-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, E5lhmBe9B7J2zZ/Ol4hPjfVTygnIkvPTmwD/IS/UpYbK5WaHym5357ih2nnn+zZx o6ydvzX9pTHnurfAfz9FYg== 0000950144-98-003305.txt : 19980327 0000950144-98-003305.hdr.sgml : 19980327 ACCESSION NUMBER: 0000950144-98-003305 CONFORMED SUBMISSION TYPE: 10-K405 PUBLIC DOCUMENT COUNT: 19 CONFORMED PERIOD OF REPORT: 19971231 FILED AS OF DATE: 19980326 SROS: AMEX SROS: NYSE SROS: PCX FILER: COMPANY DATA: COMPANY CONFORMED NAME: SONAT INC CENTRAL INDEX KEY: 0000092236 STANDARD INDUSTRIAL CLASSIFICATION: NATURAL GAS TRANSMISSION [4922] IRS NUMBER: 630647939 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K405 SEC ACT: SEC FILE NUMBER: 001-07179 FILM NUMBER: 98574730 BUSINESS ADDRESS: STREET 1: 1900 FIFTH AVENUE NORTH CITY: BIRMINGHAM STATE: AL ZIP: 35203 BUSINESS PHONE: 2053253800 MAIL ADDRESS: STREET 1: PO BOX 2563 CITY: BIRMINGHAM STATE: AL ZIP: 35202 FORMER COMPANY: FORMER CONFORMED NAME: SOUTHERN NATURAL RESOURCES INC DATE OF NAME CHANGE: 19820305 10-K405 1 SONAT, INC. 1 ================================================================================ SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 --------------------- FORM 10-K (MARK ONE) [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 [NO FEE REQUIRED, EFFECTIVE OCTOBER 7, 1996] FOR THE FISCAL YEAR ENDED DECEMBER 31, 1997 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 [NO FEE REQUIRED, EFFECTIVE OCTOBER 7, 1996] FOR THE TRANSITION PERIOD FROM TO Commission file number 1-7179 --------------------- SONAT INC. (Exact name of registrant as specified in its charter) DELAWARE 63-0647939 (State or other jurisdiction of incorporation (I.R.S. Employer Identification No.) or organization)
AMSOUTH-SONAT TOWER BIRMINGHAM, ALABAMA 35203 TELEPHONE 205-325-3800 (Address of principal executive offices) SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE ACT:
NAME OF EACH EXCHANGE ON TITLE OF EACH CLASS WHICH REGISTERED ------------------- ------------------------ Common Stock, $1.00 par value New York Stock Exchange, Inc. Pacific Stock Exchange, Inc.
SECURITIES REGISTERED PURSUANT TO SECTION 12(G) OF THE ACT: None 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 X No Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [X] AGGREGATE MARKET VALUE OF THE VOTING STOCK HELD BY NON-AFFILIATES OF THE REGISTRANT, AS OF JANUARY 30, 1998 -- $3,734,334,844. NUMBER OF SHARES OF COMMON STOCK, $1.00 PAR VALUE, OUTSTANDING ON JANUARY 30, 1998 -- 109,960,050 DOCUMENTS INCORPORATED BY REFERENCE PORTIONS OF THE PROXY STATEMENT OF THE REGISTRANT DATED AS OF MARCH 21, 1998, ARE INCORPORATED BY REFERENCE INTO PART III OF THIS REPORT ON FORM 10-K. ================================================================================ 2 SONAT INC. INDEX TO REPORT ON FORM 10-K FOR THE YEAR ENDED DECEMBER 31, 1997
ITEM PAGE - ---- ------ PART I Item 1. Business.................................................... I-1 Exploration and Production................................ I-1 Sonat Exploration Company.............................. I-2 Consolidated Wells and Acreage....................... I-6 Consolidated Exploratory and Development Wells....... I-6 Consolidated Net Production.......................... I-6 Sonat Exploration GOM Inc.............................. I-7 Oil and Gas Reserves................................. I-9 Exploration and Development Activity................. I-10 Net Production, Unit Prices, and Production Costs.... I-10 Development, Exploration, and Acquisition Expenditures........................................ I-11 Acreage.............................................. I-11 Competition and Current Business Conditions............ I-11 Natural Gas Transmission.................................. I-12 Southern Natural Gas Company........................... I-12 Florida Gas Transmission Company....................... I-12 Sea Robin Pipeline Company............................. I-12 South Georgia Natural Gas Company...................... I-12 Destin Pipeline Company, L.L.C......................... I-13 Etowah LNG Company, L.L.C.............................. I-13 Markets -- Transportation.............................. I-13 Markets -- System Expansions........................... I-15 Gas Sales and Supplies................................. I-17 Rate and Regulatory Proceedings........................ I-17 Storage Fields......................................... I-17 Competition and Current Business Conditions............ I-17 Energy Services........................................... I-20 Sonat Energy Services Company.......................... I-20 Sonat Marketing Company L.P.......................... I-20 Sonat Public Service Company L.L.C................... I-20 Unicom Gas Services LLC.............................. I-20 Sonat Power Marketing L.P............................ I-20 Sonat Power Inc...................................... I-21 Sonat Intrastate-Alabama Inc......................... I-21 Sonat Power Systems Inc................................ I-21 Competition and Current Business Conditions............ I-21 Governmental Regulation................................... I-23 Exploration and Production............................. I-23 Natural Gas Transmission............................... I-23 Energy Services........................................ I-24 Environmental Matters..................................... I-24 Year 2000 Project......................................... I-24 Cautionary Statement Concerning Forward-Looking Statements............................................ I-24 Item 2. Properties.................................................. I-24 Item 3. Legal Proceedings........................................... I-25
3
ITEM PAGE - ---- ------ Item 4. Submission of Matters to a Vote of Security Holders......... I-26 Executive Officers of the Registrant........................ I-26 PART II Item 5. Market for the Registrant's Common Equity and Related Stockholder Matters......................................... II-33 Item 6. Selected Financial Data..................................... II-45 Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations................................... II-2 Item 7A. Quantitative and Qualitative Disclosures About Market Risk........................................................ II-12 Item 8. Financial Statements and Supplementary Data................. II-19 Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure.................................... II-47 PART III Item 10. Directors and Executive Officers of the Registrant.......... III-1 Item 11. Executive Compensation...................................... III-1 Item 12. Security Ownership of Certain Beneficial Owners and Management.................................................. III-1 Item 13. Certain Relationships and Related Transactions.............. III-1 PART IV Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K......................................................... IV-1
4 PART I ITEM 1. BUSINESS Sonat Inc. ("Sonat" or the "Company") is a diversified energy holding company. It is engaged through Sonat Exploration Company ("Exploration") and Sonat Exploration GOM Inc. ("Sonat GOM") in domestic oil and natural gas exploration and production, through Southern Natural Gas Company ("Southern") and Citrus Corp. ("Citrus") in the transmission and storage of natural gas, and through Sonat Energy Services Company ("Sonat Energy Services") in natural gas and electric power marketing. Exploration, which is the sixth largest independent oil and gas producer in the United States, operates primarily in Texas, Oklahoma, Louisiana, Arkansas, and the Gulf of Mexico. In January 1998 Sonat completed a $1.3 billion merger with Zilkha Energy Company ("Zilkha"), a privately owned oil and gas exploration, development, and production company operating primarily offshore in the shallow waters of the Gulf of Mexico. Following the merger, Zilkha was renamed Sonat GOM. Oil and gas exploration and production activities contributed approximately 35 percent of Sonat's consolidated operating income for 1997. Southern is a major transporter of natural gas to the southeastern United States. Its natural gas pipeline system extends primarily from gas producing areas of Texas and Louisiana, both onshore and offshore, to markets in a seven-state area of the Southeast. Sonat and Enron Corp., an unaffiliated company, each owns a one-half interest in Citrus, a holding company that owns 100 percent of Florida Gas Transmission Company ("Florida Gas"). Florida Gas is an interstate natural gas pipeline that serves electric generation, resale, and industrial markets in Florida. Natural gas transmission operations, excluding Citrus, contributed approximately 60 percent of Sonat's consolidated operating income for 1997. Sonat's share of Citrus' 1997 earnings of approximately $28.7 million is reflected in Equity in Earnings of Unconsolidated Affiliates in its Consolidated Statements of Income. Sonat Energy Services' largest subsidiary, Sonat Marketing Company L.P. ("Sonat Marketing"), sells natural gas throughout much of the United States, principally the area east of the Rocky Mountains. Sonat Marketing is 65-percent owned by a subsidiary of Sonat Energy Services, with the remaining interest owned by a subsidiary of AGL Resources, Inc., an unaffiliated company ("AGL Resources"). At year-end 1997 Sonat Marketing was one of the ten largest natural gas marketers in the United States. Sonat Energy Services owns 65 percent of Sonat Power Marketing L.P. ("Power Marketing"), which markets electric power throughout the area of the United States east of the Rocky Mountains. AGL Resources owns the remaining 35 percent interest in Power Marketing. Energy marketing activities contributed approximately four percent of Sonat's consolidated operating income for 1997, inclusive of the minority interests. Sonat was incorporated under the laws of Delaware in 1973 in connection with a reorganization of Southern. At March 1, 1998, Sonat and its subsidiaries employed approximately 2,110 people. Sonat's principal executive offices are located at 1900 Fifth Avenue North, AmSouth-Sonat Tower, Birmingham, Alabama 35203, and its telephone number is (205) 325-3800. Additional business information is contained in Management's Discussion and Analysis of Financial Condition and Results of Operations and in the Notes to Consolidated Financial Statements in Part II of this report, which are incorporated herein by reference. Reference is made to Note 12 of the Notes to Consolidated Financial Statements contained in Part II of this report for further information with respect to the portions of Sonat's revenues, operating profit, capital expenditures, and identifiable assets attributable to each of its business segments. EXPLORATION AND PRODUCTION Sonat is engaged in the exploration for and the acquisition, development, and production of oil and natural gas through its wholly owned subsidiaries, Sonat Exploration Company, and its subsidiary companies (collectively referred to as "Exploration" unless the context indicates otherwise) and Sonat GOM, as described below. I-1 5 SONAT EXPLORATION COMPANY Exploration's principal office is located in Houston, Texas. Exploration also has offices in Tyler and Midland, Texas, and Oklahoma City, Oklahoma. The oil and gas properties of Exploration are principally located onshore in the Southern coastal states, in various states in the Southwest and Midwest, and in federal waters offshore Louisiana and Texas. As of December 31, 1997, Exploration had operations or properties in 13 states. Exploration had working interests in approximately 2.9 million gross acres or 2.1 million net acres onshore as of December 31, 1997. Of this onshore acreage, approximately 1.1 million gross or 663,000 net acres were producing oil or gas. In addition, as of such date, Exploration had a working interest in 53 federal offshore blocks in the Gulf of Mexico and one state offshore block, totaling approximately 217,000 gross acres or 145,000 net acres. Of these blocks, 49 were producing oil or gas. Beginning in 1988 Exploration implemented a strategy to acquire gas properties with significant development potential. In 1996, however, Exploration began to focus more of its resources on development and exploratory drilling activities to more fully exploit the exploratory and development drilling prospects it had developed on the substantial acreage it had acquired. As a result, expenditures for exploration and development drilling activities in 1996 exceeded expenditures for producing property acquisitions for the first time in nine years. Exploration expects to focus more on exploratory and development drilling and expanding its land positions through leasing rather than on property acquisitions for future growth. Exploration increased its total proved reserves to approximately 2.2 trillion cubic feet ("Tcf") of natural gas equivalent at the end of 1997, compared to approximately 2.0 Tcf at the end of 1996. Approximately 84 percent of Exploration's proved reserves are natural gas. In 1997 Exploration participated in the drilling of 407 development wells, of which 94 percent were successful. Exploration also participated in the drilling of 14 exploratory wells in 1997, nine of which were successful. Of the total of 421 wells in which Exploration participated in drilling in 1997, it operated 374. Exploration plans to drill approximately 420 additional wells during 1998, which includes those planned by Sonat GOM. Exploration increased net proved reserves during 1997 by approximately 285 billion cubic feet ("Bcf ") of natural gas equivalent through drilling and producing operations. During 1997 Exploration expanded its lease position in the Cotton Valley Pinnacle Reef trend from 300,000 to 405,000 gross acres. All of the discoveries to date in this trend have been in the Bear Grass area in Freestone and Leon Counties, Texas. In mid-1997 Exploration drilled a dry hole 45 miles north of the Bear Grass area in Henderson County, Texas, in an attempt to extend production to an area where it has a large acreage position. Additional seismic and geologic work has been done in this area, and Exploration plans to drill a second well there in 1998. Altogether, as a part of its drilling program, Exploration participated in the drilling of eight wells in this trend during 1997, of which six were successful, and plans to drill seven additional wells there during 1998. Exploration has also maintained an active drilling program in the Austin Chalk trend. Its initial Austin Chalk drilling program was in east Texas, but its development activities in this trend are now focused in the Hurricane Branch and Masters Creek areas in Vernon and Rapides Parishes in Louisiana. As a part of its drilling program, Exploration participated in the drilling of 27 horizontal wells in this trend during 1997, of which 21 were successful. With the merger of a subsidiary of Sonat with Zilkha, as described below under the heading "Sonat Exploration GOM Inc.," Exploration expects to focus in 1998 on developing the extensive interests of Sonat GOM in the Gulf of Mexico. Exploration has evaluated a significant number of new prospects to develop and plans to drill 23 exploratory wells and 14 development wells in the Gulf of Mexico during 1998. During 1997 Exploration acquired approximately 20.5 Bcf of proved natural gas equivalent reserves in five separate transactions totaling $5.6 million, for an average acquisition cost of $.27 per thousand cubic feet equivalent. Through these acquisitions, Exploration increased its position in east Texas and north Louisiana. As of December 31, 1997, Exploration's net proved reserves totaled 58 million barrels of crude oil, condensate, and natural gas liquids and 1,850 Bcf of natural gas. As of December 31, 1996, Exploration's net proved reserves amounted to 51 million barrels of crude oil, condensate, and natural gas liquids and 1,692 Bcf I-2 6 of natural gas. For additional information concerning reserves, see Note 13 of the Notes to Consolidated Financial Statements in Part II of this report. Exploration's total exploration and production capital expenditures in 1997 were $539 million compared with $368 million in 1996. While Exploration expects that it will make some small producing property acquisitions in 1998, it has shifted to a reserve replacement and growth strategy more focused on exploration and aggressive development drilling. Capital spending in 1998, including that of Sonat GOM, is expected to be approximately $538 million, which includes allocations of $398 million for development drilling and $136 million for exploration, including leasing and seismic, with the remainder targeted for small producing property acquisitions. Of the total of $534 million allocated for drilling and exploration activities, $215 million is targeted for Gulf of Mexico activities and $319 million is targeted for onshore activities. Changes in this capital program may occur during the year since the number, type, and timing of prospects drilled are subject to continual revision as a result of many factors, including the number of new prospects identified and secured through exploration and joint ventures with others, the number of prospects identified through ongoing geologic evaluation or seismic reprocessing efforts, rig availability, lease expiration dates, the availability of capital to fund such projects, initial test results, the price of oil and gas, weather, and other general economic conditions. While maintaining an active drilling program, Exploration has also continued its cost control and productivity improvement efforts. In order to focus its exploration and production efforts and to minimize operating and other costs, Exploration disposed of certain nonstrategic oil and gas interests in 1997 in the states of Texas, Louisiana, Arkansas, and Oklahoma, and the Gulf of Mexico. These properties were sold for a total of approximately $35.3 million and included net proved reserves of approximately 36.2 Bcf of natural gas equivalent. Exploration expects that it will continue to upgrade its asset base through disposal of non-strategic properties in the future. Exploration relies on its own technical staff for the selection of its drilling prospects. Leases on desirable, nonproducing offshore prospects are typically acquired in federal and state waters by acquisition or through a competitive bidding process from the federal or state governments. Exploration has, and may in the future, bid with other companies for leases on prospective offshore acreage. Onshore leases are acquired by Exploration's staff and by independent lease brokers at the direction of Exploration's staff, through farmouts, through participation in prospects developed by others, or by acquisition. Exploration may, as it has in the past, enter into joint venture arrangements where exploration and development activity is performed on behalf of the joint venture by whichever company is designated as operator. Drilling for Exploration is conducted by independent drilling contractors. There have been no oil or gas reserve estimates filed or included in any reports to any federal agency within the last twelve months, except Form EIA-23 Annual Survey of Domestic Oil and Gas Reserves filed with the Federal Energy Regulatory Commission (the "FERC") and Form 9-1866 (Request for Reservoir Maximum Efficient Rate) filed with the Minerals Management Service of the U.S. Department of the Interior (the "MMS"). There are no material differences in the reserves reflected in such reports and the estimated reserves as reflected in Note 13 of the Notes to Consolidated Financial Statements in Part II of this report, except for differences resulting from actual production, acquisitions, property sales, and necessary reserve revisions and additions to reflect actual experience. There are numerous uncertainties inherent in estimating quantities of proved reserves, including many factors beyond the control of Exploration. The reserve data set forth herein represent only estimates. Reservoir engineering is a subjective process of estimating underground accumulations of crude oil and natural gas that cannot be measured in an exact manner, and the accuracy of any reserve estimate is a function of the quality of available data and of engineering and geological interpretations and judgment. As a result, estimates of different engineers often vary. In addition, results of drilling, testing, and production subsequent to the date of an estimate may justify revision of such estimate. Accordingly, reserve estimates are often different from the quantities of crude oil and natural gas that are ultimately recovered. The meaningfulness of such estimates is highly dependent upon the accuracy of the assumptions upon which they were based. In general, the volume of production from oil and gas properties owned by Exploration declines as reserves are depleted. Except to the I-3 7 extent Exploration conducts successful exploration and development activities or acquires additional properties containing proved reserves, or both, the proved reserves of Exploration will decline as reserves are produced. Exploration's business is subject to all of the operating risks normally associated with the exploration for and production of oil and gas, including blowouts, cratering, pollution, and fires, each of which could result in damage to or destruction of oil and gas wells, formations, production facilities, or properties or in personal injury. Sonat maintains broad insurance coverage on behalf of Exploration with respect to losses resulting from these operating hazards. See "Governmental Regulation -- Exploration and Production" below for information concerning the effect of various laws and governmental regulations on Exploration's operations. The following tables detail the gross lease acreage of both producing and nonproducing onshore properties and offshore lease blocks in which Exploration had an interest at December 31, 1997. The map on page I-5 following the tables generally depicts the areas in which Exploration had significant lease interests as of that date. SONAT EXPLORATION COMPANY ONSHORE GROSS LEASE ACREAGE
STATE PRODUCING NON-PRODUCING TOTAL - ----- --------- ------------- --------- Alabama................................................ 9,450 32,270 41,720 Arkansas............................................... 260,706 73,047 333,753 Louisiana.............................................. 196,947 764,736 961,683 Oklahoma............................................... 221,983 77,678 299,661 Texas.................................................. 330,736 923,622 1,254,358 Other.................................................. 25,816 3,598 29,414 --------- --------- --------- Total........................................ 1,045,638 1,874,951 2,920,589 ========= ========= =========
OFFSHORE GROSS LEASE BLOCKS
AREA PRODUCING NON-PRODUCING TOTAL - ---- --------- ------------- ----- Mustang Island.............................................. 3 2 5 High Island(1).............................................. 10 0 10 Sabine Pass................................................. 4 0 4 West Cameron(2)............................................. 14 0 14 East Cameron(3)............................................. 8 1 9 Eugene Island............................................... 4 0 4 Ship Shoal.................................................. 3 1 4 Mississippi Canyon(4)....................................... 3 0 3 -- -- -- Total............................................. 49 4 53 == == ==
- --------------- (1) In one of the producing blocks, High Island 139, Exploration only has an overriding royalty interest. (2) Exploration has a 12.5 percent working interest below 9,500 feet in West Cameron 290, which is one of the 14 producing blocks. In one of the producing blocks, West Cameron 421, Exploration only has an overriding royalty interest. (3) In one of the producing blocks, East Cameron 33, Exploration only has an overriding royalty interest. Exploration has a 40.73 percent working interest below 10,500 feet in East Cameron 223 and a 31.23 percent working interest below 10,500 feet in East Cameron 231. (4) Exploration is not a lessee of one of the four producing blocks, Mississippi Canyon 150, but this block has been unitized with the three producing lease blocks in the area in which Exploration has working interests. I-4 8 (SONAT EXPLORATION INTERESTS MAP) I-5 9 CONSOLIDATED WELLS AND ACREAGE. The following table sets forth information concerning Exploration's consolidated working interests in oil and gas properties as of December 31, 1997.
TOTAL NUMBER OF PRODUCTIVE WELLS NUMBER OF --------------- DEVELOPED UNDEVELOPED WELLS BEING OIL GAS ACRES ACRES DRILLED ---- ------ --------- ----------- ------------ Gross..................................... 239(1) 2,777(2) 1,232,000 1,906,000 74 Net....................................... 158 1,733 793,000 1,491,000 49
- --------------- (1) Three of these wells are multiple completions. (2) 94 of these wells are multiple completions. CONSOLIDATED EXPLORATORY AND DEVELOPMENT WELLS. The following table sets forth certain consolidated information regarding exploratory and development wells drilled during the years 1995 through 1997.
NET EXPLORATORY NET DEVELOPMENT WELLS WELLS DRILLED DRILLED ------------------ --------------------- 1995 1996 1997 1995 1996 1997 ---- ---- ---- ----- ----- ----- Productive............................................... 0.5 6.4 7.0 187.1 205.7 294.0 Dry...................................................... 0 4.0 3.7 9.4 5.4 18.3
For information concerning Exploration's (i) capitalized costs of oil and gas producing activities, (ii) costs incurred in oil and gas producing activities, (iii) net revenues from oil and gas production, (iv) estimated proved oil and gas reserves, (v) estimated future oil and gas net revenues, and (vi) present value of estimated future net revenues from estimated production of proved oil and gas reserves, see Note 13 of the Notes to Consolidated Financial Statements in Part II of this report. The standardized measures of discounted future net cash flows relating to Exploration's oil (including condensate) and gas reserves are calculated as prescribed by Statement of Financial Accounting Standards No. 69. The standardized measures of Exploration's proved oil and gas reserves presented in Part II of this report do not represent Sonat's estimate of their fair market value and are not otherwise representative of the value thereof, but rather, as stipulated and required by the Financial Accounting Standards Board, are intended solely to assist financial statement users in making comparisons between companies. CONSOLIDATED NET PRODUCTION. Exploration had interests in production from 2,889 producing wells onshore and 127 producing wells offshore as of December 31, 1997. Reference is made to the table in Management's Discussion and Analysis of Financial Condition and Results of Operations in Part II of this report showing the consolidated net production (sales volumes) of oil and condensate, natural gas liquids, and natural gas for 1995 to 1997 and the average sales prices for those years (including transfers). The average production (lifting) costs per unit of oil and gas was $.43 in 1997, $.35 in 1996, and $.38 in 1995. The average production cost is calculated by converting all units of production to the equivalent thousand cubic feet ("Mcf") of gas using the relative energy content method. Exploration sells its crude oil production generally at posted prices, subject to adjustments for gravity and transportation. Exploration sells its natural gas primarily to Sonat Marketing at spot-market prices. Exploration also sells some of its gas under long-term contracts directly to pipelines, distribution companies, and end-users. Exploration sells natural gas liquids at market prices under monthly or long-term contracts. Sales of natural gas by Exploration to affiliates accounted for approximately 73 percent of Exploration's revenues in 1997 and in 1996. During 1993 Sonat Marketing entered into agreements with Exploration pursuant to which Sonat Marketing purchases substantially all of Exploration's natural gas production that is not sold under pre-existing term dedications. The purchase prices for natural gas covered by these agreements is based on representative index prices agreed upon by Exploration and Sonat Marketing as representing the market value of the gas. A portion of Exploration's production is hedged by entering into intercompany swaps with Sonat Marketing to reduce the risks associated with spot-market price volatility. See Note 3 of the Notes to Consolidated Financial Statements contained in Part II of this report. I-6 10 SONAT EXPLORATION GOM INC. On January 30, 1998, Sonat closed the merger of one of its wholly owned subsidiaries with Zilkha, a privately owned oil and gas exploration, development, and production company operating primarily offshore in the shallow waters of the Gulf of Mexico, for $1.3 billion. Following the merger, Zilkha was renamed Sonat GOM, which is a wholly owned subsidiary of Sonat with its principal office in Houston, Texas. Also, following the merger, Sonat GOM became responsible for all of the offshore Gulf of Mexico exploration and development operations of Exploration. See Note 15 of the Notes to Consolidated Financial Statements in Part II of this report for additional details regarding the merger. The results of Zilkha are not included in such Consolidated Financial Statements. All references below to matters prior to January 30, 1998, are to Zilkha, while all references to matters after such date are to Sonat GOM. Sonat GOM holds the industry's largest net leasehold position in the shallow water area (less than 600 feet) of the Gulf of Mexico. At December 31, 1997, Zilkha had an ownership interest in approximately 390 state and federal lease blocks, of which 11 blocks were located in deep water areas and approximately 340 lease blocks (covering approximately 1.4 million net acres) were undeveloped. Zilkha also had a contractual interest (with rights to drill to earn) in approximately 200,000 additional undeveloped acres. Zilkha had licensed or contracted to license 3-D seismic data covering approximately 6,100 lease blocks in both shallow and deep water areas of the Gulf of Mexico. At December 31, 1997, Zilkha's total proved reserves were estimated to be approximately 401,480 billion cubic feet equivalent ("Bcfe"), consisting of 310,802 million cubic feet ("MMcf") of natural gas and 15,113 million barrels ("MMBbls") of crude oil and condensate. Zilkha's total daily production in 1997 averaged 173 MMcf of natural gas and 5.9 thousand barrels ("MBbls") of crude oil and condensate. Zilkha operated 70% of its fields and 86% of its proved reserves at December 31, 1997. Sonat GOM has expanded its reserve base and production principally through exploration and associated development drilling. The Gulf of Mexico is a well-established area of oil and gas production where Sonat GOM's management and staff have both experience and expertise and where the application of advances in 3-D and 2-D seismic and computer-aided exploration technology is particularly well suited. From 1992 through the end of 1997, Zilkha spent approximately $130 million on 3-D seismic and reprocessing. At December 31, 1997, Zilkha had approximately 4,100 lease blocks of 3-D seismic data coverage with contractual commitments to purchase an additional 2,000 lease blocks of coverage within the next three years. With the aid of seismic technology, Zilkha had achieved a 65% success rate with respect to the 86 gross exploratory wells it has completed drilling between January 1, 1992, and December 31, 1997. Sonat GOM's producing properties are all located in the shallow water area of the Gulf of Mexico, with most located in 30 to 150 feet of water. The fields are typically one to three well fields with high flow rates per completion, generally between seven and 25 MMcf per day initial rates per zone. Most of Sonat GOM's production is less than six years old, with operating costs generally under $0.25/Mcfe. Based upon the reserve report, dated February 27, 1998 (the "Reserve Report"), prepared by William M. Cobb & Associates, Inc. ("Cobb"), at December 31, 1997, approximately 260 Bcfe, or 65%, of Zilkha's proved reserves, were attributable to nine properties. A map generally depicting the areas at January 30, 1998, in which Sonat GOM has significant lease interests and in which it has licensed or contracted to license 3-D seismic data appears on page I-8. I-7 11 (SONAT GOM INTERESTS) I-8 12 OIL AND GAS RESERVES. The following table sets forth certain information on the total proved reserves for Zilkha as of December 31, 1997. Information in the following table is based upon the Reserve Report in accordance with the rules and regulations of the Securities and Exchange Commission. For purposes of preparing such estimates, Cobb reviewed production data through November 30, 1997. In order to calculate the proved reserve estimates as of December 31, 1997, Cobb assumed that production for each of Zilkha's properties since the date of the last production data reviewed was in accordance with the production decline curve previously established for such property.
NET PROVED RESERVES -------------------------- GAS OIL TOTAL ------- ------ ------- (MMCF) (MBBL) (BCFE) Producing................................................... 152,282 4,925 181,832 Non-Producing............................................... 51,160 3,510 72,220 Undeveloped................................................. 107,360 6,678 147,428 ------- ------ ------- Total Proved...................................... 310,802 15,113 401,480
Since July 1, 1997, Sonat GOM has not filed any estimates of proved oil and gas reserves with any federal authority or agency. Sonat included such estimates in the Registration Statement under the Securities Act of 1933 on Form S-4 filed with the Securities and Exchange Commission on December 10, 1997, as Registration No. 333-41851. There are no material differences in the reserves reflected in such Registration Statement and the reserves estimated herein, except for differences resulting from actual production, acquisitions, property sales, and necessary reserve revisions and additions to reflect actual experience. There are numerous uncertainties inherent in estimating quantities of proved reserves, including many factors beyond the control of Sonat GOM. The reserve data set forth herein represents only estimates. Reservoir engineering is a subjective process of estimating underground accumulations of crude oil and natural gas that cannot be measured in an exact manner, and the accuracy of any reserve estimate is a function of the quality of available data and of engineering and geological interpretations and judgment. As a result, estimates of different engineers often vary. In addition, results of drilling, testing, and production subsequent to the date of an estimate may justify revision of such estimate. Accordingly, reserve estimates are often different from the quantities of crude oil and natural gas that are ultimately recovered. The meaningfulness of such estimates is highly dependent upon the accuracy of the assumptions upon which they were based. In general, the volume of production from oil and gas properties owned by Sonat GOM declines as reserves are depleted. Except to the extent Sonat GOM conducts successful exploration and development activities or acquires additional properties containing proved reserves, or both, the proved reserves of Sonat GOM will decline as reserves are produced. I-9 13 EXPLORATION AND DEVELOPMENT ACTIVITY. Zilkha drilled, or participated in the drilling of, the following numbers of total offshore wells during the periods indicated.
YEARS ENDED DECEMBER 31, ------------------------------------------ 1997 1996 1995 ------------ ------------ ------------ GROSS NET GROSS NET GROSS NET ----- ---- ----- ---- ----- ---- Exploratory Wells Gas..................................................... 10.0 8.3 12.0 10.1 4.0 3.4 Oil..................................................... 4.0 4.0 6.0 5.3 1.0 0.1 Dry..................................................... 13.0 10.6 2.0 1.7 5.0 4.4 ---- ---- ---- ---- ---- ---- Total........................................... 27.0 22.9 20.0 17.1 10.0 7.9 Development Wells Gas..................................................... 4.0 0.7 1.0 1.0 0.0 0.0 Oil..................................................... 3.0 1.3 4.0 0.7 1.0 1.0 Dry..................................................... 1.0 1.0 0.0 0.0 0.0 0.0 ---- ---- ---- ---- ---- ---- Total........................................... 8.0 3.0 5.0 1.7 1.0 1.0 Total Wells Gas..................................................... 14.0 9.0 13.0 11.1 4.0 3.3 Oil..................................................... 7.0 5.3 10.0 6.0 2.0 1.2 Dry..................................................... 14.0 11.6 2.0 1.7 5.0 4.4 ---- ---- ---- ---- ---- ---- Total........................................... 35.0 25.9 25.0 18.8 11.0 8.9
The information contained in the foregoing table should not be considered indicative of future drilling performance, nor should it be assumed that there is any necessary correlation between the number of productive wells drilled and the amount of oil and gas that may ultimately be recovered from such wells. During 1997 Zilkha completed the drilling of 27 gross (23 net) exploration wells in the shallow water area of the Gulf of Mexico. Of these wells, 14 gross (12 net) were successful in finding commercial quantities of hydrocarbons and have been or will be completed for production. Out of a total of approximately 390 state and federal lease blocks in which Zilkha owned an interest at December 31, 1997, approximately 340 lease blocks (covering approximately 1.4 million acres) are undeveloped. Zilkha had an inventory of more than 70 identified prospects on acreage owned or controlled by Zilkha. Sonat GOM plans to drill approximately 35 to 40 prospects in 1998, four of which are located on farmed in or joint venture acreage with the remainder being on acreage that is owned 100% by Sonat GOM. Substantially all of the drilling Zilkha conducted in 1997 and that Sonat GOM intends to conduct in 1998 is in the shallow water area of the Gulf of Mexico. While Sonat GOM currently intends to complete the drilling of these prospects, the number, type and timing of the prospects drilled are subject to continued revision as a result of many factors, including the number of new prospects identified and secured through exploration and joint ventures with others, the number of prospects identified through ongoing geologic evaluation or seismic reprocessing efforts, rig availability, lease expiration dates, the availability of capital to fund such projects, initial test results, the price of oil and gas, weather, and other general economic conditions. NET PRODUCTION, UNIT PRICES, AND PRODUCTION COSTS. As of December 31, 1997, Zilkha had an ownership interest in 70 gross (44.7 net) productive wells, including 54 gross (37.2 net) productive natural gas wells and 16 gross (7.5 net) productive oil wells. I-10 14 The following table sets forth certain information regarding the net production volumes, average sales prices received, and average production costs associated with Zilkha's sales of oil and natural gas for the periods indicated.
YEARS ENDED DECEMBER 31, --------------------- 1997 1996 1995 ----- ----- ----- Net Production: Gas (Bcf)................................................. 63.1 63.5 55.2 Oil (MMBbls).............................................. 2.2 1.7 2.5 Total (Bcfe)...................................... 76.3 73.5 70.3 Average Sales Price: Gas ($/Mcf)(1)............................................ 2.65 2.64 1.72 Oil ($/Bbl)............................................... 18.86 20.08 17.00 Average Production Cost: ($/Mcfe)(2)............................................... 0.19 0.17 0.18
- --------------- (1) Includes natural gas liquids. (2) Includes direct lifting costs (labor, repairs and maintenance, materials, and supplies) and the administrative costs of production offices, insurance, and property and severance taxes. DEVELOPMENT, EXPLORATION, AND ACQUISITION EXPENDITURES. The following table sets forth certain information regarding the costs incurred by Zilkha in its development, exploration, and acquisition activities during the periods indicated.
