-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, IPnBz4lqVFmVdYm6kedLJ+unUphMJFU+JAKvqUhlfijTV5ylF05BEZanC6m9aT56 Zw3jarzSLI4OGeWyb8ojnQ== 0001188112-07-000710.txt : 20070316 0001188112-07-000710.hdr.sgml : 20070316 20070316084614 ACCESSION NUMBER: 0001188112-07-000710 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 6 CONFORMED PERIOD OF REPORT: 20061231 FILED AS OF DATE: 20070316 DATE AS OF CHANGE: 20070316 FILER: COMPANY DATA: COMPANY CONFORMED NAME: ISRAMCO INC CENTRAL INDEX KEY: 0000719209 STANDARD INDUSTRIAL CLASSIFICATION: CRUDE PETROLEUM & NATURAL GAS [1311] IRS NUMBER: 133145265 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: 1934 Act SEC FILE NUMBER: 000-12500 FILM NUMBER: 07698065 BUSINESS ADDRESS: STREET 1: 1770 ST JAMES PL STREET 2: STE 607 CITY: HOUSTON STATE: TX ZIP: 77056 BUSINESS PHONE: 7136213882 MAIL ADDRESS: STREET 1: 1770 ST JAMES PLACE STREET 2: SUITE 607 CITY: HOUSTON STATE: TX ZIP: 77056 10-K 1 t13372_10k.txt FORM 10-K UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-K MARK ONE: [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE FISCAL YEAR ENDED DECEMBER 31, 2006 [_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 COMMISSION FILE NUMBER: 0-12500 ISRAMCO, INC. (Exact name of registrant as specified in its charter) Delaware 13-3145265 (State or Other Jurisdiction IRS Employer Identification No.) of Incorporation) 11767 KATY FREEWAY, HOUSTON, TX 77079 (Address of Principal Executive Offices) 713-621-3882 (Registrant's Telephone Number, including Area Code) Securities registered under Section 12(b) of the Exchange Act: None Securities registered under Section 12(g) of the Exchange Act: Common Stock, par value $0.01 (Title of Class) Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes [_] No [X] Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Securities Act of 1933. Yes [_] No [x] Indicate by check mark whether the issuer (1) has filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act during the past 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. [X] Yes [_] No Indicate by check mark if disclosure of delinquent filers in response to Item 405 of Regulation S-K is not contained in this Form, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [X] Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of "accelerated filer and large accelerated filer" in Rule 12b-2 of the Exchange Act. Large accelerated filer [_] Accelerated filer [_] Non-accelerated filer [X] Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Securities Exchange Act). Yes [_] No [x] As of March 13, 2007 there were 2,717,691 shares of the Registrant's common stock par value $0.01 per share ("Common Stock") outstanding. The aggregate market value of the Common Stock held by non-affiliates of the Registrant at March 13, 2007 was approximately $46.6 million. Such market value was calculated using the closing price of the Common Stock as of such date reported on the NASDAQ Market. DOCUMENTS INCORPORATED BY REFERENCE The information called for in Items 10, 11, 12 and 14 in Part III will be contained in the issuer's definitive proxy statement which the issuer intends to file within 120 days after the end of the Issuer's fiscal year ended December 31, 2006 and such information is incorporated herein by reference. 1 ISRAMCO, INC. 2006 FORM 10-K ANNUAL REPORT TABLE OF CONTENTS PART I ITEM 1. BUSINESS........................................................3 ITEM 1A. RISK FACTORS...................................................11 ITEM 1B. UNRESOLVED STAFF COMMENTS......................................15 ITEM 2. PROPERTIES.....................................................15 ITEM 3. LEGAL PROCEEDINGS..............................................15 ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS............15 PART II ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.......15 ITEM 6. SELECTED FINANCIAL DATA........................................16 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION....18 ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKS....24 ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA....................24 ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE....................................24 ITEM 9A. CONTROLS AND PROCEDURES........................................25 ITEM 9B. OTHER INFORMATION..............................................25 PART III ITEM 10. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS; COMPLIANCE WITH SECTION 16(A) OF THE EXCHANGE ACT...........25 ITEM 11. EXECUTIVE COMPENSATION.........................................25 ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS.............................25 ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.................25 ITEM 14. PRINCIPAL ACCOUNTANT FEES & SERVICES...........................25 ITEM 15. EXHIBITS.......................................................28 2 FORWARD LOOKING STATEMENTS CERTAIN STATEMENTS MADE IN THIS ANNUAL REPORT ON FORM 10-K ARE "FORWARD-LOOKING STATEMENTS" WITHIN THE MEANING OF THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995. FORWARD-LOOKING STATEMENTS CAN BE IDENTIFIED BY TERMINOLOGY SUCH AS "MAY", "WILL", "SHOULD", "EXPECTS", "INTENDS", "ANTICIPATES", "BELIEVES", "ESTIMATES", "PREDICTS", OR "CONTINUE" OR THE NEGATIVE OF THESE TERMS OR OTHER COMPARABLE TERMINOLOGY AND INCLUDE, WITHOUT LIMITATION, STATEMENTS BELOW REGARDING EXPLORATION AND DRILLING PLANS, FUTURE GENERAL AND ADMINISTRATIVE EXPENSES, FUTURE GROWTH, FUTURE EXPLORATION, FUTURE GEOPHYSICAL AND GEOLOGICAL DATA, GENERATION OF ADDITIONAL PROPERTIES, RESERVES, NEW PROSPECTS AND DRILLING LOCATIONS, FUTURE CAPITAL EXPENDITURES, SUFFICIENCY OF WORKING CAPITAL, ABILITY TO RAISE ADDITIONAL CAPITAL, PROJECTED CASH FLOWS FROM OPERATIONS, OUTCOME OF ANY LEGAL PROCEEDINGS, DRILLING PLANS, THE NUMBER, TIMING OR RESULTS OF ANY WELLS, INTERPRETATION AND RESULTS OF SEISMIC SURVEYS OR SEISMIC DATA, FUTURE PRODUCTION OR RESERVES, LEASE OPTIONS OR RIGHTS, PARTICIPATION OF OPERATING PARTNERS, CONTINUED RECEIPT OF ROYALTIES, AND ANY OTHER STATEMENTS REGARDING FUTURE OPERATIONS, FINANCIAL RESULTS, OPPORTUNITIES, GROWTH, BUSINESS PLANS AND STRATEGY. BECAUSE FORWARD-LOOKING STATEMENTS INVOLVE RISKS AND UNCERTAINTIES, THERE ARE IMPORTANT FACTORS THAT COULD CAUSE ACTUAL RESULTS TO DIFFER MATERIALLY FROM THOSE EXPRESSED OR IMPLIED BY THESE FORWARD-LOOKING STATEMENTS. ALTHOUGH THE COMPANY BELIEVES THAT EXPECTATIONS REFLECTED IN THE FORWARD-LOOKING STATEMENTS ARE REASONABLE, IT CANNOT GUARANTEE FUTURE RESULTS, PERFORMANCE OR ACHIEVEMENTS. MOREOVER, NEITHER THE COMPANY NOR ANY OTHER PERSON ASSUMES RESPONSIBILITY FOR THE ACCURACY AND COMPLETENESS OF THESE FORWARD-LOOKING STATEMENTS. THE COMPANY IS UNDER NO DUTY TO UPDATE ANY FORWARD-LOOKING STATEMENTS AFTER THE DATE OF THIS REPORT TO CONFORM SUCH STATEMENTS TO ACTUAL RESULTS. PART I ITEM 1. BUSINESS GENERAL Isramco, Inc. ("Isramco" or the "Company") was incorporated in Delaware in 1982 and is engaged in the exploration for and production of oil and gas in Israel and in the United States. In Israel, the Company holds a participation interest in two long- term off-shore leases and serves as the operator of one of those leases. See "Summary of exploration efforts in Israel". In the United States, the Company, through its wholly-owned subsidiaries, Jay Petroleum LLC ("Jay Petroleum") and Jay Management LLC ("Jay Management"), is involved in oil and gas exploration and production in the United States. Jay Petroleum owns varying working interests in oil and gas wells in Louisiana, Texas, Oklahoma and Wyoming. Independent estimates of the reserves held by Jay Petroleum as of December 31, 2006 are approximately 74,110 net barrels of proved developed producing oil and 1,100 net MMCFs of proved developed producing natural gas. In March 2007, the Company, through a newly created Texas limited liability company, purchased additional oil and gas properties (including 650 oil and gas wells) located in Texas and New Mexico. See "Summary of Exploration Efforts in United States". THE OPERATOR OF THE MED ASHDOD LEASE Isramco is currently the operator of the Med Ashdod Lease in offshore Israel under a joint operating agreement (the "JOA") entered into among the participants in the lease, As operator, Isramco carries out all the operations contemplated in the JOA, including directing the oil exploration and drilling activities of the venture, within the framework of work programs and budgets approved by the participants in the venture. Isramco may be removed as operator for cause by notice in writing given by two or more of the other parties representing at least 65% of the total interests in the lease. Under the JOA, each participant is responsible for the costs, expenses and obligations incurred in relation to the lease area in proportion to its rights and interests in the lease. As operator, Isramco charges the venture participants for all costs incurred in connection with the exploration and drilling activities conducted by the Med Ashdod venture and is entitled to receive a fee for its administrative overhead equal to 6% of all direct charges or minimum monthly compensation of $6,000 per the lease. During the years ended December 31, 2006 and 2005, Isramco was paid a total of $69,000 and $977,000, respectively, as operator fees. 3 With respect to the Med Yavne Lease, Isramco furnishes to BG International Limited, a member of the British Gas Group ("BG"), the operator of the lease, consulting services of an administrative and technical nature for which it receives a monthly fee equal to $10,000. GENERAL PARTNER OF THE ISRAMCO NEGEV 2 LIMITED PARTNERSHIP In 1989 Isramco transferred a substantial portion of its working interest in certain oil and gas assets in Israel to Isramco Negev 2 Limited Partnership, an Israeli limited partnership organized for the purpose of the exploration and the production of oil and gas in Israel (the "Limited Partnership") In exchange for the working interests, the Limited Partnership granted to Isramco certain overriding royalties. In 1992, Isramco transferred to the Limited Partnership additional rights in exchange for additional overriding royalties and reimbursement of expenses. Isramco formed Isramco Oil and Gas Ltd. ("IOG"), an Israeli company and Isramco's wholly-owned subsidiary to act as the general partner for the Limited Partnership and also formed Isramco Management (1988) Ltd., an Israeli company and Isramco's wholly-owned subsidiary to act as the limited partner. The limited partner is the nominee of Limited Partnership units held by public investors in Israel. Pursuant to the Limited Partnership Agreement and the Trust Agreement, a supervisor was appointed on behalf of the Limited Partnership unit holders, with sole authority to appoint the sole director for Isramco Management (1988) Ltd. and to supervise its activities on behalf of and for the benefit of the Limited Partnership unit holders. Although control and management of the Limited Partnership rests with the general partner, matters involving certain rights of the Limited Partnership unit holders are subject to the approval of the supervisor and in certain instances the approval of the Limited Partnership unit holders. The firm of Igal Brightman & Co., Accountants and Mr. David Valiano, Accountant have been appointed as supervisors. Through IOG, Isramco currently receives a management fee of $40,000 per month from the Limited Partnership for office space, management and other services. Isramco currently holds 8.17% of the issued Limited Partnership units and IOG holds an additional 0.008% of the Limited Partnership units. On December 31, 2006, the Limited Partnership had cash, cash equivalents, certificates of deposit and marketable securities with a value of approximately $136 million. Additionally, IOG (as the general partner of the Limited Partnership) is entitled to 5% overriding royalties in certain petroleum assets held by the Limited Partnership. NON-OIL AND GAS PROPERTIES In June 2002, Isramco purchased non-oil and gas producing real estate located in Israel at an aggregate cost of $1,887,000. In January 2004, Isramco entered into an agreement with a related entity pursuant to which the property was leased to such entity for a 24 month period at a monthly rent of $7,000. On January 1, 2006, Isramco entered into a new agreement with a related entity pursuant to which a significantly smaller part of the property is leased to such entity for a 24-month period at a monthly rent of $550. In March 2004, Isramco purchased a luxury cruise liner for aggregate consideration of $8,050,000. Isramco, through its wholly owned subsidiary, Magic 1 Cruise Line Corp., a British Virgin Island corporation ("Magic 1 Corp."), leased the vessel to European based tour operator from April 2005 through October 2005 and from April 6, 2006 through November 5, 2006. In December 2006, Isramco sold all of the outstanding share capital of Magic 1 Corp. to an unrelated third party for total consideration of approximately $2.15 million. The consideration paid to Isramco included the purchaser's assumption of an outstanding loan in the principal amount of $3.3 million. Isramco's decision to sell its holdings in Magic is primarily attributable to Isramco's decision to focus principally on the oil and gas business. Following the sale, Isramco is no longer engaged in the business of cruise lines. OIL AND GAS VENTURES AND PETROLEUM ASSETS OIL AND GAS LEASES LOCATED IN ISRAEL The table below sets forth the Working Interests of Isramco and all affiliated and non-affiliated participants in the leases in Israel, the total acreage of each lease, and the expiration dates of each of the leases as of December 31, 2006. Isramco also holds Overriding Royalties in the leases. See "Table of Overriding Royalties". 4 TABLE OF WORKING INTEREST IN THE LEASES(1) (% INTEREST OF 100%)
NAME OF PARTICIPANT MICHAL & MATAN MED YAVNE LEASE* MED ASHDOD LEASE**(3) - ------------------------ ---------------------- ---------------- --------------------- Licenses Isramco 0.4584 0.3625 Affiliates Isramco Negev 2, Limited 27.50 32.411 19.1370 Partnership I.O.C. 7.800 7.800 I.N.O.C. Dead Sea -- 5.0525 Limited Partnership Naphtha 1.8033 -- Naphtha Explorations 2.2826 1.8411 Limited Partnership JOEL 2.8807 -- Equital 2.1639 -- Non-affiliated entities 72.50 50.2 65.8069 Total 100.000 100.000 Area (acres) 175,000 13,100 61,800 Expiration Date (2) 12/31/2008 6/10/2030 6/15/2030
* The lease was granted in June 2000 and is scheduled to expire in June 2030. ** The lease was granted in January 2002 and is scheduled to expire in June 2030. (1) All of the oil and gas assets are subject to a 12.5% Overriding Royalty due to the Government of Israel under the Petroleum Law. (2) The expiration dates are subject to the fulfillment of applicable provisions of the Israel Petroleum Law and Regulations, and the conditions and work obligations of each of the above leases. (3) Under the Grant Agreement with the Government of Israel, the government may claim that Isramco is contingently obligated to repay to the government the grant monies in the amount of $110,000 and to pay a 6.5% Overriding Royalty on all production from the area. OVERRIDING ROYALTIES HELD BY ISRAMCO Isramco holds Overriding Royalties in certain oil and gas assets. Additionally, Isramco is entitled to receive from certain participants in the Med Yavne and Med Ashdod leases overriding royalties equal to 2% of each such participant's rights to any oil/gas produced within those leases. Isramco holds the following Overriding Royalties: 5 TABLE OF OVERRIDING ROYALTIES From the Limited Partnership, on the first 10% of the Limited Partnership's share of the following leases Before Payout After Payout ------------- ------------ Med Yavne Lease* 1% 13% Med Ashdod Lease** 1% 13% From JOEL On 8% of JOEL's Interest Before Payout After Payout ------------- ------------ Med Ashdod Lease 2.5% 12.5% From Delek Oil Exploration Ltd. (DOEX) (1)(2) On 6% of DOEX's Interest Before Payout After Payout ------------- ------------ Med Ashdod Lease 2.5% 12.5% From Naphtha, Naphtha Exploration LP, Joel, Equital, INOC Dead Sea L P on oil and/or gas produced on the Med Leases 2% To IOC On Certain petroleum rights held by Limited Partnership 5% Michal & Matan Licenses from Isramco Negev 2, Limited Partnership 5% * A 30 year lease covering an area of approximately 53 square kilometers (including the area of the gas discovery) was granted in June 2000. ** A 30-year lease covering an area of approximately 250 square kilometers (including the area of the gas discovery) was granted in January 2002. (1) The Working Interests of Delek and DOEX have been assigned to Delek Drilling Limited Partnership. (2) The prospectus of the Delek Limited Partnership dated January 26, 1994 states that the interest which Delek L.P., received from Delek and DOEX is free from any encumbrances except that Isramco may argue that the interests are subject to an Overriding Royalty. Isramco has no information available to it as to why this statement is in the Delek L.P. prospectus. Isramco has no direct financial obligation with regard to the Overriding Royalties, however, in the event the Limited Partnership, JOEL, DOEX or Delek, fails to fund its obligation with regard to the leases to which an Overriding Royalty exists, Isramco could lose its interest in such Overriding Royalty. See also "Table of Working Interests" above. SUMMARY OF EXPLORATION EFFORTS IN ISRAEL MED YAVNE LEASE Based on the gas finds known as "Or 1" and "Or South" , a 30-year lease was granted in June 2000 (hereinafter: the "Med Yavne Lease"). The Med Yavne Lease covers 53 square kilometers (approximately 13,000 acres) offshore Israel. The operator of the Med Yavne Lease is BG International Limited, a member of the British Gas Group ("BG"). According to the operator's estimates, which are based on the results of the drillings in the Or 1, and a three-dimensional seismic survey performed in the area of the lease, the recoverable gas reserves of Or 1 reserve are estimated at 51 billion cubic feet. In November 2002 and in January 2007, Isramco received an opinion from a consulting firm in the United States that performed a techno-economic examination for the development of the Or 1 reserve. The opinion indicates that, under certain assumptions, development of the 6 reserve by connection to a nearby platform (at a distance of seven miles) and from there via an existing transportation pipeline to the coast, may be economically feasible. It is the intention of the partners in Med Yavne Lease to cooperate with independent third parties to jointly develop Or 1 reserve with their gas reserve. Isramco's participation interest of the Med Yavne Lease is 0.4585% and the participation of Isramco Negev 2 LP is 32.411%. MED ASHDOD LEASE Following the results of "Nir 1" drilling, a 30 year lease was granted in January 2002. The Med Ashdod Lease covers approximately 250 square kilometers (approximately 62,000 acres) offshore Israel. Isramco serves as the operator of the Med Ashdod Lease and holds a 0.3625% participation interest therein. During fiscal 2006, Isramco continued to seek out a drilling rig in order to drill the "Yam 3" well. As the date of this report, Isramco cannot evaluate where and if the well will be spud. MATAN & MICHAL LICENSES A Company affiliate, Isramco Negev 2 Ltd., currently holds a 27.5% participation interest in two offshore licenses covering an area of approximately 175,000 acres offshore Israel known as "Matan and Michal". The licenses are in effect through 2008. The remaining interests are held by unrelated third parties. In July 2006, Noble Energy Mediterranean Ltd. purchased a 33% interest in the licenses and following such purchase was appointed operator of the licenses, In November 2006, the operator presented to the license participants a work plan to drill the "Tamar 1" well within a proposed budget of $69 million. The operator also presented additional work plans for 2006 and 2007 within an aggregate proposed budget of approximately $2.2 million. All the license participants gave notice of their approval of their proportionate share of the proposed budget and the work plans. As of the filing of this report, no agreement with respect to the drilling has been signed. SUMMARY OF EXPLORATION EFFORTS IN THE UNITED STATES Isramco, through its wholly-owned subsidiaries, Jay Petroleum LLC ("Jay Petroleum") and Jay Management LLC ("Jay Management"), is involved in oil and gas production in the United States. Jay Petroleum owns varying working interests in oil and gas wells in Louisiana, Texas, Oklahoma and Wyoming. Independent estimates of the reserves held by Jay Petroleum as of December 31, 2006 are approximately 74,110 net barrels of proved developed producing oil and 1,100 net MMCFs of proved developed producing natural gas. Jay Management acts as the operator of certain of the producing oil and gas interests owned or acquired by Jay Petroleum. During 2006 Jay Petroleum has participated in the drilling and completion of 19 gas wells in Parker County, Texas and has a 15 percent working interest non-operated position in some 13,000 acres. The objective producing formation is the Barnett Shale. All the wells are directionally drilled to maximize gas recovery. The operator is XTO Energy, Inc. in Fort Worth, Texas. The pipeline connection was initiated in late December 2006 and will be completed in Spring 2007. On October 19, 2006, Jay Petroleum LLC and Delek Energy US Inc each purchased a 50% working interest in 2,800 non producing Barnett Shale acreages in Wise County Texas from McCommons Oil Company. Jay Petroleum and Delek each paid $1.2 million for these rights. In addition, Jay Management LLC, another wholly owned Isramco subsidiary, and Delek entered into a joint operating agreement as of October 19, 2006 for Jay Management to serve as operator of the acreages. A 3D seismic survey of the area and two exploratory gas wells are currently planned and, based on the results thereof, additional drillings will be considered. In early 2006, Isramco drilled and completed the Arco Hughes #5 gas well located in the Castillo Field, Jasper Co., Texas. The well is presently shut-in waiting for a pipeline connection. Jay is presently studying the potential of the area for further development. TRANSACTION WITH FIVE STATES Isramco and Five States Energy Company, L.L.C. ("Five States") entered into a certain Purchase and Sale Agreement (the "Purchase Agreement"), pursuant to which Isramco agreed to purchase from Five States, through Isramco Energy LLC, a Texas limited liability company that is wholly owned by Isramco ("Isramco Energy"), certain oil and gas properties (including 650 oil and gas wells) located in Texas and New Mexico. 7 The closing of the transactions contemplated in the Purchase Agreement was completed on March 2, 2007 for an aggregate purchase price of $92 million (the "Purchase Price"). According to an engineering report prepared by an independent consulting company relating to the properties purchased under the Purchase Agreement, the estimated proved developed producing reserves are 1,447,161 net barrels of oil and 20,078,174 net MCF's of natural gas and 1,305,705 net of liquid products. Isramco funded $7.7 million of the Purchase Price from working capital and the balance from a combination of commercial bank loans and loans from related parties. The loans are discussed below. Isramco obtained loans in the total principle amount of $42 million from Naphtha Israel Petroleum Corp. Ltd., the parent company (including through its wholly owned subsidiary IOC-Israel Oil Company Ltd) ("Naphtha") with terms and conditions as below: Pursuant to a Loan Agreement dated as of February 27, 2007 (the "Loan Agreement") with Naphtha, Isramco obtained a loan in the principal amount of $18.5 million. The outstanding principal amount of the loan accrues interest at per annum rate equal to the London Inter-bank Offered Rate (LIBOR) plus 5.5%, not to exceed 11% per annum. Interest is payable at the end of each loan year. Principal plus any accrued and unpaid interest are due and payable on February 26, 2014. Interest after the maturity date accrues at the per annum rate of LIBOR plus 12% until paid in full. At any time, Isramco is entitled to prepay the outstanding amount of the loan without penalty or prepayment. To secure its obligations that may be incurred under the Loan Agreement, Isramco agreed to grant to Naphtha a security interest in certain specified properties held by Jay Petroleum, its wholly owned subsidiary. Naphtha can accelerate the loan and exercise its rights under the collateral upon the occurrence any one or more of the following events of default: (i) Isramco's failure to secure the indebtedness as provided for in the agreement, pay any amount that may become due in connection with the loan within five (5) days of the due date (whether by extension, renewal, acceleration, maturity or otherwise) or fail to make any payment due under any hedge agreement entered into in connection with the transaction, (ii) Isramco's material breach of any of the representations or warranties made in the loan agreement or security instruments or any writing furnished pursuant thereto, (iii) Isramco's failure to observe any undertaking contained in transaction documents if such failure continues for 30 calendar days after notice, (iv) Isramco's insolvency or liquidation or a bankruptcy event or(v) Isramco's criminal indictment or conviction under any law pursuant to which such indictment or conviction can lead to a forfeiture by Isramco of any of the properties securing the loan. Mr. Jackob Maimon, Isramco's president and director is a director of Naphtha and Mr. Haim Tsuff, Isramco's Chief Executive Officer and Chairman is a controlling shareholder of Naphtha. Pursuant to a Loan Agreement dated as of February 27, 2007 (the "Second Loan Agreement") Isramco obtained a loan from Naphtha, in the principal amount of $10.5 million, repayable at the end of seven years. Interest accrues at a per annum rate of LIBOR plus 6%. At any time Isramco can make prepayments without premium or penalty. The Second Loan Agreement is not secured. The other terms of the Second Loan Agreement are identical to the terms of the Loan Agreement. Pursuant to a Loan Agreement dated as of February 27, 2007 (the "Third Loan Agreement ") Isramco obtained a loan from Naphtha, in the principal amount of $12 million, repayable at the end of five years. Interest accrues at a per annum rate of LIBOR plus 6%. At any time Isramco can make prepayments without premium or penalty. The Third Loan is not secured. The other terms of the Third Loan Agreement are identical to the terms of the Loan Agreement. Pursuant to a Loan Agreement dated as of February 26, 2007 Isramco obtained a loan from J.O.E.L Jerusalem Oil Exploration Ltd, a related party ("JOEL"), in the principal amount of $ 7 million, repayable at the end of 3 months. Interest accrues at a per annum rate of 5.36%. Mr. Jackob Maimon, Isramco's president and director is a director of JOEL and Mr. Haim Tsuff, Isramco's Chief Executive Officer and Chairman is a controlling shareholder of JOEL. Pursuant to a Credit Agreement, dated as of March 2, 2007 (the "Credit Agreement") between Isramco Energy and Wells Fargo Bank NA, as administrative agent, Isramco Energy obtained a $35.3 million credit line from Wells Fargo. Amounts outstanding under the credit line are payable by March 1, 2011. Interest on amounts outstanding accrue at a per annum rate equal to LIBOR plus 2%. An Event of Default under the Credit Agreement shall be deemed to have occurred in the event of any one or more of the following: (a) Isramco Energy shall default in the payment or prepayment when due of any principal of or interest on any loan, or any reimbursement obligation for a disbursement made under any letter of credit, or any fees or other amount payable by it under the Credit Agreement or any of the documents entered into in connection therewith (the "Credit Agreement Documents"); (b) Isramco Energy or any of its subsidiaries shall default in the payment when due of any principal of or interest on any of its other debt, or any event specified in any note, agreement, indenture or other document evidencing or relating to any such debt shall occur if the effect of such event is to cause, or (with the giving of any notice or the lapse of time or both) to permit the holder or holders of such debt (or a trustee or agent on behalf of such holder or holders) to cause, such debt to become due prior to its stated maturity; (c) Any representation, warranty or certification made or deemed made pursuant to the Credit Agreement or any other Credit Agreement Document, or any certificate furnished pursuant to the provisions thereof, shall prove to be have been false or misleading as of the time made or furnished in any material respect; (d) Isramco Energy shall (i) default in the performance of any of its obligations under the Credit Agreement (including the obligation to provide audited financial statements on an annual basis and the obligation to report any default, but excluding other affirmative covenants) or (ii) default in the performance of any of the affirmative covenants under the Credit Agreement (excluding the 8 obligation to provide audited financial statements on an annual basis and the obligation to report any default) or in the performance of its obligations under any other Credit Agreement Document (other than payment obligations, which are governed by clause (a) above) and such default shall continue unremedied for a period of thirty (30) days after the earlier to occur of (A) Isramco Energy receiving notice thereof or (B) Isramco Energy otherwise becoming aware of such default; (e) Isramco or any of Isramco Energy's subsidiaries shall default in the performance of any of their respective obligations under the guaranty agreements entered into pursuant to the Credit Agreement (other than the payment of amounts due, which shall have no grace period) and such default shall continue unremedied for a period of thirty (30) days after the earlier to occur of (i) Isramco receiving notice thereof or (ii) Isramco, Isramco Energy or any of its subsidiaries otherwise becoming aware of such default; (f) Isramco Energy shall admit in writing its inability to, or be generally unable to, pay its debts as such debts become due; (g) Isramco Energy shall (i) apply for or consent to the appointment of, or the taking of possession by, a receiver, custodian, trustee or liquidator of itself or all or a substantial part of its property, (ii) make a general assignment for the benefit of creditors, (iii) commence a voluntary case under the Federal Bankruptcy Code (as now or hereafter in effect), (iv) file a petition seeking to take advantage of any other law relating to bankruptcy, insolvency, reorganization, winding-up, liquidation or composition or readjustment of debts, (v) fail to controvert in a timely and appropriate manner, or acquiesce in writing to, any petition filed against it in an involuntary case under the Federal Bankruptcy Code or (vi) take any corporate action for the purpose of effecting any of the foregoing; (h) A proceeding or case shall be commenced, without the application or consent of Isramco Energy, in any court of competent jurisdiction, seeking (i) its liquidation, reorganization, dissolution or winding-up, or the composition or readjustment of its debts, (ii) the appointment of a trustee, receiver, custodian, liquidator or the like of Isramco Energy or all or any substantial part of its assets, (iii) similar relief in respect of Isramco Energy under any law relating to bankruptcy, insolvency, reorganization, winding-up, or composition or adjustment of debts, and such proceeding or case shall continue undismissed, or an order, judgment or decree approving or ordering any of the foregoing shall be entered and continue unstayed and in effect, for a period of 60 days, or (iv) an order for relief against Isramco Energy shall be entered in an involuntary case under the federal bankruptcy code; (i) A judgment or judgments for the payment of money in excess of $100,000 in the aggregate shall be rendered by a court against Isramco Energy or any subsidiary and the same shall not be discharged (or provision shall not be made for such discharge), or a stay of execution thereof shall not be procured by posting of a bond or otherwise, within thirty (30) days from the date of entry thereof and Isramco Energy or such subsidiary shall not, within said period of 30 days, or such longer period during which execution of the same shall have been stayed, appeal therefrom and cause the execution thereof to be stayed during such appeal; (j) The Credit Agreement Documents after delivery thereof shall for any reason, except to the extent permitted by the terms thereof, cease to be in full force and effect and valid, binding and enforceable in accordance with their terms, or cease to create a valid and perfected lien of the priority required thereby on any of the collateral purported to be covered thereby, except to the extent permitted by the terms of the Credit Agreement, or Isramco, Isramco Energy or any of its subsidiaries shall so state in writing; (k) An event having a material adverse effect on Isramco Energy shall occur; (l) Isramco Energy discontinues its usual business or a change of control occurs; (m) Isramco or any of Isramco Energy's subsidiaries takes, suffers or permits to exist any of the events or conditions referred to in paragraphs (f), (g), (h) or (i) or if any provision of any guaranty agreement related thereto shall for any reason cease to be valid and binding on such guarantor or if such guarantor shall so state in writing; (n) Isramco Energy defaults under certain management, operating and consulting agreements entered into with respect to properties for which the lender has a security interest. In addition to including customary affirmative and negative covenants, the Credit Agreement requires Isramco Energy to: (a) maintain a ratio of consolidated current assets to consolidated current liabilities of no less than 1.0 to 1.0 at all times; (b) ensure that its leverage ratio is no more than 3.50 to 1.0 as of the end of each fiscal quarter; (c) ensure that its interest coverage ratio is no more than 2.50 to 1.0 as of the end of each fiscal quarter; (d) ensure that its capital expenditures in any fiscal year do not exceed $2.500,000.; ensure that COPAS charges do not exceed $250 per well per month. Amounts outstanding under the Credit Agreement are secured by a guarantee from Isramco and a pledge by Isramco of the shares of Isramco Energy. Additionally, pursuant to an agreement between Sigma Energy Corporation ("Sigma"), an unrelated party that originated the transaction with Five States, Isramco and Isramco Energy, Isramco Energy paid to Sigma on March 2, 2007, the amount of $300,000 and after Payout (as defined in the Agreement with Sigma), Isramco Energy undertook to assign to Sigma a direct ownership interests equal to 3.75% of the interests acquired by Isramco Energy under the Purchase Agreement. SWAP TRANSACTIONS In connection with the transaction with Five States, Isramco entered into the following swap contracts. 9 1. As at balance sheet date Isramco had 24 swap contracts to sell 264,084 barrels of crude oil during 24 months commencing January 2007 for a total consideration of $17.7 million, and 24 swap contracts to sell 2,853,156 MMBTU of natural gas during 24 months commencing January 2007 for a total consideration of $23.1 million. Subsequent to balance sheet date, in January 2007, Isramco executed reverse contracts for most of the abovementioned contracts and remained with open swap contracts for 23,000 barrels of crude oil for a total consideration of $1.5 million and 376,000 MMBTU of natural gas for a total consideration of $3 million. The above mentioned reverse of swap contracts generated to Isramco a profit of $2.1 million. 