UNITED STATES
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 |
|
|
|
|
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2007 |
||
|
|
|
Or |
||
|
|
|
o |
TRANSITION
REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES |
|
FOR THE TRANSITION PERIOD FROM TO
COMMISSION FILE NUMBER 1-3551
EQUITABLE RESOURCES, INC.
(Exact name of registrant as specified in its charter)
PENNSYLVANIA |
|
25-0464690 |
(State or other jurisdiction of incorporation or organization) |
|
(IRS Employer Identification No.) |
225 North Shore Drive, Pittsburgh, Pennsylvania 15212
(Address of principal executive offices, including zip code)
Registrants telephone number, including area code: (412) 553-5700
(Former name, former address and former fiscal year, if changed since last report)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of accelerated filer and large accelerated filer in Rule 12b2 of the Exchange Act.
Large Accelerated Filer x Accelerated Filer o Non-Accelerated Filer o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No x
Indicate the number of shares outstanding of each of the issuers classes of common stock, as of the latest practicable date.
|
|
Outstanding at |
|
|
|
Common stock, no par value |
|
121,663,368 shares |
EQUITABLE RESOURCES, INC. AND SUBSIDIARIES
Index
2
Statements of Consolidated Income (Unaudited)
|
|
Three Months Ended |
|
Nine Months Ended |
|
||||||||
|
|
2007 |
|
2006 |
|
2007 |
|
2006 |
|
||||
|
|
(Thousands, except per share amounts) |
|
||||||||||
Operating revenues |
|
$ |
226,806 |
|
$ |
232,801 |
|
$ |
976,592 |
|
$ |
914,127 |
|
Cost of sales |
|
68,722 |
|
72,155 |
|
405,687 |
|
367,085 |
|
||||
Net operating revenues |
|
158,084 |
|
160,646 |
|
570,905 |
|
547,042 |
|
||||
|
|
|
|
|
|
|
|
|
|
||||
Operating expenses: |
|
|
|
|
|
|
|
|
|
||||
Operation and maintenance |
|
25,602 |
|
25,282 |
|
78,614 |
|
74,252 |
|
||||
Production |
|
16,009 |
|
16,176 |
|
48,646 |
|
47,965 |
|
||||
Selling, general and administrative |
|
32,198 |
|
32,904 |
|
143,978 |
|
90,659 |
|
||||
Office consolidation impairment charges |
|
|
|
|
|
|
|
(2,908 |
) |
||||
Depreciation, depletion and amortization |
|
26,907 |
|
25,149 |
|
81,926 |
|
74,163 |
|
||||
Total operating expenses |
|
100,716 |
|
99,511 |
|
353,164 |
|
284,131 |
|
||||
|
|
|
|
|
|
|
|
|
|
||||
Operating income |
|
57,368 |
|
61,135 |
|
217,741 |
|
262,911 |
|
||||
|
|
|
|
|
|
|
|
|
|
||||
Gain on sale of assets, net |
|
|
|
|
|
119,401 |
|
|
|
||||
|
|
|
|
|
|
|
|
|
|
||||
Other income |
|
2,204 |
|
489 |
|
5,530 |
|
886 |
|
||||
|
|
|
|
|
|
|
|
|
|
||||
Equity in earnings of nonconsolidated investments |
|
1,423 |
|
70 |
|
2,198 |
|
120 |
|
||||
|
|
|
|
|
|
|
|
|
|
||||
Interest expense |
|
11,557 |
|
12,779 |
|
35,604 |
|
36,128 |
|
||||
|
|
|
|
|
|
|
|
|
|
||||
Income before income taxes |
|
49,438 |
|
48,915 |
|
309,266 |
|
227,789 |
|
||||
Income taxes |
|
16,513 |
|
17,120 |
|
112,380 |
|
79,726 |
|
||||
Net income |
|
$ |
32,925 |
|
$ |
31,795 |
|
$ |
196,886 |
|
$ |
148,063 |
|
|
|
|
|
|
|
|
|
|
|
||||
Earnings per share of common stock: |
|
|
|
|
|
|
|
|
|
||||
Basic: |
|
|
|
|
|
|
|
|
|
||||
Weighted average common shares outstanding |
|
121,380 |
|
120,172 |
|
121,319 |
|
119,929 |
|
||||
Net income |
|
$ |
0.27 |
|
$ |
0.26 |
|
$ |
1.62 |
|
$ |
1.23 |
|
Diluted: |
|
|
|
|
|
|
|
|
|
||||
Weighted average common shares outstanding |
|
122,838 |
|
122,103 |
|
122,818 |
|
121,961 |
|
||||
Net income |
|
$ |
0.27 |
|
$ |
0.26 |
|
$ |
1.60 |
|
$ |
1.21 |
|
Dividends declared per common share |
|
$ |
0.22 |
|
$ |
0.22 |
|
$ |
0.66 |
|
$ |
0.65 |
|
The accompanying notes are an integral part of these Condensed Consolidated Financial Statements.
3
EQUITABLE RESOURCES, INC. AND SUBSIDIARIES
Statements of Condensed Consolidated Cash Flows (Unaudited)
|
|
Nine Months Ended |
|
|||||
|
|
2007 |
|
2006 |
|
|||
|
|
(Thousands) |
|
|||||
Cash flows from operating activities: |
|
|
|
|
|
|||
Net income |
|
$ |
196,886 |
|
$ |
148,063 |
|
|
Adjustments to reconcile net income to cash provided by operating activities: |
|
|
|
|
|
|||
Provision for losses on accounts receivable |
|
(1,608 |
) |
1,504 |
|
|||
Depreciation, depletion, and amortization |
|
81,926 |
|
74,163 |
|
|||
Gain on sale of assets, net |
|
(119,401 |
) |
|
|
|||
Other income |
|
(5,530 |
) |
(886 |
) |
|||
Office consolidation impairment charges |
|
|
|
(2,908 |
) |
|||
Deferred income taxes |
|
71,385 |
|
15,435 |
|
|||
Excess tax benefits from share-based payment arrangements |
|
(4,447 |
) |
(6,090 |
) |
|||
Decrease in accounts receivable and unbilled revenues |
|
126,758 |
|
176,283 |
|
|||
(Increase) decrease in margin deposits |
|
(7,259 |
) |
317,574 |
|
|||
Increase in inventory |
|
(29,465 |
) |
(33,845 |
) |
|||
Decrease in accounts payable |
|
(30,382 |
) |
(62,439 |
) |
|||
Change in derivative instruments at fair value, net |
|
18,898 |
|
(30,991 |
) |
|||
Changes in other assets and liabilities |
|
44,091 |
|
(46,293 |
) |
|||
Net cash provided by operating activities |
|
341,852 |
|
549,570 |
|
|||
|
|
|
|
|
|
|||
Cash flows from investing activities: |
|
|
|
|
|
|||
Capital expenditures |
|
(532,664 |
) |
(252,604 |
) |
|||
Proceeds from sale of assets |
|
184,576 |
|
|
|
|||
Restricted cash from sale of assets, net |
|
(68,256 |
) |
|
|
|||
Proceeds from contribution of assets |
|
23,262 |
|
|
|
|||
Proceeds from sale of available-for-sale securities |
|
7,295 |
|
|
|
|||
Investment in available-for-sale securities |
|
(9,709 |
) |
(2,314 |
) |
|||
Proceeds from sale of discontinued operations, net of purchase price adjustments |
|
|
|
(724 |
) |
|||
Net cash used in investing activities |
|
(395,496 |
) |
(255,642 |
) |
|||
|
|
|
|
|
|
|||
Cash flows from financing activities: |
|
|
|
|
|
|||
Dividends paid |
|
(80,306 |
) |
(78,290 |
) |
|||
Proceeds from note payable to Nora Gathering, LLC |
|
69,786 |
|
|
|
|||
Repayments of note payable to Nora Gathering, LLC |
|
(24,285 |
) |
|
|
|||
Proceeds from exercises under employee compensation plans |
|
2,673 |
|
17,002 |
|
|||
Excess tax benefits from share-based payment arrangements |
|
4,447 |
|
6,090 |
|
|||
Repayments and retirements of long-term debt |
|
(10,000 |
) |
(3,000 |
) |
|||
Increase (decrease) in short-term loans |
|
204,001 |
|
(310,696 |
) |
|||
Net cash provided by (used in) financing activities |
|
166,316 |
|
(368,894 |
) |
|||
|
|
|
|
|
|
|||
Net increase (decrease) in cash and cash equivalents |
|
112,672 |
|
(74,966 |
) |
|||
Cash and cash equivalents at beginning of period |
|
|
|
74,966 |
|
|||
Cash and cash equivalents at end of period |
|
$ |
112,672 |
|
$ |
|
|
|
|
|
|
|
|
|
|||
Cash paid during the period for: |
|
|
|
|
|
|||
Interest, net of amount capitalized |
|
$ |
36,015 |
|
$ |
37,572 |
|
|
Income taxes, net of refund |
|
$ |
25,331 |
|
$ |
38,717 |
|
|
The accompanying notes are an integral part of these Condensed Consolidated Financial Statements.