YEARS ENDED DECEMBER 31, ------------------------ 1997 1996 1995 ------ ------ ------ Development Costs........................................... $ 71.5 $ 38.8 $ 21.2 Exploration Costs: Lease Acquisitions and Delay Rentals...................... 24.9 41.9 12.4 Seismic Acquisition and Reprocessing...................... 59.6 41.6 19.7 Drilling.................................................. 121.9 80.0 67.6 ------ ------ ------ Total Capital Expenditures........................ $277.9 $202.3 $120.9 ====== ====== ======
ACREAGE. As of December 31, 1997, Zilkha had an interest in approximately 1.6 million gross (1.5 million net) acres, including approximately 153,000 gross (103,000 net) developed acres and approximately 1.45 million gross (1.4 million net) undeveloped acres. Acreage in which Zilkha's interest was limited to royalty, overriding royalty, and similar interests is insignificant and, therefore, excluded. COMPETITION AND CURRENT BUSINESS CONDITIONS The oil and gas business is highly competitive in the search for and acquisition of additional reserves and in the marketing of oil and natural gas. Exploration's competitors include the major and intermediate size oil companies, independent oil and gas concerns, and individual producers or operators. Exploration's realized natural gas prices averaged $2.18 per thousand cubic feet in 1997, down from $2.20 in 1996. Oil and condensate prices were higher in 1997, averaging $20.05 per barrel versus $19.25 per barrel in 1996. Exploration hedged a portion of its 1997 production, which reduced its realized price for natural gas and oil by $.20 per Mcf and $.20 per Bbl, respectively. See Part II of this report in Note 3 of the Notes to Consolidated Financial Statements and in Management's Discussion and Analysis of Financial Condition and Results of Operations following the caption "Hedging Activities" for a discussion of oil and gas production hedged in the future. I-11 15 Exploration plans to spend approximately $538 million in capital expenditures in 1998, which includes allocations of $398 million for development drilling and $136 million for exploration, including leasing and seismic, with the remainder targeted for small producing property acquisitions. Actual expenditures for such activities may vary from these estimates for a number of reasons, including those discussed under the caption Cautionary Statement Concerning Forward-Looking Statements contained below in this Part I of this report. NATURAL GAS TRANSMISSION Sonat owns interests in more than 14,000 miles of natural gas pipelines extending across the southeastern United States from Texas to South Carolina and Florida. The principal business of Sonat's pipelines is the transmission and storage of natural gas in interstate commerce. Sonat's interstate pipeline businesses are subject to regulation by the FERC and the U.S. Department of Transportation under the terms of the Natural Gas Policy Act of 1978 ("NGPA"), the Natural Gas Act ("NGA"), and various pipeline safety and environmental laws. See "Governmental Regulation -- Natural Gas Transmission" below for information concerning the regulation of natural gas transmission operations. SOUTHERN NATURAL GAS COMPANY Sonat's principal operating company in the pipeline group is Southern, a wholly owned subsidiary of Sonat, which owns approximately 7,500 miles of interstate pipeline. Southern's interstate pipeline system extends from gas fields in Texas, Louisiana, Mississippi, Alabama, and the Gulf of Mexico to markets in Louisiana, Mississippi, Alabama, Florida, Georgia, South Carolina, and Tennessee. Southern is the principal pipeline supplier to the growing Southeastern markets of Alabama and Georgia. Southern's interstate pipeline system has a firm daily delivery capacity of approximately 2.5 Bcf of natural gas. A map of Southern's pipeline system, including pipelines of its subsidiaries and joint ventures, as well as of the pipeline system of Florida Gas, appears on page I-19. FLORIDA GAS TRANSMISSION COMPANY Sonat owns one-half of the stock of Citrus, which owns all of the stock of Florida Gas. Florida Gas is the primary pipeline transporter of natural gas in the State of Florida and the sole pipeline transporter to peninsular Florida. Florida Gas is operated by a subsidiary of Enron Corp., an unaffiliated company, which owns the other 50 percent of Citrus. Florida Gas owns approximately 4,800 miles of interstate natural gas pipelines that extend from south Texas to a point near Miami, Florida. Its system has a firm daily delivery capacity of approximately 1.5 Bcf of natural gas. See the map on page I-19. For additional information regarding Citrus, see Management's Discussion and Analysis of Financial Condition and Results of Operations contained in Part II of this report, and the Consolidated Financial Statements of Citrus contained in Part IV of this report. SEA ROBIN PIPELINE COMPANY Sea Robin Pipeline Company ("Sea Robin"), a wholly owned subsidiary of Southern, owns an approximately 430-mile interstate natural gas pipeline system located in the Gulf of Mexico. Sea Robin gathers natural gas and condensate for others and delivers those products to shore for condensate removal and gas processing and redelivery to one independent storage company and five downstream transmission pipelines, including Southern. Sea Robin's pipeline system includes 66 miles of large diameter, 36-inch pipeline. See the system map on page I-19. Sea Robin transported approximately 278 Bcf of natural gas in 1997 compared to 243 Bcf in 1996. These Sea Robin volumes are included within the Southern transportation volumes discussed below. SOUTH GEORGIA NATURAL GAS COMPANY South Georgia Natural Gas Company ("South Georgia"), a wholly owned subsidiary of Southern, owns an approximately 910-mile interstate natural gas transmission system located in eastern Alabama, southern I-12 16 Georgia, and the Florida Panhandle. See the system map on page I-19. South Georgia transported approximately 38 Bcf of natural gas in 1997 compared to 37 Bcf in 1996. These South Georgia volumes are included within the Southern transportation volumes discussed below. DESTIN PIPELINE COMPANY, L.L.C. In April 1997 units of Shell Oil Company ("Shell") and Amoco Corporation ("Amoco") joined with Southern in the ownership of Destin Pipeline Company, L.L.C. ("Destin"), which is building a 212-mile interstate pipeline system designed to transport natural gas from the growing eastern Gulf of Mexico production area. Destin's pipeline system will extend from Main Pass Block 260 in the Gulf of Mexico northward into Mississippi, where it will connect with five other interstate pipelines, including Southern and Florida Gas. See the system map on page I-19. The pipeline will have a firm daily delivery capacity of 1.0 Bcf and initial construction costs are estimated to be $313 million. Each of the participants has a one-third interest in this company. Southern is responsible for construction of 132 miles of onshore pipeline and related facilities while a unit of Shell is responsible for construction of the offshore portion of the pipeline. Southern will be the operator of the system. Construction of the pipeline began in December 1997 and it is expected to be partially completed and in service by July 1998 and fully in service by January 1999. Destin's FERC Gas Tariff includes a flexible firm transportation service, which provides for levels of firm transportation capacity that may vary quarterly, with the transportation provided at a volumetric rate provided certain minimum throughput levels are maintained. Under the flexible firm service, Destin's transportation revenue will fluctuate based on the levels of gas production from its shippers. To be eligible for Destin's flexible firm service, a shipper must make a life-of-reserves commitment of production from offshore leases with estimated proven recoverable reserves of 100 Bcf or more. Shell and Amoco have made substantial firm transportation commitments to this pipeline. Three other shippers have also dedicated their production from certain leases in the Eastern Gulf of Mexico to Destin for transportation under Destin's flexible firm rate schedule. Discussions are under way with other prospective shippers. ETOWAH LNG COMPANY, L.L.C. In December 1997 an affiliate of AGL Resources and Southern formed a new entity, Etowah LNG Company, L.L.C. ("Etowah"), to jointly construct, own, and operate a new liquefied natural gas peaking facility in Polk County, Georgia. Under the agreement, AGL Resources and Southern each will own 50 percent of Etowah, which will be regulated by the FERC. The proposed plant will connect directly into AGL Resources' principal natural gas distribution subsidiary, Atlanta Gas Light Company ("AGLC"), and Southern's pipeline. Etowah will provide natural gas storage and peaking services to AGLC and other Southeastern customers. Peaking services provide supplemental gas supplies on days when demand is highest, typically during the winter. The new facility will cost approximately $90 million and is expected to have 300 MMcf per day of vaporization capacity. Affiliates of AGL Resources will manage the construction of the facility and operate it. Southern will provide administrative services. Etowah expects AGLC to subscribe for 200 MMcf per day of vaporization capacity, which represents two-thirds of its available capacity, for a term of 20 years. Etowah expects to file a certificate application with FERC in March 1998. Subject to receiving timely FERC approval, construction will begin in early 1999 in order to provide peaking services during the 2001-02 winter heating season. MARKETS -- TRANSPORTATION Sonat's pipelines provide natural gas transportation services for their distribution customers, direct industrial customers and other end-users, gas producers, other gas pipelines, and gas marketing and trading companies. Southern provides transportation service in both its gas supply and market areas. The principal industries served directly by Sonat's pipeline systems and indirectly through their customers' distribution systems include the electric generation, chemical, pulp and paper, textile, primary metals, stone, clay, and glass industries. I-13 17 Transportation volumes in 1997 for Southern and all of its subsidiaries were 1,007 Bcf, compared with transportation volumes in 1996 of 983 Bcf. Sales to distribution customers, including municipalities and gas districts, accounted for most of 1997 sales of 65 Bcf and 1996 sales of 69 Bcf. In each of 1997 and 1996, the volumes associated with the 1997 and 1996 sales are not accounted for as sales volumes, but rather are included in transportation volumes because all sales are made at the receipt points where the gas enters Southern's pipeline system. In 1997 Florida Gas transported 471 Bcf of natural gas, compared to 457 Bcf in 1996. Sonat's pipelines provide transportation service under rate schedules that are subject to FERC regulatory authority. Rates for transportation service depend on whether service is on a firm or interruptible basis and the location of the service on Southern's pipeline system. Firm service is transportation service for which the shipper pays a fixed monthly fee to reserve capacity in the pipeline system (the "Reservation Fee"). The shipper may not use this capacity it has reserved at all times, but the firm transportation customers of Southern and Florida Gas (with the exception of certain small customers) must pay the monthly Reservation Fee regardless of the volumes shipped. Shippers are able to resell their unused firm capacity pursuant to FERC rules and regulations. Interruptible service is only available when pipeline capacity is available and may be interrupted by the pipeline as needed when use of the pipeline is at its greatest, typically during winter periods. For most pipelines, including Southern and Florida Gas, FERC requires a rate design, known as straight-fixed-variable ("SFV"), that is designed to allow pipelines to recover substantially all of their fixed costs, a return on their equity investment in facilities, and income taxes in the Reservation Fee. Pipelines charge transportation rates for interruptible service for actual volumes transported. Rates for transportation service are discounted by Southern and Florida Gas in individual instances to respond to competition in the markets they serve. Southern's and Florida Gas' contracts to provide firm transportation service for their customers are for varying amounts and periods of time. The following chart describes the amount of firm transportation service expiring each year under the various firm transportation agreements of Southern and Florida Gas with their firm transportation customers. EXPIRATION SCHEDULE OF FIRM TRANSPORTATION CONTRACTS (MCF/DAY)
YEAR SOUTHERN FLORIDA GAS - ---- --------- ----------- 1998........................................................ 176,653 10,210 1999........................................................ 107,857 6,593 2000........................................................ 125,407 404,643 2001........................................................ 21,694 9,625 2002........................................................ 724,125 -0- 2003........................................................ 278,341 5,020 2004........................................................ 43,254 6,854 2005........................................................ 147,787 404,642 2006........................................................ 45,108 5,083 2007........................................................ 306,433 29,009 2008........................................................ 350,609 -0- Beyond 2008................................................. 35,140 516,931 --------- --------- Total............................................. 2,362,408 1,398,610
Substantially all of the firm transportation capacity currently available in Southern's two largest market areas is fully subscribed. Nearly all of Southern's firm transportation contracts contain evergreen provisions that automatically extend the term for additional months or years unless notice of termination is given by one of the parties. There can be no assurance that the existing customers of Southern or Florida Gas will extend their firm service agreements at the same levels when their current service agreements expire. I-14 18 Transportation and sales by Southern, combined with sales by Sonat Marketing, to one distribution customer, AGLC and its subsidiary, Chattanooga Gas Company ("Chattanooga"), accounted for approximately four percent of Sonat's 1997 consolidated revenues. Transportation and sales by Southern to AGLC and Chattanooga accounted for approximately 33 percent of Southern's 1997 consolidated revenues. Transportation and sales by Southern, combined with sales by Sonat Marketing, to another distribution customer, Alabama Gas Corporation ("Alabama Gas"), accounted for approximately three percent of Sonat's 1997 consolidated revenues. Transportation and sales by Southern to Alabama Gas accounted for approximately 12 percent of Southern's 1997 consolidated revenues. No other customer accounted for as much as ten percent of Southern's consolidated revenues for 1997. Sonat's pipelines hold easements acquired through either purchase or condemnation for all of their pipeline rights-of-way. Such easements remain valid until the pipeline traversing it is abandoned. Each company has the power of eminent domain if needed in connection with acquiring additional rights-of-way for expansion projects. Sonat's pipeline businesses are subject to operating risks associated with the transmission of natural gas through a pipeline system, which could result in property damage and personal injury. Sonat has a comprehensive safety program to address these risks. Southern has consistently ranked at or near the top of its industry peer group in safety performance. Sonat maintains broad insurance coverage on behalf of Southern and its other subsidiaries insuring against financial loss resulting from these operating risks. For additional information regarding Southern's transportation of gas, see Management's Discussion and Analysis of Financial Condition and Results of Operations contained in Part II of this report. MARKETS -- SYSTEM EXPANSIONS Southern continually seeks to expand its pipeline system (i) to reach new markets, (ii) to increase delivery capacity to existing markets to serve the increasing gas demands in its market area, and (iii) to connect new gas supplies, principally in the Gulf of Mexico, to deliver gas not only into Southern's system but also into the interstate pipeline grid. Demand for natural gas in the six Southeastern states that comprise Southern's principal market area, Alabama, Florida, Georgia, Mississippi, South Carolina, and Tennessee, has grown at an annual average rate of 4.0 percent in the last ten years, compared to the national annual average growth rate for gas demand of 3.1 percent during such period. Natural gas demand in peninsular Florida, the principal market served by Florida Gas, has grown even faster, at an annual rate of 5.6 percent in the last ten years. In November 1997 Southern completed a $36 million market-area expansion that added 46 MMcf per day of firm capacity to its pipeline system, most of which is for industrial customers in Georgia. Southern has also entered into agreements for expansions of its system to serve markets in eastern Tennessee and northern Alabama. These two expansions have a total filed capital cost of $119 million. The East Tennessee expansion is anticipated to go in service in November 1998, subject to FERC approval of an application that Southern filed in May 1997, and will provide capacity of 65 MMcf of natural gas per day to customers in eastern Tennessee, Georgia, and Alabama. The North Alabama expansion, which received FERC approval in May 1997, is now anticipated to go in service in the fall of 1999, subject to FERC approval of an application that Southern filed in February 1998 to change the route of the pipeline as it crosses the Wheeler National Wildlife Refuge. The 122-mile expansion will provide 76 MMcf per day of capacity to the participating customers. In addition to the general growth in gas demand throughout the Southeast, the use of natural gas to generate electric power represents a significant growth prospect in the market areas of Southern and Florida Gas. Since 1994 electric utilities served by Southern have added 23 gas-fired combustion turbine generation units with generating capacity of 1,980 megawatts. These units, which have consumed in excess of 200 MMcf of natural gas on a peak day, are used primarily to meet the utilities' peak generation loads in the summer and winter months. I-15 19 In March 1998 Southern received FERC approval for a $7 million expansion of its pipeline system that will add 34 MMcf per day of firm capacity. The largest customer for the project is Alabama Power Company, which will utilize its capacity to serve the energy requirements of a 100 megawatt base load gas-fired electric generation facility near Selma, Alabama. This expansion is expected to be in service by November 1998. In February 1998 Florida Gas received FERC approval to install pipeline facilities to add approximately seven MMBtu per day of firm capacity to serve Florida Power Corporation's Anchlote Plant in Pasco County, Florida, that is converting from oil-fired units to combined oil- and gas-fired units. The conversion is scheduled to be completed in the fall of 1998 and will result in a gas-use capability of up to 100,000 MMBtu per day. Also scheduled to commence service the fall of 1998 is Florida Power Corporation's Hines Energy Complex located in Polk County, Florida. This 470-megawatt combined cycle unit will have a gas use capability of approximately 65,000 MMBtu per day when fully operational. Due to the growing energy demand in the State of Florida, coupled with the need for additional electric generation facilities, Florida Gas is currently evaluating the need for a pipeline expansion that would go in-service in the year 2000-2001 time frame. Another growth area for Sonat's pipeline business is in expanding production area pipeline capacity to receive and transport increased levels of gas production from the Gulf of Mexico, particularly in deeper waters. In March 1997 Southern placed in service a $14 million expansion project that allows producers to transport, under 10-year contracts, 140 MMcf per day of natural gas from offshore Louisiana to interconnections between Southern and other pipelines in south Louisiana. In addition, as described above, construction of the Destin pipeline system is underway with first deliveries expected in July 1998. Destin, which connects with five interstate pipelines in Mississippi, including Southern and Florida Gas, will enable producers to deliver gas from the eastern deepwater Gulf of Mexico to interstate markets. In February 1998 Destin filed for FERC approval to extend its pipeline system approximately 14 miles to transport additional gas reserves that are committed to Destin's system. This extension, which will cost approximately $19 million, is expected to be in service in late 1998, subject to FERC approval. Under FERC regulations, a pipeline is permitted to charge rates that are designed to recover fully its cost of providing service to the pipeline's customers, including a reasonable rate of return on its equity investment in the facilities it uses to provide its service, which is referred to as the rate base of the pipeline. The cumulative effect of capital investment required to serve the existing and pending projects in the three growth segments of Sonat's pipeline business described above -- market area, electric generation, and production area demand -- together with capital investment for necessary pipeline repair and replacements, has resulted in the growth in rate base for Sonat's pipeline businesses as shown in the table below. RATE BASE (IN MILLIONS OF DOLLARS)
SOUTHERN AND FLORIDA YEAR SUBSIDIARIES(1) GAS(2) - ---- --------------- ------- 1994........................................................ 735 239 1995........................................................ 735 1,250 1996........................................................ 768 1,236 1997........................................................ 843 1,218 1998 (Estimated)............................................ 1,056 1,212 1999 (Estimated)............................................ 1,225 1,190
- --------------- (1) Includes portionate shares of the rate bases of Destin, Etowah, and other joint ventures attributable to Southern's ownership interests. (2) 100 percent of the rate base of Florida Gas, which is 50-percent owned by Sonat. The amounts estimated for 1998 and 1999 in the foregoing table include (i) currently planned capital expenditures for those years for maintenance, repair, and replacement of the pipeline system, (ii) projects that have received FERC approval and are currently under construction, and (iii) projects that have been agreed to but for which FERC approval has not yet been obtained. No assurance can be given that such projects, which are subject to protest by customers, the staff of the FERC, and other interested parties, such as environmental I-16 20 groups, will be approved by the FERC or, if approved, that such construction will not be delayed for environmental, weather, or other reasons. A pipeline cannot reflect a change in its rate base in its rates until it files a new rate case and a pipeline's rate of return is subject to change every time it files a new rate case. Consequently, there can also be no assurance that the rate of return a pipeline is permitted by the FERC to earn on its rate base in the future will be equal to the returns effectively earned in the past. Thus, the changes in rate base projected above do not necessarily equate to an expected change in earnings. GAS SALES AND SUPPLIES As a result of its restructuring pursuant to FERC directive, Southern terminated or renegotiated to market pricing substantially all of its gas supply contracts through which it had historically obtained its long-term gas supply. During 1997 two of Southern's existing long-term gas supply contracts expired, reducing the number remaining from seven to five. Pending the termination or expiration of the few remaining supply contracts, Southern's remaining gas supply is being sold on a month-to-month basis. Except for such sales, Southern's participation in gas supply activities will be limited to the purchase and sale of volumes of gas from time to time as may be required for system management purposes. RATE AND REGULATORY PROCEEDINGS Periodically, Southern and its subsidiaries and Florida Gas make general rate filings with the FERC to provide for the recovery of cost of service and a return on equity. The FERC normally allows the filed rates to become effective, subject to refund, until it rules on the approved level of rates. Southern and its subsidiaries and Florida Gas provide reserves relating to such amounts collected subject to refund, as appropriate, and make refunds upon establishment of the final rates. At December 31, 1997, Southern's currently effective rates are established by a settlement that was approved by a FERC order issued in 1995, which order is now final and nonappealable. All of Southern's customers are parties to the settlement. Under the terms of the settlement, Southern is required to file a new rate case no later than September 1, 1999, to become effective by March 1, 2000. The currently effective rates of Florida Gas were established by an uncontested settlement that was approved by the FERC in September 1997. The settlement provides that, except in certain limited circumstances, Florida Gas will not file a general rate case to be effective prior to October 1, 2000, but it must file a new rate case no later than October 1, 2001. STORAGE FIELDS Southern owns and operates Muldon Storage Field ("Muldon"), a large underground natural gas storage field in Mississippi connected to its pipeline system. The certificated working storage capacity of Muldon is 31 Bcf of gas. Southern and Tennessee Gas Pipeline Company ("Tennessee"), a subsidiary of El Paso Energy Corporation, an unaffiliated company, each owns 50-percent of the Bear Creek Storage Field ("Bear Creek"), an underground natural gas storage field located in Louisiana. Southern operates Bear Creek, which provides storage service to Southern, Tennessee, and their customers. Bear Creek has a total certificated working storage capacity of 65 Bcf of gas, half of which is committed to Southern. COMPETITION AND CURRENT BUSINESS CONDITIONS The natural gas transmission industry, although regulated, is very competitive. Customers purchase gas supply from producers and gas marketing companies in unregulated transactions and contract with Southern for transportation and storage services to deliver such gas supply to their markets. Southern's three largest customers are each able to obtain a significant portion of their natural gas requirements through transportation by other pipelines. In addition, Southern competes with several pipelines for the transportation and storage business of many of its other customers. The competition with such pipelines is intense, and Southern and Florida Gas must at times discount their transportation rates in order to maintain market share and revenues. I-17 21 Natural gas is sold in competition principally with fuel oil, coal, liquefied petroleum gases, electricity, and heavy crude oil. An important consideration in Southern and Florida Gas' markets is the ability of natural gas to compete with alternate fuels, which are fuels to which a potential end user of gas may switch depending on the price of the fuel and other factors. Residual fuel oil, the principal competitive alternate fuel in Southern and Florida Gas' market area, has been at certain times in the past, and may be at times in the future, priced at or below the comparable price of natural gas in industrial and electric generation markets. Some parts of Southern's market area are also served by one or more other pipeline systems that can provide transportation as well as sales service in competition with Southern. As described above, for most pipelines FERC requires the SFV rate design that is designed to permit pipelines to recover substantially all of their fixed costs, a return on equity, and income taxes in the capacity reservation component of their rates. The firm transportation customers of Southern and Florida Gas (with the exception of certain small customers) must pay these reservation charges regardless of the volumes shipped. Accordingly, the SFV rate design should result in relative stability in the revenues, earnings, and cash flows of interstate pipelines, including Southern and Florida Gas, compared to other rate design methodologies. This is particularly true at Florida Gas, which faces intense competition in the Florida market from residual fuel oil that affects the volumes of gas it transports. There can be no assurance, however, that the existing customers of Southern or Florida Gas will extend their firm service agreements at the same levels when their current service agreements expire. As described above, Destin's rates are designed to recover all of its fixed and variable costs, including a return on equity and income taxes, through a volumetric rate design. In order to receive firm service at a volumetric rate, Destin's customers must commit to Destin all of their gas production from certain specified areas. Sea Robin's customers principally subscribe for interruptible service, so its revenues are highly dependent on the volumes of gas it transports. I-18 22 (SONAT PIPELINE SYSTEMS MAP) I-19 23 ENERGY SERVICES SONAT ENERGY SERVICES COMPANY Sonat Energy Services, which is a wholly owned subsidiary of Sonat, acts as a holding company for Sonat's companies engaged in natural gas and electric power marketing, power generation, and intrastate natural gas transmission. SONAT MARKETING COMPANY L.P. Sonat Marketing is one of the ten largest natural gas marketers in the United States. Its principal offices are in Birmingham, Alabama and Houston, Texas. It also has regional offices in Tyler, Texas, Oklahoma City, Oklahoma, Boston, Massachusetts, and Atlanta, Georgia. It purchases natural gas from gas producers, interstate pipelines, and other marketing companies and resells the gas to industrial and commercial users, gas distribution companies, gas pipelines, and other marketing companies throughout much of the United States, principally the area east of the Rocky Mountains. Sonat Marketing also offers a variety of risk-management, transportation, and storage services to its customers. Sonat Marketing continued to expand its natural gas marketing business in 1997, when it sold 1,288 Bcf of natural gas compared to sales of 968 Bcf in 1996. Its daily natural gas sales volumes were 4.2 Bcf per day at the end of 1997 compared to 3.3 Bcf per day at the end of 1996. A map showing Sonat Marketing's areas of operations appears on page I-22. Sonat Marketing purchases at index-based prices all of the natural gas production of Exploration that is not sold under pre-existing term dedications. Sonat Marketing remarkets this gas as part of its marketing operations. Sonat Marketing uses derivative financial instruments to manage the risks associated with its own purchase and sale activities and the price volatility associated with Exploration's natural gas and oil production. See Part II of this report in Notes 1 and 3 of the Notes to Consolidated Financial Statements and in Management's Discussion and Analysis of Financial Condition and Results of Operations under the caption "Market Risk" for additional information regarding its derivatives activities. SONAT PUBLIC SERVICE COMPANY L.L.C. Sonat Public Service Company L.L.C. ("Sonat Public Service") was formed in December 1996 as a joint venture of Sonat Marketing and PSNC Production Corporation, a wholly owned subsidiary of Public Service Company of North Carolina, Inc., an unaffiliated company. Sonat Public Service, which is headquartered in Charlotte, North Carolina, markets natural gas and related services to small industrial and large commercial customers throughout the Mid-Atlantic region, including the District of Columbia and the states of North Carolina, South Carolina, Maryland, and Virginia. In addition, Sonat Public Service provides gas supply management services to Public Service Company of North Carolina as well as municipalities in the Mid-Atlantic region. Sonat Public Service sold 17 Bcf of natural gas in 1997. UNICOM GAS SERVICES LLC. Unicom Gas Services LLC ("Unicom Gas Services") was formed in August 1997 as a joint venture of Sonat Marketing and Unicom Energy Services Inc., a wholly owned subsidiary of Unicom Corporation, an unaffiliated company. Unicom Gas Services, which is headquartered in Chicago, Illinois, markets natural gas and related services to industrial and commercial customers in the Midwest region. Unicom Gas Services sold 208 MMcf of natural gas in 1997. SONAT POWER MARKETING L.P. Power Marketing, which is headquartered in Birmingham, Alabama, markets electric power throughout the area of the United States east of the Rocky Mountains. Significant changes are under way in the electric industry that create new opportunities for marketing companies. The FERC has initiated, and more than half of the states are considering, regulatory changes to promote competition and give purchasers of electricity choices other than their traditional utilities, similar to the unbundling that occurred in natural gas. Power Marketing was created to take advantage of these opportunities through the expected growth of wholesale power marketing. A map showing Power Marketing's areas of operations appears on page I-22. Power Marketing continued to grow rapidly during 1997. It increased its staff by fifty percent and its sales volumes almost tripled from 3.0 million megawatt hours in 1996 to 8.8 million megawatt hours in 1997. Its average trading volume increased from approximately 530 megawatts per hour at the end of 1996 to I-20 24 approximately 1,280 megawatts per hour at the end of 1997. Despite its rapid growth, however, Power Marketing is not yet profitable in the extremely competitive power marketing business. Like Sonat Marketing, Power Marketing also utilizes derivative instruments in managing commodity price risk. See Part II of this report in Notes 1 and 3 of the Notes to Consolidated Financial Statements and in Management's Discussion and Analysis of Financial Condition and Results of Operations under the caption "Market Risk" for additional information regarding its derivatives activities. SONAT POWER INC. Sonat Power Inc. ("Sonat Power") is a wholly owned subsidiary of Sonat Energy Services. In February 1998 Sonat Mid-Georgia L.L.C. ("Sonat Mid-Georgia"), a wholly owned subsidiary of Sonat Power, acquired a fifty-percent limited partnership interest in Mid-Georgia Cogen L.P., which owns and will operate an approximate 300 megawatt electric power plant in Georgia. The remaining fifty percent is owned by NCP Perry Incorporated, as a limited partner, and NCP Houston Power Incorporated, as both a limited and a general partner, both of which are wholly owned subsidiaries of GPU, Inc., an unaffiliated company. Sonat Mid-Georgia paid $11.5 million in cash for its interest and will make an equity contribution of $16 million when the plant goes into commercial operation, which is scheduled to occur in the second quarter of 1998. This project is supported by a long-term power sales agreement as well as a long-term fuel purchase agreement. Sonat Power is also the joint owner, with The AES Corporation, an unaffiliated company, of a project to construct a natural gas-fueled power plant near San Francisco, California. Because of regulatory and other developments, the current outlook for and timing of this project are uncertain. SONAT INTRASTATE-ALABAMA INC. Sonat Intrastate-Alabama Inc. ("SIA"), a wholly owned subsidiary of Energy Services, owns an approximately 450-mile intrastate pipeline system extending from natural gas fields and coal seam gas production areas in the Black Warrior Basin in northwest and central Alabama to connections with customers in Alabama, as well as interconnections with three other pipelines, including Southern. SIA's throughput in 1997 was approximately 42 Bcf compared to 38 Bcf in 1996. SONAT POWER SYSTEMS INC. Sonat Power Systems Inc. ("Sonat Power Systems"), a wholly owned subsidiary of Sonat, formed a strategic alliance in 1997 with AlliedSignal Power Systems Inc., a wholly owned subsidiary of AlliedSignal Inc., an unaffiliated company, to market and support AlliedSignal's TurboGenerator(TM) products. The TurboGenerator(TM) unit is a small, self-contained 75-kilowatt power source fueled by natural gas. The size is ideal for smaller commercial establishments, but these units can also be used together to meet the power needs for larger applications. Through this alliance, Sonat Power Systems is the exclusive distributor of the TurboGenerator(TM) unit in 13 Southern states from Texas to Virginia, plus the District of Columbia. COMPETITION AND CURRENT BUSINESS CONDITIONS Competition in the gas marketing and power marketing businesses is intense and is expected to remain so due to the large number of industry participants, although there is a trend toward consolidation in the gas marketing industry. Sonat Marketing's operating income increased slightly in 1997 compared to 1996. Although margins remained under pressure, increased origination activity in the fourth quarter of 1997 resulted in increases in mark-to-market income and helped to offset a decrease in unit margins. Both Sonat Marketing and Power Marketing expect margins to remain under intense pressure in 1998. I-21 25 (SONAT ENERGY SERVICES AREAS OF OPERATIONS MAP) I-22 26 GOVERNMENTAL REGULATION EXPLORATION AND PRODUCTION The federal government and the states in which Exploration and Sonat GOM have oil and gas production and own interests in producing properties regulate various matters affecting Exploration's and Sonat GOM's oil and gas production, including the drilling and spacing of wells, conservation, forced pooling, and protection of correlative rights among interest owners. The operations of Exploration and Sonat GOM under federal oil and gas leases are subject to certain statutes and regulations of the U.S. Department of the Interior that currently impose liability upon lessees for the cost of clean-up of pollution resulting from their operations. Royalty obligations on all federal leases are regulated by the MMS, which has promulgated valuation guidelines for the payment of royalty by producers. To the extent the MMS finally determines valuation based on a method other than actual sales proceeds received, producers could be required to pay royalties at a rate higher than actual sales proceeds. Other federal, state, and local laws and regulations relating to the protection of the environment may affect Exploration's and Sonat GOM's oil and gas operations, both directly and indirectly, through their effect on the construction and operation of facilities, drilling operations, production, or the delay or prevention of future offshore lease sales. Sonat maintains substantial insurance on behalf of Exploration and Sonat GOM for oil pollution liability. Exploration and Sonat GOM are also subject to various governmental safety regulations in the jurisdictions in which they operate. NATURAL GAS TRANSMISSION Southern, its interstate transmission subsidiaries, and Florida Gas are subject to regulation by the FERC under the NGA and the NGPA. The NGA grants to the FERC authority to regulate the construction and operation of pipeline and related facilities utilized in the transportation and sale of natural gas in interstate commerce, including the extension, enlargement, or abandonment of such facilities. Southern, its interstate transmission subsidiaries, and Florida Gas hold required certificates of public convenience and necessity issued by the FERC authorizing them to construct and operate all pipelines, facilities, and properties now in operation for which certificates are required, and to transport and sell natural gas in interstate commerce. The FERC also has authority to regulate the transportation of natural gas in interstate commerce and the sale of natural gas in interstate commerce for resale. Although the FERC retains jurisdiction over their resale rates Southern, Florida Gas, and other interstate pipeline companies are permitted to charge market-based rates for gas sold in interstate commerce for resale. Transportation rates of interstate pipeline companies remain regulated. The maximum transportation rates for gas delivered by SIA into interstate commerce are also regulated by the FERC. As necessary, Southern, its interstate transmission subsidiaries, Florida Gas, and SIA file with the FERC applications for changes in their transportation rates and charges designed to allow them to recover fully their costs of providing such service to their customers, including a reasonable rate of return on their investment in facilities. These rates are normally allowed to become effective, subject to refund, until such time as the FERC rules on the actual level of rates. See "Rate and Regulatory Proceedings" above. In January 1995 Sea Robin filed with the FERC a petition for a declaratory order that its pipeline system is engaged in the gathering of natural gas and is, therefore, exempt from FERC regulation under the NGA. In June 1995 the FERC denied Sea Robin's petition on the basis that the primary function of the Sea Robin system is the interstate transportation of gas. Sea Robin's request for rehearing of that ruling was denied by the FERC in June 1996. Sea Robin subsequently appealed those FERC orders to the Fifth Circuit Court of Appeals. In October 1997 the Fifth Circuit vacated and remanded the FERC's decision to deny Sea Robin's petition and found that the FERC did not give adequate consideration to the physical and operational characteristics of Sea Robin in applying the primary function test. I-23 27 Southern, its natural gas transmission subsidiaries, Florida Gas, and SIA are subject to the Natural Gas Pipeline Safety Act of 1968, as amended, which regulates pipeline and LNG plant safety requirements, and to the National Environmental Policy Act and other environmental legislation. Each of them has a continuing program of inspection designed to keep all of their facilities in compliance with pollution control and pipeline safety requirements and believe that they are in substantial compliance with applicable requirements. Southern's capital expenditures to comply with environmental and pipeline safety regulations were approximately $3 million in 1997 and $8 million in 1996. Southern anticipates that such expenditures will be approximately $3 million in 1998. ENERGY SERVICES Gas sold by Sonat Marketing and other marketing companies is not regulated by the FERC. Power Marketing is subject to the regulatory jurisdiction of the FERC under the Federal Power Act with respect to rates, terms and conditions of service, and certain reporting requirements, including Power Marketing's sales in the wholesale power market. Power Marketing sells wholesale power under its market-based rate schedule, which has been approved by and is on file with the FERC. ENVIRONMENTAL MATTERS Various environmental matters relating to, or that could affect, Sonat or one or more of its subsidiaries are described in Part II of this report in Management's Discussion and Analysis of Financial Condition and Results of Operations under the caption "Environmental Issues," which is incorporated herein by reference. YEAR 2000 PROJECT The year 2000 issues as they relate to Sonat are discussed in Part II of this report in Management's Discussion and Analysis of Financial Condition and Results of Operations under the caption "Year 2000 Project," which is incorporated herein by reference. CAUTIONARY STATEMENT CONCERNING FORWARD-LOOKING STATEMENTS This report, including the information incorporated by reference herein, contains forward-looking statements regarding the Company's business plans and prospects, objectives, future drilling plans, expansion projects, proposed capital expenditures, and expected performance or results. These forward-looking statements are based on assumptions that the Company believes are reasonable, but are subject to a wide range of risks and uncertainties and, as a result, actual results may differ materially from those expressed in such forward-looking statements. Important factors that could cause actual results to differ include changes in oil and gas prices and underlying demand, which would affect profitability and might cause the Company to alter its plans; the timing and success of the Company's exploration and development drilling programs, which would affect production levels and reserves; the results of the Company's hedging activities; risks incident to the drilling and operation of oil and gas wells; future drilling, production and development costs and the success of the Company's internal cost reduction activities; and the requirements to receive various governmental approvals to proceed with expansion projects at Southern, Destin, and Etowah. Realization of the Company's objectives and expected performance can also be adversely affected by the actions of customers and competitors, changes in governmental regulation of the Company's businesses, and changes in general economic conditions and the state of domestic capital markets. ITEM 2. PROPERTIES A description of Sonat's and its subsidiaries' principal properties is included under Item 1. Business above and is hereby incorporated by reference herein. I-24 28 ITEM 3. LEGAL PROCEEDINGS For information regarding various environmental matters relating to, or that could affect, Sonat or one or more of its subsidiaries, see Management's Discussion and Analysis of Financial Condition and Results of Operations in Part II of this report under the caption "Environmental Issues." Arcadian Corporation v. Southern Natural Gas Company and Atlanta Gas Light Company was filed in January 1992 in the U.S. District Court for the Southern District of Georgia. This lawsuit was filed against Southern and AGLC for alleged violation of the antitrust laws in connection with Southern's refusal to provide direct service to the plaintiff, Arcadian Corporation ("Arcadian"). Arcadian claims actual damages of at least $15 million, which could be trebled under the antitrust laws. Southern and Arcadian executed an agreement settling this lawsuit in November 1993. The settlement provides that the lawsuit will be dismissed with prejudice upon final, nonappealable approval by the FERC of the direct connection and transportation service requested by Arcadian. Pending such approval the lawsuit has been stayed. In May 1994 the FERC issued an order granting such approval. AGLC and others sought rehearing of this order. AGLC also filed a petition for review of such order in the 11th Circuit Court of Appeals. The FERC denied the requests for rehearing in an order issued in November 1996 and AGLC and another customer have also filed petitions for review of that order in the 11th Circuit Court of Appeals. While management believes it has meritorious defenses and intends to defend the suit vigorously if the stay were to be lifted, given the inherently unpredictable nature of litigation and the relatively preliminary state of discovery in the case, management is unable to predict the ultimate outcome of the proceeding if it were to go forward. Management is not in a position to determine what, if any, damages would be awarded against it if Arcadian were to prevail on one or more of its claims. Aline Moye v. Exxon Corporation, et al. is a class action lawsuit filed in state court in Monroe County, Alabama in January 1998 on behalf of royalty owners in the Big Escambia Creek Gas Field ("Field") in Alabama, against Exxon Corporation, a gas producer in the Field, Southern, which purchased or transported gas from the Field, and five other named defendants, alleging that the methods used by the defendants to measure the heating content and volume of natural gas produced from the Field have caused the producer(s) of this gas to underpay royalties owed to the royalty owners. The complaint seeks recovery of actual damages based upon the allegedly unpaid royalties as well as punitive damages, the amount of which are not specified in the complaint. Although it cannot predict the outcome, Southern believes that the methods of measurement were appropriate and intends to defend the suit vigorously. Tennessee Gas Pipeline Company ("Tennessee") filed an application with the FERC in December 1997 seeking to have the exchange agreement between Southern and Tennessee, pursuant to which Southern delivers and receives gas to and from the Bear Creek Storage Field at no charge, converted into a standard transportation agreement by which Tennessee would charge Southern tariff rates for providing that service. Tennessee asserts that the existing no-fee exchange service, if provided at Tennessee's tariff rates for firm transportation service, would result in $19 million of additional revenues to Tennessee annually. Southern's management believes that even if Tennessee prevails in this matter, the actual cost to Southern of obtaining firm transportation through Tennessee or another third party pipeline would be significantly less than $19 million annually and that such costs would ultimately be recoverable through the rates that Southern charges to its customers. Although it cannot predict the outcome of the proceeding, Southern intends to oppose Tennessee's application vigorously. Elizabeth A. Dunston v. Sonat Exploration Company was filed in state court in Dewey County, Oklahoma on behalf of a class of Oklahoma royalty owners seeking recovery of certain post-production costs that were deducted from royalty payments otherwise due to them for the sale of gas from Oklahoma properties. The case was certified as a class action in May 1996. Considering the state of discovery and the unquantified nature of the class allegations, neither the ultimate outcome of the lawsuit nor the amount of any potential damage award can be determined. Settlement discussions are underway and Management believes that the outcome of this proceeding will not have a material effect on the Company's financial statements. Sonat and its subsidiaries are involved in a number of other lawsuits, all of which have arisen in the ordinary course of business. Sonat does not believe that any ultimate liability resulting from any of these other pending lawsuits will have a material adverse effect on it. I-25 29 ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS Sonat did not submit any matter to a vote of its security holders during the fourth quarter of 1997. EXECUTIVE OFFICERS OF THE REGISTRANT
OFFICER OFFICE AGE - ------- ------ --- Ronald L. Kuehn, Jr........................ Chairman of the Board, President, and Chief Executive Officer........................ 62 Donald G. Russell.......................... Vice Chairman.............................. 66 William A. Smith........................... Executive Vice President and General Counsel.................................. 53 Richard B. Bates........................... Senior Vice President...................... 44 James E. Moylan, Jr. ...................... Senior Vice President and Chief Financial Officer.................................. 47 James A. Rubright.......................... Senior Vice President...................... 51 Thomas W. Barker, Jr. ..................... Vice President -- Finance.................. 53 Beverley T. Krannich....................... Vice President -- Human Resources and Secretary................................ 47
There is no family relationship between any of the above-named executive officers. The officers of Sonat are elected annually by the Board of Directors. The identification of an individual as an executive officer in this report does not constitute a determination by Sonat or its Board of Directors that such individual is an officer of Sonat for purposes of Section 16 of the Securities Exchange Act of 1934. Ronald L. Kuehn, Jr. was elected Chairman of the Board of Sonat effective March 28, 1986. Mr. Kuehn has served as Director of Sonat since April 30, 1981, as President of Sonat since January 1, 1982, and as Chief Executive Officer of Sonat since June 1, 1984, and currently serves in those capacities. Mr. Kuehn also serves as Director of various Sonat subsidiaries. Donald G. Russell was elected Vice Chairman of Sonat effective April 24, 1997, and a Director of Sonat effective September 22, 1994, and currently serves in those capacities. Mr. Russell also serves as Chairman and Chief Executive Officer of Exploration. William A. Smith was elected Executive Vice President of Sonat effective March 1, 1991, and General Counsel effective July 1, 1997, and currently serves in those capacities. Mr. Smith also serves as Executive Vice President and General Counsel of Exploration and Sonat Energy Services. During the past five years Mr. Smith has served as an officer of Sonat, Exploration, Southern, and Sonat Energy Services. Richard B. Bates was elected Senior Vice President of Sonat effective May 1, 1995, and currently serves in that capacity. Mr. Bates has served as President of Sonat Energy Services and Sonat Marketing since January 1, 1994, and Power Marketing since June 1, 1996. During the past five years Mr. Bates has served as an officer of Exploration, Sonat Energy Services, and Sonat Marketing. James E. Moylan, Jr. was elected Chief Financial Officer of Sonat effective July 1, 1997, and Senior Vice President of Sonat effective May 1, 1995, and currently serves in those capacities. During the past five years Mr. Moylan has served as an officer of Southern and Sonat. James A. Rubright was elected Senior Vice President of Sonat effective April 1, 1995, and currently serves in that capacity. Mr. Rubright was elected President of Southern effective July 1, 1997. Prior to his election as Vice President and General Counsel of Sonat effective February 15, 1994, Mr. Rubright had been a member of the Atlanta, Georgia law firm of King & Spalding. Thomas W. Barker, Jr. was elected Vice President -- Finance of Sonat effective June 15, 1984, and currently serves in that capacity. Mr. Barker also serves as Vice President -- Finance of Exploration and Southern. Beverley T. Krannich was elected Vice President -- Human Resources of Sonat effective June 1, 1987, and Secretary of Sonat effective May 11, 1984, and currently serves in those capacities. Ms. Krannich also serves as Vice President -- Human Resources of Exploration and Southern. I-26 30 PART II
ITEM PAGE ---- ----- Item 5. Market for the Registrant's Common Equity and Related Stockholder Matters....................................... II-33 Item 6. Selected Financial Data..................................... II-45 Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations................................. II-2 Item 7A. Quantitative and Qualitative Disclosures About Market Risk...................................................... II-12 Item 8. Financial Statements and Supplementary Data................. II-19 Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure.................................. II-47
--------------------- The financial data following on pages II-2 through II-46 is reproduced from, and the Table of Contents below is taken from, the Sonat Inc. Annual Report to Stockholders for 1997. An index to the financial statements and financial statement schedules may be found under Item 14. "EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K" in Part IV of this report. --------------------- FINANCIAL INFORMATION CONTENTS Management's Discussion and Analysis of Financial Condition and Results of Operations................................. 29 Report of Management........................................ 44 Report of Ernst & Young, LLP, Independent Auditors.......... 45 Consolidated Financial Statements........................... 46 Consolidated Balance Sheets............................ 46 Consolidated Statements of Income...................... 48 Consolidated Statements of Changes in Stockholders' Equity................................................ 49 Consolidated Statements of Cash Flows.................. 50 Notes to Consolidated Financial Statements.................. 51 Selected Consolidated Financial Data........................ 72
II-1 31 Management's Discussion and Analysis of Financial Condition and Results of Operations Sonat Inc. and Subsidiaries RESULTS OF OPERATIONS Operating Income Business segment operating results for Sonat Inc. and its subsidiaries (the Company) are presented in the table below. The table also shows unusual items in 1997 and 1995 that affect operating income and net income comparisons. Each significant unusual item is discussed in the respective segment discussions in the following pages. The table is presented because management believes this information enhances the analysis of results of operations.
