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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-K
(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the fiscal year ended December 31, 1997
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OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from to
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Commission File Number 1-6446
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K N ENERGY, INC.
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(Exact name of registrant as specified in its charter)
Kansas 48-0290000
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(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
370 Van Gordon Street
P.O. Box 281304, Lakewood, Colorado 80228-8304
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(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (303) 989-1740
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Securities registered pursuant to Section 12(b) of the Act:
Name of each exchange on
Title of each class which registered
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Common stock, par value $5 per share New York Stock Exchange
Preferred share purchase rights New York Stock Exchange
Securities registered pursuant to Section 12(g) of the Act:
Preferred stock, Class A $5 cumulative series
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(Title of class)
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
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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. [ ]
State the aggregate market value of the voting stock held by nonaffiliates of
the registrant.
$1,693,628,233 as of February 20, 1998
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Indicate the number of shares outstanding of each of the registrant's classes of
common stock, as of the latest practicable date.
Common stock, $5 par value; authorized 50,000,000 shares; outstanding 32,140,425
shares as of February 20, 1998
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List hereunder documents incorporated by reference and the Part of the Form 10-K
into which the document is incorporated.
1998 Proxy Statement Part III
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K N ENERGY, INC. AND SUBSIDIARIES
Documents Incorporated by Reference and Index
Page Number
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1998 Proxy Included
Statement Herein
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PART I
ITEMS 1 & 2: BUSINESS AND PROPERTIES.................................................... 3-12
ITEM 3: LEGAL PROCEEDINGS ......................................................... 12-14
ITEM 4: SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of security holders
during the last quarter of 1997.
EXECUTIVE OFFICERS OF THE REGISTRANT....................................... 15-16
PART II
ITEM 5: MARKET FOR THE REGISTRANT'S COMMON STOCK AND RELATED
STOCKHOLDER MATTERS................................................... 17
ITEM 6: SELECTED FINANCIAL DATA.................................................... 18
ITEM 7: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS..................................... 19-26
ITEM 8: FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Report of Independent Public Accountants ................................ 27
Consolidated Statements of Income for the Three
Years Ended December 31, 1997, 1996 and 1995 ........................ 28
Consolidated Balance Sheets as of December 31, 1997 and 1996............. 29
Consolidated Statements of Common Stockholders' Equity
for the Three Years Ended December 31, 1997, 1996 and 1995 30
Consolidated Statements of Cash Flows for the Three
Years Ended December 31, 1997, 1996 and 1995......................... 31
Notes to Consolidated Financial Statements............................... 32-51
Selected Quarterly Financial Data (Unaudited)......................... 52
ITEM 9: CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE
There were no such matters during 1997.
PART III
ITEM 10: DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT......................... 3-17*
ITEM 11: EXECUTIVE COMPENSATION..................................................... 9-17*
ITEM 12: SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT............. 3-7*, 19*
ITEM 13: CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS............................. 7*
PART IV
ITEM 14: EXHIBITS AND REPORTS ON FORM 8-K
(a) 1. Financial Statements
Reference is made to the listing of financial statements and
supplementary data under Item 8 in Part II of this index.
2. Financial Statement Schedules
None
3. Exhibits
Exhibit Index................................................... 58-60
List of Executive Compensation Plans and Arrangements........... 55-56
Exhibit 12 - Ratio of Earnings to Fixed Charges................. 61
Exhibit 13 - 1997 Annual Report to Shareholders**............... 62
Exhibit 21 - Subsidiaries of the Registrant..................... 63-65
Exhibit 23 - Consent of Independent Public Accountants.......... 66
Exhibit 27 - Financial Data Schedule***
Exhibit 99 - Consent of Independent Public Accountants.......... 67
(b) Reports on Form 8-K.................................................. 56
SIGNATURES ................................................................................ 57
Note: Individual financial statements of the parent Company are omitted
pursuant to the provisions of Accounting Series Release No. 302.
* Incorporated herein by reference.
** Such report is being furnished for the information of the Securities and
Exchange Commission ("SEC") only and is not to be deemed filed as a part of
this annual report on Form 10-K.
*** Included in SEC copy only.
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PART I
ITEMS 1 and 2: BUSINESS and PROPERTIES
As used in this report "the Company," "K N" and "K N Energy" refer to K N
Energy, Inc., together with its consolidated subsidiaries (excluding MidCon),
unless the context otherwise requires. "MidCon" refers to MidCon Corp., together
with its consolidated subsidiaries, unless the context otherwise requires. All
volumes of natural gas referred to herein are stated at a pressure base of 14.73
pounds per square inch absolute and at 60 degrees Fahrenheit and, in most
instances, are rounded to the nearest major multiple. The term "Mcf" means
thousand cubic feet, the term "MMcf" means million cubic feet, the term "Bcf"
means billion cubic feet and the term "Tcf" means trillion cubic feet. The term
"MMBtus" means million British thermal units ("Btus"). "NGLs" refers to natural
gas liquids, which consist of ethane, propane, butane, iso-butane and natural
gasoline. The term "Bbls" means barrels.
(A) General Description
K N Energy is an integrated energy services provider whose operations include
the gathering, processing, transportation and storage of natural gas, and the
marketing of natural gas and NGLs. As of December 31, 1997, the Company operated
over 12,300 miles of interstate and intrastate pipelines and over 8,800 miles of
gathering and processing pipeline that connect major supply areas with major
consuming areas in the Western and Mid-Continent United States. The Company also
owned or operated at such date 19 natural gas processing plants with total
processing capacity of approximately 1.7 Bcf per day, including the Bushton
complex in the Hugoton Basin, one of the largest natural gas extraction
facilities in the United States, and 7 storage facilities with 827 MMcf per day
of withdrawal capacity. As of December 31, 1997, the Company's regulated retail
natural gas business served over 210,000 customers in Colorado, Nebraska and
Wyoming (excluding customers served by the Company's Kansas natural gas
distribution assets which are the subject of a definitive sale agreement,
expected to be closed in the first half of 1998). The Company also markets
innovative products and services, such as the Simple Choicesm ("Simple Choice")
menu of products and call center services designed for residential consumers,
utilities and small businesses through its 50% owned ENOable, LLC ("ENOable")
affiliate.
The Company's executive offices are located at 370 Van Gordon Street, P.O. Box
281304, Lakewood, Colorado 80228-8304 and its telephone number is (303)
989-1740. K N was incorporated in the State of Kansas on May 18, 1927. The
Company employed 2,134 people at December 31, 1997.
On January 30, 1998, pursuant to a definitive stock purchase agreement (the
"Agreement"), K N Energy paid approximately $2.1 billion in cash and issued a
note in an aggregate principal amount of approximately $1.39 billion (the
"Substitute Note") to Occidental Petroleum Corporation ("Occidental") to acquire
the outstanding shares of capital stock of MidCon (the "MidCon Shares") and a
note in a like aggregate principal amount (the "ESOP Note") issued to Occidental
by MidCon's employee stock ownership plan (the "Acquisition"). As a result of
the Acquisition, MidCon became a wholly owned subsidiary of K N Energy. In
connection with the planned termination of MidCon's employee stock ownership
plan following the Acquisition, the ESOP Note was cancelled. The Substitute Note
is required to be paid in full on January 4, 1999 and bears interest at 5.798%.
The Company is required to collateralize the Substitute Note plus an amount
equal to 105 days of accrued interest with U.S. government securities or one or
more letters of credit, or a combination thereof. Such amounts were initially
collateralized with letters of credit which the Company intends to replace with
U.S. government securities purchased utilizing all or a portion of the proceeds
of certain future securities offerings, see Capital Resources.
The Agreement contains representations and warranties of each of Occidental and
the Company, which survive the closing for one year (except as to certain tax
matters, which survive for two years), and customary
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covenants. In connection with its acquisition of the MidCon Shares, the Company
became obligated with respect to MidCon's liabilities, including, without
limitation, liabilities with respect to environmental matters, liabilities under
MidCon's benefit plans for active and retired employees and the obligations of
Occidental's insurance subsidiary with respect to insurance policies previously
issued to MidCon. Each party has agreed to indemnify the other party for certain
losses or liabilities incurred as a result of a breach of representation or
warranty or covenant and, in the case of Occidental, to indemnify the Company
for certain losses or liabilities arising out of MidCon's employee stock
ownership plan.
As a result of various regulatory requirements, prior to the consummation of the
Acquisition, MidCon dividended all of the issued and outstanding capital stock
of MidCon Power Services Corp. ("MidCon Power"), a wholly owned subsidiary of
MidCon, to Occidental. K N and Occidental have entered into a separate stock
transfer agreement for the acquisition of all the issued and outstanding capital
stock of MidCon Power by K N. The acquisition of the MidCon Power capital stock
by K N was contingent on the Federal Energy Regulatory Commission ("FERC")
approving the transaction, which approved was received on March 2, 1998. The
closing of the MidCon Power acquisition is expected to occur by mid-March 1998.
MidCon is engaged in the purchase, gathering, processing, transmission, storage
and sale of natural gas to utilities, municipalities and industrial and
commercial users. MidCon operates over 14,000 miles of natural gas pipelines
which are located in the center of the North American pipeline grid. These
pipeline assets include two major interconnected transmission pipelines
terminating in the Chicago area: one originating in West Texas and the other in
the Gulf Coast areas of Texas and Louisiana, as well as a major intrastate
pipeline located in Texas. MidCon also purchases electricity from electric
utilities and other electric power producers and marketers and resells the
electricity to wholesale and end-use customers.
(B) Narrative Description of Business
Overview
K N Energy is an integrated energy services provider with operations that
include the gathering, processing, transportation and storage of natural gas and
the marketing of natural gas and NGLs. The Company's operations currently are
organized into three segments: (i) gathering, processing and marketing services
(including intrastate transmission and storage in Texas), (ii) interstate
transportation and storage, and (iii) retail natural gas services, although the
Company currently expects that its future reporting of business unit results may
change as a result of the implementation of statement of Financial Accounting
Standards No. 131, "Disclosures about Segments of an Enterprise and Related
Information". As discussed below, certain of the Company's operations are
regulated by various federal and state entities. For the year ended December 31,
1997, approximately 48% of the Company's operating income was derived from
regulated assets, although such percentage has increased as a result of the
acquisition of MidCon as described preceding.
(1) Gathering, Processing, and Marketing Services
The Company provides natural gas gathering, processing, storage, transportation,
marketing, field services and supply services, to a variety of customers. Within
this business segment, the Company owns and operates approximately 12,900 miles
of pipeline in nine states and operates 19 gas processing plants in five states
and natural gas storage facilities in West Texas and on the Gulf Coast. For the
year ended December 31, 1997, this business segment accounted for approximately
52% of consolidated operating income.
Revenues from the Company's gathering, processing, storage, transportation,
marketing and supply activities are generated in four different ways. First, the
Company performs a merchant function whereby the Company
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purchases gas at the wellhead, combines such gas with other supplies of gas, and
markets the aggregated gas to consumers. Second, the Company gathers, transports
and/or processes gas for producers or other third parties who retain title to
the gas. Third, the Company processes gas into NGLs and markets NGLs. Fourth,
the Company provides gas marketing and supply services, including certain
storage services, to producers, various natural gas resellers and end users. The
Company also arranges the purchase and transportation of producers' excess or
uncommitted gas to end users, acts as shipper or agent for the end users,
administers nominations and provides balancing assistance when needed.
In conjunction with its merchant function, the Company engages in price risk
management activities in the energy financial instruments market to hedge its
price and basis risk exposure. The Company buys and sells gas and crude oil
futures positions on the New York Mercantile Exchange and Kansas City Board of
Trade and uses over-the-counter energy swaps and options for the purpose of
reducing adverse price exposure to gas supply costs or specific market margins.
Pursuant to guidelines approved by its Board of Directors, the Company engages
in these activities only as a hedging mechanism against price volatility
associated with pre-existing or anticipated physical gas and condensate sales,
gas purchases, system use and storage in order to protect profit margins, and is
prohibited from engaging in speculative trading.
Gas Gathering and Processing
The Company's gathering and processing subsidiaries operate pipeline systems in
seven Mid-Continent and Rocky Mountains states. These subsidiaries perform
various services for customers including, among others, gathering gas at the
wellhead or other field aggregation points, transporting gas on an intrastate
basis at negotiated rates, processing gas to extract NGLs, and marketing natural
gas and NGLs. Based on average throughput, the Company's largest gathering
operation is its Hugoton Basin system in Kansas which gathers approximately 530
MMcf per day, making K N the largest gatherer in this basin. The Hugoton Basin
system interconnects with several gas processing plants in the area including
K N's Bushton plant. The Company's Wattenberg System in northeastern Colorado,
which includes gathering and transmission lines, has current throughput of
approximately 150 MMcf per day. K N's West Texas System is located primarily in
western Texas and the Texas Panhandle. This system, which includes gathering,
intrastate transmission and storage pipelines, six gas processing plants, and
one storage facility, has gathering throughput of approximately 140 MMcf per
day. The Company also owns gathering facilities in the Powder River and Wind
River Basins of Wyoming and the Piceance and Uinta Basins of western Colorado
and eastern Utah with combined throughput of approximately 130 MMcf per day.
In addition to the above systems, K N recently acquired two gathering systems in
the Rocky Mountains which gather in aggregate approximately 460 MMcf per day. In
December 1997, K N purchased an equity interest in the Red Cedar Gathering
System in the San Juan Basin of New Mexico. The Red Cedar system gathers
approximately 440 MMcf per day of natural gas and is connected to the Company's
jointly owned Coyote Gulch processing plant and to the TransColorado pipeline.
Also in December 1997, K N acquired Interenergy Corporation, a closely held
provider of natural gas services in the Rocky Mountain area. The Interenergy
assets include pipelines which gather approximately 20 MMcf per day, a gas
processing plant in Wyoming and an interest in a gas processing plant in North
Dakota.
In 1996, Wildhorse Energy Partners, LLC ("Wildhorse"), a joint venture between
K N and Tom Brown, Inc. ("TBI"), purchased gathering and processing assets of
Williams Field Services in western Colorado and eastern Utah. The acquisition of
these assets provided Wildhorse access to existing TBI production, to
approximately 240,000 acres of undeveloped leaseholds held by TBI in the
Piceance Basin and to undeveloped third-party acreage throughout the Piceance
and Uinta basins. The assets acquired included approximately 950 miles of
natural gas gathering lines, two processing plants, a carbon dioxide treatment
plant and a dew point control
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plant. During the year ended December 31, 1997, these facilities processed and
treated approximately 70 MMcf of natural gas per day.
At December 31, 1997, the Company's gathering, processing and marketing segment
operated 19 natural gas processing plants, including the Bushton complex, one of
the largest NGLs extraction facilities in the United States. On a daily basis,
these plants process approximately 1.4 Bcf of natural gas (and have capacity to
process 1.7 Bcf of natural gas per day) and produce approximately 2.4 million
gallons] of NGLs. NGLs are sold by the Company on a contractual basis to various
NGL pipelines, end users and marketers at index-based prices.
Marketing
In 1997, the Company's natural gas marketing customers included local
distribution companies, industrial, commercial and agricultural end users,
electric utilities, Company affiliates, and other marketers located both on and
off K N's pipeline systems. Natural gas is purchased by K N's gathering,
processing and marketing business from various sources, including gas producers,
gas processing plants and pipeline interconnections. For the year ended December
31, 1997, the Company's gathering, processing and marketing operations sold an
average of approximately 1.6 Bcf of natural gas per day before intersegment
eliminations.
As is customary in the industry, most of the Company's gas purchase agreements
are for periods of one year or less, and many are for periods of 60 days or
less. Various agreements permit the purchaser or the supplier to renegotiate the
purchase price or discontinue the purchase under certain circumstances. Purchase
volume obligations under many of the agreements utilized by this business
segment are generally "best efforts" and do not have traditional take-or-pay
provisions. However, certain agreements require the Company to prepay for, or to
receive, minimum quantities of natural gas.
The Company owns a storage facility located in Gaines County, Texas, which had a
working storage capacity of 16.4 Bcf of natural gas at December 31, 1997 and
withdrawal capacity of 525 MMcf per day. This facility has traditionally been
used to meet peak day requirements of the West Texas system. K N also has lease
rights in the Stratton Ridge facility located in Brazoria County, Texas,
including a peak day natural gas withdrawal capacity of 150 MMcf per day at
December 31, 1997.
K N Field Services
K N Field Services, Inc. ("KNFS") provides field operations services to gas and
oil industry customers who own production, gathering, processing and
transportation assets. To the extent possible, KNFS uses the existing
infrastructure and labor force employed in the Company's own systems to serve
its clients. Among the services KNFS provides are well tending, site services,
corrosion monitoring, compression operations and maintenance, safety training,
gathering and pipeline operations and maintenance, measurement, pressure and
flow monitoring, water hauling and line locating.
(2) Interstate Transportation and Storage Services
The Company's interstate pipeline system provides transportation and storage
services to affiliates, third-party natural gas distribution utilities, and
other shippers. For the year ended December 31, 1997, this business segment
accounted for approximately 25% of consolidated operating income. As of December
31, 1997, the Company's interstate pipeline system consisted of approximately
6,900 miles of transmission lines and one storage field.
The Company provides both firm and interruptible transportation and no-notice
services to its customers. Under no-notice service, customers are able to meet
their peak day requirements without making specific nominations
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as required by firm and interruptible transportation service tariffs. The local
distribution companies and other shippers may release their unused firm
transportation capacity rights to other shippers. It is the Company's experience
that this released capacity has, to a large extent, replaced interruptible
transportation on the Company's interstate pipeline system. Firm transportation
customers pay a monthly reservation charge plus a commodity charge based on
actual volumes transported. Interruptible transportation is billed on the basis
of volumes shipped.
In 1996, K N purchased a crude oil pipeline (renamed the Pony Express Pipeline)
running from Lost Cabin in central Wyoming to Freeman, Missouri near Kansas
City, and converted it to natural gas transport service. The line became
operational in August 1997 and, under its current configuration, has a maximum
capacity of 255 MMcf per day. The Pony Express Pipeline provides access to
significant natural gas reserves principally from the Denver-Julesburg, Wind
River and Powder River Basins and is a catalyst for the development of the
market hub at Rockport, Colorado. As a complement to this pipeline, in November
1996 the Company acquired one 20-year contract and one 19-year contract to
provide firm transportation capacity of 230 MMcf of natural gas per day to the
Kansas City metropolitan area. This project reflects the Company's ongoing
strategy to balance regulated pipeline projects with the corresponding potential
for greater returns from other nonregulated business segments.
The Company is a one-half joint venture partner in the TransColorado Gas
Transmission Company ("TransColorado"). TransColorado's pipeline is expected to
provide increased flexibility in accessing multiple natural gas basins in the
Rocky Mountain region. Though only a portion of the pipeline is currently
operational, when completed, the TransColorado Pipeline will extend 290 miles,
from the Piceance Basin of Colorado to Blanco, New Mexico, and will have an
initial capacity of 300 MMcf per day. The TransColorado Pipeline will operate as
an interstate pipeline regulated by the FERC.
The Company's interstate pipeline system provides storage services to its
customers through its Huntsman Storage Field in Cheyenne County, Nebraska. The
facility had a peak natural gas withdrawal capacity of 100 MMcf per day at
December 31, 1997.
(3) Retail Natural Gas Services
The Company provides retail natural gas services to residential, commercial,
agricultural and industrial customers for space heating, crop irrigation,
drying, and processing of agricultural products. The Company's en*able joint
venture also has a 24-hour Customer Service Center in Scottsbluff, Nebraska,
which centralizes customer service calls, service start-up and billing calls,
service dispatch and remittance operations for the three-state region. For the
year ended December 31, 1997, this business segment accounted for approximately
23% of consolidated operating income.
