<PAGE>
================================================================================
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2000
------------------
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
Commission File Number: 1-10662
-------
Cross Timbers Oil Company
(Exact name of registrant as specified in its charter)
Delaware 75-2347769
-------- ----------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
810 Houston Street, Suite 2000, Fort Worth, Texas 76102
------------------------------------------------- ----------
(Address of principal executive offices) (Zip Code)
(817) 870-2800
-----------------------------------------------------
(Registrant's telephone number, including area code)
NONE
--------------------------------------------------------------
(Former name, former address and former fiscal year, if change
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
----- -----
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date:
Class Outstanding as of November 1, 2000
---------------------------- ----------------------------------
Common stock, $.01 par value 70,482,301
================================================================================
<PAGE>
CROSS TIMBERS OIL COMPANY
Form 10-Q for the Quarterly Period Ended September 30, 2000
INDEX
Page
----
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheets
at September 30, 2000 and December 31, 1999...................... 3
Consolidated Statements of Operations
for the Three and Nine Months Ended September 30, 2000 and 1999.. 4
Consolidated Statements of Cash Flows
for the Nine Months Ended September 30, 2000 and 1999............. 5
Notes to Consolidated Financial Statements.......................... 6
Report of Independent Public Accountants............................ 13
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations..................... 14
Item 3. Quantitative and Qualitative Disclosure about Market Risk........... 20
PART II. OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K.................................... 21
Signatures.......................................................... 22
2
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P A R T I. F I N A N C I A L I N F O R M A T I O N
CROSS TIMBERS OIL COMPANY
Consolidated Balance Sheets
--------------------------------------------------------------------------------
<TABLE>
<CAPTION>
(in thousands, except shares) September 30, December 31,
2000 1999
------------- -------------
(Unaudited)
<S> <C> <C>
ASSETS
Current Assets:
Cash and cash equivalents............................ $ 2,151 $ 5,734
Accounts receivable, net............................. 117,149 68,998
Investment in equity securities...................... - 29,052
Deferred income tax benefit.......................... 7,069 4,168
Other current assets................................. 8,804 5,540
---------- ----------
Total Current Assets................................ 135,173 113,492
---------- ----------
Property and Equipment, at cost -
successful efforts method:
Producing properties................................. 1,671,078 1,635,883
Undeveloped properties............................... 12,343 10,358
Gas gathering and other.............................. 36,853 32,902
---------- ----------
Total Property and Equipment........................ 1,720,274 1,679,143
Accumulated depreciation, depletion and amortization. (394,211) (340,063)
---------- ----------
Net Property and Equipment........................ 1,326,063 1,339,080
---------- ----------
Other Assets.......................................... 25,114 16,817
---------- ----------
Loans to Officers..................................... 8,061 7,692
---------- ----------
TOTAL ASSETS.......................................... $1,494,411 $1,477,081
========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Accounts payable and accrued liabilities............. $ 128,377 $ 68,937
Payable to royalty trusts............................ 5,715 2,739
Other current liabilities............................ 29,439 2,542
---------- ----------
Total Current Liabilities........................... 163,531 74,218
---------- ----------
Long-term Debt........................................ 928,000 991,100
---------- ----------
Deferred Income Taxes Payable......................... 58,813 25,975
---------- ----------
Other Long-term Liabilities........................... 25,142 7,959
---------- ----------
Commitments and Contingencies (Note 4)
Minority Interest in Consolidated Subsidiary.......... - 100,012
---------- ----------
Stockholders' Equity:
Series A Convertible preferred stock ($.01 par value,
25,000,000 shares authorized, 1,128,729 and
1,138,729 shares issued at liquidation
value of $25)...................................... 28,218 28,468
Common stock ($.01 par value, 100,000,000 shares
authorized, 80,564,517 and 87,282,751
shares issued)..................................... 806 873
Additional paid-in capital........................... 350,580 396,277
Treasury stock (10,792,257 and 13,949,073 shares).... (96,069) (119,387)
Retained earnings (deficit).......................... 35,390 (28,414)
---------- ----------
Total Stockholders' Equity......................... 318,925 277,817
---------- ----------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY............ $1,494,411 $1,477,081
========== ==========
</TABLE>
See Accompanying Notes to Consolidated Financial Statements.
3
<PAGE>
CROSS TIMBERS OIL COMPANY
Consolidated Statements of Operations (Unaudited)
--------------------------------------------------------------------------------
<TABLE>
<CAPTION>
(in thousands, except per share data) Three Months Ended Nine Months Ended
September 30, September 30,
-------------------- ------------------
2000 1999 2000 1999
-------- -------- -------- --------
<S> <C> <C> <C> <C>
REVENUES
Oil and condensate................................. $ 34,946 $ 23,273 $ 93,163 $ 58,413
Gas and natural gas liquids........................ 124,137 66,344 293,819 161,556
Gas gathering, processing and marketing............ 2,031 1,763 7,263 4,791
Other.............................................. (595) 3,946 1,250 5,531
-------- -------- -------- --------
Total Revenues..................................... 160,519 95,326 395,495 230,291
-------- -------- -------- --------
EXPENSES
Production......................................... 21,128 19,484 62,226 56,282
Taxes, transportation and other.................... 15,993 8,634 39,641 23,971
Exploration........................................ 49 275 751 804
Depreciation, depletion and amortization........... 31,562 28,300 94,748 77,630
Gas gathering and processing....................... 2,261 2,213 6,688 6,429
General and administrative......................... 12,082 3,298 26,849 9,058
Loss in derivative fair value...................... 8,545 - 35,369 -
-------- -------- -------- --------
Total Expenses..................................... 91,620 62,204 266,272 174,174
-------- -------- -------- --------
OPERATING INCOME.................................... 68,899 33,122 129,223 56,117
-------- -------- -------- --------
OTHER INCOME (EXPENSE)
Gain on significant property divestitures.......... - 235 18,979 40,566
Gain (loss) on investment in equity securities..... (112) 2,391 13,279 8,939
Interest expense, net.............................. (20,593) (16,440) (60,255) (45,223)
-------- -------- -------- --------
Total Other Income (Expense)....................... (20,705) (13,814) (27,997) 4,282
-------- -------- -------- --------
INCOME BEFORE INCOME TAX
AND MINORITY INTEREST.............................. 48,194 19,308 101,226 60,399
-------- -------- -------- --------
INCOME TAX
Current............................................ 9 8 300 (6)
Deferred........................................... 16,377 6,430 34,104 20,395
-------- -------- -------- --------
Total Income Tax Expense (Benefit)................. 16,386 6,438 34,404 20,389
-------- -------- -------- --------
MINORITY INTEREST
in Net (Income) Loss of Consolidated Subsidiaries.. - 645 (59) 645
-------- -------- -------- --------
NET INCOME.......................................... 31,808 13,515 66,763 40,655
Preferred Stock Dividends.......................... (442) (444) (1,332) (1,334)
-------- -------- -------- --------
EARNINGS AVAILABLE TO COMMON STOCK.................. $ 31,366 $ 13,071 $ 65,431 $ 39,321
======== ======== ======== ========
EARNINGS PER COMMON SHARE
Basic.............................................. $0.45 $ 0.18 $ 0.93 $0.57
======== ======== ======== ========
Diluted............................................ $0.43 $ 0.17 $ 0.89 $0.56
======== ======== ======== ========
DIVIDENDS DECLARED PER COMMON SHARE................. $0.01 $ 0.0067 $ 0.0233 $0.02
======== ======== ======== ========
WEIGHTED AVERAGE COMMON SHARES
OUTSTANDING........................................ 69,518 73,371 70,289 69,210
======== ======== ======== ========
</TABLE>
See Accompanying Notes to Consolidated Financial Statements.