(In Millions) -------------------------- Years Ended December 31, 1997 1996 1995 - ------------------------------------------------------------ Operating Income: Exploration and Production $102.9 $161.9 $ 23.0 Natural Gas Transmission 178.4 165.6 158.3 Energy Services 10.6 10.2 6.5 Other 5.3 3.6 1.1 - ------------------------------------------------------------ 297.2 341.3 188.9 - ------------------------------------------------------------ Unusual Items (Expense) Income Included Above: Exploration and Production Termination of gas sales contracts -- -- 37.5 Asset impairment (39.0) -- (23.0) Natural Gas Transmission Rate settlement and GSR costs -- -- (11.1) - ------------------------------------------------------------ (39.0) -- 3.4 - ------------------------------------------------------------ Operating Income Excluding Unusual Items $336.2 $341.3 $185.5 ============================================================
(In Millions, Except Per-Share Amounts) --------------------------- Years Ended December 31, 1997 1996 1995 - ------------------------------------------------------------ Net Income As Reported $175.9 $201.2 $192.9 - ------------------------------------------------------------ Unusual Items (Expense) Income Included Above: Exploration and Production Termination of gas sales contracts -- -- 24.4 Property sales -- -- (20.0) Sale of Sonat Offshore stock -- -- 110.1 Asset impairment (25.4) -- (14.9) Loss on futures contracts -- -- (5.5) Natural Gas Transmission Rate settlement and GSR costs -- -- (6.8) Other Sale of Baker Hughes stock -- -- (8.2) - ------------------------------------------------------------ (25.4) -- 79.1 - ------------------------------------------------------------ Net Income Excluding Unusual Items $201.3 $201.2 $113.8 ============================================================ Earnings Per Share of Common Stock $ 2.05 $ 2.33 $ 2.24 ============================================================ Earnings Per Share of Common Stock-Assuming Dilution $ 2.01 $ 2.30 $ 2.21 ============================================================ Earnings Per Share of Common Stock Excluding Unusual Items $ 2.35 $ 2.33 $ 1.32 ============================================================ Earnings Per Share of Common Stock Excluding Unusual Items-Assuming Dilution $ 2.30 $ 2.30 $ 1.31 ============================================================
EXPLORATION AND PRODUCTION The Company is engaged in the exploration for and the acquisition, development and production of oil and natural gas in the United States through Sonat Exploration Company. Most of Sonat Exploration's natural gas production is sold to Sonat Marketing Company L.P. (Sonat Marketing), the Company's affiliate operating in the Energy Services segment. 29 II-2 32 Management's Discussion and Analysis of Financial Condition and Results of Operations (continued) Sonat Exploration continues to focus on exploration and development drilling versus producing property acquisitions. The most prominent onshore exploration area is the Cotton Valley Pinnacle Reef trend in east Texas. Sonat Exploration drilled eight wells in the Cotton Valley Pinnacle Reef trend in 1997, six of which were successful. In the first two months of 1998 Sonat Exploration completed two more successful wells in the Cotton Valley Pinnacle Reef trend and is in the process of completing another successful well. The Austin Chalk trend of east Texas and west Louisiana is also a very active drilling area for the Company. During 1997, 27 wells were completed in the Austin Chalk trend, of which 21 are commercial. The primary areas of concentration for the Company are the Masters Creek and Hurricane Branch areas. Overall, during 1997 Sonat Exploration participated in the completion of 407 gross development wells, of which 384 were successful, and 14 exploratory wells, of which nine were successful. At December 31, 1997, total proved reserves were 2.2 trillion cubic feet of natural gas equivalent. On January 30, 1998, the Company closed the merger with Zilkha Energy Company for $1.3 billion (see Note 15 of the Notes to Consolidated Financial Statements). Zilkha Energy was a privately owned exploration and production company. It operates in the shallow waters of the Gulf of Mexico where it has accumulated the industry's largest net leasehold position in the shallow-water area. Zilkha Energy's offshore presence and technical expertise significantly complement Sonat Exploration's onshore activities. EXPLORATION AND PRODUCTION
(In Millions) -------------------------- Years Ended December 31, 1997 1996 1995 - ------------------------------------------------------------ Revenues: Sales to others $148.6 $155.3 $175.1 Intersegment sales 409.9 410.4 228.4 - ------------------------------------------------------------ Total Revenues 558.5 565.7 403.5 - ------------------------------------------------------------ Costs and Expenses: Operating and maintenance 71.2 64.8 65.2 Exploration expense 32.2 21.7 9.1 General and administrative 58.6 53.9 48.4 Depreciation, depletion and amortization 269.3 236.4 239.2 Taxes and other 24.3 27.0 18.6 - ------------------------------------------------------------ 455.6 403.8 380.5 - ------------------------------------------------------------ Operating Income as Reported 102.9 161.9 23.0 Unusual Items (39.0) -- 14.5 - ------------------------------------------------------------ Operating Income Excluding Unusual Items $141.9 $161.9 $ 8.5 ============================================================ Equity in Earnings of Unconsolidated Affiliates $ 0.4 $ 0.4 $ 0.6 ============================================================ Proved Reserves: Net gas (Bcf) 1,850 1,692 1,506 Net liquids (MBbls) 57,769 51,437 44,228 ============================================================ Net Sales Volumes: Gas (Bcf) 203 205 183 Oil and condensate (MBbls) 4,612 5,145 3,973 Natural gas liquids (MBbls) 1,764 2,161 1,496 ============================================================ Average Sales Prices: Gas ($/Mcf) $ 2.18 $ 2.20 $ 1.52 Oil and condensate ($/Bbl) 20.05 19.25 17.61 Natural gas liquids ($/Bbl) 11.96 12.03 9.29 ============================================================
1997 VERSUS 1996. Operating income decreased $20.0 million, after excluding the recognition of a $39.0 million charge for the impairment of certain oil and gas properties in 1997. The decrease in operating income is attributable primarily to higher operating expenses and lower oil production. Oil and condensate production declined 10 percent, primarily reflecting declines in the Austin Chalk and certain Gulf of Mexico properties (see impairment discussion below). The effect of these unfavorable items in 1997 was partially offset by approximately $12 million of costs incurred in 30 II-3 33 Sonat Inc. and Subsidiaries 1996 associated with the settlement of the Briggs, et al. v. Sonat Exploration litigation. Additionally, oil and condensate prices increased 4 percent to $20.05 per barrel compared with $19.25 per barrel in 1996. Costs and expenses increased 13 percent in 1997 as compared to the 1996 period. Operating and maintenance expense increased $6.4 million as a result of a higher level of drilling activity. Exploration expense increased $10.5 million as a result of increased seismic and lease write-off expense resulting from increased exploration activity. General and administrative expense was higher primarily due to $4.3 million of expenses related to the merger with Zilkha Energy. Depreciation, depletion and amortization expense, excluding the impairment provision in 1997, decreased slightly due to lower production volumes. Sonat Exploration's 1997 production was lower than expected with most of the shortfall attributable to certain Gulf of Mexico properties. In 1996, Sonat Exploration completed two significant wells in High Island Block 39 that together initially produced 89 million cubic feet of natural gas equivalent per day, but these wells ceased production in 1997. In addition, other wells drilled in this area during 1997 did not yield material reserves. As a result, it was determined in the third quarter of 1997 that the remaining reserves for these properties would not recover the associated book value, and the properties were written down by $39.0 million. 1996 VERSUS 1995. Operating income increased $153.4 million, after excluding the recognition of $37.5 million of operating revenue from the termination of two long-term gas sales contracts and a $23.0 million charge to depreciation, depletion and amortization expense for an impairment provision related to the adoption of Statement of Financial Accounting Standards (SFAS) No. 121, Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed of, in 1995. The increase was primarily due to higher natural gas prices. Increases in oil prices and gas and oil production also added substantially to operating results. Average realized natural gas prices increased to $2.20 per thousand cubic feet (Mcf) in 1996 from $1.52 per Mcf in 1995, an increase of 45 percent. Natural gas production increased by 12 percent in 1996 compared to the 1995 period. Realized oil prices rose to an average of $19.25 per barrel in 1996 from $17.61 per barrel in 1995, and oil and condensate production increased by 29 percent primarily due to the successful development drilling program in the Austin Chalk trend. Operating income for 1996 was reduced by the cost of the judgment and plaintiffs' attorney's fees of approximately $12 million for settlement of the Briggs, et al. v. Sonat Exploration litigation. Costs and expenses were higher in 1996, excluding the SFAS No. 121 adjustment, due to several factors. Exploration expense increased $12.6 million due to the higher level of exploration activity in 1996. General and administrative expense increased $5.5 million due to higher employee related costs, including stock-based compensation expense. Taxes and other expenses increased $8.4 million primarily due to higher severance taxes related to higher revenues. Depreciation, depletion and amortization expense increased $20.2 million, as higher production levels offset a lower amortization rate. HEDGING ACTIVITIES. Sonat Exploration, through Sonat Marketing, uses derivative financial instruments to manage the risks associated with price volatility for both its natural gas production and its oil production, which it sells in the spot market. (See Market Risk and Notes 1 and 3 of the Notes to Consolidated Financial Statements.) Gains or losses experienced on Sonat Exploration's hedging transactions offset the changes in revenue recognized on the sale of the commodity. Natural gas revenues were reduced by $40.8 million and $24.7 million in the 1997 and 1996 periods, respectively, and increased by $3.0 million in the 1995 period relating to hedging activities. Oil revenues were reduced by $.5 million and $12.5 million in 1997 and 1996, respectively, relating to hedging activities. The effect of hedging activities on oil revenues in 1995 was immaterial. 31 II-4 34 Management's Discussion and Analysis of Financial Condition and Results of Operations (continued) A portion of Sonat Exploration's future gas production is hedged through the year 2000. Sonat Exploration's hedged gas production is as follows:
Volumes Weighted Average Price --------------------------------- (Bcf) (per Mcf) - ------------------------------------------------------------ 1998 51.4 $2.17 1999 56.4 $2.12 2000 36.1 $2.15 - ------------------------------------------------------------ 143.9 $2.15 ============================================================
NATURAL GAS TRANSMISSION The Company is engaged in the natural gas transmission business through Southern Natural Gas Company and its subsidiaries (Southern), and Citrus Corp. (a 50 percent-owned company). Southern and Citrus are actively pursuing opportunities to expand their pipeline systems in their traditional market areas and to connect new gas supplies. During 1997, Southern completed two pipeline expansions. In the first quarter of 1997, Southern placed in service a $14 million expansion project that allows producers to transport an additional 140 million cubic feet per day of natural gas from offshore Louisiana through Southern's pipeline system as well as to several other interstate pipelines. In November, Southern completed a $36 million market-area expansion that added 46 million cubic feet per day of firm capacity, most of which is for customers in Georgia. Both of these expansions are fully subscribed under contracts of 10 years or longer. In April 1997, units of Shell Oil Company and Amoco Corporation joined with Southern in the ownership of Destin Pipeline, a 1 billion-cubic-feet-per-day, $313 million pipeline designed to transport natural gas from deep-water development in the eastern Gulf of Mexico. Southern has a one-third interest in this pipeline. Shell and Amoco have made substantial firm transportation commitments to this pipeline, and discussions are under way with other prospective shippers. Construction of the pipeline began in December 1997, and it is expected to be partially completed and in service by July 1998. Southern is moving forward on three expansions to eastern Tennessee, northern Alabama, and central Alabama that have a total filed capital cost of $126 million. The North Alabama expansion, which received Federal Energy Regulatory Commission (FERC) approval in May 1997, is now anticipated to go in service in the fall of 1999, subject to FERC approval of an application that Southern filed in February 1998 to change the route of the pipeline as it crosses the Wheeler National Wildlife Refuge. The 122-mile expansion will provide 76 million-cubic-feet-per-day capacity to the participating customers. A second expansion to serve customers in eastern Tennessee is anticipated to go in service in November 1998, subject to FERC approval of an application that Southern filed in May 1997. Southern has firm transportation commitments totaling 65 million cubic feet of natural gas per day from customers in eastern Tennessee, Georgia and Alabama related to this expansion. The expansion in central Alabama is also expected to go in service in the fourth quarter of 1998, subject to FERC approval. This expansion will provide 34 million cubic feet per day of firm transportation to Alabama Power Company and two other customers. In December 1997, an affiliate of AGL Resources, Inc. and Southern formed a new entity, Etowah LNG Company, L.L.C. (Etowah LNG), to jointly construct, own and operate a new liquefied natural gas peaking facility in Polk County, Georgia. Under the agreement, AGL Resources and Southern each will own 50 percent of Etowah LNG, which will be regulated by the FERC. The proposed plant will connect directly into AGL Resources' principal natural gas distribution subsidiary, Atlanta Gas Light Company, and Southern's pipeline. Etowah LNG will provide natural gas storage and peaking services to Atlanta Gas Light and other Southeastern customers. The new facility will cost approximately $90 million with 300 million cubic feet per day of deliverability capacity. Affiliates of AGL Resources will manage the construction of the facility and operate it. Southern will provide administrative services. Etowah 32 II-5 35 Sonat Inc. and Subsidiaries LNG expects to file a certificate application with the FERC in March 1998. Subject to receiving timely FERC approval, construction will begin in early 1999 in order to provide peaking services during the 2001-02 winter heating season. Southern Natural Gas Company and Subsidiaries
(In Millions) ------------------------ Years Ended December 31, 1997 1996 1995 - --------------------------------------------------------- Revenues(1): Market transportation and storage $313.2 $323.2 $324.5 Supply transportation 48.5 46.6 50.6 Other 31.6 29.0 37.2 - --------------------------------------------------------- Total Revenues 393.3 398.8 412.3 - --------------------------------------------------------- Costs and Expenses(1): Operating and maintenance 75.4 74.9 96.1 General and administrative 71.3 91.6 85.4 Depreciation and amortization 47.8 48.3 52.3 Taxes, other than income 19.9 18.1 19.4 - --------------------------------------------------------- 214.4 232.9 253.2 - --------------------------------------------------------- Operating Income as Reported 178.9 165.9 159.1 Unusual Items - - (11.1) - --------------------------------------------------------- Operating Income Excluding Unusual Items $178.9 $165.9 $170.2 ========================================================= Equity in Earnings of Unconsolidated Affiliates $ 11.8 $ 9.6 $ 9.4 ========================================================= (Billion Cubic Feet) - --------------------------------------------------------- Volumes: Market transportation 611 630 609 Supply transportation 396 315 372 Intrastate(2) - 38 35 - --------------------------------------------------------- Total Volumes 1,007 983 1,016 ========================================================= Transition gas sales 65 69 85 =========================================================
(1) The 1996 and 1995 periods have been restated to reflect the reclassification of natural gas sales, natural gas cost and transition cost recovery to other revenues. (2) Southern's investment in Sonat Intrastate-Alabama, a small intrastate pipeline subsidiary, was transferred to Sonat Inc. on January 1, 1997. Citrus Corp.
(In Millions) ------------------------ Years Ended December 31, 1997 1996 1995 - --------------------------------------------------------- Allocated Expenses Included in Operating Income $ 0.5 $ 0.3 $ 0.8 ========================================================= Equity in Earnings of Citrus Corp. $ 28.7 $ 22.9 $ 28.2 ========================================================= (Billion Cubic Feet) - --------------------------------------------------------- Florida Gas Volumes (100%): Market transportation 443 428 461 Supply transportation 28 29 26 - --------------------------------------------------------- Total Volumes 471 457 487 =========================================================
1997 Versus 1996. Operating income for the Natural Gas Transmission segment for 1997 increased 8 percent compared with 1996. Southern Natural Gas - Operating income for Southern was $178.9 million in 1997 compared with $165.9 million in 1996. Operating results improved primarily due to lower general and administrative expenses. Also favorably impacting operating results were recent expansions and improved results at Sea Robin Pipeline Company. Partly offsetting was warmer winter weather during 1997, which negatively affected operating results. Market transportation revenues decreased primarily due to lower volumes resulting from warmer weather and the transfer of Southern's ownership of a small intrastate pipeline to Sonat, which was immaterial to operating results, partially offset by increased revenues from expansions. Supply transportation revenues increased due to higher volumes. Operating and maintenance expense increased slightly primarily due to higher fuel expense. Both the 1997 and 1996 periods included positive effects related to the disposition of certain assets. General and administrative expenses decreased primarily due to lower stock-based compensation and employee benefit expenses in 1997 and a $9.0 million donation to the Sonat Foundation in 1996. Equity in earnings of unconsolidated affiliates primarily represents the Company's share of earnings from Bear Creek Storage Company and Destin Pipeline. The 33 II-6 36 Management's Discussion and Analysis of Financial Condition and Results of Operations (continued) increase in 1997 as compared to 1996 is primarily due to earnings resulting from the allowance for funds used during construction (AFUDC) capitalized at Destin Pipeline. Citrus - Equity in earnings of Citrus increased $5.8 million over 1996 to $28.7 million. 1997 results reflect a gain recognized on the restructuring of the marketing arrangement for Citrus Trading Company between Sonat and Enron Corp. and a favorable adjustment to estimated state income taxes. The effect of higher revenues at Florida Gas from higher rates in conjunction with its rate filing that was effective in March 1997 and higher interruptible transportation volumes were offset by a gain on sale of assets recognized in 1996, lower trading margins at Citrus Trading and higher operating expenses. 1996 VERSUS 1995. Absent the effect of an unusual item (see discussion below), operating income for the Natural Gas Transmission segment decreased 2 percent in 1996 due to lower operating results at Southern. Southern Natural Gas - Operating income, excluding the unusual item discussed below, decreased slightly in 1996 primarily due to incremental revenues in 1995 from the sale of firm transportation capacity prior to revised rates going into effect on March 1, 1995. Also included in 1995 are positive adjustments to reflect actual interruptible transportation revenue and cost recovery in the first year of post Order No. 636 operations, the reduction of a take-or-pay liability and the accrual of gas supply realignment (GSR) interest on larger recovery balances compared to 1996. These were partially offset by lower costs and additional firm transportation revenues in 1996. Operating and maintenance expense in 1995 included an $11.1 million unusual item in recognition of Southern's share of GSR costs that were not recoverable. Certain other items affected operating income. Supply transportation revenues decreased due to lower supply-area transportation volumes resulting from lower throughput at Sea Robin. Operating and maintenance expense in 1995 included the $11.1 million of GSR expense which was discussed earlier. In addition, operating and maintenance expense in 1996 also included positive effects relating to the disposition of certain assets. General and administrative expense increased due to higher stock-based compensation expense and a $9.0 million donation to the Sonat Foundation in 1996, partly offset by lower employee related expenses. Depreciation and amortization expense decreased in 1996 primarily due to lower rates implemented March 1, 1995. Equity in earnings of unconsolidated affiliates primarily represents the Company's share of earnings from Bear Creek Storage Company. Equity in earnings from Bear Creek was flat compared to 1995. Citrus - Equity in earnings of Citrus was $5.3 million lower than in 1995. 1996 results reflect revenues and operating costs relating to the first full year of operation of the Phase III expansion project while 1995 results include accruing AFUDC for the first two months of the year and the $6.7 million effect of a positive adjustment to AFUDC on Phase III in 1995. Also contributing to the decline were lower margins due to lower interruptible transportation volumes as a result of lower prices from competing fuels and lower margins at Citrus' gas marketing affiliate. These were partly offset by a gain on the sale of facilities in 1996 and the effect of out-of-period expense adjustments in 1996 and 1995. Natural Gas Sales and Supply As a result of FERC Order No. 636, Southern terminated or renegotiated to market pricing substantially all of its gas supply contracts through which it had historically obtained its long-term gas supply. Pending the termination of the remaining supply contracts, Southern's remaining gas supply is sold on a month-to-month basis. Gas sales revenue and natural gas cost are included in other revenue. Southern's annual purchase commitments total less than $25 million per year for 1998 and subsequent years. Based on Southern's current expectations with respect to natural gas prices in 1998 and the years following, only an insignificant amount of gas volumes is expected to be at prices above market. 34 II-7 37 Sonat Inc. and Subsidiaries Rate Matters Under terms of a settlement approved by the FERC, all of Southern's previously pending rate proceedings and proceedings to recover GSR and other transition costs associated with the implementation of FERC Order No. 636 have been resolved. The settlement requires Southern to file a new rate case no later than September 1, 1999. ENERGY SERVICES Sonat Energy Services, through its majority-owned subsidiaries, Sonat Marketing and Sonat Power Marketing L.P. (Sonat Power Marketing), conducts marketing activities in the natural gas and electric industries, respectively. Sonat Marketing purchases and resells substantially all of Sonat Exploration Company's natural gas production, as well as purchasing and reselling gas for numerous other customers. Both of these subsidiaries utilize derivative instruments in managing commodity price risk (see Market Risk and Notes 1 and 3 of the Notes to Consolidated Financial Statements). Sonat Marketing's natural gas business has continued to grow rapidly. Sonat Marketing's sales volumes increased 33 percent from 1996. This growth was achieved in large part by the Company's continuing focus on its strategy of working closely with its customers and delivering outstanding customer service. During 1997, Sonat Marketing formed Unicom Gas Services, a joint venture with Unicom Energy Services Inc. Unicom Energy Services is a subsidiary of the Unicom Corporation, one of the largest electric utilities in the Midwest. This new business combines Sonat Marketing's natural gas expertise with Unicom's marketing capabilities. The new company will market natural gas and related services to commercial and industrial customers throughout the Midwest. This follows a successful joint venture established in 1996 with PSNC Production Corporation in the mid-Atlantic region. Sonat Power Marketing has executed electric power purchase, sales and transmission agreements with numerous companies. Sonat Power Marketing has remained focused on expanding its wholesale electric business, which is evidenced by the significant growth in sales volumes. Sales volumes grew to 8.8 million megawatt hours in 1997 from 3.0 million megawatt hours in 1996. Another subsidiary of Sonat Inc., Sonat Power Systems, has entered into a new distributed power arrangement with AlliedSignal Power Systems, Inc. to market its new onsite electric power systems in 13 Southern states and the District of Columbia. In addition, a new subsidiary of Sonat Energy Services acquired a 50 percent interest in a natural gas-fired power plant in Georgia in February 1998. This transaction complements Energy Services' other businesses. Energy Services
(In Millions) ------------------------------ Years Ended December 31, 1997 1996 1995 - ---------------------------------------------------------- Revenues $3,723.9 $2,592.7 $1,249.9 ========================================================== Operating Income $ 10.6 $ 10.2 $ 6.5 ========================================================== (Billion Cubic Feet) - ---------------------------------------------------------- Sonat Marketing Gas Sales Volumes (100%) 1,288 968 722 ========================================================== (Thousands of Megawatt Hours) - ---------------------------------------------------------- Sonat Power Marketing Sales Volumes (100%) 8,768 2,969 4 ==========================================================
1997 VERSUS 1996. Operating income for the energy services segment increased slightly from last year's levels. The principal reason for the increase was the recognition of mark-to-market income from origination activities in the fourth quarter of 1997, which more than offset a decrease in unit margins. At the end of 1997, Sonat Marketing's gas sales volumes reached 4.2 Bcf per day, up from 3.3 Bcf per day at the end of 1996. Sonat Power Marketing has also increased its sales volumes sharply, but it is not yet profitable in the extremely competitive power marketing business. Operating costs for the energy services segment increased due to business growth. 35 II-8 38 Management's Discussion and Analysis of Financial Condition and Results of Operations (continued) 1996 VERSUS 1995. Operating income for 1996 increased $3.7 million over 1995 levels primarily due to much higher unit gas trading margins in the first quarter of 1996 as a result of unusually cold weather in certain of Sonat Marketing's markets. This created intense demand for natural gas during peak periods and resulted in a volatile price environment, which created exceptional trading opportunities for Sonat Marketing. Since that time, unit trading margins have been lower. Additionally, general and administrative expense increased due to growth in operations. Sonat Marketing's volumes increased primarily due to a concentration on growth and expansion of the Northeast and Midcontinent regions. Sonat Power Marketing also experienced significant growth in 1996 and reached sales volumes as high as 636 average megawatt hours during the fourth quarter. However, Sonat Power Marketing's 1996 results were adversely impacted by start-up costs. ------------------------ Other Income Statement Items
(In Millions) ----------------------- Years Ended December 31, 1997 1996 1995 - --------------------------------------------------------- Other Income (Loss), Net: Equity in earnings of unconsolidated affiliates $ 43.0 $ 34.2 $ 46.3 Sale of stock of subsidiary - - 188.0 Minority interest (4.4) (4.9) (0.9) Other income, net 6.9 6.5 (44.6) - --------------------------------------------------------- $ 45.5 $ 35.8 $188.8 =========================================================
1997 VERSUS 1996. The increase in equity in earnings of unconsolidated affiliates is primarily due to improved results at Citrus (discussed earlier in the Natural Gas Transmission section). Minority interest is AGL Resources' 35 percent share of earnings in Sonat Marketing and Sonat Power Marketing (operating results were discussed earlier in the Energy Services section). Other income, net increased in 1997 compared to 1996 primarily due to higher levels of equity capitalized at Southern in its construction programs, offset slightly by lower net gains ($2.4 million in 1997 as compared to $3.9 million in 1996) on the termination of Southern's forward rate agreement (see Note 3 of the Notes to Consolidated Financial Statements). 1996 VERSUS 1995. The decrease in equity in earnings of unconsolidated affiliates reflects the absence of earnings from the Company's investment in Sonat Offshore Drilling Inc., the remaining interest of which was sold in July 1995, and a decrease in equity in earnings of Citrus (discussed earlier in the Natural Gas Transmission section). The 1995 period includes the gain from the Company's sale of its remaining interest in Sonat Offshore stock. (See Note 2 of the Notes to Consolidated Financial Statements.) Other income, net increased in the 1996 period primarily due to a $3.9 million net gain on partial termination of a forward rate agreement, higher levels of equity capitalized at Southern, and $41.7 million of net losses on the disposal of assets in 1995. In addition, the 1995 period includes an $8.4 million loss on natural gas futures contracts and $6.0 million of dividends.
(In Millions) ------------------------ Years Ended December 31, 1997 1996 1995 - --------------------------------------------------------- Interest Expense, Net $ 86.3 $ 82.8 $ 89.8 - ---------------------------------------------------------
1997 VERSUS 1996. Net interest expense increased in 1997 compared to 1996 due to higher average debt levels. The effect of lower interest rates on debt and lower average regulatory reserve balances slightly offset the effect of higher average debt levels. Interest capitalized decreased due to lower interest capitalized at Sonat Exploration. 1996 VERSUS 1995. Net interest expense decreased in 1996 compared to 1995 due to lower average debt levels and lower average regulatory reserve balances at Southern. The 1995 period included a $4.4 million favorable adjustment on income tax related interest.
(In Millions) ------------------------ Years Ended December 31, 1997 1996 1995 - --------------------------------------------------------- Income Tax Expense $ 80.5 $ 93.1 $ 95.0 - ---------------------------------------------------------
1997 VERSUS 1996. Income tax expense decreased in 1997 compared to 1996 due to lower pretax earnings. 36 II-9 39 Sonat Inc. and Subsidiaries 1996 VERSUS 1995. Excluding income taxes associated with the unusual items in the 1995 period, primarily the gain on the sale of the Company's remaining interest in Sonat Offshore stock (see earlier discussion and Note 2 of the Notes to Consolidated Financial Statements), income taxes increased due to higher pretax earnings and a decrease in tax preference items. Liquidity and Capital Resources Cash Flows
(In Millions) ------------------------ Years Ended December 31, 1997 1996 1995 - --------------------------------------------------------- Operating Activities $416.8 $500.6 $184.3 - ---------------------------------------------------------
1997 VERSUS 1996. Cash flow from operations decreased compared to the 1996 period due to the funding of a $116.0 million liability for transaction and other costs in connection with the merger with Zilkha Energy (see Notes 1 and 15 of the Notes to Consolidated Financial Statements). Absent this item, cash flow from operations improved compared to the 1996 period due to improved cash flows at both Sonat Exploration and Southern. Partly offsetting the increase was a decrease in Energy Services' cash flows due to the impact of higher energy prices on working capital, including broker deposits. The 1996 period included $34.0 million in cash refunds paid to customers at Southern. Other than those refunds, the change in GSR costs and the change in reserves for regulatory matters were attributable to the recording of a customer settlement by Southern in the second quarter of 1996 (the Customer Settlement). Deferred income taxes and accrued income taxes reflect the impact of higher deductions for intangible drilling costs at Sonat Exploration in 1997 and the Customer Settlement in 1996. The asset impairment recorded by Sonat Exploration during 1997 increased depreciation, depletion and amortization expense by $39.0 million and decreased deferred income taxes by $13.7 million. The change in accounts receivable and accounts payable is primarily attributable to high receivable and payable balances in December 1996 reflecting higher natural gas prices as compared to 1995. The change in inventory primarily reflects the purchase of material for Sonat Exploration's Cotton Valley Pinnacle Reef trend drilling program and the purchase of natural gas inventory under an asset management agreement at Sonat Marketing. The change in Other, net is primarily due to $41.2 million of accrual reversals related to the Customer Settlement and a decrease in interruptible transportation revenue credits of $13.5 million, both of which occurred in 1996. 1996 Versus 1995. Cash flow from operations increased $316.3 million compared with the 1995 period primarily due to improved operating results at both Sonat Exploration and Sonat Marketing (discussed earlier in the operating sections). At Southern, net GSR recoveries in 1996 compared to net GSR payments in 1995 resulted in a $104.6 million improvement in cash flow from operations. Other than the net GSR recoveries/payments discussed above, both the change in GSR costs and the change in reserves for regulatory matters were attributable to recognition of the Customer Settlement in the second quarter of 1996. The change in deferred income taxes reflects the deductibility of certain oil and gas drilling costs in 1996 and the disposal of the Company's investment in Baker Hughes preferred stock in the 1995 period. The growth in accounts receivable and accounts payable is primarily attributable to higher natural gas prices and the expanding business of Sonat Marketing. The change in accrued interest and income taxes essentially reflects income tax deductions of GSR payments and tax refunds in 1996 compared to income tax payments in 1995, including taxes on the Sonat Offshore stock disposition. Inventories increased primarily due to gas inventory purchases at Sonat Marketing and material purchases at Southern and Sonat Exploration. The change in other current assets and other current liabilities is primarily due to a decrease in gas imbalance receivables and payables, which occurred in 1996. The change in Other, net is primarily due to $41.2 million of accrual reversals related to the Customer 37 II-10 40 Management's Discussion and Analysis of Financial Condition and Results of Operations (continued) Settlement and a decrease in interruptible transportation revenue credits of $13.5 million in 1996, compared to $37.5 million from long-term gas sales contract terminations and $13.5 million of deferred transition costs at Southern in 1995.
(In Millions) ---------------------------- Years Ended December 31, 1997 1996 1995 - ---------------------------------------------------------- Investing Activities $(712.2) $(482.5) $ 92.3 - ----------------------------------------------------------
1997 VERSUS 1996. Net cash used in investing activities was $229.7 million higher in 1997 compared to 1996, primarily due to higher capital expenditures (see table below) resulting from increased developmental drilling at Sonat Exploration. The increase in investments in unconsolidated affiliates primarily reflects Southern's investment of $39.1 million in the Destin Pipeline joint venture during 1997. 1996 VERSUS 1995. Investing activities required $482.5 million of net cash in 1996 compared to providing $92.3 million in 1995, which included sources of cash from unusual items. In 1995, the Company received $326.0 million from the sale of its remaining interest in Sonat Offshore stock, $167.0 million from the sale of four million shares of Baker Hughes convertible preferred stock, and $105.1 million in proceeds from the sale of Sonat Exploration oil and gas properties. Capital expenditures (see table below) were higher in the 1996 period compared to the 1995 period primarily due to Southern's system expansion. Capital expenditures for the Company's business segments (excluding exploratory costs and unconsolidated affiliates) were as follows:
(In Millions) ------------------------- Years Ended December 31, 1997 1996 1995 - ---------------------------------------------------------- Exploration and Production $ 539.1 $ 368.4 $ 416.2 Natural Gas Transmission 144.2 130.4 62.7 Energy Services 11.0 4.7 2.8 Other 4.5 6.0 5.9 - ---------------------------------------------------------- Total $ 698.8 $ 509.5 $ 487.6 ==========================================================
The Company's share of capital expenditures by its unconsolidated affiliates were as follows:
(In Millions) ----------------------- Years Ended December 31, 1997 1996 1995 - --------------------------------------------------------- Exploration and Production $ 0.5 $ 0.3 $ 0.7 Natural Gas Transmission 41.8 15.1 100.5 Other 0.2 0.5 0.5 - --------------------------------------------------------- Total $ 42.5 $ 15.9 $101.7 =========================================================
(In Millions) -------------------------- Years Ended December 31, 1997 1996 1995 - ---------------------------------------------------------- Financing Activities $ 279.3 $(25.8) $(248.5) - ----------------------------------------------------------
1997 VERSUS 1996. Financing activities provided $279.3 million in 1997 compared to requiring $25.8 million in 1996. The change was primarily attributable to increased borrowings, which helped finance higher capital expenditures, the Company's stock repurchase program, and the funding of the liability for transaction and other costs in connection with the merger with Zilkha Energy (see Notes 1 and 15 of the Notes to Consolidated Financial Statements) in 1997. In September 1997, Sonat and Southern each issued $100.0 million under their shelf registration statements. 1996 VERSUS 1995. Net cash used in financing activities was $222.7 million less in the 1996 period compared to the 1995 period. A portion of the proceeds from the Sonat Offshore stock sale and the Baker Hughes stock sale were used to repay borrowings under Sonat's floating rate facilities in the 1995 period. Capital Resources At December 31, 1997, the Company had bank lines of credit and a revolving credit agreement with banks with a total capacity of $750.0 million. The Company's bank and commercial paper borrowings in the aggregate are not authorized to exceed the maximum amount available under its lines of credit and revolving credit agreement. As a result, after giving effect to the $446.6 million of commercial paper and $130.0 million of borrowings from such banks then outstanding, $173.4 million was available to the Company under such lines of credit and revolving credit agreement at December 31, 1997. 38 II-11 41 Sonat Inc. and Subsidiaries At December 31, 1997, Sonat had a shelf registration with the Securities and Exchange Commission that provided for issuance of up to $500.0 million in debt securities of which $300.0 million had been issued. The remaining $200.0 million has subsequently been issued (see Note 15 of the Notes to Consolidated Financial Statements). It is likely that new shelf registrations for both Sonat and Southern will be filed in 1998. Sonat also completed a new 364-day $700.0 million revolving credit facility with 20 banks in late January 1998. In connection with this new credit facility the Company terminated existing lines of credit providing for up to $200.0 million of borrowings. The Company's capital expenditures and other investing requirements for 1998 are budgeted to aggregate $842 million. This amount reflects investments in unconsolidated affiliates and proposed expenditures for oil and gas property acquisitions, exploration and development (including amounts relating to the Company's subsidiary that merged with Zilkha Energy), pipeline expansion and other projects. The Company completed the Zilkha Energy merger on January 30, 1998, issuing $1.04 billion of common stock to the Zilkha Energy shareholders (see Note 15 of the Notes to Consolidated Financial Statements). The Company's cash requirements relating to the Zilkha Energy merger totaled approximately $290 million, principally for repayment of debt and certain other liabilities of Zilkha and transaction expenses. The Company's Board of Directors has extended its stock repurchase program to December 31, 1998, and authorized the purchase of an additional one million shares. Shares purchased under the program are expected to be reissued in connection with employee stock option and restricted stock programs. The Company believes that cash flow from operations and borrowings in either the private or public market will provide the Company with the means to fund operations and currently planned investment and capital expenditures. MARKET RISK Financial instruments of the Company expose it to both commodity price risk and interest rate risk. Commodity Price Risk - The Company's primary market risk exposure is the volatility of spot-market energy commodity prices, relating to the portfolio position of its financial instruments and physical commitments, which can affect the operating results of Sonat Exploration and Sonat Energy Services. The Company uses commodity futures contracts, options and price swap agreements to hedge its commodity price risk on crude oil, natural gas and electricity. Sonat Energy Services performs all hedging activity (non-trading) for both its own operations and for the operations of Sonat Exploration. In June 1997, Sonat Energy Services, through its subsidiary, Sonat Marketing, also began using derivative instruments as a market maker (trading activity) by maintaining active trading positions in natural gas futures and swap contracts and limiting its risk to changes in the value of its outstanding positions through the use of Value-at-Risk models, establishment of offsetting positions, and limit and monitoring procedures. The Company's non-trading (hedging) and trading activities are implemented under a set of policies approved by the Board of Directors. In addition, all derivative activities are internally reviewed by a Risk Oversight Committee to ensure compliance with all policies. The Company's use of derivative instruments to reduce the effect of market volatility is described in Note 3 of the Notes to Consolidated Financial Statements. Sonat Energy Services manages its commodity price risks through its subsidiaries, Sonat Marketing Company and Sonat Power Marketing. Sonat Marketing and Sonat Power Marketing each manage commodity risks at a portfolio level by utilizing Value-at-Risk models for natural gas and electricity commodities, respectively. Each Value-at-Risk model includes energy commodity transactions, both physical and derivative (commodity futures, swaps and options) for both trading and non-trading activities. The Value-at-Risk models use historical or variance co-variance simulation methods to determine commodity risk exposure (the loss that could 39 II-12 42 Management's Discussion and Analysis of Financial Condition and Results of Operations (continued) occur over a two-day period) due to changes in natural gas or electricity commodity prices within a 95 percent confidence level. Value-at-Risk models are routinely backtested against market prices and volatilities to assess the quality of Value-at-Risk measures. The Value-at-Risk data for Sonat Marketing for 1997 is as follows:
(In Thousands) ------------------------------- Average Maximum Minimum - ------------------------------------------------------- Trading Activities (Commencing June 1, 1997) $ 593 $ 752 $473 =======================================================
The Value-at-Risk for non-trading activities of Sonat Energy Services is immaterial for both Sonat Marketing and Sonat Power Marketing. The Risk Oversight Committee and management monitor the portfolio Value-at-Risk frequently to ensure compliance with Board limits. Interest Rate Risk - The Company's entire portfolio of interest rate risk instruments is classified as non-trading. The Company's interest income and expense are sensitive to changes in the level of short-term interest rates in the United States. In general, the Company uses excess funds to reduce short-term debt levels and therefore has minimal cash equivalent investments. Short-term debt averaged $216.6 million in 1997. Excess cash generated by or contributed to joint venture projects is invested on a short-term basis pending distribution or expenditure on capital projects. Such short-term investments averaged $14.0 million in 1997. To mitigate the impact of fluctuations in interest rates, the Company maintains a balance among components of its capital structure, providing a mix of maturities and pricing methods for its debt obligations. At December 31, 1997, 36 percent of the Company's debt (including its interest in joint venture debt) had variable rates. In the past the Company has used derivative instruments to aid in its management of interest rate risk, although it is not currently doing so. The following table provides information about the Company's financial instruments that are sensitive to changes in interest rates. The table presents principal cash flows and related weighted-average interest rates by expected maturity dates. The weighted-average variable rate is the current effective rate. Municipal bonds are used to satisfy obligations under various non-qualified benefit plans of the Company. Broker deposits of $27.7 million with an average return of 4.9 percent at December 31, 1997, were excluded from the table. 40 II-13 43 Interest Rate Risk Instruments Principal Amount by Expected Maturity and Average Interest Rate
(Dollars In Millions) ---------------------------------------------------------------------------------- Fair Value 1998 1999 2000 2001 2002 Thereafter Total 12/31/97 - -------------------------------------------------------------------------------------------------------------------------- Assets: Restricted Cash Deposits $ 116.0 $ - $ - $ - $ - $ - $ 116.0 $116.0 Average Interest Rate 5.6% Municipal Bonds $ 1.0 $ 3.0 $ 4.2 $ 4.2 $ 2.8 $ 33.5 $ 48.7 $ 46.9 Average Interest Rate 5.0% 5.0% 4.9% 4.8% 4.8% 4.9% Liabilities: Commercial Paper $ 446.6 $ - $ - $ - $ - $ - $ 446.6 $446.6 Average Interest Rate 6.3% Long-term Debt, including Current Portion: Fixed Rate $ 11.0 $ 109.4 $ 3.1 $ 200.2 $ 200.0 $ 400.0 $ 923.7 $966.4 Average Interest Rate 7.9% 7.8% 7.7% 7.4% 7.0% 6.8% Variable Rate $ - $ - $ - $ 130.0 $ - $ - $ 130.0 $130.0 Average Interest Rate (1) ==========================================================================================================================
