Carnarvon Petroleum
Annual Report 2010

Plain-text annual report

COnTEnTS Chairman’s Review Chief Executive’s Review Operating and Financial Review Directors’ Report Independence Declaration Consolidated Income Statement Consolidated Statement of Comprehensive Income Consolidated Statement of Financial Position Consolidated Statement of Changes in Equity Statement of Cash Flows Notes to the Financial Statements Directors’ Declaration Independent Audit Report Corporate Governance Statement Additional Shareholder Information 1 2 3 17 28 29 30 31 32 33 34 71 72 74 77 CORPORATE DIRECTORY Directors PJ Leonhardt (Chairman) EP Jacobson (Chief Executive Officer) NC Fearis (Non-Executive Director) KP Judge (Non-Executive Director) (retired 15 July 2010) W Foster (Non-Executive Director) (appointed 17 August 2010) Company Secretary RA Anderson Auditors WHK Horwath Perth Audit Partnership Bankers Australia and New Zealand Banking Group Limited National Australia Bank Limited HSBC (Thailand) Registered Office Ground Floor 1322 Hay Street West Perth WA 6005 Telephone: Facsimile: Email: Website: +61 8 9321 2665 +61 8 9321 8867 admin@cvn.com.au www.carnarvon.com.au Share Registry Computershare Investor Services Pty Limited Level 2, 45 St Georges Terrace Perth, WA 6000 Australia Investor Enquiries: 1300 557 010 (within Australia) Investor Enquiries: +61 3 9415 4000 (outside Australia) +61 8 9323 2033 Facsimile: Stock Exchange Listing Securities of Carnarvon Petroleum Limited are listed on ASX Limited. ASX Code: CVN - ordinary shares Last year we were pleased to report that Carnarvon had experienced a period of significant growth in operational and financial performance from its L44/43 Concession in Thailand. Last year was also a period of severe turbulence in economic conditions in the sense of the “Global Financial Crisis” or GFC. A year on and we find the Company in a very strong position. We have significantly upgraded our reserves, continued to produce oil from the L44/43 Concession in Thailand, and taken advantage of the difficulties of the GFC to position the business for future growth in new exploration acreage both within Thailand and in other regions. At a strategic level the Carnarvon Board, with support from its management, has carefully considered future growth plans that are most likely to realise material benefits for shareholders having regard to the risks and capital required to find and develop new reserves. We have articulated the Company’s intention to focus on direct holdings in onshore and shallow offshore opportunities in the South East Asian and Australasian regions. In this context, during the year attractive new ventures were introduced into Carnarvon in Thailand, Indonesia, Australia and New Zealand. These are opportunities that are capable of providing material value to shareholders while containing government and other commitments to levels that are readily affordable by the Company without putting it under undue financial strain. While the GFC may now be history, the Carnarvon Board remains wary of the risk of future adverse economic events that could materially affect business confidence and global liquidity. Accordingly, Carnarvon will continue to grow its business in a prudent manner and position itself to be capable of exploiting opportunities should they arise in any difficult economic times in the future. Your directors are very conscious of the disappointing performance in the Company’s share price over the past year. Certainly there have been a number of external factors affecting this, including the unrest in Bangkok earlier this year, the Australian Government’s intention to introduce a super profits tax on the resources sector, and significant movements in oil prices and exchange rates. Fundamentally though, the key issue has been around the levels of production that we expected a year ago compared with those that were ultimately achieved. We acknowledge and thank Pan Orient Energy CHAIRmAN’S REvIEW Corp, the L44/43 Concession Operator, for its tremendous efforts during the year in managing a challenging reservoir. Despite a very effective drilling campaign, a number of the wells unfortunately failed to produce at the levels we had reasonably predicted. That said, we announced after the end of the financial year a series of well results that have significantly exceeded our expectations, including the WBEXTa well that set a record for production rates onshore Thailand. I will leave further explanation of the production issues to be covered by Ted Jacobson in his Chief Executive’s Review. Notwithstanding these issues, production from the L44/43 Concession continues to generate significant cash flows for investment in other growth opportunities for shareholders. For Carnarvon’s ongoing success we are aware of the need to work closely with all stakeholders, including joint venture partners, suppliers, our corporate advisers and shareholders. I would like to thank all those who have supported us during the year. Carnarvon’s people have again made outstanding contributions and the high calibre of our relatively small team is a key to our future growth. I believe it is also important to recognise the progress made in building the capabilities of our people. On behalf of the Carnarvon Board I congratulate our Chief Executive Officer Ted Jacobson and all of the staff. We all look forward to another exciting year in 20 and beyond. The Board was sorry to announce recently that Ken Judge had decided to retire from the Board. Ken joined the Board over 5 years ago and was an outstanding contributor to the Company’s success over this period. His extensive experience and global insights will be greatly missed. So, thank you Ken and every best wish with your reduced international commitments. Bill Foster was subsequently appointed to the Board and brings to us extensive industry experience. We look forward to working with him in growing the Company in the future. Peter Leonhardt Chairman Back to Contents Carnarvon Petroleum Limited  CHIEF EXECUTIvE’S REvIEW Carnarvon posted a substantial 48% increase in audited oil reserves in its L44/43 Thailand concession as at 31 December 2009. Proven and probable recoverable oil reserves were calculated to be 24.5mmbbls net to Carnarvon. New oil pools were discovered and new production licences were approved over the Bo Rang, L44-W and NSE-F1 discoveries. This is an enviable position for our company to be in. Production declined over the year, partly the result of a focus on appraisal drilling to better define the limits of the oil reserves, but also due to natural decline of wells. However, recent drilling has significantly reversed this trend. At the end of the financial year the L33- well, which was required to be drilled as part of the licence terms for the L33/43 concession, discovered a new pool of oil within fractured volcanic rock with substantial flow rates of ,00 bopd. This new discovery was followed up after the financial year end with the drilling of L33-2 well which was flowed at 2,350 bopd. A production licence has now been applied for. Production will commence on approval of the production licence. In addition, subsequent to year end, a new oil discovery was made in fractured volcanic rock within the Wichian Buri structure in the L44/43 concession, at WBEXT-. A follow up well in the same structure, WBExt-A, flowed a record 5,300 bopd on clean-up. Further drilling is ongoing within this structure. Whilst production had declined at the end of the financial year, production at year end improved dramatically with the wells drilled in July and August 200. Elsewhere the Company has been very busy building on its assets. In Thailand, within the L20/50 permit, the seismic acquisition of 550 kms of seismic data was completed, processed and interpreted. Preparations are underway for one firm well and two contingent wells to be drilled late this calendar year, the timing being subject to weather conditions. In addition, the new L52/50 and L53/50 concessions were officially awarded and technical work has commenced. Within Indonesia, Carnarvon acquired a 25 percent interest in the Rangkas permit, onshore Indonesia. Numerous oil seeps and oil shows in previous wells have been reported in this permit and its close proximity to Jakarta and associated infrastructure makes this a desirable location. A total of ,000 kms of existing seismic data has been re-processed by Carnarvon with modern computer routines, and a further 474 kms of new seismic acquisition is underway. In Australia, Carnarvon was awarded a 50% interest in four permits covering the Phoenix gas discovery and surrounding area in the Bedout Sub- Basin offshore from Dampier in Western Australia. Carnarvon was later awarded a 00% interest in a further permit adjacent to the Phoenix permits, resulting in the Company having interests over a large area of 28,300 sq kms. These permits are in water depths of around 00metres being a mere 50 kms from the coast. Aeromagnetic data has been acquired by Carnarvon over these permits, and ,00 sq kms of 3D seismic plus regional 2D seismic lines will be acquired later in 200. The Phoenix structure already contains two wells which intersected large gas columns of approximately 700 metres which were not flow tested. Carnarvon plans to farm out a portion of its interest to fund the drilling of two appraisal wells. The timing of these wells will be late 20 / early 202. The Company farmed into a new area offshore New Zealand for 0% of the drilling of a well at Tuatara-. Although this well did not find commercial deposits of hydrocarbons, it did encounter gas and oil shows throughout the well which is encouraging for further exploration in the permit. Carnarvon also farmed out a portion of the WA-399-P permit in the offshore Carnarvon Basin to Apache Energy and Jacka Resources in return for funding the recording and processing of new 3D seismic over the entire permit. Carnarvon retains a 3% interest in the permit. The farmout to Apache and Jacka allows the introduction of a strong joint venture partner and operator to facilitate the acquisition of 3D seismic at no cost to Carnarvon and rationalises Carnarvon’s cash commitments enabling it to seek other attractive opportunities. The Carnarvon team has worked hard during the year to grow the asset base of the Company. Reserves have been increased substantially, oil field production capacity has increased, and new opportunities have been acquired. I thank all our staff for the hard work, loyalty and dedication they have shown during the year and I look forward to another interesting year in building a strong company. 2 200 Annual Report Back to Contents Ted Jacobson Chief Executive Officer OPERATING AND FINANCIAL REvIEW OPERATING REVIEW Summary During the financial year 2009/200 Carnarvon produced nearly 900,000 bbls of oil in its Thailand concessions and acheived a significant 48% increase in reserves. In addition, the Company completed entry into two new countries, consolidated our acreage positions in Thailand and Australia and prepared for an onshore drilling campaign in L20/50. Carnarvon participated in the drilling of 38 individual boreholes (including sidetracks) within the L33/43, L44/43 and SWA group of permits, resulting in 23 completed wells and 6 wells testing at commercial rates. Exploration and appraisal drilling over the year resulted in several new oil pools being discovered within the L44/43 exploration concession, leading to the application and approval of a new 20 year production license over the Bo Rang, L44-W and NSE-F reserve areas. As a result of the increase in audited oil reserves over the previous year in its Thailand concessions, as at 3 December 2009 proven and probable recoverable oil reserves were calculated to be 24.5mmbbls net to Carnarvon. Elsewhere in Thailand, within the L20/50 permit, the acquisition of 550 kilometres of new 2D seismic data was completed. Planning has commenced on a multi-well program drilling campaign, with three prospects highgraded to drillable status. Further in Thailand, the L52/50 and L53/50 concessions were officially awarded and technical work by the operator has commenced. In Australia, Carnarvon concluded negotiations which resulted in the acquisition of a 50% interest in four permits covering the Phoenix gas discovery and surrounding area in the Bedout Sub-Basin offshore approximately 50 kilometres from Dampier in Western Australia. Subsequently, Carnarvon consolidated its position in the basin with the award of a 00% interest in a further permit adjacent to the Phoenix permits. Also in Australia, Carnarvon farmed out a portion of the WA- 399-P permit to Apache Energy in return for the recording and processing of new 3D seismic over the entire permit, and to Jacka Resources for a cash payment. During the financial year 2009/200 Carnarvon also acquired a 25 percent interest in the Rangkas permit, onshore Indonesia. Numerous oil seeps have previously been reported in this permit and its close proximity to Jakarta and associated infrastructure makes this a desirable location. Subsequent to year end, the Company acquired a 0% interest in PEP 38524, a new area offshore New Zealand in return for contributing to the cost of drilling the Tuatara- exploration well. Although this well did not find commercial deposits of hydrocarbons, it did encounter gas and oil shows throughout the well which is encouraging for further exploration in the permit. Permits Permit Thailand SWA Basin Equity Joint Venture Partner(s) Partner Interest Indicative Forward Program Phetchabun L33/43 Phetchabun L44/43 L20/50 L52/50 L53/50 Australia WA-435-P WA-436-P WA-437-P WA-438-P WA-443-P EP32 EP407 Phetchabun Phitsanulok Surat-Khiensa Surat-Khiensa Roebuck Roebuck Roebuck Roebuck Roebuck Perth Perth 40% 40% 40% 50% 50% 50% 50% 50% 50% 50% 00% 2.50% of 38.25% (i) 2.50% of 42.5% (i) WA399P Carnarvon 3% Indonesia Rangkas West Java 25% New Zealand PEP38524 Taranaki 0% Pan Orient Energy * Pan Orient Energy * Pan Orient Energy * Sun Resources Pearl Oil Resources* Pearl Oil Resources* Finder Exploration* Finder Exploration* Finder Exploration* Finder Exploration* Apache * Rialto Energy Jacka Resources Lundin Petroleum * Tap Oil AWE* ROC Oil Kea Oil and Gas 60% 60% 60% 50% 50% 50% 50% 50% 50% 50% 60% 2% 5% 50% 24% 60% 20% 0% Production, Appraisal Development, Appraisal, Exploration Production, Appraisal, Exploration Exploration Exploration Exploration Seismic Acquisition, Exploration Seismic Acquisition, Exploration Seismic Acquisition, Exploration Seismic Acquisition, Exploration Seismic Acquisition, Exploration Appraisal Appraisal Seismic Acquisition, Exploration Seismic Acquisition, Exploration Seismic Acquisition, Exploration Note: (*) Denotes operator where Carnarvon is non-operator partner (i) Carnarvon has an overriding royalty interest in these assets Back to Contents Carnarvon Petroleum Limited 3 OPERATING AND FINANCIAL REvIEW Thailand L44/43, L33/43 &, SW1A Phetchabun Basin (“SW1A”) (Carnarvon Petroleum 40%, Pan Orient 60% operator) Carnarvon participated in the drilling of 38 individual boreholes (including sidetracks) within the L33/43, L44/43 and SWA group of permits throughout the reporting period resulting in 23 completed wells and 6 wells testing at commercial rates. Post year end several new oil discoveries were made, including at WBExt-, WBExt-A and L33- & L33-2. A production license and environmental approval were granted over the Bo Rang “A” and “B” and NSE-F oil reservoirs (“BRN”) allowing field development drilling to commence. There are now a total of six production licenses with a further two to be applied for. The existing licences are Wichin Buri Licence I and II,Na Sanun, Si Thep, Na Sanun East and Bo Rang North. Applications will be submitted for licences to cover the recent discoveries at WBExt-, WBExt- A, L33- and L33-2. Figure 1. Permit map of Thailand. Figure 2. Location of oilfields and prospects within L44/43 & L33/43 Thailand – Phetchabun Basin. * Size and shape of PL application areas for illustrative purposes only 4 200 Annual Report Back to Contents OPERATING AND FINANCIAL REvIEW Daily Production Water Rate Oil Rate 18000. 16000. 14000. 12000. 10000. 8000. 6000. 4000. 2000. 0. 01-Jan-07 01-A pr-07 01-Jul-07 01-O ct-07 01-Jan-08 01-A pr-08 01-Jul-08 01-O ct-08 01-Jan-09 01-A pr-09 01-Jul-09 01-O ct-09 01-Jan-10 01-A pr-10 ) d p b ( e t a R d u F i l and appraisal upside, generating free cash that Carnarvon is able to use for growth in other regions. It is anticipated that drilling will continue within the L33/43, L44/43 and SWA group of fields in the near future to fully realize the value of the certified 2P reserves and unlock some of the value in the 3P reserves, contingent resources and prospective resources. Figure 3. Daily production. Total daily fluid production has remained relatively stable over the past 24 months, however water production has increased while oil production has decreased, as depicted on the graph above. Produced water is re-injected down non-producing wells and is moved between production wells and non-producing water re-injection wells by truck. Higher water handling volumes marginally increase operating costs and volumes are currently at levels considered normal in the oil and gas industry. The majority of the production is from fractured reservoirs. The geological setting of these volcanic oil reservoirs is very complex, featuring rapid changes of lithofacies and thicknesses, distributions of fractures and pores/vugs, and different oil well productivities with neighbouring wells. The heterogenous nature of the fracturing leads to varying performance from individual wells, with initial rates ranging from 00 to 4,000 bopd and ultimate recovery per well estimated to be in the range of 00,000 bbls to .5 million bbls. This results in a varying production profile. Higher field rates are achievable with continued development drilling, although prediction of individual well performance is variable due to reasons outlined above. However, fit for purpose operational procedures have resulted in world class low cost operations, with well costs in the order of US$ to US$.5 million per well and able to be drilled at a rate of 3 per month. Ongoing operational costs, including trucking, are in the order of US$ per bbl, with depreciation and amortization currently estimated at US$7 / bbl. This results in high margin production with exploration Back to Contents Carnarvon Petroleum Limited 5 OPERATING AND FINANCIAL REvIEW Acquisition of 550 km of 2D seismic data by BGP was completed on time and on budget by the end of August 2009. This seismic acquisition exceeds the concession work commitment for L20/50 for the year. Processing of the new 2D seismic data was completed early in the December 2009 quarter. Interpretation of all seismic data, combined with a geological assessment of the exploration concession, was completed in the march 200 quarter. Significant sedimentary section and structuring are evident in the new data, and play types include Sirikit style fans, Wichian Buri style sandstones and Na Sanun style volcanics. Three drillable prospects were identified from a seriatum of over 20 leads, and work has progressed on government, environmental and local permitting work. It is anticipated that a minimum of  well, and a maximum of 3 wells, will be drilled in the permit commencing late 200 or early 20. Figure 4. L20/50 Phitsanulok Basin outline. L52/50 and L53/50 Surat-Khiensa Basin (Carnarvon Petroleum 50%, Pearl Oil 50% operator) L20/50 Phitsanulok Basin (Carnarvon Petroleum 50% Operator, Sun Resources 50%) The exploration concessions L52/50 and L53/50 onshore Thailand were officially awarded to Carnarvon and Pearl in the march 200 quarter. Carnarvon, and partner Sun Resources, were granted the L20/50 exploration concession in January of 2007. The L20/50 concession is situated approximately 30 kms to the southeast and on trend with the largest onshore oil field in Thailand at Sirikit. The permit is around 60 km to the west of Carnarvon’s 40% owned Petchabun Basin producing assets. The concession covers around 4,000 km2 and is lightly explored. Previous drilling demonstrates that oil has been generated within the L20/50 concession. Prior to the recording of new seismic data, the only data available over the concession comprised approximately ,000 km of 980’s vintage 2D seismic data in paper format (now digitised) and six wells, also in paper format (three shallow at around 500m and three deeper). These blocks are situated in the Tertiary Surat-Khiensa Basin in the isthmus of southern Thailand adjacent to the NNE- oriented Ranong and Khlong marui Fault Zones. The basin is of particular interest as it is on trend with the similar sized Chumphon Basin in the Gulf of Thailand to the immediate north. The Chumphon Basin has a