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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-K
(MARK ONE)
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[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934 [NO FEE REQUIRED, EFFECTIVE
OCTOBER 7, 1996]
For the fiscal year ended December 31, 1997
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934 [NO FEE REQUIRED]
For the transition period from
__________________to__________________
Commission File No. 1-2745
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SOUTHERN NATURAL GAS COMPANY
(Exact name of registrant as specified in its charter)
<TABLE>
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DELAWARE 63-0196650
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
</TABLE>
AMSOUTH-SONAT TOWER
BIRMINGHAM, ALABAMA 35203
TELEPHONE 205-325-7410
(Address of principal executive offices)
SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE ACT:
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NAME OF EACH EXCHANGE ON
TITLE OF EACH CLASS WHICH REGISTERED
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7.85 percent Notes due 2002 New York Stock Exchange, Inc.
</TABLE>
SECURITIES REGISTERED PURSUANT TO SECTION 12(G) OF THE ACT:
None
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 by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [X]
AGGREGATE MARKET VALUE OF THE VOTING STOCK HELD BY NON-AFFILIATES OF THE
REGISTRANT, AS OF JANUARY 30, 1998 -- NONE (ALL VOTING STOCK OF THE REGISTRANT
IS HELD BY ITS PARENT COMPANY, SONAT INC.)
NUMBER OF SHARES OF COMMON STOCK, $3.75 PAR
VALUE, OUTSTANDING ON JANUARY 30, 1998 -- 1,000
REGISTRANT MEETS THE CONDITIONS SET FORTH IN GENERAL INSTRUCTION I(1)(A) AND (B)
OF FORM 10-K AND IS THEREFORE FILING THIS FORM WITH THE REDUCED DISCLOSURE
FORMAT.
DOCUMENTS INCORPORATED BY REFERENCE
None
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SOUTHERN NATURAL GAS COMPANY
INDEX TO REPORT ON FORM 10-K
FOR THE YEAR ENDED DECEMBER 31, 1997
<TABLE>
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ITEM PAGE
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PART I
Item 1. Business.................................................... I-1
Sea Robin Pipeline Company................................ I-1
South Georgia Natural Gas Company......................... I-1
Destin Pipeline Company, L.L.C. .......................... I-1
Etowah LNG Company, L.L.C. ............................... I-2
Markets -- Transportation................................. I-2
Markets -- System Expansions.............................. I-4
Gas Sales and Supplies.................................... I-5
Rate and Regulatory Proceedings........................... I-5
Storage Fields............................................ I-5
Competition and Current Business Conditions............... I-6
Government Regulations.................................... I-8
Environmental Matters..................................... I-8
Year 2000 Project......................................... I-8
Cautionary Statement Concerning Forward-Looking
Statements.............................................. I-8
Item 2. Properties.................................................. I-9
Item 3. Legal Proceedings........................................... I-9
Item 4. Submission of Matters to a Vote of Security Holders......... Omitted*
PART II
Item 5. Market for Registrant's Common Equity and Related
Stockholder Matters....................................... II-1
Item 6. Selected Financial Data..................................... II-2
Item 7. Management's Discussion and Analysis of Financial Condition
and Results of Operations................................. II-3
Item 7A. Quantitative and Qualitative Disclosures about Market
Risks..................................................... II-9
Item 8. Financial Statements and Supplementary Data................. II-16
Item 9. Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure.................................. II-34
PART III
Item 10. Directors and Executive Officers of the Registrant.......... Omitted*
Item 11. Executive Compensation...................................... Omitted*
Item 12. Security Ownership of Certain Beneficial Owners and
Management................................................ Omitted*
Item 13. Certain Relationships and Related Transactions.............. Omitted*
PART IV
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form
8-K....................................................... IV-1
</TABLE>
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* Item Nos. 4, 10, 11, 12 and 13 have been omitted in reliance upon General
Instruction J(1) and (2) of Form 10-K.
<PAGE> 3
PART I
ITEM 1. BUSINESS
The principal business of Southern Natural Gas Company ("Southern" or the
"Company"), which is a wholly owned subsidiary of Sonat Inc. ("Sonat"), is the
transmission and storage of natural gas in interstate commerce. Southern owns
approximately 7,500 miles of interstate pipeline. Southern's interstate pipeline
system extends from gas fields in Texas, Louisiana, Mississippi, Alabama, and
the Gulf of Mexico to markets in Louisiana, Mississippi, Alabama, Florida,
Georgia, South Carolina, and Tennessee. Southern is the principal pipeline
supplier to the growing Southeastern markets of Alabama and Georgia. Southern's
interstate pipeline system has a certificated daily delivery capacity of
approximately 2.5 billion cubic feet ("Bcf") of natural gas. A map of Southern's
pipeline system, including pipelines of its subsidiaries, appears on page I-7.
Southern's interstate pipeline business is subject to regulation by the
Federal Energy Regulatory Commission ("FERC"), the U.S. Department of
Transportation under the terms of the Natural Gas Policy Act of 1978 (the
"NGPA"), the Natural Gas Act (the "NGA"), and various pipeline safety and
environmental laws. See "Governmental Regulation" below for information
concerning the regulation of natural gas transmission operations.
Additional business information concerning Southern and its wholly owned
subsidiaries is contained in Management's Discussion and Analysis of Financial
Condition and Results of Operations and in the Notes to Consolidated Financial
Statements in Part II of this report and is incorporated herein by reference.
At March 1, 1998, Southern and its subsidiaries employed approximately 700
people.
Southern's principal executive offices are located at 1900 Fifth Avenue
North, AmSouth-Sonat Tower, Birmingham, Alabama 35203, and its telephone number
is (205) 325-7410.
SEA ROBIN PIPELINE COMPANY
Sea Robin Pipeline Company ("Sea Robin"), a wholly owned subsidiary of
Southern, owns an approximately 430-mile interstate natural gas pipeline system
located in the Gulf of Mexico. Sea Robin gathers natural gas and condensate for
others and delivers those products to shore for condensate removal and gas
processing and redelivery to one independent storage company and five downstream
transmission pipelines, including Southern. Sea Robin's pipeline system includes
66 miles of large diameter, 36-inch pipeline. See the system map on page I-7.
Sea Robin transported approximately 278 Bcf of natural gas in 1997 compared to
243 Bcf in 1996. These Sea Robin volumes are included within the Southern
transportation volumes discussed below.
SOUTH GEORGIA NATURAL GAS COMPANY
South Georgia Natural Gas Company ("South Georgia"), a wholly owned
subsidiary of Southern, owns an approximately 910-mile interstate natural gas
transmission system located in eastern Alabama, southern Georgia, and the
Florida Panhandle. See the system map on page I-7. South Georgia transported
approximately 38 Bcf of natural gas in 1997 compared to 37 Bcf in 1996. These
South Georgia volumes are included within the Southern transportation volumes
discussed below.
DESTIN PIPELINE COMPANY, L.L.C.
In April 1997 units of Shell Oil Company ("Shell") and Amoco Corporation
("Amoco") joined with Southern in the ownership of Destin Pipeline Company,
L.L.C. ("Destin"), which is building a 212-mile interstate pipeline system
designed to transport natural gas from the growing eastern Gulf of Mexico
production area. Destin's pipeline system will extend from Main Pass Block 260
in the Gulf of Mexico northward into Mississippi, where it will connect with
five other interstate pipelines, including Southern. See the system map on page
I-7. The pipeline will have a firm daily delivery capacity of 1.0 Bcf and
initial construction costs are estimated to be $313 million. Each of the
participants has a one-third interest in this company. Southern is responsible
for construction of 132 miles of onshore pipeline and related facilities while
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a unit of Shell is responsible for construction of the offshore portion of the
pipeline. Southern will be the operator of the system. Construction of the
pipeline began in December 1997 and it is expected to be partially completed and
in service by July 1998 and fully in service by January 1999.
Destin's FERC Gas Tariff includes a flexible firm transportation service,
which provides for levels of firm transportation capacity that may vary
quarterly, with the transportation provided at a volumetric rate provided
certain minimum throughput levels are maintained. Under the flexible firm
service, Destin's transportation revenue will fluctuate based on the levels of
gas production from its shippers. To be eligible for Destin's flexible firm
service, a shipper must make a life-of-reserves commitment of production from
offshore leases with estimated proven recoverable reserves of 100 Bcf or more.
Shell and Amoco have made substantial firm transportation commitments to
this pipeline. Three other shippers have also dedicated their production from
certain leases in the Eastern Gulf of Mexico to Destin for transportation under
Destin's flexible firm rate schedule. Discussions are under way with other
prospective shippers.
ETOWAH LNG COMPANY, L.L.C.
In December 1997 an affiliate of AGL Resources, Inc., an unaffiliated
company ("AGL Resources"), and Southern formed a new entity, Etowah LNG Company,
L.L.C. ("Etowah"), to jointly construct, own, and operate a new liquefied
natural gas peaking facility in Polk County, Georgia. Under the agreement, AGL
Resources and Southern each will own 50 percent of Etowah, which will be
regulated by the FERC. The proposed plant will connect directly into AGL
Resources' principal natural gas distribution subsidiary, Atlanta Gas Light
Company ("AGLC"), and Southern's pipeline. Etowah will provide natural gas
storage and peaking services to AGLC and other Southeastern customers. Peaking
services provide supplemental gas supplies on days when demand is highest,
typically during the winter. The new facility will cost approximately $90
million and is expected to have 300 million cubic feet ("MMcf") per day of
vaporization capacity. Affiliates of AGL Resources will manage the construction
of the facility and operate it. Southern will provide administrative services.
Etowah expects AGLC to subscribe for 200 MMcf per day of vaporization capacity,
which represents two-thirds of its available capacity, for a term of 20 years.
Etowah expects to file a certificate application with FERC in March 1998.
Subject to receiving timely FERC approval, construction will begin in early 1999
in order to provide peaking services during the 2001-02 winter heating season.
MARKETS -- TRANSPORTATION
Southern and its subsidiaries provide natural gas transportation services
for their distribution customers, direct industrial customers and other
end-users, gas producers, other gas pipelines, and gas marketing and trading
companies. Southern provides transportation service in both its gas supply and
market areas. The principal industries served directly by Southern's pipeline
systems and indirectly through their customers' distribution systems include the
electric generation, chemical, pulp and paper, textile, primary metals, stone,
clay, and glass industries.
Transportation volumes in 1997 for Southern and all of its subsidiaries
were 1,007 Bcf, compared with transportation volumes in 1996 of 983 Bcf. Sales
to distribution customers, including municipalities and gas districts, accounted
for most of 1997 sales of 65 Bcf and 1996 sales of 69 Bcf. In each of 1997 and
1996, the volumes associated with the 1997 and 1996 sales are not accounted for
as sales volumes, but rather are included in transportation volumes because all
sales are made at the receipt points where the gas enters Southern's pipeline
system.
Southern and its subsidiaries provide transportation service under rate
schedules that are subject to FERC regulatory authority. Rates for
transportation service depend on whether service is on a firm or interruptible
basis and the location of the service on Southern's pipeline system. Firm
service is transportation service for which the shipper pays a fixed monthly fee
to reserve capacity in the pipeline system (the "Reservation Fee"). The shipper
may not use this capacity it has reserved at all times, but the firm
transportation customers of Southern (with the exception of certain small
customers) must pay the monthly Reservation Fee regardless of the volumes
shipped. Shippers are able to resell their unused firm capacity
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pursuant to FERC rules and regulations. Interruptible service is only available
when pipeline capacity is available and may be interrupted by the pipeline as
needed when use of the pipeline is at its greatest, typically during winter
periods. For most pipelines, including Southern, FERC requires a rate design,
known as straight-fixed-variable ("SFV"), that is designed to allow pipelines to
recover substantially all of their fixed costs, a return on their equity
investment in facilities, and income taxes in the Reservation Fee. Pipelines
charge transportation rates for interruptible service for actual volumes
transported. Rates for transportation service are discounted by Southern in
individual instances to respond to competition in the markets it serves.
Southern's contracts to provide firm transportation service for its
customers are for varying amounts and periods of time. The following chart
describes the amount of firm transportation service expiring each year under the
various firm transportation agreements of Southern with its firm transportation
customers.
EXPIRATION SCHEDULE OF
SOUTHERN'S FIRM TRANSPORTATION CONTRACTS
<TABLE>
<CAPTION>
YEAR MCF/DAY
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<S> <C>
1998........................................................ 176,653
1999........................................................ 107,857
2000........................................................ 125,407
2001........................................................ 21,694
2002........................................................ 724,125
2003........................................................ 278,341
2004........................................................ 43,254
2005........................................................ 147,787
2006........................................................ 45,108
2007........................................................ 306,433
2008........................................................ 350,609
Beyond 2008................................................. 35,140
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Total............................................. 2,362,408
=========
</TABLE>
Substantially all of the firm transportation capacity currently available
in Southern's two largest market areas is fully subscribed. Nearly all of
Southern's firm transportation contracts contain evergreen provisions that
automatically extend the term for additional months or years unless notice of
termination is given by one of the parties. There can be no assurance that the
existing customers of Southern will extend their firm service agreements at the
same levels when their current service agreements expire.
Transportation and sales by Southern to one distribution customer, AGLC and
its subsidiary, Chattanooga Gas Company, accounted for approximately 33 percent
of Southern's 1997 consolidated revenues. Transportation and sales by Southern
to another distribution customer, Alabama Gas Corporation, accounted for
approximately 12 percent of Southern's 1997 consolidated revenues. No other
customer accounted for as much as ten percent of Southern's consolidated
revenues for 1997.
Southern's pipeline businesses hold easements acquired through either
purchase or condemnation for all of their pipeline rights-of-way. Such easements
remain valid until the pipeline traversing it is abandoned. Each company has the
power of eminent domain if needed in connection with acquiring additional
rights-of-way for expansion projects.
Southern's pipeline businesses are subject to operating risks associated
with the transmission of natural gas through a pipeline system, which could
result in property damage and personal injury. Southern has a comprehensive
safety program to address these risks. Southern has consistently ranked at or
near the top of its industry peer group in safety performance. Sonat maintains
broad insurance coverage on behalf of Southern and its subsidiaries insuring
against financial loss resulting from these operating risks.
For additional information regarding Southern's transportation of gas, see
Management's Discussion and Analysis of Financial Condition and Results of
Operations contained in Part II of this report.
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MARKETS -- SYSTEM EXPANSIONS
Southern continually seeks to expand its pipeline system (i) to reach new
markets, (ii) to increase delivery capacity to existing markets to serve the
increasing gas demands in its market area, and (iii) to connect new gas
supplies, principally in the Gulf of Mexico, to deliver gas not only into
Southern's system but also into the interstate pipeline grid.