(1) Rate to be paid is based on LIBOR plus 20 basis points. At December 31, 1997, this rate was 6.14 percent. INFLATION AND THE EFFECT OF CHANGING ENERGY PRICES The rate of inflation in the United States has been moderate over the past several years and has not significantly affected the profitability of the Company. In prior periods of high general inflation, oil and gas prices generally increased at comparable rates; however, there is no assurance that this will be the case in the current environment or in possible future periods of high inflation. In addition, Sonat Exploration has experienced increasing dayrates for drilling rigs. Margins in the Energy Services segment are highly sensitive to competitive pressures and may not reflect the effects of inflation. The results of operations in the Company's three major business segments will be affected by future changes in oil and gas prices and the interrelationship between oil, gas and other energy prices. ENVIRONMENTAL ISSUES The operations and properties of Sonat Exploration, Southern, and their subsidiaries are subject to extensive and changing federal, state, and local laws and regulations relating to environmental protection, including the generation, storage, handling, emission, transportation, and discharge of materials into the environment, and relating to safety and health. The recent trend in environmental legislation and regulation generally is toward stricter standards, and this trend will likely continue. These laws and regulations may require the acquisition of a permit or other authorization before construction or drilling commences and for certain other activities, limit or prohibit construction, drilling, and other activities on certain lands lying within wilderness or wetlands and other protected areas and impose substantial liabilities for pollution resulting from operations. The permits required for various operations are subject to revocation, modification, and renewal by issuing authorities. The Company believes that its operations currently are in substantial compliance with applicable environmental regulations. Governmental authorities have the power to enforce compliance with their regulations, and violations are subject to fines or injunction, or both. The Company does not expect environmental compliance matters to have a material adverse effect on its financial position or 41 II-14 44 Management's Discussion and Analysis of Financial Condition and Results of Operations (continued) results of operations. It is also not anticipated that the Company will be required in the near future to expend amounts that are material to its financial condition or operations by reason of environmental laws and regulations, but because such laws and regulations are frequently changed, and may impose increasingly stricter requirements, the Company is unable to predict the ultimate cost of complying with such laws and regulations. Southern has been notified that it is or may be a potentially responsible party (PRP) under the Comprehensive Environmental Response, Compensation and Liability Act (CERCLA) in connection with three Superfund sites for which the amount of its liability has not been settled. In these cases, the Company has determined that the aggregate maximum amount of loss reasonably likely to be attributed to it, after giving effect to likely contributions by other PRPs, would not be material to its financial position or results of operations. However, liability for PRPs under CERCLA (and applicable state law) is joint and several among all PRPs. Although volumetric allocation is a factor in assessing liability, it is not necessarily determinative; thus, the ultimate liability at any of these sites could be substantially greater than the maximum amounts estimated by the Company. In the operation of their natural gas pipeline systems, Southern and its wholly owned subsidiaries, South Georgia Natural Gas Company and Sea Robin Pipeline Company, have used, and continue to use at several locations, gas meters containing elemental mercury. Southern, South Georgia and Sea Robin plan to remove all remaining mercury meters during the course of regularly scheduled facilities upgrades. Mercury and mercury meters are handled pursuant to procedures that are designed to protect employees and the environment and to comply with Occupational Safety and Health Administration standards. It is generally believed in the natural gas pipeline industry that, in the course of normal maintenance and replacement operations, elemental mercury may have been released from mercury meters. Southern has determined that its pipeline meters may in the past have been the source of small releases of elemental mercury. As a result, Southern undertook the characterization of 658 sites across the pipeline systems of Southern and Sea Robin during 1995, 1996, and 1997. Approximately 63 percent of the sites characterized had detectable levels of mercury. Characterization of potential sites on the pipeline system of South Georgia has not commenced at this time. Southern will file copies of the characterization reports with the applicable state agencies upon their finalization. At this time, only the State of Georgia has issued formal guidelines for remediation of mercury sites, although the State of Louisiana has issued informal guidance. Southern is unable to estimate the cost of mercury remediation because costs will vary based on a number of factors particular to each site and because regulatory guidance is still uncertain for all sites. Based on its experience with other remediation projects, industry experience to date with remediation of mercury, and its characterization data, Southern believes that the cost of its characterization and remediation of any mercury contamination will not be material to its financial position or results of operations. The Company generally considers environmental assessment and remediation costs and costs associated with compliance with environmental standards incurred by Southern, South Georgia, and Sea Robin to be recoverable through rates since they are prudent costs incurred in the ordinary course of business and, accordingly, generally will seek recovery of such costs through rate filings, although no assurance can be given with regard to their ultimate recovery. RECENT ACCOUNTING PRONOUNCEMENTS In June 1997, the Financial Accounting Standards Board (FASB) issued SFAS No. 130, Reporting Comprehensive Income, which established standards for reporting and display of comprehensive income and its components. The components of comprehensive income refer to revenues, expenses, gains and losses that are excluded from net income under current accounting standards, including unrecognized foreign currency translation items, minimum pension liability adjustments and unrealized gains and losses on certain investments in debt and equity securities. SFAS No. 130 requires that all items 42 II-15 45 Sonat Inc. and Subsidiaries that are recognized under accounting standards as components of comprehensive income be reported in a financial statement displayed in equal prominence with other financial statements; the total of other comprehensive income for a period is required to be transferred to a component of equity that is separately displayed in a statement of financial position at the end of an accounting period. At December 31, 1997, Other Capital in the Consolidated Balance Sheet includes $1.5 million related to components of other comprehensive income. SFAS No. 130 is effective for both interim and annual periods beginning after December 15, 1997. In June 1997, the FASB issued SFAS No. 131, Disclosures about Segments of an Enterprise and Related Information. SFAS No. 131 establishes standards for the way public enterprises are to report information about operating segments in annual financial statements and requires the reporting of selected information about operating segments in interim financial reports issued to shareholders. SFAS No. 131 also establishes standards for related disclosures about products and services, geographic areas, and major customers. The Company previously modified its definition of segments to conform to the approach required by SFAS No. 131, which is effective for periods beginning after December 15, 1997. YEAR 2000 PROJECT The Company is aware of the potential impact the Year 2000 could have on its information technology and business infrastructure. To answer the Year 2000 challenge, the Sonat Board of Directors directed that a corporate-wide initiative be undertaken and that the project be completed by December 31, 1998. A consulting firm was engaged to assist in this effort. The assessment phase of the Year 2000 project was completed in December 1997. This phase included a comprehensive inventory and review of existing applications, processes and systems to identify areas which might be affected. The project plan includes steps to implement the required modifications identified during the assessment phase and test systems for compliance. Estimated cost of the Year 2000 project for capital, as well as general and administrative costs, are expected to be $5 million to $10 million. Over the past few years the Company has made technology investments that greatly reduced the current economic impact of Year 2000, including the replacement of mainframe systems with Year 2000 compliant vendor packages on new client/server platforms. The current goal is that by mid-1998 all major applications will be vendor packages that are Year 2000 compliant. CAUTIONARY STATEMENT CONCERNING FORWARD-LOOKING STATEMENTS This Annual Report contains forward-looking statements regarding the Company's business plans and prospects, objectives, future drilling plans, expansion projects, proposed capital expenditures and expected performance or results. These forward-looking statements are based on assumptions that the Company believes are reasonable, but are subject to a wide range of risks and uncertainties and, as a result, actual results may differ materially from those expressed in such forward-looking statements. Important factors that could cause actual results to differ include changes in oil and gas prices and underlying demand, which would affect profitability and might cause the Company to alter its plans; the timing and success of the Company's exploration and development drilling programs, which would affect production levels and reserves; the results of the Company's hedging activities; risks incident to the drilling and operation of oil and gas wells; future drilling, production and development costs and the success of the Company's internal cost reduction activities; and the requirements to receive various governmental approvals to proceed with expansion projects at Southern. Realization of the Company's objectives and expected performance can also be adversely affected by the actions of customers and competitors, changes in governmental regulation of the Company's businesses, and changes in general economic conditions and the state of domestic capital markets. 43 II-16 46 Sonat Inc. and Subsidiaries REPORT OF MANAGEMENT Management of the Company is responsible for the preparation and integrity of all financial data included in this annual report. The Consolidated Financial Statements have been prepared in conformity with generally accepted accounting principles and necessarily include amounts based on estimates and judgments of management. The Company's accounting systems include controls designed to provide reasonable assurance that assets are safeguarded against loss or unauthorized use and that the financial records are adequate and reliable for preparation of financial statements and other financial data. The concept of reasonable assurance is based on the recognition that the cost of internal controls should not exceed the related benefits. An integral part of the internal controls is the selection, training and development of qualified accounting and internal audit personnel. The Company engages the firm of Ernst & Young LLP as independent auditors to audit the Company's Consolidated Financial Statements and express their opinion thereon. Their audit is conducted in accordance with generally accepted auditing standards and includes a review and evaluation of the Company's internal controls and other procedures as they consider appropriate. The Report of Ernst & Young LLP, Independent Auditors, appears on the facing page. Internal audit activities are coordinated with the independent auditors to maximize audit effectiveness. The Audit Committee of the Board of Directors is composed solely of directors who are not active or retired officers or employees of the Company. It recommends a firm to serve as independent auditors of the Company, subject to nomination by the Board of Directors and election by the stockholders, approves all audit and other professional services rendered by the independent auditors and regularly reviews their independence. The Audit Committee reviews and reports on significant accounting decisions and transactions and the scope and results of audits by the Company's internal auditing staff and the independent auditors. It reviews with management compliance with the Company's business ethics and conflict of interest policies and reviews with independent auditors the adequacy of the Company's internal controls. The internal auditors and the independent auditors have free access to the Audit Committee, without management's presence, to discuss the Company's internal controls and the results of their audits. /s/James E. Moylan, Jr. James E. Moylan, Jr. Senior Vice President and Chief Financial Officer February 26, 1998 44 II-17 47 Sonat Inc. and Subsidiaries REPORT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS The Board of Directors and Stockholders Sonat Inc. We have audited the accompanying consolidated balance sheets of Sonat Inc. and Subsidiaries as of December 31, 1997 and 1996, and the related consolidated statements of income, changes in stockholders' equity and cash flows for each of the three years in the period ended December 31, 1997. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Sonat Inc. and Subsidiaries at December 31, 1997 and 1996, and the consolidated results of their operations and their cash flows for each of the three years in the period ended December 31, 1997, in conformity with generally accepted accounting principles. /s/ Ernst and Young LLP Birmingham, Alabama January 16, 1998, except for Note 15, as to which the date is January 30, 1998 45 II-18 48 CONSOLIDATED BALANCE SHEETS Sonat Inc. and Subsidiaries Consolidated Financial Statements
(In Thousands) ----------------------- December 31, 1997 1996 - ------------------------------------------------------------------------------------------------ ASSETS Current Assets: Cash and cash equivalents $ 13,512 $ 29,639 Restricted cash (Notes 1 and 15) 115,956 -- Accounts receivable 594,972 577,021 Inventories (Note 4) 61,706 30,500 Gas imbalance receivables 16,644 21,694 Assets from price risk management activities (Note 3) 92,150 -- Other 42,785 34,436 - ------------------------------------------------------------------------------------------------ Total Current Assets 937,725 693,290 - ------------------------------------------------------------------------------------------------ Investments and Advances: Unconsolidated affiliates (Note 5) 491,681 414,560 Other investments (Note 3) 56,608 50,561 - ------------------------------------------------------------------------------------------------ 548,289 465,121 - ------------------------------------------------------------------------------------------------ Plant, Property and Equipment, successful efforts method of accounting used for oil and gas properties (Notes 6 and 13) 5,597,864 5,084,283 Less Accumulated Depreciation, Depletion and Amortization 2,859,649 2,650,419 - ------------------------------------------------------------------------------------------------ 2,738,215 2,433,864 - ------------------------------------------------------------------------------------------------ Deferred Charges and Other: Assets from price risk management activities (Note 3) 27,686 -- Other 179,599 182,384 - ------------------------------------------------------------------------------------------------ 207,285 182,384 - ------------------------------------------------------------------------------------------------ Total Assets $4,431,514 $3,774,659 ================================================================================================
See accompanying notes. 46 II-19 49 CONSOLIDATED BALANCE SHEETS Sonat Inc. and Subsidiaries Consolidated Financial Statements
(In Thousands) ----------------------- December 31, 1997 1996 - ------------------------------------------------------------------------------------------------ LIABILITIES AND STOCKHOLDERS' EQUITY Current Liabilities: Long-term debt due within one year (Note 7) $ 11,008 $ 53,707 Unsecured notes (Note 7) 446,721 158,030 Accounts payable 570,041 510,130 Accrued income taxes 18,274 26,726 Accrued interest 34,469 28,584 Gas imbalance payables 13,688 20,290 Liabilities from price risk management activities (Note 3) 103,446 -- Other 52,442 51,370 - ------------------------------------------------------------------------------------------------ Total Current Liabilities 1,250,089 848,837 - ------------------------------------------------------------------------------------------------ Long-Term Debt (Note 7) 1,042,734 872,255 - ------------------------------------------------------------------------------------------------ Deferred Credits and Other: Deferred income taxes (Note 8) 344,599 284,564 Reserves for regulatory matters (Note 9) 4,432 14,644 Liabilities from price risk management activities (Note 3) 5,014 -- Other 149,226 169,995 - ------------------------------------------------------------------------------------------------ 503,271 469,203 - ------------------------------------------------------------------------------------------------ Commitments and Contingencies (Note 9) Stockholders' Equity: Common stock, $1.00 par; 400,000,000 shares authorized, 87,227,478 and 87,232,573 shares issued in 1997 and 1996, respectively (Notes 10 and 15) 87,227 87,233 Other capital 34,747 31,648 Retained earnings 1,578,327 1,495,186 - ------------------------------------------------------------------------------------------------ 1,700,301 1,614,067 Less treasury stock at cost, 1,438,793 and 830,908 shares in 1997 and 1996, respectively (Note 10) (64,881) (29,703) - ------------------------------------------------------------------------------------------------ Total Stockholders' Equity 1,635,420 1,584,364 - ------------------------------------------------------------------------------------------------ Total Liabilities and Stockholders' Equity $4,431,514 $3,774,659 ================================================================================================
See accompanying notes. 47 II-20 50 CONSOLIDATED STATEMENTS OF INCOME Sonat Inc. and Subsidiaries Consolidated Financial Statements
(In Thousands, Except Per-Share Amounts) ----------------------------------------- Years Ended December 31, 1997 1996 1995 - ------------------------------------------------------------------------------------------------------- Revenues (Note 12) $ 4,174,624 $ 3,039,014 $ 1,754,341 - ------------------------------------------------------------------------------------------------------- Costs and Expenses: Natural gas cost 2,949,766 1,973,147 912,966 Electric power cost 224,294 65,699 88 Operating and maintenance 181,111 163,737 171,885 General and administrative 152,438 159,515 140,511 Depreciation, depletion and amortization 326,014 288,192 298,714 Taxes, other than income 43,800 47,447 41,244 - ------------------------------------------------------------------------------------------------------- 3,877,423 2,697,737 1,565,408 - ------------------------------------------------------------------------------------------------------- Operating Income 297,201 341,277 188,933 - ------------------------------------------------------------------------------------------------------- Other Income (Loss), Net: Equity in earnings of unconsolidated affiliates (Note 5) 43,020 34,211 46,258 Sale of stock of subsidiary (Note 2) -- -- 188,012 Minority interest (4,394) (4,907) (888) Other income, net 6,905 6,516 (44,590) - ------------------------------------------------------------------------------------------------------- 45,531 35,820 188,792 - ------------------------------------------------------------------------------------------------------- Interest: Interest income 3,681 4,153 6,413 Interest expense (93,733) (92,040) (102,797) Interest capitalized 3,777 5,094 6,540 - ------------------------------------------------------------------------------------------------------- (86,275) (82,793) (89,844) - ------------------------------------------------------------------------------------------------------- Income Before Income Taxes 256,457 294,304 287,881 Income Tax Expense (Note 8) 80,537 93,115 94,993 - ------------------------------------------------------------------------------------------------------- Net Income $ 175,920 $ 201,189 $ 192,888 ======================================================================================================= Earnings Per Share of Common Stock (Note 10) $ 2.05 $ 2.33 $ 2.24 Earnings Per Share of Common Stock - Assuming Dilution (Note 10) $ 2.01 $ 2.30 $ 2.21 ======================================================================================================= Weighted Average Shares Outstanding 85,941 86,211 86,270 Weighted Average Shares Outstanding - Assuming Dilution 87,511 87,564 87,102 ======================================================================================================= Dividends Paid Per Share (Note 10) $ 1.08 $ 1.08 $ 1.08 =======================================================================================================
See accompanying notes. 48 II-21 51 Consolidated Statements of Changes in Stockholders' Equity Sonat Inc. and Subsidiaries Consolidated Financial Statements
(In Thousands) ------------------------------------------------------------------------- 1997 1996 1995 Years Ended December 31, SHARES AMOUNT Shares Amount Shares Amount - -------------------------------------------------------------------------------------------------------------------- Common Stock, $1.00 Par; 400,000,000 Shares Authorized (Note 10): Balance at beginning of year 87,233 $ 87,233 87,244 $ 87,244 87,252 $ 87,252 Canceled (6) (6) (11) (11) (8) (8) - -------------------------------------------------------------------------------------------------------------------- Balance at end of year 87,227 87,227 87,233 87,233 87,244 87,244 - -------------------------------------------------------------------------------------------------------------------- Other Capital: Balance at beginning of year 31,648 39,795 42,311 Benefit plans transactions and other 3,099 (8,147) (2,516) - -------------------------------------------------------------------------------------------------------------------- Balance at end of year 34,747 31,648 39,795 - -------------------------------------------------------------------------------------------------------------------- Retained Earnings: Balance at beginning of year 1,495,186 1,387,137 1,287,339 Net income 175,920 201,189 192,888 Cash dividends at $1.08 per share (92,779) (93,140) (93,090) - -------------------------------------------------------------------------------------------------------------------- Balance at end of year 1,578,327 1,495,186 1,387,137 - -------------------------------------------------------------------------------------------------------------------- Treasury Stock, at cost: Balance at beginning of year (831) (29,703) (1,077) (31,534) (871) (25,016) Purchased (1,058) (53,176) (774) (30,914) (645) (19,230) Issued 451 17,998 1,020 32,745 439 12,712 - -------------------------------------------------------------------------------------------------------------------- Balance at end of year (1,438) (64,881) (831) (29,703) (1,077) (31,534) - -------------------------------------------------------------------------------------------------------------------- Total Stockholders' Equity 85,789 $ 1,635,420 86,402 $ 1,584,364 86,167 $ 1,482,642 ====================================================================================================================
See accompanying notes. 49 II-22 52 CONSOLIDATED STATEMENTS OF CASH FLOWS Sonat Inc. and Subsidiaries Consolidated Financial Statements
(In Thousands) ---------------------------------------- Years Ended December 31, 1997 1996 1995 - -------------------------------------------------------------------------------------------------------------- Cash Flows from Operating Activities: Net income $ 175,920 $ 201,189 $ 192,888 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation, depletion and amortization 326,014 288,192 298,714 Deferred income taxes 60,035 71,442 25,165 Equity in earnings of unconsolidated affiliates, less distributions (31,914) (23,040) (34,265) Gain on sale of stock of subsidiary and net gain on disposal of assets (4,109) (3,377) (144,969) Reserves for regulatory matters (10,212) (167,154) (1,545) Gas supply realignment costs 7,514 187,929 (80,553) Change in: Accounts receivable (17,951) (250,548) (77,591) Inventories (31,206) (6,544) 2,766 Accounts payable 59,911 212,470 85,516 Accrued interest and income taxes, net (2,389) 28,490 (29,379) Other current assets (3,477) (4,562) 5,329 Other current liabilities (5,530) 4,567 (16,508) Net change from price risk management activities (11,376) -- -- Net change in restricted cash (115,956) -- -- Other, net 21,549 (38,456) (41,234) - -------------------------------------------------------------------------------------------------------------- Net cash provided by operating activities 416,823 500,598 184,334 - -------------------------------------------------------------------------------------------------------------- Cash Flows from Investing Activities: Plant, property and equipment additions (698,818) (509,534) (487,564) Net proceeds from sale of subsidiary stock and disposal of assets 45,965 49,256 592,838 Investments in unconsolidated affiliates and other (59,366) (22,209) (12,959) - -------------------------------------------------------------------------------------------------------------- Net cash provided by (used in) investing activities (712,219) (482,487) 92,315 - -------------------------------------------------------------------------------------------------------------- Cash Flows from Financing Activities: Proceeds from issuance of long-term debt 1,935,041 855,776 3,103,000 Payments of long-term debt (1,808,023) (718,877) (3,296,565) Changes in short-term borrowings 288,691 (60,870) 18,900 - -------------------------------------------------------------------------------------------------------------- Net changes in debt 415,709 76,029 (174,665) Dividends paid (92,779) (93,140) (93,090) Treasury stock purchases (53,176) (30,914) (19,230) Other 9,515 22,264 38,494 - -------------------------------------------------------------------------------------------------------------- Net cash provided by (used in) financing activities 279,269 (25,761) (248,491) - -------------------------------------------------------------------------------------------------------------- Net Increase (Decrease) in Cash and Cash Equivalents (16,127) (7,650) 28,158 Cash and Cash Equivalents at Beginning of Year 29,639 37,289 9,131 - -------------------------------------------------------------------------------------------------------------- Cash and Cash Equivalents at End of Year $ 13,512 $ 29,639 $ 37,289 ============================================================================================================== Supplemental Disclosures of Cash Flow Information Cash Paid For: Interest (net of amount capitalized) $ 83,726 $ 68,670 $ 81,900 Income taxes, net 20,124 (5,694) 96,455 ==============================================================================================================
See accompanying notes. 50 II-23 53 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Sonat Inc. and Subsidiaries 1 BUSINESS DESCRIPTION AND SIGNIFICANT ACCOUNTING POLICIES Business Description - The Consolidated Financial Statements of Sonat Inc. (Sonat) and its subsidiaries (the Company) reflect operations in the Exploration and Production, Natural Gas Transmission and Energy Services segments. The Exploration and Production segment is engaged in exploration, development and production of domestic oil and natural gas. The Natural Gas Transmission segment is primarily engaged in the interstate transmission of natural gas. The Energy Services segment is primarily engaged in the marketing of natural gas and electric power. For further description of business segments, see Note 12. For a description of financial instruments, credit risk and contingencies, see Notes 3 and 9. Principles of Consolidation - The Consolidated Financial Statements include the accounts of Sonat and its subsidiaries. Intercompany transactions and accounts have been eliminated in consolidation. The equity method of accounting is used for investments in affiliates owned 50 percent or less. The 1996 and 1995 periods have been restated to reflect the reclassification of natural gas sales, natural gas cost and transition cost recovery to other revenues to conform with the 1997 presentation. Certain other amounts in the 1996 and 1995 Consolidated Financial Statements and Notes have also been reclassified to conform with the 1997 presentation. Use of Estimates in the Preparation of Financial Statements - In preparing financial statements in conformity with generally accepted accounting principles, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and revenues and expenses during the reporting period. Actual results could differ from those estimates. Cash Equivalents - Cash equivalents are typically money-market investments in the form of repurchase agreements, certificates of deposit and time deposits with maturities of three months or less at the time of purchase. These investments are accounted for at cost. Restricted Cash - As of December 31, 1997, the Company has $116.0 million of restricted cash. The restricted cash is held in trust by the issuing bank, is restricted as to withdrawal and use, and is invested in cash equivalents. The restricted cash usage is limited to the payment of certain expenses related to the merger with Zilkha Energy Company (see Note 15). Inventories - At December 31, 1997, inventories consist primarily of materials and supplies and gas stored underground, which is carried at average cost. Gas Imbalance Receivables and Payables - Gas imbalances represent the difference between gas receipts from and gas deliveries to the Company's transportation and storage customers. Gas imbalances arise when these customers deliver more or less gas into the pipeline than they take out. Imbalances incurred prior to implementation of Order No. 636 are settled through exchange of gas. Imbalances incurred after implementation of Order No. 636 are settled monthly. Plant, Property and Equipment and Depreciation - Plant, property and equipment is carried at cost. The Company provides for depreciation on a composite or straight-line basis, except for oil and gas properties. (See Notes 6 and 13.) Revenue Recognition - Revenue is recognized in the Exploration and Production segment when deliveries of oil and natural gas are made. The Company's Natural Gas Transmission segment recognizes revenue from natural gas transportation in the period the service is provided. Reserves are provided on revenues collected subject to refund when appropriate. Revenues are recognized in the Energy Services segment in either the period a transaction is consummated (for items in the mark-to-market portfolio) or in the period the physical commodity is delivered. Commodity Price-Risk Management Activities - Through May 1997, the Company used derivative instruments (commodity futures contracts, options and price swap agreements) solely to hedge its commodity price risk on natural gas, crude oil and electricity. In June 1997, the Company also began using derivative instruments as a market maker (trading activity) in natural gas. 51 II-24 54 Notes to Consolidated Financial Statements NOTE 1 (CONTINUED) Natural gas, crude oil and electricity futures contracts are traded on the New York Mercantile Exchange (NYMEX). Natural gas contracts are for fixed units of 10,000 MMBtu and are available for up to 36 months in the future. Crude oil contracts are for fixed units of 1,000 barrels and are available for up to 34 months in the future. Electricity contracts are for 736 megawatt hours and are available for up to 18 months in the future. Price swap agreements call for one party to make monthly payments to (or receive payments from) another party based upon the differential between a fixed and a variable price (fixed-price swap) or two variable prices (basis swap) for a notional volume specified by the contract. Options can be exchange traded on the NYMEX or traded over the counter. Exchange traded options give the owner the right, but not the obligation, to a futures contract. Over-the-counter options give the owner the right, but not the obligation, to buy or sell an underlying commodity at a given price. At December 31, 1997, the Company had only over-the-counter options. Non-Trading Activities - Derivative positions taken specifically to mitigate market price risk associated with significant physical transactions are accounted for using hedge accounting provided they meet hedge accounting criteria. Under hedge accounting, gains and losses from futures are deferred in the Consolidated Balance Sheets in Other Deferred Credits and recognized in earnings in conjunction with the earnings recognition of the underlying physical. Each net payment/receipt due or owed under the swap agreement is recognized in earnings during the period to which the payment/receipt relates, and there is no recognition in the Consolidated Balance Sheets for changes in the swap's fair value. The derivative instruments used to hedge commodity transactions have historically had high correlation with commodity prices and are expected to continue to do so. In the event that correlation falls below allowable levels, the gains or losses associated with the hedging instruments are immediately recognized to the extent that correlation is lost. In the fourth quarter of 1995, the Company recognized a pretax loss of $8.4 million due to the loss of correlation of the NYMEX futures market for natural gas with the price of natural gas in certain parts of the country. Trading Activities - The Company's trading portfolio consists of short- and long-term energy-related purchase and sale commitments (physical and derivative). All of these investments and commitments are valued at market or fair value and accounted for under mark-to-market accounting guidelines. The fair value of these commitments are recorded under the headings of Assets and Liabilities from Price Risk Management Activities in the Consolidated Balance Sheets. The change in fair value of these commitments is recognized in income currently and is recorded as revenue in the Consolidated Statements of Income. Such fair values or market values are subject to change in the near term and reflect the Company's best estimate of market prices considering various factors including closing exchange and over-the-counter broker quotations, the terms of the contract, credit considerations, time value and volatility factors underlying the positions (see Note 3). Environmental Expenditures - The Company provides for environmental liabilities when environmental assessments and/or remediation are probable and such costs to the Company can be reasonably estimated. Accruals for environmental remediation liabilities are not material and have not been discounted. Stock-Based Compensation - The Company follows the provisions of Accounting Principles Board Opinion (APB) No. 25 for its stock-based compensation awards (see Note 10). Issuance of Stock by Subsidiary - The Company follows an accounting policy of income statement recognition for issuances of stock by a subsidiary. (See Note 2.) Income Taxes - The Company follows a liability and asset approach in accounting for income taxes. Deferred tax liabilities and assets are determined using the tax rate for the period in which those amounts are expected to be paid or received. (See Note 8.) Earnings Per Share - In 1997, the Financial Accounting Standards Board (FASB) issued Statement of Finan- 52 II-25 55 Sonat Inc. and Subsidiaries cial Accounting Standards (SFAS) No. 128, Earnings per Share. SFAS No. 128 replaced the calculation of primary and fully diluted earnings per share with basic (earnings per share of common stock) and diluted (earnings per share of common stock-assuming dilution) earnings per share. Unlike primary earnings per share, basic earnings per share excludes any dilutive effects of options, warrants and convertible securities. Diluted earnings per share is very similar to the previously reported fully diluted earnings per share. All earnings per share amounts for all periods have been presented, and where appropriate, restated to conform to the SFAS No. 128 requirements (see Note 10). 2 CHANGES IN OPERATIONS Sonat Marketing Company L.P. (Sonat Marketing) was formed in September 1995 and is jointly owned by the Company and a subsidiary of AGL Resources, Inc. Sonat's wholly owned subsidiary, Sonat Marketing Company, contributed all of its assets and liabilities except $32.0 million of accounts receivable and Atlanta Gas Light Company, another subsidiary of AGL Resources, contributed $32.0 million in cash to Sonat Marketing in exchange for a 35 percent ownership interest. AGL Resources has certain rights to resell to the Company its interest in Sonat Marketing, including a right until August 31, 2000, to receive the greater of fair market value or a formula price. The pretax gain on the transaction of approximately $23.4 million, which is included in Other Deferred Credits in the Consolidated Balance Sheet, has been deferred. In June 1995, the Company sold back to Baker Hughes Incorporated for $167.0 million the four million shares of Baker Hughes convertible preferred stock that the Company received as partial consideration for its sale of Teleco Oilfield Services Inc. to Baker Hughes in 1992. The sale resulted in an after-tax loss of $8.2 million, or $.09 per share. In July 1995, the Company made a capital contribution of its remaining shares of Sonat Offshore Drilling Inc.'s common stock to Sonat Exploration Company. On July 26, 1995, Sonat Exploration sold in an underwritten public offering these shares of Sonat Offshore common stock at $30.25 per share. The net proceeds after underwriters' discounts and commissions were $326.0 million, which resulted in a pretax gain of $188.0 million. The Company realized an after-tax gain of $110.1 million, or $1.27 per share, on the transaction. In April 1995, Sonat Power Marketing Inc. was formed to market electric power. In the second quarter of 1996, AGL Resources acquired a 35 percent ownership interest in Sonat Power Marketing L.P. (Sonat Power Marketing), to which Sonat Power Marketing Inc. contributed all of its assets and liabilities. The transaction resulted in a $.5 million pretax gain, which is included in Other income, net in the Consolidated Statements of Income. 3 FINANCIAL INSTRUMENTS Derivative Commodity Instruments Held or Issued for Trading Purposes The Company, through Sonat Marketing, began a trading operation in June 1997 that maintains active trading positions in natural gas futures, swap and option contracts and limits its risk to changes in the value of its outstanding positions through the use of Value-at-Risk models, establishment of offsetting positions, and limit and monitoring procedures. The trading operation also enters into natural gas purchase and sale commitments. These activities constitute its trading business and are essential to provide customers with market products at competitive prices. All of these trading positions are reported at fair value and recorded under the heading of Assets and Liabilities from Price Risk Management Activities (current and long-term) in the Consolidated Balance Sheet. The change in fair value is recognized in revenues as it occurs. Fair value is subject to change and reflects management's best estimate of market prices considering various factors including closing exchange and over-the-counter quotations, time value and volatility factors underlying the commitments. These market prices are adjusted to reflect the potential impact of liquidating Sonat Marketing's position in an orderly manner over a reasonable period of time under present market conditions. 53 II-26 56 Notes to Consolidated Financial Statements NOTE 3 (CONTINUED) The amounts disclosed below represent the end of period fair value and the average fair value (period commenced June 1, 1997) of the trading portfolio.
(In Thousands) ------------------------------------ Fair Value Average Fair Value (Carrying Amount) for the Year as of 12/31/97 Ended 12/31/97 - ----------------------------------------------------------------- Natural Gas Trading: Assets $ 119,836 $57,079 Liabilities 108,460 51,450 =================================================================
Derivative Commodity Instruments Held or Issued for Purposes Other Than Trading Sonat Exploration Company's production is hedged by entering into intercompany swaps with Sonat Marketing. The exposure that Sonat Marketing assumes from Sonat Exploration is then hedged by entering into derivative instruments with outside counterparties. Sonat Marketing and Sonat Power Marketing also hedge third party purchases and sales by entering into commodity futures, swaps and options. The information below represents the consolidated derivative positions that were open as of December 31, 1997, and the fair value of those positions. Not included are the related physical positions that these derivative positions hedge.
(TBtu) (In Thousands) --------------------------------------- Fair Value Notional Volume As of December 31, --------------------------------------- 1997 1996 1997 1996 - ---------------------------------------------------------- Natural Gas: Futures 18.9 12.1 $ (873) $ (5,518) Swaps 75.4 209.5 (29,764) (31,372) Options 31.5 64.5 (516) (1,900) Crude Oil: Futures -- 12.9 -- (3,379) - ----------------------------------------------------------
Deferred amounts on open futures positions will mature over 1998 and 1999. Credit Risk from Derivative Activities NYMEX traded futures are guaranteed by the NYMEX and have nominal credit risk. On all other transactions described above, the Company is exposed to credit risk in the event of nonperformance by the counterparties. Due to changes in market conditions, the value of swaps and options can change in relation to their value to the Company. The energy services group has established policies and procedures to evaluate potential counterparties for creditworthiness before entering into over-the-counter swap and option agreements. The credit risk resulting from in-the-money swaps is monitored on a regular basis against established collateralization limits. At December 31, 1997, the market value of the Company's in-the-money swaps and options was $5.6 million, and all counterparties were within collateral limits. Reserves for credit risk are established as necessary. Financial Risk On January 22, 1996, the Company entered into a forward rate agreement to hedge the interest rate risk of an anticipated future borrowing under an existing shelf registration statement. In September 1996, due to revised expectations of external financing requirements, 50 percent of the forward rate agreement was liquidated resulting in a gain of $3.9 million. A gain of $2.4 million was recognized upon final settlement of this agreement in 1997. Other Financial Instruments The carrying amounts and fair values of the Company's financial instruments, other than derivative instruments, are as follows:
(In Thousands) ---------------------------- December 31, 1997 Carrying Amounts Fair Value - ---------------------------------------------------------- Cash and Cash Equivalents $ 13,512 $ 13,512 Restricted Cash 115,956 115,956 Investment in Debt Securities 47,177 48,047 Gas Supply Realignment Costs 3,630 3,630 Unsecured Notes 446,721 446,721 Long-Term Debt 1,053,742 1,096,354 - ----------------------------------------------------------
54 II-27 57 Sonat Inc. and Subsidiaries
(In Thousands) -------------------------------- December 31, 1996 Carrying Amounts Fair Value - ------------------------------------------------------------------ Cash and Cash Equivalents $ 29,639 $ 29,639 Investment in Debt Securities 42,058 43,337 Gas Supply Realignment Costs 11,144 11,144 Unsecured Notes 158,030 158,030 Long-Term Debt 925,962 963,026 - ------------------------------------------------------------------
The following methods and assumptions were used by the Company in estimating its fair value disclosures for balance sheet financial instruments: Cash and cash equivalents, restricted cash, gas supply realignment (GSR) costs and unsecured notes - The carrying amount reported in the Consolidated Balance Sheets approximates its fair value. Investment in debt securities - The fair values for marketable debt securities are based on quoted market prices. Long-term debt - The fair values of the Company's long-term debt are based on quoted market values or estimated using discounted cash flow analyses, based on the Company's current incremental borrowing rates for similar types of borrowing arrangements. All of the Company's financial instruments, other than certain derivative instruments, are held for purposes other than trading. The Company's financial instruments that are exposed to concentrations of credit risk consist primarily of cash equivalents, restricted cash deposits, investments, accounts receivable and GSR costs which the Company expects to recover from its customers. The Company's cash equivalents, restricted cash deposits and short-term investments represent securities placed with various high investment grade institutions. This investment practice limits the Company's exposure to concentrations of credit risk. Accounts receivable of the Exploration and Production segment are primarily from joint-interest partners, oil and gas marketing companies and pipeline companies. A majority of its revenues are from Sonat Marketing, which is headquartered in the Southeast. Accounts receivable of the Natural Gas Transmission segment relate to business conducted with gas distribution companies, municipalities, gas districts, industrial customers and interstate pipeline companies in the Southeast. Accounts receivable of the Energy Services segment relate to trading with other marketing companies, industrial end users and local distribution companies, with primary concentration in the Gulf Coast, Southeastern, Northeastern and Midwestern markets. The Company performs ongoing credit evaluations of its customers' financial condition and, in some circumstances, requires collateral from its customers. Accounts receivable are stated net of valuation allowances of $7.9 million in 1997 and $9.7 million in 1996. 4 INVENTORIES The table below shows the values of various categories of the Company's inventories by segment.
(In Thousands) ------------------- December 31, 1997 1996 - ---------------------------------------------------------- Exploration and Production: Materials and supplies $13,499 $ 2,358 Natural Gas Transmission: Materials and supplies 21,529 24,197 Energy Services: Materials and supplies 247 -- Gas stored underground 26,418 3,938 Other 13 7 - ---------------------------------------------------------- $61,706 $30,500 ==========================================================
5 UNCONSOLIDATED AFFILIATES At December 31, 1997, the Company's investments in unconsolidated affiliates totaled $491.7 million, and the Company's share of underlying equity in net assets of the investees was $551.7 million. The difference is primarily due to the excess over cost of the Company's share of the underlying equity in net assets of Citrus Corp., which is being amortized over the depreciable life of Citrus' assets. Through December 31, 1997, the Company's cumulative equity in earnings of these unconsolidated affiliates was $329.1 million and cumulative dividends received from them totaled $175.5 million. 55 II-28 58 Notes to Consolidated Financial Statements NOTE 5 (CONTINUED) The following table presents the components of equity in earnings of unconsolidated affiliates:
(In Thousands) --------------------------------------- Years Ended December 31, 1997 1996 1995 - ------------------------------------------------------------------------------- COMPANY'S SHARE OF REPORTED EARNINGS (LOSSES) Exploration and Production $ 445 $ 408 $ 615 - ------------------------------------------------------------------------------- Natural Gas Transmission: Citrus Corp. (including $1,383,000 of amortization of basis difference in each year) 28,676 22,902 28,196 Bear Creek Storage 10,679 10,184 9,596 Other 1,170 (554) (239) - ------------------------------------------------------------------------------- 40,525 32,532 37,553 - ------------------------------------------------------------------------------- Energy Services 817 9 (5) - ------------------------------------------------------------------------------- Other: Sonat Offshore Drilling -- -- 6,734 Other 1,233 1,262 1,361 - ------------------------------------------------------------------------------- 1,233 1,262 8,095 - ------------------------------------------------------------------------------- $ 43,020 $ 34,211 $ 46,258 ===============================================================================
Natural Gas Transmission Affiliates - Sonat owns 50 percent of Citrus, the parent company of Florida Gas Transmission Company. A subsidiary of Southern owns 50 percent of Bear Creek Storage Company, an underground gas storage company. The following is summarized financial information for Citrus:
(In Thousands) -------------------------------------------- Years Ended December 31, 1997 1996 1995 - ------------------------------------------------------------------------------- Revenues $ 735,402 $ 769,335 $ 682,387 Expenses (Income): Natural gas cost 416,953 428,842 362,635 Operating expenses 107,370 94,573 94,647 Depreciation and amortization 60,470 83,563 81,227 Allowance for funds used during construction (599) 153 (42,804) Interest and other 79,162 91,926 99,238 Income taxes 17,460 27,240 33,818 - ------------------------------------------------------------------------------- Income Reported $ 54,586 $ 43,038 $ 53,626 ===============================================================================
(In Thousands) ------------------------------ December 31, 1997 1996 - -------------------------------------------------------------------------------- Assets Current $ 80,737 $ 107,114 Net transmission plant and property 2,346,123 2,362,038 Other 67,671 84,900 - -------------------------------------------------------------------------------- $2,494,531 $2,554,052 ================================================================================ Liabilities and Equity Current $ 133,481 $ 211,228 Long-term debt and other liabilities 1,496,724 1,533,084 Stockholders' equity 864,326 809,740 - -------------------------------------------------------------------------------- $2,494,531 $2,554,052 ================================================================================
The following is summarized financial information for Bear Creek. No provision for income taxes has been included since its income taxes are paid directly by the joint-venture participants.