Regulated Retail Services
The Company's retail natural gas business operated approximately 1,500 miles of
intrastate natural gas transmission, gathering and storage facilities as of
December 31, 1997. These intrastate pipeline systems serve industrial customers
and much of the Company's retail natural gas business in Colorado and Wyoming.
As of December 31, 1997, the Company's retail natural gas business served over
210,000 customers in Colorado, Nebraska and Wyoming through approximately 7,200
miles of distribution pipelines (excluding the Company's Kansas natural gas
distribution assets which the Company entered into an agreement to sell in
December 1997, and which sale is expected to be consummated in the first half of
1998, following receipt of regulatory approval).
The Company's underground storage facilities are used to provide natural gas for
load balancing and peak system demand. Storage services for the Company's retail
natural gas services segment are provided by three facilities
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owned in Wyoming, one facility in Colorado owned and operated by Wildhorse and a
storage facility located in Nebraska and owned by the Company's interstate
pipeline system. The peak day natural gas withdrawal capacity available for this
segment at December 31, 1997 was 103 MMcf per day.
The Company's retail operations in Nebraska, Wyoming and northeastern Colorado
serve areas that are primarily rural and agriculturally based. In much of
Nebraska, the winter heating load is balanced by irrigation requirements in
summer months and grain drying in the fall. The economy in the western Colorado
service territory continues to grow as a result of growth in mountain resort
communities and development of retirement communities.
Gas Purchases and Supply
The Company's retail natural gas business relies on the Company's interstate
pipeline system, the intrastate pipeline systems it operates, and third-party
pipelines for transportation and storage services required to serve its markets.
Its gas supply requirements are being met through a combination of purchases
from wholly owned marketing subsidiaries and third-party suppliers.
The gas supply for the retail natural gas business segment comes primarily from
basins in Kansas, Montana, Wyoming, Colorado, New Mexico and western Nebraska
which include under-developed basins that represent significant proved reserves.
The Company's gas supplies are strategically located with respect to existing
and planned pipeline capacity, giving the Company access to gas for its retail
customer base.
Certain gas purchase contracts contain take-or-pay clauses which require that a
certain purchase level be attained each contract year, or the Company must make
a payment which is generally equal to the contract price multiplied by the
deficient volume. All such payments are fully recoupable under the terms of the
gas purchase contracts and the existing regulatory rules. To date, no buy-out or
buy-down payments relating to take-or-pay contracts have been made by this
business segment. See "--Gathering, Processing and Marketing
Services--Marketing."
Unregulated Retail Services
In September 1996, the Company, through its subsidiary K N Services, Inc.
("KNS"), began marketing its Simple Choice package of products and services. In
addition to natural gas service, under Simple Choice, customers can order
satellite TV, appliance protection, long-distance telephone service, wireless
Internet access and other products and services with one call, paid for with one
monthly payment and backed by one service guarantee. Simple Choice was launched
in Scottsbluff, Nebraska, where the Company also opened its first Simple Choice
General Store.
In early 1997, K N and PacifiCorp jointly formed en*able to market the Simple
Choice brand to K N's approximately 200,000 and PacifiCorp's approximately 1.5
million customers as well as to other utilities. en*able is engaged in efforts
to create Simple Choice partnerships and licensing agreements with other
utilities. An integral part of the Simple Choice package is outsourced billing
and customer service for third-party utilities. To enhance this capability,
early in 1997 KNS and PacifiCorp's subsidiary, PacifiCorp Holdings, Inc.,
acquired OrCom Systems, Inc., the software development company that designed the
billing system which supports the Simple Choice brand of products and services.
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(4) General
(a) Federal and State Regulation
Gathering, Processing and Marketing Services
Under the Natural Gas Act, facilities used for and operations involving the
production and gathering of natural gas are exempt from FERC's jurisdiction,
while facilities used for and operations involving interstate transmission are
not exempt. However, the FERC's determination of what constitutes exempt
gathering facilities as opposed to jurisdictional transmission facilities has
evolved over time. Under current law, facilities which otherwise are classified
as gathering may be subject to ancillary FERC rate and service jurisdiction when
owned by an interstate pipeline company and used in connection with interstate
transportation or jurisdictional sales.
The FERC has historically distinguished between facilities owned by
noninterstate pipeline companies, such as the Company's gathering facilities, on
a fact-specific basis.
The issue of state jurisdiction over gathering activities has previously been
raised before the Colorado Public Utilities Commission, Kansas Corporation
Commission, New Mexico Public Service Commission, Texas Railroad Commission and
Wyoming Public Service Commission, as well as before state legislative bodies.
The Company is closely monitoring developments in this area.
As part of its corporate reorganization, the Company requested, was granted
authority and in 1994 transferred substantially all of its gathering facilities
to a wholly owned subsidiary. The FERC determined that after the transfer the
gathering facilities would be nonjurisdictional, but the FERC reserved the right
to reassert jurisdiction if the Company was found to be operating the facilities
in an anti-competitive manner or contrary to open access principles.
The operations of the Company's intrastate pipeline and marketing subsidiaries
located primarily in Texas are affected by FERC rules and regulations issued
pursuant to the Natural Gas Act and the Natural Gas Policy Act. Of particular
importance are regulations which allow increased access to interstate
transportation services, without the necessity of obtaining prior FERC
authorization for each transaction. The most important element of the program is
nondiscriminatory access, under which a regulated pipeline must agree, under
certain conditions, to transport gas for any party requesting such service.
The interstate gas marketing activities of the Company's various marketing and
pipeline subsidiaries are conducted either as unregulated first sales or
pursuant to blanket certificate authority granted by the FERC under the Natural
Gas Act.
Certain of the Company's intrastate pipeline services and assets are subject to
regulation by the Texas Railroad Commission.
Interstate Transportation and Storage Services
Facilities for the transportation of natural gas in interstate commerce and for
storage services in interstate commerce are subject to regulation by the FERC
under the Natural Gas Act and the Natural Gas Policy Act. The acquisition of
MidCon's interstate natural gas pipeline system results in a significant
increase in the percentage of the Company's assets subject to regulation by the
FERC. The Company is also subject to the requirements of FERC Order Nos. 497, et
seq. and 566, et. seq., the Marketing Affiliate Rules, which prohibit
preferential treatment by an interstate pipeline of its marketing affiliates and
govern in particular the provision of information by an interstate pipeline to
its marketing affiliates.
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In January 1998, the Company's subsidiary, K N Interstate Gas Transmission Co.
("KNI") filed a rate case requesting an increase in its rates which would result
in additional annual revenues of $30.2 million. The FERC, by an order dated
February 26, 1998, accepted the filing and suspended its effective date for the
full five-month period permitted by the Natural Gas Act thus permitting the
rates to go into effect subject to refund August 1, 1998. Various parties
intervened in the proceedings. There will be additional proceedings before the
FERC to resolve differences.
Retail Natural Gas Services
Certain of the Company's intrastate pipelines, storage, distribution and/or
retail sales in Colorado, Kansas, Texas and Wyoming are under the regulatory
authority of each state's utility commission. In Nebraska, retail gas sales
rates for residential and small commercial customers within a municipality are
regulated by each municipality served.
In certain of the incorporated communities in which the Company provides natural
gas services at retail, the Company operates under franchises granted by the
applicable municipal authorities. The duration of franchises varies. In
unincorporated areas, the Company's natural gas utility services are not subject
to municipal franchise. The Company has been issued various certificates of
public convenience and necessity by the regulatory commissions in Colorado,
Kansas and Wyoming authorizing it to provide natural gas utility services within
certain incorporated and unincorporated areas of those states.
Continuing regulatory change will provide energy consumers with increasing
choices among their suppliers. The Company emerged as a leader in providing for
customer choice by filing an application with the Wyoming Public Service
Commission in 1995 to allow 10,500 residential and commercial customers to
choose to purchase the gas from a qualified list of suppliers. The proposal
provided that the Company would continue to provide all other utility services.
In early 1996, the Wyoming Public Service Commission issued an order allowing
the Company to bring competition to these 10,500 residential and commercial
customers beginning in mid 1996. Choosing from a menu of three competing
suppliers, approximately 80% of the Company's customers chose to remain with the
Company. The experience gave the Company early and valuable experience in
competing in an unbundled environment and led to the development of new products
and services that add value to the natural gas commodity. The innovative program
was one of the first in the nation that allowed essentially all customers the
opportunity to exercise energy choice for natural gas. Similarly, the Company
has made voluntary filings with municipal authorities in Nebraska to provide its
retail customers with an opportunity to purchase gas from competing suppliers on
an unregulated basis. The Company will continue to provide all other gas utility
services. If municipal approvals are received, the program will be implemented
in 1998.
(b) Environmental Regulation
The Company's operations and properties are subject to extensive and evolving
Federal, state and local laws and regulations governing the release or discharge
of regulated materials into the environment or otherwise relating to
environmental protection. Numerous governmental departments issue rules and
regulations to implement and enforce such laws which are often difficult and
costly to comply with and which carry substantial penalties for failure to
comply. Moreover, the Company believes recent trends toward stricter standards
in environmental legislation and regulation are likely to continue.
The United States Oil Pollution Act of 1990 and regulations promulgated
thereunder by the Minerals Management Service impose a variety of requirements
on persons who are or may be responsible for oil spills in waters of the United
States. The term "waters of the United States" has been broadly defined to
include inland waterbodies, such as wetlands, playa lakes and intermittent
streams. The Company has a limited number of facilities that could affect
"waters of the United States." The Federal Water Pollution Control Act, also
known as the Clean Water Act, and
10
11
regulations promulgated thereunder, require containment of potential discharges
of oil or hazardous substances and preparation of oil spill contingency plans.
The Company has implemented programs that address containment of potential
discharges and spill contingency planning. The failure to comply with ongoing
environmental regulatory requirements or inadequate cooperation during a spill
event may subject a responsible party to civil or criminal enforcement actions.
The Comprehensive Environmental Response, Compensation and Liability Act, as
amended ("Superfund"), imposes liability on certain classes of persons who are
considered to have contributed to the release of a "hazardous substance" into
the environment without regard to fault or the legality of the original conduct.
Under Superfund, such persons may be subject to joint and several liability for
the costs of cleaning up the hazardous substances that have been released into
the environment and for damages to natural resources. Furthermore, neighboring
landowners and other third parties have the right to file claims for personal
injury and property damage allegedly caused by the hazardous substances released
into the environment.
Federal and state regulations implementing the 1990 Amendments to the Clean Air
Act affect the Company's operations in several ways. Natural gas compressors for
both gathering and transmission activity are now required to meet stricter air
emission standards. Additionally, states in which the Company operates are
adopting regulations under the authority of the "Operating Permit Program" under
Title V of these 1990 Amendments. This Operating Permit Program requires
operators of certain facilities to obtain individual site-specific air permits
containing stricter operational and technological standards of operation in
order to achieve compliance with this section of the 1990 Clean Air Act
Amendments and associated state air regulations.
The Toxic Substances Control Act, as amended ("TSCA"), imposes certain
operational and technical standards on persons who manufacture, process,
distribute, use or dispose of TSCA-related substances, including such things as
polychlorinated biphenyls ("PCBs"), asbestos, and lead-based paints. The Company
has facilities which contain such TSCA-related substances.
In connection with the Acquisition of MidCon, Occidental indemnified the Company
against certain liabilities, including litigation and the failure of MidCon to
be in compliance with applicable laws, in each case which would have a material
adverse effect on MidCon, for one year following the closing date. To the extent
that an environmental liability of MidCon is not covered by Occidental's
indemnity obligation or, to the extent that matters arise following the
termination of Occidental's indemnification obligation, the Company will be
responsible for MidCon's environmental liabilities. The Company does not expect
that such costs will have a material adverse impact on its business, financial
position or results of operations.
Based on current information and taking into account reserves established for
environmental matters, the Company does not believe that compliance with
Federal, state and local environmental laws and regulations will have a material
adverse effect on the Company's business, financial position or results of
operations. In addition, the clean-up programs in which the Company is engaged
are not expected to interrupt or diminish the Company's operational ability to
gather or transport natural gas. However, there can be no assurances that future
events, such as changes in existing laws, the promulgation of new laws, or the
development of new facts or conditions will not cause the Company to incur
significant costs.
(c) Safety Regulation
The operations of certain of the Company's gas pipelines are subject to
regulation by the United States Department of Transportation (the "DOT") under
the Natural Gas Pipeline Safety Act of 1968, as amended (the "NGPSA"). The NGPSA
establishes safety standards with respect to the design, installation, testing,
construction, operation and management of natural gas pipelines, and requires
entities that own or operate pipeline facilities to comply with the applicable
safety standards, to establish and maintain inspection and maintenance plans,
and to comply with such plans.
11
12
The NGPSA was amended by the Pipeline Safety Act of 1992 to require the DOT's
Office of Pipeline Safety to consider, among other things, protection of the
environment when developing minimum pipeline safety regulations. Management
believes the Company's operations, to the extent they may be subject to the
NGPSA, comply in all material respects with the NGPSA.
The Company is also subject to state and federal laws and regulations concerning
occupational health and safety.
(d) Other
Amounts spent by the Company during 1997, 1996 and 1995 on research and
development activities were not material.
(C) Financial Information About Foreign and Domestic Operations and Export
Sales
Substantially all of the Company's operations are in the contiguous 48 states.
ITEM 3: LEGAL PROCEEDINGS
The Company was named as one of four potentially responsible parties ("PRPs") at
a U.S. Environmental Protection Agency ("EPA") Superfund site known as the
Mystery Bridge Road/U.S. Highway 20 site located near Casper, Wyoming (the
"Brookhurst Subdivision") in 1989. A majority of the Company's groundwater, soil
and free phase petroleum cleanup occurred between 1990 and 1996. Groundwater
remediation standards were recently achieved at the Company's operable unit, and
the EPA has allowed the Company to go into a post-remedial action monitoring
phase. The total remaining estimated cost is not expected to exceed $150,000.
(United States of America v. Dow Chemical Company, Dowell Schlumberger, Inc.,
and K N Energy, Inc., Civil Action No. 91CV1042, United States District Court
for the District of Wyoming; formerly reported as Administrative Orders for
Removal Action on Consent, October 15, 1987, and Amendment to Administrative
Order for Removal Order on Consent, October 10, 1989, Docket No. CERCLA
VII-88-01, United States Environmental Protection Agency; Judicial Entry of
Consent Decree, United States v. Dow Chemical Company, et al. (D. Wyo)
USDC-WY-91CV1042B, Superfund Site Number 8T83, Natrona County, Wyoming; EPA
Docket Number CERCLA-VIII).
In 1994, a mercury sampling program was initiated on the Company's systems in
central and western portions of Kansas. The Company is working with the Kansas
Department of Health and Environment pursuant to a voluntary agreement. The
assessment program is being completed, and the Company in 1998 will commence a
phased remediation program for those sites where concentrations are above
regulatory thresholds, at an expected cost of $200,000 in 1998. The program will
take place over a period of years, and the costs are not expected to have a
material adverse impact on the Company's business, financial position or results
of operations.
The Company performed environmental audits in Colorado, Kansas and Nebraska,
which revealed that certain grease and lubricating oils used at various pipeline
and facilities locations contained PCBs. The Company is working with the
appropriate regulatory agencies to manage the cleanup and remediation of the
pipelines and facilities. The Company filed suit against Rockwell International
Corporation ("Rockwell"), manufacturer of the PCB-containing grease used in
certain of the Company's pipelines and facilities, and two other related
defendants for expenses and losses incurred by the Company for cleanup or
mitigation. The Company settled with Rockwell in March 1994. (K N Energy, Inc.
and Rocky Mountain Natural Gas Company v. Rockwell International Corp et al.,
United States District Court for the District of Colorado, Case No. 93-711). To
date since 1991, the Company has incurred approximately $500,000 in costs
associated with the remediation and management of this issue, including
preparation and implementation of a workplan. In 1998, the Company may spend up
to approximately $470,000. A substantial portion of these costs are recoverable
under the settlement entered into with Rockwell. The total potential remediation
and cleanup costs at
12
13
currently identified locations is not expected to have a material adverse impact
on the Company's financial position or results of operations. The cleanup
programs are not expected to interrupt or diminish the Company's operational
ability to gather or transport natural gas.
Pursuant to certain acquisition agreements involving Cabot Corporation
("Cabot"), the Company's largest stockholder, Cabot indemnified the Company for
certain environmental liabilities. Issues have arisen concerning Cabot's
indemnification obligations. The Company and Cabot have agreed to enter into
binding arbitration to resolve all issues in dispute. The Company is unable to
estimate its potential exposure for such liabilities at this time, but does not
expect them to have a material adverse impact on the Company's financial
position or results of operations.
The Company acquired certain gathering and processing assets from Parker &
Parsley Gas Processing Co. and its affiliates in October 1995. In connection
with that acquisition, and for a reduction in the purchase price that included
the estimated costs of remediation of $3.9 million, the Company agreed to accept
all responsibility and liability for environmental matters associated with such
properties. Also, in March 1997, the Company acquired the Bushton processing
complex and Hugoton Basin gathering assets from Enron Corporation and certain of
its affiliates. In connection with that acquisition, the Company established
reserves to fund previously-identified environmental/operational issues; the
Company will also be reimbursed on a shared basis for costs and expenses
associated with any environmental deficiencies identified at the facility in the
next five years up to a maximum of $10 million, although the Company does not
anticipate costs will reach that amount. After consideration of reserves
established and the agreements entered into in connection with these various
acquisitions, costs and expenses related to environmental matters are not
expected to have a material adverse effect on the business, financial position
or results of operations of the Company.
In May 1997, the Nebraska Department of Environmental Quality ("NDEQ") issued a
violation notice to KNI regarding historical Prevention of Significant
Deterioration permitting issues related to certain engines at the Big Springs,
Nebraska, facility. KNI is in the process of obtaining the proper permits at
this time, and is also engaged in discussions with NDEQ regarding settlement of
the violation notice and a $500,000 fine currently proposed by the NDEQ. The
costs associated with this matter are not expected to have a material adverse
effect on the Company's business, financial position or results of operations.
On October 9, 1992, Jack J. Grynberg filed suit in the United States District
Court for the District of Colorado against the Company, Rocky Mountain Natural
Gas Company ("RMNG') and GASCO, Inc. (the "K N Entities") alleging that the KN
Entities as well as K N Production Company and K N Gas Gathering, Inc., have
violated federal and state antitrust laws. In essence, Grynberg asserts that the
defendant companies have engaged in an illegal exercise of monopoly power, have
illegally denied him economically feasible access to essential facilities to
transport and distribute gas produced from fewer than 20 wells located in
northwest Colorado, and have illegally attempted to monopolize or to enhance or
maintain an existing monopoly. Grynberg also asserts certain causes of action
relating to a gas purchase contract. The Company's potential liability for
monetary damages and the amount of such damages, if any, are subject to dispute
between the parties; however, the Company believes it has a meritorious position
in these matters and does not expect this lawsuit to have a material adverse
effect on the Company's financial position or results of operations. In July
1996, the U. S. District Court, District of Colorado lifted its stay and allowed
discovery for a period of time. Currently, this case is still pending. Discovery
is now complete, but no trial date has yet been set. (Grynberg v. K N, et al.,
Civil Action No. 92-2000, United States District Court for the District of
Colorado).
On July 26, 1996, K N and RMNG along with over 70 other natural gas pipeline
companies, were served by Jack J. Grynberg, acting on behalf of the Government
of the United States, with a Civil False Claims Act lawsuit alleging
mismeasurement of the heating content and volume of natural gas resulting in
underpayment of royalties to the federal government. The government,
particularly officials from the Departments of Justice and Interior, reviewed
the complaint and the evidence presented by Mr. Grynberg and declined to
intervene in the action, allowing Mr. Grynberg to proceed on his own. No
specific claims were made against K N or RMNG, and no specific monetary damages
were
13
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claimed. K N and the other named companies filed a motion to dismiss the
lawsuit on grounds of improper joinder and lack of jurisdiction. The motion to
dismiss was granted in 1997, and K N is no longer required to respond to this
action. However, the court did give Mr. Grynberg leave to refile and pursue this
action in a court with proper jurisdiction. The Company believes it has a
meritorious position in this matter, and does not expect this lawsuit to have a
material adverse effect on the Company's financial position or results of
operations. (United States of America ex rel. Jack J. Grynberg v. Alaska
Pipeline Company, et al., Civil Action No. 95-725-TF#, United States District
Court for the District of Columbia).
