UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D. C. 20549
FORM 10-Q
(Mark One)
X QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
- --- EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 1999
OR
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
Commission file number 1-7179
SONAT INC.
(Exact name of registrant as specified in its charter)
DELAWARE 63-0647939
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
AMSOUTH-SONAT TOWER
BIRMINGHAM, ALABAMA 35203
(Address of principal executive offices) (Zip Code)
Registrant's telephone number: (205) 325-3800
NO CHANGE
(Former name, former address and former fiscal year, if changed since last
report)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes X No _
Indicate the number of shares outstanding of each of the issuer's
classes of common stock, as of the latest practicable date.
COMMON STOCK, $1.00 PAR VALUE:
110,062,591 SHARES OUTSTANDING ON APRIL 30, 1999
<PAGE>
SONAT INC. AND SUBSIDIARIES
INDEX
<TABLE>
<CAPTION>
Page No.
PART I. Financial Information
Item 1. Financial Statements
Condensed Consolidated Balance Sheets--
(Unaudited)--March 31, 1999 and
<S> <C>
December 31, 1998 1
Condensed Consolidated Statements of Operations--
(Unaudited)--Three Months Ended
March 31, 1999 and 1998 2
Condensed Consolidated Statements of Cash Flows--
(Unaudited)--Three Months Ended
March 31, 1999 and 1998 3
Notes to Condensed Consolidated Financial
Statements 4 - 14
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 15 - 28
Item 3. Quantitative and Qualitative Disclosure About
Market Risk 29
PART II. Other Information
Item 4. Submission of Matters to a Vote of Security Holders 30
Item 5. Legal Proceedings 30
Item 6. Exhibits and Reports on Form 8-K 31
</TABLE>
<PAGE>
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
SONAT INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(Unaudited)
<TABLE>
<CAPTION>
March 31, December 31,
1999 1998
(In Thousands)
ASSETS
Current Assets:
<S> <C> <C>
Cash and cash equivalents $ 5,337 $ 7,104
Notes receivable from affiliates 49,980 50,359
Accounts receivable 317,555 388,075
Inventories 45,386 69,093
Income tax refund receivable 42,027 1,714
Gas imbalance receivables 10,534 7,673
Assets from trading activities 148,405 229,801
Other 20,054 46,690
---------- ----------
Total Current Assets 639,278 800,509
---------- ----------
Investments in Unconsolidated Affiliates and Other 686,648 671,263
---------- ----------
Plant, Property and Equipment 8,348,647 8,425,679
Less accumulated depreciation, depletion
and amortization 5,884,407 5,703,767
---------- ----------
2,464,240 2,721,912
---------- ----------
Deferred Charges and Other:
Assets from trading activities 17,495 25,694
Other 158,581 141,716
---------- ----------
176,076 167,410
---------- ----------
Total Assets $3,966,242 $4,361,094
========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Long-term debt due within one year $ 104,835 $ 109,835
Unsecured notes 847,938 720,361
Accounts payable 320,082 401,357
Accrued income taxes 12,975 21,700
Accrued interest 49,047 47,864
Gas imbalance payables 11,023 11,497
Liabilities from trading activities 124,335 223,628
Other 39,627 40,357
---------- ----------
Total Current Liabilities 1,509,862 1,576,599
---------- ----------
Long-Term Debt 1,098,420 1,099,484
---------- ----------
Deferred Credits and Other:
Deferred income taxes 90,126 163,964
Liabilities from trading activities 7,660 12,564
Other 173,353 179,232
---------- ----------
271,139 355,760
---------- ----------
Commitments and Contingencies
Stockholders' Equity:
Common stock and other capital 179,157 180,192
Retained earnings 967,599 1,209,527
---------- ----------
1,146,756 1,389,719
Less treasury stock 59,935 60,468
---------- ----------
Total Stockholders' Equity 1,086,821 1,329,251
---------- ----------
Total Liabilities and Stockholders' Equity $3,966,242 $4,361,094
========== ==========
</TABLE>
See accompanying notes.
<PAGE>
SONAT INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
<TABLE>
<CAPTION>
Three Months
Ended March 31,
1999 1998*
(In Thousands, Except
Per-Share Amounts)
<S> <C> <C>
Revenues $ 773,740 $1,109,143
---------- ----------
Costs and Expenses:
Natural gas cost 487,915 763,483
Electric power cost 76,002 65,191
Operating and maintenance 39,682 40,484
General and administrative 37,244 30,146
Depreciation, depletion and amortization 75,325 97,069
Ceiling test charges 351,500 39,692
Taxes, other than income 11,966 13,604
---------- ----------
1,079,634 1,049,669
---------- ----------
Operating Income (Loss) (305,894) 59,474
---------- ----------
Other Income (Loss), Net:
Equity in earnings of
unconsolidated affiliates 7,719 9,653
Minority interest (1,344) (542)
Other income, net 2,156 713
---------- ----------
8,531 9,824
---------- ----------
Earnings (Loss) Before Interest and Taxes (297,363) 69,298
---------- ----------
Interest:
Interest income 1,939 2,200
Interest expense (35,307) (32,130)
Interest capitalized 3,420 1,424
---------- ----------
(29,948) (28,506)
---------- ----------
Income (Loss) Before Income Taxes (327,311) 40,792
Income Tax Expense (Benefit) (115,095) 12,842
---------- ----------
Net Income (Loss) $ (212,216) $ 27,950
========== ==========
Earnings (Loss) Per Share of Common Stock $ (1.93) $ .25
========== ==========
Earnings (Loss) Per Share of Common Stock-
Assuming Dilution $ (1.93) $ .25
========== ==========
Weighted Average Shares Outstanding 110,046 109,966
========== ==========
Weighted Average Shares Outstanding-
Assuming Dilution 110,046 111,134
========== ==========
Cash Dividends Paid Per Share $ .27 $ .27
========== ==========
</TABLE>
*Restated, see Note 1
See accompanying notes.
<PAGE>
SONAT INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
<TABLE>
<CAPTION>
Three Months
Ended March 31,
1999 1998*
(In Thousands)
Cash Flows from Operating Activities:
<S> <C> <C>
Net income (loss) $(212,216) $ 27,950
Adjustments to reconcile net income (loss) to net
cash provided by operating activities:
Depreciation, depletion and amortization,
including ceiling test charges 426,825 136,761
Deferred income taxes (73,838) 78,003
Equity in earnings of unconsolidated
affiliates, less distributions (6,861) (7,406)
Reserves for regulatory matters 194 (4,046)
Gas supply realignment costs (1,832) 353
Change in:
Accounts receivable 70,487 127,656
Inventories 23,707 20,132
Accounts payable (81,281) (100,200)
Accrued interest and income taxes, net (47,856) (63,247)
Accrued long-term compensation - (73,799)
Other current assets and liabilities 22,611 (26,314)
Net change from trading activities (14,603) (2,052)
Net change in restricted cash - 115,956
Other, net (29,563) 8,918
--------- ---------
Net cash provided by operating activities 75,774 238,665
--------- ---------
Cash Flows from Investing Activities:
Plant, property and equipment additions (139,628) (299,971)
Disposal of assets (23,086) 1,109
Investments in unconsolidated affiliates and
other (6,822) (7,575)
--------- ---------
Net cash used in investing activities (169,536) (306,437)
--------- ---------
Cash Flows from Financing Activities:
Proceeds from issuance of long-term debt - 400,000
Payments of long-term debt (6,064) (535,851)
Changes in short-term borrowings 127,577 216,997
--------- ---------
Net changes in debt 121,513 81,146
Dividends paid (29,712) (29,689)
Treasury stock purchases - (100)
Other equity 194 2,530
--------- ---------
Net cash provided by financing activities 91,995 53,887
--------- ---------
Net Decrease in Cash and Cash Equivalents (1,767) (13,885)
Cash and Cash Equivalents at Beginning of Year 7,104 27,278
--------- ---------
Cash and Cash Equivalents at End of Period $ 5,337 $ 13,393
========= =========
Supplemental Disclosures of Cash Flow Information
Cash Paid for:
Interest (net of amount capitalized) $ 26,405 $ 25,187
Income taxes paid, net 7,106 2,129
</TABLE>
*Restated, see Note 1
See accompanying notes.