proven oil kitchen and 4.3 mm bbls of oil was recovered from the Nang Nuan B well from 994-997 at rates up to 0,000 bopd. Numerous wells in the Chumphon Basin encountered oil shows. Some leads have been identified on the limited 2D seismic available, but significant geologic risks remain on source presence, migration and seal. 6 200 Annual Report Back to Contents OPERATING AND FINANCIAL REvIEW Australia WA-435-P, WA-436-P. WA-437-P & WA-438-P Offshore Northwest Shelf (Carnarvon Petroleum 50%, Finder Exploration 50% operator) Subsequent to being awarded 00% of exploration permit WA-435-P, Carnarvon completed an agreement with private exploration company Finder Exploration (“Finder”) to exchange 50% of Carnarvon’s WA-435-P for 50% of the three new adjacent Finder permits WA-436-P, WA-437-P and WA-438- P. Finder has assumed operatorship of all four permits. The four permits are situated in the north-western part of the Bedout Sub-basin within the greater Roebuck Basin, offshore Western Australia. The blocks lie in an under-explored area that has received little recent attention, between the prolific Carnarvon Basin hydrocarbon province to the southwest and the Browse Basin to the northeast. The town of Port Hedland lies approximately 50 km to the south of the permits and Broome lies 250 km to the northeast. Water depths range from 35 to 265 metres and the permits cover a very large area of more than 2,000 km² (268 graticular blocks). Only six wells have been drilled in the permits to date. The two wells, Phoenix- and Phoenix-2, drilled on the large Phoenix structure in WA-435-P both intersected extensive gas columns within lower-porosity, mid-Triassic reservoirs. Figure 5. Basin location within Blocks L52/50 and L53/50. Three oil and gas exploration wells have been drilled in Block L52/50 in addition to two very shallow coalbed methane wells. One well has been drilled in Block L53/50. One of the wells drilled in Block L52/50 (PK-) is reported to have encountered gas. L52 covers an area of 3,085 km2 and L53 an area of 3,872 km2. Figure 6. North West Shelf permit map. Back to Contents Carnarvon Petroleum Limited 7 OPERATING AND FINANCIAL REvIEW Figure 7. North West Shelf leads and prospects. In particular, Phoenix- recorded 0 metres of net gas- bearing section. However, further work is required to determine whether the gas discovery at Phoenix could flow at commercial rates. A larger, untested structure in WA-435- P lies directly on trend with the Phoenix structure, 5 to5 km to the southwest. Further to the southeast in WA-437-P lies yet another large, untested structure. Regional geology suggests that reservoir quality improves southward toward these prospects, but this model will need to be confirmed by drilling. These Triassic structures have significant potential, of the order of several Tcf’s of recoverable gas, if exploration and appraisal drilling are successful. Other viable plays are recognised in these blocks, including possible oil exploration potential at the shallower Cretaceous- aged levels. Carnarvon and Finder intend to carry out a number of studies to evaluate this potential. The Government-approved work programme for these permits, for the initial firm three-year term, comprises seismic reprocessing, the recording of an aeromagnetic survey, and technical studies, which will include a complete analysis of the gas intersections in the Phoenix- and Phoenix-2 wells. 5,847 km2 of new aeromagnetic data has been acquired and over 400 km of regional 2D and ,00 km3 of detailed 3D is in the acquisition stage. WA-443-P Australia Offshore Northwest Shelf (Carnarvon Petroleum 100% Operator) In April 200 Carnarvon was successful in its bid for 00% of a new permit gazetted by the Australian government, WA-443-P, offshore Western Australia. This new exploration permit is situated adjacent to Carnarvon’s four existing permits WA-435-P, WA-436-P, WA-437-P and WA-438-P, in which it holds a 50% interest, within the Bedout Sub-Basin. The block covers an area of approximate 7,300 km2. No previous drilling has taken place in the WA-443-P block. The structural form and size of the prospect are comparable to the Phoenix group of potentially large gas accumulations. Carnarvon has secured this new permit with a firm programme over three years to reprocess and interpret ,400 km of 2D seismic. Geological and geophysical studies will also be carried out in conjunction with similar work in the Phoenix permits. 8 200 Annual Report Back to Contents OPERATING AND FINANCIAL REvIEW Figure 8. North West Shelf permit map. WA-399-P – Australia Offshore Northwest Shelf (Carnarvon Petroleum 13%, Apache Energy 60% and Operator,Jacka Resources 15% and Rialto Energy 12%) WA-399-P was awarded on 7 may 2007. The exploration permit covers an area of 50km² and is situated offshore Western Australia within the Exmouth Sub-basin. The block is adjacent to the Pyrenees Oil development, a Joint venture between BHP Billiton and Apache, which commenced oil production in march 200. Nearby, there are several producing oil fields including Enfield and vincent/van Gogh, as well as macedon gas field and a number of other oil field discoveries as set out below. During the June 200 quarter, Carnarvon announced the farm out of a proportion of its interest in the permit to Apache Energy Limited (“Apache”) and Jacka Resources Limited (“Jacka”). The farmout to Apache involves Apache undertaking, at its sole cost, a 3D seismic survey, which will fulfil the Years 2 and 3 work program obligations for the permit and in Back to Contents Carnarvon Petroleum Limited 9 OPERATING AND FINANCIAL REvIEW consideration for which Apache will acquire a 60% working interest in the permit and Operatorship. processing of the new 3D seismic data will enable the Joint venture to further de-risk a number of existing prospects that have already been mapped within the permit. Following the farm out to Apache, Rialto and Jacka will complete their previously announced farm out. Carnarvon and Jacka have also exchanged a 7% working interest in consideration for Jacka making a cash payment to Carnarvon. Apache plans to acquire the 3D seismic data over the permit in late 200. The 3D seismic data acquisition will exceed the existing minimum exploration commitment obligation under the exploration permit’s terms. The advanced acquisition and EP 424 / EP 110 - Australia Offshore Northwest Shelf (Carnarvon Petroleum withdrawal) In light of Carnarvon’s current exploration portfolio and commitment levels, it elected to withdraw from exploration permits EP 424 and EP 0. Whilst they provided attractive exploration prospects, the magnitude of any expected reward is no longer considered material to Carnarvon’s operations. Indonesia Rangkas PSC Onshore Java (Carnarvon Petroleum 25%, Lundin Petroleum 51% and Operator, Tap Oil 24%) In September 2009, Carnarvon successfully entered into the Rangkas PSC onshore Indonesia. The proximity to Jakarta ensures that even minor oil and gas accumulations can be commercialized. The exploration block covers an area of almost 4,000 km2 and, while containing direct evidence of live oil from seeps in the block, has limited recent exploration, with the most recent well drilled around 20 years ago. The acquisition of around 500 km of new 2D seismic data is scheduled for late 200, which will better delineate the 2 significant leads identified from the reprocessing of 000 km of existing 2D data. Following on from processing and interpretation of the new data, drilling is anticipated in 20 to 202. Figure 9. West Java permit map. 0 200 Annual Report Back to Contents OPERATING AND FINANCIAL REvIEW New Zealand PEP38524 Offshore Taranaki (Carnarvon Petroleum 10%, AWE 60% and Operator, ROC Oil 20%, Kea Oil and Gas 10%) Post financial year end, Carnarvon successfully farmed into exploration block PEP 38254 offshore New Zealand in the southern Taranaki basin. Subsequently the Tuatara- well was drilled, targeting a significant structure. While the well recorded strong gas and oil shows over an extensive interval, no zones of economic potential were identified. Figure 10. New Zealand permit map. Back to Contents Carnarvon Petroleum Limited  OPERATING AND FINANCIAL REvIEW RESERVE ASSESMENT Petroleum Resource Classification, Categorisation and Definitions Carnarvon calculates reserves and resources according the SPE/WPC/AAPG/SPEE  Petroleum Resource to management System (“SPE-PRmS”) definition of petroleum resources. This definition was first published in 997 by the SPE, and in an effort to standardise reserves reporting, has been further clarified by the SPE-PRmS in 2007. Carnarvon reports reserves in line with ASX listing rules. 1 Society of Petroleum Engineers (“SPE”); World Petroleum Council (“WPC”); American Association of Petroleum Geologist (“AAPG”) & Society of Petroleum Evaluation Engineers (“SPEE”) Proved and Probable (2P) Reserves Thailand Carnarvon’s reserves base has been certified by an independent reserves auditor. Over the last few years Gaffney, Cline and Associates (“GCA”) has performed this service in line with end of calendar year requirements for the Department of mineral Fuels (“DmF”) in Thailand. GCA certified 24.5 million barrels of 2P oil reserves net to Carnarvon as at 3 December 2009. This report is based on information which has been compiled by the Company’s Chief Operating Officer, mr Philip Huizenga, who is a full-time employee of the Company. mr Huizenga is qualified in accordance with ASX Listing Rule 5. and has consented to the form and context in which this statement appears. Figure 11. GCA 31 Dec 2009 Table 1. 31-Dec-09 NSE - Central NSE-F Bo Rang "B" Bo Rang "A" NSE-South Wichian Buri minor volcanics minor Sandstone Total Table 2. Net Carnarvon Reserves Proved 1P (million bbls) 6.4 Proved + Probable 2P (million bbls) Proved + Probable + Possible 3P (million bbls) 24.5 57.0 Net Carnarvon Reserves Proved + Probable 2P (million bbls) 7.2 4.8 4.0 3.4 .5 .4 .5 0.6 24.5 Reservoir Type volcanic volcanic volcanic volcanic volcanic Sandstone volcanic volcanic 2 200 Annual Report Back to Contents OPERATING AND FINANCIAL REvIEW A breakdown of the major reservoirs net to Carnarvon is given in Table 2. These reservoirs are schematically reproduced in Figure . As discussed above, these reserves were certified by an independent auditor in GCA as at 3 December 2009. Since that time, several wells have been drilled into the NSE-F areas resulting in a reduced gross rock volume and hence likely negative impact on 2P and 3P reserves for that reservoir. Similarly recent production performance of the NSE-Central field has been below forecast for 2P reserves, which may result in a negative revision to the 2P estimate as given in Table 2. Contingent Resources Thailand In addition to its certified reserves, Carnarvon has a number of discovered oil and gas resources which currently do not classify as reserves. The most significant of these is the L33- and L33-2 discoveries in the L33/43 concession and the WBExt- and WBExt-A discoveries in the L44/43 concession. These wells were drilled after the completion of the reporting period and as at the date of writing this report detailed assessment of the respective contingent resources has yet to be calculated. Due to this fact, Carnarvon will not list current contingent resources. It is anticipated that the L33-, L33-2, WBExt- and WBExt- A discoveries will be evaluated as reserves or resources by year end 200 and these reserve additions will offset the expected 2P negative revisions at NSE-Central and NSE-F. Prospective Resources Under the SPE-PRmS definitions prospective resources can also be classified as exploration resources. Carnarvon has an increasing number of exploration licences. These exploration licences are evaluated using techniques like gravity and magnetic surveys, geochemical surveys, seismic surveys and basin analysis. This analysis results in a long list of leads and drillable prospects. Only drillable prospects which have been included on drilling schedules are categorised as prospective resources by Carnarvon. Leads are identified as potential hydrocarbon accumulations L44 Shallow volcanics L44 mid volcanics L44 Deep volcanics L20/50 Carnarvon 30 Jun 2010 Table 3. Back to Contents Figure 12. Map showing location of contingent resources. that will require additional study before they are matured to prospects and appear in drilling plans. It is important to realise that prospects and leads carry exploration risks, which result in a chance of not finding commercial hydrocarbons. These risks are identified by Carnarvon and help management in ranking exploration priorities. At the time of writing this report Carnarvon has a seriatim of leads in a number of exploration blocks, most notably in the L20/50, L33/43 and L44/43 concessions in Thailand. Those leads which have been upgraded to prospects and tentatively placed within a drilling program, and for which prospective (unrisked) volumes have been calculated, have been used to generate the table below. While Carnarvon continues to carry other leads with significant potential recoverable hydrocarbon volumes within the other exploration blocks in Thailand, Australia, Indonesia and New Zealand, none of those have immediate drilling programs. Carnarvon continues the process of undertaking additional work to progress those leads to drillable prospects. Net Carnarvon Prospective Resources Best Estimate Recoverable (million bbls) 4 3 3 40 79 Carnarvon Petroleum Limited 3 OPERATING AND FINANCIAL REvIEW GROWTH AND NEW VENTURES SUSTAINABILITY Carnarvon has continued to achieve significant growth from its successful exploration and development efforts in the L44/43, L33/43 and SWA concessions. These areas continue to be a primary focus for the Company and they are now delivering significant sustained oil production and revenues. Cash flow from these producing fields facilitates Carnarvon’s pursuit of other new venture opportunities to grow the Company. Through the year Carnarvon has added two new country entries via the Rangkas PSC onshore Indonesia and the PEP 38524 permit offshore New Zealand. Carnarvon also completed the previously announced application of exploration concessions L52/50 and L53/50 in southern Thailand. Finally, Carnarvon consolidated its position in the North West Shelf with the addition of the 00% held exploration permit WA-443-P. Carnarvon continues to explore avenues of growth via organic growth, new venture asset acquisitions and corporate transactions. Carnarvon is very aware of the effects of the oil and gas industry on the environment and its communities. Carnarvon takes all reasonable to steps mitigate any potential risk, as well as providing several benefits to the local communities that it operates in. Carnarvon has recently developed an Integrated Safety management System (ImS) that is designed to protect the environment, its communities and all staff and contractors that are directly or indirectly employed by Carnarvon. This safety management system has the full support and backing from all levels of management. All relevant projects are run and operated by Carnarvon adhere to this safety system. During the current financial year Carnarvon reported zero LTI’s (Lost Time Incidents). Activities included the additional activity of shooting a 500km seismic survey onshore Thailand, with an additional staff of 387. Environment Carnarvon has recently completed an Environmental Impact Assessment for an onshore drilling campaign in Thailand, this assessment covered all aspects of the environment, waste management through to local community involvement and opinion. On completion of the seismic survey a mitigation and monitoring report was submitted to the Thai authorities reportting zero incidents. 4 200 Annual Report Back to Contents OPERATING AND FINANCIAL REvIEW Community Carnarvon endeavors to ensure that everywhere we operate we are able to benefit the local community. Some examples of this are our insistence on hiring local labour and awarding contracts to local companies, where practical, to aid the local economy. We have recently set up several different schemes at local schools in Thailand. One such scheme “grow your own lunch” saw Carnarvon providing schools with the materials and skills to be able to grow their own produce of mushrooms, fish and bananas. This project gave the students the benefit of understanding the growing cycle from planting to harvesting and then being able to sell any remaining produce encouraging self sufficiency. During any operational procedure we present the project to members of the local community and actively encourage questions and comments and ensure them that during the project we will action any of their concerns. Carnarvon is also a sponsor of the Curtin University Petroleum Engineering department. Health and Wellbeing We value our staff as one of our greatest assets and have recently put into place an annual medical assessment. The nature of Carnarvon’s operations often requires staff to travel overseas and all staff are required to have a pre-travel medical for the specific region. Safety All staff have recently undergone a CPR (DRABCD) course covered by the Australian Surf Lifesaving Academy. Further to this Carnarvon has had zero lost time incidents reported in the current financial year. Economic Carnarvon increased its 2P reserves over the year to 3 December 2009 by 48% to 24.5 million barrels. Ongoing production of the L44/43 Concession in Thailand ensures the Company has a sustainable economic outlook. Carnarvon endeavors to ensure that everywhere we operate we are able to benefit the local community Back to Contents Carnarvon Petroleum Limited 5 OPERATING AND FINANCIAL REvIEW FINANCIAL REVIEW Three consecutive profitable years The Group has been profitable for three consecutive financial years. Profit after tax for the year ended 30 June 200 was $4,423,000. As development continues in the L44/43 Concession in Thailand, the Group is expected to remain profitable in the foreseeable future, with retained profits being made available for the exploration of new assets. Production (bbls) Sales ($’000) Cost of sales 2010 2009 Change 868,450 ,353,42 65,230 2,473 00,758 27,847 36% 35% 23% A decline in production is the main driver of the decrease in sales in the 30 June 200 financial year. A portion of cost of sales is fixed and as a result, cost of sales did not decrease in line with sales. No debt Strong operating cash flows have meant exploration and development activities have continued while the Group remains in a strong cash position with no debt. Significant expenditure on development and exploration The increase in the value of Carnarvon’s oil & gas assets to $70,76,000 is a direct result of the development of the L44/43 Concession in Thailand. Development has continued on the L44/43 Concession and will commence on the L33/43 Concession in the 30 June 20 financial year in order to access oil reserves in each Concession. With the increase in development costs carried forward, there has been an increase in deferred tax liabilities recognised. These liabilities are due to temporary differences between income tax deductions and amortization with respect to the Company’s oil and gas assets in Thailand. The deferred tax component of the income tax expense does not incur any cash obligation to the Thai tax authorities. New venture costs of $,24,000 and exploration & evaluation expenditure of $5,56,000 demonstrates Carnarvon’s continued efforts to add producing assets to its portfolio. Further detail on Carnarvon’s new ventures and exploration can be found in the operating review on page 3. 