a6815782.htm
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 June 30, 2011

OR
 
(  )
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.     Yes x          No o

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).     Yes x          No o

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
 
Accelerated Filer x
 
Non-accelerated Filer o
 
Smaller Reporting Company o
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act)     Yes o   No x

Partnership units outstanding at August 5, 2011: 4,388,094
 
 
 

 
 
Pope Resources
Index to Form 10-Q Filing
For the Quarter Ended June 30, 2011

Description
Page Number
Part I. Financial Information
 
   
Item 1 Financial Statements (unaudited)
 
4
5
6
7
   
13
   
34
   
34
   
 
   
34
   
35
   
36
   
36
   
36
   
36
   
36
   
37
 
 
 

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
PART I – FINANCIAL INFORMATION
 

ITEM 1


FINANCIAL STATEMENTS
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
3

 

CONDENSED CONSOLIDATED BALANCE SHEETS (Unaudited)
       
Pope Resources, a Delaware Limited Partnership
           
June 30, 2011 and December 31, 2010
           
(Thousands)
           
   
2011
   
2010
 
ASSETS
           
Current assets
           
Partnership cash and cash equivalents
    $193       $237  
ORM Timber Funds cash and cash equivalents
    2,291       2,186  
    Cash and cash equivalents
    2,484       2,423  
Accounts receivable, net
    796       543  
Building and land held for sale
    672       3  
Current portion of contracts receivable
    19       219  
Prepaid expenses and other
    605       805  
Total current assets
    4,576       3,993  
Properties and equipment, at cost
               
Timber and roads, net of accumulated depletion
               
of $66,017 and $60,044
    159,267       164,961  
Timberland
    34,111       33,980  
Land held for development
    28,617       27,737  
Buildings and equipment, net of accumulated
               
depreciation of $5,997 and $7,739
    6,008       3,854  
Total properties and equipment, at cost
    228,003       230,532  
Other assets
               
Contracts receivable, net of current portion
    724       652  
Other
    604       660  
Total other assets
    1,328       1,312  
Total assets
    $233,907       $235,837  
                 
LIABILITIES, PARTNERS' CAPITAL AND NONCONTROLLING INTEREST
 
Current liabilities
               
Accounts payable
    $1,068       $868  
Accrued liabilities
    2,461       2,656  
Current portion of environmental remediation
    224       397  
Current portion of long-term debt
    31       30  
Deferred revenue
    613       674  
Other current liabilities
    242       191  
Total current liabilities
    4,639       4,816  
Long-term liabilities
               
Long-term debt, net of current portion
    46,165       50,468  
Environmental remediation, net of  current portion
    1,536       1,536  
Other long-term liabilities
    186       210  
Partners' capital and noncontrolling interests
               
General partners' capital (units issued and outstanding 60 and 60)
    1,063       992  
Limited partners' capital (units issued and outstanding 4,268 and 4,203)
    75,584       69,998  
Noncontrolling interests
    104,734       107,817  
Total partners' capital and noncontrolling interests
    181,381       178,807  
Total liabilities, partners' capital, and noncontrolling interests
    $233,907       $235,837  
                 
See accompanying notes to condensed consolidated financial statements.

 
4

 
 
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (Unaudited)
             
                         
Pope Resources, a Delaware Limited Partnership
                       
For the Three Months and Six Months Ended June 30, 2011 and 2010
                   
(Thousands, except per unit data)
                       
                         
   
Three Months Ended June 30,
   
Six Months Ended June 30,
 
   
2011
   
2010
   
2011
   
2010
 
                         
Revenue
    $14,269       $8,089       $31,943       $14,055  
Cost of timber and land sold
    (7,061 )     (3,825 )     (15,917 )     (6,431 )
Operating expenses
    (2,584 )     (2,681 )     (5,562 )     (4,528 )
General and administrative expenses
    (1,164 )     (1,452 )     (2,242 )     (2,393 )
     Income from operations
    3,460       131       8,222       703  
                                 
Other income (expense)
                               
  Interest expense
    (541 )     (321 )     (1,115 )     (862 )
  Debt extinguishment costs
    -       (1,250 )     -       (1,250 )
  Capitalized interest
    108       78       206       318  
  Interest income
    10       27       22       61  
  Realized gain on investments
    -       -       -       11  
     Total other expense
    (423 )     (1,466 )     (887 )     (1,722 )
                                 
Income (loss) before income taxes
    3,037       (1,335 )     7,335       (1,019 )
Income tax expense
    (83 )     -       (139 )     (12 )
     Net income (loss)
    2,954       (1,335 )     7,196       (1,031 )
                                 
Net (income) loss attributable to noncontrolling interests
                               
     ORM Timber Funds
    333       209       (229 )     356  
     Net income (loss) attributable to unitholders
    $3,287       ($1,126 )     $6,967       ($675 )
                                 
Allocable to general partners
    $46       ($15 )     $97       ($9 )
Allocable to limited partners
    3,241       (1,111 )     6,870       (666 )
      $3,287       ($1,126 )     $6,967       ($675 )
                                 
Earnings per unit attributable to unitholders
                               
     Basic
    $0.73       ($0.25 )     $1.55       ($0.15 )
     Diluted
    $0.73       ($0.25 )     $1.55       ($0.15 )
                                 
Weighted average units outstanding
                               
     Basic
    4,329       4,541       4,318       4,536  
     Diluted
    4,331       4,541       4,320       4,536  
                                 
Distributions per unit
    $0.25       $0.10       $0.50       $0.20  
                                 
See accompanying notes to condensed consolidated financial statements.
 