<PAGE>
SONAT INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
1. Basis of Presentation
The accompanying condensed consolidated financial statements of Sonat
Inc. (Sonat) and its subsidiaries (the Company) have been prepared in accordance
with the instructions to Form 10-Q and include the information and footnotes
required by such instructions. In the opinion of management, all adjustments
including those of a normal recurring nature have been made that are necessary
for a fair presentation of the results of operations for the interim periods
presented herein.
The 1998 period has been restated for a change to the full cost method
of accounting for the Company's oil and gas operations. Certain other amounts in
the 1998 condensed consolidated financial statements and notes have been
reclassified to conform with the 1999 presentation.
2. Proposed Merger
On March 13, 1999, Sonat and El Paso Energy Corporation (El Paso)
entered into an Agreement and Plan of Merger, as amended (the Merger Agreement),
providing for, among other things, the merger of El Paso and the Company. Under
the terms of the Merger Agreement, the Company's stockholders will receive one
share of El Paso common stock (El Paso Common Stock), for each share of common
stock of the Company (Company Common Stock), they own. The merger is subject to
certain customary conditions, including, among others, approval by the
stockholders of the Company and receipt of certain required government
approvals. In the event El Paso stockholder approval for the issuance of El Paso
Common Stock in the merger is not obtained, El Paso has agreed to issue an
amount of El Paso Common Stock not to exceed, in the aggregate, 19.9 percent of
the outstanding El Paso Common Stock, with the balance of the merger
consideration to be paid in the form of depositary shares representing interests
in shares of a new series of non-convertible long-term preferred stock (the
Preferred Stock). The Preferred Stock will bear a dividend rate designed to
cause the Preferred Stock to have an initial trading value, when fully
distributed, equal to the greater of $32 or the value of the El Paso Common
Stock as of the time of the Company's shareholder vote, subject to a cap of
$44.50. The Preferred Stock will be redeemable in 21 years and will not be
convertible.
In connection with the Merger Agreement, on March 13, 1999, the Company
and El Paso also entered into cross option agreements, pursuant to which, among
other things, (i) El Paso has been granted an option to purchase up to 19.9
percent of the Company's Common Stock, exercisable if the Merger Agreement is
terminated under certain circumstances as set forth therein and (ii) the Company
has been granted an option to purchase up to 19.9 percent of the El Paso Common
Stock, exercisable if the Merger Agreement is terminated under certain
circumstances as set forth therein.
<PAGE>
3. Trading Activities and Derivative Financial Instruments
Derivative Commodity Instruments Held or Issued for Trading Purposes
The Company maintains active trading positions in energy commodity
futures, swap and option contracts. The Company manages its trading positions
with strict policies and procedures and limits its risk to changes in the value
of its outstanding positions through the use of policy limits on portfolio
Value-at-Risk, the establishment of offsetting positions, and other methods. The
trading operation also enters into natural gas and electricity commodity
purchase and sale commitments. These activities constitute its trading business
and are essential to provide customers with market products at competitive
prices.
At March 31, 1999, the Company's trading portfolio had outstanding
energy commodity futures, swaps and options. In the table below, buys of swaps
represent either 1) payment of fixed price and receipt of NYMEX or index; or 2)
payment of NYMEX or index and receipt of index. The absolute notional volumes
and terms are:
<TABLE>
<CAPTION>
Notional Volume Maximum
Commodity Buy Sell Term
- --------- --- ---- -------
<S> <C> <C> <C>
Natural Gas (TBtu) 1,180 1,236 60 months
Crude Oil (Thousands of Barrels) 5,640 2,310 60 months
Electricity (Thousands of MWh) 240 135 2 months
</TABLE>
The 60-month term deals begin in 2002 and end in 2006.
The amounts disclosed in the following table represent the
end-of-period fair value and the average fair value of the trading portfolio.
<TABLE>
<CAPTION>
Fair Value Average Fair Value
(Carrying Amount) for the Three Months
as of 3/31/99 Ended 3/31/99
(In Thousands)
<S> <C> <C>
Assets $165,900 $229,525
Liabilities 131,995 198,452
</TABLE>
Net trading gains for the first quarter of 1999 are $14.8 million.
Derivative Commodity Instruments Held or Issued for Purposes Other Than Trading
In certain cases, derivative positions are taken specifically to mitigate
market price risk associated with significant physical transactions and are
accounted for using hedge accounting provided they meet hedge accounting
criteria. Sonat Exploration Company hedges a portion of its production by
entering into intercompany swaps with Sonat Marketing Company L.P. (Sonat
Marketing). The exposure that Sonat Marketing assumes from Sonat Exploration is
then hedged by entering into derivative instruments with third parties. Sonat
Marketing also hedges third-party purchases and sales by entering into commodity
futures, swaps and options.
<PAGE>
3. Trading Activities and Derivative Financial Instruments (Cont'd)
At March 31, 1999, the Company had outstanding energy commodity
futures, swaps and options for purposes other than trading. In the table below,
buys of swaps represent either 1) payment of fixed price and receipt of NYMEX or
index; or 2) payment of NYMEX or index and receipt of index. The absolute
notional volumes and terms are:
<TABLE>
<CAPTION>
Notional Volume Maximum
Commodity Buy Sell Term
<S> <C> <C> <C>
Natural Gas (TBtu) 41 88 21 months
</TABLE>
The deals end in 2000.
The information in the following table represents the fair value, as of
March 31, 1999, of outstanding financial derivative positions held for purposes
other than trading. Not included are the related physical positions that these
derivative positions hedge.
Fair Value
(In Thousands)
Natural Gas:
Futures $ 183
Swaps (11,525)
Deferred amounts on open futures positions will mature through 2000.
Credit Risk from Derivative Activities
NYMEX traded futures are guaranteed by the NYMEX and have nominal
credit risk. On all other transactions described above, the Company is exposed
to credit risk in the event of nonperformance by the counterparties. The Company
has established policies and procedures to evaluate potential counterparties for
creditworthiness before entering into over-the-counter swap and option
agreements. The credit risk resulting from in-the-money swaps is monitored on a
regular basis against established collateralization limits and credit limits
established by the Company. Due to changes in market conditions, the market
value of swaps and options and the associated credit exposure with the
counterparties can change significantly. At March 31, 1999, the market value of
the Company's in-the-money swaps and options was $19.3 million, and one
counterparty posted collateral in the amount of $.2 million. Reserves for credit
risk are established as necessary.
<PAGE>
4. Unconsolidated Affiliates
The following table presents the components of equity in earnings of
unconsolidated affiliates:
<TABLE>
<CAPTION>
Three Months
Ended March 31,
1999 1998
(In Thousands)
Company's Share of Reported Earnings (Losses):
<S> <C> <C>
Exploration and Production $ 102 $ 144
------- ------
Natural Gas Transmission:
Citrus Corp. 6,261 4,511
Amortization of Citrus basis difference 346 346
Bear Creek Storage 2,763 2,089
Destin Pipeline (377) 2,060
Other 39 (24)
------- ------
9,032 8,982
------- ------
Energy Services (1,835) 225
------- ------
Other 420 302
------- ------
$ 7,719 $9,653
======= ======
</TABLE>
Natural Gas Transmission Affiliates - Sonat owns 50 percent of Citrus
Corp. (Citrus), the parent company of Florida Gas Transmission Company. Southern
Natural Gas Company (Southern) owns a one-third interest in Destin Pipeline
Company, L.L.C. (Destin) and a subsidiary of Southern owns 50 percent of Bear
Creek Storage Company (Bear Creek).
