UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

FORM 10-Q

 

ý           Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

 

For the quarterly period ended December 31, 2005

 

o           Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

 

Commission File Number 1-5103

 

BARNWELL INDUSTRIES, INC.

(Exact name of registrant as specified in its charter)

 

 

(808) 531-8400

(Registrant’s telephone number, including area code)

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes  ý  No  o

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer  o          Accelerated filer  o          Non-accelerated filer  ý

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act. Yes  o  No  ý

 

As of February 10, 2006 there were 8,169,060 shares of common stock, par value $0.50, outstanding.

 

 

BARNWELL INDUSTRIES, INC.

AND SUBSIDIARIES

 

INDEX

 

PART I.	FINANCIAL INFORMATION:
Item 1.	Financial Statements
	Condensed Consolidated Balance Sheets - December 31, 2005 and September 30, 2005 (Unaudited)
	Condensed Consolidated Statements of Operations - three months ended December 31, 2005 and 2004 (Unaudited)
	Condensed Consolidated Statements of Cash Flows - three months ended December 31, 2005 and 2004 (Unaudited)
	Condensed Consolidated Statements of Stockholders’ Equity and Comprehensive Income - three months ended December 31, 2005 and 2004 (Unaudited)
	Notes to Condensed Consolidated Financial Statements (Unaudited)
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations
Item 3.	Quantitative and Qualitative Disclosures About Market Risk
Item 4.	Controls and Procedures
PART II.	OTHER INFORMATION:
Item 4.	Submission of Matters to a Vote of Security Holders
Item 6.	Exhibits

 

2

 

PART 1.      FINANCIAL INFORMATION

 

Item 1.         Financial Statements

 

BARNWELL INDUSTRIES, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

(Unaudited)

 

		December 31,			September 30,
		2005			2005
ASSETS
CURRENT ASSETS:
Cash and cash equivalents		$	11,621,000		$	5,492,000
Certificates of deposit		1,500,000			1,700,000
Accounts receivable, net		10,138,000			8,279,000
Deferred income taxes		3,554,000			3,030,000
Other current assets		1,512,000			1,582,000
TOTAL CURRENT ASSETS		28,325,000			20,083,000
INVESTMENT IN LAND		3,033,000			3,033,000
PROPERTY AND EQUIPMENT		140,686,000			135,029,000
ACCUMULATED DEPRECIATION, DEPLETION, AND AMORTIZATION		(75,021,000		)	(73,168,000		)
PROPERTY AND EQUIPMENT, NET		65,665,000			61,861,000
TOTAL ASSETS		$	97,023,000		$	84,977,000
LIABILITIES AND STOCKHOLDERS’ EQUITY
CURRENT LIABILITIES:
Accounts payable		$	7,498,000		$	5,653,000
Accrued capital expenditures		4,456,000			4,462,000
Accrued stock appreciation rights		5,793,000			4,371,000
Other accrued compensation costs		4,382,000			3,828,000
Payable to joint interest owners		1,501,000			526,000
Other current liabilities		5,060,000			2,443,000
TOTAL CURRENT LIABILITIES		28,690,000			21,283,000
LONG-TERM DEBT		11,560,000			11,576,000
ASSET RETIREMENT OBLIGATION		2,951,000			2,845,000
DEFERRED INCOME TAXES		11,316,000			12,935,000
MINORITY INTEREST		359,000			312,000
STOCKHOLDERS’ EQUITY:
Common stock, par value $0.50 a share:
Authorized, 20,000,000 shares; 8,169,060 issued and outstanding		4,085,000			4,085,000
Additional paid-in capital		51,000			—
Retained earnings		36,453,000			30,317,000
Accumulated other comprehensive income, net		1,558,000			1,624,000
TOTAL STOCKHOLDERS’ EQUITY		42,147,000			36,026,000
TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY		$	97,023,000		$	84,977,000

 

See Notes to Condensed Consolidated Financial Statements

 

3

 

BARNWELL INDUSTRIES, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(Unaudited)

 