5

 
  
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)
       
Pope Resources, a Delaware Limited Partnership
           
Six Months Ended June 30, 2011 and 2010
           
(Thousands)
           
   
2011
   
2010
 
Net income (loss)
    $7,196       $(1,031 )
Adjustments to reconcile net income (loss) to net cash provided by operating activities
         
     Depletion
    5,897       2,189  
     Timber depletion on land sale
    150       -  
     Capitalized development activities, net of reimbursements
    (493 )     (472 )
     Equity-based compensation
    592       424  
     Depreciation and amortization
    351       305  
     Gain on investments
    -       (11 )
     Deferred taxes
    43       -  
     Cost of land sold
    89       67  
     Write-off of debt issuance costs
    -       32  
Cash flows from changes in operating accounts
               
     Deferred revenue
    (61 )     150  
     Accounts receivable, net
    (273 )     (2,073 )
     Contracts receivable
    128       81  
     Prepaid expenses and other current assets
    189       219  
     Accounts payable and accrued liabilities
    6       798  
     Other current liabilities
    51       47  
     Environmental remediation
    (173 )     429  
     Other long-term liabilities
    (24 )     (25 )
     Other, net
    (1 )     (6 )
       Net cash provided by operating activities
    13,667       1,123  
                 
Cash flows from investing activities
               
     Redemption of investments
    -       1,497  
     Reforestation and roads
    (488 )     (230 )
     Buildings and equipment
    (3,463 )     (213 )
     ORM Timber Fund II, Inc. land acquisition
    (140 )     -  
       Net cash provided by (used in) investing activities
    (4,091 )     1,054  
                 
Cash flows from financing activities
               
     Repayment of line of credit, net
    (4,287 )     -  
     Repayment of long-term debt
    (15 )     (868 )
     Extinguishment of long-term debt
    -       (18,554 )
     Proceeds from issuance of long-term debt
            20,000  
     Debt issuance costs
            (81 )
     Proceeds from option exercises, net
    516       148  
     Payroll taxes paid upon restricted unit vesting
    (226 )     -  
     Cash distributions to unitholders
    (2,191 )     (920 )
     Cash distributions - ORM Timber Funds, net of distributions to Partnership
    (3,304 )     -  
     Preferred stock issuance- ORM Timber Fund II, Inc.
    -       125  
     Preferred stock distribution- ORM Timber Fund II, Inc.
    (8 )     (8 )
       Net cash used in financing activities
    (9,515 )     (158 )
                 
Net increase in cash and cash equivalents
    61       2,019  
     Cash and cash equivalents at beginning of period
    2,423       7,180  
     Cash and cash equivalents at the end of the six-month period
    $2,484       $9,199  
                 
See accompanying notes to condensed consolidated financial statements.
 
 
6

 

POPE RESOURCES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
June 30, 2011

1.
The condensed consolidated financial statements as of June 30, 2011 and December 31, 2010 and for the three-month periods (quarters) and six-month periods ended June 30, 2011 and 2010 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 condensed consolidated financial statements are unaudited, but, in the opinion of management, reflect 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, 2010, is derived from the Partnership’s audited consolidated financial statements and notes thereto for the year ended December 31, 2010, and should be read in conjunction with such financial statements and notes. The results of operations for the interim periods are not indicative of the results of operations that may be achieved for the entire fiscal year ending December 31, 2011.
 
2.
The financial statements in the Partnership's 2010 annual report on Form 10-K include a summary of significant accounting policies of the Partnership and should be read in conjunction with this Quarterly Report on Form 10-Q.
 
3.
Basic net earnings per unit are based on the weighted average number of units outstanding during the period. Diluted net earnings per unit are calculated by dividing net income attributable to unitholders, adjusted for non-forfeitable distributions paid out to unvested restricted unitholders and Fund II preferred shareholders, 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.
 
