SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-KSB
(Mark One)
[ X ] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE
SECURITIES EXCHANGE ACT OF 1934 [Fee Required]
For the fiscal year ended December 31, 1998
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15 (d) OF THE
SECURITIES EXCHANGE ACT OF 1934 [No Fee Required]
Commission file number 0-8157
THE RESERVE PETROLEUM COMPANY
(Name of small business issuer in its charter)
Delaware 73-0237060
(State or other jurisdiction of (IRS Employer
incorporation or organization) identification number)
6801 N. Broadway, Suite 300, Oklahoma City, Oklahoma 73116-9092
(Address of principal executive offices) (Zip Code)
Issuer's telephone number: (405)848-7551
Securities registered under Section 12(b) of the Act: None
Securities registered under Section 12(g) of the Act:
Common stock $.50 Par Value (Title of Class)
Check whether the issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Securities Exchange Act during the past 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
--- ---
Check if there is no disclosure of delinquent filers in response to Item 405 of
Regulation S-B contained herein, and will not be contained, to the best of
registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-KSB or any amendment to
this Form 10-KSB. [ X ]
Issuer's revenues for the fiscal year ended December 31, 1998 were $2,714,094.
As of March 16, 1999, there were 167,729.73 common shares outstanding. The
aggregate market value of the voting stock held by non-affiliates was $3,307,588
as determined by the last reported sale which was February 18, 1999.
DOCUMENTS INCORPORATED BY REFERENCE
Items 9, 10, 11 and 12 required by Part III, are incorporated herein by
reference to the Company's proxy statement to be mailed to security holders on
or about April 6, 1999, in connection with its annual stockholders' meeting to
be held on May 4, 1999.
Transitional Small Business Disclosure Format (check one) Yes No X
--- ---
See Exhibit Index on Page 39.
<PAGE>
TABLE OF CONTENTS
Page
Forward Looking Statements................................................ 3
PART I
Item 1. Description of Business........................................ 4
Item 2. Description of Properties...................................... 7
Item 3. Legal Proceedings.............................................. 8
Item 4. Submission of Matters to a Vote of Security Holders............ 9
PART II
Item 5. Market for Common Equity and Related Stockholder Matters....... 10
Item 6. Management's Discussion and Analysis of Financial Condition
and Results of Operations...................................... 10
Item 7. Financial Statements........................................... 18
Item 8. Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure....................................... 39
PART III
Item 9. Directors, Executive Officers, Promoters and Control Persons
Compliance with Section 16(a) of the Exchange Act.............. 39
Item 10. Executive Compensation......................................... 39
Item 11. Security Ownership of Certain Beneficial Owners and Management. 39
Item 12. Certain Relationships and Related Transactions................. 39
Item 13. Exhibits and Reports on Form 8-K............................... 39
<PAGE>
Forward Looking Statements.
- --------------------------
In addition to historical information, from time to time the Company may publish
forward-looking statements relating to such matters as anticipated financial
performance, business prospects, technological developments, new products,
research and development activities, year 2000 issues, and similar matters. The
Private Securities Litigation Reform Act of 1995 provides a safe harbor for
forward-looking statements. Although management believes that the expectations
reflected in such forward looking statements are based on reasonable
assumptions, a variety of factors could cause the Company's actual results and
experience to differ materially from the anticipated results or other
expectations expressed in the Company's forward-looking statements. The risks
and uncertainties that may affect the operations, performance, development and
results of the Company's business include, but are not limited to, the
following:
The Company's future operating results will depend upon management's
ability to employ and retain quality employees, forecast revenues and
control expenses. Any decline in operating revenues without corresponding
reduction in operating expenses could have a material adverse effect on the
Company's business, results of operations and financial condition.
Estimates of future revenues from oil and gas sales are derived from a
combination of factors which are subject to significant fluctuation over
any given period of time. Reserve estimates by their nature are subject to
revision in the short-term. The evaluating engineers consider all available
production performance data, reservoir data and geological data, as well as
make estimates of production costs, sale prices and the time period the
property can be produced at a profit. A change in any of the above factors
can significantly change the timing and amount of net revenues from a
property.
The Company has no significant long-term sales contacts for either oil or
gas. For the most part, the price the Company receives for its product is
based upon the spot market price which in the past has experienced
significant fluctuations. Management anticipates such price fluctuations
will continue in the future, making any attempt at estimating future prices
subject to significant error.
Exploration and development costs have been the most significant component
of the Company's capital expenditures and are expected to remain so, at
least in the near term. Under the successful efforts method of accounting
for oil and gas properties which the Company uses, these costs are
capitalized if the prospect is successful, or charged to operating costs
and expenses if unsuccessful. Estimating the amount of such future costs
which may relate to successful or unsuccessful prospects is extremely
imprecise, at best.
The provisions for depreciation, depletion and amortization of oil and gas
properties constitute a particularly sensitive accounting estimate.
Non-producing leaseholds are amortized over the life of the leasehold using
a straight line method; however, when a leasehold is impaired or condemned,
an appropriate adjustment to the provision is made at that time. Forward
looking estimates of such adjustments are very imprecise. The provision for
impairment of long-lived assets is determined by review of the estimated
future cash flows from the individual properties. A significant unforeseen
downward adjustment in future prices and/or potential reserves could result
in a material change in estimated long-lived assets impairment. Depletion
and depreciation of oil and gas properties are computed using the units-
<PAGE>
of-production method. A significant unanticipated change in volume of
production or estimated reserves would result in a material unforecast
change in the estimated depletion and depreciation provisions.
In prior years, income from available for sale securities and trading
securities have made substantial contributions to net income. Available for
sale securities and trading securities are used to invest funds until
needed in the Company's capital investing and financing activities. When
those funds are utilized, net income will be materially reduced.
The Company's trading securities consist primarily of equity securities.
These securities are carried at fair value with unrealized gains and losses
included in earnings. The equity securities are traded on various stock
exchanges and/or the NASDAQ and over the counter markets. Therefore, these
securities are market-risk sensitive instruments. The stock market is
subject to wide price swings in short periods of time. Should the stock
market experience a significant down-turn, the Company could have a
material loss from its equity investments.
The Company has equity investments in which the decisions relating to
day-to-day operations and control of the entities is vested in
organizations and/or individuals over which the Company has limited or no
control. These equity investments make substantial contributions to the
Company's net income. The Management of these entities could at any time
make decisions in their own best interests which could materially affect
the Company's net income, or the value of the Company's investments. See
Item 1 "Description of Business - Other Business", for information
regarding these equity investments.
The Reserve Petroleum Company undertakes no obligation to publicly revise
forward-looking statements to reflect events or circumstances that arise after
the date hereof. Readers should carefully review the risk factors described in
other documents the Company files from time to time with the Securities and
Exchange Commission, including the Quarterly Reports on Form 10-QSB to be filed
by the Company in 1999 and any Current Reports on Form 8-K filed by the Company.
PART I
------
Item 1. Description of Business.
The Reserve Petroleum Company (the "Company") is engaged principally in the
exploration for and the development of oil and natural gas properties. Other
business segments are not significant factors in the Company's operations. The
Company is a corporation organized under the laws of the State of Delaware in
1931.
Oil and Natural Gas Properties.
- ------------------------------
For a summary of certain data relating to the Company's oil and gas properties
including production, undeveloped acreage, producing and dry wells drilled and
recent activity see Item 2, "Description of Properties". For a discussion and
analysis of current and prior years' revenue and related costs of oil and gas
operations, and a discussion of liquidity and capital resource requirements, see
Item 6, "Management's Discussion and Analysis of Financial Condition and Results
of Operations".
<PAGE>
Mineral Property Management. The Company owns non-producing mineral interests in
approximately 271,587 gross acres equivalent to 93,811 net acres. These mineral
interests are located in nine states with 57,101 net acres in the states of
Oklahoma and Texas, the area of concentration for the Company in its present
development programs.
A substantial amount of the Company's oil and gas revenue has resulted from its
mineral property management. In 1998 $1,017,891 (38%) of oil and gas sales were
from royalty interests as compared to $1,723,295 (62%) in 1997. For a discussion
and analysis of the decrease in royalty interests production, see Item 6,
subheading, "Operating Revenues". As a result of its mineral ownership, in 1998
the Company had royalty interests in 9 gross (.054 net) wells which were drilled
and completed as producing wells. See the following paragraphs for a discussion
of mineral interests in which the Company chooses to participate as a working
interest owner.
Development Program. The development of a drilling program is usually initiated
in one of three ways. The Company may participate as a working interest owner
with a third party operator in the development of non-producing mineral
interests which it owns; along with the joint interest operator, it may
participate in drilling additional wells on its producing leaseholds; or if its
exploration program discussed below results in a successful exploratory well, it
may participate in the development of additional wells on the exploratory
prospect. In 1998, the Company completed 1 gross (.18 net) development oil well
which was in process at year end 1997. Further development drilling on the
prospect was deferred as a result of low oil prices.
Exploration Program. The Company's exploration program is normally conducted by
purchasing interests in prospects developed by independent third parties,
participating in third party exploration of Company owned non-producing
minerals, developing its own exploratory prospects or a combination of the
above.