		Three months ended
		December 31,
		2005			2004
Revenues:
Oil and natural gas		$	12,098,000		$	7,658,000
Contract drilling		1,823,000			2,105,000
Sale of development rights, net		2,702,000			2,497,000
Gain on sale of drill rig		700,000			—
Gas processing and other		278,000			187,000
Sale of interest in leasehold land, net		—			150,000
		17,601,000			12,597,000
Costs and expenses:
Oil and natural gas operating		1,939,000			1,650,000
Contract drilling operating		1,313,000			1,497,000
General and administrative		3,729,000			2,827,000
Depreciation, depletion and amortization		2,582,000			2,203,000
Interest expense		200,000			140,000
Minority interest in earnings		537,000			513,000
		10,300,000			8,830,000
Earnings before income taxes		7,301,000			3,767,000
Income tax provision		961,000			1,327,000
NET EARNINGS		$	6,340,000		$	2,440,000
BASIC EARNINGS PER COMMON SHARE		$	0.78		$	0.30
DILUTED EARNINGS PER COMMON SHARE		$	0.73		$	0.29
WEIGHTED-AVERAGE NUMBER OF COMMON SHARES OUTSTANDING:
BASIC		8,169,060			8,104,137
DILUTED		8,726,345			8,543,493

 

See Notes to Condensed Consolidated Financial Statements

 

4

 

BARNWELL INDUSTRIES, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

 

		Three months ended
		December 31,
		2005			2004
Cash flows from operating activities:
Net earnings		$	6,340,000		$	2,440,000
Adjustments to reconcile net earnings to net cash provided by operating activities:
Depreciation, depletion, and amortization		2,582,000			2,203,000
Share-based compensation expense		1,483,000			994,000
Minority interest in earnings		537,000			513,000
Accretion of asset retirement obligation		44,000			28,000
Sale of interest in leasehold land, net		—			(150,000		)
Deferred income taxes		(2,047,000		)	(194,000		)
Gain on sale of drill rig		(700,000		)	—
Sale of development rights, net		(2,702,000		)	(2,497,000		)
Increase from changes in current assets and liabilities		4,141,000			1,297,000
Net cash provided by operating activities		9,678,000			4,634,000
Cash flows from investing activities:
Capital expenditures		(6,591,000		)	(4,398,000		)
Proceeds from sale of interest in leasehold land, net		—			150,000
Proceeds from gas over bitumen royalty adjustments		94,000			—
Proceeds from matured certificates of deposit		200,000			694,000
Proceeds from sale of drill rig		712,000			—
Proceeds from sale of development rights, net		2,702,000			2,656,000
Net cash used in investing activities		(2,883,000		)	(898,000		)
Cash flows from financing activities:
Distributions to minority interest partners		(490,000		)	—
Payment of dividends		(204,000		)	(339,000		)
Proceeds from exercise of stock options		—			138,000
Net cash used in financing activities		(694,000		)	(201,000		)
Effect of exchange rate changes on cash and cash equivalents		28,000			93,000
Net increase in cash and cash equivalents		6,129,000			3,628,000
Cash and cash equivalents at beginning of period		5,492,000			4,497,000
Cash and cash equivalents at end of period		$	11,621,000		$	8,125,000
Supplemental disclosures of cash flow information:
Cash paid during the period for:
Interest		$	200,000		$	130,000
Income taxes		$	1,279,000		$	1,010,000

 

See Notes to Condensed Consolidated Financial Statements

 

5

 

BARNWELL INDUSTRIES, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY AND COMPREHENSIVE INCOME

Three months ended December 31, 2005 and 2004

(Unaudited)

 

