| KCS ENERGY INC Item 1A Risk Factors |
| Any of the risk factors described below could significantly and adversely affect our business, prospects, financial condition and results of operations |
| THE OIL AND NATURAL GAS MARKET IS VOLATILE AND THE PRICE OF OIL AND NATURAL GAS FLUCTUATES, WHICH MAY ADVERSELY AFFECT OUR CASH FLOWS AND THE VALUE OF OUR OIL AND NATURAL GAS RESERVES Our future revenues and profits and the value of our oil and natural gas reserves will depend substantially on the demand and prices we receive for produced oil and natural gas |
| The NYMEX daily settlement price for natural gas for the prompt month contract in 2004 ranged from a high of dlra8dtta75 per MMBtu to a low of dlra4dtta57 per MMBtu |
| In 2005, the same index ranged from a high of dlra15dtta38 per MMBtu to a low of dlra5dtta79 per MMBtu |
| The NYMEX daily settlement price for crude oil for the prompt month contract in 2004 ranged from a high of dlra55dtta17 per barrel to a low of dlra32dtta48 per barrel |
| In 2005, the same index ranged from a high of dlra69dtta81 per barrel to a low of dlra42dtta12 per barrel |
| The relatively high oil and natural gas prices that have contributed significantly to our increased earnings over the past few years may not continue and could drop precipitously in a short period of time |
| The prices of oil and natural gas we receive are subject to wide fluctuations in response to a variety of factors beyond our control, including the following: - relatively minor changes in the supply of, and demand for, domestic and foreign oil and natural gas; - weather conditions; - market uncertainty; - the ability of members of the Organization of Petroleum Exporting Countries to agree upon and maintain oil prices and production controls; - the level of consumer demand; - political conditions in international oil-producing regions, such as the Middle East, Nigeria and Venezuela; - domestic and foreign governmental regulations and taxes; - the price and availability of alternative fuels; - speculation in the commodity futures markets; - overall domestic and global economic conditions; - the price of oil and natural gas imports; 15 - the effect of worldwide energy conservation measures; and - the proximity to and capacity of transportation facilities |
| These external factors and the volatile nature of the energy markets make it difficult to reliably estimate future prices of oil and natural gas |
| As oil and natural gas prices decline, we are affected in several ways: - we are paid less for our oil and natural gas, thereby reducing our cash flows, which decreases funds available for capital expenditures employed to increase production or replace reserves; - exploration and development activity may decline as some projects may become uneconomic and either are delayed or eliminated, leading to both lower cash flow and proved reserves; - our lenders could reduce the borrowing base under our bank credit facility because of lower oil and natural gas reserve values, thereby reducing our liquidity and possibly requiring mandatory loan repayments; and - access to other sources of capital, such as equity or long-term debt markets, could be severely limited or unavailable in a low price environment |
| Accordingly, any substantial or extended decline in oil or natural gas prices could have material adverse effects on our revenues, cash flow, liquidity and profitability and could cause us to be unable to meet our financial obligations or make planned capital expenditures |
| WE MAY BE UNABLE TO PRODUCE SUFFICIENT AMOUNTS OF OIL AND NATURAL GAS AND, AS A RESULT, OUR PROFITABILITY AND CASH FLOW WILL DECLINE Developing and exploring properties for oil and natural gas reserves requires significant capital expenditures and involves a high degree of financial risk |
| We may drill new wells that are not productive or we may not recover all or any portion of our investment as exploratory wells bear a much greater risk of loss than development wells |
| Drilling for oil and natural gas may be unprofitable due to a number of risks, including: - wells may not be productive, either because commercially productive reservoirs were not encountered or for other reasons; - title problems; - weather conditions; - equipment shortages; - mechanical difficulties; - wells that are productive may not provide sufficient net reserves to return a profit after taking into account leasehold, geophysical and geological, drilling, operating and other costs; and - the expected costs of drilling, completing and operating wells are often uncertain and may be exceeded |
| If we are unable to produce sufficient amounts of oil and natural gas, our profitability and cash flow will decline |
| IF WE ARE UNABLE TO ACQUIRE OR DISCOVER ADDITIONAL RESERVES, OUR RESERVES AND PRODUCTION WILL DECLINE MATERIALLY, WHICH COULD RESULT IN LOWER REVENUES AND CASH FLOW Our prospects for future growth and profitability depend primarily on our ability to replace oil and natural gas reserves through acquisitions and exploratory and development drilling |
| Acquisitions may not be available at attractive prices or at all |
| The decision to purchase, explore or develop a property depends in part on geophysical and geological analyses and engineering studies that are often inconclusive or subject to varying interpretations |