The following is summarized income statement information for Citrus:
<TABLE>
<CAPTION>
Three Months
Ended March 31,
1999 1998
(In Thousands)
<S> <C> <C>
Revenues $147,456 $133,581
Expenses:
Natural gas cost 69,624 58,614
Operating expenses 23,530 23,987
Depreciation and amortization 12,812 12,722
Interest and other 21,030 23,420
Income taxes 7,938 5,816
-------- --------
Income Reported $ 12,522 $ 9,022
======== ========
</TABLE>
<PAGE>
4. Unconsolidated Affiliates (Cont'd)
The following is summarized income statement 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>
Three Months
Ended March 31,
1999 1998
(In Thousands)
<S> <C> <C>
Revenues $9,083 $9,029
Expenses:
Operating expenses 1,211 2,301
Depreciation 1,362 1,359
Other expenses, net 985 1,192
------ ------
Income Reported $5,525 $4,177
====== ======
</TABLE>
The following is summarized results of operations for Destin. No
provision for income taxes has been included since its income taxes are paid
directly by joint venture participants.
<TABLE>
<CAPTION>
Three Months
Ended March 31,
1999 1998
(In Thousands)
<S> <C> <C>
Revenues $ 3,833 $ 1,872
Expenses:
Operating expenses 1,625 -
Depreciation and amortization 1,586 -
Interest and other 1,755 (4,307)
------- -------
Income (Loss) Reported $(1,133) $ 6,179
======= =======
</TABLE>
5. Debt and Lines of Credit
Long-Term Debt and Lines of Credit - At March 31, 1999, Sonat had a
bank revolving credit agreement that provided for periodic borrowings and
repayments of up to $500.0 million through June 30, 2001. Borrowings are
supported by unsecured promissory notes that, at the option of the Company, will
bear interest at the banks' prevailing prime or international lending rate, or
such rates as the banks may competitively bid. During the first quarter of 1999,
there were no borrowings or repayments under the revolving credit agreement,
resulting in no balance outstanding at March 31, 1999.
<PAGE>
5. Debt and Lines of Credit (Cont'd)
Unsecured Notes - Loans under all short-term credit facilities are for
a duration of less than three months.
At March 31, 1999, Sonat had short-term lines of credit of $400.0
million available through January 18, 2000. Southern had short-term lines of
credit of $50.0 million available through May 31, 1999. 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 March 31, 1999, Sonat had
$24.1 million outstanding under its agreement at a rate of 5.25 percent. No
amounts were outstanding under Southern's agreement.
In mid April 1999, Sonat completed a new 364-day $900.0 million
revolving credit facility with 13 banks. In connection with this new credit
facility, the Company terminated its $500.0 million revolving credit agreement
and its $400.0 million lines of credit.
Sonat had $588.9 million in commercial paper outstanding at an average
rate of 5.10 percent at March 31, 1999. In addition, Sonat had $235 million of
short-term notes borrowed from a bank at an average rate of 5.29 percent at
March 31, 1999.
6. Rate Matters and Contingencies
Periodically, Southern makes 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 provides reserves relating to
such amounts collected subject to refund, as appropriate, and makes refunds upon
establishment of the final rates. At March 31, 1999, 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, and all revenue is
based on the final settlement rates and therefore is not being collected subject
to refund.
<PAGE>
7. Comprehensive Income (Loss)
Comprehensive income (loss), net of related tax, is as follows:
<TABLE>
<CAPTION>
Three Months
Ended March 31,
1999 1998
(In Thousands)
<S> <C> <C>
Net Income (Loss) $(212,216) $27,950
Unrealized Gains (Loss) on Securities (64) 1,274
Reclassification Adjustment (1,162) (9)
--------- -------
Comprehensive Income (Loss) $(213,442) $29,215
========= =======
</TABLE>
Common Stock and Other Capital in the Condensed Consolidated Balance
Sheets includes $.4 million at March 31, 1999, and $1.6 million at December 31,
1998, related to other comprehensive income, which is comprised of unrealized
gains on securities.
<PAGE>
8. Segment Information
The Company's consolidated financial statements reflect operations in
three segments: Exploration and Production, Natural Gas Transmission and Energy
Services. The Company's revenues and earnings before interest and taxes (EBIT)
by business segment are shown in the following tables.
<TABLE>
<CAPTION>
Three Months Ended March 31, 1999
Exploration Natural
and Gas Energy
Production Transmission Services Other Total
(In Thousands)
Revenues from
<S> <C> <C> <C> <C> <C>
External Customers $ 19,071 $94,023 $661,845 $(1,199) $773,740
Intersegment Revenues 72,620 6,680 - 14,554 93,854
Earnings (Loss) Before
Interest and Taxes (350,302) 56,182 (1,592) (1,651) (297,363)
================================================================================
Three Months Ended March 31, 1998
Exploration Natural
and Gas Energy
Production Transmission Services Other Total
(In Thousands)
Revenues from
External Customers $79,798 $95,604 $937,055 $(3,314) $1,109,143
Intersegment Revenues 82,064 9,897 - 15,689 107,650
Earnings (Loss) Before
Interest and Taxes (2,445) 68,915 836 1,992 69,298
==============================================================================
</TABLE>
<PAGE>
8. Segment Information (Cont'd)
The following table reconciles the total of the Company's reportable
segments' EBIT to the Company's consolidated income before income taxes.
<TABLE>
<CAPTION>
Three Months
Ended March 31,
1999 1998
(In Thousands)
Total Earnings (Loss) Before Interest and
<S> <C> <C>
Taxes for Reportable Segments $(295,712) $ 67,306
Other Earnings (Loss) Before Interest and Taxes (1,651) 1,992
Interest Income 1,939 2,200
Interest Expense (35,307) (32,130)
Interest Capitalized 3,420 1,424
--------- --------
Income (Loss) Before Income Taxes $(327,311) $ 40,792
========= ========
</TABLE>
Assets for the Company's three segments are as follows:
<TABLE>
<CAPTION>
March 31, December 31,
1999 1998
(In Thousands)
<S> <C> <C>
Assets by Segment
Exploration and Production $1,388,912 $1,635,597
Natural Gas Transmission 1,990,821 1,961,994
Energy Services 618,610 762,547
</TABLE>
<PAGE>
9. Earnings Per Share
The calculation of diluted earnings per share differs from that of
basic earnings per share due to the denominator for the diluted calculation
including common stock equivalents applicable to outstanding stock options.
The following table presents the computation of basic and diluted
earnings (loss) per share of common stock:
<TABLE>
<CAPTION>
Three Months
Ended March 31,
1999 1998
(In Thousands, Except
Per-Share Amounts)
Numerator:
<S> <C> <C>
Net income (loss) $(212,216) $ 27,950
========= ========
Denominator:
Denominator for Basic Earnings Per Share:
Weighted average number of shares of common
stock outstanding 110,046 109,966
Effect of Dilutive Securities:
Common stock equivalents applicable to
outstanding stock options (a) 1,168
--------- --------
Denominator for Diluted Earnings Per Share:
Adjusted weighted average shares using
treasury stock method for assumed conversions 110,046 111,134
========= ========
Earnings (Loss) Per Share of Common Stock $ (1.93) $ .25
========= ========
Earnings (Loss) Per Share of Common Stock-
Assuming Dilution $ (1.93) $ .25
========= ========
</TABLE>
(a) The addition of 229,000 potential common shares for the three-month
period of 1999 would be antidilutive in the computation of diluted
earnings per share, and are therefore not included.