4
Condensed Consolidated Balance Sheets (Unaudited)
|
|
September 30, |
|
December 31, |
|
||||||
|
|
(Thousands) |
|
||||||||
ASSETS |
|
|
|
|
|
||||||
Current assets: |
|
|
|
|
|
||||||
Cash and cash equivalents |
|
$ |
112,672 |
|
$ |
|
|
||||
Restricted cash |
|
68,256 |
|
|
|
||||||
Accounts receivable (less accumulated provision for doubtful accounts: September 30, 2007, $14,010; December 31, 2006, $20,442) |
|
102,825 |
|
199,486 |
|
||||||
Unbilled revenues |
|
12,138 |
|
40,627 |
|
||||||
Margin deposits with financial institutions |
|
7,270 |
|
11 |
|
||||||
Inventory |
|
298,593 |
|
269,128 |
|
||||||
Derivative instruments, at fair value |
|
56,165 |
|
129,675 |
|
||||||
Prepaid expenses and other |
|
66,735 |
|
62,523 |
|
||||||
Total current assets |
|
724,654 |
|
701,450 |
|
||||||
Equity in nonconsolidated investments |
|
133,302 |
|
35,023 |
|
||||||
Property, plant and equipment |
|
3,931,937 |
|
3,617,297 |
|
||||||
Less: accumulated depreciation and depletion |
|
1,262,897 |
|
1,239,826 |
|
||||||
Net property, plant and equipment |
|
2,669,040 |
|
2,377,471 |
|
||||||
Investments, available-for-sale |
|
36,553 |
|
31,270 |
|
||||||
Other assets |
|
110,371 |
|
111,697 |
|
||||||
Total assets |
|
$ |
3,673,920 |
|
$ |
3,256,911 |
|
||||
LIABILITIES AND STOCKHOLDERS EQUITY |
|
|
|
|
|
||||||
Current liabilities: |
|
|
|
|
|
||||||
Current portion of long-term debt |
|
$ |
|
|
$ |
10,000 |
|
||||
Short-term loans |
|
340,000 |
|
135,999 |
|
||||||
Note payable to Nora Gathering, LLC |
|
45,501 |
|
|
|
||||||
Accounts payable |
|
182,944 |
|
213,326 |
|
||||||
Derivative instruments, at fair value |
|
496,497 |
|
570,251 |
|
||||||
Other current liabilities |
|
174,180 |
|
150,203 |
|
||||||
Total current liabilities |
|
1,239,122 |
|
1,079,779 |
|
||||||
|
|
|
|
|
|
||||||
Debentures and medium-term notes |
|
753,500 |
|
753,500 |
|
||||||
|
|
|
|
|
|
||||||
Other non-current liabilities: |
|
|
|
|
|
||||||
Deferred income taxes and investment tax credits |
|
409,282 |
|
338,012 |
|
||||||
Unrecognized tax benefits |
|
37,428 |
|
|
|
||||||
Pension and other post-retirement benefits |
|
47,725 |
|
50,947 |
|
||||||
Other credits |
|
93,417 |
|
88,393 |
|
||||||
Total other non-current liabilities |
|
587,852 |
|
477,352 |
|
||||||
|
|
|
|
|
|
||||||
Common stockholders equity: |
|
|
|
|
|
||||||
Common stock, no par value, authorized 320,000 shares; shares issued: September 30, 2007 and December 31, 2006, 149,008 |
|
369,295 |
|
366,856 |
|
||||||
Treasury stock, shares at cost: September 30, 2007, 27,342; December 31, 2006, 27,405 (net of shares and cost held in trust for deferred compensation of 179, $3,063 and 159, $2,724) |
|
(469,133 |
) |
(469,584 |
) |
||||||
Retained earnings |
|
1,475,779 |
|
1,363,310 |
|
||||||
Accumulated other comprehensive loss |
|
(282,495 |
) |
(314,302 |
) |
||||||
Total common stockholders equity |
|
1,093,446 |
|
946,280 |
|
||||||
Total liabilities and stockholders equity |
|
$ |
3,673,920 |
|
$ |
3,256,911 |
|
||||
The accompanying notes are an integral part of these Condensed Consolidated Financial Statements.
5
A. Financial Statements
The accompanying unaudited Condensed Consolidated Financial Statements have been prepared in accordance with United States generally accepted accounting principles for interim financial information and with the requirements of Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by United States generally accepted accounting principles for complete financial statements. In this Form 10-Q, references to Equitable, Equitable Resources, and the Company refer collectively to Equitable Resources, Inc. and its consolidated subsidiaries. In the opinion of management, these statements include all adjustments (consisting of only normal recurring accruals, unless otherwise disclosed in this Form 10-Q) necessary for a fair presentation of the financial position of Equitable Resources, Inc. and subsidiaries as of September 30, 2007, the results of its operations for the three and nine month periods ended September 30, 2007 and 2006, and its cash flows for the nine month periods ended September 31, 2007 and 2006.
As discussed in Note I, the Company capitalizes the carrying costs for the construction of certain long-term assets and amortizes the costs over the life of the related assets. For regulated assets, these costs include allowance for equity funds used during construction (AFUDC Equity). Prior to September 30, 2007, the amount of AFUDC Equity was not significant and was included as an offset to interest expense in the Statements of Consolidated Income. As a result of the significance of the carrying costs related to the construction of the Big Sandy Pipeline, AFUDC Equity has been reclassified to Other income in the Statements of Consolidated Income for all periods presented.
The balance sheet at December 31, 2006 has been derived from the audited financial statements at that date but does not include all of the information and footnotes required by United States generally accepted accounting principles for complete financial statements.
Due to the seasonal nature of the Companys natural gas distribution and energy marketing businesses and the volatility of natural gas prices, the interim statements for the three and nine month periods ended September 30, 2007 are not necessarily indicative of the results that may be expected for the year ending December 31, 2007.
For further information, refer to the consolidated financial statements and footnotes thereto included in Equitable Resources Annual Report on Form 10-K for the year ended December 31, 2006, as well as in Information Regarding Forward Looking Statements on page 18 of this document.
B. Segment Information
The Company reports its operations in two segments, which reflect its lines of business. The Equitable Supply segments activities comprise the development, production, gathering, marketing and sale of natural gas and a small amount of associated oil and the extraction and sale of natural gas liquids. The Equitable Utilities segments operations comprise the sale and transportation of natural gas to customers at state-regulated rates, interstate pipeline transportation, storage and gathering of natural gas subject to federal regulation, the unregulated marketing of natural gas and limited trading activities.
Operating segments are evaluated on their contribution to the Companys consolidated results based on operating income and equity in earnings of nonconsolidated investments. Interest expense and income taxes are managed on a consolidated basis. Headquarters costs are billed to the operating segments based upon a fixed allocation of the headquarters annual operating budget. Differences between budget and actual headquarters expenses are not allocated to the operating segments.
Substantially all of the Companys operating revenues, income from operations and assets are generated or located in the United States.
6
|
|
Three Months Ended |
|
Nine Months Ended |
|
||||||||
|
|
2007 |
|
2006 |
|
2007 |
|
2006 |
|
||||
|
|
(Thousands) |
|
||||||||||
Revenues from external customers: |
|
|
|
|
|
|
|
|
|
||||
Equitable Supply |
|
$ |
117,154 |
|
$ |
120,991 |
|
$ |
370,295 |
|
$ |
362,767 |
|
Equitable Utilities |
|
127,993 |
|
125,603 |
|
643,217 |
|
599,328 |
|
||||
Less: intersegment revenues (a) |
|
(18,341 |
) |
(13,793 |
) |
(36,920 |
) |
(47,968 |
) |
||||
Total |
|
$ |
226,806 |
|
$ |
232,801 |
|
$ |
976,592 |
|
$ |
914,127 |
|
Total operating expenses: |
|
|
|
|
|
|
|
|
|
||||
Equitable Supply |
|
$ |
54,988 |
|
$ |
57,761 |
|
$ |
182,092 |
|
$ |
162,111 |
|
Equitable Utilities |
|
36,823 |
|
35,686 |
|
116,425 |
|
105,417 |
|
||||
Unallocated expenses (b) |
|
8,905 |
|
6,064 |
|
54,647 |
|
16,603 |
|
||||
Total |
|
$ |
100,716 |
|
$ |
99,511 |
|
$ |
353,164 |
|
$ |
284,131 |
|
Operating income: |
|
|
|
|
|
|
|
|
|
||||
Equitable Supply |
|
$ |
62,166 |
|
$ |
63,230 |
|
$ |
188,203 |
|
$ |
200,656 |
|
Equitable Utilities |
|
4,107 |
|
3,969 |
|
84,185 |
|
78,858 |
|
||||
Unallocated expenses |
|
(8,905 |
) |
(6,064 |
) |
(54,647 |
) |
(16,603 |
) |
||||
Total |
|
$ |
57,368 |
|
$ |
61,135 |
|
$ |
217,741 |
|
$ |
262,911 |
|
|
|
|
|
|
|
|
|
|
|
||||
Reconciliation of operating income to net income: |
|
|
|
|
|
|
|
|
|
||||
|
|
|
|
|
|
|
|
|
|
||||
Equity in earnings (losses) of nonconsolidated investments: |
|
|
|
|
|
|
|
|
|
||||
Equitable Supply |
|
$ |
1,379 |
|
$ |
71 |
|
$ |
2,085 |
|
$ |
53 |
|
Unallocated |
|
44 |
|
(1 |
) |
113 |
|
67 |
|
||||
Total |
|
$ |
1,423 |
|
$ |
70 |
|
$ |
2,198 |
|
$ |
120 |
|
|
|
|
|
|
|
|
|
|
|
||||
Gain on sale of assets, net Equitable Supply |
|
|
|
|
|
119,401 |
|
|
|
||||
Other income |
|
2,204 |
|
489 |
|
5,530 |
|
886 |
|
||||
Interest expense |
|
11,557 |
|
12,779 |
|
35,604 |
|
36,128 |
|
||||
Income taxes |
|
16,513 |
|
17,120 |
|
112,380 |
|
79,726 |
|
||||
Net income |
|
$ |
32,925 |
|
$ |
31,795 |
|
$ |
196,886 |
|
$ |
148,063 |
|
|
|
September 30, |
|
December 31, |
|
||
|
|
2007 |
|
2006 |
|
||
|
|
(Thousands) |
|
||||
Segment Assets: |
|
|
|
|
|
||
Equitable Supply |
|
$ |
2,069,167 |
|
$ |
1,794,485 |
|
Equitable Utilities |
|
1,378,493 |
|
1,407,024 |
|
||
Total operating segments |
|
3,447,660 |
|
3,201,509 |
|
||
Headquarters assets and intersegment eliminations, net |
|
226,260 |
|
55,402 |
|
||
Total assets |
|
$ |
3,673,920 |
|
$ |
3,256,911 |
|
|
|
Three Months Ended |
|
Nine Months Ended |
|
||||||||
|
|
2007 |
|
2006 |
|
2007 |
|
2006 |
|
||||
|
|
(Thousands) |
|
||||||||||
Expenditures for segment assets: |
|
|
|
|
|
|
|
|
|
||||
Equitable Supply (c) |
|
$ |
175,012 |
|
$ |
82,580 |
|
$ |
470,486 |
|
$ |
204,961 |
|
Equitable Utilities |
|
23,200 |
|
16,265 |
|
61,104 |
|
45,094 |
|
||||
Unallocated expenditures |
|
876 |
|
740 |
|
1,074 |
|
2,549 |
|
||||
Total |
|
$ |
199,088 |
|
$ |
99,585 |
|
$ |
532,664 |
|
$ |
252,604 |
|
(a) |
|
Intersegment revenues primarily represent sales from Equitable Supply to the unregulated marketing affiliate of Equitable Utilities. |
(b) |
|
Unallocated expenses are primarily related to executive compensation. |
(c) |
|
Expenditures for segment assets for the three and nine months ended September 30, 2007 include $28.5 million for the acquisition of additional working interest in the Roaring Fork Field. See Note L. |
7
C. Derivative Instruments
Natural Gas Hedging Instruments
The Companys overall objective in its hedging program is to assure a return on capital invested in long-lived assets in excess of the Companys cost of capital. The various derivative commodity instruments used by the Company to hedge its exposure to variability in expected future cash flows associated with the fluctuations in the price of natural gas related to the Companys forecasted sale of equity production and forecasted natural gas purchases and sales have been designated and qualify as cash flow hedges. Futures contracts obligate the Company to buy or sell a designated commodity at a future date for a specified price and quantity at a specified location. Swap agreements involve payments to or receipts from counterparties based on the differential between a fixed and variable price for the commodity. Collar agreements require the counterparty to pay the Company if the index price falls below the floor price and the Company to pay the counterparty if the index price rises above the cap price. Exchange-traded instruments are generally settled with offsetting positions. Over the counter arrangements require settlement in cash.