| Further, when oil and natural gas prices decrease, our cash flow decreases, resulting in less available cash to conduct exploratory and development drilling and replace our reserves and an increased need to draw on our bank credit facility or raise money in the debt and equity markets |
| Even if we have sufficient capital to explore or develop a 16 property, unsuccessful wells will have an adverse effect on our ability to replace reserves |
| As a consequence, our acquisitions, exploration and development activities may not result in significant additional reserves or reserves that are economically recoverable |
| Without the acquisition, discovery or development of additional reserves, our proved reserves and production will decline materially, which could result in lower revenues and cash flow |
| SHORTAGE OF DRILLING RIGS, EQUIPMENT, SUPPLIES OR PERSONNEL MAY DELAY OR RESTRICT OUR OPERATIONS Our industry is experiencing a shortage of drilling rigs, equipment, supplies and qualified personnel |
| Costs and delivery times of drilling rigs, equipment and supplies are substantially greater than they were several years ago |
| Shortages of drilling rigs, equipment, supplies or qualified personnel may increase drilling costs or delay or restrict our exploration and development operations, which in turn could impair our financial condition and results of operations |
| THERE ARE NUMEROUS UNCERTAINTIES INHERENT IN ESTIMATING QUANTITIES OF PROVED OIL AND NATURAL GAS RESERVES AND FUTURE NET REVENUES ACCORDINGLY, THE QUANTITIES AND VALUES OF OUR PROVED OIL AND NATURAL GAS RESERVES MAY VARY SIGNIFICANTLY FROM EXPECTATIONS The quantities and values of our proved reserves included in this annual report and in the other documents we file with, or furnish to, the Securities and Exchange Commission are only estimates and are subject to numerous uncertainties |
| Reserve estimating is a subjective process of determining the size of underground accumulations of oil and natural gas that cannot be measured in an exact manner |
| Estimates of economically recoverable oil and natural gas reserves and of future net revenues may vary significantly from the actual results because of a number of variable factors and assumptions involved |
| These include: - the effects of regulation by governmental agencies; - future oil and natural gas prices; - operating expenses; - the method by which the reservoir is produced as well as the properties of the rock; - relationships with landowners, working interest partners, pipeline companies and others; - severance and excise taxes; - timing and amount of development expenses; and - workover and remedial costs |
| Any significant variance from the assumptions used could result in the actual amounts of oil and natural gas ultimately recovered and future net cash flows being materially different from the estimates in our reserve reports |
| In addition, volumetric calculations are often used to estimate initial reserves from a field |
| These estimates utilize data including the area that a well is expected to drain, rock properties derived from log analysis, anticipated reservoir fluid properties, estimated abandonment pressure and estimates of recovery factors |
| As production data becomes available, the actual performance is generally used to project the final reserves |
| As such, initial reserve estimates are much less precise in nature |
| The actual production, revenues and expenditures related to our reserves may vary materially from the engineers &apos estimates |
| Furthermore, we may make changes to our estimates of reserves and future net revenues |
| These changes, which may be material, may be based on the following factors: - well performance; - results of development including drilling and workovers; - oil and natural gas prices; - performance of counterparties under agreements to which we are a party; and - operating and development costs |
| 17 Actual future net revenues may also be materially affected by the following factors: - the amount and timing of actual production and costs incurred with such production; - the supply of, and demand for, oil and natural gas; and - the changes in governmental regulations or taxation |
| Ultimately, the timing in producing and the costs incurred in developing and producing will affect the actual present value of oil and natural gas |
| In addition, the Securities and Exchange Commission requires that we apply a 10prca discount factor in calculating PV-10 value for reporting purposes |
| This may not be the most appropriate discount factor to apply because it does not take into account the interest rates in effect, the risks associated with us and our properties, or the oil and natural gas industry in general |
| For the foregoing reasons, you should not assume that the present value of future net cash flows from our proved reserves referred to in this annual report or in our other reports filed with, or furnished to, the Securities and Exchange Commission is the current market value of our estimated oil and natural gas reserves |
| In accordance with Securities and Exchange Commission requirements, we base the estimated discounted future net cash flows from our proved reserves on prices and costs on the date of the estimate |
