UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

 

 

 

 

Form 10-Q

 

 

Commission File Number 1-14365

          

 

El Paso Corporation

(Exact Name of Registrant as Specified in Its Charter)

 

 

 

 

Telephone Number: (713) 420-2600

Internet Website: www.elpaso.com

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes þ     No o

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of “accelerated filer and large accelerated filer” in Rule 12b-2 of the Exchange Act. (Check one):

 

Large accelerated filer þ     Accelerated filer o     Non-accelerated filer o

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes o     No þ

 

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

 

Common stock, par value $3 per share. Shares outstanding on August 3, 2007: 700,561,894

 

 

EL PASO CORPORATION
TABLE OF CONTENTS

 

 

Below is a list of terms that are common to our industry and used throughout this document:

 

 

When we refer to natural gas and oil in “equivalents,” we are doing so to compare quantities of oil with quantities of natural gas or to express these different commodities in a common unit. In calculating equivalents, we use a generally recognized standard in which one Bbl of oil is equal to six Mcf of natural gas. Also, when we refer to cubic feet measurements, all measurements are at a pressure of 14.73 pounds per square inch.

 

When we refer to “us”, “we”, “our”, “ours”, “the company” or “El Paso”, we are describing El Paso Corporation and/or our subsidiaries.

 

EL PASO CORPORATION

CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(In millions, except per common share amounts)
(Unaudited)

 

 

See accompanying notes.

EL PASO CORPORATION

 

CONDENSED CONSOLIDATED BALANCE SHEETS
(In millions, except share amounts)
(Unaudited)

 

 

See accompanying notes.

EL PASO CORPORATION

CONDENSED CONSOLIDATED BALANCE SHEETS
(In millions, except for share amounts)
(Unaudited)

 

 

See accompanying notes.

EL PASO CORPORATION

 

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In millions)
(Unaudited)

 

 

See accompanying notes.

EL PASO CORPORATION

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(In millions)
(Unaudited)

 

 

See accompanying notes.

EL PASO CORPORATION

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

 

Basis of Presentation

 

We prepared this Quarterly Report on Form 10-Q under the rules and regulations of the United States Securities and Exchange Commission (SEC). Because this is an interim period filing presented using a condensed format, it does not include all of the disclosures required by U.S. generally accepted accounting principles. You should read this Quarterly Report on Form 10-Q along with our 2006 Annual Report on Form 10-K, which contains a summary of our significant accounting policies and other disclosures. The financial statements as of June 30, 2007, and for the quarters and six months ended June 30, 2007 and 2006, are unaudited. We derived the condensed consolidated balance sheet as of December 31, 2006, from the audited balance sheet filed in our 2006 Annual Report on Form 10-K. In our opinion, we have made all adjustments which are of a normal, recurring nature to fairly present our interim period results. Due to the seasonal nature of our businesses, information for interim periods may not be indicative of our operating results for the entire year. Our results for all periods reflect ANR Pipeline Company (ANR), our Michigan storage assets and our 50 percent interest in Great Lakes Gas Transmission (Great Lakes) as discontinued operations. Additionally, our financial statements for prior periods include reclassifications that were made to conform to the current period presentation. Those reclassifications did not impact our reported net income or stockholders’ equity.

 

Significant Accounting Policies

 

The information below provides an update of our significant accounting policies and accounting pronouncements issued but not yet adopted discussed in our 2006 Annual Report on Form 10-K.

 

Accounting for Uncertainty in Income Taxes.  On January 1, 2007, we adopted Financial Accounting Standards Board (FASB) Interpretation (FIN) No. 48, Accounting for Uncertainty in Income Taxes and its related interpretation. FIN No. 48 clarifies Statement of Financial Accounting Standards (SFAS) No. 109, Accounting for Income Taxes, and required us to evaluate our tax positions for all jurisdictions and for all years where a statute of limitations has not expired. FIN No. 48 requires companies to meet a “more-likely-than-not” threshold (i.e., a greater than 50 percent likelihood that a tax position would be sustained under examination) prior to recording a benefit for their tax positions. Additionally, for tax positions meeting this “more-likely-than-not” threshold, the amount of benefit is limited to the largest benefit that has a greater than 50 percent probability of being realized upon ultimate settlement. For further information on the impact on our financial statements of the adoption of this interpretation, see Note 3.