4
<PAGE>
CROSS TIMBERS OIL COMPANY
Consolidated Statements of Cash Flows (Unaudited)
--------------------------------------------------------------------------------
<TABLE>
<CAPTION>
(in thousands) Nine Months Ended
September 30,
---------------------
2000 1999
--------- ---------
<S> <C> <C>
OPERATING ACTIVITIES
Net income......................................................................... $ 66,763 $ 40,655
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation, depletion and amortization.......................................... 94,748 77,630
Stock incentive compensation...................................................... 10,162 71
Deferred income tax............................................................... 34,104 20,395
Gain on investment in equity securities and from sale of properties............... (35,727) (58,972)
Loss in derivative fair value..................................................... 34,282 -
Minority interest in net income of consolidated subsidiaries...................... 59 (645)
Other non-cash items.............................................................. 2,297 1,936
Changes in operating assets and liabilities (a).................................... 51,081 17,180
--------- ---------
Cash Provided by Operating Activities.............................................. 257,769 98,250
--------- ---------
INVESTING ACTIVITIES
Proceeds from sale of Hugoton Royalty Trust units.................................. - 148,570
Proceeds from sale of other property and equipment................................. 76,914 106,428
Property acquisitions.............................................................. (31,278) (275,598)
Purchase of Spring Holding Company................................................. - (42,540)
Development costs.................................................................. (95,102) (59,948)
Gas gathering and other additions.................................................. (9,352) (8,154)
(Loans to) repayments from officers................................................ 60 (672)
--------- ---------
Cash Used by Investing Activities.................................................. (58,758) (131,914)
--------- ---------
FINANCING ACTIVITIES
Proceeds from short- and long-term debt............................................ 417,400 220,000
Payments on short- and long-term debt.............................................. (480,500) (295,262)
Dividends.......................................................................... (2,753) (4,017)
Purchase minority interest......................................................... (100,071) (42,385)
Contributions from minority interests.............................................. - 142,500
Common stock offering.............................................................. - 29,668
Net proceeds related to stock option exercises..................................... 11,539 71
Purchases of treasury stock........................................................ (48,209) (25,519)
--------- ---------
Cash Provided (Used) by Financing Activities....................................... (202,594) 25,056
--------- ---------
DECREASE IN CASH AND CASH EQUIVALENTS............................................... (3,583) (8,608)
Cash and Cash Equivalents, Beginning of Period...................................... 5,734 12,333
--------- ---------
Cash and Cash Equivalents, End of Period............................................ $ 2,151 $ 3,725
========= =========
(a) Changes in Operating Assets and Liabilities
Accounts receivable............................................................ $ (48,896) $ 10,510
Investment in equity securities................................................ 43,746 19,449
Other current assets........................................................... (3,264) 804
Accounts payable, accrued liabilities and payable to royalty trusts............ 54,169 (20,782)
Other current liabilities...................................................... - 1,188
Other assets................................................................... (6,490) -
Other long-term liabilities.................................................... 11,816 6,011
--------- ---------
$ 51,081 $ 17,180
========= =========
</TABLE>
See Accompanying Notes to Consolidated Financial Statements.
5
<PAGE>
CROSS TIMBERS OIL COMPANY
Notes to Consolidated Financial Statements
--------------------------------------------------------------------------------
1. Interim Financial Statements
The accompanying consolidated financial statements of Cross Timbers Oil
Company, with the exception of the consolidated balance sheet at December 31,
1999, have not been audited by independent public accountants. In the opinion
of the Company's management, the accompanying financial statements reflect all
adjustments necessary to present fairly the Company's financial position at
September 30, 2000, its results of operations for the three and nine months
ended September 30, 2000 and 1999, and its cash flows for the nine months ended
September 30, 2000 and 1999. All such adjustments are of a normal recurring
nature. Certain amounts presented in prior period financial statements have
been reclassified for consistency with current period presentation. The results
for interim periods are not necessarily indicative of annual results.
Certain disclosures have been condensed or omitted from these financial
statements. Accordingly, these financial statements should be read with the
consolidated financial statements included in the Company's 1999 Annual Report
on Form 10-K.
Comprehensive Income
During the nine months ended September 30, 2000 and 1999, there were no
reportable elements of comprehensive income other than net income.
2. Investment in Equity Securities
In 1998, the Company purchased what it believed to be undervalued oil and gas
reserves through investments in publicly traded equity securities of select
energy companies. A portion of these securities were sold in 1998 and 1999.
During the first nine months of 2000, the Company sold its remaining investment
in equity securities for $43.7 million, resulting in a gain of $13.3 million.
The following are components of gain on investment in equity securities (in
thousands):
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
--------------- ---------------------------
2000 1999 2000 1999
------ ------- -------- --------
<S> <C> <C> <C> <C>
Realized gains (losses) on sale of securities:
Gains...................................................... $ - $ 531 $ 4,683 $ 531
Losses..................................................... (200) - (31,484) (23,047)
----- ------- -------- --------
Net gains (losses)......................................... (200) 531 (26,801) (22,516)
Changes in unrealized gains and losses....................... 145 3,288 41,496 35,983
Interest expense related to investment in equity securities.. (57) (1,428) (1,416) (4,528)
----- ------- -------- --------
Gain (loss) on investment in equity securities............... $(112) $ 2,391 $ 13,279 $ 8,939
===== ======= ======== ========
</TABLE>
3. Long-term Debt
On May 12, 2000, the Company entered into a new revolving credit agreement
with commercial banks with a commitment of $800 million. Proceeds of this loan
agreement were used to refinance the Company's previous senior credit facility
and to fully repay a $25 million term loan and the separate bank debt of the
Company's subsidiaries, Spring Holding Company and Summer Acquisition Company.
Borrowings at September 30, 2000 under the loan agreement were $628 million with
unused borrowing capacity of $172 million. Borrowings under the loan agreement
are due
6
<PAGE>
May 12, 2005 and the interest rate of 8.3% at September 30, 2000 was based on
the London Interbank Offered Rate plus 1 8/8%. The credit facility is secured by
the Company's producing properties. On June 20, 2000, the loan agreement was
amended to allow the Company to issue letters of credit. Any letters of credit
outstanding reduce the borrowing capacity under the revolving credit facility.