(In Thousands) --------------------------------------- Years Ended December 31, 1997 1996 1995 - -------------------------------------------------------------------------------- Revenues $36,226 $36,258 $36,167 Expenses: Operating expenses 4,440 4,817 5,408 Depreciation 5,430 5,415 5,399 Other expenses, net 4,997 5,657 6,167 - -------------------------------------------------------------------------------- Income Reported $21,359 $20,369 $19,193 ================================================================================
(In Thousands) ------------------------ December 31, 1997 1996 - -------------------------------------------------------------------------------- Assets Current $ 6,503 $ 7,205 Net plant and property 149,334 154,388 Other 296 338 - -------------------------------------------------------------------------------- $156,133 $161,931 ================================================================================ Liabilities and Equity Current $ 8,298 $ 8,525 Long-term debt and other liabilities 48,799 55,729 Participants' equity 99,036 97,677 - -------------------------------------------------------------------------------- $156,133 $161,931 ================================================================================
In 1995 Southern executed a Capital Contribution Agreement in connection with the project financing for Bear Creek from The Prudential Insurance Company of America. In the event that Bear Creek does not refinance the remaining principal, this agreement provides that Southern and its partner will contribute $21.0 million 56 II-29 59 Sonat Inc. and Subsidiaries each to Bear Creek on October 31, 2000, to provide funds to enable Bear Creek to make a principal payment due under the financing. 6 PLANT, PROPERTY AND EQUIPMENT AND DEPRECIATION Plant, property and equipment, by business segment, is shown in the following table:
(In Thousands) ------------------------------ December 31, 1997 1996 - -------------------------------------------------------------------- Exploration and Production $2,990,516 $2,579,740 Natural Gas Transmission 2,456,773 2,422,845 Energy Services 78,168 11,508 Other 72,407 70,190 - -------------------------------------------------------------------- $5,597,864 $5,084,283 ====================================================================
Plant, property and equipment includes construction work in progress of $137.1 million and $108.0 million at December 31, 1997 and 1996, respectively. Plant, property and equipment also includes $130.1 million and $124.8 million of gas stored underground at December 31, 1997 and 1996, respectively. The accumulated depreciation, depletion and amortization amounts, by business segment, are as follows:
(In Thousands) ------------------------------ December 31, 1997 1996 - -------------------------------------------------------------------- Exploration and Production $1,294,854 $1,075,016 Natural Gas Transmission 1,497,828 1,539,983 Energy Services 33,254 3,143 Other 33,713 32,277 - -------------------------------------------------------------------- $2,859,649 $2,650,419 ====================================================================
The annual depreciation rates or useful productive lives, by business segment, are as follows:
------------------------------------- 1997 1996 1995 - ------------------------------------------------------------------------- Natural Gas Transmission: Mainline transmission property 2.0% 2.0% 2.0% Gas supply 2.9% 2.9% 2.9% Gas gathering 2.8% 2.8% 2.8% Underground storage facilities 3.3% 3.3% 3.3% Liquefied natural gas facilities 3.2% 3.2% 3.2% Other 2-30 yrs. 2-25 yrs. 3-20 yrs. =========================================================================
The successful efforts method of accounting used for oil and gas properties in the Exploration and Production segment results in the cost of proved oil and gas properties and development dry holes being capitalized and amortized on a unit-of-production basis over the life of remaining proved reserves. Also included in amortization on a unit-of-production basis are the estimated future dismantlement and abandonment costs. During the first part of 1997, Sonat Exploration's production was lower than expected with most of the shortfall attributable to certain Gulf of Mexico properties. In 1996 Sonat Exploration had completed two significant wells in High Island Block 39 that together initially produced 89 million cubic feet of natural gas equivalent per day, but ceased production in 1997. In addition, other wells drilled in this area during 1997 did not yield material reserves. As a result, it was determined in the third quarter of 1997 that the remaining reserves for these properties would not recover the associated book value of $39.4 million. As a result, the properties were written down by $39.0 million. The impairment, which is included in depreciation, depletion and amortization expense in the 1997 Consolidated Statement of Income, reduced net income by $25.4 million, or $.30 per share. Fair value used in determining the impairment adjustment was based on an estimate of future net cash flows discounted at a market rate of interest. Primarily due to downward reserve revisions for certain properties in its year-end reserve report, the Company reevaluated the recorded value of its oil and gas assets in 1995. Based on this evaluation, the Company determined that assets with a net book value of $98.4 million were impaired and therefore adjusted their fair value by an estimate of future net cash flows discounted at a market rate of interest. This $23.0 million impairment adjustment is included in depreciation, depletion and amortization expense in the 1995 Consolidated Statement of Income. 57 II-30 60 Notes to Consolidated Financial Statements 7 DEBT AND LINES OF CREDIT Long-Term Debt - Long-term debt consists of:
(In Thousands) ---------------------------- December 31, 1997 1996 - -------------------------------------------------------------------------------- Sonat Inc. Revolving Credit Agreement at rates based on prime, inter- national or money-market lending rates (an effective rate of 6.14% at December 31, 1997 and 5.76% at December 31, 1996) expiring on June 30, 2001 $ 130,000 $ 155,000 6.75% Notes due October 1, 2007 100,000 -- 6 7/8% Notes due June 1, 2005 200,000 200,000 9 1/2% Notes due August 15, 1999 100,000 100,000 8.65% Notes due through July 29, 1997 -- 9,286 9.41% Notes due July 29, 1997 -- 35,000 9% Notes due May 1, 2001 100,000 100,000 8.24% Senior Notes due through December 31, 2000 6,200 8,400 Southern Natural Gas Company 6.70% Notes due October 1, 2007 100,000 -- 7.85% Notes due January 15, 2002 100,000 100,000 8 5/8% Notes due May 1, 2002 100,000 100,000 8 7/8% Notes due February 15, 2001 100,000 100,000 South Georgia Natural Gas Company 9.85% Term Loan due through December 31, 1997 -- 880 7.80% Term Loan due through December 31, 1997 -- 400 Southern LNG Inc. Promissory Note (an effective rate of 6.53% at December 31, 1997 and 6.75% at December 31, 1996) due through April 1, 1999 10,000 15,000 Capital Leases and Other 7,542 1,996 - -------------------------------------------------------------------------------- Total Outstanding 1,053,742 925,962 Less Long-Term Debt Due Within One Year 11,008 53,707 - -------------------------------------------------------------------------------- $1,042,734 $ 872,255 ================================================================================
Annual maturities of long-term debt at December 31, 1997, are as follows:
Years (In Thousands) - -------------------------------------------------------- 1998 $ 11,008 1999 109,422 2000 3,120 2001 330,192 2002 200,000 2003-2007 400,000 - -------------------------------------------------------- $ 1,053,742 ========================================================
Sonat has a bank revolving credit agreement that provides for periodic borrowings and repayments of up to $500.0 million through June 30, 2001. Borrowings are supported by unsecured promissory notes that, at the option of the Company, will bear interest at the banks' prevailing prime or international lending rate, or such rates as the banks may competitively bid. During 1997, $1.730 billion was borrowed and $1.755 billion was repaid under the revolving credit agreement, resulting in $130.0 million outstanding at December 31, 1997, at an effective rate of 6.14 percent. In September 1997, Sonat and Southern issued a total of $200.0 million under their shelf registration statements. Sonat issued $100.0 million of 6.75 percent Notes due October 1, 2007, at 99.748 percent to yield 6.785 percent. Southern issued $100.0 million of 6.70 percent Notes due October 1, 2007, at 99.891 percent to yield 6.715 percent. The net proceeds were subsequently used to repay amounts borrowed under Sonat's commercial paper program and under its revolving credit agreement. Unsecured Notes - Loans under all short-term credit facilities are for a duration of less than three months. At December 31, 1997, Sonat and Southern had available short-term lines of credit of $200.0 million and $50.0 million, respectively, through May 26, 1998. Borrowings are available for a period of not more than 364 days and are in the form of unsecured promissory notes that bear interest at rates based on the banks' prevailing prime, international or money-market lending rates. At December 31, 1997, no amounts were outstand- 58 II-31 61 Sonat Inc. and Subsidiaries ing under Sonat's agreement. At December 31, 1996, Sonat had $21.0 million outstanding under its agreement at a rate of 6.90 percent. At December 31, 1997 and 1996, no amounts were outstanding under Southern's agreement. (See Note 15.) Sonat had $446.6 million and $137.0 million, respectively, in commercial paper outstanding at average rates of 6.31 percent and 5.76 percent at December 31, 1997 and 1996, respectively. 8 INCOME TAXES An analysis of the Company's income tax expense (benefit) is as follows:
(In Thousands) ------------------------------------------- Years Ended December 31, 1997 1996 1995 - -------------------------------------------------------------------------------- Current: Federal $ 12,435 $ 17,652 $ 71,871 State 8,067 4,021 (2,043) - -------------------------------------------------------------------------------- 20,502 21,673 69,828 - -------------------------------------------------------------------------------- Deferred: Federal 57,563 66,051 21,936 State 2,472 5,391 3,229 - -------------------------------------------------------------------------------- 60,035 71,442 25,165 - -------------------------------------------------------------------------------- Income Tax Expense $ 80,537 $ 93,115 $ 94,993 ================================================================================
Net deferred tax liabilities are comprised of the following: (In Thousands) ------------------------- December 31, 1997 1996 - -------------------------------------------------------------------------------- Deferred Tax Liabilities: Depreciation $382,945 $330,047 Inventories 11,573 11,572 Other 8,564 6,372 - -------------------------------------------------------------------------------- Total deferred tax liabilities 403,082 347,991 - -------------------------------------------------------------------------------- Deferred Tax Assets: GSR and other transition costs 10,210 13,228 Employee benefits 10,777 11,897 Tax credit carryforwards 12,925 7,277 Other accounting accruals 7,954 16,705 Other 16,617 14,320 - -------------------------------------------------------------------------------- Total deferred tax assets 58,483 63,427 - -------------------------------------------------------------------------------- Net Deferred Tax Liabilities $344,599 $284,564 ================================================================================
The Company has not provided a valuation allowance to offset deferred tax assets because, based on the weight of available evidence, it is more likely than not that all deferred tax assets will be realized. Consolidated income tax expense is different from the amount computed by applying the U.S. federal income tax rate to income before income tax. The reasons for this difference are as follows:
(In Thousands) ------------------------------------------ Years Ended December 31, 1997 1996 1995 - -------------------------------------------------------------------------------- Income Tax Expense at Statutory Federal Income Tax Rates $ 89,760 $ 103,006 $ 100,758 Increases (Decreases) Resulting From: State income taxes, net of federal income tax benefit 6,851 6,118 771 Non-conventional fuel tax credits (7,220) (9,465) (11,380) Refunds and adjustment of accrued tax position 47 880 14,639 Dividend exclusion (8,029) (6,413) (11,248) Other (872) (1,011) 1,453 - -------------------------------------------------------------------------------- Income Tax Expense $ 80,537 $ 93,115 $ 94,993 ================================================================================
9 COMMITMENTS AND CONTINGENCIES Rate Matters - Periodically, Southern and its subsidiaries make general rate filings with the Federal Energy Regulatory Commission (FERC) to provide for the recovery of cost of service and a return on equity. The FERC normally allows the filed rates to become effective, subject to refund, until it rules on the approved level of rates. Southern and its subsidiaries provide reserves relating to such amounts collected subject to refund, as appropriate, and make refunds upon establishment of the final rates. At December 31, 1997, Southern's rates are established by a settlement that was approved by FERC orders issued in 1995 and 1996. All of its customers are parties to the settlement. Leases - The Company has operating lease commitments expiring at various dates, principally for office space and equipment. The Company has no significant capital leases. II-32 59 62 Notes to Consolidated Financial Statements NOTE 9 (CONTINUED) Rental expense for all operating leases is summarized below. Rental Expense
(In Thousands) ------------------------------------- Years Ended December 31, 1997 1996 1995 - -------------------------------------------------------------------------------- Non-Affiliated Operating Leases $20,028 $18,149 $18,152 Affiliated Operating Leases 3,544 3,680 3,635 - -------------------------------------------------------------------------------- $23,572 $21,829 $21,787 ================================================================================
At December 31, 1997, future minimum payments for non-cancelable operating leases for the years 1998 through 2002 are $8 million or less per year. Future minimum rentals to be received under subleases for the years 1998 through 2002 are less than $2 million per year. 10 CAPITAL STOCK AND STOCK-BASED COMPENSATION Per-share prices of the Company's common stock, based on the New York Stock Exchange listing of composite transactions, and dividends paid per common share for the last two years are summarized below. Price Range and Dividends Paid Per Common Share
(Unaudited) --------------------------------------- Quarter 1997 1996 - ----------------------------------------------------------------- Price Range High-Low First $57 - $45 1/2 $37 1/4 - $31 1/8 Second 59 1/8 - 50 5/8 45 3/8 - 36 1/8 Third 54 1/4 - 45 3/8 47 1/2 - 41 Fourth 51 5/16 - 42 1/4 54 3/4 - 44 1/8 ================================================================= Dividends Paid First $ .27 $ .27 Second .27 .27 Third .27 .27 Fourth .27 .27 - ----------------------------------------------------------------- $ 1.08 $ 1.08 ================================================================= Shareholders of Record at Year-End 11,258 12,020 =================================================================
The Company had no restrictions on the payment of dividends at December 31, 1997. The Company has a Preference Share Rights Plan designed to protect the interest of stockholders in the event of a hostile attempt to take over the Company and to make it more difficult for a person to gain control of the Company in a manner or on terms not approved by the Board of Directors. The plan provides for the issuance of one right with respect to each outstanding share of common stock. The rights issued under the plan are redeemable at any time by the Company before their expiration on February 3, 2006, unless certain triggering events have occurred. The rights outstanding under the plan are exercisable for one one-hundredth of a share of Series A Participating Preference Stock, par value $1.00, with each share having substantially the rights and preferences of 100 shares of common stock. As of December 31, 1997, 1,000,000 shares of Series A Participating Preference Stock were reserved for issuance under this plan. Earnings Per Share - The following table presents the computation of basic and diluted earnings per share of common stock:
(In Thousands, Except Per-Share Amounts) -------------------------------------- Years Ended December 31, 1997 1996 1995 - -------------------------------------------------------------------------------- Numerator: Net income $175,920 $201,189 $192,888 ================================================================================ Denominator: Denominator for Basic Earnings Per Share: Weighted average number of shares of common stock outstanding 85,941 86,211 86,270 Effect of Dilutive Securities: Common stock equivalents applicable to outstanding stock options 1,570 1,353 832 - -------------------------------------------------------------------------------- Denominator for Diluted Earnings Per Share: Adjusted weighted average shares using treasury stock method for assumed conversions 87,511 87,564 87,102 ================================================================================ Earnings Per Share of Common Stock $ 2.05 $ 2.33 $ 2.24 ================================================================================ Earnings Per Share of Common Stock - Assuming Dilution $ 2.01 $ 2.30 $ 2.21 ================================================================================
See Note 15 for information regarding the issuance of additional shares of common stock. 60 II-33 63 Sonat Inc. and Subsidiaries Executive Award Plan - The Company has an Executive Award Plan that provides awards to certain key employees in the form of stock options, restricted stock and stock appreciation rights (SARs) in tandem with any or all stock options. In years prior to 1991, tax offset payments were generally provided in conjunction with these awards. SARs permit the holder of an exercisable option to surrender that option for an amount equal to the excess of the market price of the common stock on the date of exercise over the option price (appreciation). The appreciation is payable in cash, common stock or a combination of both. SARs are subject to the same terms and conditions as the options to which they are related. Commencing in November 1995, the Company has issued, in tandem with its regular stock options, SARs that are exercisable only in the event of a change in control (limited SARs). In November 1995, the Company also issued limited SARs to certain key employees with respect to all of their then outstanding options. No other SARs have been issued since 1990. At December 31, 1997, 161,000 SARs relating to the earlier periods were outstanding. All options granted since December 1992 have 10-year terms and vest and become fully exercisable at the end of five years of continued employment. Options issued after 1992 also contain an acceleration provision dependent upon a specified increase in the Company's stock price. Options granted prior to December 1992 vested over three years and had no accelerated vesting provisions. The Company issued 80,100 shares of restricted stock with a $43 13/16 per share market value to employees during 1997 and 97,000 shares with a $52.00 per share market value during 1996. At December 31, 1997, 173,498 of the 531,800 cumulative restricted shares issued have vested. A new plan was authorized during 1995 which made an additional four million shares available for issuance. The Company has elected to follow APB No. 25, Accounting for Stock Issued to Employees, and related Interpretations in accounting for its employee stock options. Under APB No. 25, compensation expense is recognized for the difference between the option price and market value on the measurement date for variable stock option awards and restricted stock grants. No compensation expense is recognized for options the Company issued after 1990 because the exercise price of the stock options equals the market price of the underlying stock on the date of grant. Stock-based compensation increased pretax income by $2.0 million in 1997 and decreased it by $13.2 million in 1996 and $7.9 million in 1995. Pro forma information regarding net income and earnings per share is required by SFAS No. 123, Accounting for Stock-Based Compensation, and has been determined as if the Company had accounted for its employee stock options under the fair value method of the Statement. The fair value for these options was estimated at the date of grant using a Black-Scholes option pricing model with the following weighted-average assumptions for 1997 and 1996, respectively: interest rates (zero-coupon U.S. government issues with a remaining life of six years) of 5.93 percent and 6.10 percent; dividend yields of 2.47 percent and 2.35 percent; volatility factors of the expected market price of the Company's common stock of .266 and .255; and a weighted-average expected life of the options of six years. The Black-Scholes option valuation model was developed for use in estimating the fair value of traded options which have no vesting restrictions and are fully transferable. In addition, option valuation models require the input of highly subjective assumptions including the expected stock price volatility. Because the Company's employee stock options have characteristics significantly different from those of traded options, and because changes in the subjective input assumptions can materially affect the fair value estimate, in management's opinion, the existing models do not necessarily provide a reliable single measure of the fair value of its employee stock options. The Company's pro forma information follows:
(In Thousands, Except Per-Share Amounts) -------------------------------------- Years Ended December 31, 1997 1996 1995 - ----------------------------------------------------------------------- Net Income: As reported $175,920 $201,189 $192,888 Pro forma 174,697 198,522 192,843 Earnings Per Share: As reported $ 2.05 $ 2.33 $ 2.24 Pro forma 2.03 2.30 2.24 =======================================================================
II-34 61 64 Notes to Consolidated Financial Statements NOTE 10 (CONTINUED) For purposes of the pro forma disclosures, the estimated fair value of the options is amortized to expense over the options' vesting period, which is five years for the awards. However, since all of the 1995 stock option grants vested under an accelerated vesting clause in 1996, the entire remaining cost for that award is reflected in 1996. Because the Company's stock options vest generally over five years and additional awards are typically made each year, the above pro forma disclosures are not likely to be representative of the effects on pro forma net income for future years. A summary of the Company's stock option activity and related information follows:
---------------------------------------------------------------------------------------- Years Ended December 31, 1997 1996 1995 - ------------------------------------------------------------------------------------------------------------------------------ Weighted-Avg. Weighted-Avg. Weighted-Avg. Options Exercise Price Options Exercise Price Options Exercise Price - ------------------------------------------------------------------------------------------------------------------------------ Outstanding - Beginning of Year 4,178,226 $30.16 4,578,600 $25.24 4,358,820 $23.52 Granted 712,400 43.81 633,700 52.00 682,300 32.25 Exercised (453,907) 25.69 (1,013,954) 21.58 (450,020) 19.06 Forfeited (20,500) 46.90 (20,120) 31.81 (12,500) 27.33 - ------------------------------------------------------------------------------------------------------------------------------ Outstanding - End of Year 4,416,219 32.74 4,178,226 30.16 4,578,600 25.24 ============================================================================================================================== Exercisable - End of Year 3,217,419 27.38 3,544,526 26.26 2,566,520 21.55 ============================================================================================================================== Shares Authorized for Future Grants 2,884,700 3,597,100 4,230,800 ============================================================================================================================== Fair Value of Options Granted During the Year $ 12.50 $ 14.87 $ 6.33 ==============================================================================================================================
The following table summarizes information about stock options outstanding at December 31, 1997:
Options Outstanding Options Exercisable ---------------------------------------------------------------------------------------- Weighted-Avg. Number Remaining Number Range of Exercise Outstanding Contractual Weighted-Avg. Exercisable Weighted-Avg. Prices 12/31/97 Life Exercise Price 12/31/97 Exercise Price - ------------------------------------------------------------------------------------------------------------------ $13.625 - $17.4375 476,624 3.2 $15.75 476,624 $15.75 $21.125 - $29.125 1,300,380 5.7 25.51 1,300,380 25.51 $30.00 - $32.25 1,308,915 6.8 31.01 1,308,915 31.01 $43.8125 - $52.00 1,330,300 9.5 47.62 131,500 52.00 - ------------------------------------------------------------------------------------------------------------------ 4,416,219 3,217,419 ==================================================================================================================
Directors' Restricted Stock Plan - The Company has a Restricted Stock Plan for non-employee members of the Board of Directors of the Company. Full rights vest over a maximum of five years. The Company did not issue any shares under this plan during 1997 and 1996. At December 31, 1997, 33,460 of the 37,460 cumulative shares granted have vested. Treasury Stock - The Company's stock repurchase program has been extended to December 31, 1998, which allows for the repurchase of up to 1,000,000 additional shares of common stock. Shares purchased are being reissued in connection with employee stock options and restricted stock programs. Serial Preference Stock - At December 31, 1997 and 1996, there were 10,000,000 shares of $1.00 par value Serial Preference Stock authorized, with none issued. 11 RETIREMENT PLANS AND OTHER POSTEMPLOYMENT BENEFITS Retirement Plans - Sonat has a trusteed, non-contributory, tax qualified defined benefit retirement plan (the Retirement Plan) covering substantially all employees of the Company. A supplemental benefit plan (the Supplemental Plan) that provides retirement benefits in excess 62 II-35 65 Sonat Inc. and Subsidiaries of those allowed under the Company's tax qualified retirement plan is also in effect for the Company. Benefits under the plans are based on a combination of years of service and a percentage of compensation. Benefits vest after a period of five years. The Company determines the amount of funding to the Retirement Plan on a year-to-year basis, with amounts consistent with minimum and maximum funding requirements established by various governmental bodies. Amounts are being placed in a trust established to provide benefits under the Supplemental Plan. However, this trust is not subject to any funding requirements. At December 31, 1997, this trust had assets with a fair market value of $41.7 million available to pay benefits. These assets are not considered plan assets under SFAS No. 87, Employers' Accounting for Pensions. The Company's net periodic pension (income) cost consists of the following components:
(In Thousands) ---------------------------------------------- Years Ended December 31, 1997 1996 1995 - -------------------------------------------------------------------------------- Service Cost - Benefits Earned During the Period $ 7,848 $ 8,818 $ 5,756 Interest Cost on Projected Benefit Obligation 26,858 26,550 25,822 Gain on Assets (111,983) (46,475) (97,687) Net Amortization and Deferral 68,686 7,945 61,307 - -------------------------------------------------------------------------------- $ (8,591) $ (3,162) $ (4,802) ================================================================================
The change in the net periodic pension income from 1996 to 1997 was primarily attributable to the change in plan assumptions and the growth in plan assets. The following table sets forth the assets and liabilities of the plans and the amount of the net pension asset or liability recognized in the Company's Consolidated Balance Sheets:
(In Thousands) ------------------------------------------------ Plan with Obligations Plan with Obligations Less than Assets(1) in Excess of Assets(2) December 31, December 31, ------------------------------------------------ 1997 1996 1997 1996 - ------------------------------------------------------------------------------------------------------------------------------ Actuarial Present Value of Benefit Obligations: Vested benefit obligations $ 274,768 $ 281,818 $ 28,314 $ 26,778 Non-vested benefit obligations 8,844 8,149 1,573 532 - ------------------------------------------------------------------------------------------------------------------------------ Accumulated benefit obligations 283,612 289,967 29,887 27,310 Effect of projected future salary increases 48,704 58,271 10,483 11,277 - ------------------------------------------------------------------------------------------------------------------------------ Projected benefit obligations 332,316 348,238 40,370 38,587 Plan Assets at Fair Value (3) 550,982 461,299 -- -- - ------------------------------------------------------------------------------------------------------------------------------ Projected Benefit Obligations (in Excess of) or Less than Plan Assets 218,666 113,061 (40,370) (38,587) Unrecognized Net (Assets) or Obligations at Transition (4) (9,496) (11,226) 204 256 Unrecognized Net (Gain) Loss (5) (179,954) (86,441) 7,387 6,763 Unrecognized Prior Service Cost 3,954 4,853 3,134 3,540 Net Unamortized Deferred Charge from Early Retirement Termination Benefits (6) 598 411 -- -- Adjustment Required to Recognize Minimum Pension Liability -- -- (242) -- - ------------------------------------------------------------------------------------------------------------------------------ Net Pension Asset (Liability) Recognized in the Consolidated Balance Sheets $ 33,768 $ 20,658 $ (29,887) $ (28,028) ==============================================================================================================================
(1) The Retirement Plan. (2) The Supplemental Plan. (3) Plan assets consist primarily of debt and equity securities, and investments in equity index and foreign index funds. (4) Amortization periods for unrecognized net (asset) or obligation at transition are 16.5 years for the Retirement Plan and 15 years for the Supplemental Plan. (5) Amortization periods for unrecognized net (gain) loss are approximately 15.6 and 15.7 years for the Retirement Plan and 15.2 and 14.2 years for the Supplemental Plan for 1997 and 1996, respectively. (6) The amortization period for early retirement termination benefits is 10 years for the Retirement Plan. II-36 63 66 Notes to Consolidated Financial Statements NOTE 11 (CONTINUED) The provisions of SFAS No. 87 require recognition in the balance sheet of an additional minimum liability and related intangible asset for pension plans with accumulated benefits in excess of plan assets. At December 31, 1997, an additional liability and intangible asset of $.2 million is reflected in the Company's Consolidated Balance Sheet. There was no amount of additional minimum liability required for 1996. The assumed rates used to measure the projected benefit obligations and the expected earnings of plan assets are:
------------------------------ Years Ended December 31, 1997 1996 1995 - ----------------------------------------------------------------------- Weighted Average Discount Rate 7.5% 7.0% 7.0% Long-Term Rate of Return 9.5% 9.5% 9.5% Increase in Future Compensation Levels (Composite Rate): Retirement and Supplemental Plans 5.0% 5.0% 5.5% =======================================================================
Other Postemployment Benefits - The Company has plans that provide for postretirement health care and life insurance benefits to substantially all of its employees when they retire. The Company accrues the cost of postretirement health care and life insurance benefits within the employees' active service periods. The Company has elected to amortize the transition obligation over a 20-year period. The annual net periodic cost for postretirement health care and life insurance benefits consists of the following components:
(In Thousands) ------------------------------------------- Years Ended December 31, 1997 1996 1995 - -------------------------------------------------------------------------------- Service Cost $ 2,138 $ 2,161 $ 1,672 Interest Cost 6,575 6,387 7,409 Return on Plan Assets (3,983) (3,922) (3,398) Net Amortization and Deferral 4,690 5,535 5,546 - -------------------------------------------------------------------------------- $ 9,420 $ 10,161 $ 11,229 ================================================================================
The Company funds postretirement health care benefits for employees of its regulated subsidiaries in an amount generally equal to the subsidiaries' annual expense. The regulated subsidiaries currently recover their portion of postretirement expense through rates. The Company also funds its Retiree Life Insurance Plan for all its subsidiaries with the amount of funding determined on a year-to-year basis with the objective of having assets equal plan liabilities. The following table sets forth the funded status at December 31, 1997 and 1996, for the Company's postretirement health care and life insurance plans:
(In Thousands) --------------------------- December 31, 1997 1996 - ------------------------------------------------------------------------- Accumulated Postretirement Benefit Obligation: Retirees $ 56,664 $ 63,750 Fully eligible active plan participants 6,962 5,221 Other active plan participants 19,330 26,056 - ------------------------------------------------------------------------- 82,956 95,027 Plan Assets at Fair Value(1) 38,923 32,595 - ------------------------------------------------------------------------ Accumulated Postretirement Benefit Obligation in Excess of Plan Assets (44,033) (62,432) Unrecognized Transition Obligation 51,994 57,544 Unrecognized Net Gain(2) (31,649) (15,013) Net Unamortized Deferred Charge from Early Retirement Termination Benefits 1,980 288 - ------------------------------------------------------------------------- Accrued Postretirement Benefit Liability $(21,708) $(19,613) =========================================================================
(1) Retiree Medical Plan assets are comprised of equity securities, municipal tax exempt bonds and short-term investment funds. Retiree Life Insurance Plan assets are held in an investment account, which consists primarily of fixed income securities. (2) Amortization periods for unrecognized net gain are 15.1 and 15.4 years for 1997 and 1996, respectively. The assumed rates used to measure the projected benefit obligation and the expected earnings of plan assets are:
-------------------- Years Ended December 31, 1997 1996 1995 - --------------------------------------------------------- Discount Rate 7.5% 7.0% 7.0% Long-Term Rate of Return: Medical assets 5.5% 5.5% 5.5% Life insurance assets 7.5% 7.5% 7.5% =========================================================
64 II-37 67 Sonat Inc. and Subsidiaries The rate of increase in the per capita costs of covered health care benefits is assumed to be 4.5 percent in 1998 and for all future years. Increasing the assumed health care cost trend rate by one percentage point would increase the accumulated postretirement benefit obligation as of December 31, 1997, by approximately $9.7 million and increase the service cost and interest cost components of the net periodic postretirement benefit cost by approximately $1.1 million. 12 BUSINESS SEGMENT ANALYSIS The Company's consolidated financial statements reflect operations in three segments: Exploration and Production, Natural Gas Transmission and Energy Services. The Company is engaged in the exploration for and the acquisition, development and production of oil and natural gas through its Exploration and Production segment. The oil and gas properties of the Exploration and Production segment are located principally onshore in the Southern coastal states, in various states in the Southwest and Midwest, and in federal waters offshore Louisiana and Texas. It derives the majority of its revenues through sales to Sonat Marketing (included in the Energy Services segment). The principal business of the Natural Gas Transmission segment is the transmission of natural gas in interstate commerce. Its transmission systems are located in the Southeastern United States. Transportation service is provided for its distribution customers, direct industrial customers and other end-users, gas producers, other gas pipelines, and gas marketing and trading companies. It provides transportation service in both its gas supply and market areas. The principal industries served directly by the natural gas transmission's pipeline system and indirectly through its distribution customers' systems include the chemical, pulp and paper, textile, primary metals, stone, clay and glass industries. The Energy Services segment is engaged primarily in natural gas and electric power marketing for industrial and commercial users, gas distribution companies and gas producers throughout the Gulf Coast, Southeastern, Midwestern and Northeastern United States and development of power systems and power plants. The Company's results of operations, revenues from major customers, capital expenditures and assets by business segment are shown in the following tables. Intersegment sales are primarily gas sales by the Exploration and Production segment and are priced at market rates. The Company has no foreign operations. Operating profit is revenues less operating expenses. In determining operating profit, none of the following items have been included: unallocated general corporate revenues and expenses, interest, dividend and other income, interest expense, income taxes and equity in earnings of unconsolidated affiliates. Minority interest is included in Other Income, Net. II-38 65 68 Notes to Consolidated Financial Statements NOTE 12 (CONTINUED) Business Segment Analysis
(In Thousands) ------------------------------------------------ Years Ended December 31, 1997 1996 1995 - --------------------------------------------------------------------------------------------------------------- Revenues: Exploration and production $ 558,456 $ 565,654 $ 403,488 Natural gas transmission 393,292 398,828 412,327 Energy services 3,723,932 2,592,703 1,249,903 Other 32,937 44,352 37,122 Intersegment revenue (533,993) (562,523) (348,499) - --------------------------------------------------------------------------------------------------------------- $ 4,174,624 $ 3,039,014 $ 1,754,341 =============================================================================================================== Depreciation, Depletion and Amortization: Exploration and production $ 269,336 $ 236,419 $ 239,167 Natural gas transmission 47,769 48,293 52,274 Energy services 5,557 1,729 955 Other, including depreciation of corporate equipment 3,352 1,751 6,318 - --------------------------------------------------------------------------------------------------------------- $ 326,014 $ 288,192 $ 298,714 =============================================================================================================== Operating Profit: Exploration and production $ 102,945 $ 161,893 $ 22,967 Natural gas transmission 178,348 165,587 158,329 Energy services 10,613 10,184 6,510 Other 5,134 3,981 2,317 - --------------------------------------------------------------------------------------------------------------- Operating profit 297,040 341,645 190,123 Corporate Income (Expenses), Net 161 (368) (1,190) - --------------------------------------------------------------------------------------------------------------- Operating income 297,201 341,277 188,933 Equity in Earnings (Losses) of Unconsolidated Affiliates: Exploration and production 445 408 615 Natural gas transmission 40,525 32,532 37,553 Energy services 817 9 (5) Other 1,233 1,262 8,095 Other Income, Net 2,511 1,609 142,534 Interest Expense, Net (86,275) (82,793) (89,844) - --------------------------------------------------------------------------------------------------------------- Income Before Income Taxes $ 256,457 $ 294,304 $ 287,881 ===============================================================================================================
Revenues from Major Customers
(In Thousands) ------------------------------------------------ Years Ended December 31, 1997 1996 1995 - --------------------------------------------------------------------------------------------------------------- Atlanta Gas Light: Natural gas transmission $ 130,425 $ 134,062 $ 136,806 Energy services 51,069 54,191 38,342 - --------------------------------------------------------------------------------------------------------------- $ 181,494 $ 188,253 $ 175,148 =============================================================================================================== Alabama Gas Corporation: Natural gas transmission $ 48,300 $ 38,662 $ 40,019 Energy services 87,994 86,062 50,134 - --------------------------------------------------------------------------------------------------------------- $ 136,294 $ 124,724 $ 90,153 ===============================================================================================================
66 II-39 69 Sonat Inc. and Subsidiaries Both of the major customers or their affiliates participate with the Company in certain joint venture operations. Capital expenditures for unconsolidated affiliates are accounted for on the books of the unconsolidated affiliates and therefore are not reflected in the totals appearing in the Company's Consolidated Financial Statements. Capital Expenditures by Business Segment
(In Thousands) --------------------------------------- Years Ended December 31, 1997 1996 1995 ---------------------------------------------------------------------------------------------------------- Consolidated: Exploration and production (excluding exploratory costs) $ 539,075 $ 368,423 $ 416,158 Natural gas transmission 144,269 130,417 62,720 Energy services 10,978 4,736 2,758 Other 4,496 5,958 5,928 ---------------------------------------------------------------------------------------------------------- 698,818 509,534 487,564 ---------------------------------------------------------------------------------------------------------- Unconsolidated Affiliates (Company's Portion): Exploration and production 512 222 723 Natural gas transmission 41,772 15,138 100,489 Other 244 490 525 ---------------------------------------------------------------------------------------------------------- 42,528 15,850 101,737 ---------------------------------------------------------------------------------------------------------- $ 741,346 $ 525,384 $ 589,301 ==========================================================================================================
Identifiable assets by business segment are those assets that are used in the Company's operations in each business. Corporate assets are typically investments, cash and equipment. Included in corporate assets at December 31, 1997, is restricted cash of $116.0 million relating to the merger with Zilkha Energy (see Note 15). Assets by Business Segment
(In Thousands) --------------------------------------- December 31, 1997 1996 1995 -------------------------------------------------------------------------------------------------- Identifiable Assets: Exploration and production $1,930,752 $1,705,504 $1,592,399 Natural gas transmission 1,187,880 1,181,440 1,285,404 Energy services 752,717 524,768 261,751 Other 41,911 41,449 37,850 Adjustments and eliminations (157,215) (156,140) (103,579) -------------------------------------------------------------------------------------------------- 3,756,045 3,297,021 3,073,825 -------------------------------------------------------------------------------------------------- Investments in Unconsolidated Affiliates: Exploration and production 5,679 5,255 4,876 Natural gas transmission 467,453 392,180 368,527 Energy services 5,639 5,457 490 Other 12,910 11,668 12,188 -------------------------------------------------------------------------------------------------- 491,681 414,560 386,081 Corporate Assets 183,788 63,078 51,535 -------------------------------------------------------------------------------------------------- Total Assets $4,431,514 $3,774,659 $3,511,441 ==================================================================================================
II-40 67 70 Notes to Consolidated Financial Statements 13 OIL AND GAS OPERATIONS (UNAUDITED) At December 31, 1997, the Company had interests in oil and gas properties that are located primarily in Texas, Oklahoma, Louisiana, Arkansas, Alabama, and offshore Louisiana and Texas in the Gulf of Mexico. The Company does not own or lease any oil and gas properties outside the United States. Capitalized costs relating to oil and gas producing activities and related accumulated depreciation, depletion and amortization were as follows: Capitalized Costs
(In Thousands) ----------------------- December 31, 1997 1996 - --------------------------------------------------------- Oil and Gas Properties: Proved properties $2,855,234 $2,461,709 Unproved properties 135,281 118,031 - --------------------------------------------------------- 2,990,515 2,579,740 Less Accumulated Depreciation, Depletion and Amortization 1,294,854 1,075,016 - --------------------------------------------------------- $1,695,661 $1,504,724 =========================================================
Costs incurred in oil and gas producing activities, whether capitalized or expensed, were as follows: Costs Incurred
(In Thousands) -------------------------------------- Years Ended December 31, 1997 1996 1995 ----------------------------------------------------------------------------- Property Acquisition Costs: Proved properties $ 5,578 $ 48,118 $ 208,866 Unproved properties 57,809 44,623 14,767 Exploration Costs 87,870 41,728 12,138 Development Costs 397,803 244,008 183,056 ----------------------------------------------------------------------------- Total Costs $ 549,060 $ 378,477 $ 418,827 =============================================================================
Net quantities of proved developed and undeveloped reserves of natural gas and crude oil, including condensate and natural gas liquids, and changes in such quantities were as follows: Reserve Data
Liquids Gas Liquids Gas Liquids Gas (MBbls) (Bcf) (MBbls) (Bcf) (MBbls) (Bcf) ---------------------------------------------------------------- December 31, 1997 1996 1995 ------------------------------------------------------------------------------------------------------------------------- Proved (Developed and Undeveloped) Reserves, Net: Beginning of year 51,437 1,691.6 44,228 1,505.5 31,627 1,367.3 Revisions of previous estimates 4,318 147.4 3,106 50.2 998 48.4 Extensions, discoveries and other additions 7,973 237.2 11,597 295.2 6,774 173.8 Purchases of reserves in place 850 20.6 1,536 100.6 16,954 248.1 Sales of reserves in place (433) (43.7) (1,724) (55.1) (6,656) (149.0) Production (6,376) (203.3) (7,306) (204.8) (5,469) (183.1) ------------------------------------------------------------------------------------------------------------------------- End of Year 57,769 1,849.8 51,437 1,691.6 44,228 1,505.5 ========================================================================================================================= Proved Developed Reserves: Beginning of year 28,961 1,188.3 25,613 1,060.1 22,269 1,001.0 End of year 36,790 1,354.1 28,961 1,188.3 25,613 1,060.1 =========================================================================================================================
MBbls-Thousands of barrels Bcf-Billion cubic feet 68 II-41 71 Sonat Inc. and Subsidiaries The significant changes to reserves, other than acquisitions, dispositions or production, are due to reservoir performance in existing fields and drilling of additional wells in existing fields. Except for the merger with Zilkha Energy (see Note 15), there were no major discoveries or other events, favorable or adverse, that may be considered to have caused a significant change in the estimated proved reserves since December 31, 1997. Results of operations from producing activities by fiscal year were as follows: Results of Operations