The Company normally acquires interests in exploratory prospects from someone in
the industry with whom management has conducted business in the past and/or has
confidence in the quality of the geological and geophysical information
presented for evaluation by Company personnel. If evaluation indicates the
prospect is within the Company's risk limits, the Company may negotiate to
acquire an interest in the prospect and participate in a non-operating capacity.
The Company develops exploratory drilling prospects by identification of an area
of interest, development of geological and geophysical information and purchase
of leaseholds in the area. The Company may then attempt to sell an interest in
the prospect to one or more companies in the petroleum industry with one of the
purchasing companies functioning as operator. Three dimensional seismic
technology is employed in the development of most prospects.
In 1998, the Company had fractional interests in seven prospects which were
tested, including two prospects which were in process at December 31, 1998.
A second test well was drilled on a Garvin County, Oklahoma gas
prospect in which the Company had a 14% working interest. The test well
resulted in condemnation of the prospect.
The Company participated in a shallow Harper County, Kansas, gas play
consisting of four separate acreage blocks in which the Company had 12%
working interests. One test well on each acreage block was drilled,
plugged and abandoned.. There are no plans to drill additional wells;
however, some of the acreage may be sold.
<PAGE>
A test well was drilled on each of two gas prospects in Woodward
County, Oklahoma in which the Company has a 27% working interest. The
wells were in process at year end and at March 15, 1999, were waiting
on pipeline hookup to complete final production testing.
Customers. In 1998, the Company had two customers whose total purchases were
greater than 10% of revenues from oil and gas sales. The purchases were $455,208
or 17% of total oil and gas sales by one purchaser, and $914,552 or 34% of total
oil and gas sales by the other. The $914,552 gross sales from the second
purchaser were the result of receipt of suspended runs upon the final judgment
rendered in favor of the Company in a Texas quiet title action as discussed in
Item 3, "Legal Proceedings," and Note 9, to the accompanying financial
statements.
The Company sells most of its oil and gas on the spot market or has sales
contracts that are based on the spot market price. A very minor amount of oil
and gas sales are made under fixed price contracts having terms of more than one
year.
Competition. The oil and gas industry is highly competitive in all of its
phases. The availability of a ready market for the Company's oil and gas
production depends on numerous factors beyond its control, including the cost
and availability of alternative fuels, the level of consumer demand, the extent
of other domestic production of oil and gas, the extent of importation of
foreign oil and gas, the cost of and proximity of pipelines and other
transportation facilities, regulation by state and Federal authorities and the
cost of complying with applicable environmental regulations. The Company is a
very minor factor in the industry and must compete with other persons and
companies having far greater financial and other resources; therefore, the
Company's ability to develop prospects which are viable, given current economic
conditions, and secure the financial participation of other persons and
companies in exploratory drilling on these prospects is limited.
Regulation. The Company's operations are affected in varying degrees by
political developments and Federal and state laws and regulations. Although
released from Federal price controls, interstate sales of natural gas are
subject to regulation by the Federal Energy Regulatory Commission (FERC). Oil
and gas operations are affected by environmental laws and other laws relating to
the petroleum industry and both are affected by constantly changing
administrative regulations. Rates of production of oil and gas have for many
years been subject to a variety of conservation laws and regulations, and the
petroleum industry is frequently affected by changes in the Federal tax laws.
Generally, the respective state regulatory agencies will supervise various
aspects of oil and gas operations within the state and transportation of oil and
gas sold intrastate.
Environmental Protection. The operation of the various producing properties in
which the Company has an interest is subject to Federal, state and local
provisions regulating discharge of materials into the environment, the storage
of oil and gas products as well as the contamination of subsurface formations.
The Company's lease operations and exploratory activity have been and will
continue to be affected by regulation in future periods. However, the known
effect to date has not been material as to capital expenditures, earnings or
industry competitive position nor are estimated expenditures for environmental
compliance expected to be material in the coming year. Such expenditures produce
no increase in productive capacity or revenue and require more of management's
time and attention, a cost which cannot be estimated with any assurance of
certainty.
Year 2000 Issue. See Item 6 subheading, "Year 2000 Issue".
- ---------------
<PAGE>
Other Business.
- --------------
The Company has net equity (unaudited) of $156,579 in its 33% limited partner's
interest in an Oklahoma limited partnership which was formed in 1978 principally
to invest in Oklahoma City real estate. The partnership has constructed an
office building in Oklahoma City at a total cost of approximately $2,300,000 for
the land and building. The Company has its office in the building under a lease
with the partnership. At December 31, 1998, the partnership had assets in excess
of liabilities of $474,480 and had net income of $53,520 for the year then ended
(unaudited).
The Company has net equity (unaudited) of $192,778 at December 31, 1998, in its
9% interest in an Oklahoma limited liability company (LLC) which developed and
is operating a golf course in the Oklahoma City metropolitan area. Through an
investment in a partnership, the LLC is participating in the development of real
estate surrounding the golf course. The LLC had assets in excess of liabilities
of $2,304,832 at December 31, 1998, and net income of $275,290 (unaudited) for
the year then ended.
The Company has a net equity (unaudited) of $ 95,904 at December 31, 1998 in its
10% interest in an Oklahoma limited liability company which was formed in
December 1992 to purchase and hold certain Oklahoma City metropolitan area real
estate as an investment. The limited liability company had assets in excess of
liabilities of $959,042 at December 31, 1998, and net income of $335,240
(unaudited) for the year then ended.
Reference is made to Note 7 of the accompanying financial statements for more
information about the partnership and limited liability companies.
Employees.
- ---------
At December 31, 1998, the Company had nine employees, including officers. All
the Company's employees devoted a portion of their time to duties with
affiliated companies and received compensation directly from those companies
during 1998.
Item 2. Description of Properties.
The Company's principal properties are oil and natural gas properties as
described below.
Oil and Natural Gas Operations.
- ------------------------------
Oil and Gas Reserves. Reference is made to the unaudited supplemental financial
information beginning on Page 34 for working interest reserve quantity
information.
Since January 1, 1998, the Company has filed no reports with any Federal
authority or agency which included estimates of total proved net oil or gas
reserves, except for its annual 1997 report on Form 10-KSB and Federal income
tax return for the year ended December 31, 1997. Those reserve estimates were
identical.
Production. The average sales price of oil and gas produced and, for the
Company's working interests, the average production cost (lifting cost) per
equivalent thousand cubic feet (MCF) of gas production is presented in the table
below for the years ended December 31, 1998, 1997 and 1996. Equivalent MCF was
developed using approximate relative energy content.
<PAGE>
<TABLE>
<CAPTION>
Royalties Working Interests
---------------------------- -------------------------------------------------------
Sales Price Sales Price Average Production
---------------------------- ---------------------------
Oil Gas Oil Gas Cost per
Per Bbl Per MCF Per Bbl Per MCF Equivalent MCF
------- --------- ------- ------- --------------
<S> <C> <C> <C> <C> <C>
1998 $12.07 $1.86 $17.52 $1.91 $ .49
1997 $19.33 $2.32 $20.41 $2.59 $ .76
1996 $19.76 $1.90 $20.85 $1.99 $ .77
</TABLE>
The sales price and average production cost per equivalent MCF as shown in the
above schedule are skewed as the result of the 1998 receipt of suspended runs
upon the final judgment in favor of the Company in a Texas quiet title action as
discussed in Item 3, "Legal Proceedings," and Note 9, to the accompanying
financial statements. Also, see Item 6, under the subheading "Results of
Operations - Operating Revenues", for further analysis.
At December 31, 1998, the Company had working interests in 66 gross (7.5 net)
wells producing primarily gas and/or gas liquids (condensates) and had working
interests in 62 gross (3.4 net) wells producing primarily oil. These interests
were in 19,169 gross (2,062 net) producing acres. These wells include 44 gross
(.32 net) wells associated with secondary recovery projects.
Twenty-three percent, or 9,723 barrels of the Company's oil production during
1998 was derived from royalty interests in mature West Texas water-floods.
Undeveloped Acreage. The Company's undeveloped acreage consists of non-producing
mineral interests and undeveloped leaseholds. The following table summarizes the
Company's gross and net acres in each:
<TABLE>
<CAPTION>
Acreage
----------------------------
Gross Net
------- -------
<S> <C> <C>
Non-producing Mineral Interests 271,587 93,811
Undeveloped Leaseholds 36,689 14,010
</TABLE>
Net Productive and Dry Wells Drilled. The following table summarizes the net
wells drilled in which the Company had a working interest for the years ended
December 31, 1996 and thereafter, as to net productive and dry exploratory wells
drilled and net productive and dry development wells drilled.
<TABLE>
<CAPTION>
Number of Net Working Interest Wells Drilled
-------------------------------------------------------
Exploratory Development
----------------------- -------------------
Productive Dry Productive Dry
---------- --- ---------- ---
<S> <C> <C> <C> <C>
1998 --- .62 .18 ---
1997 .66 .74 .24 .17
1996 .88 .83 .31 .16
</TABLE>
Recent Activities. At December 31, 1998, the Company had two Northwestern
Oklahoma exploratory gas wells in process in which the Company was participating
with a 27% working interest in each well. At March 15, 1999, both wells were
awaiting gas pipeline hookup to complete final production testing.