| Actual prices and costs since the date of the estimate and future prices and costs may differ materially from those used in the net present value estimate, and as a result, net present value estimates using current prices and costs may be significantly more or less than the estimate which is provided in this annual report or in our other reports filed with, or furnished to, the Securities and Exchange Commission |
| WE MAY BE UNABLE TO SATISFY OUR FUTURE CAPITAL REQUIREMENTS We make substantial capital expenditures in connection with the acquisition, exploration and development of oil and natural gas properties |
| In the past, we have funded these capital expenditures with cash flow from operations, funds from long-term debt financings, including bank financings secured by our oil and natural gas assets, and funds from equity financings |
| Our future cash flows are subject to a number of factors, some of which are beyond our control, including the following: - the price of oil and natural gas; - the level of production from existing wells; - operating and development costs; and - our success in locating and producing new reserves |
| The availability of long-term debt and equity financing is also subject to these factors |
| Investors in our debt securities view our future cash flow as a measure of our ability to make principal and interest payments |
| In addition, the availability of funds under our bank credit facility is based on the value of our estimated oil and natural gas reserves and our cash flows, which in turn are based on prices of oil and natural gas and the amount and timing of production |
| Similarly, investors in our equity securities consider both the value of our oil and natural gas properties and our cash flow in evaluating our prospects for growth and profitability |
| If our future cash flows decrease, however, and we are unable to obtain additional long-term debt or equity financing or our borrowing base under our bank credit facility is re-determined to a lower amount, we may be unable to satisfy our future capital requirements |
| WE MAY BE UNABLE TO SUCCESSFULLY IDENTIFY, EXECUTE OR EFFECTIVELY INTEGRATE FUTURE ACQUISITIONS, WHICH MAY NEGATIVELY AFFECT OUR RESULTS OF OPERATIONS Acquisitions of oil and natural gas properties have been an important element of our business, and we will continue to pursue acquisitions in the future |
| In the last several years, we have pursued and consummated acquisitions that allow us to drill exploration, development and extension wells |
| Although we regularly engage in discussions concerning, and submit proposals with respect to, potential acquisitions, suitable acquisitions may not be available in the future on reasonable terms as there is intense competition for acquisition opportunities in our industry |
| If we do identify an appropriate acquisition opportunity, we may be unable to successfully negotiate the terms of an acquisition, finance the acquisition or, if the acquisition occurs, effectively integrate the acquired 18 properties or business into our existing business |
| Negotiations of potential acquisitions and the integration of acquired business operations may require a disproportionate amount of managementapstas attention and our resources |
| Even if we complete additional acquisitions, continued acquisition financing may not be available or available on reasonable terms, any new properties or businesses may not generate revenues comparable to our existing properties or business, the anticipated cost efficiencies or synergies may not be realized and these properties or businesses may not be integrated successfully or operated profitably |
| Further, as is customary in the industry, we generally acquire oil and gas properties without any warranty of title except through the transferor |
| In many instances, title opinions are not obtained if, in our judgment, it would be uneconomical or impractical to do so |
| Accordingly, we may incur losses from title defects or from defects in the assignment of leasehold rights |
| The success of any acquisition will depend on a number of factors, many of which are beyond our control, including: - the ability to estimate accurately the recoverable volumes of reserves; - the ability to estimate accurately rates of future production and future net revenues attainable from the reserves; - future oil and natural gas prices; - future operating costs; and - the ability to estimate accurately potential environmental and other contingent liabilities |
| Even though we perform a due diligence review (including a review of title and other records) of the major properties we seek to acquire that we believe is consistent with industry practices, these reviews are inherently incomplete |
| It is generally not feasible for us to review in-depth every individual property and all records involved in each acquisition |
| However, even an in-depth review of records and properties may not necessarily reveal existing or potential problems or permit us to become familiar enough with the properties to assess fully their deficiencies and potential |