																Accumulated
							Additional									Other						Total
				Common			Paid-In			Comprehensive			Retained			Comprehensive			Treasury			Stockholders’
		Shares		Stock			Capital			Income			Earnings			Income			Stock			Equity
At September 30, 2004		7,992,060		$	3,996,000		$	—					$	24,984,000		$	169,000		$	—		$	29,149,000
Exercise of stock options, 147,000 shares (split-adjusted) net of 30,000 shares (split-adjusted) tendered and placed in treasury		147,000		74,000			301,000												(237,000		)	138,000
Effect of stock dividends issued to effect stock splits							(301,000		)				64,000						237,000			—
Dividends declared ($0.04 per share, split-adjusted)													(339,000		)							(339,000		)
Comprehensive income:
Net earnings										$	2,440,000		2,440,000									2,440,000
Other comprehensive income, net of income taxes – foreign currency translation adjustments										1,434,000						1,434,000						1,434,000
Total comprehensive income										$	3,874,000
At December 31, 2004		8,139,060		$	4,070,000		$	—					$	27,149,000		$	1,603,000		$	—		$	32,822,000
At September 30, 2005		8,169,060		$	4,085,000		$	—					$	30,317,000		$	1,624,000		$	—		$	36,026,000
Stock option compensation costs							51,000															51,000
Dividends declared ($0.025 per share)													(204,000		)							(204,000		)
Comprehensive income:
Net earnings										$	6,340,000		6,340,000									6,340,000
Other comprehensive loss – foreign currency translation adjustments, net of $56,000 tax benefit										(66,000		)				(66,000		)				(66,000		)
Total comprehensive income										$	6,274,000
At December 31, 2005		8,169,060		$	4,085,000		$	51,000					$	36,453,000		$	1,558,000		$	—		$	42,147,000

 

See Notes to Condensed Consolidated Financial Statements

 

6

 

BARNWELL INDUSTRIES, INC.

AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

1.             CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

The Condensed Consolidated Balance Sheet as of December 31, 2005 and the Condensed Consolidated Statements of Operations, the Condensed Consolidated Statements of Cash Flows, and the Condensed Consolidated Statements of Stockholders’ Equity and Comprehensive Income for the three months ended December 31, 2005 and 2004 have been prepared by Barnwell Industries, Inc. (referred to herein together with its subsidiaries as “Barnwell”) and are unaudited. In the opinion of management, all adjustments (which include only normal recurring adjustments) necessary to present fairly the financial position, results of operations and changes in cash flows at December 31, 2005 and for all periods presented have been made. The Condensed Consolidated Balance Sheet as of September 30, 2005 has been derived from audited consolidated financial statements.

 

Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed or omitted. It is suggested that these condensed consolidated financial statements be read in conjunction with the consolidated financial statements and notes thereto included in Barnwell’s September 30, 2005 annual report on Form 10-KSB. The results of operations for the period ended December 31, 2005 are not necessarily indicative of the operating results for the full year.

 

The preparation of the financial statements in conformity with accounting principles generally accepted in the United States of America requires management of Barnwell to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses and the disclosure of contingent assets and liabilities. Actual results could differ significantly from those estimates.

 

2.             COMMON STOCK SPLITS

 

In December 2004, Barnwell’s Board of Directors declared a two-for-one stock split in the form of a 100% stock dividend. The shares were distributed on January 28, 2005 to all shareholders of record as of January 11, 2005.

 

In October 2005, Barnwell’s Board of Directors declared a three-for-one stock split in the form of a 200% stock dividend. The shares were distributed on November 14, 2005 to all shareholders of record as of October 28, 2005. There were 2,723,020 shares outstanding on October 28, 2005. Barnwell issued 5,446,040 new shares to execute the stock dividend, resulting in outstanding shares of 8,169,060 following the split. Barnwell’s common stock began trading on a split-adjusted basis on November 15, 2005.

 

7

 

All information in this Form 10-Q has been adjusted where necessary to reflect the stock splits for all periods presented.

 

3.             EARNINGS PER COMMON SHARE

 

In December 2004, Barnwell’s Board of Directors declared a two-for-one stock split in the form of a 100% stock dividend. The shares were distributed on January 28, 2005 to all shareholders of record as of January 11, 2005.

 

In October 2005, Barnwell’s Board of Directors declared a three-for-one stock split in the form of a 200% stock dividend. The shares were distributed on November 14, 2005 to all shareholders of record as of October 28, 2005. There were 2,723,020 shares outstanding on October 28, 2005. Barnwell issued 5,446,040 new shares to execute the stock dividend, resulting in outstanding shares of 8,169,060 following the split. Barnwell’s common stock began trading on a split-adjusted basis on November 15, 2005.

 

All information in this Form 10-Q has been adjusted where necessary to reflect the stock splits for all periods presented.

 

Basic earnings per share (“EPS”) excludes dilution and is computed by dividing net earnings by the weighted-average number of common shares outstanding for the period. The weighted-average number of common shares outstanding (split-adjusted) for the three months ended December 31, 2005 and 2004 were 8,169,060 and 8,104,137, respectively.