2. Following the closing of Five States transaction as stated above, Isramco signed additional swap agreements with Wells Fargo Bank to secure it's future oil and gas prices as follows: (i)Swap contracts to sell 398,918 barrels of crude oil during 46 months commencing March 2007 for a total consideration of $25.4 million. (ii)Swap contracts to sell 29,609,026 MMBTU of natural gas during 46 months commencing March 2007 for a total consideration of $29.6 million. Hereunder are the open swap contracts positions as at March 13, 2007: OIL - ---------------------------------------------------------- MONTHLY FUTURE TOTAL TOTAL QUANTITY PRICE NO' OF QUANTITY AMOUNT BARRELS US$ YEAR MONTHS BARRELS US$ - -------- ------ ----- ------ -------- ---------- 3,000 62.00 2,007 10 30,000 1,860,000 3,000 64.15 2,008 12 36,000 2,309,400 2,700 63.90 2,009 12 32,400 2,070,360 2,700 63.30 2,010 12 32,400 2,050,920 6,341 62.47 2,007 10 63,410 3,961,223 5,516 64.70 2,008 12 66,192 4,282,622 6,096 64.55 2,009 12 73,152 4,721,962 5,447 63.80 2,010 12 65,364 4,170,223 1,000 66.05 2,007 12 12,000 792,600 1,000 68.46 2,008 12 12,000 821,520 ------- ---------- Total 422,918 27,040,830 ======= ========== GAS - ----------------------------------------------------------- MONTHLY FUTURE TOTAL TOTAL QUANTITY PRICE NO' OF QUANTITY AMOUNT MMBTU US$ YEAR MONTHS MMBTU US$ - -------- ------ ----- ------ --------- ---------- 81,107 8.03 2,007 10 811,070 6,512,892 80,876 8.20 2,008 12 970,512 7,958,198 85,874 7.77 2,009 12 1,030,488 8,006,892 79,286 7.49 2,010 12 951,432 7,126,226 20,000 7.87 2,007 12 240,000 1,887,600 13,000 8.37 2,008 12 156,000 1,304,940 --------- ---------- Total 4,159,502 32,796,748 ========= ========== 10 NON-OIL AND GAS PROPERTIES CRUISE LINER In March 2004, Isramco purchased a luxury cruise liner (the "Vessel") for aggregate consideration of $8,050,000. The Vessel, a Bahamas registered ship, contains 270 passenger cabins on nine decks. Isramco leased the Vessel to a tour operator for the period from April 4, 2005 through October 31, 2005 and from April 6, 2006 through November 5, 2006 at a daily rate of $8,000. Under the lease all maintenance and operating costs associated with the vessel were borne by the operator. Title to the Vessel was in Magic 1 Cruise Line Corp., a British Virgin Islands corporation and a wholly owned subsidiary of Isramco ("Magic"). Isramco expended approximately $1.4 million and $1 million in the years 2006 and 2005, respectively, in respect of the maintenance, repairs, renovation and upkeep of the vessel. In addition, following management's assessment conducted in April and May 2006 as part of the preparation of the financial statements for the first quarter of 2006, management determined that there had been a decrease in the fair market value of Isramco's investment in the Magic 1 cruise vessel and, that as a consequence thereof, Isramco believed the investment had been impaired. Accordingly, Isramco recorded as impairment charge in March 2006 in the amount of $2,200,000. On December 31, 2006, Isramco and Chesny Estates Ltd. ("Chesny"), a British Virgin Islands corporation entered into a certain Share Purchase and Sale Agreement, dated as of December 31, 2006 (the "Purchase Agreement"). pursuant to which Isramco sold to Chesny all of the outstanding share capital of Magic, for a purchase price of $2.15 million. The purchase included the assumption by Chesny of a loan in the principal amount of $3.3 million incurred by Magic in connection with the purchase of the cruise liner vessel. Isramco's decision to sell its holdings in Magic is primarily attributable to Isramco's decision to focus principally on the oil and gas business. Following the sale of Magic, Isramco is no longer engaged in the cruise line business. REAL ESTATE IN ISRAEL In June 2002, Isramco purchased non oil and gas producing real estate located in Israel at an aggregate cost of $1,887,000. As of December 1, 2004, Isramco entered into an agreement with a related entity pursuant to which the property is leased to such entity for a 24 month period at a monthly rent of $7,000 through December 31, 2005. On January 1, 2006, Isramco entered into a new agreement with a related entity pursuant to which a significantly smaller part of the property is leased to such entity for a 24-month period at a monthly rent of $550. EMPLOYEES As of March 13, 2006, Isramco had 10 employees at its branch office in Israel and three employees in its office in Houston, Texas. ITEM 1A. RISK FACTORS In addition to the other information contained in this Annual Report on Form 10-K, investors should consider carefully the following risks. If any of these risks occurs, Isramco's business, financial condition or operating results could be adversely affected. RISKS RELATED ISRAMCO'S BUSINESS OIL AND GAS DRILLING IS A SPECULATIVE ACTIVITY AND RISKY Isramco is engaged in the business of oil and natural gas exploration and the resulting development of productive oil and gas wells. Isramco's growth will be materially dependent upon the success of its future drilling program. Drilling for oil and gas involves numerous risks, including the risk that no commercially productive oil or natural gas reservoirs will be encountered. The cost of drilling, completing and operating wells is substantial and uncertain, and drilling operations may be curtailed, delayed or cancelled as a result of a variety of factors beyond Isramco's control, including unexpected drilling conditions, pressure or irregularities in formations, equipment failures or accidents, adverse weather conditions, compliance with governmental requirements and shortages or delays in the availability of drilling rigs or crews and the delivery of equipment. Although Isramco believes that its use of 3-D seismic data and other advanced technology should increase the probability of success of its wells and should reduce average finding costs through elimination of prospects that might otherwise be drilled solely on the basis of 2-D seismic data and other traditional methods, drilling remains an inexact and speculative activity. In addition, the use of 3-D seismic data and such technologies requires greater pre-drilling expenditures than traditional drilling strategies and Isramco could incur losses as a result of such expenditures. Isramco's future drilling activities may not be successful and, if unsuccessful, such failure could have an adverse effect on Isramco's future 11 results of operations and financial condition. Although Isramco may discuss drilling prospects that have been identified or budgeted for, Isramco may ultimately not lease or drill these prospects within the expected time frame, or at all. Isramco may identify prospects through a number of methods, some of which do not include interpretation of 3-D or other seismic data. The drilling and results for these prospects may be particularly uncertain. The final determination with respect to the drilling of any scheduled or budgeted wells will be dependent on a number of factors, including (i) the results of exploration efforts and the acquisition, review and analysis of the seismic data, (ii) the availability of sufficient capital resources to Isramco and the other participants for the drilling of the prospects, (iii) the approval of the prospects by other participants after additional data has been compiled, (iv) economic and industry conditions at the time of drilling, including prevailing and anticipated prices for oil and natural gas and the availability of drilling rigs and crews, (v) Isramco's financial resources and results (vi) the availability of leases and permits on reasonable terms for the prospects and (vii) the payment of royalties to lessors. There can be no assurance that these projects can be successfully developed or that the wells discussed will, if drilled, encounter reservoirs of commercially productive oil or natural gas. There are numerous uncertainties in estimating quantities of proved reserves, including many factors beyond Isramco's control. THE OIL AND NATURAL GAS RESERVE DATA INCLUDED IN THIS REPORT ARE ONLY ESTIMATES AND MAY PROVE TO BE INACCURATE. There are numerous uncertainties inherent in estimating oil and natural gas reserves and their estimated values. The reserve data in this report represent only estimates that may prove to be inaccurate because of these uncertainties. Estimates of economically recoverable oil and natural gas reserves depend upon a number of variable factors, such as historical production from the area compared with production from other producing areas and assumptions concerning effects of regulations by governmental agencies, future oil and natural gas prices, future operating costs, severance and excise taxes, development costs and workover and remedial costs, some or all of these assumptions may in fact vary considerably from actual results. For these reasons, estimates of the economically recoverable quantities of oil and natural gas attributable to any particular group of properties, classifications of such reserves based on risk of recovery, and estimates of the future net cash flows expected therefrom prepared by different engineers or by the same engineers but at different times may vary substantially. Accordingly, reserve estimates may be subject to downward or upward adjustment. Actual production, revenue and expenditures with respect to Isramco's reserves will likely vary from estimates, and such variances may be material. THERE IS A POSSIBILITY THAT ISRAMCO WILL LOSE THE LEASES TO ITS OIL AND GAS PROPERTIES. Isramco's oil and gas revenues are generated through leases to the oil and gas properties or, in the case of Israeli based properties, licenses that, subject to certain conditions, may result in leases being granted. The leases are subject to certain obligations and are renewable at the discretion of various governmental authorities, as such, Isramco may not be able to fulfill its obligations under the leases which may result in the modification or cancellation of such leases, or such leases may not be renewed or may be renewed on terms different from the current leases. The modification or cancellation of Isramco's leases may have a material impact on Isramco's revenues. COMPETITION IN THE INDUSTRY MAY IMPAIR ISRAMCO'S ABILITY TO EXPLORE, DEVELOP AND COMMERCIALIZE ITS OIL AND GAS PROPERTIES. The oil and natural gas industry is very competitive. Competition is particularly intense in the acquisition of prospective oil and natural gas properties and oil and gas reserves. Isramco competes with a substantial number of other companies having larger technical staffs and greater financial and operational resources. Many such companies not only engage in the acquisition, exploration, development and production of oil and natural gas reserves, but also carry on refining operations, electricity generation and the marketing of refined products. Isramco also competes with major and independent oil and gas companies in the marketing and sale of oil and natural gas, and the oil and natural gas industry in general competes with other industries supplying energy and fuel to industrial, commercial and individual consumers. Isramco competes with other oil and natural gas companies in attempting to secure drilling rigs and other equipment necessary for drilling and completion of wells. Such equipment may be in short supply from time to time. ISRAMCO'S BUSINESS MAY BE AFFECTED BY OIL AND GAS PRICE VOLATILITY. Historically, natural gas and oil prices have been volatile. These prices rise and fall based on changes in market demand and changes in the political, regulatory and economic climate and other factors that affect commodities markets that are generally outside of Isramco's control. Some of Isramco's projections and estimates are based on assumptions as to the future prices of natural gas and crude oil. These price assumptions are used for planning purposes. Isramco expects that its assumptions will change over time and that actual prices in the future may differ from its estimates. Any substantial or extended decline in the actual 12 prices of natural gas and/or crude oil may have a material adverse effect on Isramco's financial position and results of operations (including reduced cash flow and borrowing capacity), the quantities of natural gas and crude oil reserves that it can economically produce and the quantity of estimated proved reserves that may be attributed to its properties ISRAMCO HAS NO MEANS TO MARKET ITS OIL AND GAS PRODUCTION WITHOUT THE ASSISTANCE OF THIRD PARTIES. The marketability of Isramco's production depends upon the proximity of its reserves to, and the capacity of, facilities and third party services, including oil and natural gas gathering systems, pipelines, trucking or terminal facilities, and processing facilities. The unavailability or lack of capacity of such services and facilities could impair or delay the production of new wells or the delay or discontinuance of development plans for properties. A shut-in or delay or discontinuance could adversely affect Isramco's financial condition. In addition, regulation of oil and natural gas production transportation in the United States or in other countries may affect its ability to produce and market its oil and natural gas on a profitable basis. THE UNAVAILABILITY OR INCREASED COST OF DRILLING RIGS, EQUIPMENT, SUPPLIES, PERSONNEL AND OILFIELD SERVICES COULD ADVERSELY AFFECT ISRAMCO'S ABILITY TO EXECUTE ON A TIMELY BASIS ON ITS DEVELOPMENT PLANS WITHIN ITS BUDGET. Shortages or an increase in cost of drilling rigs, equipment, supplies or personnel could delay or adversely affect Isramco's operations, which could have a material adverse effect on its business, financial condition and results of operations. In periods of increased drilling activity, Isramco may experience increases in associated costs, including those related to drilling rigs, equipment, supplies and personnel and the services and products of other vendors to the industry. Increased drilling activity in the Texas area also decreases the availability of rigs and associated equipment. These costs may increase further and necessary equipment and services may not be available to us at economical prices. ISRAMCO IS SUBJECT TO RISKS ASSOCIATED WITH INTERNATIONAL OPERATIONS. Isramco conducts business from its facilities in Israel and the United States. Its international operations and activities subject Isramco to a number of risks, including the risk of political and economic instability, difficulty in managing foreign operations, potentially adverse taxes, higher expenses and difficulty in collection of accounts receivable. Although Isramco Israeli subsidiary receives most of its operating funds in U.S. dollars, a portion of its payroll and other expenses and certain of its investments are fixed in the currency of Israel. Because Isramco's financial results are reported in U.S. dollars, they are affected by changes in the value of the various foreign currencies that Isramco uses to make payments in relation to the U.S. dollar. ISRAMCO'S OPERATIONS MAY BE IMPACTED BY CERTAIN RISKS COMMON IN THE INDUSTRY. Isramco's exploration and drilling operations are subject to various risks common in the industry, including cratering, explosions, fires and uncontrollable flows of oil, gas or well fluids. The drilling operations are also subject to the risk that no commercially productive natural gas or oil reserves will be encountered. The cost of drilling, completing and operating wells is often uncertain, and drilling operations may be curtailed, delayed or canceled as a result of a variety of factors, including drilling conditions, pressure or irregularities in formations, equipment failures or accidents and adverse weather conditions. In accordance with industry practice, Isramco maintains insurance against some, but not all, of the risks described above. Isramco cannot provide assurance that its insurance will be adequate to cover losses or liabilities. Also, it cannot predict the continued availability of insurance at premium levels that justify its purchase. GOVERNMENT REGULATION AND LIABILITY FOR ENVIRONMENTAL MATTERS MAY ADVERSELY AFFECT ISRAMCO'S BUSINESS AND RESULTS OF OPERATIONS. Oil and natural gas operations are subject to various federal, state and local government regulations, which may be changed from time to time. Matters subject to regulation include discharge permits for drilling operations, drilling bonds, reports concerning operations, the spacing of wells, unitization and pooling of properties and taxation. From time to time, regulatory agencies have imposed price controls and limitations on production by restricting the rate of flow of oil and natural gas wells below actual production capacity in order to conserve supplies of oil and natural gas. There are federal, state and local laws and regulations 13 primarily relating to protection of human health and the environment applicable to the development, production, handling, storage, transportation and disposal of oil and natural gas, by-products thereof and other substances and materials produced or used in connection with oil and natural gas operations. In addition, Isramco may be liable for environmental damages caused by previous owners of property it purchases or leases. As a result, Isramco may incur substantial liabilities to third parties or governmental entities. Isramco is also subject to changing and extensive tax laws, the effects of which cannot be predicted. The implementation of new, or the modification of existing, laws or regulations could have a material adverse effect on Isramco's business. ISRAMCO MAY BE UNABLE TO IDENTIFY LIABILITIES ASSOCIATED WITH THE PROPERTIES THAT IT ACQUIRES OR OBTAIN PROTECTION FROM SELLERS AGAINST THEM. The acquisition of properties requires Isramco to assess a number of factors, including recoverable reserves, development and operating costs and potential environmental and other liabilities. Such assessments are inexact and inherently uncertain. In connection with the assessments, Isramco performs a review of the subject properties, but such a review will not reveal all existing or potential problems. In the course of our due diligence, we may not inspect every well, platform or pipeline. Isramco cannot necessarily observe structural and environmental problems, such as pipeline corrosion, when an inspection is made. Isramco may not be able to obtain contractual indemnities from the seller for liabilities that it created. Isramco may be required to assume the risk of the physical condition of the properties in addition to the risk that the properties may not perform in accordance with its expectations. MEMBERS OF ISRAMCO'S MANAGEMENT TEAM OWN A SIGNIFICANT AMOUNT OF COMMON STOCK, GIVING THEM INFLUENCE OR CONTROL IN CORPORATE TRANSACTIONS AND OTHER MATTERS, AND THE INTERESTS OF THESE INDIVIDUALS COULD DIFFER FROM THOSE OF OTHER SHAREHOLDERS. Members of Isramco's management team beneficially own approximately 51.3% of Isramco's outstanding shares of common stock as of March 13, 2007. As a result, these shareholders are in a position to significantly influence or control the outcome of matters requiring a shareholder vote, including the election of directors, the adoption of an amendment to our articles of incorporation or bylaws and the approval of mergers and other significant corporate transactions. RAPID GROWTH MAY PLACE SIGNIFICANT DEMANDS ON RESOURCES. Isramco experienced rapid growth in operations occasioned by the purchase of approximately 650 producing oil and gas wells from Five States and expect that significant expansion of its operations will continue. The rapid growth has placed, and the anticipated future growth will continue to place, a significant demand on Isramco's managerial, operational and financial resources due to: o the need to manage relationships with various strategic partners and other third parties; o difficulties in hiring and retaining skilled personnel necessary to support our business; o the need to train and manage a growing employee base; and o pressures for the continued development of our financial and information management systems. If Isramco has not made adequate allowances for the costs and risks associated with this expansion or if its systems, procedures or controls are not adequate to support its operations, its business could be adversely impacted. RISKS RELATED TO OPERATIONS GENERALLY ISRAMCO IS SUBJECT TO RISKS ASSOCIATED WITH OPERATIONS IN ISRAEL. Isramco is involved in oil and gas exploration activities in Israel as operator of certain offshore licenses or otherwise. Isramco also purchased significant non-oil and gas real-estate properties in Israel. Isramco also maintains a significant presence within Israel. Accordingly, a significant portion of Isramco's business is directly affected by prevailing economic, military and political conditions that affect Israel. Any major hostilities involving Israel might have a material adverse effect on Isramco's business, financial condition or results of operations. ISRAMCO'S STOCK PRICE IS VOLATILE AND COULD CONTINUE TO BE VOLATILE. Investor interest in Isramco's common stock may not lead to the development of an active or liquid trading market. The market price of Isramco's common stock has fluctuated in the past and is likely to continue to be volatile and subject to wide fluctuations. In addition, the stock market has experienced extreme 14 price and volume fluctuations. The stock prices and trading volumes for Isramco's stock has fluctuated widely and may continue to so for reasons that may be unrelated to business or results of operations. General economic, market and political conditions could also materially and adversely affect the market price of Isramco's common stock and investors may be unable to resell their shares of common stock at or above their purchase price. PENNY STOCK REGULATIONS ARE APPLICABLE TO INVESTMENT IN SHARES OF THE COMPANY'S COMMON STOCK. Broker-dealer practices in connection with transactions in "penny stocks" are regulated by certain penny stock rules adopted by the Securities and Exchange Commission. Penny stocks generally are equity securities with a price of less than $5.00 (other than securities registered on certain national securities exchanges or quoted on the Nasdaq system, provided that current prices and volume information with respect to transactions in such securities are provided by the exchange or system). The penny stock rules require a broker-dealer, prior to a transaction in a penny stock not otherwise exempt from the rules, to deliver a standardized risk disclosure document that provides information about penny stocks and the risks in the penny stock market. The broker-dealer also must provide the customer with current bid and offer quotations for the penny stock, the compensation of the broker-dealer and its salesperson in the transaction, and monthly account statements showing the market value of each penny stock held in the customer's account. In addition, the penny stock rules generally require that prior to a transaction in a penny stock the broker-dealer make a special written determination that the penny stock is a suitable investment for the purchaser and receive the purchaser's written agreement to the transaction. These disclosure requirements may have the effect of reducing the level of trading activity in the secondary market for a stock that becomes subject to the penny stock rules. Many brokers will not deal with penny stocks; this restricts the market. ITEM 1B. UNRESOLVED STAFF COMMENTS None ITEM 2. PROPERTIES Isramco maintains offices in Houston, Texas. Isramco leases office space premises (approximately 2,015 square feet) at 11767 Katy Freeway, Houston, TX 77079 under a lease expiring in October 2009 at a monthly rental of $ 3,200. Isramco anticipates that it will be able to extend the lease, or find replacement premises, on commercially reasonable terms. Isramco also leases office space in Israel from IOC at 8 Granit St., Petach Tikva, Israel. In 2006, Isramco paid IOC an aggregate of $226,404 for rental space, office services, secretarial services and computer services. Isramco believes that the payment for the above services are reasonable compared to other similar locations. ITEM 3. LEGAL PROCEEDINGS From time to time, Isramco is involved in disputes and other legal actions arising in the ordinary course of business. In management's opinion, none of these other disputes and legal actions is expected to have a material impact on Isramco's consolidated financial position or results of operations. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS During the fourth quarter of the fiscal year covered by this report, no matter was submitted to a vote of security holders of Isramco. PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS The number of record holders of Isramco's Common Stock on March 13, 2007 was approximately 396, not including an undetermined number of persons who hold their stock in street name. Our common stock is listed on the Nasdaq Capital Market under the symbol "ISRL". The following table sets forth for the periods indicated, the reported high and low closing prices for our common stock. 15 COMMON STOCK --------------- HIGH LOW ------ ------ 2006 March 31 $ 15.33 $12.22 June 30 $ 17.98 $16.06 September 30 $ 18.55 $16.40 December 31 $ 31.66 $21.25 2005 March 31 $ 8.99 $ 8.72 June 30 $10.93 $ 9.60 September 30 $15.09 $14.27 December 31 $15.27 $14.91 Isramco has not declared or paid any cash dividends on its Common Stock. Isramco does not anticipate paying any cash dividends on its Common Stock in the foreseeable future. Isramco intends to retain all earnings for use in its business operations and in expansion. STOCK PERFORMANCE GRAPH The following graph compares the yearly percentage of change in Isramco's cumulative stockholder return on its Common Stock (assuming reinvestment of dividends at date of payment into Common Stock) to the cumulative total return on the NASDAQ Market Index ("NASDAQ Index") and the cumulative total return on the GICS (Global Industry Classification Standard) Standard & Poor's Oil & Gas Exploration and Production Index ("Peer Index") for the period of five years commencing on December 31, 2000 and ending on December 31, 2005. The graph assumes that $100 was invested on December 31, 2001 in the common stock of Isramco, The NASDAQ Index and Peer Index, and further assumes no payment or reinvestment of dividends. The stock price performance on the following graph is not necessarily indicative of future stock price performance. DATE NASDAQ PEER INDEX COMPANY - ----------------- ------ ---------- ------- DECEMBER 31, 2001 100.00 100.0 100.0 DECEMBER 31, 2002 68.4 102.8 70.0 DECEMBER 31, 2003 102.7 136.2 158.2 DECEMBER 31, 2004 111.5 205.5 135.1 DECEMBER 31, 2005 113.0 316.7 386.4 DECEMBER 31, 2006 123.8 333.0 752.5 ITEM 6. SELECTED FINANCIAL DATA (CONSOLIDATED) The data presented below with respect to Isramco should be read in conjunction with the Consolidated Financial Statements and related Notes thereto of Isramco included elsewhere in this Report and Item 7-- "Management's Discussion and Analysis of Financial Condition and Results of Operations." (in thousands) 16
2006 2005 2004 2003 2002 ---------- ---------- ---------- ---------- ---------- Operator's fees 69 $ 977 $ 137 $ 753 $ 249 Oil and Gas Sales 2,167 $ 3,319 $ 3,174 $ 3,439 $ 2,423 Interest income 448 $ 293 $ 729 $ 760 $ 738 Office services to related parties and other 756 $ 938 $ 772 $ 939 $ 913 Equity in earnings (losses) of investees 2,570 $ 661 $ 1,365 $ 1,098 $ (440) Gain (Loss) on marketable securities 1,177 $ 551 $ 240 $ 872 $ (189) Compensation for legal settlement 2,536 -- -- -- -- Gain from swap transactions 2,604 (641) -- -- -- Other 39 $ 117 $ 492 $ 475 $ 49 Impairment of oil & gas properties 668 $ 759 $ 268 $ 617 -- Exploration costs 125 110 -- $ 165 $ 1,747 Lease operating expenses and severance Taxes 1,119 $ 1,458 $ 1,149 $ 872 $ 844 Depreciation, depletion and Amortization 455 $ 1,011 $ 896 $ 621 $ 642 Operator expense 330 $ 767 $ 807 $ 795 $ 791 General and administrative expenses 2,009 $ 2,298 $ 1,691 $ 2,012 $ 1,422 Interest Expense 294 $ -- $ 93 $ 52 $ 210 Accretion Expense 71 $ 25 $ 5 $ 43 -- Income tax (expense) benefit (726) $ (40) $ (576) $ 1,188 $ 114 Income from continuing operations 6,569 $ (253) $ 1,424 $ 2,520 $ (1,799) Discontinued operation (2,727) (879) (431) -- -- Income before cumulative effect of change in accounting principles 3,842 (1,132) 993 2,520 (1,799) Cumulative effect of change in accounting principles -- -- -- $ (264) $ 3,516 Net income (loss) 3,842 (1,132) 993 2,256 1,717 Basic and diluted earnings (loss) per common share for: Income from continuing operations 2.42 $ (0.09) $ 0.54 $ 0.95 $ (0.68) Cumulative effect of accounting change, net -- -- -- (0.10) 1.33 Discontinued operations (1.01) $ (0.33) $ (0.16) Net income (loss) 1.41 $ (0.42) $ 0.38 $ 0.85 $ 0.65 Weighted average number of Common shares outstanding - basic 2,717,691 2,709,355 2,639,853 2,639,853 2,639,853 Weighted average number of Common shares outstanding - diluted 2,717,691 2,709,355 2,639,853 2,639,853 2,639,853
17 AS OF DECEMBER 31, ------------------ 2006 2005 ------ ------- Balance Sheet Data Total assets 62,073 $38,615 Total liabilities 27,329 $10,122 Long-term obligations 4,768 $ 3,242 Shareholders' equity 34,744 $28,493 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS THE FOLLOWING COMMENTARY SHOULD BE READ IN CONJUNCTION WITH THE CONSOLIDATED FINANCIAL STATEMENTS AND RELATED NOTES CONTAINED ELSEWHERE IN THIS FORM 10-K. THE DISCUSSION CONTAINS FORWARD-LOOKING STATEMENTS THAT INVOLVE RISKS AND UNCERTAINTIES. THESE STATEMENTS RELATE TO FUTURE EVENTS OR OUR FUTURE FINANCIAL PERFORMANCE. IN SOME CASES, YOU CAN IDENTIFY THESE FORWARD-LOOKING STATEMENTS BY TERMINOLOGY SUCH AS "MAY," "WILL," "SHOULD," "EXPECT," "PLAN," "ANTICIPATE," "BELIEVE," "ESTIMATE," "PREDICT," "POTENTIAL," "INTEND," OR "CONTINUE," AND SIMILAR EXPRESSIONS. THESE STATEMENTS ARE ONLY PREDICTIONS. OUR ACTUAL RESULTS MAY DIFFER MATERIALLY FROM THOSE ANTICIPATED IN THESE FORWARD-LOOKING STATEMENTS AS A RESULT OF A VARIETY OF FACTORS, INCLUDING, BUT NOT LIMITED TO, THOSE SET FORTH UNDER "RISK FACTORS" AND ELSEWHERE IN THIS FORM 10-K. OVERVIEW Isramco, Inc., a Delaware corporation, is active in the exploration of oil and gas in Israel and the United States. Isramco acts as an operator of certain leases and licenses and also holds participation interests in certain other interests. Isramco also holds certain non-oil and gas properties discussed below. CRITICAL ACCOUNTING POLICIES Estimation of oil and gas reserves is important to the effective management of Isramco. They are integral to making investment decisions about oil and gas properties such as whether development should proceed or enhanced recovery methods should be undertaken. Oil and gas reserve quantities are also used as the basis of calculating the unit-of-production rates for depletion and evaluating for impairment. Oil and gas reserves are divided between proved and unproved reserves. Proved reserves are the estimated quantities of crude oil, natural gas and natural gas liquids that geological and engineering data demonstrate with reasonable certainty to be recoverable in future years from known reservoirs under existing economic and operating conditions; i.e., prices and costs as of the date the estimate is made. Unproved reserves are those with less than reasonable certainty of recoverability and are classified as either probable or possible. The estimation of proved reserves is an ongoing process based on rigorous technical evaluations and extrapolations of well information such as flow rates and reservoir pressure declines. Although Isramco is reasonably certain that proved reserves will be produced, the timing and amount recovered can be affected by a number of factors including completion of development projects, reservoir performance, regulatory approvals and significant changes in long-term oil and gas price levels. The calculation of unit-of-production depletion is a critical accounting estimate that measures the depletion of upstream assets. It is the ratio of (1) actual volumes produced to (2) total proved developed reserves (those proved reserves recoverable through existing wells with existing equipment and operating methods) applied to the (3) asset cost. The volumes produced and asset costs are known and, while proved developed reserves have a high probability of recoverability, they are based on estimates that are subject to some variability. Isramco records an investment impairment charge when it believes an investment has experienced a decline in value that is other than is temporary. Future adverse changes in market conditions or poor operating results of underlying investments could result in losses or an inability to recover the carrying value of the investment that may not be reflected in an investment's current carrying value, thereby possibly requiring an impairment charge in the future. Isramco records a valuation allowance to reduce its deferred tax assets to the amount that is more likely than not to be realized. While Isramco has considered future taxable income and ongoing prudent and 18 feasible tax planning strategies in assessing the need for the valuation allowance, in the event that Isramco were to determine that it would be able to realize its deferred tax assets in the future in excess of its net recorded amount, an adjustment to the deferred tax asset would increase net income in the period such determination was made. Isramco does not participate in, nor has it created, any off-balance sheet special purpose entities or other off-balance sheet financing. In addition, Isramco does not enter into any derivative financial instruments other than the Swap Agreements. Isramco records a liability for asset retirement obligations at fair value in the period in which they are incurred and a corresponding increase in the carrying amount of the related long lived assets. LIQUIDITY AND CAPITAL RESOURCES Isramco finances its operations primarily from cash generated by operations. Isramco's operating activities provided (used) net cash of $2,010,000 and ($196,000) for the years ended December 31, 2006 and 2005, respectively. The availability of cash generated by operations could be affected by other business risks discussed in the "Risk Factors" section of this annual report. Working capital (current assets minus current liabilities) was $5,752,000 and $9,121,000 at December 31, 2006 and 2005, respectively. The increase in working capital is primarily attributable to the purchase of oil and gas assets and participation in drilling of wells in the United States. Net cash provided by (used in) investing activities in fiscal 2006 was $(2,779,000) compared to $276,000 in fiscal 2005. The increase in net cash used in investing activities in 2006 is primarily attributable to Isramco's investments in the drilling of oil and gas wells in the United States offset by the increase in the value of marketable securities. Capital expenditures for property and equipment were $6,737,000 and $3,686,000 in fiscal 2006 and 2005, respectively. Capital expenditures in 2006 and 2005 were primarily attributable to purchase of oil and gas properties and drilling of oil and gas wells in the United States. RESULTS OF OPERATIONS YEAR ENDED DECEMBER 31, 2006 COMPARED TO YEAR ENDED DECEMBER 31, 2005. Isramco reported income from continuing operations of $6,569,000 (income of $2.42 per share) in 2006 compared to a loss from continuing operations of $253,000 (loss of $0.09 per share) in 2005. The increase in the net income in 2006 compared to 2005 is primarily attributable to: (i) an increase in the gain of marketable securities, (ii) an increase in the net income of investees, (iii) an increase in other income due to recording of non-recurring one time receipt of $2,536,000 for the settlement of certain lawsuit that was initiated by Isramco and income related to mark-to market of swap contracts on oil and gas prices. Set forth below is a break-down of these results. UNITED STATES OIL AND GAS VOLUME AND REVENUES (IN THOUSANDS) 2006 2005 ----- ----- Oil Volume Sold (Bbl) 13 16 Gas Volume Sold (MCF) 213 355 Oil Sales ($) 796 806 Gas Sales ($) 1,371 2,513 Average Unit Price Oil ($/Bbl) * 59.14 51.25 Gas ($/MCF) ** 6.42 7.11 * Bbl - Barrel Equivalent to 42 U.S. Gallons ** MCF - 1,000 CUBIC FEET 19 OIL AND GAS EXPLORATION COSTS In 2006, Isramco incurred $125,000 in exploration costs mainly incurred for geological and geophysical consulting relating to the operation in United States, compared to $110,000 in 2005, mainly incurred for a well drilled in Israel which was plugged and abandoned. OPERATOR'S FEES In 2006 Isramco earned $69,000 in operator fees compared to $977,000 in 2005. The decrease is mainly due to the drilling of the Gad 1 well, offshore Israel, in 2005. OIL AND GAS REVENUES In 2006 and 2005 Isramco had oil and gas revenues of $2,167,000 and $3,319,000, respectively. The decrease is primarily attributable to the decline in oil and gas production and decrease in gas prices. LEASE OPERATING EXPENSES AND SEVERANCE TAXES Lease operating expenses