EXHIBIT 99.2
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CONSOLIDATED FINANCIAL STATEMENTS AND
AUDITORS' REPORT TO SHAREHOLDERS
FOR THE FISCAL YEAR ENDED DECEMBER 31, 2005
REPORT OF THE INDEPENDENT REGISTERED CHARTERED ACCOUNTANTS
TO THE UNITHOLDERS OF ARC ENERGY TRUST:
We have audited the consolidated balance sheets of ARC Energy Trust as at
December 31, 2005 and 2004 and the consolidated statements of income and
accumulated earnings and cash flows for the years then ended. These financial
statements are the responsibility of the Trust's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with Canadian generally accepted
auditing standards. Those standards require that we plan and perform an audit
to obtain reasonable assurance 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.
In our opinion, these consolidated financial statements present fairly, in all
material respects, the financial position of the Trust as at December 31, 2005
and 2004 and the results of its operations and its cash flows for the years
then ended in accordance with Canadian generally accepted accounting
principles.
The Trust is not required to have, nor were we engaged to perform, an audit of
its internal control over financial reporting. Our audit included
consideration of internal control over financial reporting as a basis for
designing audit procedures that are appropriate in the circumstances, but not
for the purpose of expressing an opinion on the effectiveness of the Trust's
internal control over financial reporting. Accordingly, we express no such
opinion.
/s/ DELOITTE & TOUCHE LLP
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INDEPENDENT REGISTERED
CHARTERED ACCOUNTANTS
CALGARY, ALBERTA
FEBRUARY 3, 2006
CONSOLIDATED BALANCE SHEETS
AS AT DECEMBER 31 (Cdn$ thousands) 2005 2004
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ASSETS
Current assets
Cash and cash equivalents $ -- $ 4,413
Accounts receivable 122,956 72,881
Prepaid expenses 14,020 9,878
Commodity and foreign currency contracts (Note 9) 3,125 22,294
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140,101 109,466
Reclamation fund (Note 4) 23,491 21,294
Property, plant and equipment (Note 5) 2,929,977 2,016,646
Goodwill 157,592 157,592
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Total assets $ 3,251,161 $ 2,304,998
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LIABILITIES
Current liabilities
Accounts payable and accrued liabilities $ 148,587 $ 103,572
Cash distributions payable 39,839 27,893
Current portion of long term debt (Note 6) -- 8,715
Commodity and foreign currency contracts (Note 9) 7,167 26,336
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195,593 166,516
Long-term debt (Note 6) 526,636 211,834
Other long-term liabilities (Note 7) 12,360 3,893
Asset retirement obligations (Note 8) 165,053 73,001
Future income taxes (Note 10) 515,877 300,406
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Total liabilities 1,415,519 755,650
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COMMITMENTS AND CONTINGENCIES (Note 18)
NON-CONTROLLING INTEREST
Exchangeable shares (Note 12) 37,494 35,967
UNITHOLDERS' EQUITY
Unitholders' capital (Note 11) 2,230,842 1,926,351
Contributed surplus (Note 14) 6,382 6,475
Accumulated earnings 1,235,742 878,807
Accumulated cash distributions (Note 13) (1,674,818) (1,298,252)
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Total unitholders' equity 1,798,148 1,513,381
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Total liabilities and unitholders' equity $ 3,251,161 $ 2,304,998
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See accompanying notes to the consolidated financial statements.
/s/ Mac H. Van Wielingen /s/ Fred Dyment
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MAC H. VAN WIELINGEN FRED DYMENT
DIRECTOR DIRECTOR
CONSOLIDATED STATEMENTS OF INCOME AND ACCUMULATED EARNINGS
FOR THE YEARS ENDED DECEMBER 31 (Cdn$ thousands, except per unit amounts) 2005 2004
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REVENUES
Oil, natural gas, and natural gas liquids $ 1,165,197 $ 901,782
Royalties (235,293) (177,032)
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929,904 724,750
Realized loss on commodity and foreign currency contracts (Note 9) (87,558) (86,909)
Unrealized gain (loss) on commodity and foreign currency contracts -- 841
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842,346 638,682
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EXPENSES
Transportation 14,289 14,798
Operating 142,240 139,716
General and administrative 42,746 29,512
Interest on long-term debt (Note 6) 16,946 13,320
Depletion, depreciation and accretion (Notes 5 and 8) 264,515 239,674
Gain on foreign exchange (Note 17) (6,412) (20,713)
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474,324 416,307
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Income before taxes 368,022 222,375
Capital and other taxes (3,882) (2,834)
Future income tax (expense) recovery (Note 10) (1,660) 26,100
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Net income before non-controlling interest 362,480 245,641
Non-controlling interest (Note 12) (5,545) (3,951)
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Net income 356,935 241,690
Accumulated earnings, beginning of year 878,807 637,117
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Accumulated earnings, end of year $ 1,235,742 $ 878,807
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Net income per unit (Note 16)
Basic $ 1.90 $ 1.32
Diluted $ 1.88 $ 1.31
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See accompanying notes to the consolidated financial statements.
CONSOLIDATED STATEMENTS OF CASH FLOW
FOR THE YEARS ENDED DECEMBER 31 (Cdn$ thousands) 2005 2004
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CASH FLOW FROM OPERATING ACTIVITIES
Net income after non-controlling interest $ 356,935 $ 241,690
Add items not involving cash:
Non-controlling interest 5,545 3,951
Future income tax expense (recovery) 1,660 (26,100)
Depletion, depreciation and accretion (Notes 5 and 8) 264,515 239,674
Non-cash gain on commodity and foreign currency contracts -- (841)
Non-cash gain on foreign exchange (Note 17) (6,359) (18,427)
Non-cash trust unit incentive compensation (Notes 14 and 15) 17,215 8,086
Expenditures on site reclamation and restoration (4,881) (3,232)
Change in non-cash working capital (17,919) 1,617
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616,711 446,418
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CASH FLOW FROM (USED IN) FINANCING ACTIVITIES
Borrowings (repayments) under revolving credit facilities 258,190 (162,555)
Issuance of senior secured notes 62,478 177,322
Repayment of senior secured notes (8,214) (8,347)
Issue of trust units 259,691 19,301
Trust unit issue costs (12,218) (152)
Cash distributions paid, net of distribution reinvestment (Note 13) (318,238) (301,936)
Payment of retention bonus (1,000) (1,000)
Change in non-cash working capital (179) (397)
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240,510 (277,764)
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CASH FLOW FROM (USED IN) INVESTING ACTIVITIES
Corporate acquisitions, net of cash received (Note 3) (504,996) (39,385)
Acquisition of petroleum and natural gas properties (93,824) 529
Proceeds on disposition of petroleum and natural gas properties 2,538 57,691
Capital expenditures (257,895) (192,591)
Net reclamation fund contributions (Note 4) (2,197) (4,113)
Change in non-cash working capital (5,260) 1,333
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(861,634) (176,536)
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DECREASE IN CASH AND CASH EQUIVALENTS (4,413) (7,882)
CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR 4,413 12,295
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CASH AND CASH EQUIVALENTS, END OF YEAR $ -- $ 4,413
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See accompanying notes to the consolidated financial statements.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
December 31, 2005 and 2004 (all tabular amounts in thousands Cdn$ except per
unit and volume amounts)
1. STRUCTURE OF THE TRUST
ARC Energy Trust ("ARC" or the "Trust") was formed on May 7, 1996 pursuant to
a Trust indenture (the "Trust Indenture") that has been amended from time to
time, most recently on May 12, 2005. Computershare Trust Company of Canada was
appointed as Trustee under the Trust Indenture. The beneficiaries of the Trust
are the holders of the trust units.
The Trust was created for the purposes of issuing trust units to the public
and investing the funds so raised to purchase a royalty in the properties of
ARC Resources Ltd. ("ARC Resources") and ARC Sask Energy Trust ("ARC Sask").
The Trust Indenture was amended on June 7, 1999 to convert the Trust from a
closed-end to an open-ended investment Trust. The current business of the
Trust includes the investment in all types of energy business-related assets
including, but not limited to, petroleum and natural gas-related assets,
gathering, processing and transportation assets. The operations of the Trust
consist of the acquisition, development, exploitation and disposition of these
assets and the distribution of the net cash proceeds from these activities to
the unitholders.
2. SUMMARY OF ACCOUNTING POLICIES
The consolidated financial statements have been prepared by management
following Canadian generally accepted accounting principles ("GAAP"). These
principles differ in certain respects from accounting principles generally
accepted in the United States of America ("US GAAP") and to the extent that
they affect the Trust, these differences are described in Note 20. The
preparation of financial statements requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and the
disclosure of contingencies at the date of the financial statements, and
revenues and expenses during the reporting period. Actual results could differ
from those estimated.
In particular, the amounts recorded for depletion, depreciation and accretion
of the petroleum and natural gas properties and for asset retirement
obligations are based on estimates of reserves and future costs. By their
nature, these estimates, and those related to future cash flows used to assess
impairment, are subject to measurement uncertainty and the impact on the
financial statements of future periods could be material.
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of the Trust and
its subsidiaries. Any reference to "the Trust" throughout these consolidated
financial statements refers to the Trust and its subsidiaries. All
inter-entity transactions have been eliminated.