 

Diluted EPS includes the potentially dilutive effect of outstanding common stock options and securities that are convertible to common shares. The weighted-average number of common shares and dilutive potential common shares outstanding (split-adjusted) was 8,726,345 and 8,543,493 for the three months ended December 31, 2005 and 2004, respectively.

 

8

 

Reconciliations between the numerator and denominator of the basic and diluted earnings per share computations (split-adjusted) for the three months ended December 31, 2005 and 2004 are as follows:

 

		Three months ended December 31, 2005
		Net Earnings			Shares		Per-Share
		(Numerator)			(Denominator)		Amount
Basic earnings per share		$	6,340,000		8,169,060		$	0.78
Effect of dilutive securities - common stock options		—			557,285
Diluted earnings per share		$	6,340,000		8,726,345		$	0.73

 

		Three months ended December 31, 2004
		Net Earnings			Shares		Per-Share
		(Numerator)			(Denominator)		Amount
Basic earnings per share		$	2,440,000		8,104,137		$	0.30
Effect of dilutive securities - common stock options		—			439,356
Diluted earnings per share		$	2,440,000		8,543,493		$	0.29

 

4.             SHARE-BASED PAYMENTS

 

Barnwell has outstanding stock options issued to certain employees under both a qualified plan approved by shareholders (the 1998 Stock Option Plan) and non-qualified plans.  The qualified options were granted with an exercise price equal to the market price of Barnwell’s stock on the date of grant (110% of market price at date of grant for options granted to affiliates), vest annually over four years of continuous service, and expire ten years from the date of grant (five years from date of grant for options granted to affiliates). The non-qualified options were granted with an exercise price equal to the market price of Barnwell’s stock on the date of grant, vest annually over five years of continuous service, and expire ten years from the date of grant. The non-qualified options have stock appreciation rights features that permit the holder to receive stock, cash or a combination thereof equal to the amount by which the fair market value, at the time of exercise of the option, exceeds the option price.

 

Effective October 1, 2005, Barnwell adopted the provisions of Statement of Financial Accounting Standard (“SFAS”) No. 123(R), “Share-Based Payment,” for its share-based compensation plans. Barnwell previously accounted for these plans under the recognition and measurement principles of Accounting Principles Board Opinion (“APB”) No. 25, “Accounting for Stock Issued to Employees,” and related interpretations and disclosure requirements established by SFAS No. 123, “Accounting for Stock-Based Compensation,” as amended by SFAS No. 148, “Accounting for Stock-Based Compensation – Transition and Disclosure.”

 

9

 

Under APB No. 25, no compensation expense was recorded for Barnwell’s stock options issued under the qualified plan. The pro forma effects on net earnings and earnings per share for qualified stock options were instead disclosed in a footnote to the financial statements. Under APB No. 25, compensation expense for non-qualified stock options with stock appreciation rights features were recorded utilizing the market price of Barnwell’s stock at each period-end to determine the vested intrinsic value of the stock appreciation rights.

 

Under SFAS No. 123(R), share-based compensation cost is measured at fair value. Barnwell utilized a closed-form valuation model to determine the fair value of each option award. Expected volatilities are based on the historical volatility of Barnwell’s stock over a period consistent with that of the expected terms of the options. The expected terms of the options are estimated based on factors such as vesting periods, contractual expiration dates, historical trends in Barnwell’s stock price, and historical exercise behavior. The risk-free rates for periods within the contractual life of the options are based on the yields of U.S. Treasury instruments with terms comparable to the estimated option terms. Share-based compensation expense recognized in earnings for the three months ended December 31, 2005 and 2004 are reflected as “General and administrative” expenses in the Condensed Consolidated Statements of Operations.

 

Equity-classified Awards:

 

The following assumptions were used in estimating fair value for all equity-classified share options previously granted and outstanding during the three months ended December 31, 2005:

 

Expected volatility range		25.0% to 30.0%
Weighted-average volatility		27.7%
Expected dividends		0.0% to 1.0%
Expected term (in years)		5.0 to 7.0
Risk-free rates		4.0% to 6.3%

 

Compensation cost for equity-classified awards, such as Barnwell’s stock options issued under the qualified plan, is measured at the grant date based on the fair value of the award and is recognized as an expense in earnings over the requisite service period using a graded vesting method. Total share-based compensation expense for equity-classified awards vested in the three months ended December 31, 2005 was $51,000. There was no impact on income taxes. There were no qualified option grants, exercises, expirations, or forfeitures in the three months ended December 31, 2005.