 

Accounting for Offsetting Contractual Amounts.  In April 2007, the FASB issued FASB Staff Position (FSP) No. FIN 39-1. The FSP amends FIN No. 39, Offsetting of Amounts Related to Certain Contracts, and allows companies to offset amounts recorded for their derivative contracts with cash collateral posted or held if the contracts are executed with the same counterparty and under the same master netting arrangement. This pronouncement is effective for fiscal years beginning after November 15, 2007, although early application is permitted. We are currently evaluating the manner in which we will apply this pronouncement.

 

 

Under SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets, we classify assets to be disposed of as held for sale or, if appropriate, discontinued operations when they have received appropriate approvals to be disposed of by our management or Board of Directors and when they meet other criteria. Cash flows from our discontinued businesses are reflected as discontinued operating, investing, and financing activities in our statement of cash flows. To the extent these discontinued operations do not maintain separate cash balances, we reflect the net cash flows generated from these businesses as a contribution to our continuing operations in cash flows from continuing financing activities. As of December 31, 2006, we had total assets of $4.1 billion and total

EL PASO CORPORATION

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

liabilities of $1.8 billion related to our discontinued operations, the composition of which is disclosed in our 2006 Annual Report on Form 10-K. We also had $28 million of assets held for sale as of December 31, 2006. As of June 30, 2007, all of our assets and liabilities related to our discontinued operations and our assets held for sale had been sold.

 

Discontinued Operations.  In February 2007, we sold ANR, our Michigan storage assets and our 50 percent interest in Great Lakes to TransCanada Corporation and TC Pipeline, LP for net cash proceeds of approximately $3.7 billion and recorded a gain on the sale of $648 million, net of taxes of $354 million. Included in the net assets of these discontinued operations as of the date of the sale were net deferred tax liabilities assumed by TransCanada. During the first six months of 2006, we completed the sale of all of our discontinued international power operations for net proceeds of approximately $368 million including our interest in Macae, a wholly owned power plant facility in Brazil, and certain power assets in Asia and Central America.

 

Below is summarized income statement information regarding our discontinued operations:

 

 

 

EL PASO CORPORATION

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

 

Continuing operations asset sales.  During the six months ended June 30, 2007, we received approximately $80 million of proceeds from the sales of assets and investments, primarily related to the sale of a pipeline lateral and our investment in the New York Mercantile Exchange (NYMEX). During the six months ended June 30, 2006 we received approximately $475 million of proceeds, primarily related to the sale of our interests in power plants in Brazil, Asia and Central America and certain natural gas and oil properties in south Texas.

 

 

Income taxes included in our income from continuing operations for the periods ended June 30 were as follows:

 

 

We compute interim period income taxes by applying an anticipated annual effective tax rate to our year-to-date income or loss, except for significant unusual or infrequently occurring items. Significant tax items, which may include the conclusion of income tax audits, are recorded in the period that the item occurs. Our 2007 overall effective tax rate on continuing operations was lower than the statutory rate of 35 percent primarily due to tax benefits associated with recent tax law changes and dividend exclusions on earnings from unconsolidated affiliates where we anticipate receiving dividends. These reductions to our effective tax rate were partially offset by state income taxes (net of federal income tax effects) and the reversal of deferred tax assets on certain foreign investments.

 

Our 2006 overall effective tax rate on continuing operations was lower than the statutory rate of 35 percent primarily due to the (i) conclusion of IRS audits resulting in a reduction of tax contingencies and a reinstatement of certain tax credits totaling $34 million and $50 million for the quarter and six months ended June 30, 2006, (ii) net tax benefits recognized on certain foreign investments, and (iii) dividend exclusions on earnings from unconsolidated affiliates where we anticipate receiving dividends. Partially offsetting these reductions was the effect of state income taxes (net of federal income tax effects).

 

We file income tax returns in the U.S. federal jurisdiction, and various state and foreign jurisdictions. With a few exceptions, we are no longer subject to U.S. federal, state and local, or non-U.S. income tax examinations by tax authorities for years before 1999. Certain issues raised on examination by tax authorities on El Paso’s 2003 and 2004 federal tax years are currently being appealed. For our open tax years, we have unrecognized tax benefits (liabilities for uncertain tax matters) which could increase or decrease our income tax expense and effective income tax rates as these matters are finalized.