The Company believes it has meritorious defenses to all lawsuits and legal
proceedings in which it is a defendant and will vigorously defend against them.
Based on its evaluation of the above matters, and after consideration of
reserves established, the Company believes that the resolution of such matters
will not have a material adverse effect on the Company's financial position or
results of operations.
14
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EXECUTIVE OFFICERS OF THE REGISTRANT
(A) Identification and Business Experience of Executive Officers
Name Age Position and Business Experience
- ------------------------------------------------- --- ------------------------------------------------------------
Morton C. Aaronson............................... 39 Chief Marketing Officer since April 1996. Vice President
since January 1996. Vice President, MCI/ NewsCorp. Business
Development from May 1995 to January 1996. Vice President,
Market Management, MCI Communications Corporation from
August 1994 to May 1995. Vice President, Large Accounts and
Global Markets, MCI Communications Corporation, from July
1993 to August 1994. Director, Major Accounts Marketing, MCI
Communications Corporation from July 1992 to July 1993.
John N. DiNardo.................................. 50 Vice President and General Manager since April 1996. Vice
President - Gas Gathering and Processing from March 1994 to
April 1996. General Manager, K N Gas Gathering, Inc. and K N
Front Range Gathering Company from May 1993 to March 1994.
Director of Project Development, K N Gas Gathering, Inc.
from August 1991 to May 1993.
Jack W. Ellis II................................. 44 Vice President and Controller since December 1997. Vice
President and Controller, NorAm Energy Co. from December
1989 to August 1997.
William S. Garner, Jr............................ 48 Vice President since April 1997. Vice President and General
Counsel from January 1991 to April 1997 and Secretary from
April 1992 to April 1996.
Larry D. Hall.................................... 55 Chairman of the Board since April 1996. President and Chief
Executive Officer since July 1994. President and Chief
Operating Officer from May 1988 to July 1994. Director since
1984.
S. Wesley Haun................................... 50 Vice President, Strategic Business Development Since April
1997. Vice President since April 1996. Vice President,
Marketing and Supply from May 1993 to April 1996. Vice
President, Gas Supply from March 1990 to May 1993.
E. Wayne Lundhagen............................... 60 Vice President and Treasurer since March 1995. Vice
President, Finance and Accounting from May 1988 to March
1995.
Clyde E. McKenzie................................ 50 Vice President and Chief Financial Officer since April 1996.
Vice President and Treasurer, Apache Corporation from 1988
to 1996.
John L. Pelletier............................... 49 Vice President, Administration since February 1998. Vice
President, Administration of MidCon Corp. from 1992 to
January 1998.
15
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John F. Riordan................................. 62 Vice Chairman of the Board and Director since February 1998.
President and Chief Executive Officer of MidCon Corp. from
1990 to January 1998. Executive Vice President and
Director of Occidental Petroleum Corporation from 1991 to
January 1998.
Murray R. Smith................................. 43 Vice President - Corporate Communications since August 1996.
Senior Vice President, K N Services, Inc. from April to
August 1996. Director of Field Communications, Training and
Sales Programs, MCI Communications Corporation from October
1995 to April 1996. Director of Field Marketing and
Communications, WorldWide Sales, MCI Communications
Corporation from October 1994 to October 1995. Director of
Field Marketing - Business Services, MCI Communications
Corporation from June 1992 to October 1994. Director of
Marketing, Southern Division, MCI Communications Corporation
from November 1990 to June 1992.
H. Rickey Wells................................. 41 Vice President - Business Operations since April 1996. Vice
President, Operations from June 1988 to April 1996.
Martha B. Wyrsch................................ 40 Vice President, General Counsel and Secretary since August
1997. Vice President, Deputy General Counsel and Secretary
from April 1996 to August 1997. Deputy General Counsel from
November 1995 to April 1996. Assistant General Counsel from
June 1995 to November 1995. Senior Counsel from June 1993 to
June 1995.
These officers generally serve until April of each year.
(B) Involvement in Certain Legal Proceedings
None.
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PART II
ITEM 5: MARKET FOR THE REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER MATTERS
The Company's common stock is listed for trading on the New York Stock Exchange
under the symbol KNE. Dividends paid and the price range of the Company's common
stock by quarter for the last two years are provided below.
1997 1996
---- ----
Market Price Data
(Low-High-Close)
Quarter Ended:
March 31 $36.125 - $41.75 - $39.50 $27.00 - $31.75 - $31.125
June 30 $36.875 - $43.125 - $42.125 $30.625 - $34.375 - $33.50
September 30 $39.00 - $47.938 - $45.75 $31.75 - $36.625 - $35.25
December 31 $41.00 - $54.00 - $54.00 $35.00 - $41.25 - $39.25
Dividends
Quarter Ended:
March 31 $0.27 $0.26
June 30 $0.27 $0.26
September 30 $0.27 $0.26
December 31 $0.28 $0.27
Common Stockholders
Year-end 10,090 9,794
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ITEM 6: SELECTED FINANCIAL DATA
FIVE-YEAR REVIEW
K N ENERGY, INC. AND SUBSIDIARIES
Selected Financial Data (In Thousands, Except Per Share Amounts)
1997 1996 1995 1994 1993
---- ---- ---- ---- ----
OPERATING REVENUES:
Gathering, Processing and
Marketing Services $ 1,866,327 $ 1,191,292 $ 854,462 $ 838,474 $ 730,895
Interstate Transportation and
Storage Services 23,757 25,352 22,217 21,044 99,838
Retail Natural Gas Services 255,034 223,838 227,282 220,431 212,905
Gas and Oil Production -- -- 7,437 11,328 5,321
----------- ----------- ----------- ----------- -----------
Total Operating Revenues $ 2,145,118 $ 1,440,482 $ 1,111,398 $ 1,091,277 $ 1,048,959
=========== =========== =========== =========== ===========
OPERATING INCOME $ 142,249 $ 134,801 $ 115,362 $ 54,879 $ 80,874
Other Income and (Deductions) (29,091) (35,085) (33,790) (30,058) (31,406)
----------- ----------- ----------- ----------- -----------
INCOME BEFORE INCOME TAXES 113,158 99,716 81,572 24,821 49,468
Income Taxes 35,661 35,897 29,050 9,500 18,599
----------- ----------- ----------- ----------- -----------
NET INCOME 77,497 63,819 52,522 15,321 30,869
Less - Preferred Stock Dividends 350 398 492 630 853
----------- ----------- ----------- ----------- -----------
EARNINGS AVAILABLE FOR
COMMON STOCK $ 77,147 $ 63,421 $ 52,030 $ 14,691 $ 30,016
=========== =========== =========== =========== ===========
DILUTED EARNINGS PER
COMMON SHARE $ 2.45 $ 2.14 $ 1.83 $ 0.52 $ 1.09
=========== =========== =========== =========== ===========
DIVIDENDS PER COMMON SHARE $ 1.09 $ 1.05 $ 1.01 $ 0.76 $ 0.51
=========== =========== =========== =========== ===========
NUMBER OF SHARES USED IN
COMPUTING DILUTED EARNINGS
PER COMMON SHARE 31,538 29,624 28,360 28,044 27,424
=========== =========== =========== =========== ===========
TOTAL ASSETS $ 2,305,805 $ 1,629,720 $ 1,257,457 $ 1,172,384 $ 1,169,275
=========== =========== =========== =========== ===========
CAPITAL EXPENDITURES $ 311,093 $ 119,987 $ 79,313 $ 70,511 $ 100,780
=========== =========== =========== =========== ===========
ACQUISITIONS $ 153,756 $ 155,909 $ 35,897 $ 31,363 $ 65,172
=========== =========== =========== =========== ===========
CAPITALIZATION:
Common Stockholders' Equity $ 606,132 48% $ 519,794 55% $ 426,760 57% $ 393,686 54% $ 391,462 53%
Preferred Stock 7,000 -- 7,000 1% 7,000 1% 7,000 1% 7,000 1%
Preferred Stock Subject to
Mandatory Redemption -- -- -- -- 572 -- 1,715 -- 2,858 --
Preferred Capital Trust
Securities 100,000 8% -- -- -- -- -- -- -- --
Long-Term Debt 553,816 44% 423,676 44% 315,564 42% 334,644 45% 335,190 46%
----------- --- ----------- --- ----------- --- ----------- --- ----------- ---
Total Capitalization $ 1,266,948 100% $ 950,470 100% $ 749,896 100% $ 737,045 100% $ 736,510 100%
=========== === =========== === =========== === =========== === =========== ===
BOOK VALUE PER COMMON SHARE $ 18.93 $ 17.16 $ 15.19 $ 14.25 $ 14.39
=========== =========== =========== =========== ===========
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ITEM 7: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
On January 30, 1998, K N acquired all the outstanding capital stock of MidCon
Corp. for approximately $2.1 billion in cash and a $1.39 billion short-term
note. See K N - MidCon Combination in the Outlook/Forward-Looking Information
section of this report and Note 2 of Notes to Consolidated Financial Statements.
CONSOLIDATED EARNINGS
Consolidated net income, diluted earnings per common share and return on average
common equity for the three years ended December 31, 1997 were:
1997 1996 1995
---- ---- ----
Net Income (In Millions) $77.5 $63.8 $52.5
Earnings per Common Share $2.45 $2.14 $1.83
Return on Average Common Equity 13.7% 13.4% 12.7%
Net income and diluted earnings per share for 1997 represent increases of 21
percent and 14 percent, respectively, from 1996. This improvement resulted
principally from (1) the earnings contribution of the Bushton assets acquired in
April 1997, (2) the August 1997 startup of the Pony Express Pipeline, (3)
earnings from the Company's equity investments in the TransColorado Pipeline and
the Coyote Gulch Gas Treating Plant, (4) income related to the sale of a 50
percent interest in en*able, and (5) a lower 1997 income tax provision. To
achieve its double-digit earnings growth in 1997, the Company overcame several
challenges, including losses in certain power marketing transactions, lower
natural gas liquids ("NGLs") prices, record low demand for wholesale irrigation
load in the Texas intrastate market area and a delay in reaching full throughput
capacity on the Pony Express Pipeline (which impacted operating results for both
the gathering, processing and marketing, and the interstate pipeline segments).
These negative factors were mitigated by the Company's decision to take
advantage of favorable market conditions to effect certain transactions as
discussed following.
The 17 percent increase in 1996 diluted earnings per share from 1995 was
primarily attributable to business growth on the interstate pipeline and
gathering and processing systems, higher prices for NGLs, expense savings from
the 1995 corporate restructuring, and incremental sales of storage gas.
Operating results for 1996 were adversely impacted by low demand for retail
irrigation sales and transportation services due to abnormally heavy rainfall
during the summer.
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RESULTS OF OPERATIONS
Comparative operating results by business segment, consolidated other income and
(deductions) and income taxes are presented below. Segment operating revenues,
costs and expenses and volumetric data cited below are before intersegment
eliminations; dollar amounts are in millions.
GATHERING, PROCESSING AND MARKETING SERVICES 1997 1996 1995
---- ---- ----
Operating Revenues -
Gas Sales $1,443.9 $ 983.4 $706.8
Natural Gas Liquids Sales 275.9 189.9 117.0
Gathering, Transportation and Other 210.6 83.2 66.7
-------- -------- ------
1,930.4 1,256.5 890.5
-------- -------- ------
Operating Costs and Expenses -
Gas Purchases and Other Costs of Sales 1,691.5 1,050.1 704.3
Operations and Maintenance 115.1 89.1 85.1
Depreciation and Amortization 34.8 31.7 26.5
Taxes, Other Than Income Taxes 14.6 11.1 10.0
-------- -------- ------
1,856.0 1,182.0 825.9
-------- -------- ------
Operating Income $ 74.4 $ 74.5 $ 64.6
======== ======== ======
Systems Throughput (Trillion Btus) -
Gas Sales 573.7 430.1 407.8
Gathering and Transportation 423.0 313.1 306.0
-------- -------- ------
996.7 743.2 713.8
======== ======== ======
Natural Gas Liquids Sales (Million Gallons) -
Company-Owned and Processed 549.7 405.9 375.6
Third-Party Marketed 167.7 63.9 12.5
-------- -------- ------
717.4 469.8 388.1
======== ======== ======
The significant increases in 1997 operating revenues, costs and expenses and
volumetric data largely reflect the acquisition of the Bushton gathering and
processing assets effective April 1, 1997. Other operating revenues and other
costs of sales also reflect a significant increase in 1997 power marketing
activity which, as discussed below, was suspended in the third quarter. The
Bushton acquisition contributed incremental 1997 operating revenues of $114.8
million and operating income of $15.4 million. This segment's 1997 operating
income was level with the prior year's results, as 1997 operations were
adversely impacted by losses from certain power marketing transactions, lower
NGLs prices, reduced wholesale irrigation demand (5.9 trillion Btus below 1996
deliveries due to abundant rainfall in the Texas intrastate market area) and
$1.4 million of expenses incurred to centralize the Company's marketing
activities in Houston.
During 1997, losses of approximately $4.0 million were incurred in connection
with certain power marketing transactions which were not in compliance with the
Company's risk management policies. Subsequently, power marketing activities
were suspended in the third quarter.
Excluding the Bushton facility, average NGLs prices in 1997 were $0.03 per
gallon lower than 1996, creating a negative impact on 1997 operating income of
approximately $7.5 million. Irrigation-related gas marketing and transportation
and storage margins were adversely impacted by approximately $5.4 million due to
the abnormally wet 1997 summer. Additionally, the delay until January 1998 in
reaching full throughput capability on the Pony Express Pipeline limited growth
in gathering and processing volumes at the Company's expanded Douglas plant and
marketing opportunities into the Kansas City area, as upstream business
expansion opportunities off the Pony Express Pipeline were expected to offset
on-going declines in certain producing areas. The cumulative unfavorable
earnings impact of these 1997 events was substantially mitigated by increased
sales of storage gas and the sale of certain non-strategic gas supply, NGLs
marketing and storage-related contracts. These transactions, aggregating $15.9
million of net margin increases over similar transactions in 1996,
20
21
essentially offset the losses and negative market circumstances enumerated
above. The Company currently expects that future margins from storage sales will
be less.
The 15 percent increase in 1996 operating income over 1995 largely resulted from
three factors: (1) growth in volumes (principally due to acquisitions, the
Wildhorse joint venture with Tom Brown, Inc., and sales of storage gas), (2)
higher NGLs prices and (3) expense savings accruing from the 1995 corporate
restructuring. This segment did experience compression of margins during 1996 in
all three of its principal activities (gas sales, NGLs sales and transportation
and gathering services) due to competitive factors and significantly higher gas
costs influenced by colder weather nationwide. Average 1996 NGLs sales prices
exceeded those realized in 1995 by $0.10 per gallon. However, the impact of
higher NGLs prices was partially offset by the effect of higher gas prices on
shrink and fuel payments to producers under "keep whole" processing agreements.
INTERSTATE TRANSPORTATION AND STORAGE SERVICES 1997 1996 1995
---- ---- ----
Operating Revenues -
Transportation and Storage $ 73.8 $ 63.4 $ 58.6
Other 6.0 8.4 5.8
-------- -------- --------
79.8 71.8 64.4
-------- -------- --------
Operating Costs and Expenses -
Gas Purchases and Other Costs of Sales 6.0 7.3 7.7
Operations and Maintenance 26.1 24.3 27.5
Depreciation and Amortization 9.0 8.0 7.8
Taxes, Other Than Income Taxes 3.7 2.8 3.4
-------- -------- --------
44.8 42.4 46.4
-------- -------- --------
Operating Income $ 35.0 $ 29.4 $ 18.0
======== ======== ========
Systems Throughput (Trillion Btus) 177.4 156.8 155.6
======== ======== ========
The Pony Express Pipeline accounted for the majority of the 1997 improvement in
the interstate pipeline's operating income, despite regulatory delays in
commencing the project and operational delays in reaching its design capability.
Additionally, 1997 operating results were positively impacted by increased 1997
gas supply requirements in the Company's retail natural gas services segment
resulting from colder weather and higher irrigation demand. Effective August 31,
1997, the Casper processing plant was transferred to an unregulated subsidiary
included in the gathering, processing and marketing segment. The reduction in
1997 other operating revenues and gas purchases and other costs of sales is
primarily due to this transfer.
21
22
This segment's 1996 results showed substantial improvement over 1995 as
throughput and demand revenues increased due to mid-year 1996 system expansions
in Wyoming. Throughput in 1996 was adversely affected by below normal irrigation
load on the Company's retail segment served by the interstate pipeline. Lower
1996 operations and maintenance and payroll taxes resulted from expense savings
due to the 1995 corporate restructuring.
1997 1996 1995
---- ---- ----
RETAIL NATURAL GAS SERVICES
Operating Revenues -
Gas Sales $ 219.4 $ 190.0 $ 204.0
Transportation and Other 37.4 35.4 28.3
-------- -------- --------
256.8 225.4 232.3
-------- -------- --------
Operating Costs and Expenses -
Gas Purchases and Other Costs of Sales 148.3 115.3 122.4
Operations and Maintenance 57.9 62.3 60.3
Depreciation and Amortization 12.2 11.5 11.0
Taxes, Other Than Income Taxes 5.6 5.4 5.6
-------- -------- --------
224.0 194.5 199.3
-------- -------- --------
Operating Income $ 32.8 $ 30.9 $ 33.0
======== ======== ========
Systems Throughput (Trillion Btus) -
Gas Sales 38.6 34.7 39.0
Transportation 34.9 32.9 27.4
-------- -------- --------
73.5 67.6 66.4
======== ======== ========
Operating income in 1997 as compared to 1996 was positively affected by
increased demand for space-heating and irrigation due to colder weather and less
rainfall during the summer. Although approximately 13 percent below a normal
year, irrigation deliveries of 10.9 trillion Btus in 1997 exceeded 1996
requirements by 1.4 trillion Btus. The impact of 1997 company-wide expense
controls on operations and maintenance costs is most apparent in this segment,
as this segment has not experienced significant acquisitions or expansion
projects this year.
Operating results for 1996 were adversely impacted by low demand for irrigation
requirements due to abnormally heavy rainfall during the summer. Irrigation
sales and transportation volumes in 1996 were 3.8 trillion Btus below the 1995
season. Deliveries to irrigators of 12.6 trillion Btus in 1995 were more
indicative of a normal year's load. This negative impact on 1996 earnings was
partially mitigated by increased customer requirements for grain drying and
growth in transportation volumes on the Rocky Mountain intrastate pipeline due
to the fourth quarter 1996 acquisition of interconnected gathering and
processing facilities. Operations and maintenance expenses were 3.3 percent
higher than in 1995, as costs incurred in the development of new marketing
initiatives exceeded savings realized from the 1995 corporate restructuring.
OTHER INCOME AND (DEDUCTIONS) 1997 1996 1995
---- ---- ----
Interest Expense $ (43.5) $ (35.9) $ (34.2)
------- ------- -------
Minority Interests and Other, Net 14.4 0.8 0.4
------- ------- -------
$ (29.1) $ (35.1) $ (33.8)
======= ======= =======
Increases in the most recent two years' interest expense result from the
issuance of long-term debt in 1997 and 1996 and higher levels of short-term
borrowings incurred principally to fund capital expenditures. In 1997 and 1996,
the Company capitalized $7.8 million and $1.8 million, respectively, of interest
costs primarily related to the construction of the Pony Express Pipeline.