 

A summary of equity-classified share options as of the beginning and end of the three months ended December 31, 2005 is presented below:

 

							Weighted-
				Weighted-			Average
				Average			Remaining		Aggregate
				Exercise			Contractual		Intrinsic
Options		Shares		Price			Term		Value
Outstanding at October 1, 2005		456,000		$	5.32
Outstanding at December 31, 2005		456,000		$	5.32		4.6		$	9,020,000
Exercisable at December 31, 2005		298,500		$	3.25		4.2		$	6,521,000

 

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Liability-classified Awards:

 

The following assumptions were used in estimating fair value for all liability-classified share options previously granted and outstanding during the three months ended December 31, 2005:

 

Expected volatility range		28.0% to 37.0%
Weighted-average volatility		32.2%
Expected dividends		0.4%
Expected term (in years)		2.4 to 6.5
Risk-free rate		4.4%

 

Compensation cost for liability-classified awards, such as Barnwell’s non-qualified stock options with stock appreciation rights features, is remeasured at each period-end using a closed-form valuation model based on current values and is recognized as an expense over the requisite service period. Total share-based compensation expense for liability-classified awards was $1,432,000 for the three months ended December 31, 2005. The related income tax benefit was $501,000 for the three months ended December 31, 2005. Included in share-based compensation expense for liability-classified awards for the three months ended December 31, 2005 was $361,000 of compensation expense related to shares vested during the period. There were no liability-classified share option grants, exercises, expirations, or forfeitures in the three months ended December 31, 2005.

 

A summary of liability-classified share options as of the beginning and end of the three months ended December 31, 2005 is presented below:

 

							Weighted-
				Weighted-			Average
				Average			Remaining		Aggregate
				Exercise			Contractual		Intrinsic
Options		Shares		Price			Term		Value
Outstanding at October 1, 2005		390,000		$	5.94
Outstanding at December 31, 2005		390,000		$	5.94		5.9		$	7,472,000
Exercisable at December 31, 2005		222,000		$	3.78		3.6		$	4,734,000

 

As of December 31, 2005, there was $2,181,000 of total unrecognized compensation cost related to nonvested equity-classified and liability-classified share options. That cost is expected to be recognized over a weighted-average period of 3.5 years. Total compensation expense related to the vesting of awards in the three months ended December 31, 2005 was $412,000. Total compensation expense for all awards for the three months ended December 31, 2005, including the impact of changes in fair values for liability-classified awards, was $1,483,000, with a related income tax benefit of $501,000.

 

Barnwell adopted SFAS No. 123(R) using the modified prospective method. Under this transition method, compensation cost recognized in the three months ended December 31, 2005 includes the cost for equity-classified share options vested during the period and all vested liability-classified share-based awards granted prior to October 1, 2005, as determined under the provisions of SFAS No. 123(R). Share-based compensation costs for the three months ended December 31, 2005 are reported in “General and administrative” expenses in the Condensed Consolidated Statement of Operations. The cumulative effect, net of income taxes, of the impact of

 

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adoption of SFAS No. 123(R) on liability-classified awards was not material to the condensed consolidated financial statements. Results for prior periods have not been restated.

 

The following table illustrates the effect on net earnings and earnings per share as if the fair-value recognition provisions of SFAS No. 123(R) were applied to all of its share-based compensation awards for the prior year period:

 

		Three months ended
		December 31, 2004
Net earnings, as reported		$	2,440,000
Add: Share-based employee compensation expense of $994,000, less $360,000 of related taxes, included in reported net earnings		634,000
Deduct: Total share-based employee compensation expense determined under the fair value based method for all awards of $1,012,000, less $366,000 of related taxes		(646,000		)
Pro forma net earnings		$	2,428,000
Basic Earnings Per Share:
As reported		$	0.30
Pro forma		$	0.30
Diluted Earnings Per Share:
As reported		$	0.29
Pro forma		$	0.28

 

In the three months ended December 31, 2004, 210,000 equity-classified option shares were granted at a weighted-average grant-date fair value of $2.18, and the total intrinsic value of equity options exercised was $1,058,000; there were no expirations or forfeitures.

