UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[X] Quarterly Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the Quarterly Period September 30, 2004 or
[ ] Transition Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
for the transition period from __________ to __________
COMMISSION FILE NO. 1-10762
------------------------------
HARVEST NATURAL RESOURCES, INC.
(Exact Name of Registrant as Specified in Its Charter)
DELAWARE 77-0196707
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
1177 ENCLAVE PARKWAY, SUITE 300
HOUSTON, TEXAS 77077
(Address of Principal Executive Offices) (Zip Code)
(281) 899-5700
(Registrant's Telephone Number, Including Area Code)
15835 PARK TEN PLACE DRIVE, SUITE 115
HOUSTON, TEXAS 77084
(Former name, former address and former fiscal year,
if changed since last report)
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 X No
--- ---
Indicate by check mark whether the registrant is an accelerated filer
(as defined in Rule 12b-2 of the Exchange Act).
Yes X No
--- ---
At November 2, 2004, 36,510,107 shares of the registrant's common stock
were outstanding.
HARVEST NATURAL RESOURCES, INC.
FORM 10-Q
TABLE OF CONTENTS
Page
----
PART I FINANCIAL INFORMATION
Item 1. FINANCIAL STATEMENTS
Unaudited Consolidated Balance Sheets at September 30, 2004
and December 31, 2003............................................... 3
Unaudited Consolidated Statements of Operations and
Comprehensive Income for the Three and Nine Months
Ended September 30, 2004 and 2003................................... 4
Unaudited Consolidated Statements of Cash Flows for the Nine
Months Ended September 30, 2004 and 2003............................ 5
Notes to Consolidated Financial Statements............................... 6
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS......................................... 13
Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES
ABOUT MARKET RISK........................................................... 17
Item 4. CONTROLS AND PROCEDURES..................................................... 17
PART II OTHER INFORMATION
Item 1. LEGAL PROCEEDINGS........................................................... 18
Item 2. UNREGISTERED SALES OF EQUITY SECURITIES
AND USE OF PROCEEDS.................................................... 18
Item 3. DEFAULTS UPON SENIOR SECURITIES............................................. 18
Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS......................... 18
Item 5. OTHER INFORMATION........................................................... 18
Item 6. EXHIBITS AND REPORTS ON FORM 8-K............................................ 18
SIGNATURES..................................................................................... 20
2
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
HARVEST NATURAL RESOURCES, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Unaudited)
SEPTEMBER 30, DECEMBER 31,
2004 2003
-------------- --------------
(in thousands)
ASSETS
CURRENT ASSETS:
Cash and cash equivalents .................................................... $ 68,435 $ 138,660
Restricted cash .............................................................. 12 12
Accounts and notes receivable:
Accrued oil and gas sales ................................................ 45,396 32,766
Joint interest and other, net ............................................ 10,148 11,197
Put options .................................................................. 11,376 --
Deferred income tax .......................................................... 1,214 --
Prepaid expenses and other ................................................... 1,310 805
-------------- --------------
TOTAL CURRENT ASSETS ................................................ 137,891 183,440
RESTRICTED CASH ................................................................... 16 16
OTHER ASSETS ...................................................................... 1,132 2,080
DEFERRED INCOME TAXES ............................................................. 4,749 4,749
PROPERTY AND EQUIPMENT:
Oil and gas properties (full cost method - costs of $2,900
excluded from amortization in 2004 and 2003, respectively) ............... 612,395 593,622
Other administrative property ................................................ 9,676 8,948
-------------- --------------
622,071 602,570
Accumulated depletion, depreciation and amortization ......................... (442,788) (418,507)
-------------- --------------
179,283 184,063
-------------- --------------
$ 323,071 $ 374,348
============== ==============
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable, trade and other ............................................ $ 3,817 $ 4,163
Accounts payable, related party .............................................. 10,852 10,557
Accrued expenses ............................................................. 20,703 15,069
Accrued interest payable ..................................................... 74 1,427
Income taxes payable ......................................................... 15,014 8,647
Current portion of long-term debt ............................................ 6,367 6,367
-------------- --------------
TOTAL CURRENT LIABILITIES ........................................... 56,827 46,230
LONG-TERM DEBT .................................................................... 7,058 96,833
ASSET RETIREMENT LIABILITY ........................................................ 750 1,459
COMMITMENTS AND CONTINGENCIES ..................................................... -- --
MINORITY INTEREST ................................................................. 36,971 30,113
STOCKHOLDERS' EQUITY:
Preferred stock, par value $0.01 a share; authorized 5,000 shares;
outstanding, none ........................................................ -- --
Common stock, par value $0.01 a share; authorized 80,000 shares; issued 37,112
shares at September 30, 2004 and 36,405 shares at December 31, 2003 ...... 371 364
Additional paid-in capital ................................................... 180,092 175,051
Retained earnings ............................................................ 46,598 27,537
Accumulated other comprehensive loss ......................................... (2,357) --
Treasury stock, at cost, 730 shares September 30, 2004 and
December 31, 2003, respectively .......................................... (3,239) (3,239)
-------------- --------------
TOTAL STOCKHOLDERS' EQUITY .......................................... 221,465 199,713
-------------- --------------
$ 323,071 $ 374,348
============== ==============
See accompanying notes to consolidated financial statements.
3
HARVEST NATURAL RESOURCES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME
(Unaudited)
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------------ ------------------------
2004 2003 2004 2003
---------- ---------- ---------- ----------
(in thousands, except per share data)
REVENUES
Oil sales $ 37,937 $ 27,834 $ 101,722 $ 75,800
Gas sales 8,116 -- 24,525 --
Ineffective hedge activity -- -- -- (565)
---------- ---------- ---------- ----------
46,053 27,834 126,247 75,235
---------- ---------- ---------- ----------
EXPENSES
Operating expenses 7,934 7,715 22,641 23,713
Depletion, depreciation and amortization 8,195 5,610 24,554 14,835
Write-downs of oil and gas properties
and impairments -- 165 -- 165
General and administrative 7,130 4,605 15,137 11,576
Arbitration settlement -- 1,477 -- 1,477
Bad debt recovery -- (374) -- (374)
Gain on sale of long-lived assets -- -- (578) --
Taxes other than on income 1,438 839 3,750 2,457
---------- ---------- ---------- ----------
24,697 20,037 65,504 53,849
---------- ---------- ---------- ----------
INCOME FROM OPERATIONS 21,356 7,797 60,743 21,386
OTHER NON-OPERATING INCOME (EXPENSE)
Gain on disposition of investment -- 46,348 -- 46,348
Loss on early extinguishment of debt (2,928) -- (2,928) --
Investment earnings and other 597 285 1,325 917
Interest expense (2,447) (2,579) (7,384) (7,889)
Net gain (loss) on exchange rates (1) 2 (618) 527
---------- ---------- ---------- ----------
(4,779) 44,056 (9,605) 39,903
---------- ---------- ---------- ----------
INCOME FROM CONSOLIDATED
COMPANIES BEFORE INCOME
TAXES AND MINORITY INTERESTS 16,577 51,853 51,138 61,289
INCOME TAX EXPENSE 7,617 3,603 23,119 7,763
---------- ---------- ---------- ----------
INCOME BEFORE MINORITY INTERESTS 8,960 48,250 28,019 53,526
MINORITY INTEREST IN CONSOLIDATED
SUBSIDIARY COMPANIES 3,654 1,367 8,958 3,469
---------- ---------- ---------- ----------
INCOME FROM CONSOLIDATED COMPANIES 5,306 46,883 19,061 50,057
EQUITY IN NET LOSSES
OF AFFILIATED COMPANIES -- (473) -- (30,518)
---------- ---------- ---------- ----------
NET INCOME $ 5,306 $ 46,410 $ 19,061 $ 19,539
========== ========== ========== ==========
OTHER COMPREHENSIVE INCOME (LOSS):
UNREALIZED MARK TO MARKET
GAIN/(LOSS) FROM CASH FLOW
HEDGING ACTIVITIES, NET OF TAX (2,357) 21 (2,357) (366)
---------- ---------- ---------- ----------
COMPREHENSIVE INCOME $ 2,949 $ 46,431 $ 16,704 $ 19,173
========== ========== ========== ==========
NET INCOME PER COMMON SHARE:
Basic $ 0.15 $ 1.31 $ 0.53 $ 0.55
========== ========== ========== ==========
Diluted $ 0.14 $ 1.25 $ 0.50 $ 0.53
========== ========== ========== ==========
See accompanying notes to consolidated financial statements.
