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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2001
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM TO
COMMISSION FILE NUMBER 1-2700
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EL PASO NATURAL GAS COMPANY
(Exact Name of Registrant as Specified in its Charter)
<Table>
DELAWARE 74-0608280
(State or Other Jurisdiction (I.R.S. Employer
of Incorporation or Organization) Identification No.)
EL PASO BUILDING
1001 LOUISIANA STREET
HOUSTON, TEXAS 77002
(Address of Principal Executive Offices) (Zip Code)
</Table>
Registrant's Telephone Number, Including Area Code: (713) 420-2600
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
Indicate the number of shares outstanding of each of the issuer's classes
of common stock, as of the latest practicable date.
Common stock, par value $1.00 per share. Shares outstanding on November 6,
2001: 1,000
EL PASO NATURAL GAS COMPANY MEETS THE CONDITIONS OF GENERAL INSTRUCTION
H(1)(a) AND (b) OF FORM 10-Q AND IS THEREFORE FILING THIS REPORT WITH A REDUCED
DISCLOSURE FORMAT AS PERMITTED BY SUCH INSTRUCTION.
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PART I -- FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
EL PASO NATURAL GAS COMPANY
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(IN MILLIONS)
(UNAUDITED)
<Table>
<Caption>
QUARTER ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
--------------- -----------------
2001 2000 2001 2000
---- ---- ----- -----
Operating revenues.................................. $148 $129 $427 $369
---- ---- ---- ----
Operating expenses
Operation and maintenance......................... 53 44 138 130
Merger-related costs.............................. (5) -- 97 --
Depreciation, depletion and amortization.......... 18 17 53 50
Taxes, other than income taxes.................... 7 7 22 22
---- ---- ---- ----
73 68 310 202
---- ---- ---- ----
Operating income.................................... 75 61 117 167
Other income (expense), net......................... -- 3 (2) 3
---- ---- ---- ----
Income before interest and income taxes............. 75 64 115 170
---- ---- ---- ----
Non-affiliated interest and debt expense............ 22 21 67 71
Affiliated interest income, net..................... (13) (17) (48) (56)
Income taxes........................................ 26 23 37 60
---- ---- ---- ----
35 27 56 75
---- ---- ---- ----
Net income.......................................... $ 40 $ 37 $ 59 $ 95
==== ==== ==== ====
</Table>
See accompanying notes.
1
EL PASO NATURAL GAS COMPANY
CONDENSED CONSOLIDATED BALANCE SHEETS
(IN MILLIONS, EXCEPT SHARE AMOUNTS)
(UNAUDITED)
<Table>
<Caption>
SEPTEMBER 30, DECEMBER 31,
2001 2000
------------- ------------
ASSETS
Current assets
Cash and cash equivalents................................. $ -- $ --
Accounts and notes receivable, net
Customer............................................... 105 128
Affiliates............................................. 1,226 1,001
Other.................................................. -- 5
Materials and supplies.................................... 38 33
Other..................................................... 12 10
------ ------
Total current assets.............................. 1,381 1,177
------ ------
Property, plant and equipment, at cost...................... 2,751 2,667
Less accumulated depreciation, depletion and amortization... 1,058 1,032
------ ------
1,693 1,635
Additional acquisition cost assigned to utility plant,
net....................................................... 74 76
------ ------
Total property, plant and equipment, net.......... 1,767 1,711
------ ------
Other assets................................................ 94 105
------ ------
Total assets...................................... $3,242 $2,993
====== ======
LIABILITIES AND STOCKHOLDER'S EQUITY
Current liabilities
Accounts payable
Trade.................................................. $ 50 $ 66
Affiliates............................................. 28 7
Other.................................................. 8 4
Short-term borrowings (including current maturities of
long-term debt)........................................ 583 280
Taxes payable............................................. 112 99
Other..................................................... 113 84
------ ------
Total current liabilities......................... 894 540
------ ------
Long-term debt, less current maturities..................... 659 873
------ ------
Other
Deferred income taxes..................................... 239 227
Other..................................................... 183 126
------ ------
422 353
------ ------
Commitments and contingencies
Stockholder's equity
Preferred stock, 8%, par value $0.01 per share; authorized
1,000,000 shares; issued 500,000 shares; stated at
liquidation value...................................... 350 350
Common stock, par value $1 per share; authorized and
issued 1,000 shares.................................... -- --
Additional paid-in capital................................ 712 710
Retained earnings......................................... 205 167
------ ------
Total stockholder's equity........................ 1,267 1,227
------ ------
Total liabilities and stockholder's equity........ $3,242 $2,993
====== ======
</Table>
See accompanying notes.