Demand for natural gas in the six Southeastern states that comprise
Southern's principal market area, Alabama, Florida, Georgia, Mississippi, South
Carolina, and Tennessee, has grown at an annual average rate of 4.0 percent in
the last ten years, compared to the national annual average growth rate for gas
demand of 3.1 percent during such period.
In November 1997 Southern completed a $36 million market-area expansion
that added 46 MMcf per day of firm capacity to its pipeline system, most of
which is for industrial customers in Georgia. Southern has also entered into
agreements for expansions of its system to serve markets in eastern Tennessee
and northern Alabama. These two expansions have a total filed capital cost of
$119 million. The East Tennessee expansion is anticipated to go in service in
November 1998, subject to FERC approval of an application that Southern filed in
May 1997, and will provide capacity of 65 MMcf of natural gas per day to
customers in eastern Tennessee, Georgia, and Alabama. The North Alabama
expansion, which received FERC approval in May 1997, is now anticipated to go in
service in the fall of 1999, subject to FERC approval of an application that
Southern filed in February 1998 to change the route of the pipeline as it
crosses the Wheeler National Wildlife Refuge. The 122-mile expansion will
provide 76 MMcf per day of capacity to the participating customers.
In addition to the general growth in gas demand throughout the Southeast,
the use of natural gas to generate electric power represents a significant
growth prospect in the market areas of Southern. Since 1994 electric utilities
served by Southern have added 23 gas-fired combustion turbine generation units
with generating capacity of 1,980 megawatts. These units, which have consumed in
excess of 200 MMcf of natural gas on a peak day, are used primarily to meet the
utilities' peak generation loads in the summer and winter months.
In March 1998 Southern received FERC approval for a $7 million expansion of
its pipeline system that will add 34 MMcf per day of firm capacity. The largest
customer for the project is Alabama Power Company, which will utilize its
capacity to serve the energy requirements of a 100 megawatt base load gas-fired
electric generation facility near Selma, Alabama. This expansion is expected to
be in service by November 1998.
Another growth area for Southern's pipeline business is in expanding
production area pipeline capacity to receive and transport increased levels of
gas production from the Gulf of Mexico, particularly in deeper waters. In March
1997 Southern placed in service a $14 million expansion project that allows
producers to transport, under 10-year contracts, 140 MMcf per day of natural gas
from offshore Louisiana to interconnections between Southern and other pipelines
in south Louisiana. In addition, as described above, construction of the Destin
pipeline system is underway with first deliveries expected in July 1998. Destin,
which connects with five interstate pipelines in Mississippi, including
Southern, will enable producers to deliver gas from the eastern deepwater Gulf
of Mexico to interstate markets. In February 1998 Destin filed for FERC approval
to extend its pipeline system approximately 14 miles to transport additional gas
reserves that are committed to Destin's system. This extension, which will cost
approximately $19 million, is expected to be in service in late 1998, subject to
FERC approval.
Under FERC regulations, a pipeline is permitted to charge rates that are
designed to recover fully its cost of providing service to the pipeline's
customers, including a reasonable rate of return on its equity investment in the
facilities it uses to provide its service, which is referred to as the rate base
of the pipeline. The cumulative effect of capital investment required to serve
the existing and pending projects in the three growth segments of Southern's
pipeline business described above -- market area, electric generation, and
production
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area demand -- together with capital investment for necessary pipeline repair
and replacements, has resulted in the growth in rate base for Southern's
pipeline businesses as shown in the table below.
RATE BASE (IN MILLIONS OF DOLLARS)
<TABLE>
<CAPTION>
YEAR SOUTHERN AND SUBSIDIARIES(1)
- ---- ----------------------------
<S> <C>
1994.............................................. 735
1995.............................................. 735
1996.............................................. 768
1997.............................................. 843
1998 (Estimated).................................. 1,056
1999 (Estimated).................................. 1,225
</TABLE>
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(1) Includes proportionate shares of the rate bases of Destin, Etowah, and other
joint ventures attributable to Southern's ownership interests.
The amounts estimated for 1998 and 1999 in the foregoing table include (i)
currently planned capital expenditures for those years for maintenance, repair,
and replacement of the pipeline system, (ii) projects that have received FERC
approval and are currently under construction, and (iii) projects that have been
agreed to but for which FERC approval has not yet been obtained. No assurance
can be given that such projects, which are subject to protest by customers, the
staff of the FERC, and other interested parties, such as environmental groups,
will be approved by the FERC or, if approved, that such construction will not be
delayed for environmental, weather, or other reasons. A pipeline cannot reflect
a change in its rate base in its rates until it files a new rate case and a
pipeline's rate of return is subject to change every time it files a new rate
case. Consequently, there can also be no assurance that the rate of return a
pipeline is permitted by the FERC to earn on its rate base in the future will be
equal to the returns effectively earned in the past. Thus, the changes in rate
base projected above do not necessarily equate to an expected change in
earnings.
GAS SALES AND SUPPLIES
As a result of its restructuring pursuant to FERC directive, Southern
terminated or renegotiated to market pricing substantially all of its gas supply
contracts through which it had historically obtained its long-term gas supply.
During 1997 two of Southern's existing long-term gas supply contracts expired,
reducing the number remaining from seven to five. Pending the termination or
expiration of the few remaining supply contracts, Southern's remaining gas
supply is being sold on a month-to-month basis. Except for such sales,
Southern's participation in gas supply activities will be limited to the
purchase and sale of volumes of gas from time to time as may be required for
system management purposes.
RATE AND REGULATORY PROCEEDINGS
Periodically, Southern and its subsidiaries make general rate filings with
the FERC to provide for the recovery of cost of service and a return on equity.
The FERC normally allows the filed rates to become effective, subject to refund,
until it rules on the approved level of rates. Southern and its subsidiaries
provide reserves relating to such amounts collected subject to refund, as
appropriate, and make refunds upon establishment of the final rates.
At December 31, 1997, Southern's currently effective rates are established
by a settlement that was approved by a FERC order issued in 1995, which order is
now final and nonappealable. All of Southern's customers are parties to the
settlement. Under the terms of the settlement, Southern is required to file a
new rate case no later than September 1, 1999, to become effective by March 1,
2000.
STORAGE FIELDS
Southern owns and operates Muldon Storage Field ("Muldon"), a large
underground natural gas storage field in Mississippi connected to its pipeline
system. The certificated working storage capacity of Muldon is 31 Bcf of gas.
Southern and Tennessee Gas Pipeline Company ("Tennessee"), a subsidiary of El
Paso Energy
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Corporation, an unaffiliated company, each owns 50-percent of the Bear Creek
Storage Field ("Bear Creek"), an underground natural gas storage field located
in Louisiana. Southern operates Bear Creek, which provides storage service to
Southern, Tennessee, and their customers. Bear Creek has a total certificated
working storage capacity of 65 Bcf of gas, half of which is committed to
Southern.
COMPETITION AND CURRENT BUSINESS CONDITIONS
The natural gas transmission industry, although regulated, is very
competitive. Customers purchase gas supply from producers and gas marketing
companies in unregulated transactions and contract with Southern for
transportation and storage services to deliver such gas supply to their markets.
Southern's three largest customers are each able to obtain a significant portion
of their natural gas requirements through transportation by other pipelines. In
addition, Southern competes with several pipelines for the transportation and
storage business of many of its other customers. The competition with such
pipelines is intense, and Southern must at times discount its transportation
rates in order to maintain market share and revenues.
Natural gas is sold in competition principally with fuel oil, coal,
liquefied petroleum gases, electricity, and heavy crude oil. An important
consideration in Southern's markets is the ability of natural gas to compete
with alternate fuels, which are fuels to which a potential end user of gas may
switch depending on the price of the fuel and other factors. Residual fuel oil,
the principal competitive alternate fuel in Southern's market area, has been at
certain times in the past, and may be at times in the future, priced at or below
the comparable price of natural gas in industrial and electric generation
markets. Some parts of Southern's market area are also served by one or more
other pipeline systems that can provide transportation as well as sales service
in competition with Southern.
As described above, for most pipelines FERC requires the SFV rate design
that is designed to permit pipelines to recover substantially all of their fixed
costs, a return on equity, and income taxes in the capacity reservation
component of their rates. The firm transportation customers of Southern (with
the exception of certain small customers) must pay these reservation charges
regardless of the volumes shipped. Accordingly, the SFV rate design should
result in relative stability in the revenues, earnings, and cash flows of
interstate pipelines, including Southern, compared to other rate design
methodologies. There can be no assurance, however, that the existing customers
of Southern will extend their firm service agreements at the same levels when
their current service agreements expire. As described above, Destin's rates are
designed to recover all of its fixed and variable costs, including a return on
equity and income taxes, through a volumetric rate design. In order to receive
firm service at a volumetric rate, Destin's customers must commit to Destin all
of their gas production from certain specified areas. Sea Robin's customers
principally subscribe for interruptible service, so its revenues are highly
dependent on the volumes of gas it transports.
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(Southern Natural Gas Company and Subsidiaries Map)
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<PAGE> 10
GOVERNMENT REGULATIONS
Southern and its interstate transmission subsidiaries are subject to
regulation by the FERC under the NGA and the NGPA.
The NGA grants to the FERC authority to regulate the construction and
operation of pipeline and related facilities utilized in the transportation and
sale of natural gas in interstate commerce, including the extension,
enlargement, or abandonment of such facilities. Southern and its interstate
transmission subsidiaries hold required certificates of public convenience and
necessity issued by the FERC authorizing them to construct and operate all
pipelines, facilities, and properties now in operation for which certificates
are required, and to transport and sell natural gas in interstate commerce.
The FERC also has authority to regulate the transportation of natural gas
in interstate commerce and the sale of natural gas in interstate commerce for
resale. Although the FERC retains jurisdiction over their resale rates, Southern
and other interstate pipeline companies are permitted to charge market-based
rates for gas sold in interstate commerce for resale. Transportation rates of
interstate pipeline companies remain regulated. As necessary, Southern and its
interstate transmission subsidiaries file with the FERC applications for changes
in their transportation rates and charges designed to allow them to recover
fully their costs of providing such service to their customers, including a
reasonable rate of return on their investment in facilities. These rates are
normally allowed to become effective, subject to refund, until such time as the
FERC rules on the actual level of rates. See "Rate and Regulatory Proceedings"
above.
In January 1995 Sea Robin filed with the FERC a petition for a declaratory
order that its pipeline system is engaged in the gathering of natural gas and
is, therefore, exempt from FERC regulation under the NGA. In June 1995 the FERC
denied Sea Robin's petition on the basis that the primary function of the Sea
Robin system is the interstate transportation of gas. Sea Robin's request for
rehearing of that ruling was denied by the FERC in June 1996. Sea Robin
subsequently appealed those FERC orders to the Fifth Circuit Court of Appeals.
In October 1997 the Fifth Circuit vacated and remanded the FERC's decision to
deny Sea Robin's petition and found that the FERC did not give adequate
consideration to the physical and operational characteristics of Sea Robin in
applying the primary function test.
Southern and its natural gas transmission subsidiaries are subject to the
Natural Gas Pipeline Safety Act of 1968, as amended, which regulates pipeline
and LNG plant safety requirements, and to the National Environmental Policy Act
and other environmental legislation. Each of them has a continuing program of
inspection designed to keep all of their facilities in compliance with pollution
control and pipeline safety requirements and believe that they are in
substantial compliance with applicable requirements. Southern's capital
expenditures to comply with environmental and pipeline safety regulations were
approximately $3 million in 1997 and $8 million in 1996. Southern anticipates
that such expenditures will be approximately $3 million in 1998.
ENVIRONMENTAL MATTERS
Various environmental matters relating to, or that could affect, Southern
or one or more of its subsidiaries are described in Part II of this report in
Management's Discussion and Analysis of Financial Condition and Results of
Operations under the caption "Environmental Issues," which is incorporated
herein by reference.
YEAR 2000 PROJECT
The year 2000 issues as they relate to Southern are discussed in Part II of
this report in Management's Discussion and Analysis of Financial Condition and
Results of Operations under the caption "Year 2000 Project," which is
incorporated herein by reference.
CAUTIONARY STATEMENT CONCERNING FORWARD-LOOKING STATEMENTS
This report, including the information incorporated by reference herein,
contains forward-looking statements regarding the Company's business plans and
prospects, objectives, expansion projects, proposed capital expenditures, and
expected performance or results. These forward-looking statements are based on
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assumptions that the Company believes are reasonable, but are subject to a wide
range of risks and uncertainties and, as a result, actual results may differ
materially from those expressed in such forward-looking statements. Important
factors that could cause actual results to differ include the requirements to
receive various governmental approvals to proceed with expansion projects at
Southern, Destin, and Etowah. Realization of the Company's objectives and
expected performance can also be adversely affected by the actions of customers
and competitors, changes in governmental regulation of the Company's businesses,
and changes in general economic conditions and the state of domestic capital
markets.
ITEM 2. PROPERTIES
A description of Southern's and its subsidiaries' principal properties is
included under Item 1. Business above and is hereby incorporated by reference
herein.
ITEM 3. LEGAL PROCEEDINGS
For information regarding various environmental matters relating to, or
that could affect, Southern or one or more of its subsidiaries, see Management's
Discussion and Analysis of Financial Condition and Results of Operations in Part
II of this report under the caption "Environmental Issues."
Arcadian Corporation v. Southern Natural Gas Company and Atlanta Gas Light
Company was filed in January 1992 in the U.S. District Court for the Southern
District of Georgia. This lawsuit was filed against Southern and AGLC for
alleged violation of the antitrust laws in connection with Southern's refusal to
provide direct service to the plaintiff, Arcadian Corporation ("Arcadian").
Arcadian claims actual damages of at least $15 million, which could be trebled
under the antitrust laws. Southern and Arcadian executed an agreement settling
this lawsuit in November 1993. The settlement provides that the lawsuit will be
dismissed with prejudice upon final, nonappealable approval by the FERC of the
direct connection and transportation service requested by Arcadian. Pending such
approval the lawsuit has been stayed. In May 1994 the FERC issued an order
granting such approval. AGLC and others sought rehearing on this order. AGLC
also filed a petition for review of such order in the 11th Circuit Court of
Appeals. The FERC denied the requests for rehearing in an order issued in
November 1996, and AGLC and another customer have also filed petitions for
review of that order in the 11th Circuit Court of Appeals. While management
believes it has meritorious defenses and intends to defend the suit vigorously
if the stay were to be lifted, given the inherently unpredictable nature of
litigation and the relatively preliminary state of discovery in the case,
management is unable to predict the ultimate outcome of the proceeding if it
were to go forward. Management is not in a position to determine what, if any,
damages would be awarded against it if Arcadian were to prevail on one or more
of its claims.