The table below displays how we arrived at options used to calculate dilutive unit equivalents and subsequent treatment of dilutive unit equivalents based on net income (loss) for the period:
 
   
Quarter Ended
   
Six Months Ended
 
   
June 30,
   
June 30,
 
(Thousands)
 
2011
   
2010
   
2011
   
2010
 
Average per unit trading price
    $43.84       $27.50       $42.47       $26.32  
Total options outstanding at end of period
    6       137       6       137  
Less: options with strike price above average trading price (out-of-the-money)
    -       (2 )     -       (2 )
Options used in calculation of dilutive unit equivalents
    6       135       6       135  
                                 
Net income (loss) attributable to Pope Resources’ unitholders
    $3,287       ($1,126 )     $6,967       ($675 )
                                 
Dilutive unit equivalents used to calculate dilutive EPS
    2       58       2       55  
Less: unit equivalents considered anti-dilutive due to net loss in period
    -       (58 )     -       (55 )
Dilutive unit equivalents used to calculate dilutive EPS
    2       -       2       -  
 
 
7

 
 
 
The following table shows how we arrived at basic and diluted income per unit:
 
   
Quarter Ended
   
Six Months Ended
 
   
June 30,
   
June 30,
 
(Thousands)
 
2011
   
2010
   
2011
   
2010
 
Net income (loss) attributable to Pope Resources' unitholders
    $3,287       ($1,126 )     $6,967       ($675 )
Less:
                               
  Net income attributable to unvested restricted unitholders
    (131 )     (7 )     (277 )     (13 )
  Dividends paid to Fund II preferred shareholders
    (4 )     (4 )     (8 )     (8 )
    Net income (loss) for calculation of EPS
    $3,152       ($1,137 )     $6,682       ($696 )
                                 
Weighted average units outstanding (in thousands):
                               
Basic
    4,329       4,541       4,318       4,536  
Dilutive effect of unit equivalents
    2       -       2       -  
Diluted
    4,331       4,541       4,320       4,536  
                                 
Earnings (loss) per unit: Basic
    $0.73       ($0.25 )     $1.55       ($0.15 )
Earnings (loss) per unit: Diluted
    $0.73       ($0.25 )     $1.55       ($0.15 )
 
 
Options to purchase 5,500 units at prices ranging from $10.75 to $17.40 were outstanding at June 30, 2011. There were no out-of-the money options to exclude from the calculation of dilutive unit equivalents for the quarter or six months ended June 30, 2011.  Options to purchase 136,810 units at prices ranging from $9.30 to $37.73 per unit were outstanding as of June 30, 2010.  As of June 30, 2010, 1,869 options at prices ranging from $28.50 to $37.73 were excluded from the calculation of dilutive unit equivalents as they were out-of-the-money and, as such, anti-dilutive.
 
4.  
The Partnership granted 20,500 restricted units pursuant to a new management incentive compensation program in January 2011.  These restricted units vest ratably over four years with the grant date fair value equal to the market price on the date of grant. We recognized $152,000 of equity compensation expense related to the PRU in the first half of 2011 which includes accelerated expense related to retirement-eligible employees.
 
5.  
Supplemental disclosure of cash flow information:  interest paid, net of amounts capitalized, totaled $873,000 and $540,000 for the six months ended June 30, 2011 and 2010, respectively.  Income taxes paid in the first six months of 2011 was $33,000 compared to $5,000 of income taxes paid in the first six months of 2010.

6.  
The fair values of cash and cash equivalents held at June 30, 2011 and December 31, 2010 were $2.5 million and $2.4 million, respectively.  Pursuant to accounting guidance, cash and cash equivalents for the period presented are considered a Level 1 fair value measurement.
 
7.  
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 loss between the general and limited partners is pro rata across all units outstanding.
 
 
8

 
 
8.  
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 (loss) by business segment. The tables that follow reconcile internally reported income (loss) from operations to externally reported income (loss) from operations by business segment, for the quarters and six months ended June 30, 2011 and 2010:
 
    Fee Timber    
Timberland
                   
Three Months Ended
 
Pope
Resources
   
ORM
Timber
   
Total Fee
   
Management &
   
Real
             
June 30, (Thousands)
 
Timber
   
Funds
   
Timber
   
Consulting
   
Estate
   
Other
   
Consolidated
 
2011
                                         
Revenue internal
    $7,144       $4,300       $11,444       $522       $2,942       $-       $14,908  
Eliminations
    (105 )     -       (105 )     (522 )     (12 )     -       (639 )
Revenue external
    7,039       4,300       11,339       -       2,930       -       14,269  
                                                         
Cost of timber and land sold
    (3,030 )     (3,687 )     (6,717 )     -       (344 )     -       (7,061 )
                                                         
Operating, general and
                                                       
   administrative expenses internal
    (942 )     (900 )     (1,842 )     (459 )     (922 )     (1,164 )     (4,387 )
Eliminations
    12       522       534       105       -       -       639  
Operating, general and
                                                       
   administrative expenses external
    (930 )     (378 )     (1,308 )     (354 )     (922 )     (1,164 )     (3,748 )
                                                         
Income (loss) from operations
                                                 
   internal
    3,172       (287 )     2,885       63       1,676       (1,164 )     3,460  
Eliminations
    (93 )     522       429       (417 )     (12 )     -       -  
Income (loss) from operations
                                                 
   external
    $3,079       $235       $3,314       ($354 )     $1,664       ($1,164 )     $3,460  
                                                         
