UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, DC 20549

Form 10-Q

x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended March 31, 2009

OR

o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

Commission File Number 1-9035

POPE RESOURCES, A DELAWARE
LIMITED PARTNERSHIP
(Exact name of registrant as specified in its charter)
                    Delaware
91-1313292
(State or other jurisdiction of
(IRS Employer
incorporation or organization)
Identification Number)

19245 10th Avenue NE, Poulsbo, WA 98370
Telephone: (360) 697-6626
(Address of principal executive offices including zip code)
(Registrant's telephone number including area code)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yesx  Noo

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yesx  Noo

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definition of “large accelerated filer” “accelerated filer” and “smaller reporting company” in rule 12b-2 of the Exchange Act. (check one)
Large Accelerated Filer o 
Non-accelerated Filer o
Accelerated Filer x
Smaller Reporting Company o
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12-2 of the Exchange Act) Yeso Nox

Partnership units outstanding at May 1, 2009:  4,594,210


 
Pope Resources
Index to Form 10-Q Filing
For the Quarter Ended March 31, 2009

Description
 
Page Number
Part I. Financial Information
   
     
Item 1 Financial Statements (unaudited)
   
Condensed Consolidated Balance Sheets
 
4
Condensed Consolidated Statements of Operations
 
5
Condensed Consolidated Statements of Cash Flows
 
6
Notes to Condensed Consolidated Financial Statements
 
7
     
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
 
14
     
Item 3. Quantitative and Qualitative Disclosures about Risk
 
29
     
Item 4. Controls and Procedures
 
29
     
Part II. Other Information
   
     
Item 1. Legal Proceedings
 
30
     
Item 1A. Risk Factors
 
30
     
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
 
32
     
Item 3. Defaults Upon Senior Securities
 
32
     
Item 4. Submission of Matters to a Vote of Security Holders
 
32
     
Item 5. Other Information
 
32
     
Item 6. Exhibits
 
33
     
Signatures
 
34

 
 

 

P A R T I – FINANCIAL INFORMATION

ITEM 1

FINANCIAL STATEMENTS
 
3

 
CONDENSED CONSOLIDATED BALANCE SHEETS (Unaudited)
 
Pope Resources, A Delaware Limited Partnership
March 31, 2009 and December 31, 2008
(Thousands)
           
 
 
2009
   
2008
 
Assets 
           
Current assets:
           
Cash and cash equivalents
  $ 15,213     $ 17,978  
Accounts receivable, net
    761       500  
Land held for sale
    596       596  
Current portion of contracts receivable
    455       477  
Prepaid expenses and other
    237       295  
Total current assets
    17,262       19,846  
                 
Properties and equipment, at cost:
               
Land held for development
    24,198       23,931  
Land and land improvements
    20,449       20,449  
Roads and timber (net of accumulated
               
depletion of $53,184 and $52,552)
    92,254       92,753  
Buildings and equipment (net of accumulated
               
depreciation of $7,458 and $7,360)
    3,745       3,565  
Total properties and equipment, at cost
    140,646       140,698  
                 
Other assets:                
Contracts receivable, net of current portion
    988       994  
Student loan auction rate securities
    3,578       3,619  
Other
    244       254  
Total other assets
    4,810       4,867  
                 
Total assets
  $ 162,718     $ 165,411  
                 
Liabilities, Partners' Capital, and Noncontrolling Interests
               
Current liabilities:
               
Accounts payable
  $ 539     $ 635  
Accrued liabilities
    969       863  
Current portion of environmental remediation
    240       300  
Current portion of long-term debt
    1,371       1,417  
Deferred revenue
    461       205  
Other current liabilities
    204       161  
 Total current liabilities
    3,784       3,581  
                 
Long-term debt, net of current portion
    26,872       28,169  
Environmental remediation, net of current portion
    1,254       1,254  
Other long-term liabilities
    211       236  
                 
Partners' capital (units outstanding 4,557 and 4,599)
    86,140       87,817  
Accumulated other comprehensive income
    19       -  
Noncontrolling interests
    44,438       44,354  
Total partners' capital and noncontrolling interests
    130,597       132,171  
                 
Total liabilities, partners' capital, and noncontrolling interests
  $ 162,718     $ 165,411  
 
See accompanying notes to condensed consolidated financial statements.
 
 
4

 

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (Unaudited)

Pope Resources, A Delaware Limited Partnership
Three Months Ended March 31, 2009 and 2008

(Thousands, except per unit data)
   
2009
   
2008
 
                 
Revenues
  $ 4,979     $ 6,340  
Cost of timber and land sold
    (2,198 )     (2,679 )
Operating expenses
    (1,978 )     (2,078 )
General and administrative expenses
    (844 )     (878 )
Income (loss) from operations
    (41 )     705  
                 
Other income (expense):
               
Interest expense
    (617 )     (634 )
Capitalized interest
    305       308  
Interest income
    69       395  
Impairment of student loan auction rate securities
    (60 )     -  
 Total other income (expense)
    (303 )     69  
                 
Income (loss) before income taxes
    (344 )     774  
Income tax expense
    -       (57 )
 Net income (loss)
    (344 )     717  
                 
Net loss attributable to noncontrolling interest: ORM Timber Fund I, LP
    219       224  
Net loss attributable to noncontrolling interest: ORM Timber Fund II, Inc.
    2       -  
Net income (loss) attributable to Pope Resources' unitholders
  $ (123 )   $ 941  
                 
Allocable to general partners
  $ (2 )   $ 12  
Allocable to limited partners
    (121 )     929  
    $ (123 )   $ 941  
Earnings (loss) per unit:
               
Basic
  $ (0.03 )   $ 0.20  
Diluted
  $ (0.03 )   $ 0.20  
                 
Weighted average units outstanding:
               
Basic
    4,591       4,619  
Diluted
    4,591       4,720  
                 
Distributions per unit
  $ 0.20     $ 0.40  

See accompanying notes to condensed consolidated financial statements.

