Led by 17% gas production growth, higher realized gas prices and a solid marketing and trading performance, El Paso Corp. reported a 42% increase in earnings before special items to $0.78/share compared with $0.55 in the third quarter of 2000. Adjusted net income rose 43% to $405 million. However, its net income, including special charges, fell 28% to $202 million.

The special items include net after-tax merger-related costs and other non-recurring charges of $203 million, including an estimated $100 million after-tax ceiling-test charge on Canadian oil and gas assets, particularly reserves in the Western Canadian Sedimentary Basin. Full-cost accounting required the company to write down its Canadian reserves because of current low commodity prices and higher development costs. However, the actual cost of the ceiling test write down could be substantially less because the accounting won’t be finalized until El Paso files its income statement with the Securities and Exchange Commission in mid November, when gas prices are expected to be higher than current levels.

“Despite lower natural gas, power, and petroleum prices and a slowing economy, the company achieved outstanding financial results in the quarter, led by the Merchant Energy and Production segments,” said CEO William Wise. “This performance reflects the strong market positions of each of our businesses, our diversified asset base, and adherence to strict risk management guidelines.

“Our financial results were distinguished by attractive returns and high-quality, recurring cash earnings. For the full-year 2001, we will generate more than $3.5 billion in after-tax cash flow before capital expenditures. Each of our business segments continues to perform very well, and we remain comfortable with our earnings per share targets of $3.30 in 2001 and $3.60 to $3.70 in 2002, based on an annual average Henry Hub natural gas price of $3/Mcf.'” El Paso officials said the company is on track to deliver in excess of 20% earnings growth this year and “double digit” earnings growth in 2002.

The company’s Merchant Energy Group reported adjusted earnings before interest and taxes (EBIT) of $316 million, up 26%. The increase reflects greater customer origination activity, increased income from international operations, and strong fee income from its Project Electron and financial services. Physical natural gas and power volumes rose 4% and 48%, respectively, while financial volumes increased 61% from 2000 levels.

“The [energy] market has deteriorated much more over the course of the past several weeks and few months,” Merchant Energy Group President Ralph Eads III said during a conference call. “The regulatory environment in our judgement is viewed unfavorably against real competition, and today the market fundamentals are very weak. Consequently we are reducing our focus [on merchant power generation]. Our focus next year is going to be on those activities where that value is recognizable, that being the Texas market in particular, and maximizing returns on those assets.

“There are concerns right now about credit exposure. There are concerns about California risk. There are concerns about people that are long merchant power. There are concerns about quality of earnings,” said Eads. “If you look at each one of those areas, we feel like we have done a good job managing those concerns and are well positioned to increase market share and strengthen our position. We don’t have any significant credit exposure with anyone that people have expressed concerns about. With respect to California, we don’t have significant exposure contractually, we don’t believe. In the merchant power business, we have studiously avoided being long merchant power and in fact are benefiting from lower power prices.”

El Paso Production benefited from strong production growth and a favorable hedging program. The division’s adjusted EBIT more than doubled to $307 million from $149 million in the third quarter of 2000. Production volumes rose 17% from a year ago to 1,823 MMcfe/d, and was up 4% from the second quarter. Company officials said the E&P program this year was “front loaded.” It saw significant growth in Texas and had two new Gulf of Mexico plays come on line. The company’s realized natural gas price also increased to $3.46/Mcf from $2.60 a year ago. Realized oil, condensate, and liquids prices declined $0.19 to $21.62/bbl.

The production group has increased its hedged position in recent weeks because of low prices. About 85% of its production is hedged from October through December at $3.79/Mcf. For 2002, 70% is hedged at $4.07 and for 2003 44% of its production is hedged at $3.99. The company expects that its realized price for natural gas will be $0.30 less than its hedged prices because of transportation costs and regional price differentials.

The Pipeline Group’s adjusted EBIT totaled $273 million compared with $297 million in the third quarter of 2000, primarily reflecting lower transportation revenues from recontracted capacity on the Tennessee Gas Pipeline system. Total pipeline system throughput for the third quarter 2001 averaged 18,536 billion Btu/d, up 2% from 2000 levels. The Pipeline Group has eight expansions underway, totaling 2 Bcf/d. Numerous other projects are in the works, totaling 6 Bcf/d.

El Paso Field Services reported adjusted third quarter 2001 EBIT of $60 million compared with third quarter 2000 EBIT of $58 million based on higher gathering and processing volumes, partially offset by lower average gathering and processing margins. Gathering and treating volumes increased 59% to 6,071 BBtu/d, while processing volumes rose 46% to 4,551 BBtu/d.

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