6 200 Annual Report Back to Contents DIRECTORS’ REPORT The directors present their report together with the financial report of the Group, being the Company, its controlled entities, and the Group’s interest in jointly controlled assets, for the financial year ended 30 June 2010, and the auditor’s report thereon. Carnarvon Petroleum Limited is a listed public company incorporated and domiciled in Australia Directors The names and details of the Company’s directors in office at any time during or since the end of the financial year are as follows. Directors were in office for this entire period unless otherwise stated. Peter J Leonhardt Chairman FCA, FAICD (Life) Appointed as a director on 17 March 2005 and appointed Chairman in April 2005. Mr Leonhardt is an independent company director and adviser with extensive business, financial and corporate experience. He is a Chartered Accountant and a former Senior Partner with PricewaterhouseCoopers and Managing Partner of Coopers & Lybrand in Western Australia. During the past three years Mr Leonhardt has served as a director of the following listed companies: CTI Logistics Limited (from August 1999); Centrepoint Alliance Limited (from May 2002 to June 2009). He is also a director of the Western Australian Institute for Medical Research. Mr Leonhardt is a member of the Audit Committee and the Remuneration Committee. Edward (Ted) P Jacobson Chief Executive Officer B.Sc (Hons Geology) Appointed as a director on 5 December 2005. Mr Jacobson is a petroleum geophysicist with 38 years’ experience in petroleum exploration principally in the European North Sea, South East Asia, South America and Australia. Within Australia he has been responsible for initiating a number of petroleum discoveries within the Cooper Basin, Barrow Sub Basin and Timor Sea. In 1986, Ted established the consulting company Exploration Study Projects Pty Ltd which advised companies on new venture opportunities in Australia and South East Asia and assisted in capital raisings and corporate activity. In 1991 Ted was co-founder of Discovery Petroleum NL and from 1996 co-founder and technical director of Tap Oil Ltd which grew to a market capitalisation of over $400 million under his technical leadership. Ted retired from Tap in September 2005. During the past three years Mr Jacobson has served as director of the following listed companies: Rialto Energy Limited (from July 2006 to November 2009). Mr Jacobson was also a director of Smart Rich Energy Finance (Holdings) Ltd (from January 2007 to November 2007), listed on the Hong Kong Stock Exchange. Back to Contents Carnarvon Petroleum Limited 17 DIRECTORS’ REPORT Directors (continued) Neil C Fearis Non-Executive Director LL.B (Hons), MAICD, F Fin Appointed as a director on 30 November 1999. Mr Fearis has over 32 years’ experience as a commercial lawyer in the UK and Australia. During the past three years Mr Fearis has served as a director of the following listed companies: Kresta Holdings Limited (from 1997 to December 2009); Perseus Mining Limited (from 2004); Liberty Resources Limited (from June 2007 to November 2008); Magma Metals Limited (from October 2009). Mr Fearis is also a member of several professional bodies associated with commerce and law. Mr Fearis is Chairman of the Audit Committee and Chairman of the Remuneration Committee. Kenneth P Judge Non-Executive Director B.Com, B. Juris, LL.B Appointed as a director on 1 April 2005 (Retired 15 July 2010) Mr Judge has extensive legal and business management experience having held a number of public company directorships and has been engaged in the establishment or corporate restructure of technology, mining, and oil and gas companies in Australia, United Kingdom, USA, Brazil, Argentina, Mexico and the Philippines. Mr. Judge is a director and Chairman of Brazilian Diamonds Limited (from February 2001), which is listed on both the Toronto Stock Exchange and the AIM market of the London Stock Exchange Plc. He is also Chairman of Hidefield Gold Plc (from October 2003) and a director of Gulfsands Petroleum Plc (from October 2006), both of which are listed on AIM. He is also a director and Chairman of Alto Ventures Ltd (from April 2004) which is listed on the TSX Venture Exchange. Mr Judge was a member of the Audit Committee and the Remuneration Committee. Mr Judge retired from the Board of Directors, Audit Committee and Remuneration Committee on 15 July 2010. William (Bill) A Foster Non Executive Director BE (Chemical) Appointed as a director on 17 August 2010. Bill is an engineer with extensive technical, commercial and managerial experience in the energy industry over a 40 year period. He has been an advisor to a major Japanese trading company for the last 20 years in the development of their global E&P and LNG activities and has spent time prior to this working internationally in the development of a number of energy companies. Bill was a former independent director of Tap Oil Ltd and of the E&P companies that were formed through his advisory services to the Japanese trading company. Mr Foster is a member of the Audit Committee and the Remuneration Committee. 18 2010 Annual Report Back to Contents DIRECTORS’ REPORT Company Secretary Mr Robert Anderson was appointed Company Secretary in November 2005. Mr Anderson is a Chartered Accountant who has previously held company secretarial positions in both ASX-listed companies and private entities. Directors’ meetings The number of directors’ meetings held and attended by each of the directors during the reporting period was as follows: Peter Leonhardt Ted Jacobson Neil Fearis Ken Judge (a) (b) 7 7 7 7 7 7 7 7 (a) Number of meetings held during period of office (b) Number of meetings attended Audit Committee Names and qualifications of Audit Committee members The Committee is to include at least 3 members from 1 July 2009. Current members of the committee are Neil Fearis (Chairman of the Audit Committee), Peter Leonhardt, and Bill Foster. Mr Judge retired as a member on 15 July 2010 and Mr Foster was appointed on 17 August 2010.Qualifications of Audit Committee members are provided in the Directors section of this directors’ report. Audit Committee meetings The number of Audit Committee meetings held and attended by the members during the reporting period was as follows: Peter Leonhardt Neil Fearis Ken Judge (a) 2 2 2 (b) 2 2 2 (a) Number of meetings held during period of office (b) Number of meetings attended Back to Contents Carnarvon Petroleum Limited 19 DIRECTORS’ REPORT Remuneration Report (Audited) Remuneration Committee The Remuneration Committee currently comprises Neil Fearis (Chairman), Peter Leonhardt, and Bill Foster. Mr Judge retired as a member on 15 July 2010 and Mr Foster was appointed on 17 August 2010. Qualifications of Remuneration Committee members are provided in the Directors section of this directors’ report. Remuneration Committee meetings The number of Remuneration Committee meetings and the number attended by each of the members during the reporting period were as follows: Neil Fearis (Chairman) Peter Leonhardt Ken Judge (a) 2 2 2 (b) 2 2 2 (a) Number of meetings held during period of office (b) Number of meetings attended The Remuneration Committee is responsible for the compensation arrangements for directors and executives of the Company. The Remuneration Committee considers compensation packages and policies applicable to the executive directors, senior executives and non-executive directors fees. In certain circumstances these include incentive arrangements including employee share plans, incentive performance packages, and retirement and termination entitlements. Principles of compensation Total non-executive directors’ fees are approved by shareholders and the Remuneration Committee is responsible for the allocation of those fees amongst the individual members of the Board. The Remuneration Committee assesses the appropriateness of the nature and amount of compensation on an annual basis by reference to industry and market conditions, and with regard to individual performance and the Company’s financial and operational results. Such assessments are also made after referring to the recommendations of specialist consultancy firms, industry groups, government and shareholder bodies. The Board obtains, when required, independent advice on the appropriateness of remuneration packages, given trends in comparative companies both locally and internationally. The Remuneration Committee ultimately determines its compensation practices in terms of their effectiveness to attract, retain and incentivize appropriately qualified and experienced directors and senior executives. Remuneration arrangements are made having regard to the number and composition of staff in the business and the stage of development of the Company. Remuneration arrangements include a mix of fixed and performance based remuneration. Performance based remuneration comprises short term and long term incentive schemes. Short term incentive arrangements are designed to incentivise superior individual achievement over a period of around twelve months and typically comprise cash payments. Long term incentive arrangements are share-based and designed to be simple, clear and strongly aligned between shareholder and executive interests over the medium to longer term. Remuneration structures take into account the overall level of compensation for each director and executive, the capability and experience of the directors and senior executives, the executive’s ability to control the financial performance of the relative business segment, the Group’s performance (including earnings and share price), and the amount of any incentives within each executive’s remuneration. 20 2010 Annual Report Back to Contents DIRECTORS’ REPORT Remuneration Report (Audited) (continued) Principles of compensation (continued) On 1 August 2008 the Board adopted a policy that prohibits those that are issued share-based payments as part of their remuneration from entering into other arrangements that limit their exposure to losses that would result from share price decreases. The Company requires all executives and directors to sign annual statements of compliance with this policy throughout the preceding year. In considering the Group’s performance and impact on shareholder wealth, the Board has had regard to the following in respect of the current financial year and the previous four years. No dividends have been paid or declared during this period. 30 June 2006 30 June 2007 30 June 2008 30 June 2009 30 June 2010 Share price as at 30 June each year Year on year change in the share price $0.052 174% $0.24 362% $0.53 121% $0.815 $0.345 54% (58%) Consolidated net profit / (loss) from continuing operations ($000) Cumulative net profit / (loss) from continuing operations ($000) ($1,246) ($1,542) $15,651 $28,736 $14,423 ($1,246) ($2,788) $12,863 $41,599 $56,022 Non-executive directors Total remuneration for all non-executive directors, last voted upon by shareholders at a General Meeting in November 2008, is not to exceed $300,000 per annum. With effect from 1 January 2010 a non-executive director’s base fee is $62,000 per annum and the Chairman receives $105,000 per annum. These fees were reviewed on 18 June 2010 and were increased with effect from 1 January 2010 by a nominal $1,500 per annum per director, broadly in line with inflation in the 2009 calendar year. Non-executive directors do not receive any performance-related remuneration. Directors’ fees cover all main Board activities and membership of Board committees. The Company does not have any terms or schemes relating to incentives or retirement benefits for non-executive directors. Fixed compensation Fixed compensation consists of base compensation as well as employer contributions to superannuation funds. Short term incentive scheme Short term incentives are assessed by the Remuneration Committee at 31 December each year based on the individual performances of each employee. The Remuneration Committee has regard to the business’s plans and targets set at the commencement of each calendar year and each individual’s performance relative to those plans and targets. Short term incentive payments are granted at the discretion of the Remuneration Committee and are not contractual obligations. Accordingly, the Remuneration Committee is not obliged to make incentive payments regardless of changed circumstances. Non-executive directors are not entitled to participate in the short term incentive scheme. All short term incentives awarded during the period are included in remuneration, as set out on page 14, and fully vested to each of the directors, named Company executives, and key management personnel during the period. Back to Contents Carnarvon Petroleum Limited 21 DIRECTORS’ REPORT Remuneration Report (Audited) (continued) Long term incentive scheme - Employee Share Plan The Carnarvon Employee Share Plan (“ESP”) was implemented following shareholder approval at the 1997 Annual General Meeting (“AGM”) and was last ratified by shareholders at the AGM on 27 November 2009. The purpose of the ESP is to attract, retain and motivate those who have been invited by the Board to participate in the ESP and align their interests with all other shareholders by encouraging performance that increases shareholder wealth through long term growth. The principal provisions of the Plan include: • • • • • • • the Plan is available to all directors, employees or consultants of the Company or any of its subsidiaries ("Eligible Person"); the Company may at any time, in its absolute discretion, make an offer to an Eligible Person; the number of Plan Shares issued to any Eligible Person and the issue price is to be determined by the directors of the Company; the issue price is to be no less than the weighted average market price of the Company's shares on the 5 trading days prior to the proposed date of issue; the offer may be accepted by an Eligible Person or an associate of that Eligible Person, within the given acceptance period; the person accepting the offer ("Participant") will be taken to have agreed to borrow from the Company on the terms of the loan agreement referred to below an amount to fund the purchase of the Plan Shares; the Plan Shares will rank pari passu with all issued fully paid ordinary shares in respect of voting rights, dividends and entitlement to participate in any bonus or rights issues; • • Eligible Persons may not dispose of a third of their Plan Shares before the second year following their issue and may not dispose of a third of their Plan Shares before the third year following their issue. These restrictions do not apply in the event of redundancy or change of control. until the loan to the Participant is fully repaid, the Company has control over the disposal of the Plan Shares. Once the loan is repaid in full, the Participant may deal with the Plan Shares as he wishes; the aggregate number of Plan Shares and other shares and options issued in the previous 5 years under any other employee incentive scheme of the Company must not exceed 5% of the issued capital of the Company; and applications will be made as soon as practicable after the allotment of the Plan Shares for listing for quotation on ASX. • • The principal provisions of the loan agreement include: • • the amount lent will be an advance equal to the issue price of the Plan Shares multiplied by the number of Plan Shares issued; the loan can be repaid at any time but the Participant must pay any amount outstanding to the Company within 30 days of termination of the Eligible Person’s employment. All dividends declared and paid on the Plan Shares will be applied towards the repayment of the advance and there is no interest on the advance; the maximum liability in respect of the loan will be the value of the Plan Shares from time to time; and • • a holding lock will be placed on the Plan Shares until the loan is fully repaid. • loans made under the ESP involve no cash outlay by the Company. A complete copy of the rules of the ESP (which incorporates the terms of the loan agreement) is available for inspection by shareholders (free of charge) at the Company’s Registered Office or, upon request, from the Company Secretary. Plan Shares are approved by the Remuneration Committee based upon the assessed performance of each person against his job specifications and the recommendations of the Chief Executive Officer, and in the case of directors, with the approval of shareholders. In the last 4 years the Company has issued 11.47 million Plan Shares to employees, being 1.67% of the issued capital of the Company (compared to the Share Plan limit of 5%). In 2007 the Company also issued 12.0 million Plan Shares (being 1.75% of the issued capital of the Company) to directors of the Company. As noted in the Company’s 2007 Annual 22 2010 Annual Report Back to Contents DIRECTORS’ REPORT Report, the issue to the directors in 2007 was in recognition of the active day-to-day role of the Chairman over above the normal role of a non-executive Chairman and in recognition of the Chief Executive Officer’s level of cash remuneration, which was significantly below market levels. There have been no ESP shares issued to directors during the last three years. The Remuneration Committee, having regard to recent changes in the taxation of certain long term incentive schemes and current trends in structuring long term incentive plans, is of the view that the Company’s ESP is effectively structured to meet its objectives in attracting, retaining and motivating appropriately qualified and experienced directors and senior executives. During the current financial year the following Plan Shares were issued to Executive Officers of the Company: Executive Officers AC Cook PP Huizenga Number of shares issued 1,425,000 200,000 Issue date 09/11/2009 23/12/2009 Issue price per share $0.526 $0.522 Loan $750,000 $104,400 These share issues were made having regard to market advice on the relevant base packages of the recipients. The loan to Mr Cook was made upon his commencement with the Company in November 2009 and the associated shares are subject to the Share Plan restrictions outlined above. The issue price for each issue was calculated based on the 5 day weighted average closing price prior to the date of offer. The purchases were funded by interest-free loans with a limited recourse security over the Plan Shares and subject to the detailed rules of the ESP. The shares remain subject to the disposal restrictions contained in the Plan Rules summarized above. Directors’ and executive officers’ remuneration (Company and consolidated) Details of the nature and amount of each major element of the remuneration of each director of the Company and each of the named Company and Group executives receiving the highest remuneration are set out on the following page. In order to determine the cost of Plan Shares issued in a period, the Company uses the Black-Scholes Option Pricing Model, calculated at the date of issue of the Plan Shares, assuming a 3 year life and nil cash consideration. Plan shares are treated as having vested immediately and the cost calculated under the Black-Scholes Option Pricing Model is recognised as an expense entirely in the current period, notwithstanding restrictions on their disposal and the period over which the benefits arise. The following factors and assumptions were used in determining the fair value of Plan Shares at grant date in the current reporting period: 2010 Grant date Assumed expiry date Fair value per option Exercise price Price of shares at grant date Expected volatility Risk free interest rate Dividend yield 09/11/2009 08/11/2012 23/12/2009 22/12/2012 $0.24 $0.24 $0.526 $0.522 $0.526 $0.522 62.5% 62.5% 3.25% 3.25% 0% 0% Service contracts The contract duration, period of notice and termination conditions for key management personnel are as follows: (i) (ii) (iii) Ted Jacobson, Chief Executive Officer, is engaged through a rolling 12 month Employment Agreement. Termination by the Company is with 3 months’ notice (or payment in lieu thereof) and payment of 9 months’ remuneration. Termination by Mr Jacobson is with 3 months’ notice. Philip Huizenga, General Manager (Operations), is engaged as an employee. Termination by the Company is with 3 months’ notice (or payment in lieu thereof) and payment of 6 months’ remuneration. Termination by Mr Huizenga is with 3 months’ notice. Adrian Cook, General Manager (Corporate), is engaged as an employee. Termination by the Company is with 3 months’ notice (or payment in lieu thereof) and payment of 6 months’ remuneration. Termination by Mr Cook is with 3 months’ notice. Back to Contents Carnarvon Petroleum Limited 23 DIRECTORS’ REPORT Remuneration Report (Audited) (continued) Equity instruments (i) Shares There were no shares in the Company issued as compensation to key management personnel during the reporting period, other than the ESP shares treated in principle as an option over the Company’s shares as described under (ii) below. (ii) Options There were no options over shares or ESP shares in the Company issued as compensation to key management personnel during the reporting period. No options have been issued since the end of the financial year. There were no shares issued in 2010 on the exercise of options. The following shares were issued in 2009 on the exercise of options issued as compensation in prior periods. These options were issued to Directors in 2006 at a time the Company had no full-time employees, very limited cash resources, and recognised the unusual contribution of the Directors. 2009 Directors EP Jacobson PJ Leonhardt NC Fearis KP Judge Number of shares Amount paid per share 4,000,000 3,000,000 2,000,000 1,000,000 $0.10 $0.10 $0.10 $0.10 There are no amounts unpaid on shares issued as a result of the exercise of options. During the reporting period there was no forfeiture, lapsing or vesting of options issued in previous periods. At the end of the reporting period, other than Plan Shares (treated in principle as options), there were no unvested options on issue. 