 
5

 

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)

Pope Resources, A Delaware Limited Partnership
Three Months Ended March 31, 2009 and 2008

(Thousands)
 
2009
   
2008
 
             
Net income (loss)
  $ (344 )   $ 717  
Add back non-cash charges (credits):
               
Depletion
    569       781  
Depreciation and amortization
    203       188  
Impairment of student loan auction rate securities
    60       -  
Unit based compensation
    159       113  
Cost of land sold
    -       173  
Change in operating accounts:
               
Deferred revenue
    256       264  
Accounts receivable
    (261 )     (576 )
Contracts receivable
    28       69  
Prepaid expenses and other
    58       35  
Accounts payable
    (96 )     (625 )
Accrued liabilities
    176       (999 )
Environmental remediation
    (60 )     (33 )
Other long-term assets
    -       397  
Other
    16       (7 )
Net cash provided by operating activities
    764       497  
                 
Cash provided by (used in) investing activities:
               
Redemption of short-term investments
    -       13,924  
Reforestation and roads
    (133 )     (201 )
Proceeds from fixed asset sale
    4       34  
Capitalized development activities
    (329 )     (897 )
Other capital expenditures
    (318 )     (290 )
                 
Net cash provided by (used in) investing activities
    (776 )     12,570  
                 
Cash used in financing activities:
               
ORM Timber Fund II, Inc. capital call
    305       -  
Unit repurchase
    (782 )     (3,539 )
Repayment of long-term debt
    (1,343 )     (1,290 )
Option exercises
    -       352  
Unitholder distribution
    (932 )     (1,858 )
Other
    (1 )     -  
                 
Net cash used in financing activities
    (2,753 )     (6,335 )
                 
Net increase (decrease) in cash and cash equivalents
    (2,765 )     6,732  
Cash and cash equivalents at beginning of period
    17,978       2,174  
                 
Cash and cash equivalents at end of the three-month period
  $ 15,213     $ 8,906  

See accompanying notes to condensed consolidated financial statements.

 
6

 

POPE RESOURCES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
March 31, 2009

1.
The condensed consolidated financial statements as of March 31, 2009 and December 31, 2008 and for the three month periods (quarters) ended March 31, 2009 and March 31, 2008 have been prepared by Pope Resources, A Delaware Limited Partnership (the “Partnership”) pursuant to the rules and regulations of the Securities and Exchange Commission (the "SEC"). The financial information for the quarters ended March 31, 2009 and 2008 is unaudited, but, in the opinion of management, reflects all adjustments (consisting only of normal recurring adjustments and accruals) necessary for a fair presentation of the financial position, results of operations and cash flows for the interim periods. The financial information as of December 31, 2008, is derived from the Partnership’s audited consolidated financial statements and notes thereto for the year ended December 31, 2008, and should be read in conjunction with such financial statements. The results of operations for the quarter ended March 31, 2009 are not necessarily indicative of the results of operations that may be achieved for the entire fiscal year ending December 31, 2009.
 
2.
The financial statements in the Partnership's 2008 annual report on Form 10-K include a summary of significant accounting policies of the Partnership and that summary of accounting policies should be read in conjunction with this Quarterly Report on Form 10-Q.
 
3.
Basic net earnings (loss) per unit are based on the weighted average number of units outstanding during the period. Diluted net earnings per unit is calculated by dividing net income by the weighted average units outstanding during the year plus additional units that would have been outstanding assuming the exercise of in-the-money unit equivalents using the treasury stock method.  Unit equivalents are excluded from the computation if their effect is anti-dilutive, as is the case when the company has net loss for the period.  In the quarter ended March 31, 2009, all unit equivalents outstanding were excluded from the calculation of fully diluted units outstanding due to the net loss for the quarter which made these options anti-dilutive.  In the quarter ended March 31, 2008, 298 unit options outstanding were anti-dilutive.

In the first quarter of 2009, the Partnership adopted FASB Staff Position (FSP) EITF 03-6-1, Determining Whether Instruments Granted in Share-Based Payment Transactions are Participating Securities.  The FSP requires unvested share-based payment awards that contain nonforfeitable rights to dividends or dividend equivalents to be considered participating securities. The impact to the Partnership was not material for the quarters ended March 31, 2009 or 2008.

 
7

 
 
   
Quarter Ended
March 31,
 
   
2009
   
2008
 
Net income (loss) attributable to Pope Resources’ unitholders
    (123 )     941  
Nonforfeitable distributions paid to unvested restricted unitholders
    (12 )     (20 )
Net income (loss) to outstanding unitholders
    (135 )     921  
Weighted average units outstanding (in thousands):
               
 Basic
    4,591       4,619  
 Dilutive effect of unit equivalents
    -       101  
 Diluted
    4,591       4,720  
 Earnings (loss) per unit: Basic
    (0.03 )     0.20  
 Earnings (loss) per unit: Diluted
    (0.03 )     0.20  
 
Options to purchase 163,000 and 190,000 units at prices ranging from $9.30 to $37.73 per unit were outstanding as of March 31, 2009 and 2008, respectively.
 
In 2005, we adopted the 2005 Unit Incentive Plan. Following adoption of this new plan the Human Resources Committee of the Board of Directors began issuing restricted units instead of unit options as its primary method of granting equity based compensation. However, that plan permits the issuances of unit options, unit appreciation rights and other equity compensation at the discretion of the Human Resources Committee.
 
Restricted Units
As of March 31, 2009, total compensation expense not yet recognized related to non-vested restricted unit awards was $937,000 with a weighted average 21 months remaining to vest.  The partnership issued 7,250 restricted units in the first quarter of 2009 with 50% vesting in 3 years and the remaining 50% fully vested after 4 years.

Restricted units
 
March 31, 2009
 
Number outstanding
    60,625  
Aggregate intrinsic value
  $ 1,228,000  

Unit Options
Unit options have not been granted since December 2005. Units options granted prior to January 1, 2006 were non-qualified options granted at an exercise price not less than 100% of the fair value on the grant date. Unit options granted to employees vested over four or five years. Board members had the option of receiving their annual retainer in the form of unit options and those options vested immediately as they were granted monthly for services rendered during the month. Options granted have a life of ten years. During the first quarter of 2009, 3,000 options expired, reducing the number of options outstanding from 166,053 at December 31, 2008 to 163,053 at March 31, 2009.  As of March 31, 2009 all compensation cost related to unit options granted has been recognized as all options are fully vested.