Aline Moye v. Exxon Corporation, et al. is a class action lawsuit filed in
state court in Monroe County, Alabama in January 1998, on behalf of royalty
owners in the Big Escambia Creek Gas Field ("Field") in Alabama, against Exxon
Corporation, a gas producer in the Field, Southern, which purchased or
transported gas from the Field, and five other named defendants, alleging that
the methods used by the defendants to measure the heating content and volume of
natural gas produced from the Field have caused the producer(s) of this gas to
underpay royalties owed to the royalty owners. The complaint seeks recovery of
actual damages based upon the allegedly unpaid royalties as well as punitive
damages, the amount of which are not specified in the complaint. Although it
cannot predict the outcome, Southern believes that the methods of measurement
were appropriate and intends to defend the suit vigorously.
Tennessee Gas Pipeline Company ("Tennessee") filed an application with the
FERC in December 1997 seeking to have the exchange agreement between Southern
and Tennessee, pursuant to which Southern delivers and receives gas to and from
the Bear Creek Storage Field at no charge, converted into a standard
transportation agreement by which Tennessee would charge Southern tariff rates
for providing that service. Tennessee asserts that the existing no-fee exchange
service, if provided at Tennessee's tariff rates for firm transportation
service, would result in $19 million of additional revenues to Tennessee
annually. Southern's management believes that even if Tennessee prevails in this
matter, the actual cost to Southern of obtaining firm transportation through
Tennessee or another third party pipeline would be significantly less than $19
I-9
<PAGE> 12
million annually and that such costs would ultimately be recoverable through the
rates that Southern charges to its customers. Although it cannot predict the
outcome of the proceeding, Southern intends to oppose Tennessee's application
vigorously.
Southern and its subsidiaries are involved in a number of other lawsuits,
all of which have arisen in the ordinary course of business. Southern does not
believe that any ultimate liability resulting from any of these other pending
lawsuits will have a material adverse effect on it.
I-10
<PAGE> 13
PART II
Item 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS
All of the common stock of Southern Natural Gas Company is held by its
parent company, Sonat Inc.; accordingly, there is no market for the stock. The
following table shows the quarterly cash dividends paid on Southern Natural Gas'
common stock during 1996. No dividends were paid in 1997.
<TABLE>
<CAPTION>
Quarter Total Dividends Paid
------- --------------------
1996
----
<S> <C>
First $12,400,000
Second 12,400,000
Third 12,400,000
Fourth (1) 62,400,000
-----------
$99,600,000
===========
</TABLE>
(1) Includes a special dividend declared by Southern Natural Gas of $50
million.
II-1
<PAGE> 14
Item 6. SELECTED FINANCIAL DATA
Selected consolidated financial data for Southern Natural Gas Company
and its subsidiaries is shown below:
<TABLE>
Years Ended December 31,
------------------------------------------------------------
1997 1996 1995 1994 1993
---- ---- ---- ---- ----
(In Millions)
<S> <C> <C> <C> <C> <C>
Revenues(1) $ 393.3 $ 398.8 $ 412.3 $ 381.8 $ 651.4
Costs and Expenses(1) 214.4 232.9 253.2 289.0 504.8
-------- -------- -------- -------- --------
Operating Income 178.9 165.9 159.1 92.8 146.6
Other Income, Net 18.9 16.3 10.0 9.5 9.4
Interest Expense, Net (26.3) (32.0) (35.0) (26.2) (28.4)
-------- -------- -------- -------- --------
Income Before Income Taxes 171.5 150.2 134.1 76.1 127.6
Income Taxes 66.1 57.6 51.6 28.3 43.5
-------- -------- -------- -------- --------
Net Income(2)(3) $ 105.4 $ 92.6 $ 82.5 $ 47.8 $ 84.1
======== ======== ======== ======== ========
Assets $1,373.9 $1,231.1 $1,437.7 $1,375.2 $1,531.2
======== ======== ======== ======== ========
Debt Maturing Within One Year $ 6.2 $ 8.2 $ 21.9 $ 7.0 $ 107.3
Long-Term Debt 405.0 310.5 317.6 323.9 329.4
Stockholder's Equity 651.7 567.2 574.1 519.2 620.0
-------- -------- -------- -------- --------
Total Capitalization $1,062.9 $ 885.9 $ 913.6 $ 850.1 $1,056.7
======== ======== ======== ======== ========
</TABLE>
(1) The 1993-1996 periods have been restated to reflect the
reclassification of natural gas sales, natural gas cost and transition cost
recovery to other revenues.
(2) Net income in 1995 includes a loss of $6.8 million on unrecoverable
gas contract realignment costs at Southern.
(3) Net income in 1994 includes a charge of $16.6 million related to
Southern's Customer Settlement and GSR costs and $20.6 million related to a
reduction in work force and other matters.
II-2
<PAGE> 15
Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations
RESULTS OF OPERATIONS
The principal business of Southern Natural Gas Company and its
subsidiaries (Southern) is the transmission and storage of natural gas in
interstate commerce in the southeastern United States. Southern is actively
pursuing opportunities to expand its pipeline system in its traditional market
areas and to connect new gas supplies.
During 1997, Southern completed two pipeline expansions. In the first
quarter of 1997, Southern placed in service a $14 million expansion project that
allows producers to transport an additional 140 million cubic feet per day of
natural gas from offshore Louisiana through Southern's pipeline system as well
as to several other interstate pipelines. In November, Southern completed a $36
million market-area expansion that added 46 million cubic feet per day of firm
capacity, most of which is for industrial customers in Georgia. Both of these
expansions are fully subscribed under contracts of 10 years or longer.
In April 1997, units of Shell Oil Company and Amoco Corporation joined
with Southern in the ownership of Destin Pipeline, a 1
billion-cubic-feet-per-day, $313 million pipeline designed to transport natural
gas from deep-water development in the eastern Gulf of Mexico. Southern has a
one-third interest in this pipeline. Shell and Amoco have made substantial firm
transportation commitments to this pipeline, and discussions are under way with
other prospective shippers. Construction of the pipeline began in December
1997, and it is expected to be partially completed and in service by July 1998.
Southern is moving forward on three expansions to eastern Tennessee,
northern Alabama, and central Alabama that have a total filed capital cost of
$126 million. The North Alabama expansion, which received Federal Energy
Regulatory Commission (FERC) approval in May 1997, is now anticipated to go in
service in the fall of 1999, subject to FERC approval of an application that
Southern filed in February 1998 to change the route of the pipeline as it
crosses the Wheeler National Wildlife Refuge. The 122-mile expansion will
provide 76 million-cubic-feet-per-day capacity to the participating customers. A
second expansion to serve customers in eastern Tennessee is anticipated to go in
service in November 1998, subject to FERC approval of an application that
Southern filed in May 1997. Southern has firm transportation commitments
totaling 65 million cubic feet of natural gas per day from customers in eastern
Tennessee, Georgia and Alabama related to this expansion. The expansion in
central Alabama is also expected to go in service in the fourth quarter of 1998,
subject to FERC approval. This expansion will provide 34 million cubic feet per
day of firm transportation to Alabama Power Company and two other customers.
In December 1997, an affiliate of AGL Resources, Inc. and Southern
formed a new entity, Etowah LNG Company, L.L.C. (Etowah LNG), to jointly
construct, own and operate a new liquefied natural gas peaking facility in Polk
County, Georgia. Under the agreement, AGL Resources and Southern each
II-3
<PAGE> 16
will own 50 percent of Etowah LNG, which will be regulated by the FERC. The
proposed plant will connect directly into AGL Resources' principal natural gas
distribution subsidiary, Atlanta Gas Light Company, and Southern's pipeline.
Etowah LNG will provide natural gas storage and peaking services to Atlanta Gas
Light and other Southeastern customers. The new facility will cost approximately
$90 million with 300 million cubic feet per day of deliverability capacity.
Affiliates of AGL Resources will manage the construction of the facility and
operate it. Southern will provide administrative services. Etowah LNG expects to
file a certificate application with the FERC in March 1998. Subject to receiving
timely FERC approval, construction will begin in early 1999 in order to provide
peaking services during the 2001-02 winter heating season.
OPERATIONS
<TABLE>
<CAPTION>
Years Ended December 31, 1997 1996 1995
- ---------------------------------------------------------------------------------
(In Millions)
<S> <C> <C> <C>
Revenues(1):
Market transportation and storage $ 313.2 $ 323.2 $ 324.5
Supply transportation 48.5 46.6 50.6
Other 31.6 29.0 37.2
-------- -------- --------
Total Revenues 393.3 398.8 412.3
-------- -------- --------
Costs and Expenses(1):
Operating and maintenance 75.4 74.9 96.1
General and administrative 71.3 91.6 85.4
Depreciation and amortization 47.8 48.3 52.3
Taxes, other than income 19.9 18.1 19.4
-------- -------- --------
214.4 232.9 253.2
-------- -------- --------
Operating Income as Reported 178.9 165.9 159.1
Unusual Items -- -- (11.1)
-------- -------- --------
Operating Income, Excluding Unusual Items $ 178.9 $ 165.9 $ 170.2
======== ======== ========
Equity in Earnings of
Unconsolidated Affiliates $ 11.9 $ 9.6 $ 9.4
======== ======== ========
<CAPTION>
(Billion Cubic Feet)
<S> <C> <C> <C>
Volumes:
Market transportation 611 630 609
Supply transportation 396 315 372
Intrastate(2) -- 38 35
-------- -------- --------
Total Volumes 1,007 983 1,016
======== ======== ========
Transition gas sales 65 69 85
======== ======== ========
</TABLE>
(1) The 1996 and 1995 periods have been restated to reflect the
reclassification of natural gas sales, natural gas cost and transition
cost recovery to other revenues.
(2) Southern's investment in Sonat Intrastate-Alabama, a small intrastate
pipeline subsidiary, was contributed to Sonat Inc. on January 1, 1997.
II-4
<PAGE> 17
1997 Versus 1996. Operating income was $178.9 million in 1997 compared
with $165.9 million in 1996. Operating results improved primarily due to lower
general and administrative expenses. Also favorably impacting operating results
were recent expansions and improved results at Sea Robin Pipeline Company.
Warmer winter weather during 1997 partly offset the favorable items.
Market transportation revenues decreased primarily due to lower volumes
resulting from warmer weather and the contribution of Southern's ownership of a
small intrastate pipeline to Sonat, which was immaterial to operating results
(see Note 2 of the Notes to Consolidated Financial Statements), partially offset
by increased revenues from expansions. Supply transportation revenues increased
due to higher volumes. Operating and maintenance expense increased slightly
primarily due to higher fuel expense. Both the 1997 and 1996 periods included
positive effects related to the disposition of certain assets. General and
administrative expenses decreased primarily due to lower stock-based
compensation and employee benefit expenses in 1997 and a $9.0 million donation
to the Sonat Foundation in 1996.
Equity in earnings of unconsolidated affiliates primarily represents
the Company's share of earnings from Bear Creek Storage Company and Destin
Pipeline. The increase in 1997 as compared to 1996 is primarily due to
Southern's share of Destin's earnings of $1.3 million resulting from the
allowance for funds used during construction (AFUDC) capitalized on Destin
Pipeline. Earnings from Bear Creek increased slightly.
1996 Versus 1995. Operating income, excluding the unusual item
discussed below, decreased slightly in 1996 primarily due to incremental
revenues in 1995 from the sale of firm transportation capacity prior to revised
rates going into effect on March 1, 1995. Also included in 1995 are positive
adjustments to reflect actual interruptible transportation revenue and cost
recovery in the first year of post Order No. 636 operations, the reduction of a
take-or-pay liability and the accrual of gas supply realignment (GSR) interest
on larger recovery balances compared to 1996. These were partially offset by
lower costs and additional firm transportation revenues in 1996. Operating and
maintenance expense in 1995 included an $11.1 million unusual item in
recognition of Southern's share of GSR costs that were not recoverable.
Certain other items affected operating income. Supply transportation
revenues decreased due to lower supply-area transportation volumes resulting
from lower throughput at Sea Robin. Operating and maintenance expense in 1995
included the $11.1 million of GSR expense, which was discussed earlier. In
addition, operating and maintenance expense in 1996 also included positive
effects relating to the disposition of certain assets. General and
administrative expense increased due to higher stock-based compensation expense
and a $9.0 million donation to the Sonat Foundation in 1996, partly offset by
lower employee related expenses. Depreciation and amortization expense decreased
in 1996 primarily due to lower rates implemented March 1, 1995.
Equity in earnings of unconsolidated affiliates primarily represents
the Company's share of earnings from Bear Creek Storage Company. Equity in
earnings from Bear Creek was flat compared to 1995.
II-5
<PAGE> 18
NATURAL GAS SALES AND SUPPLY
Sales by Southern of natural gas are anticipated to continue only until
Southern's remaining supply contracts expire, are terminated, or are assigned.
As a result of its restructuring pursuant to FERC directive, Southern terminated
or renegotiated to market pricing substantially all of its gas supply contracts
through which it had historically obtained its long-term gas supply. Pending the
termination of the few remaining supply contracts, Southern's remaining gas
supply is being sold on a month-to-month basis. Because Southern is primarily a
gas transporter and does not realize significant margins on gas sales, gas sales
revenue and natural gas cost are included in other revenue.
During 1997 two of Southern's existing long-term gas supply contracts
expired, reducing the number remaining from seven to five. Except for the sale
of its remaining gas supply described above, Southern's participation in gas
supply activities will be limited to the purchase and sale of volumes of gas
from time to time as may be required for system management purposes.
Southern's annual purchase commitments total less than $25 million per
year for 1998 and subsequent years. Based on Southern's current expectations
with respect to natural gas prices in 1998 and the years following, only an
insignificant amount of gas volumes is expected to be at prices above market.
RATE MATTERS
Under terms of a settlement approved by the FERC, all of Southern's
previously pending rate proceedings and proceedings to recover GSR and other
transition costs associated with the implementation of FERC Order No. 636 have
been resolved. The settlement requires Southern to file a new rate case no later
than September 1, 1999.