 

Upon the adoption of FIN No. 48, we recorded additional liabilities for unrecognized tax benefits of $2 million, including interest and penalties, which we accounted for as an increase of $4 million to the January 1, 2007 accumulated deficit and an increase of $2 million to additional paid-in capital. The additional amounts recorded increased our overall unrecognized tax benefits (including interest and penalties) to $178 million as of January 1, 2007, which have not materially changed as of June 30, 2007. Of this amount, approximately $109 million (net of federal tax benefits) would favorably affect our income tax expense and our effective income tax rate if recognized

EL PASO CORPORATION

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

in future periods. While the amount of our unrecognized tax benefits could change in the next twelve months, we do not expect this change to have a significant impact on our results of operations or financial position.

 

We recognize interest and penalties related to unrecognized tax benefits in income tax expense on our income statement. Total interest and penalties recognized in our income statement was not material for the quarters and six months ended June 30, 2007 and 2006. As of January 1, 2007, we had approximately $39 million of liabilities for interest and penalties related to our unrecognized tax benefits, which have not materially changed as of June 30, 2007.

 

 

We calculated basic and diluted earnings per common share as follows:

 

EL PASO CORPORATION

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

 

We exclude potentially dilutive securities (such as employee stock options, restricted stock, convertible preferred stock, and trust preferred securities) from the determination of diluted earnings per share when their impact on income from continuing operations per common share is antidilutive. These antidilutive securities included certain employee stock options and our trust preferred securities in all periods presented, and our convertible preferred stock for the six months ended June 30, 2007. Additionally, our zero coupon convertible debentures (redeemed in April 2006), were antidilutive in both periods in 2006. For a further discussion of our potentially dilutive securities, see our 2006 Annual Report on Form 10-K.

EL PASO CORPORATION

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

 

The following table summarizes the carrying value of the derivatives used in our price risk management activities. In the table below, derivatives designated as accounting hedges consist of instruments used to hedge our natural gas and oil production. Other commodity-based derivative contracts relate to derivative contracts not designated as accounting hedges, such as options, swaps, other natural gas and power purchase and supply contracts, and derivatives related to our legacy energy trading activities. Interest rate and foreign currency derivatives consist of swaps that are primarily designated as hedges of our interest rate and foreign currency risk on long-term debt.

 

 

 

 

 

EL PASO CORPORATION

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

Changes in Long-Term Financing Obligations.  During the six months ended June 30, 2007, we had the following changes in our long-term financing obligations (in millions):

 

 

During the first six months of 2007, we recorded $287 million of pre-tax losses on the extinguishment of certain debt obligations repurchased and debt refinanced above, including an $86 million loss recorded in the second quarter related to repurchasing notes of EPEP.

 

Other.  Approximately $9 billion of our debt obligations provide us the ability to call the debt prior to its stated maturity date. If redeemed prior to their stated maturities, we will be required to pay a make-whole or fixed premium in addition to repaying the principal and accrued interest.

 

Prior to their redemption in 2006, we recorded accretion expense on our zero coupon debentures. During the six months ended June 30, 2006, we redeemed $615 million of our zero coupon debentures, of which $110 million represented an increase in the principal balance of long-term debt due to the accretion of interest on the debentures we redeemed. We account for these redemptions as financing activities in our statement of cash flows.

EL PASO CORPORATION

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

Credit Facilities

 

Credit Agreements.  As of June 30, 2007, we had available capacity under our credit agreements of approximately $1.1 billion, comprised primarily of $0.9 billion available under our $1.75 billion credit agreement and $0.2 billion related to EPEP’s $0.5 billion revolving credit agreement. As a result of upgrades to our credit ratings, we can now borrow funds utilizing the $1.25 billion revolver under our $1.75 billion credit agreement at rates of LIBOR plus 1.25% or issue letters of credit at a rate of 1.40%. The commitment fee on any unused capacity under the $1.25 billion revolver is 0.25%.

 

Contingent Letter of Credit Facility.  In January 2007, we entered into a $250 million unsecured contingent letter of credit facility that matures in March 2008. Letters of credit are available under the facility if the average NYMEX gas price strip for the remaining calendar months through March 2008 is equal to or exceeds $11.75 per MMBtu, which has not occurred. The facility fee, if triggered, is 1.66% per annum.

 

Unsecured Credit Facility.  In June 2007, we entered into a $150 million unsecured facility with a third party that matures in June 2009 that provides for both borrowings and issuing letters of credit. We are required to pay a fixed facility fee at a rate of 0.87% per annum on the full facility amount. Amounts borrowed carry an interest rate of LIBOR in addition to the facility fee. As of June 30, 2007, essentially all of the capacity under this facility had been utilized for letters of credit.