| Even when problems are identified, we may not be able to obtain contractual indemnities from the sellers for liabilities that it created and we may assume certain environmental and other risks and liabilities in connection with the acquired properties or businesses |
| The discovery of any material liabilities associated with our acquisitions could harm our results of operations |
| In addition, acquisitions of properties or businesses may require additional debt or equity financing, resulting in additional leverage or dilution of ownership |
| Our bank credit facility and the indenture governing our senior notes contain certain covenants that limit, or which may have the effect of limiting, among other things, acquisitions, the sale of assets and the incurrence of additional indebtedness |
| Our inability to successfully identify, execute or effectively integrate future acquisitions may negatively affect our results of operations |
| IF WE ARE UNSUCCESSFUL TRANSPORTING OUR OIL AND NATURAL GAS TO MARKET AT COMMERCIALLY ACCEPTABLE PRICES, OUR PROFITABILITY WILL DECLINE We deliver oil and natural gas through gathering systems and pipelines, most of which we do not own |
| Our ability to transport our oil and natural gas to market at commercially acceptable prices or at all depends on, among other factors, the following: - the availability, proximity and capacity of third-party gathering systems, processing facilities and pipelines; - the contractual terms we negotiate with third parties to transport our production; - federal and state regulation of oil and natural gas production and transportation; - tax and energy policies; - pipeline pressures; - damage to or destruction of pipelines; 19 - changes in supply and demand; and - general economic conditions |
| Our inability to respond appropriately to changes in any of the foregoing factors could result in the shut-in of producing wells and/or the delay or discontinuance of development plans for properties, which would negatively affect our profitability |
| For example, we are subject to several of the aforementioned risks with respect to our production from the Elm Grove Field in north Louisiana where we deliver approximately 85prca of the production from this field to one pipeline system owned by Intrastate Gas LLC In addition, the transportation by pipeline of oil and natural gas in interstate commerce is heavily regulated by the FERC, including regulation of the cost, terms and conditions for such transportation service, and in the case of natural gas, the construction and location of pipelines |
| The transportation by pipeline of oil and natural gas in intrastate commerce is generally subject to varying degrees of state regulation of the cost, terms and conditions of service |
| While we are not directly subject to these regulations, they affect the cost and availability of transportation of our production to market |
| TERRORIST ATTACKS AND CONTINUED HOSTILITIES IN THE MIDDLE EAST OR OTHER SUSTAINED MILITARY CAMPAIGNS MAY ADVERSELY IMPACT OUR FINANCIAL CONDITION AND OPERATIONS The terrorist attacks that took place in the United States on September 11, 2001 were unprecedented events that have created many economic and political uncertainties, some of which may materially adversely impact our business |
| The continued threat of terrorism and the impact of military and other action, including US military operations in Iraq, may lead to continued volatility in prices for crude oil and natural gas and could affect the markets for our operations |
| In addition, future acts of terrorism could be directed against companies operating in the United States |
| The United States government has issued public warnings that indicate that energy assets might be specific targets of terrorist organizations |
| These developments have subjected our operations, and those of our purchasers, to increased risks and, depending on their ultimate magnitude, may adversely impact our financial condition and operations |
| OUR RESERVES, PRODUCTION AND CASH FLOW ARE HIGHLY DEPENDENT UPON OPERATIONS THAT ARE CONCENTRATED IN THREE PRIMARY AREAS At December 31, 2005, the vast majority of our oil and gas reserves were located in north Louisiana, Texas and Oklahoma |
| Approximately 41prca of our reserves are located in the Elm Grove and Caspiana fields in north Louisiana |
| The concentrated nature of our operations subjects us to the risk that a regional event could cause a significant interruption in our production or otherwise have a material affect on our profitability |
| OUR SUCCESS DEPENDS ON KEY PERSONNEL, THE LOSS OF WHOM COULD ADVERSELY AFFECT OUR BUSINESS We believe our continued success depends in large part on the sustained contributions of our Chief Executive Officer and Chairman of the Board of Directors, James W Christmas, our President and Chief Operating Officer, William N Hahne, and our management team and technical personnel |
| We rely on our executive officers and senior management to identify and pursue new business opportunities and identify key growth opportunities |
| In addition, the relationships and reputation that members of our management team have established and maintained in the oil and natural gas community contribute to our ability to maintain positive customer relations and to identify new business opportunities |