OTHER INCOME STATEMENT ITEMS
<TABLE>
<CAPTION>
Years Ended December 31, 1997 1996 1995
- ---------------------------------------------------------------------------------
(In Millions)
<S> <C> <C> <C>
Other Income, Net:
Equity in earnings of
unconsolidated affiliates $11.9 $ 9.6 $ 9.4
Other, net 7.0 6.7 0.6
----- ----- -----
$18.9 $16.3 $10.0
===== ===== =====
</TABLE>
1997 Versus 1996. Equity in earnings of unconsolidated affiliates
increased primarily due to the inclusion of Southern's share of earnings in the
Destin Pipeline joint venture and slightly higher earnings from Bear Creek
Storage Company. Other, net increased in 1997 compared to 1996 primarily due to
higher levels of AFUDC at Southern in its construction programs, offset
II-6
<PAGE> 19
slightly by lower net gains ($2.4 million in 1997 as compared to $3.9 million in
1996) on the termination of Southern's interest rate forward agreement.
1996 Versus 1995. Equity in earnings from unconsolidated affiliates was
relatively unchanged from the prior period. Other, net increased in the 1996
period primarily due to a $3.9 million net gain on partial termination of an
interest rate forward agreement and higher levels of AFUDC as a result of
Southern's pipeline expansion projects.
<TABLE>
<CAPTION>
Years Ended December 31, 1997 1996 1995
- ---------------------------------------------------------------------------------
(In Millions)
<S> <C> <C> <C>
Interest Expense, Net $26.3 $32.0 $35.0
</TABLE>
1997 Versus 1996. Net interest expense decreased in 1997 compared to
1996 due to lower interest expense, slightly offset by lower interest income.
Interest expense decreased due to lower average regulatory reserve balances, and
lower average debt levels with Southern Natural Gas Company's parent, Sonat Inc.
The decline was slightly offset by higher average levels of outside debt.
Interest income was lower due to lower average balances of loans to affiliates
and lower GSR related interest income due to the recording of a customer
settlement in the second quarter of 1996 (the Customer Settlement). Interest
capitalized increased due to Southern's expansion programs.
1996 Versus 1995. Net interest expense decreased in 1996 compared to
1995 due to lower interest expense, slightly offset by lower interest income.
Interest expense decreased due to lower average regulatory reserve balances and
lower average levels of outside debt. The decline in interest expense was
slightly offset by higher average debt levels with Sonat. Interest income was
lower due to lower average balances of loans to affiliates. Interest capitalized
increased due to higher capital expenditures in 1996.
<TABLE>
<CAPTION>
Years Ended December 31, 1997 1996 1995
- ---------------------------------------------------------------------------------
(In Millions)
<S> <C> <C> <C>
Income Taxes $66.1 $57.6 $51.6
</TABLE>
1997 Versus 1996. Income tax expense increased $8.5 million in 1997
compared to 1996 due to higher pretax income (see Note 7 of the Notes to
Consolidated Financial Statements).
1996 Versus 1995. Income taxes increased $6.0 million in 1996 compared
to 1995 due to higher pretax income.
II-7
<PAGE> 20
LIQUIDITY AND CAPITAL RESOURCES
CASH FLOWS
<TABLE>
<CAPTION>
Years Ended December 31, 1997 1996 1995
- --------------------------------------------------------------------------------
(In Millions)
<S> <C> <C> <C>
Operating Activities $167.7 $135.0 $ 39.5
</TABLE>
1997 Versus 1996. Cash flow from operations increased $32.7 million
compared to the 1996 period. The primary reason for the increase was $34.0
million of cash refunds paid to customers in 1996.
Other than the refunds discussed above, the change in GSR costs and the
change in reserves for regulatory matters were attributable to the Customer
Settlement in 1996. In addition, the change in deferred income taxes and accrued
income taxes is also primarily due to the Customer Settlement. The expiration of
two gas purchase contracts in 1997 was the primary reason for the change in both
accounts receivable and accounts payable.
The change in Other, net is primarily due to $41.2 million of accrual
reversals related to the Customer Settlement and interruptible transportation
revenue refunds of $13.5 million, both of which occurred in 1996.
1996 Versus 1995. Cash flow from operations increased $95.5 million
compared with the 1995 period. Net GSR recoveries in 1996 compared with net GSR
payments in 1995 resulted in a $104.6 million improvement in cash flow from
operations.
Other than the net GSR recoveries/payments discussed above, both the
change in GSR costs and reserves for regulatory matters were attributable to
recognition of the Customer Settlement. The change in accrued income taxes
reflects income tax deductions of GSR payments in 1996 compared to income tax
payments in 1995. The change in other current assets and other current
liabilities is primarily due to a decrease in gas imbalance receivables and
payables, which occurred in 1995.
The change in Other, net is primarily due to $41.2 million of accrual
reversals related to the Customer Settlement and interruptible transportation
revenue refunds of $13.5 million in 1996.
<TABLE>
<CAPTION>
Years Ended December 31, 1997 1996 1995
- ----------------------------------------------------------------------------------
(In Millions)
<S> <C> <C> <C>
Investing Activities $(259.5) $ (12.9) $ 1.1
</TABLE>
1997 Versus 1996. Net cash used in investing activities was $246.6
million higher in 1997 compared to 1996. The increase was primarily attributable
to increased loans by Southern to Sonat in the 1997 period, including the net
proceeds of the issuance of $100.0 million in notes, compared to repayments in
the 1996 period. The increase in investments in unconsolidated affiliates
primarily reflects Southern's investment of $39.1 million in the Destin Pipeline
joint venture during 1997.
II-8
<PAGE> 21
1996 Versus 1995. Investing activities required $12.9 million of net
cash in 1996 compared to providing $1.1 million in 1995. The primary use of cash
in investing activities was capital expenditures, which increased to $130.4
million in 1996 from $62.7 million in 1995. Southern's system expansions were
the primary reason for the capital expenditure increase. Major sources of
investing funds were loan repayments from Sonat and increased proceeds from the
disposal of assets.
<TABLE>
<CAPTION>
Years Ended December 31, 1997 1996 1995
- -----------------------------------------------------------------------------------
(In Millions)
<S> <C> <C> <C>
Financing Activities $ 92.4 $(120.5) $ (40.8)
</TABLE>
1997 Versus 1996. Financing activities provided $92.4 million in 1997
compared to requiring $120.5 million in 1996. The change primarily reflects the
issuance of $100.0 million in notes under Southern's shelf registration
statement in the 1997 period and dividend payments to Sonat of $99.6 million in
the 1996 period.
1996 Versus 1995. Net cash used in financing activities was $79.7
million higher in the 1996 period compared to the 1995 period. The change was
due to debt repayments and a special $50.0 million dividend paid by Southern to
Sonat in the 1996 period.
CAPITAL RESOURCES
At December 31, 1997, Southern had bank lines of credit with a total
capacity of $50.0 million. Southern has filed a shelf registration statement
with the Securities and Exchange Commission which, when effective, will provide
for the issuance of up to $500.0 million in debt securities.
Southern's capital expenditures and other investing requirements for
1998 are budgeted to aggregate $260 million. This amount reflects investments in
unconsolidated affiliates, expansions and other projects.
Southern expects to continue to use cash from operations and borrowings
in either the public or private markets or loans from affiliates to finance its
capital and other corporate expenditures.
MARKET RISK
Financial instruments of Southern expose it to interest rate risk.
Southern's entire portfolio of interest rate risk instruments is classified as
non-trading.
The Company's interest income is sensitive to changes in the level of
short-term interest rates in the United States. In general, Southern either
loans excess funds to Sonat or repays its short-term borrowings. Excess cash
generated by or contributed to joint venture projects is invested on a
short-term basis pending distribution or expenditure on capital projects.
II-9
<PAGE> 22
At December 31, 1997, Southern had no variable rate debt. In 1996,
Southern entered into an interest rate forward agreement to hedge the interest
rate risk of an anticipated future borrowing. The agreement has been terminated
and Southern has no other derivative instruments (see Note 3 of the Notes to
Consolidated Financial Statements).
The following table provides information about the Company's financial
instruments that are sensitive to changes in interest rates. The table presents
long-term debt maturity amounts and related weighted-average interest rates by
expected maturity dates. The weighted-average variable rate on Southern's loan
to Sonat is the current effective rate.
II-10
<PAGE> 23
INTEREST RATE RISK INSTRUMENTS
Principal Amount by Expected Maturity and Average Interest Rate
<TABLE>
<CAPTION>
Fair
There- Value
1998 1999 2000 2001 2002 after Total 12/31/97
- ------------------------------------------------------------------------------------------------------------------------------
(In Millions)
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Assets:
Notes Receivable:
Variable Rate $ 89.3 $ -- $ -- $ -- $ -- $ -- $ 89.3 $ 89.3
Average Interest Rate 6.8%
Liabilities:
Long-term Debt, including Current Portion:
Fixed Rate $ 6.2 $ 5.0 $ -- $100.0 $200.0 $100.0 $411.2 $434.9
Average Interest Rate 8.0% 8.0% 8.0% 7.8% 7.2% 6.7%
</TABLE>
II-11
<PAGE> 24
INFLATION AND THE EFFECT OF CHANGING ENERGY PRICES
The rate of inflation in the United States has been moderate over the
past several years and has not significantly affected the profitability of
Southern. To be able to recover higher costs of operations, Southern would have
to file a general rate case. Southern's Customer Settlement requires it to file
a new rate case no later than September 1, 1999.
ENVIRONMENTAL ISSUES
The operations and properties of Southern are subject to extensive and
changing federal, state, and local laws and regulations relating to
environmental protection, including the generation, storage, handling, emission,
transportation, and discharge of materials into the environment, and relating to
safety and health. The recent trend in environmental legislation and regulation
generally is toward stricter standards, and this trend will likely continue.
These laws and regulations may require the acquisition of a permit or other
authorization before construction commences and for certain other activities,
limit or prohibit construction, and other activities on certain lands lying
within wilderness or wetlands and other protected areas and impose substantial
liabilities for pollution resulting from operations. The permits required for
various operations are subject to revocation, modification, and renewal by
issuing authorities. Southern believes that its operations currently are in
substantial compliance with applicable environmental regulations.
Governmental authorities have the power to enforce compliance with
their regulations, and violations are subject to fines or injunction, or both.
Southern does not expect environmental compliance matters to have a material
adverse effect on its financial position or results of operations. It is also
not anticipated that Southern will be required in the near future to expend
amounts that are material to its financial condition or operations by reason of
environmental laws and regulations, but because such laws and regulations are
frequently changed, and may impose increasingly stricter requirements, Southern
is unable to predict the ultimate cost of complying with such laws and
regulations.
Southern has been notified that it is or may be a potentially
responsible party (PRP) under the Comprehensive Environmental Response,
Compensation and Liability Act (CERCLA) in connection with three Superfund sites
for which the amount of its liability has not been settled. In these cases,
Southern has determined that the aggregate maximum amount of loss reasonably
likely to be attributed to it, after giving effect to likely contributions by
other PRPs, would not be material to its financial position or results of
operations. However, liability for PRPs under CERCLA (and applicable state law)
is joint and several among all PRPs. Although volumetric allocation is a factor
in assessing liability, it is not necessarily determinative; thus, the ultimate
liability at any of these sites could be substantially greater than the maximum
amounts estimated by Southern.
In the operation of their natural gas pipeline systems, Southern
Natural Gas and its wholly owned subsidiaries, South Georgia Natural Gas Company
and Sea Robin Pipeline Company, have used, and continue to use at several
locations, gas meters containing elemental mercury. Southern Natural Gas, South
Georgia and Sea Robin plan to remove all remaining mercury meters during
II-12
<PAGE> 25
the course of regularly scheduled facilities upgrades. Mercury and mercury
meters are handled pursuant to procedures that are designed to protect employees
and the environment and to comply with Occupational Safety and Health
Administration standards. It is generally believed in the natural gas pipeline
industry that, in the course of normal maintenance and replacement operations,
elemental mercury may have been released from mercury meters. Southern Natural
Gas has determined that its pipeline meters may in the past have been the source
of small releases of elemental mercury. As a result, Southern Natural Gas
undertook the characterization of 443 sites across the system during 1995.
Southern Natural Gas completed the characterization of its remaining 190 sites
in Mississippi during 1996. Approximately 50 percent of the sites characterized
in 1995 and 1996 across the pipeline systems of Southern Natural Gas and Sea
Robin had detectable levels of mercury. Characterization of potential sites on
the pipeline system of South Georgia has not commenced at this time. Southern
Natural Gas will file copies of the characterization reports with the applicable
state agencies upon their finalization. At this time, only the State of Georgia
has issued formal guidelines for remediation of mercury sites, although the
State of Louisiana has issued informal guidance. Southern Natural Gas is unable
to estimate the cost of mercury remediation because costs will vary based on a
number of factors particular to each site and because regulatory guidance is
still uncertain for all sites. Based on its experience with other remediation
projects, industry experience to date with remediation of mercury, and its
characterization data, Southern Natural Gas believes that the cost of its
characterization and remediation of any mercury contamination will not be
material to its financial position or results of operations.
Southern generally considers environmental assessment and remediation
costs and costs associated with compliance with environmental standards to be
recoverable through rates since they are prudent costs incurred in the ordinary
course of business and, accordingly, generally will seek recovery of such costs
through rate filings, although no assurance can be given with regard to their
ultimate recovery.
RECENT ACCOUNTING PRONOUNCEMENTS
In June 1997, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards (SFAS) No. 130, Reporting
Comprehensive Income, which established standards for reporting and display of
comprehensive income and its components. The components of comprehensive income
refer to revenues, expenses, gains and losses that are excluded from net income
under current accounting standards, including unrecognized foreign currency
translation items, minimum pension liability adjustments and unrealized gains
and losses on certain investments in debt and equity securities. SFAS No. 130
requires that all items that are recognized under accounting standards as
components of comprehensive income be reported in a financial statement
displayed in equal prominence with other financial statements; the total of
other comprehensive income for a period is required to be transferred to a
component of equity that is separately displayed in a statement of financial
position at the end of an accounting period. SFAS No. 130 is effective for both
interim and annual periods beginning after December 15, 1997. At December 31,
1997, Southern had no items of other comprehensive income that it would be
required to report under provisions of SFAS No. 130.
II-13
<PAGE> 26
In June 1997, the FASB issued SFAS No. 131, Disclosures about Segments
of an Enterprise and Related Information. SFAS No. 131 establishes standards for
the way public enterprises are to report information about operating segments in
annual financial statements and requires the reporting of selected information
about operating segments in interim financial reports issued to shareholders.
