(11) DERIVATIVE ACTIVITIES

We use commodity-based derivative contracts to manage exposure to commodity price fluctuations. We do not enter into these arrangements for speculative or trading purposes. We do not utilize complex derivatives as we typically utilize commodity swaps or collars to (1) reduce the effect of price volatility of the commodities we produce and sell and (2) support our annual capital budget and expenditure plans. The fair value of our derivative contracts, represented by the estimated amount that would be realized upon termination, based on a comparison of the contract price and a reference price, generally the New York Mercantile Exchange (“NYMEX”) or Mont Belvieu for NGLs, approximated a net unrealized pre-tax gain of $63.3 million at September 30, 2014. These contracts expire monthly through December 2016. The following table sets forth our commodity-based derivative volumes by year as of September 30, 2014, excluding our basis swaps which are discussed separately below:

Period	Contract Type	Volume Hedged	Weighted Average Hedge Price
Natural Gas
2014	Collars	447,500 Mmbtu/day	$ 3.84–$ 4.48
2015	Collars	145,000 Mmbtu/day	$ 4.07–$ 4.56
2014	Swaps	260,000 Mmbtu/day	$ 4.18
2015	Swaps	307,432 Mmbtu/day	$ 4.21
2016	Swaps	90,000 Mmbtu/day	$ 4.21

Crude Oil
2014	Collars	2,000 bbls/day	$ 85.55–$ 100.00
2014	Swaps	9,500 bbls/day	$ 94.35
2015	Swaps	9,626 bbls day	$ 90.57
2016	Swaps	1,000 bbls/day	$ 91.43

NGLs (C3-Propane)
2014	Swaps	12,000 bbls/day	$ 1.02/gallon
2015 -first six months	Swaps	1,000 bbls/day	$ 1.10/gallon

NGLs (NC4-Normal Butane)
2014	Swaps	4,000 bbls/day	$ 1.34/gallon

NGLs (C5-Natural Gasoline)
2014	Swaps	3,500 bbls/day	$ 2.17/gallon
2015 - first quarter	Swaps	500 bbls/day	$ 2.14/gallon

Every derivative instrument is required to be recorded on the balance sheet as either an asset or a liability measured at its fair value. Through February 28, 2013, changes in the fair value of our derivatives that qualified for hedge accounting were recorded as a component of accumulated other comprehensive income or loss (“AOCI” or “AOCL”) in the stockholders’ equity section of the accompanying consolidated balance sheets, which is later transferred to natural gas, NGLs and oil sales when the underlying physical transaction occurs and the hedging contract is settled. As of September 30, 2014, an unrealized pre-tax derivative loss of $358,000 ($222,000 after tax) was recorded in AOCL. See additional discussion below regarding the discontinuance of hedge accounting. If the derivative does not qualify as a hedge or is not designated as a hedge, changes in fair value of these non-hedge derivatives are recognized in earnings in derivative fair value income or loss.

For those derivative instruments that qualified or were designated for hedge accounting, settled transaction gains and losses were determined monthly, and were included as increases or decreases to natural gas, NGLs and oil sales in the period the hedged production was sold. Through February 28, 2013, we had elected to designate our commodity derivative instruments that qualified for hedge accounting as cash flow hedges. Natural gas, NGLs and oil sales include $3.5 million of gains in third quarter 2014 compared to gains of $27.4 million in the same period of 2013 related to settled hedging transactions. Natural gas, NGLs and oil sales include $10.6 million of gains in first nine months 2014 compared to gains of $94.4 million in the same period of 2013 related to settled hedging transactions. Any ineffectiveness associated with these hedge derivatives is reflected in derivative fair value income or loss in the accompanying statements of operations. The ineffective portion is generally calculated as the difference between the changes in fair value of the derivative and the estimated change in future cash flows from the item hedged. Derivative fair value income or loss for the three months and the nine months ended September 30, 2014 includes no ineffective gains or losses compared to a loss of $39,000 in the three months ended September 30, 2013 and a loss of $2.9 million in the nine months ended September 30, 2013. During the nine months ended September 30, 2013, we recognized a pre-tax gain of $3.9 million in derivative fair value income as a result of the discontinuance of hedge accounting where we determined the transaction was probable not to occur primarily due to the sale of certain of our Delaware and Permian Basin properties in New Mexico and West Texas.