2
EL PASO NATURAL GAS COMPANY
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN MILLIONS)
(UNAUDITED)
<Table>
<Caption>
NINE MONTHS ENDED
SEPTEMBER 30,
-----------------
2001 2000
------ ------
Cash flows from operating activities
Net income................................................ $ 59 $ 95
Adjustments to reconcile net income to net cash from
operating activities
Depreciation, depletion and amortization............... 53 50
Deferred income tax expense............................ 10 25
Gain on sale of assets................................. -- (3)
Risk-sharing revenue................................... (24) (23)
Non-cash portion of merger-related costs............... 92 --
Working capital changes, net of non-cash transactions..... 60 (7)
Other..................................................... -- 3
----- -----
Net cash provided by operating activities......... 250 140
----- -----
Cash flows from investing activities
Additions to property, plant and equipment................ (111) (179)
Net change in other affiliated advances................... (227) 382
Proceeds from the sale of assets.......................... -- 36
Other..................................................... -- 4
----- -----
Net cash provided by (used in) investing
activities....................................... (338) 243
----- -----
Cash flows from financing activities
Net borrowings (repayments) of commercial paper........... 88 (382)
Revolving credit borrowings............................... 100 175
Revolving credit repayments............................... (100) (175)
Payments to retire long-term debt......................... -- (1)
----- -----
Net cash provided by (used in) financing
activities....................................... 88 (383)
----- -----
Net change in cash and cash equivalents..................... -- --
Cash and cash equivalents
Beginning of period....................................... -- --
----- -----
End of period............................................. $ -- $ --
===== =====
</Table>
See accompanying notes.
3
EL PASO NATURAL GAS COMPANY
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. BASIS OF PRESENTATION
Our 2000 Annual Report on Form 10-K includes a summary of our significant
accounting policies and other disclosures. You should read it in conjunction
with this Quarterly Report on Form 10-Q. The financial statements as of
September 30, 2001, and for the quarters and nine months ended September 30,
2001 and 2000, are unaudited. The balance sheet as of December 31, 2000, is
derived from the audited balance sheet included in our Annual Report on Form
10-K. These financial statements have been prepared pursuant to the rules and
regulations of the U.S. Securities and Exchange Commission and do not include
all disclosures required by accounting principles generally accepted in the
United States. In our opinion, we have made all adjustments, all of which are of
a normal, recurring nature (except for merger-related costs discussed in Note
3), to fairly present our interim period results. Information for interim
periods may not necessarily indicate the results of operations for the entire
year due to the seasonal nature of our business. The prior period information
also includes reclassifications which were made to conform to the current period
presentation. These reclassifications have no effect on our reported net income
or stockholder's equity.
Our accounting policies are consistent with those discussed in our Form
10-K, except as discussed below. You should refer to the Form 10-K for a further
discussion of those policies.
Accounting for Hedging Activities
From time to time, we may use derivatives to mitigate, or hedge our price
risks associated with purchases of power and natural gas. We account for these
derivatives under the provisions of Statement of Financial Accounting Standards
(SFAS) No. 133, Accounting for Derivatives and Hedging Activities.
2. ACQUISITIONS
In March 2000, we purchased the All American Pipeline, a crude oil
transportation system, for $129 million. The system consists of 1,088 miles of
pipeline which runs from McCamey, Texas to the Emidio Station near Bakersfield,
California. On May 7, 2001, the Federal Energy Regulatory Commission (FERC)
issued an order granting us authorization to convert the 785 miles that extends
from McCamey, Texas to Ehrenberg, Arizona to a natural gas pipeline. This
pipeline will add approximately 230 million cubic feet per day to our
transportation system. We are currently obtaining environmental permits and plan
to begin conversion in early 2002.
3. MERGER-RELATED COSTS
During the nine months ended September 30, 2001, we incurred merger-related
costs of $97 million associated with El Paso Corporation's merger with The
Coastal Corporation. This amount includes a reduction of $5 million in the third
quarter related to a change in our estimated severance charges. Our
merger-related costs consist of employee severance, retention and transition
costs for severed employees, and business and operational integration costs.