| Christmas or Hahne or one or more senior management or technical staff could significantly impair our ability to identify and secure new business opportunities and otherwise disrupt operations |
| Our drilling success and the success of other activities integral to our operations depends, in part, on our ability to attract and retain experienced geologists, engineers, landmen and other professionals and competition for these individuals is extremely intense |
| If we cannot retain our technical personnel or attract additional experienced technical personnel, our ability to compete will be adversely affected |
| We do not maintain key person life insurance on any of our senior management members or our technical staff |
| 20 OUR FAILURE TO REMAIN COMPETITIVE WITH OUR NUMEROUS COMPETITORS, MANY OF WHICH HAVE SUBSTANTIALLY GREATER RESOURCES THAN WE DO, COULD ADVERSELY AFFECT OUR RESULTS OF OPERATIONS The oil and natural gas industry is highly competitive in the search for, and development and acquisition of, reserves and in the marketing of oil and natural gas production |
| We compete with major oil and natural gas companies, other independent oil and natural gas concerns and individual producers and operators in most aspects of our business, including the following: - the acquisition of oil and natural gas properties and businesses; - the exploration, development, production and marketing of oil and natural gas; - the acquisition of properties and equipment; and - the hiring and retention of personnel necessary to explore for, develop, produce and market oil and natural gas |
| Many of these competitors have substantially greater financial and other resources than we do |
| If we are unable to successfully compete against our competitors, our business, prospects, financial condition and results of operations may be adversely affected |
| WE HAVE LIMITED CONTROL OVER THE ACTIVITIES ON PROPERTIES THAT WE DO NOT OPERATE, WHICH COULD HAVE A MATERIAL ADVERSE EFFECT ON THE REALIZATION OF OUR TARGETED RETURNS OR LEAD TO UNEXPECTED FUTURE COSTS As of December 31, 2005, we operated approximately 86prca of our proved oil and natural gas reserve base |
| We have limited ability to influence or control the operation or future development of these non-operated properties or the amount of capital expenditures that we are required to fund for their operation |
| Our dependence on the operator and other working interest owners for these projects and our limited ability to influence or control the operation and future development of these properties could have a material adverse effect on the number of wells we drill, realization of our targeted returns or lead to unexpected future costs |
| OUR OPERATING ACTIVITIES INVOLVE SIGNIFICANT RISKS THAT ARE INHERENT IN THE OIL AND NATURAL GAS INDUSTRY, WHICH MAY RESULT IN SUBSTANTIAL LOSSES, AND INSURANCE MAY BE UNAVAILABLE OR INADEQUATE TO PROTECT US AGAINST THESE RISKS Our operations are subject to numerous operating risks that are beyond our control, are inherent in the oil and natural gas industry and could result in substantial losses |
| These risks include: - fires; - hurricanes or other natural disasters; - explosions; - well blowouts and craterings; - adverse weather conditions; - mechanical problems, including pipe failure, stuck oil field drilling and services tools and casing collapse; - abnormally pressured formations; and - environmental accidents, including oil spills, natural gas leaks or ruptures, or other discharges of brine, well fluids, toxic gases or other pollutants into the environment, including groundwater and shoreline contamination |
| The occurrence of these risks could result in substantial losses due to personal injury, loss of life, damage to or destruction of wells, production facilities, natural resources or other property or equipment, pollution and other environmental damage |
| These occurrences could also subject us to clean-up obligations, regulatory investigation, penalties or suspension of operations |
| 21 Further, our operations may be materially curtailed, delayed or canceled as a result of numerous factors, including: - unexpected drilling conditions; - the presence of unanticipated pressure or irregularities in formations; - equipment failures or accidents; - title problems; - weather conditions; - compliance with governmental requirements; and - costs of, shortages or delays in the availability of drilling rigs or in the delivery of equipment and experienced labor |
| UNINSURED JUDGMENTS OR A RISE IN INSURANCE PREMIUMS MAY ADVERSELY IMPACT OUR RESULTS OF OPERATIONS The exploration for, and production of, oil and natural gas can be hazardous, involving unforeseen occurrences as described in the immediately preceding risk factor |
| Accordingly, in the ordinary course of business, we are subject to various claims and litigation |
| In accordance with customary industry practice, we maintain insurance against some, but not all, of the risks described in the immediately preceding risk factor |
| We may elect not to obtain insurance if we believe that the cost of available insurance is excessive relative to the risks presented |