4
HARVEST NATURAL RESOURCES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
NINE MONTHS ENDED SEPTEMBER 30,
2004 2003
-------------- --------------
(in thousands)
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income ...................................................................... $ 19,061 $ 19,539
Adjustments to reconcile net income to net cash provided by operating activities:
Depletion, depreciation and amortization ...................................... 24,554 14,835
Write-downs of oil and gas properties ......................................... -- 165
Amortization of financing costs ............................................... 228 421
Gain on disposition of assets and investments ................................. (578) (46,348)
Write off of unamortized financing costs ...................................... 936 --
Equity in net losses of affiliated companies .................................. -- 30,518
Allowance for employee notes and accounts receivable .......................... -- (219)
Non-cash compensation-related charges ......................................... 1,686 207
Minority interest in consolidated subsidiary companies ........................ 8,958 3,469
Deferred income taxes ......................................................... -- (667)
Changes in operating assets and liabilities:
Accounts and notes receivable ............................................... (11,581) (2,779)
Prepaid expenses and other .................................................. (505) 1,516
Commodity hedging contract .................................................. (14,947) (2,730)
Accounts payable ............................................................ (346) 5,270
Accounts payable, related party ............................................. 295 1,082
Accrued expenses ............................................................ 5,634 4,355
Accrued interest payable .................................................... (1,353) 2,007
Asset retirement liability .................................................. (709) 1,766
Income taxes payable ........................................................ 6,367 3,488
-------------- --------------
NET CASH PROVIDED BY OPERATING ACTIVITIES ................................. 37,700 35,895
-------------- --------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Proceeds from sale of investments ............................................... -- 69,500
Proceeds from sale of long-lived assets ......................................... 578 --
Additions of property and equipment ............................................. (19,774) (50,888)
Investment in and advances to affiliated companies .............................. -- 2,328
Decrease in restricted cash ..................................................... -- 1,800
Purchases of marketable securities .............................................. -- (256,058)
Maturities of marketable securities ............................................. -- 283,446
Investment costs ................................................................ (216) (1,203)
-------------- --------------
NET CASH PROVIDED BY (USED IN) INVESTING ACTIVITIES ......................... (19,412) 48,925
-------------- --------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net proceeds from issuances of common stock ..................................... 3,362 520
Purchase of treasury stock ...................................................... -- (404)
Payments on long-term debt ...................................................... (89,775) (3,067)
Dividend paid to minority interest .............................................. (2,100) --
-------------- --------------
NET CASH USED IN FINANCING ACTIVITIES ....................................... (88,513) (2,951)
-------------- --------------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS ........................ (70,225) 81,869
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD ................................... 138,660 64,501
-------------- --------------
CASH AND CASH EQUIVALENTS AT END OF PERIOD ......................................... $ 68,435 $ 146,370
============== ==============
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION
Cash paid during the period for interest expense ................................ $ 11,839 $ 7,870
============== ==============
Cash paid during the period for income taxes .................................... $ 7,334 $ 4,104
============== ==============
SUPPLEMENTAL SCHEDULE OF NONCASH INVESTING AND FINANCING ACTIVITIES
During the nine months ended September 30, 2004, we issued 0.1 million shares of
restricted stock valued at $1.1 million and we wrote-off $0.9 million of
unamortized debt financing costs in connection with the redemption and discharge
of the 9.375 percent senior unsecured notes due November 1, 2007.
See accompanying notes to consolidated financial statements.
5
HARVEST NATURAL RESOURCES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE AND NINE MONTHS ENDED SEPTEMBER 30, 2004 AND 2003 (UNAUDITED)
NOTE 1 - ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
INTERIM REPORTING
In our opinion, the accompanying unaudited consolidated financial
statements contain all adjustments (consisting of normal recurring accruals
only) necessary to present fairly the financial position as of September 30,
2004, and the results of operations and cash flows for the three and nine month
periods ended 2004 and 2003. The unaudited consolidated financial statements are
presented in accordance with the requirements of Form 10-Q and do not include
all disclosures normally required by accounting principles generally accepted in
the United States of America. Reference should be made to our consolidated
financial statements and notes thereto included in our Annual Report on Form
10-K for the year ended 2003, which include certain definitions and a summary of
significant accounting policies and should be read in conjunction with this
Quarterly Report on Form 10-Q. The results of operations for any interim period
are not necessarily indicative of the results of operations for the entire year.
ORGANIZATION
Harvest Natural Resources, Inc. is engaged in the exploration,
development, production and management of oil and gas properties. We conduct our
business principally in Venezuela (through our subsidiary Harvest Vinccler C.A.
or "Harvest Vinccler", formerly Benton Vinccler, C.A.) and, until September 25,
2003, through our minority equity investment in LLC Geoilbent ("Geoilbent"), a
Russian entity.
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of all
wholly-owned and majority-owned subsidiaries. The equity method of accounting is
used for companies and other investments in which we have significant influence.
All intercompany profits, transactions and balances have been eliminated. We
accounted for our investment in Geoilbent prior to the sale in September 2003 of
our minority equity investment based on a fiscal year ending September 30, 2003.
MINORITY INTERESTS
We record a minority interest attributable to the minority shareholder
of our Venezuela subsidiaries. The minority interest in net income and losses is
subtracted or added to arrive at consolidated net income.
COMPREHENSIVE INCOME
Statement of Financial Accounting Standards No. 130 ("SFAS 130")
requires that all items required to be recognized under accounting standards as
components of comprehensive income, be reported in a financial statement that is
displayed with the same prominence as other financial statements. We reflected
unrealized mark-to-market gains/(losses) from cash flow hedging activities as
other comprehensive income/(loss) during the three and nine month periods ended
2004 and 2003 and, in accordance with SFAS 130, have provided a separate line in
the unaudited consolidated statement of operations and comprehensive income.
DERIVATIVES AND HEDGING
Statement of Financial Accounting Standards No. 133 ("SFAS 133"), as
amended, establishes accounting and reporting standards for derivative
instruments and hedging activities. All derivatives are recorded on the balance
sheet at fair value. To the extent that the hedge is determined to be effective,
changes in the fair value of derivatives for qualifying cash flow hedges are
recorded each period in other comprehensive income. Our derivatives have been
designated as cash flow hedge transactions in which we hedge the variability of
cash flows related to future oil prices for some or all of our forecasted oil
production. The changes in the fair value of these derivative instruments have
6
been reported in other comprehensive income because the highly effective test
was met, and have been reclassified to earnings in the period in which earnings
were impacted by the variability of the cash flows of the hedged item.
Harvest Vinccler hedged a portion of its 2003 oil sales by purchasing a
West Texas Intermediate ("WTI") crude oil put option to protect its 2003 cash
flow. The put was for 10,000 barrels of oil per day for the period of March 1,
2003 through December 31, 2003. Due to the pricing structure for our Venezuela
oil, the put had the economic effect of hedging approximately 20,800 barrels of
oil per day. The put cost was $2.50 per barrel, or $7.7 million, and had a
strike price of $30.00 per barrel. The notional amount of the financial
instrument was based on expected sales of crude oil production from existing and
future development wells. This put qualified under the highly effective test and
the mark-to-market loss at September 30, 2003 was included in other
comprehensive loss.
