10-Q 1 edgdec10q.txt 1 SECURITIES AND EXCHANGE COMMISSION Washington, D. C. 20549 Form 10-Q ____________________ (Mark One) (X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended December 31, 2002 OR ( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to Commission file number 0-12757 TMBR/SHARP DRILLING, INC. (Exact name of registrant as specified in its charter) TEXAS 75-1835108 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 4607 WEST INDUSTRIAL BLVD. MIDLAND, TEXAS 79703 (Address of principal executive offices) (Zip Code) Registrant's telephone number (including area code) (915) 699-5050 Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No At February 7, 2003, 5,453,686 shares of the issuer's common stock, $.10 par value, were outstanding. 2 TMBR/SHARP DRILLING, INC. FORM 10-Q REPORT INDEX Page No. Part I. Financial Information (Unaudited) Item 1. Financial Statements Balance Sheets, December 31, 2002 and March 31, 2002 . . . . . . . . . . . . . . . . . . . . 3 Statements of Operations, Three Months Ended December 31, 2002 and 2001 . . . . . . . . . . . 5 Statements of Operations, Nine Months Ended December 31, 2002 and 2001 . . . . . . . . . . . 7 Statements of Stockholders' Equity . . . . . . . . . . . . . . . . . . . . . . . . 9 Statements of Cash Flows, Nine Months Ended December 31, 2002 and 2001 .. . . . . . . . . . 10 Notes to Financial Statements. . . . . . . . . . . . . . 11 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations. . . . . . . . . . 17 Item 3. Quantitative and Qualitative Disclosures About Market Risk. . . . . . . . . . . . . . . . . . . 23 Item 4. Controls and Procedures. . . . . . . . . . . . . . . . . 24 Part II. Other Information Item 1. Legal Proceedings. . . . . . . . . . . . . . . . . . . . 24 Item 6. Exhibits and Reports on Form 8-K . . . . . . . . . . . . 25 -2- 3 PART ONE - FINANCIAL INFORMATION (UNAUDITED) Item 1. FINANCIAL STATEMENTS TMBR/SHARP DRILLING, INC. BALANCE SHEETS December 31, 2002 (Unaudited) and March 31, 2002 (In thousands, except per share data) December 31, 2002 March 31, ASSETS (Unaudited) 2002 ------ ------------- ----------- Current assets: Cash and cash equivalents $ 3,865 $ 3,258 Marketable securities -- 97 Trade receivables, net of allowance for doubtful accounts of $1,401 on both December 31 and March 31, 2002 9,698 11,011 Insurance Receivable 934 -- Inventories 154 162 Deposits 614 346 Other 1,181 1,018 -------- -------- Total current assets 16,446 15,892 -------- -------- Property and equipment, at cost: Drilling equipment 63,288 61,370 Oil and gas properties, based on successful efforts accounting 39,165 34,616 Other property and equipment 3,866 3,531 -------- -------- 106,319 99,517 Less accumulated depreciation, depletion and amortization (77,455) (72,947) -------- -------- Net property and equipment 28,864 26,570 -------- -------- Other assets 173 173 -------- -------- Total assets $ 45,483 $ 42,635 ======== ======== See accompanying notes to financial statements. -3- 4 TMBR/SHARP DRILLING, INC. BALANCE SHEETS December 31, 2002 (Unaudited) and March 31, 2002 (In thousands, except per share data) December 31, 2002 March 31, LIABILITIES AND STOCKHOLDERS' EQUITY (Unaudited) 2002 ------------------------------------ ------------ ----------- Current liabilities: Trade payables $ 3,999 $ 5,193 Other 2,026 1,610 -------- -------- Total current liabilities 6,025 6,803 -------- -------- Contingencies Stockholders' equity: Common stock, $0.10 par value Authorized, 50,000,000 shares; issued 6,707,925 and 6,667,725 shares at December 31, and March 31, 2002, respectively 671 667 Additional paid-in capital 71,898 71,492 Accumulated deficit (32,961) (36,187) Accumulated other comprehensive income -- 10 Treasury stock-common, 1,268,739 shares at December 31, and March 31, 2002, at cost (150) (150) -------- -------- Total stockholders' equity 39,458 35,832 -------- -------- Total liabilities and stockholders' equity $ 45,483 $ 42,635 ======== ======== See accompanying notes to financial statements. -4- 5 TMBR/SHARP DRILLING, INC. STATEMENTS OF OPERATIONS Three months ended December 31, 2002 and 2001 (Unaudited) (In thousands, except per share data) Three months ended December 31, ----------------------------- 2002 2001 ----------- ----------- Revenues: Contract drilling $ 7,663 $ 10,829 Oil and gas 1,340 1,281 ----------- ----------- Total revenues 9,003 12,110 ----------- ----------- Operating costs and expenses: Contract drilling 5,214 6,368 Oil and gas production 553 511 Dry holes and abandonments 75 447 Exploration -- 56 Depreciation, depletion and amortization 1,694 1,685 Writedown of oil and gas properties -- 100 General and administrative 991 850 ----------- ----------- Total operating costs and expenses 8,527 10,017 ----------- ----------- Operating income 476 2,093 ----------- ----------- Other income (expense): Interest, net 6 10 Gain on sales of assets 351 7 Other, net (21) 576 ----------- ----------- Total other income (expense) 336 593 ----------- ----------- Net income before income tax provision 812 2,686 Provision for income taxes -- (62) ----------- ----------- Net income $ 812 $ 2,624 =========== =========== See accompanying notes to financial statements. -5- 6 TMBR/SHARP DRILLING, INC. STATEMENTS OF OPERATIONS Three months ended December 31, 2002 and 2001 (Unaudited) (In thousands, except per share data) Three months ended December 31, ----------------------------- 2002 2001 ----------- ----------- Net income per common share: Basic $ .15 $ .50 Diluted .14 .48 =========== =========== Weighted average number of common shares outstanding: Basic 5,430,628 5,299,803 Diluted 5,660,531 5,517,645 =========== =========== See accompanying notes to financial statements. -6- 7 TMBR/SHARP DRILLING, INC. STATEMENTS OF OPERATIONS Nine months ended December 31, 2002 and 2001 (Unaudited) (In thousands, except per share data) Nine months ended December 31, ----------------------------- 2002 2001 ----------- ----------- Revenues: Contract drilling $ 23,443 $ 38,254 Oil and gas 4,735 4,442 ----------- ----------- Total revenues 28,178 42,696 ----------- ----------- Operating costs and expenses: Contract drilling 15,763 20,808 Oil and gas production 1,401 1,391 Dry holes and abandonments 420 968 Exploration 22 59 Depreciation, depletion and amortization 5,121 4,971 Writedown of oil and gas properties - 100 General and administrative 2,673 2,120 ----------- ----------- Total operating costs and expenses 25,400 30,417 ----------- ----------- Operating income 2,778 12,279 ----------- ----------- Other income (expense): Interest, net 26 (1) Gain on sales of assets 416 531 Other, net 6 662 ----------- ----------- Total other income (expense) 448 1,192 ----------- ----------- Net income before income tax provision 3,226 13,471 Provision for income taxes -- (276) ----------- ----------- Net income $ 3,226 $ 13,195 =========== =========== See accompanying notes to financial statements. -7- 8 TMBR/SHARP DRILLING, INC. STATEMENTS OF OPERATIONS Nine months ended December 31, 2002 and 2001 (Unaudited) (In thousands, except per share data) Nine months ended December 31, ----------------------------- 2002 2001 ----------- ----------- Net income per common share: Basic $ .60 $ 2.56 Diluted .57 2.44 =========== =========== Weighted average number of common shares outstanding: Basic 5,417,936 5,164,677 Diluted 5,673,024 5,413,121 =========== =========== See accompanying notes to financial statements. -8- 9 TMBR/SHARP DRILLING, INC. STATEMENTS OF STOCKHOLDERS EQUITY Nine Months Ended December 31, 2002 (Unaudited) and Year Ended March 31, 2002 (Audited) (In thousands)

Accumulated Common Stock Additional Other Treasury Stock Total -------------- Paid-In Accumulated Comprehensive -------------- Stockholders' Shares Amount Capital Deficit Income (Loss) Shares Amount Equity ------ ------ ------- ----------- ------------- ------ ------ ------------ Balance, March 31, 2002 6,668 $ 667 $ 71,492 $(36,187) $ 10 1,269 $(150) $ 35,832 Exercise of Stock Options 1530 23 93142 -- -- -- -- 95145 Issuance of Stock 710 --1 ~~100~~264 -- -- -- -- ~~100~~265 Net Income -- -- -- 23,~~414~~226 -- -- -- 23,~~414~~226 Other comprehensive loss, net of tax Unrealized loss on marketable equity securities -- -- -- -- (10) -- -- (10) --------- Comprehensive Income -- -- -- -- -- -- -- 23,~~404~~216 --------- Balance, ~~September~~December 3031, 2002 6,~~690~~708 $ ~~669~~671 $ 71,~~685~~898 $(3332,~~773~~961) $ -- 1,269 $(150) $ 3839,~~431~~458 ===== ====== ======== ========= ===== ====== ====== =========