24 2010 Annual Report Back to Contents DIRECTORS’ REPORT 2 0 0 9 2 0 1 0 D i r e c t o r s ’ f e e s i a r e p a d o r p a y a b e l t o t h e d i r e c t o r o r a d i r e c t o r - r e a t e d e n t i t y . l , $ 1 0 6 9 , 8 0 3 $ 8 7 , 4 1 0 , $ 1 4 2 7 , 3 3 4 $ 1 7 1 , 0 5 1 $ 6 8 , 9 9 7 $ 8 7 , 6 3 3 $ 3 8 7 , 1 7 1 $ 2 , 0 7 3 , 1 8 9 - $ 1 , 2 2 6 , 2 1 0 ( C o m p a n y a n d c o n s o l i d a t e d ) T o t a l c o m p e n s a t i o n : k e y m a n a g e m e n t p e r s o n n e l 2 0 1 0 ( f r o m 2 N o v e m b e r 2 0 0 9 ) $ 2 2 3 , 0 6 5 - $ 2 0 , 0 7 6 $ 3 3 8 , 7 4 7 $ 5 8 1 , 8 8 8 - . 5 8 2 % M r A C C o o k ( G e n e r a l M a n a g e r – C o r p o r a t e ) 2 0 0 9 2 0 1 0 $ 2 7 6 , 1 2 0 $ 3 2 5 , 9 8 8 $ 2 9 , 9 1 0 $ 6 5 , 8 0 1 $ 3 7 , 9 3 1 $ 2 9 , 3 3 8 $ 4 8 , 4 2 4 - $ 3 4 3 , 9 6 1 $ 4 6 9 , 5 5 1 2 0 0 9 2 0 1 0 ( C F O U n t i l 3 1 M a y 2 0 1 0 ) M r R A A n d e r s o n ( / C F O C o m p a n y S e c r e t a r y ) M r P P H u z e n g a i ( G e n e r a l M a n a g e r – O p e r a t i o n s ) $ 2 3 6 , 2 5 0 $ 2 2 6 , 8 7 5 $ 2 2 , 5 0 0 $ 2 4 , 7 5 0 - - 2 0 0 9 2 0 1 0 E x e c u t i v e s M r E P J a c o b s o n ( 2 0 0 9 2 0 1 0 2 0 0 9 2 0 1 0 E x e c u t i v e M r K P J u d g e 2 0 0 9 2 0 1 0 M r N C F e a r i s C h e i f E x e c u t i v e O f fi c e r ) $ 3 4 5 , 1 8 3 $ 4 2 4 , 6 5 6 $ 3 5 , 0 0 0 $ 8 0 , 5 0 0 $ 3 1 , 0 6 6 $ 3 8 , 2 1 9 $ 5 7 , 7 5 0 $ 6 1 , 2 5 0 $ 5 7 , 7 5 0 $ 6 1 , 2 5 0 $ 1 0 4 , 2 5 0 $ 9 6 , 7 5 0 - - - - - - - - - - - - - - - - - - - - - - $ 2 5 8 , 7 5 0 $ 2 5 1 , 6 2 5 $ 4 1 1 , 2 4 9 $ 5 4 3 , 3 7 5 $ 5 7 , 7 5 0 $ 6 1 , 2 5 0 $ 5 7 , 7 5 0 $ 6 1 , 2 5 0 $ 1 0 4 , 2 5 0 $ 9 6 , 7 5 0 1 4 . 0 % 8 . 7 % 8 . 7 % 9 . 8 % 1 4 . 8 % 8 . 5 % - - - - - - . 1 0 3 % - - - - - - - - - - - R e m u n e r a t i o n R e p o r t ( A u d i t e d ) ( c o n t i n u e d ) D i r e c t o r s ’ a n d e x e c u t i v e o f fi c e r s ’ r e m u n e r a t i o n , C o m p a n y a n d c o n s o l i d a t e d ( c o n t i n u e d ) N a m e D i r e c t o r s N o n - E x e c u t i v e M r P J L e o n h a r d t ( C h a i r m a n ) l S a a r y a n d S h o r t t e r m S u p e r a n n u a t i o n S h o r t T e r m P o s t E m p o y m e n t l p a y m e n t s S h a r e - b a s e d r e m u n e r a t i o n P r o p o r t i o n o f l V a u e o f s h a r e s ( $ ) f e e s ( $ ) ( $ ) c a s h b o n u s c o n t r i b u t i o n s ( $ ) S h a r e s ( $ ) T o t a l p e r f o r m a n c e r e a t e d l a s a % o f % r e m u n e r a t i o n Back to Contents Carnarvon Petroleum Limited 25 DIRECTORS’ REPORT Non-audit services The auditors have not performed any non-audit services over and above their statutory duties during the current reporting period. Details of the amounts paid or payable to the auditor of the Group for audit services provided during the year are set out below: Audit Services Consolidated 2010 ($) Auditors of the Company: Audit and review of financial reports 122,000 Directors’ interests At the date of this report, the relevant interests of the directors in securities of the Company are as follows: Name Ordinary Shares Options over ordinary Shares PJ Leonhardt EP Jacobson NC Fearis WA Foster 17,000,000 31,037,335 8,400,000 - - - - - Shares issued under the Company’s ESP are included under the heading Ordinary Shares. Share options Options issued to directors and executives of the Company There were no options over shares issued as compensation to directors or named executives during or since the end of the financial year. Likely developments The likely developments for the 2011 financial year are contained in the operating and financial review as set out on pages 3 to 15.The directors are of the opinion that further information as to the likely developments in the operations of the Group would prejudice the interests of the Company and the Group and it has accordingly not been included. Environmental regulation and performance The Group’s oil and gas exploration and development activities are concentrated in Thailand and Western Australia. Environmental obligations are regulated under both State and Federal Law in Western Australia and under the Department of Mineral Fuels regulations in Thailand. No significant environmental breaches have been notified by any government agency during the year ended 30 June 2010. Dividends No dividends were paid during the year and the directors do not recommend payment of a dividend in respect of the current financial year. Auditor’s independence declaration The auditor’s Independence Declaration under Section 307C of the Corporations Act is set out on page 28 and forms part of the directors’ report for the financial year ended 30 June 2010. Principal activities During the course of the 2010 financial year the Group’s principal activities continued to be directed towards oil and gas exploration, development and production. Identification of independent directors The independent directors are identified in the Corporate Governance Statement section of this Annual Report as set out on pages 74 to 76. 26 2010 Annual Report Back to Contents DIRECTORS’ REPORT Significant changes in state of affairs In the opinion of the directors no significant changes in the state of affairs of the Group occurred during the current financial year other than as outlined in the operating and financial review as set out on pages 3 to 15. Indemnification and insurance of directors and officers During the period the Company paid a premium to insure the directors and officers of the Company and its controlled entities. The policy prohibits the disclosure of the nature of the liabilities covered and the amount of the premium paid. Proceedings on behalf of the Company No person has applied for leave of Court to bring proceedings on behalf of the Company or intervene in any proceedings to which the Company is a party for the purpose of taking responsibility on behalf of the Company for all or any part of the proceedings. The Company was not a party to any such proceedings during the year. Operating and financial review An operating and financial review of the Group for the financial year ended 30 June 2010 is set out on pages 3 to 15 and forms part of this report. Indemnity of directors and company secretary Deeds of Access and Indemnity have been executed by the Company with each of the directors and Company Secretary. The deeds require the Company to indemnify each director and Company Secretary against any legal proceedings, to the extent permitted by law, made against, suffered, paid or incurred by the directors or Company Secretary pursuant to, or arising from or in any way connected with the director or Company Secretary being an officer of the Company. Events subsequent to reporting date On July 5 2010 Carnarvon (NZ) Pty Limited, a wholly owned subsidiary of Carnarvon Petroleum Ltd, farmed into PEP38524, offshore Taranaki Basin in New Zealand. Carnarvon contributed towards the cost of the Tuatara-1 exploration well to earn a 10% participating equity interest from AWE New Zealand Pty Ltd. On 14 July 2010 the Company farmed out a proportion of its interest in the WA-399-P exploration permit to Apache Energy Limited and Jacka Resources Limited. In consideration Apache will undertake at its sole cost, a 3D seismic survey, which will fulfil the Year 2 and 3 work program obligations. In consideration for the farmout to Jacka, Jacka paid Carnarvon $350,000. Following completion of the respective farm in obligations, the Company will have a 13% interest in the permit. No other matters or circumstance has arisen since 30 June 2010 that in the opinion of the directors has significantly affected, or may significantly affect in future financial years: (i) (ii) (iii) The Group’s operations; or The results of those operations; or The Group’s state of affairs Rounding off The Company is an entity to which ASIC Class Order 98/100 dated 10 July 1998 applies. In accordance with that Class Order amounts in the financial report and directors’ report have been rounded off to the nearest thousand dollars, unless otherwise stated. Signed in accordance with a resolution of the directors. PJ Leonhardt Director Perth, 26 August 2010 Back to Contents Carnarvon Petroleum Limited 27 INDEPENDENCE DECLARATION 28 2010 Annual Report Back to Contents CONSOLIDATED INCOME STATEMENT For the year ended 30 June 2010 Notes 4 5 Oil Sales Other income Cost of sales Administrative expenses Directors’ fees Employee benefits expense Travel related costs Unrealised foreign exchange (loss) / gain New venture costs Exploration expenditure written off 14 Share-based payments Finance costs Profit before income tax Taxes Current income tax expense Deferred income tax expense Special remuneratory benefit Total taxes Profit for the year Profit attributable to members of the Company Basic earnings per share from continuing operations (cents per share) Diluted earnings per share from continuing operations (cents per share) 9 8 8 Consolidated 2010 $000 2009 $000 (Restated) 65,230 100,758 82 896 (21,473) (27,847) (1,396) (227) (1,497) (392) (525) (1,124) (384) (753) (1) (1,445) (212) (829) (424) 2,305 (963) - (122) (1) 37,540 72,116 10,616 8,790 19,406 3,711 23,117 14,423 14,423 2.1 2.1 16,357 13,462 29,819 13,561 43,380 28,736 28,736 4.3 4.3 The above consolidated income statements should be read in conjunction with the accompanying notes to the financial statements. Back to Contents Carnarvon Petroleum Limited 29 CONSOLIDATED STATEMENT OF COMPREHENSIVE INCOME For the year ended 30 June 2010 Profit for the year Other Comprehensive income Exchange differences arising in translation of foreign operations Exchange differences on change in functional currency Total Comprehensive income for the year Total Comprehensive income attributable to members of the company Consolidated 2010 $000 2009 $000 (Restated) 14,423 28,736 (1,482) 2,839 - 1,252 12,941 32,827 12,941 32,827 The above consolidated statement of comprehensive income should be read in conjunction with the accompanying notes to the financial statements. 30 2010 Annual Report Back to Contents CONSOLIDATED STATEMENT OF FINANCIAL POSITION As at 30 June 2010 Current assets Cash and cash equivalents Trade and other receivables Inventories Other assets Notes 21(b) 10 12 13 2010 $000 30,255 7,780 4,090 440 Consolidated 2009 $000 (Restated) 31,099 11,904 3,865 677 2008 $000 28,281 12,443 1,586 299 Total current assets 42,565 47,545 42,609 Non-current assets Property, plant and equipment Exploration and evaluation Oil and gas assets Total non-current assets Total assets Current liabilities Trade and other payables Employee benefits Current tax Provisions Total current liabilities Non-current liabilities Deferred tax 11 14 15 17 24 18 19 635 6,351 70,176 353 1,219 49,701 172 379 22,078 77,162 51,273 22,629 119,727 98,818 65,238 5,621 91 6,165 2,172 6,901 49 5,656 3,122 3,368 13 9,304 14,848 14,049 15,728 27,533 23,306 14,516 3,215 Total non-current liabilities 23,306 14,516 3,215 Total liabilities Net assets Equity Issued capital Reserves Retained earnings Total equity 37,355 30,244 30,748 82,372 68,574 34,490 68,240 (2,990) 17,122 68,090 (2,215) 2,699 66,738 (6,211) (26,037) 82,372 68,574 34,490 The above consolidated statement of financial position should be read in conjunction with the accompanying notes to the financial statements. Back to Contents Carnarvon Petroleum Limited 31 CONSOLIDATED STATEMENT OF CHANGES IN EQUITY For the year ended 30 June 2010 Issued capital $000 Retained earnings $000 (Restated) Translation reserve $000 Share-based payments reserve $000 Total $000 Balance at 1 July 2008 66,738 (26,037) (7,437) 1,226 34,490 Shares issued net of transaction costs Share based payments Total comprehensive income 996 356 - - - - - 28,736 4,091 - (95) - 996 261 32,827 Balance at 30 June 2009 68,090 2,699 (3,346) 1,131 68,574 Shares issued net of transaction costs Share based payments Total comprehensive income 104 46 - - - - - 14,423 (1,482) - 707 - 104 753 12,941 Balance at 30 June 2010 68,240 17,122 (4,828) 1,838 82,372 The above statements of changes in equity should be read in conjunction with the accompanying notes to the financial statements. 32 2010 Annual Report Back to Contents STATEMENT OF CASH FLOWS For the year ended 30 June 2010 Notes Consolidated 2010 $000 2009 $000 Cash flows from operating activities Receipts from customers and GST recovered Payments to suppliers and employees Income tax and special remuneratory benefit paid Interest received Net cash flows generated from operating activities 21(a) Cash flows from investing activities Exploration and development expenditure Joint venture cash assigned to subsidiary Cash held as security Acquisition of property, plant and equipment Net cash flows (used in) investing activities Cash flows from financing activities Proceeds from issue of share capital Payment of share issue costs Proceeds from repayment of Employee Share Plan loans Net cash flows from financing activities Net (decrease) in cash and cash equivalents Cash and cash equivalents at the beginning of the financial year Effect of exchange rate fluctuations on cash and cash equivalents Cash and cash equivalents at the end of the financial year 21(b) 71,274 (23,775) (15,277) 82 32,304 114,083 (34,238) (48,177) 973 32,596 (34,488) (35,550) - 2,153 (533) - (429) (300) (32,868) (36,279) - (7) 111 104 1,000 (4) 140 1,136 (460) (2,547) 31,099 (384) 30,255 28,281 5,365 31,099 The above consolidated statement of cash flows should be read in conjunction with the accompanying notes to the financial statements. Back to Contents Carnarvon Petroleum Limited 33 NOTES TO THE FINANCIAL STATEMENTS 1. Reporting entity The consolidated financial report of Carnarvon Petroleum Limited (‘Company’) for the financial year ended 30 June 2010 comprises the Company and its controlled entities (the “Group”) and the Group’s interest in jointly controlled assets. On 28 June 2010, the Government announced the passage of the Corporations Amendment (Corporate Reporting Reform) Bill 2010. The changes contained within the Bill have come into effect for the financial year ended 30 June 2010. A key change that impacted the financial report of Carnarvon Petroleum Limited is the abolition of the requirement to prepare parent company financial statements in addition to consolidated financial statements. As a result of this, the separate financial statements of the parent entity, Carnarvon Petroleum Limited have not been presented within this group financial report. Certain disclosures required by the Corporations Act 2001 in relation to the parent entity are detailed in Note 33 to the financial statements. The financial report was authorised for issue by the directors on 26 August 2010. 2. Basis of preparation of the financial report Statement of compliance The financial report is a general purpose financial report prepared in accordance with Australian Accounting Standards (“AASBs”), including Australian Accounting Interpretations, other authoritative pronouncements of the Australian Accounting Standards Board (“AASB”), and the Corporations Act 2001. Australian Accounting Standards set out accounting policies that the AASB has concluded would result in a financial report containing relevant and reliable information about transactions, events and conditions to which they apply. Compliance with Australian Accounting Standards ensures that the financial statements and notes also comply with International Financial Reporting Standards (“IFRSs”). Material accounting policies adopted in the preparation of this financial report are presented below. They have been consistently applied unless otherwise stated. The Group has reviewed all new and revised accounting standards and interpretations issued by the Australian Accounting Standards Board (“AASB”). It has been concluded that the Presentation of Financial Statements (AASB 101) and Operating Segments (AASB 8) standards have had a disclosure impact on the financial report. However, there are no new and revised standards that are relevant to and effective for the current reporting period and accordingly there have been no changes to the Group’s accounting policies. Basis of measurement The financial report is prepared on a historical cost basis, except for available-for-sale financial assets and financial instruments at fair value through profit and loss which are measured at fair value. Functional and presentation currency The consolidated financial statements are presented in Australian dollars, which is the Company’s functional and presentation currency. Use of estimates and judgements The preparation of the financial report requires management to make judgements, estimates and assumptions that affect the application of accounting policies and the reported amounts of assets and liabilities, income and expenses. Actual results may differ from these estimates. Estimates and underlying assumptions are reviewed on an ongoing basis. Revisions to accounting estimates are recognized in the period in which the estimate is revised and in any future periods affected. 34 2010 Annual Report Back to Contents NOTES TO THE FINANCIAL STATEMENTS Key estimate – impairment The Group assesses impairment at each reporting date by evaluating conditions specific to the group that may lead to the impairment of assets. Where an impairment trigger exists, the recoverable amount of the asset is determined. Value- in-use calculations performed in assessing recoverable amounts incorporate a number of key estimates. There was not considered to be any impairment trigger over the carrying value of the Group’s interest in exploration and evaluation or oil and gas assets at the date of this report. Key estimate – income and capital gains taxes Judgement is required in determining any provision for income and capital gains taxes. The Group recognizes liabilities of anticipated tax based on estimates of taxes due. Where the final tax outcome of these matters is different from the amounts that were initially recognised, such differences will impact the income tax and deferred tax expenses, assets or provisions in the year in which such determination is made. Key estimate – special remuneratory benefit and income tax The Group’s Phetchabun Basin Joint Venture is subject to Thai income tax at 50% and a special remuneratory benefit (“SRB”) tax on profits, at sliding scale rates (0% - 75% per concession). The SRB, which is tax deductible in the calculation of Thai income taxes, involves a highly detailed calculation done on a concession by concession basis. The basis of the calculation is petroleum profits, adjusted for capital spent, being subjected to a sliding scale SRB rate such that profits are not taxed until all capital has been recovered. The sliding scale rate is principally driven by production and pricing but is subject to other adjustments such as changes in Thailand’s consumer price index, wholesale price index, cumulative metres drilled on the concession, and, for certain concessions, changes in the exchange rate between the Thai Baht and the USD. The SRB calculation is performed and paid annually for each concession at the calculated annual rate at the end of each calendar year. Judgement is required in determining provisions which are based on estimates of amounts due. Where the final outcome of those matters is different from the amounts that were originally recognised, such difference may impact those provisions in the period in which such a determination is made. Key estimate – functional currency The determination of the functional currency of the Company’s controlled entities requires consideration of a number of factors. These factors include the currencies that primarily influence their sales and costs and the economic environment in which the entities operate. Key estimates – other Other areas of judgement are in the determination of oil reserves, rehabilitation provisions, capitalisation of exploration and evaluation costs, determination of areas of interest, and the units of production method of depreciation. Back to Contents Carnarvon Petroleum Limited 35 NOTES TO THE FINANCIAL STATEMENTS 3. Significant accounting policies The accounting policies set out below have been applied consistently to all periods presented in the consolidated financial report. The accounting policies have been applied consistently by all entities in the Group. Certain comparative amounts have been reclassified to conform to the current year’s presentation. (a) Basis of consolidation Controlled entities The consolidated financial report comprises the financial statements of the Company and its controlled entities. A controlled entity is any entity controlled by the Company whereby the Company has the power to control the financial and operating policies of an entity so as to obtain benefits from its activities. All inter-company balances and transactions between entities in the economic entity, including any unrealised profits or losses, have been eliminated on consolidation. Accounting policies of controlled entities have been changed where necessary to ensure consistency with those applied by the Company. Where controlled entities enter or leave the economic entity during the year, their operating results are included or excluded from the date control was obtained or until the date control ceased. Investments in controlled entities are carried at cost in the Company’s financial statements. Jointly controlled assets The Group's share of the assets, liabilities, revenue and expenses of joint venture assets are included in the financial statements under the appropriate headings. (b) Income tax and special remuneratory benefit Income tax (current tax & deferred tax) The charge for current income tax expense is based on the result for the year adjusted for any non-assessable or disallowed items. It is calculated using tax rates that have been enacted or are substantively enacted by balance sheet date. Deferred tax is accounted for using the balance sheet liability method in respect of temporary differences arising between the tax bases of assets and liabilities and their carrying amounts in the financial statements. No deferred income tax will be recognised from the initial recognition of an asset or liability, excluding a business combination, where there is no effect on accounting or taxable profit or loss. Deferred tax is calculated at the tax rates that are expected to apply to the period when the asset is realised or liability is settled. Deferred tax is recognised in the income statement except where it relates to items recognised directly in equity, in which case it is recognised in equity. Deferred income tax assets are recognised for deductible temporary differences and unused tax losses only if it is probable that future taxable amounts will be available to utilise those temporary differences and tax losses. Deferred tax assets and liabilities are offset when they relate to income taxes levied by the same taxation authority and the company / group intends to settle its current tax assets and liabilities on a net basis. The amount of benefits brought to account or which may be realised in the future is based on the assumption that no adverse change will occur in income taxation legislation and the anticipation that the economic entity will derive sufficient future assessable income to enable the benefit to be realised and comply with the conditions of deductibility imposed by the law. The carrying amount of deferred tax assets is reviewed at each balance date and only recognised to the extent that sufficient future assessable income is expected to be obtained. Special remuneratory benefit The Group’s Phetchabun Basin Joint Venture is subject to a special remuneratory benefit (“SRB”) tax on profits, at sliding scale rates (0% - 75% per concession). 