We have no hedging instruments in place for our 2004 production. In
August 2004, Harvest Vinccler hedged a portion of its oil sales for calendar
year 2005 by purchasing a WTI crude oil put for 5,000 barrels of oil per day.
The put cost was $4.24 per barrel, or $7.7 million, and has a strike price of
$40.00 per barrel. In September 2004, Harvest Vinccler hedged an additional
portion of its calendar year 2005 oil sales by purchasing a second WTI crude oil
put for 5,000 barrels of oil per day. The put cost was $3.95 per barrel, or $7.2
million, and has a strike price of $44.40 per barrel. Due to the pricing
structure for our Venezuelan oil, these two puts have the economic effect of
hedging approximately 20,800 barrels of oil per day for an average of $18.29 per
barrel. These puts qualify under the highly effective test and the
mark-to-market loss at September 30, 2004 is included in other comprehensive
loss.
At September 30, 2004 and 2003, Accumulated Other Comprehensive Loss
consisted of $3.6 million ($2.4 million net of tax) and $0.6 million ($0.4
million net of tax), respectively, of unrealized losses on our crude oil puts.
Oil sales for the nine months ended September 30, 2004 included no losses in
settlement of the puts. Oil sales for the nine months ended September 30, 2003
included losses of $3.7 million in settlement of the put. Deferred net losses
recorded in Accumulated Other Comprehensive Loss at September 30, 2004 are
expected to be reclassified to earnings during 2005. Deferred net losses
recorded in Accumulated Other Comprehensive Loss at September 30, 2003 were
reclassified to earnings during 2003.
We continue to assess production levels and commodity prices in
conjunction with our capital resources and liquidity requirements.
ASSET RETIREMENT LIABILITY
Effective January 1, 2003, we adopted Statement of Financial Accounting
Standards No. 143, "Accounting for Asset Retirement Obligations" ("SFAS 143").
In January 2003, Harvest Vinccler recorded, under the full cost method of
accounting for oil and gas properties, an increase in oil and gas properties and
a corresponding liability in the amount of $4.3 million. This asset retirement
obligation is associated with the plugging and abandonment of certain wells in
Venezuela. SFAS 143 requires entities to record the fair value of a liability
for a legal obligation to retire an asset in the period in which the liability
is incurred if a reasonable estimate of fair value can be made. Ten wells were
abandoned in the nine months ended September 30, 2004 and 11 wells were
abandoned in year ended December 31, 2003. Changes in asset retirement
obligations during the nine months ended September 30, 2004 and year ended
December 31, 2003 were as follows:
September 30, December 31,
2004 2003
-------------- --------------
Asset retirement obligations beginning of period $ 1,459 $ --
Liabilities recorded during the period -- 4,237
Liabilities settled during the period (481) (733)
Revisions in estimated cash flows (267) (2,125)
Accretion expense 39 80
-------------- --------------
Asset retirement obligations end of period $ 750 $ 1,459
============== ==============
In September 2004, the Securities and Exchange Commission ("SEC")
issued Staff Accounting Bulletin 106 ("SAB 106") which provides guidance
regarding the interaction of SFAS 143 with the calculation of depletion and the
full cost ceiling test of oil and gas properties under the full cost accounting
rules of the SEC. The guidance
7
provided in SAB 106 is not expected to have a material effect on our
consolidated financial position, results of operations or cash flows.
EARNINGS PER SHARE
Basic earnings per common share ("EPS") is computed by dividing income
available to common stockholders by the weighted-average number of common shares
outstanding for the period. The weighted average number of common shares
outstanding for computing basic EPS was 36.2 million and 36.0 million for the
three and nine months ended 2004, respectively, and 35.3 million for the three
and nine months ended 2003. Diluted EPS reflects the potential dilution that
would occur if securities or other contracts to issue common stock were
exercised or converted into common stock. The weighted average number of common
shares outstanding for computing diluted EPS, including dilutive stock options,
was 38.3 million and 38.0 million for the three and nine months ended 2004,
respectively, and 37.0 million and 36.8 million for the three and nine months
ended 2003, respectively. In September 2002, our board of directors authorized
the repurchase of up to one million shares of our common stock. No shares were
repurchased in 2004 and approximately 80,000 shares were repurchased in 2003 for
an aggregate price of $0.4 million.
An aggregate of 1.0 million options and warrants to purchase common
stock were excluded from the earnings per share calculations because their
exercise price exceeded the average share price for the three and nine months
ended 2004, respectively. An aggregate of 2.4 million and 2.7 million options
and warrants to purchase common stock were excluded from the earnings per share
calculations because their exercise price exceeded the average share price for
the three and nine months ended 2003.
STOCK-BASED COMPENSATION
At September 30, 2004, we had several stock-based employee compensation
plans, which are more fully described in Note 6 in our Annual Report on Form
10-K for the year ended 2003. In May 2004, our shareholders approved the 2004
Long Term Incentive Plan (the "Plan"). The Plan provides for the issuance of up
to 1,750,000 shares of our common stock in satisfaction of exercised stock
options, stock appreciation rights ("SARs") and restricted stock to eligible
participants including employees, non-employee directors and consultants of our
company or subsidiaries. Under the Plan, no more than 438,000 shares may be
granted as restricted stock, and no individual may be granted more than 110,000
shares of restricted stock or 438,000 in options over the life of the Plan. The
exercise price of stock options granted under the plan must be no less than the
fair market value of our common stock on the date of grant. All options granted
to date will vest ratably over a three-year period from their dates of grant and
expire ten years from grant date. All restricted stock granted to date is
subject to a restriction period of 36 months during which the stock will be
deposited with the Company and is subject to forfeiture under certain
circumstances. The Plan also permits the granting of performance awards to
eligible employees and consultants. Performance awards are paid only in cash and
are based upon achieving established indicators of performance over an
established period of time of at least one year. Performance awards granted
under the Plan may not exceed $5.0 million in a calendar year and may not exceed
$2.5 million to any one individual in a calendar year. In the event of a change
in control, any restrictions on restricted stock will lapse, the indicators of
performance under a performance award will be treated as having been achieved
and any outstanding options and SARs will vest and become exercisable.
Prior to 2003, we accounted for our stock-based employee compensation
plans under the recognition and measurement provisions of Accounting Principles
Board ("APB") Opinion No. 25, Accounting for Stock Issued to Employees, and
related interpretations. Effective January 1, 2003, we adopted the fair value
recognition provisions of Statement of Financial Accounting Standards No. 123
("SFAS 123"), Accounting for Stock-Based Compensation as amended by Statement of
Financial Accounting Standards No. 148 ("SFAS 148"), Accounting for Stock-Based
Compensation - Transition and Disclosure, prospectively to all employee awards
granted, modified, or settled after January 1, 2003. Awards under our plans vest
in periodic installments after one year of their grant and expire ten years from
grant date. Therefore, the cost related to stock-based employee compensation
included in the determination of net income in the three and nine months ended
2004 and 2003 is less than that which would have been recognized if the fair
value based method had been applied to all awards since the original effective
date of SFAS 123. The following table illustrates the effect on net income and
earnings per share if the fair value based method had been applied to all
outstanding and unvested awards in each period.
8
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------------------- -------------------------------
2004 2003 2004 2003
-------------- -------------- -------------- --------------
(in thousands, except per share data)
Net income, as reported $ 5,306 $ 46,410 $ 19,061 $ 19,539
Add: Stock based employee compensation
cost, net of tax 355 85 617 212
Less: Total stock-based employee
compensation cost determined
under fair value based method, net of tax (435) (268) (1,003) (797)
-------------- -------------- -------------- --------------
Net income - proforma $ 5,226 $ 46,227 $ 18,675 $ 18,954
============== ============== ============== ==============
Earnings per share:
Basic - as reported $ 0.15 $ 1.31 $ 0.53 $ 0.55
============== ============== ============== ==============
Basic - proforma $ 0.14 $ 1.31 $ 0.52 $ 0.54
============== ============== ============== ==============
Diluted - as reported $ 0.14 $ 1.25 $ 0.50 $ 0.53
============== ============== ============== ==============
Diluted - proforma $ 0.14 $ 1.25 $ 0.49 $ 0.51
============== ============== ============== ==============
Stock options of 0.6 million and 0.2 million were exercised in the nine
months ended 2004 and 2003, respectively, with cash proceeds of $3.4 million and
$0.5 million, respectively.