 
8

 

Options Outstanding and Exercisable
 
March 31, 2009
 
Number outstanding
    163,053  
Weighted average exercise price
  $ 15.86  
Aggregate intrinsic value
  $ 825,600  
Weighted average remaining contractual term
    3.07  

4.
Supplemental disclosure of cash flow information: interest paid, net of amounts capitalized, totaled $309,000 and $532,000 for the quarters ended March 31, 2009 and 2008, respectively. Income tax refund received in the first quarter of 2009 was $61,000, net of income taxes paid of $1,000 compared to no income tax paid or received for the quarter ended March 31, 2008.
 
5.
The fair value of cash and cash equivalents and investments held at March 31, 2009 and December 31, 2008 are as follows (in thousands):
 
   
March 31, 2009
 
   
Gross
 
   
Amortized
   
Unrealized
   
Estimated
 
   
Cost
   
Loss
   
Fair Value
 
Cash and cash equivalents
  $ 15,213     $ -     $ 15,213  
Securities maturing after ten years:
                       
Auction rate securities, non-current
    4,000       (422 )     3,578  
 
   
December 31, 2008
 
   
Gross
 
   
Amortized
   
Unrealized
   
Estimated
 
   
Cost
   
Loss
   
Fair Value
 
Cash and cash equivalents
  $ 17,978     $ -     $ 17,978  
Auction rate securities, non-current
    4,000       (381 )     3,619  
 
There were no realized gains or losses for the three months ended March 31, 2009 or 2008.

At March 31, 2009, Pope Resources held Student Loan Auction Rate Securities (“SLARS”) with a par value of $4.0 million but an estimated fair value of $3.6 million. SLARS are collateralized long-term debt instruments that provide liquidity through a Dutch auction process that resets the applicable interest rate at pre-determined intervals, typically every 35 days. Beginning in February 2008, auctions failed when sell orders exceeded buy orders. When these auctions failed to clear, higher default interest rates for those securities went into effect.  The underlying assets of the SLARS we hold, including the securities for which auctions have failed, are student loans which are guaranteed by the U.S. Department of Education for 97% of the loan and interest due.

Moody’s Investors Service downgraded two of the four securities in our SLARS portfolio from Aaa to A3 in February 2009.  Standard & Poor’s AAA rating was not changed.  The estimated fair value of these two securities decreased during the first quarter of 2009 and as such, an other-than-temporary impairment charge of $60,000 was recorded.  We have filed a claim with the Financial Industry Regulatory Authority (FINRA) against the broker that sold us the $4.0 million par value of SLARS. The FINRA claim is currently in arbitration with a hearing scheduled for June 2009 and the results of the binding arbitration will not be known until the process is complete. Short of pursuing the FINRA claim to its conclusion at the mid-year hearing, the principal amount of these securities will not be accessible until the issuer calls the security, a successful auction occurs, a buyer is found outside of the auction process, or the security matures.

 
9

 

Management believes that the working capital and borrowing capacity available to the Partnership excluding the funds invested in SLARS will be sufficient to meet cash requirements for at least the next 12 months.
 
6.
FASB Statement No. 157 Fair Value Measurement (SFAS No. 157) was followed to determine the fair value of the Partnership’s investments. SFAS No. 157 defines a hierarchy of three levels of evidence used to determine fair value:
 
 
·
Level 1 - quoted prices for identical assets/liabilities in active markets
 
·
Level 2 - quoted prices in a less active market, quoted prices for similar but not identical assets/liabilities, inputs other than quoted prices
 
·
Level 3 - significant unobservable inputs including the Partnership’s own assumptions in determining the fair value of investments

Under current credit market conditions there is no market for SLARS, thus eliminating any available Level 1 inputs for use in determining a market value. SLARS are unique and there are no actively traded markets that one can observe to determine a value for the SLARS. The following table provides the fair value measurements of applicable Partnership financial assets according to the levels defined in SFAS No. 157 as of March 31, 2009 and December 31, 2008:

   
March 31, 2009
 
   
Level 1
   
Level 2
   
Level 3
   
Total
 
Cash and cash equivalents
  $ 15,213     $ -     $ -     $ 15,213  
Auction rate securities, non-current
    -       -       3,578       3,578  
Total financial assets at fair value
  $ 15,213     $ -     $ 3,578     $ 18,791  
       
   
December 31, 2008
 
   
Level 1
   
Level 2
   
Level 3
   
Total
 
Cash and cash equivalents
  $ 17,978     $ -     $ -     $ 17,978  
Auction rate securities, non-current
    -       -       3,619       3,619  
Total financial assets at fair value
  $ 17,978     $ -     $ 3,619     $ 21,597  

We identified market interest rates for similar securities, performed a discounted cash flow calculation using these alternative interest rates and considered the impact of illiquidity on the value of the securities. This method represents a Level 3 input, and represents the best evidence we have to indicate value under current market conditions. The table below summarizes the change in the consolidated balance sheet carrying value associated with Level 3 financial assets for the three months ended March 31, 2009 and 2008:

 
10

 

Activity for Securities Valued Using Level 3 Inputs
 
2009
   
2008
 
Balance at December 31, 2008 and 2007
  $ 3,619     $ -  
Transfers into Level 3
    -       15,850  
Total unrealized gain (loss) included in other comprehensive loss
    19       (1,154 )
Unrealized losses included in statement of operations
    (60 )     -  
Balance at March 31
  $ 3,578     $ 14,696  

The change in fair value from December 31, 2008 to March 31, 2009 consists of an additional impairment of $60,000 on two securities that were downgraded during the first quarter 2009 by Moody’s Investors Service from AAA to A3 offset in part by a $19,000 recovery of prior year impairment charges on the remaining two securities.  This $19,000 recovery is recorded to equity under other comprehensive loss until actually realized through the sale or redemption of these securities.  Total comprehensive loss for the three month period ended March 31, 2009 is $325,000 which includes the unrealized gain of $19,000 on SLARS and total comprehensive income for the three month period ended March 31, 2008 is $717,000 which consists of net income.