The fair value of the Companys derivative commodity instruments designated as cash flow hedges is presented below:
|
|
As of |
|
||||
|
|
September 30, 2007 |
|
December 31, 2006 |
|
||
|
|
(Thousands) |
|
||||
Asset |
|
$ |
55,506 |
|
$ |
129,675 |
|
Liability |
|
(463,859 |
) |
(544,444 |
) |
||
Net liability |
|
$ |
(408,353 |
) |
$ |
(414,769 |
) |
These amounts are included in the Condensed Consolidated Balance Sheets as derivative instruments, at fair value. The net fair value of derivative instruments changed during the first nine months of 2007 primarily as a result of an increase in natural gas prices and reduced hedged quantities due to derivative settlements. The absolute quantities of the Companys derivative commodity instruments that have been designated and qualify as cash flow hedges totaled 313.2 Bcf and 392.6 Bcf as of September 30, 2007 and December 31, 2006, respectively, and primarily related to natural gas swaps. The open positions at September 30, 2007 had maturities extending through December 2013.
The Company deferred net losses of $256.9 million and $286.2 million in accumulated other comprehensive loss, net of tax, as of September 30, 2007 and December 31, 2006, respectively, associated with the effective portion of the change in fair value of its derivative instruments designated as cash flow hedges. Assuming no change in price or new transactions, the Company estimates that approximately $90.8 million of net unrealized losses on its derivative commodity instruments reflected in accumulated other comprehensive loss, net of tax, as of September 30, 2007 will be recognized in earnings during the next twelve months due to the physical settlement of hedged transactions. This recognition occurs through a reduction in the Companys net operating revenues resulting in the average hedged price becoming the realized sales price.
Ineffectiveness associated with the Companys derivative instruments designated as cash flow hedges increased earnings by approximately $0.5 million and $0.4 million for the three month periods ended September 30, 2007 and 2006, respectively. These amounts are included in operating revenues in the Statements of Consolidated Income.
The Company conducts trading activities through its unregulated marketing group. The function of the Companys trading business is to contribute to the Companys earnings by taking market positions within defined limits subject to the Companys corporate risk management policy. The absolute notional quantities of the futures and swaps held for trading purposes at September 30, 2007 totaled 8.1 Bcf and 22.0 Bcf, respectively.
8
Below is a summary of the activity of the fair value of the Companys derivative commodity contracts with third parties held for trading purposes during the nine months ended September 30, 2007 (in thousands).
Fair value of contracts outstanding as of December 31, 2006 |
|
$ |
581 |
|
Contracts realized or otherwise settled |
|
(742 |
) |
|
Other changes in fair value |
|
132 |
|
|
Fair value of contracts outstanding as of September 30, 2007 |
|
$ |
(29 |
) |
The following table presents maturities and the fair valuation source for the Companys derivative commodity instruments that are held for trading purposes as of September 30, 2007.
Source of Fair Value |
|
Maturity |
|
Maturity |
|
Maturity |
|
Maturity in |
|
Total Fair |
|
|||||
|
|
(Thousands) |
|
|||||||||||||
Prices actively quoted (NYMEX) (1) |
|
$ |
(48 |
) |
$ |
|
|
$ |
|
|
$ |
|
|
$ |
(48 |
) |
Prices provided by other external sources (2) |
|
19 |
|
|
|
|
|
|
|
19 |
|
|||||
Net derivative liabilities |
|
$ |
(29 |
) |
$ |
|
|
$ |
|
|
$ |
|
|
$ |
(29 |
) |
(1) Contracts include futures and fixed price swaps
(2) Contracts include basis swaps
In May 2007, the Company sold a portion of its interest in certain gas properties in the Nora Field, as discussed in Note K. As part of this transaction, the Company closed out certain cash flow hedges associated with forecasted production at this location by purchasing offsetting positions. The fair value of these derivative instruments was a $23.9 million liability at September 30, 2007. In addition, the fair value of derivative instruments associated with forecasted production at non-core gas properties sold in May 2005 was a $8.7 million liability at September 30, 2007. The Company does not treat these derivatives as hedging instruments under Statements of Financial Accounting Standards (SFAS) No. 133, Accounting for Derivative Instruments and Hedging Activities (SFAS No. 133). These amounts are included in the Condensed Consolidated Balance Sheet as derivative instruments, at fair value.
When the net fair value of any of the Companys swap agreements represents a liability to the Company which is in excess of the agreed-upon threshold between the Company and the financial institution acting as counterparty, the counterparty requires the Company to remit funds to the counterparty as a margin deposit for the derivative liability which is in excess of the threshold amount. The Company recorded such deposits in the amount of $1.0 million in its Condensed Consolidated Balance Sheet as of September 30, 2007.
When the Company enters into exchange-traded natural gas contracts, exchanges require participants, including the Company, to remit funds to the corresponding broker as good-faith deposits to guard against the risks associated with changing market conditions. Participants must make such deposits based on an established margin requirement as well as the net liability position, if any, of the fair value of the associated contracts. In the case where the fair value of such contracts is in a net asset position, the broker may remit funds to the Company, in which case the Company records a current liability for such amounts received. The margin requirements are established by the exchanges based on prices, volatility and the time to expiration of the related contract and are subject to change at the exchanges discretion. The Company recorded margin deposits in the amount of $6.3 million in its Condensed Consolidated Balance Sheet as of September 30, 2007.
D. Investments, Available-For-Sale
As of September 30, 2007, the investments classified by the Company as available-for-sale consist of approximately $36.6 million of debt and equity securities intended to fund plugging and abandonment and other liabilities for which the Company self-insures. Any unrealized gains or losses with respect to investments classified as available-for-sale are recognized within the Condensed Consolidated Balance Sheets as a component of equity, accumulated other comprehensive loss.
9
During the first quarter of 2007, the Company reviewed its investment portfolio including its investment allocation and as a result sold equity securities with a cost basis of $6.3 million for total proceeds of $7.3 million, resulting in the Company recognizing a gain of $1.0 million, which is included in other income in the Statement of Consolidated Income for the nine months ended September 30, 2007. The Company used the proceeds from these sales and other available cash to purchase other debt and equity securities with a cost basis totaling $9.7 million during the first quarter of 2007. These investments are classified as available-for-sale in the Condensed Consolidated Balance Sheet. The Company utilizes the specific identification method to determine the cost of all investment securities sold.
E. Comprehensive Income
Total comprehensive income, net of tax, was as follows:
|
|
Three Months Ended |
|
Nine Months Ended |
|
||||||||
|
|
2007 |
|
2006 |
|
2007 |
|
2006 |
|
||||
|
|
(Thousands) |
|
||||||||||
Net income |
|
$ |
32,925 |
|
$ |
31,795 |
|
$ |
196,886 |
|
$ |
148,063 |
|
Other comprehensive income (loss): |
|
|
|
|
|
|
|
|
|
||||
Net change in cash flow hedges: |
|
|
|
|
|
|
|
|
|
||||
Natural gas (Note C) |
|
62,884 |
|
176,718 |
|
29,286 |
|
425,672 |
|
||||
Interest rate |
|
29 |
|
29 |
|
87 |
|
87 |
|
||||
Unrealized gain on investments, available-for-sale |
|
446 |
|
838 |
|
914 |
|
1,204 |
|
||||
Pension and other post-retirement benefit plans: |
|
|
|
|
|
|
|
|
|
||||
Prior service cost |
|
(59 |
) |
|
|
(177 |
) |
|
|
||||
Net loss |
|
458 |
|
|
|
1,372 |
|
|
|
||||
Settlement loss |
|
8 |
|
|
|
325 |
|
|
|
||||
Total comprehensive income |
|
$ |
96,691 |
|
$ |
209,380 |
|
$ |
228,693 |
|
$ |
575,026 |
|
The components of accumulated other comprehensive loss, net of tax, are as follows:
|
|
September 30, |
|
December 31, |
|
|||
|
|
2007 |
|
2006 |
|
|||
|
|
(Thousands) |
|
|||||
Net unrealized loss from hedging transactions |
|
$ |
(257,498 |
) |
$ |
(286,871 |
) |
|
Unrealized gain on available-for-sale securities |
|
4,883 |
|
3,969 |
|
|||
Pension and other post-retirement benefits adjustment |
|
(29,880 |
) |
(31,400 |
) |
|||
Accumulated other comprehensive loss |
|
$ |
(282,495 |
) |
$ |
(314,302 |
) |
|
F. Share-Based Compensation
The Company adopted SFAS No. 123 (revised 2004), Share-Based Payment (SFAS No. 123R) as of January 1, 2006.