2010
                                                       
Revenue internal
    $6,420       $1,428       $7,848       $337       $288       $-       $8,473  
Eliminations
    (35 )     -       (35 )     (337 )     (12 )     -       (384 )
Revenue external
    6,385       1,428       7,813       -       276       -       8,089  
                                                         
Cost of timber and land sold
    (2,570 )     (1,253 )     (3,823 )     -       (2 )     -       (3,825 )
                                                         
Operating, general and
                                                       
   administrative expenses internal
    (837 )     (435 )     (1,272 )     (423 )     (1,370 )     (1,452 )     (4,517 )
Eliminations
    12       324       336       48       -       -       384  
Operating, general and
                                                       
   administrative expenses external
    (825 )     (111 )     (936 )     (375 )     (1,370 )     (1,452 )     (4,133 )
                                                         
Income (loss) from operations
                                                 
   internal
    3,013       (260 )     2,753       (86 )     (1,084 )     (1,452 )     131  
Eliminations
    (23 )     324       301       (289 )     (12 )     -       -  
Income (loss) from operations
                                                 
   external
    $2,990       $64       $3,054       ($375 )     ($1,096 )     ($1,452 )     $131  
 
 
9

 
 
    Fee Timber     
Timberland
                   
Six Months Ended
 
Pope
Resources
   
ORM
Timber
   
Total
   
Management &
   
Real
             
June 30, (Thousands)
 
Timber
   
Funds
   
Fee Timber
   
Consulting
   
Estate
   
Other
   
Consolidated
 
2011
                                         
Revenue internal
    $18,584       $10,436       $29,020       $1,089       $3,169       $-       $33,278  
Eliminations
    (222 )     -       (222 )     (1,089 )     (24 )     -       (1,335 )
Revenue external
    18,362       10,436       28,798       -       3,145       -       31,943  
                                                         
Cost of timber and land sold
    (7,538 )     (8,035 )     (15,573 )     -       (344 )     -       (15,917 )
                                                         
Operating, general and
                                                       
   administrative expenses internal
    (2,110 )     (1,790 )     (3,900 )     (1,003 )     (1,994 )     (2,242 )     (9,139 )
Eliminations
    27       1,089       1,116       219       -       -       1,335  
Operating, general and
                                                       
   administrative expenses external
    (2,083 )     (701 )     (2,784 )     (784 )     (1,994 )     (2,242 )     (7,804 )
                                                         
Income (loss) from operations
                                                 
   internal
    8,936       611       9,547       86       831       (2,242 )     8,222  
Eliminations
    (195 )     1,089       894       (870 )     (24 )     -       -  
Income (loss) from operations
                                                 
   external
    $8,741       $1,700       $10,441       ($784 )     $807       ($2,242 )     $8,222  
                                                         
2010
                                                       
Revenue internal
    $11,923       $1,706       $13,629       $590       $504       $-       $14,723  
Eliminations
    (54 )     -       (54 )     (590 )     (24 )     -       (668 )
Revenue external
    11,869       1,706       13,575       -       480       -       14,055  
                                                         
Cost of timber and land sold external
    (5,099 )     (1,329 )     (6,428 )     -       (3 )     -       (6,431 )
                                                         
Operating, general and
                                                       
   administrative expenses internal
    (1,598 )     (819 )     (2,417 )     (680 )     (2,099 )     (2,393 )     (7,589 )
Eliminations
    27       577       604       64       -       -       668  
Operating, general and
                                                       
   administrative expenses external
    (1,571 )     (242 )     (1,813 )     (616 )     (2,099 )     (2,393 )     (6,921 )
                                                         
Income (loss) from operations
                                                 
   internal
    5,226       (442 )     4,784       (90 )     (1,598 )     (2,393 )     703  
Eliminations
    (27 )     577       550       (526 )     (24 )     -       -  
Income (loss) from operations
                                                 
   external
    $5,199       $135       $5,334       ($616 )     ($1,622 )     ($2,393 )     $703  
 
 
10

 
 
9.  
The Funds were formed by Olympic Resource Management LLC (ORMLLC) for the purpose of attracting capital to purchase timberlands.  The objective of these Funds is to generate a return on investments through the acquisition, management, value enhancement and sale of timberland properties.  Both Funds will operate for a term of ten years from the end of the drawdown period, with Fund I terminating August 2017 and Fund II terminating March 2021.  Pope Resources and ORMLLC together own 20% of each Fund and both are consolidated into the Partnership’s financial statements.  The Funds’ statements of operations included management fees paid to ORMLLC which are eliminated in consolidation.  The Partnership’s consolidated balance sheet included assets and liabilities of the Funds as of June 30, 2011 and December 31, 2010, which were as follows:

ORM Timber Funds
             
(Thousands)
 
June 30, 2011
   
December 31, 2010
 
Assets:
           
Cash and cash equivalents
    $2,291       $2,186  
Other current assets
    391       413  
  Total current assets
    2,682       2,599  
Timber and roads, net
    121,601       125,456  
Timberlands
    18,747       18,607  
Other assets
    133       141  
    Total assets
    $143,163       146,803  
Liabilities and equity:
               