7.
The Partnership adopted SFAS No. 160, Noncontrolling Interests in Consolidated Financial Statements-an amendment of ARB No. 51, in the first quarter of 2009. The pronouncement requires noncontrolling interests (previously referred to as minority interests) in consolidated subsidiaries to be reported as a component of equity, which changes the accounting for transactions involving a noncontrolling interest. In the balance sheet, noncontrolling interests for all periods presented are now classified in the equity section, below Partners’ Capital. In the statement of operations, net income (loss) is presented excluding the impact of net loss attributable to noncontrolling interests to arrive at net income (loss) attributable to the Partnership’s unitholders.
 
8.
The Partnership has two general partners: Pope MGP, Inc. and Pope EGP, Inc. In total, these two entities own 60,000 partnership units. The allocation of distributions and income (loss) between the general and limited partners is pro rata among all units outstanding.
 
9.
The following accounting standards were issued in April 2009 and will be adopted by the Partnership in the second quarter 2009.
 
FSP No. 107-1 and APB 28-1, Interim Disclosures about Fair Value of Financial Instruments is an amendment of SFAS No. 107, Disclosures about Fair Value of Financial Instruments and APB 28, Interim Financial Reporting. FSP No. 107-1/APB 28-1 expands the fair value disclosures for all financial instruments within the scope of SFAS No. 107 to interim reporting periods. The effective date of FSP No. 107-1/APB 28-1 is for interim reporting periods ending after June 15, 2009, with early adoption permitted. We did not adopt for the first quarter 2009 and do not anticipate this FSP having a material impact on our results of operations and financial position for the second quarter of 2009.
 
FSP No. 115-2, Recognition and Presentation of Other-Than-Temporary Impairments is an amendment of SFAS No. 115, Accounting for Certain Investments in Debt and Equity Securities. FSP No. 115-2 amends the other-than-temporary impairment guidance for debt securities and expands the presentation and disclosure of other-than-temporary impairments on debt and equity securities in the financial statements. The effective date of FSP No. 115-2 is for interim and annual reporting periods ending after June 15, 2009, with early adoption permitted. We did not adopt for the first quarter 2009 and are currently evaluating the impact that FSP No. 115-2 may have on our results of operations and financial position for the second quarter of 2009.

 
11

 
 
FSP No. 157-4, Determining Fair Value When the Volume and Level of Activity for the Asset or Liability Have Significantly Decreased and Identifying Transactions That Are Not Orderly  is an amendment of SFAS No. 157, Fair Value Measurements. FSP No. 157-4 applies to all assets and liabilities and provides guidance on measuring fair value when the volume and level of activity has significantly decreased and guidance identifying transactions that are not orderly. FSP No. 157-4 requires interim and annual disclosures of the inputs and valuation techniques used to measure fair value and a discussion of changes in valuation techniques and related inputs, if any, which occurred during the period. The effective date of FSP No. 157-4 is for interim and annual reporting periods ending after June 15, 2009, with early adoption permitted. We did not adopt for the first quarter 2009 and are currently evaluating the impact FSP No. 157-4 may have on our results of operations and financial position for the second quarter of 2009.

 
12

 
 
10.
In the presentation of the Partnership’s revenue and operating income (loss) by segment all intersegment revenue and expense is eliminated to determine externally reported operating income by business segment. The table that follows reconciles internally reported income (loss) from operations to externally reported income from operations by business segment, for the three-month periods ended March 31, 2009 and 2008:

   
Fee Timber
   
Timberland
                   
Three Months Ended
 
Pope Resources
         
Total
   
Management &
   
Real
             
March 31, (Thousands)
 
Timber
   
Timberfund
   
Fee Timber
   
Consulting
   
Estate
   
Other
   
Consolidated
 
2009
                                         
Revenue internal
  $ 4,565     $ 1     $ 4,566     $ 412     $ 262     $ -     $ 5,240  
Eliminations
    (45 )     -       (45 )     (204 )     (12 )     -       (261 )
Revenue external
    4,520       1       4,521       208       250       -       4,979  
                                                         
Cost of timber and land sold
    (2,197 )     -       (2,197 )     -       (1 )     -       (2,198 )
                                                         
Operating, general and administrative expenses internal
    (898 )     (276 )     (1,174 )     (357 )     (708 )     (844 )     (3,083 )
Eliminations
    12       204       216       45       -       -       261  
                                                         
Operating, general and administrative expenses external
    (886 )     (72 )     (958 )     (312 )     (708 )     (844 )     (2,822 )
                                                         
Income (loss) from operations internal
    1,470       (275 )     1,195       55       (447 )     (844 )     (41 )
Eliminations
    (33 )     204       171       (159 )     (12 )     -       -  
Income (loss) from operations external
  $ 1,437     $ (71 )     1,366     $ (104 )   $ (459 )   $ (844 )   $ (41 )
                                                         
2008
                                                       
Revenue internal
  $ 5,488     $ 108     $ 5,596     $ 433     $ 566     $ -     $ 6,595  
Eliminations
    (36 )     -       (36 )     (209 )     (10 )     -       (255 )
Revenue external
    5,452       108       5,560       224       556       -       6,340  
                                                         
Cost of timber and land sold
    (2,268 )     (96 )     (2,364 )     -       (315 )             (2,679 )
                                                         
Operating, general and administrative expenses internal
    (839 )     (292 )     (1,131 )     (459 )     (743 )     (878 )     (3,211 )
Eliminations
    7       209       216       37       2       -       255  
Operating, general and administrative expenses external
    (832 )     (83 )     (915 )     (422 )     (741 )     (878 )     (2,956 )
                                                         
Income (loss) from operations internal
    2,381       (280 )     2,101       (26 )     (492 )     (878 )     705  
Eliminations
    (29 )     209       180       (172 )     (8 )     -       -  
                                                         
Income (loss) from operations external
  $ 2,352     $ (71 )     2,281       (198 )     (500 )     (878 )     705  

 
13

 