<PAGE>
Item 3. Legal Proceedings.
In August 1993, the Company filed an action in the District Court of Leon
County, Texas to quiet title to its 13/32nd interest in approximately 203
mineral acres associated with two producing oil and gas wells completed in 1988.
On October 29, 1998, the Supreme Court of the State of Texas denied the petition
for review filed by the defendants who had appealed the judgment rendered in
favor of the Company. Net proceeds of $854,042 ($914,552 gross) from oil and gas
sales held in suspense by the unit operator plus interest thereon of $234,811
were released to the Company on December 18, 1998, and recorded as revenue at
that time.
An action was filed in the District Court of Robertson County, Texas, seeking a
declaration that the plaintiff owns an additional interest in the Brounkowski
Gas Unit. The Company was added as a Defendant in this action in December, 1997,
because it owns minerals included in the Brounkowski Unit. On September 3, 1998,
a Motion of Non-Suit filed by the Plaintiff was heard in the District Court of
Robertson County, Texas. The presiding judge executed an Order of Non-Suit, and
on October 23, 1998, the operator of the Brounkowski Unit released all the funds
held in escrow for the Company.
Item 4. Submission of Matters to a Vote of Security Holders.
Not Applicable.
<PAGE>
PART II
Item 5. Market for Common Equity and Related Stockholder Matters.
The Company's stock is traded over the counter in the United States. The
following high and low bid information is quoted on the OTC Bulletin Board and
the National Quotation Bureau's pink sheets. Prices do not include retail
markup, markdown or commission.
<TABLE>
<CAPTION>
Quarterly Ranges
--------------------------------
Quarter Ending High Bid Low Bid
---------------------- --------------- -------------
<S> <C> <C> <C>
03/31/97 32 3/4 31 1/2
06/30/97 34 3/4 32 3/4
09/30/97 34 3/4 34 3/4
12/31/97 36 34 3/4
03/31/98 36 35 1/2
06/30/98 36 1/4 36
09/30/98 36 1/4 36 1/4
12/31/98 36 1/4 31
</TABLE>
There was limited public trading in the Company's common stock in 1998 and 1997.
In 1998, there were twenty-five brokered trades appearing in the Company's
transfer ledger, and in 1997, there were twenty-one.
At March 10, 1999, the Company had approximately 1480 record holders of its
common stock. The Company paid dividends on its common stock in the amount of
$1.00 per share in the second quarter of 1998 and 1997. Management intends to
recommend to the board of directors that the annual dividend remain at $1.00 per
share in 1999.
Item 6. Management's Discussion and Analysis of Financial Condition and
Results of Operations.
Please refer to the financial statements and related notes in Item 7 of this
Form 10-KSB to supplement this discussion and analysis.
Year 2000 Issue.
- ---------------
Many existing computer programs use only two digits to identify a year in the
date field (i.e. 12/31/98). These programs were designed and developed without
considering the impact of the upcoming change in the century. If not corrected,
many computer applications could fail or create erroneous results by or at the
Year 2000 (the "Year 2000 Issue").
With respect to its internal system, the Company has reviewed and tested all its
information technology and the review has disclosed no material year 2000
problems. All problems discovered have been corrected. Company personnel will
continue to review and test its internal system throughout 1999 for the purpose
of identifying and resolving any as yet undetected year 2000 issues.
<PAGE>
Forwardlooking Statements. Because of the nature of the Company's business, its
internal non-information technology systems should not be of significance, and
assessments to date have indicated such. The Company is attempting to determine
the year 2000 status of third parties with which it has significant business
relationships. Responses to date give limited assurance regarding the year 2000
issue.
All software used by the Company in processing its financial, accounting and
property management information was developed in house by personnel still on
staff. The costs to date and any future costs expected to be incurred to make
the Company's software and internal systems compliant are not expected to have a
material effect on its financial position or results of operations.
Management's review of the Company's year 2000 issues indicate its most likely
reasonable worst case year 2000 scenarios as follows:
A. Internal Systems. The most likely reasonable worst case scenario would
be the failure of one or, at most, two modules. If such a failure
should occur, the Company would convert the failed module(s) to a
manual system. Review of current activity indicates the Company could
convert to a manual system either totally or partially with little or
no additional costs and minimal loss of efficiency.
B. Third Party Systems. The most likely reasonable worst case scenario
would be a delay in receipt of revenue from oil and gas sales from
several major payors for a period of three to six months. Management
intends to maintain its current healthy working capital position which
will allow it to survive a temporary substantial reduction in cash
flow.
Liquidity and Capital Resources.
- -------------------------------
Net working capital was $5,342,745 at December 31, 1998, a $1,067,538 (20%)
increase from December 31, 1997. Net working capital was increased by cash flows
from operations of $1,780,522, cash distributions from equity investments of
$102,000, and property dispositions of $15,358. Net working capital was
decreased by additions to property and equipment of $458,920, payment of
dividends to stockholders of $169,793, purchase of treasury stock of $11,660, an
increase in income taxes payable of $124,755 and a net decrease in other
accruals of $65,214.
Cash Flows From Operating Activities. Cash paid for exploration and development
expenses charged to operations are directly related to expenditures for property
additions and will be considered in the discussion of investing activities,
below. Exclusive of the above noted exploration and development expenses, cash
flows from operations were $1,981,372 in 1998, a $519,484 (36%) increase from
1997. Of the $1,981,372 cash flows from operations, $1,088,853 was from the
receipt of suspended oil and gas runs and related accrued interest upon final
judgment rendered in favor of the Company in a Texas quiet title action as
discussed in Item 3, "Legal Proceedings". Exclusive of receipts related to the
above noted quiet title action, cash flows from operations exclusive of
exploration and development costs were $892,519, or 569,369 (39%) less than
1997.
Cash Flows Applied to Investing Activities. Net cash applied to investing
activities were $1,573,594, a $844,926 (116%) increase from 1997, as an increase
in net cash applied to available for sale securities of $867,296 and decreased
cash distributions from equity investments of $23,500 were reduced by a net
decrease in cash applied to property and equipment of $45,870.
<PAGE>
Available for sale securities are primarily US Treasury Bills or Notes used to
store cash flows which are not needed immediately. For the most part cash flows
with which these securities were purchased were from operating activities. When
current cash requirements are greater than the balance of cash and cash
equivalents, the additional required cash is drawn from available for sale
securities.
Property and equipment additions are directly related to the Company's oil and
gas exploration and development drilling activity. Expenditures for unsuccessful
exploratory and development drilling as well as geological and geophysical costs
are included in operating activities. Cash applied to property additions in 1998
included $458,920 classified as investing activities and $200,850 classified as
operating activities for a total of $659,770 as compared to a total of
$1,156,651 in 1997. For the most part the reduction in cash applied was the
result of deferral of prospect development because of low product prices.
Financing Activities. Net cash flows applied to financing activities consist of
cash dividends on common stock and cash used for the purchase of treasury stock.
In 1998, cash dividends paid on common stock amounted to $169,793 as compared to
$164,819 in 1997. Cash applied to the purchase of treasury stock was $11,660 in
1998 as compared to $3,320 in 1997.
Forward-looking Summary. Refer to page 3 for a summary of the risks and
uncertainties that may affect this forward-looking summary. The Company's latest
forecast for 1999 projects cash flow from operations, exclusive of exploration
and development costs charged to expense, of $863,000. Cash to be applied to
property additions, inclusive of exploration and development costs charged to
operations, is estimated at $370,000, and cash to be applied to financing
activities is estimated to be $170,000. Therefore, given the projected level of
activity, operating cash flows should provide the necessary funds to meet 1999
cash requirements.
The Company and its joint owners have deferred drilling exploratory and
development prospects because of the depressed prices received for crude oil,
and to a lessor degree for natural gas. Should product prices improve, or other
events occur which make the prospects risk analysis more positive, some or all
of the deferred prospects may be drilled in 1999. Also, should the exploratory
drilling result in a significant discovery that requires substantial development
drilling, or should other investment opportunities become available, capital
requirements could be far more than the Company has available. If such
circumstances occur, the Company may require external sources of financing.
Results of Operations.
- ---------------------
In 1998, net income, basic and diluted, increased to $5.11 per share from $2.32
per share in 1997. The most significant contribution to the increase was the
receipt of oil and gas runs held in suspense plus interest thereon. This receipt
increased income after income taxes by about $3.52 per share as discussed in
Note 9, to the accompanying statements. The above noted receipt will be
discussed in more detail in the following paragraphs along with other material
line item changes in the statements of operations.