and severance taxes were incurred primarily in connection with oil and gas fields in the United States. Oil and gas lease operating expenses and severance taxes were $1,119,000 and $1,458,000 for 2006 and 2005, respectively. The decline is primarily due to the decline in oil and gas revenues caused by a decline in production. INTEREST AND DIVIDEND INCOME Interest income during the year ended December 31, 2006 was $448,000 compared to $293,000 for the year ended December 31, 2005. The increase in interest income is primarily attributable to interest earned on interest bearing marketable securities. GAIN ON MARKETABLE SECURITIES In 2006, Isramco recognized net realized and unrealized gain on marketable securities of $1,177,000 compared to net realized and unrealized gain on marketable securities of $551,000 in 2005. Increases or decreases in the gains and losses from marketable securities are dependent on the market prices in general and the composition of the portfolio of Isramco. OPERATOR EXPENSES In 2006 Isramco expended $330,000 for operator expenses compared to $767,000 in 2005.The decrease is primarily attributable to decrease in Isramco's exploration activities. GENERAL AND ADMINISTRATIVE EXPENSES In 2006 Isramco incurred $2,009,000 in general and administrative expenses compared to $2,298,000 in 2005. The decrease in mainly due to a decrease in legal consultant expenses and due to the lower bonus payments to executives in 2006. EQUITY IN NET INCOME OF INVESTEE Isramco's equity in the net income of investees for 2006 was $2,570,000 compared to its equity in net income of investees of $661,000 for 2005. The increase is primarily attributable to the increase in the gain of marketable securities held by the Limited Partnerships Isramco Negev 2 and I.O.C Dead Sea LP, affiliates of Isramco. DEPRECIATION, DEPLETION AMORTIZATION AND IMPAIRMENT Depreciation, depletion and amortization expenses are connected to the producing wells in the United States. During 2006 Isramco recorded depreciation depletion and amortization expenses $455,000 compared to $1,011,000 in 2005. The main reasons for the decrease is due to decrease in oil and gas production volumes in 2006 and impairment charges recorded in 2005. During 2006 and 2005, Isramco recorded impairment charges of 668,000 and $759,000, respectively 20 relating to oil and gas assets in the United States. DISCONTINUED OPERATION In 2006, Isramco recorded a loss of $2,727,000 on discontinued operation of the Magic 1 Cruise Line Corp. compared to a loss of $879,000 in 2005. The increase of net and operating loss of the vessel discontinued activity in 2006 compared to 2005 is attributable mainly to a one time impairment of cost of vessel of $2.2 million and increase of maintenance expenses, net of capital gain from the sale of the vessel. As a result of the sale of the vessel, the company recorded a one time capital gain of $384,000. OTHER INCOME Other Income in 2006 was $39,000 compared to $117,000 in 2005. GAIN FROM SWAP TRANSATION Isramco recorded in 2006 net income of $2,604,000 related to market to market of swap contracts on oil and gas prices, compared to net expenses of $641,000 in 2005. COMPENSATION FOR LEGAL SETTLEMENT In January 2006, the Company entered into a settlement agreement and mutual release with the defendant parties named therein relating to the lawsuit initiated by the Company against the defendants in February 2004 in the Superior Court of California, County of Los Angeles, alleging breach of contract and tort claims in connection with an agreement between the Company and the defendants to jointly purchase and develop certain parcels of real estate outside Los Angeles. The agreement provides for the settlement of the action with no finding or admission of fault on the part of any party and, pursuant thereto, certain of the defendants paid to the Company $2,500,000 as reimbursement for costs and expenses incurred by the Company in connection with its pursuit of the real estate investment opportunity that was the subject of the action. Under the agreement, the Company and the defendants mutually released one another from any claims or causes of actions arising out of or relating to the action, any claim that could have been asserted in the action, and any and all claims and/or allegations relating to the real estate (and the development thereof) that was the subject of the action. (ii) In February 2006, the Company entered into a settlement agreement and mutual release with the defendant parties named therein relating to the lawsuit initiated by the Company against the defendants in 2004 in the District Court of Harris County, Texas, alleging a tort claim in connection with an agreement between the Company and a third party pursuant to which the Company purchased all of the outstanding capital stock of a company that owns oil and gas assets in Illinois. Under the agreement the defendants paid the Company $550,000 and the Company filed a motion to dismiss its claims against the defendants with prejudice. As a result of the payments received under the settlement agreements, the Company recorded a net gain of approximately $2,536,000 (after payment of legal fees and other expenses) during 2006. INCOME TAXES Isramco recorded income tax expense of $726,000 for the year ended December 31, 2006 as compared to $40,000 for the year ended December 31, 2005. The primary difference from the statutory tax expense and the actual tax expense for 2006 results from intangible drilling costs incurred during 2006 that are fully deductible for tax purposes and are depleted for book purposes. This is partially offset by the foreign income tax expense incurred for the foreign operations. RESULTS OF OPERATIONS YEAR ENDED DECEMBER 31, 2005 COMPARED TO YEAR ENDED DECEMBER 31, 2004. Isramco reported net loss of $1,132,000 (loss of $0.42 per share) in 2005 compared to a net profit of $993,000 (loss of $0.38 per share) in 2004. The decrease in the net income in 2005 compared to 2004 is primarily attributable to: (i) an increase in losses associated with the operation of the vessel, (ii) an increase in the impairment of oil and gas assets, (iii) an increase in lease operation expenses of the wells in the United States and (iv) an increase in the general and administration expenses. Set forth below is a break-down of these results. 21 UNITED STATES OIL AND GAS VOLUME AND REVENUES (IN THOUSANDS) 2005 2004 ------ ------ Oil Volume Sold (Bbl) 16 18 Gas Volume Sold (MCF) 355 470 Oil Sales $806 $678 Gas Sales $2,513 $2,524 Average Unit Price Oil ($/Bbl) * $51.25 $38.12 Gas ($/MCF) ** $ 7.11 $ 5.38 * Bbl - Barrel Equivalent to 42 U.S. Gallons ** MCF - 1,000 CUBIC FEET 22 OIL AND GAS EXPLORATION COSTS In 2005 Isramco incurred $110,000 in exploration costs. These costs were incurred mainly for a well drilled in Israel that was plugged and abandoned. OPERATOR'S FEES In 2005 Isramco earned $977,000 in operator fees compared to $137,000 in 2004. The increase is due to the drilling of the Gad 1 well. OIL AND GAS REVENUES In 2005 and 2004 Isramco had oil and gas revenues of $3,319,000 and $3,174,000, respectively. The increase is due to the increase in oil and gas prices. LEASE OPERATING EXPENSES AND SEVERANCE TAXES Lease operating expenses and severance taxes were incurred primarily in connection with oil and gas fields in the United States. Oil and gas lease operating expenses and severance taxes were $1,458,000 and $1,149,000 for 2005 and 2004, respectively. The increase in lease operating expenses and severance taxes is primarily attributable to work-over performed on two wells. INTEREST AND DIVIDEND INCOME Interest income during the year ended December 31, 2005 was $293,000 compared to $729,000 for the year ended December 31, 2004. The decrease in interest income is primarily attributable to interest receivable on marketable securities (Debentures). GAIN ON MARKETABLE SECURITIES In 2005, Isramco recognized net realized and unrealized gain on marketable securities of $551,000 compared to net realized and unrealized gain on marketable securities of $240,000 in 2004. Increases or decreases in the gains and losses from marketable securities are dependent on the market prices in general and the composition of the portfolio of Isramco. OPERATOR EXPENSES In 2005, Isramco expended $767,000 for operator expenses compared to $807,000 in 2004. GENERAL AND ADMINISTRATIVE EXPENSES In 2005, Isramco incurred $2,298,000 in general and administrative expenses compared to $1,691,000 in 2004. The relatively higher amount in 2005 is primarily attributable to bonus payments totaling $245,000 to the president, vice president and secretary, fees associated with lawsuits initiated by Isramco and consultants' fees. EQUITY IN NET INCOME OF INVESTEE Isramco's equity in the net income of investees for 2005 was $661,000 compared to its equity in net income of investees of $1,365,600 for 2004. The decrease is primarily attributable to the decrease in the gain of marketable securities held by the Limited Partnerships Isramco Negev 2 and I.O.C Dead Sea LP, affiliates of Isramco. DEPRECIATION, DEPLETION AMORTIZATION AND IMPAIRMENT Depreciation depletion and amortization expenses are connected to the producing wells in the United States. During 2005, Isramco recorded $1,011,000 compared to $896,000 in 2004. The increase is attributable to investments in oil and gas properties. During 2005 and 2004, Isramco recorded impairment charges of $759,000 and $268,000, respectively, relating to oil and gas assets in the United States. 23 OTHER INCOME (EXPENSE) Other Income in 2005 was $117,000 compared to $492,000 in 2004. Other Income in 2005 is primarily attributable to, $195,000 received from the European tour operator of the cruise line vessel for office services provided by Isramco. RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS In September 2006, the FASB issued Statement of Financial Accounting Standards (SFAS) No. 157, "Fair Value Measurements." This Statement defines fair value, establishes a framework for its measurement and expands disclosures about fair value measurements. We use fair value measurements to measure, among other items, purchased assets and investments, leases, derivative contracts and financial guarantees. We also use them to assess impairment of properties, plants and equipment, intangible assets and goodwill. The Statement does not apply to share-based payment transactions and inventory pricing. This Statement is effective January 1, 2008. We are currently evaluating the impact on our financial statements. In June 2006, the FASB issued FASB Interpretation No. 48, "Accounting for Uncertainty in Income Taxes, an interpretation of FASB Statement No. 109" (FIN 48). This Interpretation provides guidance on recognition, classification, and disclosure concerning uncertain tax liabilities. The evaluation of a tax position will require recognition of a tax benefit if it is more likely than not that it will be sustained upon examination. This Interpretation is effective beginning January 1, 2007. We are currently evaluating the impact on our financial statements. ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Isramco is exposed to market risk, including adverse changes in commodity prices. Isramco produces and sells natural gas and crude oil. As a result, Isramco's financial results can be significantly affected if these commodity prices fluctuate widely in response to changing market forces. Isramco uses swap contracts to manage the risk on commodity prices. Isramco's positions are monitored and managed on a daily basis to ensure compliance with Isramco's risk management policy. The swap contracts are entered into principally with a major financial institution. All derivatives are recorded at fair value on the consolidated balance sheet with resulting gains and losses reflected in income. Fair values are derived principally from market quotes and other independent third-party quotes. As of December 31, 2006, Isramco had 24 swap contracts to sell 264,084 barrels of crude oil during 24 months commencing January 2007 for a total consideration of $17.7 million, and 24 swap contracts to sell 2,853,156 MMBTU of natural gas during 24 months commencing January 2007 for a total consideration of $23.1 million. Subsequent to balance sheet date, in January 2007, Isramco executed reverse contracts for most of the abovementioned contracts and remained with open swap contracts for 23,000 barrels of crude oil for a total consideration of $1.5 million and 376,000 MMBTU of natural gas for a total consideration of $3 million. The above mentioned reverse of swap contracts generated to Isramco a profit of $2.1 million. As at balance sheet date, each hypothetical 10% increase in the price of natural gas would increase the liability of the natural gas derivative contracts by approximately $0.3 million and, each hypothetical 10% increase in the price of crude oil would increase the liability of the crude oil derivative contracts by approximately $0.15 million. Hypothetical decrease in the prices of these commodities would result in the same opposite effects on the values of the contracts. The hypothetical effect on these contracts was estimated by calculating the cash value of the contracts as the difference between the hypothetical and contract delivery prices multiplied by the contracts amounts. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA The information called for by this Item 8 is included following the "Index to Financial Statements" contained in this Annual Report on Form 10-K. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING 24 AND FINANCIAL DISCLOSURE On January 13, 2005, the audit committee of the board of directors (the "Audit Committee") of Isramco accepted the resignation of UHY - Mann Frankfort Stein & Lipp CPAS, LLP ("UHY LLP") (formerly - Mann Frankfort Stein & Lipp CPAS, L.L.P.) as Isramco's independent accountants. Concurrent with UHY LLP's resignation, the Audit Committee appointed Malone & Bailey, PC (the "New Accountants") as the independent accounting firm to audit the financial statements of Isramco for the year ended December 31, 2004. The reports by UHY LLP with respect to Isramco's financial statements for the year ended December 31, 2003 did not contain any adverse opinion or disclaimer of opinion and were not qualified or modified as to uncertainty, audit scope or accounting principles. During the fiscal year ended December 31, 2003 and during the subsequent interim period, there were no disagreements between Isramco and UHY LLP on any matter of accounting principles or practices, financial statement disclosure or auditing scope or procedure, which, if not resolved to the satisfaction of UHY LLP, would have caused it to make reference to the subject matter of thereof in connection with its reports. During the fiscal year ended December 31, 2003, and through the date of its resignation, UHY LLP did not advise Isramco with respect to any matters described in paragraphs (a)(1)(v)(A) through (D) of Item 304 of Regulation S-K. During the fiscal year ended December 31, 2003, and through the date of their engagement, Isramco did not consult with the New Accountants regarding either (i) the application of accounting principles to a specified transaction, either completed or proposed; (ii) the type of audit opinion that might be rendered on Isramco's financial statements; (iii) any matter that was either the subject of disagreement (as defined in Item 304(a)(1)(iv) of Regulation S-K) or a reportable event (as defined in Item 304(a)(1)(v) of Regulation S-K). ITEM 9A. CONTROLS AND PROCEDURES EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES. Isramco maintains disclosure controls and procedures that are designed to ensure that information required to be disclosed in Isramco's Exchange Act reports is recorded, processed, summarized and reported within the time periods specified in the SEC's rules and forms, and that such information is accumulated and communicated to management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure based closely on the definition of "disclosure controls and procedures" in Rule 13a-14(c). As of the end of the period covered by this report, we carried out an evaluation, under the supervision and with participation of management, including our Chief Executive Officer (and our Principal Financial Officer), of the effectiveness of the design and operation of our disclosure controls and procedures. Based on the foregoing, our Chief Executive Officer (and Principal Financial Officer) concluded that our disclosure controls and procedures were effective. CHANGES IN INTERNAL CONTROLS OVER FINANCIAL REPORTING. During the quarter ended December 31, 2006, there have been no changes in our internal controls over financial reporting that have materially affected, or are reasonably likely to materially affect, these controls. PART III The information called for by items 10, 11, 12 13 and 14 will be contained in the Company's definitive proxy statement which the Company intends to file within 120 days after the end of the Company's fiscal year ended December 31, 2006 and such information is incorporated herein by reference. GLOSSARY "Grant Agreement" shall mean the agreement between the Company and the Government of Israel pursuant to which the Government of Israel has provided assistance to the Company in connection with its investment in the Negev 2 Venture by providing a grant of 44.34(cent) for each U.S. dollar ($1.00) invested and expended by the Company in oil and gas activities in Israel within the framework of the Negev 2 Venture. The Government financing provided for under the Grant is repayable only from funds emanating from commercial production in any payout area and then, only to the extent of 30% of the recipient's share of the net revenue from said payout area, as and when received. The Grant Agreement entitles the Government of Israel, to receive a 12.5% royalty on oil sales, as well as an overriding royalty of 6.5% of the Company's share in the petroleum produced and saved after payout. If there is no 25 commercial discovery of oil, the Company will not be required to repay the grant monies. A grant agreement was also entered into between the Government of Israel and HEI, Donesco, L.P.S. and Mazal Oil. "Joint Operating Agreement" shall mean the Joint Operating Agreement of the Negev 2 Venture which was signed as of the 30th day of June, 1988, between the participants in the Negev 2 Venture, as amended or as shall be amended from time to time. "Joint Venture Agreement" shall mean the Joint Venture Agreement of the Negev 2 Venture which was signed as of the 30th of June, 1988 between the participants in the Negev 2 Venture, as amended from time to time. "Limited Partnership" shall mean Isramco-Negev 2 Limited Partnership, a Limited Partnership founded pursuant to a Limited Partnership Agreement made on the 2nd and 3rd days of March, 1989 (as amended on September 7, 1989, July 28, 1991, March 5, 1992 and June 11, 1992) between the Trustee on part as Limited Partner and Isramco Oil and Gas Ltd., as General Partner on the other part. "Limited Partnership Agreement" shall mean the Limited Partnership Agreement made the 2nd and 3rd days of March, 1989 (as amended September 7, 1989, July 28, 1991, March 5, 1992 and June 11, 1992), between Isramco Oil and Gas Ltd., as General Partner, and Isramco Management (1988) Ltd. as the Limited Partner. "Negev 2 Venture Agreements" shall mean the Joint Venture Agreement, the Joint Operating Agreement, the Voting Agreement and every agreement into which the parties to said agreements have entered, in connection with the Negev 2 Venture. "Overriding Royalty" shall mean a percentage interest over and above the base royalty and is free of all costs of exploration and production, which costs are borne by the Grantor of the Overriding Royalty Interest and which is related to a particular Petroleum License. "Payout" shall mean the defined point at which one party has recovered its prior costs. "Petroleum" shall mean any petroleum fluid, whether liquid or gaseous, and includes oil, natural gas, natural gasoline, condensates and related fluid hydrocarbons, and also asphalt and other solid petroleum hydrocarbons when dissolved in and producible with fluid petroleum. "Petroleum Exploration" shall mean test drilling; any other operation or search for petroleum, including geological, geophysical, geochemical and similar investigations and tests; and, drilling solely for obtaining geological information. "Petroleum Production" shall mean the production of petroleum from a petroleum field and all operations incidental thereto, including handling and treatment thereof and conveyance thereof to tankers, a pipe line or a refinery in or in the vicinity of the field. "Preliminary Permit", "Preferential Right to Obtain a License", "License" shall have the meaning(s) set forth in the Petroleum Law of Israel. "Trust Agreement" shall mean the Trust Agreement made on the 3rd day of March, 1989 (as amended September 7, 1989, July 28, 1991, March 5, 1992 and June 11, 1992) for the Trust Company of Kesselman and Kesselman. "Working Interest" shall mean an interest in a Petroleum Asset granting the holder thereof the right to participate pro rata in exploiting the Petroleum Asset for petroleum exploration, development and petroleum production, subject to its pro rata participation in the expenses involved therein after acquiring the Working Interest. "Israel Petroleum Law" The Company's business in Israel is subject to regulation by the State of Israel pursuant to the Petroleum Law, 1952. The administration and implementation of the Petroleum Law is vested in the Minister of National Infrastructure (the "Minister") and an Advisory Council. The following includes brief statements of certain provisions of the Petroleum Law in effect at the date of this Prospectus. Reference is made to the copy of the Petroleum Law filed as an exhibit to the Registration Statement referred to under "Additional Information" and the description which follows is qualified in its entirety by such reference. The holder of a preliminary permit is entitled to carry out petroleum exploration, but not test drilling or 26 petroleum production, within the permit areas. The Commissioner determines the term of a preliminary permit and it may not exceed eighteen (18) months. The Minister may grant the holder a priority right to receive licenses in the permit areas, and for the duration of such priority right no other party will be granted a license or lease in such areas. Drilling for petroleum is permitted pursuant to a license issued by the Commissioner. The term of a license is for three (3) years, subject to extension under certain circumstances for an additional period up to four (4) years. A license holder is required to commence test drilling within two (2) years from the grant of a license (or earlier if required by the terms of the license) and not to interrupt operations between test drillings for more than four (4) months. If any well drilled by the Company is determined to be a commercial discovery prior to expiration of the license, the Company will be entitled to receive a Petroleum Lease granting it the exclusive right to explore for and produce petroleum in the lease area. The term of a lease is for thirty (30) years, subject to renewal for an additional term of twenty (20) years. The Company, as a lessee, will be required to pay the State of Israel the royalty prescribed by the Petroleum Law which is presently, and at all times since 1952 has been, 12.5% of the petroleum produced from the leased area and saved, excluding the quantity of petroleum used in operating the leased area. The Minister may require a lessee to supply at the market price such quantity of petroleum as, in the Minister's opinion, is required for domestic consumption, subject to certain limitations. As a lessee, the Company will also be required to commence drilling of a development well within six (6) months from the date on which the lease is granted and, thereafter, with due diligence to define the petroleum field, develop the leased area, produce petroleum therefore and seek markets for and market such petroleum. 27 ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K (a) Exhibits 3.1 Articles of Incorporation of Registrant with all amendments filed as an Exhibit to the S-l Registration Statement, File No. 2-83574. 3.2 Amendment to Certificate of Incorporation filed March 17, 1993, filed as an Exhibit with the S-l Registration Statement, File No. 33-57482. 3.3 By-laws of Registrant with all amendments, filed as an Exhibit to the S-l Registration Statement, File No. 2-83570. 10.1 Oil Marketing Agreement, filed as Exhibit with the S-l Registration Statement, File No. 2-83574. 10.2 Joint Venture Agreement and Joint Operating Agreement dated June 30, 1988 by and among HEI Oil and Gas Limited Partnership, JOEL - Jerusalem Oil Exploration Ltd., Delek Oil Exploration Ltd., Delek, The Israel Fuel Corporation Ltd., the Company, Southern Shipping and Energy (U.K.), Naphtha, Israel Petroleum Company Ltd., Oil Exploration of Pat Ltd., LPS Israel Oil Inc., Donesco Venture Fund One, a Limited Partnership and Mazaloil Inc. filed as an Exhibit to Form 8-K for the month of September 1988. 10.3 Grant Agreement with the Government of Israel, undated, between the Company and the Government of Israel on behalf of the State of Israel, filed as an Exhibit to Form 10-Q for the Company for the period ending September 30, 1988 and incorporated herein by reference. 10.4 Translated from Hebrew, Indemnity Agreement between the Company and Isramco Management (1988) Ltd. dated March _, 1989, filed as an Exhibit to Form 8-K for the month of March 1989 and incorporated herein by reference. 10.5 Amendment Agreement to Grant Agreement between the Company and the Government of Israel, filed as an Exhibit to this Post-effective Amendment No. 8 to Form S-l Registration Statement. File No. 2- 83574. 10.6 Translated from Hebrew, Limited Partnership Agreement between Isramco Oil and Gas Ltd. and Isramco Management (1988) Ltd. dated March 2, 1989, filed as an Exhibit to Form 8-K for the month of March 1989 and incorporated herein by reference. 10.7 Translated from Hebrew, Trust Agreement between Isramco Management (1988) Ltd. and Kesselman and Kesselman dated March 3, 1989, filed as an Exhibit to Form 8-K for the month of March 1989 and incorporated herein by reference.* 10.8 Translated from Hebrew, Indemnity Agreement between the Company and Isramco Management (1988) Ltd. dated March _, 1989, filed as an Exhibit to Form 8-K for the month of March 1989 and incorporated herein by reference.* 10.9 Equalization of Rights Agreement between Isramco-Negev 2 Limited Partnership and Delek Oil Exploration Ltd. and Delek - The Israel Fuel Corporation Ltd, filed as an Exhibit to Form 8-K for the month of January 1993 dated January 21, 1993 and incorporated herein by reference. 10.10 Option Agreement between Isramco Resources Inc. and Delek Oil Exploration Ltd. and Delek - The Israel Fuel Corporation Ltd. filed as an Exhibit to Form 8-K for the month of January 1993 dated January 21, 1993 and incorporated herein by reference. 10.11 Agreement by and among Naphtha Congo Ltd., Equital Ltd. and the Company dated September 4, 1997, filed as an Exhibit to Form 8-K for the month of September, 1997 and incorporated herein by reference. 10.12 Amendment to Consulting Agreement between Goodrich Global L.T.D. B.V.I. and the Company dated 28 December _, 1997, filed as an Exhibit to Form 8-K for the month of December, 1997 and incorporated herein by reference. 10.13 Consulting Agreement between Romulas Investment Ltd. and the Company dated August _, 1997, filed as an Exhibit to Form 8-K for the month of September, 1997 and incorporated herein by reference, assigned by Romulas Investment Ltd. on December 31, 1997 to Remarkable Holdings Ltd. 10.14 Inventory Services Management Agreement dated December 1997 between the Company and Equital Ltd. filed herewith as Exhibit 10.70. 10.15 Consulting Agreement dated as of November 1, 1999 between the Company and Worldtech, Inc. 10.16 Agreement dated June 12, 2002 between the Company and Mati Properties and Construction Ltd. and Boaz Avrahami, filed as an Exhibit to the Form 10-Q for the quarter ended June 30, 2002. 10.17 Share Purchase and Sale Agreement dated as of December 31, 2006 between Isramco Inc. and Chesny Estates Ltd. * 10.18 Addendum Agreement dated as of February 12, 2007 between Isramco Inc. and Chesny Estates Ltd. * 14.1 Code of Ethics, filed as an Exhibit to Form 10-K for the year ended December 31, 2003. 31 Certification of Chief Executive and Principal Financial Officer pursuant to Section 302 of Sarbanes-Oxley Act. * 32 Certification of Chief Executive and Principal Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley act of 2002. * 99.1 Financial Statements of Isramco Negev 2 Limited Partnership as of December 31, 2006. * * Attached hereto as an exhibit 29 SIGNATURES In accordance with Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. /S/ HAIM TSUFF ----------------------------------------------- HAIM TSUFF, CHAIRMAN OF THE BOARD, CHIEF EXECUTIVE OFFICER (AND PRINCIPAL FINANCIAL AND ACCOUNTING OFFICER) DATE: MARCH 15, 2007 In accordance with the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized, in the capacities and on the dates indicated. SIGNATURE TITLE DATE - -------------------- ------------------- -------------- /S/ HAIM TSUFF CHIEF EXECUTIVE MARCH 15, 2007 - -------------------- OFFICER, DIRECTOR HAIM TSUFF /S/ JACKOB MAIMON PRESIDENT, DIRECTOR MARCH 15, 2007 - -------------------- JACKOB MAIMON /S/ MAX PRIDGEON DIRECTOR MARCH 15, 2007 - -------------------- MAX PRIDGEON /S/ DONALD D. LOVELL DIRECTOR MARCH 15, 2007 - -------------------- DONALD D. LOVELL /S/FRANS SLUITER DIRECTOR MARCH 15, 2007 - -------------------- FRANS SLUITER 30 INDEX TO FINANCIAL STATEMENTS Page ---- Report of Independent Registered Public Accounting Firm F-1 Consolidated Balance Sheets at December 31, 2006 and 2005 F-2 Consolidated Statements of Operations for the years ended December 31, 2006, 2005 and 2004 F-3 Consolidated Statements of Changes in Shareholders' Equity for the years ended December 31, 2006, 2005 and 2004 F-4 Consolidated Statements of Cash Flows for the years ended December 31, 2006, 2005 and 2004 F-5 Notes to Consolidated Financial Statements F-6 REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM To the Board of Directors Isramco, Inc. and Subsidiaries Houston, Texas We have audited the accompanying consolidated balance sheets of Isramco, Inc. as of December 31, 2006 and 2005, and the related consolidated statements of operations, changes in shareholders' equity, and cash flows for each of the three years in the period ended December 31, 2006. These financial statements are the responsibility of Isramco's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits. We conducted our audits in accordance with standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Isramco, Inc., as of December 31, 2006 and 2005, and the consolidated results of its operations and its cash flows for each of the three years in the period ended December 31, 2006, in conformity with accounting principles generally accepted in the United States of America. MALONE & BAILEY, PC www.malone-bailey.com Houston, Texas March 12, 2007 F-1 ISRAMCO, INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS (in thousands except for share information) DECEMBER 31 ----------------- 2006 2005 ------- ------- ASSETS CURRENT ASSETS Cash and cash equivalents $17,573 $ 1,200 Marketable securities, at market 3,130 5,570 Accounts receivable 403 605 Prepaid expenses and other current 5,057 98 Accounts receivable - sale of Magic 1 2,150 -- ------- ------- Assets held for sale -- 8,528 ------- ------- TOTAL CURRENT ASSETS 28,313 16,001 Property and equipment, net (successful efforts method for oil and gas properties) 12,537 6,997 Marketable securities, at market 5,759 3,619 Investment in affiliates 15,302 11,836 Other 162 162 ------- ------- TOTAL ASSETS $62,073 $38,615 ======= ======= LIABILITIES AND SHAREHOLDERS' EQUITY CURRENT LIABILITIES Accounts payable and accrued expenses $ 5,050 $ 1,997 Bank loans 347 370 Short-term loan from related party 17,164 -- Liabilities associated with assets held for sale -- 4,513 ------- ------- TOTAL CURRENT LIABILITIES 22,561 6,880 ------- ------- LONG-TERM LIABILITIES Asset retirement obligations 356 343 Deferred income taxes 4,412 2,899 ------- ------- TOTAL LONG-TERM LIABILITIES 4,768 3,242 ------- ------- TOTAL LIABILITIES 27,329 10,122 ------- ------- COMMITMENTS AND CONTINGENCIES -- -- SHAREHOLDERS' EQUITY Common stock $0.0l par value; authorized 7,500,000 shares; issued 2,746,958 shares; outstanding 2,717,691 shares 27 27 Additional paid-in capital 26,240 26,240 Retained earnings 5,399 1,557 Accumulated other comprehensive income 3,242 833 Treasury stock, 29,267 shares at cost (164) (164) ------- ------- Total shareholders' equity 34,744 28,493 ------- ------- Total liabilities and shareholders' equity $62,073 $38,615 ======= ======= See notes to the consolidated financial statements. F-2 ISRAMCO, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS (in thousands except for share information)
YEAR ENDED DECEMBER 31, ------------------------------------ 2006 2005 2004 ---------- ---------- ---------- (RESTATED) Revenues and other income: Operator fees from related party $ 69 $ 977 $ 137 Oil and gas sales 2,167 3,319 3,174 Interest income 448 293 729 Office services: To related parties 480 476 592 To others 276 462 180 Gain on marketable securities 1,177 551 240 Equity in net income of investees 2,570 661 1,365 Compensation for legal settlement 2,536 -- -- Gain from swap transactions 2,604 (641) -- Other 39 117 492 ---------- ---------- ---------- Total revenues and other income 12,366 6,215 6,909 ---------- ---------- ---------- Expenses: Interest expense 294 -- 93 Accretion expense 71 25 5 Depreciation, depletion and amortization 455 1,011 896 Lease operation expense and severance taxes 1,119 1,458 1,149 Exploration costs 125 110 -- Operator expense 330 767 807 General and administrative To related parties 227 503 358 To others 1,782 1,795 1,333 Impairment of oil and gas assets 668 759 268 ---------- ---------- ---------- Total expenses 5,071 6,428 4,909 ---------- ---------- ---------- Income (loss) from continuing operations before income taxes 7,295 (213) 2,000 Income tax expense (726) (40) (576) ---------- ---------- ---------- Income from continuing operations 6,569 (253) 1,424 Loss from discontinued operation (3,111) (879) (431) Gain from disposal of discontinued operation 384 -- -- ---------- ---------- ---------- Net income (loss) $ 3,842 $ (1,132) $ 993 ========== ========== ========== Earnings (loss) per share - basic and diluted: Continuing operations $ 2.42 $ (0.09) $ 0.54 Discontinued operations (1.01) (0.33) (0.16) ---------- ---------- ---------- Total $ 1.41 $ (0.42) $ 0.38 ========== ========== ========== Weighted average number of shares outstanding-basic 2,717,691 2,709,355 2,639,853 ========== ========== ========== Weighted average number of shares outstanding -diluted 2,717,691 2,709,355 2,639,853 ========== ========== ==========
See notes to the consolidated financial statements. F-3 ISRAMCO, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS' EQUITY FOR THE YEARS ENDED DECEMBER 31, 2006, 2005 AND 2004 (RESTATED)
COMMON STOCK ----------------------------- ACCUMULATED ADDITIONAL OTHER TOTAL NUMBER PAID-IN COMPREHENSIVE RETAINED TREASURY SHAREHOLDERS' OF SHARES AMOUNT CAPITAL INCOME (LOSS) EARNINGS STOCK EQUITY --------- ------ ---------- ------------- -------- -------- ------------- $ IN THOUSANDS, EXCEPT SHARE AMOUNTS ------------------------------------------------------------------------------- Balances at December 31, 2003 2,639,853 27 26,240 589 1,696 (164) 28,388 Net loss 993 993 Net unrealized gain on available for sale marketable securities, net of taxes -- -- 504 -- 504 Net gain on foreign exchange rate, net of taxes 151 151 ------- Total comprehensive income 1,648 --------- --- ------- ------ ------- ------ ------- Balances at December 31, 2004 2,639,853 27 26,240 1,244 2,689 (164) 30,036 Shares issued for exercise of options 77,838 -- -- -- Net loss (1,132) (1,132) Net unrealized gain on available for sale marketable securities, net of taxes 113 113 Net loss on foreign exchange rate, net of taxes (524) (524) ------- Total comprehensive loss (1,543) --------- --- ------- ------ ------- ------ ------- Balances at December 31, 2005 2,717,691 $27 $26,240 $833 $ 1,557 $ (164) $28,493 Net income 3,842 3,842 Net unrealized gain on available for sale marketable securities, net of taxes -- -- -- 810 -- -- 810 Net gain (loss) on foreign exchange rate, net of taxes 1,599 1,599 ------- Total comprehensive income 6,251 --------- --- ------- ------ ------- ------ ------- Balance of December 31, 2006 2,717,691 $27 $26,240 $3,242 $ 5,399 $ (164) $34,744 ========= === ======= ====== ======= ====== =======