<PAGE>
10. Subsequent Event
AGL Resources, Inc. (AGL) has exercised its right under the agreement
governing the Sonat Marketing joint venture to put its 35 percent interest to
Sonat. Under the terms of the agreement, the Company is required to repurchase
AGL's interest at the greater of fair market value or a formula price. The
Company has exercised its right under the agreement governing the Sonat Power
Marketing joint venture to purchase the remaining 35 percent interest in Sonat
Power Marketing held by a subsidiary of AGL. The purchase price will be at fair
market value. The Company's ability to exercise its right arose when AGL
notified Sonat that AGL was exercising its right to sell its 35 percent interest
in the Sonat Marketing joint venture to Sonat.
<PAGE>
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations
RESULTS OF OPERATIONS
Business segment operating results for Sonat Inc. and its subsidiaries
(the Company) are presented in the table below. The table also shows unusual
items that affect earnings before interest and taxes (EBIT) and net income
comparisons. The table is presented because management believes this information
enhances the analysis of results of operations.
<TABLE>
<CAPTION>
Three Months
Ended March 31,
1999 1998
(In Millions, Except
Per-Share Amounts)
Earnings (Loss) Before Interest and Taxes:
<S> <C> <C>
Exploration and production $(350.3) $ (2.4)
Natural gas transmission 56.2 68.9
Energy services (1.6) .8
Other (1.7) 2.0
------- ------
(297.4) 69.3
Adjustment for Unusual Item:
Exploration and production
Ceiling test charges (351.5) (39.7)
------- ------
Earnings Before Interest and Taxes Excluding
Unusual Item $ 54.1 $109.0
======= ======
Net Income (Loss) As Reported $(212.2) $ 28.0
Adjustment for Unusual Item:
Exploration and production
Ceiling test charges (228.5) (25.8)
------- ------
Net Income Excluding Unusual Item $ 16.3 $ 53.8
======= ======
Earnings (Loss) Per Share-Assuming Dilution $ (1.93) $ .25
======= ======
Earnings Per Share-Assuming Dilution
Excluding Unusual Items $ .15 $ .48
======= ======
</TABLE>
EXPLORATION AND PRODUCTION
The Company is engaged in the exploration for and the acquisition,
development and production of oil and natural gas in the United States through
Sonat Exploration Company and Sonat Exploration GOM (Sonat Exploration). Most of
Sonat Exploration's natural gas production is sold to Sonat Marketing Company
L.P. (Sonat Marketing), the Company's majority-owned affiliate operating in the
Energy Services segment.
<PAGE>
During the first quarter of 1999, Sonat Exploration has been successful
on two of the five exploratory wells that it drilled in the Gulf of Mexico and
currently has three wells drilling in the Gulf. Onshore, Sonat Exploration has
been successful on three of the seven exploratory wells that it has drilled this
year. In the March Federal Lease Sale 172, Sonat Exploration was the successful
bidder on 22 offshore tracts at a total cost of approximately $6 million.
PennzEnergy Company, an unaffiliated company (PennzEnergy), and Sonat
Exploration recently announced that they have formed a joint venture for coalbed
methane development at the 700,000-acre Vermejo Park Ranch in northeast New
Mexico. Under the terms of the definitive joint venture agreement, Sonat
Exploration will pay up to $10 million in cash and fund a substantial
development program to earn a 36-year lease covering part of PennzEnergy's
mineral interest in Vermejo Park Ranch and adjacent holdings. PennzEnergy will
initially participate with a 25-percent working interest in the venture, and
will increase its working interest incrementally to 50 percent as the project
reaches defined milestones. In addition to its working interest, PennzEnergy
will retain a 25-percent royalty in its lease to Sonat Exploration. The
landowner has waived its preferential rights in exchange for an increase in its
royalty. The closing of this transaction has been set for May, 1999.
In 1999 PennzEnergy and Sonat Exploration expect to drill a minimum of
35 wells. Plans call for drilling 80 wells in 2000 and 150 wells each year
thereafter. Reserves associated with the joint venture properties are estimated
to exceed one Tcf of coalbed methane. To accommodate near-term gas sales
generated by the development program, Sonat Exploration has agreed to construct
at its own expense during 1999 a gathering line north from Vermejo Park Ranch to
interconnect with a regional transportation pipeline. Longer-term plans call for
Sonat Exploration to arrange for transportation on a newly constructed natural
gas pipeline that will connect to the national pipeline grid. Sonat Exploration
has an option to discontinue participation in the joint venture beyond September
1, 2000. In that event, however, Sonat Exploration's interest in the project,
including any related improvements made, would be assigned to PennzEnergy at no
cost.
In April 1999, Sonat Exploration sold its interest in certain West
Texas properties for approximately $42 million.
<PAGE>
EXPLORATION AND PRODUCTION OPERATIONS
<TABLE>
<CAPTION>
Three Months
Ended March 31,
1999 1998
(In Millions)
<S> <C> <C>
Revenues: $ 91.7 $161.9
------- ------
Costs and Expenses:
Operating and maintenance 17.5 19.4
General and administrative 8.9 9.1
Depreciation, depletion and
amortization 57.9 88.9
Ceiling test charges 351.5 39.7
Taxes and other 6.2 7.4
------- ------
442.0 164.5
------- ------
Operating Loss (350.3) (2.6)
Other Income - .2
------- ------
Loss Before Interest and Taxes $(350.3) $ (2.4)
======= ======
Net Sales Volumes:
Gas (Bcf) 46 63
Oil and condensate (MBbls) 1,258 1,950
Natural gas liquids (MBbls) 201 584
- ------------------------------------------------------------------------------------------------------------------
Average Sales Prices:
Gas ($/Mcf) $ 1.66 $ 2.01
Oil and condensate ($/Bbl) 11.04 14.76
Natural gas liquids ($/Bbl) 7.29 9.73
- ------------------------------------------------------------------------------------------------------------------
</TABLE>
First Quarter 1999 to First Quarter 1998 Analysis
EBIT decreased $36.1 million after excluding ceiling test charges of
$351.5 million and $39.7 million in the 1999 and 1998 periods, respectively,
primarily due to lower revenues from lower production volumes and energy prices,
partly offset by lower costs and expenses. Production volumes decreased
approximately 18 billion cubic feet equivalent due to property sales in 1998.
Natural gas and oil and condensate production decreased 27 percent and
35 percent, respectively, from the first quarter of 1998 primarily due to
property sales in 1998. Average realized natural gas prices decreased 17 percent
to $1.66 per thousand cubic feet (Mcf) from $2.01 per Mcf in the first quarter
of 1998. Realized oil and condensate prices decreased 25 percent to an average
of $11.04 per barrel from $14.76 per barrel in the 1998 period.
<PAGE>
Costs and expenses were $34.3 million lower than the prior period after
excluding the ceiling test charges discussed earlier. Depreciation, depletion
and amortization expense decreased 35 percent due to lower production and a
lower amortization rate ($1.06 for the 1999 period compared to $1.13 for the
1998 period).
