower compared to the foreign currency exchange gain of $1.6 million incurred during the same period in 2013. The decrease is primarily due to the revaluation of the Cdn$73.3 million of Convertible Debentures. The Canadian dollar strengthened in relation to the US dollar in the second quarter of 2014 compared with a weakening in the same period in 2013, resulting in losses on translation of the US dollar Convertible Debentures in the second quarter of 2014 compared to a gain in the same period in 2013. This was partially offset by the Company holding less Canadian dollar cash in the second quarter of 2014 than it did in the same period in 2013, resulting in decreased losses on translation of the Canadian dollar cash in the second quarter of 2014 compared to same period in 2013.

Foreign currency exchange gains for the six months ended June 30, 2014 were $nil, which was $2.9 million lower compared to the foreign currency exchange gain of $2.9 million incurred during the same period in 2013. The decrease is primarily due to the revaluation of the Cdn$73.3 million of Convertible Debentures. The Canadian dollar weakened in relation to the US dollar in the first half of 2014 less than it did in the same period in 2013, resulting in decreased gains on translation of the US dollar Convertible Debentures in the first half of 2014 compared to same period in 2013. This was partially offset by the Company holding less Canadian dollar cash in the first half of 2014 than it did in the same period in 2013, resulting in decreased losses on translation of the Canadian dollar cash in the first half of 2014 compared to same period in 2013.

Finance

Finance expense consists of interest expense and the unwinding of the discount rate for decommissioning obligations.

Finance expense for the three months ended June 30, 2014 was $1.8 million, which was $0.9 million higher compared to finance expense of $0.9 million incurred during the same period in 2013. The increase is primarily due a lower allocation of interest expense to capital projects mainly resulting from the Company suspending activity on its current Tamarack oil sands project in the second quarter of 2014.

Finance expense for the six months ended June 30, 2014 was $2.8 million, which was $1.4 million higher compared to finance expense of $1.4 million incurred during the same period in 2013. The increase is primarily due a lower allocation of interest expense to capital projects mainly resulting from Ivanhoe suspending activity on its current Tamarack oil sands project in the first half of 2014.

Recovery of Income Taxes

The deferred income tax recovery for the three months ended June 30, 2014 was nil, which was $0.9 million lower compared to a recovery of $0.9 million incurred during the same period in 2014. The decrease is primarily due to the impact of no additional deferred income tax recoveries being recognized for net operating losses.

The deferred income tax recovery for the six months ended June 30, 2014 was nil, which was $1.7 million lower compared to a recovery of $1.7 million incurred during the same period in 2014. The decrease is primarily due to the impact of no additional deferred income tax recoveries being recognized for net operating losses.

Off-Balance Sheet Arrangements

We have no off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on the Company's financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources that is material to investors.

LIQUIDITY AND CAPITAL RESOURCES

Contractual Obligations and Commitments

The following information about our contractual obligations and other commitments summarizes certain liquidity and capital resource requirements. The information presented in the table below does not include planned, but not legally committed, capital expenditures or obligations that are discretionary and/or being performed under contracts which are cancelable with a 30 day notification period.

Long Term Debt and Interest

As described in the financial statements included in the 2013 Form 10-K, the Company issued Cdn$73.3 million of Convertible Debentures maturing on June 30, 2016. The Convertible Debentures bear interest at an annual rate of 5.75%, payable semi-annually on the last day of June and December of each year.

Decommissioning Provisions

The Company is required to remedy the effect of our activities on the environment at our operating sites by dismantling and removing production facilities and remediating any damage caused. At June 30, 2014, Ivanhoe estimated the total undiscounted, inflated cost to settle its decommissioning obligations in Canada, for the FTF in the United States and in Ecuador was $4.5 million. These costs are expected to be incurred in 2016-2032, 2029 and 2038, respectively.

Leases

The Company has long term leases for office space and vehicles, which expire between 2014 and 2018.

Other

Should Ivanhoe receive government and other approvals necessary to develop the northern border of one of the Tamarack Project leases, the Company may be required to make a cash payment to Talisman Energy Canada of up to Cdn$15.0 million, as a conditional, final payment for the 2008 purchase transaction. This section of the lease is not the subject of the current project for which the Company has requested approval from the Alberta Energy Regulator (“AER”).

From time to time, Ivanhoe enters into consulting agreements whereby a success fee may be payable if and when either a definitive agreement is signed or certain other contractual milestones are met. Under the agreements, the consultant may receive cash, common shares, stock options or some combination thereof. Similarly, agreements entered into by the Company may contain cancellation fees or liquidated damages provisions for early termination.  These fees are not considered to be material.

The Company may provide indemnities to third parties, in the ordinary course of business, that are customary in certain commercial transactions, such as purchase and sale agreements. The terms of these indemnities will vary based upon the contract, the nature of which prevents Ivanhoe from making a reasonable estimate of the maximum potential amounts that may be required to be paid. The Company’s management is of the opinion that any resulting settlements relating to indemnities are not likely to be material.

In the ordinary course of business, the Company is subject to legal proceedings being brought against it. While the final outcome of these proceedings is uncertain, the Company believes that these proceedings, in the aggregate, are not reasonably likely to have a material effect on its financial position or earnings.