 

Letters of Credit.  As noted above, we enter into letters of credit in the ordinary course of our operating activities as well as periodically in conjunction with the sales of assets or businesses. As of June 30, 2007, we had outstanding letters of credit of approximately $1.4 billion of which approximately $1.0 billion secures our recorded obligations related to price risk management activities.

 

 

Legal Proceedings

 

ERISA Class Action Suits.  In December 2002, a purported class action lawsuit entitled William H. Lewis, III v. El Paso Corporation, et al. was filed in the U.S. District Court for the Southern District of Texas alleging that our communication with participants in our Retirement Savings Plan included misrepresentations and omissions similar to those pled in the consolidated shareholder litigation that caused members of the class to hold and maintain investments in El Paso stock in violation of the Employee Retirement Income Security Act (ERISA). Various motions have been filed, and we are awaiting the court’s ruling. We have insurance coverage for this lawsuit, subject to certain deductibles and co-pay obligations. We have established accruals for this matter which we believe are adequate.

 

Cash Balance Plan Lawsuit.  In December 2004, a purported class action lawsuit entitled Tomlinson, et al. v. El Paso Corporation and El Paso Corporation Pension Plan was filed in U.S. District Court for Denver, Colorado. The lawsuit alleges various violations of ERISA and the Age Discrimination in Employment Act as a result of our change from a final average earnings formula pension plan to a cash balance pension plan. Certain of the claims that our cash balance plan violated ERISA were recently dismissed by the trial court. Our costs and legal exposure related to this lawsuit are not currently determinable.

 

Retiree Medical Benefits Matters.  We serve as the plan administrator for a medical benefits plan that covers a closed group of retirees of the Case Corporation who retired on or before July 1, 1994. Case was formerly a subsidiary of Tenneco, Inc. that was spun off in 1993. Tenneco retained an obligation to provide certain medical benefits at the time of the spin-off and we assumed this obligation as a result of our merger with Tenneco. Pursuant to an agreement with the applicable union for Case employees, our liability for these benefits was subject to a cap, such that costs in excess of the cap are assumed by plan participants. In 2002, we and Case were sued by individual retirees in a federal court in Detroit, Michigan in an action entitled Yolton et al. v. El Paso Tennessee Pipeline Co.

EL PASO CORPORATION

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

and Case Corporation. The suit alleges, among other things, that El Paso and Case violated ERISA and that they should be required to pay all amounts above the cap. Case further filed claims against El Paso asserting that El Paso was obligated to indemnify Case for the amounts it would be required to pay. In separate rulings in 2004, the court ruled that, pending a trial on the merits, Case must pay the amounts incurred above the cap and that El Paso must reimburse Case for those payments. In January 2006, these rulings were upheld on appeal by the U.S. Court of Appeals for the 6th Circuit. We will proceed with a trial on the merits with regard to the issues of whether the cap is enforceable and what degree of benefits have actually vested. Until this is resolved, El Paso will indemnify Case for payments Case makes above the cap, which are currently about $1.7 million per month. We continue to defend the action and have filed for approval by the trial court various amendments to the medical benefit plans which would allow us to deliver the benefits to plan participants in a more cost effective manner. Although it is uncertain what plan amendments will ultimately be approved, the approval of plan amendments could reduce our overall costs and, as a result, could reduce our recorded obligation. We have established an accrual for this matter which we believe is adequate.

 