See accompanying notes to financial statements. -9- 10 TMBR/SHARP DRILLING, INC. STATEMENTS OF CASH FLOWS For the nine months ended December 31, 2002 and 2001 (Unaudited) (In thousands) Nine months ended December 31, ------------------------------ 2002 2001 ------------ ------------ Cash flows from operating activities: Net income $ 3,226 $ 13,195 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation, depletion and amortization 5,121 4,971 Dry holes and abandonments 420 968 Writedown of properties - 100 Gain on sales of assets (416) (531) Changes in assets and liabilities: Trade receivables 1,313 2,064 Inventories and other assets (264) (160) Trade payables (1,194) (1,447) Accrued interest and other liabilities 416 1 -------- -------- Total adjustments 5,396 5,966 -------- -------- Net cash provided by operating activities 8,622 19,161 Cash flows from investing activities: Additions to property and equipment (10,203) (15,452) Proceeds from sales of property and equipment 674 724 Insurance proceeds 1,104 -- -------- -------- Net cash required by investing activities (8,425) (14,728) Cash flows from financing activities: Repayments of Bank Borrowings -- (1,080) Proceeds from exercise of stock options 145 -- Issuance of common stock 265 1,263 -------- -------- Net cash provided by financing activities 410 183 -------- -------- Net increase in cash and cash equivalents 607 4,616 Cash and cash equivalents at beginning of period 3,258 301 -------- -------- Cash and cash equivalents at end of period $ 3,865 $ 4,917 ======== ======== See accompanying notes to financial statements. -10- 11 TMBR/SHARP DRILLING, INC. NOTES TO FINANCIAL STATEMENTS The amounts presented in the balance sheet as of March 31, 2002 were derived from the Company's audited financial statements included in its Form 10-K Report filed for the year then ended. The notes to such statements are incorporated herein by reference. (1) Management's Representation In the opinion of management, the accompanying unaudited financial statements contain all adjustments (all of which are of a normal recurring nature) necessary to present fairly the Company's financial position as of December 31, 2002 and March 31, 2002, the results of operations for the three and nine months ended December 31, 2002 and 2001, and the cash flows for the nine month periods ended December 31, 2002 and 2001. While the Company believes that the disclosures presented are adequate to make the information not misleading, it is suggested that these condensed financial statements be read in conjunction with the financial statements and the related notes in the Company's Annual Report on Form 10-K for the fiscal year ended March 31, 2002. (2) Summary of Significant Accounting Policies Marketable Securities Under SFAS No. 115, "Accounting for Certain Investments in Debt and Equity Securities", marketable securities, such as those owned by the Company, are classified as available-for-sale securities and are to be reported at market value, with unrealized gains and losses, net of income taxes, excluded from earnings and reported as a separate component of stockholders' equity. These securities were sold during the quarter ended September 30, 2002 and a gain of approximately $12,000 was recognized. Inventories Inventories consist primarily of casing and tubing. The Company values its inventories at the lower of cost or estimated net recoverable value using the specific identification method. Property and Equipment Drilling equipment is depreciated on a units-of-production method based on the monthly utilization of the equipment. Drilling equipment which is not utilized during a month is depreciated using a minimum utilization rate of approximately twenty-five percent. Estimated useful lives range from four to eight years. Other property and equipment is depreciated using the straight- line method of depreciation with estimated useful lives of three to seven years. -11- 12 Oil and gas properties are accounted for using the successful efforts method. Accordingly, the costs incurred to acquire property (proved and unproved), all development costs and successful exploratory costs are capitalized, whereas the costs of unsuccessful exploratory wells are expensed. Geological and geophysical costs, including seismic costs, are charged to expense when incurred. In cases where the Company provides contract drilling services related to oil and gas properties in which it has an ownership interest, the Company's proportionate share of costs related to these properties is capitalized as stated above, net of the Company's working interest share of profits from the related drilling contracts. Capitalized costs of undeveloped properties, which are not depleted until proved reserves can be associated with the properties, are periodically reviewed for possible impairment. Depletion, depreciation and amortization of capitalized oil and gas property costs was provided using the units-of-production method based on estimated proved or proved developed oil and gas reserves, as applicable, of the respective property units. Major renewals and betterments are capitalized in the appropriate property accounts while the cost of repairs and maintenance is charged to operating expense in the period incurred. For assets sold or otherwise retired, the cost and related accumulated depreciation amounts are removed from the accounts and any resulting gain or loss is recognized. Net Income Per Common Share The Company accounts for earnings per share in accordance with Statement of Financial Accounting Standards No. 128, "Earnings per Share" ("SFAS 128"). SFAS 128 replaced the calculation of primary and fully diluted earnings per share with basic and diluted earnings per share. Unlike primary earnings per share, basic earnings per share excludes any dilutive effects of options, warrants and convertible securities. Diluted earnings per share is very similar to the previously reported fully diluted earnings per share. All earnings per share amounts for all periods have been presented, and when appropriate, restated to conform to the SFAS 128 requirements. -12- 13

For the ~~Six~~Nine Months Ended ~~September~~December 3031, 2002 2001 --------------------------- -------------------------- Per Per Share Share Income Shares Amount Income Shares Amount ------ ------ ------- ------ ------ ------ Income before extraordinary item and accounting change $23,~~414~~226 $1013,~~572~~195 Basic EPS Income available to common stockholders 23,~~414~~226 5,~~411~~417,~~555~~936 $ .4560 1013,~~572~~195 5,~~096~~164,~~744~~677 $2.0756 Effect of Dilutive Securities Stock Options ~~225~~255,~~096~~088 ~~381~~248,~~245~~444 ----- --------- ---- ------ --------- ---- Diluted EPS Income available to common stockholders + assumed conversions $23,~~414~~226 5,~~636~~673,~~651~~024 $ .4357 $1013,~~572~~195 5,~~477~~413,~~989~~121 $12.9344 ===== ========= ==== ====== ========= ====

For the Three Months Ended ~~September~~December 3031, 2002 2001 --------------------------- -------------------------- Per Per Share Share Income Shares Amount Income Shares Amount ------ ------ ------- ------ ------ ------ Income before extraordinary item and accounting change $~~1,343~~ 812 $ 52,~~256~~624 Basic EPS Income available to common stockholders ~~1,343~~812 5,~~420~~430,~~143~~628 $ .2515 52,~~256~~624 5,~~104~~229,~~238~~803 $1 .0350 Effect of Dilutive Securities Stock Options ~~221~~229,~~786~~903 ~~382~~287,~~574~~842 ----- --------- ---- ----- --------- ---- Diluted EPS Income available to common stockholders + assumed conversions $~~1,343~~ 812 5,~~641~~660,~~921~~531 $ .2414 $ 52,~~256~~624 5,~~486~~517,~~812~~645 $ .9648 ===== ========= ==== ===== ========= ====