ITEM 2

MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS

This report contains a number of projections and statements about our expected financial condition, operating results, and business plans and objectives. These statements reflect our management's estimates and present intentions based on our current goals, in light of currently known circumstances and management's expectations about future developments. Statements about expectations, plans and future performance are “forward looking statements” within the meaning of applicable securities laws. Because these statements describe our goals, objectives and anticipated performance, they are inherently uncertain, and some or all of these statements may not come to pass. Accordingly, you should not interpret these statements as promises that we will perform at a given level or that we will take any or all of the actions we currently expect to take. Our future actions, as well as our actual performance, will vary from our current expectations, and under various circumstances these variations may be material and adverse. Some of the factors that may cause our actual operating results and financial condition to fall short of our expectations are set forth in Part II of this report entitled “Item 1A: Risk Factors” below and other factors discussed elsewhere in this report and in our annual report on Form 10-K for the fiscal year ended December 31, 2008. Some of the issues that may have an adverse and material impact on our business, operating results and financial condition include the effect of financial market conditions on our investment portfolio and related liquidity; environmental and land use regulations that limit our ability to harvest timber and develop property; economic conditions that affect consumer demand for our products and the prices we receive for them; our ability to estimate accurately our liability for certain environmental damages; and other risks and uncertainties which are discussed in our other filings with the Securities and Exchange Commission. The forward-looking statements in this report reflect our estimates as of the date of the report, and we cannot undertake to update these statements as our business operations and environment change.

This discussion should be read in conjunction with the condensed consolidated financial statements and related notes included with this report.
 
EXECUTIVE OVERVIEW

Pope Resources, A Delaware Limited Partnership (“we” or the "Partnership"), was organized in late 1985 as a result of a spin-off by Pope & Talbot, Inc. (“P&T”). We are engaged in three primary businesses. The first, and by far most significant segment in terms of owned assets and operations, is the Fee Timber segment. This segment includes timberlands owned directly by the Partnership and operations of ORM Timber Fund I, LP (“Fund I”) and ORM Timber Fund II, Inc. (“Fund II” and collectively the “Funds”). Operations in this segment consist of growing timber to be harvested as logs for sale to domestic manufacturers and to a lesser extent export brokers. The second most significant business in terms of total assets owned is the development and sale of real estate. Real Estate activities primarily take the form of securing permits, entitlements, and, in some cases, installing infrastructure for raw land development and then realizing that land’s value by the selling of larger parcels to buyers who will take the land further up the value chain, either to home buyers or to operators and lessors of commercial property. Since these land projects span multiple years, the Real Estate segment may incur losses for multiple years while a project is developed until that project is sold resulting in operating income. Our third business is providing timberland management and related services to third-party timberland owners, including the Funds, and raising investment capital from third parties for private equity timber funds like the Funds.

 
14

 

Management’s major opportunity and challenge is to grow our revenue base profitably. Our current strategy for adding timberland acreage is centered on our timber fund business model. For example, in March 2009 we completed the final close for Fund II with $84 million of committed capital including Pope Resources’ 20% co-investment. We are now seeking timberland to acquire with this committed capital. Our 20% co-investment in the Funds affords us a share of these Funds’ operations while allowing us to earn asset management and timberland management fees. Management also believes that this strategy allows us to maintain more sophisticated expertise in timberland acquisition, valuation, and management than could be cost effectively maintained for the Partnership’s timberlands alone. Our real estate challenges center around how and when to “harvest” a parcel of land and capture the optimum value increment by selling the property.

Additionally, during the first quarter of 2009 we made significant progress toward completing our unit repurchase program that commenced in the fourth quarter of 2008. During the first quarter we purchased 42,910 units for an aggregate of $782,000 for a weighted average unit purchase price of $18.23, bringing the total repurchase program to 58,162 units for a total of $1.1 million, yielding a weighted average unit purchase price of $18.55.

RESULTS OF OPERATIONS

The following table reconciles and compares key revenue and cost elements that impact our net income (loss) for each of the three-month periods ended March 31, 2009, March 31, 2008 and December 31, 2008. In addition to the table’s detailed numeric analysis, the explanatory text following the table describes many of these changes by business segment.

 
15

 

   
Q1 2009 vs. Q1 2008
   
Q1 2009 vs. Q4 2008
 
   
Total
   
Total
 
             
Net income (loss) attributable to Pope Resources' unitholders:
           
1st Quarter 2009
  $ (123 )   $ (123 )
4th Quarter 2008
            (1,439 )
1st Quarter 2008
    941       -  
Variance
  $ (1,064 )   $ 1,316  
                 
Detail of earnings variance:
               
Fee Timber:
               
Log price realizations (A)
  $ (535 )   $ (144 )
Log volumes (B)
    (411 )     3,292  
Depletion
    86       (541 )
Production Costs
    81       (1,150 )
Other Fee Timber
    (136 )     (226 )
Timberland Management & Consulting (TM&C):
               
Management fee changes
    (17 )     -  
Other TM&C
    111       (5 )
Real Estate:
               
Land sales
    (137 )     (932 )
Timber depletion on HBU sale
    126       352  
Other Real Estate
    52       465  
General & administrative costs
    34       191  
Net interest expense
    (312 )     (81 )
Other (taxes, minority int., interest inc.)
    (6 )     95  
Total change in net income (loss) attributable to Pope Resources' unitholders
  $ (1,064 )   $ 1,316  

(A) Price variance calculated by extending the change in average realized price by current period volume.
(B) Volume variance calculated by extending the change in sales volume by the average log sales price for the comparison period.

Fee Timber
 
Fee Timber revenue is earned primarily from the harvest and sale of logs from the Partnership’s 114,000 acres of fee timberland located in western Washington and, to a lesser extent, from leasing cellular communication towers and selling gravel and other resources from our timberlands. Revenue from the sale of timberland tracts will also appear periodically in results for this segment. Our Fee Timber revenue is driven primarily by the volume of timber harvested.  When speaking to inventory, volumes are expressed in millions of board feet, or “MMBF”, while elsewhere in the document, volumes harvested are expressed in thousands of board feet, or “MBF”. Harvest activities on the 24,000 acres of timberland owned by Fund I are consolidated into this discussion of operations and, once Fund II has acquired properties, results from those harvest operations will also be consolidated into the discussion.
 