Included in these costs were the accrued estimates to relocate our headquarters
to Colorado Springs, Colorado. The total accrual was approximately $92 million
and was made at the time we completed our relocation. Costs accrued included
lease-related costs, write-offs of leasehold improvements and other incremental
charges associated with the relocation. Further developments, such as
termination of the lease or sub-leases could impact these estimates.
4
4. DEBT AND OTHER CREDIT FACILITIES
At September 30, 2001, our weighted average interest rate on short-term
borrowings was 3.6%, and at December 31, 2000, it was 7.5%. We had the following
short-term borrowings, including current maturities of long-term debt:
<Table>
<Caption>
SEPTEMBER 30, DECEMBER 31,
2001 2000
------------- ------------
(IN MILLIONS)
Commercial paper.......................................... $368 $280
Current maturities of long-term debt...................... 215 --
---- ----
$583 $280
==== ====
</Table>
In June 2001, El Paso replaced its $2 billion, 364-day revolving credit
facility with a renewable $3 billion, 364-day revolving credit and competitive
advance facility. We are a designated borrower under the new facility and, as
such, are liable for any amounts outstanding under this facility. The interest
rate varies and was based on the London InterBank Offered Rate plus 50 basis
points at September 30, 2001. No amounts were outstanding under this facility at
September 30, 2001.
For the nine months ended September 30, 2001, we accrued $21 million in
dividends payable on our 8% preferred stock.
5. COMMITMENTS AND CONTINGENCIES
Legal Proceedings
A number of El Paso entities were named defendants in nine purported class
action or citizen lawsuits and one shareholder lawsuit filed in California state
courts (a list of the California cases is included in Part II, Item 1, Legal
Proceedings). We are a defendant in most of these lawsuits. The class action
cases contend generally that El Paso entities acted alone or in combination with
other unrelated companies to limit the construction of new pipeline capacity to
California or to manipulate the price of natural gas sold into the California
marketplace. The shareholder suit contends that we, through our directors,
failed to prevent the conduct alleged in these underlying cases. We removed each
of these cases to federal courts and have requested that they be consolidated
for all pretrial activities. Eight of the nine suits were consolidated in the
U.S. District Court in Nevada. On October 25, 2001, the Nevada court remanded
these cases to the California state court system for all further proceedings.
In September 2001, we received a civil document subpoena from the
California Department of Justice, seeking information said to be relevant to the
Department's ongoing investigation into high electricity prices in California.
We have produced and expect to continue to produce materials pursuant to this
subpoena.
On August 19, 2000, a main transmission line owned and operated by us
ruptured at the crossing of the Pecos River near Carlsbad, New Mexico. Twelve
individuals at the site were fatally injured. Eleven lawsuits brought on behalf
of the 12 deceased persons have been filed against us and El Paso for damages
for personal injuries and wrongful death (a list of the Carlsbad cases is
included in Part II, Item 1, Legal Proceedings). Through September 30, 2001, we
had settled all claims in the Heady cases, the Jennifer Smith case and the Green
case. Payments for the claimants in the settled cases will be fully covered by
insurance. We are cooperating with the National Transportation Safety Board in
an investigation into the facts and circumstances concerning the possible causes
of the rupture. In addition, on June 20, 2001, the U.S. Department of
Transportation's Office of Pipeline Safety issued a Notice of Proposed Violation
to us. The Notice alleged five probable violations of its regulations (a list of
the alleged five probable violations is included in Part II, Item 1, Legal
Proceedings), proposed fines totaling over $2.5 million and proposed corrective
actions. On October 15, 2001, EPNG filed a detailed response with the Office of
Pipeline Safety disputing each of the alleged violations.
In 1997, we and a number of our affiliates were named defendants in actions
brought by Jack Grynberg on behalf of the U.S. Government under the False Claims
Act. Generally, these complaints allege an
5
industry-wide conspiracy to under report the heating value as well as the
volumes of the natural gas produced from federal and Native American lands,
which deprived the U.S. Government of royalties. These matters have been
consolidated for pretrial purposes (In re: Natural Gas Royalties Qui Tam
Litigation, U.S. District Court for the District of Wyoming). In May 2001, the
court denied the defendants' motions to dismiss.