See notes to consolidated financial statements. F-4 ISRAMCO, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (in thousands)
YEAR ENDED DECEMBER 31, ------------------------------- 2006 2005 2004 -------- ------- ---------- (RESTATED) CASH FLOWS FROM OPERATING ACTIVITIES: Net income (loss) $ 3,842 $(1,132) $ 993 Adjustments to reconcile net income (loss) to cash provided by operating activities: Depreciation, depletion, amortization and provision for impairment 1,123 1,769 702 Accretion of asset retirement obligation 71 25 5 Loss from discontinued operations 2,727 879 431 Gain on marketable securities (1,177) (550) (336) Undistributed equity earnings (2,570) (661) (1,366) Deferred income tax 271 (355) 790 Changes in assets and liabilities: Accounts receivables 202 30 (132) Prepaid expenses and other current assets (5,821) (1,061) (3,941) Accounts payable and accrued expenses 3,271 871 282 ------- ------- ------- Continuing operations 1,939 (185) (2,572) Discontinued operation 1,040 1,741 4,088 ------- ------- ------- Net cash provided by operating activities 2,979 1,556 1,516 ------- ------- ------- CASH FLOWS FROM INVESTING ACTIVITIES: Purchase of property and equipment (6,737) (3,686) (1,098) Purchase of marketable securities (2,056) (3,353) (4,807) Investment in affiliate (1,197) -- -- Dividend from affiliate 1,254 -- -- Proceeds from sale of marketable securities 5,957 7,315 6,115 Proceeds from other sales -- -- 623 ------- ------- ------- Continuing operations (2,779) 276 833 Discontinued operation (8) (1,017) (9,028) ------- ------- ------- Net cash used in investing activities (2,787) (741) (8,195) ------- ------- ------- CASH FLOWS FROM FINANCING ACTIVITIES: Proceeds from short-term loan from related party 17,164 -- -- Proceeds from bank loans -- -- 4,800 Payments on short-term debt -- (601) (4,800) Proceeds (repayments) on short-term bank loans, net (22) (306) 1,277 ------- ------- ------- Continuing operations 17,142 (907) 1,277 Discontinued operations (961) (735) 5,000 ------- ------- ------- Net cash provided by (used in) financing activities 16,181 (1,642) 6,277 ------- ------- ------- NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 16,373 (827) (402) CASH AND CASH EQUIVALENTS AT BEGINNING OF YEAR 1,200 2,027 2,429 ------- ------- ------- CASH AND CASH EQUIVALENTS AT END OF YEAR $17,573 $ 1,200 $ 2,027 ======= ======= ======= SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION: Cash paid during the period for interest $ 217 $ 205 $ 168 ======= ======= ======= Cash paid during the period for income taxes $ 76 $ 65 $ 82 ======= ======= =======
See notes to the consolidated financial statements. F-5 ISRAMCO, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (NOTE A) -- General and Summary of Significant Accounting Policies: [1] The Company Isramco Inc. and subsidiaries ("Isramco" or the "Company") are primarily engaged in the acquisition, exploration, operation and development of oil and gas properties. As of December 31, 2006, Isramco had oil and gas interests in Texas, Louisiana, Oklahoma, Wyoming, New Mexico, and working interests in various properties located in Israel. In addition, Isramco owns real estate in Israel. [2] Consolidation The consolidated financial statements include the accounts of Isramco and its wholly-owned subsidiaries: Jay Petroleum, L.L.C., a Texas limited liability company (Jay); Jay Management L.L.C., a Texas limited liability company (Jay Management); IsramTec Inc., a Delaware corporation (IsramTec); Isramco Oil and Gas Ltd., an Israeli company; and Magic 1 Cruise Line, Corp., a British Virgin Island corporation. Inter-company balances and transactions have been eliminated in consolidation. [3] Oil and Gas Revenue Recognition Isramco follows the entitlement method of accounting for recording oil and gas revenues under that method, any revenues received in excess of Isramco's share is treated as a liability. If revenues received are less than Isramco's share, the deficiency is recorded as an asset. Isramco's imbalance position was not significant in terms of volumes or values at December 31, 2006 and 2005. [4] Method of Accounting for Oil and Gas Operations Isramco follows the "successful efforts" method of accounting for its oil and gas producing activities. Costs to acquire mineral interests in oil and gas properties, to drill and equip exploratory wells that find proved reserves, and to drill and equip development wells are capitalized. Costs to drill exploratory wells that do not find proved reserves, geological and geophysical costs, and costs of carrying and retaining unproved properties are expensed. Costs incurred for exploratory wells that find reserves that cannot yet be classified as proved are capitalized on Isramco's balance sheet if (a) the well has found a sufficient quantity of reserves to justify its completion as a producing well and (b) Isramco is making sufficient progress assessing the reserves and the economic and operating viability of the project. Otherwise, well costs are expensed if a determination as to whether proved reserves were found cannot be made within one year following the completion of drilling and these criteria are not met. Leasehold costs of producing properties are depleted using the unit-of-production method based on estimated proved oil and gas reserves. Amortization of intangible development costs is based on the unit-of-production method using estimated proved developed oil and gas reserves. [5] Marketable Securities Statement of Financial Accounting Standard No. 115 (SFAS No. 115), Accounting for Certain Investments in Debt and Equity Securities, requires Isramco to classify its debt and equity securities in one of three categories: trading, available-for-sale and held-to-maturity. Trading securities are bought and held principally for the purposes of selling them in the near term. Held-to-maturity securities are those securities in which Isramco has both the ability and intent to hold the security until maturity. All other securities not included in trading or held-to-maturity are classified as available-for-sale. Trading and available-for-sale securities are recorded at fair market value. Isramco holds no held-to-maturity securities. Unrealized holding gains and losses on trading securities are included in earnings. Unrealized holding gains or losses, net of the related tax effects, on available-for-sale securities are excluded from earnings and are reported net of applicable taxes as accumulated other comprehensive income, a separate component of shareholders' equity, until realized. [6] Investment in Affiliates Isramco uses the equity method to account for its investments in affiliate entities over which it has the ability to exercise significant influence over operating and financial policies. [7] Depreciation and Amortization Equipment, consisting of motor vehicles, office furniture and equipment, is carried at cost less accumulated depreciation, computed on the straight-line method over the estimated useful lives of the assets. F-6 [8] Translation of Foreign Currencies Foreign currency is translated in accordance with Statement of Financial Accounting Standards No. 52, which provides the criteria for determining the functional currency for entities operating in foreign countries. Isramco has determined its functional currency is the United States (U.S.) dollar since all of its contracts are in U.S. dollars. Adjustments resulting form the process of translating foreign functional currency financial statements into U.S. dollars are included in accumulated other comprehensive income in stockholders' equity. Foreign currency transaction gains and losses are included in current income. The functional currency of our Israeli subsidiaries is the New Israeli Shekel. [9] Earnings Per Share (EPS) Isramco follows SFAS No. 128, Earnings per Share, for computing and presenting earnings per share, which requires, among other things, dual presentation of basic and diluted loss per share on the face of the statement of operations. Basic EPS is computed by dividing income available to common shareholders by the weighted average number of common shares outstanding for the period. Diluted EPS reflects the potential dilution that could occur if securities or other contracts to issue common shares were exercised or converted into common shares or resulted in the issuance of common shares that then shared in the earnings of the entity. For the years ended December 31, 2005 and 2004, Isramco's stock options were anti-dilutive. [10] Cash Equivalents Cash equivalents include short-term investments with original maturities of ninety days or less and are not limited in their use. [11] Use of Estimates The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the financial statements and related notes. Actual results could differ from those estimates. Oil and gas reserve quantities are the basis for the calculation of depreciation, depletion and impairment of oil and gas properties. An independent petroleum engineering firm estimates Isramco's reserves. However, management emphasizes that reserve estimates are inherently imprecise and that estimates of more recent discoveries and non-producing reserves are more imprecise than those for properties with long production histories. As mandated under SFAS No. 144, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets" (SFAS No. 144), Isramco is required under certain circumstances to evaluate the possible impairment of the carrying value of its long-lived assets. For proved oil and gas properties, this involves a comparison to the estimated future undiscounted net cash flows, as described in the paragraph below. In addition to the uncertainties inherent in the reserve estimation process, these amounts are affected by management's estimates for projected prices for oil and natural gas, which have typically been volatile. It is reasonably possible that Isramco's oil and gas reserve estimates may materially change in the forthcoming year. [12] Impairment of Long-Lived Assets Isramco adopted SFAS No. 144, effective as of January 1, 2002. This Statement requires that long-lived assets be reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability of assets to be held and used is measured by a comparison of the carrying amount of an asset to undiscounted future net cash flows expected to be generated by the asset or used in its disposal. If the carrying amount of an asset exceeds its estimated undiscounted future net cash flows, an impairment charge is recognized equal to the amount by which the carrying amount exceeds the fair market value of the asset. Assets to be disposed of are reported at the lower of the carrying amount or fair value less costs to sell. During 2006 Isramco reported impairment charges of 2,200,000 relating to the vessel included in discontinued operation. During 2005 and 2004, Isramco reported impairment charges of $759,000 and $50,000 respectively, relating to its proved properties. Unproved oil and gas properties that are individually significant are periodically assessed for impairment value, and a loss is recognized to the extent, if any, that the cost of the property has been impaired. During 2006, 2005,and 2004, Isramco recorded impairments of $0, $0 and $218,000, respectively, relating to its unproved properties. [13] Income Taxes F-7 Isramco accounts for income taxes using the asset and liability method as prescribed by SFAS No. 109, Accounting for Income Taxes. Deferred tax assets and liabilities are determined based on differences between the financial reporting and tax bases of assets and liabilities, and are measured using the enacted tax rates and laws that will be in effect when the differences are expected to reverse. The measurement of deferred tax assets is reduced, if necessary, by a valuation allowance for any tax benefits that are not expected to be realized. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in the period that such tax rate changes are enacted. [14] Environmental Isramco is subject to extensive federal, state, local and foreign environmental laws and regulations. These laws, which are constantly changing, regulate the discharge of materials into the environment and may require Isramco to remove or mitigate the environmental effects of the disposal or release of petroleum or chemical substances at various sites. Liabilities for expenditures of no capital nature are recorded when environmental assessment and/or remediation is probable, and the costs can be reasonably estimated. No significant amounts for environmental liabilities were recorded at December 31, 2006 and 2005. [15] Asset Retirement Obligations Isramco recognizes the fair value of a liability for an asset retirement obligation in the period in which it is incurred. The associated asset retirement costs are capitalized as part of the carrying amount of the asset. The fair value of a liability for an asset retirement obligation is the amount for which that liability could be settled in a current transaction between willing parties. Isramco uses the expected cash flow approach for calculating asset retirement obligations. The liability is discounted using the credit-adjusted risk-free interest rate in effect when the liability is initially recognized. The changes in the liability for an asset retirement obligation due to the passage of time are measured by applying an interest method of allocation to the amount of the liability at the beginning of the period. This amount is recognized as an increase in the carrying amount of the liability and as accretion expense classified as an operating item in the statement of operations. [16] Stock-Based Compensation Effective January 1, 2006, we adopted the provisions of SFAS No. 123R, "Share-Based Payments." The cumulative effect of this change in accounting principle related to stock-based awards was immaterial. Prior to January 1, 2006, we accounted for these plans under the recognition and measurement provisions of APB No. 25, "Accounting for Stock Issued to Employees," and related interpretations. Under APB No. 25, no compensation expense was recognized for stock options. The following table summarizes the pro forma effect on net income (loss) and income (loss) per share for 2005 and 2004 as if we had applied the fair value recognition provisions of SFAS No. 123, "Accounting for Stock-Based Compensation," to stock-based employee compensation.:
Year Ended December 31, (in thousands except share data) -------------------------------- 2005 2004 --------- ---------- Net income (loss) from continuing operations, reported $(253,000) $1,424,000 Add: Total stock-based compensation expense included in net income, net of related tax effects -- -- Less: Total stock-based compensation expense determined under fair-value based method, net of related tax effects -- -- --------- ---------- Net Income (loss) from continuing operations, pro forma $(253,000) $1,424,000 Basic and diluted income (loss) per share: As reported $ (0.09) $ 0.54 Pro forma $ (0.09) $ 0.54
[17] Reclassifications Certain amounts in prior financial statements have been reclassified to conform to the 2006 financial statements presentation. [18] Derivative Instruments All derivative instruments are recorded on the balance sheet at fair value. Recognition and classification of the gain or loss that results from recording and adjusting a derivative to fair value depends on the purpose for issuing or holding the derivative. Gains and losses from derivatives that are not accounted for as hedges under SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities," are recognized immediately in earnings as other revenue. For derivative instruments that are designated F-8 and qualify as a fair value hedge, the gains or losses from adjusting the derivative to its fair value will be immediately recognized in earnings and, to the extent the hedge is effective, offset the concurrent recognition of changes in the fair value of the hedged item. Gains or losses from derivative instruments that are designated and qualify as a cash flow hedge will be recorded on the balance sheet in accumulated other comprehensive income until the hedged transaction is recognized in earnings; however, to the extent the change in the value of the derivative exceeds the change in the anticipated cash flows of the hedged transaction, the excess gains or losses will be recognized immediately in earnings. During 2006, 2005, and 2004, we recorded gain (losses) of $2,604,000, ($641,000), and $0, respectively, related to our derivative instruments. Fair values are derived principally from market quoted and other independent third-party quotes. [19] New Accounting Pronouncements In September 2006, the FASB issued Statement of Financial Accounting Standards (SFAS) No. 157, "Fair Value Measurements." This Statement defines fair value, establishes a framework for its measurement and expands disclosures about fair value measurements. We use fair value measurements to measure, among other items, [purchased assets and investments, leases, derivative contracts and financial guarantees]. We also use them to assess impairment of properties, plants and equipment, intangible assets and goodwill. The Statement does not apply to share-based payment transactions and inventory pricing. This Statement is effective January 1, 2008. We are currently evaluating the impact on our financial statements. In June 2006, the FASB issued FASB Interpretation No. 48, "Accounting for Uncertainty in Income Taxes, an interpretation of FASB Statement No. 109" (FIN 48). This Interpretation provides guidance on recognition, classification, and disclosure concerning uncertain tax liabilities. The evaluation of a tax position will require recognition of a tax benefit if it is more likely than not that it will be sustained upon examination. This Interpretation is effective beginning January 1, 2007. We are currently evaluating the impact on our financial statements. (NOTE B) - Transactions with Affiliates and Related Parties We act as operator for joint venture with related parties in Israel engaged in the exploration of oil and gas for which it receives operating fees equal to the larger of 6% of the actual direct costs or minimum monthly fees of $6,000. Operator fees earned and related operator expenses are as follows (in thousands): YEAR ENDED DECEMBER 31, ----------------------- 2006 2005 2004 ---- ---- ---- Operator fees: Nir 2 $ -- $ -- $ -- Gad 1 -- 905 -- Med Ashdod Lease 69 72 -- GAL C -- -- 72 Marine North -- -- -- Marine Center -- -- -- Marine South -- -- 65 ---- ---- ---- Operator Income $ 69 $977 $137 ==== ==== ==== Operator expenses $330 $767 $807 ==== ==== ==== In December 2003, we entered into a consulting agreement with Doron Avraham, the Vice President of the Isramco. Pursuant to this agreement, we agreed to pay the consultant the sum of $15,000 per month plus expenses in consideration of the services that he provides to Isramco. The consulting agreement expires in November 2007. We paid Israel Oil Company ("I.O.C") $226,000 for the year ended December 31, 2006 and Naphtha Israel Petroleum Corp., Ltd. ("Naphtha"), $ 235,000 and, $228,000 for the years ended December 31, 2005 and 2004, respectively, for rent and office, secretarial and computer services. Naphtha is the sole shareholder of Naphtha Holdings, Ltd., which is the record holder of 48.4% of our outstanding common stock and which may be deemed to be controlled by Haim Tsuff, the Chairman of the Board of Directors and Chief Executive Officer of Isramco. We paid Israel Oil Company Ltd $120,000 consulting fee for Isramco's projects in the U.S. I.O.C is fully owned by Naphtha Israel Petroleum Corp., a company controlled by Haim Tsuff, the chairman of the Board and Chief Executive Officer of Isramco. F-9 Isramco Oil and Gas Ltd. ("IOG"), a wholly-owned subsidiary of Isramco, is the general partner of Isramco-Negev 2 Limited Partnership, from which we received management fees and expense reimbursements of $480,000 for each of the years ended December 31, 2006, 2005 and 2004. In May 1996, we entered into a consulting agreement with Goodrich Global L.T.D. B.V.I., a company owned and controlled by Haim Tsuff, the Chairman of the Board of Directors and Chief Executive Officer of Isramco. Pursuant to this consulting agreement, we pay the consultant $144,000 per annum in installments of $12,000 per month plus expenses in consideration of the services that Mr. Tsuff provides to Isramco. In April 1997, the consulting fees payable under the agreement were increased to $240,000 per annum in installments of $20,000 per month. The term of the consulting agreement expires in May 2008. In the event that we terminate the agreement, the consultant will be entitled to receive a lump sum severance payment equal to the balance of the unpaid consulting fees due for the remaining term of the agreement. In November 1999, we entered into a consulting agreement with Worldtech Inc., a Mauritus company of which Jackob Maimon, the President. Jackob Maimon is a director of Isramco. Pursuant to this consulting agreement, we pay the consultant $240,000 per annum in installments of $20,000 per month plus expenses in consideration of the services that he provides to Isramco. The agreement expires in May 2008. In the event that we terminate the agreement, , the consultant shall be entitled to receive a lump sum severance payment equal to the balance of the unpaid consulting fees due for the remaining term of the agreement. In December 2004, we awarded a bonus of $150,000 to our Chief Executive Officer and Chairman of the Board of Directors. In December 2005, we awarded bonuses of $150,000 to our Chief Executive Officer and Chairman of the Boards of Directors, $150,000 to our President and $75,000 to our Vice President. In December 2006, we awarded bonuses of $ 150,000 to our President. (NOTE C) - Investments in Affiliate Isramco Oil and Gas Ltd. ("IOG"), a wholly-owned subsidiary of Isramco, is the general partner of the Isramco Negev 2 Limited Partnership (the "Limited Partnership"). The daily management of the Limited Partnership is under the control of the general partner; however, matters involving the rights of the Limited Partnership unit holders are subject to supervision of a supervisor, appointed to supervise the Limited Partnership activities, and in some instances the approval of the Limited Partnership unit holders. Through IOG, we own a 0.05% interest in the Limited Partnership, which is accounted for by the equity method of accounting. At December 31, 2006, Isramco owned 345,309,522 units or 8.17% of the issued Limited Partnership units of the Limited Partnership, Isramco Negev 2. Summarized financial information of Isramco Negev 2 Limited Partnership is as follows (amounts in thousands): AS OF DECEMBER 31, ------------------ Balance Sheet 2006 2005 -------- -------- Current Assets $134,628 $127,661 Other Assets 3,277 1,653 -------- -------- Total Assets $137,905 129,314 ======== ======== Current Liabilities $ 996 109 Equity 136,909 $129,205 -------- -------- Total Liabilities and equity $137,905 $129,314 ======== ======== Year Ended December 31, --------------------------- Statement of Operations 2006 2005 2004 ------- ------- ------- Income $14,819 $15,509 $13,080 Expenses 1,001 (7,267) (807) ------- ------- ------- Net income $13,818 $ 8,242 $12,273 ======= ======= ======= F-10 At December 31, 2006, Isramco also owned 7,877,248 of units (24.97%% of the issued Partnership units) of the I.N.O.C Dead Sea Limited Partnership. Summarized financial information of I.N.O.C. Dead Sea Limited Partnership is as follows (amounts in thousands): AS OF DECEMBER 31, ------------------ Balance Sheet 2006 2005 ------- ------- Current Assets $17,004 $13,277 Other Assets -- -- ------- ------- Total Assets $17,004 $13,277 ======= ======= Current Liabilities $ 67 $ 65 Equity 16,937 13,212 ------- ------- Total Liabilities and Equity $17,004 $13,277 ======= ======= Year Ended December 31, ------------------------ Statements of Operations 2006 2005 2004 ------ ------ ------ Income $3,091 $1,495 $2,488 Expenses 280 (262) (300) ------ ------ ------ Net income $2,811 $1,233 $2,188 ====== ====== ====== (NOTE D) - Marketable Securities At December 31, 2006 and 2005, we had net unrealized gains on marketable securities of $1,054,000 and $1,538,000, respectively. Sales of marketable securities resulted in realized gains of $1,177,000 $551,000 and $240,000 for the years ended December 31, 2006, 2005 and 2004, respectively. Trading securities, which are primarily traded on the Tel-Aviv Stock Exchange, consists of the following:
DECEMBER 31, 2006 DECEMBER 31, 2005 ------------------------- ------------------------- COST MARKET VALUE COST MARKET VALUE ---------- ------------ ---------- ------------ Debentures and Convertible Debentures $ 495,000 $1,560,000 $3,852,000 $3,981,000 Equity securities 1,407,000 1,375,000 1,476,000 1,432,000 Investment Trust Funds 174,000 195,000 145,000 157,000 ---------- ---------- ---------- ---------- $2,076,000 $3,130,000 $5,473,000 $5,570,000 ========== ========== ========== ==========
Available-for-sale securities, which are primarily traded on the Tel-Aviv Stock Exchange and on the OTC Bulletin Board, consist of the following:
DECEMBER 31, 2006 DECEMBER 31, 2005 ------------------------- ------------------------- COST MARKET VALUE COST MARKET VALUE ---------- ------------ ---------- ------------ Equity Securities $1,894,000 $5,759,000 $2,178,000 $3,619,000 ========== ========== ========== ==========
(Note E) - Property, Plant and Equipment Property, plant and equipment are recorded at cost. Oil and gas assets are depreciated using the unit-of-production method and the depreciable life varies by field. Non oil and gas assets are depreciated over their useful lives using the straight line method. F-11 Property, plant and equipment at December 31, 2006 and 2005 were composed of the following (in thousands): As of December 31, 2006 2005 ------- ------- Oil and gas properties Proved oil and gas properties $16,850 $10,099 Unproved properties -- 125 Other property, plant and equipment 324 271 Land 1,888 1,888 ------- ------- Property, plant and equipment at cost 19,062 12,383 ------- ------- Less: Accumulated depletion and depreciation (6,525) (5,386) ------- ------- Net property, plant and equipment $12,537 $ 6,997 ======= ======= (NOTE F) Derivative Instruments Isramco enters into derivative contracts, including swap contracts, to provide a measure of stability in the cash flows associated with our oil and gas production and to manage exposure to commodity price. Our objective is to lock in a range of oil and gas prices. Our positions are monitored and managed on a daily basis to ensure compliance with Isramco's risk management policy. The swap contracts are entered into principally with major financial institutions. SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities," as amended, requires companies to recognize all derivative instruments as either assets or liabilities on the balance sheet at fair value. As of December 31,2006, Isramco had 24 swap contracts to sell 264,084 barrels of crude oil during 24 months commencing January 2007 for a total consideration of $17.7 million, and 24 swap contracts to sell 2,853,156 MMBTU of natural gas during 24 months commencing January 2007 for a total consideration of $23.1 million. In January 2007, Isramco executed reverse contracts for most of the abovementioned contracts and remained with open swap contracts for 23,000 barrels of crude oil for a total consideration of $1.5 million and 376,000 MMBTU of natural gas for a total consideration of $3 million. The above mentioned reverse of swap contracts generated to Isramco a profit of $2.1 million. The accounting for changes in fair value (i.e., gains or losses) of a derivative instrument depends on whether it meets the qualifications for, and has been designated as, a SFAS No. 133 hedge, and the type of hedge. At this time, we are not using SFAS No. 133 hedge accounting for commodity derivative contracts. All gains and losses, realized or unrealized, from derivative contracts not designated as SFAS No. 133 hedges have been recognized in the income statement. Gains and losses from derivative contracts held for trading not directly related to our physical business, whether realized or unrealized, have been reported net in other income. Isramco is exposed to credit risk in the event of nonperformance by the counter party to these contracts, Bank of Oklahoma and Wells Fargo Bank. However, Isramco periodically assesses their credit worthiness to mitigate this credit risk. (NOTE G) Debt Isramco's debt consists of the following as of December 31, 2006 and 2005: 2006 2005 ----------- -------- Short term bank loan $ 347,000 $370,000 Short term loan from parent company 17,164,000 -- ----------- -------- Total $17,511,000 $370,000 =========== ======== Loan from parent company bared Libor+5.5% per annum and was repaid after balance sheet date in February 2007. (NOTE H) EPS Computation SFAS No. 128, "Earnings Per Share", requires a reconciliation of the numerator (income) and denominator (shares) of the basic F-12 EPS computation to the numerator and denominator of the diluted EPS computation. Isramco's reconciliation is as follows:
FOR THE YEAR ENDED DECEMBER 31, ------------------------------------------------------------------------ 2006 2005 2004 --------------------- ----------------------- ---------------------- INCOME SHARES LOSS SHARES INCOME SHARES --------- --------- ----------- --------- ---------- --------- Earnings (loss) - basic 6,569,000 2,717,691 $ (253,000) 2,709,355 $1,424,000 2,639,853 Effect of dilutive securities: Stock options -- -- -- -- -- -- Earnings (loss) - diluted 6,569,000 2,717,691 $ (253,000) 2,709,355 $1,424,000 2,639,853 Including discontinued 3,842,000 2,717,691 (1,132,000) 2,709,355 993,000 2,639,853 operations:
(NOTE I) Stock Options The 1993 stock option plan (the 1993 Plan) was approved at the annual meeting of shareholders held in August 1993. At December 31, 2006, 20,050 shares of common stock were reserved for issuance under the 1993 Plan. Options granted under the 1993 Plan may be either incentive stock options under the Internal Revenue Code or options which do not qualify as incentive stock options. Options granted under the 1993 Plan may be exercised for a period of up to ten years from the grant date. The exercise price for an incentive stock option may not be less than 100% of the fair market value of Isramco's common stock on the date of grant. All the options granted under the 1993 Plan to date were fully vested on the date of grant. The administrator of the 1993 Plan may set the exercise price for a nonqualified stock option at less than 100% of the fair market value of Isramco's common stock on the date of grant. No stock options were granted during 2006, 2005 and 2004. Shares of common stock reserved for future issuance under the 1993 plan are 20,050 shares. There are no granted stock options outstanding under the 1993 Plan as of balance sheet date. (NOTE J) -- Income Taxes The components of the provision for income taxes on continuing operations for the years ended December 31 were: 2006 2005 2004 --------- --------- -------- Current income tax: (Restated) Federal $(167,000) $ -- $ -- Foreign 400,000 370,000 -- State 150,000 25,000 24,000 --------- --------- -------- Total current income tax $ 383,000 $ 395,000 $ 24,000 --------- --------- -------- Deferred income tax U.S. $ 343,000 $(355,000) $552,000 Foreign -- -- -- State -- -- -- --------- --------- -------- Total deferred income tax $ 343,000 $(355,000) $552,000 ========= ========= ======== Provision for income tax $ 726,000 $ 40,000 $576,000 ========= ========= ======== F-13 The deferred tax assets (liabilities) as of December 31, 2006 and 2005 are as follows:
2006 2005 ---------- ----------- Net unrealized depreciation (appreciation) of marketable securities $(1,467,000) $ (523,000) Investments in partnerships (3,048,000) (2,510,000) Basis differences in property and equipment (1,369,000) (708,000) Losses carry-forward 1,072,000 456,000 Foreign tax credit carry-forward 370,000 370,000 Other timing differences 30,000 16,000 ---------- ----------- Total $(4,412,000) $(2,899,000) ========== ===========
Reconciliation between the actual income tax expense (benefit) and income taxes computed by applying the U.S. Federal income tax rate to income before income taxes is as follows: YEAR ENDED DECEMBER 31, ---------------------------- 2006 2005 2004 ----- ----- ---------- (RESTATED) Computed at U.S. statutory rates 35.0% (35.0)% 35.0% State income taxes, net of federal benefit 2.1% 2.3% 1.1% Foreign income taxes 9.6% 33.9% -- Accretion expense (35.2)% -- -- Other 0.2% 2.5% 0.6% ----- ----- ---- 11.7% 3.7% 36.7% ===== ===== ==== (NOTE K) -- Concentrations of Credit Risk Financial instruments, which potentially expose Isramco to concentrations of credit risk, consist primarily of trade accounts receivable. Isramco's customer base includes several of the major United States oil and gas operating and production companies. Although Isramco is directly affected by the well-being of the oil and gas production industry, management does not believe a significant credit risk existed at December 31, 2006. Isramco maintains deposits in banks, which may exceed the amount of federal deposit insurance available. Management periodically assesses the financial condition of the institutions and believes that any possible deposit loss is minimal. A significant portion of Isramco's cash and cash equivalents is invested in marketable securities. Substantially all marketable securities owned by Isramco are held by banks in Israel and Switzerland. (NOTE L) -- Commitments and Contingencies COMMITMENTS: Isramco leases corporate office facilities under a three-year operating lease expiring in October 2009 at a monthly rental of $3,200. Isramco is also responsible for its pro rate share of the operating expenses that exceed a certain threshold. At December 31, 2006, future minimum lease payments under non-cancelable operating leases were approximately $108,800 Future annual minimum lease payments are follows: Year Ending December 31, Amount - ------------------------ -------- 2007 $ 38,400 2008 38,400 2009 32,000 -------- Total $108,800 ======== CONTINGENCIES: Isramco is involved in various other legal proceedings arising in the normal course of business. In the opinion of management, Isramco's ultimate liability, if any, in these pending actions would not have a material adverse effect on the financial position, operating results or liquidity of Isramco. F-14 (NOTE M) - Geographical Segment Information Isramco's operations for 2006 involve two industry segments - the exploration, development production and transportation of oil and natural gas and holding and leasing its cruise line vessel. Prior to 2004, Isramco operated in a single operating segment - oil and gas activities. Its current oil and gas activities are concentrated in the United States and Israel. Operating outside the United States subjects Isramco to inherent risks such as a loss of revenues, property and equipment from such hazards as exploration, nationalization, war, terrorism and other political risks, risks of increased taxes and governmental royalties, renegotiation of contracts with government entities and change in laws and policies governing operations of foreign-based companies. Isramco's oil and gas business is subject to operating risks associated with the exploration, and production of oil and gas, including blowouts, pollution and acts of nature that could result in damage to oil and gas wells, production facilities of formations. In additions, oil and gas prices have fluctuated substantially in recent years as a result of events, which were outside of Isramco's control. Isramco does not directly operate the cruise line vessel. Isramco leases the vessel to third party cruise line operators. This segment of Isramco's business is subject to many risks all of which cannot be presently anticipated, including losses resulting from unexpected repairs and maintenance and competition.
