| PLAINS EXPLORATION & PRODUCTION CO Item 1A Risk Factors |
| You should carefully consider the following risk factors in addition to the other information included in this report |
| Each of these risk factors could adversely affect our business, operating results and financial condition, as well as adversely affect the value of an investment in our common stock or debt securities |
| Volatile oil and gas prices could adversely affect our financial condition and results of operations |
| Our success is largely dependent on oil and gas prices, which are extremely volatile |
| Any substantial or extended decline in the price of oil and gas below current levels will have a negative impact on our business operations and future revenues |
| Moreover, oil and gas prices depend on factors we cannot control, such as: • supply and demand for oil and gas and expectations regarding supply and demand; • weather; • actions by the Organization of Petroleum Exporting Countries, or OPEC; • political conditions in other oil-producing and gas-producing countries including the possibility of insurgency or war in such areas; • the prices of foreign exports and the availability of alternate fuel sources; • general economic conditions in the United States and worldwide; and • governmental regulations |
| With respect to our business, prices of oil and gas will affect: • our revenues, cash flows, profitability and earnings; • our ability to attract capital to finance our operations and the cost of such capital; • the amount that we are allowed to borrow; and • the value of our oil and gas properties and our oil and gas reserve volumes |
| Estimates of oil and gas reserves depend on many assumptions that may be inaccurate |
| Any material inaccuracies could adversely affect the quantity and value of our oil and gas reserves |
| The proved oil and gas reserve information included in this document represents only estimates |
| These estimates are based on reports prepared by independent petroleum engineers |
| The estimates were calculated using oil and gas prices in effect on the dates indicated in the reports |
| Any significant price changes will have a material effect on the quantity and present value of our reserves |
| Petroleum engineering is a subjective process of estimating underground accumulations of oil and gas that cannot be measured in an exact manner |
| Estimates of economically recoverable oil and gas reserves and of future net cash flows depend upon a number of variable factors and assumptions, including: • historical production from the area compared with production from other comparable producing areas; • the assumed effects of regulations by governmental agencies; • assumptions concerning future oil and gas prices; and 21 ______________________________________________________________________ [42]Table of Contents • assumptions concerning future operating costs, severance and excise taxes, development costs and workover and remedial costs |
| Because all reserve estimates are to some degree subjective, each of the following items may differ materially from those assumed in estimating reserves: • the quantities of oil and gas that are ultimately recovered; • the timing of the recovery of oil and gas reserves; • the production and operating costs incurred; and • the amount and timing of future development expenditures |
| Furthermore, different reserve engineers may make different estimates of reserves and cash flows based on the same available data |
| Actual production, revenues and expenditures with respect to reserves will vary from estimates and the variances may be material |
| The discounted future net revenues included in this document should not be considered as the market value of the reserves attributable to our properties |
| As required by the SEC, the estimated discounted future net revenues from proved reserves are generally based on prices and costs as of the date of the estimate, while actual future prices and costs may be materially higher or lower |
| Actual future net revenues will also be affected by factors such as: • the amount and timing of actual production; • supply and demand for oil and gas; and • changes in governmental regulations or taxation |
| In addition, the 10prca discount factor, which the SEC requires to be used to calculate discounted future net revenues for reporting purposes, is not necessarily the most appropriate discount factor based on the cost of capital in effect from time to time and risks associated with our business and the oil and gas industry in general |
| If we are unable to replace the reserves that we have produced, our reserves and revenues will decline |
| Our future success depends on our ability to find, develop and acquire additional oil and gas reserves that are economically recoverable which, in itself, is dependent on oil and gas prices |
| Without continued successful exploitation, acquisition or exploration activities, our reserves and revenues will decline as a result of our current reserves being depleted by production |
| We may not be able to find or acquire additional reserves at acceptable costs |
| The geographic concentration and lack of marketable characteristics of our oil reserves may have a greater effect on our ability to sell our oil compared to other companies |
| A substantial portion of our oil and gas reserves are located in California |
| Because our reserves are not as diversified geographically as many of our competitors, our business is subject to local conditions more than other, more diversified companies |
| Any regional events, including price fluctuations, natural disasters, and restrictive regulations, that increase costs, reduce availability of equipment or supplies, reduce demand or limit our production may impact our operations more than if our reserves were more geographically diversified |
| Our California oil production is heavier than premium grade light oil |
| Due to the processes required to refine this type of oil and the transportation requirements, it is difficult to market California oil 22 ______________________________________________________________________ [43]Table of Contents production outside California |