When discussing our Fee Timber operations, we compare current results to both the previous quarter and the corresponding quarter of the prior year. Both of these comparisons are made to help the reader gain an understanding of the trends in market price and harvest volumes that affect Fee Timber results of operations. Revenue and operating income (loss) for the Fee Timber segment for the quarters ended March 31, 2009, December 31, 2008 and March 31, 2008 are as follows:

 
16

 

               
Total Fee
         
Harvest
 
($ Million)
 
Log Sale
   
Mineral, Cell Tower &
   
Timber
   
Operating
   
Volume
 
Quarter ended
 
Revenue
   
Other Revenue
   
Revenue
   
Income/(loss)
   
(MBF)
 
Pope Resources Timber
  $ 4.2     $ 0.3     $ 4.5     $ 1.4       8,745  
Fund I
    -       -       -       (0.1 )     -  
Total Fee Timber March 31, 2009
    4.2       0.3       4.5       1.3       8,745  
Pope Resources Timber
  $ 1.0     $ 0.6     $ 1.6     $ -       2,026  
Fund I
    -       -       -       0.1       47  
Total Fee Timber December 31, 2008
  $ 1.0     $ 0.6     $ 1.6     $ 0.1       2,073  
Pope Resources Timber
  $ 5.0     $ 0.5     $ 5.5     $ 2.4       9,303  
Fund I
    0.1       -       0.1       (0.1 )     206  
Total Fee Timber March 31, 2008
  $ 5.1     $ 0.5     $ 5.6     $ 2.3       9,509  

The increase in Fee Timber revenue and operating income for the current quarter relative to the fourth quarter of 2008 is primarily attributable to a 6,672 MBF increase in harvest volume offset by a $17/MBF, or 3%, decline in average log price realized. The increase in first quarter 2009 harvest volume over fourth quarter 2008 is due to low harvest activity in the fourth quarter of 2008. Fee Timber operating income increased $1.2 million from the fourth quarter of 2008 due to the increase in log volume harvested, partially offset by the decrease in average log price realized. Fee Timber revenue for the current quarter is $1.1 million lower than the comparable period in the prior year. This decrease is due to both a 764 MBF decline in harvest volume and an 11% decline in average log price realized. Fee Timber operating income for the current quarter decreased by $1.0 million from the first quarter of 2008 due to these same aforementioned declines.
 
The Funds are consolidated into our financial statements. Fund II has not yet acquired timberland and, as a result, only Fund I has harvest and operating results to include in the Fee Timber discussion herein. The 80% of these Funds owned by third parties is reflected in our Statement of Operations under the caption Noncontrolling interest-ORM Timber Fund I, LP and ORM Timber Fund II, Inc. Fund I generated revenue of $1,000, $46,000, and $108,000, respectively for the quarters ended March 31, 2009, December 31, 2008, and March 31, 2008. Fund I did not harvest any log volume during the quarter ended March 31, 2009 compared to a harvest of 206 MBF with average price realized of $523/MBF during the first quarter of 2008 and 47 MBF with average price realized of $468/MBF during the fourth quarter of 2008. We plan to harvest an additional 28 MMBF from the Partnership’s timberlands during the remainder of 2009, with 5 MMBF coming from Fund I timberlands. The Funds incurred operating losses of $275,000, $108,000, and $280,000 in the quarters ended March 31, 2009, December 31, 2008, and March 31, 2008, respectively.  Operating losses of the Funds are calculated before elimination of management fees paid to ORM LLC of $204,000, $193,000, $209,000 in the quarters ended March 31, 2009, December 31, 2008 and March 31, 2008, respectively.
 
Log Volume
 
The Partnership harvested the following log volumes by species from its timberlands, including Fund I, for the quarters ended March 31, 2009, December 31, 2008, and March 31, 2008:

 
17

 

Log sale volumes (MBF):
             
Quarter Ended
                   
Sawlogs
 
March-09
   
% Total
   
December-08
   
% Total
   
March-08
   
% Total
 
Douglas-fir
    7,530       86 %     1,508       73 %     7,202       76 %
Whitewood
    65       1 %     86       4 %     512       5 %
Cedar
    64       1 %     54       3 %     68       1 %
Hardwood
    119       1 %     51       2 %     201       2 %
Pulp
                                               
All Species
    967       11 %     374       18 %     1,526       16 %
Total
    8,745       100 %     2,073       100 %     9,509       100 %
 
Through March 31, 2009, we have harvested 24% of our targeted annual harvest of 37 MMBF as compared to harvesting 26% of our 2008 harvest during last year’s first quarter. Our planned 2009 timber harvest volume is reduced from our long-term sustainable level of 52 MMBF as management acts to preserve the Partnership’s asset value through this period of declining log and lumber prices, which result primarily from the condition of domestic and overseas housing markets.
 
Log Prices
 
While harvest volume is largely within management’s control, one additional, significant factor that impacts our Fee Timber income is the price we realize upon selling our logs into the market. We attempt to maximize Fee Timber revenue by adjusting harvest to match log markets. The Douglas-fir export market started the quarter with relatively strong prices and demand, but by the end of the period, market demand had diminished significantly. The harvest for the quarter reflects management’s efforts to capitalize on the Douglas-fir export market while it was available. The remaining markets softened throughout the first quarter of 2009 owing to weakened demand and increasing inventories in local mills. As a result, log prices realized reflect these diminished market conditions.
 
We realized the following log prices from our fee timberlands for the quarters ended March 31, 2009, December 31, 2008 and March 31, 2008:
 
   
Quarter Ended
 
   
31-Mar-09
   
31-Dec-08
   
31-Mar-08
 
Average price realizations (per MBF):
                 
Sawlogs
                 
Douglas-fir
  $ 508     $ 516     $ 572  
Whitewood
    306       384       471  
Cedar
    798       1,222       1,257  
Hardwood
    475       588       639  
Pulp
                       
All Species
    227       307       357  
Overall
    477       494       538  

Douglas-fir: Douglas-fir is noted for its structural characteristics that make it generally preferable to other softwoods and hardwoods for the production of construction grade lumber and plywood. Demand and price for Douglas-fir sawlogs is very dependent upon the level of new home construction. As construction starts and the export market continue to decline, we have experienced an 11% drop in Douglas-fir sawlog prices in the first quarter of 2009 from the same period in 2008 and a 2% decline from the fourth quarter of 2008.