(In Thousands) -------------------------------------- Years Ended December 31, 1997 1996 1995 - ------------------------------------------------------------------------------------------- Net Revenues: Sales $ 148,567 $ 155,274 $ 175,032 Affiliated sales 409,889 410,380 228,456 - ------------------------------------------------------------------------------------------- Total 558,456 565,654 403,488 Production Costs (95,016) (88,036) (81,046) Exploration Expenses (32,164) (21,669) (9,065) Depreciation, Depletion and Amortization (269,336) (236,419) (239,167) - ------------------------------------------------------------------------------------------- 161,940 219,530 74,210 Income Tax Expense (49,498) (67,454) (14,730) - ------------------------------------------------------------------------------------------- Results of Operations from Producing Activities (Excluding Corporate Overhead and Interest Costs) $ 112,442 $ 152,076 $ 59,480 ===========================================================================================
The standardized measure of discounted future net cash flows relating to proved oil and gas reserves follows: Standardized Measure of Discounted Future Net Cash Flows
(In Thousands) ---------------------------------------- December 31, 1997 1996 1995 - --------------------------------------------------------------------------------------------------------- Future Cash Inflows $ 5,044,842 $ 7,041,438 $ 3,562,789 Future Production and Development Costs (1,584,670) (1,627,378) (1,286,074) Future Income Tax Expenses (784,231) (1,407,017) (354,041) - --------------------------------------------------------------------------------------------------------- Future Net Cash Flows 2,675,941 4,007,043 1,922,674 10% Annual Discount for Estimated Timing of Cash Flows (938,593) (1,313,286) (611,206) - --------------------------------------------------------------------------------------------------------- Standardized Measure of Discounted Future Net Cash Flows $ 1,737,348 $ 2,693,757 $ 1,311,468 =========================================================================================================
For the calculations in the preceding table, estimated future cash inflows from estimated future production of proved reserves were computed using realized oil and gas prices for the month of December of each respective year. II-42 69 72 Notes to Consolidated Financial Statements NOTE 13 (CONTINUED) The following are the principal sources of change in the standardized measure of discounted future net cash flows: Changes in Standardized Measure of Discounted Future Net Cash Flows
(In Thousands) ----------------------------------------- Years Ended December 31, 1997 1996 1995 - ------------------------------------------------------------------------------------------------------------------------- Sales and Transfers of Oil and Gas Produced, Net of Production Costs $ (463,440) $ (477,618) $ (322,442) Net Changes in Prices and Production Costs (1,475,578) 1,412,485 186,034 Extensions, Discoveries and Improved Recovery, Less Related Costs 252,907 664,888 176,080 Changes in Estimated Future Development Costs (30,609) 269 (15,362) Development Costs Incurred During the Period 147,209 107,158 103,138 Revisions of Previous Quantity Estimates 158,508 125,181 49,129 Accretion of Discount 352,460 145,877 105,288 Net Change in Income Taxes 426,865 (683,539) (180,223) Purchases of Reserves in Place 23,628 199,532 333,260 Sales of Reserves in Place (47,170) (126,557) (155,952) Changes in Production Rates (Timing) and Other (301,189) 14,613 (53,282) - ------------------------------------------------------------------------------------------------------------------------- $ (956,409) $1,382,289 $ 225,668 =========================================================================================================================
14 QUARTERLY RESULTS (UNAUDITED) Selected unaudited quarterly data is shown below:
(In Thousands, Except Per-Share Amounts) ------------------------------------------------------- 1st 2nd 3rd 4th Quarter Quarter Quarter Quarter - ---------------------------------------------------------------------------------------------------------------- 1997 (1) Revenues $1,072,143 $ 815,304 $1,023,531 $1,263,646 Operating Income 106,909 65,469 28,537 96,286 Net Income 66,846 36,223 12,970 59,881 ================================================================================================================ Earnings Per Share of Common Stock $ .78 $ .42 $ .15 $ .70 ================================================================================================================ Earnings Per Share of Common Stock-Assuming Dilution $ .76 $ .41 $ .15 $ .69 ================================================================================================================ 1996 Revenues $ 695,604 $ 637,330 $ 743,796 $ 962,284 Operating Income 83,231 74,241 75,160 108,645 Net Income 45,569 40,595 48,034 66,991 ================================================================================================================ Earnings Per Share of Common Stock $ .53 $ .47 $ .56 $ .78 ================================================================================================================ Earnings Per Share of Common Stock-Assuming Dilution $ .52 $ .46 $ .55 $ .76 ================================================================================================================
(1) Net income for the third quarter of 1997 includes a charge of $25.4 million, or $.30 per share ($.29 diluted), related to the impairment of certain oil and gas properties. 70 II-43 73 Sonat Inc. and Subsidiaries 15 SUBSEQUENT EVENTS Debt Issuances and Lines of Credit - In late January 1998, Sonat made two public offerings of Notes pursuant to its shelf registration statement. In one offering, Sonat issued $100 million of 6 5/8 percent Notes due February 1, 2008, at 99.531 percent to yield 6.69 percent. In the other offering, Sonat issued $100 million of 7 percent Notes due February 1, 2018, at 99.787 percent to yield 7.02 percent. The net proceeds from the offerings were used for general corporate purposes, including capital expenditures, working capital and repayment of debt. Also in late January 1998, Sonat completed a new 364-day $700 million revolving credit facility with 20 banks. In connection with this new facility the Company terminated existing lines of credit providing for up to $200 million of borrowings. Zilkha Energy Merger - On January 30, 1998, following a special shareholders' meeting, the Company completed the merger with Zilkha Energy Company. Immediately thereafter Zilkha Energy's name was changed to Sonat Exploration GOM Inc. Under the terms of the merger, to be accounted for as a pooling of interests, the Company exchanged approximately 24.2 million common shares for all the outstanding shares of Zilkha Energy. Zilkha Energy was a privately owned exploration and production company. It operates in the shallow waters of the Gulf of Mexico where it has accumulated the industry's largest net leasehold position in the shallow-water area. The financial position and results of operations of the Company and Zilkha Energy will be combined in fiscal year 1998, retroactive to January 1, 1998. In addition, all prior periods presented will be restated to give effect to the merger. The following unaudited pro forma data summarizes the combined operating results of the Company and Zilkha Energy as if the merger had occurred at the beginning of the periods presented. Condensed Combined Statements of Income
(In Thousands, Except Per-Share Amounts) ----------------------------------------- Years Ended December 31, 1997 1996 1995 - ---------------------------------------------------------------------------------------------------- Revenues $4,371,902 $3,204,199 $1,902,630 Net Income $ 87,412 $ 237,834 $ 204,236 Earnings Per Share of Common Stock $ .79 $ 2.15 $ 1.85 Earnings Per Share of Common Stock-Assuming Dilution $ .78 $ 2.13 $ 1.84 ====================================================================================================
II-44 71 74 SELECTED CONSOLIDATED FINANCIAL DATA Sonat Inc. and Subsidiaries
(In Millions, Except Per-Share Amounts) ------------------------------------------------------------------------- 1997 1996 1995 1994 1993 - ---------------------------------------------------------------------------------------------------------------------------------- Revenues (1) $4,174.6 $3,039.0 $1,754.3 $1,407.2 $ 1,562.9 Costs and Expenses (1) 3,877.4 2,697.7 1,565.4 1,237.8 1,330.0 - ---------------------------------------------------------------------------------------------------------------------------------- Operating Income 297.2 341.3 188.9 169.4 232.9 Other Income, Net (2) 45.5 35.8 188.8 60.7 182.1 Interest Expense, Net (86.3) (82.8) (89.8) (72.9) (47.3) - ----------------------------------------------------------------------------------------------------------------------------------- Income from Continuing Operations before Extraordinary Item and Income Taxes 256.4 294.3 287.9 157.2 367.7 Income Taxes 80.5 93.1 95.0 15.8 102.7 - ---------------------------------------------------------------------------------------------------------------------------------- Income from Continuing Operations before Cumulative Effect of Accounting Changes 175.9 201.2 192.9 141.4 265.0 Income(Loss) from Discontinued Operations (3) -- -- -- -- -- Extraordinary Loss, Net of Tax (4) -- -- -- -- (3.8) Cumulative Effect of Change in Method of Accounting for Income Taxes -- -- -- -- -- - ---------------------------------------------------------------------------------------------------------------------------------- Net Income $ 175.9 $ 201.2 $ 192.9 $ 141.4 $ 261.2 ================================================================================================================================== Earnings Per Share from Continuing Operations before Extraordinary Item $ 2.05 $ 2.33 $ 2.24 $ 1.62 $ 3.05 Earnings Per Share $ 2.05 $ 2.33 $ 2.24 $ 1.62 $ 3.01 Earnings Per Share from Continuing Operations before Extraordinary Item-Assuming Dilution $ 2.01 $ 2.30 $ 2.21 $ 1.61 $ 3.02 Earnings Per Share-Assuming Dilution $ 2.01 $ 2.30 $ 2.21 $ 1.61 $ 2.98 Weighted Average Shares Outstanding (thousands) 85,941 86,211 86,270 87,119 86,703 Weighted Average Shares Outstanding-Assuming Dilution (thousands) 87,511 87,564 $ 87,102 88,070 87,614 Dividends Paid Per Share $ 1.08 $ 1.08 $ 1.08 $ 1.08 $ 1.04 ================================================================================================================================== Assets $4,431.5 $3,774.7 $3,511.4 $3,530.7 $ 3,214.0 Debt Maturing within One Year $ 457.7 $ 211.7 $ 237.7 $ 219.3 $ 232.9 Long-Term Debt 1,042.8 872.3 770.3 963.4 741.2 Stockholders' Equity 1,635.4 1,584.4 1,482.6 1,391.9 1,363.2 - ---------------------------------------------------------------------------------------------------------------------------------- Total Capitalization $3,135.9 $2,668.4 $2,490.6 $2,574.6 $ 2,337.3 ==================================================================================================================================
(1) The 1993-1996 periods have been restated to reflect the reclassification of natural gas sales, natural gas cost and transition cost recovery to other revenues. (2) In June 1993, the Company reduced its ownership of Sonat Offshore from 100 percent to 40 percent. In July 1995, the Company disposed of its remaining shares of Sonat Offshore common stock. (3) Discontinued operations include the measurement-while-drilling business as of 1991 and the marine transportation business in 1987. (4) In March 1993, the Company recognized a loss on the redemption of the Company's 7 1/4 Percent Zero Coupon, Subordinated Convertible Notes, which were due September 6, 2005. 72 II-45 75 Sonat Inc. and Subsidiaries
(In Millions, Except Per-Share Amounts) ------------------------------------------------------------------------------------ 1992 1991 1990 1989 1988 1987 - ------------------------------------------------------------------------------------------------------------------------------------ Revenues (1) $1,484.4 $ 1,421.0 $ 1,356.9 $1,659.2 $ 1,277.3 $ 1,344.9 Costs and Expenses (1) 1,273.3 1,217.5 1,192.2 1,481.4 1,142.4 1,176.5 - ----------------------------------------------------------------------------------------------------------------------------------- Operating Income 211.1 203.5 164.7 177.8 134.9 168.4 Other Income, Net (2) 22.0 14.7 69.8 47.1 12.5 41.5 Interest Expense, Net (96.3) (117.7) (102.6) (75.2) (54.4) (54.6) - ----------------------------------------------------------------------------------------------------------------------------------- Income from Continuing Operations before Extraordinary Item and Income Taxes 136.8 100.5 131.9 149.7 93.0 155.3 Income Taxes 35.8 22.6 40.7 54.1 40.5 85.2 - ----------------------------------------------------------------------------------------------------------------------------------- Income from Continuing Operations before Cumulative Effect of Accounting Changes 101.0 77.9 91.2 95.6 52.5 70.1 Income(Loss) from Discontinued Operations (3) 111.4 (11.9) 2.7 (2.0) 2.2 24.9 Extraordinary Loss, Net of Tax (4) - - - - - - Cumulative Effect of Change in Method of Accounting for Income Taxes - - - - 13.1 - - ----------------------------------------------------------------------------------------------------------------------------------- Net Income $ 212.4 $ 66.0 $ 93.9 $ 93.6 $ 67.8 $ 95.0 =================================================================================================================================== Earnings Per Share from Continuing Operations before Extraordinary Item $ 1.17 $ .91 $ 1.07 $ 1.17 $ .65 $ .86 Earnings Per Share $ 2.47 $ .77 $ 1.10 $ 1.15 $ .84 $ 1.17 Earnings Per Share from Continuing Operations before Extraordinary Item-Assuming Dilution $ 1.17 $ .91 $ 1.06 $ 1.17 $ .65 $ .86 Earnings Per Share-Assuming Dilution $ 2.47 $ .77 $ 1.09 $ 1.15 $ .83 $ 1.17 Weighted Average Shares Outstanding (thousands) 85,945 85,771 85,612 81,683 81,238 81,091 Weighted Average Shares Outstanding-Assuming Dilution (thousands) 86,142 86,084 85,915 81,898 81,326 81,305 Dividends Paid Per Share $ 1.00 $ 1.00 $ 1.00 $ 1.00 $ 1.00 $ 1.00 =================================================================================================================================== Assets $3,165.3 $ 3,208.5 $ 3,045.1 $2,892.3 $ 2,969.5 $ 3,074.4 Debt Maturing within One Year $ 20.1 $ 79.2 $ 63.1 $ 155.9 $ 50.4 $ 225.6 Long-Term Debt 1,175.7 1,315.1 1,094.0 929.5 859.4 824.8 Stockholders' Equity 1,172.3 1,042.7 1,060.5 1,035.3 1,010.2 1,023.0 - ----------------------------------------------------------------------------------------------------------------------------------- Total Capitalization $2,368.1 $ 2,437.0 $ 2,217.6 $2,120.7 $ 1,920.0 $ 2,073.4 ===================================================================================================================================
II-46 73 76 ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE Sonat has not had a change in accountants within twenty-four months prior to the date of its most recent financial statements or in any period subsequent to such date. II-47 77 PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT The information regarding the Directors and nominees for Director of Sonat required by Item 401 of Regulation S-K is presented under the heading "Election of Directors" in the Proxy Statement of Sonat Inc. dated as of March 21, 1998 (the "Proxy Statement"), which information is hereby incorporated by reference herein. A copy of the Proxy Statement is filed as an exhibit to this report on Form 10-K. Information regarding the executive officers of Sonat is presented following Item 4 of this report, as permitted by General Instruction G(3) to Form 10-K and Instruction 3 to Item 401(b) of Regulation S-K. ITEM 11. EXECUTIVE COMPENSATION The information required by Item 402 of Regulation S-K regarding executive compensation is presented under the headings "Compensation of Outside Directors" and "Compensation of Executive Officers" in the Proxy Statement, which information is hereby incorporated by reference herein. Notwithstanding the foregoing, the information provided under the headings "Report of the Executive Compensation Committee" and "Performance Graph" in the Proxy Statement are not incorporated by reference herein. A copy of the Proxy Statement is filed as an exhibit to this report on Form 10-K. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT The information regarding the security ownership of certain beneficial owners and management required by Item 403 of Regulation S-K is presented under the heading "Ownership of Common Stock by Directors and Executive Officers" in the Proxy Statement, which information is hereby incorporated by reference herein. A copy of the Proxy Statement is filed as an exhibit to this report on Form 10-K. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS The information regarding certain relationships and related transactions required by Item 404 of Regulation S-K is presented on pages 1 and 2 of in the Proxy Statement, which information is hereby incorporated by reference herein. A copy of the Proxy Statement is filed as an exhibit to this report on Form 10-K. III-1 78 PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K (a) Index to Financial Statements, Financial Statement Schedules, and Exhibits 1. FINANCIAL STATEMENTS
PAGE ----- Included in Part II of this report: Report of Ernst & Young LLP, Independent Auditors......... II-18 Consolidated Balance Sheets at December 31, 1997 and 1996................................................... II-19 Consolidated Statements of Income for the years ended December 31, 1997, 1996, and 1995...................... II-21 Consolidated Statements of Changes in Stockholders' Equity for the years ended December 31, 1997, 1996, and 1995................................................... II-22 Consolidated Statements of Cash Flows for the years ended December 31, 1997, 1996, and 1995...................... II-23 Notes to Consolidated Financial Statements................ II-24
2. FINANCIAL STATEMENT SCHEDULES
PAGE ----- Included in Part IV of this report: Consolidated Financial Statements of Citrus Corp. (50-percent-owned joint venture) at December 31, 1997 listed on Page IV-7 .................................. IV-7
Financial statement schedules have been omitted as not applicable or because the subject matter is either not present or is not present in amounts sufficient to require submission of the schedule, in accordance with the instructions contained in Regulation S-X, or the required information is included in the financial statements or notes thereto. Financial statements of 50-percent-or-less-owned companies and joint ventures, other than Citrus Corp., are not presented herein because such companies and joint ventures do not meet the significance test. 3. EXHIBITS(1)
EXHIBIT NUMBER EXHIBITS - ------- -------- RESTATED CERTIFICATE OF INCORPORATION AND BY-LAWS 3-(a) Restated Certificate of Incorporation of Sonat Inc. (Restating the Certificate of Incorporation as in effect as of April 28, 1994) filed as Exhibit 3(a) to Form 10-Q of Sonat Inc. for the quarter ended March 31, 1994 3-(b) By-Laws of Sonat Inc. as amended and in effect December 1, 1995, filed as Exhibit 3-(b) to Form 10-K of Sonat Inc. for the year 1995 INSTRUMENTS DEFINING THE RIGHTS OF SECURITY HOLDERS 4.1 Rights Agreement dated as of January 8, 1996, between Sonat Inc. and Chemical Mellon Shareholder Services, L.L.C., as Rights Agent, with exhibits, and (1) Amendment No. 1 dated as of November 22, 1998, filed as Exhibit 99 to Form 8-A of Sonat Inc. dated January 10, 1996, except (1), which was filed as Exhibit 4.1 to Form 8-K of Sonat Inc. dated January 30, 1998
- --------------- (1) Sonat will furnish to requesting security holders any exhibit on this list upon the payment of a fee of $.10 per page up to a maximum of $5.00 per exhibit. Requests must be made in writing and should be addressed to Beverley T. Krannich, Secretary, Sonat Inc., P. O. Box 2563, Birmingham, Alabama 35202. IV-1 79
EXHIBIT NUMBER EXHIBITS - ------- -------- 4.2 Registration Rights Agreement, dated as of January 30, 1998, by and between Sonat Inc., Selim K. Zilkha, Michael Zilkha, the Selim K. Zilkha Trust and the Selim K. Zilkha (1996) Annuity Trust, filed as Exhibit 10.1 to Form 8-K of Sonat Inc. dated January 30, 1998 4.3 Form of Indenture dated June 1, 1986, from Sonat Inc. to Manufacturers Hanover Trust Company, Trustee, as amended by (1) First Supplemental Indenture dated June 1, 1995, between Sonat Inc. and Chemical Bank, successor by merger to Manufacturers Hanover Trust Company, as Trustee, filed as Exhibit 4-(1) to Amendment No. 1 to Registration No. 33-5947 dated June 4, 1986, except (1), which was filed as Exhibit 4-(1) to Form 8-K of Sonat Inc. dated June 6, 1995 4.4 Specimen Note of Sonat Inc. for the $200 million 6 7/8% Notes due June 1, 2005, issued under Registration Statement No. 33-62166, filed as Exhibit 4-(2) to Form 8-K of Sonat Inc. dated June 6, 1995 4.5 Specimen Note of Sonat Inc. for the $100 million 9 1/2% Notes due August 15, 1999, issued under Registration Statement No. 33-5947, filed as Exhibit 4-2(c) to Form 10-K of Sonat Inc. for the year 1996 4.6 Specimen Note of Sonat Inc. for the $100 million 9% Notes due May 1, 2001, issued under Registration Statement No. 33-5947, filed as Exhibit 4-(2) to Form 8-K of Sonat Inc. dated April 30, 1991 4.7 Specimen Note of Sonat Inc. for the $100 million 6.75% Notes due October 1, 2007, issued under Registration Statement No. 33-62166, filed as Exhibit 4-(3) to Form 8-K of Sonat Inc. dated September 25, 1997 4.8 Specimen Note of Sonat Inc. for the $100 million 6 5/8% Notes due February 1, 2008, issued under Registration Statement No. 33-62166, filed as Exhibit 4-(3) to Form 8-K of Sonat Inc. dated January 27, 1998 4.9 Specimen Note of Sonat Inc. for the $100 million 7% Notes due February 1, 2018, issued under Registration Statement No. 33-62166, filed as Exhibit 4-(3) to Form 8-K of Sonat Inc. dated January 29, 1998 4.10 Form of Indenture dated June 1, 1987, from Southern Natural Gas Company to Manufacturers Hanover Trust Company, Trustee, as amended by (1) First Supplemental Indenture, dated as of September 30, 1997, between Southern Natural Gas Company and The Chase Manhattan Bank (formerly Chemical Bank, successor by merger to Manufacturers Hanover Trust Company), filed as Exhibit 4-(1) to Registration No. 33-47266 of Southern Natural Gas Company dated April 16, 1992, except (1) which was filed as Exhibit 4-(2) to Form 8-K of Southern Natural Gas Company dated September 25, 1997 4.11 Specimen Note of Southern Natural Gas Company for the $100 million 8 7/8% Notes due February 15, 2001, issued under Registration Statement 33-16190, filed as Exhibit 4-(2) to Form 8-K of Southern Natural Gas Company dated February 7, 1991 4.12 Specimen Note of Southern Natural Gas Company for the $100 million 7.85% Notes due January 15, 2002, issued under Registration Statement 33-16190, filed as Exhibit 4-(2) to Form 8-K of Southern Natural Gas Company dated January 14, 1992 4.13 Specimen Note of Southern Natural Gas Company for the $100 million 8 5/8% Notes due May 1, 2002, issued under Registration Statement 33-47266, filed as Exhibit 4.3(d) to Form 10-K of Sonat Inc. for the year 1996 4.14 Specimen Note of Southern Natural Gas Company for the $100 million 6.70% Notes due October 1, 2007, issued under Registration Statement 33-47266, filed as Exhibit 4-(3) to Form 8-K of Southern Natural Gas Company dated September 25, 1997
IV-2 80
EXHIBIT NUMBER EXHIBITS - ------- -------- 4.15 $400 Million Note Agreement dated November 3, 1986, between Citrus Corp. and the Purchasers named therein, filed as Exhibit 4-(5) to Form 10-K of Sonat Inc. for the year 1990 4.16 Credit Agreement dated as of June 1, 1996, among Sonat Inc., the Banks named therein, and The Chase Manhattan Bank (National Association), and Morgan Guaranty Trust Company of New York, as Co-Agents, filed as Exhibit 4 to Form 10-Q of Sonat Inc. for the quarter ended June 30, 1996 4.17 Credit Agreement dated as of January 26, 1998, among Sonat Inc., the Banks named therein, and The Chase Manhattan Bank, Morgan Guaranty Trust Company of New York, and SunTrust Bank, Atlanta, as Agents, filed herewith 4.18 Certificate of Designations of Series A Participating Preference Stock of Sonat Inc. dated January 8, 1996, as filed with the Secretary of State of the State of Delaware January 16, 1996, filed as Exhibit 4.6 to Form 10-K of Sonat Inc. for the year 1995 COMPENSATION PLANS AND MANAGEMENT CONTRACTS 10.1 Supplemental Benefit Plan of Sonat Inc. as Amended and Restated effective January 1, 1995, and (1) amendment dated December 1, 1995, filed as Exhibit 10.1 to Form 10-K of Sonat Inc. for the year 1996 10.2 Executive Award Plan of Sonat Inc. as Amended and Restated as of December 1, 1995, (corrected on December 4, 1996), and (1) amendment dated December 6, 1996, filed as Exhibit 10.2 to Form 10-K of Sonat Inc. for the year 1996 10.3 Restricted Stock Plan for Directors of Sonat Inc. (as Amended and Restated as of February 26, 1998), filed herewith 10.4 Performance Award Plan of Sonat Inc. effective as of January 27, 1994, and (1) amendment dated December 1, 1995, filed as Exhibit 10-(7) to Form 10-K of Sonat Inc. for the year 1993, except (1), which was filed as Exhibit 10.7 to Form 10-K of Sonat Inc. for the year 1995 10.5 Cash Bonus Plan of Sonat Inc. effective as of January 27, 1994, and (1) amendment dated December 1, 1995, filed as Exhibit 10-(8) to Form 10-K of Sonat Inc. for the year 1993, except (1), which was filed as Exhibit 10.8.to Form 10-K of Sonat Inc. for the year 1995 10.6 Sonat Inc. Retirement Plan for Directors as Amended and Restated as of December 2, 1994, and (1) amendment dated December 1, 1995, filed as Exhibit 10.9 to Form 10-K of Sonat Inc. for the year 1994, except (1), which was filed as Exhibit 10.9 to Form 10-K of Sonat Inc. for the year 1995 10.7 Executive Severance Agreement dated December 1, 1995, between Sonat Inc. and William A. Smith and schedule identifying substantially identical Executive Severance Agreements between Sonat Inc. and other parties, filed herewith 10.8 Executive Severance Agreement as amended and restated as of January 22, 1998, between Sonat Inc. and Ronald L. Kuehn, Jr., filed herewith 10.9 Executive Severance Agreement as amended and restated as of January 22, 1998, between Sonat Inc. and Donald G. Russell, filed herewith 10.10 Directors' Fees Deferral Plan of Sonat Inc. as Amended and Restated as of January 1, 1997, filed herewith
IV-3 81
EXHIBIT NUMBER EXHIBITS - ------- -------- 10.11 Indemnity Agreement dated December 4, 1987, between Sonat Inc. and Ronald L. Kuehn, Jr. and schedule identifying substantially identical indemnity agreements between Sonat Inc. and other directors of Sonat Inc. and (1) Indemnity Agreement dated September 1, 1994, between Sonat Inc. and Adrian M. Tocklin, (2) Indemnity Agreement dated September 22, 1994, between Sonat Inc. and Donald G. Russell, (3) Indemnity Agreement dated November 1, 1995, between Sonat Inc. and Max L. Lukens, (4) Indemnity Agreement dated January 30, 1998, between Sonat Inc. and Michael S. Zilkha, and (5) Indemnity Agreement dated January 30, 1998, between Sonat Inc. and Selim K. Zilkha, filed as Exhibit 10-(11) to Form 10-K of Sonat Inc. for the year 1992, except (1), which was filed as Exhibit 10.3 to Form 10-Q of Sonat Inc. for the quarter ended September 30, 1994, (2), which was filed as Exhibit 10.4 to Form 10-Q of Sonat Inc. for the quarter ended September 30, 1994, (3), which was filed as Exhibit 10.12 to Form 10-K of Sonat Inc. for the year 1995, and (4) and (5) which are filed herewith 10.12 Trust Agreement dated December 19, 1986, between Sonat Inc. and AmSouth Bank N.A. for Section 415 Retirement Plan Benefits and Vesting Benefits under the Supplemental Benefit Plan and Early Retirement Benefits under the Executive Severance Agreements, filed as Exhibit 10-(5) to Form 10-K of Sonat Inc. for the year 1991 10.13 Trust Agreement dated December 19, 1986, between Sonat Inc. and AmSouth Bank N.A. for Section 415 Stock Purchase Plan Benefits under the Supplemental Benefit Plan, filed as Exhibit 10-(16) to Form 10-K of Sonat Inc. for the year 1991 10.14 Trust Agreement dated December 19, 1986, between Sonat Inc. and AmSouth Bank N.A. for Benefits under the Retirement Plan for Directors, filed as Exhibit 10-(17) to Form 10-K of Sonat Inc. for the year 1991 10.15 Form of Sonat Inc. Executive Life Insurance Program Split Dollar Agreement, Collateral Assignment Agreement, and Program Description, each dated as of July 1, 1990, with (1) schedule identifying the persons participating in such Programs, filed as Exhibit 10-(20) to Form 10-K of Sonat Inc. for the year 1990, except (1), which is filed herewith 10.16 Sonat Inc. Deferred Compensation Plan -- Plan Summary dated November 1997, filed herewith OTHER MATERIAL CONTRACTS 10.17 Capital Stock Agreement among Sonat Inc., Enron Corp., Houston Natural Gas Corporation, and Citrus Corp. dated June 30, 1986, filed as Exhibit 10-(26) to Form 10-K of Sonat Inc. for the year 1991 10.18 Standby Note Purchase Agreement among Sonat Inc., Credit Lyonnais New York Branch, as Administrative Agent for the Banks party to the Revolving Credit Agreement with Citrus Corp., and Citrus Corp. dated December 23, 1993, and the $300 Million Revolving Credit Agreement dated as of December 23, 1993, among Citrus Corp., as Borrower, and The Banks named therein, as Banks, and Credit Lyonnais New York Branch and The Toronto-Dominion Bank, as Managing Agents, to which the Standby Note Purchase Agreement applies, filed as Exhibit 10-(23) to Form 10-K of Sonat Inc. for the year 1993 OTHER EXHIBITS 12 Computation of Ratio of Earnings to Fixed Charges, filed herewith 21 Subsidiaries of Sonat Inc., filed herewith 22 Proxy Statement of Sonat Inc. dated as of March 21, 1998 which is not to be deemed "filed" as part of this Form 10-K, except to the extent incorporated by reference under Items 10, 11, 12 and 13 of Part III of this Form 10-K, filed herewith 23.1 Consent of Ernst & Young LLP, Independent Auditors, dated March 23, 1998, filed herewith 23.2 Consent of William M. Cobb & Associates, Inc., Independent Petroleum Engineers, dated March 23, 1998, filed herewith.
IV-4 82
EXHIBIT NUMBER EXHIBITS - ------- -------- 24 Powers of Attorney authorizing Ronald L. Kuehn, Jr.; Thomas W. Barker, Jr.; James E. Moylan, Jr.; William A. Smith; and John C. Griffin to sign the Sonat Inc. Annual Report on Form 10-K for the fiscal year ended December 31, 1997, on behalf of certain directors and officers of the registrant, filed herewith 27.1 Financial Data Schedule for the period ended December 31, 1997, filed herewith, electronically only 27.2 Financial Data Schedule for the period ended December 31, 1996, filed herewith, electronically only 27.3 Financial Data Schedule for the period ended December 31, 1995, filed herewith, electronically only
Exhibits listed above that have heretofore been filed with the Securities and Exchange Commission, which were physically filed as noted above, are hereby incorporated herein by reference pursuant to Rule 12b-32 under the Securities Exchange Act of 1934 and made a part hereof with the same effect as if filed herewith. Certain instruments relating to long-term debt of Sonat and its subsidiaries have not been filed as exhibits since the total amount of securities authorized under any such instrument does not exceed ten percent of the total assets of Sonat and its subsidiaries on a consolidated basis. Sonat agrees to furnish a copy of each such instrument to the Commission upon request. (b) Reports on Form 8-K The Company filed a report on Form 8-K on November 24, 1997, reporting certain information under Item 5 with respect to the Agreement and Plan of Merger between Sonat Inc. and Zilkha Energy Company pursuant to which a wholly owned subsidiary of the Company would merger into Zilkha Energy Company in a share-for-share exchange and furnishing certain related exhibits under Item 7 The Company filed a report on Form 8-K on January 22, 1998, reporting certain information under Item 5 with respect to the issuance of the Company's press release relating to its 1997 results of operations The Company filed a report on Form 8-K on January 30, 1998, reporting certain information under Item 5 with respect to the issuance and sale by the Company of $100,000,000 aggregate principal amount of 6 5/8% Notes due February 1, 2008 and furnishing certain related exhibits under Item 7 The Company filed a report on Form 8-K on February 2, 1998, reporting certain information under Item 5 with respect to the issuance and sale by the Company of $100,000,000 aggregate principal amount of 7% Notes due February 1, 2018 and furnishing certain related exhibits under Item 7 The Company filed a report on Form 8-K on February 5, 1998, reporting certain information under Item 5 with respect to the acquisition and disposition of assets and furnishing certain related exhibits under Item 7 (c) Exhibits Exhibits required by Item 601 of Regulation S-K have been filed electronically with this report on Form 10-K. IV-5 83 SIGNATURES PURSUANT TO THE REQUIREMENTS OF SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934, THE REGISTRANT HAS DULY CAUSED THIS REPORT TO BE SIGNED ON ITS BEHALF BY THE UNDERSIGNED, THEREUNTO DULY AUTHORIZED. SONAT INC. By: /s/ RONALD L. KUEHN, JR. ------------------------------------ RONALD L. KUEHN, JR. CHAIRMAN OF THE BOARD, PRESIDENT AND CHIEF EXECUTIVE OFFICER Dated: March 26, 1998 PURSUANT TO THE REQUIREMENTS OF THE SECURITIES EXCHANGE ACT OF 1934, THIS REPORT HAS BEEN SIGNED BELOW BY THE FOLLOWING PERSONS ON BEHALF OF THE REGISTRANT AND IN THE CAPACITIES AND ON THE DATES INDICATED.
SIGNATURE CAPACITY DATE --------- -------- ---- (i) Principal Executive Officer: /s/ RONALD L. KUEHN, JR. Chairman of the Board, March 26, 1998 - ----------------------------------------------------- President and Chief Executive (RONALD L. KUEHN, JR.) Officer (ii) Principal Financial and Accounting Officer: /s/ JAMES E. MOYLAN, JR. Senior Vice President and Chief March 26, 1998 - ----------------------------------------------------- Financial Officer (JAMES E. MOYLAN, JR.) (iii) Directors:* WILLIAM O. BOURKE JEROME J. RICHARDSON RONALD L. KUEHN, JR. DONALD G. RUSSELL ROBERT J. LANIGAN ADRIAN M. TOCKLIN MAX L. LUKENS JAMES B. WILLIAMS CHARLES MARSHALL JOE B. WYATT BENJAMIN F. PAYTON MICHAEL S. ZILKHA JOHN J. PHELAN, JR. SELIM K. ZILKHA * Signed on behalf of each of these persons and on his behalf: By: /s/ WILLIAM A. SMITH -------------------------------------------------- WILLIAM A. SMITH EXECUTIVE VICE PRESIDENT AND GENERAL COUNSEL AS AUTHORIZED BY CERTAIN POWERS OF ATTORNEY DATED FEBRUARY 26 AND 28, 1998, ALL OF WHICH ARE FILED HEREWITH AS EXHIBIT 24
IV-6 84 CITRUS CORP. AND SUBSIDIARIES TABLE OF CONTENTS
REPORT OF INDEPENDENT AUDITORS PAGE NO. - ------------------------------ -------- Report of Independent Auditors IV-8 AUDITED CONSOLIDATED FINANCIAL STATEMENTS - ----------------------------------------- Consolidated Balance Sheets - Assets IV-9 Consolidated Balance Sheets - Liabilities and Stockholders' Equity IV-10 Consolidated Statements of Income and Retained Earnings IV-11 Consolidated Statements of Cash Flows IV-12 Notes to Consolidated Financial Statements IV-13
IV-7 85 Report of Independent Auditors Board of Directors Citrus Corp. We have audited the accompanying consolidated balance sheets of Citrus Corp. and Subsidiaries as of December 31, 1997 and 1996, and the related consolidated statements of income and retained earnings and cash flows for each of the three years in the period ended December 31, 1997. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Citrus Corp. and Subsidiaries at December 31, 1997 and 1996, and the consolidated results of their operations and their cash flows for each of the three years in the period ended December 31, 1997, in conformity with generally accepted accounting principles. /s/ Ernst & Young LLP Ernst & Young LLP Birmingham, Alabama February 27, 1998 IV-8 86 CITRUS CORP. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS
- ----------------------------------------------------------------------------------------- December 31, -------------------------- (In Thousands) 1997 1996 - ----------------------------------------------------------------------------------------- ASSETS Current Assets Cash and cash equivalents $ 17,274 $ 16,063 Trade and other receivables Customers, net 43,724 69,599 Affiliated companies 28 98 Contract reformation costs, net -- 7,078 Commodity adjustment costs 5,399 5,519 Materials and supplies 2,730 2,557 Other 11,582 6,200 -------------------------- Total Current Assets 80,737 107,114 -------------------------- Deferred Charges Unamortized debt expense 6,241 7,356 Commodity adjustment costs 29,419 34,698 Other 32,011 42,847 -------------------------- Total Deferred Charges 67,671 84,901 -------------------------- Property, Plant and Equipment, at cost 2,810,061 2,790,210 Less - accumulated depreciation and amortization 463,938 428,172 -------------------------- Net Property, Plant and Equipment 2,346,123 2,362,038 -------------------------- TOTAL ASSETS $2,494,531 $2,554,053
- -------------------------------------------------------------------------------- The accompanying notes are an integral part of these consolidated financial statements. IV-9 87 CITRUS CORP. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS
- ---------------------------------------------------------------------------------- December 31, -------------------------- (In Thousands, Except Share Data) 1997 1996 - ---------------------------------------------------------------------------------- LIABILITIES AND STOCKHOLDERS' EQUITY Current Liabilities Notes payable to banks $ 20,000 $ 15,000 Long-term debt due within one year 44,250 100,000 Accounts payable Trade 26,650 29,351 Affiliated companies 13,857 28,920 Accrued liabilities Interest 16,996 18,296 Other taxes 6,662 4,695 TCR deferred revenues -- 6,256 Other 5,066 8,710 -------------------------- Total Current Liabilities 133,481 211,228 -------------------------- Long-Term Debt 980,750 1,025,000 -------------------------- Deferred Credits Deferred income taxes 483,190 474,569 Other 32,784 33,516 -------------------------- Total Deferred Credits 515,974 508,085 -------------------------- Commitments and Contingencies (Notes 8 and 9) Stockholders' Equity Common stock, $1 par value; 1,000 shares authorized, issued and outstanding 1 1 Additional paid-in capital 634,271 634,271 Retained earnings 230,054 175,468 -------------------------- Total Stockholders' Equity 864,326 809,740 -------------------------- TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $2,494,531 $2,544,053
- -------------------------------------------------------------------------------- The accompanying notes are an integral part of these consolidated financial statements. IV-10 88 CITRUS CORP. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF INCOME AND RETAINED EARNINGS
- ------------------------------------------------------------------------------------------------ Years Ended December 31, ----------------------------------------- (In Thousands) 1997 1996 1995 - ------------------------------------------------------------------------------------------------ Revenues Gas sales $ 426,559 $ 444,623 $ 377,218 Gas transportation and other, net 308,843 324,712 305,169 ----------------------------------------- 735,402 769,335 682,387 ----------------------------------------- Costs and Expenses Natural gas purchased 416,953 428,842 362,635 Operations and maintenance 82,653 74,413 79,880 Depreciation 26,103 26,651 22,850 Amortization 34,367 56,912 58,377 Taxes - other than income taxes 24,717 20,160 14,767 ----------------------------------------- 584,793 606,978 538,509 ----------------------------------------- Operating Income 150,609 162,357 143,878 ----------------------------------------- Other Income (Expense) Interest expense, net (93,471) (97,363) (98,887) Allowance for funds used during construction 599 (153) 42,804 Other, net 14,309 5,437 (351) ----------------------------------------- (78,563) (92,079) (56,434) ----------------------------------------- Income Before Income Taxes 72,046 70,278 87,444 Income Tax Expense 17,460 27,240 33,818 ----------------------------------------- Net Income 54,586 43,038 53,626 Retained Earnings, Beginning of Year 175,468 132,430 78,804 ----------------------------------------- Retained Earnings, End of Year $ 230,054 $ 175,468 $ 132,430
- ------------------------------------------------------------------------------- The accompanying notes are an integral part of these consolidated financial statements. IV-11 89 CITRUS CORP. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS
- ---------------------------------------------------------------------------------------------------- Years Ended December 31, ----------------------------------------- (In Thousands) 1997 1996 1995 - ---------------------------------------------------------------------------------------------------- Cash Flows From Operating Activities Net income $ 54,586 $ 43,038 $ 53,626 Adjustments to reconcile net income to net cash provided by (used in) operating activities Depreciation and amortization 60,470 83,563 81,227 Deferred income taxes 8,621 8,539 21,780 Allowance for funds used during construction (599) 153 (42,804) Gain on sale of assets (504) (7,387) -- Changes in assets and liabilities Trade and other receivables 25,945 (6,963) (16,301) Materials and supplies (173) (178) (424) Accounts payable (17,764) 7,380 (12,199) Accrued liabilities 667 (543) (1,005) Other current assets and liabilities (9,026) (2,547) (12,639) Contract reformation settlements and adjustments (1,826) (4,931) (3,917) Other, net 12,244 (2,225) (18,587) ----------------------------------------- Net Cash Provided by Operating Activities 132,641 117,899 48,757 ----------------------------------------- Cash Flows From Investing Activities Additions to property, plant and equipment (31,261) (29,000) (208,627) Allowance for funds used during construction 599 (153) 42,804 Net proceeds from sale of assets 504 7,387 -- Disposition of property, plant and equipment, net (16) 3,081 883 ----------------------------------------- Net Cash Used in Investing Activities (30,174) (18,685) (164,940) ----------------------------------------- Cash Flows From Financing Activities Short-term bank borrowings, net 5,000 (55,000) 70,000 Payment on long-term debt (100,000) -- -- TCR remittances (6,256) (31,136) (28,900) ----------------------------------------- Net Cash Provided by (Used in) Financing Activities (101,256) (86,136) (41,100) ----------------------------------------- Increase (Decrease) in Cash and Cash Equivalents 1,211 13,078 (75,083) Cash and Cash Equivalents, Beginning of Year 16,063 2,985 78,068 ----------------------------------------- Cash and Cash Equivalents, End of Year $ 17,274 $ 16,063 $ 2,985
- -------------------------------------------------------------------------------- The accompanying notes are an integral part of these consolidated financial statements. Additional cash flow information: The Company made the following interest and income tax payments: Interest paid $ 103,363 $ 106,206 $ 106,224 Income taxes paid 9,708 20,766 14,160
IV-12 90 CITRUS CORP. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (1) REPORTING ENTITY Citrus Corp. (the Company), a holding company formed in 1986, owns 100% of the stock of Florida Gas Transmission Company (Transmission), Citrus Trading Corp. (Trading) and Citrus Energy Services, Inc. (CESI). The stock of the Company is owned 50% by Sonat Inc. (Sonat) and 50% by Houston Pipe Line Company, a subsidiary of Enron Corp. (Enron). Transmission, an interstate gas pipeline extending from South Texas to South Florida, is engaged in the interstate transmission of natural gas and is subject to the jurisdiction of the Federal Energy Regulatory Commission (FERC). Trading is engaged in the sale of natural gas primarily to Florida Power & Light Co., a large electric utility in the state of Florida, to local distribution customers, and to end users, the majority of which are in the state of Florida. CESI began operations in February 1996 and provides construction, operations and maintenance services primarily to customers of Transmission and Trading. (2) SIGNIFICANT ACCOUNTING POLICIES PRINCIPLES OF CONSOLIDATION - The consolidated financial statements include the accounts of the Company and its subsidiaries. All significant intercompany transactions and accounts have been eliminated in consolidation. CASH AND CASH EQUIVALENTS - The Company considers as cash equivalents all highly liquid short-term investments with maturities of three months or less at the time of purchase. These investments are accounted for at cost, which approximates estimated fair value. MATERIALS AND SUPPLIES - Materials and supplies are valued at actual cost. Materials transferred out of warehouses are priced out at average cost. REVENUE RECOGNITION - Gas sales revenue is recognized when gas is sold. Gas transportation revenue is recognized when the service is provided. ACCOUNTING FOR PRICE RISK MANAGEMENT ACTIVITIES - To manage the risks of price fluctuations, Trading, from time to time, has entered into swap agreements in certain energy products. All related gains and losses are recognized currently in income as adjustments to costs and expenses. Trading uses the settlement method of accounting for its commodity swaps. Commodity swaps are settled monthly and gains and losses are recognized immediately. The effects of commodity swaps, none of which has been material for any of the periods presented, are recorded as an adjustment to natural gas purchased. ALLOWANCE FOR FUNDS USED DURING CONSTRUCTION - The allowance for funds used during construction consists, in general, of the net cost of borrowed and equity funds used for construction purposes and a reasonable rate on other funds when so used (the AFUDC rate). The allowance is determined by applying the AFUDC rate to construction work orders. Capitalization begins at the time the Company begins the continuous accumulation of costs in a construction work order on a planned progressive basis and ends when the facilities are placed in service. IV-13 91 CITRUS CORP. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (2) SIGNIFICANT ACCOUNTING POLICIES (continued) DEPRECIATION, AMORTIZATION AND MAINTENANCE POLICIES - The Company amortizes that portion of its investment in Transmission and other subsidiaries which is in excess of historical cost (acquisition adjustment) on a straight-line basis at an annual rate of 1.9% based upon the estimated remaining useful life of the pipeline system. Transmission has provided for depreciation of assets on a straight-line basis at an annual composite rate of 1.42%, 1.45% and 1.41% for 1997, 1996 and 1995, respectively. Depreciation rates are based on the estimated useful lives of the individual assets. In 1994, Trading entered into an agreement with a major customer, which provides significant future benefits over previous gas sales contracts. The agreement required Trading to make approximately $55 million in deposits on the customers' behalf over sixteen months. Trading is amortizing the total amounts paid on a volumetric basis over the term of the new agreement. Amortization of these payments is included in depreciation and amortization expense. Transmission amortizes contract reformation costs based on firm contract quantities and volume deliveries, and FERC-approved recovery rates. Such amortization is included in depreciation and amortization expense. Transmission charges to maintenance the costs of repairs and renewal of items determined to be less than units of property. Costs of replacements and renewals of units of property are capitalized. The original costs of units of property retired are charged to the depreciation reserves, net of salvage and removal costs. INCOME TAXES - The Company accounts for income taxes under the provisions of Statement of Financial Accounting Standards (SFAS) No. 109. SFAS No. 109 provides for an asset and liability approach to accounting for income taxes. Under this approach, deferred tax assets and liabilities are recognized based on anticipated future tax consequences attributable to differences between financial statement carrying amounts of assets and liabilities and their respective tax bases. USE OF ESTIMATES - The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. IMPAIRMENT OF LONG-LIVED ASSETS - In March 1995, the Financial Accounting Standards Board issued SFAS No. 121 - "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of," which requires, among other things, that long-lived assets and certain identifiable intangibles to be held and used by an entity be reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. The Company's adoption of SFAS No. 121 in 1996 did not have a material impact on its financial position or results of operations. RECLASSIFICATIONS - Certain amounts in the consolidated financial statements have been reclassified in 1996 and 1995 to conform with the 1997 presentation. IV-14 92 CITRUS CORP. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (3) LONG-TERM DEBT AND OTHER FINANCING ARRANGEMENTS Long-term debt outstanding at December 31, 1997 and 1996 was as follows (in thousands):