GEOGRAPHIC SEGMENTS (IN THOUSANDS) ------------------------------------ UNITED STATES ISRAEL TOTAL ------------- ------ ----------- 2006 Sales and other operating revenue $ 2,167 $ 825 $ 2,992 Costs and operating expenses 2,517 251 2,768 ------- ------ -------- Operating profit (loss) (350) 574 224 Interest income and other 448 Net gain in investee and gain on marketable Securities 3,747 General corporate expenses (2,009) Internet expense (294) Compensation for legal settlement 2,536 Gain from swap transaction 2,604 Other income 39 Income taxes (726) Net income before discontinued operation 6,569 Loss on discontinued operation (2,727) Net income 3,842 Identifiable assets at December 31, 2006 10,560 66 10,626 Cash and corporate assets 51,447 Total assets at December 31, 2006 62,073 2005 Sales and other operating revenue $ 3,140 $1,550 $ 4,690 Costs and operating expenses (3,075) (787) (3,862) ------- ------ -------- Operating profit (loss) 65 763 828 Interest income 294 Interest expense (-) Gain on marketable securities and net gain in investee 1,212 General corporate expenses (2,045) Other income (expense) (524) Compensation for legal settlement -- Gain from swap transaction (641) Income taxes (40) Net loss before discontinued operation (253) Loss on discontinued operation (879) Net loss (1,132) Identifiable assets at December 31, 2005 $ 5,236 $ 68 $ 5,304 Cash and corporate assets 33,311 Total assets at December 31, 2005 38,615
F-15 2004 Sales and other operating revenue $ 3,368 $ 730 $ 4,098 Costs and operating expenses (2,309) (800) (3,109) ------- ------ -------- Operating profit (loss) 1,059 (70) 989 Interest income 729 Interest expense (93) General corporate expenses (1,722) Gain on marketable securities and 1,605 Net income in investee Other income 492 Income taxes (576) Net income before discontinued operation 1,424 (431) Net income 993 Identifiable assets at December 31, 2004 $ 3,135 $ 59 $ 3,194 Cash and corporate assets 56,178 Total assets at December 31, 2004 59,372
(NOTE N) -- Asset Retirement Obligations The reconciliation of the beginning and ending asset retirement obligations for the years ended December 31, 2006 and 2005 is as follows (in thousands): 2006 2005 ---- ---- Asset retirement obligations, as of beginning of the year $343 $314 Liabilities incurred 8 7 Liabilities settled -- -- Accretion expense 13 19 Revisions in estimated cash flows (8) (3) ---- ---- Asset retirement obligations, as of end of year $356 $343 ==== ==== (NOTE O) -- Common Stock In March 2005, Isramco issued 38,919 shares of its common stock to each of Haim Tsuff, Chairman of the Board of Directors and Chief Executive Officer of Isramco, and Jackob Maimon, President of Isramco. The shares were issued upon the exercise of options to purchase 69,995 shares common stock at an exercise price of $4.28 per share granted to each of Mr. Tsuff and Mr. Maimon on March 25, 2000. The options were exercised pursuant to "cashless" exercise provisions under which the number of shares of common stock issued upon exercise was reduced by the number of shares, valued at the closing price of the common stock on the Nasdaq Small Cap Market on the trading day immediately prior to exercise, equal to the aggregate exercise price of the option. F-16 (NOTE P) -- Restatement Isramco has restated its 2004 financial statements from the amounts previously reported. The restatements include adjustments to the calculation of the deferred tax in 2004 related to temporary differences that originated prior to 2003. Following is a summary of the restatement adjustments: AS REPORTED ADJUSTMENTS AS RESTATED ----------- ----------- ----------- 2004 SUMMARY BALANCE SHEET Total assets $41,358 $ -- $41,358 Current Liabilities 2,670 -- 2,670 Assets retirement obligation 314 -- 314 Deferred tax obligation 2,989 480 3,469 Current portion of long-term bank loan 4,869 -- 4,869 Total Long term Liabilities 8,172 480 8,652 Total Liabilities 10,842 480 11,322 Total Shareholder's Equity 30,516 (480) 30,036 AS REPORTED ADJUSTMENTS AS RESTATED ----------- ----------- ----------- 2004 SUMMARY STATEMENT OF OPERATIONS Total Revenues $ 8,943 $ -- $8,943 Total Expenses 7,374 -- 7,374 Income before taxes 1,569 -- 1,569 Income taxes (1,589) 1,013 (576) Net Income $ (20) $1,013 $ 993 Earning Per Share $ -- $ 0.38 $ 0.38 (NOTE Q) - DISCONTINUED OPERATION In March 2004, Isramco purchased a luxury cruise liner for aggregate consideration of $8,050,000. Isramco, through its wholly owned subsidiary, Magic 1 Cruise Line Corp., a British Virgin Island corporation ("Magic 1 Corp."), leased the vessel to European based tour operator from April 2005 through October 2005 and from April 6, 2006 through November 5, 2006. In December 2006, Isramco sold all of the outstanding share capital of Magic 1 Corp. to an unrelated third party for total consideration of approximately $2.15 million The sale included the assumption by the purchaser of a loan in the principal amount of $3.3 million. Following the sale, Isramco is no longer engaged in the business of cruise line vessel RESULTS OF OPERATION FROM DISCONTINUED OPERATION (in thousands except for share information) YEAR ENDED DECEMBER 31, ------------------------ 2006 2005 2004 ------- ------ ------ Revenues $ 1,712 $1,520 $2,033 ------- ------ ------ Expenses : Interest expense 622 389 170 Cost of revenue from vessel 1,418 1,051 1,926 Depreciation 945 1,128 438 General and administrative 7 15 26 Impairment of vessel 2,200 -- -- ------- ------ ------ Total expenses 5,192 2,583 2,560 ------- ------ ------ Loss before income taxes (3,480) (1,063) (527) Income taxes -- -- -- ------- ------ ------ Net loss from vessel activity (3,480) (1,063) (527) ------- ------ ------ Interest expenses to parent company 369 184 96 Capital gain from sale of activity 384 -- -- ------- ------ ------ Net loss from discontinued operation $(2,727) $ (879) $ (431) ======= ====== ====== F-17 (NOTE R) - SUBSEQUENT EVENTS TRANSACTION WITH FIVE STATES On March 2, 2007, Isramco, through Isramco Energy LLC, a Texas limited liability company that is wholly owned by Isramco, purchased certain oil and gas properties (including 650 oil and gas wells) located in Texas and New Mexico from Five States Energy Company, L.L.C. for an aggregate purchase price of $92 million (the "Purchase Price"). According to an engineering report prepared by an independent consulting company, the estimated proved developed producing reserves are 1,447,161 net barrels of oil and 20,078,174 net MMCF's of natural gas and 1,305,705 net of liquid products. Isramco funded $7.7 million of the Purchase Price from working capital and the balance from a combination of commercial bank loans and loans from related parties. Isramco obtained loans in the total principle amount of $42 million from Naphtha Israel Petroleum Corp. Ltd., the parent company (including through its wholly owned subsidiary IOC-Israel Oil Company Ltd) ("Naphtha"). Pursuant to a Loan Agreement dated as of February 27, 2007 (the "Loan Agreement"), Isramco obtained $18.5 million. The outstanding principal amount of the loan accrues interest at per annum rate equal to the London Inter-bank Offered Rate (LIBOR) plus 5.5%, not to exceed 11% per annum. Interest is payable at the end of each loan year. Principal plus any accrued and unpaid interest are due and payable on February 26, 2014. To secure its obligations that may be incurred under the Loan Agreement, Isramco agreed to grant to Naphtha a security interest in certain specified properties held by Jay Petroleum, its wholly owned subsidiary. Pursuant to a Loan Agreement dated as of February 27, 2007 (the "Second Loan Agreement") Isramco obtained a loan from Naphtha, in the principal amount of $10.5 million, repayable at the end of seven years. Interest accrues at a per annum rate of LIBOR plus 6%. The Second Loan is not secured. The other terms of the Second Loan Agreement are identical to the terms of the Loan Agreement. Pursuant to a Loan Agreement dated as of February 27, 2007 (the "Third Loan Agreement ") Isramco obtained a loan from Naphtha, in the principal amount of $12 million, repayable at the end of five years. Interest accrues at a per annum rate of LIBOR plus 6%. The Third Loan is not secured. The other terms of the Third Loan Agreement are identical to the terms of the Loan Agreement. Pursuant to a Loan Agreement dated as of February 26, 2007 Isramco obtained a loan from J.O.E.L Jerusalem Oil Exploration Ltd, a related party ("JOEL"), in the principal amount of $7 million, repayable at the end of 3 months. Interest accrues at a per annum rate of 5.36%.. As of March 2, 2007 Isramco Energy obtained a $35.3 million credit line from Wells Fargo Bank. Amounts outstanding under the credit line are payable by March 1, 2011. Interest on amounts outstanding accrue at a per annum rate equal to LIBOR plus 2%.. In addition to including customary affirmative and negative covenants, the Credit Agreement requires Isramco Energy to: (a) maintain a ratio of consolidated current assets to consolidated current liabilities of no less than 1.0 to 1.0 at all times; (b) ensure that its leverage ratio is no more than 3.50 to 1.0 as of the end of each fiscal quarter; (c) ensure that its interest coverage ratio is no more than 2.50 to 1.0 as of the end of each fiscal quarter; (d) ensure that its capital expenditures in any fiscal year do not exceed $2.500,000.; ensure that COPAS charges do not exceed $250 per well per month. Amounts outstanding under the Credit Agreement are secured by a guarantee from Isramco and a pledge by Isramco of the shares of Isramco Energy. Additionally, on March 2, 2007, Isramco Energy paid to Sigma Energy Corporation, an unrelated party that originated the transaction with Five States, the amount of $300,000 and after Payout (as defined in the agreement with Sigma), Isramco Energy undertook to assign to Sigma a direct ownership interests equal to 3.75% of the interests acquired by Isramco Energy under the Five States purchase agreement. SWAP TRANSACTIONS As of December 31, 2006, Isramco had 24 swap contracts to sell 264,084 barrels of crude oil during 24 months commencing January 2007 for a total consideration of $17.7 million, and 24 swap contracts to sell 2,853,156 MMBTU of natural gas during 24 months commencing January 2007 for a total consideration of $23.1 million. Subsequent to balance sheet date, in January 2007, Isramco executed reverse contracts for most of the above mentioned contracts and remained with open swap contracts for 23,000 barrels of crude oil for a total consideration of $1.5 million and 376,000 MMBTU of natural gas for a total consideration of $3 million. The above mentioned reverse of swap contracts generated to Isramco a profit of $2.1 million. Following the closing of Five state transaction as stated above, Isramco signed additional swap agreements with Wells Fargo Bank to secure it's future oil and gas prices as follows: Swap contracts to sell 398,918 barrels of crude oil during 46 months commencing March 2007 for a total consideration of $25.4 million. Swap contracts to sell 29,609,026 MMBTU of natural gas during 46 months commencing March 2007 for a total consideration of $29.6 million. F-18 Hereunder are the open swap contracts positions as at March 13, 2007: OIL - ---------------------------------------------------------- MONTHLY FUTURE TOTAL TOTAL QUANTITY PRICE NO' OF QUANTITY AMOUNT BARRELS US$ YEAR MONTHS BARRELS US$ - -------- ------ ----- ------ -------- ---------- 3,000 62.00 2,007 10 30,000 1,860,000 3,000 64.15 2,008 12 36,000 2,309,400 2,700 63.90 2,009 12 32,400 2,070,360 2,700 63.30 2,010 12 32,400 2,050,920 6,341 62.47 2,007 10 63,410 3,961,223 5,516 64.70 2,008 12 66,192 4,282,622 6,096 64.55 2,009 12 73,152 4,721,962 5,447 63.80 2,010 12 65,364 4,170,223 1,000 66.05 2,007 12 12,000 792,600 1,000 68.46 2,008 12 12,000 821,520 ------- ---------- Total 422,918 27,040,830 ======= ========== GAS - ----------------------------------------------------------- MONTHLY FUTURE TOTAL TOTAL QUANTITY PRICE NO' OF QUANTITY AMOUNT MMBTU US$ YEAR MONTHS MMBTU US$ - -------- ------ ----- ------ --------- ---------- 81,107 8.03 2,007 10 811,070 6,512,892 80,876 8.20 2,008 12 970,512 7,958,198 85,874 7.77 2,009 12 1,030,488 8,006,892 79,286 7.49 2,010 12 951,432 7,126,226 -- 20,000 7.87 2,007 12 240,000 1,887,600 13,000 8.37 2,008 12 156,000 1,304,940 --------- ---------- Total 4,159,502 32,796,748 ========= ========== (NOTE S) -- Supplementary Oil and Gas Information (Unaudited) The following supplemental information regarding the oil and gas activities of Isramco for 2006, 2005 and 2004 is presented pursuant to the disclosure requirements promulgated by the Securities and Exchange Commission and SFAS No. 69, "Disclosures About Oil and Gas Producing Activities." Capitalized costs relating to oil and gas activities and costs incurred in oil and gas property acquisition, exploration and development activities for each year are shown below. CAPITALIZED COST OF OIL AND GAS PRODUCING ACTIVITIES (IN THOUSANDS)
2006 2005 UNITED STATES UNITED STATES ------------- ------------- Unproved properties not being amortized -- -- Proved property being amortized 16,851 10,566 Accumulated depreciation, depletion amortization and impairment (5,611) (5,347) ------ ------- Net capitalized costs 11,240 $ 5,219 ====== =======
F-19 COSTS INCURRED IN OIL AND GAS PROPERTY ACQUISITION, EXPLORATION, AND DEVELOPMENT ACTIVITIES (IN THOUSANDS) 2006 2005 2004 UNITED UNITED UNITED STATES STATES STATES ------ ------ ------ Property acquisition costs--proved and unproved properties Exploration costs 1,609 $2,557 $ -- Development costs 125 110 -- 4,652 582 1,098 OIL AND GAS RESERVES Oil and gas proved reserves cannot be measured exactly. The engineers interpreting the available data, as well as price and other economic factor base reserve estimates on many factors related to reservoir performance, which require evaluation. The reliability of these estimates at any point in time depends on both the quality and quantity of the technical and economic data, the production performance of the reservoirs as well as extensive engineering judgment. Consequently, reserve estimates are subject to revision, as additional data become available during the producing life of a reservoir. When a commercial reservoir is discovered, proven reserves are initially determined based on limited data from the first well or wells. Subsequent data may better define the extent of the reservoir and additional production performance, well tests and engineering studies will likely improve the reliability of the reserve estimate. The evolution of technology may also result in the application of improved recovery techniques such as supplemental or enhanced recovery projects, or both, which have the potential to increase reserves beyond those envisioned during the early years of a reservoir's producing life. The following table represents Isramco's net interest in estimated quantities of proved developed and undeveloped reserves of crude oil, condensate, natural gas liquids and natural gas and changes in such quantities at December 31, 2005, 2004 and 2003, and for the years then ended. Net proved reserves are the estimated quantities of crude oil and natural gas which geological and engineering data demonstrate with reasonable certainty to be recoverable in future years from known reservoirs under existing economic and operating conditions. Proved developed reserves are proved reserve volumes that can be expected to be recovered through existing wells with existing equipment and operating methods. Proved undeveloped reserves are proved reserve volumes that are expected to be recovered from new wells on undrilled acreage or from existing wells where a significant expenditure is required for recompilation. All of Isramco's proved reserves are in the United States. Isramco's oil and gas reserves are priced at $6.3 per barrel and $61.05 per Mcf, respectively, at December 31, 2006 OIL BBLS GAS MCF -------- --------- December 31, 2003 197,900 3,003,240 Revisions of previous estimates (40,031) (522,246) Acquisition of minerals in place Sales of minerals in place -- -- Production (17,789) (469,558) ------- --------- December 31, 2004 140,080 2,011,440 Revisions of previous estimates (20,269) (118,402) Acquisition of minerals in place 1,280 106,670 Sales of minerals in place -- -- Production (15,723) (355,008) ------- --------- December 31, 2005 105,368 1,644,700 Revisions of previous estimates 24,071 (59,066) Acquisition of minerals in place -- -- Sales of minerals in place -- -- Production (13,464) (213,634) ------- --------- December 31, 2006 115,975 1,372,000 ======= ========= F-20 Isramco's proved developed reserves are as follows: DEVELOPED UNDEVELOPED OIL BBLS GAS MCF OIL BBLS GAS MCF -------- --------- -------- ------- December 31, 2006 115,975 1,372,000 5,876 618,700 December 31, 2005 105,368 1,644,700 20,652 484,101 December 31, 2004 140,080 2,011,440 32,880 334,100 December 31, 2003 197,900 3,003,240 -- 516,440 Interest in proved reserves of unconsolidated affiliates OIL BBLS GAS MCF -------- --------- December 31, 2006 -- 1,979,000 December 31, 2005 -- 1,979,000 December 31, 2004 -- 1,979,000 December 31, 2003 -- 1,979,000 STANDARDIZED MEASURE OF DISCOUNTED FUTURE NET CASH FLOW The standardized measure of discounted future net cash flows relating to Isramco's proved oil and gas reserves is calculated and presented in accordance with Statement of Financial Accounting Standards No. 69. Accordingly, future cash inflows were determined by applying year-end oil and gas prices to Isramco's estimated share of the future production from proved oil and gas reserves. Future production and development costs were computed by applying year-end costs to future years. Applying year-end statutory tax rates to the estimated net future cash flows derived future income taxes. A prescribed 10% discount factor was applied to the future net cash flows. In Isramco's opinion, this standardized measure is not a representative measure of fair market value. The standardized measure is intended only to assist financial statement users in making comparisons among companies.
2006 2005 2004 ----------- ----------- ----------- Future cash inflows $18,208,000 $27,812,000 $16,308,760 Future development costs (866,000) (894,000) (73,800) Future production costs (7,170,000) (8,045,000) (6,691,180) ----------- ----------- ----------- Future net cash flows 10,172,000 18,873,000 9,548,750 Future income tax expenses (2,976,000) (6,458,000) (3,426,575) Annual 10% discount rate (2,875,000) (4,927,000) (300,190) ----------- ----------- ----------- Standardized measure discounted future net cash flows $ 4,321,000 $ 7,488,000 $ 6,001,810 =========== =========== ===========
CHANGES IN STANDARDIZED MEASURE OF DISCOUNTED FUTURE NET CASH FLOWS The principal sources of change in the standardized measure of discounted future net cash flows for the years ended December 31, 2006, 2005 and 2004 were as follows:
2006 2005 2004 ----------- ----------- ----------- Beginning of the year $7,488,000 $ 6,001,810 $ 4,650,177 Sales and transfers of oil and gas produced, net of production costs (1,048,000) (1,861,000) (2,025,000) Net changes in prices and production costs (5,629,000) 10,962,000 2,475,000 Net changes in income taxes 4,961,000 220,000 1,364,429 Changes in estimated future development costs, net of current development costs -- -- 86,980 Acquisition of minerals in place 992,000 -- 1,074,485 Revision of previous estimates (1,716,000) 1,000,000 (5,974,080) Change of discount 1,395,000 943,000 Change in production rate and other (2,123,000) (9,740,577) 4,349,819 ----------- ----------- ----------- End of year $4,321,000 $ 7,488,000 $ 6,001,810 =========== =========== ===========
F-21 (NOTE T) -- SELECTED QUARTERLY FINANCIAL DATA (Unaudited) (Amounts in thousands, except per share data)
QUARTER ENDED -------------------------------------------------------- MARCH 31 JUNE 30 SEPTEMBER 30 DECEMBER 31 TOTAL 2006 2006 2006 2006 2006 -------- ------- ------------ ----------- ------ Total Revenues 5,245 2,305 1,443 3,373 12,366 Net Income (loss) before taxes 2,650 1,337 225 3,083 7,295 Net income (loss) from discontinued operation (2,500) 231 458 (916) (2,727) Net Income 394 1,066 582 1,800 3,842 Earnings (loss) per Common Share - -Basic and Diluted 0.14 0.39 0.21 0.67 1.41
QUARTER ENDED --------------------------------------------------------- MARCH 31 JUNE 30 SEPTEMBER 30 DECEMBER 31 TOTAL (Amounts in thousands, except per share data) 2005 2005 2005 2005 2005 -------- ------- ------------ ----------- ------- Total Revenues $2,201 $1,053 $2,565 $ 396 $ 6,215 Net Income (loss) before taxes $ 989 $ (953) $1,152 $(1,401) $ (213) Net income (loss) from discontinued operation -- (201) 190 (529) (879) Net Income (loss) $ 304 $ (596) $ 992 $(1,832) $(1,132) Earnings (loss) per Common Share - -Basic and Diluted $ 0.11 $(0.22) $ 0.36 $ (0.67) $ (0.42)
QUARTER ENDED -------------------------------------------------------- MARCH 31 JUNE 30 SEPTEMBER 30 DECEMBER 31 TOTAL 2004 2004 2004 2004 2004 -------- ------- ------------ ----------- ------ Total Revenues $1,893 $ 741 $2,338 $1,937 $6,909 Net Income (loss) before taxes $ 915 $ 150 $ 466 $ 564 $2,095 Net income (loss) from discontinued operation $ (529) $ 123 $ 122 $ (676) $ (431) Net Income (loss) $ 845 $ -- $ (595) $ 743 $ 993 Earnings (loss) per Common Share - -Basic and Diluted $ 0.32 $0.00 $(0.23) $ 0.29 $ 0.38
F-22 EX-10.17 2 ex10-17.txt EXHIBIT 10.17 EXHIBIT 10.17 SHARE PURCHASE AND SALE AGREEMENT This SHRE PURCHASE AND SALE AGREEMENT (this "Agreement") is entered into as of December 31, 2006 by and between ISRAMCO INC., a Delaware corporation ("Seller"), and CHESNY ESTATES LTD., a British Virgin Islands company ("Buyer") WHEREAS MAGIC 1 CRUISE LINE CORP. (the "COMPANY") is a company duly incorporated and registered in the British Virgin Islands, and WHEREAS The Company is the owner of the cruise liner M/V "MIRAGE 1", IMO number 7221433 a Bahamas flagged vessel (the "VESSEL"), and WHEREAS The Seller is the owner of 50,000 shares par value 1 USD each constituting 100% of the issued shares capital of the Company (the "SHARES"); and WHEREAS The Seller desires to sell, transfer and deliver the Shares to the Buyer and the Buyer desires to purchase and receive the Shares from the Seller, subject to the terms and conditions set forth herein, In consideration of the mutual promises contained herein, the benefits to be derived by each party hereunder and other good and valuable consideration, the receipt and sufficiency of which are hereby acknowledged, Buyer and Seller agree as follows: ARTICLE I PURCHASE AND SALE 1. 1.1 PURCHASE AND SALE. Seller agrees to sell and convey and Buyer agrees to purchase and pay for the Shares, subject to the terms and conditions of this Agreement, 1.2 EFFECTIVE DATE. The purchase and sale of the Shares shall be effective for all purposes as of December 31, 2006, at 12:01 A.M., Delaware local time (the "Effective Date"). ARTICLE II PURCHASE PRICE Purchase and Sale Agreement Page1 PURCHASE PRICE 2. 2.1 PURCHASE PRICE. The purchase price for the Shares shall be $ 2,300,000 (the "Purchase Price"), subject to adjustments as set forth in section 2.2 below. 2.2 ADJUSTMENT TO PURCHASE PRICE. Purchase Price shall be adjusted as follows and the resulting amount shall be considered as the Final Purchase Price. (a) 7 days after the issuance of the audited financial reports of the Company as of December 31, 2006. the Purchase Price shall be adjusted, upward or downward (as the case may be) to reflect a purchase price equal to the sum of Sellers shareholders loan to Magic deducted by equity deficit (the "Final Purchase Price"). 3 day after the adjustment of the Purchase Price and calculation of the Final Purchase Price, Purchaser shall pay the Seller, or shall receive from the Seller (as the case may be), the balance between the Final Purchase Price and the Purchase Price. 2.3 PAYMENT. Upon execution of this Agreement, the Buyer shall pay the full Purchase Price, as provided in section 4(a) to this Agreement.. ARTICLE III REPRESENTATIONS AND WARRANTIES 3. 3.1 REPRESENTATIONS AND WARRANTIES OF SELLER , Seller represents and warrants to Buyer as follows: (a) Seller is a corporation duly organized, validly existing under the laws of the State of Delaware. (b) Seller has all requisite power and authority to enter this Agreement, and to perform obligations under this Agreement. The consummation of the transactions Purchase and Sale Agreement Page2 contemplated by this Agreement will not violate, nor be in conflict with, any provision of Seller's, bylaws or governing documents, or any agreement or instrument to which a Seller is a party or is bound, or any judgment, decree, order, statute, rule or regulation applicable to Seller. (c) The execution, delivery and performance of this Agreement and the transactions contemplated hereby have been duly and validly authorized by all requisite action or the part of Seller. The execution and the delivery by Seller of this Agreement, transfer of the Shares and the performance and consummation of the transactions contemplated herein by Seller will not (i) violate any law or order to which Seller is subject, or (ii) breach any Material contract, order, or permit to which Seller is a party or by which Seller is bound,or (ii) conflict with or violate any agreement governing Seller's organization or management or any Material agreement or (iii) require any consent of any third party which will not be obtained at reasonable time. (d) This Agreement has been duly executed and delivered on behalf of Seller, and all documents and instruments required hereunder to be executed and delivered by Seller shall have been duly executed and delivered. This Agreement does, and such documents and instruments shall, constitute legal and valid obligations of Seller. (e) Copy of the Certificate of Incorporation of the Company its Mernorandum and Article of Association attached hereto and as Appendices "A" and "A1". (f) The authorized capital of the Company is USD 50,000, the issued and outstanding capital of the Company is USD 50,000, comprised of 50,000 par value of USD 1 each, numbered 1 - 50,000. (g) Seller is the sole legal owner of the Shares that constitute 100% of the issued shares capital of the Company. Copy of the share Certificate is attached as Appendix "B". (h) The Shares are free and clear of any encumbrance or any third party's interest. (i) There are no obligations of, or undertakings by the Company to issue stock or other securities of the Company, and there are no other share capital, preemptive rights, convertible securities, outstanding warrants, options or other rights to subscribe for, purchase of acquire from the Company and share capital of the Company, nor has the Company agreed to issue any such securities, warrants, options of rights in the future. Purchase and Sale Agreement Page3 (j) The Company is not a guarantor in respect of any third party's loan, including the Seller. (k) There is no action, suit, proceeding of investigation pending or, to the Seller's knowledge, threatened, against the Company. The Company paid all taxes to the Registrar of Companies in BVI until 2006 (inclusive), and delivered all notices and reports requested under applicable law. (l) The Company is not in default under any agreement or other instrument to which the Company is a party or with respect to any law, statue, regulation, order, writ, injunction, decree, or judgment of any court or any governmental department, commission, which default may materially adversely affect the Company's business. (m) Seller shall be responsible for all debts and/or undertakings of the Company of whatever nature which have arisen of created or their source relate to the period prior to the Effective Dade. (n) Since its incorporation, the Company has operated only in the usual course of business. (o) No action, proceeding or governmental inquiry or investigation is pending or threatened against the Company or the Vessel. (p) The Company has good and marketable title to the Vessel, free and clear of all Encumbrances except for a mortgage as specified in Appendix 'C'. (q) The sole director of the Company is Mr. Haim Tsuff. 3.2 REPRESENTATIONS AND WARRANTIES OF BUYER. Buyer represents and warrants to Seller as follows: (a) Buyer is a limited liability company duly organized, validly existing and in good standing under the laws of the British Virgin Islands. (b) Buyer has all requisite power and authority to carry on business as presently conducted by the Company, to enter this Agreement, and to perform obligations under this Agreement. The consummation of the transactions contemplated by this Agreement will not violate, nor be in conflict with, any provision of Buyer's charter, bylaws or governing documents, or any agreement or instrument to which a Buyer is Purchase and Sale Agreement Page4 a party or is bound, or any judgment, decree, order, statute, rule or regulation applicable to Buyer. (c) The execution, delivery and performance of this Agreement and the transactions contemplated hereby have been duly and validly authorized by all requisite action or the part of Buyer. (d) This Agreement has been duly executed and delivered on behalf of Buyer, and all documents and instruments required hereunder to be executed and delivered by Buyer have been duly executed and delivered. This Agreement does, and such documents and instruments shall, constitute legal and valid obligations of Buyer. (e) Buyer has no liability to pay any compensation to any broker, finder, or agent with respect to this transactions for which Seller could become directly or indirectly liable (f) Buyer has the financial ability and the required sources to meet his undertakings, under this Agreement. (g) Subject to the accuracy of the Sellers' representation as specified in this Agreement and the fulfillment of the Seller' undertaking as specified in this Agreement, Buyer waives all claims and/or demands against the Seller in respect of this Agreement. (h) Buyer is an experienced investor, capable of evaluating the merits and risks of the investment contemplated herein and Buyer hereby acknowledges that it had full opportunity to inquire and receive information relating to the Company and the Vessel. Buyer has sufficient knowledge and experience in business and financial matters, so as to reach an informed and knowledgeable decision to purchase the Shares. Buyer relied on its own knowledge and investigation carried out on behalf of Buyer by independent consultants and experts with respect to the business and potential of the Company. (i) Buyer acknowledges it was provided by Seller with all information and data required by Buyer and Buyer has all sufficient information in order to enter this Agreement. (j) Buyer acknowledges it is entering this Agreement on "as is" basis without relying on any representation or warranties from Seller, except those expressly set forth in this Agreement .Buyer is relying solely on its own knowledge and independent review (including but not limited to the Buyer being the lessee of the Vessel in the years 2205 and 2006 ). Purchase and Sale Agreement Page5 3.3 DISCLAIMER. To the extent required by applicable Law to be operative, the disclaimers of certain warranties contained in this SECTION 3.3 are "conspicuous disclaimers" for purposes of any applicable Law. (a) EXCEPT AS OTHERWISE PROVIDED IN THIS AGREEMENT AND THE CONVEYANCES, BUYER AGREES THAT SELLER IS CONVEYING THE SHARES WITHOUT REPRESENTATION, WARRANTY, OR INDEMNITY, EITHER EXPRESSED OR IMPLIED AT COMMON LAW, BY STATUTE, OR OTHERWISE (ALL OF WHICH SELLER HEREBY DISCLAIMS), RELATING TO (I) TITLE, (II) MERCHANTABILITY, DESIGN, OR QUALITY, OR (III) FITNESS FOR ANY PARTICULAR PURPOSE. (b) BUYER WAIVES ITS RIGHTS, IF ANY, UNDER THE TEXAS DECEPTIVE TRADE PRACTICES-CONSUMER PROTECTION ACT, TEXAS BUSINESS AND COMMERCE CODE, A LAW THAT GIVES CONSUMERS SPECIAL RIGHTS AND PROTECTIONS. AFTER CONSULTATION WITH AN ATTORNEY OF ITS OWN SELECTION, BUYER VOLUNTARILY CONSENTS TO THIS WAIVER. ARTICLE I V THE TRANSACTION 4.1 Contemporaneously with the execution of this Agreement, Seller and Buyer shall take the following actions for the closing of the Purchase and Sale of the Shares: (a) Purchaser shall pay to Seller the Purchase Price. (b) Seller shall transfer and deliver to Buyer the original share certificate certifying that Seller is the registered holder of the Shares and a share transfer upon its delivery the ownership in the Shares is transferred to the Buyer. (c) Seller shall provide the Buyer with the original Certificate of Incorporation, Memorandum and Articles of association of the Company as well as all other documents, books, records belonging etc. relating to the Company and the Vessel. (d) The director of the Company and the Company's signatories shall be replaced in accordance with Buyer's instruction (including in respect to the bank accounts of the Company). (e) Seller assigns to Buyer the shareholder loan granted by Seller to the Company (as recorded in Company's books). Purchase and Sale Agreement Page6 ARTICLE V 5. 5.1 ASSUMPTION OF OBLIGATIONS. Upon the execution of this Agreement and as of the effective date, Buyer assumes all obligations and liabilities in respect of the Shares, the Company and the Vessel. 5.2 INDEMNIFICATION BY BUYER. Buyer assumes, be responsible for, shall pay on a current basis, and shall indemnify, save, hold harmless, discharge and release Seller, its respective affiliates, its and their successors and permitted assigns, and all of their respective stockholders, directors, officers, employees, agents, representatives (collectively, "Buyer Indemnified Parties") from and against any and all claims, costs, expenses and liabilities arising from, based upon, related to or associated with the Company and the Vessel. 