 

5.             CASH AND CASH EQUIVALENTS AND CERTIFICATES OF DEPOSIT

 

Cash and cash equivalents include cash on hand, demand deposits and short-term investments with original maturities of three months or less. Certificates of deposit at December 31, 2005 and September 30, 2005 include certificates of deposit at various financial institutions. As the original maturities of these certificates of deposit are greater than three months, they are excluded from cash and cash equivalents and are reported separately on the Condensed Consolidated Balance Sheets.

 

6.             INVESTMENT IN LAND

 

In November 2005, Kaupulehu Makai Venture, an unrelated entity that is an affiliate of Kajima Corporation of Japan, paid Kaupulehu Developments a non-refundable payment of $2,875,000 upon exercising the portion of its development rights option due on December 31, 2005 of $2,656,000 and a portion, $219,000, of its development rights option due on December 31, 2006. Revenue from the development rights sale was reduced by $173,000 of fees related to the sale. There were no other expenses related to the

 

12

 

sale. Accordingly, this $2,702,000 of option revenue, net of fees, is recorded in the Condensed Consolidated Statement of Operations for the three months ended December 31, 2005 as “Sale of development rights, net.”  The total amount of remaining future option receipts, if all options are fully exercised, is $13,063,000 as of the date of this filing, comprised of the balance of $2,438,000 due on December 31, 2006 and four payments of $2,656,250 due on each December 31 of years 2007 to 2010. If any annual option payment is not made, the then remaining development right options will expire. There is no assurance that any portion of the remaining options will be exercised.

 

The aforementioned $173,000 in fees ($121,000, net of minority interest) on the $2,875,000 development rights proceeds were paid in November 2005 to Nearco, Inc., a company controlled by Mr. Terry Johnston, a director of Barnwell and an indirect 21.8% owner of Kaupulehu Developments. Under an agreement entered into in 1987, prior to Mr. Johnston’s election to Barnwell’s Board of Directors, Barnwell is obligated to pay Nearco 2% of Kaupulehu Developments’ gross receipts from the sale of real estate interests, and Cambridge Hawaii Limited Partnership, a 49.9% partner of Kaupulehu Developments in which Barnwell purchased a 55.2% interest in April 2001, is obligated under an agreement entered into in 1987 to pay Nearco 4% of Kaupulehu Developments’ gross receipts from the sale of real estate interests. The fees represent compensation for promotion and marketing of Kaupulehu Developments’ property and were determined based on the estimated fair value of such services. Barnwell believes the fees are fair and reasonable compensation for such services.

 

In February 2004, Kaupulehu Developments entered into a Purchase and Sale Agreement with WB KD Acquisition, LLC (“WB”) by which Kaupulehu Developments transferred its leasehold interest in the approximately 870 acres zoned for resort/residential development, in two increments (“Increment I” and “Increment II”), to WB. There is no affiliation between Kaupulehu Developments and WB. WB is an affiliate of Westbrook Partners, LLC, an affiliate of the developers of the Kuki’o Resort.

 

With respect to Increment I, Kaupulehu Developments is entitled to receive payment of the following percentages of the gross proceeds generated from the sale by WB of single-family lots in Increment I (“Percentage Payments”): 9% of the gross proceeds from single-family lot sales up to aggregate gross proceeds of $100,000,000; 10% of such aggregate gross proceeds greater than $100,000,000 but less than $300,000,000; and 14% of such aggregate gross proceeds in excess of $300,000,000.

 

In January 2006, WB sold the first of the 80 single-family lots under development in Increment I and paid Kaupulehu Developments percentage and minimum payments totaling $2,500,000 as specified in the Purchase and Sale Agreement; this receipt will be recognized as revenue in Barnwell’s second quarter ending March 31, 2006. There is no assurance that any future payments will be received.

 

With respect to Increment II, Kaupulehu Developments and WB agreed to use diligent efforts to negotiate, and attempt to document and enter into an agreement with regards to the ownership and development of Increment II. As of this filing, discussions between the parties are ongoing but no agreement has yet been reached with WB for the sale and development of Increment II. There is no

 

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assurance that WB will enter into an agreement with Kaupulehu Developments regarding Increment II.