REVENUE RECOGNITION
Revenue associated with the sale of crude oil, natural gas, and natural gas
liquids ("NGLs") owned by the Trust are recognized when title passes from the
Trust to its customers.
TRANSPORTATION
Costs paid by the Trust for the transportation of natural gas, crude oil and
NGLs from the wellhead to the point of title transfer are recognized when the
transportation is provided.
JOINT VENTURE
The Trust conducts many of its oil and gas production activities through joint
ventures and the financial statements reflect only the Trust's proportionate
interest in such activities.
DEPLETION AND DEPRECIATION
Depletion of petroleum and natural gas properties and depreciation of
production equipment are calculated on the unit-of-production basis based on:
(a) total estimated proved reserves calculated in accordance with
National Instrument 51-101, Standards of Disclosure for Oil and Gas
Activities;
(b) total capitalized costs, excluding undeveloped lands, plus estimated
future development costs of proved undeveloped reserves, including
future estimated asset retirement costs; and
(c) relative volumes of petroleum and natural gas reserves and
production, before royalties, converted at the energy equivalent
conversion ratio of six thousand cubic feet of natural gas to one
barrel of oil.
UNIT BASED COMPENSATION
The Trust has established a Trust Unit Incentive Rights Plan (the "Rights
Plan") for employees, independent directors and long-term consultants who
otherwise meet the definition of an employee of the Trust. The exercise price
of the rights granted under the Plan may be reduced in future periods in
accordance with the terms of the Plan. The Trust accounts for the rights using
the fair value method, whereby the fair value of rights is determined on the
date on which fair value can initially be determined. The fair value is then
recorded as
compensation expense over the period that the rights vest, with a
corresponding increase to contributed surplus. When rights are exercised, the
proceeds, together with the amount recorded in contributed surplus, are
recorded to unitholders' capital.
WHOLE TRUST UNIT INCENTIVE PLAN COMPENSATION
The Trust has established a Whole Trust Unit Incentive Plan (the "Whole Unit
Plan") for employees, independent directors and long-term consultants who
otherwise meet the definition of an employee of the Trust. Compensation
expense associated with the Whole Unit Plan is granted in the form of
Restricted Trust Units ("RTUs") and Performance Trust Units ("PTUs") and is
determined based on the intrinsic value of the Whole Trust Units at each
period end. The intrinsic valuation method is used as participants of the
Whole Unit Plan receive a cash payment on a fixed vesting date. This valuation
incorporates the period end trust unit price, the number of RTUs and PTUs
outstanding at each period end, and certain management estimates. As a result,
large fluctuations, even recoveries, in compensation expense may occur due to
changes in the underlying trust unit price. In addition, compensation expense
is deferred and recognized in earnings over the vesting period of the Whole
Unit Plan with a corresponding increase or decrease in liabilities.
Classification between accrued liabilities and other long-term liabilities is
dependent on the expected payout date.
The Trust charges amounts relating to head office employees to general and
administrative expense, amounts relating to field employees to operating
expense and amounts relating to geologists and geophysicists to property,
plant and equipment.
The Trust has not incorporated an estimated forfeiture rate for RTUs and PTUs
that will not vest. Rather, the Trust accounts for actual forfeitures as they
occur.
CASH AND CASH EQUIVALENTS
Cash and cash equivalents include short-term investments, such as money market
deposits or similar type instruments, with an original maturity of three
months or less when purchased.
PROPERTY, PLANT AND EQUIPMENT ("PP&E")
The Trust follows the full cost method of accounting. All costs of exploring,
developing and acquiring petroleum and natural gas properties, including asset
retirement costs, are capitalized and accumulated in one cost centre as all
operations are in Canada. Maintenance and repairs are charged against income,
and renewals and enhancements that extend the economic life of the PP&E are
capitalized. Gains and losses are not recognized upon disposition of petroleum
and natural gas properties unless such a disposition would alter the rate of
depletion by 20 per cent or more.
IMPAIRMENT
The Trust places a limit on the aggregate carrying value of PP&E, which may be
amortized against revenues of future periods.
Impairment is recognized if the carrying amount of the PP&E exceeds the sum of
the undiscounted cash flows expected to result from the Trust's proved
reserves. Cash flows are calculated based on third party quoted forward
prices, adjusted for the Trust's contract prices and quality differentials.
Upon recognition of impairment, the Trust would then measure the amount of
impairment by comparing the carrying amounts of the PP&E to an amount equal to
the estimated net present value of future cash flows from proved plus risked
probable reserves. The Trust's risk-free interest rate is used to arrive at
the net present value of the future cash flows. Any excess carrying value
above the net present value of the Trust's future cash flows would be recorded
as a permanent impairment.
The cost of unproved properties is excluded from the impairment test described
above and subject to a separate impairment test.
GOODWILL
The Trust must record goodwill relating to a corporate acquisition when the
total purchase price exceeds the fair value for accounting purposes of the net
identifiable assets and liabilities of the acquired company. The goodwill
balance is assessed for impairment annually at year end or as events occur
that could result in an impairment. Impairment is recognized based on the fair
value of the reporting entity (consolidated Trust) compared to the book value
of the reporting entity. If the fair value of the consolidated Trust is less
than the book value, impairment is measured by allocating the fair value of
the consolidated Trust to the identifiable assets and liabilities as if the
Trust had been acquired in a business combination for a purchase price equal
to its fair value. The excess of the fair value of the consolidated Trust over
the amounts assigned to the identifiable assets and liabilities is the fair
value of the goodwill. Any excess of the book value of goodwill over this
implied fair value of goodwill is the impairment amount. Impairment is charged
to earnings in the period in which it occurs.
Goodwill is stated at cost less impairment and is not amortized.
ASSET RETIREMENT OBLIGATIONS ("ARO")
The Trust recognizes the fair value of an ARO in the period in which it is
incurred when a reasonable estimate of the fair value can be made. On a
periodic basis, management will review these estimates and changes, if any, to
the estimate will be applied on a prospective basis. The fair value of the
estimated ARO is recorded as a long-term liability, with a corresponding
increase in the carrying amount of the related asset. The capitalized amount
is depleted on a unit-of-production basis over the life of the reserves. The
liability amount is increased each reporting period due to the passage of time
and the amount of accretion is charged to earnings in the period. Revisions to
the estimated
timing of cash flows or to the original estimated undiscounted cost would also
result in an increase or decrease to the ARO. Actual costs incurred upon
settlement of the ARO are charged against the ARO to the extent of the
liability recorded. Any difference between the actual costs incurred upon
settlement of the ARO and the recorded liability is recognized as a gain or
loss in the Trust's earnings in the period in which the settlement occurs.
INCOME TAXES
The Trust follows the liability method of accounting for income taxes. Under
this method, income tax liabilities and assets are recognized for the
estimated tax consequences attributable to differences between the amounts
reported in the financial statements of the Trust's corporate subsidiaries and
their respective tax base, using substantively enacted future income tax
rates. The effect of a change in income tax rates on future tax liabilities
and assets is recognized in income in the period in which the change occurs.
Temporary differences arising on acquisitions result in future income tax
assets and liabilities.
The Trust is a taxable entity under the Income Tax Act (Canada) and is taxable
only on income that is not distributed or distributable to the unitholders. As
the Trust distributes all of its taxable income to the unitholders and meets
the requirements of the Income Tax Act (Canada) applicable to the Trust, no
provision for income taxes has been made in the Trust.
BASIC AND DILUTED PER TRUST UNIT CALCULATIONS
Basic net income per unit is computed by dividing the net income by the
weighted average number of units outstanding during the period. Diluted net
income per unit amounts are calculated giving effect to the potential dilution
that would occur if rights were exercised at the beginning of the period. The
treasury stock method assumes that proceeds received from the exercise of
in-the-money rights and any unrecognized trust unit incentive compensation are
used to repurchase units at the average market price.
DERIVATIVE FINANCIAL INSTRUMENTS
The Trust is exposed to market risks resulting from fluctuations in commodity
prices, foreign exchange rates and interest rates in the normal course of
operations. A variety of derivative instruments are used by the Trust to
reduce its exposure to fluctuations in commodity prices, foreign exchange
rates, and interest rates. The fair values of these derivative instruments are
based on an estimate of the amounts that would have been received or paid to
settle these instruments prior to maturity. The Trust considers all of these
transactions to be effective economic hedges, however, the majority of the
Trust's contracts do not qualify or have not been designated as effective
hedges for accounting purposes.
For derivative instruments that do qualify as effective accounting hedges,
policies and procedures are in place to ensure that the required documentation
and approvals are in place. This documentation specifically ties the
derivative financial instrument to its use, and in the case of commodities, to
the mitigation of market price risk associated with cash flows expected to be
generated. When applicable, the Trust also identifies all relationships
between hedging instruments and hedged items, as well as its risk management
objective and the strategy for undertaking hedge transactions. This would
include linking the particular derivative to specific assets and liabilities
on the consolidated balance sheet or to specific firm commitments or
forecasted transactions. Where specific hedges are executed, the Trust
assesses, both at the inception of the hedge and on an ongoing basis, whether
the derivative used in the particular hedging transaction is effective in
offsetting changes in fair value or cash flows of the hedged item.