We and a number of our affiliates were named defendants in Quinque
Operating Company, et al v. Gas Pipelines and Their Predecessors, et al, filed
in 1999 in the District Court of Stevens County, Kansas. This class action
complaint alleges that the defendants mismeasured natural gas volumes and
heating content of natural gas on non-federal and non-Native American lands. The
Quinque complaint was transferred to the same court handling the Grynberg
complaint and has now been sent back to Kansas State Court for further
proceedings. A motion to dismiss this case is pending.
We are also a named defendant in numerous lawsuits and a named party in
numerous governmental proceedings arising in the ordinary course of our
business.
While the outcome of the matters discussed above cannot be predicted with
certainty, based on information known to date, we do not expect the ultimate
resolution of these matters will have a material adverse effect on our ongoing
financial position, operating results or cash flows.
Environmental
We are subject to extensive federal, state and local laws and regulations
governing environmental quality and pollution control. These laws and
regulations require us to remove or remedy the effect on the environment of the
disposal or release of specified substances at current and former operating
sites. As of September 30, 2001, we had a reserve of approximately $29 million
for expected remediation costs. In addition, we expect to make capital
expenditures for environmental matters of approximately $11 million in the
aggregate for the years 2001 through 2006. These expenditures primarily relate
to compliance with clean air regulations.
We have been designated and have received notice that we could be
designated, or have been asked for information to determine whether we could be
designated, as a Potentially Responsible Party (PRP) with respect to four sites
under the Comprehensive Environmental Response, Compensation and Liability Act
(CERCLA) or state equivalents. We have sought to resolve our liability as a PRP
at these CERCLA sites, as appropriate, through indemnification by third parties
and/or settlements which provide for payment of our allocable share of
remediation costs. As of September 30, 2001, we have estimated our share of the
remediation costs at these sites to be between approximately $13 million and $18
million and have provided reserves that we believe are adequate for such costs.
Since the cleanup costs are estimates and are subject to revision as more
information becomes available about the extent of remediation required, and
because in some cases we have asserted a defense to any liability, our estimates
could change. Moreover, liability under the federal CERCLA statute is joint and
several, meaning that we could be required to pay in excess of our pro rata
share of remediation costs. Our understanding of the financial strength of other
PRPs has been considered, where appropriate, in the determination of our
estimated liabilities. We presently believe that the costs associated with these
CERCLA sites will not have a material adverse effect on our financial position,
operating results, or cash flows.
It is possible that new information or future developments could require us
to reassess our potential exposure related to environmental matters. We may
incur significant costs and liabilities in order to comply with existing
environmental laws and regulations. It is also possible that other developments,
such as increasingly strict environmental laws and regulations and claims for
damages to property, employees, other persons and the environment resulting from
our current or past operations, could result in substantial costs and
liabilities in the future. As this information becomes available, or other
relevant developments occur, we will adjust our accrual amounts accordingly.
While there are still uncertainties relating to the ultimate costs we may incur,
based upon our evaluation and experience to date, we believe the recorded
reserves are adequate.
6
Rates and Regulatory Matters
In February 2001, we completed our open season on 1,221 million cubic feet
per day of capacity under contract with our affiliate, El Paso Merchant Energy
Company through May 2001, and all of the available capacity was subscribed.
Contracts were awarded to 30 different entities at published tariff rates for a
duration from 17 months to 15 years, including Merchant Energy who was awarded
271 million cubic feet per day. Also, customers and other groups may dispute new
and renewed contracts, and we cannot be sure that regulators or other
jurisdictional bodies will not intercede in our re-contracting process and alter
the ultimate outcome of our efforts.
In April 2000, the California Public Utilities Commission (CPUC) filed a
complaint with FERC alleging that our sale of approximately 1.2 billion cubic
feet per day of California capacity to Merchant Energy was anticompetitive and
an abuse of the affiliate relationship under FERC's policies. Other parties in
the proceedings requested that the original complaint be set for hearing and
that Merchant Energy pay back any profits it has earned under the contract. In
March 2001, FERC established a hearing, before an administrative law judge, to
address the issue of whether we and/or Merchant Energy had market power and, if
so, had exercised it. The hearing on the anticompetitive issue concluded in May
2001. In June 2001, FERC issued an order granting the request of the CPUC and
others to allow the administrative law judge to take evidence on the affiliate
abuse issue. In October 2001, a FERC administrative law judge issued a proposed
decision finding that El Paso did not exercise market power and that the market
power portion of the CPUC's complaint should be dismissed. The decision further
found that El Paso had violated FERC's marketing affiliate regulations. The
judge's proposed decision will be briefed to, and will be effective only if
approved by, the FERC. On October 30, 2001, the Market Oversight and Enforcement
section of the FERC's office of the General Counsel filed comments in this
proceeding stating that record development at the trial was inadequate to
conclude that we and Merchant Energy complied with FERC's regulation. We have
filed a response to this complaint.