Share-based compensation expense recorded by the Company was as follows:
|
|
Three Months Ended |
|
Nine Months Ended |
|
||||||||
|
|
2007 |
|
2006 |
|
2007 |
|
2006 |
|
||||
|
|
(Thousands) |
|
||||||||||
2005 Executive Performance Incentive Program |
|
$ |
8,212 |
|
$ |
5,524 |
|
$ |
54,591 |
|
$ |
15,646 |
|
2007 Supply Long-Term Incentive Program |
|
390 |
|
|
|
390 |
|
|
|
||||
Directors share-based awards |
|
237 |
|
129 |
|
1,649 |
|
576 |
|
||||
Restricted stock awards |
|
672 |
|
948 |
|
2,185 |
|
2,535 |
|
||||
Nonqualified stock options |
|
10 |
|
|
|
222 |
|
685 |
|
||||
Total share-based compensation expense |
|
$ |
9,521 |
|
$ |
6,601 |
|
$ |
59,037 |
|
$ |
19,442 |
|
10
2005 Executive Performance Incentive Program
The vesting of the awards granted under the 2005 Executive Performance Incentive Program (2005 Program) will occur contingent upon a combination of the level of total shareholder return relative to a fixed group of peer companies and the Companys average absolute return on total capital, during the four year performance period ending December 31, 2008. Payment of awards is expected to be made in cash based on the price of the Companys common stock at the end of the performance period, December 31, 2008. The Company accounts for these awards as liability awards and as such records compensation expense for the remeasurement of the fair value of the awards at the end of each reporting period. The Company continually monitors its stock price and performance in order to assess the impact on the ultimate payout under the 2005 Program. The Company modified its assumptions during the first nine months of 2007 and by increasing both the ultimate share price and the payout multiple at the vesting date to $60.00 and 225% of the units awarded, respectively. As a result, the Company recognized an increase in long-term incentive plan expense associated with the 2005 Program of $3.0 million and $38.7 million for the three and nine month periods ended September 30, 2007, respectively. The 2005 Program expense is classified as selling, general and administrative expense in the Statements of Consolidated Income. A portion of the 2005 Program expense is included as an unallocated expense in deriving total operating income for segment reporting purposes. See Note B. The Company has recorded a total accrual for the 2005 Program of $98.2 million in other current liabilities in its Condensed Consolidated Balance Sheet as of September 30, 2007.
2007 Supply Long-Term Incentive Program
On July 1, 2007, the Company established the 2007 Supply Long-Term Incentive Program (2007 Supply Program) to provide a long-term incentive compensation opportunity to key employees in the Companys Supply segment. Awards granted may be earned by achieving pre-determined total sales volumes targets and by satisfying certain applicable employment requirements. The awards earned may be increased to a maximum of three times the initial award or reduced to zero based upon achievement of the predetermined performance levels. Payment of awards will be made in cash based on the price of the Companys common stock at the end of the performance period, December 31, 2010. The Company accounts for these awards as liability awards and as such records compensation expense for the remeasurement of the fair value of the awards at the end of each reporting period. The Company granted 163,940 awards under this program during the nine months ended September 30, 2007.
Nonemployee Directors Share-Based Awards
The Company has historically granted to non-employee directors share-based awards which vested upon award. The value of the share-based awards will be paid in cash upon the earlier of the directors death or separation of service from the Companys Board of Directors. The Company accounts for these awards as liability awards and as such records compensation expense for the remeasurement of the fair value of the share-based awards at the end of each reporting period. A total of 88,530 non-employee director share-based awards were outstanding as of September 30, 2007. A total of 15,570 and 18,000 share-based awards were granted to non-employee directors during the nine month periods ended September 30, 2007 and 2006, respectively. The weighted average fair value of these director share-based awards, based on the grant date fair value of the Companys stock, was approximately $50.00 and $35.00, for the nine months ended September 30, 2007 and 2006, respectively.
Restricted Stock Awards
The Company granted 75,440 and 93,200 restricted stock awards during the nine months ended September 30, 2007 and 2006, respectively, to key executives under the Companys 1999 Long-Term Incentive Plan (the Plan). The shares granted under the Plan will be fully vested at the end of the three-year period commencing the date of grant. The fair value of each share is equal to the market price of the Companys common stock on the date of grant. The weighted average fair value of these restricted stock grants, based on the grant date fair value of the Companys stock, was approximately $44.00 and $36.00, for the nine months ended September 30, 2007 and 2006, respectively.
As of September 30, 2007, there was $5.4 million of total unrecognized compensation cost related to unvested restricted stock awards. That cost is expected to be recognized over a weighted average period of approximately 21 months.
11
Stock Options
The Company granted 20,941 and 56,257 stock options during the nine months ended September 30, 2007 and 2006, respectively, all of which comprised options granted for reload rights associated with previously-awarded options. The weighted average grant date fair value of these reload option grants was approximately $7.00 and $9.00 for the nine month periods ended September 30, 2007 and 2006, respectively.
The fair value of the Companys option grants was estimated at the dates of grant using a Black-Scholes option-pricing model with the assumptions indicated in the table below for the nine month periods ended September 30, 2007 and 2006.
|
|
Nine Months Ended September 30, |
|
||
|
|
2007 |
|
2006 |
|
Risk-free interest rate (range) |
|
4.36% to 5.02% |
|
4.59% to 5.04% |
|
Dividend yield |
|
1.90% to 2.29% |
|
2.34% to 2.38% |
|
Volatility factor |
|
.15 to .21 |
|
.21 to .23 |
|
Expected term |
|
3 - 6 years |
|
7 years |
|
As of September 30, 2007, there was no unrecognized compensation cost related to outstanding nonvested stock options as all outstanding options were fully vested.
As of September 30, 2007, 148,404 options were outstanding under the 1999 Nonemployee Directors Stock Incentive Plan. No options were granted to non-employee directors during the nine month periods ended September 30, 2007 and 2006.
G. Income Taxes
The Company estimates an annual effective income tax rate based on projected results for the year and applies this rate to income before taxes to calculate income tax expense. Refinements made due to subsequent information that affects the estimated annual effective income tax rate are reflected as adjustments in the current period. Separate effective income tax rates are calculated for net income from continuing operations and any separately reported net income items, such as discontinued operations and extraordinary items.
On April 4, 2007, West Virginia enacted legislation, effective for the Companys tax year beginning January 1, 2009, that mandates unitary combined reporting, changes certain apportionment provisions for tax partnerships, changes certain definitions for financial organizations and makes miscellaneous changes to other corporate net income tax statutes. As a result of this law change, the Company recorded additional tax expense of $2.9 million to reflect an overall increase in the Companys expected deferred tax liability as of the effective date. This charge is included in the annual income tax expense and the entire amount was reflected in the second quarter of 2007. The effective income tax rate for the nine months ended September 30, 2007 is 36.3%. The Company currently estimates the annual effective income tax rate to be approximately 36.1%. The estimated annual effective income tax rate as of September 30, 2006 was 35.0%.
In June 2006, the Financial Accounting Standards Board (FASB) issued FASB Interpretation No. 48, Accounting for Uncertainty in Income Taxesan interpretation of FASB Statement No. 109, (FIN 48) which applies to all open tax positions accounted for in accordance with SFAS No. 109, Accounting for Income Taxes. This Interpretation is intended to result in increased relevance and comparability in financial reporting of income taxes and to provide more information about the uncertainty in income tax assets and liabilities.
The Company adopted the provisions of FIN 48 on January 1, 2007. As a result of the implementation of FIN 48, the Company recognized a $4.1 million increase in the liability for unrecognized tax benefits which was accounted for as a reduction to the January 1, 2007 balance of retained earnings. Additionally, as a result of the implementation of FIN 48, the Company recorded $29.7 million of unrecognized tax benefits related to a balance sheet reclassification that did not impact retained earnings. A total of $16.9 million of this reclassification relates to the gross up of certain tax positions that were previously recorded net of tax benefit, tax positions which relate to temporary differences that were previously part of deferred taxes and tax positions that were previously offset against deferred tax assets. The remaining $12.8 million relates to tax positions previously categorized as current liabilities.
12
After the recognition of these items in connection with the implementation of FIN 48, the total liability for unrecognized tax benefits at January 1, 2007 was $33.8 million. Of this total, $16.9 million of tax benefits would reduce the Companys effective tax rate if the tax benefits were recognized in the financial statements.
The Company recognizes interest and penalties accrued related to unrecognized tax benefits in income tax expense. The total amount of accrued interest included in the FIN 48 liability above as of January 1, 2007 was $11.0 million. No amounts were accrued for penalties as of January 1, 2007.
There were no material changes to unrecognized tax benefits, interest or penalties during the nine months ended September 30, 2007. As of September 30, 2007, the Company is not aware of any positions for which it is reasonably possible that the total amounts of unrecognized tax benefits will significantly increase or decrease within the next 12 months.
The consolidated Federal income tax liability of the Company has been settled with the Internal Revenue Service (IRS) through 1997. The IRS has completed its review of the Companys Federal income tax filings for the 1998 through 2000 years and the Company believes that only minor issues remain to be resolved. The IRS is expected to review the Companys Research and Experimentation claim for 2001 and 2002 and survey the balance of the 2001 and 2002 Federal income tax filings. During the second quarter of 2007, the IRS began an examination of the Companys Federal income tax filings for 2003 through 2005.
The Company is also subject to various routine state income tax examinations. The Company mainly operates in four states which have statutes of limitations that expire between three to four years after the date of filing of the income tax return. As of September 30, 2007, the Company believes that it is appropriately reserved for any potential federal and state income tax exposures.