Basis Swap Contracts

In addition to the collars and swaps above, at September 30, 2014, we had natural gas basis swap contracts that are not designated for hedge accounting, which lock in the differential between NYMEX and certain of our physical pricing indices primarily in Appalachia. These contracts are for an average of 70,593 Mmbtu/day and settle monthly through October 2015. The fair value of these contracts was a loss of $1.5 million on September 30, 2014.

Discontinuance of Hedge Accounting

Effective March 1, 2013, we elected to de-designate all commodity contracts that were previously designated as cash flow hedges and elected to discontinue hedge accounting prospectively. AOCI included $103.6 million ($63.2 million after tax) of unrealized net gains, representing the mark-to-market value of the effective portion of our cash flow hedges as of February 28, 2013. As a result of discontinuing hedge accounting, the mark-to-market values included in AOCI as of the de-designation date were frozen and will be reclassified into earnings in natural gas, NGLs and oil sales in future periods as the underlying hedged transactions occur. As of September 30, 2014, we expect to reclassify into earnings $358,000 of unrealized losses in the remaining months of 2014.

With the election to de-designate hedging instruments, all of our derivative instruments continue to be recorded at fair value with unrealized gains and losses recognized immediately in earnings rather than in AOCI. These mark-to-market adjustments will produce a degree of earnings volatility that can be significant from period to period, but such adjustments will have no cash flow impact relative to changes in market prices. The impact to cash flow occurs upon settlement of the underlying contract.

Derivative Assets and Liabilities

The combined fair value of derivatives included in the accompanying consolidated balance sheets as of September 30, 2014 and December 31, 2013 is summarized below. The assets and liabilities are netted where derivatives with both gain and loss positions are held by a single counterparty and we have master netting arrangements. The tables below provide additional information relating to our master netting arrangements with our derivative counterparties (in thousands):

		September 30, 2014
		Gross Amounts of Recognized Assets		Gross Amounts Offset in the Balance Sheet			Net Amounts of Assets Presented in the Balance Sheet
Derivative assets:
Natural gas	–swaps	$	29,609	$	(339	)	$	29,270
	–collars		15,295		(1,447	)		13,848
	–basis swaps		8,720		(10,189	)		(1,469	)
Crude oil	–swaps		15,504		(7	)		15,497
	–collars		123		—			123
NGLs	–C3 swaps		1,499		(2,268	)		(769	)
	–NC4 swaps		1,942		—			1,942
	–C5 swaps		3,366		—			3,366
		$	76,058	$	(14,250	)	$	61,808

		September 30, 2014
		Gross Amounts of Recognized (Liabilities)			Gross Amounts Offset in the Balance Sheet		Net Amounts of (Liabilities) Presented in the Balance Sheet
Derivative (liabilities):
Natural gas	–swaps	$	(339	)	$	339	$	—
	–collars		(1,447	)		1,447		—
	–basis swaps		(10,189	)		10,189		—
Crude oil	–swaps		(7	)		7		—
NGLs	–C3 swaps		(2,268	)		2,268		—
		$	(14,250	)	$	14,250	$	—

		December 31, 2013
		Gross Amounts of Recognized Assets		Gross Amounts Offset in the Balance Sheet			Net Amounts of Assets Presented in the Balance Sheet
Derivative assets:
Natural gas	–swaps	$	4,240	$	(1,218	)	$	3,022
	–collars		16,057		(7,671	)		8,386
	–basis swaps		7,686		(7,686	)		—
Crude oil	–swaps		3,567		(1,321	)		2,246
NGLs	–C3 swaps		826		(826	)		—
	–NC4 swaps		863		(863	)		—
	–C5 swaps		121		(121	)		—
		$	33,360	$	(19,706	)	$	13,654