Realized and unrealized gains and losses associated with hedging instruments
that have been terminated or cease to be effective prior to maturity, are
deferred on the consolidated balance sheet and recognized in income in the
period in which the underlying hedged transaction is recognized. For
transactions that do not qualify for hedge accounting, the Trust applies the
fair value method of accounting by recording an asset or liability on the
consolidated balance sheet and recognizing changes in the fair value of the
instruments in the statement of income for the current period.
FOREIGN CURRENCY TRANSLATION
Monetary assets and liabilities denominated in a foreign currency are
translated at the rate of exchange in effect at the consolidated balance sheet
date. Revenues and expenses are translated at the monthly average rates of
exchange. Translation gains and losses are included in income in the period in
which they arise.
NON-CONTROLLING INTEREST
The Trust must record non-controlling interest when exchangeable shares issued
by a subsidiary of the Trust are transferable to third parties.
Non-controlling interest on the consolidated balance sheet is recognized based
on the fair value of the exchangeable shares upon issuance plus the
accumulated earnings attributable to the non-controlling interest. Net income
is reduced for the portion of earnings attributable to the non-controlling
interest. As the exchangeable shares are converted to trust units, the
non-controlling interest on the consolidated balance sheet is reduced by the
cumulative book value of the exchangeable shares and unitholders' capital is
increased by the corresponding amount.
RECLASSIFICATION
Certain information provided for prior years has been reclassified to conform
to the presentation adopted in 2005.
3. CORPORATE ACQUISITIONS
REDWATER AND NORTH PEMBINA CARDIUM UNIT
On December 16, 2005 the Trust acquired all of the issued and outstanding
shares of three legal entities, 3115151 Nova Scotia Company, 3115152 Nova
Scotia Company and 3115153 Nova Scotia Company which together hold the
Redwater and North Pembina Cardium Unit assets (collectively "Redwater and
NPCU") for total consideration of $462.8 million. The allocation of the
purchase price and consideration paid were as follows:
NET ASSETS ACQUIRED
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Working capital deficit $ (629)
Property, plant and equipment 729,482
Asset retirement obligations (70,700)
Future income taxes (195,339)
TOTAL NET ASSETS ACQUIRED $ 462,814
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CONSIDERATION PAID
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Cash consideration and fees paid $ 462,814
TOTAL CONSIDERATION PAID $ 462,814
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The acquisition of Redwater and NPCU has been accounted for as an asset
acquisition pursuant to EIC-124.
In addition to consideration paid, the Trust committed to making contributions
to a restricted reclamation fund as detailed in Note 18.
The future income tax liability on acquisition was based on the difference
between the fair value of the acquired net assets of $463.4 million and the
associated tax basis of $93.3 million.
These consolidated financial statements incorporate the operations of Redwater
and NPCU from December 16, 2005.
ROMULUS EXPLORATION INC.
On June 30, 2005, the Trust acquired all of the issued and outstanding shares
of Romulus Exploration Inc. ("Romulus") for total consideration of $42.2
million. The allocation of the purchase price and consideration paid were as
follows:
NET ASSETS ACQUIRED
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Working capital deficit $ (1,359)
Property, plant and equipment 62,456
Asset retirement obligations (443)
Future income taxes (18,472)
TOTAL NET ASSETS ACQUIRED $ 42,182
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CONSIDERATION PAID
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Cash and fees paid $ 42,182
TOTAL CONSIDERATION PAID $ 42,182
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The acquisition of Romulus has been accounted for as an asset acquisition
pursuant to EIC-124.
The future income tax liability on acquisition was based on the difference
between the fair value of the acquired net assets of $44 million and the
associated tax basis of $9 million.
These consolidated financial statements incorporate the operations of Romulus
from June 30, 2005.
HARRINGTON & BIBLER
On December 31, 2004, the Trust acquired all of the issued and outstanding
shares of four legal entities - Harrington Oil & Gas Ltd., Bibler Oil & Gas
Ltd., Lesco Oil & Gas Ltd., and Bibco Oil & Gas Ltd. ("Harrington & Bibler") -
for total consideration of $41.4 million. The allocation of the purchase price
and consideration paid were as follows:
NET ASSETS ACQUIRED
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Working capital surplus (including cash of $2,124) $ 3,479
Property, plant and equipment 55,229
Future income taxes (17,259)
TOTAL NET ASSETS ACQUIRED $ 41,449
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CONSIDERATION PAID
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Cash and fees paid $ 41,449
TOTAL CONSIDERATION PAID $ 41,449
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The acquisition of Harrington & Bibler has been accounted for as an asset
acquisition pursuant to EIC-124.
The future income tax liability on acquisition was based on the difference
between the fair value of the acquired net assets of $38 million and the
associated tax basis of $5.3 million.
These consolidated financial statements incorporate the results of operations
of the acquired Harrington & Bibler properties from December 31, 2004.
UNITED PRESTVILLE LTD.
On June 8, 2004, the Trust acquired all of the issued and outstanding shares
of United Prestville Ltd. ("United Prestville") for total consideration of
$30.6 million. The allocation of the purchase price and consideration paid
were as follows:
NET ASSETS ACQUIRED
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Working capital deficit $ (2,569)
Property, plant and equipment 40,412
Future income taxes (7,283)
TOTAL NET ASSETS ACQUIRED $ 30,560
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CONSIDERATION PAID
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Cash fees paid $ 60
Trust units issued 30,500
TOTAL CONSIDERATION PAID $ 30,560
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The acquisition of United Prestville has been accounted for as an asset
acquisition pursuant to EIC-124.
The future income tax liability on acquisition was based on the difference
between the fair value of the acquired net assets of $33.1 million and the
associated tax basis of $19.3 million.
These consolidated financial statements incorporate the operations of United
Prestville from June 8, 2004.
4. RECLAMATION FUND
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2005 2004
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Balance, beginning of year $ 21,294 $ 17,181
Contributions 6,000 6,000
Reimbursed expenditures (1) (4,644) (3,097)
Interest earned on fund 841 1,210
Balance, end of year $ 23,491 $ 21,294
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(1) Amount differs from actual expenditures incurred by the Trust due to
timing differences.
A reclamation fund was established to fund future asset retirement obligation
costs. The Board of Directors of ARC Resources has approved voluntary
contributions over a 20 year period that result in minimum annual
contributions of $6 million ($6 million in 2004) based upon properties owned
as at December 31, 2005. In addition, the Trust has committed to a restricted
reclamation fund associated with the Redwater property acquired in the
Redwater and NPCU acquisition, detailed in Note 18. Contributions to the
reclamation fund and interest earned on the reclamation fund balance have been
deducted from the cash distributions to the unitholders.
5. PROPERTY, PLANT AND EQUIPMENT
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2005 2004
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Property, plant and equipment, at cost $ 4,141,958 $ 2,969,319
Accumulated depletion and depreciation (1,211,981) (952,673)
Property, plant and equipment, net $ 2,929,977 $ 2,016,646
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The calculation of 2005 depletion and depreciation included an estimated $488
million ($374.2 million in 2004) for future development costs associated with
proved undeveloped reserves and excluded $58.9 million ($52.5 million in 2004)
for the cost value of unproved properties.
The Trust performed a ceiling test calculation at December 31, 2005 to assess
the recoverable value of PP&E. Based on the calculation, the present value of
future net revenues from the Trust's proved plus probable reserves exceeded
the carrying value of the Trust's PP&E at December 31, 2005. The benchmark
prices used in the calculation are as follows:
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WTI Oil AECO Gas USD/CAD
Year ($US/bbl) (Cdn$/mmbtu) Exchange Rates
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2006 57.00 10.60 0.85
2007 55.00 9.25 0.85
2008 51.00 8.00 0.85
2009 48.00 7.50 0.85
2010 46.50 7.20 0.85
2011 - 2016 46.50 7.15 0.85
Remainder (1) 2.0% 2.0% 0.85
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(1) Percentage change represents the change in each year after 2016 to the
end of the reserve life.
6. LONG-TERM DEBT
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2005 2004
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Revolving credit facilities
Syndicated credit facility (1) $ 254,680 $ --
Working capital facility 3,800 290
Senior secured notes
8.05% USD Note -- 33,701
5.42% USD Note 87,443 --
4.94% USD Note 34,977 36,108
4.62% USD Note 72,868 75,225
5.10% USD Note 72,868 75,225
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Total debt outstanding $ 526,636 $ 220,549
Current portion of debt -- 8,715
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Long-term debt $ 526,636 $ 211,834
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(1) Amount borrowed under the syndicated credit facility includes $2.9
million of outstanding cheques in excess of bank balance.
In April 2004, the Trust consolidated its credit facilities into one
syndicated facility. The syndication did not impact security or covenants
under the credit facility. As at December 31, 2005, the Trust has one
syndicated credit facility and one working capital facility to a combined
maximum of $950 million, less the amount of the outstanding senior secured
notes.
Amounts due under the working capital facility and the senior secured notes in
the next 12 months have not been included in current liabilities as management
has the ability and intent to refinance this amount through the syndicated
credit facility.
Security for the senior secured notes is in the form of floating charges on
all lands and assignments. The senior secured notes rank pari passu to the
revolving credit facilities.
The payment of principal and interest are allowable deductions in the
calculation of cash available for distribution to unitholders and rank in
priority to cash distributions payable to unitholders. Should the properties
securing this debt generate insufficient revenue to repay the outstanding
balances, the unitholders have no direct liability.
Interest paid during the year did not differ significantly from interest
expense.