Reclassifications Certain reclassifications have been made to the December 31, 2001 financial statements to conform to the December 31, 2002 presentation. -13- 14 (3) Debt Line of Credit In June, 2000, the Company entered into a second amended and restated loan agreement with Wells Fargo Bank Texas, N.A. The loan agreement provides for a $5.0 million revolving line of credit facility, of which $5.0 million was available at December 31, 2002. The facility is secured by the Company's drilling rigs and related equipment, accounts receivable and inventory. Borrowings under the revolving facility bear interest at an annual rate equal to the bank's base rate, or 4.25% at December 31, 2002. Accrued and unpaid interest on outstanding principal is payable monthly. The loan facility matures on August 31, 2003, at which time all outstanding principal and accrued and unpaid interest will be due in full. At December 31, 2002, no amounts were outstanding under the loan facility. The principal amount outstanding at any one time may not exceed the lesser of $5.0 million or one- third of the borrowing base amount. The borrowing base amount is the sum of the Company's accounts receivable and the value of its inventory, drilling rigs, drill pipe and related equipment. The borrowing base amount is redetermined quarterly by the Company, except that the bank may, in its discretion, make its own determination of the borrowing base which will be the controlling borrowing base amount. At December 31, 2002, the borrowing base amount was approximately $38 million. In addition to certain customary affirmative covenants, the loan agreement contains restrictions with respect to (i) incurring additional debt, (ii) incurring or permitting liens to exist on any of the Company's property, assets or revenues, (iii) declaring or paying dividends or other distributions on its capital stock (or acquiring any of its capital stock), (iv) issuing capital stock, (v) entering into transactions with affiliates, (vi) disposing of assets, and (vii) certain other matters. The loan agreement also contains financial covenants with respect to minimum tangible net worth, the current ratio and the ratio of total liabilities to net worth. (4) Stockholders' Equity 1994 Stock Option Plan In July 1994, the Company adopted its 1994 Stock Option Plan (the "1994 Plan") which authorized the grant of options to purchase up to 750,000 shares of the Company's common stock. These options may be issued as either incentive or nonqualified stock options. The 1994 Plan provides that options may be granted to key employees (including officers and directors who are also key employees) for various terms at a price not less than the fair market value of the shares on the date of grant. The 1994 Plan was ratified and approved by the stockholders at the Company's annual meeting of stockholders held on August 30, 1994. In September 1998, options outstanding under the plan were amended to reduce the option price to $4.125 per share. On September 3, 1996, the Company granted 465,000 shares of nonqualified stock options to key employees under the 1994 Plan. All of the nonqualified stock options granted on September 3, 1996 are earned and exercisable as of May 7, 1997. On September 1, 1998, the Company granted 240,000 shares of incentive stock options at a price of $4.125 to key employees under the 1994 Plan. On March 9, 2002, all of the shares were earned and exercisable. The following sets forth certain information concerning these options. -14- 15 Number of Option Shares Exercise Price Underlying ------------------- Options Per Share Total ---------- ------------------- Outstanding March 31, 2002 250,400 $4.125-4.5375 $ 1,035,375 Exercised (5,400) 4.125 (22,275 Forfeited (6,000) 4.5375 (27,225) ------ ------------ --------- Outstanding December 31, 2002 239,000 $4.125-4.5375 $ 985,875 ======= ============ ========= 1998 Stock Option Plan In September 1998, the Company adopted, subject to stockholder approval, its 1998 Stock Option Plan (the "1998 Plan") which authorizes the grant of options to purchase up to 750,000 shares of the Company's common stock. These options may be issued as either incentive or nonqualified stock options. The 1998 Plan provides that options may be granted to key employees or directors at a price not less than the fair market value of the shares on the date of grant. The Company granted options to purchase 50,000 shares of common stock to two outside directors under the 1998 Plan. These nonqualified options were granted on September 1, 1998, subject to stockholder approval, at $4.125 per share and became exercisable on August 31, 1999, the date on which the stockholders of the Company approved and adopted the 1998 Plan. The fair market value of the Company's common stock on August 31, 1999 was $6.063 per share. As a result, the Company recognized approximately $97,000 in compensation expense related to these nonqualified options during the year ended March 31, 2000. On June 13, 2001, the Company granted options to purchase 40,000 shares of common stock to four directors under the 1998 Plan. The nonqualified options were granted at an exercise price of $17.18 per share which represented the fair market value on the date of the grant. On October 10, 2001, the Company granted options to purchase 292,000 shares of common stock to key employees under the 1998 Plan. These incentive options were granted at an exercise price of $11.50 per share which represented the fair market value on the date of the grant. These options become exercisable over a two year period ending October 10, 2003. On November 20, 2002, the Company granted options to purchase 98,000 shares of common stock to non-officer key employees under the 1998 Plan. These incentive options were granted at an exercise price of $15.93 per share which represented the fair market value on the date of the grant. These options were earned and exercisable on the date of the grant. At December 31, 2002, options to purchase 399,000 shares were outstanding under the 1998 Plan. The following sets forth certain information concerning these options. -15- 16 Number of Option Shares Exercise Price Underlying ------------------- Options Per Share Total ---------- ------------------- Outstanding March 31, 2002 332,000 $11.50-17.18 $ 4,045,200 Exercised (20,000) 11.50 (230,000) Forfeited (11,000) 11.50 (126,500) Granted 98,000 15.93 1,561,140 ------ ------------ --------- Outstanding December 31, 2002 399,000 $11.50-17.18 $ 5,249,840 ======= ============ ========= Directors' Fee Stock Plan On June 14, 2001, the Company adopted the Directors' Fee Stock Plan (the "Plan") which authorizes the issuance of up to 25,000 shares of the Company's common stock. The Plan provides that 300 shares of the Company's common stock will be issued to each Non-employee Director for each Board of Directors' meeting attended and 100 shares of common stock to each Non- employee Director for each committee meeting attended. During the nine months ended December 31, 2002, 9,800 shares were issued under the Plan and the Company recognized approximately $147,000 as Directors' compensation expense. In connection with a private placement completed in February 1997, the Company issued a warrant to purchase 36,250 common shares with an exercise price of $13.20 per share. This warrant became exercisable on February 17, 1998 and expired unexercised on February 17, 2002. (5) Contingencies The Company is a defendant in various lawsuits generally incidental to its business. In addition, in August 2001, the Equal Employment Opportunity Commission ("EEOC") filed suit in the El Paso Division of the United States District Court for the Western District of Texas. The suit involved a claim of hostile work environment made on behalf of four former employees. In May, 2002, the Court transferred the cause to the Midland/Odessa Division. The employees on behalf of whom the Equal Employment Opportunity Commission originally brought suit and one additional employee intervened in the litigation on an individual basis. It was expected that these employees would file additional state common law causes of action arising out of the allegations of hostile work environment. The EEOC was seeking back pay, front pay, pecuniary losses and punitive damages of an unspecified amount. The intervenors were seeking unspecified damages. The Company disputed the claims made by the Equal Employment Opportunity Commission and the