5.3 FURTHER ASSURANCES. Seller and Buyer shall execute, acknowledge and deliver or cause to be executed, acknowledged and delivered such instruments and take such other action as may be necessary or advisable to carry out their obligations under this Agreement. ARTICLE VI MISCELLANEOUS 6. NOTICES. All notices and other communications which are required or which may be given under the provisions of this Agreement shall be in writing and the same shall be deemed to have been given on the same day if delivered in person, by overnight courier or by facsimile to the facsimile number herein below for the party to whom the notice is given, or on the third day thereafter if placed in the United States mails, registered or certified mail with postage prepaid and addressed to the party at the address hereinafter specified. The addresses and facsimile numbers of the Parties for all purposes under this Agreement and for all notices hereunder shall be: Purchase and Sale Agreement Page7 If to Seller: Isramco, Inc. 11767 Katy Freeway, Suite 711 Houston, Texas 77079 Telephone. no. 713 621-3882 Fax No. 713 621-3988 If to Buyer: Chesny Estates Ltd. Iordansstraat 39, 2012 HA Haarlem, Holland Telephone: +31-23-5285901 Telecopier: +31-23-5285902 All such notices and communications shall be deemed to have been received on the date of delivery or on the third Business Day after the registered or certified mailing thereof. From time to time any party may designate another address or facsimile number or telephone number for all purposes of this Agreement by notifying the other party of such change in accordance with the provisions hereof. 7. ENTIRE AGREEMENT. This Agreement constitutes the entire agreements between the parties with respect to the subject matter hereof and supersedes all prior agreements and undertakings, written and oral. No supplement, amendment, alteration, modification, waiver or termination of this Agreement shall be binding unless executed in writing by the parties hereto. 8. BINDING EFFECT; BENEFITS. This Agreement shall be binding upon and inure to the benefit of the parties to this Agreement and their respective successors and permitted assigns. Nothing expressed or implied in this Agreement is intended to or shall be construed to give any person other than the parties to this Agreement or their respective successors or permitted assigns any legal or equitable right, remedy or claim under or in respect of this Agreement, it being the intention of the parties to this Agreement that this Agreement shall be for the sole Purchase and Sale Agreement Page8 and exclusive benefit of such parties or such successor or assigns and for the benefit of no other person. 9. ARTICLE AND SECTION HEADINGS. The article, section and other headings contained in this Agreement are for reference purposes only and shall not affect the meaning or interpretation of this Agreement. 10. EXPENSES. Except as otherwise specifically provided in this Agreement, all fees, costs and expenses incurred by Buyer or Seller in negotiating this Agreement or in consummating the transactions contemplated by this Agreement shall be paid by the party incurring the same, including with limitation, legal and accounting fees, costs and expenses. 11. GOVERNING LAW; VENUE. This Agreement and the transactions contemplated hereby shall be construed in accordance with, and governed by, the laws of the State of Texas. This Agreement is made and executed in Houston, Harris County, Texas and it is agreed that the courts of appropriate jurisdiction sitting in Houston, Harris County, Texas, shall have venue over any dispute arising hereunder. 12. BINDING ARBITRATION. (a) All disputes arising under this Agreement, ("Disputes") will be resolved as follows: first, senior management of Buyer and Seller will meet to attempt to resolve such Dispute. If the Dispute cannot be resolved by agreement of the Parties, any Party may at any time make a written demand for binding arbitration of the Dispute; provided that the foregoing shall not preclude equitable or other judicial relief to enforce the provisions hereof or to preserve the status quo pending resolution of Disputes; and provided further that resolution of Disputes with respect to claims by third Persons will be deferred until any judicial proceedings with respect thereto are concluded. The Commercial Arbitration Rules of the American Arbitration Association in effect on the date hereof will apply, and except as the applicable rules are modified by this Agreement, will apply. As a minimum set of rules in the Purchase and Sale Agreement Page9 arbitration the Parties agree as follows: (b) The arbitration will be held before a panel of three arbitrators consisting of one arbitrator selected by Buyer, the other selected by a Seller, and the third then selected by those two arbitrators. If the appointed arbitrators cannot agree on a third arbitrator within thirty (30) days of their appointment, the American Arbitration Association ("AAA") will appoint one. (c) The Party initiating arbitration (the "Claimant") will give simultaneous notice (the "Demand") of its intent to arbitrate to the AAA and to each other Party (the "Respondent"). The Demand will contain a statement setting forth in reasonable detail the nature of the Claimant's claim, the names and addresses of all other Parties, the amount involved, if any, and the remedy sought. The Respondent will file an answering statement (the "Answer") within fifteen (15) days of the Demand. The Answer will contain a statement setting forth in reasonable detail the Respondent's responses and defenses to the claim. If a counterclaim is asserted, it will be sent with the Answer and will contain a statement setting forth in reasonable detail the nature of the counterclaim, the amount involved, if any, and the remedy sought. The Claimant will file a reply statement (the "Reply") within fifteen (15) days of the counterclaim. The Reply will contain a statement setting forth in reasonable detail the Claimant's responses and defenses to the counterclaim. If no Answer or Reply is given within the stated time, the claim or the counterclaim will be assumed to be denied. Failure to file an Answer or Reply will not operate to delay the arbitration. (d) Unless the parties to the arbitration agree otherwise, no discovery will take place except as provided in this subsection. Not less than sixty (60) days before the date of the hearing, each Party shall provide to each other Party copies of all exhibits, affidavits and other evidence it intends to submit at the hearing, along with the identification of any witnesses to be called and a summary of anticipated testimony. Based on a review of the information provided, and not less than thirty (30) days before the date of the hearing, each Party will provide to each other Party copies of any additional exhibits, affidavits and other evidence it intends to submit at the hearing, along with the identification of any additional witnesses to be called and a summary of anticipated testimony. Purchase and Sale Agreement Page10 The arbitrators will be authorized to resolve (in a manner consistent with this clause (3)) any disputes concerning the exchange of information. (e) The arbitration hearing will take place no more than one hundred and eighty (180) days after the date of the Demand, if any. (f) The arHbitrators will deliver their decision in writing within ten (10) days after the termination of the arbitration hearings. (g) Buyer and Seller will equally bear the costs and fees of the arbitration. The Parties agree that a court reporter will record the arbitration proceedings and that the reporter's record will be the agreed to transcript of the proceedings. Buyer and Seller will share the expenses of this recorder equally. (h) The arbitrators will issue a written opinion and specify the basis for their decision, the basis for the Damages award and a breakdown of the Damages awarded, and the basis of any other remedy. The arbitrators' decision will be considered as a final and binding resolution of the disagreement, will not be subject to appeal and may be entered as an Order in any court of competent jurisdiction in the United States; provided that this Agreement confers no power or authority upon the arbitrators to render any decision that is based on clearly erroneously findings of fact, that manifestly disregards the law, or exceeds of the powers of the arbitrator, and no such decision will be eligible for confirmation. Each Party agrees to submit to the jurisdiction of any such court for purposes of the enforcement of any such Order. No Party will sue any other Party except for enforcement of the arbitrator's decision if such other Party is not performing in accordance with the arbitrator's decision. The provisions of this Agreement will be binding on the arbitrators. (i) Any arbitration proceeding will be conducted on a confidential basis. (j) The arbitrators' discretion to fashion remedies hereunder will be no broader or narrower than the legal and equitable remedies available to a court, unless the Parties expressly state elsewhere in this Agreement that Parties will be subject to broader or narrower legal and equitable remedies than would be available under the law governing this Agreement. (k) the arbitration will be conducted in Houston, Texas. 11. SEVERABILITY. Each section, subsection and lesser section of this Agreement constitutes a Purchase and Sale Agreement Page11 separate and distinct undertaking, covenant or provision hereof. In the event that any provision of this Agreement shall be determined to be invalid or unenforceable, such provision shall be deemed limited by construction in scope and effect to the minimum extent necessary to render the same valid and enforceable, and, in the event such a limiting construction is impossible, such invalid or unenforceable provision shall be deemed severed from this Agreement, but every other provision of this Agreement shall remain in full force and effect. 12. GENDER AND NUMBER. Whenever the context requires herein, the gender and all words used herein shall include the masculine, feminine, and neuter, and the number of all words shall include the singular and the plural. 13. PRESUMPTION CONCERNING INTERPRETATION AND CONSTRUCTION. Notwithstanding the fact that preliminary drafts of this Agreement were prepared by counsel for Seller, the parties hereto and their respective counsel have had opportunity to review and participate in the drafting of the final form of this Agreement. Accordingly, in the event of any ambiguity in the provisions of this Agreement, there shall be no presumption in favor of any party hereto with respect to the interpretation or construction thereof. 14. CONSPICUOUSNESS. THE PARTIES ACKNOWLEDGE THAT THE PROVISIONS OF THIS AGREEMENT THAT ARE SET OUT IN BOLD TYPE ARE CONSPICUOUS, UNDER THE LAWS OF THE STATE OF TEXAS, AND THE INDEMNITY PROVISIONS HEREOF COMPLY WITH THE EXPRESS NEGLIGENCE RULE. 15. SURVIVAL. Except as specifically set forth herein, the representations, warranties, covenants, and agreements of the parties hereto shall survive the execution of this Agreement. 16. COUNTERPARTS AND FACSIMILE SIGNATURES. This Agreement may be executed in two or more counterparts, each of which shall be deemed an original, but all of which shall constitute one and the same agreement. Furthermore, this Agreement may be executed by the facsimile signature of any party hereto, it being agreed that the facsimile signature of any party hereto Purchase and Sale Agreement Page12 shall be deemed an original for all purposes. IN WITNESS WHEREOF, the parties to this Agreement have caused this Agreement to be duly executed as of the date set forth above. SELLER: ISRAMCO, INC. By: /s/ Haim Tsuff Name: Haim Tsuff Title: Chairman of the Board & CEU BUYER: CHESNY ESTATES LTD. By: /s/ Gil Hod Name: Gil Hod Title: Director Purchase and Sale Agreement Page13 EX-10.18 3 ex10-18.txt EXHIBIT 10.18 EXHIBIT 10.18 ADDENDUM AGREEMENT - ------------------ This Addendum Agreement ("Addendum") dated this 12 day of February 2007, is entered by and between Isramco Inc., as seller ("Seller") and Chesny Estates Ltd. as buyer ("Buyer"); Seller and Buyer shall be referred to collectively as the "Parties" WHEREAS The Parties entered into a Sale and Purchase Agreement dated December 2006 ( the "PSA") pursuant to which Seller sold and transferred to Buyer all of the issued share capital of Magic 1 Cruise Line Corp. (the "Shares" and the "Company", respectively) ; and WHEREAS In accordance with the PSA the Purchase Price (as defined in the PSA) is subject to certain adjustments; and WHEREAS The Company bared during the forth quarter of 2006 certain costs and expenses relating to the preparation of the cruise liner for the 2007 cruise season ( the "2007 Costs"); and WHEREAS It was agreed between the Parties that Buyer shall bare all such costs and expenses in a manner it will be added to the Purchase Price; and WHEREAS The Parties wish to determine the Final Purchase Price for the Shares NOW THEREFORE it is agreed between the Parties as follows: 1. The preamble to this Addendum constitutes an integral part thereof. 2. Buyer acknowledges and confirms that Buyer reviewed the final draft of the financial statements of the Company as of December 31, 2006 and examined the cost and expenses resulting from and relating to the preparation of the cruise liner for the 2007 cruise season. 3. It is agreed between the Parties that the Final Purchase Price for the Shares, reflecting the adjustments in accordance with section 2.2 to the PSA as well as the addition relating to the 2007 Costs, is $2.15 million, with effect as of December 31, 2006 4. Seller shall reimburse to Buyer the balance of $150,000 within 30 day from the execution of this Addendum. IN WITNESS WHEREOF, the parties to this Addendum Agreement have caused this Addendum Agreement to be duly executed as of the date set forth above. SELLER: ISRAMCO, INC. By: /s/ Haim Tsuff Name: Haim Tsuff Title: Chairman of the Board & CEO BUYER: CHESNY ESTATES LTD. By: /s/ Gil Hod Name: Gil Hod EX-31 4 ex31.txt EXHIBIT 31 EXHIBIT 31 RULE 13A-14(A)/15D-14(A) CERTIFICATIONS I, Haim Tsuff, certify that: 1. I have reviewed this annual report on Form 10-K of Isramco, Inc. for the year ended December 31, 2006; 2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this annual report; 3. Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report; 4. I am responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and I have: a) Designed such disclosure controls and procedures, or caused such controls and procedures to be designed under my supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to me by others within those entities, particularly during the period in which this report is being prepared; b) Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report my conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and c) Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter (the registrant's fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and 5. I have disclosed, based on my most recent evaluation of the internal control over financial reporting, to the registrant's auditors and the audit committee of registrant's board of directors (or persons fulfilling the equivalent function): a) All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting. DATE: MARCH 15, 2007 /s/ HAIM TSUFF ---------------------------------------- HAIM TSUFF CHIEF EXECUTIVE OFFICER (AND PRINCIPAL FINANCIAL AND ACCOUNTING OFFICER) EX-32 5 ex32.txt EXHIBIT 32 EXHIBIT 32 CERTIFICATION BY CHIEF EXECUTIVE OFFICER PURSUANT TO 18 U.S.C. SECTION 1350, AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 In connection with the Annual Report of Isramco, Inc. (the "Company") on Form 10-K for the year ended December 31, 2006 (the "Report") filed with the Securities and Exchange Commission, I, Haim Tsuff, Chief Executive and Principal Financial Officer of the Company, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that: (1) The Company's Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and (2) The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company. MARCH 15, 2007 /s/ HAIM TSUFF ---------------------------------------- HAIM TSUFF CHIEF EXECUTIVE OFFICER (AND PRINCIPAL FINANCIAL AND ACCOUNTING OFFICER) A SIGNED ORIGINAL OF THIS STATEMENT REQUIRED BY SECTION 906 HAS BEEN PROVIDED TO ISRAMCO, INC. AND WILL BE RETAINED BY ISRAMCO, INC. AND FURNISHED TO THE SECURITIES AND EXCHANGE COMMISSION OR ITS STAFF UPON REQUEST. EX-99.1 6 ex99-1.txt EXHIBIT 99.1 "ISRAMCO - NEGEV 2" LIMITED PARTNERSHIP FINANCIAL STATEMENTS AS AT DECEMBER 31, 2006 AND 2005 AND FOR EACH OF THE YEARS IN THE THREE-YEAR PERIOD ENDED DECEMBER 31, 2006 "Isramco - Negev 2" Limited Partnership FINANCIAL STATEMENTS - -------------------------------------------------------------------------------- CONTENTS PAGE ---- Auditors' Report 2 Balance Sheets 3 Statements of Earnings 4 Statements of Changes in Limited Partnership's Capital 5 Statements of Cash Flows 6 Notes to the Financial Statements 8 [KPMG LOGO] SOMEKH CHAIKIN MAIL ADDRESS OFFICE ADDRESS TELEPHONE 972 3 684 8000 PO Box 609 KPMG Millennium Tower Fax 972 3 684 8444 Tel Aviv 61006 17 Ha'arba'a Street Israel Tel Aviv 61070 Israel REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM TO THE PARTNERS OF "ISRAMCO - NEGEV 2" LIMITED PARTNERSHIP We have audited the accompanying balance sheets of "Isramco - Negev 2" Limited Partnership (hereinafter - "the Limited Partnership") as at December 31, 2006 and 2005, and the statements of earnings, changes in Limited Partnership's capital and cash flows, for each of the years in the three-year period ended December 31, 2006. These financial statements are the responsibility of the Board of Directors and the Management of the General Partner of the Limited Partnership. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance as to whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by the Board of Directors and Management of the General Partner, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of the Limited Partnership as at December 31, 2006 and 2005, and the results of its operations, the changes in its capital and its cash flows for each of the years in the three-year period ended December 31, 2006, in conformity with generally accepted accounting principles in Israel. Accounting principles generally accepted in Israel differ in certain significant respects from accounting principles generally accepted in the United States. Application of accounting principles generally accepted in the United States would have affected the financial position of the Limited Partnership as at December 31, 2006 and 2005 and the results of its operations, the changes in its capital and its cash flows for each of the years in the three-year period ended December 31, 2006, to the extent summarized in Note 12 to the financial statements. As discussed in Note 3C, the above-mentioned financial statements are stated in reported amounts, in accordance with Accounting Standards published by the Israel Accounting Standards Board. Somekh Chaikin Certified Public Accountants (Isr.) Member Firm of KPMG International Tel Aviv, Israel March 13, 2007 Somekh Chaikin, a partnership registered under the Israeli Partnership Ordinance, is a member of KPMG International, a Swiss cooperative. 2 "Isramco - Negev 2" Limited Partnership BALANCE SHEETS AS AT DECEMBER 31 - -------------------------------------------------------------------------------- REPORTED AMOUNTS 2006 2005 ------------- ------------- NOTE NIS THOUSANDS NIS THOUSANDS ------ ------------- ------------- CURRENT ASSETS Cash and cash equivalents 15,208 2,720 Marketable securities 4 558,065 583,569 Joint ventures for oil and gas exploration 5 625 1,328 Sundry receivables 310 9 ------- ------- 573,908 587,626 ------- ------- INVESTMENTS Investment in oil and gas properties 5A 7,609 7,609 ------- ------- 581,817 595,235 ======= ======= CURRENT LIABILITIES Sundry payables 6 4,034 501 Joint ventures for oil and gas exploration 5 173 183 ------- ------- 4,207 684 ------- ------- CONTINGENT LIABILITIES AND COMMITMENTS 7 LIMITED PARTNERSHIP'S CAPITAL 8 577,610 594,551 ------- ------- 581,817 595,235 ======= ======= - --------------------------- -------------------------- -------------------------- Pinkstone Ltd. - Director Yossi Levy - CEO Ami Krupik - CFO Isramco Oil and Gas Ltd. - Isramco Oil and Gas Ltd. - Isramco Oil and Gas Ltd. - General Partner General Partner General Partner Represented by Ya'akov Meimon
March 13, 2007 The accompanying notes are an integral part of the financial statements. 3 "Isramco - Negev 2" Limited Partnership STATEMENTS OF EARNINGS FOR THE YEAR ENDED DECEMBER 31 - -------------------------------------------------------------------------------- REPORTED AMOUNTS
2006 2005 2004 ------------- ------------- ------------- NOTES NIS THOUSANDS NIS THOUSANDS NIS THOUSANDS ----- ------------- ------------- ------------- INCOME Income from sale of oil and gas rights 812 -- -- Financing income, net 9A 65,229 71,388 58,623 ------ ------ ------ 66,041 71,388 58,623 ------ ------ ------ EXPENSES Participation in oil and gas exploration, net 9B 1,263 30,802 925 General and administrative expenses 9C 2,896 2,650 2,693 ------ ------ ------ 4,459 33,452 3,618 ------ ------ ------ NET INCOME 61,882 37,936 55,005 ====== ====== ====== INCOME PER PARTICIPATION UNIT: NIS NIS NIS ------ ------ ------ Basic income per participation unit 9D 0.0146 0.0089 0.0129 ====== ====== ======
The accompanying notes are an integral part of the financial statements. 4 "Isramco - Negev 2" Limited Partnership STATEMENTS OF CHANGES IN LIMITED PARTNERSHIP'S CAPITAL - -------------------------------------------------------------------------------- REPORTED AMOUNTS
PARTNERSHIP ACCUMULATED CAPITAL LOSS TOTAL ------------- ------------- ------------- NIS THOUSANDS NIS THOUSANDS NIS THOUSANDS ------------- ------------- ------------- BALANCE AS AT JANUARY 1, 2004 856,391 (346,088) 510,303 Net income for the year -- 55,005 55,005 Tax deposits paid on behalf of holders of the participation units* -- (3,619) (3,619) ------- -------- ------- BALANCE AS AT DECEMBER 31, 2004 856,391 (294,702) 561,689 Net income for the year -- 37,936 37,936 Tax deposits paid on behalf of holders of the participation units* -- (5,074) (5,074) ------- -------- ------- BALANCE AS AT DECEMBER 31, 2005 856,391 (261,840) 594,551 Net income for the year -- 61,882 61,882 Tax deposits paid on behalf of holders of the participation units* -- (8,823) (8,823) Distribution of Partnership earnings to holders of the participation units -- (70,000) (70,000) ------- -------- ------- BALANCE AS AT DECEMBER 31, 2006 856,391 (278,781) 577,610 ======= ======== =======
* Regarding the tax deposits paid on behalf of holders of the participation units - see Note 8E. The accompanying notes are an integral part of the financial statements. 5 "Isramco - Negev 2" Limited Partnership STATEMENTS OF CASH FLOWS FOR THE YEAR ENDED DECEMBER 31 - -------------------------------------------------------------------------------- REPORTED AMOUNTS
2006 2005 2004 ------------- ------------- ------------- NIS THOUSANDS NIS THOUSANDS NIS THOUSANDS ------------- ------------- ------------- CASH FLOWS GENERATED BY OPERATING ACTIVITIES: Net income 61,882 37,936 55,005 Adjustment to reconcile net income to net cash flows generated by operating activities (A) (37,498) (20,003) (32,666) -------- -------- -------- NET CASH INFLOW GENERATED BY OPERATING ACTIVITIES 24,384 17,933 22,339 -------- -------- -------- CASH FLOWS GENERATED BY INVESTING ACTIVITIES: Investment in oil and gas properties -- (30,370) -- Investment in marketable securities (458,285) (487,366) (204,464) Proceeds from sale of marketable securities 524,400 493,318 174,086 Proceeds from sale of oil and gas rights 812 -- -- -------- -------- -------- NET CASH INFLOW (OUTFLOW) GENERATED BY INVESTING ACTIVITIES 66,927 (24,418) (30,378) -------- -------- -------- CASH FLOWS GENERATED BY FINANCING ACTIVITIES: Distribution of Partnership earnings to holders of the participation units (70,000) -- -- Tax deposits paid on behalf of holders of the participation units (8,823) (5,074) (3,619) -------- -------- -------- NET CASH OUTFLOW GENERATED BY FINANCING ACTIVITIES (78,823) (5,074) (3,619) -------- -------- -------- INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 12,488 (11,559) (11,658) BALANCE OF CASH AND CASH EQUIVALENTS AT BEGINNING OF THE YEAR 2,720 14,279 25,937 -------- -------- -------- BALANCE OF CASH AND CASH EQUIVALENTS AT END OF THE YEAR 15,208 2,720 14,279 ======== ======== ========
The accompanying notes are an integral part of the financial statements. 6 "Isramco - Negev 2" Limited Partnership STATEMENTS OF CASH FLOWS FOR THE YEAR ENDED DECEMBER 31 (CONT'D) - -------------------------------------------------------------------------------- REPORTED AMOUNTS
2006 2005 2004 ------------- ------------- ------------- NIS THOUSANDS NIS THOUSANDS NIS THOUSANDS ------------- ------------- ------------- A. ADJUSTMENTS TO RECONCILE NET INCOME TO NET CASH FLOWS GENERATED BY OPERATING ACTIVITIES Income and expenses not involving cash flows: - -------------------------------------------- Gain from marketable securities, net (40,611) (50,479) (36,006) Gain from sale of oil and gas rights (812) -- -- Amortization of investment in oil and gas properties -- 30,370 -- Changes in asset and liability items: - ------------------------------------ Decrease (increase) in sundry receivables (301) -- 309 Increase in sundry payables 3,533 43 46 Change in joint ventures for oil and gas exploration, net 693 63 2,985 ------- ------- ------- (37,498) (20,003) (32,666) ======= ======= =======
The accompanying notes are an integral part of the financial statements. 7 DRAFT "Isramco - Negev 2" Limited Partnership NOTES TO THE FINANCIAL STATEMENTS FOR THE YEARS ENDED DECEMBER 31, 2006, 2005 AND 2004 - -------------------------------------------------------------------------------- NOTE 1 - GENERAL A. Isramco - Negev 2, Limited Partnership (hereinafter - "the Limited Partnership" or "the Partnership") was established according to a limited partnership agreement that was signed on March 2 and 3, 1989 (that has been amended from time to time), between the general partner - Isramco Oil and Gas Ltd. (hereinafter - "the General Partner") and the limited partner - Isramco Management (1988) Ltd. (hereinafter - "the Limited Partner" or "the Trustee"). The Limited Partnership was registered on March 3, 1989, under the Israeli Partnerships Ordinance (New Version), 1975. According to Section 61(a) of the Partnerships Ordinance, the limited partnership agreement constitutes the Articles of Association of the Limited Partnership. B. Under the Limited Partnership agreement, as amended from time to time, the General Partner and the Limited Partner will bear the expenses and losses of the Limited Partnership and will be entitled to income in accordance with their proportionate share of the capital they invested in the Limited Partnership's capital. C. The day-to-day management of the Limited Partnership is carried out by the General Partner, under the supervision of the Supervisor, Yigal Brightman & Co., Certified Public Accountants, and Mr. David Valiano, CPA (Isr.). Under the Limited Partnership agreement, the Supervisor was granted certain supervisory powers. D. The Limited Partner - Isramco Management (1988) Ltd., has various rights in the Limited Partnership. Under a trust agreement, the Limited Partner acts as trustee on behalf of the owners of the participation units. E. The Limited Partnership was approved by the Israeli Income Tax Commissioner for purposes of the Israeli Income Tax Regulations (Rules for Calculating Tax for Holding and Sale of Participation Units in an Oil Exploration Partnership), 1988. In December 2005, the effectiveness of these Regulations was extended up to December 31, 2006. As at the signing date of the financial statements, the Regulations had not been extended. 8 "Isramco - Negev 2" Limited Partnership NOTES TO THE FINANCIAL STATEMENTS FOR THE YEARS ENDED DECEMBER 31, 2006, 2005 AND 2004 - -------------------------------------------------------------------------------- NOTE 2 - OBJECTIVE OF THE LIMITED PARTNERSHIP A. The objective of the Limited Partnership is to participate in oil and gas exploration and production. For this purpose the Limited Partnership signed joint operating agreements (J.O.A.) with its partners in various joint ventures. B. As at the approval date of the financial statements, February __, 2007, the Limited Partnership's rights in oil and/or gas properties are as follows:
PARTICIPATION RATE DATE OF EXPIRATION % OF RIGHTS ------------------ ------------------ "Med Yavne" lease 32.4111 June 10, 2030 "Med Ashdod" lease 19.1369 June 15, 2030 Michal license 27.5000 December 31, 2008 Matan license 27.5000 December 31, 2008 Shikma Carveout (depth of 1,500 meters and under) 10.0000 April 1, 2009
For additional details in connection with the Partnership's rights in oil and/or gas properties - see Note 5. NOTE 3 - REPORTING PRINCIPLES AND ACCOUNTING POLICIES A. GENERAL These financial statements are presented in accordance with generally accepted accounting principles in Israel and the principles provided in the Israeli Securities Regulations (Preparation of Annual Financial Statements), 1993, except for items presented in the format dictated by the nature of the Limited Partnership's business. B. DEFINITIONS 1. Related Party - as defined in Opinion No. 29 of the Institute of ------------- Certified Public Accountants in Israel (hereinafter - the ICPAI). 2. Interested Party - as defined in Paragraph 1 of the definition of an ---------------- "interested party" in a company in Section 1 of the Israeli Securities Law. 3. CPI - the Consumer Price Index published by the Central Bureau of --- Statistics in Israel. 4. Dollar - the United States dollar. ------ 5. Adjusted Amount - the nominal historical amount adjusted in accordance --------------- with the provisions of Opinions 23, 34, 36 and 37 of the Institute of Certified Public Accountants in Israel. 6. Reported Amount - the adjusted amount as at the transition date --------------- (December 31, 2003), with the addition of amounts in historical values that were added after the transition date and less amounts eliminated after the transition date. 7. Nominal Financial Report - the financial report based on reported ------------------------ amounts. 9 "Isramco - Negev 2" Limited Partnership NOTES TO THE FINANCIAL STATEMENTS FOR THE YEARS ENDED DECEMBER 31, 2006, 2005 AND 2004 - -------------------------------------------------------------------------------- NOTE 3 - REPORTING PRINCIPLES AND ACCOUNTING POLICIES (CONT'D) C. FINANCIAL STATEMENTS IN REPORTED AMOUNTS (1) In October 2001, the Israeli Accounting Standards Board published Accounting Standard No. 12, "Discontinuance of Adjustment of Financial Statements". Pursuant to this Standard and in accordance with Accounting Standard No. 17 that was published in December 2002, the adjustment of financial statements for the effect of inflation was discontinued as of January 1, 2004. Up to December 31, 2003, the Partnership continued to prepare adjusted financial statements in accordance with Opinion No. 36 of the Institute of Certified Public Accountants in Israel. The Partnership has implemented the provisions of the Standard and has accordingly discontinued the adjustment as of January 1, 2004. (2) In the past, the Partnership prepared its financial statements on the basis of historical cost adjusted for the changes in the Consumer Price Index. The adjusted amounts as stated, included in the financial statements as of December 31, 2003 (the transition date) constituted the starting point for the nominal financial report as of January 1, 2004. Additions subsequent to December 31, 2003, made during the period are included according to their historical values. (3) Amounts of the non-monetary assets do not necessarily reflect their realizable value or updated economic value but, rather, only the Reported Amount of such assets. (4) The term "cost" in these financial statements means cost in the Reported Amount. D. REPORTING PRINCIPLES (1) Balance sheets: a. Non-monetary items (investment in oil and gas properties and partnership capital) are stated at Reported Amount. b. Monetary items are stated in the balance sheet at their historical values as at the balance sheet date. (2) Statements of earnings: a. Income and expenses deriving from non-monetary items (such as, depreciation and amortization, prepaid revenues and expenses, etc.) and from provisions included in the balance sheet are calculated as the difference between the Reported Amount of the opening balance and the Reported Amount of the closing balance. b. All other items included in the statement of earnings are stated at their historical value. E. CASH AND CASH EQUIVALENTS Cash and cash equivalents include bank deposits having an original maturity, as at the date of the investment therein, not in excess of three months. 10 "Isramco - Negev 2" Limited Partnership NOTES TO THE FINANCIAL STATEMENTS FOR THE YEARS ENDED DECEMBER 31, 2006, 2005 AND 2004 - -------------------------------------------------------------------------------- NOTE 3 - REPORTING PRINCIPLES AND ACCOUNTING POLICIES (CONT'D) F. MARKETABLE SECURITIES Marketable securities are stated at their market value as at the balance sheet date. Changes in the value of such securities are recorded in the statement of earnings as incurred. G. INVESTMENTS IN OIL AND GAS EXPLORATION The Limited Partnership uses the "successful efforts" method with respect to the accounting treatment of the recording of oil and gas exploration expenses, as follows: (1) The Limited Partnership's expenses in executing geological and seismic tests and surveys are expensed immediately in the statement of earnings as incurred. (2) Investments in oil and gas wells which are in the drilling stage and in which it has not yet been proven whether they will produce oil or gas, or which have not yet been determined to be non-commercial, are stated in the balance sheet at cost. (3) Investments in oil and gas wells which were proven to be dry and were abandoned, or were determined to be non-commercial, or for which no development plans were prepared for the near future, are written off in full to the statement of earnings. H. DECLINE IN VALUE OF ASSETS The Limited Partnership applies Accounting Standard No. 15 - "Decline in the Value of Assets" (hereinafter - "the Standard") of ICPAI. The Standard provides procedures which the Partnership must apply in order to assure that its assets in the balance sheet (in respect of which the Standard applies) are not presented at an amount greater than their recoverable value, which is the higher of the net selling price and the realization value (the present value of the estimated future cash flows expected to derive from the use of the asset and its realization). The Standard applies to all assets in the balance sheet, except for financial assets. In addition, the Standard provides presentation and disclosure rules regarding assets whose value has decreased. Where the value of an asset in the balance sheet is greater than its recoverable value, the Limited Partnership recognizes a loss from decline in value in an amount equal to the difference between the book value of the asset and its recoverable value. The loss recognized, as stated, will be eliminated only if there have been changes in the estimates used in determining the asset's recoverable value from the date on which the last loss from decline in value was recognized. 