As of November 2000, a $10 million letter of credit is outstanding. Other
significant provisions of the loan agreement remain unchanged from the previous
revolving credit agreement.
4. Commitments and Contingencies
Commodity Commitments
The Company has entered into natural gas futures contracts and swap
agreements that effectively fix prices, and natural gas call options that
provide ceiling prices, for the production and periods shown below. See Note 5.
Prices to be realized for hedged production will be less than these NYMEX prices
because of location, quality and other adjustments. See "Oil and Gas Production
and Prices" under Item 2, Management's Discussion and Analysis of Financial
Condition and Results of Operations.
<TABLE>
<CAPTION>
Futures Contracts
and Swap Agreements Call Options
----------------------- -------------------------------
Fixed Price Ceiling Price
Production Period Mcf per Day per Mcf Mcf per Day per Mcf
--------------------------------------- ----------- ---------- ------------ ----------------
<S> <C> <C> <C> <C> <C>
2000 November 70,000 $ 2.44 10,000 $ 3.80
December 70,000 2.42 - -
December 160,000 5.11 (b) - -
2001 January 70,000 2.44 20,000 3.07 (a)
February 75,000 2.46 20,000 3.07 (a)
March 70,000 2.43 20,000 3.07 (a)
April to October 70,000 2.40 53,333 2.60 - 3.07 (a)
November 70,000 2.48 20,000 3.07 (a)
December 70,000 2.56 20,000 3.07 (a)
</TABLE>
----------------
(a) Includes a natural gas call option to sell 20,000 Mcf per day in the San
Juan Basin at an average ceiling index price of $2.70 per Mcf for the
year 2001 which is exercisable in December 2001. Based on current San
Juan Basin basis of approximately $0.32 per Mcf and including premium
received of $0.05 per Mcf, this call option is reflected above at a NYMEX
price of $3.07 per Mcf.
(b) The Company entered these futures contracts in November 2000.
The Company has entered into basis swap agreements which effectively fix
basis for the following production and periods:
<TABLE>
<CAPTION>
Location Production Period Mcf per Day Basis per Mcf
------------------ -------------------------- ----------- -------------
<S> <C> <C> <C>
Arkoma 2000 November to December 42,500 $0.13
2001 January 40,000 0.13
San Juan Basin 2000 November to December 30,000 0.24
2001 January to March 30,000 0.24
Rockies 2000 November to December 20,000 0.36
2001 January to March 20,000 0.36
</TABLE>
The Company's hedging activities related to October 2000 gas production, net
of the effects of basis swap agreements, resulted in a net reduction in gas
revenue of $4.8 million, or approximately $0.45 per Mcf. For the nine months
ended September 30, 2000, the Company's hedging activities reduced gas revenue
by $24.9 million, or $0.27 per Mcf and reduced oil revenue by $7.9 million, or
$2.21 per Bbl.
From August 1995 through July 1998 the Company received an additional $0.30
to $0.35 per Mcf on 10,000 Mcf of gas per day. In exchange therefor, the
Company agreed to sell 11,650 Mcf of gas per day from August 1998 through May
2000 at the index price and 21,650 Mcf per day from June 2000 through July 2005
at a price of approximately 10% of the average NYMEX futures price for
intermediate crude oil. After contract amendments in May and October 2000,
7
<PAGE>
the Company has agreed to sell 21,650 Mcf per day at the index price through
December 2000, 34,344 Mcf per day at the index price in 2001 and 35,500 Mcf per
day from 2002 through July 2005 at a price of approximately 10% of the average
NYMEX futures price for intermediate crude oil. See "Accounting Pronouncements"
under Item 2, Management's Discussion and Analysis of Financial Condition and
Results of Operations.
Litigation
On April 3, 1998, a class action lawsuit, styled Booth, et al. v. Cross
Timbers Oil Company, was filed against the Company in the District Court of
Dewey County, Oklahoma. The action was filed on behalf of all persons who, at
any time since June 1991, have been paid royalties on gas produced from any gas
well within the State of Oklahoma under which the Company has assumed the
obligation to pay royalties. The plaintiffs allege that the Company has reduced
royalty payments by post-production deductions and has entered into contracts
with subsidiaries that were not arm's-length transactions. The plaintiffs
further allege that these actions reduced the royalties paid to the plaintiffs
and those similarly situated, and that such actions are a breach of the leases
under which the royalties are paid. These deductions allegedly include
production and post-production costs, marketing costs, administration costs and
costs incurred by the Company in gathering, compressing, dehydrating,
processing, treating, blending and/or transporting the gas produced. The Company
contends that, to the extent any fees are proportionately borne by the
plaintiffs, these fees are established by arm's-length negotiations with third
parties or, if charged by affiliates, are comparable to fees charged by other
third party gatherers or processors. The Company further contends that any such
fees enhance the value of the gas or the products derived from the gas. The
plaintiffs are seeking an accounting and payment of the monies allegedly owed to
them. A hearing on the class certification issue has not been scheduled.
Management believes it has strong defenses against this claim and intends to
vigorously defend the action. Management's estimate of the potential liability
from this claim has been accrued in the Company's financial statements.
On October 17, 1997, an action, styled United States of America ex rel.
Grynberg v. Cross Timbers Oil Company, et al., was filed in the U. S. District
Court for the Western District of Oklahoma against the Company and certain of
its subsidiaries by Jack J. Grynberg on behalf of the United States under the
qui tam provisions of the False Claims Act. The plaintiff alleges that the
Company underpaid royalties on gas produced from federal leases and lands owned
by Native Americans by at least 20% during the past 10 years as a result of
mismeasuring the volume of gas and incorrectly analyzing its heating content.
The plaintiff has made similar allegations in over 70 actions filed against more
than 300 other companies. The plaintiff seeks to recover the amount of
royalties not paid, together with treble damages, a civil penalty of $5,000 to
$10,000 for each violation and attorney fees and expenses. After its review,
the Department of Justice decided in April 1999 not to intervene and asked the
court to unseal the case. The court unsealed the case in May 1999. A multi-
district litigation panel ordered that the lawsuits against the Company and
other companies filed by Grynberg be transferred and consolidated to the federal
district court in Wyoming. The Company and other defendants filed a motion to
dismiss which has been heard by the Court and a decision is pending. The
Company believes that the allegations of this lawsuit are without merit and
intends to vigorously defend the action.
A third lawsuit, Bishop, et al. v. Amoco Production Co., et al., was filed in
May 2000 in the Third Judicial District Court in Lincoln County, Wyoming by
owners of royalty and overriding royalty interests in wells located in Wyoming.