anticipated claims by the intervenors and intended to defend the lawsuits -16- 17 vigorously. On October 4, 2002, these lawsuits, including the lawsuits brought by the EEOC and the five intervenors, were settled within the Company's insurance policy limits. On May 8, 2002, the Company experienced an uncontrolled flow ("flow") on the Leiman #1 well in Loving County, Texas. The Company has a 25% working interest in this well. The uncontrolled flow was encountered while running a 7 " liner in the well bore. The flow was ultimately controlled with no injury to personnel or damage to the Company's rig or related equipment. The planned total depth of the well was approximately 22,000 feet but the uncontrolled flow was experienced at a depth of 19,115 feet. The well was not salvageable and has been plugged and abandoned. Costs associated with re-gaining control of the well and plugging and abandonment were approximately $1.5 million. The cost to re-drill the well to a depth of 19,115 feet is estimated to be $5.6 million. The Leiman #1R well was spudded on July 8, 2002. The Company has successfully drilled the Leiman #1R well to a final TD of 21,024 feet. A 5" liner was run and cemented in the well. Completion operations are ongoing. The Company has submitted claims for reimbursement from its insurance carrier, St. Paul's Surplus Lines, who has acknowledged coverage under both the control of well and re-drill/replacement well provisions under the Company's Operators Extra Expense insurance. An insurance receivable has been recorded for the Company's portion of the costs of the original Leiman #1 well. During the quarter ended December 31, 2002, the Company received approximately $626,000 for its working interest portion of insurance proceeds. The Company's working interest portion of the costs associated with re-drilling this well has been capitalized. Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Some statements contained in this Form 10-Q report are "forward-looking statements". All statements other than statements of historical facts included in this report, including, without limitation, statements regarding planned capital expenditures, the availability of capital resources to fund capital expenditures, estimates of proved reserves, the Company's financial position, business strategy and other plans and objectives for future operations, are forward-looking statements. Forward-looking statements can be identified by the use of forward-looking terminology like "may," "will," "expect," "intend,""anticipate," "estimate," "continue," "present value," "future" or "reserves" or other variations of comparable terminology. The Company believes the assumptions and expectations reflected in these forward- looking statements are reasonable. However, no assurance can be given that the Company's expectations will prove to be correct or that it will be able to take any actions that are presently planned. All of these statements involve assumptions of future events and risks and uncertainties. Risks and uncertainties associated with forward-looking statements include, but are not limited to: fluctuations in prices of oil and gas; -17- 18 future capital requirements and availability of financing; risks associated with the drilling of wells; competition; general economic conditions; governmental regulations; and receipt of amounts owed to the Company by purchasers of its production and counterparties to its hedging contracts. For these and other reasons, actual results may differ materially from those projected or implied. Undue reliance should not be placed on forward- looking statements and projections of any future results should not be based on such statements. Before investing in the Company's common stock, one should be aware that there are various risks associated with an investment. Some of these risk factors are described on page 18 in the Company's Form 10-K dated March 31, 2002. Critical Accounting Policies Contract Drilling Operations Drilling revenues from footage and daywork contracts are recognized as work is performed utilizing the percentage-of-completion method. Costs under footage and daywork contracts are recognized in the period they are incurred. The Company utilizes the completed contract method to recognize drilling revenues and expenses relating to turnkey contracts. Expected losses on all in-process contracts are recognized in the period the loss can reasonably be determined. Drilling equipment is depreciated on a units-of-production method based on the monthly utilization of the equipment. Drilling equipment which is not utilized during a month is depreciated using a minimum utilization rate of approximately 25%. Estimated useful lives range from four to eight years. Other property and equipment is depreciated using the straight-line method of depreciation with estimated useful lives of three to seven years. The contract drilling industry is currently experiencing a decrease in demand and downward pressure on prices for contract drilling services due to the uncertainty surrounding oil and gas prices. The Company has been and will continue to be affected by oil and gas industry conditions but cannot predict either the future level of demand for its contract drilling services or future conditions in the contract drilling industry. The contract drilling industry remains highly competitive. The Company believes it owns a sufficient number of drilling rigs to remain competitive within its areas of operation. In addition, the Company believes it competes favorably with respect to the depth capabilities of its rigs, the experience level of its -18- 19 personnel, its reputation and its relationship with existing customers. However, the Company's operating results will continue to be directly affected by the level of drilling activity in the Company's service areas. Oil and Gas Operations The Company's oil and gas producing activities are accounted for using the successful efforts method of accounting. Accordingly, the Company capitalizes all costs incurred to acquire oil and gas properties (proved and unproved), all development costs, and the costs of successful exploratory wells. The costs of unsuccessful exploratory wells are expensed. Geological and geophysical costs, including seismic costs, are charged to expense when incurred. In cases where the Company provides contract drilling for oil and gas properties in which it has an ownership interest, the Company's proportionate share of costs is capitalized as stated above, net of its working-interest share of profits from the related drilling contracts. Capitalized costs of undeveloped properties, which are not depleted until proved reserves can be associated with the properties, are periodically reviewed for possible impairment. For properties with proved or proved developed oil and gas reserves, depletion, depreciation and amortization of capitalized costs is calculated by applying the units-of-production method to the estimated amount of such reserves. The Company assesses the need for an impairment of capitalized costs of oil and gas properties on a property-by property basis when impairment indicators are present. Impairment indicators include, but are not limited to, significant reductions in commodity prices, production or reserve volumes or unsuccessful drilling or workover activities. If an impairment is indicated based on undiscounted expected future cash flows, then it is recognized to the extent that net capitalized costs exceed discounted future cash flows. Management's estimate of future cash flows is based on their estimate of reserves and prices. Decreases in management's estimates of future prices or reserve volumes or actual results of drilling or workover activities could adversely impact management's estimate of future cash flows and result in future impairments of the carrying value of oil and gas properties. Recent Accounting Pronouncements In July 2001, the Financial Accounting Standards Board ("FASB") issued Statements of Financial Accounting Standards No. 141 "Business Combinations" and No. 142 "Goodwill and Other Intangible Assets". Statement 141 requires that all business combinations initiated after June 30, 2001 be accounted for under the purchase method and