REVOLVING CREDIT FACILITIES
The syndicated revolving credit facility has a 364 day extendable revolving
period and a two year term. Borrowings under the facility bear interest at
bank prime (five per cent and 4.25 per cent at December 31, 2005 and December
31, 2004, respectively) or, at the Trust's option, Canadian dollar or US
dollar bankers' acceptances plus a stamping fee. The lenders review the credit
facility each year and determine whether they will extend the revolving
periods for another year. The term date of the current credit facility is
March 28, 2006.
In the event that the revolving periods are not extended, the loan balance
will become repayable over a two year term period with 20 per cent of the loan
balance outstanding on the term date payable on March 28, 2007 followed by
three quarterly payments of five per cent of the loan balance. The remaining
65 per cent of the loan balance is payable in one lump sum at the end of the
term period. Collateral for the loan is in the form of floating charges on all
lands and assignments and negative pledges on specific petroleum and natural
gas properties.
The working capital facility allows for maximum borrowings of $25 million and
is due and payable immediately upon demand by the bank. The facility is
secured and is subject to the same covenants as the credit facility.
8.05 PER CENT, 5.42 PER CENT AND 4.94 PER CENT SENIOR SECURED USD NOTES
These senior secured notes were issued in three separate issues pursuant to an
Uncommitted Master Shelf Agreement. The US$35 million senior secured notes
were issued in 2000, bore interest at 8.05 per cent, and had a remaining
weighted average term of 2.3 years at January 1, 2005. During the year, the
Trust repaid the total principal outstanding, incurring a make whole-premium
in the amount of US$1.1 million, which was paid in order to early settle the
debt. This make-whole premium was charged to interest expense in the year.
In conjunction with the early retirement of the above notes, additional US$75
million notes were issued on December 15, 2005. These notes bear interest at
5.42 per cent, have a remaining final term of 12 years (remaining weighted
average term of 8.6 years) and require equal principal repayments over an
eight year period commencing in 2010.
The US$30 million senior secured notes were issued in 2002, bear interest at
4.94 per cent, have a remaining final life of 4.8 years (remaining average
life of 2.8 years) and require equal principal payments of US$6 million over a
five year period commencing in 2006.
4.62 PER CENT AND 5.10 PER CENT SENIOR SECURED USD NOTES
These notes were issued on April 27, 2004 via a private placement in two
tranches of US$62.5 million each. The first tranche of US$62.5 million bears
interest at 4.62 per cent and has a remaining final term of 8.3 years
(remaining weighted average term of 5.9 years) and require equal principal
repayments over a six year period commencing 2009. Immediately following the
issuance, the Trust entered into interest rate swap contracts that effectively
changed the interest rate from fixed to floating (see Note 9). The second
tranche of US$62.5 million bears interest at 5.10 per cent and has a remaining
final term of 10.3 years (remaining weighted average term of 8.4 years).
Repayments of the notes will occur in years 2012 through 2016.
7. OTHER LONG-TERM LIABILITIES
- ------------------------------------------------------------------------------
2005 2004
- ------------------------------------------------------------------------------
Accrued long-term incentive compensation $ 11,360 $ 1,893
Retention bonuses 1,000 2,000
Total other long-term liabilities $ 12,360 $ 3,893
- ------------------------------------------------------------------------------
The accrued long-term incentive compensation represents the long-term portion
of the Trust's estimated liability for the Whole Unit Plan as at December 31,
2005 (see Note 15). This amount is payable in 2007 through 2008.
The retention bonuses arose upon internalization of the management contract in
2002. The long-term portion of retention bonuses will be paid in August 2007.
8. ASSET RETIREMENT OBLIGATIONS ("ARO")
The total future ARO was estimated by management based on the Trust's net
ownership interest in all wells and facilities, estimated costs to reclaim and
abandon the wells and facilities and the estimated timing of the costs to be
incurred in future periods. The Trust has estimated the net present value of
its total ARO to be $165.1 million as at December 31, 2005 (2004 - $73
million) based on a total future undiscounted liability of $603.4 million
($247 million in 2004). These payments are expected to be made over the next
61 years with the bulk of payments being made in years 2016 to 2025 and 2046
to 2055. The Trust's weighted average credit adjusted risk free rate of 5.6
per cent (6.9 per cent in 2004) and an inflation rate of two per cent (1.5 per
cent in 2004) were used to calculate the present value of the ARO. During the
year, no gains or losses were recognized on settlements of ARO.
The following table reconciles the Trust's ARO:
- -----------------------------------------------------------------------------------------------
2005 2004
- -----------------------------------------------------------------------------------------------
Carrying amount, beginning of year $ 73,001 $ 66,657
Increase in liabilities relating to corporate acquisitions 71,143 --
Increase in liabilities relating to development activities 5,096 7,524
Increase (decrease) in liabilities relating to change in estimate 15,487 (2,528)
Settlement of liabilities during the year (4,881) (3,232)
Accretion expense 5,207 4,580
Carrying amount, end of year $ 165,053 $ 73,001
- -----------------------------------------------------------------------------------------------
9. FINANCIAL INSTRUMENTS
The Trust is exposed to a number of financial risks including the following
items as part of its normal course of business:
RISK FACTORS
A) CREDIT RISK
Most of the Trust's accounts receivable relate to oil and natural gas sales
and are exposed to typical industry credit risks. The Trust manages this
credit risk by entering into sales contracts with only highly rated entities
and reviewing its exposure to individual entities on a regular basis. With
respect to counterparties to financial instruments the Trust partially
mitigates associated credit risk by limiting transactions to counterparties
with investment grade credit ratings.
B) VOLATILITY OF OIL AND NATURAL GAS PRICES
The Trust's operational results and financial condition, and therefore the
amount of distributions paid to the unitholders are dependent on the prices
received for oil and natural gas production. Oil and gas prices have
fluctuated widely during recent years and are determined by economic, and in
the case of oil prices, political factors. Supply and demand factors,
including weather and general economic conditions as well as conditions in
other oil and natural gas regions impact prices. Any movement in oil and
natural gas prices could have an effect on the Trust's financial condition and
therefore on the distributions to the unitholders. ARC may manage the risk
associated with changes in commodity prices by entering into oil or natural
gas price derivatives. To the extent that ARC engages in risk management
activities related to commodity prices, it will be subject to credit risks
associated with counterparties with which it contracts.
C) VARIATIONS IN INTEREST RATES AND FOREIGN EXCHANGE RATES
Increases in interest rates could result in a significant increase in the
amount the Trust pays to service variable interest debt, resulting in a
decrease in distributions to unitholders. World oil prices are quoted in US
dollars and the price received by Canadian producers is therefore affected by
the Canadian/US dollar exchange rate that may fluctuate over time. Variations
in the exchange rate of the Canadian dollar could have significant positive or
negative impact on future distributions. ARC has initiated certain derivative
contracts to attempt to mitigate these risks. To the extent that ARC engages
in risk management activities related to foreign exchange rates, it will be
subject to credit risk associated with counterparties with which it contracts.
The increase in the exchange rate for the Canadian dollar and future
Canadian/US exchange rates will impact future distributions and the future
value of the Trust's reserves as determined by independent evaluators.
FINANCIAL INSTRUMENTS
Financial instruments of the Trust carried on the consolidated balance sheet
consist mainly of cash and cash equivalents, accounts receivable, reclamation
fund, current liabilities, other long-term liabilities, commodity and foreign
currency contracts and long-term debt. Except as noted below, as at December
31, 2005 and 2004, there were no significant differences between the carrying
value of these financial instruments and their estimated fair value due to
their short term nature.
The fair value of the US$230 million fixed rate senior secured approximated
Cdn$269 million as at December 31, 2005 and will vary with changes in interest
rates (2004 - US$183 million outstanding approximated Cdn$219 million).
DERIVATIVE CONTRACTS
During 2005, the Trust terminated certain 2006 crude oil and foreign currency
contracts resulting in a payment of $6.1 million dollars (2004 - $4.9
million). This amount reduced net income in the year.