In October 2004, the Financial Accounting Standards Board delayed the
effective date of its proposed standard, Share-Based Payment, an amendment to
Statement of Accounting Standards 123 and 95. Public companies with a calendar
year-end will be required to adopt the provisions of the standard effective for
periods beginning after June 15, 2005, rather than the January 1, 2005, as
originally proposed. We are currently assessing the impact of this proposed
standard, but do not expect the proposed standard to have a material effect on
our consolidated financial position, results of operation or cash flows.
NOTE 2 - LONG-TERM DEBT
LONG-TERM DEBT
Long-term debt consists of the following:
SEPTEMBER 30, DECEMBER 31,
2004 2003
-------------- --------------
(in thousands)
Senior unsecured notes with interest at 9.375% $ -- $ 85,000
Note payable with interest at 6.4% 1,800 2,700
Note payable with interest at 7.4% 11,625 15,500
-------------- --------------
13,425 103,200
Less current portion 6,367 6,367
-------------- --------------
$ 7,058 $ 96,833
============== ==============
In November 1997, we issued $115.0 million in 9.375 percent senior
unsecured notes due November 1, 2007 ("2007 Notes"), of which we have
repurchased $30.0 million. In September 2004, we announced that the remaining
2007 Notes would be redeemed on November 1, 2004, and we irrevocably deposited
with the Trustee as trust funds $85.0 million plus accrued interest through
November 1, 2004 and prepayment call premium of $1.3 million to redeem the 2007
Notes on the redemption date. We were released from all obligations related to
the 2007 Notes upon deposit of the trust funds with the Trustee. We recorded a
loss on early extinguishment of debt of $2.9 million which includes the $1.3
million prepayment call premium, $0.7 million for interest related to the period
October 1, 2004 to November 1, 2004 and $0.9 million write-off of unamortized
debt financing costs. Our repayment of the 2007 Notes triggered an obligation
under the terms of Harvest Vinccler's loans from a Venezuelan commercial bank to
renegotiate the terms of those loans or, if agreement on renegotiated terms
cannot be reached
9
within 30 days after November 1, 2004, the loans become due and payable. Harvest
Vinccler is in discussions with the Venezuelan bank on possible renegotiated
terms. While we believe the loans will be renegotiated, it is possible that
agreement will not be reached and Harvest Vinccler will be required to repay the
remaining balance of $13.4 million.
At September 30, 2004, we and Harvest Vinccler were in compliance with
all covenants under our respective borrowing obligations.
NOTE 3 - COMMITMENTS AND CONTINGENCIES
We have employment contracts with six executive officers which provide
for annual base salaries, eligibility for bonus compensation and various
benefits. The contracts provide for a lump sum payment as a multiple of base
salary in the event of termination of employment without cause. In addition,
these contracts provide for payments as a multiple of base salary and bonus, tax
reimbursement and a continuation of benefits in the event of termination without
cause following a change in control. By providing one year notice, these
agreements may be terminated by either party on May 31, 2006 for five of the
executives and on May 31, 2007 for the sixth executive.
In April 2004, we signed a ten-year lease for office space in Houston,
Texas, for approximately $17,000 per month. We moved into the new space in
August 2004. We lease 17,500 square feet of space in a California building that
we no longer occupy under a lease agreement that expires in December 2004, all
of which has been subleased for rents that approximate our lease costs.
Excel Enterprises L.L.C. vs. Benton Oil & Gas Company, now known as
Harvest Natural Resources, Inc., Chemex, Inc., Benton-Vinccler, C.A., Gale
Campbell and Sheila Campbell in the District Court for Harris County, Texas.
This suit was brought in May 2003 by Excel alleging, among other things, breach
of a consulting agreement between Excel and us, misappropriation of proprietary
information and trade secrets, and fraud. Excel seeks actual and exemplary
damages, injunctive relief and attorneys' fees. The Court has abated the suit
pending final judgment of a case pending in Louisiana to which we are not a
party. We dispute Excel's claims and plan to vigorously defend against them. We
are unable to estimate the amount or range of any possible loss.
Uracoa Municipality Tax Assessments. In July 2004, Harvest Vinccler
received three tax assessments from a tax inspector for the Uracoa municipality
in which part of the South Monagas Unit is located. A protest to the assessments
was filed with the municipality, and in September 2004 the tax inspector
responded in part by affirming one of the assessments and issuing a payment
order. Harvest Vinccler has filed a motion with the tax court in Barcelona,
Venezuela, seeking to enjoin the payment order and dismiss the assessment. We
dispute all of the tax assessments and believe we have a substantial basis for
our positions. We are unable to estimate the amount or range of any possible
loss.
We are a defendant in or otherwise involved in other litigation
incidental to our business. In the opinion of management, there is no such
litigation which is material to us.
NOTE 4 - TAXES
TAXES OTHER THAN ON INCOME
Harvest Vinccler pays municipal taxes on operating fee revenues it
receives for production from the South Monagas Unit. We have incurred the
following Venezuelan municipal taxes and other taxes:
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
--------------------------- ---------------------------
2004 2003 2004 2003
------------ ------------ ------------ ------------
Venezuelan Municipal Taxes $ 1,226 $ 713 $ 2,983 $ 2,053
Franchise Taxes 90 61 339 145
Payroll and Other Taxes 122 65 428 259
------------ ------------ ------------ ------------
$ 1,438 $ 839 $ 3,750 $ 2,457
============ ============ ============ ============
10
NOTE 5 - OPERATING SEGMENTS
We regularly allocate resources to and assess the performance of our
operations by segments that are organized by unique geographic and operating
characteristics. The segments are organized in order to manage regional
business, currency and tax related risks and opportunities. Revenues from the
Venezuela operating segment are derived from the production and sale of oil and
natural gas. Operations included under the heading "Russia" include project
evaluation costs and other costs to maintain an office in Russia. Operations
included under the heading "United States and other" include corporate
management, cash management and financing activities performed in the United
States and other countries which do not meet the requirements for separate
disclosure. All intersegment revenues, expenses and receivables are eliminated
in order to reconcile to consolidated totals. Corporate general and
administrative and interest expenses are included in the United States and other
segment and are not allocated to other operating segments:
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
---------------------------- ----------------------------
2004 2003 2004 2003
------------ ------------ ------------ ------------
SEGMENT REVENUES
Oil and gas sales:
Venezuela $ 46,053 $ 27,834 $ 126,247 $ 75,235
------------ ------------ ------------ ------------
Total oil and gas sales 46,053 27,834 126,247 75,235
------------ ------------ ------------ ------------
SEGMENT INCOME (LOSS)
Venezuela 14,618 5,464 35,831 13,873
Russia (1,644) (886) (2,835) (30,871)
United States and other (7,668) 41,832 (13,935) 36,537
------------ ------------ ------------ ------------
Net income $ 5,306 $ 46,410 $ 19,061 $ 19,539
============ ============ ============ ============
SEPTEMBER 30, DECEMBER 31,
2004 2003
------------- ------------
OPERATING SEGMENT ASSETS
Venezuela ................................................. $ 278,402 $ 241,855
Russia .................................................... 359 237
United States and other ................................... 95,401 180,768
------------ ------------
374,162 422,860
Intersegment eliminations ................................. (51,091) (48,512)
------------ ------------
$ 323,071 $ 374,348
============ ============
NOTE 6 - RUSSIAN OPERATIONS
GEOILBENT
On September 25, 2003, we sold our minority equity investment in
Geoilbent to Yukos Operational Holding Limited for $69.5 million plus the
repayment of the subordinated loan and certain payables owed to us by Geoilbent
in the amount of $5.5 million. Prior to the sale, we owned 34 percent of
Geoilbent, a Russian limited liability company formed in 1991 to develop,
produce and market crude oil from the North Gubkinskoye and South Tarasovskoye