Statement 142 requires that goodwill no longer be amortized to earnings, but instead be reviewed for impairment. The adoption of this statement had no impact on the Company's financial statements. Also, the FASB has issued SFAS No. 143, "Accounting for Asset Retirement Obligations" which establishes requirements for the accounting of removal- -19- 20 type costs associated with asset retirements. The standard is effective for fiscal years beginning after June 15, 2002, with earlier application encouraged. The Company will be required to record the fair value of asset retirement obligations as a liability with a corresponding increase to the cost of the asset. Any estimated salvage value will be considered in the calculation of depletion, depreciation and amortization. The Company is currently assessing the impact on its financial statements. On October 3, 2001, the FASB issued SFAS No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets." This pronouncement supercedes SFAS 121, "Accounting for the Impairment of Long-Lived Assets and for Long- Lived Assets to Be Disposed" and eliminates the requirement for SFAS 121 to allocate goodwill to long-lived assets to be tested for impairment. The provisions of this statement are effective for financial statements issued for fiscal years beginning after December 15, 2001, and interim periods within those fiscal years. The Company adopted this statement on April 1, 2002. The adoption of this statement had no immediate impact on the Company but will change how the Company assesses impairment of long-lived assets and may result in discontinued operations presentation for future sales of certain assets. In April 2002, the FASB issued Statement No. 145 "Recission of FASB Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical Corrections." Most significantly, this Statement eliminates the requirement under Statement 4 to aggregate all gains and losses from extinguishment of debt, and if material, be classified as an extraordinary item. As a result, gains and losses from extinguishment of debt should be classified as extraordinary items only if they meet the criteria in Opinion 30. Applying the provisions of Opinion 30 will distinguish transactions that are part of an entity's recurring operations from those that are unusual or infrequent or that meet the criteria for classification as an extraordinary item. There is no current impact to the Company as it has no outstanding debt. In July 2002, the FASB issued Statement No. 146, "Accounting for Costs Associated with Exit or Disposal Activities". The Statement requires companies to recognize costs associated with exit or disposal activities when they are incurred rather than at the date of a commitment to an exit or disposal plan. Statement 146 is to be applied prospectively to exit or disposal activities initiated after December 31, 2002. The Company expects no impact to our financial statements as we do not anticipate exiting or disposing of any of our activities. In December 2002, the FASB issued Statement No. 148 "Accounting for Stock-Based Compensation - Transition and Disclosure". The statement amends Statement No. 123 "Accounting for Stock-Based Compensation" to provide alternative methods of transition for an entity that voluntarily changes to the fair value based method of accounting for stock-based employee compensation. It also amends the disclosure requirements the Company must make in annual and interim financial statements regarding its method of accounting for stock-based compensation. This statement is effective for financial statements for fiscal years ending prior to December 15, 2002 with -20- 21 early application of the disclosure requirements encouraged. The expected impact to the Company will only be in the form of disclosure as the Company does not intend to change its method of accounting for stock-based compensation. Results of Operations Total revenues were $9,003,000 and $28,178,000 for the three and nine months ended December 31, 2002 which represents a 26% and 34% decrease, respectively, from the same periods in the prior year. Operating expenses as a percent of revenues were 95% and 90% for the three and nine months ended December 31, 2002 versus 83% and 71% for the same periods of the prior year. The operating results were negatively affected by a decrease in demand for the Company's contract drilling services which resulted in a decrease in rig utilization rates. The Company has also experienced a decrease in the average price received for its contract drilling services. Rig utilization rates were 52% for both the three and nine months ended December 31, 2002 compared to 63% and 71% for the three and nine months ended December 31, 2001. Oil and gas revenues increased by approximately 5% and 7%, for the three and nine months ended December 31, 2002 when compared to the same periods of the prior year, respectively. The following table sets forth certain information relating to crude oil and natural gas produced: Three months ended Nine months ended December 31, December 31, ---------------------- ------------------ 2002 2001 2002 2001 ------- ------- ------ ------- Quantities Produced ------------------- Oil (bbls) 29,775 34,952 111,770 95,801 Gas (mcf) 213,141 190,703 745,223 536,740 Average Price ------------- Oil (bbls) $ 26.67 $ 21.82 $ 24.60 $ 24.38 Gas (mcf) $ 3.24 $ 2.72 $ 2.86 $ 3.93 Average Daily Production ------------------------ Oil (bbls) 324 380 406 348 Gas (mcf) 2,317 2,073 2,710 1,952 Oil and gas production expenses increased approximately 1% and 8% for the three and nine months ended December 31, 2002 when compared to the same -21- 22 period in 2001. These increases are primarily attributable to a general rise in the cost of services and supplies which are included in production expenses. General and administrative expenses increased primarily as a result of an increase in insurance expenses and directors' fees. Net working capital was $10.4 million at December 31, 2002 compared to $9.1 million at March 31, 2002. Income Taxes At March 31, 2002, the Company had approximately $47.2 million of unused net operating loss ("NOL") carryforwards for tax purposes. Use of these carryforwards is dependent upon the Company's ability to generate taxable earnings in future periods. These carryforwards began to expire in fiscal 2000 and approximately $5.7 million will expire in 2002. The Company's ability to utilize its NOL carryforwards may be substantially limited in the future under the Internal Revenue Code of 1986, as amended (the "Code"). If the Company experiences an ownership change under applicable provisions of the Code, the carryforward would be limited to an annual amount determined by specified interest rates and other variables. The Company does not believe an ownership change has occurred to date. The effective tax rates differ from the statutory tax rate of 34% primarily due to the utilization of NOLs. Tax expense is generally limited to alternative minimum tax. The Company utilizes an asset and liability approach for financial accounting and reporting for income taxes. The Company has a deferred tax asset primarily due to its NOL carryforwards. The Company has provided a valuation allowance for the entire balance of deferred tax assets as it is more likely than not that the deferred tax asset will not be realized. Liquidity and Capital Resources In June, 2000, the Company entered into a second amended and restated loan agreement with Wells Fargo Bank Texas, N.A. The loan agreement provides for a $5.0 million revolving line of credit facility, of which $5.0 million was available at December 31, 2002. The facility is secured by the Company's drilling rigs and related equipment, accounts receivable and inventory. Borrowings under the revolving facility bear interest at an annual rate equal to the bank's base rate, or 4.25% at December 31, 2002. Accrued and unpaid interest on outstanding principal is payable monthly. The loan facility matures on August 31, 2003, at which time all outstanding principal and accrued and unpaid interest will be due in full. At December 31, 2002, no amounts were outstanding under the loan facility. The principal amount outstanding at any one time may not exceed the lesser of $5.0 million or one- third of the borrowing base amount. The borrowing base amount is the sum of the Company's accounts receivable and the value of its inventory, drilling rigs, drill pipe and related equipment. The borrowing base amount is redetermined quarterly by the Company, except that the bank may, in its -22- 23 discretion, make its own determination of the borrowing base which will be the controlling borrowing base amount. At December 31, 2002, the borrowing base amount was approximately $38 million. The Company may in the future have to reserve a trade receivable from one specific customer. At December 31, 2002, the customer owed the Company approximately $2.1 million, of which approximately $.9 million was over 90 days past due. Since the end of the quarter the customer has paid approximately $281,000 related to this receivable. Currently this receivable is not specifically reserved as the customer is making cash payments to the Company and collection efforts are ongoing. If our evaluation of this receivable changes in the future, the Company may have to reserve a portion or the total amount of this receivable. The Company anticipates that funds for its capital expenditures in fiscal 2003 will be available from a combination of sources, including (i) borrowings under the line of credit, (ii) funds raised through issuances of equity or debt securities in public or private transactions, and (iii) internally generated funds. Trends and Prices The contract drilling industry is currently experiencing decreased demand and decreasing prices for contract drilling services due to the instability of oil and gas prices. The Company will be affected by price fluctuations in the industry, but cannot predict either the future level of demand for its contract drilling services or future conditions in the contract drilling industry. In recent years, oil and gas prices have been extremely volatile. Prices are affected by market supply and demand factors as well as by actions of state and local agencies, the U.S. and foreign governments and international cartels. The Company has no way of accurately predicting the supply of and demand for oil and gas, domestic or international political events or the effects of any such factors on the prices received by the Company for its oil and gas. Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK The primary sources of market risk for the Company include fluctuations in commodity prices and interest rate fluctuations. At December 31, 2002, the Company had not entered into any hedge arrangements, commodity swap agreements, commodity futures, options or other similar agreements relating to crude oil and natural gas. Commodity Price Risk - The Company produces and sells crude oil, natural gas and natural gas liquids. As a result, its operating results are significantly affected by fluctuations in commodity prices caused by changing market forces. -23- 24 Historically, the Company has not entered into hedging arrangements for its oil and gas production and it does not have any delivery commitments. The Company may, in the future, attempt to reduce its exposure to the volatility of oil and gas prices by hedging a portion of its production. In a typical hedge transaction, the Company would have the right to receive from the counterparty to the hedge, the excess of the fixed price specified in the hedge over a floating price based on a market index, multiplied by the quantity hedge. If the floating price exceeds the fixed price, the Company would be required to pay the counterparty this difference multiplied by the quantity hedged. In this case, the Company would be required to pay the difference regardless of whether it had sufficient production to cover the quantities specified in the hedge. Significant reductions in production at times when the floating price exceeds the fixed price could require the Company to make payments under the hedge agreements even though such payments are not offset by sales of production. Hedging could also prevent the hedging party from receiving the full advantage of increases in oil and gas prices above the fixed amount specified in the hedge. Interest Rate Risk - At December 31, 2002 the Company had no borrowings outstanding under its loan agreement. However, when it does have outstanding borrowings, the Company's exposure to changes in interest rates primarily results from short term changes in its bank's prime rate. Item 4. Controls and Procedures On October 16, 2002, the Company supplemented its existing internal controls with the adoption and implementation of certain additional disclosure controls and procedures. The purpose of these additional disclosure controls and procedures is to help ensure that information the Company is required to disclose in reports that the Company files with the SEC is accumulated and communicated to management and recorded, processed, summarized and reported within the time periods prescribed by the SEC. The effectiveness of these disclosure controls and procedures has been evaluated by the Company's chief executive officer, Thomas C. Brown, and its chief financial officer, Patricia R. Elledge. Mr. Brown and Ms. Elledge have concluded that the Company's disclosure controls and procedures are effective for their intended purposes. As part of their evaluation, Mr. Brown and Ms. Elledge also determined that there were no significant changes in internal controls or other factors that could significantly affect internal controls after the date of their evaluation. No corrective actions were required to be taken with regard to significant deficiencies or material weaknesses. Following the signature page of this report, you will find certifications signed by Mr. Brown and Ms. Elledge. PART TWO - OTHER INFORMATION Item 1. Legal Proceedings The Company is a defendant in various lawsuits generally incidental to its business. In addition, in August 2001, the Equal Employment Opportunity Commission ("EEOC") filed suit in the El Paso Division of the United States District Court for the Western District of Texas. The suit involved a claim of hostile work environment made on behalf of four former employees. In May, 2002, the Court transferred the cause to the Midland/Odessa Division. The employees on behalf of whom the Equal Employment Opportunity Commission -24- 25 originally brought suit and one additional employee intervened in the litigation on an individual basis. It was expected that these employees would file additional state common law causes of action arising out of the allegations of hostile work environment. The EEOC was seeking back pay, front pay, pecuniary losses and punitive damages of an unspecified amount. The intervenors were seeking unspecified damages. The Company disputed the claims made by the Equal Employment Opportunity Commission and the anticipated claims by the intervenors and intended to defend the lawsuits vigorously. On October 4, 2002, these lawsuits, including the lawsuits brought by the EEOC and the five intervenors, were settled within the Company's insurance policy limits. Item 6. Exhibits and reports on Form 8-K. (a) Exhibits: 3.1 - Articles of Incorporation of the Company, as amended. (Incorporated by reference to exhibit 3.1 in Registrant's Annual Report on Form 10-K dated June 28, 1991) 3.2 - Bylaws of the Registrant, as amended. (Incorporated by reference to Exhibit 3.2 in Registrant's Annual Report on Form 10-K dated June 27, 1994) Executive Compensation Plans and Arrangements --------------------------------------------- (Exhibits 10.1 through and including Exhibit 10.24 constitute executive compensation plans and arrangements of the Registrant) Exhibit 10.1 - Incentive Stock Option Plan. (Incorporated by reference to Exhibit 10.3 in Registrant's Registration Statement on Form 10 as amended, effective October 9, 1984) Exhibit 10.2 - Nonqualified Stock Option Agreement dated August 29, 1990, between Thomas C. Brown and the Registrant. (Incorporated by reference to Exhibit 10.15 in Registrant's Annual Report on form 10-K dated June 25, 1993) Exhibit 10.3 - Nonqualified Stock Option Agreement dated August 30, 1988, between Joe G. Roper and the Registrant. (Incorporated by reference to Exhibit 10.17 in Registrant's