 
18

 

Whitewood: “Whitewood” is a term used to describe several softwood species, but for us primarily refers to western hemlock. Though generally considered to be of a lower quality than Douglas-fir, these logs are also used for manufacturing construction grade lumber and plywood. The export market to Korea was our primary outlet for whitewood in early 2008 given the strength of pricing and demand. The Korean market softened beginning with the second quarter of 2008. As such, the whitewood sawlog market for the remainder of 2008 and into 2009 has primarily been domestic. Very weak domestic housing markets have driven down demand and prices for whitewood sawlogs. The average price realized on whitewood declined 35% in the first quarter of 2009 versus first quarter of 2008 and 20% off from the fourth quarter of 2008.

Cedar: Cedar is a minor component in most upland timber stands and is generally used for outdoor applications such as fencing, siding and decking. Although there is a link between demand for these products and housing starts, this link is not as strong as with most other softwood species. Cedar prices decreased by 37% in the period ended March 31, 2009 versus the comparable period in 2008 and when compared to the fourth quarter of 2008, cedar prices declined 35%. The decline in 2009 reflects the decrease in home remodeling activity.

Hardwood: “Hardwood” can refer to many different species, but on our tree farms primarily consists of red alder. The local mills that process alder sawlogs are using the resource to manufacture lumber for use in furniture and cabinet construction. In past years, the price realized from the sale of red alder sawlogs increased in connection with relatively limited supply, coupled with increased demand as a result of new mills focused on hardwood lumber production in the Pacific Northwest. However, demand for alder lumber has been blunted as users have substituted other species in the face of higher alder prices. The effect of this substitution, combined with weakness in demand for end-use products, has translated to lower prices and explains the decline in hardwood prices for the first quarter of 2009 of 26% versus the first quarter of 2008 and 19% when compared to the fourth quarter of 2008. Hardwood represents a relatively minor species in our sales and timber inventory mix and only produces a small impact on overall revenue and earnings.

Pulp: Pulp is a lower quality log of any species that is manufactured into wood chips. These chips are used primarily to make a full range of pulp and paper products from unbleached linerboard used in paper bags and cardboard boxes to fine paper and specialty products. The pulpwood market was extraordinarily strong in 2008 while sawmills were taking significant downtime to deal with the beginnings of the current housing slowdown.  This led to a higher percentage of our mix going into pulpwood in 2008 and driving up pulpwood prices.  This serves to explain why pulp prices for the period ended March 31, 2009 were down 36% from the same period in 2008 versus a decline of 26% compared to the fourth quarter of 2008. The decline in pulp prices results from a drop in demand for the end products that are manufactured from pulp in the face of overall economic weakness.

Customers

The table below categorizes timber sold by customer type for the quarters ended March 31, 2009, December 31, 2008 and March 31, 2008 (volume amounts are in terms of MBF and price information is presented on a $/MBF basis):

 
19

 

   
Q1 2009
   
Q4 2008
   
Q1 2008
 
Destination
 
Volume
   
Price
   
Volume
   
Price
   
Volume
   
Price
 
Domestic mills
    5,779     $ 446       1,317     $ 502       5,992     $ 554  
Export brokers
    1,999       688       382       644       1,991       628  
Pulp
    967       227       374       307       1,526       357  
Total
    8,745     $ 477       2,073     $ 494       9,509     $ 538  

Volume sold to domestic lumber mills represents 66% of volume sold in the first quarter of 2009 versus 64% for the fourth quarter of 2008 and 63% for the comparable quarter in the prior year. The change in the proportion of harvest volume sold to the domestic market was nominal. However, the export market strengthened to 23% of the volume in the first quarter compared to 18% in the fourth quarter of 2008 and 21% for the same period in 2008. This increase in volume was due largely to a spot export market for Douglas-fir in Japan. The pulp market received 11% of our production volume in the first quarter of 2009 versus 16% for the same period in 2008 and 18% in the fourth quarter of 2008 as we sought to take advantage of higher pulp prices in early 2008. The decline in volume sold to pulp destinations is primarily due to an effort to concentrate harvest in 2008 on timber stands with a high proportion of low quality logs suitable for sale to the pulp market.

Cost of Sales
 
Cost of sales for the Fee Timber segment consists of harvest and haul costs and depletion expense. Harvest and haul costs represent the direct cost incurred to convert trees into logs and deliver those logs to their point of sale. Depletion expense represents the cost of acquiring or growing the harvested timber. The applicable depletion rate is derived by dividing the aggregate cost of timber and capitalized road expenditures by the estimated volume of merchantable timber available for harvest at the beginning of that year. The depletion rate is then applied to the volume harvested in a given period to calculate depletion expense for that period. We used two separate depletion rates in 2009 and 2008, with our primary pool used for volume harvested from the Hood Canal and Columbia tree farms and the second pool for volume harvested from tree farms owned by Fund I.
 
Fee Timber cost of sales for the quarters ended March 31, 2009, December 31, 2008, and March 31, 2008, respectively, are as follows, with the first table expressing these costs in total dollars and the second table expressing the costs on a per unit of production basis:

($ Million)
 
Harvest, Haul
         
Total Cost of
 
Quarter Ended:
 
and Other
   
Depletion
   
Sales
 
March 31, 2009
  $ 1.6     $ 0.6     $ 2.2  
December 31, 2008
    0.5       -       0.5  
March 31, 2008
    1.6       0.7       2.3  

   
Harvest and Haul
   
Depletion per
   
Total Cost of
 
Quarter Ended:
 
per MBF
   
MBF
   
Sales per MBF
 
March 31, 2009
  $ 186     $ 65     $ 251  
December 31, 2008
    232       13       245  
March 31, 2008
    180       69       249  

 
20

 
 
Cost of sales were higher in the first quarter of 2009 relative to the fourth quarter of 2008 due to an increase in harvest volume and were slightly lower compared to the first quarter of 2008 as a result of a decrease in harvest volume. Harvest volume increased to 8,745 MBF in the first quarter of 2009 from 2,073 MBF in the fourth quarter of 2008 and decreased from 9,509 MBF in the first quarter of 2008. The decrease in cost of sales from $2.3 million in the first quarter of 2008 to $2.2 million in the current quarter is due to a decline in harvest volume of 764 MBF. The $1.7 million increase in cost of sales from the fourth quarter of 2008 results from the increase in volume harvested.
 