Natural Gas Commodities Litigation.  Beginning in August 2003, several lawsuits were filed against El Paso Marketing L.P. (EPM) alleging that El Paso, EPM and other energy companies conspired to manipulate the price of natural gas by providing false price information to industry trade publications that published gas indices. The first cases were consolidated in federal court in New York for all pre-trial purposes and are styled In re: Gas Commodity Litigation. In September 2005, the court certified the class to include all persons who purchased or sold NYMEX natural gas futures between January 1, 2000 and December 31, 2002. A settlement was finalized and has been paid. The second set of cases, involving similar allegations on behalf of commercial and residential customers, was transferred to a multi-district litigation proceeding (MDL) in the U.S. District Court for Nevada and styled In re: Western States Wholesale Natural Gas Antitrust Litigation. These cases have been dismissed and have been appealed. The third set of cases also involve similar allegations on behalf of certain purchasers of natural gas. These include Farmland Industries v. Oneok Inc. (filed in state court in Wyandotte County, Kansas in July 2005) and Missouri Public Service Commission v. El Paso Corporation, et al. (filed in the circuit court of Jackson County, Missouri at Kansas City in October 2006), and the purported class action lawsuits styled: Leggett, et al. v. Duke Energy Corporation, et al. (filed in Chancery Court of Tennessee in January 2005); Ever-Bloom Inc. v. AEP Energy Services Inc., et al. (filed in federal court for the Eastern District of California in June 2005); Learjet, Inc. v. Oneok Inc., (filed in state court in Wyandotte County, Kansas in September 2005); Breckenridge, et al. v. Oneok Inc., et al. (filed in state court in Denver County, Colorado in May 2006); Arandell, et al. v. Xcel Energy, et al. (filed in the circuit court of Dane County, Wisconsin in December 2006); and Heartland, et al. v. Oneok Inc., et al. (filed in the circuit court of Buchanan County, Missouri in March 2007). The Leggett case was dismissed by the Tennessee state court and has been appealed. The remaining cases have all been transferred to the MDL proceeding. Defendants’ motions to dismiss in Farmland, Learjet and Breckenridge have been denied. Our costs and legal exposure related to these lawsuits and claims are not currently determinable.

 

Gas Measurement Cases.  A number of our subsidiaries were named defendants in actions that generally allege mismeasurement of natural gas volumes and/or heating content resulting in the underpayment of royalties. The first set of cases was filed in 1997 by an individual under the False Claims Act, which has been consolidated for pretrial purposes (In re: Natural Gas Royalties Qui Tam Litigation, U.S. District Court for the District of Wyoming). These complaints allege an industry-wide conspiracy to underreport the heating value as well as the volumes of the natural gas produced from federal and Native American lands. In October 2006, the U.S. District Judge issued an order dismissing all claims against all defendants. An appeal has been filed.

 

Similar allegations were filed in a set of actions initiated in 1999 in Will Price, et al. v. Gas Pipelines and Their Predecessors, et al., in the District Court of Stevens County, Kansas. The plaintiffs currently seek certification of a class of royalty owners in wells on non-federal and non-Native American lands in Kansas, Wyoming and Colorado. Motions for class certification have been briefed and argued in the proceedings and the parties are awaiting the court’s ruling. The plaintiff seeks an unspecified amount of monetary damages in the form of additional royalty

EL PASO CORPORATION

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

payments (along with interest, expenses and punitive damages) and injunctive relief with regard to future gas measurement practices. Our costs and legal exposure related to these lawsuits and claim are not currently determinable.

 

MTBE.  Certain of our subsidiaries used the gasoline additive methyl tertiary-butyl ether (MTBE) in some of their gasoline. Certain subsidiaries have also produced, bought, sold and distributed MTBE. A number of lawsuits have been filed throughout the U.S. regarding the potential impact of MTBE on water supplies. Some of our subsidiaries are among the defendants in approximately 80 such lawsuits. Although these suits had been consolidated for pre-trial purposes in multi-district litigation in the U.S. District Court for the Southern District of New York, a recent appellate court decision has directed two of the cases to be remanded back to state court. It is possible many of the other cases will also be remanded to separate state court proceedings. The plaintiffs, certain state attorneys general, various water districts and a limited number of individual water customers, generally seek remediation of their groundwater, prevention of future contamination, damages (including natural resource damages), punitive damages, attorney’s fees and court costs. Among other allegations, plaintiffs assert that gasoline containing MTBE is a defective product and that defendant refiners are liable in proportion to their market share. Our costs and legal exposure related to these lawsuits are not currently determinable.

 

Government Investigations and Inquiries

 

Reserve Revisions.  In March 2004, we received a subpoena from the SEC requesting documents relating to our December 31, 2003 natural gas and oil reserve revisions. As previously disclosed, the staff of the SEC has been investigating our December 31, 2003 natural gas and oil reserves revisions. We originally self-reported this matter to the SEC and have been cooperating fully with the investigation, which has included producing a large volume of documents and making our employees available for interviews or testimony upon request. On July 13, 2007, we received a notice indicating the SEC staff has made a preliminary decision to recommend to the SEC that it institute an enforcement action against us and two of our subsidiaries related to the reserve revisions. We understand that the staff of the SEC may have also issued similar notices to several of our former employees related to the reserves revisions. We have been given the opportunity to respond to the staff before the staff makes its formal recommendation on whether any action should be brought by the SEC.