SFAS No. 131 also establishes standards for related disclosures about products
and services, geographic areas, and major customers. Since Southern operates in
one business segment, SFAS No. 131 will have minimal affect on its reporting.
SFAS No. 131 is effective for periods beginning after December 15, 1997.
YEAR 2000 PROJECT
Southern is aware of the potential impact the Year 2000 could have on
its information technology and business infrastructure. To answer the Year 2000
challenge, the Sonat Board of Directors directed that a corporate-wide
initiative be undertaken and that the project be completed by December 31, 1998.
A consulting firm was engaged to assist in this effort.
The assessment phase of the Year 2000 project was completed in December
1997. This phase included a comprehensive inventory and review of existing
applications, processes and systems to identify areas which might be affected.
The project plan includes steps to implement the required modifications
identified during the assessment phase and test systems for compliance.
Southern's estimated share of the Year 2000 project costs for capital, as well
as general and administrative costs, is expected to be $2.5 million to $5.0
million.
Over the past few years, technology investments were made that greatly
reduced the current economic impact of Year 2000, including the replacement of
mainframe systems with Year 2000 compliant vendor packages on new client/server
platforms. The current goal is that by mid-1998 all major applications will be
vendor packages that are Year 2000 compliant.
CAUTIONARY STATEMENT CONCERNING FORWARD-LOOKING STATEMENTS
This report contains forward-looking statements regarding Southern's
business plans and prospects, objectives, expansion projects, proposed capital
expenditures, and expected performance or results. These forward-looking
statements are based on assumptions that Southern believes are reasonable, but
are subject to a wide range of risks and uncertainties and, as a result, actual
results may differ materially from those expressed in such forward-looking
statements. Important factors that could cause actual results to differ include
the requirements to receive various governmental approvals to proceed with
expansion projects at Southern Natural Gas, Destin, and Etowah. Realization of
Southern's objectives and expected performance can also be adversely affected by
the actions of customers and competitors, changes in governmental regulation of
Southern's businesses, and changes in general economic conditions and the state
of domestic capital markets.
II-14
<PAGE> 27
Item 8. Financial Statements and Supplementary Data
Report of Ernst & Young LLP, Independent Auditors
The Board of Directors
Southern Natural Gas Company
We have audited the accompanying consolidated balance sheets of Southern Natural
Gas Company and Subsidiaries as of December 31, 1997 and 1996, and the related
consolidated statements of income, changes in retained earnings and cash flows
for each of the three years in the period ended December 31, 1997. These
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the consolidated financial position of Southern Natural
Gas Company and Subsidiaries at December 31, 1997 and 1996, and the consolidated
results of their operations and their cash flows for each of the three years in
the period ended December 31, 1997, in conformity with generally accepted
accounting principles.
/s/ Ernst & Young LLP
ERNST & YOUNG LLP
Birmingham, Alabama
January 16, 1998
II-15
<PAGE> 28
SOUTHERN NATURAL GAS COMPANY AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
December 31, 1997 and 1996
<TABLE>
<CAPTION>
1997 1996
---- ----
(In Thousands)
<S> <C> <C>
ASSETS
Current Assets:
Cash $ 2,905 $ 2,316
Notes receivable from affiliates 89,277 --
Accounts receivable, including $11,709,000 in
1997 and $14,286,000 in 1996 from affiliates 78,248 103,736
Inventories 21,529 24,197
Gas imbalance receivables 13,493 20,161
Other 4,250 6,112
---------- ----------
Total Current Assets 209,702 156,522
---------- ----------
Investments:
Unconsolidated affiliates (Note 4) 95,979 49,383
Other investments 1,075 984
---------- ----------
97,054 50,367
---------- ----------
Plant, Property and Equipment (Note 5) 2,456,773 2,422,845
Less accumulated depreciation
and amortization 1,497,827 1,539,984
---------- ----------
958,946 882,861
---------- ----------
Deferred Charges and Other:
Gas supply realignment costs 3,630 11,144
Other 104,550 130,251
---------- ----------
108,180 141,395
---------- ----------
Total Assets $1,373,882 $1,231,145
========== ==========
</TABLE>
See accompanying notes.
II-16
<PAGE> 29
SOUTHERN NATURAL GAS COMPANY AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS (Continued)
December 31, 1997 and 1996
<TABLE>
<CAPTION>
1997 1996
---- ----
(In Thousands)
<S> <C> <C>
LIABILITIES AND STOCKHOLDER'S EQUITY
Current Liabilities:
Long-term debt due within one year (Note 6) $ 6,220 $ 6,964
Notes payable to affiliates -- 1,189
Accounts payable, including $26,554,000 in 1997
and $24,173,000 in 1996 to affiliates 49,364 62,516
Accrued income taxes 4,078 184
Other accrued taxes 9,150 8,031
Accrued interest 20,028 17,015
Gas imbalance payables 10,498 17,162
Other 10,493 8,217
---------- ----------
Total Current Liabilities 109,831 121,278
---------- ----------
Long-Term Debt (Note 6) 405,000 310,536
---------- ----------
Deferred Credits and Other:
Deferred income taxes (Note 7) 134,073 119,850
Reserves for regulatory matters (Note 8) 4,432 14,644
Other 68,853 97,656
---------- ----------
207,358 232,150
---------- ----------
Commitments and Contingencies (Note 8)
Stockholder's Equity:
Common stock, $3.75 par value; 1,000 shares
authorized and outstanding 4 4
Other capital (Note 2) 79,332 100,670
Retained earnings 572,357 466,507
---------- ----------
651,693 567,181
---------- ----------
Total Liabilities and Stockholder's Equity $1,373,882 $1,231,145
========== ==========
</TABLE>
See accompanying notes.
II-17
<PAGE> 30
SOUTHERN NATURAL GAS COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
Years Ended December 31, 1997, 1996 and 1995
<TABLE>
<CAPTION>
1997 1996 1995
---- ---- ----
(In Thousands)
<S> <C> <C> <C>
Revenues (Note 9):
Transportation and storage $ 361,737 $ 369,804 $ 375,070
Other 31,555 29,024 37,256
--------- --------- ---------
393,292 398,828 412,326
--------- --------- ---------
Costs and Expenses:
Operating and maintenance 75,361 74,930 96,097
General and administrative 71,341 91,590 85,361
Depreciation and amortization 47,769 48,292 52,274
Taxes, other than income 19,933 18,092 19,446
--------- --------- ---------
214,404 232,904 253,178
--------- --------- ---------
Operating Income 178,888 165,924 159,148
--------- --------- ---------
Other Income, Net:
Equity in earnings of unconsolidated
affiliates (Note 4) 11,849 9,630 9,357
Other, net 7,032 6,664 588
--------- --------- ---------
18,881 16,294 9,945
--------- --------- ---------
Interest:
Interest income from affiliates 1,911 3,993 6,876
Interest income 322 1,084 1,373
Interest expense to affiliates (334) (3,062) (148)
Interest expense (30,014) (34,998) (43,319)
Interest capitalized 1,849 984 249
--------- --------- ---------
(26,266) (31,999) (34,969)
--------- --------- ---------
Income Before Income Taxes 171,503 150,219 134,124
Income Tax Expense (Note 7) 66,096 57,594 51,631
--------- --------- ---------
Net Income $ 105,407 $ 92,625 $ 82,493
========= ========= =========
</TABLE>
CONSOLIDATED STATEMENTS OF CHANGES IN RETAINED EARNINGS
Years Ended December 31, 1997, 1996 and 1995
<TABLE>
<CAPTION>
1997 1996 1995
---- ---- ----
(In Thousands)
<S> <C> <C> <C>
Balance at Beginning of Year $466,507 $473,482 $440,589
Add:
Net income 105,407 92,625 82,493
Contribution of investment to parent
(Note 2) 443 -- --
Deduct:
Dividends -- 99,600 49,600
-------- -------- --------
Balance at End of Year $572,357 $466,507 $473,482
======== ======== ========
</TABLE>
See accompanying notes.
II-18
<PAGE> 31
SOUTHERN NATURAL GAS COMPANY AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years Ended December 31, 1997, 1996 and 1995
<TABLE>
<CAPTION>
1997 1996 1995
---- ---- ----
(In Thousands)
<S> <C> <C> <C>
Cash Flows from Operating Activities:
Net income $ 105,407 $ 92,625 $ 82,493
Adjustments to reconcile net income to net
cash provided by operating activities:
Depreciation and amortization 47,769 48,292 52,274
Deferred income taxes 19,535 38,894 37,144
Equity in earnings of unconsolidated
affiliates, less distributions (1,849) (280) (857)
Reserves for regulatory matters (10,212) (167,154) (1,545)
Gas supply realignment costs 7,514 187,929 (80,553)
Change in:
Accounts receivable 22,154 (7,961) (4,773)
Inventories 2,427 (2,572) (358)
Accounts payable (10,305) 5,729 13,433
Accrued interest and income
taxes, net 6,600 12,254 (28,224)
Other current assets 8,632 1,418 7,674
Other current liabilities (2,770) (1,015) (21,692)
Other, net (27,223) (73,209) (15,521)
--------- --------- ---------
Net cash provided by operating
activities 167,679 134,950 39,495
--------- --------- ---------
Cash Flows from Investing Activities:
Plant, property and equipment additions (144,269) (130,418) (62,720)
Notes receivable from affiliates (86,718) 103,645 63,030
Proceeds from disposal of assets 12,814 14,261 1,323
Investments in unconsolidated affiliates
and other (41,339) (351) (566)
--------- --------- ---------
Net cash provided by (used in)
investing activities (259,512) (12,863) 1,067
--------- --------- ---------
Cash Flows from Financing Activities:
Proceeds from the issuance of
long-term debt 99,891 -- --
Payments of long-term debt (6,280) (7,091) (6,280)
Changes in short-term borrowings (1,189) (13,791) 14,981
--------- --------- ---------
Net changes in debt 92,422 (20,882) 8,701
Dividends paid and other -- (99,600) (49,527)
--------- --------- ---------
Net cash provided by (used in)
financing activities 92,422 (120,482) (40,826)
--------- --------- ---------
Net Increase (Decrease) in Cash 589 1,605 (264)
Cash at Beginning of Year 2,316 711 975
--------- --------- ---------
Cash at End of Year $ 2,905 $ 2,316 $ 711
========= ========= =========
Supplemental Disclosures of Cash Flow Information
Cash Paid for:
Interest (net of amount capitalized) $ 24,555 $ 26,197 $ 29,160
Income taxes, net 40,546 8,075 44,804
</TABLE>
See accompanying notes.
II-19
<PAGE> 32
SOUTHERN NATURAL GAS COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. BUSINESS DESCRIPTION AND SIGNIFICANT ACCOUNTING POLICIES
Business Description - Southern Natural Gas Company (Southern), which
is a wholly owned subsidiary of Sonat Inc., is primarily engaged in the
transmission of natural gas in interstate commerce. Its transmission systems are
located in the Southeastern United States. Transportation service is provided
for its distribution customers, direct industrial customers and other end-users,
gas producers, other gas pipelines, and gas marketing and trading companies. It
provides transportation service in both its gas supply and market areas. The
principal industries served directly by Southern's pipeline system and
indirectly through its distribution customers' systems include the chemical,
pulp and paper, textile, primary metals, stone, clay and glass industries. For
information concerning major customers, see Note 9. For a description of
financial instruments and credit risk, see Note 3.
Principles of Consolidation - The Consolidated Financial Statements
include the accounts of Southern Natural Gas Company and its subsidiaries.
Intercompany transactions and accounts have been eliminated in consolidation.
The equity method of accounting is used for investments in affiliates owned 50
percent or less.
The 1996 and 1995 periods have been restated to reflect the
reclassification of natural gas sales, natural gas cost and transition cost
recovery to other revenues to conform with the 1997 presentation. Certain other
amounts in the 1996 and 1995 Consolidated Financial Statements and Notes have
also been reclassified to conform with the 1997 presentation.
Use of Estimates in the Preparation of Financial Statements - In
preparing financial statements in conformity with generally accepted accounting
principles, management is required to make estimates and assumptions that affect
the reported amounts of assets and liabilities and the disclosure of contingent
assets and liabilities at the date of the financial statements and revenues and
expenses during the reporting period. Actual results could differ from those
estimates.
Inventories - At December 31, 1997, inventories consist primarily of
materials and supplies that are carried at cost.
Gas Imbalance Receivables and Payables - Gas imbalances represent the
difference between gas receipts from and gas deliveries to Southern's
transportation and storage customers. Gas imbalances arise when these customers
deliver more or less gas into the pipeline than they take out. Imbalances
incurred prior to implementation of Order No. 636 are settled through the
exchange of gas. Imbalances incurred after implementation of Order No. 636 are
settled monthly.
Plant, Property and Equipment, and Depreciation - Plant, property and
equipment is carried at cost. Southern generally provides for depreciation on a
composite basis. (See Note 5.)
Revenue Recognition - Revenue is recognized from natural gas
transportation in the period the service is provided. Reserves are provided on
revenues collected subject to refund when appropriate.
II-20
<PAGE> 33
SOUTHERN NATURAL GAS COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. Business Description and Significant Accounting Policies (Continued)
Environmental Expenditures - Southern and its subsidiaries provide for
environmental liabilities when environmental assessments and/or remediation are
probable and such costs can be reasonably estimated. Accruals for environmental
remediation liabilities are not material and have not been discounted.
Income Taxes - Southern and its subsidiaries file federal income tax
returns on a consolidated basis with its parent and other members of its
affiliated group. For financial statement purposes, income taxes are provided as
though Southern and its subsidiaries file separate income tax returns; however,
those companies incurring losses are allocated the tax benefit of such losses
used in the consolidated return.
Southern and its subsidiaries follow a liability and asset approach in
accounting for income taxes. Deferred tax liabilities and assets are determined
using the tax rate for the period in which those amounts are expected to be paid
or received. (See Note 7.)
2. Changes in Operations
On January 1, 1997, Southern transferred its investment of $23,612,000,
including a retained earnings deficit of $443,000, in Sonat Intrastate-Alabama
(SIA) to Sonat. Other Capital in the Consolidated Balance Sheet was adjusted to
reflect the transfer. For the years ended December 31, 1996 and 1995, SIA had
revenues of $24,399,000 and $17,155,000, respectively. SIA had a net loss of
$630,000 in 1996 and net income of $187,000 in 1995.