Following is a summary of all derivative contracts in place as at December 31,
2005 in order to mitigate the risks discussed above:
FINANCIAL WTI CRUDE OIL CONTRACTS
- ---------------------------------------------------------------------------------------------------------
Volume Bought Put Sold Put
Term Contract (bbl/d) (US$/bbl) (US$/bbl)
- ---------------------------------------------------------------------------------------------------------
2006
Jan 06 - Mar 06 Bought Put 3,000 50.00 --
Jan 06 - Mar 06 Put Spread 1,000 55.00 45.00
Jan 06 - Jun 06 Put Spread 2,000 50.00 40.00
Jan 06 - Dec 06 Bought Put 1,000 55.00 --
Jan 06 - Dec 06 Put Spread 1,000 55.00 45.00
Apr 06 - Dec 06 Bought Put 2,000 50.00 --
Apr 06 - Dec 06 Put Spread 2,000 55.00 45.00
ANNUAL WEIGHTED AVERAGE 6,992 52.68 43.68
- ---------------------------------------------------------------------------------------------------------
FINANCIAL AECO NATURAL GAS CONTRACTS
- ---------------------------------------------------------------------------------------------------------
Volume Bought Put Sold Put
Term Contract (GJ/d) (Cdn$/GJ) (Cdn$/GJ)
- ---------------------------------------------------------------------------------------------------------
2006
Jan 06 - Mar 06 Bought Put 10,000 8.00 --
Jan 06 - Mar 06 Put Spread 20,000 8.50 6.50
Mar 06 - Mar 06 Put Spread 10,000 10.00 8.00
Apr 06 - Oct 06 Put Spread 30,000 8.00 6.00
ANNUAL WEIGHTED AVERAGE 25,836 8.16 6.18
- ---------------------------------------------------------------------------------------------------------
FINANCIAL AECO/NYMEX NATURAL GAS BASIS CONTRACTS
- ---------------------------------------------------------------------------------------------------------
Volume Bought Put
Term Contract (mmbtu/d) (US$/mmbtu)
- ---------------------------------------------------------------------------------------------------------
2006
Jan 06 - Mar 06 Bought Put 10,000 8.00
ANNUAL WEIGHTED AVERAGE 2,466 8.00
- ---------------------------------------------------------------------------------------------------------
FINANCIAL FOREIGN EXCHANGE CONTRACTS
- ---------------------------------------------------------------------------------------------------------
Volume Swap Swap
Term Contract (Millions US$) (Cdn$/US$) (US$/Cdn$)
- ---------------------------------------------------------------------------------------------------------
USD SALES CONTRACTS
2006
Jan 06 - Jun 06 Swap 37.1 1.2239 0.8172
Jan 06 - Dec 06 Swap 60.0 1.1659 0.8577
ANNUAL WEIGHTED AVERAGE 78.6 1.1880 0.8417
- ---------------------------------------------------------------------------------------------------------
Volume Swap Swap
Term Contract (Millions US$) (Cdn$/US$) (US$/Cdn$)
- ---------------------------------------------------------------------------------------------------------
USD PURCHASE CONTRACTS
2006
Oct 06 - Dec 06 Swap 15.0 1.1685 0.8558
- ---------------------------------------------------------------------------------------------------------
ANNUAL WEIGHTED AVERAGE 3.8 1.1685 0.8558
- ---------------------------------------------------------------------------------------------------------
FINANCIAL ELECTRICITY CONTRACTS (1)
- ---------------------------------------------------------------------------------------------------------
Volume Swap
Term Contract (MWh) (Cdn$/MWh)
Jan 06 - Dec 10 Swap 5.0 63.00
- ---------------------------------------------------------------------------------------------------------
(1) Contracted volume is based on a 24/7 term.
FINANCIAL INTEREST RATE CONTRACTS (1)
- ---------------------------------------------------------------------------------------------------------
Principal Fixed Annual Spread On
Term Contract (Millions US$) Rate (%) 3 Mo. LIBOR
- ---------------------------------------------------------------------------------------------------------
Jan 06 - Apr 14 Swap 30.5 4.62 38.5 bps
Jan 06 - Apr 14 Swap 32.0 4.62 (25.5 bps)
TOTAL AND ANNUAL WEIGHTED AVERAGE 62.5 4.62 5.5 BPS
- ---------------------------------------------------------------------------------------------------------
(1) Interest rate swap contracts have an optional termination date of April
27, 2009. The Trust has the option to extend the optional termination
date by one year on the anniversary of the trade date each year until
April 2009. Starting in 2009, the contract amount decreases annually
until 2014. The Trust pays the floating interest rate based on the three
month LIBOR plus a spread and receives the fixed interest rate.
The Trust has designated its fixed price electricity contract as an effective
accounting hedge as at January 1, 2004. A realized gain of $0.3 million ($0.4
million loss in 2004) on the electricity contract has been included in
operating costs. The fair value unrealized loss on the electricity contract of
$0.2 million has not been recorded on the consolidated balance sheet at
December 31, 2005.
Previously the Trust had entered into two interest rate swap contracts to
manage the Trust's interest rate exposure on debt instruments. These contracts
were designated as effective accounting hedges on the contract date. During
the year one of these contracts was unwound at a nominal cost. In November
2005 the Trust entered into a new interest rate swap contract which it also
designated as an effective accounting hedge. A realized gain of $0.5 million
for the year on the interest rate swap contracts has been included in interest
expense ($1.4 million gain in 2004). The fair value unrealized loss on the
remaining two interest rate swap contracts of $1 million has not been recorded
on the consolidated balance sheet at December 31, 2005.
None of the Trust's commodity and foreign currency contracts have been
designated as effective accounting hedges. Accordingly, all commodity and
foreign currency contracts have been accounted as assets and liabilities in
the consolidated balance sheet based on their fair values.
The following table reconciles the movement in the fair value of the Trust's
financial commodity and foreign currency contracts that have not been
designated as effective accounting hedges:
- --------------------------------------------------------------------------------------
2005 2004
- --------------------------------------------------------------------------------------
Fair value, beginning of year (1) $ (4,042) $ (14,575)
Fair value, end of year (4,042) (4,042)
- --------------------------------------------------------------------------------------
Change in fair value of contracts in the year (1) -- 10,533
Realized losses in the year (87,558) (86,909)
Non-cash amortization of crystallized hedging gains -- 4,883
Amortization of opening mark to market loss -- (14,575)
Loss on commodity and foreign currency contracts (1) $ (87,558) $ (86,068)
- --------------------------------------------------------------------------------------
Commodity and foreign currency contracts liability $ (7,167) $ (26,336)
Commodity and foreign currency contract asset $ 3,125 $ 22,294
- --------------------------------------------------------------------------------------
(1) Excludes the fixed price electricity contract and interest rate swap
contracts that were accounted for as effective accounting hedges.
Upon implementation of the new hedge accounting guideline on January 1, 2004,
the Trust recorded a liability and corresponding deferred hedge loss of $14.6
million for the fair value of the contracts at that time. The opening deferred
hedge loss was amortized to income over the terms of the contracts in place at
January 1, 2004. As at December 31, 2004, the deferred hedge loss had been
fully amortized. At December 31, 2005, the fair value of the contracts that
were not designated as accounting hedges was a loss of $4 million ($4 million
in 2004).
The Trust recorded a loss on commodity and foreign currency contracts of $87.6
million in the statement of income for 2005 ($86.1 million in 2004). This
amount includes the realized and unrealized gains and losses on derivative
contracts that do not qualify as effective accounting hedges. During the year,
no unrealized gain/loss was recognized as there was no over-all change in fair
value of the contracts ($10.5 million unrealized gain in 2004). Realized cash
losses on contracts during the year of $87.6 million ($86.9 million in 2004)
and amortization expense of $nil of the opening deferred hedge loss ($14.6
million in 2004) have been included in this amount. In addition, this amount
includes a non-cash amortization gain of $nil ($4.9 million in 2004) relating
to contracts that were previously recorded on the consolidated balance sheet.
10. FUTURE INCOME TAXES
The tax provision differs from the amount computed by applying the combined
Canadian federal and provincial statutory income tax rates to income before
future income tax recovery as follows:
- -------------------------------------------------------------------------------------
2005 2004
- -------------------------------------------------------------------------------------
Income before future income tax expense and recovery $ 364,140 $ 219,541
- -------------------------------------------------------------------------------------
Expected income tax expense at statutory rates 136,990 85,410
Effect on income tax of:
Net income of the Trust (111,687) (86,547)
Effect of change in corporate tax rate (4,885) (5,861)
Resource allowance (20,036) (13,341)
Unrealized (gain) on foreign exchange (1,588) (8,412)
Non-deductible crown charges 1,265 1,304
Alberta Royalty Tax Credit 141 244
Capital tax 1,460 1,103
Future income tax expense (recovery) $ 1,660 $ (26,100)
- -------------------------------------------------------------------------------------
The net future income tax liability is comprised of the following:
- -------------------------------------------------------------------------------------
2005 2004
- -------------------------------------------------------------------------------------
Future tax liabilities:
Capital assets in excess of tax value $ 569,812 $ 345,987
Future tax assets:
Non-capital losses (1,509) (19,429)
Asset retirement obligations (45,755) (19,434)
Commodity and foreign currency contracts (1,364) (1,384)
Attributed Canadian royalty income (5,289) (5,289)
Deductible share issue costs (18) (45)
Net future income tax liability $ 515,877 $ 300,406
- -------------------------------------------------------------------------------------
The petroleum and natural gas properties and facilities owned by the Trust's
corporate subsidiaries have an approximate tax basis of $567.2 million ($364.6
million in 2004) available for future use as deductions from taxable income.
Included in this tax basis are estimated non-capital loss carry forwards of
$4.5 million ($56.7 million in 2004) that expire in the years through 2010.
$0.9 million of current income tax was accrued for in 2005 relating to a
predecessor company. No current income taxes were paid or payable in 2004.
11. UNITHOLDERS' CAPITAL
The Trust is authorized to issue 650 million units of which 199.1 million
units were issued and outstanding as at December 31, 2005 (185.8 million as at
December 31, 2004).
On December 23, 2005, the Trust issued nine million units at $26.65 per unit
for proceeds of $239.9 ($227.6 million net of trust unit issue costs) pursuant
to a public offering prospectus dated December 16, 2005.
The Trust has in place a Distribution Reinvestment and Optional Cash Payment
Program Plan ("DRIP") in conjunction with the Trust's transfer agent to
provide the option for unitholders to reinvest cash distributions into
additional units issued from treasury at a five per cent discount to the
prevailing market price with no additional fees or commissions.