Operating Revenues. Operating revenues decreased $67,112 (2%) to $2,714,094 in
1998 from $2,781,206 in 1997. Lease bonuses and other miscellaneous revenues
increased $21,692 to $34,663, while oil and gas sales decreased $88,804 to
$2,679,431. Oil and gas sales for 1998 were materially affected by the final
judgment of the Supreme Court of the State of Texas in the Company's favor
regarding a quiet title action as discussed in Item 3 of this 10-KSB as well as
Note 9 to the accompanying financial statements. As a result of receipt of the
suspended prior years oil and gas runs upon final judgment, the Company recorded
additional revenues of $914,552, or 34% of 1998 total oil and gas sales. These
receipts were from the Alabama Ferry North Unit (AFNU), Leon County, Texas. The
AFNU affect will be noted in the analysis and discussion below.
<PAGE>
The following table presents a price and volume analysis of oil and gas sales
for the years ended December 31, 1998 and 1997. The table does not include an
analysis of revenues from miscellaneous oil and gas products which totaled
$11,081 in 1998 and $14,734 in 1997 .
<TABLE>
<CAPTION>
Variance
--------------------------
Production 1998 Price Volume 1997
---------- --------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
Oil -
Bbls (000 omitted) 70 29 41
$(000 omitted) $ 1,120 (266) 574 812
Unit Price $ 15.86 (3.77) 19.63
Gas -
MCF (000 omitted) 821 19 802
$(000 omitted) $ 1,549 (438) 46 1,941
Unit Price $ 1.89 (.53) 2.42
</TABLE>
Revenues from oil sales increased $307,569 (38%) to $1,119,694 in 1998 from
$812,125 in 1997. The volume of oil sales increased 29,251 barrels (Bbls) to
70,618 Bbls in 1998 from 41,367 Bbls in 1997, resulting in a positive volume
variance of $574,192. The unit price of oil sales declined $3.77 per Bbl to
$15.86 per Bbl resulting in a negative price variance of $266,623.
Included in the above oil sales is the receipt of AFNU prior period oil runs of
36,737 Bbls at an average price of $18.75 per Bbl for a total of $688,976.
Exclusive of the AFNU receipt, revenues from oil sales would have been 33,881
Bbls at an average price of $12.71 for total oil sales of $430,719. The volume
of sales would have been reduced 7,486 Bbls from 1997, and the average price per
Bbl would have decreased $6.92 resulting in a negative volume variance of
$146,950. Exclusive of the AFNU sales, for the most part, the reduction in sales
volume of 7,486 Bbls resulted because of the decline in production from
properties in the Austin Chalk area of Texas, as offset by approximately 3,000
Bbls of new production which came on line. The price received for oil sales is
based on the spot market price over which the Company has no control.
Revenues from natural gas sales fell $392,720 (20%) to $1,548,656 in 1998 from
$1,941,376 in 1997. The sales volume increased 18,804 thousand cubic feet (MCF)
resulting in a favorable volume variance of $45,505; however, the average price
received declined $.53 per MCF to $1.89 per MCF resulting in a negative price
variance of $438,225.
Included in the above gas sales, is AFNU prior year receipts of $225,552 for
138,409 MCF of natural gas at an average price of $1.63 per MCF. Exclusive of
the AFNU receipts, gas sales would have been $1,323,104, or a $618,272 (32%)
decrease from 1997. The Company would have had a decrease in volume produced of
119,605 MCF to 682,820 MCF for a negative volume variance of $282,444, and a
decrease in average price per MCF of $.48 to $1.94 per MCF would result in a
negative price variance of $335,828. Exclusive of the AFNU receipts, the
decrease in volume produced was the result of a normal decline in the ability of
older properties to produce. Of the total decrease in production of 119,605 MCF,
the #1 Brounkowski, a Robertson County, Texas royalty interest which came on
line in 1995 was responsible for 64,968 MCF, or 54%. The Company sells most of
its gas on the spot market or has contracts which are based on the spot market.
Sales made under fixed price contracts with terms longer than one year are
insignificant.
<PAGE>
Operating Costs and Expenses. Operating cost and expenses fell $735,184 (27%) to
$2,023,869 in 1998. Decreases in exploration expenses of $626,896 (79%),
depreciation, depletion, amortization and valuation provisions of $105,697 (13%)
and general administrative and other expense of $43,719 (6%) were partially
offset by an increase in production costs of $41,127 (11%).
Production costs. For the most part, the $41,127 increase was the result of
additional lease operating expense relating to new production which came on line
in late 1997 and 1998, as well as the workover of some older producing
properties.
Exploration Expense. Under the successful efforts method of accounting used
by the Company, geological and geophysical costs are expensed as incurred, as
are the costs of unsuccessful exploratory drilling. The costs of successful
exploratory drilling are capitalized. Total costs of exploration, inclusive of
geological and geophysical costs, were $607,910 in 1998 and $1,175,729 in 1997.
Cost charged to operations were $168,255 in 1998 and $795,151 in 1997, inclusive
of geological and geophysical expense of $94,070 in 1998 and $75,130 in 1997.
Depreciation, Depletion, Amortization and Valuation Provisions (DD&A).
Major components are the provision for impairment of non-producing leaseholds,
provision for impairment of long-lived assets, depletion of producing leaseholds
and depreciation of tangible and intangible lease and well costs. Non-producing
leaseholds are amortized over the life of the leasehold using a straight line
method except when the leasehold is impaired or condemned by drilling and/or
geological interpretation of seismic data; if so, an adjustment to the provision
is made at the time of impairment. The provision for impairment was $122,204 in
1998 and $164,859 in 1997.
As discussed in Note 11 to the accompanying financial statements, accounting
principles require the recognition of an impairment loss on long-lived assets
used in operations when indicators of impairment are present and the
undiscounted cash flows estimated to be generated by those assets are less than
the assets carrying amount. Reviews were performed in both 1998 and 1997,
resulting in the recognition of impairment losses totaling $184,835 in 1998 and
$226,986 in 1997.
The depletion and depreciation of oil and gas properties are computed by the
units-of-production method. The amount expensed in any year will fluctuate with
the change in estimated reserves of oil and gas or a change in the rate of
production. The provisions for depletion and depreciation totaled $418,420 in
1998 a $20,780 (5%) decrease from 1997.
General, Administrative and Other Expenses (G&A). The $43,719 drop in G&A
was mostly caused by a $50,094 decrease in franchise and property taxes in the
State of Texas resulting from declining oil and gas prices and volumes. Also of
significance was a $21,382 decrease in legal fees because of finalization of
major legal proceedings, and a $17,721 increase in payroll expense which
resulted mostly from a retirement bonus.
Equity Earnings in Investees. Equity earnings decreased $88,649 (55%)
mostly because of a reduction in real estate sales of an investee which invests
in Oklahoma City metropolitan area real estate.
Other Income, Net. This line item consist of interest and other investment
income as offset by investment losses and various other non-operating income and
expense. Other income, net increased $204,232 (97%) in
<PAGE>
1998. As discussed in Note 9 to the accompanying financial statements, final
judgement was rendered in favor of the Company in a Texas quiet title action. In
December, 1998, the Company received the oil and gas runs which were held in
suspense plus $234,811 in accrued interest thereon. The interest income is
included herein. The increase in interest income was reduced by about $33,000 by
recognition of a net unrealized loss on trading securities.
Provisions for Income Taxes. In 1998, the Company had a calculated provision for
income tax of $320,937 for an effective tax rate of 27% as the current tax
expense of $244,811 was increased by a deferred tax provision of $76,126. In
1997, a calculated provision for income tax of $3,473 resulted because the
current tax expense of $107,446 exceeded the deferred tax benefit of $103,973.
See Note 6 to the accompanying financial statements for an analysis of the
various components of income taxes for both 1998 and 1997.
Forward-looking Summary. Please refer to Page 3 for a summary of some of the
risks and uncertainties that may affect these forward-looking statements. A
projection of the results of operations for 1999 as compared to 1998 actual
results follows:
<TABLE>
<CAPTION>
(000 Omitted)
---------------------------------------
Net Income
Estimate Actual Increase
1999 1998 (Decrease)
---------- ---------- ----------
<S> <C> <C> <C>
Operating Revenues $ 1,560 $ 2,714 (1,154)
Operating Costs & Expenses:
Production 340 410 (70)
Exploration & Development 159 168 (9)
DD&A 650 735 (85)
G&A 662 711 (49)
---------- ---------- -----------
1,811 2,024 (213)
---------- ---------- -----------
Operating Income (Loss) (251) 690 (941)
Equity Earnings in Investees 80 74 6
Other Income, Net 234 414 (180)
---------- ---------- -----------
Income Before Taxes 63 1,178 (1,115)
Provision for Income Tax 8 321 (313)
Net Income $ 55 $ 857 $ (802)
========== ========== ===========
</TABLE>
Operating Revenues. Revenues from oil and gas sales are estimated at
$1,523,000 for 1999, or a $1,156,000 (43%) decrease from 1998. The following
price and volume analysis of 1999 forecast sales as compared with 1998 actual
oil and gas sales provides a breakout of the various components and projected
variances from 1998.