Minority Interests and Other, Net for 1997 includes $5.7 million of earnings
from the Company's equity investments in the TransColorado Pipeline and the
Coyote Gulch Gas Treating Plant, and $7.0 million of income related to the sale
of a 50 percent interest in en*able, with no corresponding amounts in 1996. Net
gains totaling $ 3.7 million on the sale of several non-strategic gathering
systems and, in accordance with regulatory guidelines, the capitalization of
equity financing costs of $4.5 million
22
23
related to the Pony Express Pipeline, more than offset the $5.8 million of
financing costs (included in Minority Interests) associated with the 8.56%
Preferred Capital Trust Securities issued in April 1997.
INCOME TAXES 1997 1996 1995
---- ---- ----
Provisions $ 35.7 $ 35.9 $ 29.1
======= ======= =======
Effective Tax Rate 31.5% 36.0% 35.6%
======= ======= =======
The reduced 1997 provision for income taxes and the resulting reduction in the
effective tax rate are due to the successful resolution of certain issues from
prior years' income tax filings. Refer to Note 7 of Notes to Consolidated
Financial Statements for a reconciliation of the statutory rate to yearly
effective rates.
LIQUIDITY AND CAPITAL RESOURCES
During 1997 the primary sources of cash were from internally generated cash
flows, the public offerings of long-term debt and preferred capital trust
securities and short-term borrowings. Cash outflows funded capital expenditures
and acquisitions, debt service and dividend payments.
CASH FLOWS FROM OPERATING ACTIVITIES
Net cash flows from operating activities for 1997 totaled $97.5 million,
compared with $75.6 million and $132.2 million for 1996 and 1995, respectively.
The improvement in 1997's net operating cash flows was largely attributable to
the same factors resulting in the reported increase in earnings. Net operating
cash flows in 1996 were primarily negatively impacted by disbursements to buyout
above-market gas purchase contracts and increases in storage gas inventories.
CAPITAL EXPENDITURES AND COMMITMENTS
Capital expenditures of $311.1 million in 1997 were significantly higher than
expenditures of $120.0 million in 1996 and $79.3 million in 1995. The large
increase in 1997 capital expenditures resulted from the completion of the Pony
Express Pipeline, construction of transmission laterals into the Kansas City
metropolitan area, and capital investment related to the Bushton acquisition,
including initial expenditures to reduce field pressures in the Hugoton Basin.
The 1998 capital expenditures budget totals $149.5 million (before adjustment to
reflect the consolidation with MidCon). Budgeted maintenance, safety and
environmental expenditures approximate $56.4 million and budgeted business
growth or expansion expenditures approximate $93.1 million.
Principal acquisitions or investments made during 1997 included the Bushton gas
gathering and processing assets effective in April, Interenergy effective in
December (primarily a gathering and marketing entity) and an interest in the Red
Cedar Gathering Company acquired at year-end. See Notes 3(A), 3(C) and 3(B) of
Notes to Consolidated Financial Statements.
23
24
CAPITAL RESOURCES
At December 31, 1997, the Company had a credit agreement with 11 banks (the
"Pre-Acquisition Facility") pursuant to which the Company could borrow or
provide support for commercial paper issuance up to a total of $350 million.
Borrowings under the Pre-Acquisition Facility were $329.2 million and $129.3
million at December 31, 1997 and 1996, respectively. The Pre-Acquisition
Facility was terminated in January 1998 and replaced with new credit lines and
an acquisition facility in conjunction with the acquisition of MidCon. See Note
8(A) of Notes to Consolidated Financial Statements.
In January 1998, following a review of the K N - MidCon combination, Fitch
Investors Service ("Fitch"), Moody's Investors Service ("Moody's") and Standard
& Poor's ("S&P") lowered their ratings of the Company's senior unsecured debt.
Fitch lowered its rating from A- to BBB, Moody's lowered its rating from A3 to
Baa2 and S&P lowered its rating from BBB+ to BBB-. The Company intends to
strengthen its balance sheet during 1998 by public equity offerings, limiting
capital expenditures (for both MidCon and the historical K N companies) and
increasing internally generated cash flows.
In recent years, the Company's capitalization has averaged approximately 45
percent debt to 55 percent equity. As a result of the acquisition of MidCon on
January 30, 1998, the Company's leverage has increased significantly through the
utilization of an acquisition debt facility and new revolving credit facilities.
See Note 8(A) of Notes to Consolidated Financial Statements. The Company
currently has in place a shelf registration statement with the Securities and
Exchange Commission in a total amount of $4.0 billion, pursuant to which, as of
March 4, 1997, the Company had agreed to the pricing for public sale of $2.35
billion principal amount of debt securities of varying maturities and 10 million
shares of common stock (up to 11.5 million shares if the underwriters'
over-allotment option is fully exercised). The proceeds of these offerings are
expected to be used to (1) repay the acquisition debt associated with the
purchase of MidCon and (2) purchase U.S. government securities to serve as a
portion of the collateral required for the note issued to the seller in the
MidCon acquisition. The Company's future financing plans include the public
issuance of other securities, including trust securities which are mandatorily
redeemable or convertible. The Company currently expects that, even if it is
successful in completing both the offerings currently in progress and its
planned offerings, its degree of leverage in the near-term will remain
significantly above historical levels.
REGULATION
In 1997, approximately 48 percent of the Company's operating income was derived
from assets which are rate-regulated at either the federal, state or local
level. At least in the near-term, a significantly higher percentage of the
Company's operating income is expected to be derived from rate-regulated
operations as a result of the acquisition of MidCon. In substantially all
regulatory jurisdictions, rates are currently determined using cost-based
regulation and, at this time, the Company does not expect a significant change
in the manner in which rates are set. Thus far, the primary impact of
competition on the Company's regulated businesses has been the conversion of
services from the "bundled" merchant and transportation function (including the
pass-through of actual gas costs expended) to transportation services only. The
Company anticipates that this conversion to transportation service will continue
and become more prevalent at the retail level. During 1998, K N will continue to
implement its Choice Gas Program in Nebraska, pursuant to which approximately
100,000 retail customers will be able to choose their gas supplier. See Note
4(B) of Notes to Consolidated Financial Statements.
RISK MANAGEMENT
To minimize the risk of price changes in the natural gas and NGLs markets, the
Company uses certain financial instruments for hedging purposes. These
instruments include energy products traded on the New York Mercantile Exchange,
the Kansas City Board of Trade and over-the-counter markets, including futures
and options contracts and fixed-price swaps.
Pursuant to guidelines approved by its Board of Directors, the Company is to
engage in these activities only as a hedging mechanism against price volatility
associated with pre-existing or anticipated physical gas and
24
25
condensate sales, gas purchases, system use and storage in order to protect
profit margins, and is not to engage in speculative trading. See "Results of
Operations - Gathering, Processing and Marketing Services." Commodity-related
activities of the risk management group are monitored by the Company's Risk
Management Committee, which is charged with the review and enforcement of the
Board of Directors' risk management guidelines. The Risk Management Committee
reviews the types of hedging instruments used, contract limits and approval
levels and may review the pricing and hedging of any or all commodity
transactions. All energy futures, swaps and options are recorded at fair value.
Gains and losses on hedging positions are deferred and recognized as gas
purchases expense in the periods in which the underlying physical transactions
occur.
The Company's Treasury Department manages the Company's interest rate exposure,
utilizing interest rate swaps, caps or similar derivatives within
Board-established guidelines. None of these interest rate derivatives are
leveraged.
OUTLOOK/FORWARD-LOOKING INFORMATION
GENERAL
The statements contained in this section, Outlook/Forward-Looking Information,
include forward-looking statements within the meaning of Section 27A of the
Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934.
Although the Company believes that these statements are based upon reasonable
assumptions, it can give no assurance that its goals will be achieved. Important
factors that could cause actual results to differ materially from those in the
forward-looking statements contained herein include, among other factors, the
pace of deregulation of retail natural gas and electricity markets in the United
States, federal and state regulatory developments, the timing and extent of
changes in commodity prices for oil, gas, NGLs, electricity, certain
agricultural products and interest rates, the extent of success in acquiring
natural gas facilities, the timing and success of efforts to develop power,
pipeline and other projects, political developments in foreign countries, and
conditions of the capital markets and equity markets during the periods covered
by the forward-looking statements.
K N - MIDCON COMBINATION
On December 18, 1997, K N entered into a definitive agreement to acquire all of
the outstanding capital stock of MidCon from Occidental Petroleum Corporation
for $3.49 billion, consisting of $2.1 billion in cash and the assumption of
$1.39 billion of short-term debt. The acquisition closed on January 30, 1998, at
which time MidCon became a wholly owned subsidiary of the Company.
MidCon is engaged in the purchase, gathering, processing, transmission, storage
and sale of natural gas to utilities, municipalities and industrial and
commercial users. MidCon operates over 14,000 miles of natural gas pipelines
which are located in the center of the North American pipeline grid. These
pipeline assets include two major interconnected transmission pipelines
terminating in the Chicago area: one originating in West Texas and the other in
the Gulf Coast areas of Texas and Louisiana, as well as a major intrastate
pipeline located in Texas. MidCon also purchases electricity from electric
utilities and other electric power producers and marketers and resells the
electricity to wholesale and end-use customers.
As a result of the acquisition, K N will be one of the largest integrated
natural gas companies in the United States. The Company will own and/or operate
approximately 26,000 miles of interstate, intrastate and offshore natural gas
transmission pipeline, approximately 11,000 miles of gathering pipeline,
approximately 7,000 miles of local distribution pipeline, and 16 storage
facilities with storage capacity of more than 250 Bcf of working gas. The
Company will also be one of the largest transporters and marketers of natural
gas in the United States with average sales volumes of 3.7 Bcf and average
transportation volumes of 5.1 Bcf of natural gas per day. On a pro forma basis
including only adjustments directly attributable to the acquisition of MidCon,
as of and for the year ended December 31, 1997, the Company had approximately
$8.2 billion in assets, operating revenues of
25
26
approximately $5.2 billion, operating income of approximately $358.6 million and
net income of approximately $83.0 million.
In addition to significantly increasing the Company's size and scope of
operations, as well as its geographic presence, management believes the
acquisition will also provide K N with a strong platform for future growth. The
Company will have assets in 16 states and access to several of the largest
natural gas markets in the United States, including Chicago, Houston, Kansas
City and Denver. The combined company will have access to natural gas supplies
in the major natural gas supply basins in the United States, including those in
the Mid-Continent, West Texas, Rocky Mountain and Gulf Coast regions. The
Company will also be one of the nation's largest owners and operators of natural
gas storage assets in both supply and market areas. Management believes these
assets are strategically located and will allow the Company to become a major
supplier of storage service, particularly in the Chicago market, and that the
acquisition will also significantly broaden the Company's retail presence in
both the residential and small business market segments.
LITIGATION AND ENVIRONMENTAL
The Company's anticipated environmental capital costs and expenses for 1998,
including expected costs and expenses for voluntary remediation efforts, are
approximately $7.7 million, exclusive of anticipated costs and expenses
associated with the recently acquired MidCon assets. A substantial portion of
the Company's environmental costs are either recoverable through insurance and
indemnification provisions, have reserves associated with them or have been
previously expensed as part of ongoing business operations.
Refer to Notes 2 and 5 of Notes to Consolidated Financial Statements for
additional information on the Company's pending litigation and environmental
matters. The Company's management believes it has established reserves such that
the resolution of pending litigation and environmental matters will not have a
material adverse impact on the Company's financial position or results of
operations.
SIGNIFICANT OPERATING VARIABLES
The Company's principal exposure to price variability is with NGLs prices. The
Company attempts to mitigate this exposure by an appropriate mix of "percent of
proceeds" and "keep whole" processing agreements and by the use of financial
hedging instruments. See Risk Management elsewhere herein. Under current
agreements with producers, excluding MidCon processing facilities, a one cent
change in average per gallon prices impacts pre-tax operating income by
approximately $5.5 million.
READINESS FOR YEAR 2000
The Company has completed a high-level assessment of its systems and
infrastructure to determine the extent of the work needed to ensure Year 2000
compliance. A plan has been developed and is being implemented to test and
verify Year 2000 compliance, including making necessary modifications, for all
systems and processes. K N will continue to evaluate the estimated costs
associated with these efforts based on the results of this work. While these
efforts involve additional costs, the Company believes, based on available
information, that these costs will not be material to its results of operations.
26
27
ITEM 8: FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To K N Energy, Inc.:
We have audited the accompanying consolidated balance sheets of K N Energy, Inc.
(a Kansas corporation) and subsidiaries as of December 31, 1997 and 1996, and
the related consolidated statements of income, common stockholders' equity 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 consolidated financial statements referred to above present
fairly, in all material respects, the financial position of K N Energy, Inc. and
subsidiaries as of December 31, 1997 and 1996, and the 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/ Arthur Andersen LLP
Denver, Colorado
February 3, 1998
27
28
CONSOLIDATED STATEMENTS OF INCOME
K N ENERGY, INC. AND SUBSIDIARIES
YEARS ENDED DECEMBER 31
-----------------------
1997 1996 1995
---- ---- ----
(In Thousands, Except Per Share Amounts)
OPERATING REVENUES:
Gathering, Processing and Marketing Services $ 1,866,327 $ 1,191,292 $ 854,462
Interstate Transportation and Storage Services 23,757 25,352 22,217
Retail Natural Gas Services 255,034 223,838 227,282
Gas and Oil Production -- -- 7,437
----------- ----------- -----------
Total Operating Revenues 2,145,118 1,440,482 1,111,398
----------- ----------- -----------
OPERATING COSTS AND EXPENSES:
Gas Purchases and Other Costs of Sales 1,724,671 1,060,374 753,022
Operations and Maintenance 198,274 174,774 173,288
Depreciation, Depletion and Amortization 55,994 51,212 49,891
Taxes, Other Than Income Taxes 23,930 19,321 19,835
----------- ----------- -----------
Total Operating Costs and Expenses 2,002,869 1,305,681 996,036
----------- ----------- -----------
OPERATING INCOME 142,249 134,801 115,362
----------- ----------- -----------
OTHER INCOME AND (DEDUCTIONS):
Interest Expense (43,495) (35,933) (34,211)
Minority Interests (8,706) (2,946) (905)
Other, Net 23,110 3,794 1,326
----------- ----------- -----------
Total Other Income and (Deductions) (29,091) (35,085) (33,790)
----------- ----------- -----------
INCOME BEFORE INCOME TAXES 113,158 99,716 81,572
Income Taxes 35,661 35,897 29,050
----------- ----------- -----------
NET INCOME 77,497 63,819 52,522
Less - Preferred Stock Dividends 350 398 492
----------- ----------- -----------
EARNINGS AVAILABLE FOR COMMON STOCK $ 77,147 $ 63,421 $ 52,030
=========== =========== ===========
BASIC EARNINGS PER COMMON SHARE $ 2.48 $ 2.18 $ 1.87
=========== =========== ===========
DILUTED EARNINGS PER COMMON SHARE $ 2.45 $ 2.14 $ 1.83
=========== =========== ===========
The accompanying notes are an integral part of these statements.
28
29
CONSOLIDATED BALANCE SHEETS
K N ENERGY, INC. AND SUBSIDIARIES
DECEMBER 31
-----------
1997 1996
---- ----
(In Thousands)
ASSETS:
CURRENT ASSETS:
Cash and Cash Equivalents $ 22,471 $ 10,339
Restricted Deposits 11,339 6,666
Accounts Receivable 409,937 304,942
Materials and Supplies 13,476 6,092
Gas in Underground Storage 33,558 43,511
Prepaid Gas 5,507 12,001
Other Prepaid Expenses 16,687 12,824
Gas Imbalances and Other 63,555 65,319
---------- ----------
576,530 461,694
---------- ----------
INVESTMENTS 149,869 50,538
---------- ----------
PROPERTY, PLANT AND EQUIPMENT, NET 1,420,975 1,022,301
---------- ----------
DEFERRED CHARGES AND OTHER ASSETS 158,431 95,187
---------- ----------
TOTAL ASSETS $2,305,805 $1,629,720
========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY:
CURRENT LIABILITIES:
Current Maturities of Long-Term Debt $ 30,751 $ 26,971
Notes Payable 329,200 129,300
Accounts Payable 334,418 241,187
Accrued Expenses 37,264 34,696
Accrued Taxes 7,445 16,045
Gas Imbalances and Other 57,733 50,417
---------- ----------
796,811 498,616
---------- ----------
DEFERRED LIABILITIES, CREDITS AND RESERVES:
Deferred Income Taxes 168,583 122,371
Other 26,160 31,930
---------- ----------
194,743 154,301
---------- ----------
LONG-TERM DEBT 553,816 423,676
---------- ----------
K N-OBLIGATED MANDATORILY REDEEMABLE PREFERRED CAPITAL TRUST SECURITIES OF
SUBSIDIARY TRUST HOLDING SOLELY DEBENTURES OF K N 100,000 -
---------- ----------
MINORITY INTERESTS IN EQUITY OF SUBSIDIARIES 47,303 26,333
---------- ----------
COMMITMENTS AND CONTINGENT LIABILITIES (NOTES 2, 3(A), 5 AND 13)
STOCKHOLDERS' EQUITY:
Preferred Stock 7,000 7,000
---------- ----------
Common Stock-
Authorized - 50,000,000 Shares, Par Value $5 Per Share
Outstanding - 32,024,557 and 30,295,792 Shares, Respectively 160,123 151,479
Additional Paid-in Capital 270,678 228,902
Retained Earnings 185,658 142,578
Deferred Compensation (9,203) (2,908)
Treasury Stock, at Cost - 28,482 and 7,216 Shares, Respectively (1,124) (257)
---------- ----------
Total Common Stockholders' Equity 606,132 519,794
---------- ----------
Total Stockholders' Equity 613,132 526,794
---------- ----------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $2,305,805 $1,629,720
========== ==========
The accompanying notes are an integral part of these statements.
29
30
CONSOLIDATED STATEMENTS OF COMMON STOCKHOLDERS' EQUITY
K N ENERGY, INC. AND SUBSIDIARIES
YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995
COMMON STOCK ADDITIONAL DEFERRED TREASURY STOCK
------------ PAID-IN RETAINED COMPEN- --------------
SHARES AMOUNT CAPITAL EARNINGS SATION SHARES AMOUNT
------ ------ ------- -------- ------ ------ ------
(Dollars In Thousands)
BALANCE, DECEMBER 31, 1994 27,617,531 $ 138,088 $ 170,932 $ 86,032 $ (378) (44,417) $ (988)
Net Income 52,522
Cash Dividends -
Common, $1.01 Per Share (28,167)
Preferred (492)
Treasury Stock Acquired (72,500) (1,959)
Employee Stock Options 354,901 1,774 4,006
Employee Benefit Plans 20,738 104 394 80 2
Dividend Reinvestment and
Stock Purchase Plans 97,979 490 1,444 106,098 2,633
Issuance of Common Shares as
Executive Compensation 6,600 33 134
Amortization of Deferred
Compensation 156
---------- ----------- ----------- ----------- ----------- ------- --------
BALANCE, DECEMBER 31, 1995 28,097,749 140,489 176,910 109,895 (222) (10,739) (312)
Net Income 63,819
Cash Dividends -
Common, $1.05 Per Share (30,738)
Preferred (398)
Sale of Common Stock, Net 1,715,000 8,575 44,591
Redemption and Cancellation of
Common Stock Warrants (7,420)
Unrealized Holding Gains on
Available-for-Sale Securities 5,735
Treasury Stock Acquired (220,178) (7,069)
Acquisition of Business 1,648 33,765 1,183
Employee Stock Options 292,421 1,462 2,981 517 16
Dividend Reinvestment and
Stock Purchase Plans 95,572 478 1,438 189,419 5,925
Issuance of Common Shares as
Executive Compensation 95,050 475 3,019 (3,494)
Amortization of Deferred
Compensation 808
---------- ----------- ----------- ----------- ----------- ------- --------
BALANCE, DECEMBER 31, 1996 30,295,792 151,479 228,902 142,578 (2,908) (7,216) (257)
Net Income 77,497
Cash Dividends -
Common, $1.09 Per Share (34,067)
Preferred (350)
Exercise of Common Stock Warrants 642,232 3,211 8,060
Unrealized Holding Losses on
Available-for-Sale Securities (1,492)
Treasury Stock Acquired (53,190) (2,096)
Acquisition of Business 544,604 2,723 21,411
Employee Stock Options 223,564 1,118 4,459 514 19
Dividend Reinvestment and
Stock Purchase Plans 87,615 438 1,805 31,410 1,210
Issuance of Common Shares as
Executive Compensation 230,750 1,154 7,533 (8,687)
Amortization of Deferred
Compensation 2,392
---------- ----------- ----------- ----------- ----------- ------- --------
BALANCE, DECEMBER 31, 1997 32,024,557 $ 160,123 $ 270,678 $ 185,658 $ (9,203) (28,482) $ (1,124)
========== =========== =========== =========== =========== ======= ========
The accompanying notes are an integral part of these statements.