The Trust is an open ended mutual fund under which unitholders have the right
to request redemption directly from the Trust. Units tendered by holders are
subject to redemption under certain terms and conditions including the
determination of the redemption price at the lower of the closing market price
on the date units are tendered or 90 per cent of the weighted average trading
price for the 10 day trading period commencing on the tender date. Cash
payments for units tendered for redemption are limited to $100,000 per month
with redemption requests in excess of this amount eligible to receive a note
from ARC Resources for a maximum of $500 million accruing interest at six per
cent and repayable within 15 years.
- -----------------------------------------------------------------------------------------------------
2005 2004
- -----------------------------------------------------------------------------------------------------
NUMBER OF Number of
TRUST UNITS $ Trust Units $
- -----------------------------------------------------------------------------------------------------
Balance, beginning of year 185,822 1,926,351 179,780 1,843,112
Issued for cash 9,000 239,850 -- --
Issued for properties (Note 3) -- -- 2,032 30,500
Issued on conversion of ARL
exchangeable shares (Note 12) 333 4,018 363 4,295
Issued on exercise of employee rights (Note 14) 1,500 24,052 1,751 20,672
Distribution reinvestment program 2,449 48,789 1,896 27,924
Trust unit issue costs -- (12,218) -- (152)
- -----------------------------------------------------------------------------------------------------
Balance, end of year 199,104 2,230,842 185,822 1,926,351
- -----------------------------------------------------------------------------------------------------
12. EXCHANGEABLE SHARES
The ARC Resources exchangeable shares ("ARL Exchangeable Shares") were issued
on January 31, 2001 at $11.36 per exchangeable share as partial consideration
for the Startech Energy Inc. acquisition. The issue price of the exchangeable
shares was determined based on the weighted average trading price of units
preceding the date of announcement of the acquisition. The ARL Exchangeable
Shares had an exchange ratio of 1:1 at the time of issuance.
ARL Exchangeable Shares can be converted (at the option of the holder) into
units at any time. The number of units issuable upon conversion is based upon
the exchange ratio in effect at the conversion date. The exchange ratio is
calculated monthly based on the cash distribution paid divided by the ten day
weighted average unit price preceding the record date. The exchangeable shares
are not eligible for distributions and, in the event that they are not
converted, any outstanding shares are redeemable by the Trust for units on or
after February 1, 2004 until February 1, 2010. The ARL Exchangeable Shares are
publicly traded.
- -----------------------------------------------------------------------------------------------------
ARL EXCHANGEABLE SHARES 2005 2004
- -----------------------------------------------------------------------------------------------------
Balance, beginning of year 1,784 2,011
Exchanged for trust units (189) (227)
- -----------------------------------------------------------------------------------------------------
Balance, end of year 1,595 1,784
Exchange ratio, end of year 1.83996 1.67183
Trust units issuable upon conversion, end of year 2,935 2,982
- -----------------------------------------------------------------------------------------------------
The non-controlling interest on the consolidated balance sheet consists of the
fair value of the exchangeable shares upon issuance plus the accumulated
earnings attributable to the non-controlling interest. The net income
attributable to the non-controlling interest on the consolidated statement of
income represents the cumulative share of net income attributable to the
non-controlling interest based on the units issuable for exchangeable shares
in proportion to total units issued and issuable at each period end.
Following is a summary of the non-controlling interest for 2005 and 2004:
- ------------------------------------------------------------------------------------------
2005 2004
- ------------------------------------------------------------------------------------------
Non-controlling interest, beginning of year $ 35,967 $ 36,311
Reduction of book value for conversion to trust units (4,018) (4,295)
Current period net income attributable to non-controlling interest 5,545 3,951
Non-controlling interest, end of year $ 37,494 $ 35,967
Accumulated earnings attributable to non-controlling interest $ 20,684 $ 15,139
- ------------------------------------------------------------------------------------------
13. RECONCILIATION OF CASH FLOW AND DISTRIBUTIONS
Cash distributions are calculated in accordance with the Trust Indenture. To
arrive at cash distributions, cash flow from operating activities adjusted for
changes in non-cash working capital and expenditures on site restoration and
reclamation, is reduced by reclamation fund contributions including interest
earned on the fund and a portion of capital expenditures. The portion of cash
flow withheld to fund capital expenditures is at the discretion of the Board
of Directors.
- ---------------------------------------------------------------------------------------------
2005 2004
- ---------------------------------------------------------------------------------------------
Cash flow from operating activities $ 616,711 $ 446,418
Change in non-cash working capital 17,919 (1,617)
Expenditures on site reclamation and restoration 4,881 3,232
- ---------------------------------------------------------------------------------------------
Cash flow from operating activities after the above adjustments $ 639,511 $ 448,033
Deduct:
Cash withheld to fund current period capital expenditures (256,104) (110,846)
Reclamation fund contributions and interest earned on fund (6,841) (7,210)
- ---------------------------------------------------------------------------------------------
Cash distributions (1) 376,566 329,977
Accumulated cash distributions, beginning of year 1,298,252 968,275
Accumulated cash distributions, end of year $ 1,674,818 $ 1,298,252
- ---------------------------------------------------------------------------------------------
Cash distributions per unit (2) $ 1.99 $ 1.80
Accumulated cash distributions per unit, beginning of year 14.24 12.44
Accumulated cash distributions per unit, end of year $ 16.23 $ 14.24
- ---------------------------------------------------------------------------------------------
(1) Cash distributions include non-cash amounts of $58.3 million ($28 million
- 2004). These amounts relate to the distribution reinvestment program.
(2) Cash distributions per unit reflect the sum of the per unit amounts
declared monthly to unitholders.
14. TRUST UNIT INCENTIVE RIGHTS PLAN
The Trust Unit Incentive Rights Plan (the "Rights Plan") was established in
1999 that authorized the Trust to grant up to 8,000,000 rights to its
employees, independent directors and long-term consultants to purchase units,
of which 7,866,088 were granted to December 31, 2005. The initial exercise
price of rights granted under the Rights Plan may not be less than the current
market price of the units as at the date of grant and the maximum term of each
right is not to exceed 10 years. In general, these rights have a five year
term and vest equally over three years commencing on the first anniversary
date of the grant. In addition, the exercise price of the rights is to be
adjusted downwards from time to time by the amount, if any, that distributions
to unitholders in any calendar quarter exceeds 2.5 per cent (10 per cent
annually) of the Trust's net book value of property, plant and equipment (the
"Excess Distribution"), as determined by the Trust.
During the year, the Trust did not grant any rights (27,000 rights granted in
2004 at an exercise price of $15.42 per unit). No future rights will be issued
as the rights plan was replaced with a Whole Unit Plan during 2004 (see Note
15). The existing Rights Plan will be in place until the remaining 1.3 million
rights outstanding as at December 31, 2005 are exercised or cancelled.
A summary of the changes in rights outstanding under the Rights Plan is as
follows:
- -----------------------------------------------------------------------------------------
2005 2004
- -----------------------------------------------------------------------------------------
WEIGHTED Weighted
AVERAGE Average
NUMBER EXERCISE Number Exercise
OF RIGHTS PRICE($) of Rights Price($)
- -----------------------------------------------------------------------------------------
Balance, beginning of year 3,009 10.92 4,869 11.29
Granted -- -- 27 15.42
Exercised (1,500) 11.60 (1,751) 10.57
Cancelled (160) 10.99 (136) 11.60
- -----------------------------------------------------------------------------------------
Balance before reduction of exercise price 1,349 11.10 3,009 11.72
Reduction of exercise price (1) -- (0.88) -- (0.80)
- -----------------------------------------------------------------------------------------
Balance, end of year 1,349 10.22 3,009 10.92
- -----------------------------------------------------------------------------------------
(1) The holder of the right has the option to exercise rights held at the
original grant price or a reduced exercise price.
A summary of the plan as at December 31, 2005 is as follows:
- ------------------------------------------------------------------------------------------
Adjusted Number Remaining Number of
Exercise Price Exercise of Rights Contractual Life Rights
At Grant Date ($) Price ($) Outstanding of Rights (Years) Exercisable
- ------------------------------------------------------------------------------------------
12.25 9.00 32 1.4 33
12.49 12.23 118 2.5 118
12.18 10.19 1,172 3.4 399
15.42 14.21 27 4.2 9
- ------------------------------------------------------------------------------------------
12.27 10.22 1,349 3.3 559
- ------------------------------------------------------------------------------------------
The Trust recorded compensation expense of $6.5 million for the year ($5.2
million in 2004) for the cost associated with the rights. Of the 3,013,569
rights issued on or after January 1, 2003 that were subject to recording
compensation expense, 355,499 rights have been cancelled and 1,458,929 rights
have been exercised to December 31, 2005.
The Trust used the Black-Scholes option-pricing model to calculate the
estimated fair value of the outstanding rights issued on or after January 1,
2003. The following assumptions were used to arrive at the estimate of fair
value as at December 31, 2004:
- -----------------------------------------------------------------------------
2004
- -----------------------------------------------------------------------------
Expected annual right's exercise price reduction 0.72
Expected volatility 13.2%
Risk-free interest rate 3.7%
Expected life of option (years) 1.1
Expected forfeitures 0%
- -----------------------------------------------------------------------------
Prior to 2004, the Trust recorded compensation expense on its Rights Plan
using the intrinsic method. In 2004, the Trust adopted the fair value method.