<PAGE>
<TABLE>
<CAPTION>
Variance
Forecast -------------------------- Actual
Production 1999 Price Volume 1998
---------- --------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
Oil -
Bbls (000 omitted) 29 ---- (41) 70
$(000 omitted) $ 318 (144) (658) $ 1,120
Unit Price $ 11.20 (4.66) ---- $ 15.86
Gas -
MCF (000 omitted) 611 ---- (210) 821
$(000 omitted) $ 1,205 9 (393) $ 1,549
Unit Price $ 1.97 .08 ---- $ 1.89
</TABLE>
As discussed above, included in actual 1998 oil and gas sales is $914,552 of
prior years oil and gas sales (AFNU sales) resulting from the final judgment in
a Texas quiet title action. The following price and volume analysis excludes
AFNU sales from 1998 actual sales
<TABLE>
<CAPTION>
Variance Excluding
Forecast -------------------------- AFNU
Production 1999 Price Volume 1998
---------- --------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
Oil -
Bbls (000 omitted) 29 ---- (5) 34
$(000 omitted) $ 318 (46) (67) $ 431
Unit Price $ 11.20 (1.51) ---- $ 12.71
Gas -
MCF (000 omitted) 611 ---- (72) 683
$(000 omitted) $ 1,205 19 (137) $ 1,323
Unit Price $ 1.97 .03 ---- $ 1.94
</TABLE>
Excluding AFNU sales, the projected decline in 1999 revenues from 1998 would be
$242,000 (14%). Oil production is projected to fall $67,000 as a result of a
reduction in volume and $46,000 because of a decline in average price per Bbl. A
projected $137,000 volume decline in gas sales is reduced $19,000 by an
estimated increase in average price per MCF.
The projected decline in oil and gas volumes assumes a normal decline for
properties which produced in 1998 and no new production coming on line in 1999.
The average price used for the 1999 projections of revenues from oil and gas
sales is management's most recent estimate of the average price to be received
for the year 1999. It should be noted that March 23, 1999 spot market prices for
oil were $15.38 per Bbl and lower, and spot market prices for gas were $1.81 per
MCF and lower.
Operating Costs and Expenses. Operating cost and expenses are projected at
$1,811,000 for 1999, a $213,000 (11%) decrease from 1998. Production costs are
estimated to be $70,000 (17%) less than 1998 because of a reduction of gross
production taxes resulting from an estimated decrease in oil and gas sales for
1999.
<PAGE>
Management's current estimate of total exploration and development costs for
1999 is $370,000, of which $159,000 is estimated to be charges against
operations and $211,000 capitalized as proven properties. Of the $370,000 total
estimated costs, $20,000 is geological and geophysical expense, and all of the
remaining $350,000 could be capitalized or expensed depending upon the results
of drilling. Also, if the Company's exploration is successful, significant
additional costs could be incurred for development drilling and lease
acquisition.
DD&A is projected to decline $85,000 (12%) because of reduced production volumes
and reduced depreciable basis because of prior years long lived assets
impairments.
G&A is estimated to be $49,000 (7%) less than 1998. Legal fees should continue
to fall. Also, Texas franchise and property taxes should decline with the
projected decrease in Texas oil and gas revenue.
Other Income, Net. Other income, net is estimated to decrease $180,000
(43%). The decline in interest income resulting because of the 1998 receipt of
$234,811 interest upon final judgment in a Texas quiet title action should be
reduced by additional interest income resulting from projected increase in the
average balance of security investments.
<PAGE>
Item 7. Financial Statements.
Index to Financial Statements.
Page
Report of Independent Certified Public Accountants -
Grant Thornton LLP 19
Balance Sheets - December 31, 1998 and 1997 20
Statements of Operations - Years Ended December 31, 1998
and 1997 22
Statement of Stockholders' Equity - December 31, 1998 and 1997 23
Statements of Cash Flows - Years Ended December 31, 1998
and 1997 24
Notes to Financial Statements 26
Unaudited Supplemental Financial Information 34
<PAGE>
Report of Independent Certified Public Accountants
--------------------------------------------------
Board of Directors
The Reserve Petroleum Company
We have audited the accompanying balance sheets of The Reserve Petroleum Company
(a Delaware corporation) as of December 31, 1998 and 1997, and the related
statements of operations, stockholders' equity, and cash flows for the years
then ended. These financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the financial position of The Reserve Petroleum Company
as of December 31, 1998 and 1997, and the results of its operations and its cash
flows for the years then ended in conformity with generally accepted accounting
principles.
GRANT THORNTON LLP
Oklahoma City, Oklahoma
March 12, 1999
<PAGE>
THE RESERVE PETROLEUM COMPANY
BALANCE SHEETS
ASSETS
------
<TABLE>
<CAPTION>
December 31,
----------------------------------------
1998 1997
Current Assets: --------------- --------------
<S> <C> <C>
Cash and Cash Equivalents (Note 2) $ 339,015 $ 313,540
Available for Sale Securities (Notes 2 & 5) 4,538,772 3,306,740
Trading Securities (Notes 2 & 5) 450,768 447,266
Receivables 152,460 278,741
Refundable Income Taxes ---- 75,424
Prepayments & Deferred Income Taxes 13,127 5,625
--------------- --------------
5,494,142 4,427,336
--------------- --------------
Investments:
Partnership and Limited
Liability Companies (Notes 2 & 7) 462,951 490,587
Other 19,048 16,230
--------------- --------------
481,999 506,817
--------------- --------------
Property, Plant & Equipment (Notes 2 & 11):
Oil & Gas Properties, at Cost Based on the
Successful Efforts Method of Accounting
Unproved Properties 668,332 597,284
Proved Properties 4,189,787 4,228,063
--------------- ---------------
4,858,119 4,825,347
Less - Valuation Allowance and Accumulated
Depreciation, Depletion & Amortization 3,751,113 3,427,157
--------------- ---------------
1,107,006 1,398,190
--------------- ---------------
Other Property & Equipment, at Cost 324,104 324,104
Less - Accumulated Depreciation & Amortization 179,192 169,195
--------------- ---------------
144,912 154,909
--------------- ---------------
1,251,918 1,553,099
--------------- ---------------
Other Assets 407,569 478,137
--------------- ---------------
$ 7,635,628 $ 6,965,389
=============== ===============
</TABLE>
(continued)
See Accompanying Notes
<PAGE>
THE RESERVE PETROLEUM COMPANY
BALANCE SHEETS
(concluded)
LIABILITIES AND STOCKHOLDERS' EQUITY
------------------------------------
<TABLE>
<CAPTION>
December 31,
1998 1997
Current Liabilities: --------------- ---------------
<S> <C> <C>
Accounts Payable $ 45,656 $ 93,044
Income Taxes Payable 49,331 ----
Other Current Liabilities
Gas Balancing Commitment 41,410 45,344
Other 15,000 13,741
--------------- ---------------
151,397 152,129
--------------- ---------------
Dividends Payable (Note 3) 125,210 132,094
--------------- ---------------
Commitments & Contingencies (Note 7)
Stockholders' Equity (Notes 3 & 4)
Common Stock 92,368 92,368
Additional Paid-in Capital 65,000 65,000
Retained Earnings 7,388,288 6,698,773
--------------- ---------------
7,545,656 6,856,141
Less - Treasury Stock, at Cost 186,635 174,975
--------------- ---------------
7,359,021 6,681,166
--------------- ---------------
$ 7,635,628 $ 6,965,389
=============== ===============
</TABLE>
See Accompanying Notes
<PAGE>
THE RESERVE PETROLEUM COMPANY
STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
Year Ended December 31,
1998 1997
Operating Revenues: --------------- -------------
<S> <C> <C>
Oil & Gas Sales (Note 9) $ 2,679,431 $ 2,768,235
Lease Bonuses & Other 34,663 12,971
--------------- -------------
2,714,094 2,781,206
--------------- -------------
Operating Costs and Expenses:
Production 410,341 369,213
Exploration 168,255 795,151
Depreciation, Depletion, Amortization
& Valuation Provisions 735,456 841,153
General, Administrative and Other 709,817 753,536
--------------- -------------
2,023,869 2,759,053
--------------- -------------
Income from Operations 690,225 22,153
Equity Earnings in Investees 73,796 162,445
Other Income, Net (Note 9) 414,339 210,107
--------------- -------------
Income before Income Taxes 1,178,360 394,705
Provisions for Income Taxes (Notes 2 & 6) 320,937 3,473
--------------- -------------
Net Income $ 857,423 $ 391,232
=============== =============
Per Share Data (Notes 2 & 9):
Net Income, Basic and Diluted $ 5.11 $ 2.32
=============== =============
Cash Dividends $ 1.00 $ 1.00
=============== =============
Weighted Average Shares Outstanding, Basic and Diluted 167,947 168,404
=============== =============
</TABLE>
See Accompanying Notes
<PAGE>
THE RESERVE PETROLEUM COMPANY
STATEMENT OF STOCKHOLDERS' EQUITY
FOR THE TWO YEARS ENDED DECEMBER 31, 1998
<TABLE>
<CAPTION>
Additional
Common Paid-in Retained Treasury
Stock Capital Earnings Stock
---------------- --------------- --------------- --------------
<S> <C> <C> <C> <C>
Balance at January 1, 1997 $ 92,368 $ 65,000 $ 6,475,980 $ (171,655)
Net Income ---- ---- 391,232 ----
Cash Dividends on Common Stock ---- ---- (168,439) ----
Purchase of Treasury Stock ---- ---- ---- (3,320)
---------------- --------------- --------------- --------------
Balance at December 31, 1997 92,368 65,000 6,698,773 (174,975)
Net Income ---- ---- 857,423 ----