30
31
CONSOLIDATED STATEMENTS OF CASH FLOWS
K N ENERGY, INC. AND SUBSIDIARIES
YEARS ENDED DECEMBER 31
-----------------------
1997 1996 1995
---- ---- ----
(IN THOUSANDS)
CASH FLOWS FROM OPERATING ACTIVITIES:
Net Income $ 77,497 $ 63,819 $ 52,522
Adjustments to Reconcile Net Income to
Net Cash Flows From Operating Activities:
Depreciation, Depletion and Amortization 55,994 51,212 49,891
Deferred Income Taxes 17,155 16,443 15,975
Deferred Purchased Gas Costs (17,146) (8,109) (1,458)
Provision for Losses on Accounts Receivable 1,479 307 949
(Gain) Loss on Sale of Facilities (4,860) 491 --
Changes in Gas in Underground Storage (3,167) (22,056) 26,541
Changes in Other Working Capital Items,
Net of Acquisitions and Dispositions (17,381) (2,803) 4,016
Changes in Deferred Revenues (5,736) (13,883) (21,267)
Other, Net (6,332) (9,811) 5,080
--------- --------- ---------
NET CASH FLOWS FROM OPERATING ACTIVITIES 97,503 75,610 132,249
--------- --------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital Expenditures (311,093) (119,987) (79,313)
Acquisitions (118,590) (147,137) (31,945)
Investments (89,307) (2,142) (6,598)
Proceeds from Sales of Assets 22,433 11,922 2,706
Collections Under Basket Agreement -- 6 1,491
--------- --------- ---------
NET CASH FLOWS USED IN INVESTING ACTIVITIES (496,557) (257,338) (113,659)
--------- --------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES:
Short-Term Debt, Net 199,900 41,300 28,000
Long-Term Debt - Issued 150,000 125,000 --
- Retired (27,832) (18,170) (21,322)
Preferred Capital Trust Securities Issued 100,000 -- --
Preferred Stock Redemption -- (572) (1,143)
Common Stock Issued 19,091 61,668 8,379
Redemption and Cancellation of Common Stock Warrants -- (7,420) --
Treasury Stock - Issued 1,229 5,941 2,635
- Acquired (2,096) (7,069) (1,959)
Cash Dividends - Common (34,067) (30,738) (28,167)
- Preferred (350) (398) (492)
Minority Interests - Contributions 7,823 13,586 2,906
- Distributions (212) (2,182) (2,765)
Securities Issuance Costs (2,300) (3,133) (35)
--------- --------- ---------
NET CASH FLOWS FROM (USED IN) FINANCING
ACTIVITIES 411,186 177,813 (13,963)
--------- --------- ---------
Net Increase (Decrease) in Cash and Cash Equivalents 12,132 (3,915) 4,627
Cash and Cash Equivalents at Beginning of Year 10,339 14,254 9,627
--------- --------- ---------
Cash and Cash Equivalents at End of Year $ 22,471 $ 10,339 $ 14,254
========= ========= =========
The accompanying notes are an integral part of these statements.
31
32
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
(A) Nature of Operations
K N Energy, Inc., referred to herein together with its consolidated subsidiaries
as "K N" or "the Company," is an energy services provider and has operations in
11 states in the Rocky Mountain and Mid-Continent regions, with principal
operations in Colorado, Kansas, Nebraska, Oklahoma, Texas and Wyoming. The
Company is building a natural gas distribution system, expected to begin
operations in the first quarter of 1998, in the Mexican state of Sonora. Energy
services include: gathering, processing, storing, transporting and marketing
natural gas, providing retail natural gas distribution services, providing field
services to natural gas producers and marketing natural gas liquids ("NGLs").
The Company has both regulated and nonregulated operations.
(B) Basis of Presentation
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions.
These estimates and assumptions affect the reported amounts of assets and
liabilities, the disclosure of contingent assets and liabilities, and the
reported amounts of revenues and expenses. Actual results could differ from
these estimates.
The consolidated financial statements include the accounts of K N and its
majority-owned subsidiaries. Investments in jointly owned operations in which
the Company has 20 to 50 percent ownership are accounted for under the equity
method. All material intercompany transactions and balances have been
eliminated. Certain prior year amounts have been reclassified to conform to the
current presentation.
(C) Accounting for Regulatory Activities
The Company's regulated public utilities are accounted for in accordance with
the provisions of Statement of Financial Accounting Standards ("SFAS") No. 71,
Accounting for the Effects of Certain Types of Regulation, which prescribes the
circumstances in which the application of generally accepted accounting
principles is affected by the economic effects of regulation.
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33
Regulatory assets and liabilities represent probable future revenues or expenses
to the Company associated with certain charges and credits, which will be
recovered from or refunded to customers through the ratemaking process. The
following regulatory assets and liabilities are reflected in the accompanying
Consolidated Balance Sheets (in thousands):
DECEMBER 31
-----------
1997 1996
---- ----
REGULATORY ASSETS:
Employee Benefit Costs $ 1,348 $ 1,084
Debt Refinancing Costs 2,682 3,100
Deferred Income Taxes 754 706
Purchased Gas Costs 53,790 28,814
Plant Acquisition Adjustments 454 454
Rate Regulation and Application Costs 601 830
------- ------
Total Regulatory Assets 59,629 34,988
------- ------
REGULATORY LIABILITIES:
Deferred Income Taxes 3,718 4,218
Purchased Gas Costs 5,195 6,529
------- -----
Total Regulatory Liabilities 8,913 10,747
------- ------
NET REGULATORY ASSETS $50,716 $24,241
======= =======
As of December 31, 1997, $46.1 million of the Company's regulated assets and
$8.1 million of the Company's regulated liabilities were being recovered from or
refunded to customers through rates over periods ranging from one to 16 years.
All of the regulatory assets being recovered at December 31, 1997, are being
recovered without a return on investment.
(D) Revenue Recognition Policies
In general, the Company recognizes revenues as services are rendered or goods
are delivered. The Company's rate-regulated retail natural gas distribution
business bills customers on a monthly cycle billing basis. Revenues are recorded
on an accrual basis, including an estimate for gas delivered but unbilled at the
end of each accounting period.
(E) Earnings Per Share
In February 1997, the Financial Accounting Standards Board issued SFAS No. 128,
Earnings Per Share. This new statement became effective December 15, 1997, and
provides computation, presentation and disclosure requirements for earnings per
share. Basic earnings per share is computed based on the monthly
weighted-average number of common shares outstanding during the periods. The
weighted-average number of common shares used in computing basic earnings per
share was 31,059,000, 29,102,000 and 27,836,000 for 1997, 1996 and 1995,
respectively. Diluted earnings per share is computed based on the monthly
weighted-average number of common shares outstanding during the periods and the
assumed exercise of dilutive common stock equivalents (stock options and
warrants) using the treasury stock method. Dilutive common stock equivalents
assumed to have been exercised totaled 479,000, 522,000 and 524,000 for 1997,
1996 and 1995, respectively.
(F) Restricted Deposits
The Company uses energy financial instruments to minimize its exposure to price
risk related to natural gas and NGLs. Restricted Deposits consist of monies on
deposit with brokers that are restricted to meet exchange trading requirements.
See Note 10.
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34
(G) Gas in Underground Storage
K N's rate-regulated retail distribution business and Northern Gas Company
account for gas in underground storage using the last-in, first-out ("LIFO")
method. AOG Gas Transmission Company, L.P., KN Services, Inc., KN Gas Supply
Services, Inc., KN Marketing, L.P., KN Natural Gas, Inc. and Westar Transmission
Company value gas in underground storage at average cost. Rocky Mountain Natural
Gas Company ("RMNG") uses the first-in, first-out ("FIFO") method. All entities
discussed above are wholly owned by K N.
The Company also maintains gas in its underground storage facilities on behalf
of certain third parties. The Company receives a fee for its storage services
but does not reflect the value of third party gas in the accompanying financial
statements.
(H) Investments
Investments consist primarily of equity method investments in unconsolidated
subsidiaries and joint ventures. In addition, the Company has an investment in
Tom Brown, Inc. common and convertible preferred stock. See Note 3(F).
(I) Prepaid Gas
Prepaid gas represents payments made in lieu of taking delivery of natural gas
under the take-or-pay provisions of certain of the Company's gas purchase
contracts, net of any subsequent recoupments in kind from producers. Such
payments are fully recoupable from future production and, when recoupment is
made in kind in a subsequent contract year, natural gas purchase expense is
recorded and the asset is reduced.
(J) Property, Plant and Equipment
Property, plant and equipment is stated at historical cost which, for
constructed plant, includes indirect costs such as payroll taxes, fringe
benefits, and administrative and general costs. Expenditures which increase
capacities, improve efficiencies or extend useful lives are capitalized. Routine
maintenance, repairs and renewal costs are expensed as incurred.
The cost of normal retirements of depreciable utility property, plant and
equipment, plus the cost of removal less salvage, is deducted from accumulated
depreciation with no effect on current period earnings. Gains or losses are
recognized upon retirement of nonutility property, plant and equipment, and when
utility property, plant and equipment constituting an operating unit or system
is sold or abandoned.
In accordance with the provisions of SFAS 121, Accounting for the Impairment of
Long-Lived Assets and for Long-Lived Assets to be Disposed Of, the Company
reviews the carrying values of its long-lived assets whenever events or changes
in circumstances indicate that such carrying values may not be recoverable. As
yet, no asset or group of assets has been identified for which the sum of
expected future cash flows (undiscounted and without interest charges) is less
than the carrying amount of the asset(s) and, accordingly, no impairment losses
have been recorded. However, currently unforeseen events and changes in
circumstances could require the recognition of impairment losses at some future
date.
(K) Depreciation, Depletion and Amortization
Depreciation is computed based on the straight-line method over estimated useful
lives ranging from three to 40 years each for the Gathering, Processing and
Marketing, Interstate Transportation and Storage and Retail Natural Gas Services
segments.
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35
(L) Cash Flow Information
The Company considers all highly liquid investments purchased with an original
maturity of three months or less to be cash equivalents.
Changes in Other Working Capital Items Summary and Supplemental Disclosures of
Cash Flow Information are as follows (in thousands):
CHANGES IN OTHER WORKING CAPITAL ITEMS SUMMARY
(NET OF ACQUISITION AND DISPOSITION EFFECTS)
1997 1996 1995
---- ---- ----
Accounts Receivable $ (82,088) $ (89,773) $ (67,364)
Materials and Supplies (1,777) 4,761 2,172
Other Current Assets (7,656) (43,847) 19,650
Accounts Payable 82,504 83,934 50,447
Other Current Liabilities (8,364) 42,122 (889)
--------- --------- ---------
$ (17,381) $ (2,803) $ 4,016
========= ========= =========
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION
CASH PAID DURING THE YEAR FOR:
Interest (Net of Amount Capitalized) $ 41,986 $ 31,748 $34,503
======== ======== =======
Distributions on Preferred Capital Trust Securities $ 4,066 $ - $ -
======== ======== =======
Income Taxes $ 15,823 $ 14,156 $ 9,774
======== ======== =======
2. SUBSEQUENT EVENT
On January 30, 1998, K N acquired from Occidental Petroleum Corporation
("Occidental") all of the outstanding shares of common stock of MidCon Corp.
("MidCon"), a wholly owned subisdiary of Occidental, for approximately $2.1
billion in cash and a short-term note of approximately $1.39 billion. In
conjunction with the acquisition, the Company assumed MidCon's obligation to
lease the MidCon Texas intrastate pipeline system under a 30-year operating
lease, requiring average annual lease payments of $30 million. This acquisition
is being accounted for as a purchase.
The total amount of funds required by the Company to complete the acquisition,
including payment of related transaction costs, was approximately $2.5 billion,
which was financed through a credit facililty established on January 30, 1998,
with a syndicate of lenders. See Note 8(A).
MidCon is engaged in the purchase, gathering, processing, transmission, storage
and sale of natural gas to utilities, municipalities, and industrial and
commercial users. MidCon also purchases electricity from electric utilities and
other electric power producers and marketers and resells the electricity to
wholesale and end-use customers.
The Company's consolidated financial statements and related notes will include
the transactions and balances of MidCon effective with its purchase date of
January 30, 1998. While the Company has assumed responsibility for liabilities
and contingencies of MidCon as of the date of the acquisition, the Company
believes that its allocation of purchase price to assets acquired and
liabilities assumed, when finalized, will make adequate provision for such items
and, accordingly, the Company expects that the ultimate resolution of such items
will not have a material adverse impact on its results of operations or
financial position.
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36
3. MERGER, ACQUISITIONS AND DISPOSITIONS
(A) Bushton
In March 1997, K N completed its purchase of several Enron Corporation
subsidiaries that owned or operated the Bushton natural gas processing facility
located in Ellsworth County, Kansas, and other Hugoton Basin gathering assets
located in Kansas and Oklahoma. The Company assumed operation of these
facilities effective April 1, 1997, and has accounted for this transaction as a
purchase.
Pursuant to this agreement, K N also leases the processing facilities at Bushton
under operating leases requiring semi-annual payments averaging $23.1 million
per annum for the remaining term of the leases. Under the terms of these leases,
K N has the option of terminating the leases and/or buying the assets at any
time after November 2003, and extending the leases beyond May 2012, the
scheduled termination date. In addition, K N may purchase the processing
facilities upon termination of the leases.
(B) Red Cedar
In December 1997, K N purchased an equity interest in Red Cedar Gathering
Company ("Red Cedar"), a gathering system located in the northern San Juan Basin
on the Southern Ute Indian Reservation in La Plata County, Colorado. Red Cedar
is jointly owned by the Southern Ute Indian Tribe.
(C) Interenergy
On December 19, 1997, K N acquired Interenergy Corporation ("Interenergy"), a
diversified energy company involved with natural gas gathering, processing and
marketing in the Rocky Mountain and mid-continent states. K N exchanged 544,604
shares of K N common stock for all the outstanding shares of Interenergy and
assumed Interenergy's debt in a transaction accounted for as a purchase.
(D) Sale of Kansas Distribution Properties
In October 1997, K N entered into an agreement to sell its retail natural gas
distribution properties in Kansas to Midwest Energy, Inc., a customer-owned
cooperative based in Hays, Kansas. The agreement provides for the sale of
natural gas distribution systems in 58 Kansas communities, serving approximately
30,000 residential, commercial and industrial customers. The transaction is
subject to approval by applicable state and federal regulatory authorities, and
is expected to close in the first half of 1998.
(E) Pony Express Pipeline
In 1996, K N purchased a 900-mile crude oil pipeline owned by Amoco Pipeline
Company for conversion to natural gas service. In May 1996, one of K N's
regulated interstate pipeline subsidiaries, K N Interstate Gas Transmission Co.
("KNI"), filed with the Federal Energy Regulatory Commission ("FERC") requesting
authority to purchase from K N the portion of the line, renamed the Pony Express
Pipeline, from Lost Cabin, Wyoming in central Wyoming to Freeman, Missouri near
Kansas City. KNI also requested authority to convert the pipeline to natural gas
service, install compression and construct additional pipeline facilities. On
May 30, 1997, the FERC issued an order granting KNI's requested authority to
proceed with the project.
On November 27, 1996, KNI acquired two contracts to provide firm transportation
capacity of 230 MMcf per day to the Kansas City metropolitan area, part of which
is transported through the Pony Express Pipeline. KNI constructed approximately
36 miles of lateral facilities to connect the new markets with the Pony Express
Pipeline and a third party pipeline.
36
37
(F) Gas and Oil Properties
On January 31, 1996, K N and Tom Brown, Inc. ("TBI") closed a transaction
pursuant to which K N transferred its stock in K N Production Company ("KNPC"),
a wholly owned subsidiary of K N, to TBI in exchange for common and convertible
preferred stock of TBI. The transaction represents a non-monetary exchange
(valued at that time at $39.1 million) of oil and gas assets for accounting
purposes. The common shares are considered available-for-sale securities and, as
a result, unrealized holding gains totaling $4.2 million are included in
additional paid-in capital in the Consolidated Balance Sheet at December 31,
1997.
In conjunction with this transaction, K N and TBI formed Wildhorse Energy
Partners, LLC, owned 55 percent by K N and 45 percent by TBI, which performs
certain gathering, processing, field, marketing and storage services in a
defined area of mutual interest.
(G) TransColorado Project
During 1996, an agreement was executed providing for the construction and
operation of a new unregulated gas treating plant in southwestern Colorado owned
by affiliates of K N and El Paso Natural Gas Company. The treating plant is
connected to Phase I (New Mexico pre-build) of the TransColorado pipeline. The
pipeline and plant had a combined capital cost of approximately $30 million.
4. REGULATORY MATTERS
(A) Rate Matters
On January 23, 1998, KNI filed a general rate case with the FERC requesting a
$30.2 million annual increase in revenues. KNI expects revised rates to become
effective August 1, 1998, subject to refund.
(B) Retail Unbundling
In November 1997, K N announced a plan, subject to municipal regulatory approval
in each community it serves, to give residential and small commercial customers
in Nebraska a choice of natural gas suppliers, effective June 1, 1998.
Currently, K N purchases natural gas, transports it across interstate
transmission systems and delivers it to these customers, providing what is known
as a "bundled" service. This program would separate, or "unbundle," the natural
gas purchases from other utility services. By early February 1998, over 60
communities had approved the plan. If approved by all 178 communities served in
Nebraska, the unbundling of retail natural gas service to all of K N's
approximately 100,000 customers in Nebraska will be complete. In June 1996,
after receiving Wyoming Public Service Commission approval for a pilot program,
K N implemented a similar plan for approximately 10,500 residential and
commercial customers in 10 Wyoming communities. The Company does not believe
these regulatory changes will have a material adverse impact on its financial
position or results of operations.
5. ENVIRONMENTAL AND LEGAL MATTERS
(A) Environmental
The Company was named as one of four potentially responsible parties ("PRPs") at
a U.S. Environmental Protection Agency ("EPA") Superfund site known as the
Mystery Bridge Road/U.S. Highway 20 site located near Casper, Wyoming (the
"Brookhurst Subdivision") in 1989. A majority of the Company's groundwater, soil
and free phase petroleum cleanup occurred between 1990 and 1996. Groundwater
remediation standards were recently achieved at
37
38
the Company's operable unit, and the EPA has allowed the Company to go into a
post-remedial action monitoring phase. The total remaining estimated cost is not
expected to exceed $150,000.