In late 1999, several of our customers filed complaints requesting that
FERC order us to cease and desist from selling primary firm delivery point
capacity at the Southern California Gas Company Topock delivery point in excess
of the downstream capacity available at that point and to cease and desist from
overselling firm mainline capacity on the east-end of our mainline system.
Several technical conferences and alternative dispute resolution meetings were
held during the summer of 2000 but they failed to produce a settlement. In
October 2000, FERC ordered us to make a one time allocation of available
delivery point capacity at the Southern California Gas Company Topock delivery
point among affected firm shippers, but deferred action on east-end and
systemwide capacity allocation issues. In February 2001, FERC issued an order
accepting our tariff filing affirming the results of the Topock delivery point
allocation process and directing us to formulate a system wide capacity
allocation methodology. In March 2001, we filed our proposed system-wide
allocation methodology with FERC. In April 2001, the February 2001 FERC order
was appealed by a customer. In July 2001 and August 2001, at technical
conferences conducted by FERC on other matters, our system-wide capacity
allocation proposal was discussed. The parties are currently engaged in
submitting position papers to the Commission regarding the appropriate method
for allocating receipt point capacity on our system.
Two groups of our customers, those within California and those east of
California, have recently filed complaints against EPNG with FERC. In July 2001,
twelve parties composed of California customers, natural gas producers and
natural gas marketers, filed a complaint alleging that our full requirements
contracts with our east of California customers should be converted to contracts
with specific volumetric entitlements, that we should be required to expand our
interstate pipeline system and that firm shippers who experience reductions in
their nominated gas volumes should be awarded demand charge credits. We filed
our response to this complaint on August 2, 2001. Also, in July 2001, ten
parties, most of which are east of California full-requirement contract
customers, filed a complaint against us with FERC, alleging that we violated the
Natural Gas Act of 1938 and breached our contractual obligations by failing to
expand our system in order to serve the needs of the full-requirement contract
shippers. The complainants have requested that FERC require us to show cause why
we should not be required to augment our system capacity. We filed our response
to this complaint on August 6, 2001, and requested that both groups' complaints
be consolidated for future
7
proceedings. On September 10, 2001, the latter complainants filed a motion for
partial summary disposition of their complaint, to which we responded on
September 25, 2001.
Our current rate settlement establishes, among other things, base rates
through December 31, 2005. According to the settlement, our base rates began
escalating annually in 1998 as a result of inflationary factors. We have the
right to increase or decrease our base rates if changes in laws or regulations
result in increased or decreased costs in excess of $10 million a year. In
addition, all of our settling customers participate in risk sharing provisions
under our rate case settlement. Under these provisions, we are to receive cash
payments totaling $295 million for a portion of the risk we assumed from
capacity relinquishments by our customers at the end of 1997. The cash received
is deferred, and we recognize this deferral in revenues ratably over the risk
sharing period. As of September 30, 2001, we had unearned risk sharing revenues
of approximately $72 million and had $30 million remaining to be collected from
customers under this provision. Amounts received for relinquished capacity to
customers above certain dollar levels specified in the rate settlement, obligate
us to refund a portion of the excess to customers. Under this provision, we
refunded $14 million of 2000 revenues to customers during 2000 and 2001, and as
of September 30, 2001, we had a refund obligation of approximately $22 million.
Both the risk and revenue sharing provisions of the rate settlement extend
through 2003. One unresolved matter in our current rate settlement involves the
application of our existing fuel recovery mechanism as it relates to compression
facilities that were abandoned. An appeal was filed in the Fifth Circuit Court
of Appeals and was recently transferred to the D.C. Circuit Court of Appeals.
In September 2001, FERC issued a Notice of Proposed Rulemaking (NOPR). The
NOPR proposes to apply the standards of conduct governing the relationship
between interstate pipelines and marketing affiliates to all energy affiliates.