The plaintiffs allege that the Company and the other producer defendants have
deducted impermissible costs of production from royalty payments that have been
made to the plaintiffs and other similarly situated persons and have failed to
properly inform the plaintiffs and others of the deductions taken. The action
is being brought as a class action on behalf of all persons who own an interest
in wells located in Wyoming as to which the defendants pay royalties and
overriding royalties. The plaintiffs seek a declaratory judgment that the
deductions made are impermissible and seek damages in the amount of the
deductions made together with interest and attorneys' fees. The Company
believes that the plaintiffs' interpretation of a Wyoming statute that addresses
this issue, which the plaintiffs based on a 1999 court decision, is erroneous,
and that any deductions made from royalties by the Company are permitted by the
statute. The Company intends to vigorously defend this action.
The Company is involved in various other lawsuits and certain governmental
proceedings arising in the ordinary course of business. Company management and
legal counsel do not believe that the ultimate resolution of these claims,
including the lawsuits described above, will have a material effect on the
Company's financial position or liquidity,
8
<PAGE>
although an unfavorable outcome could have a material adverse effect on the
operations of a given interim period or year.
5. Derivatives
In conjunction with its hedging activities, the Company entered gas call
options (Note 4). Because these options are covered by Company production and
the strike prices are below current market gas prices, they have the same effect
on the Company as product hedges. However, because options do not provide
protection against declining prices, they do not qualify for hedge or loss
deferral accounting. The opportunity loss, related to gas prices exceeding the
fixed gas prices effectively provided by the call options, has been recognized
as a loss, rather than deferring the loss and recognizing it as reduced gas
revenue when the hedged production occurs, as prescribed by hedge accounting.
For the nine months ended September 30, 2000, a net fair value loss of $35.4
million has been recorded in the consolidated statements of operations, of which
$1.1 million was cash settled.
During July 2000, a portion of these call options were terminated and the
Company entered swap agreements that provide effective hedges (Note 4).
Deferred revenue related to these swap agreements will be amortized over the
related terms, resulting in realized NYMEX gas prices of $4.06 per Mcf for
10,000 Mcf per day through October 2000 and $3.46 per Mcf for 30,000 Mcf per day
in 2001.
As of September 30, 2000, the accompanying consolidated balance sheet
includes other current liabilities of $19.4 million and other long-term
liabilities of $4.6 million related to the net fair value loss of call options.
Deferred revenue related to swap agreements was $9.6 million at September 30,
2000, and is recorded in the accompanying consolidated balance sheet as $7.3
million in other current liabilities and $2.3 million in other long-term
liabilities.
See Item 3, Quantitative and Qualitative Disclosures about Market Risk.
6. Common Stock
On September 18, 2000, the Company effected a three-for-two common stock
split. All share and per share amounts have been restated to reflect the stock
split on a retroactive basis.
In February 2000, the Board of Directors authorized the repurchase of 3.8
million shares of the Company's common stock. Upon completion of repurchases
under this authorization, the Board of Directors authorized the repurchase of an
additional 4.5 million shares in May. During the first nine months of 2000, the
Company repurchased 5.3 million shares of its common stock at a cost of $41.4
million, including 1.3 million shares repurchased under a prior Board
authorization. As of November 1, 4.3 million shares are available for
repurchase under the May 2000 Board authorization.
In May 2000, in conjunction with the dissolution of Whitewine Holding
Company, the Company's wholly owned subsidiary, 8.9 million shares were canceled
from treasury stock. This transaction caused a $71.5 million reduction in
treasury stock with an offsetting reduction in additional paid-in capital,
resulting in no change to total stockholders' equity.
During the first nine months of 2000, 10,000 shares of convertible preferred
stock were converted by stockholders into 32,400 shares of common stock.
9
<PAGE>
7. Common Shares Outstanding and Earnings per Common Share
The following reconciles earnings (numerator) and shares (denominator) used
in the computation of basic and diluted earnings per share (in thousands, except
per share data):
<TABLE>
<CAPTION>
Three Months Ended September 30,
----------------------------------------------------------------
2000 1999
------------------------------- -------------------------------
Earnings Earnings
Earnings Shares per Share Earnings Shares per Share
-------- --------- -------- -------- --------- ---------
<S> <C> <C> <C> <C> <C> <C>
Basic:
Net income.......................... $ 31,808 $ 13,515
Preferred stock dividends........... (442) (444)
------- --------
Earnings available to
common stock - basic.............. 31,366 69,518 $ 0.45 13,071 73,371 $ 0.18
======= =======
Diluted:
Effect of dilutive securities:
Stock options...................... - 1,140 - 351
Preferred stock (a)................ 442 3,657 444 3,690
Warrants........................... - 521 - -
-------- --------- --------- ---------
Earnings available to
common stock - diluted............ $ 31,808 74,836 $ 0.43 $ 13,515 77,412 $ 0.17
======== ========= ======= ======== ========= =======
</TABLE>
<TABLE>
<CAPTION>
Nine Months Ended September 30,
----------------------------------------------------------------
2000 1999
------------------------------- -------------------------------
Earnings Earnings
Earnings Shares per Share Earnings Shares per Share
-------- --------- -------- -------- --------- ---------
<S> <C> <C> <C> <C> <C> <C>
Basic:
Net income.......................... $ 66,763 $ 40,655
Preferred stock dividends........... (1,332) (1,334)
-------- --------
Earnings available to
common stock - basic.............. 65,431 70,289 $ 0.93 39,321 69,210 $ 0.57
======= =======
Diluted:
Effect of dilutive securities:
Stock options...................... - 515 - 153
Preferred stock (a)................ 1,332 3,677 1,334 3,690
Warrants........................... - 149 - -
-------- --------- -------- ---------
Earnings available to
common stock - diluted............ $ 66,763 74,630 $ 0.89 $ 40,655 73,053 $ 0.56
======== ========= ======= ======== ========= =======
-----------------------
</TABLE>
(a) Based on common shares outstanding at November 1, 2000, conversion of Series
a convertible preferred stock becomes dilutive to earnings per share when
annual earnings available to common stock exceeds approximately $34 million
and when quarterly earnings available to common stock exceeds approximately
$8.5 million.
8. Supplemental Cash Flow Information
The following are total interest and income tax payments during each of the
periods (in thousands):
Nine Months Ended September 30,
-------------------------------
2000 1999
--------------- --------------
Interest........... $ 54,418 $ 39,573
Income tax......... 917 (282)
10
<PAGE>
The accompanying consolidated statements of cash flows exclude the following
non-cash equity transactions during the nine-month periods ended September 30,
2000 and 1999:
- Grants of 472,500 performance shares and vesting of 757,500 performance
shares in 2000 (Note 9)
- Cancellation of 8.9 million shares of treasury stock in 2000 (Note 6)
- Conversion of 10,000 shares of preferred stock to common stock in 2000
(Note 6)
- Issuance of 5,580,000 shares of common stock, valued at $42.5 million,
to purchase a 50% interest in Spring Holding Company, Inc. in 1999
- Sale of 73,684 Hugoton Royalty Trust units in exchange for 73,132 shares
of common stock valued at $700,000 in 1999
9. Employee Benefit Plans
Stock Incentive Plans
During the first nine months of 2000, a total of 1.9 million stock options
were exercised with an exercise price of $14.2 million. As a result of these
exercises, outstanding common stock increased by 1.5 million shares and
stockholders' equity increased by a net $13.2 million.