Hedging Activities
Sonat Exploration, through Sonat Marketing, uses derivative financial
instruments to manage the risks associated with price volatility for its
production, which it sells in the spot market. (See Market Risk and Note 3 of
the Notes to Condensed Consolidated Financial Statements.) Gains or losses
experienced on Sonat Exploration's hedging transactions offset the changes in
revenue recognized on the sale of the commodity. Natural gas revenues increased
by $.8 million and $1.2 million in the 1999 and 1998 periods, respectively, as a
result of hedging activities. There were no oil hedging activities reflected in
either period.
A portion of Sonat Exploration's future gas production is hedged
through the year 2012. Sonat Exploration's hedged gas production at March 31,
1999 is as follows:
Weighted
Average
Volumes Price
(Bcf) (per Mcf)
Remainder of 1999 60.6 $2.06
2000 52.0 2.16
2001 4.4 2.30
2002 4.4 2.34
2003-2012 41.4 3.39
- --------------------------------------------------------------------------
162.8 $2.45
==========================================================================
NATURAL GAS TRANSMISSION
The Company is engaged in the natural gas transmission business through
Southern Natural Gas Company and its subsidiaries (Southern) and Citrus Corp. (a
50 percent-owned company). Southern and Citrus Corp. (Citrus) are actively
pursuing opportunities to expand their pipeline systems in their traditional
market areas and to connect new gas supplies.
Units of Shell Oil Company (Shell) and BP Amoco Corporation (BP Amoco)
are equal partners with Southern in the ownership of Destin Pipeline Company
L.L.C. (Destin). Destin owns a 223-mile, 1 billion cubic feet per day interstate
pipeline system that transports natural gas from the growing eastern Gulf of
Mexico production area, which was placed fully in service in March 1999. An
additional 31-mile extension is scheduled to go in service in the second quarter
of 1999.
<PAGE>
Construction is progressing on Southern's expansion project to North
Alabama. The 122-mile, 78 million-cubic-foot-per-day expansion is expected to be
in service early in 2000.
On March 3, 1999, Carolina Power & Light Company (CP&L) and Southern
announced plans to form a 50/50 joint venture to construct, own, and operate a
180-mile, 30-inch, natural gas pipeline from the terminus of Southern's pipeline
system in Aiken, South Carolina, to an interconnect with North Carolina Natural
Gas Corporation's pipeline system in Robeson County, North Carolina. The new
Palmetto Interstate Pipeline (Palmetto) will provide a significant interstate
natural gas pipeline connection in eastern North Carolina.
Palmetto has a planned initial capacity of 200 million to 300 million
cubic feet of natural gas per day and will be expanded to accommodate future
growth. CP&L plans to subscribe for a substantial portion of the capacity in
Palmetto to fuel new electric generation being developed for its customers in
the Carolinas, with the remainder to be used to increase the region's natural
gas availability. An open season began April 1, 1999, for customers to subscribe
to firm capacity on the pipeline and will conclude on May 31, 1999. Depending
upon the resulting firm subscription, the capital cost for Palmetto is expected
to be $200 million to $250 million.
The proposed schedule calls for the new pipeline to be operational in
April 2002. Construction is scheduled to begin in the summer of 2001, following
the completion of engineering and environmental preparation and federal and
state permitting. The exact route of the pipeline has not yet been determined. A
detailed environmental analysis is under way to establish the most
environmentally sound path.
As part of the project Southern expects to undertake a major expansion
of its existing interstate pipeline system, consisting of extensive pipeline
looping and additional compression at points from Mississippi to Aiken. The
extent of Southern's pipeline expansion will depend on capacity requirements and
the extent, if any, of existing capacity turned back by existing customers in an
open season for turnback expected to occur in the second or third quarter of
1999. The maximum costs expected to be incurred by Southern for its expansion
are estimated at $430 million. This expansion will provide significant rate and
operational benefits to Southern's existing customers.
The construction of Palmetto and expansion of the Southern system
require approval by the FERC as well as other federal and state agencies and is
likely to be challenged on both environmental grounds and economic grounds by
certain of its competitors, environmental groups, or landowners. Construction is
also subject to execution of definitive agreements between CP&L and Southern.
<PAGE>
SOUTHERN NATURAL GAS COMPANY AND SUBSIDIARIES
<TABLE>
<CAPTION>
Three Months
Ended March 31,
1999 1998
(In Millions)
Revenues:
<S> <C> <C>
Market transportation and storage $ 86.2 $ 83.5
Supply transportation 10.4 11.6
Other 4.1 10.4
------ ------
Total Revenues 100.7 105.5
------ ------
Costs and Expenses:
Operating and maintenance 19.5 19.6
General and administrative 15.6 15.5
Depreciation and amortization 14.0 5.5
Taxes, other than income 6.0 5.3
------ ------
55.1 45.9
------ ------
Operating Income 45.6 59.6
------ ------
Other Income:
Equity in earnings of
unconsolidated affiliates 2.4 4.1
Other 1.9 .7
------ ------
4.3 4.8
------ ------
Earnings Before Interest and Taxes $ 49.9 $ 64.4
====== ======
(Billion Cubic Feet)
Volumes:
Market transportation 177 185
Supply transportation 89 95
------ ------
Total Volumes 266 280
====== ======
CITRUS CORP.
Three Months
Ended March 31,
1999 1998
(In Millions)
Equity in Earnings of
Citrus Corp. $ 6.6 $ 4.9
====== ======
(Billion Cubic Feet)
Florida Gas Volumes (100%):
Market transportation 92 95
Supply transportation 13 7
------ ------
Total Volumes 105 102
====== ======
</TABLE>
<PAGE>
First Quarter 1999 to First Quarter 1998 Analysis
Southern Natural Gas - EBIT for the first quarter of 1999 decreased
$14.5 million compared with the prior year. The decrease was primarily due to a
$7.0 million pretax adjustment of the salvage value on certain fixed assets in
the 1998 period and higher depreciation expense as a result of higher plant
balances in 1999. The 1998 period also includes the recognition of a royalty
reserve reversal of $4.2 million. Partially offsetting the decrease was the
effect of higher market transportation revenues due to recent expansions.
Supply transportation revenues declined due to lower volumes at Sea
Robin Pipeline Company. Equity in earnings of unconsolidated affiliates
decreased primarily due to lower earnings at Destin Pipeline as a result of a
high allowance for funds used during construction (AFUDC) capitalized in the
1998 period. Other income increased due to higher AFUDC equity and the sale of
certain facilities.
Citrus - Equity in earnings of Citrus increased $1.7 million to $6.6
million. The increase is primarily due to lower ad valorem taxes, recognition of
credits on a gas supply agreement, higher prices for transportation capacity
held by Citrus Trading, and lower interest expense, partly offset by higher
operating expenses and an adjustment to revenues to reflect actual refunds made
for a rate case settlement recorded in 1998.
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 directives in past years,
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 or expiration 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, the net of gas sales revenues and natural gas
cost are included in other revenue.
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 gas from time to time as may be required for system
management purposes.
Southern's annual purchase commitments total less than $21 million per
year for 1999 and subsequent years. Based on Southern's current expectations
with respect to natural gas prices in 1999 and the years following, an
immaterial volume of gas is expected to be at prices above market.
<PAGE>
Rate Matters
Under terms of a settlement approved by the FERC, all of Southern
Natural Gas' previously pending rate proceedings and proceedings to recover gas
supply realignment and other transition costs associated with the implementation
of FERC Order No. 636 were resolved. The settlement requires Southern Natural
Gas to file a new rate case no later than September 1, 1999. Southern expects
the rates filed in that rate case to become effective after normal suspension by
the FERC on March 1, 2000, subject to refund upon conclusion of the rate case.