The proposed regulations, if adopted by FERC, would dictate how all our energy
affiliates conduct business and interact with our interstate pipelines. We
cannot predict the outcome of the NOPR, but adoption of the regulations in
substantially the form proposed would, at a minimum, place additional
administrative and operational burdens on us.
We apply regulatory accounting principles to account for our operations and
activities. We will continue to evaluate the appropriate application of these
principles as there are ongoing changes in the regulatory and economic
environment. Things that may influence this assessment are:
- inability to recover cost increases due to rate caps and rate case
moratoriums;
- inability to recover capitalized costs, including an adequate return on
those costs through the ratemaking process;
- excess capacity;
- discounting rates in the markets we serve; and
- impacts of ongoing initiatives in, and deregulation of, the natural gas
industry.
While we cannot predict with certainty the final outcome or the timing of
the resolution of all of our rates and regulatory matters, we believe the
ultimate resolution of these issues, based on information known to date, will
not have a material adverse effect on our financial position, results of
operations or cash flows.
6. TRANSACTIONS WITH RELATED PARTIES
We participate in El Paso's cash management program which matches
short-term cash excesses and requirements of participating affiliates, thus
minimizing total borrowing from outside sources. We had advanced $1,223 million
at September 30, 2001, at a market rate of interest which was 3.7%. At December
31, 2000, we had advanced $995 million.
In addition, we enter into transactions with other El Paso subsidiaries and
unconsolidated affiliates, including El Paso Merchant Energy, in the ordinary
course of our business to transport, sell and/or purchase natural gas. Services
provided by or to these affiliates are based on the same terms as
non-affiliates.
8
At September 30, 2001, we had accounts receivable from other related
parties of $3 million and $6 million at December 31, 2000. In addition, we had
accounts payable to other related parties of $28 million at September 30, 2001,
versus $7 million at December 31, 2000.
7. NEW ACCOUNTING PRONOUNCEMENTS NOT YET ADOPTED
Accounting for Asset Retirement Obligations
In August 2001, the Financial Accounting Standards Board (FASB) issued SFAS
No. 143, Accounting for Asset Retirement Obligations. This statement requires
companies to record a liability relating to the retirement and removal of assets
used in their business. The liability is discounted to its present value, and
the related asset value is increased by the amount of the resulting liability.
Over the life of the asset, the liability will be accreted to its future value
and eventually extinguished when the asset is taken out of service. The
provisions of this statement are effective for fiscal years beginning after June
15, 2002. We are currently evaluating the effects of this pronouncement.
Accounting for the Impairment or Disposal of Long-Lived Assets
In October 2001, the FASB issued SFAS No. 144, Accounting for the
Impairment or Disposal of Long-Lived Assets. This statement requires that
long-lived assets that are to be disposed of by sale be measured at the lower of
book value or fair value less cost to sell. The standard also expanded the scope
of discontinued operations to include all components of an entity with
operations that can be distinguished from the rest of the entity and that will
be eliminated from the ongoing operations of the entity in a disposal
transaction. The provisions of this statement are effective for fiscal years
beginning after December 15, 2001. We are currently evaluating the effects of
this pronouncement.
9
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The information contained in Item 2 updates, and you should read it in
conjunction with, information disclosed in Part II, Items 7, 7A, and 8, in our
Annual Report on Form 10-K for the year ended December 31, 2000, in addition to
the financial statements and notes presented in Item 1, Financial Statements, of
this Quarterly Report on Form 10-Q.
RESULTS OF OPERATIONS
Below are the operating results and an analysis of these results for the
quarters and nine months ended September 30:
<Table>
<Caption>
QUARTER ENDED NINE MONTHS ENDED
----------------- -------------------
2001 2000 2001 2000
------- ------- -------- --------
(IN MILLIONS, EXCEPT VOLUME AMOUNTS)
Operating revenues................................ $ 148 $ 129 $ 427 $ 369
Operating expenses................................ (73) (68) (310) (202)
Other income, net................................. -- 3 (2) 3
------ ------ ------ ------
Earnings before interest and income taxes....... $ 75 $ 64 $ 115 $ 170
====== ====== ====== ======
Throughput volumes (BBtu/d)(1).................... 4,550 4,617 4,641 4,184
====== ====== ====== ======
</Table>
- ---------------
(1) BBtu/d means billion British thermal units per day.