| In addition, pollution and environmental risks generally are not fully insurable |
| The levels of insurance we maintain are in amounts that management believes to be prudent, but they may not be adequate to fully cover any and all losses or liabilities |
| If the occurrence of a significant accident, judgment, claim or other event is not fully insured or indemnified against, it could have a material adverse effect on our business, financial condition and results of operations |
| Further, we may not be able to maintain insurance at commercially acceptable premium levels or at all |
| WE ENGAGE IN HEDGING TRANSACTIONS THAT INVOLVE CREDIT RISK AND MAY LIMIT OUR POTENTIAL GAINS AND EXPOSE US TO RISK OF FINANCIAL LOSS We currently, and expect to in the future, purchase or sell derivative instruments covering a portion of our expected production in order to manage our exposure to price risk in marketing our oil and natural gas |
| These instruments may include futures contracts and options sold on the New York Mercantile Exchange and privately negotiated forwards, swaps and options |
| These instruments are intended to lock in prices in order to limit volatility and increase the predictability of cash flow, but may limit our potential gains if oil and natural gas prices rise substantially over the prices established by hedging |
| These transactions also may expose us to the risk of financial loss in certain circumstances, including the following: - production is less than the volume hedged; - there is a widening of price differentials between delivery points for our production and the delivery point assumed in hedging arrangements; - the counterparties to our derivative instruments fail to perform their contract obligations; - we fail to make timely deliveries; and - a sudden, unexpected event materially impacts oil or natural gas prices or the relationship between the hedged price index and the oil and natural gas sales price |
| 22 OUR BANK CREDIT FACILITY AND INDENTURE GOVERNING OUR SENIOR NOTES IMPOSE RESTRICTIONS ON US THAT MAY AFFECT OUR ABILITY TO SUCCESSFULLY OPERATE OUR BUSINESS AND OUR ABILITY TO MAKE PAYMENTS ON OUR INDEBTEDNESS Our bank credit facility and the indenture governing our senior notes include covenants that, among other things, restrict our ability to: - borrow money; - create liens; - pay dividends; - sell or transfer any of our material property; and - merge into or consolidate with any third party or sell or dispose of all or substantially all of our assets |
| We are also required by our bank credit facility to maintain specified interest coverage and current ratios |
| All of these and other covenants may restrict our ability to expand or to pursue our business strategies |
| Adverse financial or economic developments beyond our control may cause us to breach these covenants |
| The breach of any of these covenants could result in a default under our debt, causing the debt to become due and payable |
| Further, our borrowing base under our bank credit facility, which is redetermined semi- annually, is based on an amount established by the bank group after its evaluation of our proved oil and gas reserve values |
| Upon a re-determination, if our outstanding borrowings were in excess of the revised borrowing capacity, we could be forced to repay a portion of that outstanding debt |
| We may not be able to repay the debt due as a result of an acceleration or a revision to our borrowing capacity |
| From time to time, we may require consents or waivers from our lenders to permit any necessary actions that are prohibited by our debt and financing arrangements |
| If in the future our lenders refuse to provide any necessary waivers of the restrictions contained in our debt and financing arrangements, then we could be in default under our debt and financing arrangements, and we could be prohibited from undertaking actions that are necessary to maintain and expand our business |
| OUR LEVERAGE AND DEBT SERVICE OBLIGATIONS MAY ADVERSELY AFFECT OUR CASH FLOW AND OUR FINANCIAL AND OPERATING ACTIVITIES As of December 31, 2005, we had dlra291dtta1 million of total debt outstanding, which comprised approximately 50prca of our total book capitalization |
| Our level of indebtedness may have important consequences for us, including the following: - a substantial decrease in our revenues as a result of lower oil and natural gas prices, decreased production or other factors could make it difficult for us to meet debt service requirements and force us to modify our operations; - our ability to obtain additional financing for acquisitions, working capital or other expenditures could be impaired or financing may not be available on acceptable terms; - a substantial portion of our cash flow will be used to meet debt service obligations, thereby reducing the funds that would otherwise be available for working capital, capital expenditures and other general business activities; - a substantial decrease in our revenues as a result of lower oil and natural gas prices, decreased production or other factors could make it difficult for us to meet debt service requirements and force us to modify our operations; - limiting our flexibility in planning for, or reacting to, changes in our business and the industry in which we operate; - making us vulnerable to increases in interest rates as the interest on debt under our bank credit facility is at variable rates; - we could be more vulnerable to a downturn in our business or the economy in general; and 23 - we may be at a competitive disadvantage to the extent that we are more highly leveraged than some of our peers |