Current liabilities
    $1,151       $954  
Current portion of long-term debt
    31       30  
Long-term debt
    11,052       11,068  
  Total liabilities
    12,234       12,052  
Funds' Equity
    130,929       134,751  
    Total liabilities and equity
    $143,163       $146,803  

10.  
The Partnership's long-term debt is not actively traded and, as such, fair values were estimated using discounted cash flow analyses, based on the Partnership’s current estimated incremental borrowing rates for similar types of borrowing arrangements, which are considered level 3 inputs.  As of June 30, 2011 and December 31, 2010, consolidated fixed-rate debt outstanding had a fair value of approximately $43.5 million and $41.9 million, respectively:
 
During the second quarter of 2011, the Partnership had net incremental borrowings of $33,000 on its operating line of credit, keeping the outstanding borrowings flat at $5.3 million for both March 31, 2011 and June 30, 2011.  For the six months ended June 30, 2011, we repaid $4.3 million on the operating line of credit, reducing outstanding borrowings from $9.6 million at December 31, 2010.  The outstanding borrowings are recorded within long-term debt because the line of credit does not mature until 2013 and predictability of cash flows in light of operating needs is not reliable enough to suggest a meaningful and accurate bifurcation of what portion of the line of credit can or will be paid down in the near term.
 
Accrued interest relating to all debt instruments was $489,000 at June 30, 2011, and is included in accrued liabilities.
 
11.  
The Partnership has an accrual for estimated environmental remediation costs of $1.8 million as of June 30, 2011 and $1.9 million as of December 31, 2010.  The environmental remediation liability represents estimated payments to be made to monitor and remedy certain areas in and around the townsite and millsite at Port Gamble, Washington, and at Port Ludlow, Washington.
 
During the second quarter, the Washington State Department of Ecology (DOE) received comments on its Baywide and Millsite Remedial Investigation and Feasibility Study (RI/FS) reports from tribal stakeholders following an extended public comment period.  DOE has agreed to modify the RI/FS by the end of 2011, contemporaneously with development of a clean-up action plan and consent decree.
 
 
11

 
 
 
Additionally, during the second quarter of 2011 the Partnership recorded a charge of $77,000 relating to final expenses incurred associated with a second and separate remediation effort completed during the quarter at Port Gamble.  This brings the six-month charge for this project to $344,000.
 
The environmental remediation accrual also contains costs estimated in connection with a site located within the resort community of Port Ludlow. During the second quarter of 2011, additional investigative work was performed to further refine the characterization and extent of the contamination.  During the second half of 2011, we expect to continue monitoring the site with the intent to point toward feasibility of remedies if and when appropriate.
 
The environmental liability at June 30, 2011 is comprised of $224,000 that the Partnership expects to expend in the next 12 months and $1.5 million thereafter.  Statistical models have been used to estimate the liability and suggest a potential aggregate range of loss of $744,000 to $3.8 million.
 
12.  
There were no new accounting pronouncements issued or that became effective during the first half of 2011 that impact the Partnership’s financial statements.
 
 
12

 
 
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 management’s estimates based upon our current goals, in light of management’s knowledge of existing circumstances and expectations about future developments.  Statements about expectations and future performance are “forward looking statements” which describe our goals, objectives and anticipated performance.  These statements 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 the part of this report entitled “Risk Factors” in PART II, ITEM 1A below.  Some of the issues that may have an adverse and material impact on our business, operating results and financial condition include economic conditions that affect consumer demand for our products and the prices we receive for them both domestically and overseas, particularly in certain parts of Asia; government regulation that affects our ability to access our timberlands and harvest logs from those lands; the implications of significant indirect sales to overseas customers, including currency translation, regulatory and tax matters; 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; access to debt financing by our customers as well as ourselves; the impacts of climate change and natural disasters on our timberlands and on surrounding areas; and the potential impacts of fluctuations in foreign currency exchange rates as they affect demand for our products and customers’ ability to pay. From time to time we identify other risks and uncertainties 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”), is 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 the Funds.   When we refer to the timberland owned by the Partnership, we describe it as the Partnership’s tree farms.  We refer to timberland owned by the Funds as the Funds’ tree farms.  When referring collectively to the Partnership’s and Funds’ timberland we will refer to them as the Combined tree farms.  Operations in this segment consist of growing timber to be harvested as logs for sale to export brokers and domestic manufacturers.  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 selling 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, and will not recognize operating income until that project is sold.  In addition, within this segment we sometimes negotiate and sell conservation easements (CE’s) on Fee Timber properties to preclude future development.  Our third business, which we refer to as Timberland Management & Consulting, or “TM&C,” is raising and investing capital from third parties for private equity timber funds, and thereafter managing those funds for the benefit of all investors.
 