Annual Report on Form 10-K dated June 25, 1993) Exhibit 10.4 - Incentive Stock Option Agreement dated November 16, 1993 between Joe G. Roper and the Registrant. (Incorporated by reference to Exhibit 10.5 in Registrant's Annual Report on Form 10- K dated June 27, 1994) Exhibit 10.5 - Incentive Stock Option Agreement dated December 4, 1992 between Patricia R. Elledge and the Registrant. (Incorporated by reference to Exhibit 10.20 in Registrant's Annual Report on Form 10-K dated June 25, 1993) -25- 26 Exhibit 10.6 - Incentive Stock Option Agreement dated December 4, 1992 between Don H. Lawson and the Registrant. (Incorporated by reference to Exhibit 10.21 in Registrant's Annual Report on Form 10-K dated June 25, 1993) Exhibit 10.7 - Incentive Stock Option Agreement dated November 16, 1993 between Don H. Lawson and the Registrant. (Incorporated by reference to Exhibit 10.10 in Registrant's Annual Report on Form 10-K dated June 27, 1994) Exhibit 10.8 - 1994 Stock Option Plan. (Incorporated by reference to Exhibit 10.10 in Registrant's Annual Report on Form 10-K dated June 28, 1995) Exhibit 10.9 - TMBR/Sharp Drilling, Inc. Employee Retirement Plan. (Incorporated by reference to Exhibit 10.11 in Registrant's Annual Report on Form 10-K dated June 28, 1995) Exhibit 10.10 - 1998 Stock Option Plan (Incorporated by reference to Exhibit 10.1 in Registrant's Quarterly Report on Form 10-Q dated November 12, 1998) Exhibit 10.11 - Incentive Stock Option Agreement dated September 1, 1998, between Don H. Lawson and the Registrant. (Incorporated by reference to Exhibit 10.18 in Registrant's Annual Report on Form 10-K dated June 29, 1999) Exhibit 10.12 - Incentive Stock Option Agreement dated September 1, 1998, between Jeffrey D. Phillips and the Registrant. (Incorporated by reference to Exhibit 10.19 in Registrant's Annual Report on Form 10-K dated June 29, 1999) Exhibit 10.13 - Incentive Stock Option Agreement dated September 1, 1998, between Patricia R. Elledge and the Registrant. (Incorporated by reference to Exhibit 10.20 in Registrant's Annual Report on Form 10-K dated June 29, 1999) Exhibit 10.14 - Incentive Stock Option Agreement dated September 1, 1998, between Joe G. Roper and the Registrant. (Incorporated by reference to Exhibit 10.21 in Registrant's Annual Report on Form 10-K dated June 29, 1999) Exhibit 10.15 - Incentive Stock Option Agreement dated September 1, 1998, between Thomas C. Brown and the Registrant. (Incorporated by reference to Exhibit 10.22 in Registrant's Annual Report on Form 10-K dated June 29, 1999) Exhibit 10.16 - First Amended and Restated Nonstatutory Stock Option Agreement dated September 1, 1998, between Patricia R. Elledge and the Registrant. (Incorporated by reference to Exhibit 10.23 in Registrant's Annual Report on Form 10-K dated June 29, 1999) -26- 27 Exhibit 10.17 - First Amended and Restated Nonstatutory Stock Option Agreement dated September 1, 1998, between Jeffrey D. Phillips and the Registrant. (Incorporated by reference to Exhibit 10.24 in Registrant's Annual Report on Form 10-K dated June 29, 1999) Exhibit 10.18 - First Amended and Restated Nonstatutory Stock Option Agreement dated September 1, 1998, between Joe G. Roper and the Registrant. (Incorporated by reference to Exhibit 10.25 in Registrant's Annual Report on Form 10-K dated June 29, 1999) Exhibit 10.19 - First Amended and Restated Nonstatutory Stock Option Agreement dated September 1, 1998, between Thomas C. Brown and the Registrant. (Incorporated by reference to Exhibit 10.26 in Registrant's Annual Report on Form 10-K dated June 29, 1999) Exhibit 10.20 - Directors' Fee Stock Plan (Incorporated by reference to Exhibit 10.20 of Registrant's Annual Report on Form 10-K dated June 15, 2001) Exhibit 10.21 - Retention Agreement, dated November 8, 2002, between Thomas C. Brown and the Registrant. (Incorporated by reference to Exhibit 10.21 of Registrant's Quarterly Report on Form 10-Q dated November 13, 2002) Exhibit 10.22 - Retention Agreement, dated November 8, 2002, between Jeffrey D. Phillips and the Registrant. (Incorporated by reference to Exhibit 10.22 of Registrant's Quarterly Report on Form 10-Q dated November 13, 2002) Exhibit 10.23 - Retention Agreement, dated November 8, 2002, between Patricia R. Elledge and the Registrant. (Incorporated by reference to Exhibit 10.23 of Registrant's Quarterly Report on Form 10-Q dated November 13, 2002) Exhibit 10.24 - Retention Agreement, dated November 8, 2002, between Don H. Lawson and the Registrant. (Incorporated by reference to Exhibit 10.24 of Registrant's Quarterly Report on Form 10-Q dated November 13, 2002) Exhibit 10.25 - Form of Stock Purchase Agreement, dated as of February 13, 1997, between the Registrant and the stockholders named therein (Incorporated by reference to Exhibit 10.1 in the Registrant's Registration Statement on Form S-3, No. 333-23391) Exhibit 10.26 - Second Amended and Restated Loan Agreement dated June 26, 2000 between Wells Fargo Bank, Texas N. A. and the Registrant. (Incorporated by reference to Exhibit 10.1 in Registrant's Quarterly Report on Form 10-Q dated August 9, 2000) Exhibit 99.1 - Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. -27- 28 Exhibit 99.2 - Certification of Principal Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. --------------------------------- (b) Reports on Form 8-K: No reports on Form 8-K were filed during the quarter ended December 31, 2002. -28- 29 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. TMBR/SHARP DRILLING, INC. February 12, 2003 By: /s/ Patricia R. Elledge ----------------- ------------------------- Date Patricia R. Elledge Controller/Treasurer (Ms. Elledge is the Chief Financial Officer and has been duly authorized to sign on behalf of the Registrant) -29- 30 CERTIFICATIONS I, Thomas C. Brown, certify that: 1. I have reviewed this quarterly report on Form 10-Q of TMBR/Sharp Drilling, Inc.; 2. Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report; 3. Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report; 4. The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have: a) Designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared; b) Evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the "Evaluation Date"); and c) Presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date; 5. The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent function): a) All significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and -30- 31 6. The registrant's other certifying officers and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. Date: February 12, 2003. /s/ Thomas C. Brown ---------------------------------------- Thomas C. Brown, Chief Executive Officer -31- 32 CERTIFICATIONS I, Patricia R. Elledge, certify that: 1. I have reviewed this quarterly report on Form 10-Q of TMBR/Sharp Drilling, Inc.; 2. Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report; 3. Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report; 4. The registrant's other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have: a) Designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared; b) Evaluated the effectiveness of the registrant's disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the "Evaluation Date"); and c) Presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date; 5. The registrant's other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant's auditors and the audit committee of registrant's board of directors (or persons performing the equivalent function): a) All significant deficiencies in the design or operation of internal controls which could adversely affect the registrant's ability to record, process, summarize and report financial data and have identified for the registrant's auditors any material weaknesses in internal controls; and b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls; and -32- 33 6. The registrant's other certifying officers and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses. Date: February 12, 2003. /s/ Patricia R. Elledge ------------------------------ Patricia R. Elledge, Principal Financial Officer -33- 34 INDEX TO EXHIBITS Description ----------- Exhibit 3.1 Articles of Incorporation of the Company, as amended. (Incorporated by reference to Exhibit 3.1 in