 

Other Government Investigations.  We continue to provide information and cooperate with the inquiry or investigation of the U.S. Attorney and the SEC in response to requests for information regarding price reporting of transactional data to the energy trade press.

 

Other Contingencies

 

EPNG Rate Case.  In June 2005, EPNG filed a rate case with the FERC proposing an increase in revenues of 10.6 percent or $56 million annually over then current tariff rates, new services and revisions to certain terms and conditions of existing services. On January 1, 2006, the new rates became effective, subject to refund. In March 2006, the FERC issued an order that generally approved our proposed new services, which were implemented on June 1, 2006. In December 2006, EPNG filed settlement of this rate case with the FERC that provided benefits for both EPNG and its customers for a three-year period ending December 31, 2008. Only one party in the rate case contested the settlement. An administrative law judge has certified the settlement to the FERC finding that the settlement could be approved for all parties, or in the alternative, that the contesting party could be severed from the settlement. We have reserved sufficient amounts to meet EPNG’s refund obligations under the settlement. Such refunds will be payable within 120 days after approval by the FERC.

EL PASO CORPORATION

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

Iraq Imports.  In December 2005, the Ministry of Oil for the State Oil Marketing Organization of Iraq (SOMO) sent an invoice to one of our subsidiaries for shipments of crude oil that SOMO alleged were purchased by Coastal in 1990 just before the 1990 invasion of Kuwait by Iraq. The invoice requests $144 million for such shipments, along with an allegation of an undefined amount of interest. We have requested additional information from SOMO to further assist in our evaluation of the invoice and the underlying facts. In addition, we are evaluating our legal defenses, including applicable statute of limitation periods.

 

Navajo Nation.  Approximately 900 looped pipeline miles of the north mainline of our EPNG pipeline system are located on lands held in trust by the United States for the benefit of the Navajo Nation. Our rights-of-way on lands crossing the Navajo Nation are the subject of a pending renewal application filed in 2005 with the Department of the Interior’s Bureau of Indian Affairs. An interim agreement with the Navajo Nation expired at the end of December 2006. Negotiations on the terms of the long-term agreement are continuing. In addition, we continue to preserve other legal, regulatory and legislative alternatives, which includes continuing to pursue our application with the Department of the Interior for renewal of our rights-of-way on Navajo Nation lands. It is uncertain whether our negotiations, or other alternatives, will be successful, or if successful, what the ultimate cost will be of obtaining the rights-of-way and whether we will be able to recover these costs in our rates.

 

In addition to the above legal proceedings, governmental proceedings, and other contingent matters, we and our subsidiaries and affiliates are named defendants in numerous lawsuits and governmental proceedings that arise in the ordinary course of our business. There are also other regulatory rules and orders in various stages of adoption, review and/or implementation. For each of our outstanding legal and other contingent matters, we evaluate the merits of the case, our exposure to the matter, possible legal or settlement strategies and the likelihood of an unfavorable outcome. If we determine that an unfavorable outcome is probable and can be estimated, we establish the necessary accruals. While the outcome of these matters, including those discussed above, cannot be predicted with certainty, and there are still uncertainties related to the costs we may incur, based upon our evaluation and experience to date, we believe we have established appropriate reserves for these matters. However, it is possible that new information or future developments could require us to reassess our potential exposure related to these matters and adjust our accruals accordingly, and these adjustments could be material. As of June 30, 2007, we had approximately $466 million accrued, net of related insurance receivables, for outstanding legal and other contingent matters.

 

Environmental Matters

 

We are subject to federal, state and local laws and regulations governing environmental quality and pollution control. These laws and regulations require us to remove or remedy the effect on the environment of the disposal or release of specified substances at current and former operating sites. As of June 30, 2007, we have accrued approximately $289 million, which has not been reduced by $25 million for amounts to be paid directly under government sponsored programs. Our accrual includes approximately $279 million for expected remediation costs and associated onsite, offsite and groundwater technical studies and approximately $10 million for related environmental legal costs.