 
13

 
 
Our current strategy for adding timberland acreage is centered on our private equity timber fund business model, which consists of raising investment capital from third-party investors and investing that capital, along with our own co-investment, into new timberland properties.  We have raised two timber funds that have placed a combined $150 million in capital under management.  Our 20% co-investment in the Funds, which totals $28 million, affords us a share of the Funds’ operating cash flows while allowing us to earn asset management and timberland management fees as well as incentive fees based upon the overall success of each fund.  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.  We believe our co-investment strategy also boosts our credibility with existing and prospective investors by demonstrating that we have both an operational as well as a financial commitment to the Funds’ successes.  The Funds are consolidated into our financial statements, with 80% of the Funds owned by third parties reflected in our Statement of Operations under the caption “Net (income) loss attributable to noncontrolling interest-ORM Timber Funds.”

Land held for sale in western Washington by our Real Estate segment is suitable primarily for residential and commercial building sites. The markets for these products have recently suffered along with regional and national markets, producing a decline in our sales. The challenges of our Real Estate segment center around how and when to “harvest” a parcel of land and capture the optimum value increment by selling the property, balancing the long-term risks of carrying and developing a property against the potential for income and positive cash flows upon sale.

Revenue and net income declined from the first to the second quarter in spite of continued demand for logs and lumber by China and Korea.  The decline in harvest volume from the Combined tree farms from the first quarter to the second quarter of 2011 was partially due to late winter conditions delaying the start of some scheduled harvest units.  These factors resulted in the harvest of 19 million board feet (MMBF) in the second quarter of 2011 compared to 30 MMBF in the first quarter of 2011 and 14 MMBF harvested in the second quarter of 2010.  For the six months ended June 30, 2011 we harvested 49 MMBF compared to 26 MMBF for the first half of 2010.  We expect the delayed industry-wide second quarter harvest volume and related softening of prices to occur in the third quarter of 2011.  As such, we anticipate weighting more of our planned harvest for the balance of the year to the fourth quarter when prices are expected to recover somewhat from the expected third quarter softening.  We expect our harvest volume for the full year 2011 to be between 78 and 84 MMBF, with the final total depending on the strength or weakness of log markets as well as weather patterns as the year plays itself out.

We have a unit repurchase program which permits repurchases through December 2011.  Between December 2008 and December 2010, we repurchased roughly 125,000 units with a weighted average unit purchase price of $20.04 and we have an unutilized authorization for unit repurchases of $2.5 million.  On December 31, 2010, we repurchased 334,340 units from a single unitholder, outside the scope of the formal repurchase program, for $35.50 per unit (which excludes a $0.05 per unit commission paid on settlement).  The units represented 7.2% of the total units outstanding at that time and were retired.  We did not make any unit repurchases during the first half of 2011 or 2010.

RESULTS OF OPERATIONS

The following table reconciles and compares key revenue and cost elements that impacted our net income (loss) for the respective quarter and year-to-date periods ended June 30, 2011 and June 30, 2010. In addition to the table’s numerical analysis, the explanatory text that follows the table describes certain of these changes by business segment.

 
14

 
 
   
Quarter Ended
   
Six Months Ended
 
   
June 30,
   
June 30,
 
(Thousands)
 
Total
   
Total
 
             
Net income (loss) attributable to Pope Resources' unitholders:
           
2011 period
    $3,287       $6,967  
2010 period
    (1,126 )     (675 )
   Variance
    $4,413       $7,642  
                 
Detail of earnings variance:
               
Fee Timber
               
Log volumes (A)
    $2,256       $10,512  
Log price realizations (B)
    1,223       4,952  
Production costs
    (1,754 )     (5,422 )
Depletion
    (1,140 )     (3,708 )
Other Fee Timber
    (325 )     (1,227 )
Timberland Management & Consulting
               
Operating results
    21       (168 )
Real Estate
               
Land and conservation easement sales
    2,320       2,320  
Timber depletion on HBU sale
    (150 )     (150 )
Other Real Estate
    104       40  
Environmental remediation costs
    486       219  
General & administrative costs
    288       151  
Net interest expense
    (207 )     (404 )
Debt extinguishment costs
    1,250       1,250  
Other (taxes, noncontrolling int., investment gain)
    41       (723 )
Total variance
    $4,413       $7,642  
                 
 
(A) 
Volume variance calculated by extending change in sales volume by the average log sales price for the comparison period.
(B) 
Price variance calculated by extending the change in average realized price by current period volume.
 
Fee Timber
 
Fee Timber results include operations from 114,000 acres of timberland owned by the Partnership and 61,000 acres of timberland owned by the Funds.  Fee Timber revenue is earned primarily from the harvest and sale of logs from these timberlands which are located in western Washington and northwestern Oregon.  To a lesser extent, Fee Timber revenue also includes amounts realized from leasing cellular communication towers and selling gravel and other mineral resources from our timberlands. Our Fee Timber revenue is driven primarily by the volume of timber harvested which is generally expressed in terms of MBF or MMBF. Fee Timber expenses, which consist predominantly of harvest, hauling, and depletion costs, vary directly and roughly proportionately with harvest volume and the resulting revenues.  Revenue and costs related to harvest activities on timberland owned by the Funds are consolidated into this discussion of operations.
 