3. Financial Instruments
Southern's entire portfolio of financial instruments is classified as
Other Than Trading. The carrying amounts and fair values of Southern's financial
instruments are as follows:
<TABLE>
<CAPTION>
Carrying Amounts Fair Value
---------------- ----------
(In Thousands)
DECEMBER 31, 1997
- -----------------
<S> <C> <C>
Cash $ 2,905 $ 2,905
Notes Receivable from Affiliates 89,277 89,277
Gas Supply Realignment Costs 3,630 3,630
Long-Term Debt 411,220 434,913
DECEMBER 31, 1996
- ------------------
Cash $ 2,316 $ 2,316
Gas Supply Realignment Costs 11,144 11,144
Notes Payable to Affiliates 1,189 1,189
Long-Term Debt 317,500 338,569
</TABLE>
II-21
<PAGE> 34
SOUTHERN NATURAL GAS COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
3. Financial Instruments (Continued)
The following methods and assumptions were used by Southern in
estimating its fair value disclosures for balance sheet financial instruments:
Cash, notes receivable from affiliates, gas supply realignment (GSR)
costs and notes payable to affiliates - The carrying amount reported in the
Consolidated Balance Sheets approximates its fair value.
Long-term debt - The fair values of long-term debt are based on quoted
market values or estimated using discounted cash flow analyses, based on
Southern's current incremental borrowing rates for similar types of borrowing
arrangements.
Financial Risk
On January 22, 1996, Southern entered into an interest rate forward
agreement to hedge the interest rate risk of an anticipated future borrowing
under an existing shelf registration statement. In September 1996, due to
revised expectations of external financing requirements, 50 percent of the
interest rate forward agreement was liquidated resulting in a gain of $3.9
million. A gain of $2.4 million was recognized upon final settlement of this
agreement in 1997.
Credit Risk
Southern's financial instruments from unaffiliated parties that are
exposed to concentrations of credit risk consist primarily of accounts
receivable and GSR costs which Southern expects to recover from its customers.
Accounts receivable of Southern relate to business conducted with gas
distribution companies, municipalities, gas districts, industrial customers and
interstate pipeline companies in the Southeast. Southern performs ongoing credit
evaluations of its customers' financial condition and, in some circumstances,
requires collateral from its customers. Accounts receivable are stated net of
valuation allowances of $1.9 million in 1997 and $3.7 million in 1996.
4. Unconsolidated Affiliates
At December 31, 1997, Southern's investment in unconsolidated
affiliates totaled $96.0 million and equaled its share of underlying equity in
net assets of the investees. Through December 31, 1997, Southern's cumulative
equity in earnings of its unconsolidated affiliates was $165.8 million and
cumulative dividends received from them totaled $152.6 million.
II-22
<PAGE> 35
SOUTHERN NATURAL GAS COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
4. Unconsolidated Affiliates (Continued)
A subsidiary of Southern owns 50 percent of Bear Creek Storage Company,
an underground gas storage company. The following is summarized financial
information for Bear Creek. No provision for income taxes has been included
since its income taxes are paid directly by the joint-venture participants.
<TABLE>
<CAPTION>
Years Ended December 31,
---------------------------------------
1997 1996 1995
-------- -------- --------
(In Thousands)
<S> <C> <C> <C>
Revenues $ 36,226 $ 36,258 $ 36,167
Expenses:
Operating expenses 4,440 4,817 5,408
Depreciation 5,430 5,415 5,399
Other expenses, net 4,997 5,657 6,167
-------- -------- --------
Income Reported $ 21,359 $ 20,369 $ 19,193
======== ======== ========
</TABLE>
<TABLE>
<CAPTION>
December 31,
------------------------
1997 1996
(In Thousands)
<S> <C> <C>
Assets
Current $ 6,503 $ 7,205
Net plant and property 149,334 154,388
Other 296 338
-------- --------
$156,133 $161,931
======== ========
Liabilities and Equity
Current $ 8,298 $ 8,525
Long-term debt and other liabilities 48,799 55,729
Participants' equity 99,036 97,677
-------- --------
$156,133 $161,931
======== ========
</TABLE>
In 1995 Southern executed a Capital Contribution Agreement in
connection with the project financing for Bear Creek from The Prudential
Insurance Company of America. In the event that Bear Creek does not refinance
the remaining principal, this agreement provides that Southern and its partner
will contribute $21.0 million each to Bear Creek on October 31, 2000, to provide
funds to enable Bear Creek to make a principal payment due under the financing.
II-23
<PAGE> 36
SOUTHERN NATURAL GAS COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
5. Plant, Property and Equipment and Depreciation
A summary of plant, property and equipment by classification follows:
<TABLE>
<CAPTION>
December 31,
-------------------------
1997 1996
---- ----
(In Thousands)
<S> <C> <C>
Mainline Transmission Property $1,295,247 $1,335,540
Gas Supply 660,700 510,355
Gas Gathering 16,568 36,909
Underground Storage Facilities 60,684 60,528
Liquefied Natural Gas Facilities 154,076 154,092
Gas Stored Underground 130,128 124,805
Other 139,370 200,616
---------- ----------
$2,456,773 $2,422,845
========== ==========
</TABLE>
Other plant, property and equipment includes construction work in
progress of $58.6 million and $67.4 million at December 31, 1997 and 1996,
respectively.
The accumulated depreciation and amortization amounts by classification
are as follows:
<TABLE>
<CAPTION>
December 31,
-------------------------------
1997 1996
---- ----
(In Thousands)
<S> <C> <C>
Mainline Transmission Property $ 844,885 $ 848,352
Gas Supply 434,205 436,638
Gas Gathering 11,072 22,332
Underground Storage Facilities 45,869 44,072
Liquefied Natural Gas Facilities 118,981 114,180
Other 42,815 74,410
---------- ----------
$1,497,827 $1,539,984
========== ==========
</TABLE>
The annual depreciation rates by classification are as follows:
<TABLE>
<CAPTION>
December 31,
--------------------------------------
1997 1996 1995
---- ---- ----
<S> <C> <C> <C>
Mainline Transmission Property 2.0% 2.0% 2.0%
Gas Supply 2.9% 2.9% 2.9%
Gas Gathering 2.8% 2.8% 2.8%
Underground Storage Facilities 3.3% 3.3% 3.3%
Liquefied Natural Gas Facilities 3.2% 3.2% 3.2%
Other 3.3 - 25% 2.8 - 24% 2.8 - 24%
</TABLE>
II-24
<PAGE> 37
SOUTHERN NATURAL GAS COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
6. Debt and Lines of Credit
Long-Term Debt - Long-term debt consists of:
<TABLE>
<CAPTION>
December 31,
---------------------
1997 1996
---- ----
(In Thousands)
<S> <C> <C>
Southern Natural Gas Company
6.70% Notes due October 1, 2007 $100,000 $ -
7.85% Notes due January 15, 2002 100,000 100,000
8-5/8% Notes due May 1, 2002 100,000 100,000
8-7/8% Notes due February 15, 2001 100,000 100,000
Capital Leases 1,220 1,220
South Georgia Natural Gas Company
9.85% Term Loan due through December 31, 1997 - 880
7.80% Term Loan due through December 31, 1997 - 400
Southern LNG Inc.
Promissory Note (an effective rate of
6.53% at December 31, 1997 and
6.75% at December 31, 1996)
due through April 1, 1999 10,000 15,000
-------- --------
Total Outstanding 411,220 317,500
Less Long-Term Debt Due Within One Year 6,220 6,964
-------- --------
$405,000 $310,536
======== ========
</TABLE>
Southern had no restrictions on the payment of dividends at December
31, 1997.
Annual maturities of long-term debt at December 31, 1997, are as
follows:
<TABLE>
<CAPTION>
Years (In Thousands)
----- --------------
<S> <C>
1998 $ 6,220
1999 5,000
2000 -
2001 100,000
2002 200,000
2003-2007 100,000
----------
$ 411,220
</TABLE>
In September 1997, Southern issued $100.0 million of 6.70 percent
Notes due October 1, 2007, at 99.891 percent to yield 6.715 percent. The
proceeds have been temporarily loaned to Sonat.
Unsecured Notes - As part of Sonat's cash management program, Southern
can either loan funds to or borrow funds from Sonat. Notes receivable and
payable are in the form of demand notes with rates reflecting Sonat's return
II-25
<PAGE> 38
SOUTHERN NATURAL GAS COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
6. Debt and Lines of Credit (Continued)
on funds loaned to its subsidiaries, average short-term investment rates and
cost of borrowed funds. In certain circumstances, these notes are subordinated
in right of payment to amounts payable by Sonat under certain long-term credit
agreements.
At December 31, 1997, Southern had available short-term lines of credit
of $50.0 million through May 26, 1998. Borrowings are available for a period of
not more than 364 days and are in the form of unsecured promissory notes that
bear interest at rates based on the banks' prevailing prime, international or
money-market lending rates. At December 31, 1997 and 1996, no amounts were
outstanding.
7. Income Taxes
An analysis of Southern's income tax expense (benefit) is as follows:
<TABLE>
<CAPTION>
Years Ended December 31,
--------------------------------------
1997 1996 1995
---- ---- ----
(In Thousands)
<S> <C> <C> <C>
Current:
Federal $ 39,968 $ 16,182 $ 16,553
State 6,593 2,518 (2,066)
-------- -------- --------
46,561 18,700 14,487
-------- -------- --------
Deferred:
Federal 16,955 33,542 32,875
State 2,580 5,352 4,269
-------- -------- --------
19,535 38,894 37,144
-------- -------- --------
$ 66,096 $ 57,594 $ 51,631
======== ======== ========
</TABLE>
Net deferred tax liabilities are comprised of the following:
<TABLE>
<CAPTION>
December 31,
---------------------
1997 1996
---- ----
(In Thousands)
<S> <C> <C>
Deferred Tax Liabilities:
Depreciation $144,054 $143,505
Inventories 11,573 11,573
Other 5,431 3,893
-------- --------
Total deferred tax liabilities 161,058 158,971
-------- --------
Deferred Tax Assets:
Other accounting accruals 5,387 14,361
GSR and other transition costs 10,210 13,228
Other 11,388 11,532
-------- --------
Total deferred tax assets 26,985 39,121
-------- --------
Net Deferred Tax Liabilities $134,073 $119,850
======== ========
</TABLE>
II-26
<PAGE> 39
SOUTHERN NATURAL GAS COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
7. Income Taxes (Continued)
Southern and its subsidiaries have not provided a valuation allowance
to offset deferred tax assets because, based on the weight of available
evidence, it is more likely than not that all deferred tax assets will be
realized.
Consolidated income tax expense is different from the amount computed
by applying the U.S. federal income tax rate to income before income tax. The
reasons for this difference are as follows:
<TABLE>
<CAPTION>
Years Ended December 31,
--------------------------------------
1997 1996 1995
---- ---- ----
(In Thousands)
<S> <C> <C> <C>
Income Tax Expense at Statutory
Federal Income Tax Rates $ 60,026 $ 52,577 $ 46,943
Increases (Decreases) in Tax
Resulting From:
State income taxes, net of
federal income tax benefit 5,962 5,116 1,432
Refunds and adjustment of
accrued tax position 97 27 5,091
Other 11 (126) (1,835)
-------- -------- --------
Income Tax Expense $ 66,096 $ 57,594 $ 51,631
======== ======== ========
</TABLE>
8. Commitments and Contingencies
Rate Matters - Periodically, Southern and its subsidiaries make general
rate filings with the Federal Energy Regulatory Commission (FERC) to provide for
the recovery of cost of service and a return on equity. The FERC normally allows
the filed rates to become effective, subject to refund, until it rules on the
approved level of rates. Southern and its subsidiaries provide reserves relating
to such amounts collected subject to refund, as appropriate, and make refunds
upon establishment of the final rates. At December 31, 1997, Southern's rates
are established by a settlement that was approved by FERC orders issued in 1995
and 1996. All of its customers are parties to the settlement.
Leases - Southern has operating lease commitments expiring at various
dates, principally for office space and equipment. Southern has no significant
capital leases.
II-27
<PAGE> 40
SOUTHERN NATURAL GAS COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
8. Commitments and Contingencies (Continued)
Rental expense for all operating leases is summarized below.
<TABLE>
<CAPTION>
Years Ended December 31,
--------------------------------------
1997 1996 1995
---- ---- ----
(In Thousands)
<S> <C> <C> <C>
Non-Affiliated Operating Leases $ 1,241 $ 1,292 $ 1,438
Affiliated Operating Leases 3,724 4,351 4,321
-------- -------- --------
Total $ 4,965 $ 5,643 $ 5,759
======== ======== ========
</TABLE>
At December 31, 1997, future minimum payments for non-cancelable
operating leases for the years 1998 through 2002 are less than $3 million per
year.
9. Transactions with Major Customers and Affiliates
The following table shows revenues from major customers:
<TABLE>
<CAPTION>
Years Ended December 31,
--------------------------------------
1997 1996 1995
---- ---- ----
(In Thousands)
<S> <C> <C> <C>
Atlanta Gas Light Company $130,425 $134,062 $136,806
Alabama Gas Corporation 48,300 38,662 40,019
</TABLE>
Southern and its subsidiaries enter into transactions with other Sonat
subsidiaries and unconsolidated affiliates to transport, sell and purchase
natural gas. Services provided by these affiliates for the benefit of Southern
and its subsidiaries are based on the same terms as nonaffiliates.
The following table shows revenues and charges from Southern's
affiliates:
<TABLE>
<CAPTION>
Years Ended December 31,
--------------------------------------
1997 1996 1995
---- ---- ----
(In Thousands)
<S> <C> <C> <C>
Revenues from Affiliates $ 68,292 $ 83,323 $ 95,610
Charges from Affiliates 28,120 45,737 48,534
</TABLE>
10. Retirement Plans and Other Benefits
Retirement Plans - Sonat has a trusteed, non-contributory, tax
qualified defined benefit retirement plan (the Retirement Plan) covering
substantially all employees of Southern. A supplemental benefit plan (the
Supplemental Plan) that provides retirement benefits in excess of those allowed
under Sonat's tax qualified retirement plan is also in effect. Benefits under
the plans are based on a combination of years of service and a percentage of
compensation. Benefits vest after a period of five years.
II-28
<PAGE> 41
SOUTHERN NATURAL GAS COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
10. Retirement Plans and Other Benefits (Continued)
Sonat determines the amount of funding to the Retirement Plan on a
year-to-year basis, with amounts consistent with minimum and maximum funding
requirements established by various governmental bodies. Sonat has a trust to
provide benefits under the Supplemental Plan. However, it is not subject to any
funding requirements.