Registrant's Annual Report on Form 10-K dated June 28, 1991) Exhibit 3.2 Bylaws of the Registrant, as amended. (Incorporated by reference to Exhibit 3.2 in Registrant's Annual Report on Form 10-K dated June 27, 1994) Executive Compensation Plans and Arrangements ---------------------------------------------- (Exhibits 10.1 through and including Exhibit 10.24 constitute executive compensation plans and arrangements of the Registrant) Exhibit 10.1 Incentive Stock Option Plan (Incorporated by reference to Exhibit 10.3 in Registrant's Registration Statement on Form 10, as amended, effective October 9, 1984) Exhibit 10.2 Nonqualified Stock Option Agreement dated August 29, 1990, between Thomas C. Brown and the Registrant. (Incorporated by reference to Exhibit 10.15 in Registrant's Annual Report on Form 10-K dated June 25, 1993) Exhibit 10.3 Nonqualified Stock Option Agreement dated August 30, 1988, between Joe G. Roper and the Registrant. (Incorporated by reference to Exhibit 10.17 in Registrant's Annual Report on Form 10-K dated June 25, 1993) Exhibit 10.4 Incentive Stock Option Agreement dated November 16, 1993 between Joe G. Roper and the Registrant. (Incorporated by reference to Exhibit 10.5 in Registrant's Annual Report on Form 10-K dated June 27, 1994) Exhibit 10.5 Incentive Stock Option Agreement dated December 4, 1992 between Patricia R. Elledge and the Registrant. (Incorporated by reference to Exhibit 10.20 in Registrant's Annual Report on Form 10-K dated June 25, 1993) Exhibit 10.6 Incentive Stock Option Agreement dated December 4, 1992 between Don H. Lawson and the Registrant. (Incorporated by reference to Exhibit 10.21 in Registrant's Annual Report on Form 10-K dated June 25, 1993) -34- 35 Exhibit 10.7 Incentive Stock Option Agreement dated November 16, 1993 between Don H. Lawson and the Registrant. (Incorporated by reference to Exhibit 10.10 in Registrant's Annual Report on Form 10-K dated June 27, 1994) Exhibit 10.8 1994 Stock Option Plan. (Incorporated by reference to Exhibit 10.10 in Registrant's Annual Report on Form 10-K dated June 28, 1995) Exhibit 10.9 TMBR/Sharp Drilling, Inc. Employee Retirement Plan. (Incorporated by reference to Exhibit 10.11 in Registrant's Annual Report on Form 10-K dated June 28, 1995) Exhibit 10.10 1998 Stock Option Plan (Incorporated by reference to Exhibit 10.1 in Registrant's Quarterly Report on Form 10-Q dated November 12, 1998) Exhibit 10.11 Incentive Stock Option Agreement dated September 1, 1998, between Don H. Lawson and the Registrant. (Incorporated by reference to Exhibit 10.18 in Registrant's Annual Report on Form 10-K dated June 29, 1999) Exhibit 10.12 Incentive Stock Option Agreement dated September 1, 1998, between Jeffrey D. Phillips and the Registrant. (Incorporated by reference to Exhibit 10.19 in Registrant's Annual Report on Form 10-K dated June 29, 1999) Exhibit 10.13 Incentive Stock Option Agreement dated September 1, 1998, between Patricia R. Elledge and the Registrant. (Incorporated by reference to Exhibit 10.20 in Registrant's Annual Report on Form 10-K dated June 29, 1999) Exhibit 10.14 Incentive Stock Option Agreement dated September 1, 1998, between Joe G. Roper and the Registrant. (Incorporated by reference to Exhibit 10.21 in Registrant's Annual Report on Form 10-K dated June 29, 1999) Exhibit 10.15 Incentive Stock Option Agreement dated September 1, 1998, between Thomas C. Brown and the Registrant. (Incorporated by reference to Exhibit 10.22 in Registrant's Annual Report on Form 10-K dated June 29, 1999) Exhibit 10.16 First Amended and Restated Nonstatutory Stock Option Agreement dated September 1, 1998, between Patricia R. Elledge and the Registrant. (Incorporated by reference to Exhibit 10.23 in Registrant's Annual Report on Form 10-K dated June 29, 1999) -35- 36 Exhibit 10.17 First Amended and Restated Nonstatutory Stock Option Agreement dated September 1, 1998, between Jeffrey D. Phillips and the Registrant. (Incorporated by reference to Exhibit 10.24 in Registrant's Annual Report on Form 10-K dated June 29, 1999) Exhibit 10.18 First Amended and Restated Nonstatutory Stock Option Agreement dated September 1, 1998, between Joe G. Roper and the Registrant. (Incorporated by reference to Exhibit 10.25 in Registrant's Annual Report on Form 10-K dated June 29, 1999) Exhibit 10.19 First Amended and Restated Nonstatutory Stock Option Agreement dated September 1, 1998, between Thomas C. Brown and the Registrant. (Incorporated by reference to Exhibit 10.26 in Registrant's Annual Report on Form 10-K dated June 29, 1999) Exhibit 10.20 Directors' Fee Stock Plan (Incorporated by reference to Exhibit 10.20 in Registrant's Annual Report on Form 10-K dated June 15, 2001) Exhibit 10.21 Retention Agreement, dated November 8, 2002, between Thomas C. Brown and the Registrant. (Incorporated by reference to Exhibit 10.21 in Registrant's Quarterly Report on Form 10-Q dated November 13, 2002) Exhibit 10.22 Retention Agreement, dated November 8, 2002, between Jeffrey D. Phillips and the Registrant. (Incorporated by reference to Exhibit 10.22 in Registrant's Quarterly Report on Form 10-Q dated November 13, 2002) Exhibit 10.23 Retention Agreement, dated November 8, 2002, between Patricia R. Elledge and the Registrant. (Incorporated by reference to Exhibit 10.23 in Registrant's Quarterly Report on Form 10-Q dated November 13, 2002) Exhibit 10.24 Retention Agreement, dated November 8, 2002, between Don H. Lawson and the Registrant. (Incorporated by reference to Exhibit 10.24 in Registrant's Quarterly Report on Form 10-Q dated November 13, 2002) Exhibit 10.25 Form of Stock Purchase Agreement, dated as of February 13, 1997, between the Registrant and the stockholders named therein (Incorporated by reference to Exhibit 10.1 in the Registrant's Registration Statement on Form S-3, No. 333-23391) Exhibit 10.26 Second Amended and Restated Loan Agreement dated June 26, 2000 between Wells Fargo Bank, Texas N. A. and the Registrant. (Incorporated by reference to Exhibit 10.1 in Registrant's Quarterly Report on Form 10-Q dated August 9,2000) -36- 37 Exhibit 99.1 Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. Exhibit 99.2 Certification of Principal Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. -37- 38 Exhibit 99.1 CERTIFICATION (Not filed pursuant to the Securities Exchange Act of 1934) Pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, the undersigned, Thomas C. Brown, the Chairman of the Board of Directors and Chief Executive Officer of TMBR/Sharp Drilling, Inc. (the "Company"), hereby certifies that the Quarterly Report on Form 10Q of the Company for the quarter ended December 31, 2002 fully complies with the periodic reporting requirements of the Securities Exchange Act of 1934, as amended, and the information contained in that Form 10Q Report fairly presents, in all material respects, the financial condition and results of operations of the Company. Dated: February 12, 2003 /s/ Thomas C. Brown --------------------------------------- Thomas C. Brown, Chairman of the Board of Directors and Chief Executive Officer -38- 39 Exhibit 99.2 CERTIFICATION (Not filed pursuant to the Securities Exchange Act of 1934) Pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, the undersigned, Patricia R. Elledge, the Chief Financial Officer of TMBR/Sharp Drilling, Inc. (the "Company"), hereby certifies that the Quarterly Report on Form 10Q of the Company for the quarter ended December 31, 2002 fully complies with the periodic reporting requirements of the Securities Exchange Act of 1934, as amended, and the information contained in that Form 10Q Report fairly presents, in all material respects, the financial condition and results of operations of the Company. Dated: February 12, 2003 /s/ Patricia R. Elledge ---------------------------------------- Patricia R. Elledge, Chief Financial Officer -39-

Votes Votes Cast Cast Votes Broker Name For Against Withheld Abstentions Non-Votes ---- ----- ------- -------- ----------- --------- Raymond E. Batchelor 4,487,719 17,931 -- -- -- Thomas C. Brown 4,487,530 18,120 -- -- -- Michael M. Cone 4,487,721 17,929 -- -- -- David N. Fitzgerald 4,487,673 17,977 -- -- -- James B. Taylor 4,487,710 17,940 -- -- --

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