Fields in the West Siberia region of Russia. Our minority equity investment in
Geoilbent was accounted for using the equity method and was based on a fiscal
year ending September 30. Sales quantities attributable to Geoilbent for the
nine months ended June 30, 2003, were 4.3 million barrels (2.5 million domestic
and 1.8 million export). Prices for crude oil for the nine months ended June 30,
2003 averaged $13.57 ($7.08 domestic and $22.58 export) per barrel. Depletion
expense attributable to Geoilbent for the nine months ended June 30, 2003 was
$3.39 per barrel. All amounts represent 100 percent of Geoilbent. Summarized
financial information for Geoilbent follows:
11
STATEMENTS OF OPERATIONS:
THREE MONTHS ENDED NINE MONTHS ENDED
JUNE 30, 2003 JUNE 30, 2003
-------------------- --------------------
Revenues
Oil sales .............................................. $ 18,213 $ 57,845
Expenses
Selling and distribution expenses ...................... 1,901 4,605
Operating expenses ..................................... 4,087 12,344
Impairment of oil and gas properties ................... -- 95,000
Depletion, depreciation and amortization ............... 4,014 14,446
General and administrative ............................. 2,059 5,837
Taxes other than on income ............................. 8,128 24,001
-------------------- --------------------
20,189 156,233
-------------------- --------------------
Loss from operations ....................................... (1,976) (98,388)
Other Non-Operating Income (Expense)
Other income (expense) ................................. 272 70
Interest expense ....................................... (541) (1,762)
Net gain on exchange rates ............................. 1,318 1,837
-------------------- --------------------
1,049 145
-------------------- --------------------
Loss before income taxes ................................... (927) (98,243)
Income tax expense (benefit) ............................... 463 (8,485)
-------------------- --------------------
Net Loss ................................................... $ (1,390) $ (89,758)
==================== ====================
Due to low Russian domestic oil prices, the net present value of
Geoilbent's proved reserves at December 31, 2002 and March 31, 2003, were lower
than Geoilbent's unamortized capitalized cost of its oil and gas properties at
that date. As a result, Geoilbent recorded a $50 million and $45 million full
cost ceiling test write-down in the three months ended December 31, 2002 and
March 31, 2003, respectively.
NOTE 7 - DOMESTIC OPERATIONS
In June 2004, we sold our California onshore property, which had a zero
carrying value, for net proceeds of $0.6 million. We and other parties may be
responsible to the State of California for any remediation costs associated with
the onshore property and the related offshore oil and gas leases.
NOTE 8- RELATED PARTY TRANSACTIONS
In March 2002, we entered into construction service agreements with
Venezolana International, S.A. ("Vinsa"). Vinsa is an affiliate of Venezolana de
Inversiones y Construcciones Clerico, C.A., which owns 20 percent of Harvest
Vinccler. Vinsa provided $0.3 million and $0.9 million in construction services
for our Venezuelan field operations for the three and nine months ended 2004,
respectively, and $0.6 million and $1.1 million for the three and nine months
ended 2003, respectively. This agreement was terminated on September 19, 2004.
In August 1997, we entered into a consulting agreement with Oil & Gas
Technology Consultants Inc. ("OGTC") to provide operational and technical
assistance in Venezuela. OGTC is an affiliate of Venezolana de Inversiones y
Construcciones Clerico, C.A., which owns 20 percent of Harvest Vinccler. Payment
for services is due when earnings are not reinvested in Harvest Vinccler
operations. The consulting agreement was cancelled January 1, 2004. Expenses
related to this consulting agreement were $0.4 million and $1.1 million for the
three and nine months ended 2003, respectively.
12
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
Harvest Natural Resources, Inc. ("Harvest" or the "Company") cautions that any
forward-looking statements (as such term is defined in the Private Securities
Litigation Reform Act of 1995) contained in this report or made by management of
the Company involve risks and uncertainties and are subject to change based on
various important factors. When used in this report, the words "budget",
"guidance", "forecast", "anticipate", "expect", "believes", "goals", "projects",
"plans", "anticipates", "estimates", "should", "could", "assume" and similar
expressions are intended to identify forward-looking statements. In accordance
with the provisions of the Private Securities Litigation Reform Act of 1995, we
caution you that important factors could cause actual results to differ
materially from those in the forward-looking statements. Such factors include
our concentration of operations in Venezuela, the political and economic risks
associated with international operations, particularly Venezuela, the
anticipated future development costs for our undeveloped proved reserves, the
risk that actual results may vary considerably from reserve estimates, the
dependence upon the abilities and continued participation of certain of our key
employees, the risks normally incident to the operation and development of oil
and gas properties and the drilling of oil and natural gas wells, the
availability of materials and supplies necessary to projects and operations, the
price for oil and natural gas and related financial derivatives, changes in
interest rates, basis risk and counterparty credit risk in executing commodity
price risk management activities, the Company's ability to acquire oil and gas
properties that meet its objectives, changes in operating costs, overall
economic conditions, political stability, civil unrest, acts of terrorism,
currency and exchange risks, currency controls, changes in existing or potential
tariffs, duties or quotas, changes in taxes, changes in governmental policy,
availability of sufficient financing, changes in weather conditions, and ability
to hire, retain and train management and personnel. A discussion of these
factors is included in our 2003 Annual Report on Form 10-K, which includes
certain definitions and a summary of significant accounting policies and should
be read in conjunction with this Quarterly Report.
SUMMARY
On August 30, 2004, our board of directors elected James A. Edmiston as
our Executive Vice President and Chief Operating Officer. Mr. Edmiston brings 22
years of experience in working for Conoco and ConocoPhilips, including
assignments in Venezuela, Dubai and Russia. In September 2004, we announced the
redemption on November 1, 2004 of all $85 million of our 9.375 percent senior
unsecured notes due November 1, 2007 (the "2007 Notes"). In August and
September, we purchased West Texas Intermediate ("WTI") crude oil puts covering
10,000 barrels of oil per day for calendar year 2005 to protect our 2005 cash
flow. The puts cost a total of $14.9 million, have an average strike price of
$42.20 per barrel and, due to our pricing structure for our Venezuelan oil, have
the economic effect of hedging approximately 20,800 barrels of oil per day. We
commenced our Uracoa drilling program in June with two rigs operating full time,
and as of September 30, 2004, we completed four wells and recompleted two wells.
We expect to drill ten additional development and recompletion wells in 2004 and
continue the program into 2005. In addition, we have a workover rig in operation
in an effort to maximize production from existing wells.
We have significant financial flexibility and substantial cash flow
supported by current oil prices and current production levels for both oil and
gas. This should provide us with the ability to pursue growth opportunities
while at the same time maintaining a strong balance sheet. We have submitted
proposals to develop fields in Eastern Venezuela including the Isleno, Temblador
and El Salto fields. It is our understanding the Venezuelan Ministry of Energy
and Mines is still defining the methodology for the application of the new
Organic Hydrocarbons Law, in particular defining the structure of any
association involving private companies. This may affect both the timing and the
success of our efforts to acquire additional oil development rights in
Venezuela.
While we cannot predict the degree to which we will be successful, we
continue to evaluate properties in both Venezuela and Russia to find
opportunities which meet our focused acquisition criteria. Our cash generating
capacity is supported by our new gas production, lower operating expenses and
our Uracoa drilling program.