36 2010 Annual Report Back to Contents NOTES TO THE FINANCIAL STATEMENTS The SRB, which is tax deductible in the calculation of Thai income taxes, involves a detailed calculation done on a concession by concession basis. The basis of the calculation is petroleum profits, adjusted for capital spent, being subjected to a sliding scale SRB rate such that profits are not taxed until all capital has been recovered. The sliding scale rate is principally driven by production and pricing but is subject to other adjustments such as changes in Thailand’s consumer price index, wholesale price index, cumulative metres drilled on the concession, and, for certain concessions, changes in the exchange rate between the Thai Baht and the USD. The SRB calculation is performed quarterly for each concession at the calculated annual rate at the end of each quarter. The SRB is considered, for accounting purposes, to be a tax on income. Tax consolidation Carnarvon Petroleum Limited and its wholly-owned Australian-resident controlled entities formed a tax-consolidated group with effect from 1 July 2003 and are therefore taxed as a single entity from that date. Carnarvon Petroleum Limited is the head entity of the tax-consolidated group. In future periods the members of the group will, if required, enter into a tax sharing agreement whereby each company in the group contributes to the income tax payable in proportion to their contribution to the net profit before tax of the tax consolidated group. (c) Property, plant and equipment Recognition and measurement All property, plant and equipment is stated at cost less accumulated depreciation and impairment losses. The cost of an item also includes the initial estimate of the costs of dismantling and removing an item and restoring the site on which it is located. Subsequent costs are included in the asset's carrying amount or recognised as a separate asset, as appropriate, only when it is probable that future economic benefits associated with the item will flow to the group and the cost of the item can be measured reliably. All other repairs and maintenance are charged to the income statement during the financial period in which they are incurred. Impairment The carrying amount of property, plant and equipment is reviewed at each balance date to determine whether there are any objective indicators of impairment that may indicate the carrying values may not be recoverable in whole or in part. Impairment testing is carried out in accordance with Note 3(f). Where an asset does not generate cash flows that are largely independent it is assigned to a cash generating unit and the recoverable amount test applied to the cash generating unit as a whole. If the carrying value of the asset is determined to be in excess of its recoverable amount, the asset or cash generating unit is written down to its recoverable amount. Depreciation Depreciation on property plant and equipment is calculated on a straight-line basis over expected useful life to the economic entity commencing from the time the asset is held ready for use. The major depreciation rates used for all classes of depreciable assets are: Property, plant and equipment: 10% to 33% The assets' residual values and useful lives are reviewed, and adjusted if appropriate, at least annually. An asset's carrying amount is written down immediately to its recoverable amount if the asset's carrying amount is greater than its estimated recoverable amount. Gains and losses on disposals are determined by comparing proceeds with the carrying amount. These gains and losses are included in the income statement. Back to Contents Carnarvon Petroleum Limited 37 NOTES TO THE FINANCIAL STATEMENTS 3. Significant accounting policies (continued) (d) Oil and gas assets Oil and gas assets include costs transferred from exploration and evaluation once technical feasibility and commercial viability of an area of interest are demonstrable, together with subsequent costs to develop the asset to the production phase. Where the directors decide that specific costs will not be recovered from future development, those costs are charged to the income statement during the financial period in which the decision is made. Depreciation of oil and gas assets is calculated on a unit of production basis so as to write off costs, including an element of future costs, in proportion to the depletion of the estimated recoverable reserves. (e) Exploration and evaluation Exploration and evaluation expenditure incurred is accumulated in respect of each identifiable area of interest. These costs are only carried forward to the extent that the Group’s rights of tenure to the area are current and that the costs are expected to be recouped through the successful development of the area, or where activities in the area have not yet reached a stage that permits reasonable assessment of the existence of economically recoverable reserves. Each area of interest is assessed for impairment to determine the appropriateness of continuing to carry forward costs in relation to that area of interest. Impairment testing is carried out in accordance with Note 3(f). Accumulated costs in relation to an abandoned area are written off in full against profit in the year in which the decision to abandon the area is made. Once the technical feasibility and commercial viability of the extraction of mineral resources in an area of interest are demonstrable, exploration and evaluation costs attributable to that area of interest are first tested for impairment and then reclassified from exploration and evaluation to oil and gas assets. (f) Recoverable amount of assets and impairment testing Assets that have an indefinite useful life are not subject to depreciation and are tested annually for impairment by estimating their recoverable amount. Assets that are subject to depreciation are reviewed annually to determine whether there is any indication of impairment. Where such an indicator exists, a formal assessment of recoverable amount is then made. Where this is less than carrying amount, the asset is written down to its recoverable amount. Recoverable amount is the greater of fair value less costs to sell and value in use. Value in use is the present value of the future cash flows expected to be derived from the asset or cash generating unit. In estimating value in use, a pre-tax discount rate is used which reflects the current market assessments of the time value of money and the risks specific to the asset. Any resulting impairment loss is recognised immediately in the income statement. For the purposes of impairment testing assets are grouped together into the smallest group of assets that generates cash inflows from continuing use that are largely independent of the cash inflows of other assets or groups of assets. (g) Trade receivables Trade receivables are stated at fair value and subsequently measured at amortised cost, less impairment losses. Impairment testing is carried out in accordance with Note 3(f). 38 2010 Annual Report Back to Contents NOTES TO THE FINANCIAL STATEMENTS 3. Significant accounting policies (continued) (h) Provisions Provisions are recognised when the Group has a legal or constructive obligation, as a result of past events, for which it is probable that an outflow of economic benefits will result and that outflow can be reliably measured. Provisions are determined by discounting the expected future cash flows at a pre-tax discount rate that reflects current market assessments of the time value of money and, where appropriate, the risks specific to the liability. Restoration costs Any provision for future restoration and rehabilitation costs is capitalised and depreciated in accordance with the policy set out in Note 3(c). The unwinding of the effect of discounting on the provision is recognised as a finance cost. (i) Investments and other financial instruments The Group determines the classification of its financial instruments at initial recognition and re-evaluates this designation at each reporting date. Fair value is the measurement basis, with the exception of held-to-maturity investments and loans and receivables which are measured at amortised cost. Fair value is inclusive of transaction costs. Changes in fair value are either taken to the income statement or to an equity reserve (refer below). Amortised cost is the amount measured at initial recognition, less principal repayments, adjusted for the difference, if any, between initial measurement and the maturity amount calculated using the effective interest method, less any reduction for impairment. The effective interest method is the rate that discounts future expected cash flows through the expected life of the financial instrument to its net carting amount. Revisions to expected cash flows will require an adjustment to the carrying value with a consequential recognition of an income or expense in profit and loss. Fair value is determined based on current bid prices for all quoted investments. If there is not an active market for a financial asset fair value is measured using established valuation techniques. The Group assesses at each balance date whether there is objective evidence that a financial asset or group of financial assets are impaired. In the case of equity securities classified as available-for-sale, a significant or prolonged decline in the fair value of a security below its cost is considered in determining whether the security is impaired. If any such evidence exists the cumulative loss is removed from equity and recognised in the income statement. (i) Financial assets at fair value through profit and loss A financial asset is classified in this category if acquired principally for the purpose of selling in the short term or if so designated by management. Realised and unrealised gains and losses arising from changes in the fair value of these assets are included in the income statement in the period in which they arise. (ii) Loans and receivables Loans and receivables are non-derivative financial assets with fixed or determinable payments that are not quoted in an active market and are stated at amortised cost using the effective interest rate method, less any impairment losses. (iii) Available-for-sale financial assets Available for sale financial assets, comprising principally marketable equity securities, are non-derivatives that are either designated in this category or not included in any of the above categories. Available-for-sale financial assets are reflected at fair value. Unrealised gains and losses arising from changes in fair value are taken directly to equity in an available-for-sale investments revaluation reserve. When securities classified as available-for-sale are sold or impaired, the accumulated fair value adjustments are included in the income statement as gains and losses from investment securities. Back to Contents Carnarvon Petroleum Limited 39 NOTES TO THE FINANCIAL STATEMENTS 3. Significant accounting policies (continued) (j) Segment reporting The Group reports one segment, oil and gas exploration, development and production, to the chief operating decision maker, being the board of Carnarvon Petroleum Limited, in assessing performance and determining the allocation of resources. The financial information presented in the statement of cashflows is the same basis as that presented to chief operating decision maker. Unless otherwise stated, all amounts reported to the chief operating decision maker are determined in accordance with accounting policies that are consistent to those adopted in the annual financial statements of the Group. This is the first reporting period in which AASB 8 Operating Segments has been adopted. Comparative information has been restated to conform to the requirements of the standard. (k) Foreign currency Functional and presentation currency The functional currency of each of the group’s entities is measured using the currency of the primary economic environment in which that entity operates (the “functional” currency). The consolidated financial statements are presented in Australian dollars which is the Company’s functional and presentation currency. Transactions and balances Foreign currency transactions are translated into functional currency using the exchange rates prevailing at the date of the transaction. Foreign currency monetary assets and liabilities are translated at the exchange rate at balance sheet date. Non-monetary items measured at historical cost continue to be carried at the exchange rate at the date of the transaction. Exchange differences arising on the translation of monetary items are recognised in the income statement, except where deferred in equity as a qualifying cash flow or net investment hedge. Translation differences arising on non-monetary items, such as equities held at fair value through profit and loss, are reported as part of the fair value gain or loss. Translation differences on non-monetary items, such as equities classified as available-for-sale financial assets, are included in the fair value reserve in equity. Foreign operations The financial performance and position of foreign operations whose functional currency is different from the Group’s presentation currency are translated as follows: • assets and liabilities are translated at exchange rates prevailing at balance sheet date • income and expenses are translated at average exchange rates for the period Exchange differences arising on translation of foreign operations are transferred directly to the group’s foreign currency translation reserve as a separate component of equity. These differences are recognised in the income statement upon disposal of the foreign operation. 40 2010 Annual Report Back to Contents NOTES TO THE FINANCIAL STATEMENTS 3. Significant accounting policies (continued) (l) Leases Leases are classified at their inception as either operating or finance leases based on the economic substance of the agreement so as to reflect the risks and benefits incidental to ownership. Operating leases A lease where a significant portion of the risks and rewards of ownership are retained by the lessor are classified as operating leases. Payments in relation to operating leases are charged to the income statement on a straight-line basis over the period of the lease. (m) Share capital Incremental costs directly attributable to an equity transaction are shown as a deduction from equity, net of any recognised income tax benefit. (n) Inventories Inventories are stated at the lower of cost and net realisable value. Net realisable value is the estimated selling price in the ordinary course of business less any estimated selling costs. Cost includes those costs incurred in bringing each component of inventory to its present location and condition. (o) Employee benefits Wages and salaries, annual leave Provision is made for the Group’s liability for employee benefits arising from services rendered by employees to balance date. Employee benefits that are expected to be settled within one year have been measured at the amounts expected to be paid when the liability is settled, plus related on-costs. Share based payments – Employee Share Plan Share based compensation has been provided to eligible persons via the Carnarvon Employee Share Plan (“ESP”), financed by means of interest-free limited recourse loans. Under AASB 2 “Share-based Payments”, the ESP shares are deemed to be equity settled, share-based remuneration. For limited recourse loans issued to eligible persons on or after 1 January 2005, the Group is required to recognise within the income statement a remuneration expense measured at the fair value of the shares inherent in the issue to the eligible person, with a corresponding increase to a share-based payments reserve in equity. The fair value is measured at grant date and recognised when the eligible person become unconditionally entitled to the shares, effectively on grant. A loan receivable is not recognised. The fair value at grant date is determined using a pricing model that factors in the share price at grant date, the expected price volatility of the underlying share, the expected dividend yield, and the risk free rate for the assumed term of the plan. Upon repayment of the ESP loans, the balance of the share-based payments reserve relating to the loan repaid is transferred to issued capital. (p) Earnings per share The Group presents basic and diluted earnings per share (“EPS”) for its ordinary shares. Basic EPS is calculated by dividing the profit attributable to equity holders of the Company by the weighted number of shares outstanding during the period. Diluted EPS is determined by adjusting the profit or loss attributable to ordinary shareholders and the weighted average number of ordinary shares outstanding for the effects of all potential ordinary shares, which comprise share options issued. Back to Contents Carnarvon Petroleum Limited 41 NOTES TO THE FINANCIAL STATEMENTS 3. Significant accounting policies (continued) (q) Cash and cash equivalents Cash and cash equivalents comprise cash on hand, deposits held at call with banks, and other short-term highly liquid investments. (r) Revenue Revenue from the sale of goods is measured at the fair value of the consideration received or receivable. Revenue is recognised when the significant risks and rewards of ownership have been transferred to the buyer, recovery of the consideration is probable, and the amount of revenue can be measured reliably. For the sale of oil the transfer of risks and rewards occurs on delivery of oil to the refinery. (s) Goods and services tax Revenues, expenses and assets are recognised net of the amount of goods and services tax (“GST”), except where the amount of GST incurred is not recoverable from the Australian Tax Office. In these circumstances the GST is