		December 31, 2013
		Gross Amounts of Recognized (Liabilities)			Gross Amounts Offset in the Balance Sheet		Net Amounts of (Liabilities) Presented in the Balance Sheet
Derivative (liabilities):
Natural gas	–swaps	$	(4,790	)	$	1,218	$	(3,572	)
	–collars		(13,345	)		7,671		(5,674	)
	–basis swaps		(3,756	)		7,686		3,930
Crude oil	–swaps		(4,711	)		1,321		(3,390	)
	–collars		(398	)		—		(398	)
NGLs	–C3 swaps		(18,172	)		826		(17,346	)
	–NC4 swaps		(757	)		863		106
	–C5 swaps		—			121		121
		$	(45,929	)	$	19,706	$	(26,223	)

The effects of our cash flow hedges (or those derivatives that previously qualified for hedge accounting) on AOCI in the accompanying consolidated balance sheets are summarized below (in thousands):

	Three Months Ended September 30,										Nine Months Ended September 30,
	Change in Hedge Derivative Fair Value				Realized Gain (Loss) Reclassified from OCI into Revenue ^(a)						Change in Hedge Derivative Fair Value					Realized Gain (Loss) Reclassified from OCI into Revenue ^(a)
	2014		2013		2014			2013			2014		2013			2014			2013

Swaps	$	—	$	¾	$	1,255		$	2,765		$	¾	$	125		$	3,144		$	14,687
Collars		—		¾		2,249			25,357			¾		(7,015	)		7,436			83,630
Income taxes		—		¾		(1,332	)		(10,967	)		¾		2,687			(4,122	)		(38,343	)
	$	—	$	¾	$	2,172		$	17,155		$	¾	$	(4,203	)	$	6,458		$	59,974

^(a)

For realized gains upon derivative contract settlement, the reduction in AOCI is offset by an increase in natural gas, NGLs and oil sales. For realized losses upon derivative contract settlement, the increase in AOCI is offset by a decrease in revenues. See additional discussion above regarding the discontinuance of hedge accounting.

The effects of our non-hedge derivatives (or those derivatives that do not qualify for hedge accounting) and the ineffective portion of our hedge derivatives on our consolidated statements of operations are summarized below (in thousands):

	Three Months Ended September 30,
	Gain (Loss) Recognized in Income (Non-hedge Derivatives)						Gain (Loss) Recognized in Income (Ineffective Portion)					Derivative Fair Value Income (Loss)
	2014			2013			2014		2013			2014			2013
Swaps	$	105,767		$	(48,277	)	$	—	$	(39	)	$	105,767		$	(48,316	)
Re-purchased swaps		—			1,595			—		—			—			1,595
Collars		30,119			6,366			—		—			30,119			6,366
Basis swaps		6,171			—			—		—			6,171			—
Total	$	142,057		$	(40,316	)	$	—	$	(39	)	$	142,057		$	(40,355	)
	Nine Months Ended September 30,
	Gain (Loss) Recognized in Income (Non-hedge Derivatives)						Gain (Loss) Recognized in Income (Ineffective Portion)					Derivative Fair Value Income (Loss)
	2014			2013			2014		2013			2014			2013
Swaps	$	23,173		$	(26,350	)	$	—	$	(2,034	)	$	23,173		$	(28,384	)
Re-purchased swaps		—			1,117			—		—			—			1,117
Collars		(7,997	)		25,783			—		(896	)		(7,997	)		24,887
Basis swaps		(44,078	)		(90	)		—		—			(44,078	)		(90	)
Total	$	(28,902	)	$	460		$	—	$	(2,930	)	$	(28,902	)	$	(2,470	)