In September 1997, the FERC approved a rate case settlement between
Florida Gas and its customers. The terms of the settlement provide for tiered
rates effective beginning March 1, 1997, which, for a two-year period, reflect
an increase over the rates in effect prior to the rate filing for transportation
through both the pre-expansion and Phase III expansion systems. The settlement
resolved all issues related to Phase III construction and the construction cost
audit. The settlement terms require Florida Gas to file a new rate case no later
than October 1, 2001.
ENERGY SERVICES
Sonat Energy Services, through its majority-owned subsidiaries, Sonat
Marketing and Sonat Power Marketing L.P. (Sonat Power Marketing), conducts
marketing activities in the natural gas and electric industries, respectively.
Sonat Marketing purchases and resells substantially all of Sonat Exploration's
natural gas production, as well as purchasing and reselling gas for other
customers. Sonat Power Marketing has executed electric power purchase, sales and
transmission agreements with numerous companies and is focused on expanding its
wholesale electric marketing business. Both of these subsidiaries use derivative
instruments. (See Market Risk and Notes 3 and 10 of the Notes to Condensed
Consolidated Financial Statements).
<PAGE>
ENERGY SERVICES
<TABLE>
<CAPTION>
Three Months
Ended March 31,
1999 1998
(In Millions)
<S> <C> <C>
Revenues $661.8 $937.1
====== ======
Operating Margin $ 17.4 $ 13.1
====== ======
Operating Income $ 3.1 $ 1.1
====== ======
Earnings (Loss) Before Interest and Taxes $ (1.6) $ 0.8
====== ======
(Billion Cubic Feet)
Sonat Marketing Gas Sales Volumes (100%) 290 360
====== ======
(Thousands of Megawatt Hours)
Sonat Power Marketing Sales Volumes (100%) 3,009 3,170
====== ======
(Billion Cubic Feet)
Financial Volumes Notional Settlements
Third Parties-Natural Gas 1,875 628
====== ======
</TABLE>
First Quarter 1999 to First Quarter 1998 Analysis
EBIT for the first quarter of 1999 was a loss of $1.6 million compared
with income of $.8 million in 1998 primarily due to lower margins at Sonat
Marketing and lower other income, partially offset by higher margins at Sonat
Power Marketing. Sonat Marketing's physical sales volumes were lower in 1999
compared to 1998. However, notional volumes from natural gas derivative
settlements increased significantly in 1999 compared to 1998, reflecting an
increase in Sonat Marketing's financial transactions on behalf of customers and
an increase in market making of derivative products for its own account and to
manage its basis positions. Sonat Power Marketing's first quarter 1999 margins
were substantially higher than the 1998 period. Other income was $4.4 million
lower than the prior period due to an operating loss at the 50 percent-owned
Mid-Georgia Cogen L.P. power plant and a write down of the carrying value of
certain investments.
<PAGE>
Other Income Statement Items
<TABLE>
<CAPTION>
Three Months
Ended March 31,
1999 1998
(In Millions)
<S> <C> <C>
Interest Expense, Net $ 29.9 $ 28.5
</TABLE>
Net interest expense increased in the 1999 period compared to the same
period last year due to higher average debt levels. This increase was partly
offset by the effect of lower interest rates on debt and higher interest
capitalized at Sonat Exploration and Sonat Energy Services.
<TABLE>
<S> <C> <C>
Income Tax Expense (Benefit) $(115.1) $ 12.8
</TABLE>
Income tax expense decreased in the 1999 period compared with the same
period in 1998 due to a pretax loss in 1999 primarily related to higher ceiling
test charges in the 1999 period. Excluding these charges, the effective tax rate
was essentially flat.
LIQUIDITY AND CAPITAL RESOURCES
Cash Flows
<TABLE>
<S> <C> <C>
Operating Activities $ 75.8 $ 238.7
</TABLE>
Cash flow from operations decreased $162.9 million compared to the 1998
period primarily due to lower operating results at Sonat Exploration and Energy
Services, which were discussed earlier in the operating section.
Depreciation, depletion, and amortization and deferred income taxes
include a charge of $351.5 million and a benefit of $123.0 million,
respectively, in the 1999 period and a charge of $39.7 million and a benefit of
$13.9 million, respectively, in the 1998 period for ceiling test charges related
to Sonat Exploration's oil and gas properties. Absent the ceiling test charges,
the change in deferred income taxes and accrued interest and income taxes
primarily reflects the capitalization of intangible drilling costs for income
tax purposes in the current period. The change in accounts receivable and
accounts payable is primarily attributable to lower natural gas prices and
volumes. The change in restricted cash, accrued long-term compensation and other
current assets and liabilities primarily represent the payment of certain
expenses associated with the merger between the Company and Zilkha Energy in
January 1998. The change in Other primarily reflects deferrals related to Energy
Services' operating activities, which offset various working capital items.
<PAGE>
<TABLE>
<CAPTION>
Three Months
Ended March 31,
1999 1998
(In Millions)
<S> <C> <C>
Investing Activities $(169.5) $(306.4)
</TABLE>
Net cash used in investing activities was $136.9 million lower in 1999
compared to 1998. The change was primarily due to lower capital expenditures at
Sonat Exploration partly due to property sales during 1998.
Capital expenditures for the Company's business segments (excluding
unconsolidated affiliates) were as follows:
<TABLE>
<S> <C> <C>
Exploration and Production $ 94.9 $244.1
Natural Gas Transmission 20.1 25.6
Energy Services 23.9 27.9
Other .7 2.4
------ ------
Total $139.6 $300.0
====== ======
</TABLE>
The Company's investments in unconsolidated affiliates were $10.0 million
and $32.6 million in the first quarter of 1999 and 1998, respectively.
<TABLE>
<S> <C> <C>
Financing Activities $ 92.0 $ 53.9
</TABLE>
Cash flow provided by financing activities increased by $38.1 million
compared to the 1998 period. The change was primarily due to increased
borrowings for various corporate expenditures.
CAPITAL RESOURCES
At March 31, 1999, the Company had bank lines of credit and a revolving
credit agreement with banks with a total capacity of $950 million. The Company's
bank and commercial paper borrowings in the aggregate are not authorized to
exceed the maximum amount available under its lines of credit and revolving
credit agreement. As a result, after giving effect to the $588.9 million of
commercial paper and $24.1 million of borrowings from the short-term lines of
credit outstanding at March 31, 1999, $337.0 million was available to the
Company under such lines of credit and revolving credit agreement at March 31,
1999.
In mid April 1999, Sonat completed a new 364-day $900.0 million
revolving credit facility with 13 banks. In connection with this new credit
facility, the Company terminated existing lines of credit providing for up to
$900.0 million of borrowings. (See Note 5 of the Notes to Condensed Consolidated
Financial Statements.)
Sonat and Southern have shelf registration statements with the
Securities and Exchange Commission which provide for the issuance of up to $500
million in debt securities by both companies. Southern issued $100.0 million in
debt under its registration statement in 1998.
The Company's capital expenditures and other investing requirements for
1999 are expected to total $491 million. This amount reflects investments in
unconsolidated affiliates and proposed expenditures for oil and gas property
acquisitions, exploration and development, pipeline expansion and other
projects.
The Company believes that cash flow from operations and borrowings in
either the private or public market will provide the Company with the means to
fund operations and currently planned investment and capital expenditures.
<PAGE>
YEAR 2000 PROJECT
The following disclosure contains forward-looking statements. The
Company's ability to meet its objectives identified below is dependent upon
several factors that could cause actual results to differ materially from those
set forth below, including the timely provision of necessary upgrades and
modifications by suppliers. In addition, the Company cannot guarantee that third
parties on whom it depends for essential services will convert their critical
systems and processes in a timely manner. Each of the phases of the Company's
Year 2000 project is progressing and the Company believes that it is taking all
reasonable and appropriate steps necessary to be able to operate in the Year
2000 and beyond.