Liquidity

Ivanhoe’s existing financial resources are insufficient to fund the future capital expenditures necessary to advance the development of our existing projects and to maintain the Company’s business activities at their current level. In the near term, the Company will require other sources of financing in order to continue operating its business as currently constituted. Ivanhoe intends to finance its future funding requirements through among other alternatives, a combination of strategic investors and/or public and private debt and equity markets, either at a parent company level or at the project level, or through the sale of interests in existing oil properties and technology. There is no assurance that the Company will be able to complete one or more of these alternatives, or do so on favorable terms.

These activities include discussions with a large international oil company for the creation of a joint financial participation arrangement in respect of its Block 20 project in Ecuador. The transaction contemplated by these discussions, if and when consummated, would be expected to generate additional cash. While progress in reaching the transaction objective has been made by the potential transaction participants, there is no assurance that the objective can be achieved, or achieved in a timely manner or that such participation will be approved by regulatory authorities in Ecuador. Without timely access to a sufficient source of financing to enable the Company to make its planned capital expenditures and otherwise fund the cost of carrying on its business, the Company may have to significantly curtail its existing business activities and may be unable to continue as a going concern.

Operating Activities

Net cash used in operating activities for the six months ended June 30, 2014 was $15.5 million, which was $5.1 million lower compared to net cash used in operating activities of $20.6 million incurred during the same period in 2013. The decrease is primarily due to $7.8 million in decreased cash G&A expenses as discussed above which excludes non-cash share-based compensation expense, $2.1 million in transaction costs and $1.8 million in income tax payments related to discontinued operations incurred in 2013 not recurring in 2014 and $0.9 million in other net changes impacting operating activities.

On September 6, 2013, the Company received a notification letter from the Listing Qualifications Department of the NASDAQ notifying the Company that the Company did not meet the minimum bid price requirements set forth in the NASDAQ Listing Rules and that the Company could regain compliance if at any time prior to March 5, 2014 the closing bid price of the Company’s common shares was at least $1.00 for a minimum of 10 consecutive business days. On February 18, 2014, the Company applied to the NASDAQ for an additional compliance period of 180 days, which was granted and will expire on September 2, 2014. The extension was granted based in part on the Company’s undertaking to effect a share consolidation sufficient to regain compliance with the minimum price rule should the Company's shares not otherwise meet the $1.00 minimum price. The Company has scheduled a Special Meeting of Shareholders to be held August 13, 2014 seeking shareholder approval to consolidate the current issued and outstanding share base within a range between five old common shares-for-one new common share and seven old common shares-for-one new common share. The final share consolidation ratio will be determined post meeting. For additional information, refer to the Form 8-K filed on September 12, 2013 and the Company’s Management Proxy Circular filed on Form 8-K on July 18, 2014.

OUTLOOK

Corporate

Management’s plans for financing future expenditures include traditional project financing, debt and mezzanine financing, the sale of non-current assets or the sale of equity securities as well as the potential for partnerships or other arrangements with strategic investors. However, no assurances can be given that Ivanhoe will be able to arrange such financing, to enter into one or more strategic business alliances with third parties or that the Company will be able to sell non-core assets on acceptable terms or raise sufficient additional capital. If the Company is unable to enter into such business alliances or obtain adequate additional financing, the Company may be required to abandon assets and otherwise curtail its operations.

Block 20 Project Update

Ivanhoe has disclosed previously in various official releases its joint venture strategy with the goal of financing the continued appraisal and development of Block 20. Ivanhoe successfully attracted one of the world’s largest national oil companies (NOC) that has experience working in Ecuador, to assess Ivanhoe’s investment and the potential of Block 20. This engagement resulted in an agreement in principle subject to the approval of the Ecuador government. Structured commercially as a ‘farm-in’, the NOC will recognize Ivanhoe’s investment to-date. When the contract is signed, the NOC will become the majority partner and operator of Block 20.

Together, Ivanhoe and the NOC presented a joint proposal to the Government of Ecuador on March 21, 2014. Due to the importance and size of Block 20, the Government has taken time to carefully consider its options for the development of Block 20 and has now directed a team to evaluate the development proposal and continue the negotiations for a new Service Contract with the Consortium.

Ivanhoe has negotiated with the government the process and terms for a termination by mutual agreement of the Specific Services Contract under which Ivanhoe has operated the Block since 2008 as well as the migration to a new Service Contract with the Consortium. Ivanhoe and the NOC have worked diligently to assure that this process fully complies with the Government’s protocol.

The NOC has recently advised Ivanhoe that some of its international projects, including the Block 20 project, are currently on hold and under review. Ivanhoe anticipates that this delay will last until the end of the third quarter of 2014.

Tamarack

The Company continues to participate in industry wide initiatives to assist the Alberta Energy Regulator’s (AER) in establishing a long term shallow SAGD Policy. To this end, a senior Technical Executive from Ivanhoe will sit on the Canadian Association of Petroleum Producer’s (CAPP) steering committee. Feedback to the AER from this steering committee is anticipated to be delivered near the end of the third quarter. The Company has suspended spending and development on Tamarack until the new shallow SAGD regulations are known. The Company continues to consider and investigate alternative technologies that can be used to develop the 2P reserves and resources of the Tamarack property.

Heavy to Light (HTL)

The Company advanced a number of discussions and business development opportunities during the second quarter. Fruitful discussions were held with representatives from Ecopetrol in Colombia. The Company is confident that commercial arrangements with third parties can be entered into which will lead to the construction of industrial size facilities that use Ivanhoe Energy's proprietary HTL technology.