In 1994, a mercury sampling program was initiated on the Company's systems in
central and western portions of Kansas. The Company is working with the Kansas
Department of Health and Environment pursuant to a voluntary agreement. The
assessment program is being completed, and the Company in 1998 will commence a
phased remediation program for those sites where concentrations are above
regulatory thresholds, at an expected cost of $200,000 in 1998. The program will
take place over a period of years, and the costs are not expected to have a
material adverse impact on the Company's business, financial position or results
of operations.
The Company performed environmental audits in Colorado, Kansas and Nebraska,
which revealed that certain grease and lubricating oils used at various pipeline
and facilities locations contained polychlorinated biphenyls ("PCBs"). The
Company is working with the appropriate regulatory agencies to manage the
cleanup and remediation of the pipelines and facilities. The Company filed suit
against Rockwell International Corporation ("Rockwell"), manufacturer of the
PCB-containing grease used in certain of the Company's pipelines and facilities,
and two other related defendants for expenses and losses incurred by the Company
for cleanup or mitigation. The Company settled with Rockwell in March 1994. To
date since 1991, the Company has incurred approximately $500,000 in costs
associated with the remediation and management of this issue, including
preparation and implementation of a workplan. In 1998, the Company may spend up
to approximately $470,000. A substantial portion of these costs are recoverable
under the settlement entered into with Rockwell. The total potential remediation
and cleanup costs at currently identified locations is not expected to have a
material adverse impact on the Company's financial position or results of
operations. The cleanup programs are not expected to interrupt or diminish the
Company's operational ability to gather or transport natural gas.
Pursuant to certain acquisition agreements involving Cabot Corporation
("Cabot"), the Company's largest stockholder, Cabot indemnified the Company for
certain environmental liabilities. Issues have arisen concerning Cabot's
indemnification obligations. The Company and Cabot have agreed to enter into
binding arbitration to resolve all issues in dispute. The Company is unable to
estimate its potential exposure for such liabilities at this time, but does not
expect them to have a material adverse impact on the Company's financial
position or results of operations.
The Company acquired certain gathering and processing assets from Parker &
Parsley Gas Processing Co. and its affiliates in October 1995. In connection
with that acquisition, and for a reduction in the purchase price that included
the estimated costs of remediation of $3.9 million, the Company agreed to accept
all responsibility and liability for environmental matters associated with such
properties. Also, in March 1997, the Company acquired the Bushton processing
complex and Hugoton Basin gathering assets form Enron Corporation and certain of
its affiliates. In connection with that acquisition, the Company established
reserves to fund previously-identified environmental/operational issues; the
Company will also be reimbursed on a shared basis for costs and expenses
associated with any environmental deficiencies identified at the facility in the
next five years up to a maximum of $10 million, although the Company does not
anticipate costs will reach that amount. After consideration of reserves
established and the agreements entered into in connection with these various
acquisitions, costs and expenses related to environmental matters are not
expected to have a material adverse effect on the business, financial position
or results of operations of the Company.
In May 1997, the Nebraska Department of Environmental Quality ("NDEQ") issued a
violation notice to KNI regarding historical Prevention of Significant
Deterioration permitting issues related to certain engines at the Big Springs,
Nebraska, facility. KNI is in the process of obtaining the proper permits at
this time, and is also engaged in discussions with NDEQ regarding settlement of
the violation notice and a $500,000 fine currently proposed by the NDEQ. The
costs associated with this matter are not expected to have a material adverse
effect on the Company's business, financial position or results of operations.
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(B) Litigation
On October 9, 1992, Jack J. Grynberg filed suit in the United States District
Court for the District of Colorado against the Company, RMNG and GASCO, Inc.
(the "K N Entities") alleging that the K N Entities as well as KNPC and K N Gas
Gathering, Inc., have violated federal and state antitrust laws. In essence,
Grynberg asserts that the defendant companies have engaged in an illegal
exercise of monopoly power, have illegally denied him economically feasible
access to essential facilities to transport and distribute gas produced from
fewer than 20 wells located in northwest Colorado, and have illegally attempted
to monopolize or to enhance or maintain an existing monopoly. Grynberg also
asserts certain causes of action relating to a gas purchase contract. The
Company's potential liability for monetary damages and the amount of such
damages, if any, are subject to dispute between the parties; however, the
Company believes it has a meritorious position in these matters and does not
expect this lawsuit to have a material adverse effect on the Company's financial
position or results of operations. In July 1996, the U. S. District Court,
District of Colorado lifted its stay and allowed discovery for a period of time.
Currently, this case is still pending. Discovery is now complete, but no trial
date has yet been set.
On July 26, 1996, K N and RMNG along with over 70 other natural gas pipeline
companies, were served by Jack J. Grynberg, acting on behalf of the Government
of the United States, with a Civil False Claims Act lawsuit alleging
mismeasurement of the heating content and volume of natural gas resulting in
underpayment of royalties to the federal government. The government,
particularly officials from the Departments of Justice and Interior, reviewed
the complaint and the evidence presented by Mr. Grynberg and declined to
intervene in the action, allowing Mr. Grynberg to proceed on his own. No
specific claims were made against K N or RMNG, and no specific monetary damages
were claimed. K N and the other named companies filed a motion to dismiss the
lawsuit on grounds of improper joinder and lack of jurisdiction. The motion to
dismiss was granted in 1997, and K N is no longer required to respond to this
action. However, the court did give Mr. Grynberg leave to refile and pursue this
action in a court with proper jurisdiction. The Company believes it has a
meritorious position in this matter, and does not expect this lawsuit to have a
material adverse effect on the Company's financial position or results of
operations.
The Company believes it has meritorious defenses to all lawsuits and legal
proceedings in which it is a defendant and will vigorously defend against them.
Based on its evaluation of the above matters, and after consideration of
reserves established, the Company believes that the resolution of such matters
will not have a material adverse effect on the Company's financial position or
results of operations.
6. PROPERTY, PLANT AND EQUIPMENT
Investment in property, plant and equipment, at cost, and accumulated
depreciation and amortization ("Accumulated D&A"), detailed by business segment,
are as follows (in thousands):
DECEMBER 31, 1997
-----------------
PROPERTY, PLANT ACCUMULATED
AND EQUIPMENT D&A NET
------------- ----------------- ---
Gathering, Processing and Marketing Services $ 900,084 $ 235,640 $ 664,444
Interstate Transportation and Storage Services 632,685 156,383 476,302
Retail Natural Gas Services 438,832 158,603 280,229
----------- --------- -----------
$ 1,971,601 $ 550,626 $ 1,420,975
=========== ========= ===========
DECEMBER 31, 1996
-----------------
PROPERTY, PLANT ACCUMULATED
AND EQUIPMENT D&A NET
------------- ----------------- ---
Gathering, Processing and Marketing Services $ 683,569 $ 212,926 $ 470,643
Interstate Transportation and Storage Services 447,557 156,358 291,199
Retail Natural Gas Services 409,626 149,167 260,459
----------- --------- -----------
$ 1,540,752 $ 518,451 $ 1,022,301
=========== ========= ===========
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7. INCOME TAXES
Deferred income tax assets and liabilities are recognized for temporary
differences between the basis of assets and liabilities for financial reporting
and tax purposes. Changes in tax legislation are included in the relevant
computations in the period in which such changes are effective. Deferred tax
assets are reduced by a valuation allowance for the amount of any tax benefit
that is not expected to be realized.
Components of the income tax provision applicable to federal and state income
taxes are as follows (in thousands):
1997 1996 1995
---- ---- ----
TAXES CURRENTLY PAYABLE:
Federal $15,932 $17,685 $11,069
State 2,574 1,769 2,006
------- ------- -------
Total 18,506 19,454 13,075
------- ------- -------
TAXES DEFERRED:
Federal 16,497 15,601 15,672
State 658 842 303
------- ------- -------
Total 17,155 16,443 15,975
------- ------- -------
TOTAL TAX PROVISION $35,661 $35,897 $29,050
======= ======= =======
EFFECTIVE TAX RATE 31.5% 36.0% 35.6%
======= ======= =======
The difference between the statutory federal income tax rate and the Company's
effective income tax rate is summarized as follows:
1997 1996 1995
---- ---- ----
FEDERAL INCOME TAX RATE 35.0% 35.0% 35.0%
INCREASE (DECREASE) AS A RESULT OF:
State Income Tax, Net of Federal Benefit 1.9% 1.7% 1.8%
Nonconventional Fuels Credit -- -- (1.0%)
Adjustments to Prior Year Accruals* (5.1%) -- --
Other (0.3%) (0.7%) (0.2%)
------ ------ -------
EFFECTIVE TAX RATE 31.5% 36.0% 35.6%
====== ====== =======
*Adjustments relate to the successful resolution of certain issues from prior
years' income tax filings.
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The Company has recorded deferred regulatory assets of $0.8 million and $0.7
million, and deferred regulatory liabilities of $3.7 million and $4.2 million at
December 31, 1997, and 1996, respectively, which are expected to result in
cost-of-service adjustments. These amounts reflect the "gross of tax"
presentation required under SFAS No. 109, Accounting for Income Taxes. The
deferred tax assets and liabilities and deferred regulatory assets and
liabilities for rate-regulated entities computed according to SFAS 109 result
from the following (in thousands):
DECEMBER 31
1997 1996
---- ----
DEFERRED TAX ASSETS:
Unbilled Revenue $ 913 $ 925
Vacation Accrual 2,008 1,599
State Taxes 5,722 4,438
Capitalized Overhead Adjustment 1,086 1,858
Operating Reserves 2,281 1,155
Alternative Minimum Tax Credits 6,780 10,164
Other 996 4,339
--------- ---------
TOTAL DEFERRED TAX ASSETS 19,786 24,478
--------- ---------
DEFERRED TAX LIABILITIES:
Liberalized Depreciation 168,707 131,192
Rate Matters 8,420 6,757
Prepaid Pension 2,814 2,735
Stock Investments 3,556 3,457
Other 4,872 2,708
--------- ---------
TOTAL DEFERRED TAX LIABILITIES 188,369 146,849
--------- ---------
NET DEFERRED TAX LIABILITIES $ 168,583 $ 122,371
========= =========
DEFERRED ACCOUNTS FOR RATE REGULATED ENTITIES:
Assets $ 754 $ 706
========= =========
Liabilities $ 3,718 $ 4,218
========= =========
8. FINANCING
(A) Notes Payable
At December 31, 1996, K N had a revolving credit agreement with seven banks to
borrow for general corporate purposes, including commercial paper support, up to
a total of $200 million. On March 7, 1997, this agreement was amended to include
a total of 11 banks and to increase the amount of the credit facility to $350
million, (the "Pre-Acquisition Facility"). Borrowings were made at rates
negotiated on the borrowing date and for a term of no more than 360 days. Under
the credit agreement, K N agreed to pay a facility fee based on the total
commitment, at rates which varied based on the financial rating of K N's
long-term debt. Facility fees paid in 1997 and 1996 were $0.3 million and $0.2
million, respectively. At December 31, 1997, $100 million was outstanding under
this credit agreement, compared with $40 million at December 31, 1996, and the
agreement was terminated concurrently with the acquisition of MidCon as
described following.
Commercial paper issued by K N and supported by short-term credit facilities
represents unsecured short-term notes with maturities not to exceed 270 days
from the date of issue. During 1997, all commercial paper was redeemed within 61
days, with interest rates ranging from 5.20 to 7.40 percent. Commercial paper
outstanding at December 31, 1997, and 1996, respectively, was $229.2 and $89.3
million. The weighted-average interest rates on short-term borrowings
outstanding at December 31, 1997, and 1996, respectively, were 6.87 percent and
6.93 percent.
Average short-term borrowings outstanding during 1997 and 1996 were $200.4
million and $60.8 million, respectively. During 1997 and 1996, the
weighted-average interest rates on short-term borrowings outstanding were 5.32
percent and 5.62 percent, respectively.
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Effective with the acquisition of MidCon on January 30, 1998, the Pre-Acquistion
Facility was replaced with a $4.5 billion credit facility (the "Bank Facility")
consisting of (1) a $1.4 billion 11-month letter of credit facility (the "L/C
Facility") to support the note issued to Occidental in conjunction with the
purchase of MidCon, (2) a $2.1 billion, 364-day revolving facility (the
"Acquisition Facility"), (3) a $400 million five-year revolving credit facility
(the "$400 million Facility") providing for loans and letters of credit, of
which the letter of credit usage may not exceed $100 million and (4) a 364-day
$600 million revolving credit facility (the "$600 million Facility"). The L/C
Facility and the Acquisition Facility may be used only in conjunction with the
acquisition of MidCon. On February 3, 1998, the Company had fully utilized the
Acquisition Facility and the L/C Facility. In addition, the Company had $150
million of borrowings and $23 million of letter of credit utilization under the
$400 million Facility. The Company is in the process of implementing its plans
to refinance the acquisition-related borrowings through the public issuance of
common stock, trust securities and long-term debt. See Note 2 for additional
information regarding the MidCon acquisition.
The Bank Facility includes covenants which are common in such arrangements,
including requirements that (1) the ratio of the Company's total debt to total
capitalization not exceed 87 percent initially, or 67 percent upon completion of
the Company's refinancing plan for the MidCon acquisition borrowings and (2) the
Company's consolidated net worth be at least $570 million plus (i) 50 percent of
incremental consolidated net income and (ii) 80 percent of any increase in net
worth resulting from the issuance of certain securities. In addition, a minimum
interest coverage ratio requirement would be triggered if the Company's senior
debt ratings fall below specified levels.
(B) Long-Term Debt
DECEMBER 31
-----------
1997 1996
---- ----
(In Thousands)
DEBENTURES:
6.5% Series, Due 2013 $ 50,000 $ 50,000
7.85% Series, Due 2022 26,684 27,545
8.75% Series, Due 2024 75,000 75,000
7.35% Series, Due 2026 125,000 125,000
6.67% Series, Due 2027 150,000 -
SINKING FUND DEBENTURES:
9.95% Series, Due 2020 20,000 20,000
9.625% Series, Due 2021 45,000 45,000
8.35% Series, Due 2022 35,000 35,000
Unamortized Debt Discount (957) (1,013)
SENIOR NOTES:
7.27%, Due 1998-2002 25,000 30,000
11.846% (AOG), Due 1998-1999 11,875 18,661
Medium-Term Notes, 10.01%
Average Rate, Due 1998-1999 7,000 8,000
Other 14,965 17,454
Current Maturities of Long-Term Debt (30,751) (26,971)
--------- ---------
Total Long-Term Debt $ 553,816 $ 423,676
========= =========
Maturities of long-term debt for the five years ending December 31, 2002, are as
follows (in thousands):
YEAR AMOUNT
- ---- ------
1998 $30,751
1999 13,089
2000 5,000
2001 6,000
2002 8,250
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On November 24, 1997, K N filed a shelf registration statement with the
Securities and Exchange Commission ("SEC") allowing the Company to issue up to
an aggregate of $500 million of common stock, and/or unsecured debt securities.
In January 1998, the Company filed a shelf registration with the SEC on Form S-3
which, together with the $500 million filing in November 1997, now covers the
issuance of a total of $4.0 billion of securities including common stock, stock
purchase units, preferred trust securities, and unsecured debt. The registration
statement became effective January 30, 1998.
On October 27, 1997, K N publicly sold $150 million of 6.67% debentures maturing
on November 1, 2027. These debentures are callable by the Company any time after
November 1, 2004 and are redeemable at the option of the registered holders on
November 1, 2004. The Company used the net proceeds from the sale to reduce
short-term indebtedness.
On July 26, 1996, K N sold publicly $125 million of 30-year 7.35% debentures at
an all-in cost to the Company of 7.40 percent.
At December 31, 1997, and 1996, the carrying amount of the Company's long-term
debt was $585.5 million and $451.7 million, respectively. The estimated fair
values of the Company's long-term debt at 1997 and 1996 are shown in Note 14.
(C) Capital Securities
On April 24, 1997, the Company sold $100 million of 8.56% Preferred Capital
Trust Securities (the "Capital Securities") maturing on April 15, 2027. The sale
was effected through a wholly owned business trust named K N Capital Trust I
(the "Trust"). The Company used the net proceeds from the sale to reduce
short-term indebtedness. The financial statements of the Trust are consolidated
into the Company's consolidated financial statements, with the Capital
Securities treated as a minority interest and shown in the Company's
Consolidated Balance Sheet as "K N-Obligated Mandatorily Redeemable Preferred
Capital Trust Securities of Subsidiary Trust Holding Solely Debentures of K N."
See Note 14 for the fair value of these securities.
(D) Common Stock
On June 11, 1997, Cabot Corporation exercised the remaining warrants held by it
and purchased, in an unregistered offering, 642,232 shares of K N's Common
Stock, which were issued to Cabot Specialty Chemicals, Inc., in exchange for
Cabot's payment of $11.3 million. After this exercise, Cabot Corporation owned
2,990,186 shares, or approximately 9 percent of the common stock of K N.
On August 6, 1996, K N sold publicly 1,715,000 shares of its common stock at
$32.25 per share, less offering expenses. K N applied approximately $7.4 million
of the net proceeds from the offering to redeem and cancel outstanding warrants
to purchase a total of 545,200 shares of K N's common stock. In connection with
this sale of K N common stock, Cabot Corporation sold 1,850,000 shares of K N
common stock. K N did not receive any of the proceeds from the sale of K N
common stock by Cabot Corporation.
9. PREFERRED STOCK
The Company has authorized 200,000 shares of Class A and 2,000,000 shares of
Class B preferred stock, all without par value.
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(A) Class A $5.00 Preferred Stock
At both December 31, 1997, and 1996, 70,000 shares of the Company's Class A
$5.00 Cumulative Series preferred stock were outstanding. The Class A $5.00
Preferred Stock is redeemable, in whole or in part, at the option of the Company
at any time on 30 days' notice at $105 per share plus accrued dividends and has
no sinking fund requirements.
(B) Class B Preferred Stock
The Company did not have any outstanding shares of Class B Preferred Stock at
December 31, 1997, or 1996. The remaining 5,720 shares of K N Class B $8.30
Preferred Stock subject to mandatory redemption were redeemed by the Company in
1996. In 1995, the Company redeemed 5,714 shares subject to mandatory
redemption, and an additional 5,714 shares at $100 per share.
(C) Rights of Preferred Shareholders
All outstanding series of preferred stock have voting rights. If, for any class
of preferred stock, the Company (i) is in arrears on dividends, (ii) has failed
to pay or set aside any amounts required to be paid or set aside for all sinking
funds, or (iii) is in default on any of its redemption obligations, then no
dividends shall be paid or declared on any class of stock junior to the
preferred stock nor shall any of such stock be purchased or redeemed by the
Company. Also, if dividends on any class of preferred stock are sufficiently in
arrears, the holders of that stock may elect one-third of the Company's Board of
Directors.
10. RISK MANAGEMENT
The Company uses two types of risk management instruments - energy financial
instruments and interest rate swaps - which are discussed below. The Company is
exposed to credit-related losses in the event of nonperformance by
counterparties to these financial instruments, but does not expect any
counterparties to fail to meet their obligations given their existing credit
ratings.
The fair value of these risk management instruments reflects the estimated
amounts that the Company would receive or pay to terminate the contracts at the
reporting date, thereby taking into account the current unrealized gains or
losses on open contracts. Market quotes are available for substantially all
financial instruments used by the Company.
(A) Energy Financial Instruments
The Company uses energy financial instruments to minimize its risk of price
changes in the spot and fixed price natural gas and NGLs markets. Energy risk
management products include commodity futures and options contracts, fixed-price
swaps and basis swaps. Pursuant to its Board of Directors' approved guidelines,
the Company is to engage in these activities only as a hedging mechanism against
price volatility associated with pre-existing or anticipated physical gas and
condensate sales, gas purchases, system use and storage in order to protect
profit margins, and is prohibited from engaging in speculative trading.