Included in our results of operations for the quarter and nine months ended
September 30, 2001, are merger-related costs of $(5) million and $97 million
associated with El Paso Corporation's merger with The Coastal Corporation in
January 2001. For the third quarter of 2001, the merger-related costs represent
change in estimates of merger-related severance payments. For the nine months
ended September 30, 2001, these costs include employee severance, retention and
transition costs, as well as business and operational integration costs, all of
which are related to the relocation of our headquarters from El Paso, Texas to
Colorado Springs, Colorado.
Third Quarter 2001 Compared to Third Quarter 2000
Operating revenues for the quarter ended September 30, 2001, were $19
million higher than the same period in 2000. The increase was due to higher
reservation revenues as a result of a larger portion of our capacity earning
maximum tariff rates compared to the same period in 2000, partially offset by
lower fuel recoveries due to decreased fuel efficiency and lower natural gas
prices in 2001.
Operating expenses for the quarter ended September 30, 2001, were $5
million higher than the same period in 2000. The increase was primarily due to
the impact of price changes on natural gas imbalances, partially offset by a
change in merger-related cost estimates.
Other income, net for the quarter ended September 30, 2001, was $3 million
lower than the same period in 2000 due to the sales of non-pipeline assets in
2000.
Nine Months Ended 2001 Compared to Nine Months Ended 2000
Operating revenues for the nine months ended September 30, 2001, were $58
million higher than the same period in 2000. The increase was due to higher
reservation revenues as a result of a larger portion of our capacity earning
maximum tariff rates compared to the same period in 2000 and higher throughput
from increased deliveries to California and other western states.
Operating expenses for the nine months ended September 30, 2001, were $108
million higher than the same period in 2000. The increase was primarily due to
merger-related costs incurred related to the relocation
10
of our headquarters as part of El Paso's merger with Coastal, the impact of
price changes on natural gas imbalances and higher power costs.
Other income, net for the nine months ended September 30, 2001, was $5
million lower than the same period in 2000 due primarily to the sales of
non-pipeline assets in 2000.
NON-AFFILIATED INTEREST AND DEBT EXPENSE
Non-affiliated interest and debt expense for the nine months ended
September 30, 2001, was $4 million lower than the same period in 2000 primarily
due to net decreased commercial paper balances in 2001, lower short-term
interest rates and increased capitalized interest from higher project
expenditures.
AFFILIATED INTEREST INCOME, NET
Affiliated interest income, net for the quarter and nine months ended
September 30, 2001, was $4 million and $8 million lower than the same periods in
2000 due to lower short-term interest rates in 2001 under our cash management
program.
INCOME TAXES
Income tax expense for the quarters ended September 30, 2001 and 2000, was
$26 million and $23 million, resulting in effective tax rates of 39 percent and
38 percent. Income tax expense for the nine months ended September 30, 2001 and
2000, was $37 million and $60 million, resulting in effective tax rates of 39
percent for both periods. Our effective tax rates were different than the
statutory rate of 35 percent in all periods primarily due to state income taxes.
NEW ACCOUNTING PRONOUNCEMENTS NOT YET ADOPTED
See Item 1, Financial Statements, Note 7, which is incorporated herein by
reference.
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CAUTIONARY STATEMENT FOR PURPOSES OF THE "SAFE HARBOR" PROVISIONS OF THE PRIVATE
SECURITIES LITIGATION REFORM ACT OF 1995
This report contains or incorporates by reference forward-looking
statements within the meaning of the Private Securities Litigation Reform Act of
1995. Where any forward-looking statement includes a statement of the
assumptions or bases underlying the forward-looking statement, we caution that,
while we believe these assumptions or bases to be reasonable and to be made in
good faith, assumed facts or bases almost always vary from the actual results,
and the differences between assumed facts or bases and actual results can be
material, depending upon the circumstances. Where, in any forward-looking
statement, we or our management express an expectation or belief as to future
results, that expectation or belief is expressed in good faith and is believed
to have a reasonable basis. We cannot assure you, however, that the statement of
expectation or belief will result or be achieved or accomplished. The words
"believe," "expect," "estimate," "anticipate" and similar expressions will
generally identify forward-looking statements.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
This information updates, and you should read it in conjunction with,
information disclosed in Part II, Item 7A in our Annual Report on Form 10-K for
the year ended December 31, 2000, in addition to the information presented in
Items 1 and 2 of this Quarterly Report on Form 10-Q.