To answer the Year 2000 challenge, the Sonat Board of Directors
directed that a corporate-wide initiative be undertaken. A consulting firm was
engaged to assist in this effort. The Company has divided its Year 2000 project
into assessment, remediation, testing, and contingency planning phases. During
the assessment phase, the Company completed a comprehensive inventory of IT
systems, embedded systems, equipment, computer hardware, and software that rely
on a computer chip as well as service providers that could be impacted by the
Year 2000 problem. For vendor-supplied items, the Company has contacted its
vendors seeking written verification of Year 2000 readiness. In addition, the
Company continues to contact entities with whom it has a material relationship,
such as natural gas suppliers, pipelines, electric utilities, telecommunication
service providers, banks, and other suppliers of goods and services, to
determine the extent to which the Company is vulnerable to the failure of those
third-parties to remediate their Year 2000 issue.
The Company is currently engaged in the remediation and testing phases
of the Year 2000 project. The remediation phase includes completing the
replacement of mainframe systems with Year 2000-ready vendor packages on new
client/server platforms and performing any required modifications and upgrades
identified during the assessment phase. The testing phase involves testing
systems for Year 2000 readiness. The Company has completed remediation and
testing of its critical systems. Non-critical systems are scheduled to be
remediated and tested by June 30, 1999.
The Company relies on producers of natural gas, natural gas pipelines,
natural gas distribution companies, natural gas marketing companies and electric
transmission providers to conduct its basic operations. External infrastructure,
such as electric, telecommunication and water service is also necessary for the
Company's basic operations. Should any third party with which the Company has a
material relationship fail, the impact could become a significant challenge to
the Company's ability to perform its basic operations. Due to the nature of the
Company's business, contingency plans are already in place, including plans to
provide pipeline system reliability. Because of the additional uncertainties
caused by the Year 2000 problem, the Company is developing additional
contingency plans as practicable for critical systems, service providers and
business partners. A consulting firm has been engaged to assist in this effort.
These plans involve developing contingencies for failures that may result from
the Year 2000 problem, and include plans to establish control centers to
facilitate communications in the event of a telecommunications failure and
staffing at selected locations on the Company's pipeline system. The Company is
scheduled to have these plans completed by June 30, 1999.
The estimated cost to the Company of the Year 2000 project for capital
as well as general and administrative costs is expected to be less than $10
million. As of March 31, 1999, the Company has incurred approximately $7.7
million in Year 2000 project costs. The Company expects to fund Year 2000
expenditures from normal operations. The timing of expenditures is not
indicative of readiness efforts or progress to date.
<PAGE>
CAUTIONARY STATEMENT CONCERNING FORWARD-LOOKING STATEMENTS
This Quarterly Report contains certain forward-looking statements
regarding the Company's business plans and prospects, objectives, future
drilling plans, expansion projects, proposed capital expenditures and expected
performance or results. These forward-looking statements are based on
assumptions that the Company believes are reasonable, but are subject to a wide
range of risks and uncertainties and, as a result, actual results and experience
may differ materially from the anticipated results or other expectations
expressed in such forward-looking statements. Such statements are made in
reliance on the safe harbor provisions of the Private Securities Litigation
Reform Act of 1995.
Important factors that could cause actual results to differ include
changes in oil and gas prices and underlying demand, which would affect
profitability and might cause the Company to alter its plans; the timing and
success of the Company's exploration and development drilling programs, which
would affect production levels and reserves; the results of the Company's
hedging activities; risks incident to the drilling and operation of oil and gas
wells; future drilling, production and development costs, including drilling rig
rates; the success of the Company's cost-reduction activities; and the
requirements to receive various governmental approvals to proceed with pipeline,
storage, and power generation projects, and unanticipated construction delays in
connection with such projects. 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.
<PAGE>
Item 3. Quantitave and Qualitative Disclosure About Market Risk
Financial instruments of the Company expose it to both commodity price
risk and interest rate risk.
Commodity Price Risk - The Company's primary market risk exposure is
the volatility of energy commodity prices, relating to the portfolio position of
its financial instruments and physical commitments, which can affect the
operating results of Sonat Exploration and Sonat Energy Services. The Company
uses commodity futures contracts, options and price swap agreements as well as
offsetting physical positions to hedge its commodity price risk on crude oil,
natural gas and electricity. Sonat Energy Services performs all hedging activity
(non-trading) for both its own operations and for the operations of Sonat
Exploration. Sonat Energy Services, through its subsidiaries, Sonat Marketing
and Sonat Power Marketing, also uses derivative instruments as a market maker
(trading activity) by maintaining active trading positions in natural gas,
electricity, and crude oil commodity futures, swap and option contracts. Sonat
Marketing and Sonat Power Marketing limit their risk to changes in the value of
their outstanding positions through the use of Value-at-Risk models,
establishment of offsetting positions, and limit and monitoring procedures.
The Company's non-trading (hedging) and trading activities are
implemented under a set of policies approved by the Board of Directors.
Established procedures and processes are employed to manage and monitor these
activities and all derivative activities are internally reviewed by a Risk
Oversight Committee to ensure compliance with all policies. The Company's use of
derivative instruments to reduce the effect of market volatility is described in
Note 3 of the Notes to the Condensed Consolidated Financial Statements.
Interest Rate Risk - The Company's entire portfolio of interest rate
risk instruments is classified as non-trading. The Company's interest income and
expense are sensitive to changes in the level of short-term interest rates in
the United States. In general, the Company uses excess funds to reduce
short-term debt levels and therefore has minimal cash equivalent investments. To
mitigate the impact of fluctuations in interest rates, the Company maintains a
balance among components of its capital structure, providing a mix of maturities
and pricing methods for its debt obligations. In the past the Company has used
derivative instruments to aid in its management of interest rate risk, although
it is not currently doing so.
<PAGE>
PART II. OTHER INFORMATION
Item 4. Submission of Matters to a Vote of Security Holders
The Company held its 1999 Annual Meeting of Stockholders in Houston,
Texas, on April 22, 1999. The stockholders voted (1) to elect four Directors as
members of the Board of Directors of the Company, to serve until the 2002 Annual
Meeting of Stockholders and until their respective successors have been duly
elected and qualified, and (2) on a proposal to elect Ernst & Young LLP as the
Company's Auditor ("Proposal No. 1").
The vote for the nominees for Director was as follows:
- ---------------------------------- --------------------- -------------------
Name of Nominee Voted For Authority Withheld
- ---------------------------------- --------------------- -------------------
- ---------------------------------- --------------------- -------------------
Ronald L. Kuehn, Jr. 98,077,566 928,875
- ---------------------------------- --------------------- -------------------
- ---------------------------------- --------------------- -------------------
Robert J. Lanigan 98,235,373 771,068
- ---------------------------------- --------------------- -------------------
- ---------------------------------- --------------------- -------------------
Charles Marshall 98,249,977 756,464
- ---------------------------------- --------------------- -------------------
- ---------------------------------- --------------------- -------------------
Michael S. Zilkha 98,184,790 821,651
- ---------------------------------- --------------------- -------------------
The terms of Jerome J. Richardson, Adrian M. Tocklin, James B. Williams,
Joe B. Wyatt, Max L. Lukens, Benjamin F. Payton, John J. Phelan, Jr., and Selim
K. Zilkha continued after the meeting.
The vote on Proposal No. 1 was as follows:
- ----------------- -------------------- ----------------------- --------------
Voted For Voted Against Abstained
- ----------------- -------------------- ----------------------- --------------
- ----------------- -------------------- ----------------------- --------------
Proposal No. 1 98,480,448 280,171 245,822
- ----------------- -------------------- ----------------------- --------------
There were no broker non-votes with respect to either matter voted upon
at the meeting. The four nominees for Director were duly elected as members of
the Board of Directors and Proposal No. 1 was approved by the stockholders.