| Additionally, the margin (sales price minus production costs) on heavy oil sales is generally less than that of lighter oil due to price differentials, and the effect of material price decreases will more adversely affect the profitability of heavy oil production compared with lighter grades of oil |
| We intend to continue to enter into derivative contracts for a portion of our crude oil production, which may result in our making cash payments or prevent us from receiving the full benefit of increases in prices for oil and which may cause volatility in our reported earnings |
| We use derivative instruments to manage our commodity price risk |
| This practice may prevent us from receiving the full advantage of increases in oil prices above the maximum fixed amount specified in the derivative agreement |
| The level of derivative activity depends on our view of market conditions, available derivative prices and our operating strategy |
| For 2006, our crude oil derivative position consists exclusively of purchased put option contracts with a strike price of dlra55dtta00 on 50cmam000 barrels per day |
| The only cash settlements we are required to make on these contracts are option premiums, which are expected to total approximately dlra7dtta5 million per month |
| In return, to the extent the daily average NYMEX price for West Texas Intermediate crude oil is less than dlra55dtta00, we will receive the difference between dlra55dtta00 and the daily average NYMEX price for West Texas Intermediate crude oil |
| Our crude oil derivative position also includes purchased put option contracts with a strike price of dlra55dtta00 on 50cmam000 barrels per day in 2007 and crude oil price collars on 22cmam000 barrels per day with a floor of dlra25dtta00 and an average ceiling of dlra34dtta76 in 2007 and 2008 |
| In a typical collar transaction, we have the right to receive from the counterparty the excess of the floor price specified in the derivative agreement over a floating price based on a market index, multiplied by the specified quantity |
| If the floating price exceeds the ceiling price, we must pay the counterparty this difference multiplied by the specified quantity |
| If we have less production than we have specified under the collars when the floating price exceeds the fixed price, we must make payments against which there are no offsetting sales of production |
| If these payments become too large, the remainder of our business may be adversely affected |
| In addition, our derivative agreements expose us to risk of financial loss if the counterparty defaults on its contract obligations |
| See Item 7A Qualitative and Quantitative Disclosures About Market Risks for a summary of our current derivative positions |
| Since all of such derivative contracts are accounted for under mark-to-market accounting we expect continued volatility in our reported earnings due to gains and losses on these contracts as changes occur in the NYMEX price indexes |
| Our offshore operations are subject to substantial regulations and risks, which could adversely affect our ability to operate and our financial results |
| We conduct operations offshore California and Louisiana |
| Our offshore activities are subject to more extensive governmental regulation than our other oil and gas activities |
| In addition, we are vulnerable to the risks associated with operating offshore, including risks relating to: • hurricanes and other adverse weather conditions; • oil field service costs and availability; • compliance with environmental and other laws and regulations; • remediation and other costs resulting from oil spill releases of hazardous materials and other environmental damages; and • failure of equipment or facilities |
| 23 ______________________________________________________________________ [44]Table of Contents The majority of our oil production in California is dedicated to two customers and as a result, our credit exposure to those customers is significant |
| We have entered into oil marketing arrangements with PAA and with ConocoPhillips under which PAA or ConocoPhillips purchase the majority of our net oil production in California |
| We generally do not require letters of credit or other collateral from PAA or from ConocoPhillips to support these trade receivables |
| Accordingly, a material adverse change in PAA’s or ConocoPhillips’s financial condition could adversely impact our ability to collect the applicable receivables, and thereby affect our financial condition |
| Operating hazards, natural disasters or other interruptions of our operations could result in potential liabilities, which may not be fully covered by our insurance |
| The oil and gas business involves certain operating hazards such as: • well blowouts; • cratering; • explosions; • uncontrollable flows of oil, gas or well fluids; • fires; • pollution; and • releases of toxic gas |
| In addition, our operations in California are susceptible to damage from natural disasters such as earthquakes, mudslides and fires and our Gulf of Mexico operations are susceptible to hurricanes |
| Any of these operating hazards could cause serious injuries, fatalities, oil spills, discharge of hazardous materials, remediation and clean-up costs and other environmental damages, or property damage, which could expose us to liabilities |
| The payment of any of these liabilities could reduce, or even eliminate, the funds available for exploration, development, and acquisition, or could result in a loss of our properties |
| Consistent with insurance coverage generally available to the industry, our insurance policies provide limited coverage for losses or liabilities |
| The insurance market in general and the energy insurance market in particular have been difficult markets over the past several years |
| As a result, we do not believe that insurance coverage for the full potential liability, especially environmental liability, is currently available at reasonable cost |