H. Pension and Other Postretirement Benefit Plans
The Companys costs related to its defined benefit pension and other postretirement benefit plans for the three and nine months ended September 30, 2007 and 2006 were as follows:
|
|
Pension Benefits |
|
Other Benefits |
|
||||||||
|
|
Three Months Ended September 30, |
|
||||||||||
|
|
2007 |
|
2006 |
|
2007 |
|
2006 |
|
||||
|
|
(Thousands) |
|
||||||||||
Components of net periodic benefit cost |
|
|
|
|
|
|
|
|
|
||||
Service cost |
|
$ |
63 |
|
$ |
107 |
|
$ |
123 |
|
$ |
138 |
|
Interest cost |
|
1,093 |
|
1,097 |
|
636 |
|
725 |
|
||||
Expected return on plan assets |
|
(1,404 |
) |
(1,533 |
) |
|
|
|
|
||||
Amortization of prior service cost |
|
41 |
|
92 |
|
(215 |
) |
(34 |
) |
||||
Recognized net actuarial loss |
|
363 |
|
267 |
|
574 |
|
536 |
|
||||
Settlement (gain) loss |
|
(395 |
) |
283 |
|
|
|
|
|
||||
Net periodic benefit cost |
|
$ |
(239 |
) |
$ |
313 |
|
$ |
1,118 |
|
$ |
1,365 |
|
|
|
Pension Benefits |
|
Other Benefits |
|
||||||||
|
|
Nine Months Ended September 30, |
|
||||||||||
|
|
2007 |
|
2006 |
|
2007 |
|
2006 |
|
||||
|
|
(Thousands) |
|
||||||||||
Components of net periodic benefit cost |
|
|
|
|
|
|
|
|
|
||||
Service cost |
|
$ |
189 |
|
$ |
323 |
|
$ |
369 |
|
$ |
414 |
|
Interest cost |
|
3,279 |
|
3,291 |
|
1,908 |
|
2,175 |
|
||||
Expected return on plan assets |
|
(4,210 |
) |
(4,599 |
) |
|
|
|
|
||||
Amortization of prior service cost |
|
123 |
|
278 |
|
(645 |
) |
(102 |
) |
||||
Recognized net actuarial loss |
|
1,089 |
|
801 |
|
1,722 |
|
1,608 |
|
||||
Settlement loss |
|
735 |
|
265 |
|
|
|
|
|
||||
Net periodic benefit cost |
|
$ |
1,205 |
|
$ |
359 |
|
$ |
3,354 |
|
$ |
4,095 |
|
The Company made a cash contribution of $1.3 million to the pension plan in the first quarter of 2007 to fund an early retirement program which was settled during the fourth quarter of 2006.
13
I. Interest Expense and Allowance for Funds Used During Construction
The Company maintains a $1.5 billion, five-year revolving credit facility which may be used for working capital, capital expenditures, share repurchases and other purposes including support of the Companys commercial paper program. Due to the volatility in the short-term debt markets during the third quarter of 2007, the Company determined that its lowest cost of short term borrowings would be obtained by utilizing its revolving credit facility. As of September 30, 2007, the Company had outstanding short-term loans under the revolving credit facility of $340.0 million and no commercial paper balances. As of December 31, 2006, the Company had commercial paper balances of $136.0 million and no outstanding short-term loans under the revolving credit facility.
Carrying costs for the construction of certain long-term assets are capitalized and amortized over the related assets estimated useful lives. The calculated allowance for funds used during construction includes capitalization of the cost of financing construction of assets subject to regulation by the Pennsylvania Public Utility Commission, the Public Service Commission of West Virginia or the Federal Energy Regulatory Commission, in accordance with SFAS No. 71, Accounting for the Effects of Certain Types of Regulation. A computed interest cost and a designated cost of equity for financing the construction of these regulated assets are recorded in the Companys income statement. The debt portion is calculated based on the average cost of debt. Interest costs on debt amounts capitalized are included as a reduction of interest expense in the Statements of Consolidated Income. These interest costs were $1.5 million and $0.3 million for the nine months ended September 30, 2007 and 2006, respectively. The equity portion is calculated using the most recent equity rate of return approved by the applicable regulator. Equity amounts capitalized are included in other income in the Statements of Consolidated Income. The equity amounts capitalized were $4.5 million and $0.9 million for the nine months ended September 30, 2007 and 2006, respectively.
J. Recently Issued Accounting Standards
The Fair Value Option for Financial Assets and Financial Liabilities
In February 2007, the FASB issued SFAS No. 159, The Fair Value Option for Financial Assets and Financial LiabilitiesIncluding an amendment of FASB Statement No. 115, (SFAS No. 159) which provides entities with an option to report selected financial assets and liabilities at fair value. SFAS No. 159 also establishes presentation and disclosure requirements designed to facilitate comparisons between entities that choose different measurement attributes for similar types of assets and liabilities. This Statement is effective as of the beginning of the first fiscal year that begins after November 15, 2007. The Company is currently evaluating the impact that SFAS No. 159 will have on its consolidated financial statements.
Fair Value Measurements
In September 2006, the FASB issued SFAS No. 157, Fair Value Measurements, (SFAS No. 157) which establishes a framework for measuring fair value in accordance with generally accepted accounting principles and expands disclosures about fair value measurements. SFAS No. 157 is effective for fiscal years beginning after November 15, 2007, and interim periods within those fiscal years. The Company is currently evaluating the impact that SFAS No. 157 will have on its consolidated financial statements.
K. Gain on Sale of Assets
On April 13, 2007, the Company and Range Resources Corporation (Range) agreed to a development plan for the Nora Field, a gas field located in Southwestern Virginia. The Company entered into a Purchase and Sale Agreement (Purchase Agreement) with Pine Mountain Oil and Gas, Inc. (PMOG), a subsidiary of Range, pursuant to which the Company agreed to sell to PMOG a portion of the Companys interests in certain gas properties in the Nora Field. Additionally, the Company entered into a Contribution Agreement (Contribution Agreement) with PMOG relating to the contribution of certain Nora Field gathering facilities and pipelines to Nora Gathering, LLC (Nora LLC), a newly formed entity that is equally owned by the Company and PMOG. This gathering system will service production of the Company and Range.
On May 17, 2007, the Company completed a majority of the transactions contemplated by the Purchase Agreement by selling proved reserves of approximately 70 Bcf, including proved developed reserves of approximately 64 Bcf, to PMOG for proceeds of $184.6 million. Proceeds of $95.0 million from the sale were placed into an escrow
14
account pursuant to a deferred exchange agreement, which allows for the use of the funds in a potential like-kind exchange for certain identified assets. The Company used a portion of the restricted funds in the third quarter of 2007 as discussed in Note L. The Company is evaluating the potential purchase of additional eligible replacement properties within the statutory time period. As of September 30, 2007, the balance of restricted cash was $68.3 million.
Additionally, on May 17, 2007, the Company completed a substantial majority of the transactions contemplated by the Contribution Agreement by contributing Nora Field gathering property with a net book value of $120.0 million to Nora LLC in exchange for a 50% interest in Nora LLC and cash of $23.3 million. PMOG contributed cash of $93.1 million to Nora LLC in exchange for its 50% interest. The Company and Nora LLC also entered into a demand note agreement whereby Nora LLC loaned to the Company $69.8 million on the closing date. The balance of this note as of September 30, 2007 was $45.5 million, and was classified as note payable to Nora Gathering, LLC in the Companys Condensed Consolidated Balance Sheet. The Company is accounting for its interest in Nora LLC under the equity method of accounting, as the Company determined that it has the ability to exert significant influence over the operating and financial policies of Nora LLC through its 50%, non-controlling interest. The Company recorded an equity investment in Nora LLC of $93.1 million in its Condensed Consolidated Balance Sheet as of May 17, 2007.
The Company recorded a gain on these transactions of $147.8 million, net of costs to sell, in accordance with SFAS No. 19, Financial Accounting and Reporting by Oil and Gas Producing Companies. As a result of the working interest sale, the Company reduced its hedge position by approximately 7.3 Bcf, resulting in the Companys recording a hedge loss of $28.4 million as of the date of sale. These items are recorded in gain on sale of assets, net in the Companys Statements of Consolidated Income for the nine month period ended September 30, 2007.
As a result of these transactions, the Company and Range have equalized their interest in the Nora Field, including their interest in the producing wells, undrilled acreage and gathering system. These transactions are subject to various post-closing purchase price adjustments which may result in the Company recording additional gain or loss on these transactions upon finalization of the adjustments, which is expected to occur during the fourth quarter of 2007.
A second closing covering the remainder of the gas properties and related remaining gathering assets included in the above transactions would reduce the Companys proved reserves by a maximum of approximately 11 Bcf, including proved developed reserves of up to 10 Bcf. The Company is currently working with all parties involved to obtain the remaining required consents.
L. Acquisition of Working Interest
In September 2007, the Company purchased an additional working interest of approximately 13.5% in the Roaring Fork Field in Virginia and certain gathering assets from a minority interest holder for $28.5 million subject to post-closing adjustments, which increased the Companys working interest to approximately 97.0%. The working interest of 13.5% represents approximately 12.3 Bcf of reserves, consisting of approximately 10.1 Bcf of proved developed reserves and approximately 2.2 Bcf of proved undeveloped reserves. The purchase price was funded using a portion of the restricted cash received from the sale described in Note K, as this transaction qualified as a like-kind exchange under the deferred exchange agreement.
M. Office Consolidation / Impairment Charges
In May 2005, the Company completed the relocation of its corporate headquarters and other operations to a newly constructed office building located at the North Shore in Pittsburgh. The relocation resulted in the early termination of several operating leases and the early retirement of assets and leasehold improvements at several locations. During the second quarter of 2006, the Company began to utilize certain of the leased space previously deemed to have no economic benefit to the Company, to make space available for the pending acquisition of The Peoples Natural Gas Company and Hope Gas, Inc. transition planning activities. The Company reversed approximately $2.4 million of the associated early termination liability for these leases during the second quarter of 2006.
Additionally, the Company recorded a $0.5 million reduction in the early termination liability during the second quarter of 2006 resulting from a revision of the amount of estimated cash flows for one of its operating leases.
15
N. Other Events
Pending Acquisition of The Peoples Natural Gas Company and Hope Gas, Inc.
On March 1, 2006, the Company entered into a definitive agreement to acquire Dominion Resources, Inc.s (Dominion) natural gas distribution assets in Pennsylvania and in West Virginia for approximately $970 million, subject to adjustments, in a cash transaction for the stock of The Peoples Natural Gas Company (Peoples) and Hope Gas, Inc. (Hope). Each of the Company and Dominion has the right to terminate the Stock Purchase Agreement on and after November 1, 2007. The Company has deferred certain costs in conjunction with the pending acquisition of Peoples and Hope. In the event that the acquisition does not close or the likelihood becomes remote, the Company will expense these deferred costs which may result in a charge of $10 million to $15 million.
On April 13, 2007, the Pennsylvania Public Utility Commission (PA PUC) issued an Opinion and Order approving the stock acquisition of Peoples consistent with the terms and conditions of a Joint Petition for Settlement which includes, among other things, an agreement by the Company that Equitable Gas Company and Peoples will not make base rate case filings prior to January 1, 2009.