Use of the fair value prior to 2004 would have resulted in an immaterial
impact to the Trust.
The following table reconciles the movement in the contributed surplus
balance:
- ------------------------------------------------------------------------------
2005 2004
- ------------------------------------------------------------------------------
Balance, beginning of year $ 6,475 $ 3,471
Compensation expense 6,524 5,171
Net benefit on rights exercised (1) (6,617) (2,167)
- ------------------------------------------------------------------------------
Balance, end of year $ 6,382 $ 6,475
- ------------------------------------------------------------------------------
(1) Upon exercise, the net benefit is reflected as a reduction of contributed
surplus and an increase to unitholders' capital.
Compensation expense has not been recorded for rights granted prior to 2003.
The following table represents the pro forma net income and the pro forma net
income per unit had the Trust applied the fair value method to rights granted
in 2002.
- -------------------------------------------------------------------------------
PRO FORMA RESULTS 2005 2004
- -------------------------------------------------------------------------------
Net income as reported $ 356 $ 241,690
Less: compensation expense for rights issued in 2002 6,599 3,189
- -------------------------------------------------------------------------------
Pro forma net income $ 350 $ 238,501
Basic net income per trust unit
As reported $ 1.90 $ 1.32
Pro forma $ 1.86 $ 1.30
- -------------------------------------------------------------------------------
Diluted net income per trust unit
As reported $ 1.88 $ 1.31
Pro forma $ 1.85 $ 1.29
- -------------------------------------------------------------------------------
15. WHOLE TRUST UNIT INCENTIVE PLAN
In March 2004, the Board of Directors, upon recommendation of the Human
Resources and Compensation Committee, approved a new Whole Trust Unit
Incentive Plan (the "Whole Unit Plan") to replace the existing Trust Unit
Incentive Rights Plan for new awards granted subsequent to March 31, 2004. The
new Whole Unit Plan will result in employees, officers and directors (the
"plan participants") receiving cash compensation in relation to the value of a
specified number of underlying notional units. The Whole Unit Plan consists of
Restricted Trust Units ("RTUs") for which the number of trust units is fixed
and will vest over a period of three years and Performance Trust Units
("PTUs") for which the number of trust units is variable and will vest at the
end of three years.
Upon vesting, the plan participant receives a cash payment based on the fair
value of the underlying trust units plus notional accrued distributions. The
cash compensation issued upon vesting of the PTUs is dependent upon the future
performance of the Trust compared to its peers based on a performance
multiplier. The performance multiplier is based on the percentile rank of the
Trust's total unitholder return. The cash compensation issued upon vesting of
the PTUs may range from zero to two times the number of the PTUs originally
granted.
The fair value associated with the RTUs and PTUs is expensed in the statement
of income over the vesting period. As the value of the RTUs and PTUs is
dependent upon the unit price, the expense recorded in the statement of income
may fluctuate over time.
The Trust recorded compensation expense of $8.8 million and $1.9 million to
general and administrative and operating expenses, respectively in 2005 ($2.9
million and $nil in 2004) for the estimated cost of the plan. The compensation
expense was based on the December 31, 2005 unit price of $26.49 ($17.90 in
2004), distributions of $0.20 per unit per month during the year ($0.15 per
month in 2004), and the number of units to be issued on maturity.
- -------------------------------------------------------------------------------
2005 2004
- -------------------------------------------------------------------------------
NUMBER OF NUMBER OF Number of Number of
RTUS PTUS RTUs PTUs
- -------------------------------------------------------------------------------
Balance, beginning of year 224,398 128,331 -- --
Vested (78,745) --
Granted 367,030 304,655 226,837 128,908
Forfeited (33,918) (42,429) (2,439) (577)
- -------------------------------------------------------------------------------
Balance, end of year 478,765 390,557 224,398 128,331
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The following table reconciles the change in total accrued compensation
liability relating to the Whole Unit Plan:
- --------------------------------------------------------------------------------------
DECEMBER 31, December 31,
2005 2004
- --------------------------------------------------------------------------------------
Balance, beginning of year $ 2,915 $ --
Increase in liabilities in the year (net of cash payments)
General and administrative expense 8,774 2,915
Operating expense 1,916 --
Property, plant and equipment 1,352 --
Balance, end of year $14,957 $ 2,915
Current portion of liability 3,597 1,022
Long-term liability $11,360 $ 1,893
- --------------------------------------------------------------------------------------
During the year $1.6 million in cash payments were made to employees relating
to the Whole Unit Plan (2004 - $nil).
16. BASIC AND DILUTED PER TRUST UNIT CALCULATIONS
Net income per unit has been determined based on the following:
- ----------------------------------------------------------------------------------
2005 2004
- ----------------------------------------------------------------------------------
Weighted average trust units (1) 188,237 183,123
Trust units issuable on conversion of exchangeable shares (2) 2,935 2,982
Dilutive impact of rights (3) 1,372 1,756
Dilutive trust units and exchangeable shares 192,544 187,861
- ----------------------------------------------------------------------------------
(1) Weighted average units excludes units issuable for exchangeable shares.
(2) Diluted units include units issuable for outstanding exchangeable shares
at the period end exchange ratio.
(3) All outstanding rights were dilutive and therefore none have been
excluded in the diluted unit calculation.
Basic net income per unit has been calculated based on net income after
non-controlling interest divided by weighted average units. Diluted net income
per unit has been calculated based on net income before non-controlling
interest divided by dilutive units.
17. GAIN (LOSS) ON FOREIGN EXCHANGE
The following is a summary of the gain (loss) on commodity and foreign
currency contracts for 2005:
- -------------------------------------------------------------------------------
2005 2004
- -------------------------------------------------------------------------------
Unrealized (loss) gain on US$ denominated debt $ (4,221) $ 21,922
Realized gain (loss) on US$ denominated debt repayments 10,580 (3,495)
- -------------------------------------------------------------------------------
Total non-cash gain on US$ denominated transactions $ 6,359 $ 18,427
Realized cash gain on US$ denominated transactions 53 2,286
Total foreign exchange gain $ 6,412 $ 20,713
- -------------------------------------------------------------------------------
18. COMMITMENTS AND CONTINGENCIES
Following is a summary of the Trust's contractual obligations and commitments
as at December 31, 2005:
- ---------------------------------------------------------------------------------------------
Payments Due by Period
($ millions) 2006 2007-2008 2009-2010 Thereafter Total
- ---------------------------------------------------------------------------------------------
Debt repayments (1) -- 279.4 49.2 198.0 526.6
Reclamation fund contributions (2) 6.1 11.8 10.2 80.9 109.0
Purchase commitments 2.4 3.4 3.2 8.0 17.0
Operating leases 4.1 8.1 7.3 -- 19.5
Derivative contract premiums (3) 12.4 -- -- -- 12.4
Retention bonuses 1.0 1.0 -- -- 2.0
Total contractual obligations 26.0 303.7 69.9 286.9 686.5
- ---------------------------------------------------------------------------------------------
(1) Includes long-term and short-term debt.
(2) Contribution commitments to a restricted reclamation fund associated with
the Redwater property acquired in the Redwater and NPCU acquisition.
(3) Fixed premiums to be paid in future periods on certain commodity
derivative contracts.
The Trust enters into commitments for capital expenditures in advance of the
expenditures being made. At a given point in time, it is estimated that the
Trust has committed to capital expenditures by means of giving the necessary
authorizations to incur capital in a future period. This commitment has not
been disclosed in the above commitment table as it is of a routine nature and
is part of normal course of operations for active oil and gas companies and
trusts.
Other items excluded from the commitment table above include commitments
regarding asset retirement obligations and the Whole Unit Plan. These amounts
have been accrued for, however, the final payment amounts are uncertain and
are therefore excluded above.
The Trust has certain sales contracts with aggregators whereby the price
received by the Trust is dependent upon the contracts entered into by the
aggregator. The Trust has an obligation for future fixed transportation
charges, pursuant to one aggregator contract, for which the transportation is
not physically being utilized due to a shortage of demand. The Trust has
estimated that its total future liability for the future transportation
charges approximates $10 million over the period 2006 through 2012. This
transportation charge will be realized as a reduction of the Trust's net gas
price over the corresponding period as the charges are incurred. For all other
aggregator contracts, prices received by the Trust closely track to market
prices.
The Trust is involved in litigation and claims arising in the normal course of
operations. Management is of the opinion that any resulting settlements would
not materially affect the Trust's financial position or reported results of
operations.
In addition to the above, the Trust has commitments related to its risk
management program (see Note 9).
19. SUBSEQUENT EVENTS
FINANCIAL WTI CRUDE OIL CONTRACTS
On January 12, 2006, the Trust entered into a series of $55 - $90 ($40) 3-way
collars for the period February 2006 to December 2009 for 5,000 bbl per day.
The contracts will result in a $7.5 million premium payment during the
duration of the contracts.
PROPERTY ACQUISITIONS
During January 2006, the Trust acquired property, plant, and equipment for
consideration of $26 million.
20. DIFFERENCES BETWEEN CANADIAN AND UNITED STATES GENERALLY ACCEPTED
ACCOUNTING PRINCIPLES
The consolidated financial statements have been prepared in accordance with
Canadian GAAP, which differs in some respects from US GAAP. Any differences in
accounting principles as they pertain to the accompanying consolidated
financial statements are immaterial except as described below:
The application of US GAAP would have the following effect on net income as
reported.