| If we incur substantial liability and the damages are not covered by insurance or are in excess of policy limits, or if we incur liability at a time when we are not able to obtain liability insurance, then our business, results of operations and financial condition could be materially adversely affected |
| We may not be successful in acquiring, exploiting, developing or exploring for oil and gas properties |
| The successful acquisition, exploitation or development of, or exploration for, oil and gas properties requires an assessment of recoverable reserves, future oil and gas prices and operating costs, potential environmental and other liabilities, and other factors |
| These assessments are necessarily inexact |
| As a result, we may not recover the purchase price of a property from the sale of production from the property, or may not recognize an acceptable return from properties we do acquire |
| In addition, our exploitation and development and exploration operations may not result in any increases in reserves |
| Our operations may be curtailed, delayed or canceled as a result of: • inadequate capital or other factors, such as title problems; 24 ______________________________________________________________________ [45]Table of Contents • weather; • compliance with governmental regulations or price controls; • mechanical difficulties; or • shortages or delays in the delivery of equipment |
| In addition, exploitation and development costs may greatly exceed initial estimates |
| In that case, we would be required to make unanticipated expenditures of additional funds to develop these projects, which could materially adversely affect our business, financial condition and results of operations |
| Furthermore, exploration for oil and gas, particularly offshore, has inherent and historically higher risk than exploitation and development activities |
| Future reserve increases and production may be dependent on our success in our exploration efforts, which may be unsuccessful |
| Any prolonged, substantial reduction in the demand for oil and gas, or distribution problems in meeting this demand, could adversely affect our business |
| Our success is materially dependent upon the demand for oil and gas |
| The availability of a ready market for our oil and gas production depends on a number of factors beyond our control, including the demand for and supply of oil and gas, the availability of alternative energy sources, the proximity of reserves to, and the capacity of, oil and gas gathering systems, pipelines or trucking and terminal facilities |
| We may also have to shut-in some of our wells temporarily due to a lack of market or adverse weather conditions including hurricanes |
| If the demand for oil and gas diminishes, our financial results would be negatively impacted |
| In addition, there are limitations related to the methods of transportation for our production |
| Substantially all of our oil and gas production is transported by pipelines and trucks owned by third parties |
| The inability or unwillingness of these parties to provide transportation services to us for a reasonable fee could result in our having to find transportation alternatives, increased transportation costs or involuntary curtailment of a significant portion of our oil and gas production, any of which could have a negative impact on our results of operations and cash flows |
| Loss of key executives and failure to attract qualified management could limit our growth and negatively impact our operations |
| Successfully implementing our strategies will depend, in part, on our management team |
| The loss of members of our management team could have an adverse effect on our business |
| Our exploration and exploitation success and the success of other activities integral to our operations will depend, in part, on our ability to attract and retain experienced engineers, geoscientists and other professionals |
| Competition for experienced professionals is extremely intense |
| If we cannot attract or retain experienced technical personnel, our ability to compete could be harmed |
| We do not have key man insurance |
| Governmental agencies and other bodies, including those in California, might impose regulations that increase our costs and may terminate or suspend our operations |
| Our business is subject to federal, state and local laws and regulations as interpreted by governmental agencies and other bodies, including those in California, vested with broad authority relating to the exploration for, and the development, production and transportation of, oil and gas, as well as environmental and safety matters |
| Existing laws and regulations, or their interpretations, could be changed, and any changes could increase costs of compliance and costs of operating drilling equipment or significantly limit drilling activity |
| 25 ______________________________________________________________________ [46]Table of Contents Under certain circumstances, the United States Minerals Management Service, or MMS, may require that our operations on federal leases be suspended or terminated |
| These circumstances include our failure to pay royalties or our failure to comply with safety and environmental regulations |
| The requirements imposed by these laws and regulations are frequently changed and subject to new interpretations |
| Environmental liabilities could adversely affect our financial condition |
| The oil and gas business is subject to environmental hazards, such as oil spills, gas leaks and ruptures and discharges of petroleum products and hazardous substances, and historic disposal activities |
| These environmental hazards could expose us to material liabilities for property damages, personal injuries or other environmental harm, including costs of investigating and remediating contaminated properties |
| We also may be liable for environmental damages caused by the previous owners or operators of properties we have purchased or are currently operating |