On May 14, 2007, the Public Service Commission of West Virginia (WV PSC) issued an order in the Companys proposed acquisition of Hope, which case has been consolidated with four other cases, to initiate a focused management audit regarding two Hope applications to adjust purchased gas costs. On July 24, 2007, the WV PSC issued another order bifurcating the acquisition case from the cases involving the focused management audit and soliciting comment from the parties as to, among other things, how to proceed with the acquisition case and the amount and form of an escrow proposed to be posted by Hope in connection with alleged wrong doing. On September 18, 2007, Dominion agreed to a settlement with West Virginias consumer advocate regarding the two gas-cost recovery proceedings which also resulted in the removal of the focused management audit requirement. On September 28, 2007, the WV PSC issued an order establishing a briefing schedule for all unresolved issues. The briefing schedule concludes with the filing of simultaneous reply briefs on November 16, 2007. The Company continues to engage in settlement negotiations with the interveners and with Dominion to resolve the open issues.
On March 14, 2007, the Federal Trade Commission (FTC) issued an administrative complaint challenging the Companys acquisition of Peoples. On April 13, 2007, the FTC filed a complaint in the U.S. District Court for the Western District of Pennsylvania seeking a preliminary injunction to enjoin the proposed acquisition. On May 14, 2007, the District Court dismissed the FTCs request for a preliminary injunction on the basis that the state action immunity doctrine barred the FTCs claim. The FTC appealed the dismissal to the United States Court of Appeals for the Third Circuit. On June 1, 2007, the Third Circuit issued an injunction pending appeal preventing the Company from closing the transaction pending further order of the Third Circuit. On October 3, 2007, oral arguments were presented to the Third Circuit.
The transaction is also under review by the Pennsylvania Attorney General (PA AG). The PA AG has filed an amicus brief in the Third Circuit case arguing that the state action immunity doctrine does not apply, which is contrary to the Companys position. The PA PUC has filed an amicus brief in the Third Circuit case supporting the Companys position.
The assets to be acquired are expected to approximately increase: customers in the distribution operations by 475,000 or 173%; total storage capacity by 33 Bcf or 60%; miles of gathering pipelines by 936 miles; gathered volumes by 40%; and miles of high pressure transmission by 466 miles or 42%. Transition planning activities have continued at Equitable Utilities to plan for the integration of the assets, resources, and business processes of Peoples and Hope into Equitable Resources.
16
West Virginia Royalty Dispute
In June 2006, the West Virginia Supreme Court of Appeals issued a decision involving interpretation of certain types of oil and gas leases of an unrelated party, in which a class of royalty owners in the state of West Virginia filed a lawsuit claiming that the defendant in the case underpaid royalties by deducting certain post-production costs not permitted by such types of leases and not paying a fair value for the gas produced from the royalty owners leases. In January 2007, the jury in the aforementioned case returned a verdict in favor of the plaintiff royalty owners, awarding the plaintiffs significant compensatory and punitive damages for the alleged underpayment of royalties. While the defendant plans to appeal the verdict, this decision may ultimately impact other royalty interest rights in West Virginia. Claims have been brought against others in the oil and gas industry, including the Company. The proceedings against the Company are in the early stages and the plaintiffs have sought class certification. The Company believes that the claims and facts decided in the unrelated lawsuit can be differentiated from those asserted against the Company. Nevertheless, the Company has reviewed its West Virginia royalty agreements and established a reserve it believes to be appropriate.
17
Equitable Resources, Inc. and Subsidiaries
Management's Discussion and Analysis of Financial Condition and Results of Operations
Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations
INFORMATION REGARDING FORWARD LOOKING STATEMENTS
Disclosures in this Quarterly Report on Form 10-Q contain certain forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended, and Section 27A of the Securities Act of 1933, as amended. Statements that do not relate strictly to historical or current facts are forward-looking and usually identified by the use of words such as anticipate, estimate, should, may, will, forecasts, approximate, expect, project, intend, plan, believe and other words or phrases of similar meaning in connection with any discussion of future operating or financial matters. Without limiting the generality of the foregoing, forward-looking statements contained in this report include the matters discussed in the sections captioned Outlook in this Managements Discussion and Analysis of Financial Condition and Results of Operations, and the expectations of plans, strategies, objectives, and growth and anticipated financial and operational performance of the Company and its subsidiaries, including guidance regarding the Companys drilling and development and midstream infrastructure programs, production and sales volumes, liquidity, natural gas reserves, capital expenditures, executive compensation, hedging risks, the pending acquisition of The Peoples Natural Gas Company and Hope Gas, Inc., the financing of that acquisition and the Companys move to a holding company structure. A variety of factors could cause the Companys actual results to differ materially from the anticipated results or other expectations expressed in the Companys forward-looking statements. The risks and uncertainties that may affect the operations, performance and results of the Companys business and forward-looking statements include, but are not limited to, those set forth under Item 1A, Risk Factors of the Companys Form 10-K for the year ended December 31, 2006.
Any forward-looking statement speaks only as of the date on which such statement is made and the Company does not intend to correct or update any forward-looking statements, whether as a result of new information, future events or otherwise.
CORPORATE OVERVIEW
Three Months Ended September 30, 2007
vs. Three Months Ended September 30, 2006
Equitable Resources consolidated net income for the three months ended September 30, 2007 totaled $32.9 million, or $0.27 per diluted share, compared to $31.8 million, or $0.26 per diluted share, reported for the same period a year ago. This $1.1 million increase in net income from 2006 to 2007 was due to several factors. The impact of favorable storage asset optimization at Equitable Utilities, higher 2006 charges for certain West Virginia royalty disputes and other legal expenses, a reduction in transition planning expenses related to the pending acquisition of The Peoples Natural Gas Company and Hope Gas, Inc. and an increase in other income, primarily due to interest capitalized as allowance for funds used during construction related to the Big Sandy Pipeline project, contributed to the increase. Production revenues increased slightly as higher sales prices were offset by the impact of the 2007 second quarter sale of interests in the Nora Field. These increases were partially offset by increased incentive compensation expense and increased depreciation, depletion and amortization at Equitable Supply.
Nine Months Ended September 30, 2007
vs. Nine Months Ended September 30, 2006
Equitable Resources consolidated net income for the nine months ended September 30, 2007 totaled $196.9 million, or $1.60 per diluted share, compared to $148.1 million, or $1.21 per diluted share, reported for the same period a year ago. This $48.8 million increase in net income from 2006 to 2007 was due to several factors, including the second quarter of 2007 gain on the sale of assets in the Nora Field. The impact of favorable storage asset optimization at Equitable Utilities, higher production sales volumes at Equitable Supply and colder weather in Equitable Gas Companys service territory in 2007 contributed to the increase. These increases between years were partially offset by increased incentive compensation expense, higher depreciation, depletion and amortization expense at Equitable Supply, increased transition planning expenses at Equitable Utilities related to the pending acquisition of The Peoples Natural Gas Company and Hope Gas, Inc., increased reserves for West Virginia royalty disputes and other legal expenses at Equitable Supply, a positive impact in 2006 for previously deferred amounts from the approval and settlement of the Equitrans, L.P. rate case and higher overall operating expenses.
The Company has reported the components of each segments operating income and various operational measures in the sections below, and where appropriate, has provided information describing how a measure was derived.
18
Equitables management believes that presentation of this information provides useful information to management and investors regarding the financial condition, operations and trends of each of Equitables segments without being obscured by the financial condition, operations and trends for the other segment or by the effects of corporate allocations of interest and income taxes. In addition, management uses these measures for budget planning purposes.
EQUITABLE SUPPLY
OVERVIEW
During the second quarter of 2007, the Equitable Supply segment sold to Pine Mountain Oil and Gas, Inc. (PMOG) a portion of the Companys interests in certain gas properties in the Nora Field totaling approximately 70 Bcf of proved reserves. Also during the second quarter of 2007, the Equitable Supply segment contributed certain Nora Field gathering facilities and pipelines to Nora Gathering, LLC (Nora LLC), a newly formed entity that is equally owned by the Company and PMOG, in exchange for a 50% equity interest in Nora LLC and cash. These transactions resulted in a net gain of $119.4 million. See Note K to the Companys Condensed Consolidated Financial Statements for further discussion of these transactions. As a result of the gathering asset contribution, gathered volumes, gathering revenues and gathering-related expenses related to the Nora Field gathering activities are no longer included in Equitable Supplys operating results. However, Equitable Supply records its 50% equity interest in the earnings of Nora LLC in equity in earnings of nonconsolidated investments.
During the third quarter of 2007, the Equitable Supply segment purchased an additional working interest of approximately 13.5% in certain gas properties in the Roaring Fork Field in Virginia totaling approximately 12.3 Bcf of proved reserves and certain gathering assets from a minority interest holder. See Note L to the Companys Condensed Consolidated Financial Statements for further discussion of these transactions.
Excluding the impact of the sale of interests in the Nora Field, sales volumes increased approximately 4.1% from 2006 to 2007 for the third quarter and 4.8% for the nine months, primarily as a result of increased production from the 2006 and 2007 drilling programs. Equitable Supply drilled 447 gross operated wells, including 50 horizontal wells, in the nine months ended September 30, 2007, compared to 371 gross operated wells, including 3 horizontal wells, during the same period in 2006. Based on the success of the horizontal drilling program, the Company is reducing the number of vertical shale wells drilled as it increases the number of horizontal shale wells drilled. Economically, one horizontal shale well is similar to three vertical shale wells. The shift is likely to result in fewer gross wells drilled.