CAPITAL RESOURCES AND LIQUIDITY
Debt Reduction. In September 2004, we announced that the remaining 2007
Notes would be redeemed on November 1, 2004, and we irrevocably deposited with
the Trustee as trust funds $85.0 million plus accrued interest through November
1, 2004 and prepayment call premium of $1.3 million to redeem the 2007 Notes on
the redemption date. We were released from all obligations related to the 2007
Notes upon deposit of the trust funds
13
with the Trustee. We recorded a loss on early extinguishment of debt of $2.9
million which includes the $1.3 million prepayment call premium, $0.7 million
for interest related to the period October 1, 2004 to November 1, 2004 and $0.9
million write-off of unamortized debt financing costs. Our repayment of the 2007
Notes triggered an obligation under the terms of Harvest Vinccler's loans from a
Venezuelan commercial bank to renegotiate the terms of those loans or, if
agreement on renegotiated terms cannot be reached within 30 days after November
1, 2004, the loans become due and payable. Harvest Vinccler is in discussions
with the Venezuelan bank on possible renegotiated terms. While we believe the
loans will be renegotiated, it is possible that agreement will not be reached
and Harvest Vinccler will be required to repay the remaining balance of $13.4
million.
Working Capital. The net funds raised and/or used in each of the
operating, investing and financing activities are summarized in the following
table and discussed in further detail below:
NINE MONTHS ENDED SEPTEMBER 30,
2004 2003
---------------- ----------------
(in thousands)
Net cash provided by operating activities $ 37,700 $ 35,895
Net cash provided (used in) investing activities (19,412) 48,925
Net cash used in financing activities (88,513) (2,951)
---------------- ----------------
Net increase (decrease) in cash $ (70,225) $ 81,869
================ ================
At September 30, 2004, we had current assets of $137.9 million and
current liabilities of $56.8 million, resulting in working capital of $81.1
million and a current ratio of 2.4:1. This compares with a working capital of
$137.2 million and a current ratio of 4.0:1 at December 31, 2003. The decrease
in working capital of $56.1 million was primarily due to the prepayment of the
2007 Notes offset by the addition of natural gas sales in Venezuela.
Cash Flow from Operating Activities. During the nine months ended 2004
and 2003, net cash provided by operating activities was approximately $37.7
million and $35.9 million, respectively. The $1.8 million increase was due to
natural gas sales, higher crude oil prices and the sale of our California
onshore property offset by Harvest Vinccler's purchase of two WTI crude oil puts
and the loss of $2.9 million on the early repayment of the 2007 Notes. As of
September 30, 2004, we no longer have an obligation to make annual interest
payments of approximately $8.0 million on the 2007 Notes.
Cash Flow from Investing Activities. During the nine months ended 2004
and 2003, we had drilling and production-related capital expenditures of
approximately $19.8 million and $50.9 million, respectively. The decrease in
capital expenditures is due to the completion of our gas project in 2003 and the
timing of our 2004 Uracoa drilling program. The nine months ended September 30,
2003 included the receipt of $69.5 million from the sale of our minority equity
investment in Geoilbent.
The timing and size of capital expenditures for the South Monagas Unit
are at our discretion. Our remaining capital commitments worldwide support our
search for new acquisitions, are relatively minimal and are substantially at our
discretion. We currently have two rigs drilling in our Uracoa Field and expect
both rigs to continue drilling through the rest of this year and into next. We
have also increased our 2004 guidance on capital expenditures from $30-35
million to $40-45 million. We continue to assess production levels and commodity
prices in conjunction with our capital resources and liquidity requirements.
Cash Flow from Financing Activities. During the nine months ended 2004,
we irrevocably deposited with the Trustee as trust funds $85.0 million plus
accrued interest through November 1, 2004 and prepayment call premium of $1.3
million to redeem the 2007 Notes on the redemption date. During the same period,
Harvest Vinccler repaid $4.8 million of its U.S. dollar denominated debt. During
the nine months ended 2003, Harvest Vinccler repaid all of its Bolivar
denominated debt ($2.2 million) and $0.9 million of its U.S. dollar debt which
was an acceleration of the next two principal payments.
14
RESULTS OF OPERATIONS
You should read the following discussion of the results of operations
for the three and nine months ended 2004 and 2003 and the financial condition as
of September 30, 2004 and December 31, 2003 in conjunction with our consolidated
financial statements and related notes included in our Annual Report on Form
10-K for the year ended 2003.
THREE MONTHS ENDED SEPTEMBER 30, 2004 COMPARED WITH THREE MONTHS ENDED SEPTEMBER
30, 2003
Our results of operations for the third quarter 2004 primarily
reflected the results for Harvest Vinccler in Venezuela, which accounted for all
of our production and sales revenue. Our revenues increased $18.2 million, or 65
percent, during the third quarter 2004 compared with the third quarter 2003.
This was due to the addition of natural gas sales as well as higher crude oil
prices in Venezuela offset by lower oil production. Revenue for the third
quarter 2004 included 0.2 million barrels of oil at a $7.00 fixed price
associated with the gas sales contract.
Oil sales quantities for the third quarter 2004 from Venezuela were
20,700 barrels of oil per day ("BOPD") compared with 21,700 BOPD for the third
quarter 2003. Oil revenue per barrel increased 42 percent (from $13.97 in 2003
to $19.87 in 2004) and oil sales quantities decreased 5 percent from 2.0 million
barrels ("MMBbls") of oil in 2003 to 1.9 MMBbls of oil in 2004 during the third
quarter 2004 compared with the third quarter 2003. The production decline was
due to the natural decline in the South Monagas Unit and the delay in our Uracoa
drilling program. Natural gas sales quantities for the third quarter 2004 from
Venezuela were 85,600 million cubic feet ("Mcf") of gas per day (7.9 billion
cubic feet ["Bcf"] of gas for the quarter ended 2004).
Our operating expenses increased $0.2 million, or 3 percent, during the
third quarter 2004 compared with the third quarter 2003. This was primarily due
to timing of scheduled workovers, repairs and maintenance. Depletion,
depreciation and amortization increased $2.6 million, or 46 percent, during the
third quarter 2004 compared with the third quarter 2003 primarily due to the
start of natural gas production at the South Monagas Unit. Depletion expense per
barrel of oil equivalent produced from Venezuela during the third quarter 2004
was $2.39 compared with $2.60 during the third quarter 2003 primarily due to
reduced future development costs. We recognized write-downs of $0.2 in the third
quarter 2003 for additional capitalized costs associated with former exploration
prospects. General and administrative expenses increased $2.5 million, or 55
percent, during the third quarter 2004 compared with the third quarter 2003
primarily due to the write off of project evaluation costs associated with
projects in Russia and restricted stock bonuses recorded in the third quarter
2004. An arbitration settlement of $1.5 million and bad debt recovery of $0.4
million was recorded in the third quarter 2003 related to the arbitration and
recovery of the allowance for uncollectible accounts in prior years. Taxes other
than on income increased during the third quarter 2004 compared with the third
quarter 2003. This was primarily due to increased Venezuelan municipal taxes
which result from higher oil and gas revenues.
Interest expense during the third quarter of 2004 was relatively
constant with that of the third quarter 2003. We realized income before income
taxes and minority interest of $16.6 million during the third quarter 2004
compared with income of $51.9 million in third quarter 2003. Income tax expense
increased $4.0 million due to higher Venezuela pre-tax income. The effective tax
rate increased from 7 percent to 46 percent for the third quarter ended 2004
compared with 2003. The rate increase was due to foreign income taxes incurred
on profitable foreign operations offset by an increase in U.S. operating losses
for which no benefit was received for U.S. loss carryforwards which are fully
reserved. Income before minority interests decreased $39.3 million for the third
quarter 2004 compared with the third quarter 2003. This decrease was primarily
due to the receipt of proceeds in September 2003 from the sale of our minority
equity investment in Geoilbent.
Equity in net loss of affiliated companies decreased $0.5 million
during the third quarter 2004 compared with the third quarter 2003. This was due
to the elimination of Geoilbent equity losses on September 25, 2003, the date of
its sale.