Item 5. Legal Proceedings
In United States of America ex rel. Jack J. Grynberg v. Southern
Natural Gas Company, et al., which is described in Item 3 in Part I of the
Company's Report on Form 10-K for the year ended December 31, 1998, the Justice
Department notified the courts on April 9, 1999, that it was declining to
intervene in these cases. Grynberg served his complaint on Southern and its
affiliates on April 7, 1999.
Team Invest, Inc. v. Sonat Energy Company, 12th Judicial District Court
of Leon County, Texas, Cause No. O-99-135. Sonat Exploration was served with
plaintiff's petition on April 15, 1999. Sonat Exploration and plaintiff entered
into a Prospect Agreement whereby Sonat Exploration is contractually bound to
acquire 3-D seismic data over an area of interest. Sonat Exploration exchanged
with Texaco, Inc. certain 3-D seismic data that Sonat Exploration acquired
within the area of interest for other 3-D seismic data owned by Texaco, Inc.,
which was also within the area of interest. Plaintiff contends this exchange of
3-D data violated the Prospect Agreement, because Sonat Exploration was
obligated actually to conduct a 3-D shoot to acquire all such data, instead of
trading for data owned by others. Plaintiff also claims that Sonat Exploration's
exchange of 3-D data within the area of interest violated a confidentiality
provision within the Prospect Agreement. Plaintiff seeks damages in the amount
of $3.2 million. Sonat Exploration will file a timely answer denying plaintiff's
claims and correct defendant's name to "Sonat Exploration Company." Although it
is unable to predict the outcome of this litigation, Sonat Exploration believes
that it has meritorious defenses to the claims asserted and intends to defend
the suit vigorously.
<PAGE>
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits(1)
Exhibit
Number Exhibits
12* Computation of Ratio of Earnings to Fixed Charges
27* Financial Data Schedule for the period ended March 31, 1999
- -------------
* Filed herewith
(b) Reports on Form 8-K
The Company filed a report on Form 8-K on January 7, 1999, reporting
certain information under Item 5 restating the Company's financial statements
for the years 1997, 1996, and 1995, as a result of the conversion to the full
cost method of accounting for its exploration and production business segment.
The Company filed a report on Form 8-K on March 3, 1999, reporting
certain information under Item 5 relating to the Company's announcement of a
joint venture to build a pipeline to North Carolina and the current estimate of
an expected first quarter ceiling test charge under full cost accounting
provisions for exploration and production operations of approximately $200
million, after tax.
The Company filed a report on Form 8-K on March 15, 1999, reporting
certain information under Item 5 relating to the Company and El Paso Energy
Corporation entering into an Agreement and Plan of Merger providing for the
merger of the Company and El Paso.
The Company filed a report on Form 8-K on April 22, 1999, reporting
certain information under Item 5 relating to the Company's announcement of its
results of operations for the first quarter of 1999, which included, among other
things, the effect of a $228.5 million, after tax, ceiling test charge under
full cost accounting provisions for its exploration and production business
segment.
- -------------------
(1) The Company will furnish to requesting security holders the exhibits 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 in writing and should be addressed
to Beverley T. Krannich Secretary, Sonat Inc., P. O. Box 2563,
Birmingham, Alabama 35202-2563.
<PAGE>
SONAT INC. AND SUBSIDIARIES
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934,
the registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
SONAT INC.
Date: May 12, 1999 By: /s/ James E. Moylan, Jr.
-------------------------- --------------------------
James E. Moylan, Jr.
Senior Vice President and
Chief Financial Officer
Date: May 12, 1999 By: /s/ Thomas W. Barker, Jr.
-------------------------- ---------------------------
Thomas W. Barker, Jr.
Vice President-Finance
EXHIBIT 12
SONAT INC. AND SUBSIDIARIES
Computation of Ratios of Earnings
from Continuing Operations to Fixed Charges
Total Enterprise (a)
<TABLE>
<CAPTION>
Three Months Ended March 31, Years Ended December 31,
1999 1998 1998 1997 1996 1995 1994
---- ---- ---- ---- ---- ---- ----
(In Thousands)
Earnings from Continuing Operations:
<S> <C> <C> <C> <C> <C> <C> <C>
Income (loss) before income taxes $(326,934) $38,732 $(838,232) $322,472 $379,004 $399,280 $176,901
Fixed charges (see computation below) 49,797 46,413 195,215 168,981 162,291 174,634 133,902
Less allowance for interest
capitalized (3,420) (1,424) (5,123) (7,448) (7,642) (8,072) (7,736)
--------- ------- --------- -------- -------- -------- --------
Total Earnings Available for Fixed
Charges $(280,557) $83,721 $(648,140) $484,005 $533,653 $565,842 $303,067
========= ======= ========= ======== ======== ======== ========
Fixed Charges:
Interest expense before deducting
interest capitalized $ 47,994 $44,208 $ 187,102 $160,829 $154,769 $167,068 $126,193
Rentals(b) 1,803 2,205 8,113 8,152 7,522 7,566 7,709
--------- ------- --------- -------- -------- -------- --------
$ 49,797 $46,413 $ 195,215 $168,981 $162,291 $174,634 $133,902
========= ======= ========= ======== ======== ======== ========
Ratio of Earnings to Fixed Charges (c) 1.8 (d) 2.9 3.3 3.2 2.3
========= ======= ========= ======== ======== ======== ========
</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
continuing unconsolidated affiliates.
(c) Earnings before income taxes were reduced $351.5 million as a result of
ceiling test charges for the impairment of certain oil and gas properties.
Because of these charges, earnings were inadequate to cover fixed charges
of $51.1 million for the three-months ended March 31, 1999. The coverage
deficiency was $330.4 million for the three-month period.
(d) Earnings from continuing operations for the year ended December 31, 1998
reflect ceiling test charges for the impairment of certain oil and gas
properties and restructuring expenses primarily associated with a reduction
in work force. Earnings before income taxes were reduced $1,050.2 million
as a result of the ceiling test charges and restructuring charge. Because
of these charges, earnings were inadequate to cover fixed charges of $195.2
million for the year ended December 31, 1998.
The coverage deficiency was $843.4 million for the year.
<TABLE> <S> <C>
<ARTICLE> 5
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-END> MAR-31-1999
<CASH> 5,337
<SECURITIES> 0
<RECEIVABLES> 367,535
<ALLOWANCES> 0
<INVENTORY> 45,386
<CURRENT-ASSETS> 639,278
<PP&E> 8,357,070
<DEPRECIATION> 5,884,407
<TOTAL-ASSETS> 3,974,665
<CURRENT-LIABILITIES> 1,518,285
<BONDS> 1,098,420
0
0
<COMMON> 111,385
<OTHER-SE> 975,436
<TOTAL-LIABILITY-AND-EQUITY> 3,974,665
<SALES> 662,055
<TOTAL-REVENUES> 773,740
<CGS> 563,917
<TOTAL-COSTS> 603,599
<OTHER-EXPENSES> 426,825
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 31,887
<INCOME-PRETAX> (327,311)
<INCOME-TAX> (115,095)
<INCOME-CONTINUING> (212,216)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (212,216)
<EPS-PRIMARY> (1.93)
<EPS-DILUTED> (1.93)
</TABLE>