 

Our reserve estimates range from approximately $289 million to approximately $505 million. Our accrual represents a combination of two estimation methodologies. First, where the most likely outcome can be reasonably estimated, that cost has been accrued ($21 million). Second, where the most likely outcome cannot be estimated, a range of costs is established ($268 million to $484 million) and if no one amount in that range is more likely than any other, the lower end of the expected range has been accrued. Our environmental remediation projects are in various stages of completion. Our recorded liabilities reflect our current estimates of amounts we will expend to remediate these sites. However, depending on the stage of completion or assessment, the ultimate extent of contamination or remediation required may not be known. As additional assessments occur or remediation efforts

EL PASO CORPORATION

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

continue, we may incur additional liabilities. By type of site, our reserves are based on the following estimates of reasonably possible outcomes:

 

 

Below is a reconciliation of our accrued liability from January 1, 2007 to June 30, 2007 (in millions):

 

 

For the remainder of 2007, we estimate that our total remediation expenditures will be approximately $51 million, most of which will be expended under government directed clean-up plans. In addition, we expect to make capital expenditures for environmental matters of approximately $22 million in the aggregate for the remainder of 2007 through 2011. These expenditures primarily relate to compliance with clean air regulations.

 

CERCLA Matters.  We have received notice that we could be designated, or have been asked for information to determine whether we could be designated, as a Potentially Responsible Party (PRP) with respect to 48 active sites under the CERCLA or state equivalents. We have sought to resolve our liability as a PRP at these sites through indemnification by third-parties and settlements, which provide for payment of our allocable share of remediation costs. As of June 30, 2007, we have estimated our share of the remediation costs at these sites to be between $34 million and $58 million. Because the clean-up costs are estimates and are subject to revision as more information becomes available about the extent of remediation required, and in some cases we have asserted a defense to any liability, our estimates could change. Moreover, liability under the federal CERCLA statute is joint and several, meaning that we could be required to pay in excess of our pro rata share of remediation costs. Our understanding of the financial strength of other PRPs has been considered, where appropriate, in estimating our liabilities. Accruals for these issues are included in the previously indicated estimates for Superfund sites.

 

It is possible that new information or future developments could require us to reassess our potential exposure related to environmental matters. We may incur significant costs and liabilities in order to comply with existing environmental laws and regulations. It is also possible that other developments, such as increasingly strict environmental laws, regulations and orders of regulatory agencies, as well as claims for damages to property and the environment or injuries to employees and other persons resulting from our current or past operations, could result in substantial costs and liabilities in the future. As this information becomes available, or other relevant developments occur, we will adjust our accrual amounts accordingly. While there are still uncertainties related to the ultimate costs we may incur, based upon our evaluation and experience to date, we believe our reserves are adequate.

 

Guarantees and Indemnifications

 

We are involved in various joint ventures and other ownership arrangements that sometimes require additional financial support through the issuance of financial and performance guarantees. We also periodically provide indemnification arrangements related to assets or businesses we have sold. These arrangements include, but are not limited to, indemnifications for income taxes, the resolution of existing disputes, environmental matters, and necessary expenditures to ensure the safety and integrity of the assets sold.

EL PASO CORPORATION

 

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Our potential exposure under guarantee and indemnification agreements can range from a specified amount to an unlimited dollar amount, depending on the nature of the claim and the particular transaction. For those arrangements with a specified dollar amount, we have a maximum stated value of approximately $785 million, for which we are indemnified by third parties for $15 million. These amounts exclude guarantees for which we have issued related letters of credit discussed in Note 6. Included in the above maximum stated value is approximately $440 million related to indemnification arrangements associated with the sale of ANR and related operations and approximately $119 million related to tax matters, related interest and other indemnifications and guarantees arising out of the sale of our Macae power facility. As of June 30, 2007, we have recorded obligations of $53 million related to our guarantees and indemnification arrangements, of which $10 million is related to ANR and related assets and Macae. We are unable to estimate a maximum exposure for our guarantee and indemnification agreements that do not provide for limits on the amount of future payments under the agreement due to the uncertainty of these exposures.

 

In addition to the exposures described above, a trial court has ruled, which was upheld on appeal, that we are required to indemnify a third party for benefits being paid to a closed group of retirees of one of our former subsidiaries. We have a liability of approximately $363 million associated with our estimated exposure under this matter as of June 30, 2007. For a further discussion of this matter, see Retiree Medical Benefits Matters above.

