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Dominion Sale of E&P on Track to Close in 2Q

Dominion Resources Inc.'s net income in the final quarter of 2006 plunged 88% from a year ago, with the volatile exploration and production (E&P) segment posting an 83.6% drop in earnings compared with a year earlier. Dominion E&P, which the CEO said is "on track" to be sold by the end of 2Q2007, is rumored to be drawing the interest of private equity players, global oil and gas majors and several U.S.-based independents.

The company's 4Q2006 operating earnings totaled 78 cents/share, well below $1.02 recorded in 4Q2005 but still in line with analysts' expectations. The decline was blamed on warmer-than-normal weather in the electric and gas utility areas Dominion serves, lower average realized prices for natural gas and oil sales, and the absence of a mark-to-market benefit from hedges that were in place following hurricanes Katrina and Rita. The negatives were partially offset by increased natural gas and oil production, lower unrecovered Virginia fuel expenses and higher contributions from the company's merchant generation and nonregulated retail energy marketing businesses.

The E&P unit reported operating earnings of $37 million (10 cents/share), compared with $226 million (65 cents) for 4Q2005. For the year, E&P earned $680 million ($1.93/share), ahead of $565 million ($1.64) in 2005.

Dominion E&P produced 74.1 Bcf in the United States and 3.9 Bcf in Canada in 4Q2006, ahead of 4Q2005's 64.5 Bcf in the United States and 3.7 Bcf in Canada. Total equivalent production reached 114.2 Bcfe, up from 92.2 Bcfe in 4Q2005. Averaged realized gas prices without hedging results in 4Q2006 were $6.00/Mcf, versus $11.18/Mcf for the same period of 2005.

CEO Tom Farrell, who presided over a conference call to discuss the earnings, said Dominion would have more stable earnings once the E&P unit is sold.

"Each of our business units performed well," Farrell said. "Exploration & Production drilled a record number of wells, with 13% more drilling than in 2005. Production was up 22% from a year ago." But he noted that 2006 had been a "pivotal year strategically" for the company, one in which management turned its eye toward long-term investment capital growth for shareholders and fewer surprises in earnings.

"This is what led us [in 2006] to sell our gas distribution and peaking units...and the November announcement to sell our E&P unit," said Farrell. The sale of three of its peaking power plants is anticipated by the end of 1Q2007; the sale of local distribution companies is expected by June. "The sale of E&P gives us the opportunity to sharpen our focus." Dominion's "commodity-price position following the E&P sale will have only one-third of the sensitivity it has now."

Although several financial analysts asked, Farrell did not tip his hand on the E&P sale, but the rumor mill is taking care of most of those details for him. Two weeks ago, Goldman Sachs Group Inc. and Morgan Stanley led a list of likely bidders for Dominion's E&P business (see Daily GPI, Jan. 25). According to reports, the two banks and several other equity consortiums are working on deals to buy the unit for as much as $18 billion.

Since the initial report in The Wall Street Journal, word on the street is that most of the majors and several U.S.-based independents are trying to get a piece of the action. The data room will open in the next two weeks, Farrell said, but he offered few other details. However, to perhaps entice a few more buyers, Farrell tossed out a few tidbits to whet the appetite for anyone interested in buying the gas-heavy reserves.

According to an audit by Ryder Scott, total proved reserves at year-end 2006 were 6,530 Tcfe -- a 4% increase over year-end 2005. Excluding the Appalachian Basin assets, which Dominion plans to keep, total proved reserves were 5,524 Tcfe. Unaudited total proved, probable and possible (3P) reserves at the end of 2006 were 12,312, excluding 1,286 Tcfe in the Appalachian Basin. Minus the Appalachian assets, Dominion's unaudited probable reserves totaled 3,056 Tcfe; possible reserves totaled 3,732 Tcfe. Unaudited reserve replacement, net of sales, was more than 150%.

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