 

The interests held by Kaupulehu Developments at December 31, 2005 include the development rights under option; the rights to receive Increment I Percentage Payments; the leasehold land zoned for resort/residential development within Increment II, which is under a right of negotiation with WB; and approximately 1,000 acres of vacant leasehold land zoned conservation. These interests relate to land located adjacent to and north of the Four Seasons Resort Hualalai at Historic Ka’upulehu, between the Queen Kaahumanu Highway and the Pacific Ocean.

 

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7.             SEGMENT INFORMATION

 

Barnwell operates three segments: exploring for, developing, producing and selling oil and natural gas (oil and natural gas); investing in leasehold land in Hawaii (land investment); and drilling wells and installing and repairing water pumping systems in Hawaii (contract drilling). Barnwell’s reportable segments are strategic business units that offer different products and services. They are managed separately as each segment requires different operational methods, operational assets and marketing strategies, and operate in different geographical locations.

 

Barnwell does not allocate general and administrative expenses, interest expense, interest income or income taxes to segments, and there are no transactions between segments that affect segment profit or loss.

 

		Three months ended December 31,
		2005			2004
Revenues:
Oil and natural gas		$	12,098,000		$	7,658,000
Land investment		2,702,000			2,647,000
Contract drilling		1,823,000			2,105,000
Other		229,000			164,000
Total before gain on sale and interest income		16,852,000			12,574,000
Gain on sale of drill rig		700,000			—
Interest income		49,000			23,000
Total revenues		$	17,601,000		$	12,597,000
Depreciation, depletion and amortization:
Oil and natural gas		$	2,473,000		$	2,126,000
Contract drilling		44,000			24,000
Other		65,000			53,000
Total		$	2,582,000		$	2,203,000
Operating profit (before general and administrative expenses):
Oil and natural gas		$	7,686,000		$	3,882,000
Land investment, net of minority interest		2,111,000			2,068,000
Contract drilling		466,000			584,000
Other		164,000			111,000
Total		10,427,000			6,645,000
General and administrative expenses, net of minority interest		(3,675,000		)	(2,761,000		)
Interest expense		(200,000		)	(140,000		)
Interest income		49,000			23,000
Gain on sale of drill rig		700,000			—
Earnings before income taxes		$	7,301,000		$	3,767,000

 

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8.             INCOME TAXES

 

The components of the income tax provision for the three months ended December 31, 2005 and 2004 are as follows:

 

 

The $2,047,000 deferred income tax benefit for the three months ended December 31, 2005 includes $2,170,000 of deferred income tax benefits due to a reduction in the valuation allowance for foreign tax credit carryforwards. The valuation allowance was decreased in the three months ended December 31, 2005 as it is more likely than not that fiscal 2006 and future years’ taxable income from Canadian operations under U.S. tax law will exceed taxable income from Canadian operations under Canadian tax law to a degree that will result in the ability to utilize foreign tax credit carryforwards to reduce U.S. taxes. This is primarily attributable to differences in the statutory deduction rates for Barnwell’s Canadian oil and natural gas capital expenditures under Canadian tax law as compared to such deductions under U.S. tax law. At December 31, 2005, foreign tax credit carryforwards and the foreign tax credit carryforwards valuation allowance were $3,777,000 and $1,960,000, respectively. There was no reduction in the valuation allowance for foreign tax credit carryforwards in the three months ended December 31, 2004.

 

Effective for tax years beginning after December 31, 2004, the 90 percent limitation on using the alternative minimum tax foreign tax credit to offset alternative minimum taxes was repealed by the American Jobs Creation Act of 2004. Accordingly, beginning in fiscal 2006, Barnwell is permitted to use the full alternative minimum tax foreign tax credit to offset regular alternative minimum taxes.

 

9.             PENSION PLAN

 

The following table details the components of net periodic benefit cost for the three months ended December 31, 2005 and 2004:

 

		Three months ended
		December 31,
		2005			2004
Service cost		$	48,000		$	34,000
Interest cost		57,000			48,000
Expected return on plan assets		(45,000		)	(41,000		)
Amortization of prior service cost		—			1,000
Amortization of net actuarial loss		13,000			6,000
Net periodic benefit cost		$	73,000		$	48,000

 

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