When discussing our Fee Timber operations, we compare current results to both the previous quarter and the corresponding quarter of the prior year. These comparisons offer an understanding of trends in market price and patterns of harvest volumes that affect Fee Timber operating results. Revenue and operating income for the Fee Timber segment for the quarters ended June 30, 2011, March 31, 2011, and June 30, 2010 were as follows:
 
 
15

 
 
(Millions)
Quarter Ended
Log Sale
Revenue
Mineral,
Cell Tower
& Other
Revenue
Total Fee
Timber
Revenue
Operating
Income
Harvest
Volume
(MMBF)
Partnership tree farms
    $6.6       $0.4       $7.0       $3.1       11  
Funds' tree farms
    4.3       -       4.3       0.2       8  
Total Fee Timber June 30, 2011
    $10.9       $0.4       $11.3       $3.3       19  
                                         
Partnership tree farms
    $11.0       $0.3       $11.3       $5.7       19  
Funds' tree farms
    6.1       -       6.1       1.4       11  
Total Fee Timber March 31, 2011
    $17.1       $0.3       $17.4       $7.1       30  
                                         
Partnership tree farms
    $6.1       $0.3       $6.4       $3.0       11  
Funds' tree farms
    1.4       -       1.4       0.1       3  
Total Fee Timber June 30, 2010
    $7.5       $0.3       $7.8       $3.1       14  
  
Comparing Q2 2011 to Q1 2011. Fee Timber revenue declined $6.1 million, or 35%, from first quarter as a result of an 11 MMBF, or 37%, decrease in volume harvested offset by a modest $18/MBF, or 3%, increase in average log price realized. Second quarter typically marks the beginning of the industry’s peak harvest operations in the Pacific Northwest, when harvest units are most accessible. This pattern typically results in a large volume flow of logs to markets and, subsequently, some softening in log prices as customers have more alternatives for log purchases.  This expected industry-wide expansion of harvest in the second quarter did not fully materialize in 2011 due to unusually late winter conditions that substantially delayed harvest.  The decline in harvest volume from the Combined tree farms from the first quarter to the second quarter of 2011 was a function of both front-end loading of harvest volume into the first quarter and these later winter conditions delaying the start of some scheduled harvest units in the second quarter.  Operating income for the second quarter 2011 decreased by $3.8 million, or 54%, from first quarter primarily as a result of lower harvest volumes.  In addition, the increased costs to harvest units with steep terrain helped to erode stumpage values realized.  The wet spring had the effect of increasing road maintenance costs to mitigate siltation in streams and keep roads passable for harvest operations.  The Funds generated $4.3 million of revenue in the second quarter of 2011 compared with revenue of $6.1 million in the first quarter of 2011.  Fund operating income during the second quarter declined to $235,000 from $1.4 million during the first quarter on a 3 MMBF reduction in harvest.  The decline in operating income was driven by a shift in harvest to units requiring higher cost cable logging in addition to increased road maintenance costs, as was experienced on the Partnership tree farms.

Comparing Q2 2011 to Q2 2010. Fee Timber revenue for the second quarter of 2011 increased by $3.5 million, or 45%, over the comparable period in the prior year.  The increase in revenue is due to a 5 MMBF, or 36%, increase in harvest volume coupled with a $65/MBF, or 13%, increase in average log price realized.  Stronger log pricing in the second quarter of 2011 relative to the comparable period in 2010 was driven by both strong export log markets and the indirect impact of heightened export lumber demand by China, which kept pressure on domestic log prices.  Operating income for the second quarter of 2011 increased $260,000, or 9%, over the second quarter of 2010 on the increased revenue offset by higher road maintenance costs in 2011.  The increase in operating income was muted because second quarter harvest off Fund properties increased from 19% in 2010 to 41% in 2011 and Fund properties have a much higher depletion rate than Partnership properties.  During the second quarter of 2011 Fund revenue more than tripled to $4.3 million from $1.4 million during the same quarter in 2010 on a 5 MMBF, or 167%, increase in harvest volume.  Operating income, however, for the period only increased from $64,000 in 2010 to $235,000 in 2011 because higher harvest and road maintenance costs offset the effects of higher revenue between the two periods.
 
 
16

 
 
(Millions)
Six Months Ended
Log Sale
Revenue
Mineral,
Cell Tower
& Other
Revenue
Total Fee
Timber
Revenue
Operating
Income
Harvest
Volume
(MMBF)
Partnership tree farms
    $17.7       $0.7       $18.4       $8.7       30  
Funds' tree farms
    10.4       -       10.4       1.7       19  
Total Fee Timber June 30, 2011
    $28.1       $0.7       $28.8       $10.4       49  
                                         
Partnership tree farms
    $11.2       $0.7       $11.9       $5.2       23  
Funds' tree farms
    1.4       0.3       1.7       0.1       3  
Total Fee Timber June 30, 2010
    $12.6       $1.0       $13.6       $5.3       26  
 