There are no material changes in our quantitative and qualitative
disclosures about market risks from those reported in our Annual Report on Form
10-K for the year ended December 31, 2000.
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PART II -- OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
See Part I, Item 1, Financial Statements, Note 5, which is incorporated
herein by reference.
The California cases are: four filed in the Superior Court of Los Angeles
County (Continental Forge Company, et al v. Southern California Gas Company, et
al, filed September 25, 2000; Berg v. Southern California Gas Company, et al;
filed December 18, 2000; The City of Los Angeles, et al v. Southern California
Gas Company, et al and The City of Long Beach, et al v. Southern California Gas
Company, et al, both filed March 20, 2001); two filed in the Superior Court of
San Diego County (John W.H.K. Phillip v. El Paso Merchant Energy and John
Phillip v. El Paso Merchant Energy, both filed December 13, 2000); and three
filed in the Superior Court of San Francisco County (Sweetie's, et al v. El Paso
Corporation, et al, filed March 22, 2001; Philip Hackett, et al v. El Paso
Corporation, et al, filed May 9, 2001; and California Dairies, Inc., et al v. El
Paso Corporation, et al, filed May 21, 2001). All of the cases except Hacket
were consolidated before the U.S. District Court in Nevada for pretrial
activities. The shareholder case is styled Clark, et al v. Allumbaugh, et al,
Superior Court of Orange County, filed August 23, 2001.
The eleven Carlsbad lawsuits are as follows: three were filed in district
court in Harris County, Texas (Diane Heady, et al v. El Paso Energy Corporation
(EPEC) and EPNG, filed September 7, 2000, and settled in March 2001; Richard
Heady, et al v. EPEC and EPNG, filed February 15, 2001, and settled in March
2001; and Geneva Smith, et al v. EPEC and EPNG, filed October 23, 2000), two
were filed in federal district court in Albuquerque, New Mexico (Dawson, as
Personal Representative of Kirsten Janay Sumler, v. EPEC and EPNG, filed
November 8, 2000, and Jennifer Smith, et al v. EPEC and EPNG, filed August 29,
2000, and settled in June 2001), and six were filed in state district court in
Carlsbad, New Mexico (Chapman, as Personal Representative of the Estate of Amy
Smith Heady, v. EPEC, EPNG, and John Cole, filed February 9, 2001; and Chapman,
as Personal Representative of the Estate of Dustin Wayne Smith, v. EPEC, EPNG
and John Cole; Chapman, as Personal Representative of the Estate of Terry Wayne
Smith, v. EPNG, EPEC, and John Cole; Green, as Personal Representative of the
Estate of Jesse Don Sumler, v. EPEC, EPNG, and John Cole; Rackley, as Personal
Representative of the Estate of Glenda Gail Sumler, v. EPEC, EPNG, and John
Cole; and Rackley, as Personal Representative of the Estate of Amanda Sumler
Smith, v. EPEC, EPNG, and John Cole, all filed March 16, 2001).
The alleged five probable violations of the regulations of the Department
of Transportation's Office of Pipeline Safety are: 1) failure to perform
appropriate tasks to prevent corrosion, with an associated proposed fine of
$500,000; 2) failure to investigate and minimize internal corrosion, with an
associated proposed fine of $1,000,000; 3) failure to consider unusual operating
and maintenance conditions and respond appropriately, with an associated
proposed fine of $500,000; 4) failure to follow company procedures, with an
associated proposed fine of $500,000; and 5) failure to maintain topographical
diagrams, with an associated proposed fine of $25,000.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
None.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY-HOLDERS
None.
ITEM 5. OTHER INFORMATION
None.
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ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
a. Exhibits
None.
Undertaking
We hereby undertake, pursuant to Regulation S-K, Item 601(b),
paragraph (4)(iii), to furnish to the U.S. Securities and Exchange
Commission, upon request, all constituent instruments defining the rights
of holders of our long-term debt not filed herewith for the reason that the
total amount of securities authorized under any of such instruments does
not exceed 10 percent of our total consolidated assets.
b. Reports on Form 8-K
None.
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
EL PASO NATURAL GAS COMPANY
Date: November 9, 2001 /s/ GREG G. GRUBER
------------------------------------
Greg G. Gruber
Senior Vice President,
Chief Financial Officer and
Treasurer
(Chief Accounting Officer)
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