Commodity-related activities of the risk management group are monitored by the
Company's Risk Management Committee, which is charged with the review and
enforcement of the Board of Directors' risk management guidelines. All energy
futures, swaps and options are recorded at fair value. Gains and losses on
hedging positions are deferred and recognized as gas purchases expense in the
periods in which the underlying physical transactions occur.
The differences between the current market value and the original physical
contracts' value, associated with hedging activities, are reflected, depending
on maturity, as deferred charges or credits and other current assets or
liabilities in the accompanying Consolidated Balance Sheets. These deferrals are
offset by the corresponding
44
45
value of the underlying physical transactions. In the event energy financial
instruments do not meet the criteria for hedge accounting, the deferred gains or
losses associated with the corresponding financial instruments would be included
in the results of operations in the current period. In the event energy
financial instruments are terminated prior to the period of physical delivery of
the items being hedged, the gains or losses on the energy financial instruments
at the time of termination remain deferred until the period of physical delivery
unless both the energy financial instruments and the items being hedged result
in a loss. If this occurs, the loss is recorded immediately.
As of December 31, 1997, the Company had deferred a net loss of $11.8 million
associated with hedging activities, of which $4.0 million relates to commodity
contracts and $7.8 million to over-the-counter swaps and options. The deferrals
are reflected as other current assets and deferred charges in the accompanying
Consolidated Balance Sheet and will be matched with the corresponding underlying
physical transactions. At December 31, 1997, the Company held notional long
volumetric positions of 28.6 Bcf of gas, of which 7.6 Bcf short positions were
held in gas commodity positions, and 36.2 Bcf long positions were held in
over-the-counter swaps and options. Of the 28.6 Bcf notional total, associated
physical transactions of 28.3 Bcf were expected to occur in 1998 and 0.3 Bcf in
1999 and 2000. A change of plus or minus 10 percent of the fair market prices of
the above financial instruments would have the approximate effect of reducing or
increasing the deferrals by $9.2 million, which would be offset by corresponding
increases or decreases in the value of the underlying physical transactions.
(B) Interest Rate Swaps
From time to time, the Company has entered into various interest rate swap and
cap agreements for the purpose of managing interest rate exposure. Settlement
amounts payable or receivable under these agreements are recorded as interest
expense or income in the accounting period they are incurred. The notional
principal covered under such arrangements for the periods presented are not
material to the consolidated financial statements taken as a whole. As of
December 31, 1997, all such agreements had expired.
11. EMPLOYEE BENEFITS
(A) Retirement Plans
The Company has defined benefit pension plans covering substantially all
full-time employees. These plans provide pension benefits that are based on the
employees' compensation during the period of employment, age and years of
service. These plans are tax-qualified subject to the minimum funding
requirements of the Employee Retirement Income Security Act of 1974. The
Company's funding policy is to contribute annually the recommended contribution
using the actuarial cost method and assumptions used for determining annual
funding requirements. Plan assets consist primarily of pooled fixed income,
equity, bond and money market funds.
Net periodic pension cost includes the following components (in thousands):
1997 1996 1995
---- ---- ----
Service Cost - Benefits Earned During the Period $ 3,462 $ 3,289 $ 3,332
Interest Cost on Projected Benefit Obligation 7,155 6,756 6,372
Actual Return on Assets (23,663) (18,243) (17,569)
Net Amortization and Deferral 13,076 8,896 8,415
-------- -------- --------
Net Periodic Pension Cost $ 30 $ 698 $ 550
======== ======== ========
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The following table sets forth the plans' funded status and amounts recognized
under the caption "Gas Imbalances and Other" in the Company's Consolidated
Balance Sheets at December 31, 1997 and 1996 (in thousands):
DECEMBER 31
-----------
1997 1996
---- ----
Actuarial Present Value of Benefit Obligations:
Vested Benefit Obligation $ (92,292) $(84,861)
========= ========
Accumulated Benefit Obligation $ (99,299) $(90,779)
========= ========
Projected Benefit Obligation $(106,383) $(97,182)
Plan Assets at Fair Value 141,423 123,736
--------- --------
Plan Assets in Excess of Projected Benefit Obligation 35,040 26,554
Unrecognized Net Gain (24,669) (16,023)
Prior Service Cost Not Yet Recognized in Net Periodic
Pension Costs 138 155
Unrecognized Net Asset (1,136) (1,282)
--------- --------
Prepaid Pension Cost $ 9,373 $ 9,404
========= ========
The rate of increase in future compensation and the expected long-term rate of
return on plan assets were 3.5 and 8.5 percent, respectively, for both 1997 and
1996. The weighted-average discount rate used in determining the actuarial
present value of the projected benefit obligation was 7.25 percent for 1997 and
7.5 percent for 1996.
For 1997, seven percent, and for 1996 an amount equal to a maximum of 10
percent, of eligible employee compensation was contributed to the Employees
Retirement Fund Trust Profit Sharing Plan (the "Profit Sharing Plan"), a defined
contribution plan. In 1997 and 1996, the Company's contribution was determined
by comparing actual results to a predetermined graduated scale of annual
operating income goals. Prior to 1996 the Company contributed an amount equal to
the lesser of 10 percent of the Company's net income or 10 percent of eligible
employee compensation to the Profit Sharing Plan. Contributions by the Company
were $5.3 million, $6.6 million, and $5.6 million for 1997, 1996 and 1995,
respectively, 50 percent of which was in the form of the Company's common stock.
(B) Other Postretirement Employee Benefits
The Company has a defined benefit postretirement plan providing medical care
benefits upon retirement for all eligible employees with at least five years of
credited service as of January 1, 1993, and also covers their eligible
dependents. Retired employees are required to contribute monthly amounts which
depend upon the retired employee's age, years of service upon retirement and
date of retirement.
This plan also provides life insurance benefits upon retirement for all
employees with at least 10 years of credited service who are age 55 or older
when they retire. The Company pays for a portion of the life insurance benefit.
Employees may, at their option, increase the benefit by making contributions
from age 55 until age 65 or retirement, whichever is earlier. The Company funds
the future expected postretirement benefit costs under the plan by making
payments to Voluntary Employee Benefit Association trusts. The Company's funding
policy is to contribute amounts within the deductible limits imposed on Internal
Revenue Code Sec. 501(c)(9) trusts. Plan assets consist primarily of pooled
fixed income funds.
Net periodic postretirement benefit cost includes the following components (in
thousands):
1997 1996 1995
---- ---- ----
Service Cost - Benefits Earned During the Period $ 205 $ 324 $ 378
Interest Cost on APBO 1,394 1,392 1,381
Actual Return on Assets (159) (114) (156)
Net Amortization and Deferral 811 894 884
------ ------ ------
Net Periodic Postretirement Benefit Cost $2,251 $2,496 $2,487
====== ====== ======
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The following table sets forth the plan's funded status and the amounts
recognized in the Company's Consolidated Balance Sheets as follows (in
thousands):
DECEMBER 31
-----------
1997 1996
---- ----
Accumulated Postretirement Benefit Obligation:
Retirees $ (13,824) $ (15,578)
Eligible Active Plan Participants (1,949) (1,549)
Ineligible Active Plan Participants (3,995) (2,294)
--------- ---------
Total APBO (19,768) (19,421)
Plan Assets at Fair Value 3,569 3,192
--------- ---------
APBO in Excess of Plan Assets (16,199) (16,229)
Unrecognized Net Gain (681) (1,179)
Unrecognized Transition Obligation 13,936 14,865
-------- --------
Accrued Postretirement Benefit Cost $ (2,944) $ (2,543)
======== ========
The weighted-average discount rate used in determining the actuarial present
value of the APBO was 7.25 percent in 1997 and 7.5 percent in 1996. The assumed
health care cost trend rate was seven percent for 1997 and beyond. A
one-percentage-point increase in the assumed health care cost trend rate for
each future year would have increased the aggregate of the service and interest
cost components of the 1997 net periodic postretirement benefit cost by
approximately $14,000 and would have increased the APBO as of December 31, 1997,
by approximately $198,000.
12. COMMON STOCK OPTION AND PURCHASE PLANS
The Company has the following stock option plans: The 1982 Incentive Stock
Option Plan ("the 1982 Plan"), the 1982 Stock Option Plan for Non-Employee
Directors ("the 1982 Directors' Plan"), the 1986 Incentive Option Plan ("the
1986 Plan"), the 1988 Incentive Stock Option Plan ("the 1988 Plan"), the 1992
Stock Option Plan for Non-Employee Directors ("the 1992 Directors' Plan"), the
1994 K N Energy, Inc. Long-Term Incentive Plan ("the LTIP Plan") and the
American Oil and Gas Corporation Stock Incentive Plan ("the AOG Plan"). The
Company also has an employee stock purchase plan ("the ESP Plan").
The Company accounts for its plans under Accounting Principles Board Opinion
("APB") No. 25, Accounting for Stock Issued to Employees. The Company recorded
compensation expense totaling $2.4 million, $0.8 million, and $0.2 million for
1997, 1996 and 1995, respectively, relating to restricted stock grants awarded
under the plans.
Had compensation cost for these plans been determined consistent with SFAS No.
123, Accounting for Stock-Based Compensation, the Company's net income and
diluted earnings per share would have been reduced to the following pro forma
amounts (in thousands except per share amounts):
1997 1996 1995
---- ---- ----
NET INCOME:
As Reported $77,497 $63,819 $52,522
======= ======= =======
Pro Forma $73,028 $62,497 $52,101
======= ======= =======
EARNINGS PER SHARE:
As Reported $ 2.45 $ 2.14 $ 1.83
======= ======= =======
Pro Forma $ 2.30 $ 2.10 $ 1.82
======= ======= =======
Because the SFAS 123 method of accounting has not been applied to options
granted prior to January 1, 1995, the resulting pro forma compensation cost may
not be representative of that to be expected in future years. Additionally,
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the pro forma amounts include $0.4 million, $0.4 million and $0.3 million
related to the purchase discount offered under the ESP Plan for 1997, 1996 and
1995, respectively.
The Company may sell up to 600,000 shares of stock to its eligible employees
under the ESP Plan. Employees purchased 88,135 shares, 87,615 shares, and 95,572
shares for plan years 1997, 1996 and 1995, respectively, and have purchased
572,734 shares through the 1997 plan year. Shares are issued in the month
following the end of each plan year. Employees purchase shares through voluntary
payroll deductions at a 15 percent discount from the market value of the common
stock, as defined in the plan. The weighted-average fair value per share of
purchase rights granted in 1997, 1996 and 1995 was $9.72, $6.45 and $5.35,
respectively.
OPTION SHARES
GRANTED
SHARES SUBJECT THROUGH EXPIRATION
PLAN NAME TO THE PLAN 12/31/97 VESTING PERIOD PERIOD
--------- ----------- -------- -------------- ------
1982 Plan 888,525 888,525 Immediate 10 years
1982 Directors' Plan 124,393 124,393 Three years 10 years
1986 Plan 412,500 412,500 Immediate 10 years
1988 Plan 412,500 412,500 Immediate 10 years
1992 Directors' Plan 350,000 122,250 Immediate 10 years
LTIP Plan 2,200,000 2,078,785 0 - 5 years 5 - 10 years
AOG Plan 517,000 517,000 Three years 10 years
Under all plans, except the LTIP Plan and the AOG Plan, options are granted at
not less than 100 percent of the market value of the stock at the date of grant.
Under the LTIP Plan options may be granted at less than 100 percent of the
market value of the stock at the date of grant. Certain restricted stock awards
include provisions accelerating the lapsing of restrictions in the event certain
operating goals are met.
At December 31, 1997, 161 employees, officers and directors of the Company held
options under the plans. A summary of the status of the Company's stock option
plans at December 31, 1997, 1996 and 1995, and changes during the years then
ended is presented in the table and narrative below:
1997 1996 1995
---- ---- ----
WTD AVG WTD AVG WTD AVG
EXERCISE EXERCISE EXERCISE
SHARES PRICE SHARES PRICE SHARES PRICE
------ ----- ------ ----- ------ -----
OUTSTANDING AT BEGINNING
OF YEAR 1,726,487 $27.78 1,164,510 $21.25 1,214,024 $18.49
Granted 752,402 $28.52 925,126 $31.61 348,200 $25.87
Exercised (253,050) $21.17 (329,574) $15.88 (373,423) $16.54
Forfeited (79,129) $28.45 (33,575) $23.69 (24,291) $21.80
--------- ----- --------- ----- --------- -----
OUTSTANDING AT END OF YEAR 2,146,710 $28.79 1,726,487 $27.78 1,164,510 $21.25
========= ====== ========= ====== ========= ======
EXERCISABLE AT END OF YEAR 895,415 $29.62 604,962 $24.52 584,902 $18.16
========= ====== ========= ====== ========= ======
WEIGHTED-AVERAGE FAIR VALUE
OF OPTIONS GRANTED $ 15.71 $ 9.53 $ 4.71
======== ========= =========
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The following table sets forth K N's December 31, 1997 price ranges, common
stock options outstanding, weighted-average exercise prices, weighted-average
remaining contractual lives, common stock options exercisable and the
exercisable weighted-average exercise price.
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
- -------------------------------------------------------------------------------------- -------------------------------------
WTD AVG
WTD AVG REMAINING WTD AVG
PRICE NUMBER EXERCISE CONTRACTUAL NUMBER EXERCISE
RANGE OUTSTANDING PRICE LIFE EXERCISABLE PRICE
----- ----------- ----- ---- ----------- -----
$ 0.00 - $25.19 801,335 $14.62 5.65 406,541 $21.49
$28.00 - $36.06 840,974 $34.65 8.50 329,083 $34.12
$37.31 - $52.13 504,401 $41.53 9.53 159,791 $41.03
--------- -------
2,146,710 $28.79 7.68 895,415 $29.62
========= =======
The weighted-average fair value of each option grant is estimated on the date of
grant using the Black Scholes option pricing model with the following
assumptions: risk-free interest rate of 5.5 percent, expected weighted-average
lives of 4 years and expected volatility of 20 percent for grants in 1997, 1996
and 1995; and expected dividend yields of 2.5 percent for grants in 1997 and
1996 and 3.5 percent for grants in 1995.
13. COMMITMENTS AND CONTINGENT LIABILITIES
(A) Leases
The Company has entered into several lease agreements that are classified as
operating leases including those referred to in Notes 2 and 3(A).
Expenses incurred under operating leases were $33.0 million in 1997, $22.3
million in 1996 and $16.2 million in 1995. Excluding the assumption of operating
leases of MidCon, future minimum commitments under major operating leases as of
December 31, 1997 are as follows (in thousands):
YEAR ENDING
DECEMBER 31 AMOUNT
- ----------- ------
1998 $ 36,254
1999 35,802
2000 39,363
2001 41,432
2002 34,838
Thereafter 248,551
--------
Total Commitments $436,240
========
(B) Basket Agreement
Under terms of an agreement (the "Basket Agreement") entered into with Cabot as
part of AOG's acquisition of Cabot's natural gas pipeline business, AOG and
Cabot equally shared net payments made in settlement of certain liabilities
related to operations of the acquired business prior to the acquisition date The
Basket Agreement was settled in 1997, without a material impact on the Company's
financial position or results of operations.
(C) Guarantees of Unconsolidated Subsidiaries' Debt
The Company executed guarantees of two unconsolidated subsidiaries' revolving
credit agreements with Credit Lyonnais, effective July 19, 1996. One guarantee
is for TransColorado Gas Transmission Company ("TransColorado") for a maximum of
$7.5 million due by December 31, 1999, and another guarantee is for Coyote
49
50
Gas Treating, LLC ("Coyote") for a maximum of $10 million due by December 31,
1999. As of December 31, 1997, $6.4 and $8.7 million, respectively, represent
the guaranteed amounts by the Company borrowed against the TransColorado and
Coyote agreements.
(D) Capital Expenditures Budget
The consolidated capital expenditures budget for 1998 totals $149.5 million,
(before adjustment to reflect the consolidation with MidCon). Approximately
$15.1 million had been committed for the purchase of plant and equipment at
December 31, 1997.
14. FAIR VALUE
The following fair values of investments, Long-Term Debt, Capital Securities and
K N Preferred Stock were estimated based on an evaluation made by an independent
securities analyst. Fair values of Energy Financial Instruments, net reflect the
estimated amounts that the Company would receive or pay to terminate the
contracts at the reporting date, thereby taking into account the current
unrealized gains or losses on open contracts. Market quotes are available for
substantially all instruments used by the Company.
DECEMBER 31
-----------
1997 1996
---- ----
CARRYING FAIR CARRYING FAIR
VALUE VALUE VALUE VALUE
(In Millions)
FINANCIAL ASSETS
TBI Class A Preferred Stock $ 25.6 $ (i) $ 25.6 $ (i)
TBI Common Stock $ 17.7 $ 17.7 $ 19.2 $ 19.2
Energy Financial Instruments, net - - $ 1.8 $ 1.8
FINANCIAL LIABILITIES
Long-Term Debt $585.5 $622.1 $451.7 $471.7
Capital Securities $100.0 $100.7 $ - $ -
Energy Financial Instruments, net $ 11.8 $ 11.8 $ - $ -
K N Class A $5.00 Preferred Stock $ 7.0 $ 6.0 $ 7.0 $ 5.3
(i) Fair values for TBI Class A Preferred Stock are not readily available.
15. MAJOR CUSTOMER
Sales to Atmos Energy Corporation and affiliates comprised 10 percent of
consolidated revenues in 1995.
16. BUSINESS SEGMENT INFORMATION
The Company is a natural gas energy products and services provider engaged in
the following activities:
o gathering, processing, marketing, transporting and storing natural gas;
providing field services to natural gas producers and marketing NGLs
(Gathering, Processing and Marketing Services);
o interstate storing and transporting natural gas (Interstate Transportation
and Storage Services);
o providing retail natural gas sales and transportation services (Retail
Natural Gas Services).
The Company was involved in developing and producing natural gas and crude oil
in 1995 (Gas and Oil Production).