Comparing YTD 2011 to YTD 2010. For the six months ended June 30, 2011, Fee Timber revenue, operating income, and harvest volume increased $15.2 million, $5.1 million, and 23 MMBF, respectively, over the comparable period in the prior year.  Log prices for the first half of 2011 were $88/MBF, or 18%, higher than the first half of 2010.  This is primarily attributable to the rise of the export market that began in the fourth quarter of 2010 and has continued, albeit with some softening later in the second quarter, through the first six months of 2011.  The surge of the export market motivated us to harvest our planned annual volume as well as begin harvesting deferred volumes that began accumulating in 2008 from both Partnership and Fund tree farms.  Fund revenue and harvest volume increased six-fold during the first half of 2011 compared to the same period in 2010.  Year-to-date operating income for the Funds increased from $135,000 in 2010 to $1.6 million in 2011 on increased harvest volume from the Funds.  The increase in Fund operating income was less dramatic than the increase in revenue would suggest because of the high depletion rates on Fund properties.
 
Log Volume
 
We harvested the following log volumes by species from the Combined timberlands for the quarters ended June 30, 2011, March 31, 2011, and June 30, 2010:
 
Volume (in MBF)
 
Quarter Ended
 
Sawlogs
 
Jun-11
   
% Total
   
Mar-11
   
% Total
   
Jun-10
   
% Total
 
 
Douglas-fir
    10,165       54 %     19,090       63 %     10,734       74 %
 
Whitewood
    5,092       27 %     6,476       21 %     1,323       9 %
 
Cedar
    280       1 %     519       2 %     130       1 %
 
Hardwood
    512       3 %     678       2 %     218       2 %
Pulpwood
                                               
 
All Species
    2,772       15 %     3,551       12 %     2,052       14 %
Total
      18,821       100 %     30,314       100 %     14,457       100 %
 
Comparing Q2 2011 to Q1 2011. Harvest volumes declined 11 MMBF, or 38%, from the first to the second quarter of 2011 as a result of both front-end loading of harvest volume into the first quarter and unusually late winter conditions preventing access to planned harvest units in the second quarter.
 
With the surge in export demand from China, which is largely species indifferent, the share of whitewoods sold to the export markets has been steadily increasing since the fourth quarter of 2010, prompting us to shift to harvest units with a greater proportion of whitewoods volume.  During the second quarter of 2011, Douglas-fir comprised 70% of the 11 MMBF harvested from the Partnership’s tree farms.  On the other hand, the Funds’ tree farm second quarter 2011 harvest of 8 MMBF consisted of 50% whitewood and just 31% Douglas-fir, bringing the Douglas-fir component for Combined tree farms in at 54% of the total harvest and whitewoods at 27%.  Similarly, in the first quarter of 2011, Douglas-fir harvest made up approximately 75% of the total volume harvested from the Partnership’s tree farms while the Funds Douglas-fir harvest component was only 28% of total Fund volume harvested.  Blending these divergent species patterns yielded a Combined Q1 2011 harvest mix of 63% Douglas-fir and 21% whitewood.   While emphasizing whitewood harvests would normally result in lower average log realizations, the strong demand from China and Korea that was largely indifferent as to species tempered this expected price-dampening effect.  With log deliveries to sawmills curtailed due to continuing soft domestic lumber demand, the resulting shortage of sawmill residual chips produced greater demand for chips from whole logs, thus driving up pulpwood prices.  As a result, pulpwood volumes increased to 15% of total second quarter 2011 harvest from 12% of total first quarter 2011 harvest, notwithstanding our shift in harvest mix to stands with a heavier mix of sawlogs.
 
 
17

 
 
Comparing Q2 2011 to Q2 2010. We increased harvest volumes by 30% in the second quarter of 2011 over the second quarter of 2010 to take advantage of price surges in the export log market, which was much stronger than during the early part of 2010.  However, the shift in mix to include higher proportions of whitewood reflects the 2011 start-up of harvest in the Funds.  In the second quarter of 2010, we harvested 3 MMBF from the Funds’ tree farms compared to 8 MMBF harvested in the second quarter of 2011.  In the second quarter of 2011, approximately 76% of the whitewood harvest came from the Funds’ tree farms, which served to increase the whitewood mix from 9% in 2010 to 27% in 2011 and reduce the Douglas-fir mix from 74% in 2010 to 54% in 2011. Cedar volumes stayed constant from 2010 to 2011, while hardwood and pulpwood increased modestly by 1% to 3% and 15%, respectively.
 
Comparing YTD 2011 to YTD 2010. We harvested the following log volumes by species from the Combined timberlands for the six months ended June 30, 2011 and June 30, 2010:
 
Volume (in MBF):
 
Six Months Ended
 
Sawlogs
 
Jun-11
   
% Total
   
Jun-10
   
% Total
 
 
Douglas-fir
    29,255       60 %     19,757       76 %
 
Whitewood
    11,568       23 %     1,810       7 %
 
Cedar
    799       2 %     276       1 %
 
Hardwood
    1,190       2 %     307       1 %
Pulpwood
                               
 
All Species
    6,323