Performance Shares
During the first nine months of 2000, 285,000 performance shares issued to
key employees in 1998 and 1999, and 472,500 performance shares issued in 2000
vested when the stock price closed above various prices. Performance share
compensation of $9.8 million was recorded during the nine months ended September
30, 2000. In October, an additional 120,000 performance shares were granted, of
which 60,000 shares vested when the stock price closed above $22.50. The
remaining 60,000 shares will vest when the stock price closes above $25.00.
Additional performance share compensation recorded in October related to such
vesting and grants totaled $2.5 million.
Royalty Trust Option Plan
In October and November 2000, officers of the Company exercised options
issued in December 1998 to purchase 1.2 million Hugoton Royalty Trust units from
the Company. The Company received 600,000 shares of common stock from the
officers in payment of the $11.3 million option exercise price and related
withholding taxes. Gain on the Company's sale of units will be partially offset
by related non-cash compensation.
10. Ocean Energy Acquisition
On September 15, 1999, the Company and Lehman Brothers Holdings, Inc.
acquired Arkoma Basin oil and gas properties from Ocean Energy, Inc. for $231
million. The original purchase price of $235.3 million was reduced by estimated
net revenue received between the July 1, 1999 effective date and the closing
date. Additional purchase price adjustments may result from post-closing
adjustments. All purchase costs will be allocated to oil and gas properties.
The Company and Lehman each owned 50% of Whitewine Holding Company, which was
formed to acquire the Arkoma Basin properties. Pursuant to a put and call
agreement, the Company purchased Lehman's 50% interest in the Ocean Energy
Acquisition on March 31, 2000 for $111 million, or $11 million in excess of the
recorded minority interest, which excess was recorded as producing property
cost. Although the Company and Lehman had equal board representation and
control of Whitewine, the Company's management controlled operations of the
properties since September 15, 1999 and had the right to purchase Lehman's
interest pursuant to the call agreement. Whitewine's financial results are
consolidated in the Company's financial statements, with recognition of Lehman's
50% interest as a minority interest through March 31, 2000.
11
<PAGE>
11. Dispositions
In March 2000, the Company sold primarily gas producing properties in
Crockett County, Texas for gross proceeds of $43 million and sold oil and gas
producing properties in Lea County, New Mexico for gross proceeds of $25.3
million. Both sales are subject to post-closing adjustments. The Company used
the proceeds from these sales to partially fund the purchase of Lehman's
interest in Whitewine from Lehman on March 31, 2000. See Note 10.
12. Cross Timbers Royalty Trust
On October 6, 2000, the Company and Cross Timbers Royalty Trust filed an
amended registration statement with the Securities and Exchange Commission to
sell 1,360,000 units (22.7% of outstanding units) held by the Company. The
Company's sale of these units is dependent upon commodity prices and related
market conditions for oil and gas equities. These units are classified as
producing properties in the accompanying balance sheet at a net cost of $13.5
million at September 30, 2000.
12
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
Cross Timbers Oil Company:
We have reviewed the accompanying consolidated balance sheet of Cross Timbers
Oil Company (a Delaware corporation) and its subsidiaries as of September 30,
2000 and the related consolidated statements of operations for the three- and
nine-month periods ended September 30, 2000 and 1999, and the consolidated
statements of cash flows for the nine-month periods ended September 30, 2000 and
1999. These financial statements are the responsibility of the Company's
management.
We conducted our review in accordance with standards generally accepted in the
United States. A review of interim financial information consists principally
of applying analytical procedures to financial data and making inquiries of
persons responsible for financial and accounting matters. It is substantially
less in scope than an audit conducted in accordance with auditing standards
generally accepted in the United States, the objective of which is the
expression of an opinion regarding the financial statements taken as a whole.
Accordingly, we do not express such an opinion.
Based on our review, we are not aware of any material modifications that should
be made to the consolidated financial statements referred to above for them to
be in conformity with accounting principles generally accepted in the United
States.
We have previously audited, in accordance with auditing standards generally
accepted in the United States, the consolidated balance sheet of Cross Timbers
Oil Company as of December 31, 1999 included in the Company's 1999 Annual Report
on Form 10-K, and in our report dated March 17, 2000, we expressed an
unqualified opinion on that statement. In our opinion, the information set
forth in the accompanying consolidated balance sheet as of December 31, 1999 is
fairly stated, in all material respects, in relation to the consolidated balance
sheet included in the Company's 1999 Annual Report on Form 10-K from which it
has been derived.
ARTHUR ANDERSEN LLP
Fort Worth, Texas
October 21, 2000
13
<PAGE>
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion should be read in conjunction with management's
discussion and analysis contained in the Company's 1999 annual report on Form
10-K, as well as with the consolidated financial statements and notes thereto
included in this quarterly report on Form 10-Q.
Oil and Gas Production and Prices
---------------------------------
<TABLE>
<CAPTION>
Quarter Ended September 30, Nine Months Ended September 30,
-------------------------------------- ---------------------------------------------
Increase Increase
2000 1999 (Decrease) 2000 1999 (Decrease)
----------- ----------- ----------- ------------ ------------ -----------------
<S> <C> <C> <C> <C> <C> <C>
Total production
Oil (Bbls)................... 1,163,755 1,207,012 (4%) 3,553,934 3,894,459 (9%)
Gas (Mcf).................... 31,464,426 26,554,496 18% 92,184,196 74,509,784 24%
Natural gas liquids (Bbls)... 423,965 343,155 24% 1,205,455 922,242 31%
Mcfe......................... 40,990,746 35,855,498 14% 120,740,530 103,409,990 17%
Average daily production
Oil (Bbls)................... 12,650 13,120 (4%) 12,971 14,265 (9%)
Gas (Mcf).................... 342,005 288,636 18% 336,439 272,930 23%
Natural gas liquids (Bbls)... 4,608 3,730 24% 4,399 3,378 30%
Mcfe......................... 445,552 389,734 14% 440,659 378,791 16%
Average sales price
Oil per Bbl.................. $ 30.03 $ 19.28 56% $ 26.21 $ 15.00 75%
Gas per Mcf.................. $ 3.68 $ 2.32 59% $ 2.95 $ 2.04 45%
Natural gas liquids per Bbl.. $ 19.63 $ 13.64 44% $ 18.50 $ 10.49 76%
</TABLE>
-----------------
Bbl - Barrel
Mcf - Thousand cubic feet
Mcfe- Thousand cubic feet of natural gas equivalent (computed on an energy
equivalent basis of one Bbl equals six Mcf)
Total oil production decreased primarily because of property sales and
developmental downtime, partially offset by acquisitions and development.
Increased gas production is primarily attributable to 1999 acquisitions and
development activity, partially offset by property sales. Increased natural gas
liquids production is related to development activity and lower first quarter
1999 production because of low ethane prices.