| A variety of stringent federal, state and local laws and regulations govern the environmental aspects of our business and impose strict requirements for, among other things: • well drilling or workover, operation and abandonment; • waste management; • land reclamation; • financial assurance under the Oil Pollution Act of 1990; and • controlling air, water and waste emissions |
| Any noncompliance with these laws and regulations could subject us to material administrative, civil or criminal penalties or other liabilities |
| Additionally, our compliance with these laws may, from time to time, result in increased costs to our operations or decreased production, and may affect our costs of acquisitions |
| In addition, environmental laws may, in the future, cause a decrease in our production or cause an increase in our costs of production, development or exploration |
| Pollution and similar environmental risks generally are not fully insurable |
| Some of our onshore California fields have been in operation for more than 90 years, and current or future local, state and federal environmental and other laws and regulations may require substantial expenditures to remediate the properties or to otherwise comply with these laws and regulations |
| In addition, approximately 183 acres of our 480 acres in the Montebello field have been designated as California Coastal Sage Scrub, a known habitat for the coastal California gnatcatcher, which is a type of bird designated as threatened under the Federal Endangered Species Act |
| A variety of existing laws, rules and guidelines govern activities that can be conducted on properties that contain coastal sage scrub and gnatcatchers and generally limit the scope of operations that we can conduct on this property |
| The presence of coastal sage scrub and gnatcatchers in the Montebello field and other existing or future laws, rules and guidelines could prohibit or limit our operations and our planned activities for this property |
| 26 ______________________________________________________________________ [47]Table of Contents Our acquisition strategy could fail or present unanticipated problems for our business in the future, which could adversely affect our ability to make acquisitions or realize anticipated benefits of those acquisitions |
| Our growth strategy may include acquiring oil and gas businesses and properties |
| We may not be able to identify suitable acquisition opportunities or finance and complete any particular acquisition successfully |
| Furthermore, acquisitions involve a number of risks and challenges, including: • diversion of management’s attention; • the need to integrate acquired operations; • potential loss of key employees of the acquired companies; • difficulty in assuming recoverable reserves, future production rates, operating costs, infrastructure requirements, environmental and other liabilities, and other factors beyond our control; • potential lack of operating experience in a geographic market of the acquired business; and • an increase in our expenses and working capital requirements |
| Any of these factors could adversely affect our ability to achieve anticipated levels of cash flows from the acquired businesses or realize other anticipated benefits of those acquisitions |
| Our net income could be negatively affected by stock based compensation charges |
| Stock appreciation rights (SARs) are subject to variable accounting treatment under generally accepted accounting principles |
| We will adopt Statement of Financial Accounting Standards Nodtta 123R, “Share-Based Payment” (SFAS 123R) effective January 1, 2006 |
| SFAS 123R requires that the compensation cost relating to share-based payment transactions be recognized in financial statements based on the fair value of the equity or liability instruments issued |
| Under SFAS 123R our SARs will be remeasured to fair value each reporting period with changes in fair value reported in earnings |
| As a result, we expect volatility in our earnings as our stock price changes |
| Prior to the adoption of SFAS 123R, we accounted for stock based compensation utilizing the intrinsic value method pursuant to APB 25 |
| Accordingly, we have historically recognized compensation expense for our SARs based on changes in intrinsic value |
| The final expense recognized at settlement under either accounting method will equal the cash payment to settle the SAR The adoption of SFAS 123R may cause additional volatility in reported earnings |
| We recognized dlra39dtta9 million, dlra35dtta5 million and dlra18dtta0 million of SAR expense for the years ended December 31, 2005, 2004 and 2003, respectively |
| In addition, we expect that certain of our restricted stock awards will become subject to variable accounting in 2006 |
| Any awards that become subject to variable accounting will be accounted for in a similar manner to our existing SARs and will create additional volatility in our reported earnings |
| We are completing our assessment of SFAS 123R and the effect it will have on our financial statements |
| Our results of operations could be adversely affected as a result of goodwill impairments |
| In a purchase transaction, goodwill represents the excess of the purchase price plus the liabilities assumed, including deferred income taxes recorded in connection with the transaction, over the fair value of the net assets acquired |
| At December 31, 2005 goodwill totaled dlra173dtta9 million and represented 6prca of our total assets |
| 27 ______________________________________________________________________ [48]Table of Contents Goodwill is not amortized, but instead must be tested at least annually for impairment by applying a fair-value based test |
| Goodwill is deemed impaired to the extent of any excess of its carrying amount over the residual fair value of the reporting unit |
| Such impairment could significantly reduce earnings during the period in which the impairment occurs and would result in a corresponding reduction to goodwill and stockholders’ equity |
| The most significant factors that could result in the impairment of our goodwill would be significant declines in oil and gas prices and/or reserve volumes which would result in a decline in the fair value of our oil and gas properties |