11 "Isramco - Negev 2" Limited Partnership NOTES TO THE FINANCIAL STATEMENTS FOR THE YEARS ENDED DECEMBER 31, 2006, 2005 AND 2004 - -------------------------------------------------------------------------------- NOTE 3 - REPORTING PRINCIPLES AND ACCOUNTING POLICIES (CONT'D) I. INCOME PER PARTICIPATION UNIT Commencing from January 1, 2006, the Partnership applies Accounting Standard No. 21, "Earnings per Share" (hereinafter - "the Standard"), of the Israel Accounting Standards Board. Pursuant to the Standard's provisions, the Partnership calculates the amounts of the basic earnings per participation unit in respect of income or loss. The basic earnings in respect of the participation units is calculated by dividing the income or loss allocable to the holders of the participation units by the weighted-average number of the participation units that were outstanding during the period. J. USE OF ESTIMATES The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities as at the date of the financial statements and the reported amounts of revenues and expenses during the periods reported. It is clarified that the actual results may differ from these estimates. K. DERIVATIVE FINANCIAL INSTRUMENTS (1) Results of derivative financial instruments held for purposes of hedging existing assets and liabilities, are recorded on the statement of earnings in correspondence with the recording of the results of the hedged assets and liabilities. (2) Results of derivative financial instruments held for purposes of hedging firm commitments and anticipated transactions are deferred and included in the statement of earnings at the time the results of the hedged transactions are recorded. (3) Derivative financial instruments not designated or qualifying for hedging purposes are presented in the balance sheet based on their fair values. Changes in the fair values are recorded in the statement of earnings in the "financing" category in the period the change takes place. The fair value of derivative financial instruments is determined in accordance with their market prices or quotes from financial institutions, and in the absence of a market price or a quote from a financial institution, the fair value is determined based on a model for appraisal of market value. L. REVENUE RECOGNITION Revenues from sales of oil and gas rights are recognized upon the transfer of the principal risks and rewards arising from ownership over the sold rights. 12 "Isramco - Negev 2" Limited Partnership NOTES TO THE FINANCIAL STATEMENTS FOR THE YEARS ENDED DECEMBER 31, 2006, 2005 AND 2004 - -------------------------------------------------------------------------------- NOTE 3 - REPORTING PRINCIPLES AND ACCOUNTING POLICIES (CONT'D) M. DISCLOSURE OF EFFECT OF NEW ACCOUNTING STANDARDS IN THE PERIOD PRIOR TO THEIR IMPLEMENTATION 1. Accounting Standard No. 29 regarding adoption of International -------------------------------------------------------------- Financial Reporting Standards ----------------------------- In July 2006, the Israel Accounting Standards Board published Accounting Standard No. 29, "Adoption of International Financial Reporting Standards (IFRS)" (hereinafter - "the Standard"). The Standard provides that entities subject to the Israeli Securities Law, 1968, that are required to report according to the regulations of this law, are to prepare their financial statements for periods beginning as from January 1, 2008 according to IFRS. The Standard permits early adoption as from financial statements published after July 31, 2006. In addition, the Standard provides that entities that are not subject to the Securities Law, 1968 and not required to report according to the regulations of this law, are also permitted to prepare their financial statements according to IFRS commencing with financial statements published after July 31, 2006. The initial adoption of IFRS will be effected in accordance with the provisions of IFRS 1, "Initial Implementation of IFRS", for purposes of the transition. In accordance with the Standard, the Partnership is required to include in a note to the annual financial statements for December 31, 2007, the balance sheet data as at December 31, 2007 and the statement of earnings' data for the year then ended, that have been prepared according to the recognition, measurement and presentation principles of IFRS. The Partnership is examining the implications of the transition to IFRS, however, it has not yet determined the impact of adoption of IFRS on its financial statements. 2. Accounting Standard No. 23 regarding the Accounting Treatment of ---------------------------------------------------------------- Transactions between an Entity and a Controlling Interest Therein ----------------------------------------------------------------- In December 2006, the Israel Accounting Standards Board published Accounting Standard No. 23, "The Accounting Treatment of Transactions between an Entity and the Controlling Interest Therein" (hereinafter - "the Standard"). The Standard supersedes Israeli Securities Regulations (Presentation of Transactions between a Company and a Controlling Interest Therein in the Financial Statements), 1996, and provides that assets and liabilities regarding which a transaction was executed between the entity and the controlling interest therein are to be measured on the transaction date based on fair value and the difference between the fair value and the consideration recorded in the transaction is to be recorded in shareholders' equity. A "debit balance" difference constitutes essentially a dividend and, therefore, it reduces the retained earnings. A "credit balance" difference constitutes essentially a shareholder's investment and, therefore, it is presented in a separate section in the shareholders' equity category entitled "capital reserve from transaction between an entity and the controlling interest therein". 13 "Isramco - Negev 2" Limited Partnership NOTES TO THE FINANCIAL STATEMENTS FOR THE YEARS ENDED DECEMBER 31, 2006, 2005 AND 2004 - -------------------------------------------------------------------------------- NOTE 3 - REPORTING PRINCIPLES AND ACCOUNTING POLICIES (CONT'D) M. DISCLOSURE OF EFFECT OF NEW ACCOUNTING STANDARDS IN THE PERIOD PRIOR TO THEIR IMPLEMENTATION (CONT'D) 2. Accounting Standard No. 23 regarding the Accounting Treatment of ---------------------------------------------------------------- Transactions between an Entity and a Controlling Interest Therein ----------------------------------------------------------------- (cont'd) The Standard addresses three issues involved with transactions between an entity and the controlling interest therein, as follows: transfer of an asset to the entity from the controlling interest or, alternatively, transfer of an asset from the entity to the controlling interest; assumption of a liability of the entity to a third party, in whole or in part, by the controlling interest therein, indemnification of the entity by the controlling interest therein in respect of an expense, and waiver by the controlling interest in favor of the entity of a debt due to the controlling interest from the entity, in whole or in part; and loans made to the controlling interest or loans received from the controlling interest. In addition, the Standard provides the disclosure required to be made in the financial statements in connection with transactions between the entity and the controlling interest therein during the period. The Standard applies to transactions between an entity and a controlling interest therein executed after January 1, 2007, and to a loan made to or received from the controlling interest prior to the effective date of this Standard commencing from its effective date. In the Partnership's estimation, application of the new Standard is not expected to have a material impact on its results of operations and its financial position. N. RATES OF EXCHANGE AND LINKAGE BASIS Assets and liabilities denominated in or linked to foreign currency are stated in the balance sheet according to the representative exchange rates published by Bank of Israel as at the balance sheet date. Assets and liabilities linked to the CPI are stated in accordance with the specific linkage terms relating to each asset or liability. Below is data with respect to the Consumer Price Index and the dollar exchange rate: DECEMBER 31 % CHANGE ------------- -------------------- 2006 2005 2006 2005 2004 ----- ----- ----- ---- ----- Index - in points 102.9 103.0 (0.10) 2.39 1.20 Exchange rate of the dollar in NIS 4.225 4.603 (8.21) 6.85 (1.62) 14 "Isramco - Negev 2" Limited Partnership NOTES TO THE FINANCIAL STATEMENTS FOR THE YEARS ENDED DECEMBER 31, 2006, 2005 AND 2004 - -------------------------------------------------------------------------------- NOTE 4 - MARKETABLE SECURITIES
DECEMBER 31 DECEMBER 31 2006 2005 ------------- ------------- NIS THOUSANDS NIS THOUSANDS ------------- ------------- Shares and options (1) 118,914 82,396 Government debentures (2) -- 33,094 Convertible debentures (1) 97,877 86,370 Corporate debentures (3) 322,162 364,940 Participation units in mutual funds 11,633 10,871 Participation units in limited partnerships (1) 7,479 5,898 ------- -------- 558,065 583,569 ======= ======= (1) INCLUDING MARKETABLE SECURITIES OF RELATED PARTIES (NOTE 10B) 36,047 8,638 ======= =======
DECEMBER 31 DECEMBER 31 2006 2005 ------------- ------------- NIS THOUSANDS NIS THOUSANDS ------------- ------------- (2) GOVERNMENT DEBENTURES - LINKAGE BASE Unlinked -- 33,094 ======= ======= (3) CORPORATE DEBENTURES - LINKAGE BASES CPI linked 250,822 292,475 Linked to dollar 60,816 62,574 Unlinked 10,524 9,891 ------- -------- 322,162 364,940 ======= =======
15 "Isramco - Negev 2" Limited Partnership NOTES TO THE FINANCIAL STATEMENTS FOR THE YEARS ENDED DECEMBER 31, 2006, 2005 AND 2004 - -------------------------------------------------------------------------------- NOTE 5 - JOINT VENTURE FOR OIL AND GAS EXPLORATION COMPOSITION DECEMBER 31 DECEMBER 31 2006 2005 ------------- ------------- NIS THOUSANDS NIS THOUSANDS ------------- ------------- Debit Balances - -------------- "Med Yavne" Joint Venture 625 1,120 "Nir 2" Joint Venture -- 208 --- ----- 625 1,328 === ===== Credit Balances - --------------- "Med Ashdod" Lease Joint Venture 52 63 "Nordon 1" Joint Venture 42 42 "Gad 1" Joint Venture 79 78 --- ----- 173 183 === ===== ADDITIONAL INFORMATION: GENERAL - ------- Oil and gas exploration activities are generally performed through oil and gas exploration joint ventures having various partners, this being due to the high costs involved with these types of activities and the wish/need to spread the risk. The manner of operating in the framework of the joint ventures is as follows: the partners in the joint ventures are required to approve the expense budget in connection with the various activities involved in the oil and gas exploration activities. After approval of the expenses, the joint venture makes a "cash call" to the partners, each one in accordance with its share in the budget approved by the partners. The Partnership records its share of the cash calls from the joint venture in an "exchange" account and, upon payment of the amounts by the joint venture, the Partnership records its share on the statement of earnings or in an investment account (similar to proportional consolidation), based on its accounting policy, as stated in Note 3G, above. The balances shown in the balance sheet and relating to the joint ventures constitute the amount of the actual investment of the Limited Partnership in each joint venture less its share in the losses of that venture. 16 "Isramco - Negev 2" Limited Partnership NOTES TO THE FINANCIAL STATEMENTS FOR THE YEARS ENDED DECEMBER 31, 2006, 2005 AND 2004 - -------------------------------------------------------------------------------- NOTE 5 - JOINT VENTURE FOR OIL AND GAS EXPLORATION (CONT'D) A. "MED YAVNE" LEASE 1. General ------- In June 2000, the Petroleum Commissioner (hereinafter - "the Commissioner") granted the partners in the Offshore License 239/"Med Yavne" (hereinafter - "Med Yavne License"), in which the Limited Partnership had oil rights, a lease for a period of 30 years for an area of 250 sq. km. out of the area of the aforesaid license, following the results of the "Or 1" drilling. The lease conditions provide, among other things, that the leaseholder shall act diligently to develop the lease and to produce gas from the lease, and at the end of 5 years from the date the lease was granted the leaseholder shall submit a plan for continued activity in the lease area. In June 2005, the Commissioner approved the operator's request for a change in the terms of the lease in such a manner that the work plan for development of the lease will be submitted to the Commissioner at the time applicable to development of the "Noa" well (see Section 3, below). The lease is limited in the entire area thereof, to the subterranean space as far as the roof of messenian ophorites or to the base of the Pliocene in absence of the ophorites. In 2001, an area of 105 square kilometers of the northern area of the lease was returned in which no drilling prospects were located. In 2002, an additional area of 92 square kilometers out of the northern portion of the lease was returned in light of the operator's recommendation not to execute any drillings in accordance with the conditions of the lease since, based on the existing data, the prospects currently indicated are at a high level of risk. The remaining lease area after return of the said portions is 53 square kilometers. Regarding the lease period - see Note 7G., below. Regarding the Partnership's liability for payment of royalties - see Note 7A., below. 2. The "Or 1" well in the "Med Yavne" License ------------------------------------------ In October 1999, the "Or 1" drilling was executed in the "Med Yavne" License. The results of the production test performed at the well indicated that the rate of production in the area examined was 21 million cubic feet per day. Nonetheless, in the operator's estimation, the well is capable of producing gas at a higher rate, once the well is completed for regular production, with appropriate equipment and by opening up additional areas in the target layer. The Partnership's participation percentage in the "Or 1" well is 32.4111%. The cost of the well amounted to $5.2 million. The Partnership's share in the well costs amounted to NIS 7.6 million, and was recorded in the category "Investment in oil and gas properties". 17 "Isramco - Negev 2" Limited Partnership NOTES TO THE FINANCIAL STATEMENTS FOR THE YEARS ENDED DECEMBER 31, 2006, 2005 AND 2004 - -------------------------------------------------------------------------------- NOTE 5 - JOINT VENTURE FOR OIL AND GAS EXPLORATION (CONT'D) A. "MED YAVNE" LEASE (CONT'D) 3. The gas reserves in the "Or 1" Well in the "Med Yavne" Lease ------------------------------------------------------------ According to the operator's estimations, based on the drilling results of the "Or 1" Well, along with a three-dimensional seismic survey performed in the area of the lease, the recoverable gas reserves in the "Or 1" well in the lease, is about 50 billion cubic feet. In November 2002, the Partnership received an opinion from a consulting firm in the United States, the object of which was to perform a techno-economic examination for the development of the "Or 1" well. The said opinion indicates that, under certain assumptions, development of the reserve, by connecting it to the production platform in the adjacent "Meri" well (at a distance of 12 km) and from there via a transportation pipe to Ashdod, is economically feasible. In January 2007, the Partnership received an updated opinion (including an update of the development costs and the sales prices) that also indicates that development in the "Or 1" well, assuming connection of the well to the production platform in the "Meri" well as stated, is economically feasible. In 2005, the operator of the "Med Yavne" lease contacted Noble Energy Mediterranean Ltd. (hereinafter - "Noble"), operator of the "Yam Tatis" joint venture (the holder of the rights in the "Noa", "Noa South" and "Meri" wells), to examine the possibility (including an estimate of the expenses) to connect the "Or 1" well to the gas pipeline Noble plans to install between the "Noa" well and the production platforms in the "Meri" well, which is supposed to run close to the "Or 1" well in order to pipe the gas produced from the "Or 1" well to the production platforms in the "Meri" gas field, and from there to Ashdod. Noble notified the operator of the lease that it is prepared to discuss a joint venture with respect to development of the "Or 1" well together with the "Noa" well, the development of which is planned for 2009-2010. In the estimation of the General Partner, based on the opinion received, as stated, and based on the price of the gas and the development costs, the fair value of the "Or 1" well is not less than its value as recorded. B. THE "MED ASHDOD" LEASE 1. General ------- In January 2002, the Commissioner granted the partners in the Offshore License 242/"Med Ashdod", a lease (hereinafter - "the Lease") in an area of 250 square kilometers out of the "Med Ashdod" License area for a period of 30 years (commencing from June 2000), this being based on the findings of the "Nir 1" well, which was executed in the license area. The Partnership's share in the Lease is 19.1369%. Regarding the lease period - see Note 7G., below. Regarding obligations of the Partnership to pay royalties - see Note79A., below. 18 "Isramco - Negev 2" Limited Partnership NOTES TO THE FINANCIAL STATEMENTS FOR THE YEARS ENDED DECEMBER 31, 2006, 2005 AND 2004 - -------------------------------------------------------------------------------- NOTE 5 - JOINT VENTURE FOR OIL AND GAS EXPLORATION (CONT'D) B. THE "MED ASHDOD" LEASE (CONT'D) 1. General (cont'd) ------- The work plan in the Lease, as determined by the Commissioner (after extensions and changes), includes presentation of a drilling agreement for prospects from the Jurassic age up to May 1, 2007, and commencing of the drilling no later than May 1, 2008. If no further discovery is made beneath the Pliocene base, the Lease shall be restricted to the Pliocene base. In February 2004, Isramco Inc., the operator of the lease (hereinafter - "the Operator") presented to the Partners the "Yam 3" prospect - a drilling for oil prospects (hereinafter - "the Drilling") in the Jurassic layer at a depth of 5,900 meters, and with an estimated budget of $40 million. Execution of the Drilling is subject to approval of the Ministry of Defense and signing of an agreement with an owner of the drilling equipment (Semi or Jack Up). In meetings held in 2004 and 2005, the Operator and the Ministry of Defense discussed the conditions for execution of the Drilling. In August 2005, upon submission of the summation with the Ministry of Defense, the Operator contacted drilling companies for purposes of receiving its proposal for execution of the Drilling. If and subject to acceptance of the proposals and an agreement in-principle with the drilling contractor (who will comply with the limitations of the Ministry of Defense), the Operator will update the budget for the Drilling and will bring its execution for the approval of the partners in the lease as well as the approval of the Ministry of Defense. At this stage, and as long as proposals have not been received from drilling companies and approvals have not been received from the Ministry of Defense and the partners in the lease, as stated, it is not possible to estimate if and when the Drilling of "Yam 3" well will be executed. 2. "Gad 1" Well ------------ In February 2005, the operator recommended to the partners in the Lease to execute a drilling for gas prospects - the "Gad 1" Well (hereinafter - "the Well"). In the absence of a unanimous decision of all the partners with respect to execution of the Well, the operator issued a "Sole Risk" notification in the name of the Partnership to the other partners in the Well. The meaning of the "Sole Risk" notification is that every partner in the Lease is given a period of 30 days from the date of receipt of the "Sole Risk" notification to notify the operator of his interest in participating in the Well, at the full rate of his rights or a part thereof, or not to participate in the Well at all. In response to the "Sole Risk" notification, in addition to the Partnership, other partners holding approximately 14.9% of the rights in the Lease gave notice of their interest in participating in the Well. Accordingly, the rights of those partners not responding to the "Sole Risk" notification were transferred to the Partnership. 19 "Isramco - Negev 2" Limited Partnership NOTES TO THE FINANCIAL STATEMENTS FOR THE YEARS ENDED DECEMBER 31, 2006, 2005 AND 2004 - -------------------------------------------------------------------------------- NOTE 5 - JOINT VENTURE FOR OIL AND GAS EXPLORATION (CONT'D) B. THE "MED ASHDOD" LEASE (CONT'D) 2. "Gad 1" Well (cont'd) ----------- Pursuant to the decision made on August 25, 2005 by the General Meeting of the holders of the Participation Units in the Partnership: 1. On August 29, 2005, the Partnership entered into an agreement with the U.S. company, Palace Petroleum Crop. (hereinafter - "Palace"), pursuant to which the Partnership will transfer to Palace participation rights in the Well at the rate of 30% in exchange for Palace investing in the Well 34.2% of the drilling costs and 30% of the production tests (if any). In addition, the Partnership will grant Palace an option to acquire participation rights at the rate of 30% of every additional drilling, if executed in the future in the Med Ashdod Lease site, this being only in a case where the Partnership receives additional participation rights (in addition to the present rate of its rights in the Lease) as part of the "Sole Risk" process, and at a rate that will not be less than the rights to be transferred to Palace as part of the option as stated above. 2. On August 28, 2005, the Partnership transferred participation rights in the Well at the rate of 1% to Petroleum Fields Exploration (1992) Limited Partnership, in exchange for it bearing its relative share of the drilling costs. 3. On September 13, 2005 and September 26, 2005, the Partnership transferred participation rights in the Well at the rate of 4% and 5%, respectively, to Delek Drilling Limited Partnership, in exchange for it bearing its relative share of the drilling costs. After transfer of the rights as stated, the Partnership remains with 45.103% of the rights in the Well. On September 25, 2005, execution of the Well was commenced by the offshore drilling rig, Atwood Southern Cross. The Well was planned for a depth of approximately 2,600 meters and has a budget (after updates) of $16.4 million (not including production tests). When the Well reached its final depth, electrical examinations were made which indicated that the target layers are saturated with water. Therefore, on November 16, 2005, the Partners decided to abandon the Well. The Well costs amounted to roughly $16.4 million. The Partnership's share in the Well costs amounted to NIS 30.4 million and this amount was recorded on the statement of earnings in 2005. C. MICHAL AND MATAN MARINE LICENSES In March 2005, the operator (BG) notified the partners in the Michal and Matan licenses (hereinafter - "the Licenses") and the Commissioner that it relinquishes its rights in the Licenses and resigns it position as operator of the Licenses. As a result of that notification and pursuant to the joint operating agreement, BG's rights were transferred to the other partners in the Licenses based on their proportionate shares therein. Accordingly, the participation rate of the rights in the Licenses transferred to the Partnership was 20.510%. 20 "Isramco - Negev 2" Limited Partnership NOTES TO THE FINANCIAL STATEMENTS FOR THE YEARS ENDED DECEMBER 31, 2006, 2005 AND 2004 - -------------------------------------------------------------------------------- NOTE 5 - JOINT VENTURE FOR OIL AND GAS EXPLORATION (CONT'D) C. MICHAL AND MATAN MARINE LICENSES (CONT'D) In May 2005, an agreement was reached pursuant to which Dor Chemicals Ltd. and the Dor Gas Explorations, Limited Partnership transferred, for no consideration, to the Partnership and to the limited partnership Delek Drillings (hereinafter - "Delek") and Avner Petroleum Exploration (hereinafter - "Avner") participation rights in the Licenses, such that the Partnership was transferred 4.885% and Delek and Avner were transferred 15.197% each. In January 2006, additional participation rights, at the rate of 11.55%, were transferred to the Partnership by STX (2000) Limited Partnership. After transfer of the rights as stated, the participation rate of the Partnership's rights in the Licenses was 41.95%. Further to notification of the partners in the Licenses to the Commissioner of their intention to execute "Tamar 1" well in the Matan License (hereinafter - "the Tamar Well"), the Commissioner extended the validity of the Licenses up to the end 2008. On July 24, 2006, an agreement was signed (hereinafter - "the Agreement") between the Partnership and additional partners in the Licenses, on the one side, and Noble, pursuant to which participation rights in the Licenses at the rate of 33% were transferred to Noble and Noble was appointed as operator of the Licenses. The Agreement provides, among other things, that Noble will act to the best of its ability to enter into an agreement with a drilling contractor for execution of the "Tamar" well, in such a manner that the drilling will be performed no later than the end of 2007. If a well agreement, as stated, is not signed by June 30, 2007, the Agreement will come to an end and Noble will return its rights in the Licenses and will leave its position as operator. In accordance with the Agreement, Noble paid the existing partners $1 million, of which $550 thousand was paid to third parties in connection with marketing the Licenses to international entities. Out of the balance, the Partnership received $188 thousand based on its proportionate share (41.95%). This amount was recorded on the statement of earnings as "gain on sale of oil and gas rights". In August 2006, approvals for the agreement were received from the Commissioner and the Supervisor of Restrictive Business Practices, and the agreement entered into effect. After transfer of the rights to Nobel, the Partnership holds rights in the Licenses at the rate of 27.5%. The decision of the Supervisor of Restrictive Business Practices includes a number of limitations, the main ones of which are: the Avner and Delek partnerships and the Partnership and/or any party related thereto, shall not hold jointly (including together with other holders), in any gas right, except for the Licenses, except with the express approval of the Supervisor of Restrictive Business Practices. In any arrangement relating to determination of a mechanism for making decisions between the holders in the Licenses with respect to marketing natural gas, none of the said parties shall hold, directly or indirectly, any right to prevent the other holders from making a decision or taking an action in connection with marketing of the natural gas. In November 2006, the operator presented a budget for execution of the "Tamar" well, in the amount of $69 million, as well as an operating budget for the years 2006 and 2007, in the aggregate amount of $2.2 million. On December 14, 2006, the Partnership notified the operator that it approves its share of the said well and operating budgets. At this stage, and as long as no contract has been signed with a drilling contractor, the General Partner is unable to estimate if and when the said drilling will be executed. Regarding the Partnership's liability for an overriding royalty - see 7B., below. 21 "Isramco - Negev 2" Limited Partnership NOTES TO THE FINANCIAL STATEMENTS FOR THE YEARS ENDED DECEMBER 31, 2006, 2005 AND 2004 - -------------------------------------------------------------------------------- NOTE 6 - SUNDRY PAYABLES
DECEMBER 31 DECEMBER 31 2006 2005 ------------- ------------- NIS THOUSANDS NIS THOUSANDS ------------- ------------- Payables in respect of financial instruments (1) 3,560 -- Accrued expenses 474 501 ----- --- 4,034 501 ===== ===
(1) See Note 11B(2). NOTE 7 - CONTINGENT LIABILITIES AND COMMITMENTS A. In the event of discovery of oil and/or gas and/or other valuable material that can be produced within the licenses and leases in which the Partnership is active at present and other licenses and leases in which the Partnership will participate, the Partnership is obligated to pay royalties from the revenues generated from the first 10% of its share in the license/lease, as follows:
ONSHORE LICENSES OFFSHORE LICENSES ------------------------------------- ------------------------------------- UP TO THE DATE OF FOLLOWING THE UP TO THE DATE FOLLOWING THE RETURN OF THE DATE OF RETURN OF OF RETURN OF THE DATE OF RETURN OF INVESTMENT THE INVESTMENT INVESTMENT THE INVESTMENT ----------------- ----------------- ----------------- ----------------- To Isramco Inc. 5.00% 13.00% 1.00% 13.00%
In addition, in the event of a discovery of oil and/or gas and/or other valuable material that will be extracted and realized from the Med Ashdod Lease and the Med Yavneh Lease, the Limited Partnership is obligated to pay royalties from the revenues generated from the first 10% of its share in the lease as specified below:
THE MED ASHDOD LEASE AND MED YAVNEH LEASE ------------------------------------- UP TO THE DATE OF FOLLOWING THE RETURN OF THE DATE OF RETURN OF INVESTMENT THE INVESTMENT ----------------- ----------------- To J. O. E. L. Jerusalem Oil Exploration Ltd. 0.51% 6.58% To Equital Ltd. 0.38% 4.93% To Isramco Inc. 0.06% 0.83%