The average posted price for West Texas Intermediate ("WTI"), a benchmark
crude, was $28.76 per Bbl for third quarter 2000, compared to $18.95 for third
quarter 1999. The average NYMEX price for oil was $31.66 for third quarter
2000, compared to $21.71 for third quarter 1999. The Company's average oil
price, before consideration of hedging, is generally higher than the WTI posted
price because of quality and location differentials. Average prices during 1999
reflect abnormally low prices resulting from excess global supply. After OPEC
members and other oil producers agreed to production cuts in March 1999, oil
prices climbed through the remainder of 1999 and first quarter 2000. Despite
OPEC production increases during 2000, increased demand has sustained higher
prices, resulting in a 10-year high WTI posted price of $34.25 on September 20.
The average WTI posted price for October 2000 was $29.96.
Lower 1999 gas prices reflected high levels of gas in storage remaining from
the abnormally warm winter of 1998-1999. Gas prices began to increase in May
1999 and, after declining briefly at year end, have continued to strengthen in
2000. Higher gas prices have been supported by both lower gas storage levels
and increased demand for power generation and are expected to remain high as the
winter heating season approaches. At November 6, 2000, the average NYMEX price
for the following twelve months was $4.45 per MMBtu.
14
<PAGE>
The Company uses price-hedging arrangements to reduce price risk on a portion
of its oil and gas production; see Note 4 to Consolidated Financial Statements.
During third quarter 2000, the Company's hedging activities reduced gas revenue
by $8.9 million, or $0.28 per Mcf, and reduced oil revenue by $100,000, or $0.10
per Bbl. For the first nine months of 2000, the Company's hedging activities
reduced gas revenue by $24.9 million, or $0.27 per Mcf and reduced oil revenue
by $7.9 million or $2.21 per Bbl. During third quarter 1999, hedging activities
decreased gas revenue by $6.2 million, or $0.24 per Mcf, and oil revenue by $1.2
million, or $0.97 per Bbl. For the first nine months of 1999, hedging
activities decreased gas revenue by $3.6 million, or $0.05 per Mcf, and
decreased oil revenue by $2.1 million, or $0.54 per Bbl.
Results of Operations
---------------------
Quarter Ended September 30, 2000 Compared with Quarter Ended September 30, 1999
Earnings available to common stock for third quarter 2000 were $31.4 million
compared to third quarter 1999 earnings of $13.1 million. Earnings for the 2000
quarter were $41.2 million before recording after-tax charges of $5.6 million
for loss in the fair value of certain derivatives related to the Company's
hedging activities, $3.8 million in non-cash stock incentive compensation and
$400,000 for losses on asset sales. In the third quarter of 1999, the Company
reported earnings of $8.3 million before recording after-tax gains of $3.2
million from sale of properties and $1.6 million on investment in equity
securities.
Total revenues for the 2000 quarter were $160.5 million, a 68% increase over
third quarter 1999 revenues of $95.3 million. Operating income for the quarter
was $68.9 million, a 108% increase from third quarter 1999 operating income of
$33.1 million. Oil revenue increased $11.7 million (50%) because of the 56%
increase in oil prices, partially offset by the 4% decrease in oil production.
Gas and natural gas liquids revenues increased $57.8 million (87%) primarily
because of the 59% increase in gas prices and 44% increase in natural gas
liquids prices as well as an 18% increase in gas production and a 24% increase
in natural gas liquids production. Third quarter gas gathering, processing and
marketing revenues increased $300,000 (15%) from 1999 to 2000 primarily because
of higher margins. Other revenues decreased $4.5 million because of gains from
property sales in 1999.
Expenses for third quarter 2000 totaled $91.6 million, a 47% increase from
third quarter 1999 expenses of $62.2 million. Production expense increased $1.6
million (8%) and depreciation, depletion and amortization ("DD&A") increased
$3.3 million (12%) because of increased production related to acquisitions and
development. Taxes, transportation and other increased $7.4 million (85%) over
the third quarter of 1999 primarily because of increased oil and gas revenues
and transportation and fuel charges. Exploration expense, which primarily
includes geological and geophysical costs, decreased $200,000 (82%) due to
decreased activity. General and administrative expense ("G&A") increased $8.8
million (266%) primarily because of non-cash stock incentive compensation and
Company growth. Third quarter 2000 expenses also include an $8.5 million loss in
fair value of certain derivatives entered in conjunction with the Company's
hedging activities. These derivatives do not qualify for hedge, or loss
deferral, accounting. See Note 5 to Consolidated Financial Statements.
The Company sold its remaining investment in equity securities during third
quarter 2000, resulting in a $100,000 loss. The Company recognized a $2.4
million gain on investment in equity securities in third quarter 1999. Interest
expense increased $4.2 million (25%) primarily because of 8% increases in the
weighted average debt outstanding and interest rate and a decrease in interest
reclassified to marketable securities.
Nine Months Ended September 30, 2000 Compared with Nine Months Ended September
30, 1999
Earnings available to common stock for the nine months ended September 30,
2000 were $65.4 million, compared with earnings of $39.3 million for the same
1999 period. Excluding after-tax, non-cash stock incentive compensation and
gains and losses related to property divestitures, investment in equity
securities and the fair value of certain derivatives related to the Company's
hedging activities, earnings were $72.8 for the first nine months of 2000,
compared with earnings of $2.6 million for the first nine months of 1999.
15
<PAGE>
Total revenues for the first nine months of 2000 were $395.5 million, or
$165.2 million (72%) higher than revenues of $230.3 million for the first nine
months of 1999. Oil revenue increased $34.7 million (59%) because of the 75%
increase in price, partially offset by a 9% production decrease. Gas and natural
gas liquids revenues increased $132.3 million (82%) because of the 24% increase
in gas production and 45% price increase, along with the 76% price increase and
31% increase in production for natural gas liquids. Gas gathering, processing
and marketing revenues increased $2.5 million (52%) primarily because of higher
margins. Other revenues decreased $4.3 million related to gains on property
sales in 1999.
Expenses for the nine months ended September 30, 2000 totaled $266.3 million,
or 53% above total expenses of $174.2 million for the first nine months of 1999.
Production expense increased $5.9 million (11%) and DD&A increased $17.1 million
(22%) primarily because of increased production related to acquisitions and
development, partially offset by property sales. Taxes, transportation and other
increased $15.7 million (65%) primarily because of increased oil and gas
revenues and increased gas transportation and fuel charges. G&A increased $17.8
million (196%) primarily because of non-cash stock incentive compensation and
Company growth. Expenses for the first nine months of 2000 also include a $35.4
million loss in fair value of derivatives entered in conjunction with the
Company's hedging activities and that do not qualify for hedge accounting. See
Note 5 to Consolidated Financial Statements.
Gain on investment in equity securities was $13.3 million for the first nine
months of 2000, compared with an $8.9 million gain for the same 1999 period.
Interest expense increased $15 million (33%) because of an increase of
approximately 14% in weighted average borrowings, a 10% increase in the weighted
average interest rate, and a decrease in interest reclassified to marketable
securities.