recognised as part of the cost of acquisition of the asset or as part of the expense. Receivables and payables in the balance sheet are shown inclusive of GST. Cash flows are presented in the cash flow statement on a gross basis, except for the GST component of investing and financing activities, which are disclosed as operating cash flows. (t) Trade and other payables Trade and other payables are stated at amortised cost. The amounts are unsecured and usually paid within 60 days of recognition. (u) Finance income and expenses Interest revenue on funds invested is recognised as it accrues, using the effective interest rate method. Finance expenses comprise interest expense on borrowings and the unwinding of the discount on provisions. (v) Royalties Royalties are treated as taxation arrangements when they have the characteristics of a tax. This is considered to be the case when they are imposed under government authority and the amount payable is calculated by reference to revenue derived (net of any allowable deductions) after adjustment for items comprising temporary differences. For such arrangements, current and deferred tax is provided on the same basis as described above for other forms of taxation. Obligations arising from royalty arrangements that do not satisfy these criteria are recognised as current provisions and included in expenses. (w) Comparative figures When required by Accounting Standards, comparative figures have been adjusted to conform to changes in presentation for the current financial year. 42 2010 Annual Report Back to Contents NOTES TO THE FINANCIAL STATEMENTS 3. Significant accounting policies (continued) (x) New standards and interpretations not yet adopted The following standards, amendments to standards and interpretations have been identified as those which may impact the entity in the period of initial application. They are available for early adoption at 30 June 2010, but have not been applied in preparing the financial report. i. AASB 9 Financial Instruments includes requirements for the classification and measurement of financial assets resulting from the first part of Phase 1 of the project to replace AASB 139 Financial instruments: Recognition and measurement. AASB 9 will become mandatory for the Group’s 30 June 2014 financial statements. Retrospective application is generally required, although there are some exceptions, particularly if the entity adopts the standard for the year ended 30 June 2012 or earlier. The Group has not yet determined the potential affect of the standard. ii. AASB 124 Related Party Disclosures (revised December 2009) simplifies and clarifies the intended meaning of the definition of a related party and provides a partial exemption from the disclosure requirements for government- related entities. The amendments, which will become mandatory for the Group’s 30 June 2012 financial statements, are not expected to have any impact on the financial statements. iii. AASB 2009-5 Further Amendments to Australian Accounting Standards arising from the Annual Improvements Process affect various AASBs resulting in minor changes for presentation, disclosure, recognition and measurement purposes. The amendments, which become mandatory for the Group’s 30 June 2011 financial statements, are not expected to have a significant impact on the financial statements. iv. AASB 2009-8 Amendments to Australian Accounting Standards – Group Cash – settled Share-based Payment Transactions resolves diversity in practice regarding the attribution of cash-settled share-based payments between different entities within a group. As a result of the amendments AI 8 Scope of AASB 2 and AI 11 AASB 2 – Group and Treasury Share Transactions will be withdrawn from the application date. The amendments, which become mandatory for the Group’s 30 June 2011 financial statements, are not expected to have a significant impact on the financial statements. v. AASB 2009-10 Amendments to Australian Accounting Standards – Classification of Rights Issue [AASB 132] (October 2010) clarify that rights, options or warrants to acquire a fixed number of an entity’s own equity instruments for a fixed amount in any currency are equity instruments if the entity offers the rights, options or warrants pro-rata to all existing owners of the same class of its own non-derivative equity instruments. The amendments, which will become mandatory for the Group’s 30 June 2011 financial statements, are not expected to have any impact on the financial statements. vi. IFRIC 19 Extinguishing Financial Liabilities with Equity Instruments addresses the accounting by an entity when the terms of a financial liability are renegotiated and result in the entity issuing equity instruments to a creditor of the entity to extinguish all or part of the financial liability. IFRIC 19 will become mandatory for the Group’s 30 June 2011 financial statements, with retrospective application required. The Group has not yet determined the potential effect of the interpretation. Back to Contents Carnarvon Petroleum Limited 43 NOTES TO THE FINANCIAL STATEMENTS 4. Other income Finance income on bank deposits 5. Cost of sales Production expenses Royalty and excise Transportation Depreciation - development costs and producing assets Selling, general and administration 6. Other expenses Consolidated 2010 $000 82 82 (5,438) (4,118) (2,283) (6,928) (2,706) (21,473) 2009 $000 896 896 (3,892) (7,331) (3,827) (10,057) (2,740) (27,847) Depreciation – property, plant and equipment Rental premises – operating leases (251) (204) (162) (234) 7. Auditors’ remuneration Audit services: Auditors of the Company 8. Earnings per share 122 108 The calculation of basic and diluted earnings per share was based on a weighted average number of shares calculated as follows: Issued ordinary shares at 1 July Effect of shares issued Effect of share options exercised 2010 2009 Number of shares 683,674,634 672,924,634 1,723,233 - 583,699 2,493,151 Weighted average number of ordinary shares 30 June (basic) 685,397,867 676,001,484 Effect of share options on issue - - Weighted average number of ordinary shares 30 June (diluted) 685,397,867 676,001,484 Profit used in calculating basic and diluted earnings per share from continuing operations $14,423,000 $28,736,000 44 2010 Annual Report Back to Contents NOTES TO THE FINANCIAL STATEMENTS 9. Income tax expense Numerical reconciliation between pre-tax profit and income tax expense: Prima facie income tax expense on pre-tax profit at 30% (2009: 30%) 11,262 21,634 2010 $000 2009 $000 (Restated) Tax effect of: Special remuneratory benefit Effect of higher overseas tax rate Foreign exchange (gains) / losses Non-deductible expenditure Prior year losses recognised Prior year temporary differences recognised Current year tax benefit not brought to account Income tax expense on pre tax profit Current income tax Deferred tax (1,856) 6,843 303 581 - 1,166 1,107 19,406 10,616 8,790 19,406 (6,781) 12,988 (3,220) 350 (198) 4,253 793 29,819 16,357 13,462 29,819 Tax Consolidation Effective 1 July 2003, for the purposes of Australian income taxation, Carnarvon and its 100%-owned controlled entities formed a tax consolidated group. The head entity of the tax consolidated group is Carnarvon. The impact of consolidating for tax purposes is that Carnarvon’s Australian controlled entities are treated as divisions of Carnarvon rather than as separate entities for tax purposes. The members of the group will, if required, enter into a tax sharing arrangement in order to allocate group tax related liabilities to contributing members on a reasonable basis. The agreement will provide for the allocation of income tax liabilities between entities should the head entity default on its tax payment obligations. 10. Trade and other receivables Current Trade and other receivables Cash held as security Consolidated 2010 $000 2009 $000 6,348 1,432 7,780 8,318 3,586 11,904 2008 $000 9,287 3,156 12,443 The Group’s exposure to credit and currency risks is disclosed in Note 32. Back to Contents Carnarvon Petroleum Limited 45 NOTES TO THE FINANCIAL STATEMENTS 11. Property, plant and equipment Plant and equipment Cost: Balance at beginning of financial year Additions Transfers Disposals Effects of movements in foreign exchange Balance at end of financial year Depreciation and impairment losses: Balance at beginning of financial year Disposals Transfers Depreciation charge for year Balance at end of financial year Carrying amount opening Carrying amount closing Fixtures and fittings Cost: Balance at beginning of financial year Additions Transfers Disposals Effects of movements in foreign exchange Balance at end of financial year Depreciation and impairment losses: Balance at beginning of financial year Disposals Transfers Depreciation charge for year Balance at end of financial year Carrying amount opening Carrying amount closing 2010 $000 Consolidated 2009 $000 2008 $000 42 405 - - - 447 32 - - 84 116 10 331 626 96 - - (7) 715 334 - - 147 481 292 234 74 - (43) - 11 42 67 - (43) 8 32 7 10 319 271 43 (58) 51 626 191 (41) 43 141 334 128 292 89 56 - (63) (8) 74 56 (3) - 14 67 33 7 204 121 - - (6) 319 133 - - 58 191 71 128 46 2010 Annual Report Back to Contents NOTES TO THE FINANCIAL STATEMENTS 11. Property, plant and equipment (continued) Land and buildings Cost: Balance at beginning of financial year Additions Effects of movements in foreign exchange Balance at end of financial year Depreciation and impairment losses: Balance at beginning of financial year Depreciation charge for year Balance at end of financial year Carrying amount opening Carrying amount closing Total Cost: Balance at beginning of financial year Additions Disposals Effects of movements in foreign exchange Balance at end of financial year Depreciation and impairment losses: Balance at beginning of financial year Disposals Depreciation charge for year Balance at end of financial year Carrying amount opening Carrying amount closing 2010 $000 65 38 - 103 14 19 33 51 70 733 540 - (7) 1,266 380 - 251 631 353 635 Consolidated 2009 $000 2008 $000 38 21 6 65 1 13 14 37 51 431 292 (58) 69 733 259 (41) 162 380 172 353 - 38 - 38 - 1 1 - 37 293 215 (63) (14) 431 189 (3) 73 259 104 172 Back to Contents Carnarvon Petroleum Limited 47 NOTES TO THE FINANCIAL STATEMENTS 12. Inventories Current Raw materials and consumables 13. Other assets Current Deposits and prepayments 14. Exploration and evaluation Cost: Balance at beginning of financial year Additions Exploration expenditure written off Assignment of joint venture to subsidiary Balance at end of financial year 15. Oil and gas assets Cost: Balance at beginning of financial year Additions Effects of movements in foreign exchange Balance at end of financial year Depreciation and impairment losses: Balance at beginning of financial year Depreciation charge for year Balance at end of financial year Carrying amount opening Carrying amount closing 2010 $000 Consolidated 2009 $000 2008 $000 4,090 3,865 1,586 440 677 299 1,219 5,516 (384) - 6,351 379 915 - (75) 1,219 62,914 28,087 (874) 90,127 13,213 6,738 19,951 49,701 70,176 25,340 31,233 6,341 62,914 3,262 9,951 13,213 22,078 49,701 - 379 - - 379 12,773 14,475 (1,908) 25,340 644 2,618 3,262 12,129 22,078 48 2010 Annual Report Back to Contents NOTES TO THE FINANCIAL STATEMENTS 16. Joint ventures The Group has the following interests in joint venture assets: Principal activities Ownership interest % Joint venture Thailand Phetchabun Basin Concession, Exploration Blocks L44/43 and L33/43 3/2546/60 and 5/2546/62 Concessions Exploration, development and production of hydrocarbons Exploration Block L20/50 7/2551/98 Concession Exploration for hydrocarbons Exploration Blocks L52/50 and L53/50 3/2553/105 concession Exploration for hydrocarbons Western Australia WA-435-P, WA-436-P, WA-437-P, WA 438-P, Roebuck Basin WA-443-P, Roebuck Basin WA-399-P, Carnarvon Basin Indonesia Rangkas, West Java Basin Exploration for hydrocarbons Exploration for hydrocarbons Exploration for hydrocarbons Exploration for hydrocarbons 2010 40% 50% 50% 50% 100% 2009 40% 50% - - - 50% 50% 25% - Back to Contents Carnarvon Petroleum Limited 49 NOTES TO THE FINANCIAL STATEMENTS 16. Joint ventures (continued) Summary financial information for joint venture assets, as included in the consolidated statement of financial position and statement of comprehensive income, is shown below: Current assets Cash and cash equivalents Trade and other receivables Inventories Other assets Total current assets Non-current assets Property, plant and equipment Exploration and evaluation Oil and gas assets Total non-current assets Total assets Current liabilities Trade and other payables Provisions Total current liabilities Non-current liabilities Deferred tax Total non-current liabilities Total liabilities Net assets Income Expenses Net profit after tax 2010 $000 2009 $000 Restated 7,497 7,097 4,090 318 19,002 531 6,176 70,176 76,883 95,885 4,926 8,338 13,264 23,306 23,306 36,570 59,315 27,758 9,176 3,865 384 41,183 238 1,189 50,401 51,828 93,011 5,889 6,643 12,532 14,516 14,516 27,048 65,963 65,275 (44,590) 20,685 100,758 (71,000) 29,758 Capital commitments and contingent liabilities for the joint ventures are disclosed in Notes 22 and 23 respectively. 50 2010 Annual Report Back to Contents NOTES TO THE FINANCIAL STATEMENTS 17. Trade and other payables Current Trade payables Non-trade payables and accrued expenses Owing to related parties 2010 $000 Consolidated 2009 $000 2008 $000 307 5,298 16 5,621 2,686 4,163 52 6,901 2,352 948 68 3,368 The Group’s exposure to currency and liquidity risk related to trade and other payables is disclosed in Note 32. 18. Provisions Current Special Remuneratory Benefit - Thailand 2010 $000 Consolidated 2009 $000 (Restated) 2008 $000 2,172 2,172 3,122 3,122 14,848 14,848 There are no restoration provisions required in respect of the Group’s activities under current Thai Legislation. 19. Deferred tax Recognised deferred tax assets and liabilities The net deferred tax liability is attributable to the following: Oil and gas assets Tax value of losses carry forward Net tax liability 25,267 (1,960) 23,306 16,784 (2,268) 14,516 5,395 (2,180) 3,215 The movement in the deferred tax liability during the reporting period has all been recognized in the income statement. Unrecognised deferred tax assets and liabilities Deferred tax assets have not been recognized in respect of the following items: Deductible temporary differences Australian tax loses - 3,691 3,691 159 2,571 2,730 212 1,631 1,843 The deductible temporary differences and tax losses do not expire under current tax legislation. Deferred tax assets have not been recognised in respect of these items because it is not probable that future taxable profit will be available against which the Group can utilise the benefits. Back to Contents Carnarvon Petroleum Limited 51 NOTES TO THE FINANCIAL STATEMENTS 20. Capital and reserves Issued capital Balance at beginning of financial year Employee Share Plan issues Shares issued on exercise of share options Balance at end of financial year Issued capital Balance at beginning of financial year Employee Share Plan related movements Employee Share Plan loans repaid Shares issued on exercise of share options Share issue transaction costs Balance at end of financial year Company and consolidated 2010 2009 2008 Number of shares 683,674,634 672,924,634 657,537,134 3,085,000 750,000 - 10,000,000 686,759,634 683,674,634 387,500 15,000,000 672,924,634 Company and consolidated 2009 $000 2008 $000 2010 $000 68,090 66,738 65,041 46 111 - (7) 68,240 216 140 1,000 (4) 68,090 380 90 1,230 (3) 66,738 Ordinary shares have the right to one vote per share at meetings of the Company, to receive dividends as declared and, in the event of a winding-up of the Company, to participate in the proceeds from the sale of all surplus assets in proportion to the number of, and amounts paid up on, shares held. Translation reserve Movements in the translation reserve are set out in the Statement of Changes in Equity on page 32. The translation reserve comprises all foreign exchange differences arising from the translation of the financial statements of foreign operations where their functional currency is different to the presentation currency of the reporting entity. Share based payments reserve Movements in the share based payments reserve are set out in the Statements of Changes in Equity on page 32. This reserve represents the fair value of shares issued under the Company’s ESP. This reserve is reversed against issued capital when shares are issued on exercise of option issued under the previous employee option plan or the loan is repaid under the current ESP. 52 2010 Annual Report Back to Contents NOTES TO THE FINANCIAL STATEMENTS 21. Reconciliation of cash flows from operating activities (a) Cash flows from operating activities After tax profit for the period Adjustments for: Equity settled share based payment expense Deferred tax expense Depreciation Loss on disposal of property, plant and equipment Foreign exchange (gains) / losses Operating profit before changes in working capital and provisions: Changes in assets and liabilities: Decrease in trade and other receivables (Increase) in inventories Decrease / (increase) in other assets (Decrease) / increase in trade and other payables (Decrease) in provisions and employee benefits Net cash flows generated from operating activities (b) Reconciliation of cash and cash equivalents Consolidated 2010 $000 2009 $000 (Restated) 14,423 28,736 753 8,790 6,930 - 525 122 11,301 10,114 16 (2,305) 31,421 47,984 2,550 (225) 237 (1,280) (399) 32,304 2,682 (1,972) (185) 150 (16,063) 32,596 Cash at bank and at call 30,255 31,099 The Group’s exposure to interest rate risk and a sensitivity analysis for financial assets and liabilities is disclosed in Note 32. Restricted cash of $1,432,000 consolidated is included under trade and other receivables (2009: $3,586,000 consolidated), see Notes 10 and 23. Back to Contents Carnarvon Petroleum Limited 53 NOTES TO THE FINANCIAL STATEMENTS 22. Capital and other commitments (a) Joint venture commitments Share of capital commitments of joint venture assets: Within one year Capital commitments of the Group to joint venture assets: Within one year Consolidated 2010 $000 2009 $000 1,572 1,189 4,864 2,264 (b) Exploration expenditure commitments Due to the nature of the Group's operations in exploring and evaluating areas of interest it is necessary to incur expenditure in order to retain the Group’s present permit interests. Expenditure commitments on exploration permits can be reduced by selective relinquishment of exploration tenure, by the renegotiation of expenditure commitments, or by farming out portions of the Group's equity. Exploration expenditure commitments forecast but not provided for in the financial statements are as follows: Less than one year Between one and five years (c) Capital expenditure commitments Data licence commitments 23. Contingencies Consolidated 2010 $000 5,500 4,500 10,000 2009 $000 4,100 1,700 5,800 231 126 The directors are of the opinion that provisions are not required in respect of these matters as it is not probable that a future sacrifice of economic benefits will be required or the amount is not capable of reliable measurement. Contingent liabilities not considered remote a) Under the terms of an Investment Agreement the Group is required to pay a percentage of sales proceeds from specified zones within the Wichian Buri Production Licences I and II in Thailand to Gemini Oil and Gas Limited, an independent oil and natural gas investment fund. The current percentage is 7.5%. The Group has expensed US$61,000 in the current period (2009: US$85,000). Cumulative amounts paid at balance date under the terms of this agreement are US$966,000. Contingent liabilities considered remote a) The Phetchabun Basin Joint Venture operation, in which the Group has a 40% interest, has procured the issue of bank guarantees for an amount of 40 million Thai Baht as security in lieu of bonds. The L20/50 Joint Venture, in which the Group has a 50% interest, has procured the issue of bank guarantees for an amount of 20 million Thai Baht as security in lieu of bonds. 