| IN ADDITION TO OUR CURRENT INDEBTEDNESS, WE MAY BE ABLE TO INCUR SUBSTANTIALLY MORE DEBT THIS COULD EXACERBATE THE RISKS DESCRIBED ABOVE Together with our subsidiaries, we may be able to incur substantially more debt in the future |
| Although our bank credit facility and the indenture governing our senior notes contain restrictions on our incurrence of additional indebtedness, these restrictions are subject to a number of qualifications and exceptions, and under certain circumstances, indebtedness incurred in compliance with these restrictions could be substantial |
| Also, these restrictions do not prevent us from incurring obligations that do not constitute indebtedness as defined in the relevant agreement |
| As of December 31, 2005, we had dlra166dtta7 million of borrowing capacity available under our bank credit facility, subject to a number of qualifications |
| In addition, the indenture governing our senior notes allows for an unlimited amount of available capacity, subject to a number of qualifications |
| However, the bank credit facility contains provisions that restrict the amount of additional indebtedness that could be incurred under the indenture without consent (dlra25 million as of December 31, 2005) |
| To the extent new debt is added to our current debt levels, the risks described in the immediately preceding risk factor could substantially increase |
| WE ARE SUBJECT TO COMPLEX LAWS AND REGULATIONS, INCLUDING ENVIRONMENTAL REGULATIONS, THAT MAY ADVERSELY AFFECT THE COST, MANNER OR FEASIBILITY OF DOING BUSINESS Our business is subject to numerous federal, state and local laws and regulations, including energy, environmental, conservation, tax and other laws and regulations relating to the energy industry |
| We are subject to various federal, state and local laws and regulations relating to the discharge of materials into, and protection of, the environment |
| These laws and regulations may, among other things: - limit drilling locations or the rate of allowable hydrocarbon production from a well; - affect the cost, terms and availability of oil and natural gas transportation by pipeline; - impose liability on us under an oil and natural gas lease for the cost of pollution clean-up and remediation resulting from operations; - impose liability on us for personal injuries and property damage; - subject us to liability for pollution damages, including oil spills, discharge of hazardous materials and reclamation costs; and - require suspension or cessation of operations in affected areas and subject the lessee to administrative, civil and criminal penalties |
| Any of these liabilities, penalties, suspensions, terminations or regulatory changes could make it more expensive for us to conduct our business or cause us to limit or curtail some of our operations |
| Environmental laws have in recent years become more stringent and have generally sought to impose greater liability on a larger number of potentially responsible parties |
| While we are not currently aware of any situation involving an environmental claim that would likely have a material adverse effect on our business, it is always possible that an environmental claim with respect to one or more of our current properties or a business or property that one of our predecessors owned or used could arise and could involve the expenditure of a material amount of funds |
| Although we maintain insurance coverage which we believe is customary in the industry, we are not fully insured against all environmental risks |
| The Department of Transportation, through the Office of Pipeline Safety and Research and Special Programs Administration, has implemented a series of rules requiring operators of natural gas and hazardous liquid pipelines to develop integrity management plans for pipelines that, in the event of failure, could impact certain high consequence areas |
| These rules also require operators to conduct baseline integrity assessments of all applicable 24 pipeline segments located in the high consequence areas |
| We continually are in the process of identifying any of our pipeline segments that may be subject to these rules |
| We have developed an integrity management plan for all covered pipeline segments |
| We do not expect to incur significant costs in achieving compliance with these rules |
| Further, hydrocarbon-producing states regulate conservation practices and the protection of correlative rights |
| These regulations affect our operations and limit the quantity of hydrocarbons we may produce and sell |
| The oil and natural gas regulatory environment could change in ways that could substantially increase the cost of complying with the requirements of environmental and other regulations |
| We cannot predict whether, or when, new laws and regulations may be enacted or adopted, and we cannot predict the cost of compliance with changing laws and regulations or their effects on oil and natural gas use or prices |