 

 

The components of net benefit cost for our pension and postretirement benefit plans for the periods ended June 30 are as follows:

 

 

 

 

In December 2006, we adopted the recognition provisions of SFAS No. 158, Employers’ Accounting for Defined Benefit Pension and Other Postretirement Plans — an amendment of FASB Statements No. 87, 88, 106 and 132(R) and began reflecting assets and liabilities related to our pension and other postretirement benefit plans based on their funded or unfunded status and reclassified all actuarial deferrals as a component of accumulated other comprehensive income. In March 2007, the FERC issued guidance requiring regulated pipeline companies to recognize a regulatory asset or liability for the funded status asset or liability that would otherwise be recorded in accumulated other comprehensive income under SFAS No. 158, if it is probable that amounts calculated on the same basis as SFAS No. 106, Employers’ Accounting for Postretirement Benefits Other Than Pensions would be included in rates in future periods. Upon adoption of this FERC guidance, we reclassified approximately $4 million

EL PASO CORPORATION

 

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from the beginning balance of accumulated other comprehensive income to other non-current assets and liabilities on our balance sheet.

 

During the six months ended June 30, 2007 and 2006, we made $2 million and $28 million of cash contributions to our Supplemental Benefits Plan and other postretirement benefit plans. We also made $2 million of cash contributions to our pension plans for the six months ended June 30, 2007. For the remainder of 2007, we expect to contribute an additional $4 million to the Supplemental Benefits Plan, $31 million to our other postretirement benefit plans and $1 million to our pension plans.

 

 

In May 2006, we issued 35.7 million shares of common stock for net proceeds of approximately $500 million. The table below shows the amount of dividends paid and declared (in millions, except per share amounts).

 

 

Dividends on our common stock and preferred stock are treated as a reduction of additional paid-in-capital since we currently have an accumulated deficit. For the remainder of 2007, we expect dividends paid on our common and preferred stock will be taxable to our stockholders because we anticipate they will be paid out of current or accumulated earnings and profits for tax purposes.

 

The terms of our 750,000 outstanding shares of 4.99% convertible preferred stock prohibit the payment of dividends on our common stock unless we have paid or set aside for payment all accumulated and unpaid dividends on such preferred stock for all preceding dividend periods. In addition, although our credit facilities do not contain any direct restriction on the payment of dividends, dividends are included as a fixed charge in the calculation of our fixed charge coverage ratio under our credit facilities. If our fixed charge ratio were to exceed the permitted maximum level, our ability to pay additional dividends would be restricted.

 

 

As of June 30, 2007, our business consists of Pipelines, Exploration and Production, Marketing and Power segments. We have reclassified certain operations as discontinued operations for all periods presented (see Notes 1 and 2). Our segments are strategic business units that provide a variety of energy products and services. They are managed separately as each segment requires different technology and marketing strategies. Our corporate operations include our general and administrative functions, as well as other miscellaneous businesses, contracts and assets, all of which are immaterial. A further discussion of each segment follows:

 

Pipelines.  Provides natural gas transmission, storage, and related services, primarily in the United States. As of June 30, 2007, we conducted our activities primarily through seven wholly owned and four partially owned transmission systems along with two underground natural gas storage entities and an LNG terminalling facility.

 

Exploration and Production.  Engages in the exploration for and the acquisition, development and production of natural gas, oil and NGL, primarily in the United States, Brazil and Egypt.

EL PASO CORPORATION

 

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Marketing.  Markets the majority of our natural gas and oil production, manages the associated commodity price risks and manages our remaining historical trading portfolio.

 

Power.  Manages the risks associated with our remaining international power assets, primarily in Brazil, Asia and Central America. We continue to pursue the sale of certain of these assets.

 

Our management uses earnings before interest expense and income taxes (EBIT) to assess the operating results and effectiveness of our business segments which consist of both consolidated businesses as well as investments in unconsolidated affiliates. We believe EBIT is useful to our investors because it allows them to more effectively evaluate our operating performance using the same performance measure analyzed internally by our management. We define EBIT as net income or loss adjusted for (i) items that do not impact our income or loss from continuing operations, such as extraordinary items, discontinued operations and the impact of accounting changes, (ii) income taxes, (iii) interest and debt expense and (iv) preferred dividends. Also, we exclude interest and debt expense so that investors may evaluate our operating results without regard to our financing methods or capital structure. EBIT may not be comparable to measures used by other companies. Additionally, EBIT should be considered in conjunction with net income and other performance measures such as operating income or operating cash flow. Below is a reconciliation of our EBIT to our income from continuing operations for the periods ended June 30:

 

EL PASO CORPORATION

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)

 

The following table reflects our segment results for each of the periods ended June 30:

 

 

 

 

EL PASO CORPORATION

 

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS — (Continued)