Comparative Expenses per Mcf Equivalent Production
--------------------------------------------------
The following are expenses on an Mcf equivalent (Mcfe) produced basis:
<TABLE>
<CAPTION>
Quarter Ended Nine Months Ended
September 30, September 30,
----------------------------- ----------------------
Increase Increase
2000 1999 (Decrease) 2000 1999 (Decrease)
-------- ------ ----------- ----- ----- ---------
<S> <C> <C> <C> <C> <C> <C>
Production.............................. $ 0.52 $ 0.54 (4%) $ 0.52 $ 0.54 (4%)
Taxes, transportation and other......... 0.39 0.24 63% 0.33 0.23 43%
Depreciation, depletion and
amortization (DD&A)................... 0.77 0.79 (3%) 0.78 0.75 4%
General and administrative (G&A) (a).... 0.15 0.09 67% 0.14 0.09 56%
Interest................................ 0.50 0.46 9% 0.50 0.44 14%
</TABLE>
(a) Excludes stock incentive compensation.
The following are explanations of significant variances of expenses on an
Mcfe basis:
Production- Decreased production expense per Mcfe is primarily because of
an increase in proportionate gas production, which costs less to produce than
oil.
Taxes, transportation and other- Increased taxes, transportation and other
expense per Mcfe is primarily because of higher product prices.
DD&A- Fluctuations in DD&A per Mcfe are primarily related to the higher
cost per Mcfe of 1999 producing property acquisitions and the timing of
recognizing additional reserves related to development.
G&A- Increased G&A per Mcfe is primarily the result of increased employee
costs related to Company growth.
Interest- Increased interest expense per Mcfe is primarily because of an
increase in the weighted average interest rate and decreased allocation of
interest to investment in equity securities resulting from equity security
sales.
16
<PAGE>
Liquidity and Capital Resources
-------------------------------
Cash Flow and Working Capital
Cash provided by operating activities was $257.8 million for the first nine
months of 2000 compared with $98.2 million for the same 1999 period. This
change was primarily because of increased production and prices, equity security
sales and timing of cash receipts and disbursements. Operating cash flow
(defined as cash provided by operating activities before changes in operating
assets and liabilities and exploration expense) increased 153% from $81.9
million for the first nine months of 1999 to $207.4 million for the same 2000
period, primarily because of increased production and prices.
During the nine months ended September 30, 2000, cash provided by operating
activities of $257.8 million, bank borrowings of $417.4 million, net proceeds
related to stock option exercises of $11.5 million and sale of property and
equipment of $76.9 million were used to fund net property acquisitions,
development costs and other net capital additions of $135.7 million, debt
payments of $480.5 million, minority interest purchase of $100.1 million,
treasury stock purchases of $48.2 million and dividends of $2.7 million. The
resulting decrease in cash and cash equivalents for the period was $3.6 million.
Other significant changes in current assets during the first nine months of
2000 were a $48.2 million increase in accounts receivable related to increased
product prices and the timing of cash receipts, a $29.1 million decrease in
investment in equity securities related to sale of securities, a $2.9 million
increase in current deferred income tax benefit primarily related to the current
portion of the derivative fair value loss, and a $3.3 million increase in other
current assets primarily related to drilling inventory. Total current
liabilities increased $89.3 million during the first nine months of 2000,
primarily because of a $62.4 million increase in accounts payable and accrued
liabilities related to increased product prices and the timing of disbursements
and a $26.9 million increase in other current liabilities primarily related to
the current portion of derivative fair value loss.
Acquisitions and Development
Exploration and development expenditures for the first nine months of 2000
were $95.9 million, compared with $60.8 million for the first nine months of
1999. The Company has budgeted $120 million for exploration and development in
2000. Actual costs may vary significantly due to many factors, particularly
changes in drilling, completion and material costs, as well as changes in
commodity prices. Such expenditures are expected to be funded by cash flow from
operations.
Through the first nine months of 2000, the Company participated in the
drilling of 115 gas wells and 31 oil wells and more than 360 workovers. Results
of these projects have met or exceeded management expectations. Workovers were
focused on recompletions, artificial lift, and wellhead compression.
Gas development projects in 2000 have been focused in the East Texas, Arkoma
and San Juan Basin areas. During the first nine months of 2000, 31 wells were
drilled in East Texas, 18 of which were completed. The Company expects to drill
an additional 12 wells by year-end. The Company also completed 56 workovers in
East Texas. In the Arkoma Basin, the Company has drilled 33 wells, 16 of which
were completed by September 30, 2000.
In the San Juan Basin, the Company's drilling has targeted the Fruitland Coal
formation. Nineteen wells and 142 workovers were completed in this area as of
September 30, 2000. The Company has also been active in the Mid-Continent area
where 36 wells have been drilled, 25 of which have been completed.
Oil development has been concentrated in the Permian Basin during the first
nine months of 2000. Twenty-seven wells were drilled, 14 of which were
completed.
On March 31, 2000, the Company exercised its option to purchase Lehman's 50%
interest in the Ocean Energy Acquisition for $111 million. See Note 10 to
Consolidated Financial Statements.
In February 2000, the Board of Directors authorized the repurchase of 3.8
million shares of the Company's common stock. Upon completion of repurchases
under this authorization, the Board of Directors authorized the repurchase of an
17
<PAGE>
additional 4.5 million shares in May. During the first nine months of 2000, the
Company repurchased 5.3 million shares of its common stock on the open market at
a cost of $41.4 million, including 1.3 million shares repurchased under a prior
Board authorization. As of November 1, 4.3 million shares remain under the May
2000 Board authorization.
Purchases of the Company's common stock and Lehman's interest in the Ocean
Energy Acquisition were funded with proceeds from the sale of most of the
Company's investment in equity securities for $42.4 million, sale of producing
properties for $68.3 million, borrowings from commercial banks under a $25
million term loan and cash flow from operations.
The Company's borrowing capacity under its revolving credit agreement with
commercial banks is available for acquisitions and development.
Debt and Equity
As of September 30, 2000, long-term bank debt decreased by $63.1 million from
the balance at December 31, 1999. Debt was decreased by operating cash flow,
less $25 million in short-term borrowings to partially fund the purchase of
Lehman's interest in the Ocean Energy Acquisition.
On May 12, 2000, the Company entered into a new revolving credit agreement
with commercial banks with a commitment of $800 million. Proceeds of this loan
agreement were used to fully repay the $25 million term loan, as well as
separate bank debt of the Company's subsidiaries. Borrowings at September 30,
2000 under the loan agreement were $628 million.
Stockholders' equity at September 30, 2000 increased $41.1 million from year-
end because of earnings of $65.4 million for the nine months ended September 30,
2000 and an increase in additional paid-in capital of $25.5 million related to
stock option exercises and performance share grants, partially offset by
treasury stock purchases of $48.2 million and common stock dividends declared of
$1.6 million.