| LOWER OIL AND GAS PRICES MAY CAUSE US TO RECORD CEILING TEST WRITE-DOWNS We perform quarterly "e ceiling test "e calculations as the capitalized costs of oil and gas properties, net of accumulated depreciation, depletion and amortization and related deferred taxes, are limited to the sum of the present value of estimated future net revenues from proved oil and natural gas reserves at current prices discounted at 10prca, plus the lower of cost or fair value of unproved properties, net of related tax effects |
| To the extent that the capitalized costs exceed this "e ceiling "e limitation at the end of any quarter, the excess is expensed |
| We refer to this expense as a "e ceiling test write-down "e |
| This charge does not impact cash flow from operating activities, but does reduce net income |
| The risk that we will be required to write down the carrying value of oil and gas properties increases when oil and natural gas prices are low |
| In addition, write-downs may occur if we experience substantial downward adjustments to our estimated proved reserves |
| We cannot assure you that we will not experience ceiling test write-downs in the future |
| THE CONCENTRATION OF OUR CUSTOMERS IN THE ENERGY INDUSTRY COULD INCREASE OUR EXPOSURE TO CREDIT RISK, WHICH COULD RESULT IN LOSSES The concentration of our customers in the energy industry may impact our overall exposure to credit risk, either positively or negatively, in that customers may be similarly affected by prolonged changes in economic and industry conditions |
| We perform ongoing credit evaluations of our customers and do not generally require collateral in support of our trade receivables |
| We maintain reserves for credit losses and, generally, actual losses have been consistent with our expectations, with the exception of losses we sustained relating to obligations of certain Enron entities to KCS WE ARE DEPENDENT ON OUR SUBSIDIARIES FOR OUR CASH FLOW We are a holding company with no material assets other than the equity interests of our subsidiaries |
| Our subsidiaries conduct substantially all of our operations and directly own substantially all of our assets |
| Therefore, our operating cash flow and ability to meet our debt obligations will depend on the cash flow provided by our subsidiaries in the form of loans, dividends or other payments to us as a shareholder, equity holder, service provider or lender |
| The ability of our subsidiaries to make such payments to us will depend on their earnings, tax considerations, legal restrictions and restrictions under their indebtedness |
| NEW TECHNOLOGIES MAY CAUSE OUR CURRENT EXPLORATION AND DRILLING METHODS TO BECOME OBSOLETE The oil and natural gas industry is subject to rapid and significant advancements in technology, including the introduction of new products and services using new technologies |
| As competitors use or develop new technologies, we may be placed at a competitive disadvantage, and competitive pressures may force us to implement new technologies at significant cost |
| One or more of the technologies that we currently utilize or that we may implement in the future may become obsolete |
| We may be unable to implement new technologies on a timely basis or at a cost that is acceptable to us |
| If we are not able to maintain technological advancements consistent with industry standards, our business, prospects, financial condition and results of operations may be adversely affected |
| 25 ANTI-TAKEOVER PROVISIONS IN OUR CERTIFICATE OF INCORPORATION, BY-LAWS AND DELAWARE LAW COULD DISCOURAGE A CHANGE OF CONTROL OF OUR COMPANY AND COULD NEGATIVELY AFFECT OUR STOCK PRICE Provisions in our certificate of incorporation and by-laws, each as amended to date, and applicable provisions of the Delaware General Corporation Law may make it more difficult and expensive for a third party to acquire control of us even if a change of control would be beneficial to the interests of our stockholders |
| These provisions could discourage potential takeover attempts and could adversely affect the market price of our common stock |
| Our certificate of incorporation and by-laws, each as amended to date: - classify the board of directors into staggered, three-year terms, which may lengthen the time required to gain control of our board of directors; - limit who may call special meetings; - prohibit stockholder action by written consent, requiring all actions to be taken at a meeting of the stockholders; - do not permit cumulative voting in the election of directors, which would otherwise allow holders of less than a majority of stock to elect some directors; - limit the ability of stockholders to remove directors by providing that they may only be removed for cause; and - allow our board of directors to determine the powers, preferences or rights and the qualifications, limitations and restrictions of shares of our preferred stock |
| In addition, Section 203 of the Delaware General Corporation Law may discourage, delay or prevent a change in control by prohibiting us from engaging in a business combination with an interested stockholder for a period of three years after the person becomes an interested stockholder |