Cash Dividends on Common Stock ---- ---- (167,908) ----
Purchase of Treasury Stock ---- ---- ---- (11,660)
--------------- --------------- ---------------- --------------
Balance at December 31, 1998 $ 92,368 $ 65,000 $ 7,388,288 $ (186,635)
=============== =============== ================ ===============
</TABLE>
See Accompanying Notes
<PAGE>
THE RESERVE PETROLEUM COMPANY
STATEMENTS OF CASH FLOWS
Increase (Decrease) in Cash and Cash Equivalents
<TABLE>
<CAPTION>
Year Ended December 31,
-------------------------------------
1998 1997
Cash Flows from Operating Activities: --------------- --------------
Cash Received-
<S> <C> <C>
Oil and Gas Sales $ 2,785,843 $ 2,826,730
Lease Bonuses and Rentals 34,663 1,683
Agricultural Rentals & Other 11,188 12,893
Cash Paid-
Production Costs (415,556) (362,511)
Exploration and Development Expenses (200,850) (636,677)
General Suppliers, Employees and Taxes,
Other than Income (737,918) (776,651)
Interest Received 437,753 141,330
Interest Paid (11,250) (11,250)
Dividends Received on Trading
Securities 9,735 8,993
Purchase of Trading Securities (2,856,372) (1,796,067)
Sale of Trading Securities 2,843,342 1,786,880
Income Taxes Paid (120,056) (370,142)
--------------- ---------------
Net Cash Provided by Operating
Activities 1,780,522 825,211
--------------- ---------------
Cash Flows from Investing Activities:
Sale and Maturity of Available for
Sale Securities 1,353,669 1,209,258
Purchase of Available for Sale Securities (2,585,701) (1,573,994)
Property Dispositions 15,358 30,542
Property Additions (458,920) (519,974)
Cash Distributions from Equity Investments 102,000 125,500
--------------- ---------------
Net Cash Applied to Investing Activities $ (1,573,594) $ (728,668)
--------------- ---------------
</TABLE>
(Continued)
See Accompanying Notes
<PAGE>
(Concluded)
THE RESERVE PETROLEUM COMPANY
STATEMENTS OF CASH FLOWS
Increase (Decrease) in Cash and Cash Equivalents
<TABLE>
<CAPTION>
Year Ended December 31,
--------------------------------------
1998 1997
Cash Flows Applied to Financing Activities: --------------- ---------------
<S> <C> <C>
Dividends Paid to Shareholders $ (169,793) $ (164,819)
Purchase of Treasury Stock (11,660) (3,320)
-------------- ----------------
Total Cash Applied to Financing Activities (181,453) (168,139)
--------------- ----------------
Net Change in Cash and Cash Equivalents 25,475 (71,596)
Cash and Cash Equivalents at Beginning of Year 313,540 385,136
--------------- ----------------
Cash Equivalents at End of Year 339,015 $ 313,540
=============== ================
Reconciliation of Net Income to Net
Cash Provided by Operating Activities:
Net Income $ 857,423 $ 391,232
Net Income Increased (Decreased) by -
Net Change in -
Unrealized Holding (Gains) Losses
on Trading Securities 32,451 (5,142)
Accounts Receivable 107,351 61,607
Interest and Dividends Receivable 18,505 (38,331)
Income Taxes Refundable/Payable 124,755 (262,697)
Accounts Payable (27,616) 34,849
Trading Securities (35,953) (27,373)
Equity Earnings in Investees (73,796) (162,445)
Loss (Gain) on Disposition of Property
& Equipment (13,445) 127,727
Depreciation, Depletion, Amortization
and Valuation Provisions 735,456 841,153
Change in Cash Value of Officers'
Life Insurance (16,801) (27,408)
Change in Deferred Taxes 76,126 (103,972)
Gas Balancing Liabilities (3,934) (3,989)
--------------- ----------------
Net Cash Provided by Operating Activities $ 1,780,522 $ 825,211
=============== ================
</TABLE>
See Accompanying Notes
<PAGE>
THE RESERVE PETROLEUM COMPANY
NOTES TO FINANCIAL STATEMENTS
Note 1 - NATURE OF OPERATIONS
--------------------
The Company is principally engaged in oil and natural gas exploration and
development with an area of concentration in Texas and Oklahoma.
Note 2 - SUMMARY OF ACCOUNTING POLICIES
------------------------------
Property and Equipment
----------------------
Oil and gas properties are accounted for on the successful efforts
method. The acquisition, exploration and development costs of producing
properties are capitalized. All costs relating to unsuccessful
exploration, geological and geophysical costs, delay rentals and
abandoned properties are expensed. Lease costs related to unproved
properties are amortized over the life of the lease and are assessed
periodically. Any impairment of value is charged to expense.
Depreciation, depletion and amortization of producing properties is
computed on the units-of-production method on a property-by-property
basis. The units-of-production method is based primarily on estimates of
proved reserve quantities. Due to uncertainties inherent in this
estimation process, it is at least reasonably possible that reserve
quantities will be revised in the near term.
Other property and equipment is depreciated on the straight-line,
declining-balance or other accelerated methods.
The following estimated useful lives are used for the different types of
property:
Buildings and improvements 10 to 20 years
Office furniture & fixtures 5 to 10 years
Automotive equipment 5 to 8 years
Impairment losses are recorded on long-lived assets used in operations
when indicators of impairment are present and the undiscounted cash flows
estimated to be generated by those assets are less than the assets'
carrying amount. See Note 11 for discussion of impairment losses.
Investments
-----------
The Company accounts for its investments in a partnership and limited
liability companies on the equity basis and adjusts the investment
balance to agree with its equity in the underlying assets of the
entities. See Note 7 for additional information.
Trading securities, which consist primarily of equity securities, are
carried at fair value with unrealized gains and losses included in
earnings.
Available for sale securities, which consist primarily of US Government
securities, are carried at fair value with unrealized gains and losses
reported as a component of other comprehensive income, when material.
<PAGE>
Cash & Cash Equivalents
-----------------------
The Company considers all highly liquid debt instruments purchased with a
maturity of three months or less to be cash equivalents. The Company
maintains its cash in bank deposit accounts which at times may exceed
federally insured limits. The Company believes it is not exposed to any
significant credit risk on such accounts.
Income Taxes
------------
Deferred income taxes are provided for significant carryforwards and
temporary differences using the liability method.
Net Income Per Share
--------------------
Net Income per share is calculated based on the weighted average of the
number of shares outstanding during the year.
Concentrations of Credit Risk and Major Customers
-------------------------------------------------
The Company's receivables relate primarily to sales of oil and natural
gas to purchasers with operations in Texas and Oklahoma. The Company had
one purchaser in 1997 and two purchasers in 1998 whose purchases were in
excess of 10% of total oil and gas sales. In 1997, those purchases were
$698,367, or 25% of total oil and gas sales. In 1998, the purchases were
$455,208 or 17% of total oil and gas sales by one purchaser, and $914,552
or 34% of total oil and gas sales by the other. The $914,552 gross
receipts from the second purchaser, were the result of receipt of
suspended runs upon the final judgment rendered in favor of the Company
in a Texas quiet title action as discussed in Note 9.
Use of Estimates
----------------
The preparation of the financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the amounts reported in the financial statements
and accompanying notes. Actual results could differ from those estimates.
Note 3 - DIVIDENDS PAYABLE
-----------------
Dividends payable include amounts that are due to stockholders whom the
Company has been unable to locate and uncashed dividend checks of other
stockholders.
<PAGE>
Note 4 - COMMON STOCK
------------
The following table summarizes the changes in common stock issued and
outstanding:
<TABLE>
<CAPTION>
Shares of
Shares Treasury Shares
Issued Stock Outstanding
------------------ ------------------ ------------------
<S> <C> <C> <C>
January 1, 1997, $.50
par value stock, 400,000
shares authorized 184,735.28 16,256.55 168,478.73
Purchase of stock --- 166.00 ( 166.00)
------------------ ------------------ ------------------
December 31, 1997, $.50
par value stock, 400,000
shares authorized 184,735.28 16,422.55 168,312.73
Purchase of stock --- 583.00 (583.00)
------------------ ------------------ ------------------
December 31, 1998, $.50
par value stock, 400,000
shares authorized 184,735.28 17,005.55 167,729.73
================== ================== ==================
</TABLE>
Note 5 - INVESTMENTS IN DEBT AND EQUITY SECURITIES
-----------------------------------------
At December 31, 1998 and 1997, the difference between the aggregate fair
value and amortized cost basis of available for sale securities was
immaterial; therefore, reporting of comprehensive income is not required.
At December 31, 1998, all available for sale securities mature prior to
September 17, 1999. In 1998 proceeds from sales of securities prior to
maturity totaled $255,383 with no significant realized gains or losses. In
1997 proceeds from sales of securities prior to maturity totaled $691,602,
with no significant realized gains or losses.