Harvest and haul costs per MBF remained relatively flat in the first quarter of 2009 relative to the first quarter of 2008. Harvest costs vary based upon the physical site characteristics of the specific acres harvested during the period. For example, difficult-to-access sites or those located on steep hillsides are more expensive to harvest. Furthermore, haul costs vary based upon the distance between the harvest area and the mill customer’s location. Average combined logging and hauling costs per MBF have decreased $46 per MBF from fourth quarter 2008 owing largely to a decline in fuel prices. Average combined logging and hauling costs per MBF increased $6 per MBF versus the first quarter of 2008 as result of a higher proportion of cable logging operations on the Hood Canal tree farm in the first quarter of 2009 when compared to the first quarter of 2008.
 
Depletion expense in the fourth quarter of 2008 contains an adjustment of $56 per MBF.  Depletion expense for the quarters ended March 31, 2009, December 31, 2008, and March 31, 2008, excluding the retroactive adjustment made in the fourth quarter of 2008 to Fund I, was calculated as follows:
 
   
Quarter ended March 31, 2009
 
   
Pooled
   
Timber Fund
   
Combined
 
Volume harvested (MBF)
    8,745       -       8,745  
Rate/MBF
  $ 65       -     $ 65  
Depletion expense ($000's)
  $ 569       -     $ 569  

   
Quarter ended December 31, 2008
 
   
Pooled
   
Timber Fund
   
Combined
 
Volume harvested (MBF)
    2,026       47       2,073  
Rate/MBF
  $ 65     $ 277     $ 69  
Depletion expense ($000's)
  $ 131     $ 13     $ 144  

   
Quarter ended March 31, 2008
 
   
Pooled
   
Timber Fund
   
Combined
 
Volume harvested (MBF)
    9,304       205       9,509  
Rate/MBF
  $ 65     $ 268     $ 69  
Depletion expense ($000's)
  $ 605     $ 55     $ 660  
 
The separate depletion pool for 2009 and 2008 harvest volume represents harvest from timberlands owned by the Fund I during those periods. These separate depletion pools carry a higher depletion rate than our combined pool. The combined depletion pool consists primarily of historical timber cost that has been owned by the Partnership or its predecessor, P&T, for many decades, as well as the Columbia property that was acquired in 2001. The separate depletion pool for the Fund I consists of timber acquired at a higher overall cost in the fourth quarter of 2006 and therefore carries a higher depletion rate.

 
21

 
 
Operating Expenses
 
Fee Timber operating expenses for the quarters ended March 31, 2009, December 31, 2008, and March 31, 2008 were $958,000, $1.0 million, $915,000, respectively. Operating expenses include management, silviculture and the cost of both maintaining existing roads and building temporary roads required for harvest activities. The primary factor in the fluctuation of operating expenses is the timing of silviculture and road costs.
 
Timberland Management & Consulting
 
The Timberland Management & Consulting segment develops timberland property investment portfolios on behalf of third-party clients and the Funds. In addition we provide our timberland management services to third party owners of timberland.  This segment currently provides services to the Funds and Cascade Timberlands LLC (Cascade).

The Timberland Management & Consulting segment is currently managing approximately 267,000 acres of timberland for Cascade and an additional 24,000 acres for Fund I. The Cascade project includes management, consulting, and disposition services.  We began providing services under this contract in January 2005 and those services have declined dramatically over the years as land has sold and operating activities have declined. Revenue and operating loss for the Timberland Management & Consulting segment for the quarters ended March 31, 2009 and 2008 were as follows:
 
($ Million)
           
Quarter ended
 
Revenue
   
Operating loss
 
March 31, 2009
  $ 0.2     $ 0.1  
March 31, 2008
    0.2       0.2  

Revenue for the quarter ended March 31, 2009 was essentially unchanged and the operating loss was $100,000 lower than the corresponding amount for the first quarter of 2008. The decrease in operating loss between first quarter 2009 and first quarter 2008 is due to a decrease in fundraising costs for Fund II and a decrease in management costs.
 
Revenue and expense incurred through the management of Fund I is accounted for within this segment but eliminated as a result of the consolidation of Fund I in our financial statements. We generated $204,000 of revenue from the management of Fund I that was eliminated with a corresponding decrease in operating expenses of the Fee Timber segment. We have completed the second close for Fund II, which now has $84 million of committed capital including the Partnership’s co-investment commitment of $17 million. We are actively searching for timber properties for Fund II to acquire.
 
Operating Expenses
 
Timberland Management & Consulting operating expenses for the quarters ended March 31, 2009 and 2008 were $312,000 and $422,000, respectively. The decrease in operating expense is attributable to the reduction in Fund II fund raising costs and management costs associated with our timberland management activities.

 
22

 
 
Real Estate
 
The Partnership’s Real Estate segment consists primarily of revenue from the sale of land together with residential and commercial property rents. The Partnership’s real estate holdings are located primarily in Pierce, Kitsap, and Jefferson Counties in Washington State.
 
Revenue and operating loss for the Real Estate segment for the quarters ended March 31, 2009 and 2008 were as follows:
 
($ Million)
           
Quarter ended
 
Revenue
   
Operating loss
 
March 31, 2009
  $ 0.3     $ 0.5  
March 31, 2008
    0.6       0.5  

Real Estate revenue for the quarters ended March 31, 2009 and 2008 is comprised of the following:

Description
 
Revenue
   
Gross Margin
   
Acres Sold
   
Revenue/Acre
   
Gross Margin/
Acre
 
Rentals
  $ 246,000     $ 246,000       N/A       N/A       N/A  
Other
    4,000       3,000       N/A