1997 1996 ---------- ---------- Citrus Corp. 11.10% Notes due 1998-2006 $ 175,000 $ 175,000 8.49% Notes due 2007-2009 90,000 90,000 ---------- ---------- 265,000 265,000 ---------- ---------- Transmission 7.75% Notes -- 100,000 9.30% Notes due 1998 25,000 25,000 8.14% Notes due 1999 200,000 200,000 9.75% Notes due 1999-2008 65,000 65,000 8.63% Notes due 2004 250,000 250,000 10.11% Notes due 2009-2013 70,000 70,000 9.19% Notes due 2005-2024 150,000 150,000 ---------- ---------- 760,000 860,000 ---------- ---------- Total Outstanding 1,025,000 1,125,000 Less Long-Term Debt Due Within One Year 44,250 100,000 ---------- ---------- $ 980,750 $1,025,000 ========== ==========
Annual maturities and sinking fund requirements on long-term debt outstanding as of December 31, 1997 were as follows (in thousands):
Year Amount ---- ---------- 1998 $ 44,250 1999 225,750 2000 25,750 2001 25,750 2002 25,750 Thereafter 677,750 ---------- $1,025,000 ==========
The Company has a note agreement that contains certain restrictions, which among other things limit the incurrence of additional debt, the sale of assets and the payment of dividends. The agreements relating to Transmission's promissory notes include, among other things, restrictions as to the payment of dividends. The Company had no committed lines of credit at December 31, 1997. Transmission has a committed line of credit of $70.0 million of which $20.0 million was outstanding with a rate of 6.30% at December 31, 1997, and uncommitted facilities for up to $50.0 million, which were available at December 31, 1997. IV-15 93 CITRUS CORP. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (4) INCOME TAXES The principal components of the Company's net deferred income tax liabilities at December 31, 1997 and 1996 are as follows (in thousands):
1997 1996 -------- -------- Deferred income tax assets Alternative minimum tax credit $ 20,360 $ 14,824 Other 5,588 9,510 -------- -------- 25,948 24,334 -------- -------- Deferred income tax liabilities Depreciation and amortization 492,629 478,506 Contract reformation costs 13,167 15,211 Other 3,342 5,186 -------- -------- 509,138 498,903 -------- -------- Net deferred income tax liabilities $483,190 $474,569 ======== ========
Total income tax expense for the years ended December 31, 1997, 1996 and 1995 is summarized as follows (in thousands):
1997 1996 1995 -------- ------- ------- Payable currently Federal $ 6,441 $15,445 $10,138 State 2,398 3,256 1,900 -------- ------- ------- 8,839 18,701 12,038 -------- ------- ------- Payment deferred Federal 23,300 7,847 18,867 State (14,679) 692 2,913 -------- ------- ------- 8,621 8,539 21,780 -------- ------- ------- Total income tax expense $ 17,460 $27,240 $33,818 ======== ======= =======
The 1997 income tax provision includes benefits of approximately $10 million from the reduction of the deferred income tax liability due to the reevaluation of state tax requirements. The differences between taxes computed at the U.S. federal statutory rate and the Company's effective tax rate for the years ended December 31, 1997, 1996 and 1995 are as follows (in thousands):
1997 1996 1995 -------- ------- ------- Statutory federal income tax provision $ 25,216 $24,597 $30,605 Net state income taxes (7,983) 2,566 3,128 Other 227 77 85 -------- ------- ------- Income tax expense $ 17,460 $27,240 $33,818 ======== ======= =======
The Company has an alternative minimum tax (AMT) credit, which can be used to offset regular income taxes payable in future years. The AMT credit has an indefinite carry-forward period. For financial statement purposes, the Company has recognized the benefit of the AMT credit carry-forward as a reduction of deferred tax liabilities. IV-16 94 CITRUS CORP. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (5) EMPLOYEE BENEFIT PLANS The employees of the Company and its subsidiaries are covered under Enron's employee benefit plans. Enron maintains a retirement plan (the Enron Plan) which is a noncontributory defined benefit plan covering substantially all employees in the United States and certain employees in foreign countries. The benefit accrual is in the form of a cash balance of 5% of annual base pay beginning January 1, 1996. Prior to 1996, the benefit formula was based on average pay and years of service. Pension expenses charged by Enron were immaterial for 1997, 1996 and 1995. As of December 31, 1997, the plan net assets for the Enron Plan in which the employees of the Company participate was greater than the actuarial present value of projected plan benefit obligations by approximately $111 million. Included in this amount are assets from a defined benefit plan for an acquired company. The assumed discount rate was 7.25%. The rate of return on plan assets used in determining the actuarial present value of projected plan benefits was 9.0% to 10.5%. The assumed rate of increase in wages was 4.0% to 9.5%. The Company accounts for post-retirement benefit costs over the service lives of the employees expected to be eligible to receive such benefits. The Company is amortizing the transition obligation, which existed at January 1, 1993, over a period of approximately 19 years. The Company's net periodic post-retirement benefit cost charged by Enron was $1.4, $1.5 and $.9 million for 1997, 1996 and 1995, respectively, substantially all of which relates to Transmission and is expected to be recovered through rates. The measurement of the accumulated post-retirement benefit obligation (APBO) assumes a 7.25% discount rate and a health care cost trend rate of 7.5% to 8.0% in 1997 decreasing to 5% by 2003. The APBO exceeded plan assets by $94 million as of its most recent valuation date of December 31, 1997. (6) MAJOR CUSTOMERS Revenues from individual customers exceeding 10% of total revenues for the years ended December 31, 1997, 1996 and 1995 were approximately as follows (in thousands):
Customers 1997 1996 1995 --------- -------- -------- -------- Florida Power & Light Co. $424,000 $466,000 $343,000 Enron Capital and Trade Resources 51,000 19,000 65,000
At December 31, 1997, the Company's subsidiaries had receivables of approximately $19.8 and $6.9 million from Florida Power & Light Company and Enron Capital and Trade Resources, respectively. IV-17 95 CITRUS CORP. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (7) RELATED PARTY TRANSACTIONS The Company incurs certain corporate administrative expenses including employee benefit costs from Enron and its affiliates. The Company was charged approximately $11.8, $11.9 and $11.6 million for these expenses for the years ended December 31, 1997, 1996 and 1995, respectively. The Company's subsidiaries provide natural gas sales and transport services to Enron and Sonat affiliates at rates equal to rates charged to non-affiliated customers in the same class of service. Revenues related to these services amounted to approximately $51.5, $19.8 and $66.1 million for the years ended December 31, 1997, 1996 and 1995, respectively. The Company's subsidiaries purchased gas from affiliates of Sonat of approximately $121.8, $139.8 and $84.1 million for the years ended December 31, 1997, 1996 and 1995, respectively. The Company's subsidiaries also purchased gas from affiliates of Enron of approximately $219.1, $252.6 and $186.7 million for the years ended December 31, 1997, 1996 and 1995, respectively. The Company had an agreement with an affiliate of Enron in which the affiliate managed the operations of Trading in exchange for a $1.2 million annual fee from November 1, 1993 to October 31, 1997. Effective November 1, 1997, the operations of the contracts held by Trading were divided between affiliates of Enron and Sonat. Additionally, the Enron affiliate made a payment of $20 million to Trading to compensate it for lost future business. The fee charged is now based on a volumetric payment of $.05/mmbtu, or approximately 50% of the prior arrangement. Under this agreement, Trading is guaranteed an earnings stream based on all firm long-term contracts in place at November 1, 1997. (8) RATE MATTERS Transmission has been authorized by the FERC to recover certain transition costs incurred through the reformation of gas purchase contracts related to Transmission's former jurisdictional sales services. Transmission's Order No. 636 restructuring settlement, effective November 1, 1993, allows Transmission to recover 100% of any transition costs from $106 million up to $160 million, and 75% of payments exceeding $160 million. Transmission has no gas purchase contracts with accrued take-or-pay obligations, which have not yet been terminated. All transition costs eligible for recovery have been fully recovered. On August 30, 1996, Transmission made a Section 4 rate filing in Docket No. RP96-366-000 proposing an increase in annual revenues of approximately $27.4 million for service on the pre-expansion system and approximately $8.2 million for service on the Phase III expansion system. In an order issued September 30, 1996, the FERC accepted and suspended the filing to be effective March 1, 1997, subject to refund and certain conditions. By order issued November 27, 1996, certain audit and investigation matters (see Note 9) were consolidated with the rate case. After several months of negotiations, a settlement was reached with Transmission's customers and FERC staff ("Rate Case Settlement"). The Rate Case Settlement, filed on August 5, 1997, provides for tiered rates which, for a two-year period, reflect an increase over the rates in effect prior to the rate filing for transportation through both the pre-expansion and Phase III expansion systems. FERC approved the Rate Case Settlement on September 24, 1997; compliance tariff sheets were filed on November 12, 1997 under which the first tier of the Settlement rates became effective retroactive to March 1, 1997. IV-18 96 CITRUS CORP. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (9) COMMITMENTS AND CONTINGENCIES The FERC's Division of Audits (DOA) completed a compliance review of Transmission's books and records for the period of January 1, 1991 through December 31, 1994. Among other things, the FERC auditors questioned certain aspects of Transmission's procedures for accounting for the costs of financing Transmission's Phase III expansion facilities and proposed adjustments to the amount of AFUDC capitalized during construction of its Phase III expansion facilities. Pursuant to an agreement among Transmission, FERC staff and customer intervenors, Transmission filed a settlement agreement on July 30, 1996, which was approved by FERC order issued September 27, 1996. The settlement provided for a reduction of $18.75 million in its Gas Plant in Service account. In addition, the settlement provided that Transmission would restructure its capital accounts by removing approximately $348 million of excess donated capital on its books related to the Phase III construction. The settlement was without prejudice to Transmission seeking Commission approval to recover the $18.75 million, required to be removed from its plant account, in the rate case filed by Transmission on August 30, 1996. As a result of the Rate Case Settlement, Transmission will amortize the $18.75 million over a period not to exceed fifty-five months commencing March 1, 1997. The $18.75 million will be recovered over the amortization period. The DOA conducted a review of Transmission's books and records as to the construction costs of the Phase III expansion. The FERC's Division of Enforcement (DOE) conducted an informal investigation as to the possible non-compliance with certain environmental conditions attached to the FERC certificate authorizing the Phase III expansion. By order issued November 27, 1996, the FERC consolidated the Phase III cost audit and the DOE informal investigation with Transmission's rate case in Docket No. RP96-366-000. Pursuant to the Rate Case Settlement, the DOA review and DOE investigations have been terminated with no disallowance of any Phase III project costs. (10) CONCENTRATIONS OF CREDIT RISK AND OTHER FINANCIAL INSTRUMENTS The Company and its subsidiaries have a concentration of customers in the electric and gas utility industries. These concentrations of customers may impact the Company's overall exposure to credit risk, either positively or negatively, in that the customers may be similarly affected by changes in economic or other conditions. Credit losses incurred on receivables in these industries compare favorably to losses experienced in the Company's receivable portfolio as a whole. The Company and its subsidiaries also have a concentration of customers located in the southeastern United States, primarily within the state of Florida. Receivables are generally not collateralized. The Company's management believes that the portfolio of receivables, which includes local distribution companies and municipalities, is well diversified and that such diversification minimizes any potential credit risk. The carrying amounts and fair value of the Company's financial instruments at December 31, 1997 and 1996 are as follows (in thousands):
1997 1996 -------------------------- -------------------------- Carrying Estimated Carrying Estimated Amount Fair Value Amount Fair Value ---------- ---------- ---------- ---------- Cash and cash equivalents $ 17,274 $ 17,274 $ 16,063 $ 16,063 Contract reformation costs, net -- -- 7,078 7,078 TCR deferred revenues -- -- 6,256 6,256 Notes payable to banks 20,000 20,000 15,000 15,000 Long-term debt 1,025,000 1,176,389 1,125,000 1,245,688
The carrying amount of cash and cash equivalents, contract reformation costs, TCR deferred revenues and notes payable reasonably approximate their fair value. The fair value of long-term debt is based upon market quotations of similar debt at interest rates currently available. IV-19 97 CITRUS CORP. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (11) YEAR 2000 PROJECT (UNAUDITED) The Company continues to assess and modify its computer systems to ensure they will operate properly in 2000. The Company's management anticipates that these Year 2000 costs, which will be incurred over the next two years, will not have a material impact on the Company's financial position or results of operations. IV-20 98 APPENDIX TO ANNUAL REPORT ON FORM 10-K OF SONAT INC. FOR THE YEAR ENDED DECEMBER 31, 1997 In compliance with Section 304 of Regulation S-T, the following information describes pictorial and/or graphic materials contained herein:
PAGE DESCRIPTION I-5 Map of the Southwestern and Southcentral United States (Colorado, Kansas, New Mexico, Texas, Oklahoma, Arkansas, Louisiana, Mississippi, and Alabama) generally showing the gas reserve basins and areas in which Exploration has significant lease interests. These leases are described in the charts on page I-4 . I-8 Map of the Gulf of Mexico, offshore Texas and Louisiana, showing the location of leases and seismic data held by Sonat GOM as described on pages I-7 through I-10. I-19 Map of the Southeastern United States showing the approximate location of Sonat's pipeline systems as described on pages I-12 and I-13, and the underground storage facilities of Southern as described on page I-17. I-22 Map of the United States and portions of Canada showing areas of operations of Sonat Energy Services as described on pages I-20 and I-21.
99 EXHIBIT INDEX Exhibit Number Exhibit Restated Certificate of Incorporation and By-Laws 3-(a) Restated Certificate of Incorporation of Sonat Inc. (Restating the Certificate of Incorporation as in effect as of April 28, 1994) filed as Exhibit 3(a) to Form 10-Q of Sonat Inc. for the quarter ended March 31, 1994 3-(b) By-Laws of Sonat Inc. as amended and in effect December 1, 1995, filed as Exhibit 3-(b) to Form 10-K of Sonat Inc. for the year 1995 Instruments Defining the Rights of Security Holders 4.1 Rights Agreement dated as of January 8, 1996, between Sonat Inc. and Chemical Mellon Shareholder Services, L.L.C., as Rights Agent, with exhibits, and (1) Amendment No. 1 dated as of November 22, 1998, filed as Exhibit 99 to Form 8-A of Sonat Inc. dated January 10, 1996, except (1), which was filed as Exhibit 4.1 to Form 8-K of Sonat Inc. dated January 30, 1998 4.2 Registration Rights Agreement, dated as of January 30, 1998, by and between Sonat Inc., Selim K. Zilkha, Michael Zilkha, the Selim K. Zilkha Trust and the Selim K. Zilkha (1996) Annuity Trust, filed as Exhibit 10.1 to Form 8-K of Sonat Inc. dated January 30, 1998 4.3 Form of Indenture dated June 1, 1986, from Sonat Inc. to Manufacturers Hanover Trust Company, Trustee, as amended by (1) First Supplemental Indenture dated June 1, 1995, between Sonat Inc. and Chemical Bank, successor by merger to Manufacturers Hanover Trust Company, as Trustee, filed as Exhibit 4-(1) to Amendment No. 1 to Registration No. 33-5947 dated June 4, 1986, except (1), which was filed as Exhibit 4-(1) to Form 8-K of Sonat Inc. dated June 6, 1995 4.4 Specimen Note of Sonat Inc. for the $200 million 67/8% Notes due June 1, 2005, issued under Registration Statement No. 33-62166, filed as Exhibit 4-(2) to Form 8-K of Sonat Inc. dated June 6, 1995 4.5 Specimen Note of Sonat Inc. for the $100 million 91/2% Notes due August 15, 1999, issued under Registration Statement No. 33-5947, filed as Exhibit 4-2(c) to Form 10-K of Sonat Inc. for the year 1996 100 Exhibit Number Exhibit 4.6 Specimen Note of Sonat Inc. for the $100 million 9% Notes due May 1, 2001, issued under Registration Statement No. 33-5947, filed as Exhibit 4-(2) to Form 8-K of Sonat Inc. dated April 30, 1991 4.7 Specimen Note of Sonat Inc. for the $100 million 6.75% Notes due October 1, 2007, issued under Registration Statement No. 33-62166, filed as Exhibit 4-(3) to Form 8-K of Sonat Inc. dated September 25, 1997 4.8 Specimen Note of Sonat Inc. for the $100 million 6-5/8% Notes due February 1, 2008, issued under Registration Statement No. 33-62166, filed as Exhibit 4-(3) to Form 8-K of Sonat Inc. dated January 27, 1998 4.9 Specimen Note of Sonat Inc. for the $100 million 7% Notes due February 1, 2018, issued under Registration Statement No. 33-62166, filed as Exhibit 4-(3) to Form 8-K of Sonat Inc. dated January 29, 1998 4.10 Form of Indenture dated June 1, 1987, from Southern Natural Gas Company to Manufacturers Hanover Trust Company, Trustee, as amended by (1) First Supplemental Indenture, dated as of September 30, 1997, between Southern Natural Gas Company and The Chase Manhattan Bank (formerly Chemical Bank, successor by merger to Manufacturers Hanover Trust Company), filed as Exhibit 4-(1) to Registration No. 33-47266 of Southern Natural Gas Company dated April 16, 1992, except (1) which was filed as Exhibit 4-(2) to Form 8-K of Southern Natural Gas Company dated September 25, 1997 4.11 Specimen Note of Southern Natural Gas Company for the $100 million 87/8% Notes due February 15,2001, issued under Registration Statement 33-16190, filed as Exhibit 4-(2) to Form 8-K of Southern Natural Gas Company dated February 7, 1991 4.12 Specimen Note of Southern Natural Gas Company for the $100 million 7.85% Notes due January 15, 2002, issued under Registration Statement 33-16190, filed as Exhibit 4-(2) to Form 8-K of Southern Natural Gas Company dated January 14, 1992 4.13 Specimen Note of Southern Natural Gas Company for the $100 million 85/8% Notes due May 1, 2002, issued under Registration Statement 33-47266, filed as Exhibit 4.3(d) to Form 10-K of Sonat Inc. for the year 1996 -2- 101 Exhibit Number Exhibit 4.14 Specimen Note of Southern Natural Gas Company for the $100 million 6.70% Notes due October 1, 2007, issued under Registration Statement 33-47266, filed as Exhibit 4-(3) to Form 8-K of Southern Natural Gas Company. dated September 25, 1997 4.15 $400 Million Note Agreement dated November 3, 1986, between Citrus Corp. and the Purchasers named therein, filed as Exhibit 4-(5) to Form 10-K of Sonat Inc. for the year 1990 4.16 Credit Agreement dated as of June 1, 1996, among Sonat Inc., the Banks named therein, and The Chase Manhattan Bank (National Association), and Morgan Guaranty Trust Company of New York, as Co-Agents, filed as Exhibit 4 to Form 10-Q of Sonat Inc. for the quarter ended June 30, 1996 4.17 Credit Agreement dated as of January 26, 1998, among Sonat Inc., the Banks named therein, and The Chase Manhattan Bank, Morgan Guaranty Trust Company of New York, and SunTrust Bank, Atlanta, as Agents, filed herewith 4.18 Certificate of Designations of Series A Participating Preference Stock of Sonat Inc. dated January 8, 1996, as filed with the Secretary of State of the State of Delaware January 16, 1996, filed as Exhibit 4.6 to Form 10-K of Sonat Inc. for the year 1995 Compensation Plans and Management Contracts 10.1 Supplemental Benefit Plan of Sonat Inc. as Amended and Restated effective January 1, 1995, and (1) amendment dated December 1, 1995, filed as Exhibit 10.1 to Form 10-K of Sonat Inc. for the year 1996 10.2 Executive Award Plan of Sonat Inc. as Amended and Restated as of December 1, 1995, (corrected on December 4, 1996), and (1) amendment dated December 6, 1996, filed as Exhibit 10.2 to Form 10-K of Sonat Inc. for the year 1996 10.3 Restricted Stock Plan for Directors of Sonat Inc. (as Amended and Restated as of February 26, 1998), filed herewith 10.4 Performance Award Plan of Sonat Inc. effective as of January 27, 1994, and (1) amendment dated December 1, 1995, filed as Exhibit 10-(7) to -3- 102 Exhibit Number Exhibit Form 10-K of Sonat Inc. for the year 1993, except (1), which was filed as Exhibit 10.7 to Form 10-K of Sonat Inc. for the year 1995 10.5 Cash Bonus Plan of Sonat Inc. effective as of January 27, 1994, and (1) amendment dated December 1, 1995, filed as Exhibit 10-(8) to Form 10-K of Sonat Inc. for the year 1993, except (1), which was filed as Exhibit 10.8.to Form 10-K of Sonat Inc. for the year 1995 10.6 Sonat Inc. Retirement Plan for Directors as Amended and Restated as of December 2, 1994, and (1) amendment dated December 1, 1995, filed as Exhibit 10.9 to Form 10-K of Sonat Inc. for the year 1994, except (1), which was filed as Exhibit 10.9 to Form 10-K of Sonat Inc. for the year 1995 10.7 Executive Severance Agreement dated December 1, 1995, between Sonat Inc. and William A. Smith and schedule identifying substantially identical Executive Severance Agreements between Sonat Inc. and other parties, filed herewith 10.8 Executive Severance Agreement as amended and restated as of January 22, 1998, between Sonat Inc. and Ronald L. Kuehn, Jr., filed herewith 10.9 Executive Severance Agreement as amended and restated as of January 22, 1998, between Sonat Inc. and Donald G. Russell, filed herewith 10.10 Directors' Fees Deferral Plan of Sonat Inc. as Amended and Restated as of January 1, 1997, filed herewith 10.11 Indemnity Agreement dated December 4, 1987, between Sonat Inc. and Ronald L. Kuehn, Jr. and schedule identifying substantially identical indemnity agreements between Sonat Inc. and other directors of Sonat Inc. and (1) Indemnity Agreement dated September 1, 1994, between Sonat Inc. and Adrian M. Tocklin, (2) Indemnity Agreement dated September 22, 1994, between Sonat Inc. and Donald G. Russell, (3) Indemnity Agreement dated November 1, 1995, between Sonat Inc. and Max L. Lukens, (4) Indemnity Agreement dated January 30, 1998, between Sonat Inc. and Michael S. Zilkha, and (5) Indemnity Agreement dated January 30, 1998, between Sonat Inc. and Selim K. Zilkha, filed as Exhibit 10-(11) to Form 10-K of Sonat Inc. for the year 1992, except (1), which was filed as Exhibit 10.3 to Form 10-Q of Sonat Inc. for the quarter ended September 30, 1994, (2), which was filed as Exhibit 10.4 to Form 10-Q of Sonat Inc. for -4- 103 Exhibit Number Exhibit the quarter ended September 30, 1994, (3), which was filed as Exhibit 10.12 to Form 10-K of Sonat Inc. for the year 1995, and (4) and (5) which are filed herewith 10.12 Trust Agreement dated December 19, 1986, between Sonat Inc. and AmSouth Bank N.A. for Section 415 Retirement Plan Benefits and Vesting Benefits under the Supplemental Benefit Plan and Early Retirement Benefits under the Executive Severance Agreements, filed as Exhibit 10-(15) to Form 10-K of Sonat Inc. for the year 1991 10.13 Trust Agreement dated December 19, 1986, between Sonat Inc. and AmSouth Bank N.A. for Section 415 Stock Purchase Plan Benefits under the Supplemental Benefit Plan, filed as Exhibit 10-(16) to Form 10-K of Sonat Inc. for the year 1991 10.14 Trust Agreement dated December 19, 1986, between Sonat Inc. and AmSouth Bank N.A. for Benefits under the Retirement Plan for Directors, filed as Exhibit 10-(17) to Form 10-K of Sonat Inc. for the year 1991 10.15 Form of Sonat Inc. Executive Life Insurance Program Split Dollar Agreement, Collateral Assignment Agreement, and Program Description, each dated as of July 1, 1990, with (1) schedule identifying the persons participating in such Programs, filed as Exhibit 10-(20) to Form 10-K of Sonat Inc. for the year 1990, except (1), which is filed herewith 10.16 Sonat Inc. Deferred Compensation Plan - Plan Summary dated November 1997, filed herewith Other Material Contracts 10.17 Capital Stock Agreement among Sonat Inc., Enron Corp., Houston Natural Gas Corporation, and Citrus Corp. dated June 30, 1986, filed as Exhibit 10-(26) to Form 10-K of Sonat Inc. for the year 1991 10.18 Standby Note Purchase Agreement among Sonat Inc., Credit Lyonnais New York Branch, as Administrative Agent for the Banks party to the Revolving Credit Agreement with Citrus Corp., and Citrus Corp. dated December 23, 1993, and the $300 Million Revolving Credit Agreement dated as of December 23, 1993, among Citrus Corp., as Borrower, and The Banks named therein, as Banks, and Credit Lyonnais New York Branch and The -5- 104 Exhibit Number Exhibit Toronto-Dominion Bank, as Managing Agents, to which the Standby Note Purchase Agreement applies, filed as Exhibit 10-(23) to Form 10-K of Sonat Inc. for the year 1993 Other Exhibits 12 Computation of Ratio of Earnings to Fixed Charges, filed herewith 21 Subsidiaries of Sonat Inc., filed herewith 22 Proxy Statement of Sonat Inc. dated as of March 21, 1998 which is not to be deemed "filed" as part of this Form 10-K, except to the extent incorporated by reference under Items 10, 11, 12 and 13 of Part III of this Form 10-K, filed herewith 23.1 Consent of Ernst & Young LLP, Independent Auditors, dated March 23, 1998, filed herewith 23.2 Consent of Cobb & Associates, Independent Petroleum Engineers, dated March 23, 1998, filed herewith 24 Powers of Attorney authorizing Ronald L. Kuehn, Jr.; Thomas W. Barker, Jr.; James E. Moylan, Jr.; William A. Smith; and John C. Griffin to sign the Sonat Inc. Annual Report on Form 10-K for the fiscal year ended December 31, 1997, on behalf of certain directors and officers of the registrant, filed herewith 27.1 Financial Data Schedule for the period ended December 31, 1997, filed herewith, electronically only 27.2 Financial Data Schedule for the period ended December 31, 1996, filed herewith, electroncially only 27.3 Financial Data Schedule for the period ended December 31, 1995, filed herewith, electroncially only -6- EX-4.17 2 CREDIT AGREEMENT DATED JANUARY 26, 1998 1 EXHIBT 4.17 - -------------------------------------------------------------------------------- CREDIT AGREEMENT dated as of January 26, 1998 among SONAT INC., THE BANKS NAMED HEREIN, and THE CHASE MANHATTAN BANK, as Administrative Agent, MORGAN GUARANTY TRUST COMPANY OF NEW YORK, as Syndication Agent and SUNTRUST BANK, ATLANTA, as Documentation Agent - -------------------------------------------------------------------------------- 2 TABLE OF CONTENTS
Article Page - ------- ---- I. LOANS................................................................... 1 Section 1.01 Syndicated Loans...................................... 1 Section 1.02 Money Market Loans.................................... 1 Section 1.03 Swingline Commitment.................................. 4 Section 1.04 Change of Commitments................................. 5 Section 1.05 Borrowings of Syndicated Loans........................ 6 Section 1.06 Several Commitments; Remedies Independent............. 8 Section 1.07 Availability of Funds................................. 8 Section 1.08 Borrowings of Swingline Loans......................... 8 Section 1.09 Lending Offices....................................... 9 Section 1.10 Notes................................................. 9 II. PAYMENTS, INTEREST AND CERTAIN FEES..................................... 10 Section 2.01 Repayment of Loans.................................... 10 Section 2.02 Interest.............................................. 10 Section 2.03 Interest Periods...................................... 11 Section 2.04 Prepayments........................................... 11 Section 2.05 Payments, etc......................................... 12 Section 2.06 Pro Rata Treatment; Sharing........................... 13 Section 2.07 Computations.......................................... 14 Section 2.08 Facility Fee.......................................... 14 Section 2.09 Administration Fee.................................... 14 III. PROVISIONS RELATING TO FIXED RATE LOANS................................. 14 Section 3.01 Additional Costs...................................... 14 Section 3.02 Limitation on Types of Loans.......................... 17 Section 3.03 Illegality............................................ 17 Section 3.04 Treatment of Affected Loans........................... 17 Section 3.05 Compensation.......................................... 18 Section 3.06 Survival.............................................. 18 IV. CONDITIONS.............................................................. 18 Section 4.01 Conditions to Effectiveness........................... 18 Section 4.02 Conditions Precedent to Loans......................... 19 V. COVENANTS............................................................... 20 Section 5.01 Financial Statements.................................. 20
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Article Page - ------- ---- Section 5.02 Access to Books and Inspection........................ 21 Section 5.03 Litigation............................................ 21 Section 5.04 Maintenance of Existence.............................. 21 Section 5.05 Merger; Sale of Assets................................ 21 Section 5.06 Default; Investment Rating............................ 22 Section 5.07 ERISA................................................. 22 Section 5.08 Liens................................................. 23 Section 5.09 Total Indebtedness to Consolidated Capitalization..... 24 Section 5.10 Certain Existing Credit Lines......................... 24 Section 5.11 Insurance............................................. 24 Section 5.12 Maintenance of Properties............................. 24 Section 5.13 Public Utility Holding Company Act.................... 24 VI. REPRESENTATIONS AND WARRANTIES.......................................... 24 Section 6.01 Corporate Existence and Powers........................ 24 Section 6.02 Corporate Authority, etc.............................. 25 Section 6.03 Financial Condition................................... 25 Section 6.04 Litigation............................................ 25 Section 6.05 Taxes................................................. 26 Section 6.06 Approvals............................................. 26 Section 6.07 ERISA................................................. 26 Section 6.08 Margin Regulations.................................... 26 Section 6.09 Certain Subsidiaries.................................. 26 Section 6.10 Investment Company Act................................ 26 Section 6.11 Environmental Laws.................................... 26 VII. EVENTS OF DEFAULT....................................................... 27 VIII. MISCELLANEOUS........................................................... 29 Section 8.01 Waiver................................................ 29 Section 8.02 Notices and Delivery of Documents..................... 29 Section 8.03 Governing Law......................................... 29 Section 8.04 Offsets, etc.......................................... 29 Section 8.05 Disposition of Loans.................................. 29 Section 8.06 Expenses.............................................. 30 Section 8.07 Amendments, Waivers, etc.............................. 30 Section 8.08 Definitions........................................... 31 Section 8.09 Successors and Assigns................................ 31 Section 8.10 Counterparts.......................................... 32 IX. THE AGENTS................................................................... 32 Section 9.01 Appointment, Power and Immunities..................... 32
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Article Page - ------- ---- Section 9.02 Reliance by Agents.................................... 33 Section 9.03 Default............................................... 33 Section 9.04 Rights as a Lender.................................... 33 Section 9.05 Indemnification....................................... 34 Section 9.06 Reports............................................... 34 Section 9.07 Non-Reliance on Agents and Other Banks................ 34 Section 9.08 Failure to Act........................................ 35 Section 9.09 Resignation or Removal of Agents...................... 35 Section 9.10 Documentation Agent................................... 35
SCHEDULE 1 Definitions SCHEDULE 2 Lending Offices and/or Addresses for Notices SCHEDULE 3 Commitments EXHIBIT A-1 Form of Note for Syndicated Loans EXHIBIT A-2 Form of Note for Money Market Loans EXHIBIT A-3 Form of Note for Swingline Loans EXHIBIT B Form of Opinion of Counsel to the Company EXHIBIT C Form of Opinion of Special New York Counsel to the Banks EXHIBIT D Form of Money Market Quote Request EXHIBIT E Form of Money Market Quote iii 5 CREDIT AGREEMENT dated as of January 26, 1998 among SONAT INC., a Delaware corporation (the "Company"); the undersigned banks (each herein called a "Bank"); and THE CHASE MANHATTAN BANK, as Administrative Agent, MORGAN GUARANTY TRUST COMPANY OF NEW YORK, as Syndication Agent and SUNTRUST BANK, ATLANTA, as Documentation Agent (in such capacities, each such agent being herein called an "Agent" and collectively the "Agents"). The Company has requested the Banks to extend credit to the Company for the general corporate purposes of the Company. The Banks are prepared to do so on the terms hereof. Accordingly, the Company, each Bank and the Agents hereby agree as follows: I. LOANS Section 1.01 Syndicated Loans. Each Bank severally agrees, on the terms of this Agreement, to make loans to the Company in Dollars during the period from and including the date hereof to but not including the Commitment Termination Date in an aggregate principal amount at any one time outstanding up to but not exceeding the amount of such Bank's Commitment as then in effect. Subject to the terms of this Agreement, during such period the Company may borrow, repay and reborrow the amount of the Commitments; provided that the sum of (i) the aggregate principal amount of all Money Market Loans, plus (ii) the aggregate principal amount of all Syndicated Loans plus (iii) the aggregate principal amount of all Swingline Loans, at any one time outstanding shall not exceed the aggregate amount of the Commitments at such time except that, notwithstanding the foregoing, Money Market Loans outstanding at the time of any termination or reduction of the Commitments pursuant to Section 1.04 hereof need not be prepaid on account of this proviso. Section 1.02 Money Market Loans. (a) In addition to borrowings of Syndicated Loans, the Company may, as set forth in this Section 1.02, request the Banks to make offers to make Money Market Loans to the Company in Dollars. The Banks may, but shall have no obligation to, make such offers and the Company may, but shall have no obligation to, accept any such offers in the manner set forth in this Section 1.02. Money Market Loans shall be Set Rate Loans, provided that: (i) there may be no more than fifteen different Interest Periods for both Syndicated Loans (other than Domestic Loans) and Money Market Loans outstanding at the same time (for which purpose Interest Periods described in different lettered clauses of the definition of the term "Interest Period" in Section 2.03 hereof shall be deemed to be different Interest Periods even if they are coterminous); and (ii) the sum of (x) aggregate principal amount of all Money Market Loans, plus (y) the aggregate principal amount of all Syndicated Loans plus (z) the aggregate principal amount of all Swingline Loans, at any one time outstanding shall not 6 exceed the aggregate amount of the Commitments at such time except that, notwithstanding the foregoing, Money Market Loans outstanding at the time of any termination or reduction of the Commitments pursuant to Section 1.04 hereof need not be prepaid on account of this proviso. (b) When the Company wishes to request offers to make Money Market Loans, it shall give each Bank notice (a "Money Market Quote Request") so as to be received no later than 11:00 a.m. New York time on the Business Day next preceding the date of borrowing proposed therein or such other time and date as the Company and the Majority Banks may agree. The Company may request offers to make Money Market Loans for up to three different Interest Periods in a single notice (for which purpose Interest Periods in different lettered clauses of the definition of the term "Interest Period" shall be deemed to be different Interest Periods even if they are coterminous); provided that the request for each separate Interest Period shall be deemed to be a separate Money Market Quote Request for a separate borrowing (a "Money Market Borrowing"). Each such notice shall be substantially in the form of Exhibit D hereto and shall specify as to each Money Market Borrowing: (i) the proposed date of such borrowing, which shall be a Business Day; (ii) the aggregate amount of such Money Market Borrowing, which shall be at least $25,000,000 (or in larger multiples of $5,000,000) but shall not cause the limits specified in Section 1.02 hereof to be violated (without giving effect to any other Money Market Borrowing subject to a simultaneous Money Market Quote Request); (iii) the duration of the Interest Period applicable thereto; and (iv) the date on which the Money Market Quotes are to be submitted if it is before the proposed date of borrowing (the date on which such Money Market Quotes are to be submitted is called the "Quotation Date"). Except as otherwise provided in this Section 1.02, no Money Market Quote Request shall be given within five Business Days (or such other number of days as the Company and the Majority Banks may agree) of any other Money Market Quote Request. (c) (i) Each Bank may submit one or more Money Market Quotes, each containing an offer to make a Money Market Loan in response to any Money Market Quote Request; provided that, if the Company's request under Section 1.02(b) hereof specified more than one Interest Period, such Bank may make a single submission containing one or more Money Market Quotes for each such Interest Period. Each Money Market Quote must be submitted to the Company not later than 10:00 a.m. New York time on the Quotation Date or such other time and date as the Company and the Majority Banks may agree. Subject to Section 3.02(b), Section 3.03, Section 4.02 and Article VII hereof, any Money Market Quote so made shall be irrevocable except with the written consent of the Company. 2 7 (ii) Each Money Market Quote shall be substantially in the form of Exhibit E hereto and shall specify: (A) the proposed date of borrowing and the Interest Period therefor; (B) the principal amount of the Money Market Loan for which each such offer is being made, which principal amount shall be at least $5,000,000 or a larger multiple of $1,000,000; provided that the aggregate principal amount of all Money Market Loans for which a Bank submits Money Market Quotes (x) may be greater or less than the Commitment of such Bank but (y) may not exceed the principal amount of the Money Market Borrowing for a particular Interest Period for which offers were requested; (C) the rate of interest per annum (rounded upwards, if necessary, to the nearest 1/10,000th of 1%) offered for each Money Market Loan (the "Money Market Rate"); and (D) the identity of the quoting Bank. Unless otherwise agreed by the Company, no Money Market Quote shall contain qualifying, conditional or similar language or propose terms other than or in addition to those set forth in the applicable Money Market Quote Request and, in particular, no Money Market Quote may be conditioned upon acceptance by the Company of all (or some specified minimum) of the principal amount of the Money Market Loan for which such Money Market Quote is being made. (d) Not later than 11:30 a.m. New York time on the Quotation Date or such other time and date as the Company and the Majority Banks may agree, the Company shall notify each Bank of its acceptance or nonacceptance of the offers so notified to it pursuant to Section 1.02(c)(i) hereof (and the failure of the Company to give such notice by such time shall constitute nonacceptance). In the case of acceptance, such notice shall specify the aggregate principal amount of offers for each Interest Period that are accepted. The Company may accept any Money Market Quote in whole or in part (provided that any Money Market Quote accepted in part shall be at least $5,000,000 or in larger multiples of $1,000,000); provided that: (i) the aggregate principal amount of each Money Market Borrowing may not exceed the applicable amount set forth in the related Money Market Quote Request; (ii) the aggregate principal amount of each Money Market Borrowing shall be at least $25,000,000 (or in larger multiples of $5,000,000) but shall not cause the limits specified in Section 1.02 hereof to be violated; (iii) acceptance of offers may be made only in ascending order of Money Market Rates, in each case commencing with the lowest rate so offered; and 3 8 (iv) the Company may not accept any offer that fails to comply with Section 1.02(c)(ii) hereof or otherwise fails to comply with the requirements of this Agreement (including, without limitation, Section 1.02(a) hereof). If offers are made by two or more Banks with the same Money Market Rates for a greater aggregate principal amount than the amount in respect of which offers are accepted for the related Interest Period, the principal amount of Money Market Loans in respect of which such offers are accepted shall be allocated by the Company among such Banks as nearly as possible (in multiples of $1,000,000) in proportion to the aggregate principal amount of such offers. Determinations by the Company of the amounts of Money Market Loans shall be conclusive in the absence of manifest error. Promptly after the acceptance by the Company of any Money Market Quote, the Company shall give Chase notice of the principal amount of each Money Market Loan to be made pursuant to such Money Market Quote, the rate of interest per annum and the duration of the Interest Period applicable thereto and the name of the Bank making such Loan. (f) Any Bank whose offer to make any Money Market Loan has been accepted shall, not later than 1:00 p.m. New York time on the date specified for the making of such Loan, make the amount of such Loan available to Chase at account number 323-506909 maintained by Chase with The Chase Manhattan Bank at its Principal Office in immediately available funds, for account of the Company. The amount so received by Chase shall, subject to the terms and conditions of this Agreement, be made available to the Company on such date by depositing the same, in immediately available funds, in an account of the Company maintained with The Chase Manhattan Bank at its Principal Office designated by the Company. (g) The amount of any Money Market Loan made by any Bank shall not constitute a utilization of such Bank's Commitment. Section 1.03 Swingline Commitment. Subject to the terms and conditions hereof, the Swingline Bank agrees to make a portion of the credit otherwise available to the Company under the Commitments by making swingline loans ("Swingline Loans") in Dollars to the Company during the period from and including the date hereof to but not including the Commitment Termination Date; provided that (a) the aggregate principal amount of Swingline Loans outstanding at any time shall not exceed the Swingline Commitment then in effect, (b) the aggregate principal amount of Swingline Loans plus the aggregate principal amount of Syndicated Loans made by the Swingline Bank outstanding at any time shall not exceed the Swingline Bank's Commitment then in effect, and (c) the Company shall not request, and the Swingline Bank shall not make, any Swingline Loan if, after giving effect to the making of such Swingline Loan, the sum of (i) the aggregate principal amount of all Money Market Loans, plus (ii) the aggregate principal amount of all Syndicated Loans plus (iii) the aggregate principal amount of all Swingline Loans, at any one time outstanding shall exceed the aggregate amount of the Commitments at such time except that, notwithstanding the foregoing, Money Market Loans outstanding at the time of any termination or reduction of the Commitments pursuant to Section 1.04 hereof need not be prepaid on account of this proviso. During such period, the Company may 4 9 use the Swingline Commitment by borrowing, repaying and reborrowing, all in accordance with the terms and conditions hereof. Section 1.04 Change of Commitments. (a) The Company shall have the right at any time or from time to time upon not less than three Business Days' prior notice to Chase (specifying the date and the aggregate amount of each such reduction or termination) to terminate in whole, or to reduce in part, (i) the aggregate unused amount of the Commitments (and, in accordance with Section 1.02(g) hereof, outstanding Money Market Loans shall not constitute a utilization of the Commitments) and/or (ii) the aggregate unused amount of the Swingline Commitment. Each such reduction of the Commitments shall be in an aggregate amount of at least $25,000,000 and a multiple of $1,000,000 and each such reduction of the Swingline Commitment shall be in an aggregate amount of at least $5,000,000 and a multiple of $1,000,000. Chase shall promptly notify each Bank of its proportionate share and the date of each such reduction. (b) If either (i) during any period of 12 consecutive months, individuals who were directors of the Company at the beginning of such period cease to constitute a majority of the board of directors of the Company (except for changes due to the retirement or death of any such individuals) or (ii) any Person (or group of Persons which has an agreement, arrangement or understanding for the purpose of acquiring the shares of the Company) shall acquire, directly or indirectly, beneficial ownership or control of more than 50% of the then outstanding voting shares of the Company (either such event being hereinafter referred to as a "Change in Control"), then each Bank (through Chase) may, by notice to the Company not later than the date 20 Business Days after the Company shall have notified the Agents of any such Change in Control, reduce the Commitment of such Bank in an amount equal to the unused amount of such Bank's Commitment (and, in accordance with Section 1.02(g) hereof, outstanding Money Market Loans shall not constitute a utilization of such Bank's Commitment) and the Swingline Bank, by such notice, may reduce the Swingline Commitment in an amount equal to the unused amount thereof. The Company agrees, as soon as it shall become known to one of its senior officers, to notify the Agents of any such Change in Control (and Chase shall promptly notify the Banks thereof), but the failure to so notify shall not preclude any Bank from reducing the unused amount of such Bank's Commitment as aforesaid. (c) Provided that no Default shall have occurred and be continuing, the Company may at any time terminate the Commitment of any Bank (and, in the case of the Swingline Bank, the Swingline Commitment) that has claimed any compensation under Section 3.01(a) or Section 3.01(c) hereof at any time during the preceding one-month period, in whole but not in part, by (i) giving Chase (which shall promptly notify such Bank) not less than five Business Days' prior notice thereof, which notice shall