Common Stock Dividends
In August 2000, the Board of Directors of the Company declared a third
quarter common stock dividend of $0.01 per share to be paid in October. With
the effect of the three-for-two stock split in September 2000, this dividend
represents a 50% increase in the quarterly dividend rate.
Accounting Pronouncements
-------------------------
In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards ("SFAS") No. 133, Accounting for Derivative
Instruments and Hedging Activities which was required to be adopted for fiscal
years beginning after June 15, 1999. In July 1999, the Financial Accounting
Standards Board issued SFAS No. 137 which delayed the effective date of
Statement No. 133 for one year, to fiscal years beginning after June 15, 2000.
In June 2000, the Financial Accounting Standards Board issued SFAS No. 138 which
amends SFAS No. 133.
SFAS No. 138 provides that contracts that have a price based on an element
that is not clearly and closely related to the asset being sold are not
considered a normal sale. Such a contract is therefore a derivative that must
be marked to market upon adoption of SFAS No. 133. The Company has a contract
to sell natural gas from January 2002 through July 2005 at a price based on the
NYMEX futures price for intermediate crude oil. See Note 4 to Consolidated
Financial Statements. If these pricing provisions are not amended prior to the
Company's adoption of SFAS No. 133 as of January 1, 2001, the Company expects to
record a derivative fair value loss on this contract. The amount of such loss
will be determined by the relationship between the intermediate crude oil price
and natural gas price on the futures market for the contract period. Based on
these prices on November 9, 2000, the after-tax loss on the contract would be
$32.5 million. This represents recognition of an opportunity loss that, if the
contract were considered a normal sale, would be recognized as reduced gas
revenue over the contract term.
18
<PAGE>
Other than the effect of this contract, the Company does not expect adoption
of SFAS No. 133, as amended by SFAS No. 138, to significantly affect reported
earnings since the Company's derivatives are expected to provide effective
hedges. However, comprehensive income could be materially affected.
Forward-Looking Statements
--------------------------
Certain information included in this quarterly report and other materials
filed by the Company with the Securities and Exchange Commission contain
forward-looking statements relating to the Company's operations and the oil and
gas industry. Such forward-looking statements are based on management's current
projections and estimates and are identified by words such as "expects,"
"intends," "plans," "projects," "anticipates," "believes," "estimates" and
similar words. These statements are not guarantees of future performance and
involve certain risks, uncertainties and assumptions that are difficult to
predict. Therefore, actual results may differ materially from what is expressed
or forecasted in such forward-looking statements.
Among the factors that could cause actual results to differ materially are:
- crude oil and natural gas price fluctuations,
- changes in interest rates,
- the Company's ability to acquire oil and gas properties that meet its
objectives and to identify prospects for drilling,
- potential delays or failure to achieve expected production from existing
and future exploration and development projects,
- potential liability resulting from pending or future litigation.
In addition, these forward-looking statements may be affected by general
domestic and international economic and political conditions.
19
<PAGE>
Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The following market risk disclosures should be read in conjunction with the
quantitative and qualitative disclosures about market risk contained in the
Company's 1999 Annual Report on Form 10-K, as well as with the consolidated
financial statements and notes thereto included in this quarterly report on
Form 10-Q.
Hypothetical changes in interest rates and prices chosen for the following
estimated sensitivity effects are considered to be reasonably possible near-term
changes generally based on consideration of past fluctuations for each risk
category. It is not possible to accurately predict future changes in interest
rates, product prices and investment market values. Accordingly, these
hypothetical changes may not necessarily be an indicator of probable future
fluctuations.
Interest Rate Risk
The Company is exposed to interest rate risk on short-term and long-term debt
carrying variable interest rates. At September 30, 2000, the Company's
variable rate debt had a carrying value of $628 million, which approximated its
fair value, and the Company's fixed rate debt had a carrying value of $300
million and an approximate fair value of $298.1 million. Assuming a 100-basis
point change in interest rates at September 30, 2000, the fair value of the
Company's fixed rate debt would change by approximately $16.3 million.
The Company also has an interest rate swap agreement which effectively
converts the interest rate from variable to fixed on a $50 million notional
amount through September 2005. The Company sold a call option that allows the
counterparty to terminate the interest rate swap in November 2000. The fair
value of this swap and call at September 30, 2000 was $100,000. The net fair
value of the swap and call would change by approximately $100,000 assuming a
100-basis point change in interest rates at September 30, 2000.
Commodity Price Risk
The Company hedges a portion of the market risks associated with its crude
oil and natural gas sales. As of September 30, 2000, the Company had
outstanding gas futures contracts and gas basis swap agreements. After
termination of a portion of its call options in July 2000, the Company also
entered swap agreements that provide effective hedges. These gas futures
contracts, swap agreements and basis swap agreements would have had a total fair
value loss of approximately $68.3 million at September 30, 2000. The aggregate
effect of a hypothetical 10% change in gas prices and basis would result in a
change of approximately $14.1 million in the fair value of these financial
instruments at September 30, 2000.
In conjunction with its hedging activities, the Company has entered call
options to sell future gas production at certain ceiling prices. Call options
outstanding at September 30, 2000 had a fair value loss of $24 million. The
aggregate effect of a hypothetical 10% change in gas prices and basis would
result in a change of approximately $6.2 million in the fair value of these
options at September 30, 2000. A 30% decrease in gas prices would result in
approximately an $18 million reduction of the fair value loss. Changes in the
fair value of these options are recognized in the consolidated statements of
operations since they do not qualify for hedge accounting. See Note 5 to
Consolidated Financial Statements.
20
<PAGE>
P A R T I I. OT H E R I N F O R M A T I O N
Items 1. through 5.
Not applicable.
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
Exhibit Number
and Description Page
--------------- ------
3.1 Restated Certificate of Incorporation of Cross
Timbers Oil Company as restated on April 21, 1998
4.1 Certificate of Designation of Series A Junior
Participating Preferred Stock, par value $0.01
per share, dated August 25, 1998
11 Computation of per share earnings
(included in Note 7 to Consolidated
Financial Statements)
15 Letter re unaudited interim financial information
15.1 Awareness letter of Arthur Andersen LLP
(b) Reports on Form 8-K
The Company filed the following reports on Form 8-K during the quarter
ended September 30, 2000 and through November 14, 2000:
On August 24, 2000, the Company filed a report on Form 8-K
regarding its three-for-two stock split of its outstanding common
stock for shareholders of record at the close of business on
September 5, 2000 and the increase of its regular quarterly common
stock cash dividend by 50% to 1 cent per share on the post-split
outstanding common stock.
21
<PAGE>
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.
CROSS TIMBERS OIL COMPANY
Date: November 14, 2000 By LOUIS G. BALDWIN
----------------------------------------
Louis G. Baldwin
Executive Vice President
and Chief Financial Officer
(Principal Financial Officer)
By BENNIE G. KNIFFEN
----------------------------------------
Bennie G. Kniffen
Senior Vice President and Controller
(Principal Accounting Officer)
22