54 2010 Annual Report Back to Contents NOTES TO THE FINANCIAL STATEMENTS 23. Contingencies (continued) The Company has provided a cash bond of US$450,000 to the Department of Mineral Fuels in Thailand in respect of its obligations for its 50% interest in the L20/50 concession in Thailand. The bond is secured by a cash deposit of US$450,000 held with Company’s Australian bank. The Company and its joint venture partner, who has provided a similar guarantee to the Department of Mineral Fuels, have signed a Cross Deed of Indemnity in respect of their respective rights and interests. The restricted cash held by the banks as security for these bonds and guarantees totaling $1,432,000 (2009: $3,586,000) is classified under “trade and other receivables”. b) In accordance with normal petroleum industry practice, the Group has entered into joint ventures and farmin agreements with other parties for the purpose of exploring and developing its petroleum permit interests. If a party to a joint venture defaults and does not contribute its share of joint venture obligations, then the other joint venturers are liable to meet those obligations. In this event, the interest in the permit held by the defaulting party may be redistributed to the remaining joint venturers. 24. Employee benefits Current: Liability for annual leave Consolidated 2010 $000 2009 $000 2008 $000 91 49 13 Share based payments - Employee Share Plan Under the terms of the Carnarvon Employee Share Plan (“ESP”), as approved by shareholders, the Company may, in its absolute discretion, make an offer of ordinary fully paid shares in the Company to any Eligible Person, to be funded by a limited recourse interest free loan granted by the Company. The issue price is determined by the directors and is not to be less than the weighted average market price of the Company’s shares on the five trading days prior to the date of offer. Eligible Persons use the above-mentioned loan to acquire plan shares. The movements in the ESP during the financial year, including those held by Key Management Personnel, were as follows: 1 July 2009 Issued Repaid 30 June 2010 Number of shares Loan Average loan per share 14,457,500 3,085,000 914,301 16,628,199 $1,901,208 $1,654,770 $110,965 $3,445,013 $0.13 $0.54 $0.12 $0.21 Back to Contents Carnarvon Petroleum Limited 55 NOTES TO THE FINANCIAL STATEMENTS 24. Employee benefits (continued) Shares issued under the ESP are accounted for In accordance with the AASB 2. The fair value of shares issued under the ESP is measured by reference to their fair value using the Black-Scholes model, as set out below. Fair value of share options and related assumptions Fair value at measurement date (cents) Share price at date of issue (cents) Exercise price (cents) Expected volatility Actual / assumed option life Expected dividends Risk-free interest rate Share-based expense recognised Key management personnel 2010 Key management personnel 2009 Other employees 2010 Other employees 2009 23.7 to 24.2 54 to 66 54 to 55 62.5% 3 years Nil 3.25% $387,171 24.2 to 27.0 - 54 to 60.7 - 54 to 60.7 - 62.5% - 3 years - - Nil - 3.25% to 3.75% $365,997 - 11.2 to 20.8 26.1 to 48.5 26.1 to 48.5 60% 3 years Nil 3.5% $122,208 The current year volatility is intended to reflect the movement of the Company’s share price during the financial year. Further details of shares and options issued to directors are set out in Note 28, and in the Remuneration Report set out on pages 9 to 14. 25. Related party disclosures Ultimate parent Carnarvon Petroleum Limited is the ultimate parent company. Wholly-owned group transactions During the reporting period there have been transactions between the Company and its controlled entities and joint ventures. The Company provided accounting and administrative services to its controlled entities for which it did not charge a management fee. During the financial year ended 30 June 2010 net receipts from controlled entities totalled $22,093,000 (2009: net repayment from controlled entities $6,366,000). The carrying value of loans to controlled entities at 30 June 2010 was $8,420,000 (2009: $10,273,000) after provisions of $693,000 (2009: $693,000). These loans are unsecured, non-interest bearing, and have no fixed terms of repayment. Other related party balances At 30 June 2010 an amount of $15,906 (2009: $52,070) is included in Company and consolidated trade and other payables for outstanding director fees and expenses. 56 2010 Annual Report Back to Contents NOTES TO THE FINANCIAL STATEMENTS 26. Operating leases Leases as lessee Non-cancellable operating lease rentals are payable as follows: Less than one year Between one and five years Consolidated 2010 $000 2009 $000 245 71 316 231 271 502 During the reporting period $325,000 was recognised as an expense in the consolidated income statement in respect of operating leases (2009: $371,000). 27. Segment information The Group reports one segment, oil and gas exploration, development and production, to the chief operating decision maker, being the board of Carnarvon Petroleum Limited, in assessing performance and determining the allocation of resources. The financial information presented in the statement of cash flows is the same basis as that presented to chief operating decision maker. Basis of accounting for purposes of reporting by operating segments Unless otherwise stated, all amounts reported to the chief operating decision maker are determined in accordance with accounting policies that are consistent to those adopted in the annual financial statements of the Group. This is the first reporting period in which AASB 8 Operating Segments has been adopted. Comparative information has been restated to conform to the requirements of the standard. Revenue by geographical region Revenue, including interest income, is disclosed below based on the location of the external customer: Thailand Australia 2010 $000 65,275 37 65,312 2009 $000 101,440 214 101,654 The Group derives 100% of its sales revenue from one customer in the oil and gas exploration, development and production segment. Assets by geographical region The location of segment assets is disclosed below by geographical location of the assets: Thailand Australia Indonesia 2010 $000 94,488 23,792 1,447 119,727 2009 $000 91,985 6,833 - 98,818 Back to Contents Carnarvon Petroleum Limited 57 NOTES TO THE FINANCIAL STATEMENTS 28. Key management personnel disclosures (a) Key management personnel compensation Key management personnel compensation included in employee benefits expense, directors emoluments, share based payments and administration expenses are as follows: Short term employee benefits Post-employment benefits Share-based payments Consolidated 2010 ($) 2009 ($) 1,598,385 1,157,213 87,633 387,171 68,997 - 2,073,189 1,226,210 Information regarding individual directors and executives’ compensation and some equity instruments disclosures, as permitted by Corporations Regulation 2M.3.03, are provided in the Remuneration Report section of the directors’ report as set out on pages 20 to 25. Apart from the details disclosed in this note, no director has entered into a material contract with the Company or the Group since the end of the previous financial year and there were no material contracts involving directors’ interests existing at year end. (b) Options and rights over equity instruments The movement during the reporting period in the number of options over ordinary shares in the Company held, directly, indirectly or beneficially, by each key management person, including their related parties, is as follows: Directors PJ Leonhardt EP Jacobson NC Fearis KP Judge Directors PJ Leonhardt EP Jacobson NC Fearis KP Judge Held at 1 July 2009 Exercised Held at 30 June 2010 - - - - - - - - - - - - Held at 1 July 2008 3,000,000 4,000,000 2,000,000 1,000,000 Exercised (3,000,000) (4,000,000) (2,000,000) (1,000,000) Held at 30 June 2009 - - - - Options issued as compensation vest immediately. During the financial year there was no forfeiture or vesting of options issued in previous periods. There were no options on issue that were still to vest at the end of the reporting period. 58 2010 Annual Report Back to Contents NOTES TO THE FINANCIAL STATEMENTS 28. Key management personnel disclosures (continued) (c) Loans to key management personnel and their related parties Details of loans to key management personnel and their related parties, which are all interest free loans with limited recourse security over the plan shares provided in accordance with the Company’s Employee Share Plan (“ESP”), are set out below. The loans to directors were made in 2006 in lieu of normal remuneration at a time the Company had no full time employees and limited cash resources. Balance 1 July 2009 ($) Balance 30 June 2010 ($) Highest balance in period ($) Loaned in period ($) Repaid in period ($) 270,000 540,000 253,100 81,065 - 270,000 540,000 357,500 70,100 750,000 270,000 540,000 357,500 81,065 750,000 - - 104,400 - 750,000 Balance 1 July 2008 ($) Balance 30 June 2009 ($) Highest balance in period ($) Loaned in period ($) 270,000 540,000 314,100 81,065 270,000 540,000 253,100 81,065 270,000 540,000 314,100 81,065 - - - - - - - 10,965 - Repaid in period ($) - - 61,000 - Directors PJ Leonhardt EP Jacobson Executives PP Huizenga RA Anderson AC Cook Directors PJ Leonhardt EP Jacobson Executives PP Huizenga RA Anderson Details regarding the aggregate of loans, all of which are interest-free, made by the Group to key management personnel and their related parties, and the number of individuals in each group, are as follows: 2010 2009 Opening balance ($) Closing balance ($) Number in group at 30 June 1,144,165 1,205,165 1,630,100 1,144,165 5 4 Mr Cook joined the Company on 2 November 2009 and was classified as a key management person on that date. Mr Anderson is no longer is a key management personnel effective 31 May 2010. (d) Other key management personnel transactions Amounts payable to key management personnel or their related parties at reporting date in respect of outstanding director and consulting fees and expenses are as follows: Current Trade and other payables Consolidated 2010 $000 16 2009 $000 52 Back to Contents Carnarvon Petroleum Limited 59 NOTES TO THE FINANCIAL STATEMENTS 28. Key management personnel disclosures (continued) (e) Movements in shares The movement during the reporting period in the number of ordinary shares in Carnarvon Petroleum Limited held, directly, indirectly or beneficially, by each key management person, including their related parties, is as follows: Held at 1 July 2009 Net acquired/ (sold) Award under Employee Share Plan Received on exercise of options Held at 30 June 2010 17,000,000 30,917,335 8,400,000 - 120,000 - 10,932,855 (4,000,000) - - - - 1,600,000 1,485,000 - 50,000 (523,000) 169,839 200,000 - 1,425,000 - - - - - - - 17,000,000 31,037,335 8,400,000 6,932,855 1,850,000 962,000 1,594,839 Held at 1 July 2008 Net acquired/ (sold) Award under Employee Share Plan Received on exercise of options Held at 30 June 2009 14,900,000 28,613,793 6,316,186 (900,000) (1,696,458) 83,814 15,568,596 (5,635,741) 2,100,000 3,104,441 (500,000) (1,619,441) - - - - - - 3,000,000 4,000,000 2,000,000 1,000,000 17,000,000 30,917,335 8,400,000 10,932,855 - - 1,600,000 1,485,000 Directors PJ Leonhardt EP Jacobson NC Fearis KP Judge Executives PP Huizenga RA Anderson AC Cook Directors PJ Leonhardt EP Jacobson NC Fearis KP Judge Executives PP Huizenga RA Anderson Shares allotted under the ESP were funded by interest-free loans with a limited recourse security over the plan shares and subject to the detailed rules of the ESP. In accordance with AASB 2 the issue of shares under the ESP is accounted for using the Black-Scholes model, and their valuation assumptions are set out in Note 24. Information regarding individual directors’ and executives’ compensation, including company loans used to finance the purchase of the ESP shares, is provided in the Remuneration Report section of the directors’ report as set out on pages 20 to 25. 60 2010 Annual Report Back to Contents NOTES TO THE FINANCIAL STATEMENTS 29. Non-key management personnel disclosures Identity of related parties The Group has a related party relationship with its controlled entities (see Note 30), joint venture assets (see Note 16), and with its key management personnel (see Note 28). 30. Consolidated entities Name Company Carnarvon Petroleum Ltd Controlled entities Carnarvon Thailand Ltd Lassoc Pty Ltd SRL Exploration Pty Ltd Carnarvon Petroleum (Indonesia) Pty Ltd Carnarvon (NZ) Pty Ltd Country of Incorporation 2010 2009 Ownership interest British Virgin Islands Australia Australia Australia New Zealand 100% 100% 100% 100% 100% 100% 100% 100% 100% - Investments in controlled entities are measured at cost in the financial statements of the Company. 31. Subsequent events On July 5 2010 Carnarvon (NZ) Pty Limited, a wholly owned subsidiary of Carnarvon Petroleum Ltd, farmed into PEP38524, offshore Taranaki Basin in New Zealand. Carnarvon contributed towards the cost of the Tuatara-1 exploration well to earn a 10% participating equity interest from AWE New Zealand Pty Ltd. On 14 July 2010 the Company farmed out a proportion of its interest in the WA-399-P exploration permit to Apache Energy Limited and Jacka Resources Limited. In consideration Apache will undertake at its sole cost, a 3D seismic survey, which will fulfil the Year 2 and 3 work program obligations. In consideration for the farmout to Jacka, Jacka paid Carnarvon $350,000. Following completion of the respective farm in obligations, the Company will have a 13% interest in the permit. No other matters or circumstance has arisen since 30 June 2010 that in the opinion of the directors has significantly affected, or may significantly affect in future financial years: (i) The Group’s operations; or (ii) The results of those operations; or (iii) The Group’s state of affairs Back to Contents Carnarvon Petroleum Limited 61 NOTES TO THE FINANCIAL STATEMENTS 32. Financial risk management The Group’s activities expose it to market risk (including currency risk, commodity price risk and interest rate risk), credit risk and liquidity risk. This note presents qualitative and quantitative information about the Group’s exposure to each of the above risks, their objectives, policies and procedures for managing risk, and the management of capital. The Board of Directors has overall responsibility for the establishment and oversight of the risk management framework. The Group’s overall risk management approach focuses on the unpredictability of financial markets and seeks to minimize the potential adverse effects on the financial performance of the Group. The Group does not currently use derivative financial instruments to hedge financial risk exposures and therefore it is exposed to daily movements in the international oil prices, exchange rates, and interest rates. The Group uses various methods to measure different types of risk to which it is exposed. These methods include sensitivity analysis in the case of interest rate, foreign exchange, and commodity price risk and ageing analysis for credit risk. The Board’s policy is to maintain a strong capital base so as to maintain investor, creditor, and market confidence and to sustain future development of the business. Given the stage of the Group’s development there are no formal targets set for return on capital. There were no changes to the Group’s approach to capital management during the year. Neither the Company nor any of its controlled entities are subject to externally imposed capital requirements. (a) Commodity price risk Commodity price risk is the risk of financial loss resulting from movements in the price of the Group’s commodity output, being crude oil. Revenues under the Group’s contractual arrangements with its customer are denominated in US$, linked to the US$ prices of a basket of oil products, and paid in Thai Baht at the average monthly exchange rate. The Group does not currently use derivative financial instruments to hedge commodity price risk and therefore is exposed to daily movements in the prices of these oil products. Sensitivity analysis An increase of 10% in the achieved monthly oil sale price would have increased equity and pre tax profit and loss by the amounts shown below. This analysis assumes that all other variables other than royalties, which are directly related to oil revenues, remain constant. The analysis is performed on the same basis for 2009: 30 June 2010 30 June 2009 Consolidated Equity $000 Profit and loss $000 6,177 9,344 6,177 9,344 A decrease of 10% in the achieved monthly oil sale price would have decreased equity and pre tax profit and loss by the amounts shown below. This analysis assumes that all other variables other than royalties, which are directly related to oil revenues, remain constant. The analysis is performed on the same basis for 2009: 62 2010 Annual Report Back to Contents NOTES TO THE FINANCIAL STATEMENTS 32. Financial risk management (continued) 30 June 2010 30 June 2009 Consolidated Equity $000 Profit and loss $000 (6,177) (9,344) (6,177) (9,344) (b) Interest rate risk The significance and management of the risks to the Group is dependent on a number of factors including: Interest rates (current and forward) and the currencies that are held; • • Level of cash and liquid investments and their term; • Maturity dates of investments; • Proportion of investments that are fixed rate or floating rate. The Group manages the risk by maintaining an appropriate mix between fixed and floating rate investments. At the reporting date the effective interest rates of variable rate interest bearing financial instruments of the Group were as follows. There were no interest-bearing financial liabilities. Carrying amount (A$000) Financial assets – cash and cash equivalents Weighted average interest rate (%) Financial assets – cash and cash equivalents Sensitivity analysis All other financial assets are non interest bearing. Consolidated 2010 2009 30,255 31,099 0.3% 0.4% An increase in 50 basis points from the weighted average year-end interest rates at 30 June would have increased equity and profit and loss by the amounts shown below. This analysis assumes that all other variables remain constant. The analysis is performed on the same basis for 2009: 30 June 2010 30 June 2009 Consolidated Equity $000 Profit and loss $000 188 140 188 140 Back to Contents Carnarvon Petroleum Limited 63 NOTES TO THE FINANCIAL STATEMENTS 32. Financial risk management (continued) A decrease in 50 basis points from the weighted average year-end interest rates at 30 June would have decreased equity and profit and loss by the amounts shown below. This analysis assumes that all other variables remain constant. The analysis is performed on the same basis for 2009: 30 June 2010 30 June 2009 Consolidated Equity $000 Profit and loss $000 (43) (47) (43) 47 (c) Credit risk Credit risk refers to the risk that a counter party will default on its contractual obligations resulting in a financial loss to the Group, and arises principally from the Group’s receivables from customers and cash deposits. The Group’s trade receivables at both June 2010 and June 2009 are all due from an entity located in Thailand and controlled by its government. This entity has an appropriate credit history with the Group. There were no receivables at 30 June 2010 or 30 June 2009 that were past due. Cash transactions are limited to financial institutions considered to have a suitable credit rating. Credit risk further arises in relation to financial guarantees given to certain parties, refer to Note 23. Exposure to credit risk is considered minimal but is monitored on an ongoing basis. The maximum exposure to credit risk is represented by the carrying amount of each financial asset in the balance sheet. 