NINE MONTHS ENDED SEPTEMBER 30, 2004 COMPARED WITH NINE MONTHS ENDED SEPTEMBER
30, 2003
Our results of operations for the nine months ended 2004 primarily
reflected the results for Harvest Vinccler in Venezuela, which accounted for all
of our production and sales revenue. Our revenues increased $51.0 million, or 68
percent, during the nine months ended 2004 compared with 2003. This was
primarily due to the addition
15
of natural gas sales as well as higher crude oil prices. Revenue for the nine
months ended 2004 included 0.5 million barrels of oil at a $7.00 fixed price
associated with the gas sales contract.
Oil sales quantities for the nine months ended 2004 from Venezuela were
20,800 BOPD compared with 19,500 BOPD for the nine months ended 2003. Oil
revenue per barrel increased 27 percent (from $14.11 in 2003 to $17.88 in 2004)
and oil sales quantities increased 7 percent from 5.3 MMBbls of oil in 2003 to
5.7 MMBbls of oil in 2004 during the nine months ended 2004 compared with 2003.
The production increase was partly due to the additional oil produced associated
with the natural gas production. Crude oil volumes for the nine months ended
2004 were also higher as the nine months ended 2003 were affected by the shut-in
of the production in Venezuela during all of January and part of February due to
the national work stoppage. Natural gas sales quantities for the nine months
ended 2004 from Venezuela were 87,000 Mcf of gas per day (23.8 Bcf of gas for
the nine months ended 2004).
Our operating expense decreased $1.1 million, or 5 percent, during the
nine months ended 2004 compared with 2003. This was primarily due to timing of
scheduled workovers, repairs and maintenance. Depletion, depreciation and
amortization increased $9.7 million, or 66 percent, during the nine months ended
2004 compared with 2003 due to increased oil and gas production at the South
Monagas Unit. Depletion expense per barrel of oil equivalent produced from
Venezuela during the nine months ended 2004 was $2.40 compared with $2.57 during
the nine months ended 2003 primarily due to reduced future development costs. We
recognized write-downs of $0.2 in the nine months ended 2003 for additional
capitalized costs associated with former exploration prospects. General and
administrative expenses increased $3.6 million, or 31 percent, during the nine
months ended 2004 compared with 2003. This was, in part, due to severance
payments for a number of employees paid in the second quarter of 2004, the write
off of project evaluation costs associated with projects in Russia and
restricted stock bonuses recorded in the third quarter 2004. An arbitration
settlement of $1.5 million and bad debt recovery of $0.4 million was recorded in
the nine months ended 2003 related to the arbitration and recovery of the
allowance for uncollectible accounts in prior years. Taxes other than on income
increased during the nine months ended 2004 compared with 2003. This was
primarily due to increased Venezuelan municipal taxes which result from higher
oil and gas revenues.
Interest expense during the nine months ended 2004 was relatively
constant with that of the nine months ended 2003. The deposit of funds with the
Trustee for the prepayment of the 2007 Notes was offset by overall lower average
outstanding debt balances for the nine months ended 2004 compared to 2003. Net
gain on exchange rates decreased $1.1 million for the nine months ended 2004
compared with 2003. This was due to a change in the Venezuelan official exchange
rate in February 2003 from 1,600 Venezuela Bolivars for each U.S. Dollar to
1,920 Venezuela Bolivars for each U.S. Dollar. We realized income before income
taxes and minority interest of $51.1 million during the nine months ended 2004
compared with income of $61.3 million in 2003. Income tax expense increased
$15.4 million due to higher Venezuela pre-tax income. The effective tax rate
increased from 13 percent to 45 percent for the nine months ended 2004 compared
with 2003. The rate increase was due to foreign income taxes incurred on
profitable foreign operations offset by an increase in U.S. operating losses for
which no benefit was received for U.S. loss carryforwards which are fully
reserved. Income before minority interests decreased $25.5 million for the nine
months ended 2004 compared with 2003. This decrease was primarily due to the
receipt of proceeds in September 2003 from the sale of our minority equity
investment in Geoilbent offset by the addition of natural gas sales as well as
higher crude oil prices in 2004.
Equity in net losses of affiliated companies decreased $30.5 million
during the nine months ended 2004 compared with 2003. This was due to the
elimination of Geoilbent equity losses on September 25, 2003, the date of its
sale.
EFFECTS OF FOREIGN EXCHANGE RATES
Our results of operations and cash flow are affected by changing oil
prices. However, our South Monagas Unit oil sales are based on a fee adjusted
quarterly by the percentage change of a basket of crude oil prices instead of by
absolute dollar changes. This dampens both any upward and downward effects of
changing prices on our Venezuelan oil sales and cash flows. As the price of oil
increases, there could be an increase in our cost for drilling and related
services because of increased demand, as well as an increase in oil sales.
Fluctuations in oil and natural gas prices may affect our total planned
development activities and capital expenditure program. On February 5, 2003, the
Government of Venezuela fixed the exchange rate between the Bolivar and the U.S.
dollar, and restricted the ability to exchange
16
Venezuelan Bolivars for U.S. dollars and vice versa. Initially the exchange rate
was fixed at 1,600 Venezuelan Bolivars for each U.S. dollar. On February 6,
2004, the official exchange rate was adjusted to 1,920 Venezuelan Bolivars for
each U.S. dollar. Oil companies, such as Harvest Vinccler, are allowed to
receive payments for oil sales in U.S. dollars and pay U.S. dollar-denominated
expenses from those payments. We have substantial cash reserves and do not
expect the Venezuelan currency conversion restriction to adversely affect our
ability to meet our short-term loan obligations.
CONCLUSION
While we can give you no assurance, we believe that our cash flow from
operations and our existing cash balance will provide sufficient capital
resources and liquidity to fund execution of our business plan including capital
expenditures. We have protected a portion of our 2005 cash flow by purchasing
two WTI crude oil puts for an average of $42.20 a barrel floor on 10,000 BOPD.
Due to the pricing structure for our Venezuelan oil, this has the economic
effect of hedging approximately 20,800 BOPD. Our expectation is based upon our
projected price levels, ability to remit funds from Harvest Vinccler and an
assumption that there will be no material interruption in production or delays
in the time periods between the submission of quarterly invoices to PDVSA by
Harvest Vinccler and the subsequent payments of these invoices by PDVSA. Future
cash flows are subject to a number of variables including, but not limited to,
the level of production, prices, as well as various economic and political
conditions which have historically affected the oil and natural gas business.
Prices for oil are subject to fluctuations in response to changes in supply,
market uncertainty and a variety of factors beyond our control.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We are exposed to market risk from adverse changes in oil and natural
gas prices, interest rates, foreign exchange and political risk, as discussed in
our Annual Report on Form 10-K for the year ended 2003. In August 2004,
Venezuelan President Chavez prevailed in a presidential recall referendum. While
the opposition has disputed the results of the recall, there has not been
significant civil unrest, any work stoppages or disruptions to our production.
In August 2004, Harvest Vinccler hedged a portion of its oil sales for calendar
year 2005 by purchasing a WTI crude oil put for 5,000 barrels of oil per day.
The put cost was $4.24 per barrel, or $7.7 million, and has a strike price of
$40.00 per barrel. In September 2004, Harvest Vinccler hedged an additional
portion of its calendar year 2005 oil sales by purchasing a second WTI crude oil
put for 5,000 barrels of oil per day. The put cost was $3.95 per barrel, or $7.2
million, and has a strike price of $44.40 per barrel. Due to the pricing
structure for our Venezuelan oil, these two puts have the economic effect of
hedging approximately 20,800 barrels of oil per day for an average of $18.29 per
barrel. Except as noted, information about market risk for the nine months ended
2004 does not differ materially from that discussed in the 2003 annual report.