As to the trading securities, unrealized holding gains (losses) included in
earnings was ($32,451) for 1998 and $5,142 for 1997.
<PAGE>
Note 6 - INCOME TAXES
------------
Components of deferred taxes follow:
<TABLE>
<CAPTION>
December 31,
-------------------------------------
1998 1997
Assets --------------- ---------------
<S> <C> <C>
Leasehold Costs $ 174,479 $ 351,904
Gas Balancing Receivable 52,379 52,379
Lease and Well Equipment 85 256
Long-Lived Asset Impairment 131,173 139,798
Geological and Geophysical Costs ---- 5,877
Marketable Securities 7,501 ----
--------------- ---------------
365,617 550,214
Valuation Allowance ---- ----
--------------- --------------
365,617 550,214
--------------- ---------------
Liabilities
Equity Investments 6,212 6,756
Marketable Securities ---- 3,742
Intangible Development Costs 257,846 362,030
--------------- ---------------
264,058 372,528
--------------- ---------------
Net Deferred Tax Asset $ 101,559 $ 177,686
=============== ===============
Change in Valuation Allowance for the Year $ ---- $ ----
=============== ===============
</TABLE>
The following table summarizes the current and deferred portions of
income tax expense.
<TABLE>
<CAPTION>
Year Ended December 31,
-------------------------------------
1998 1997
Current Tax Expense: --------------- ---------------
<S> <C> <C>
Federal $ 244,811 $ 107,446
State ---- ----
--------------- ---------------
244,811 107,446
Deferred Provision (Benefit) 76,126 (103,973)
--------------- ---------------
Total Provision $ 320,937 $ 3,473
=============== ===============
</TABLE>
<PAGE>
The total provision for income tax expressed as a percentage of income
before income tax was 27% in 1998 and .88% in 1997. These amounts differ
from the amounts computed by applying the statutory US Federal income tax
rate of 35% for 1998 and 1997 to income before income tax as summarized in
the following reconciliation:
<TABLE>
<CAPTION>
Year Ended December 31,
-------------------------------------
1998 1997
--------------- ---------------
<S> <C> <C>
Computed Federal Tax
Provision $ 412,426 $ 138,147
Increase (Decrease) in Tax From:
Allowable Depletion in Excess of
Depletion for Financial Statements (77,223) (117,909)
Non-conventional Fuel Credit (7,849) (8,953)
Corporate Graduated Tax Rate
Structure (7,840) (6,070)
Dividend Received Deduction (2,385) (2,203)
Other 3,808 461
--------------- ---------------
Provision for Income Tax $ 320,937 $ 3,473
=============== ===============
Effective Tax Rate 27% .88%
=============== ===============
</TABLE>
<PAGE>
Note 7 - INVESTMENTS AND RELATED COMMITMENTS AND CONTINGENT LIABILITIES
--------------------------------------------------------------
The Company has a 33% interest in Broadway Sixty-Eight, Ltd., an
Oklahoma limited partnership (the Partnership). The Partnership had
assets in excess of liabilities of $474,480 and $420,960, at December
31, 1998 and 1997, respectively, and its net income for the periods then
ended were $53,520 and $22,663.
The Partnership was organized for the purpose of owning and operating an
office building which was constructed in Oklahoma City, Oklahoma, at a
total cost for the land and building of approximately $2,300,000.
Although the Company invested as a limited partner, along with the other
limited partners, it has signed an indemnity agreement to reimburse the
general partner for any losses suffered from operating the Partnership.
The office building is financed by a mortgage loan with a balance of
$621,466 at December 31, 1998. The loan matures in 2002 with interest at
New York prime rate capped at 8 1/2% until December 1998. The loan is
collateralized by a first mortgage on the land and building, and the
assignment of leases and rents.
The Company leases its corporate office from the Partnership. The
operating lease under which the space was rented expired December 31,
1994, and the space is currently rented on a year-to-year basis under
the terms of the expired lease. Rent expense was $26,353 and $27,388 for
the years ended December 31, 1998 and 1997, respectively.
The Company has a 9% interest in the Coffee Creek Golf Course Limited
Liability Company (LLC), an Oklahoma limited liability company. The LLC
has developed and is operating a golf course on real property it
acquired in Oklahoma. Through an investment in a partnership, the LLC is
participating in the development of real property surrounding the golf
course. At December 31, 1998, the Company's net equity in the LLC
totaled $192,778, ($240,002 at December 31, 1997).
In December, 1992 the Company invested $90,000 for a 10% interest in OKC
Industrial Properties, L.C., an Oklahoma limited liability company,
which was formed to purchase and hold certain Oklahoma City metropolitan
area real estate as an investment. At December 31, 1998, the Company's
net equity in the limited liability company was $95,904, compared to
$93,978 at December 31, 1997.
<PAGE>
Note 8 - COSTS INCURRED IN OIL AND GAS PROPERTY ACQUISITION,
--------------------------------------------------
EXPLORATION, AND DEVELOPMENT ACTIVITIES
---------------------------------------
All of the Company's oil and gas operations are within the continental
United States. In connection with its oil and gas operations, the
following costs were incurred:
<TABLE>
<CAPTION>
Year Ended December 31,
-----------------------------
1998 1997
Acquisition of Properties ------------ -----------
<S> <C> <C>
Unproved $ 380,592 $ 186,921
Proved $ ---- $ -----
Exploration Costs $ 168,936 $ 795,691
Development Costs $ 58,382 $ 193,117
</TABLE>
Note 9 -LEGAL PROCEEDINGS
-----------------
In August 1993, the Company filed an action in the District Court of Leon
County, Texas to quiet title to its 13/32nd interest in approximately 203
mineral acres associated with two producing oil and gas wells completed
in 1988. On October 29, 1998, the Supreme Court of the State of Texas
denied the petition for review filed by the defendants who had appealed
the judgment rendered in favor of the Company.
Net proceeds of $854,042 ($914,552 gross) from oil and gas sales held in
suspense by the unit operator plus interest thereon of $234,811 were
released to the Company on December 18, 1998, and recorded as revenue at
that time. For the year ending December 31, 1998, the effect of this
transaction increased the Company's net income after the related
provision for income taxes by approximately $655,000 or $3.90 per common
share outstanding.
Note 10 - FINANCIAL INSTRUMENTS
---------------------
The following table includes various estimated fair value information as
of December 31, 1998 and 1997 as required by Statement of Financial
Accounting Standards No. 107, "Disclosures about Fair Value of Financial
Instruments" (SFAS 107). Such information, which pertains to the
Company's financial instruments, is based on the requirements set forth
in SFAS 107 and does not purport to represent the aggregate net fair
value of the Company. The carrying amounts in the table below are the
amounts at which the financial instruments are reported in the financial
statements.
All of the Company's financial instruments are held for purposes other
than trading, except for trading securities.
<PAGE>
The following methods and assumptions were used to estimate the fair
value of each class of financial instruments for which it is practicable
to estimate that value:
1. Cash and Cash Equivalents
-------------------------
The carrying amount approximates fair value because of the short maturity
and highly liquid nature of those instruments.
2. Available for Sale Securities
-----------------------------
The estimated fair values are based upon quoted market prices.
3. Trading Securities
------------------
The estimated fair values are based upon quoted market prices.
4. Dividends Payable
-----------------
Due to the uncertainty regarding when such amounts will be paid, it is
not practicable to estimate fair value.
The carrying amounts and estimated fair values of the Company's financial
instruments are as follows:
<TABLE>
<CAPTION>
1998 1997
--------------------------------- ------------------------------
Carrying Estimated Carrying Estimated
Amount Fair Value Amount Fair Value
-------------- -------------- -------------- --------------
Financial Assets
<S> <C> <C> <C> <C>
Cash and Cash Equivalents $ 339,015 $ 339,015 $ 313,540 $ 313,540
Available for Sale Securities 4,538,772 4,538,772 3,306,740 3,306,740
Trading Securities 450,768 450,768 447,266 447,266
Financial Liabilities
Dividends Payable for which it is
Not practicable to estimate fair value (140,210) N/A (142,094) N/A
</TABLE>
Note 11 - LONG-LIVED ASSETS IMPAIRMENT LOSS
---------------------------------
Certain oil and gas producing properties have been deemed to be impaired
because the assets, evaluated on a property-by-property basis, are not
expected to recover their entire carrying value through future cash flows.
Impairment losses totaling $184,835 and $226,986 for the years ended
December 31, 1998 and 1997, respectively, are included in the Statements of
Operations in the line item, Depreciation, Depletion, Amortization and
Valuation Provisions. Impairment losses for 1998 were determined based on
December 31, 1998 reserve studies and were recorded in the fourth quarter
of 1998. The estimated discounted future net cash flows from the impaired
properties were considered to be the fair value of the properties.