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BUSINESS SEGMENT INFORMATION
(Before Intersegment Eliminations)
1997 1996 1995
---- ---- ----
(In Thousands)
OPERATING REVENUES:
Gathering, Processing and Marketing Services $1,930,360 $1,256,478 $ 890,455
Interstate Transportation and Storage Services 79,811 71,769 64,405
Retail Natural Gas Services 256,837 225,432 232,317
Gas and Oil Production - - 10,721
Intersegment Eliminations (121,890) (113,197) (86,500)
---------- ---------- ----------
$2,145,118 $1,440,482 $1,111,398
========== ========== ==========
OPERATING INCOME:
Gathering, Processing and Marketing Services $ 74,373 $ 74,460 $ 64,623
Interstate Transportation and Storage Services 35,024 29,460 17,933
Retail Natural Gas Services 32,852 30,881 32,995
Gas and Oil Production - - (189)
---------- ---------- ----------
OPERATING INCOME 142,249 134,801 115,362
Other Income and (Deductions) (29,091) (35,085) (33,790)
---------- ---------- ----------
INCOME BEFORE INCOME TAXES $ 113,158 $ 99,716 $ 81,572
========== ========== ==========
IDENTIFIABLE ASSETS (AT DECEMBER 31):
Gathering, Processing and Marketing Services $1,165,086 $ 869,141 $ 685,023
Interstate Transportation and Storage Services 493,864 315,503 178,882
Retail Natural Gas Services 491,719 419,415 328,166
Gas and Oil Production - - 36,451
Corporate * 155,136 25,661 28,935
---------- ---------- ----------
$2,305,805 $1,629,720 $1,257,457
========== ========== ==========
DEPRECIATION, DEPLETION AND AMORTIZATION EXPENSE:
Gathering, Processing and Marketing Services $ 34,769 $ 31,654 $ 26,510
Interstate Transportation and Storage Services 9,063 8,078 7,767
Retail Natural Gas Services 12,162 11,480 11,006
Gas and Oil Production - - 4,608
---------- ---------- ----------
$ 55,994 $ 51,212 $ 49,891
========== ========== ==========
CAPITAL EXPENDITURES AND ACQUISITIONS:
Gathering, Processing and Marketing Services $ 236,728 $ 96,486 $ 67,774
Interstate Transportation and Storage Services 188,893 150,640 11,200
Retail Natural Gas Services 39,228 28,770 30,080
Gas and Oil Production - - 6,156
---------- ---------- ----------
$ 464,849 $ 275,896 $ 115,210
========== ========== ==========
* Principally cash and investments in equity of unconsolidated subsidiaries
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QUARTERLY FINANCIAL INFORMATION (UNAUDITED)
K N ENERGY, INC. AND SUBSIDIARIES
QUARTERLY OPERATING RESULTS FOR 1997 AND 1996
(In Thousands Except Per Share Amounts)
1997
----
FIRST SECOND THIRD FOURTH
----- ------ ----- ------
Operating Revenues $489,473 $357,847 $515,137 $782,661
Operating Income 39,905 23,932 32,382 46,030
Net Income 20,358 10,872 17,808 28,459
Preferred Dividends 88 87 88 87
Earnings Available for Common Stock $ 20,270 $ 10,785 $ 17,720 $ 28,372
======== ======== ======== ========
Number of Common Shares Used In
Computing Basic Earnings Per Share 30,518 30,787 31,372 31,558
======== ======== ======== ========
Number of Common Shares Used In
Computing Diluted Earnings Per Share 30,169 31,377 31,709 31,997
======== ======== ======== ========
Basic Earnings Per Common Share $ 0.66 $ 0.35 $ 0.56 $ 0.90
======== ======== ======== ========
Diluted Earnings Per Common Share $ 0.65 $ 0.34 $ 0.56 $ 0.89
======== ======== ======== ========
1996
----
FIRST SECOND THIRD FOURTH
----- ------ ----- ------
Operating Revenues $384,440 $277,148 $303,632 $475,262
Operating Income 35,776 22,084 30,157 46,784
Net Income 17,507 8,848 13,693 23,771
Preferred Dividends 100 99 99 100
Earnings Available for Common Stock $ 17,407 $ 8,749 $ 13,594 $ 23,671
======== ======== ======== ========
Number of Common Shares Used In
Computing Basic Earnings Per Share 28,265 28,411 29,509 30,221
======== ======== ======== ========
Number of Common Shares Used In
Computing Diluted Earnings Per Share 28,945 29,181 30,046 30,875
======== ======== ======== ========
Basic Earnings Per Common Share $ 0.62 $ 0.31 $ 0.46 $ 0.78
======== ======== ======== ========
Diluted Earnings Per Common Share $ 0.60 $ 0.30 $ 0.46 $ 0.78
======== ======== ======== ========
ITEM 9: CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
There were no such matters during 1997.
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PART III
ITEM 10: DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
(A) Identification of Directors
For information regarding the Directors, see pages 2-9 of the 1998 Proxy
Statement.
(B) Identification of Executive Officers
See Executive Officers of the Registrant under Part I.
(C) Identification of Certain Significant Employees
None.
(D) Family Relationships
See "Election of Directors" on page 7 of the 1998 Proxy Statement.
(E) Business Experience
See Executive Officers of the Registrant under Part I. For business
experience of the Directors, see pages 3-6 of the 1998 Proxy Statement.
(F) Involvement in Certain Legal Proceedings
None.
(G) Promoters and Control Persons
None.
ITEM 11: EXECUTIVE COMPENSATION
See "Director Compensation," "Report of the Compensation Committee on Executive
Compensation," "Executive Compensation," "Stock Options," "Performance Graph,"
"Pension and Supplemental Benefits" and "Severance and Other Agreements" on
pages 8-21 of the 1998 Proxy Statement.
ITEM 12: SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
See the following pages of the 1998 Proxy Statement: (i) Pages 3-7 relating
to common stock owned by directors; (ii) page 19, "Executive Stock Ownership;"
and (iii) pages 31-32, "Principal Shareholders."
53
54
ITEM 13: CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
(A) Transactions with Management and Others
See "Relationship Between Certain Directors and the Company" on page 7 of
the 1998 Proxy Statement.
(B) Certain Business Relationships
See "Relationship Between Certain Directors and the Company"on page 7 of
the 1998 Proxy Statement.
(C) Indebtedness of Management
See "Relationship Between Certain Directors and the Company" on page 7 of
the 1998 Proxy Statement.
(D) Transactions with Promoters
Not applicable.
54
55
PART IV
ITEM 14: EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a) See the index for a listing and page numbers of financial statements and
exhibits included herein or incorporated by reference.
Executive Compensation Plans and Arrangements
Form of Key Employee Severance Agreement (Exhibit 10.2, Amendment No. 1
on Form 8 dated September 2, 1988 to the Annual Report on Form 10-K for the year
ended December 31, 1987)*
1982 Stock Option Plan for Nonemployee Directors of the Company with
Form of Grant Certificate (Exhibit 10.3, Amendment No. 1 on Form 8 dated
September 2, 1988 to the Annual Report on Form 10-K for the year ended December
31, 1987)*
1982 Incentive Stock Option Plan for key employees of the Company
(Exhibit 10.4, Amendment No. 1 on Form 8 dated September 2, 1988 to the Annual
Report on Form 10-K for the year ended December 31, 1987)*
1986 Incentive Stock Option Plan for key employees of the Company
(Exhibit 10.5, Amendment No. 1 on Form 8 dated September 2, 1988 to the Annual
Report on Form 10-K for the year ended December 31, 1987)*
1988 Incentive Stock Option Plan for key employees of the Company
(Exhibit 10.6, Amendment No. 1 on Form 8 dated September 2, 1988 to the Annual
Report on Form 10-K for the year ended December 31, 1987)*
Form of Grant Certificate for Employee Stock Option Plans (Exhibit
10.7, Amendment No. 1 on Form 8 dated September 2, 1988 to the Annual Report on
Form 10-K for the year ended December 31, 1987)*
Directors' Deferred Compensation Plan Agreement (Exhibit 10.8,
Amendment No. 1 on Form 8 dated September 2, 1988 to the Annual Report on Form
10-K for the year ended December 31, 1987)*
1987 Directors' Deferred Fee Plan As Amended and Form of Participation
Agreement regarding the Plan (Exhibit 10(h) to the Annual Report on Form 10-K
for the year ended December 31, 1995)*
1992 Stock Option Plan for Nonemployee Directors of the Company with
Form of Grant Certificate (Exhibit 4.1, File No. 33-46999)*
1994 K N Energy, Inc. Long-Term Incentive Plan (Attachment A to the K N
Energy, Inc. 1994 Proxy Statement on Schedule 14-A)*
K N Energy, Inc. 1996 Executive Incentive Plan (Exhibit 10(l) to the
Annual Report on Form 10-K for the year ended December 31, 1995)*
K N Energy, Inc. Nonqualified Deferred Compensation Plan (Exhibit 10(m)
to the Annual Report on Form 10-K for the year ended December 31, 1994)*
K N Energy, Inc. Nonqualified Retirement Income Restoration Plan
(Exhibit 10(n) to the Annual Report on Form 10-K for the year ended December 31,
1994)*
55
56
K N Energy, Inc. Nonqualified Profit Sharing Restoration Plan (Exhibit
10(o) to the Annual Report on Form 10-K for the year ended December 31, 1994)*
Employment Agreement dated December 14, 1995 between K N Energy, Inc.
and Morton C. Aaronson (Exhibit 10(p) to the Annual Report on Form 10-K for the
year ended December 31, 1995)*
Letter Agreement dated December 4, 1995 between K N Energy, Inc. and
Charles W. Battey (Exhibit 10(q) to the Annual Report on Form 10-K for the year
ended December 31, 1995)*
K N Energy, Inc. Performance Incentive Plan (Exhibit 10(u) to the
Annual Report on Form 10-K for the year ended December 31, 1995)*
Form of Change of Control Severance Agreement (Exhibit 10(u) to the
Annual Report on Form 10-K for the year ended December 31, 1996)*
Form of Incentive Stock Option Agreement (Exhibit 10(v) to the Annual
Report on Form 10-K for the year ended December 31, 1996)*
Form of Restricted Stock Agreement (Exhibit 10(w) to the Annual Report
on Form 10-K for the year ended December 31, 1996)*
Employment Agreement dated March 21, 1996 between K N Energy, Inc. and
Murray R. Smith (Exhibit 10(x) to the Annual Report on Form 10-K for the year
ended December 31, 1996)*
(b) Reports on Form 8-K
On October 27, 1997, a Current Report on Form 8-K was filed to report that on
that date K N Energy, Inc. sold $150 million of its 6.67% debentures due
November 1, 1997 pursuant to an underwritten public offering.
* Incorporated herein by reference.
56
57
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.
K N ENERGY, INC.
(Registrant)
March 5, 1998 By /s/ Clyde E. McKenzie
-------------------------
Clyde E. McKenzie
Vice President and Chief Financial Officer
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 date indicated.
/s/ Edward H. Austin, Jr. Director
- ------------------------------
Edward H. Austin, Jr.
/s/ Charles W. Battey Director
- ------------------------------
Charles W. Battey
/s/ Stewart A. Bliss Director
- ------------------------------
Stewart A. Bliss
/s/ David W. Burkholder Director
- ------------------------------
David W. Burkholder
/s/ David M. Carmichael Director
- ------------------------------
David M. Carmichael
/s/ Robert H. Chitwood Director
- ------------------------------
Robert H. Chitwood
/s/ Howard P. Coghlan Director
- ------------------------------
Howard P. Coghlan
/s/ Jordan L. Haines Director
- ------------------------------
Jordan L. Haines
/s/ Larry D. Hall Chairman, President, Chief Executive Officer
- ------------------------------ and Director (Principal Executive Officer)
Larry D. Hall
/s/ William J. Hybl Director
- ------------------------------
William J. Hybl
/s/ Richard D. Kinder Director
- ------------------------------
Richard D. Kinder
/s/ Clyde E. McKenzie Vice President and Chief Financial Officer
- ------------------------------ (Principal Financial and Accounting Officer)
Clyde E. McKenzie
/s/ Edward Randall, III Director
- ------------------------------
Edward Randall, III
/s/ John F. Riordan Director
- ------------------------------
John F. Riordan
/s/ James C. Taylor Director
- ------------------------------
James C. Taylor
/s/ H. A. True, III Director
- ------------------------------
H. A. True, III
57
58
Exhibit Index Page Number
------------- -----------
List of Executive Compensation Plans and Arrangements........................... 55-56
Exhibit 2(a) - Stock Purchase Agreement, dated December
18, 1997, between K N Energy, Inc. and Occidental
Petroleum Corporation (Exhibit 2.1, File No. 333-44421)*
Exhibit 2(b) - Amendment No. 1 to Stock Purchase Agreement,
dated January 30,1998, between K N Energy, Inc. and
Occidental Petroleum Corporation (Attached hereto as Exhibit 2(b))**
Exhibit 3(a) - Restated Articles of Incorporation
(Exhibit 3(a) to the Annual Report on Form 10-K
for the year ended December 31, 1994)*
Exhibit 3(b) - By-Laws of the Company, as amended
(Exhibit 3(b) to the Annual Report on Form 10-K
for the year ended December 31, 1996)*
Exhibit 4(a) - Indenture dated as of September 1,
1988, between K N Energy, Inc. and Continental
Illinois National Bank and Trust Company of Chicago
(Exhibit 1.2, Current Report on Form 8-K
Dated October 5, 1988)*
Exhibit 4(b) - First supplemental indenture dated
as of January 15, 1992, between K N Energy, Inc.
and Continental Illinois National Bank and Trust
Company of Chicago (Exhibit 4.2, File No. 33-45091)*
Exhibit 4(c) - Second supplemental indenture dated
as of December 15, 1992, between K N Energy, Inc.
and Continental Bank, National Association (Exhibit
1.2 Current Report on Form 8-K dated December 15,
1992)*
Exhibit 4(d) - Indenture dated as of November 20,
1993, between K N Energy, Inc. and Continental
Bank, National Association (Exhibit 4.1, File No.
33-51115)* Note - Copies of instruments relative
to long-term debt in authorized amounts that do
not exceed 10 percent of the consolidated total
assets of the Company and its subsidiaries have
not been furnished. The Company will furnish such
instruments to the Commission upon request
Exhibit 4(e) - $600,000,000 364-Day Credit
Agreement among K N Energy, Inc., certain banks
listed therein and Morgan Guaranty Trust Company
of New York as Administrative Agent (Attached
hereto as Exhibit 4(e))**
Exhibit 4(f) - $400,000,000 Five-Year Credit
Agreement among K N Energy, Inc., certain banks
listed therein and Morgan Guaranty Trust Company
of New York as Administrative Agent (Attached
hereto as Exhibit 4(f))**
Exhibit 4(g) - $2,100,000,000 364-Day Credit
Agreement among K N Energy, Inc., certain banks
listed therein and Morgan Guaranty Trust Company
of New York as Administrative Agent (Attached
hereto as Exhibit 4(g))**
Exhibit 4(h) - $1,394,846,122 Reimbursement
Agreement among K N Energy, Inc., certain banks
listed therein and Morgan Guaranty Trust Company
of New York as Administrative Agent (Attached
hereto as Exhibit 4(h))**
Exhibit 10(a) - Form of Key Employee Severance
Agreement (Exhibit 10.2, Amendment No. 1 on Form
8 dated September 2, 1988 to the Annual Report on
Form 10-K for the year ended December 31, 1987)*
Exhibit 10(b) - 1982 Stock Option Plan for Non-Employee
58
59
Exhibit Index Page Number
------------- -----------
Directors of the Company with Form of
Grant Certificate (Exhibit 10.3, Amendment No. 1
on Form 8 dated September 2, 1988 to the Annual
Report on Form 10-K for the year ended
December 31, 1987)*
Exhibit 10(c) - 1982 Incentive Stock Option Plan
for key employees of the Company (Exhibit 10.4,
Amendment No. 1 on Form 8 dated September 2, 1988
to the Annual Report on Form 10-K for the year ended
December 31, 1987)*
Exhibit 10(d) - 1986 Incentive Stock Option Plan
for key employees of the Company (Exhibit 10.5,
Amendment No. 1 on Form 8 dated September 2, 1988
to the Annual Report on Form 10-K for the year
ended December 31, 1987)*
Exhibit 10(e) - 1988 Incentive Stock Option Plan
for key employees of the Company (Exhibit 10.6,
Amendment No. 1 on Form 8 dated September 2, 1988
to the Annual Report on Form 10-K for the year
ended December 31, 1987)*
Exhibit 10(f) - Form of Grant Certificate for
Employee Stock Option Plans (Exhibit 10.7,
Amendment No. 1 on Form 8 dated September 2, 1988
to the Annual Report on Form 10-K for the year
ended December 31, 1987)*
Exhibit 10(g) - Directors' Deferred Compensation
Plan Agreement (Exhibit 10.8, Amendment No. 1 on
Form 8 dated September 2, 1988 to the Annual
Report on Form 10-K for the year ended December
31, 1987)*
Exhibit 10(h) - 1987 Directors' Deferred Fee Plan
As Amended and Form of Participation Agreement
regarding the Plan (Exhibit 10(h) to the Annual
Report on Form 10-K for the year ended December
31, 1995)*
Exhibit 10(i) - 1992 Stock Option Plan for Nonemployee
Directors of the Company with Form of Grant Certificate
(Exhibit 4.1, File No. 33-46999)*
Exhibit 10(j) - 1994 K N Energy, Inc. Long-Term Incentive Plan
(Attachment A to the K N Energy, Inc. 1994 Proxy Statement
on Schedule 14-A)*
Exhibit 10(k) - K N Energy, Inc. 1996 Executive
Incentive Plan (Exhibit 10(l) to the Annual
Report on Form 10-K for the year ended
December 31, 1995)*
Exhibit 10(l) - K N Energy, Inc. Nonqualified
Deferred Compensation Plan (Exhibit 10(m) to the
Annual Report on Form 10-K for the year ended
December 31, 1994)*
Exhibit 10(m) - K N Energy, Inc. Nonqualified
Retirement Income Restoration Plan (Exhibit 10(n)
to the Annual Report on Form 10-K for the year
ended December 31, 1994)*
Exhibit 10(n) - K N Energy, Inc. Nonqualified
Profit Sharing Restoration Plan (Exhibit 10(o) to
the Annual Report on Form 10-K for the year ended
December 31, 1994)*
Exhibit 10(o) - Employment Agreement dated December 14, 1995
between K N Energy, Inc. and Morton C. Aaronson
(Exhibit 10(p) to the Annual Report on Form 10-K for the year ended
December 31, 1995)*
59
60
Exhibit Index Page Number
------------- -----------
Exhibit 10(p) - Letter Agreement dated December 4,
1995 between K N Energy, Inc. and Charles W.
Battey (Exhibit 10(q) to the Annual Report on
Form 10-K for the year ended December 31, 1995)*
Exhibit 10(q) - Amended and Restated Basket
Agreement dated as of June 30, 1990, by and
between American Pipeline Company ("APC"), Cabot
and Cabot Transmission Corporation (Exhibit
10.5(a) to the Annual Report on Form 10-K for
American Oil and Gas Corporation ("AOG") for the
year ended December 31, 1993)*
Exhibit 10(r) - First Amendment to Amended and
Restated Omnibus Acquisition Agreement and
Amended and Restated Basket Agreement dated as of
March 31, 1992 by and among AOG, APC, Cabot and
Cabot Transmission (Exhibit 10.5(d) to the Annual
Report on Form 10-K for AOG for the year ended
December 31, 1993)*
Exhibit 10(s) - Rights Agreement between K N
Energy, Inc. and the Bank of New York, as Rights
Agent, dated as of August 21, 1995 (Exhibit 1 on
Form 8-A dated August 21, 1995)*
Exhibit 10(t) - K N Energy, Inc. Performance
Incentive Plan (Exhibit 10(u) to the Annual
Report on Form 10-K for the year ended December
31, 1995)*
Exhibit 10(u) - Form of Change of Control Severance
Agreement (Exhibit 10(u) to the Annual Report on
Form 10-K for the year ended December 31, 1996)*
Exhibit 10(v) - Form of Incentive Stock Option
Agreement (Exhibit 10(v) to the Annual Report on
Form 10-K for the year ended December 31, 1996)*
Exhibit 10(w) - Form of Restricted Stock Agreement
(Exhibit 10(w) to the Annual Report on Form 10-K
for the year ended December 31, 1996)*
Exhibit 10(x) - Employment Agreement dated March
21, 1996 between K N Energy, Inc. and Murray R.
Smith (Exhibit 10(x) to the Annual Report on Form
10-K for the year ended December 31, 1996)*
Exhibit 10(y) - Intrastate Pipeline System Lease,
dated December 31, 1996, between MidCon Texas
Pipeline, L.P. and MidCon Texas Pipeline
Operator, Inc. (Attached hereto as Exhibit 10(y))**
Exhibit 10(z) - Amendment Number One To Intrastate Pipeline System
Lease, dated January 31, 1998, between MidCon Texas Pipeline, L.P.
and MidCon Texas Pipeline Operator, Inc.
(Attached hereto as Exhibit 10(z))**
Exhibit 12 - Ratio of Earnings to Fixed Charges................ 61
Exhibit 13 - 1997 Annual Report to Shareholders***.............. 62
Exhibit 21 - Subsidiaries of the Registrant..................... 63-65
Exhibit 23 - Consent of Independent Public Accountants.......... 66
Exhibit 27 - Financial Data Schedule****
Exhibit 99 - Consent of Independent Public Accountants.......... 67
* Incorporated herein by reference.
** Included in SEC and NYSE copies only.
*** Such report is being furnished for the information of the Securities
and Exchange Commission only and is not to be deemed filed as a part
of this annual report on Form 10-K.
**** Included in SEC copy only.
60