Southern's net periodic pension (income) cost consists of the following
components:
<TABLE>
<CAPTION>
Years Ended December 31,
--------------------------------------
1997 1996 1995
---- ---- ----
(In Thousands)
<S> <C> <C> <C>
Service Cost - Benefits Earned
during the Period $ 2,802 $ 3,296 $ 2,265
Interest Cost on Projected
Benefit Obligation 18,199 18,096 18,529
Gain on Assets (78,037) (32,745) (70,152)
Net Amortization and Deferral 47,532 4,834 43,745
-------- -------- --------
$ (9,504) $ (6,519) $ (5,613)
======== ======== ========
</TABLE>
The change in net periodic pension income from 1996 to 1997 was
primarily attributable to the change in plan assumptions and the growth in plan
assets.
II-29
<PAGE> 42
SOUTHERN NATURAL GAS COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
10. Retirement Plans and Other Benefits (Continued)
The following table sets forth Southern's allocated portion of the
assets and liabilities of Sonat's plans and the amount of the net pension asset
or liability recognized in Southern's Consolidated Balance Sheets:
<TABLE>
<CAPTION>
Plan with Obligations Plan with Obligations
Less than Assets (1) in Excess of Assets(2)
December 31, December 31,
--------------------- ----------------------
(In Thousands)
1997 1996 1997 1996
---- ---- ---- ----
<S> <C> <C> <C> <C>
Actuarial Present Value of
Benefit Obligations:
Vested benefit obligations $ 209,067 $ 218,632 $ 7,260 $ 6,831
Non-vested benefit obligations 4,068 3,884 616 171
--------- --------- -------- --------
Accumulated benefit obligations 213,135 222,516 7,876 7,002
Effect of projected future
salary increases 25,928 31,465 4,846 4,856
--------- --------- -------- --------
Projected benefit obligations 239,063 253,981 12,722 11,858
Plan Assets at Fair Value (3) 382,355 323,353 - -
--------- --------- -------- --------
Projected Benefit Obligations
(in Excess of) or Less Than
Plan Assets 143,292 69,372 (12,722) (11,858)
Unrecognized Net (Assets) or
Obligations at Transition (4) (6,602) (7,906) 58 73
Unrecognized Net (Gain) Loss (5) (116,624) (52,527) 2,399 1,533
Unrecognized Prior Service Cost 4,110 4,769 987 1,106
Net Unamortized Deferred Charge
from Early Retirement
Termination Benefits (6) 598 411 - -
--------- --------- -------- --------
Net Pension Asset (Liability)
Recognized in the
Consolidated Balance Sheets $ 24,774 $ 14,119 $ (9,278) $ (9,146)
========= ========= ======== ========
</TABLE>
(1) The Retirement Plan.
(2) The Supplemental Plan.
(3) Plan assets consist primarily of debt and equity securities and
investments in equity index and foreign index funds.
(4) Amortization periods for unrecognized net (asset) or obligation at
transition are 16.5 years for the Retirement Plan and 15 years for the
Supplemental Plan.
(5) Amortization periods for unrecognized net (gain) loss are 15.6 and
15.7 years for the Retirement Plan and 15.2 and 14.2 years for the
Supplemental Plan for 1997 and 1996, respectively.
(6) The amortization period for early retirement termination benefits is
10 years for the Retirement Plan.
II-30
<PAGE> 43
SOUTHERN NATURAL GAS COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
10. Retirement Plans and Other Benefits (Continued)
The assumed rates used to measure the projected benefit obligations and
the expected earnings of plan assets are:
<TABLE>
<CAPTION>
Years Ended December 31,
-----------------------------
1997 1996 1995
---- ---- ----
<S> <C> <C> <C>
Weighted Average Discount Rate 7.5% 7.0% 7.0%
Long-Term Rate of Return 9.5% 9.5% 9.5%
Increase in Future Compensation Levels
(Composite Rate):
Retirement and Supplemental Plans 5.0% 5.0% 5.5%
</TABLE>
Other Postemployment Benefits - Southern participates in plans of Sonat
that provide for postretirement health care and life insurance benefits to its
employees when they retire. Southern accrues the cost of postretirement health
care and life insurance benefits within the employees' active service periods.
Southern has elected to amortize the transition obligation over a 20-year
period.
The annual net periodic cost for postretirement health care and life
insurance benefits consists of the following components:
<TABLE>
<CAPTION>
Years Ended December 31,
1997 1996 1995
---- ---- ----
(In Thousands)
<S> <C> <C> <C>
Service Cost $ 801 $ 854 $ 725
Interest Cost 5,033 4,905 5,939
Return on Plan Assets (3,553) (3,766) (3,221)
Net Amortization and Deferral 3,968 4,908 4,905
------- ------- -------
$ 6,249 $ 6,901 $ 8,348
======= ======= =======
</TABLE>
Southern funds postretirement health care benefits for the majority of
its employees in an amount generally equal to its annual expense. These costs
are currently being recovered in rates. Southern also funds Sonat's Retiree Life
Insurance Plan for its employees with the amount of funding determined on a
year-to-year basis with the objective of having assets equal plan liabilities.
II-31
<PAGE> 44
SOUTHERN NATURAL GAS COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
10. Retirement Plans and Other Benefits (Continued)
The following table sets forth the funded status at December 31, 1997
and 1996, for Southern's postretirement health care and life insurance plans:
<TABLE>
<CAPTION>
December 31, December 31,
1997 1996
------------ ------------
(In Thousands)
<S> <C> <C>
Accumulated Postretirement Benefit Obligation:
Retirees $ 48,945 $ 55,015
Fully eligible active plan participants 3,364 2,194
Other active plan participants 10,572 14,930
-------- --------
62,881 72,139
Plan Assets at Fair Value (1) 35,921 30,228
-------- --------
Accumulated Postretirement Benefit Obligation in
Excess of Plan Assets (26,960) (41,911)
Unrecognized Transition Obligation 41,487 46,633
Unrecognized Net Gain (2) (24,426) (14,150)
Net Unamortized Deferred Charge from
Early Retirement Termination Benefits 1,980 288
-------- --------
Accrued Postretirement Benefit Liability $ (7,919) $ (9,140)
======== ========
</TABLE>
(1) Retiree Medical Plan assets are comprised of equity securities, municipal
tax exempt bonds and short-term investment funds. Retiree Life Insurance
Plan assets are held in an investment account, which consists primarily of
fixed income securities.
(2) Amortization periods for unrecognized net gain are 15.1 and 15.4 years for
1997 and 1996, respectively.
The assumed rates used to measure the projected benefit obligation and
the expected earnings of plan assets are:
<TABLE>
<CAPTION>
Years Ended December 31,
---------------------------------------
1997 1996 1995
---- ---- ----
<S> <C> <C> <C>
Discount Rate 7.5% 7.0% 7.0%
Long-Term Rate of Return:
Medical assets 5.5% 5.5% 5.5%
Life insurance assets 7.5% 7.5% 7.5%
</TABLE>
The rate of increase in the per capita costs of covered health care
benefits is assumed to be 4.5 percent in 1998 and for all future years.
Increasing the assumed health care cost trend rate by one percentage point would
increase the accumulated postretirement benefit obligation as of December 31,
1997, by approximately $7.3 million and increase the service cost and interest
cost components of the net periodic postretirement benefit cost by approximately
$0.8 million.
Executive Award Plan - Sonat has an Executive Award Plan that provides
awards to certain key employees in the form of stock options, restricted stock,
and stock appreciation rights (SARs) in tandem with any or all stock options. In
years prior to 1991, tax offset payments were generally provided in conjunction
with these awards. SARs permit the holder of an exercisable option to surrender
that option for an amount equal to the excess of the
II-32
<PAGE> 45
SOUTHERN NATURAL GAS COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
10. Retirement Plans and Other Benefits (Continued)
market price of the common stock on the date of exercise over the option price
(appreciation). The appreciation is payable in cash, common stock, or a
combination of both. SARs are subject to the same terms and conditions as the
options to which they are related. Commencing in November 1995, Sonat has
issued, in tandem with its regular stock options, SARs that are exercisable only
in the event of a change in control (limited SARs). In November 1995, limited
SARs were issued to certain key employees of Southern with respect to all of
their then outstanding options. No other SARs have been issued since 1990.
Sonat issued to employees of Southern 4,600 shares of restricted stock
with a market value of $43 13/16 per share during 1997 and 16,400 shares with a
market value of $52.00 per share during 1996. The shares generally vest 10 years
from the date of grant, unless the closing price of Sonat's common stock
achieves certain specified levels. At December 31, 1997, 38,232 of the 66,700
cumulative restricted shares issued have vested.
Stock-based compensation expense increased Southern's pretax income by
$0.9 million in 1997 and decreased Southern's pretax income by $6.0 million in
1996 and $3.8 million in 1995.
11. Quarterly Results (Unaudited)
Selected unaudited quarterly data is shown below:
<TABLE>
<CAPTION>
1st 2nd 3rd 4th
Quarter Quarter Quarter Quarter
------- ------- ------- -------
(In Thousands)
<S> <C> <C> <C> <C>
1997
----
Revenues $ 99,166 $103,381 $ 93,154 $ 97,591
Operating Income 46,642 45,429 39,957 46,860
Net Income 28,666 26,022 23,090 27,629
1996
-----
Revenues $105,101 $ 95,981 $ 95,727 $102,019
Operating Income 48,193 36,479 36,192 45,060
Net Income 25,821 18,264 22,878 25,662
</TABLE>
II-33
<PAGE> 46
SOUTHERN NATURAL GAS COMPANY AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure
Southern has not had a change in accountants within twenty-four months
prior to the date of its most recent consolidated financial statements or in any
period subsequent to such date.
II-34
<PAGE> 47
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a) Index to Financial Statements, Financial Statement Schedules, and
Exhibits
1. FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
PAGE
-----
<S> <C>
Included in Part II of this report:
Report of Ernst & Young LLP, Independent Auditors......... II-15
Consolidated Balance Sheets at December 31, 1997 and
1996................................................... II-16
Consolidated Statements of Income for the years ended
December 31, 1997, 1996, and 1995...................... II-18
Consolidated Statements of Changes in Retained Earnings
for the years ended December 31, 1997, 1996, and
1995................................................... II-18
Consolidated Statements of Cash Flows for the years ended
December 31, 1997, 1996, and 1995...................... II-19
Notes to Consolidated Financial Statements................ II-20
</TABLE>
2. FINANCIAL STATEMENT SCHEDULES
Financial statement schedules have been omitted as not being applicable or
because the subject matter is either not present or is not present in amounts
sufficient to require submission of the schedule, in accordance with the
instructions contained in Regulation S-X, or the required information is
included in the financial statements or notes thereto.
Financial statements of 50-percent-or-less-owned companies and joint
ventures are not presented herein because such companies and joint ventures do
not meet the significance test.
IV-1
<PAGE> 48
3. EXHIBITS(1)
<TABLE>
<CAPTION>
EXHIBIT
NUMBER EXHIBITS
- ------- --------
<S> <C>
RESTATED CERTIFICATE OF INCORPORATION AND BY-LAWS
3-(a) Restated Certificate of Incorporation of Southern Natural
Gas Company dated as of March 1, 1994, filed as Exhibit
3-(a) to Form 10-K of Southern Natural Gas Company for the
year 1993
3-(b) By-Laws of Southern Natural Gas Company as amended and in
effect October 1, 1982, filed as Exhibit 3-(b) to Form 10-K
of Southern Natural Gas Company for the year 1993
INSTRUMENTS DEFINING THE RIGHTS OF SECURITY HOLDERS
4.1 Form of Indenture dated June 1, 1987, from Southern Natural
Gas Company to Manufacturers Hanover Trust Company, Trustee,
as amended by (1) First Supplemental Indenture, dated as of
September 30, 1997, between Southern Natural Gas Company and
The Chase Manhattan Bank (formerly Chemical Bank, successor
by merger to Manufacturers Hanover Trust Company), filed as
Exhibit 4-(1) to Registration No. 33-47266 of Southern
Natural Gas Company dated April 16, 1992, except (1) which
was filed as Exhibit 4-(2) to Form 8-K of Southern Natural
Gas Company dated September 25, 1997
4.2 Specimen Note of Southern Natural Gas Company for the $100
million 8 7/8% Notes due February 15, 2001, issued under
Registration Statement 33-16190, filed as Exhibit 4-(2) to
Form 8-K of Southern Natural Gas Company dated February 7,
1991
4.3 Specimen Note of Southern Natural Gas Company for the $100
million 7.85% Notes due January 15, 2002, issued under
Registration Statement 33-16190, filed as Exhibit 4-(2) to
Form 8-K of Southern Natural Gas Company dated January 14,
1992
4.4 Specimen Note of Southern Natural Gas Company for the $100
million 8 5/8% Notes due May 1, 2002, issued under
Registration Statement 33-47266, filed as Exhibit 4.3(d) to
Form 10-K of Sonat Inc. for the year 1996
4.5 Specimen Note of Southern Natural Gas Company for the $100
million 6.70% Notes due October 1, 2007, issued under
Registration Statement 33-47266, filed as Exhibit 4-(3) to
Form 8-K of Southern Natural Gas Company dated September 25,
1997
OTHER EXHIBITS
12 Computation of Ratio of Earnings to Fixed Charges, filed
herewith
23 Consent of Ernst & Young LLP, Independent Auditors, dated
March 23, 1998, filed herewith
24 Powers of Attorney authorizing James A. Rubright; Thomas W.
Barker, Jr.; Norman G. Holmes; R. David Hendrickson; and
John C. Griffin to sign the Southern Natural Gas Company
Annual Report on Form 10-K for the fiscal year ended
December 31, 1997, on behalf of certain directors and
officers of the registrant, filed herewith
27.1 Financial Data Schedule for the period ended December 31,
1997, filed herewith electronically only
27.2 Financial Data Schedule for the period ended December 31,
1996, filed herewith, electronically only
</TABLE>
Exhibit 21, Subsidiaries of the Registrant, has been omitted in reliance
upon Instruction I(2)(b) of Form 10-K.
Exhibits listed above that have heretofore been filed with the Securities
and Exchange Commission, which were physically filed as noted above, are hereby
incorporated herein by reference pursuant to Rule 12b-32 under the Securities
Exchange Act of 1934 and made a part hereof with the same effect as if filed
herewith.
- ---------------
(1) Southern will furnish to requesting security holders any exhibit on this
list upon the payment of a fee of $.10 per page up to a maximum of $5.00
per exhibit. Requests must be made in writing and should be addressed to R.
David Hendrickson, Secretary, Southern Natural Gas Company, P. O. Box 2563,
Birmingham, Alabama 35202.