ITEM 4. CONTROLS AND PROCEDURES
As of the end of the period covered by this report, we carried out an
evaluation, under the supervision and with the participation of management,
including our Chief Executive Officer and Chief Financial Officer, of the
effectiveness of our disclosure controls and procedures (as defined in 13a-15(e)
of the Securities Exchange Act of 1934 (the "Exchange Act")). A control system,
no matter how well conceived and operated, can provide only reasonable, not
absolute, assurance that the objectives of the control system are met. Because
of inherent limitations in all control systems, no evaluation of controls can
provide absolute assurance that all control issues, if any, within a company
have been detected. Accordingly, our disclosure controls and procedures are
designed to provide reasonable, not absolute, assurance that the objectives of
our disclosure control system are met and our Chief Executive Officer and Chief
Financial Officer have concluded, based on their evaluation as of the end of the
period covered by this report, that our disclosure controls and procedures were
effective at the reasonable assurance level.
We are required to disclose any change in our internal control over
financial reporting ("internal control") that occurred during the quarter ended
September 30, 2004 that has materially affected, or is reasonably likely to
materially affect, our internal control. There were none. However, in the
process of documenting and testing our internal control in connection with
future compliance with Rule 13a-15(e) under the Exchange Act of 1934, as amended
(required by Section 404 of the Sarbanes/Oxley Act of 2002) we have made
changes, and will continue to make changes, to refine and improve our internal
control.
17
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Uracoa Municipality Tax Assessments. In July 2004, Harvest
Vinccler received three tax assessments from a tax inspector
for the Uracoa municipality in which part of the South
Monagas Unit is located. A protest to the assessments was
filed with the municipality, and in September 2004 the tax
inspector responded in part by affirming one of the
assessments and issuing a payment order. Harvest Vinccler
has filed a motion with the tax court in Barcelona,
Venezuela, seeking to enjoin the payment order and dismiss
the assessment. We dispute all of the tax assessments and
believe we have a substantial basis for our positions.
See our Annual Report on Form 10-K for the year ended 2003
for a description of certain legal proceedings. There have
been no material developments in such legal proceedings
since the filing of such Annual Report.
ITEM 2. UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS
On July 14, 2004, we sold 8,000 shares of our common stock
as a result of the exercise of an outstanding warrant held
by Venezolana de Inversiones y Construcciones Clerico, C.A.
There were no underwriters. The shares were sold for cash at
$7.50 per share. The sale of these securities is exempt from
registration as a private placement of restricted securities
for an offering price of $5.0 million or less to fewer than
35 purchasers, in accordance with the provisions of Rule 505
of Regulation D promulgated under the Securities Act of
1933. The proceeds from the sale were used for working
capital.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None
ITEM 5. OTHER INFORMATION
There have been no material changes to the procedures by
which security holders may recommend nominees to our board
of directors since our Schedule 14A filed on March 29, 2004.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
3.1 Amended and Restated Certificate of Incorporation
(Incorporated by reference to Exhibit 3.1.I to our
Form 10-Q filed on August 13, 2002, File No.
001-10762).
3.2 Amended and Restated Bylaws as of December 11,
2003 (Incorporated by reference to Exhibit 3.3 to
our Form 10-K filed on March 10, 2004, File No.
001-10762).
4.1 Form of Common Stock Certificate (Previously filed
as an exhibit to our S-1 Registration Statement
(Registration No. 33-26333)).
4.2 Certificate of Designation, Rights and Preferences
of the Series B. Preferred Stock of Benton Oil and
Gas Company, filed May 12, 1995. (Incorporated by
reference to Exhibit 4.1 to our Form 10-Q filed on
May 13, 2002, File No. 1-10762.)
18
4.3 Amended and Restated Rights Agreement, dated as of
September 16, 2003, between Harvest Natural
Resources, Inc. and Wells Fargo Bank Minnesota,
N.A. (incorporated by reference to Exhibit 5 to
Amendment No. 1 to our Registration Statement on
Form 8-A filed October 29, 2003 (Registration No.
000-17534)).
10.1 Employment Agreement dated September 1, 2004
between Harvest Natural Resources, Inc. and James
A. Edmiston.
31.1 Certification pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002 executed by Peter J.
Hill, President and Chief Executive Officer.
31.2 Certification pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002 executed by Steven W.
Tholen, Senior Vice President, Chief Financial
Officer and Treasurer.
32.1 Certification accompanying Quarterly Report
pursuant to Section 906 of the Sarbanes-Oxley Act
of 2002 executed by Peter J. Hill, President and
Chief Executive Officer.
32.2 Certification accompanying Quarterly Report
pursuant to Section 906 of the Sarbanes-Oxley Act
of 2002 executed by Steven W. Tholen, Senior Vice
President, Chief Financial Officer and Treasurer.
(b) Reports on Form 8-K
On August 5, 2004, we filed a Report on Form 8-K
with the Securities and Exchange Commission in
which we furnished a press release announcing our
results for the second quarter ended June 30, 2004
and furnishing the following financial statements:
(i) Consolidated Balance Sheets for the Period
Ended June 30, 2004 and December 31, 2003; (ii)
Consolidated Statements of Operations for the
Three and Six Months Ended June 30, 2004 and 2003;
and (iii) Consolidated Statement of Cash Flows for
the Three and Six Months Ended June 30, 2004 and
2003.
On September 2, 2004, we filed a Report on Form
8-K with the Securities and Exchange Commission in
which we announced the appointment of James A.
Edmiston, our Executive Vice President and Chief
Operating Officer effective September 1, 2004 and
describing the employment agreement between us and
Mr. Edmiston.
On September 24, 2004, we filed a Report on Form
8-K with the Securities and Exchange Commission in
which we furnished clarification of information
concerning our growth opportunities in Venezuela.
19
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
HARVEST NATURAL RESOURCES, INC.
Dated: November 5, 2004 By: /s/ Peter J. Hill
-------------------------------------
Peter J. Hill
President and Chief Executive Officer
Dated: November 5, 2004 By: /s/ Steven W. Tholen
-------------------------------------
Steven W. Tholen
Senior Vice President,
Chief Financial Officer and Treasurer
20
EXHIBIT INDEX
EXHIBIT
NUMBER DESCRIPTION
------- -----------
3.1 Amended and Restated Certificate of Incorporation
(Incorporated by reference to Exhibit 3.1.I to our Form
10-Q filed on August 13, 2002, File No. 001-10762).
3.2 Amended and Restated Bylaws as of December 11, 2003
(Incorporated by reference to Exhibit 3.3 to our Form 10-K
filed on March 10, 2004, File No. 001-10762).
4.1 Form of Common Stock Certificate (Previously filed as an
exhibit to our S-1 Registration Statement (Registration No.
33-26333)).
4.2 Certificate of Designation, Rights and Preferences of the
Series B. Preferred Stock of Benton Oil and Gas Company,
filed May 12, 1995. (Incorporated by reference to Exhibit
4.1 to our Form 10-Q filed on May 13, 2002, File No.
1-10762.)
4.3 Amended and Restated Rights Agreement, dated as of
September 16, 2003, between Harvest Natural Resources, Inc.
and Wells Fargo Bank Minnesota, N.A. (incorporated by
reference to Exhibit 5 to Amendment No. 1 to our
Registration Statement on Form 8-A filed October 29, 2003
(Registration No. 000-17534)).
10.1 Employment Agreement dated September 1, 2004 between
Harvest Natural Resources, Inc. and James A. Edmiston.
31.1 Certification pursuant to Section 302 of the Sarbanes-Oxley
Act of 2002 executed by Peter J. Hill, President and Chief
Executive Officer.
31.2 Certification pursuant to Section 302 of the Sarbanes-Oxley
Act of 2002 executed by Steven W. Tholen, Senior Vice
President, Chief Financial Officer and Treasurer.
32.1 Certification accompanying Quarterly Report pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002 executed by
Peter J. Hill, President and Chief Executive Officer.
32.2 Certification accompanying Quarterly Report pursuant to
Section 906 of the Sarbanes-Oxley Act of 2002 executed by
Steven W. Tholen, Senior Vice President, Chief Financial
Officer and Treasurer.