Isramco Inc. is entitled to an overriding royalty of 2% from the Partnership's share in the oil and/or gas, that is produced from the Med Ashdod and Med Yavneh lease and/or of any petroleum right that comes in their place, which is in addition to any other royalty and/or consideration to which Isramco Inc. is entitled at present. 22 "Isramco - Negev 2" Limited Partnership NOTES TO THE FINANCIAL STATEMENTS FOR THE YEARS ENDED DECEMBER 31, 2006, 2005 AND 2004 - -------------------------------------------------------------------------------- NOTE 7 - CONTINGENT LIABILITIES AND COMMITMENTS (CONT'D) B. The Partnership has an obligation for the payment of an overriding royalty to the General Partner of 5% of the Partnership's share of the revenues from oil and/or gas (gross, before expenses and other payments including a royalty to the State according to the Israeli Petroleum Law, 1952) that is produced from the Matan and Michal Licenses, including any petroleum asset that may come in their place. C. According to an agreement dated February 1997, the Partnership acquired the full rights of Equital Ltd., a related party, in the Shikma Carveout in the Ashdod Lease (10%) to a depth of 1,500 meters and below. The Partnership has an obligation to pay Equital Ltd. if the well is found to be commercial, the amount of $84.5 thousand, as well as a royalty at the rate of 6% before and after the return of the investment. D. The Partnership has an obligation to pay royalties to the State of Israel in accordance with the Petroleum Law, 1952 E. According to an amendment to the Limited Partnership agreement, dated August 6, 1993, that is valid from June 1993, it was determined that the Limited Partnership shall pay the General Partner an amount that is the equivalent of $35,000 a month for placing the services of the employees of the General Partner, as needed, at the disposal of the Limited Partnership and for rent and regular maintenance of part of the offices of Isramco Inc. in Israel that is also used by the Limited Partnership. At the General Meeting of owners of the participation units, that was held in February 1997, it was decided to approve an update of the payment to the General Partner to a sum that is the equivalent of $42,000 (plus Value Added Tax) from January 1997. At that meeting, a commitment was given by the General Partner according to which the General Partner would collect a monthly payment of only $40,000 (plus Value Added Tax). F. According to an agreement (hereinafter - "the Marketing Agreement") signed in March 1989 between the Limited Partnership and the East Mediterranean Oil and Gas Company Ltd. (hereinafter - "EMOG"), EMOG was granted the right to be appointed the exclusive marketing agent of the Limited Partnership in Israel and areas under its control for the wholesale marketing of crude oil from the oil fields of the Negev 2 Venture to which the Limited Partnership is entitled. In an agreement signed in March 1992 between the Limited Partnership and other companies some of whom at that time were parties having an interest in the General Partner (J O.E.L. Jerusalem Oil Explorations Ltd. and Isramco Inc.), various oil rights were transferred to the Limited Partnership, including the "Negev Med" preliminary permit on the basis of which the Med Ashdod and Med Yavneh leases were issued later on (hereinafter - "the Rights Transfer Agreement"). In the Rights Transfer Agreement, it was determined that the marketing of the crude oil produced from the petroleum assets that had been transferred to it from the above interested parties according to the Rights Transfer Agreement would be carried out by EMOG in accordance with the Marketing Agreement. The period of the agreement is fifteen years from the first commercial production. EMOG may assign its rights and obligations under the agreement. 23 "Isramco - Negev 2" Limited Partnership NOTES TO THE FINANCIAL STATEMENTS FOR THE YEARS ENDED DECEMBER 31, 2006, 2005 AND 2004 - -------------------------------------------------------------------------------- NOTE 7 - CONTINGENT LIABILITIES AND COMMITMENTS (CONT'D) G. The oil rights in which the Limited Partnership has a share are allocated for a fixed term and on certain conditions. An extension of the validity of a petroleum asset is usually at the discretion of the authorities in accordance with the Petroleum Law as well as the renewal of any part thereof or the stipulating of additional conditions. In the event of failure to fully comply with the conditions, the right may be cancelled or reduced. The ability to exploit the petroleum assets in accordance with the lease and the licenses is contingent, among other things, on the Limited Partnership and the partners therein being willing and able to finance the various operations therein as well as the availability of appropriate equipment and personnel in Israel. The lack of equipment or personnel could increase the costs or totally prevent fulfillment of the terms of the lease or the license or the permit or prevent or reduce the period of their extension or even lead to their cancellation. In addition, in accordance with the Petroleum Law, if within the first three years of the granting of the lease, oil/gas is not produced from the lease site in commercial quantities, the appointed Minister is permitted to send the lease owner a notification demanding that production of oil/gas in commercial quantities be commenced within the time period determined by the Minister in the notification - which may not be less than 60 days. If production, as stated, is not commenced, the lease will expire. In the estimation of the General Partner and based on discussions with the Commissioner of Petroleum Matters, a notification as stated will not be sent with respect to the Med Ashdod lease - up to the end of the time allocated for execution of a drilling for oil prospects (that is, July 1, 2007) and with respect to the Med Yavneh lease - so long as development from the "Noa" gas field has not been started, which is nearby and subject to development from the "Or 1" gas field having been started at the same time. H. According to the trust agreement referred to in Note 1D, in the event of termination of the trust, the cash received as a result of the realization of the trust assets less the costs involved in the realization and termination of the trust, will be divided among the owners of the participation units and the holders of options (if any) less the exercise premium. I. The Supervisor is entitled to receive wages from the Limited Partnership in an amount in shekels that is equivalent to $3,500 per month, as long as the trust agreement, referred to in Note 1D, remains in effect. Similarly, the Supervisor is entitled to receive from the Limited Partnership expenses that were duly incurred in the discharge of his duties and that were approved by the General Meeting. The Supervisor received approval for a budget for purposes of legal consultation, in the amount of $10,000 per year. In addition, the Supervisor is entitled to additional compensation for his work in connection with issuance of additional rights, in the amount of $20,000 in respect of every issuance, or such higher amount that will be approved by the General Meeting. J. According to the trust agreement, referred to in Note 1D, the Limited Partner (the trustee) is entitled to receive annual wage of $1,000. K. The Limited Partnership has undertaken to indemnify the General Partner and any of its employees and/or directors for any loss, expenses or damage that they or their agents bear or are required to bear, whether directly or indirectly, as a result of any act or omission in accordance with the provisions of the Limited Partnership agreement or in accordance with law. 24 "Isramco - Negev 2" Limited Partnership NOTES TO THE FINANCIAL STATEMENTS FOR THE YEARS ENDED DECEMBER 31, 2006, 2005 AND 2004 - -------------------------------------------------------------------------------- NOTE 7 - CONTINGENT LIABILITIES AND COMMITMENTS (CONT'D) L. Some of the offshore drillings in which the Partnership may be a partner, are subject to the conditions and restrictions that determined or that may be determined in future by the Defense System. These conditions and restrictions could cause a change and delay in the time schedules and, as a result, could generate an increase in expected costs and a failure to comply with the lease. M. (1) The Limited Partnership shall be dissolved upon the occurrence of any of the following instances: a. At the end of the period in which the Limited Partnership holds, directly or indirectly, a valid petroleum asset or rights therein or in the petroleum to be produced. b. If the General Partner should cease to fulfill its position and no other partner is appointed in its place within 6 months from the date on which it left office. c. If the partners agree to dissolve the Limited Partnership. (2) According to the directives of the Israeli Stock Exchange, the Board of Directors of the Stock Exchange may remove the Limited Partnership's securities from trading in the following instances (this being in addition to the causes of action included in the Stock Exchange's Articles of Association in respect of suspending of trade and cancellation of the registration of securities of companies): a. If the Limited Partnership ceases to operate in the area of the activities that were specified by the Limited Partnership before the registration for trading, for a period of nine consecutive months in which most of the Partnership's expenses are not expenses for exploration and development, within the meaning of the Income Tax Regulations (Deductions from Income of Holders of Oil Rights), 1956. b. The Limited Partnership commences to also engage in activities in areas that are not within the limits of its exclusive area of occupation. c. The Limited Partnership commences to also engage in projects other than those that were specified by the Limited Partnership before the first registration for trading or other than those that were specified in the Limited Partnership agreement after the first registration for trading and that an amendment of the partnership agreement was approved by the General Meeting of the owners of the participation units. It is noted that further to the Trustee's inquiry to the Stock Exchange in 2005, the Stock Exchange responded to the Trustee that the interpretation of the term "exploration and development expenses", within the meaning of the guidelines of the Stock Exchange's Articles of Association, also includes expenses incurred for management of the Partnership's current oil exploration activities, pursuant to the provisions of the Income Tax Regulations (Rules for Recording the Tax due to the Holding and Sale of Participation Units in Oil Exploration Partnerships), 1988. 25 "Isramco - Negev 2" Limited Partnership NOTES TO THE FINANCIAL STATEMENTS FOR THE YEARS ENDED DECEMBER 31, 2006, 2005 AND 2004 - -------------------------------------------------------------------------------- NOTE 8 - LIMITED PARTNERSHIP'S CAPITAL
DECEMBER 31 DECEMBER 31 2006 2005 ----------- ----------- Participation units of NIS 0.01 par value (in thousands) 4,250,908 4,250,908 ========= =========
A. THE GENERAL PARTNER - ISRAMCO OIL AND GAS LTD. Up to December 31, 2006, the General Partner invested NIS 389 thousand in the capital of the Limited Partnership, and it participates in the Limited Partnership's expenses and losses and is entitled to its income according to the share of the General Partner in the capital invested in the Limited Partnership's capital. As at December 31, 2006, the share of the General Partner in the capital is 0.05% and is progressively reduced with every increase in capital, in which the General Partner does not participate. B. THE LIMITED PARTNER - ISRAMCO MANAGEMENT (1988) LTD. As at December 31, 2006, the Limited Partner invested in the capital of the Limited Partnership, NIS 856,002 thousand (after deduction of the issuance costs) and it participates in the Limited Partnership's expenses and losses and is entitled to its income according to its share in the capital invested in the Limited Partnership's capital. As at December 31, 2006, the share of the Limited Partner in the capital is 99.95% and is progressively increased with every increase in capital, in which the General Partner does not participate. C. THE CAPITAL OF THE LIMITED PARTNERSHIP The composition of the capital of the Limited Partnership is as follows:
LIMITED PARTNER GENERAL PARTNER TOTAL --------------- --------------- ------------- NIS THOUSANDS NIS THOUSANDS NIS THOUSANDS --------------- --------------- ------------- Partners' investment, net 856,002 389 856,391 -------- ---- -------- Loss balance at beginning of the year (261,657) (183) (261,840) Net income for the year 61,851 31 61,882 Distribution of Partnership earnings to holders of the participation units (70,000) -- (70,000) Tax deposits paid on behalf of holders of the participation units (8,823) -- (8,823) -------- ---- -------- Loss balance at end of the year (278,629) (152) (278,781) -------- ---- -------- Limited Partnership capital at end of the year 577,373 237 577,610 ======== ==== ========
26 "Isramco - Negev 2" Limited Partnership NOTES TO THE FINANCIAL STATEMENTS FOR THE YEARS ENDED DECEMBER 31, 2006, 2005 AND 2004 - -------------------------------------------------------------------------------- NOTE 8 - LIMITED PARTNERSHIP'S CAPITAL (CONT'D) D. In accordance with a legal opinion received by the Limited Partnership, it was recommended that when the partners will have accrued profits, the Limited Partner and/or the Supervisor would request the Court to issue instructions in respect of the doubts raised in the opinion regarding the distributable profits and if and when distribution of profits by the Limited Partnership will be deemed to be a withdrawal of part of the investment of the Limited Partner within the meaning of Section 63(B) of the Partnerships Ordinance. E. Further to the demand of the Israeli Tax Authorities that the tax deriving from the taxable income attributable to the holders of the participation units shall be paid by the Partnership on behalf of the holders of the participation units, an agreement was signed between the Partnership and the Tax Authorities, according to which it was provided that the Partnership shall be entitled to receive an exemption from withholding of tax at the source on its income, subject to the condition that beginning from 2004, the Partnership will pay to the Tax Authorities, at the end of every tax year, an advance deposit on account of the tax liability of the holders of the participation units, which shall be calculated based on the amount of the Partnership's income for tax purposes in the relevant tax year by category (interest, dividends, gains/losses from sale of securities) less the Partnership's allowable deductions for tax purposes in a manner proportionate to the income, multiplied by the rates fixed in the agreement. The said payment will be attributed to the credit of every certificate holder (as defined in the Income Tax Regulations) based on his proportionate share, as an advance deposit on account of the tax. Pursuant to the agreement, in the current year the Partnership paid NIS 8,823 thousand (in 2005 - NIS 5,074 thousand and in 2004 - NIS 3,615 thousand), which was recorded to the credit of every certificate holder based on his proportionate share, as a deposit on account of the tax and that will be included as part of the certificate for purposes of calculating the deduction to which the holder is entitled due to the holding of participation units. The amounts paid by the Partnership, as stated, are presented as a reduction of Partnership capital. F. At the General Meeting of the holders of the participation units, held on April 25, 2006, changes were approved to the Partnership Agreement and to the Trust Agreement in connection with distribution of the Partnership's earnings for 2006 and thereafter, mainly as follows: 1. Calculation of the earnings will always be made for the year ended December 31. Earnings shall not be distributed if receipt thereof by the limited partner will be considered a withdrawal of his investment or a portion thereof, within the meaning thereof in Section 63(B) of the Partnerships Ordinance (New Version), 1975. 27 "Isramco - Negev 2" Limited Partnership NOTES TO THE FINANCIAL STATEMENTS FOR THE YEARS ENDED DECEMBER 31, 2006, 2005 AND 2004 - -------------------------------------------------------------------------------- NOTE 8 - LIMITED PARTNERSHIP'S CAPITAL (CONT'D) F. (CONT'D) 2. Distribution of the Partnership's earnings to the Trustee in respect of any year, shall be made on the date determined by the General Partner and shall be no later than June 30 of the following year, as follows: a. The Partnership shall distribute all its earnings deriving from oil and/or gas production activities that it may distribute under law as earnings, less the amounts required by the Partnership in order to meet its liabilities, as provided in the Partnership Agreement. b. The Partnership shall distribute 40% of its earnings deriving from its activities other than oil and/or gas production, including income from securities and other interim investments that it may distribute under law as earnings, less amounts designated for taxes that it shall transfer to the Assessing Officer (pursuant to the agreement therewith), and subject to the liquid resources remaining in its accounts immediately after the said distribution not being less than $100 million. If it is possible to distribute in respect of such year less than 40% of the said amounts, in such a manner that the balance of the liquid resources remaining in the Partnership's accounts immediately after the said distribution will be $100 million - the amount shall be distributed accordingly. c. The General Partner and the Trustee shall issue an Immediate Report detailing the amount of the earnings available for distribution, the tax rate with respect to withholding at the source, the effective date for holding of the participation units for purposes of eligibility to receive a distribution and the actual distribution date. In addition, the above-mentioned General Meeting approved an agreed-to arrangement whereby a one-time amount of NIS 70 million will be distributed in respect of the Partnership's earnings for the years 2003, 2004 and 2005, which is to be paid to the Trustee on the date determined by the General Partner and no later than 60 days after fulfillment of the following cumulative conditions: (i) receipt of court approval for the agreed-to arrangement as a final arrangement and (ii) receipt of approval from the Taxes Authority regarding the rate for withholding of tax at the source in respect of the said distribution. In July 2006, the court approved distribution of NIS 70 million pursuant to the agreed-to arrangement and approval was received from the Taxes Authority according to which the distribution is exempt from withholding of tax at the source. Pursuant to the decision of the General Partner and the Trustee, the effective date for purposes of eligibility regarding the above-mentioned distribution was set as September 4, 2006. On September 18, 2006, the distribution was made. 28 "Isramco - Negev 2" Limited Partnership NOTES TO THE FINANCIAL STATEMENTS FOR THE YEARS ENDED DECEMBER 31, 2006, 2005 AND 2004 - -------------------------------------------------------------------------------- NOTE 9 - DETAILS TO STATEMENT OF EARNINGS CATEGORIES A. FINANCING INCOME, NET
FOR THE YEAR ENDED 31 DECEMBER --------------------------------------------- 2006 2005 2004 ------------- ------------- ------------- NIS THOUSANDS NIS THOUSANDS NIS THOUSANDS ------------- ------------- ------------- Gain from marketable securities, net * 40,611 50,479 36,005 Unrealized loss from derivative financial instrument (3,560) -- -- Interest on deposits in banks and exchange rate differences 585 281 553 Dividend and interest income from marketable securities 31,777 24,432 25,955 Commissions, management fees and others (4,184) (3,804) (3,890) ------ ------ ------ 65,229 71,388 58,623 ====== ====== ====== * Including gain from investment in securities of third parties 9,713 2,107 2,524 ====== ====== ======
B. PARTICIPATION IN OIL AND GAS EXPLORATION, NET
FOR THE YEAR ENDED 31 DECEMBER --------------------------------------------- 2006 2005 2004 ------------- ------------- ------------- NIS THOUSANDS NIS THOUSANDS NIS THOUSANDS ------------- ------------- ------------- "Med Ashdod" 344 91 106 "South Marine" License -- -- 187 "Med Yavne" Lease 726 279 231 "Gal" Licenses 192 62 23 "Shikma Sea" License - "Nordon 1" well -- -- 366 "Med Ashdod" Lease - "Gad 1" well 1 30,370 -- Others -- -- 12 ----- ------ --- 1,263 30,802 925 ===== ====== === Including expenses to related parties 536 2,910 664 ===== ====== ===
29 "Isramco - Negev 2" Limited Partnership NOTES TO THE FINANCIAL STATEMENTS FOR THE YEARS ENDED DECEMBER 31, 2006, 2005 AND 2004 - -------------------------------------------------------------------------------- NOTE 9 - DETAILS TO STATEMENT OF EARNINGS CATEGORIES (CONT'D) C. GENERAL AND ADMINISTRATIVE EXPENSES
FOR THE YEAR ENDED 31 DECEMBER --------------------------------------------- 2006 2005 2004 ------------- ------------- ------------- NIS THOUSANDS NIS THOUSANDS NIS THOUSANDS ------------- ------------- ------------- Management fee to the General Partner - related party 2,133 2,157 2,154 Professional services 411 151 160 Taxes and permits 103 105 105 Wages to the limited partner and the supervisor 184 195 192 Others 65 42 82 ----- ----- ----- 2,896 2,650 2,693 ===== ===== =====
D. INCOME PER PARTICIPATION UNIT
FOR THE YEAR ENDED 31 DECEMBER --------------------------------------------- 2006 2005 2004 ------------- ------------- ------------- NIS THOUSANDS NIS THOUSANDS NIS THOUSANDS ------------- ------------- ------------- Number of participation units used to compute the basic income per participation unit (in thousands) 4,250,908 4,250,908 4,250,908 Income used in computing basic income (in NIS 000) per participation unit 61,851 37,919 54,977
NOTE 10 - INTERESTED PARTIES AND RELATED PARTIES A. The limited partnerships, Naphtha Explorations, I.N.O.C. Dead Sea and the Partnership, are managed by related companies that are controlled by the same controlling interest. The said partnerships together with Isramco Inc., which is also under the control of the same controlling interest, are partners, in full or in part, in different gas and oil exploration rights. The joint ventures for oil and gas explorations, in which the said partnerships and the Partnership participate, receive services from companies that are related parties and are controlled by the same controlling interest. Also, in most of the joint ventures, in which the Partnership participates, some of the partners are related parties and interested parties that also act in part as venture operators who are entitled to venture operator fees at a set rate of the direct expenses or venture operator fees at a fixed monthly amount, according to the joint venture agreements. 30 "Isramco - Negev 2" Limited Partnership NOTES TO THE FINANCIAL STATEMENTS FOR THE YEARS ENDED DECEMBER 31, 2006, 2005 AND 2004 - -------------------------------------------------------------------------------- NOTE 10 - INTERESTED PARTIES AND RELATED PARTIES (CONT'D) B. MARKETABLE SECURITIES OF RELATED PARTIES
FOR THE YEAR ENDED DECEMBER 31, FOR THE YEAR ENDED DECEMBER 31, 2006 2005 -------------------------------- -------------------------------- RATE OF HOLDINGS MARKET VALUE RATE OF HOLDINGS MARKET VALUE ---------------- ------------- ---------------- ------------- % NIS THOUSANDS % NIS THOUSANDS ---------------- ------------- ---------------- ------------- Naphta Explorations, Limited Partnership 13.52 5,104 13.52 4,114 Hanal Dead Sea, Limited Partnership 4.43 2,376 4.43 1,784 J.O.E.L. Jerusalem Oil Exploration Ltd. 0.74 4,936 0.90 2,740 Isramco Inc. 4.7 15,942 -- -- Nitzba Holdings 1995 Ltd. 9.02 7,689 -- -- ------ ----- 36,047 8,638 ====== =====
The income from the investment in marketable securities of related parties in the years 2006, 2005 and 2004 amounted to NIS 9,713 thousand, NIS 2,107 thousand, and NIS 2,524 thousand, respectively. C. Balances and transactions with related and interested parties are included in the notes to the financial statements in the appropriate categories. D. For information on undertakings with related and interested parties - see Note 7. E. For information on royalties to related parties and interested parties - see Note 7. NOTE 11 - FINANCIAL INSTRUMENTS AND RISK MANAGEMENT GENERAL During the regular course of its business, the Partnership is exposed to interest risks, currency risks, risks relating to gas and oil prices and the market value of marketable securities. A. INTEREST RISKS The Partnership's interest rate risk stems mainly from investment in debentures, presented as an investment in marketable securities, at a fixed rate of interest, which exposes the Partnership to an interest rate risk in connection with their fair value. Changes in the interest rate in the economy may expose the Partnership to losses on marketable securities, since there is a connection between the real (inflation-adjusted) price of the security and the difference between the interest rate borne by the security and the market interest rate. DECEMBER 31, 2006 ----------------------------- AVERAGE EFFECTIVE UP TO INTEREST RATE 1 YEAR ------------- ------------- % NIS THOUSANDS ------------- ------------- FINANCIAL INSTRUMENTS AT A FIXED RATE Corporate debentures 6.16 322,162 Convertible debentures 2.32 97,877 31 "Isramco - Negev 2" Limited Partnership NOTES TO THE FINANCIAL STATEMENTS FOR THE YEARS ENDED DECEMBER 31, 2006, 2005 AND 2004 - -------------------------------------------------------------------------------- NOTE 11 - FINANCIAL INSTRUMENTS AND RISK MANAGEMENT (CONT'D) B. EXCHANGE RATE RISKS 1. The Partnership is exposed to foreign currency risks mainly in connection with changes in the exchange rate of the dollar. The oil and gas prices, as well as the inputs relating to oil and gas exploration, are denominated in dollars. In addition, the Partnership has investments in marketable securities, some of which are denominated in dollars, financial derivatives and it is a party to agreements for payment of management fees to the General Partner, and fees to the Supervisor and the Trustee, that are also denominated in dollars. 2. As at the balance sheet date, the Partnership has a forward contract, not for hedging purposes, for acquisition of dollars in exchange for shekels, in the amount of $20 million, which comes due in July 2007. In 2006, the Partnership included in its financial statements an unrealized loss and a payable of NIS 3.6 million, in respect of the aforesaid contract. C. RISKS RELATING TO OIL AND GAS PRICES The Partnership's purpose is to participate in oil and gas exploration and production activities. Declines in oil and gas prices expose the Partnership to losses deriving from a reduction in the projected revenues and declines in asset values, on the one hand, while on the other hand, increases in oil and gas prices may expose the Partnership to losses resulting from an increase in the inputs required for oil and gas exploration. D. MARKET RISKS RELATING TO MARKETABLE SECURITIES The Partnership invests most of its cash balances in marketable securities. Changes in the market prices of the marketable securities expose the Partnership to losses. In order to reduce the level of risk, the Partnership has a policy requiring wide dispersion of the investments' portfolio and investment of at least 70% in low-risk channels, such as, corporate and government debentures. E. FAIR VALUE OF FINANCIAL INSTRUMENTS The book value of the cash and cash equivalents, marketable securities, other receivables and debits and other payables and credits, equals or approximates their fair value. 32 "Isramco - Negev 2" Limited Partnership NOTES TO THE FINANCIAL STATEMENTS FOR THE YEARS ENDED DECEMBER 31, 2006, 2005 AND 2004 - -------------------------------------------------------------------------------- NOTE 11 - FINANCIAL INSTRUMENTS AND RISK MANAGEMENT (CONT'D) F. LINKAGE BASES OF MONETARY ITEMS
DECEMBER 31, 2006 ---------------------------------------------------------------- ISRAELI CURRENCY FOREIGN CURRENCY ----------------------------- ---------------- UNLINKED CPI-LINKED DOLLAR TOTAL ------------- ------------- ------------- ------------- NIS THOUSANDS NIS THOUSANDS NIS THOUSANDS NIS THOUSANDS ------------- ------------- ------------- ------------- CURRENT ASSETS: Cash and cash equivalents 10,163 -- 5,045 15,208 Marketable securities 123,391 349,979 84,695 558,065 Joint ventures for oil and gas exploration -- -- 625 625 Sundry receivables 310 -- -- 310 CURRENT LIABILITIES: Sundry payables (3,912) -- (122) (4,034) Joint ventures for oil and gas exploration -- -- (173) (173) ------- ------- ------ ------- 129,952 349,979 90,070 570,001 ======= ======= ====== =======
DECEMBER 31, 2005 ---------------------------------------------------------------- ISRAELI CURRENCY FOREIGN CURRENCY ----------------------------- ---------------- UNLINKED CPI-LINKED DOLLAR TOTAL ------------- ------------- ------------- ------------- NIS THOUSANDS NIS THOUSANDS NIS THOUSANDS NIS THOUSANDS ------------- ------------- ------------- ------------- CURRENT ASSETS: Cash and cash equivalents 1,806 -- 914 2,720 Marketable securities 131,521 378,844 73,204 583,569 Joint ventures for oil and gas exploration -- -- 1,328 1,328 Sundry receivables 9 -- -- 9 CURRENT LIABILITIES: Sundry payables (360) -- (141) (501) Joint ventures for oil and gas exploration -- -- (183) (183) ------- ------- ------ ------- 132,976 378,844 75,122 586,942 ======= ======= ====== =======
33 "Isramco - Negev 2" Limited Partnership NOTES TO THE FINANCIAL STATEMENTS FOR THE YEARS ENDED DECEMBER 31, 2006, 2005 AND 2004 - -------------------------------------------------------------------------------- NOTE 12 - DIFFERENCES BETWEEN ISRAELI GAAP AND U.S. GAAP A. GENERAL The Limited Partnership's financial statements are prepared in accordance with generally accepted accounting principles in Israel ("Israeli GAAP"), which differ in certain respects from generally accepted accounting principles in the United States ("U.S. GAAP"). Differences which have a significant effect on the Limited Partnership's net assets, income and equity, are set forth below. 1. Effect of inflation ------------------- Up to December 2003, the Limited Partnership included the effect of price level changes in the accompanying financial statements, as required under Israeli GAAP and as discussed in Note 3 to these financial statements. U.S. GAAP does not provide for recognition of the effects of such price level changes. However, the U.S. Securities and Exchange Commission permits recognition of the effects of price level changes and, therefore, such effects are not included in the reconciliation of net income or equity presented herein. 2. Marketable securities --------------------- a. The Limited Partnership owns 13.5% of the participation units of a related limited partnership, which is engaged in oil and gas exploration. Under Israeli GAAP, these participation units, which are designated for sale in the short term, are recorded at market value as at the balance sheet date with unrealized income/losses being recorded in the statements of earnings. Under U.S. GAAP, the participation units are recorded using the equity method in accordance with EITF D-46, "Accounting for Limited Partnership investments" which requires implementation of Statement of Position 78-9, "Accounting for Investments in Real Estate Ventures" for the Limited Partnership's investments. The effect of reversing the unrealized income/losses on the participation units for Israeli GAAP, and application of the equity method of accounting for U.S. GAAP purposes, are presented below as separate adjustments. b. The Limited Partnership invests in marketable securities which are classified as trading securities, both under Israeli GAAP and U.S. GAAP. Regarding the presentation in the Statements of Cash Flows: under Israeli GAAP cash flows from purchases, sales and maturities of trading securities shall be classified as cash flows from investing activities, whereas under U.S. GAAP those cash flows shall be classified as cash flows from operating activities, in accordance with FAS 115, "Accounting for Certain Investments in Debt and Equity Securities". The effect of the different classification of the trading securities activity in the statements of cash flows for U.S. GAAP purposes, is presented below as separate adjustment. B. THE EFFECT OF MATERIAL DIFFERENCES BETWEEN ISRAELI AND U.S. GAAP DERIVING FROM THE AFOREMENTIONED ITEMS ON THE FINANCIAL STATEMENTS, IS SHOWN BELOW: 1. On the statements of earnings: -----------------------------
YEAR ENDED DECEMBER 31 --------------------------------------------- 2006 2005 2004 ------------- ------------- ------------- NIS THOUSANDS NIS THOUSANDS NIS THOUSANDS ------------- ------------- ------------- Net income under Israeli GAAP 61,882 37,936 55,005 ------ ------ ------ Adjustments ----------- Revaluation of marketable securities (990) (972) (943) Partnership equity in earnings of an investee partnership 1,049 265 955 ------ ------ ------ 59 (707) 12 ------ ------ ------ Net income under U.S. GAAP 61,941 37,229 55,017 ====== ====== ======
34 "Isramco - Negev 2" Limited Partnership NOTES TO THE FINANCIAL STATEMENTS FOR THE YEARS ENDED DECEMBER 31, 2006, 2005 AND 2004 - -------------------------------------------------------------------------------- NOTE 12 - DIFFERENCES BETWEEN ISRAELI GAAP AND U.S. GAAP (CONT'D) B. THE EFFECT OF MATERIAL DIFFERENCES BETWEEN ISRAELI AND U.S. GAAP DERIVING FROM THE AFOREMENTIONED ITEMS ON THE FINANCIAL STATEMENTS, IS SHOWN BELOW: (CONT'D) 1. On the statements of earnings: (cont'd) -----------------------------
YEAR ENDED DECEMBER 31 --------------------------------------------- 2006 2005 2004 ------------- ------------- ------------- NIS THOUSANDS NIS THOUSANDS NIS THOUSANDS ------------- ------------- ------------- BASIC AND DILUTED INCOME PER PARTICIPATION UNIT (UNDER U.S. GAAP) Net income 61,941 37,229 55,017 ========= ========= ========= General partner's share in the net income 31 19 28 ========= ========= ========= Net income attributable to participation unit holder 61,910 37,210 54,989 ========= ========= ========= Basic net income per participation unit (NIS) 0.0146 0.0088 0.0129 ========= ========= ========= Weighted-average number of participation units used in calculation of basic income per unit (in thousands) 4,250,908 4,250,908 4,250,908 ========= ========= =========
2. On balance sheet items: ----------------------
DECEMBER 31 --------------------------------------------------------------------------------------------- 2006 2005 --------------------------------------------- --------------------------------------------- AS PER AS PER AS REPORTED ADJUSTMENT U.S. GAAP AS REPORTED ADJUSTMENT U.S. GAAP ------------- ------------- ------------- ------------- ------------- ------------- NIS THOUSANDS NIS THOUSANDS NIS THOUSANDS NIS THOUSANDS NIS THOUSANDS NIS THOUSANDS ------------- ------------- ------------- ------------- ------------- ------------- ASSETS Marketable securities (1) 558,065 (5,104) 552,961 583,569 (4,114) 579,455 ======== ====== ======== ======== ====== ======== Investment in affiliate (2) -- 6,658 6,658 -- 5,609 5,609 ======== ====== ======== ======== ====== ======== EQUITY Accumulated loss (1) (2) (278,781) 1,554 (277,227) (261,840) 1,495 (260,345) ======== ====== ======== ======== ====== ========
(1) Change in value of investment securities to market value. (2) Partnership equity in earnings of a partnership. 35 "Isramco - Negev 2" Limited Partnership NOTES TO THE FINANCIAL STATEMENTS FOR THE YEARS ENDED DECEMBER 31, 2006, 2005 AND 2004 - -------------------------------------------------------------------------------- NOTE 12 - DIFFERENCES BETWEEN ISRAELI GAAP AND U.S. GAAP (CONT'D) B. THE EFFECT OF MATERIAL DIFFERENCES BETWEEN ISRAELI AND U.S. GAAP DERIVING FROM THE AFOREMENTIONED ITEMS ON THE FINANCIAL STATEMENTS, IS SHOWN BELOW: (CONT'D) 3. On the statement of cash flows: ------------------------------
YEAR ENDED DECEMBER 31 --------------------------------------------- 2006 2005 2004 ------------- ------------- ------------- NIS THOUSANDS NIS THOUSANDS NIS THOUSANDS ------------- ------------- ------------- Net cash inflow generated by operating activities - Israeli GAAP 24,384 17,933 22,339 Adjustments ----------- Net (loss) income 59 (707) 12 Gain from marketable securities, net 990 972 943 Proceeds from disposal (investment in) marketable securities, net 66,115 5,952 (30,378) Partnership equity in earnings of a partnership (1,049) (265) (955) -------- -------- -------- Net cash inflow (outflow) generated by operating activities - U.S. GAAP 90,499 23,885 (8,039) ======== ======== ======== Net cash outflow generated by investing activities - Israeli GAAP 66,927 (24,418) (30,378) Adjustments ----------- Investment in marketable securities 458,285 487,366 204,464 Proceeds from disposal of marketable securities (524,400) (493,318) (174,086) -------- -------- -------- Net cash outflow generated by investing activities - U.S. GAAP 812 (30,370) -- ======== ======== ========
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