19
RESULTS OF OPERATIONS
EQUITABLE SUPPLY
|
|
Three Months Ended |
|
Nine Months Ended |
|
||||||||||||
|
|
2007 |
|
2006 |
|
% |
|
2007 |
|
2006 |
|
% |
|
||||
OPERATIONAL DATA |
|
|
|
|
|
|
|
|
|
|
|
|
|
||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
||||
Production: |
|
|
|
|
|
|
|
|
|
|
|
|
|
||||
Natural gas and oil production (MMcfe) |
|
20,636 |
|
20,852 |
|
(1.0 |
) |
62,076 |
|
60,815 |
|
2.1 |
|
||||
Company usage, line loss (MMcfe) |
|
(1,684 |
) |
(1,410 |
) |
19.4 |
|
(4,383 |
) |
(3,929 |
) |
11.6 |
|
||||
Total sales volumes (MMcfe) |
|
18,952 |
|
19,442 |
|
(2.5 |
) |
57,693 |
|
56,886 |
|
1.4 |
|
||||
Average (well-head) sales price ($/Mcfe) |
|
$ |
4.78 |
|
$ |
4.66 |
|
2.6 |
|
$ |
4.85 |
|
$ |
4.82 |
|
0.6 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
||||
Lease operating expenses (LOE), excluding production taxes ($/Mcfe) |
|
$ |
0.34 |
|
$ |
0.32 |
|
6.3 |
|
$ |
0.33 |
|
$ |
0.30 |
|
10.0 |
|
Production taxes ($/Mcfe) |
|
$ |
0.44 |
|
$ |
0.45 |
|
(2.2 |
) |
$ |
0.46 |
|
$ |
0.48 |
|
(4.2 |
) |
Production depletion ($/Mcfe) |
|
$ |
0.70 |
|
$ |
0.62 |
|
12.9 |
|
$ |
0.70 |
|
$ |
0.62 |
|
12.9 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
||||
Gathering: |
|
|
|
|
|
|
|
|
|
|
|
|
|
||||
Gathered volumes (MMcfe) |
|
20,352 |
|
26,723 |
|
(23.8 |
) |
73,462 |
|
80,273 |
|
(8.5 |
) |
||||
Average gathering fee ($/Mcfe) |
|
$ |
1.17 |
|
$ |
1.05 |
|
11.4 |
|
$ |
1.12 |
|
$ |
1.02 |
|
9.8 |
|
Gathering and compression expense ($/Mcfe) |
|
$ |
0.54 |
|
$ |
0.42 |
|
28.6 |
|
$ |
0.48 |
|
$ |
0.39 |
|
23.1 |
|
Gathering and compression depreciation ($/Mcfe) |
|
$ |
0.17 |
|
$ |
0.14 |
|
21.4 |
|
$ |
0.16 |
|
$ |
0.14 |
|
14.3 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
||||
(in thousands) |
|
|
|
|
|
|
|
|
|
|
|
|
|
||||
Production operating income |
|
$ |
55,885 |
|
$ |
53,690 |
|
4.1 |
|
$ |
163,109 |
|
$ |
172,357 |
|
(5.4 |
) |
Gathering operating income |
|
6,281 |
|
9,540 |
|
(34.2 |
) |
25,094 |
|
28,299 |
|
(11.3 |
) |
||||
Total operating income |
|
$ |
62,166 |
|
$ |
63,230 |
|
(1.7 |
) |
$ |
188,203 |
|
$ |
200,656 |
|
(6.2 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
||||
Production depletion |
|
$ |
14,440 |
|
$ |
12,888 |
|
12.0 |
|
$ |
43,509 |
|
$ |
37,619 |
|
15.7 |
|
Gathering and compression depreciation |
|
3,496 |
|
3,811 |
|
(8.3 |
) |
11,723 |
|
11,399 |
|
2.8 |
|
||||
Other depreciation, depletion and amortization |
|
1,445 |
|
1,083 |
|
33.4 |
|
4,246 |
|
3,059 |
|
38.8 |
|
||||
Total depreciation, depletion and amortization |
|
$ |
19,381 |
|
$ |
17,782 |
|
9.0 |
|
$ |
59,478 |
|
$ |
52,077 |
|
14.2 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
||||
Capital expenditures (thousands) |
|
$ |
175,012 |
|
$ |
82,580 |
|
111.9 |
|
$ |
470,486 |
|
$ |
204,961 |
|
129.5 |
|
20
|
|
Three Months Ended |
|
Nine Months Ended |
|
||||||||||||
|
|
2007 |
|
2006 |
|
% |
|
2007 |
|
2006 |
|
% |
|
||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
||||
FINANCIAL DATA (Thousands) |
|
|
|
|
|
|
|
|
|
|
|
|
|
||||
Production revenues |
|
$ |
93,428 |
|
$ |
92,949 |
|
0.5 |
|
$ |
287,669 |
|
$ |
281,141 |
|
2.3 |
|
Gathering revenues |
|
23,726 |
|
28,042 |
|
(15.4 |
) |
82,626 |
|
81,626 |
|
1.2 |
|
||||
Total operating revenues |
|
117,154 |
|
120,991 |
|
(3.2 |
) |
370,295 |
|
362,767 |
|
2.1 |
|
||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
||||
Operating expenses: |
|
|
|
|
|
|
|
|
|
|
|
|
|
||||
LOE, excluding production taxes |
|
6,949 |
|
6,753 |
|
2.9 |
|
20,235 |
|
18,543 |
|
9.1 |
|
||||
Production taxes |
|
9,060 |
|
9,423 |
|
(3.9 |
) |
28,411 |
|
29,422 |
|
(3.4 |
) |
||||
Gathering and compression (O&M) |
|
10,891 |
|
11,123 |
|
(2.1 |
) |
35,512 |
|
31,547 |
|
12.6 |
|
||||
Selling, general and administrative (SG&A) |
|
8,707 |
|
12,680 |
|
(31.3 |
) |
38,456 |
|
30,522 |
|
26.0 |
|
||||
Depreciation, depletion and amortization (DD&A) |
|
19,381 |
|
17,782 |
|
9.0 |
|
59,478 |
|
52,077 |
|
14.2 |
|
||||
Total operating expenses |
|
54,988 |
|
57,761 |
|
(4.8 |
) |
182,092 |
|
162,111 |
|
12.3 |
|
||||
Operating income |
|
$ |
62,166 |
|
$ |
63,230 |
|
(1.7 |
) |
$ |
188,203 |
|
$ |
200,656 |
|
(6.2 |
) |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
||||
Gain on sale of assets, net |
|
$ |
|
|
$ |
|
|
|
|
$ |
119,401 |
|
$ |
|
|
100.0 |
|
Equity in earnings of nonconsolidated investments |
|
$ |
1,379 |
|
$ |
71 |
|
1,842.3 |
|
$ |
2,085 |
|
$ |
53 |
|
3,834.0 |
|
Three Months Ended September 30, 2007
vs. Three Months Ended September 30, 2006
Equitable Supplys operating income totaled $62.2 million for the three months ended September 30, 2007 compared to $63.2 million for the three months ended September 30, 2006. The $1.0 million decrease in operating income was primarily the result of the sale and contribution of assets in the Nora Field, which reduced operating income by $6.7 million, an increase in DD&A and increased operating expenses for Equitable Supplys remaining gathering facilities, partially offset by adjustments to reserves in 2006 established in connection with West Virginia royalty disputes and other legal expenses and an increase in production revenues primarily due to new drilling.
Total operating revenues were $117.2 million for the three months ended September 30, 2007 compared to $121.0 million for the three months ended September 30, 2006. Production revenues were essentially flat, as a $0.12 per Mcfe increase in the average well-head sales price, primarily attributable to higher hedged prices partially offset by lower commodity prices, was offset by a 3% decrease in production sales volumes. The decrease in production sales volumes was primarily the result of the May 2007 sale to PMOG of interests which provided sales of 1,232 MMcfe in the third quarter of 2006 and the normal production decline in the companys wells, partially offset by increased production from the 2006 and 2007 drilling programs. Gathering revenues decreased 15% due to a 24% decrease in gathered volumes, partially offset by an 11% increase in the average gathering fee. The decrease in gathered volumes is primarily the result of a reduction in volumes gathered for Company production due to the contribution of gathering facilities and pipelines to Nora Gathering, LLC. The increase in the average gathering fee, primarily charged to affiliates, is reflective of the Companys commitment to an increased infrastructure program as well as operating cost increases.
Operating expenses totaled $55.0 million for the three months ended September 30, 2007 compared to $57.8 million for the three months ended September 30, 2006. The 5% decrease in operating expense is attributable to a $5.5 million decrease in expenses due to the sale and contribution of assets in the Nora Field, higher 2006 charges for reserves established for certain West Virginia royalty disputes and other legal expenses and 2006 adjustments to the reserve established for uncollectible accounts. These factors were partially offset by an increase in DD&A primarily due to increased depletion expense resulting from an increase in the unit rate, the reduction of certain liability reserves in 2006 and higher gathering and compression expense for the Companys remaining gathering facilities. The $0.08 increase in the depletion rate is attributable to increased investment in oil and gas producing properties. The higher gathering and compression expense for the Companys remaining gathering facilities is primarily due to electricity charges on newly installed electric compressors, increased field line and compressor maintenance related to the Companys infrastructure investments, increased field labor and related employment costs and increased
21
property taxes. In addition, the per unit gathering and compression rate increased as the per unit rate for the Nora Field properties contributed in 2007 was significantly lower than the rate for the Companys remaining properties.
Equity in earnings of nonconsolidated investments totaled $1.4 million for the three months ended September 30, 2007 compared to equity earnings of $0.1 million for the three months ended September 30, 2006. The $1.3 million increase was due to equity earnings recorded in the third quarter of 2007 for Equitable Supplys investment in Nora Gathering, LLC.
Capital expenditures totaled $175.0 million for the three months ended September 30, 2007 compared to $82.6 million for the three months ended September 30, 2006. The $92.4 million increase was due to an increased drilling and development plan in 2007, increased capital spending for midstream infrastructure projects including the construction of the Big Sandy Pipeline and the purchase of interests in the Roaring Fork Field.
Nine Months Ended September 30, 2007
vs. Nine Months Ended September 30, 2006
Equitable Supplys operating income for the nine months ended September 30, 2007 was $188.2 million compared to $200.7 million for the nine months ended September 30, 2006. The $12.5 million decrease in operating income was primarily the result of increased DD&A and other operating expenses, the sale and contribution of assets in the Nora Field, which reduced operating income by $9.8 million, and reserves established in connection with West Virginia royalty disputes. These factors were partially offset by increased production and gathering revenues.
Total operating revenues were $370.3 million for the nine months ended September 30, 2007 compared to $362.8 million for the nine months ended September 30, 2006. The $7.5 million increase in total operating revenues was primarily due to a 1% increase in production sales volumes, a 1% increase in the average well-head sales price and a 1% increase in gathering revenues. The 1% increase in production sales volumes was primarily the result of increased production from the 2006 and 2007 drilling programs, partially offset by the normal production decline in the Companys wells and the May 2007 sale to PMOG of interests which provided sales of 1,815 MMcfe in the first nine months of 2006. The $0.03 per Mcfe increase in the average well-head sales price was primarily attributable to higher hedged prices partially offset by lower commodity prices. The 1% increase in gathering revenues was due to a 10% increase in the average gathering fee, partially offset by a 9% decrease in gathered volumes. The increase in the average gathering fee is reflective of the Companys commitment to an increased infrastructure program as well as operating cost increases. The decrease in gathered volumes is primarily the result of a reduction in volumes gathered for Company production due to the contribution of gathering facilities and pipelines to Nora Gathering, LLC, partially offset by increased Company production and increased volumes gathered for third parties.