64 2010 Annual Report Back to Contents NOTES TO THE FINANCIAL STATEMENTS 32. Financial risk management (continued) The carrying amount of the Group’s financial assets represents the maximum credit exposure. The Group’s maximum exposure to credit risk at the reporting date was: Carrying amount: Cash and cash equivalents Trade and other receivables The aging of the Group’s trade receivables at reporting date was: Consolidated 2010 $000 2009 $000 30,255 7,780 38,035 31,099 11,904 43,003 Gross 2010 $000 Impairment 2010 $000 Gross 2009 $000 Impairment 2009 $000 Not past due 5,884 5,884 - - 7,218 7,218 - - Based on historical default rates, the Group believes that no impairment allowance is necessary in respect of trade receivables. (d) Currency risk Currency risk arises from sales, purchases, assets and liabilities that are denominated in a currency other than the functional currencies of the entities within the Group, being the A$, THB and US$. The Group operates predominantly in Thailand and is exposed to currency risk arising from various foreign currency exposures, mainly with respect to the US$ and Thai Baht (“THB”). The functional currency of its Thai operations changed from US$ to THB from 1 January 2009, primarily because the trend in the source currency of the majority of its costs from US$ to THB was not considered temporary. Cash receipts from the Thai operations, which comprise 100% of the Group revenues, are received in Thai Baht. The majority of the Group’s payments, including Thai SRB and income tax, are also payable in THB which effectively creates a natural hedge. The Company’s foreign exchange risk predominantly resides in its US$ loan to one of its controlled entities. The Group does not currently use derivative financial instruments to hedge foreign currency risk and therefore is exposed to daily movements in exchange rates. However, the Group intends to maintain sufficient THB cash balances to meet its THB obligations, in particular its SRB and income tax liabilities. Back to Contents Carnarvon Petroleum Limited 65 NOTES TO THE FINANCIAL STATEMENTS 32. Financial risk management (continued) The Group’s exposure to foreign currency risk at balance date was as follows, based on carrying amounts. Consolidated 2010 Cash and cash equivalents Trade and other receivables Trade payables and accruals SRB and income tax provisions Gross balance sheet exposure Consolidated 2009 Cash and cash equivalents Trade and other receivables Trade payables and accruals SRB and income tax provisions Gross balance sheet exposure THB A$000 USD A$000 6,878 5,884 (4,082) (8,337) 343 27,405 8,208 (5,304) (8,778) 21,531 16,333 - (16) - 16,317 48 - (754) - (706) The following significant exchange rates applied during the year: AUD to: 1 Thai baht 1 USD (d) Currency risk (continued) Sensitivity analysis Average rate Reporting date spot rate 2010 0.034 1.14 2009 0.040 1.36 2010 0.036 1.17 2009 0.037 1.24 A 10% strengthening of the AUD against the THB for the 12 months to 30 June 2010, and against the US$ for the 6 months to 31 December 2008 and against the THB for the 6 months to 30 June 2009, reflecting the change in functional currency of the Phetchabun Basin Joint Venture from 1 January 2009, would have decreased equity and pre tax profit and loss by the amounts shown below. This analysis assumes that all other variables, in particular interest rates and the exchange rate between the Thai Baht and USD, remain constant: 30 June 2010 THB 30 June 2009 THB and USD Consolidated Equity $000 Profit and loss $000 (10,389) (3,167) (7,752) (5,077) 66 2010 Annual Report Back to Contents NOTES TO THE FINANCIAL STATEMENTS 32. Financial risk management (continued) A 10% weakening of the AUD against the THB for the 12 months to 30 June 2010, and against the US$ for the 6 months to 31 December 2008 and against the THB for the 6 months to 30 June 2009, reflecting the change in functional currency of the Phetchabun Basin Joint Venture from 1 January 2009, would have increased equity and pre tax profit and loss by the amounts shown below. This analysis assumes that all other variables, in particular interest rates and the exchange rate between the Thai Baht and USD, remain constant: 30 June 2010 THB 30 June 2009 THB and USD Consolidated Equity $000 Profit and loss $000 12,675 3,746 9,412 6,206 (e) Fair values The fair values of financial assets and financial liabilities, together with their carrying amounts shown in the balance sheet, are as follows: Consolidated Loans and receivables Cash and cash equivalents Trade and other payables Carrying amount 2010 $000 7,780 30,255 (5,621) 32,414 Fair Value 2010 $000 7,780 30,255 (5,621) 32,414 Carrying amount 2009 $000 11,904 31,099 (6,901) 36,102 Fair Value 2009 $000 11,904 31,099 (6,901) 36,102 The basis for determining fair values is disclosed in Note 3(i). (f) Liquidity risk Liquidity risk is the risk that the Group will not be able to meet its financial obligations as and when they fall due. The Group’s approach to managing this risk is to ensure, as far as possible, that it will always have sufficient liquidity to meet its liabilities when due under a range of financial conditions. The net cashflows arising from its Thai assets are considered to generate sufficient working capital to adequately address this risk. The Group currently does not have any available lines of credit. Back to Contents Carnarvon Petroleum Limited 67 NOTES TO THE FINANCIAL STATEMENTS 32. Financial risk management (continued) The following are the contractual maturities of financial liabilities, including estimated interest payments and excluding the impact of any netting agreements: Consolidated 2010 Non-derivative financial liabilities Trade and other payables SRB and income tax provisions Consolidated 2009 Non-derivative financial liabilities Trade and other payables SRB and income tax provisions 33. Parent Information Carrying amount $000 Contractual cashflows $000 6 months or less $000 6 to 12 months $000 5,621 8,337 13,958 5,621 8,337 13,958 5,621 6,165 11,786 6,901 8,778 15,679 6,901 8,778 6,901 5,656 15,679 12,557 - 2,172 2,172 - 3,122 3,122 The following information has been extracted from the books and records of the parent and has been prepared in accordance with the accounting standards: Balance Sheet Current Assets Non-current assets Total assets Current liabilities Non-current liabilities Total liabilities Equity Issued Capital Accumulated losses Reserves Total equity Statement of comprehensive income Total profit / (loss) Total comprehensive income 2010 $000 2009 $000 23,717 9,439 33,156 418 - 418 68,240 (37,340) 1,838 32,738 6,525 12,309 18,834 1,066 - 1,066 68,090 (51,453) 1,131 17,768 14,011 (1,023) 14,011 (1,023) 68 2010 Annual Report Back to Contents NOTES TO THE FINANCIAL STATEMENTS 33. Parent Information (continued Parent Contingencies The Company has provided a cash bond of US$450,000 to the Department of Mineral Fuels in Thailand in respect of its obligations for its 50% interest in the L20/50 concession in Thailand. The bond is secured by a cash deposit of US$450,000 held with Company’s Australian bank. The Company and its joint venture partner, who has provided a similar guarantee to the Department of Mineral Fuels, have signed a Cross Deed of Indemnity in respect of their respective rights and interests.This restricted cash held by the banks as security for these bonds and guarantees is classified under “trade and other receivables”. In accordance with normal petroleum industry practice, the Group has entered into joint ventures and farmin agreements with other parties for the purpose of exploring and developing its petroleum permit interests. If a party to a joint venture defaults and does not contribute its share of joint venture obligations, then the other joint venturers are liable to meet those obligations. In this event, the interest in the permit held by the defaulting party may be redistributed to the remaining joint venturers. Parent 2010 $000 2009 $000 Parent capital and other commitments (a) Joint venture commitments Capital commitments of the Group to joint venture assets: Within one year 4,864 2,264 (b) Exploration expenditure commitments Due to the nature of the Company's operations in exploring and evaluating areas of interest it is necessary to incur expenditure in order to retain the Company’s present permit interests. Expenditure commitments on exploration permits can be reduced by selective relinquishment of exploration tenure, by the renegotiation of expenditure commitments, or by farming out portions of the Company's equity. Exploration expenditure commitments forecast but not provided for in the financial statements are as follows: Less than one year Between one and five years (c) Capital expenditure commitments Data licence commitments Non-cancellable operating lease rentals are payable as follows: Less than one year Between one and five years 5,500 4,500 10,000 4,100 1,700 5,800 230 126 149 14 163 163 - 163 Back to Contents Carnarvon Petroleum Limited 69 NOTES TO THE FINANCIAL STATEMENTS 34. Prior period error The year ended 30 June 2009 financial statements included a deferred tax liability of $8,964,000 and current income tax liability of $3,521,000 in respect of the Group’s interest in the Phetchabun Basin Joint Venture (“Joint Venture”) in Thailand, of which the Group is non-operator. The calculation of these liabilities include as an input the tax written down value of Joint Venture expenditure and associated tax depreciation. In February 2010 the Company was advised by the Joint Venture operator that there was an error in the calculation of the tax written down value of Joint Venture expenditure and tax depreciation as at and for the 6 months ending 30 June 2009. As a result the consolidated financial statements for the year ended 30 June 2009 require restatement as follows: Balance Sheet: Income tax provision Current liabilities Deferred tax liability Total non-current liabilities Total liabilities Net assets Accumulated profits Total equity Statement of Comprehensive Income: Income tax expense Net profit from continuing operations Net profit attributable to members of the Company Basic and diluted earnings per share from continuing operations Understated by Understated by Understated by Understated by Understated by Overstated by Overstated by Overstated by Understated by Overstated by Overstated by $000 2,135 2,135 5,552 5,552 7,687 7,687 7,687 7,687 7,687 7,687 7,687 Cents per share Previously stated 5.4 Restated 4.3 The 30 June 2009 comparatives in these financial statements have been restated to reflect the above. 70 2010 Annual Report Back to Contents DIRECTORS’ DECLARATION (1) In the opinion of the directors of Carnarvon Petroleum Limited: (a) the financial statements and notes of the Group set out on pages 29 to 70 are in accordance with the Corporations Act 2001, including: (i) giving a true and fair view of the Group’s financial position as at 30 June 2010 and of its performance, as represented by the results of its operations and its cash flows, for the financial year ended on that date; and (ii) complying with Australian Accounting Standards (including the Australian Accounting Interpretations) and the Corporations Regulations 2001; and (b) the financial statements comply with International Financial Reporting Standards as set out in Note 2; and (c) the remuneration disclosures that are contained in the Remuneration Report in the Directors Report comply with Australian Accounting Standard AASB 124 Related Party Disclosures, the Corporations Act 2001 and the Corporations Regulations 2001; and (d) there are reasonable grounds to believe that the Company will be able to pay its debts as and when they become due and payable. (2) This declaration has been made after receiving the declarations required to be made to the directors in accordance with section 295A of the Corporations Act 2001 for the financial period ending 30 June 2010. Signed in accordance with a resolution of the directors. PJ Leonhardt Director Perth, 26 August 2010 Back to Contents Carnarvon Petroleum Limited 71 INDEPENDENT AUDIT REPORT 72 2010 Annual Report Back to Contents INDEPENDENT AUDIT REPORT Back to Contents Carnarvon Petroleum Limited 73 CORPORATE GOVERNANCE STATEMENT Introduction The Company's directors are fully cognisant of the Corporate Governance Principles and Best Practice Recommendations published by the ASX Corporate Governance Council (“CGC”) and have adopted those recommendations where they are appropriate to the Company's circumstances. However, a number of those principles and recommendations are directed towards listed companies considerably larger than Carnarvon, whose circumstances and requirements accordingly differ markedly from the Company's. For example, the nature of the Company's operations and its low direct employee count mean that a number of the board committees and other governance structures recommended by the CGC are not only unnecessary in Carnarvon's case, but the effort and expense required to establish and maintain them would, in the directors' view, be an unjustified diversion of shareholders' funds. Carnarvon's directors are aware that according to one school of thought listed companies will be rated by the investment community according to their compliance with the CGC's Best Practice Recommendations. However, in the directors' view that approach is not soundly based, particularly where unquestioning compliance with the recommendations would produce marginal or no benefit to shareholders. In discharging its functions Carnarvon's board of directors receives competent legal and other professional advice. Based on that advice the board is satisfied that, notwithstanding non-compliance with the Best Practice Recommendations (to the extent noted below), the Company's governance structures are appropriate for its circumstances and the board acts at all times in the best interests of the Company and its shareholders. The following additional information about the Company's corporate governance practices is set out on the Company's website at www.carnarvon.com.au: • Corporate governance disclosures and explanations; • Statement of Board and management functions; • Composition of the Board and new appointments; • Committees of the Board; • Summary of code of conduct for directors; • Summary of policy on securities trading; • Audit Committee Charter; • Summary of policy and procedures for compliance with ASX Listing Rule disclosure requirements; • Summary of arrangements regarding communication with and participation of shareholders; • Summary of Company's risk management policy; and • Corporate code of conduct. Skills, experience, expertise and term of office of each director A profile of each director containing the applicable information is set out in the directors' report. Statement concerning availability of independent professional advice If a director considers it necessary to obtain independent professional advice to properly discharge the responsibility of his/ her office as a director then, provided the director first obtains approval for incurring such expense from the chairman, the Company will pay the reasonable expenses associated with obtaining such advice. 74 2010 Annual Report Back to Contents CORPORATE GOVERNANCE STATEMENT Explanations for departures from best practice recommendations From 1 July 2009 to 30 June 2010 (the “Reporting Period”) the Company complied with each of the Essential Corporate Governance Principles (Note 1 below) and the corresponding Best Practice Recommendations (Note 2 below) as published by the ASX Corporate Governance Council ("ASX Principles and Recommendations"), other than in relation to the matters specified below: Principle Reference Recommendation Reference 2 2.4 Notification of Departure Explanation for Departure A separate Nomination Committee has not been formed. The Board considers that the Company is not currently of a size to justify the formation of a Nomination Committee. The Board as a whole undertakes the process of reviewing the skills base and experience of existing directors to enable identification or attributes required in new directors. Where appropriate independent consultants are engaged to identify possible new candidates for the Board. Notes (1) A copy of the Ten Essential Corporate Governance Principles is set out on the Company’s website under the section entitled "Corporate Governance". (2) A copy of the Best Practice Recommendations is set out on the Company’s website under the section entitled "Corporate Governance". Existence and terms of any schemes for retirement benefits for non-executive directors The Company does not have any terms or schemes relating to retirement benefits for non-executive directors. Company’s remuneration policies The Company’s remuneration policies are set out in the Remuneration Report on pages 20 to 25. The Company has separate remuneration policies for executive and non-executive directors. Non-executive directors receive a fixed fee and, when appropriate, share options or participation in the Employee Share Scheme. Executive directors receive a salary or fee and, when appropriate, shares, share options, or participation in the Employee Share Scheme. Material business risks Management has reported to the Board as to the effectiveness of the Company’s management of its material business risks. Performance evaluation of the Board, its committees and senior executives The Board reviews and evaluates the performance of the Board and its committees, which involves consideration of all the Board’s key areas of responsibility. A performance evaluation of senior executives was undertaken during the year, in the case of the Chief Executive by the Board, and in all other cases by the Chief Executive Officer and the Chairman. Back to Contents Carnarvon Petroleum Limited 75 CORPORATE GOVERNANCE STATEMENT Identification of independent directors The Company’s independent directors are considered to be Peter Leonhardt, Neil Fearis, and Bill Foster. Neither of these directors was considered to have a material relationship with the Company or another group member during the Reporting Period as professional advisor, consultant, supplier, customer, or through any other contractual relationship, nor did they have any business or other relationship which could, or could reasonably be perceived to, materially interfere with the director’s ability to act in the best interests of the Company. The Board considers “material” in this context to be where any director-related business relationship represents the lesser of at least 5% of the Company’s or the director-related business’s revenue. Number of Audit Committee meetings and names of attendees The number of Audit Committee meetings and names of attendees is set out in the directors' report. Names and qualifications of Audit Committee members The names and qualifications of Audit Committee members are set out in the directors’ report. 76 2010 Annual Report Back to Contents ADDITIONAL SHAREHOLDER INFORMATION Additional information required by the ASX Limited (“ASX”) Listing Rules and not disclosed elsewhere in this report is set out below. a) Shareholdings as at 24 August 2010 Substantial shareholders There are no substantial shareholder notices lodged with the Company. Voting Rights The voting rights attaching to Ordinary Shares are governed by the Constitution. On a show of hands every person present who is a member or representative of a member shall have one vote and on a poll, every member present in person or by proxy or by attorney or duly authorised representative shall have one vote for each share held. No options have any voting rights. Twenty Largest Shareholders Name of Shareholder J P Morgan Nominees Australia Limited National Nominees Limited HSBC Custody Nominees (Australia) Limited ANZ Nominees Limited AMP Life Limited Mr Edward Patrick Jacobson Citicorp Nominees Pty Limited Macquarie Bank Limited (Metals & Energy Cap Div A/C) Pendomer Investments Pty Ltd Jacobson Geophysical Services Pty Ltd Mr Peter James Leonhardt Arne Investments Pty Ltd Geolyn Pty Ltd Mr Edward Patrick Jacobson Mr Gregory John Munyard + Mrs Maria Ann Munyard + Miss Carmen Helene Munyard Athol Steel Pty Ltd Cogent Nominees Pty Ltd Seawell Super Pty Ltd (Seawell S/F A/C) Arne Investments Pty Ltd Nefco Nominees Pty Ltd Distribution of equity security holders Size of Holding 1 1,001 5,001 10,001 100,001 to to to to 1,000 5,000 10,000 100,000 and over Number of shares 54,321,131 36,507,339 30,143,692 19,073,702 17,419,033 12,917,903 12,840,119 11,294,046 8,400,000 8,000,000 7,700,000 6,710,493 6,000,000 6,000,000 5,750,000 5,200,000 5,032,092 4,120,000 3,991,906 3,733,000 % held 7.91 5.32 4.39 2.78 2.54 1.88 1.87 1.64 1.22 1.16 1.12 0.98 0.87 0.87 0.84 0.76 0.73 0.60 0.58 0.54 265,154,456 38.61 Number of shareholders Number of fully paid shares 561 2,420 2,100 4,141 655 9,877 363,177 7,658,924 17,808,544 144,888,288 516,040,701 686,759,634 The number of shareholders holding less than a marketable parcel of ordinary shares is 704. Back to Contents Carnarvon Petroleum Limited 77 ADDITIONAL SHAREHOLDER INFORMATION b) Option holdings as at 24 August 2010 There were no share options on issue. c) On-market buyback There is no current on-market buyback. d) Schedule of permits Basin/country Joint Venture Partners Equity % Operator Permit SW1A Phetchabun / Thailand L33/43 Phetchabun / Thailand L44/43 Phetchabun / Thailand L20/50 Phitsanulok / Thailand L52/50 & L53/50 Surat-Khiensa / Thailand Rangkas PSC West Java / Indonesia Carnarvon Pan Orient Energy Carnarvon Pan Orient Energy Carnarvon Pan Orient Energy Carnarvon Sun Resources Carnarvon Pearl Oil Carnarvon Lundin Petroleum Tap Oil Pan Orient Energy Pan Orient Energy Pan Orient Energy Carnarvon Pearl Oil Lundin Petroleum 40% 60% 40% 60% 40% 60% 50% 50% 50% 50% 25% 51% 24% EP321 & EP407 Perth / Australia Carnarvon 2.5% ORRI Latent Petroleum WA-399-P Carnarvon / Australia WA-435-P, WA- 436-P, WA-437-P, WA-438-P Roebuck / Australia Carnarvon Apache Rialto Energy Jacka Carnarvon Finder Exploration 13% 60% 12% 15% 50% 50% Apache Finder Exploration WA-443-P Roebuck / Australia Carnarvon 100% Carnarvon 78 2010 Annual Report Back to Contents This page has been left blank intentionally Back to Contents Carnarvon Petroleum Limited 79 This page has been left blank intentionally 80 2010 Annual Report Back to Contents 

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