<PAGE>
UNAUDITED SUPPLEMENTAL FINANCIAL INFORMATION
<PAGE>
SUPPLEMENTAL SCHEDULE 1
THE RESERVE PETROLEUM COMPANY
WORKING INTERESTS RESERVE QUANTITY INFORMATION
(Unaudited)
<TABLE>
<CAPTION>
Years Ended December 31,
---------------------------------------
1998 1997
--------------- ---------------
Oil & Natural Gas Liquids (Bbls)
<S> <C> <C>
Proved Developed and
Undeveloped Reserves
Beginning of Year 53,590 72,648
Revisions of Previous Estimates 25,908 (24,918)
Extensions and Discoveries 7,387 17,571
Production (49,082) (11,711)
Sale of Reserves in Place ---- ----
--------------- ---------------
End of Year 37,803 53,590
=============== ===============
Proved Developed Reserves
Beginning of Year 53,590 72,648
End of Year 37,803 53,590
Gas (MCF)
Proved Developed and Undeveloped
Reserves Beginning of Year 1,921,324 2,097,886
Revisions of Previous Estimates 49,799 (29,287)
Extensions and Discoveries 10,727 158,608
Production (414,124) (305,883)
Sale of Reserves in Place ---- ----
--------------- ---------------
End of Year 1,567,726 1,921,324
=============== ===============
Proved Developed Reserves
Beginning of Year 1,921,324 2,097,886
End of Year 1,567,726 1,921,324
</TABLE>
(continued)
See notes on next page
<PAGE>
SUPPLEMENTAL SCHEDULE 1
THE RESERVE PETROLEUM COMPANY
WORKING INTERESTS RESERVE QUANTITY INFORMATION
(Unaudited)
(Concluded)
Notes 1. Estimates of royalty interests reserves have not been included
because the information required for the estimation of said
reserves is not available. The Company's share of production
from its net royalty interests was 21,537 Bbls of oil and
407,106 MCF of gas for the year ended December 31, 1998, and
29,656 Bbls of oil and 496,543 MCF of gas for the year ended
December 31, 1997.
2. The preceding table sets forth estimates of the Company's proved
developed oil and gas reserves, together with the changes in
those reserves as prepared by the Company's engineer for the
years ended December 31, 1998 and 1997. All reserves are located
within the United States.
3. The Company emphasizes that the reserve volumes shown are
estimates which by their nature are subject to revision in the
near term. The estimates have been made by utilizing all
available geological and reservoir data, as well as actual
production performance data. These estimates are reviewed
annually and are revised upward or downward, as warranted by
additional performance data.
4. As discussed in Note 9 to the accompanying financial statements,
in December 1998, the Company received proceeds from oil and gas
sales upon the final judgement in its favor of a Texas quiet
title action. Because the Company had no assurance the judgement
would be rendered in its favor, the oil and gas reserves related
thereto were not included in proved developed reserves until the
proceeds were released from suspense by the unit operator. As a
result, both the Revisions of Previous Estimates and Production
line items for 1998 include 36,737 barrels of oil and 138,409
MCF of gas which were produced in prior years, but received in
1998.
<PAGE>
SUPPLEMENTAL SCHEDULE 2
THE RESERVE PETROLEUM COMPANY
STANDARDIZED MEASURE OF DISCOUNTED FUTURE NET CASH FLOWS
RELATING TO PROVED WORKING INTERESTS
OIL AND GAS RESERVES
(Unaudited)
<TABLE>
<CAPTION>
At December 31,
1998 1997
--------------- ---------------
<S> <C> <C>
Future Cash Inflows $ 3,517,878 $ 5,228,433
Future Production and
Development Costs (1,172,954) (1,399,487)
Future Income Tax Expense (683,975) (1,081,773)
--------------- ---------------
Future Net Cash Flows 1,660,949 2,747,173
10% Annual Discount for
Estimated Timing of Cash Flows (474,621) (771,752)
--------------- ---------------
Standardized Measure of Discounted
Future Net Cash Flows $ 1,186,328 $ 1,975,421
=============== ===============
</TABLE>
Estimates of future net cash flows from the Company's proved working
interests oil and gas reserves are shown in the table above. These
estimates, which by their nature are subject to revision in the near term,
are based on prices in effect at year end, with no escalation, except for
fixed and determinable amounts attributable to gas under provisions of the
Natural Gas Policy Act (NGPA). The development and production costs are
based on year-end cost levels, assuming the continuation of existing
economic conditions. Cash flows are further reduced by estimated future
income tax expense calculated by applying the current statutory income tax
rates to the pretax net cash flows less depreciation of the tax basis of
the properties and depletion applicable to oil and gas production.
<PAGE>
SUPPLEMENTAL SCHEDULE 3
THE RESERVE PETROLEUM COMPANY
CHANGES IN STANDARDIZED MEASURE OF DISCOUNTED FUTURE
NET CASH FLOW FROM PROVED WORKING INTERESTS RESERVE QUANTITIES
(Unaudited)
<TABLE>
<CAPTION>
Year Ended December 31,
---------------------------------------
1998 1997
--------------- ---------------
Standardized Measure,
<S> <C> <C>
Beginning of Year $ 1,975,421 $ 3,292,966
Sales and Transfers, Net of
Production Costs (1,301,791) (744,224)
Net Change in Sales and Transfer
Prices, Net of Production Costs (436,455) (1,438,049)
Extensions, Discoveries and Improved
Recoveries, Net of Future Production
and Development Costs 38,687 378,187
Revisions of Quantity Estimates 207,508 (334,597)
Accretion of Discount 275,430 463,368
Net Change in Income Taxes 289,835 561,837
Changes in Production Rates
(Timing) and Other 137,693 (204,067)
--------------- ---------------
Standardized Measure,
End of Year $ 1,186,328 $ 1,975,421
=============== ===============
</TABLE>
<PAGE>
Item 8. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure.
Not Applicable
PART III
Items 9, 10, 11, and 12 are incorporated by reference to the Company's proxy
statement to be mailed to security holders on or about April 6, 1999 in
connection with its annual stockholders' meeting to be held on May 4, 1999.
Item 13. Exhibits and Reports on Form 8-K.
(a) Exhibits
The following documents are exhibits to this Form 10-KSB. Each document
marked by an asterisk is hereby incorporated herein by reference to the same
document previously filed with the Securities and Exchange Commission.
<TABLE>
<CAPTION>
Exhibit S.E.C. Exhibit
Reference Description Report (Date) Number Page
- --------- ----------- ------------- ------ ----
<S> <C> <C> <C> <C>
3.1 *Restated Certificate of
Incorporation dated
November 1, 1988 10-KSB (12/96) 3.1 39
3.2 *By-Laws
dated November 1, 1988 10-KSB (12/96) 3.2 48
27 Financial Data Schedule 10-KSB (12/98) 27 41
</TABLE>
(b). Reports on Form 8-K.
Reports on Form 8-K have been filed with the Securities and Exchange
Commission during the last quarter of the period covered by this
report as follows:
<TABLE>
<CAPTION>
Item Report Financial
Reported Date Statement Filed
-------- ---- ---------------
<S> <C> <C>
5.Other Events December 18, 1998 No
</TABLE>
<PAGE>
SIGNATURES
In accordance with Section 13 or 15(d) of the Securities Exchange Act the
registrant caused this report to be signed on its behalf by the undersigned,
thereunto duly authorized.
THE RESERVE PETROLEUM COMPANY
(Registrant)
/s/ Mason W. McLain
------------------------------
By: Mason W. McLain, President
(Principal Executive Officer)
/s/ Jerry L. Crow
------------------------------
By: Jerry L. Crow, 2nd Vice President
(Principal Financial and Accounting Officer)
Date: March 25, 1999
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated:
/s/ Mason W. McLain /s/ Jerry L. Crow
- --------------------------- ----------------------------
Mason W. McLain (Director) Jerry L. Crow (Director)
March 25, 1999 March 25, 1999
/s/ Robert L. Savage /s/ R.T. McLain
- --------------------------- ---------------------------
Robert L. Savage (Director) R.T. McLain (Director)
March 25, 1999 March 25, 1999
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THIS FORM
10-KSB FOR THE YEAR ENDING DECEMBER 31, 1998, AND IS QUALIFIED IN ITS ENTIRETY
BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-END> DEC-31-1998
<CASH> 339,015
<SECURITIES> 4,989,540
<RECEIVABLES> 152,460
<ALLOWANCES> 0
<INVENTORY> 0
<CURRENT-ASSETS> 5,494,142
<PP&E> 5,182,223
<DEPRECIATION> 3,930,305
<TOTAL-ASSETS> 7,635,628
<CURRENT-LIABILITIES> 151,397
<BONDS> 0
0
0
<COMMON> 92,368
<OTHER-SE> 7,266,653
<TOTAL-LIABILITY-AND-EQUITY> 7,635,628
<SALES> 2,679,431
<TOTAL-REVENUES> 2,714,094
<CGS> 0
<TOTAL-COSTS> 410,341
<OTHER-EXPENSES> 903,711
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 0
<INCOME-PRETAX> 1,178,360
<INCOME-TAX> 320,937
<INCOME-CONTINUING> 857,423
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 857,423
<EPS-PRIMARY> 5.110
<EPS-DILUTED> 5.110
</TABLE>