- -----------------------------------------------------------------------------------------------------------
2005 2004
- -----------------------------------------------------------------------------------------------------------
Net income as reported for Canadian GAAP $ 356,935 $ 241,690
Adjustments:
Depletion and depreciation (a) 15,639 19,004
Unrealized gain on derivative instruments (c) -- 13,721
Unit based compensation (b) (7,274) (9,219)
Non-controlling interest (e) 5,545 3,951
Effect of applicable income taxes on the above adjustments (5,357) (2,142)
- -----------------------------------------------------------------------------------------------------------
Net income under US GAAP $ 365,488 $ 267,005
Net income per trust unit (Note 16)
- -----------------------------------------------------------------------------------------------------------
Basic (f) $ 1.91 $ 1.43
Diluted (f) $ 1.90 $ 1.42
- -----------------------------------------------------------------------------------------------------------
COMPREHENSIVE INCOME:
Net income under US GAAP $ 365,488 $ 267,005
Unrealized gain (loss) on derivative instruments, net of applicable income taxes 1,593 (2,441)
Comprehensive income (c) $ 367,081 $ 264,564
- -----------------------------------------------------------------------------------------------------------
The application of US GAAP would have the following effect on the consolidated
balance sheets as reported:
- ----------------------------------------------------------------------------------------------------
2005 2004
- ----------------------------------------------------------------------------------------------------
CANADIAN US Canadian US
GAAP GAAP GAAP GAAP
- ----------------------------------------------------------------------------------------------------
Property, plant and equipment $ 2,929,977 $ 2,797,398 $ 2,016,646 $ 1,868,428
Commodity and foreign currency contracts (4,042) (5,261) (4,042) (7,685)
Future income taxes (515,877) (491,831) (300,406) (270,173)
Non-controlling interest (e) (37,494) -- (35,967) --
Temporary equity (d) -- (5,077,983) -- (3,379,594)
Unitholders' capital (2,230,842) -- (1,926,351) --
Contributed surplus (6,382) -- (6,475) --
Accumulated earnings (1,235,742) 1,676,473 (878,807) 651,227
Accumulated other comprehensive loss -- 802 -- 2,395
- ----------------------------------------------------------------------------------------------------
The above noted differences between Canadian GAAP and US GAAP are the result
of the following:
(a) The Trust performs an impairment test that limits net capitalized costs to
the discounted estimated future net revenue from proved and risked probable
oil and natural gas reserves plus the cost of unproved properties less
impairment, using forward prices. For Canadian GAAP the discount rate used
must be equal to a risk free interest rate. Under US GAAP, companies using the
full cost method of accounting for oil and gas producing activities perform a
ceiling test on each cost centre using discounted estimated future net revenue
from proved oil and gas reserves using a discount rate of 10 per cent. Prices
used in the US GAAP ceiling tests are those in effect at year end. The amounts
recorded for depletion and depreciation have been adjusted in the periods
following the additional write-downs taken under US GAAP to reflect the impact
of the reduction of depletable costs.
(b) For US GAAP purposes, the Rights Plan has been accounted for as a variable
compensation plan as the exercise price of the rights is subject to downward
revisions from time to time. Accordingly, compensation expense is determined
as the excess of the market price over the adjusted exercise price of the
rights at the end of each reporting period and is deferred and recognized in
income over the vesting period of the rights. After the rights have vested,
compensation expense is recognized in income in the period in which a change
in the market price of the units or the exercise price of the rights occurs.
Canadian GAAP requires that all unit-based compensation plans be fair valued.
As such, an adjustment to earnings has been recorded to reflect the additional
compensation expense on rights issued prior to January 1, 2003 for US GAAP
purposes and for the difference between the intrinsic value and the fair value
of rights issued since that time which are still outstanding at December 31,
2005.
(c) US GAAP requires that all derivative instruments (including derivative
instruments embedded in other contracts), as defined, be recorded on the
consolidated balance sheet as either an asset or liability measured at fair
value and requires that changes in fair value be recognized currently in
earnings unless specific hedge accounting criteria are met. Hedge accounting
treatment allows unrealized gains and losses to be deferred in other
comprehensive income (for the effective portion of the hedge) until such time
as the forecasted transaction occurs, and requires that a company formally
document, designate, and assess the effectiveness of derivative instruments
that receive hedge accounting treatment. Under Canadian GAAP, derivative
instruments that meet these specific hedge accounting criteria are not
recorded on the consolidated balance sheet. In addition, unrealized gains and
losses on effective hedges are not recorded in the financial statements. The
Trust formally documented and designated all hedging relationships and
verified that its hedging instruments were effective in offsetting changes in
actual prices and rates received by the Trust. Hedge effectiveness is
monitored and any ineffectiveness is reported in the consolidated statement of
income.
A reconciliation of the components of accumulated other comprehensive income
related to all derivative positions is as follows:
- ------------------------------------------------------------------------------------------------
2005 2004
- ------------------------------------------------------------------------------------------------
GROSS AFTER TAX Gross After Tax
- ------------------------------------------------------------------------------------------------
Accumulated other comprehensive (loss) income,
beginning of year $(3,643) $(2,395) $ 78 $ 46
Effect of change in corporate tax rate -- -- -- (5)
Reclassification of net realized gains into earnings (799) (529) (969) (637)
Net change in fair value of derivative instruments 3,223 2,122 (2,752) (1,799)
- ------------------------------------------------------------------------------------------------
Accumulated other comprehensive loss,
end of year $(1,219) $ (802) $(3,643) $(2,395)
- ------------------------------------------------------------------------------------------------
(d) Under US GAAP, as the units are redeemable at the option of the
unitholder, the units must be valued at their redemption amount and presented
as temporary equity in the consolidated balance sheet. The redemption value of
the units is determined with respect to the trading value of the units and the
unit equivalent of the exchangeable shares at each balance sheet date. Under
Canadian GAAP, all units are classified as permanent equity. As at December
31, 2005 and 2004, the Trust has classified $5.1 billion and $3.4 billion,
respectively, as temporary equity in accordance with US GAAP. Changes in
redemption value between periods are charged or credited to accumulated
earnings.
(e) Under Canadian GAAP, ARL Exchangeable Shares are classified as
non-controlling interest to reflect a minority ownership in one of the Trust's
subsidiaries. As these exchangeable shares must ultimately be converted into
units, the exchangeable shares are classified as temporary equity along with
the units for US GAAP purposes.
(f) Under Canadian GAAP, basic net income per unit is calculated based on net
income after non-controlling interest divided by weighted average units and
diluted net income per unit is calculated based on net income before
non-controlling interest divided by dilutive units. Under US GAAP, as the
exchangeable shares are classified in the same manner as the units with no
non-controlling interest treatment, basic net income per unit is calculated
based on net income divided by weighted average units and the unit equivalent
of the outstanding exchangeable shares. Concurrently, diluted net income per
unit is calculated based on net income divided by a sum of the weighted
average units, the unit equivalent of the outstanding exchangeable shares, and
the dilutive impact of rights.
(g) In 2005 and 2004, the FASB and the CICA issued new and revised standards,
all of which were assessed by management to be not applicable to the Trust
with the exception of the following:
o In December 2004, the FASB Issued SFAS No. 123R, "Share Based Payments",
which addresses the issue of measuring compensation cost associated with
Share Based Payment plans. This statement requires that all such plans,
for public entities, be measured at fair value using an option pricing
model whereas previously certain plans could be measured using either a
fair value method or an intrinsic value method. The revision is intended
to increase the consistency and comparability of financial results by only
allowing one method of application. This revised standard is effective
fiscal year 2006. The Trust will adopt SFAS 123R on January 1, 2006 and
will determine the impact in 2006.
o In 2004, FASB issued FAS 153 "Exchange of Non-monetary Assets". This
statement is an amendment of APB Opinion No. 29 "Accounting for
Non-monetary Transactions". Based on the guidance in APB Opinion No. 29,
exchanges of non-monetary assets are to be measured based on the fair
value of the assets exchanged. Furthermore, APB Opinion No. 29 previously
allowed for certain exceptions to this fair value principle. FAS 153
eliminates APB Opinion No. 29's exception to fair value for non-monetary
exchanges of similar productive assets and replaces this with a general
exception for exchanges of non-monetary assets which do not have
commercial substance. For purposes of this statement, a non- monetary
exchange is defined as having commercial substance when the future cash
flows of an entity are expected to change significantly as a result of the
exchange. The provisions of this statement are effective for non-monetary
asset exchanges which occur in fiscal periods beginning after June 15,
2005 and are to be applied prospectively. Earlier application is permitted
for non-monetary asset exchanges which occur in fiscal periods beginning
after the issue date of this statement. Currently, this statement does not
have an impact on the Trust; however, this may result in a future impact
to the Trust if it enters into any non-monetary asset exchanges.
o In May 2005, FASB issued FAS 154, "Accounting Changes in Error
Corrections", changes the requirements for the accounting for and
reporting of a change in accounting principle. The standard is effective
for the Trust in fiscal 2006.
o In January 2005, the CICA approved Handbook Section 1530, "Comprehensive
Income". The new standard is intended to harmonize Canadian GAAP with US
GAAP. The new standard is effective for the Trust in the first quarter of
2007.