Operating expenses were $182.1 million for the nine months ended September 30, 2007, compared to $162.1 million for the nine months ended September 30, 2006. The increase in DD&A was primarily due to increased depletion expense resulting from both increases in the unit rate and volume, as well as increased depreciation on a higher asset base. The $0.08 increase in the depletion rate is primarily attributable to the increased investment in the oil and gas producing properties. Gathering and compression expense increased approximately 13% due to electricity charges on newly installed electric compressors, increased field line and compressor maintenance related to the Companys infrastructure investments, increased field labor and related employment costs and increased property taxes. The increase in SG&A was primarily due to increased reserves for certain West Virginia royalty disputes and the reduction of certain liability reserves in 2006, partially offset by 2006 adjustments to the reserve established for uncollectible accounts. The increase in LOE is attributable to personnel costs, increased direct operating costs and environmental costs. These increases were partially offset by a decrease in expenses due to the sale of assets in the Nora Field as previously discussed.
Equity in earnings of nonconsolidated investments totaled $2.1 million for the nine months ended September 30, 2007 compared to equity earnings of $0.1 million for the nine months ended September 30, 2006. The $2.0 million increase was due to equity earnings of $1.9 million recorded in 2007 for Equitable Supplys investment in Nora Gathering, LLC.
Capital expenditures totaled $470.5 million for the nine months ended September 30, 2007 compared to $205.0 million for the nine months ended September 30, 2006. The $265.5 million increase was due to increased capital
22
spending for midstream infrastructure projects, including the construction of the Big Sandy Pipeline, and an increased drilling and development plan in 2007.
OUTLOOK
Equitable Supplys Appalachian Basin business strategy is focused on growing through expansion of its drilling program and midstream gathering and processing systems. The Companys engineering projections and cost estimates for its horizontal drilling program have been revised to incorporate experience to date, reflecting an 8% reduction in estimated cost per well to $1.2 million, a 17% increase in the expected reserve recovery and a higher expected after-tax return of 17%, up from 15%. Based on the encouraging results of the horizontal program, the Company decided in the second quarter of 2007 to exclusively drill Kentucky shale wells horizontally. Horizontal wells typically require longer lead time for permitting and implementation of capital commitments. The decision not to drill some permitted vertical shale wells reduced the number of wells drilled and associated volumes, compared to the Companys previous drilling plan. Ultimately, volumes from the Kentucky shale drilling locations are expected to be higher as a result of using horizontal drilling technology.
Through its Equitrans affiliate, the Company is constructing the Big Sandy Pipeline, which will provide for a significant increase in midstream throughput capacity in the Appalachian region. On October 16, 2007 the Federal Energy Regulatory Commission granted Equitrans request for an extension of time until March 31, 2008 to complete construction of the Big Sandy Pipeline. The Company expects that the pipeline will be turned in line during the first quarter of 2008. The Company is also upgrading the Company-operated hydrocarbon processing plant in Langley, Kentucky, targeted for completion in the second quarter of 2008. The projects are projected to cost an aggregate of $255 million.
EQUITABLE UTILITIES
OVERVIEW
On March 1, 2006, the Company entered into a definitive agreement to acquire Dominion Resources, Inc.s (Dominion) natural gas distribution assets in Pennsylvania and in West Virginia for approximately $970 million, subject to adjustments, in a cash transaction for the stock of The Peoples Natural Gas Company (Peoples) and Hope Gas, Inc. (Hope). Each of the Company and Dominion has the right to terminate the Stock Purchase Agreement on and after November 1, 2007.
On April 13, 2007, the Pennsylvania Public Utility Commission (PA PUC) issued an Opinion and Order approving the stock acquisition of Peoples consistent with the terms and conditions of a Joint Petition for Settlement which includes, among other things, an agreement by the Company that Equitable Gas Company and Peoples will not make base rate case filings prior to January 1, 2009.
On May 14, 2007, the Public Service Commission of West Virginia (WV PSC) issued an order in the Companys proposed acquisition of Hope, which case has been consolidated with four other cases, to initiate a focused management audit regarding two Hope applications to adjust purchased gas costs. On July 24, 2007, the WV PSC issued another order bifurcating the acquisition case from the cases involving the focused management audit and soliciting comment from the parties as to, among other things, how to proceed with the acquisition case and the amount and form of an escrow proposed to be posted by Hope in connection with alleged wrong doing. On September 18, 2007, Dominion agreed to a settlement with West Virginias consumer advocate regarding the two gas-cost recovery proceedings which also resulted in the removal of the focused management audit requirement. On September 28, 2007 the WV PSC issued an order establishing a briefing schedule for all unresolved issues. The briefing schedule concludes with the filing of simultaneous reply briefs on November 16, 2007. The Company continues to engage in settlement negotiations with the interveners and with Dominion to resolve the open issues.
On March 14, 2007, the Federal Trade Commission (FTC) issued an administrative complaint challenging the Companys acquisition of Peoples. On April 13, 2007, the FTC filed a complaint in the U.S. District Court for the Western District of Pennsylvania seeking a preliminary injunction to enjoin the proposed acquisition. On May 14, 2007, the District Court dismissed the FTCs request for a preliminary injunction on the basis that the state action immunity doctrine barred the FTCs claim. The FTC appealed the dismissal to the United States Court of Appeals
23
for the Third Circuit. On June 1, 2007, the Third Circuit issued an injunction pending appeal preventing the Company from closing the transaction pending further order of the Third Circuit. On October 3, 2007, oral arguments were presented to the Third Circuit.
The transaction is also under review by the Pennsylvania Attorney General (PA AG). The PA AG has filed an amicus brief in the Third Circuit case arguing that the state action immunity doctrine does not apply, which is contrary to the Companys position. The PA PUC has filed an amicus brief in the Third Circuit case supporting the Companys position.
The Company has filed applications with the PA PUC and WV PSC to reorganize as a holding company. The Company expects to complete the reorganization upon receipt of the required approvals.
Pennsylvania law requires that local distribution companies develop and implement programs to assist low income customers with paying their gas bills. The costs of these programs are recovered through rates charged to other residential customers. Equitable Gas Company (Equitable Gas) has several such programs. In October 2006, Equitable Gas submitted a request for PA PUC approval to increase funding to support the increasing costs of its Customer Assistance Program (CAP). On September 27, 2007, the PA PUC issued an order approving an increase to Equitables surcharge designed offset the costs of CAP. The revised surcharge went into effect on October 2, 2007.
24
RESULTS OF OPERATIONS
EQUITABLE UTILITIES
|
|
Three Months Ended |
|
Nine Months Ended |
|
||||||||||||
|
|
2007 |
|
2006 |
|
% |
|
2007 |
|
2006 |
|
% |
|
||||
OPERATIONAL DATA |
|
|
|
|
|
|
|
|
|
|
|
|
|
||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
||||
Heating degree days (30 year normal average: Qtr 124; YTD 3,759) |
|
65 |
|
123 |
|
(47.2 |
) |
3,530 |
|
3,226 |
|
9.4 |
|
||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
||||
Residential sales and transportation volumes (MMcf) |
|
1,284 |
|
1,307 |
|
(1.8 |
) |
16,535 |
|
14,168 |
|
16.7 |
|
||||
Commercial and industrial volumes (MMcf) |
|
3,903 |
|
4,109 |
|
(5.0 |
) |
19,541 |
|
17,859 |
|
9.4 |
|
||||
Total throughput (MMcf) Distribution Operations |
|
5,187 |
|
5,416 |
|
(4.2 |
) |
36,076 |
|
32,027 |
|
12.6 |
|
||||
|
|
|
|
|
|
|
|
|
|
|
|
|
|
||||
Net operating revenues (thousands): |
|
|
|
|
|
|
|
|
|
|
|
|
|
||||
Distribution Operations (regulated): |
|
|
|
|
|
|
|
|
|
|
|
|
|
||||
Residential |
|
$ |
12,017 |
|
$ |
11,887 |
|
1.1 |
|
$ |
72,285 |
|
$ |
65,054 |
|
11.1 |
|
Commercial & industrial |
|
5,693 |
|
7,026 |
|
(19.0 |
) |
31,203 |
|
29,694 |
|
5.1 |
|
||||
Other |
|
1,901 |
|
2,487 |
|
(23.6 |
) |
5,892 |
|
5,691 |
|
3.5 |
|
||||
Total Distribution Operations |
|
19,611 |
|
21,400 |
|
(8.4 |
) |
109,380 |
|
100,439 |
|
8.9 |
|
||||
Pipeline Operations (regulated) |
|
14,216 |
|
15,377 |
|
(7.6 |
) |
46,659 |
|
54,314 |
|
(14.1 |
) |
||||
Energy Marketing |
|
7,103 |
|
2,878 |
|
146.8 |
|
44,571 |
|
29,522 |
|
51.0 |
|
||||
Total net operating revenues |
|
$ |
40,930 |
|
$ |
39,655 |
|
3.2 |
|
$ |
200,610 |
|
$ |
184,275 |
|
8.9 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
||||
Operating income (thousands): |
|
|
|
|
|
|
|
|
|
|
|
|
|
||||
Distribution Operations (regulated) |
|
$ |
(6,674 |
) |
$ |
(4,043 |
) |
65.1 |
|
$ |
23,587 |
|
$ |
25,528 |
|
(7.6 |
) |
Pipeline Operations (regulated) |
|
4,443 |
|
5,595 |
|
(20.6 |
) |
18,363 |
|
24,943 |
|
(26.4 |
) |
||||
Energy Marketing |
|
6,338 |
|
2,417 |
|
162.2 |
|
42,235 |
|
28,387 |
|
48.8 |
|
||||
Total operating income |
|
$ |
4,107 |
|
$ |
3,969 |
|
3.5 |
|
$ |
84,185 |
|
$ |
78,858 |
|
6.8 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
||||
DD&A (thousands): |
|
|
|
|
|
|