IV-2
<PAGE> 49
Certain instruments relating to long-term debt of Southern and its
subsidiaries have not been filed as exhibits since the total amount of
securities authorized under any such instrument does not exceed ten percent of
the total assets of Southern and its subsidiaries on a consolidated basis.
Southern agrees to furnish a copy of each such instrument to the Commission upon
request.
(b) Reports on Form 8-K
There were no reports on Form 8-K filed during the quarter ended December
31, 1997.
(c) Exhibits
Exhibits required by Item 601 of Regulation S-K have been filed
electronically with this report on Form 10-K.
IV-3
<PAGE> 50
SIGNATURES
PURSUANT TO THE REQUIREMENTS OF SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934, THE REGISTRANT HAS DULY CAUSED THIS REPORT TO BE SIGNED ON
ITS BEHALF BY THE UNDERSIGNED, THEREUNTO DULY AUTHORIZED.
SOUTHERN NATURAL GAS COMPANY
By /s/ JAMES A. RUBRIGHT
------------------------------------
JAMES A. RUBRIGHT
PRESIDENT
Dated: March 26, 1998
PURSUANT TO THE REQUIREMENTS OF THE SECURITIES EXCHANGE ACT OF 1934, THIS
REPORT HAS BEEN SIGNED BELOW BY THE FOLLOWING PERSONS ON BEHALF OF THE
REGISTRANT AND IN THE CAPACITIES AND ON THE DATES INDICATED.
<TABLE>
<CAPTION>
SIGNATURE CAPACITY DATE
--------- -------- ----
<C> <C> <S> <C>
(i) Principal Executive Officer:
/s/ JAMES A. RUBRIGHT President March 26, 1998
- -------------------------------------------------------
(JAMES A. RUBRIGHT)
(ii) Principal Financial Officer:
/s/ THOMAS W. BARKER, JR. Vice March 26, 1998
- ------------------------------------------------------- President -- Finance
(THOMAS W. BARKER, JR.)
Principal Accounting Officer:
/s/ NORMAN G. HOLMES Vice President and March 26, 1998
- ------------------------------------------------------- Controller
(NORMAN G. HOLMES)
(iii) Directors:*
RONALD L. KUEHN, JR.
JAMES E. MOYLAN, JR.
LARRY E. POWELL
JAMES A. RUBRIGHT
JAMES C. YARDLEY
* Signed on behalf of each of these persons
By /s/ R. DAVID HENDRICKSON
------------------------------------------------
R. DAVID HENDRICKSON
SECRETARY, AS AUTHORIZED
BY CERTAIN POWERS OF ATTORNEY DATED
MARCH 3, 1998, ALL OF WHICH ARE
FILED HEREWITH AS EXHIBIT 24
</TABLE>
IV-4
<PAGE> 51
APPENDIX TO ANNUAL REPORT ON FORM 10-K
OF SOUTHERN NATURAL GAS COMPANY
FOR THE YEAR ENDED DECEMBER 31, 1997
In compliance with Section 304 of Regulation S-T, the following information
describes pictorial and/or graphic materials contained herein:
<TABLE>
<CAPTION>
PAGE DESCRIPTION
- ---- -----------
<C> <S>
I-7 Map of the Southeastern United States showing the
approximate location of the pipeline systems of Southern and
its subsidiaries and the underground storage facilities of
Southern (each described on pages I-1, I-2, and I-5,
respectively).
</TABLE>
<PAGE> 52
<TABLE>
<CAPTION>
EXHIBIT
NUMBER EXHIBIT INDEX
- ------- -------------
<S> <C>
RESTATED CERTIFICATE OF INCORPORATION AND BY-LAWS
3-(a) - Restated Certificate of Incorporation of Southern Natural
Gas Company dated as of March 1, 1994, filed as Exhibit
3-(a) to Form 10-K of Southern Natural Gas Company for the
year 1993
3-(b) - By-Laws of Southern Natural Gas Company as amended and in
effect October 1, 1982, filed as Exhibit 3-(b) to Form 10-K
of Southern Natural Gas Company for the year 1993
INSTRUMENTS DEFINING THE RIGHTS OF SECURITY HOLDERS
4.1 - Form of Indenture dated June 1, 1987, from Southern Natural
Gas Company to Manufacturers Hanover Trust Company, Trustee, as
amended by (1) First Supplemental Indenture, dated as of September
30, 1997, between Southern Natural Gas Company and The Chase
Manhattan Bank (formerly Chemical Bank, successor by merger to
Manufacturers Hanover Trust Company), filed as Exhibit 4-(1) to
Registration No. 33-47266 of Southern Natural Gas Company dated April
16, 1992, except (1) which was filed as Exhibit 4-(2) to Form 8-K of
Southern Natural Gas Company dated September 25, 1997
4.2 - Specimen Note of Southern Natural Gas Company for the $100 million 8
7/8% Notes due February 15, 2001, issued under Registration Statement
33-16190, filed as Exhibit 4-(2) to Form 8-K of Southern Natural Gas
Company dated February 7, 1991
4.3 - Specimen Note of Southern Natural Gas Company for the $100 million
7.85% Notes due January 15, 2002, issued under Registration Statement
33-16190, filed as Exhibit 4-(2) to Form 8-K of Southern Natural Gas
Company dated January 14, 1992
4.4 - Specimen Note of Southern Natural Gas Company for the $100 million
8 5/8% Notes due May 1, 2002, issued under Registration Statement
33-47266, filed as Exhibit 4.3(d) to Form 10-K of Sonat Inc. for the
year 1996
4.5 - Specimen Note of Southern Natural Gas Company for the $100 million
6.70% Notes due October 1, 2007, issued under Registration Statement
33-47266, filed as Exhibit 4-(3) to Form 8-K of Southern Natural Gas
Company dated September 25, 1997
OTHER EXHIBITS
12 - Computation of Ratio of Earnings to Fixed Charges, filed
herewith
23 - Consent of Ernst & Young LLP, Independent Auditors, dated
March 23, 1998, filed herewith
24 - Powers of Attorney authorizing James A. Rubright; Thomas W.
Barker, Jr.; Norman G. Holmes; R. David Hendrickson; and
John C. Griffin to sign the Southern Natural Gas Company
Annual Report on Form 10-K for the fiscal year ended
December 31, 1997 on behalf of certain directors and
officers of the registrant, filed herewith
27.1 - Financial Data Schedule for the period ended December 31,
1997, filed herewith, electronically only
27.2 - Financial Data Schedule for the period ended December 31,
1996, filed herewith, electronically only
</TABLE>
<PAGE> 1
EXHIBIT 12
SOUTHERN NATURAL GAS COMPANY AND SUBSIDIARIES
Computation of Ratios of Earnings
from Continuing Operations to Fixed Charges
Total Enterprise (a)
<TABLE>
<CAPTION>
Years Ended December 31,
--------------------------------------------------------------------
(In Thousands)
1997 1996 1995 1994 1993
-------- -------- -------- -------- --------
<S> <C> <C> <C> <C> <C>
Earnings from Continuing Operations:
Income before income taxes $171,503 $150,219 $134,124 $ 76,098 $127,617
Fixed charges (see computation below) 34,785 43,028 48,779 47,575 58,249
-------- -------- -------- -------- --------
Total Earnings Available for Fixed Charges $206,288 $193,247 $182,903 $123,673 $185,866
======== ======== ======== ======== ========
Fixed Charges:
Interest expense before deducting
interest capitalized $ 33,130 $ 41,147 $ 46,859 $ 45,900 $ 56,599
Rentals(b) 1,655 1,881 1,920 1,675 1,650
-------- -------- -------- -------- --------
$ 34,785 $ 43,028 $ 48,779 $ 47,575 $ 58,249
======== ======== ======== ======== ========
Ratio of Earnings to Fixed Charges 5.9 4.5 3.7 2.6 3.2
======== ======== ======== ======== ========
</TABLE>
- -----------
(a) Amounts include the Company's portion of the captions as they relate to
persons accounted for by the equity method.
(b) These amounts represent 1/3 of rentals which approximate the interest
factor applicable to such rentals of the Company and its subsidiaries and
unconsolidated affiliates.
<PAGE> 1
EXHIBIT 23
CONSENT OF INDEPENDENT AUDITORS
We consent to the incorporation by reference in the Registration Statement (Form
S-3, No. 333-47959) of Southern Natural Gas Company and in the related
Prospectus and Prospectus Supplement of our report dated January 16, 1998, with
respect to the consolidated financial statements of Southern Natural Gas Company
included in the Annual Report (Form 10-K) for the year ended December 31, 1997.
/s/ Ernst & Young LLP
---------------------
ERNST & YOUNG LLP
Birmingham, Alabama
March 23, 1998
<PAGE> 1
EXHIBIT 24
POWER OF ATTORNEY
-----------------
KNOW ALL MEN BY THESE PRESENTS, that the undersigned, a director of
Southern Natural Gas Company, does hereby constitute and appoint James A.
Rubright; Thomas W. Barker, Jr.; Norman G. Holmes; R. David Hendrickson; and
John C. Griffin, and each of them, his true and lawful attorneys to execute in
his name (whether on behalf of Southern Natural Gas Company or as an officer or
director of Southern Natural Gas Company) the Southern Natural Gas Company
Annual Report on Form 10-K for the fiscal year ended December 31, 1997, and any
and all amendments thereto to be filed with the Securities and Exchange
Commission pursuant to Section 13 or 15(d) of the Securities Exchange Act of
1934 and to file the same, with all exhibits thereto, and any other documents in
connection therewith, with the Securities and Exchange Commission. The
undersigned does hereby ratify and confirm all that said attorneys and agents,
and each of them, shall do or cause to be done by virtue hereof. Each of such
attorneys shall have and may exercise all powers to act hereunder with or
without the others.
IN WITNESS WHEREOF, the undersigned has signed his name hereto as of
the 3rd day of March, 1998.
/s/ James E. Moylan, Jr.
------------------------
James E. Moylan, Jr.
<PAGE> 2
POWER OF ATTORNEY
KNOW ALL MEN BY THESE PRESENTS, that the undersigned, an officer and
director of Southern Natural Gas Company, does hereby constitute and appoint
James A. Rubright; Thomas W. Barker, Jr.; Norman G. Holmes; R. David
Hendrickson; and John C. Griffin, and each of them, his true and lawful
attorneys to execute in his name (whether on behalf of Southern Natural Gas
Company or as an officer or director of Southern Natural Gas Company) the
Southern Natural Gas Company Annual Report on Form 10-K for the fiscal year
ended December 31, 1997, and any and all amendments thereto to be filed with the
Securities and Exchange Commission pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934 and to file the same, with all exhibits thereto,
and any other documents in connection therewith, with the Securities and
Exchange Commission. The undersigned does hereby ratify and confirm all that
said attorneys and agents, and each of them, shall do or cause to be done by
virtue hereof. Each of such attorneys shall have and may exercise all powers to
act hereunder with or without the others.
IN WITNESS WHEREOF, the undersigned has signed his name hereto as of
the 3rd day of March, 1998.
/s/ Larry E. Powell
-------------------
Larry E. Powell
<PAGE> 3
POWER OF ATTORNEY
KNOW ALL MEN BY THESE PRESENTS, that the undersigned, an officer and
director of Southern Natural Gas Company, does hereby constitute and appoint
James A. Rubright; Thomas W. Barker, Jr.; Norman G. Holmes; R. David
Hendrickson; and John C. Griffin, and each of them, his true and lawful
attorneys to execute in his name (whether on behalf of Southern Natural Gas
Company or as an officer or director of Southern Natural Gas Company) the
Southern Natural Gas Company Annual Report on Form 10-K for the fiscal year
ended December 31, 1997, and any and all amendments thereto to be filed with the
Securities and Exchange Commission pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934 and to file the same, with all exhibits thereto,
and any other documents in connection therewith, with the Securities and
Exchange Commission. The undersigned does hereby ratify and confirm all that
said attorneys and agents, and each of them, shall do or cause to be done by
virtue hereof. Each of such attorneys shall have and may exercise all powers to
act hereunder with or without the others.
IN WITNESS WHEREOF, the undersigned has signed his name hereto as of
the 3rd day of March, 1998.
/s/ James A. Rubright
----------------------
James A. Rubright
<PAGE> 4
POWER OF ATTORNEY
KNOW ALL MEN BY THESE PRESENTS, that the undersigned, an officer and
director of Southern Natural Gas Company, does hereby constitute and appoint
James A. Rubright; Thomas W. Barker, Jr.; Norman G. Holmes; R. David
Hendrickson; and John C. Griffin, and each of them, his true and lawful
attorneys to execute in his name (whether on behalf of Southern Natural Gas
Company or as an officer or director of Southern Natural Gas Company) the
Southern Natural Gas Company Annual Report on Form 10-K for the fiscal year
ended December 31, 1997, and any and all amendments thereto to be filed with the
Securities and Exchange Commission pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934 and to file the same, with all exhibits thereto,
and any other documents in connection therewith, with the Securities and
Exchange Commission. The undersigned does hereby ratify and confirm all that
said attorneys and agents, and each of them, shall do or cause to be done by
virtue hereof. Each of such attorneys shall have and may exercise all powers to
act hereunder with or without the others.
IN WITNESS WHEREOF, the undersigned has signed his name hereto as of
the 3rd day of March, 1998.
/s/ James C. Yardley
--------------------------
James C. Yardley
<PAGE> 5
POWER OF ATTORNEY
KNOW ALL MEN BY THESE PRESENTS, that the undersigned, a director of
Southern Natural Gas Company, does hereby constitute and appoint James A.
Rubright; Thomas W. Barker, Jr.; Norman G. Holmes; R. David Hendrickson; and
John C. Griffin, and each of them, his true and lawful attorneys to execute in
his name (whether on behalf of Southern Natural Gas Company or as a director of
Southern Natural Gas Company) the Southern Natural Gas Company Annual Report on
Form 10-K for the fiscal year ended December 31, 1997, and any and all
amendments thereto to be filed with the Securities and Exchange Commission
pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 and to
file the same, with all exhibits thereto, and any other documents in connection
therewith, with the Securities and Exchange Commission. The undersigned does
hereby ratify and confirm all that said attorneys and agents, and each of them,
shall do or cause to be done by virtue hereof. Each of such attorneys shall have
and may exercise all powers to act hereunder with or without the others.
IN WITNESS WHEREOF, the undersigned has signed his name hereto as of
the 3rd day of March, 1998.
/s/ Ronald L. Kuehn, Jr.
-------------------------
Ronald L. Kuehn, Jr.
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