be irrevocable and effective only upon receipt by Chase and shall specify the identity of such Bank and the effective date of such termination, and (ii) paying to such Bank (and there shall become due and payable) on such date the outstanding principal amount of all Loans made by such Bank, interest on such principal amount accrued to such date, any amounts payable to such Bank pursuant to Article III hereof in connection therewith and all other amounts owing to such Bank by the Company hereunder (provided that 5 10 the obligations of the Company under Article III and Section 8.06 hereof to such Bank shall survive such termination). (d) Provided that no Default shall have occurred and be continuing, the Company may at any time replace any Bank that has claimed any compensation under Section 3.01(a) or Section 3.01(c) hereof at any time during the preceding one-month period, in whole but not in part, by giving Chase not less than five Business Days' prior notice (and Chase shall promptly notify such Bank), that it intends to replace such Bank with one or more banks (which may include any other Bank under this Agreement) selected by the Company and acceptable to Chase (which shall not unreasonably withhold its consent). Any such replacement shall be accomplished pursuant to documentation in form and substance satisfactory to Chase. Upon the effective date of any replacement under this Section 1.04(d) (and as a condition thereto), the Company shall repay to the Bank being replaced the principal of and interest on each Loan then outstanding from such Bank together with all other amounts owing to such Bank hereunder and such replacement bank (or banks, as the case may be) shall make a loan (or loans) to the Company in the (aggregate) principal amount of each such Loan so repaid which loan (or loans) shall be of the same type and have the same maturity and interest rate as the respective Loan so repaid), whereupon such replacement bank (or banks) shall become a "Bank" (or "Banks") for all purposes of this Agreement having a Commitment (or Commitments in the aggregate) (and, in the case of the Swingline Bank, the Swingline Commitment) in the amount of such Bank being replaced and such loan (or loans) shall be deemed a Loan (or Loans) hereunder. (e) The Swingline Bank may terminate in its sole discretion the Swingline Commitment by giving the Company written notice thereof at least 30 days in advance of the date of such termination. (f) The Commitments (and, in the case of the Swingline Bank, the Swingline Commitment) once terminated or reduced may not be reinstated, except that the Swingline Commitment may be reinstated by agreement of the Swingline Bank and the Company. Section 1.05 Borrowings of Syndicated Loans. (a) Each Syndicated Loan shall be either a Domestic Loan or Eurodollar Loan. Syndicated Loans on the occasion of any borrowing thereof hereunder may be Domestic Loans or Eurodollar Loans (each a "type" of Loan) or any combination thereof; provided that there may be no more than ten Interest Periods for Eurodollar Loans outstanding at the same time; and provided, further, that there may be no more than fifteen different Interest Periods for both Eurodollar Loans and Money Market Loans outstanding at the same time (for which purpose Interest Periods described in different lettered clauses of the definition of the term "Interest Period" in Section 2.03 hereof shall be deemed to be different Interest Periods even if they are coterminous). (b) The Company shall give Chase (which shall promptly notify the Banks) notice of each borrowing hereunder of Syndicated Loans, which notice shall be irrevocable and effective only upon receipt by Chase, shall specify with respect to the Syndicated Loans to be borrowed (i) the aggregate amount (which shall be at least $10,000,000 or a multiple of 6 11 $1,000,000 in excess thereof), (ii) the type or types of Loans to be borrowed and the aggregate amount of each type, (iii) the date of such borrowing (which shall be a Business Day), and (iv) (in the case of Eurodollar Loans) the duration of the Interest Period therefor and shall be given not later than 11:00 a.m. New York time, in the case of Domestic Loans, on the same day as the date of such borrowing and, in the case of Eurodollar Loans, on the day which is not less than three Business Days prior to the date of such borrowing. (c) If at any time during which Syndicated Loans are outstanding under this Agreement the Company shall fail to give a notice of the type referred to in Section 1.05(b) or otherwise to advise Chase in writing by 11:00 a.m. New York time on the day which is not less than one Business Day prior to the maturity date of any such Syndicated Loans that it does not intend to reborrow an amount at least equal to the aggregate amount of such Syndicated Loans (or, if less, the aggregate amount of the Commitments) on such maturity date, the Company shall be deemed to have given on such first Business Day preceding such maturity date a notice of borrowing hereunder for Domestic Loans to be made on such date in an amount equal to the lesser of (i) the aggregate principal amount of the Syndicated Loans which are maturing on such date or (ii) the aggregate amount of the Commitments to be outstanding on such date (after giving effect to any reductions of the Commitments to be effected on such date), and Chase shall notify the Banks of such borrowing. (d) Subject to Chase's receipt or deemed receipt of a notice of borrowing as provided in Section 1.05(b) or Section 1.05(c) hereof and to Chase's receipt of notice from the Swingline Bank of the outstanding principal amount of the Swingline Loans as of the Swingline Business Day next preceding the date of such notice of borrowing, Chase shall give each Bank not less than three Business Days' prior notice (with respect to each borrowing of Eurodollar Loans) or same-day notice by noon (with respect to each borrowing of Domestic Loans), as the case may be, of each such borrowing specifying (i) the aggregate amount to be borrowed, (ii) the date of borrowing, (iii) the type or types of Loans to be borrowed, (iv) in the case of any Fixed Rate Loans to be borrowed, the duration of the Interest Period therefor and (v) such Bank's pro rata portion thereof. Each Bank's (other than the Swingline Bank's) pro rata portion of each Syndicated Loan shall equal a fraction, the numerator of which shall be the amount of such Bank's Commitment as of the date the notice of borrowing is given for such Syndicated Loan and the denominator of which shall be (i) the aggregate Commitments of all Banks as of the date such notice of borrowing is given minus (ii) the outstanding principal amount of the Swingline Loans as of the next preceding Swingline Business Day. The Swingline Bank's pro rata portion of each Syndicated Loan shall equal a fraction, the numerator of which shall be (i) the amount of the Swingline Bank's Commitment as of the date the notice of borrowing is given with respect to such Syndicated Loan minus (ii) the outstanding principal amount of the Swingline Loans as of the next preceding Swingline Business Day and the denominator of which shall be (i) the aggregate Commitment of all Banks as of the date such notice of borrowing is given minus (ii) the outstanding principal amount of the Swingline Loans as of the next preceding Swingline Business Day. From and including the date that notice of a borrowing of a Syndicated Loan is given to but excluding the date that such Syndicated Loan is made, the principal amount of such Syndicated Loan required to be made by the Swingline Bank shall be deemed to be outstanding for purposes of clause (b) of Section 1.03. 7 12 (e) Not later than 1:00 p.m. New York time on the date specified for each borrowing of Syndicated Loans, each Bank shall make available to Chase, at account number 323-506909 maintained by The Chase Manhattan Bank at its Principal Office in immediately available funds the amount of the Syndicated Loan or Syndicated Loans to be made by it on such date, for account of the Company. The amount so received by Chase shall, subject to the terms and conditions of this Agreement, be made available to the Company on such date by depositing the same, in immediately available funds, in an account of the Company maintained with The Chase Manhattan Bank at its Principal Office designated by the Company. If any Bank shall (i) be obligated but fail to make available the amount of the Syndicated Loan to be made by it on the date specified for a borrowing hereunder and (ii) have any Syndicated Loans which are maturing on such date, such maturing Syndicated Loans shall automatically be extended in an amount equal to (but not in excess of) the amount of the Syndicated Loan to be made and in the type and for the Interest Period of such Loan to be made (and such Loan which would otherwise mature on such date shall not be considered to be past due hereunder). Section 1.06 Several Commitments; Remedies Independent. The failure of any Bank to make any Loan to be made by it shall not relieve any other Bank of its obligation to make its Loan on such date, but neither any other Bank nor any Agent shall be responsible for such failure. The amounts payable at any time by the Company hereunder and under the Notes to each Bank shall be a separate and independent debt and each Bank shall be entitled to protect and enforce its rights arising out of this Agreement and the Notes, and it shall not be necessary for any other Bank or any Agent to consent to, or to be joined as an additional party in, any proceedings for such purposes. Section 1.07 Availability of Funds. Unless Chase shall have been notified by a Bank prior to the date of any borrowing hereunder that such Bank does not intend to make available to Chase such Bank's Loans to be made on such day, Chase may assume that such Bank has made the amount of such Loans to be made available to Chase on such date and Chase may in reliance upon such assumption (but shall not be required to) make available to the Company a corresponding amount. If such proceeds are not in fact made available to Chase by such Bank, Chase shall be entitled to recover such corresponding amount on demand from such Bank (or, if such Bank fails to pay such corresponding amount forthwith upon such demand, from the Company) together with interest thereon in respect of each day during the period commencing on the date such corresponding amount was made available to the Company and ending on (but excluding) the date Chase recovers such corresponding amount at a rate per annum equal to the Federal Funds Rate for such day (or if such day is not a Business Day, the next preceding Business Day). Section 1.08 Borrowings of Swingline Loans. (a) If on any Swingline Business Day prior to the Commitment Termination Date the aggregate disbursements authorized by the Company and made from the Swingline Account exceed the aggregate cash on hand and deposits received in the Swingline Account on such Swingline Business Day, the Swingline Bank shall make a Swingline Loan to the Company in an amount equal to such excess (subject to the provisions of Section 1.03 hereof), unless otherwise instructed by the Company. Each Swingline Loan shall be credited to the Swingline Account as of the date made. The outstanding Swingline 8 13 Loans shall bear interest at such rate per annum as the Company and the Swingline Bank shall agree. Accrued interest on the outstanding Swingline Loans shall be paid on each date on which the outstanding Swingline Loans are paid in full and on the first Swingline Business Day of each month if there are any outstanding Swingline Loans on the Swingline Business Day next preceding such day. The Company shall have the right to prepay the outstanding Swingline Loans, in whole or in part, at any time. All payments with respect to Swingline Loans shall be made at the Lending Office of the Swingline Bank. Upon request of the Company made on any Swingline Business Day, the Swingline Bank shall give Chase notice as promptly as practicable but in any event by no later than 11:00 a.m. New York time on the next Swingline Business Day of the outstanding principal amount of the Swingline Loans as of the close of business on the Swingline Business Day next preceding the date that such notice is given to Chase. (b) In the case of any of the Events of Default specified in paragraphs A through I of Article VII hereof, (i) the Swingline Bank may, by notice to the Company, terminate the Swingline Commitment hereunder and it shall thereupon terminate, and (ii) the Swingline Bank may, by notice to the Company, declare the outstanding Swingline Loans and Swingline Note and all other obligations of the Company thereunder to be due and payable, whereupon the same shall become forthwith due and payable, without further protest, presentment, notice or demand, all of which are expressly waived by the Company. In case of any of the Events of Default specified in paragraph J or K of Article VII hereof, without any notice to the Company or any act by the Swingline Bank, the Swingline Commitment hereunder shall terminate forthwith and the principal of and interest accrued on the outstanding Swingline Loans and the Swingline Note and all other obligations of the Company thereunder shall become and be due and payable. Section 1.09 Lending Offices. The Loans of each type made by each Bank shall be made and maintained at such Bank's Applicable Lending Office for Loans of such type. Section 1.10 Notes. (a) The Syndicated Loans made by each Bank shall be evidenced by a single promissory note (a "Syndicated Note") of the Company substantially in the form of Exhibit A-1 hereto, dated the Effective Date, payable to such Bank in a principal amount equal to the amount of its Commitment as originally in effect and otherwise duly completed. The date, amount, type, interest rate and maturity date of each Syndicated Loan made by each Bank to the Company, and each payment made on account of the principal thereof, shall be recorded by such Bank on its books and, prior to any transfer of such Note held by it, endorsed by such Bank on the schedule attached to such Note or any continuation thereof. The failure of any Bank to make any notation or entry or any error in such a notation or entry shall not, however, limit or otherwise affect any obligation of the Company under this Agreement or the Notes. (b) The Money Market Loans made by any Bank shall be evidenced by a single promissory note (a "Money Market Note") of the Company substantially in the form of Exhibit A-2 hereto, dated the date of the delivery of such Note to Chase under this Agreement, payable to such Bank and otherwise duly completed. The date, amount, interest rate and 9 14 maturity date of each Money Market Loan made by each Bank to the Company, and each payment made on account of the principal thereof, shall be recorded by such Bank on its books and, prior to any transfer of such Note held by it, endorsed by such Bank on the schedule attached to such Note or any continuation thereof. The failure of any Bank to make any notation or entry or any error in such a notation or entry shall not, however, limit or otherwise affect any obligation of the Company under this Agreement or the Notes. (c) The Loans made by the Swingline Bank shall be evidenced by a single promissory note (a "Swingline Note") of the Company substantially in the form of Exhibit A-3 hereto, dated the Effective Date, payable to the Swingline Bank in a principal amount equal to the amount of the Swingline Commitment as originally in effect and otherwise duly completed. The date, amount, type, interest rate and maturity date of each Swingline Loan made by the Swingline Bank to the Company, and each payment made on account of the principal thereof, shall be recorded by the Swingline Bank on its books and, prior to any transfer of such Note held by it, endorsed by the Swingline Bank on the schedule attached to such Note or any continuation thereof. The failure of the Swingline Bank to make any notation or entry or any error in such a notation or entry shall not, however, limit or otherwise affect any obligation of the Company under this Agreement or the Notes. II. PAYMENTS, INTEREST AND CERTAIN FEES Section 2.01 Repayment of Loans. The Company hereby promises to pay to Chase for account of each Bank, the principal amount of each Loan made by such Bank (except for the Swingline Loan, as to which payments shall be made to the Swingline Bank pursuant to Section 1.08), and such Loan shall mature, on the last day of the Interest Period therefor. Section 2.02 Interest. The Company hereby promises to pay to Chase for account of each Bank, interest on the unpaid principal amount of each Loan made by such Bank (except for the Swingline Loans, as to which payments shall be made to the Swingline Bank pursuant to Section 1.08) for the period from and including the date of such Loan to but excluding the date such Loan shall be paid in full, at the following rates per annum: (a) if such Loan is a Domestic Loan, the Base Rate (as in effect from time to time) plus the Applicable Margin (if any); (b) if such Loan is a Eurodollar Loan, the Fixed Rate for such Loan for the Interest Period for such Loan plus the Applicable Margin (as in effect from time to time during the Interest Period for such Loan); and (c) if such Loan is a Set Rate Loan, the Money Market Rate for such Loan for the Interest Period therefor quoted by the Bank making such Loan and accepted by the Company in accordance with Section 1.02 hereof. Notwithstanding the foregoing, the Company hereby promises to pay to Chase for account of each Bank, interest at the applicable Post-Default Rate on any principal of any Loan made by such Bank, and on any other amount payable by the Company hereunder or under the Notes held 10 15 by such Bank to or for account of such Bank, which shall not be paid in full when due (whether at stated maturity, by acceleration or otherwise), for the period from and including the due date thereof to but excluding the date the same is paid in full. Accrued interest on each Loan shall be payable on each Interest Payment Date for such Loan, except that interest payable at the Post-Default Rate shall be payable from time to time on demand and interest on any Eurodollar Loan that is converted into a Domestic Loan (pursuant to Section 3.04 hereof) shall be payable on the date of conversion (but only to the extent so converted). Promptly after the determination of any interest rate provided for herein or any change therein, Chase shall give notice thereof to the Banks, to which such interest is payable and to the Company. Section 2.03 Interest Periods. As used in this Agreement, "Interest Period" shall mean: (a) With respect to any Eurodollar Loan, the period commencing on the date such Eurodollar Loan is made and ending on the numerically corresponding day in the first, second, third or sixth calendar month thereafter, as the Company may select as provided in Section 1.05(b) hereof, except that each Interest Period which commences on the last Business Day of a calendar month (or on any day for which there is no numerically corresponding day in the appropriate subsequent calendar month) shall end on the last Business Day of the appropriate subsequent calendar month; (b) With respect to any Domestic Loan, the period commencing on the date such Domestic Loan is made and ending on the date such Loan is repaid; (c) With respect to any Set Rate Loan, the period commencing on the date such Set Rate Loan is made and ending on any Business Day up to 180 days thereafter, as the Company may select as provided in Section 1.02(b) hereof; and (d) With respect to a Swingline Loan, the period commencing on the Swingline Business Day on which such Swingline Loan is made and ending on the date such Swingline Loan is repaid. Notwithstanding the foregoing: (i) no Interest Period may commence before and end after the Commitment Termination Date; (ii) each Interest Period which would otherwise end on a day which is not a Business Day shall end on the next succeeding Business Day (or, in the case of an Interest Period for Eurodollar Loans, if such next succeeding Business Day falls in the next succeeding calendar month, on the next preceding Business Day); and (iii) notwithstanding clause (i) above, no Interest Period for any Eurodollar Loans shall have a duration of less than one month and, if the Interest Period for any Eurodollar Loans would otherwise be a shorter period, such Loans shall not be available hereunder. Section 2.04 Prepayments. (a) The Company shall have the right, at any time or from time to time, to prepay Syndicated Loans in whole or in part, provided that (i) the Company shall give Chase notice of each such prepayment not less than three Business Days' prior to the date of such prepayment (which notice shall be effective upon receipt), (ii) each partial prepayment shall be in an aggregate principal amount which is at least $1,000,000 or a multiple thereof, (iii) interest on the principal prepaid, accrued to the prepayment date, shall be paid on the prepayment 11 16 date and (iv) in the case of prepayment of a Eurodollar Loan other than on the last day of the Interest Period applicable thereto, the Company shall pay compensation, if any, due in accordance with Section 3.05(a) with respect thereto. The Company may not prepay any Money Market Loans. Notwithstanding the foregoing, upon not less than four Business Days' prior notice (which shall be effective upon receipt) the Company may simultaneously prepay all Loans then outstanding hereunder and terminate in whole the Commitments (in which case interest on the principal prepaid, accrued to the prepayment date, together with all other amounts owing hereunder, including without limitation under Section 3.05, shall be paid on such prepayment date). (b) If, after giving effect to any termination or reduction of the Commitment of any Bank pursuant to Section 1.04(a) or (b) hereof, the outstanding aggregate principal amount of the Syndicated Loans held by such Bank exceeds the amount of such Bank's Commitment, the Company shall prepay or pay such Syndicated Loans (of a type to be designated by the Company by notice to Chase not less than four Business Days prior to the date of such termination or reduction and, failing such notice, such prepayment or repayment shall be applied, first, to the outstanding Domestic Loans and, next, to the extent necessary, to the outstanding Fixed Rate Loans with the fewest number of days remaining in the Interest Periods therefor on such termination or reduction date) in an aggregate principal amount equal to such excess, together with interest thereon accrued to the date of such prepayment or payment and any other amounts payable pursuant to Section 3.05 hereof in connection therewith. Section 2.05 Payments, etc. (a) Except to the extent otherwise provided herein, all payments of principal, interest and other amounts to be made by the Company under this Agreement and the Notes shall be made in Dollars, in immediately available funds, without deduction, set-off or counterclaim, to Chase at its Principal Office, not later than 11:00 a.m. New York time on the date on which such payment shall become due; provided that, if a new Loan is to be made by any Bank on a date the Company is to repay any principal of an outstanding Loan of such Bank, such Bank shall apply the proceeds of such new Loan to the payment of the principal to be repaid and only an amount equal to the difference (if any) between the principal to be borrowed and the principal to be repaid shall be made available by such Bank to Chase as provided in Section 1.02 or Section 1.05 hereof (if such principal to be borrowed exceeds such principal to be repaid) or paid by the Company to Chase pursuant to this Section 2.05 (if such principal to be repaid exceeds such principal to be borrowed). (b) Each payment received by Chase under this Agreement or any Note for account of a Bank shall be paid promptly to such Bank, in immediately available funds, for account of such Bank's Applicable Lending Office for the Loan in respect of which such payment is made. (c) If the due date of any payment under this Agreement or any Note would otherwise fall on a day which is not a Business Day (or, in the case of any Swingline Loan or Swingline Note, a Swingline Business Day) such date shall be extended to the next succeeding 12 17 Business Day (or, in the case of any Swingline Loan or Swingline Note, the next succeeding Swingline Business Day) and interest shall be payable for any principal so extended for the period of such extension. Section 2.06 Pro Rata Treatment; Sharing. (a) Except to the extent otherwise provided herein: (i) each borrowing from the Banks under Section 1.01 hereof shall be made from the Banks and each termination or reduction of the amount of the Commitments under Section 1.04 hereof shall be applied to the Commitments of the Banks, pro rata according to the amounts of their respective Commitments; (ii) each payment of principal of Syndicated Loans by the Company shall be made for account of the Banks pro rata in accordance with the respective unpaid principal amounts of the Syndicated Loans held by the Banks; and (iii) each payment of interest on Syndicated Loans by the Company shall be made for account of the Banks pro rata in accordance with the amounts of interest on Syndicated Loans due and payable to the respective Banks. (b) If any Bank shall obtain payment of any principal of or interest on any Loan made by it to the Company under this Agreement through the exercise of any right of set-off, banker's lien or counterclaim or similar right or otherwise, and, as a result of such payment, such Bank shall have received a greater percentage of the principal or interest then due to such Bank hereunder than the percentage received by any other Banks, it shall promptly purchase from such other Banks participations in (or, if and to the extent specified by such Bank, direct interests in) the Loans made by such other Banks (or in interest due thereon, as the case may be) in such amounts, and make such other adjustments from time to time as shall be equitable, to the end that all the Banks shall share the benefit of such excess payment (net of any expenses which may be incurred by such Bank in obtaining or preserving such excess payment) pro rata in accordance with the unpaid principal of and/or interest on the Loans held by each of the Banks before giving effect to such payment. To such end all the Banks shall make appropriate adjustments among themselves (by the resale of participations sold or otherwise) if such payment is rescinded or must otherwise be restored. (c) The Company agrees that any Bank so purchasing a participation (or direct interest) in the Loans made by other Banks (or in interest due thereon, as the case may be) may exercise all rights of set-off, bankers' lien, counterclaim or similar rights with respect to such participation as fully as if such Bank were a direct holder of Loans in the amount of such participation. (d) Nothing contained herein shall require any Bank to exercise any such right or shall affect the right of any Bank to exercise, and retain the benefits of exercising, any such right with respect to any other indebtedness or obligation of the Company. (e) If, under any applicable bankruptcy, insolvency or other similar law, any Bank receives a secured claim in lieu of a set-off to which this Section 2.06 applies, such Bank shall, to the extent practicable, exercise its rights in respect of such secured claim in a manner consistent with the rights of the Banks entitled under this Section 2.06 to share in the benefits of any recovery on such secured claim. 13 18 (f) Notwithstanding the foregoing, this Section 2.06 shall not be applicable to the Swingline Bank with respect to Swingline Loans. Section 2.07 Computations. Interest on Money Market Loans and Eurodollar Loans shall be computed on the basis of a year of 360 days and actual days elapsed (including the first day but excluding the last day) occurring in the period for which payable, and interest on Domestic Loans, Swingline Loans and facility fees shall be computed on the basis of a year of 365 or 366 days, as the case may be, and actual days elapsed (including the first day but excluding the last day) occurring in the period for which payable. Section 2.08 Facility Fee. The Company shall pay to Chase for account of each Bank a facility fee on such Bank's Commitment (whether used or not) for the period commencing on the Effective Date and ending on the Commitment Termination Date (or such earlier date on which such Bank's Commitment shall have terminated in full pursuant to Section 1.04 hereof) at a rate per annum for each day during such period equal to the Applicable Facility Fee Rate in effect on such day. Accrued facility fees shall be payable quarterly on the last Business Day in March, June, September and December in each year, commencing the first such date after the Effective Date and on the date the Commitments are terminated in full. Section 2.09 Administration Fee. The Company agrees to pay to Chase for its own account a non-refundable fee in the amount of $5,000 for each Quarterly Period commencing on or prior to the date on which the Commitments are terminated in full. Such fee shall not be pro-rated and shall be paid in arrears on the last Business Day of each Quarterly Period in each year, commencing with the first such Business Day after the Effective Date, and on the date the Commitments are terminated in full. III. PROVISIONS RELATING TO FIXED RATE LOANS. The following provisions shall apply to all Fixed Rate Loans: Section 3.01 Additional Costs. (a) The Company shall pay directly to each Bank from time to time on request pursuant to paragraph (d) of this Section 3.01 such amounts as such Bank may determine to be necessary to compensate it for any costs which such Bank determines are attributable to its making or maintaining of any Fixed Rate Loans or its obligation to make any Fixed Rate Loans hereunder, or any reduction in any amount receivable by such Bank hereunder in respect of any of such Loans or such obligation (such increases in costs and reductions in amounts receivable being herein called "Additional Costs"), resulting from any Regulatory Change which: (i) changes the basis of taxation of any amounts payable to such Bank under this Agreement or its Notes in respect of any of such Loans (other than taxes imposed on or measured by the overall net income of such Bank or of its Applicable Lending Office for any of such Loans by the jurisdiction in which such Bank has its principal office or such Applicable Lending Office); or 14 19 (ii) imposes or modifies any reserve, special deposit or similar requirements (other than in the case of any Bank for any period as to which the Company is required to pay any amount under paragraph (e) below, the reserves against "Eurocurrency liabilities" under Regulation D therein referred to) relating to any extensions of credit or other assets of, or any deposits with or other liabilities of, such Bank (including any of such Loans or any deposits referred to in the definition of "Fixed Base Rate" in Schedule 1 hereof), or any commitment of such Bank (including the Commitment of such Bank hereunder); or (iii) imposes any other condition affecting this Agreement or its Notes (or any of such extensions of credit or liabilities) or its Commitment. If any Bank requests compensation from the Company under this Section 3.01(a), the Company may, by notice to such Bank (with a copy to Chase), suspend the obligation of such Bank to make additional Loans of the type with respect to which such compensation is requested (in which case the provisions of Section 3.04 hereof shall be applicable) until either (A) the Regulatory Change giving rise to such request ceases to be in effect or (B) such Bank gives notice to the Company that it will no longer require the Company to pay Additional Costs arising from such Regulatory Change. (b) Without limiting the effect of the provisions of paragraph (a) of this Section 3.01, in the event that, by reason of any Regulatory Change, any Bank either (i) incurs Additional Costs based on or measured by the excess above a specified level of the amount of a category of deposits or other liabilities of such Bank which includes deposits by reference to which the interest rate on Eurodollar Loans is determined as provided in this Agreement or a category of extensions of credit or other assets of such Bank which includes Eurodollar Loans or (ii) becomes subject to restrictions on the amount of such a category of liabilities or assets which it may hold, then, if such Bank so elects by notice to the Company (with a copy to Chase), the obligation of such Bank to make additional Loans of such type hereunder shall be suspended until such Regulatory Change ceases to be in effect (in which case the provisions of Section 3.04 hereof shall be applicable). (c) Without limiting the effect of the foregoing provisions of this Section 3.01 (but without duplication), the Company shall pay directly to each Bank from time to time on request pursuant to paragraph (d) of this Section 3.01 such amounts as such Bank may determine to be necessary to compensate such Bank for any costs which it determines are attributable to the maintenance by such Bank (or any Applicable Lending Office), pursuant to any law or regulation or any interpretation, directive or request (whether or not having the force of law) of any court or governmental or monetary authority (i) following any Regulatory Change or (ii) implementing any risk-based capital guideline or requirement (whether or not having the force of law and whether or not the failure to comply therewith would be unlawful) heretofore or hereafter issued by any government or governmental or supervisory authority implementing at the national level the Basle Accord (including, without limitation, the Final Risk Based Capital Guidelines of the Board of Governors of the Federal Reserve System (12 CFR Part 208, Appendix A; 12 CFR Part 225, Appendix A) and the Final Risk-Based Capital Guidelines of the Office of the Comptroller 15 20 of the Currency (12 CFR Part 3, Appendix A)), of capital in respect of its Commitment or Loans (such compensation to include, without limitation, an amount equal to any reduction of the rate of return on assets or equity of such Bank (or any Applicable Lending Office) to a level below that which such Bank (or any Applicable Lending Office) could have achieved but for such law, regulation, interpretation, directive or request). For purposes of this Section 3.01(c), "Basle Accord" shall mean the proposals for risk-based capital framework described by the Basle Committee on Banking Regulations and Supervisory Practices in its paper entitled "International Convergence of Capital Measurement and Capital Standards" dated July 1988, as amended, modified and supplemented and in effect from time to time or any replacement thereof. (d) Each Bank will notify the Company of any event occurring after the date of this Agreement that will entitle such Bank to compensation under paragraph (a) or (c) of this Section 3.01 as promptly as practicable, but in any event within 90 days, after such Bank obtains actual knowledge thereof; provided, however, that if any Bank fails to give such notice within 90 days after it obtains actual knowledge of such an event, such Bank shall, with respect to compensation payable pursuant to this Section 3.01 in respect of any costs resulting from such event, only be entitled to payment under this Section 3.01 for costs incurred from and after the date 90 days prior to the date that such Bank does give such notice; and provided, further, that each Bank will designate a different Applicable Lending Office for the Loans of such Bank affected by such event or by the matters requiring compensation pursuant to paragraph (e) of this Section 3.01, and take other measures in its sole discretion, if such designation or other measures will avoid the need for, or reduce the amount of, such compensation and will not, in the sole opinion of such Bank, result in a material cost to, or be otherwise disadvantageous to, such Bank, except that such Bank shall have no obligation to designate an Applicable Lending Office located in the United States of America. Each Bank will furnish to the Company a certificate setting forth the basis and amount of each request by such Bank for compensation under paragraph (a) or (c) of this Section 3.01. Determinations and allocations by any Bank for purposes of this Section 3.01 of the effect of any Regulatory Change pursuant to paragraph (a) or (b) of this Section 3.01, or of the effect of capital maintained pursuant to paragraph (c) of this Section 3.01, on its costs or rate of return of maintaining Loans or its obligation to make Loans, or on amounts receivable by it in respect of Loans, and of the amounts required to compensate such Bank under this Section 3.01, shall be conclusive, provided that such determinations and allocations are made on a reasonable basis. (e) Without limiting the effect of the foregoing (but without duplication), the Company shall pay to each Bank on the last day of each Interest Period so long as such Bank is maintaining reserves against "Eurocurrency liabilities" under Regulation D (or, unless the provisions of paragraph (b) above are applicable, so long as such Bank is, by reason of any Regulatory Change, maintaining reserves against any other category of liabilities which includes deposits by reference to which the interest rate on Eurodollar Loans is determined as provided in this Agreement or against any category of extensions of credit or other assets of such Bank which includes any Eurodollar Loans) an additional amount (determined by such Bank and notified, not less than five Business Days prior to the end of the applicable Interest Period, to the Company through Chase) equal to the product of the following for each Eurodollar Loan made by such Bank for each day during such Interest Period: 16 21 (i) the principal amount of such Eurodollar Loan outstanding on such day; and (ii) the remainder of (x) a fraction the numerator of which is the annual rate (expressed as a decimal) at which interest accrues on such Eurodollar Loan for such Interest Period as provided in this Agreement (less the Applicable Margin) and the denominator of which is one minus the effective annual rate (expressed as a decimal) at which such reserve requirements are imposed on such Bank on such day minus (y) such numerator; and (iii) 1/360. Section 3.02 Limitation on Types of Loans. Anything herein to the contrary notwithstanding, if, on or prior to the determination of any Fixed Base Rate for any Interest Period in accordance with the terms hereof: (a) Chase determines, which determination shall be conclusive, that quotations of interest rates for the relevant deposits referred to in the definition of "Fixed Base Rate" in Schedule 1 hereof are not being provided in the relevant amounts or for the relevant maturities for purposes of determining rates of interest for any type of Fixed Rate Loans as provided herein; or (b) the Majority Banks determine, which determination shall be conclusive, and notify (or notifies, as the case may be) Chase that the relevant rates of interest referred to in the definition of "Fixed Base Rate" in Schedule 1 hereof upon the basis of which the rate of interest for Eurodollar Loans for such Interest Period is to be determined are not likely adequately to cover the cost to such Banks (or to such quoting Bank) of making or maintaining such type of Loans; then Chase shall give the Company and each Bank prompt notice thereof, and so long as such condition remains in effect, the Banks (or such quoting Bank) shall be under no obligation to make additional Loans of such type. Section 3.03 Illegality. Notwithstanding any other provision of this Agreement, in the event that it becomes unlawful for any Bank or its Applicable Lending Office to honor its obligation to make or maintain Eurodollar Loans hereunder, then such Bank shall promptly notify the Company thereof (with a copy to Chase) and such Bank's obligation to make Eurodollar Loans shall be suspended until such time as such Bank may again make and maintain Eurodollar Loans (in which case the provisions of Section 3.04 hereof shall be applicable). Section 3.04 Treatment of Affected Loans. If the obligation of any Bank to make a particular type of Fixed Rate Loans shall be suspended pursuant to Section 3.01 or Section 3.03 hereof (Loans of such type being herein called "Affected Loans" and such type being herein called the "Affected Type"), all Loans (other than Money Market Loans) which would otherwise be made by such Bank as Loans of the Affected Type shall be made instead as Domestic Loans and, if an event referred to in Section 3.01(b) or Section 3.03 hereof has occurred and such Bank so requests by notice to 17 22 the Company with a copy to Chase, all Affected Loans of such Bank then outstanding shall be automatically converted into Domestic Loans on the date specified by such Bank in such notice and, to the extent that Affected Loans are so made (or converted), all payments of principal which would otherwise be applied to such Bank's Affected Loans shall be applied instead to such Loans. Section 3.05 Compensation. The Company shall pay to Chase for account of each Bank, upon the request of such Bank through Chase, such amount or amounts (the basis for which shall be set forth in reasonable detail in such request) as shall be sufficient (in the reasonable opinion of such Bank) to compensate it for any loss, cost or expense which such Bank determines is attributable to: (a) any payment or conversion of a Fixed Rate Loan or a Set Rate Loan made by such Bank for any reason (including, without limitation, the acceleration of the Loans pursuant to Article VII hereof) on a date other than the last day of the Interest Period for such Loan; or (b) any failure by the Company for any reason (including, without limitation, the failure of any of the conditions precedent specified in Article IV hereof to be satisfied, but excluding the failure of such Bank to make a Loan when so obligated hereunder) to borrow a Fixed Rate Loan or a Set Rate Loan (with respect to which, in the case of a Money Market Loan, the Company has accepted a Money Market Quote) from such Bank on the date for such borrowing specified in the relevant notice of borrowing given pursuant to Section 1.05 or Section 1.02 hereof. Without limiting the effect of the preceding sentence, such compensation shall include an amount equal to the excess, if any, of (i) the amount of interest which otherwise would have accrued on the principal amount so paid or converted or not borrowed for the period from the date of such payment, conversion or failure to borrow to the last day of the Interest Period for such Loan (or, in the case of a failure to borrow, the Interest Period for such Loan which would have commenced on the date specified for such borrowing) at the applicable rate of interest for such Loan provided for herein minus the Applicable Margin for such Loan over (ii) the interest component of the amount such Bank would have bid in the London interbank market (if such Loan is a Eurodollar Loan) or the United States secondary certificate of deposit market (if such Loan is a Set Rate Loan) for Dollar deposits of leading banks in amounts comparable to such principal amount and with maturities comparable to such period (as reasonably determined by such Bank). Section 3.06 Survival. The obligations of the Company under this Article III shall survive the repayment of the Loans and the cancellation of the Notes. IV. CONDITIONS Section 4.01 Conditions to Effectiveness. The Agreement herein contemplated shall become effective on the date (the "Effective Date") on which Chase has received each of the 18 23 following documents (with a copy for each Bank delivered to Chase), in form and substance satisfactory to Chase: (i) one or more counterparts of this Agreement executed by each of the parties hereto; (ii) certified copies of all corporate action taken by the Company to authorize the execution and delivery of this Agreement and the Notes and the borrowings hereunder; (iii) a certificate of a duly authorized officer of the Company as to the incumbency, and setting forth a specimen signature, of each of the persons (a) who has signed this Agreement on behalf of the Company, (b) who will sign the Notes on behalf of the Company, and (c) who will, until replaced by other persons duly authorized for that purpose, act as the representatives of the Company for the purpose of signing documents in connection with this Agreement and the transactions contemplated hereby; (iv) the Syndicated Note and the Money Market Note for each Bank and the Swingline Note for the Swingline Bank, all as provided in Section 1.10 hereof, in each case duly completed and executed by the Company; (v) an opinion of Hughes Hubbard & Reed LLP, counsel for the Company, substantially in the form of Exhibit B hereto, which (except as to matters of New York or Federal law) may rely as to certain matters upon an opinion of the Executive Vice President and General Counsel of the Company substantially in the form attached to said Exhibit B; (vi) an opinion of Simpson Thacher & Bartlett, special counsel to the Banks and the Agents, substantially in the form of Exhibit C hereto; and (vii) such other statements, documents, reports or certificates as any Bank or Agent may reasonably request. Section 4.02 Conditions Precedent to Loans. The obligation of any Bank to make any Loan hereunder (including any Money Market Loan and such Bank's initial Syndicated Loan on or after the Effective Date) is subject to the further conditions precedent that, both immediately prior to such Loan and also after giving effect thereto: (a) either (i) if such borrowing is a Money Market Loan or will increase the outstanding aggregate principal amount of the Syndicated Loans, no Default shall have occurred and be continuing or (ii) in the case of any other borrowing, no Event of Default shall have occurred and be continuing; and (b) the representations and warranties made by the Company in Article VI (other than, if such borrowing is not a Money Market Loan and will not increase the outstanding aggregate principal amount of the Syndicated Loans, the last sentence of Section 6.03, Section 6.04, Section 6.05, Section 6.07, Section 6.09 and Section 6.11 hereof) shall be true on and as of the date of the notice or deemed notice of borrowing for such Loans and on the date of the making of such Loans with the same force and effect as if made on and as of each such date. The obligation of any Bank to make a Eurodollar Loan hereunder is subject to 19 24 the further condition precedent that, both immediately prior to such Loan and also after giving effect thereto, no Default shall have occurred and be continuing. Each notice or deemed notice of borrowing by the Company hereunder shall constitute a certification by the Company to the effect set forth in the two preceding sentences to the extent applicable to the borrowing that is the subject of such notice (both as of the date of such borrowing notice and, unless the Company otherwise notifies Chase in such borrowing notice or prior to the date of such borrowing, as of the date of such borrowing). V. COVENANTS. So long as any Loan or any other amount owing by the Company to any Agent or Bank hereunder remains outstanding or any Bank's Commitment remains in effect: Section 5.01 Financial Statements. The Company shall deliver to each Bank: (a) As soon as available and in any event within 60 days after the end of each of the first three quarterly accounting periods in each fiscal year, the 10-Q report of the Company for such period; (b) As soon as available and in any event within 120 days after the end of each fiscal year, the 10-K report of the Company for such fiscal year, accompanied by (A) an opinion as to the financial statements contained in such 10-K report of independent certified public accountants of recognized national standing, (B) a statement by said accountants that in the course of their regular examination of the Company and its Consolidated Subsidiaries for purposes of their opinion they obtained no knowledge, except as specifically stated, of the occurrence and continuance of any Default, and (C) a statement of an Appropriate Officer of the Company that such officer has no knowledge, except as specifically stated, of the occurrence and continuance of any Default. (c) With the report delivered under Section 5.01(b) hereof, a statement signed by an Appropriate Officer of the Company certifying and, where calculations are necessary, demonstrating compliance by the Company with the provisions of Section 5.09 hereof. (d) Promptly after their becoming available: (i) Copies of all financial statements, reports and proxy statements which the Company shall have sent to its stockholders generally. (ii) Copies of all regular and periodic reports, if any, which the Company or any Restricted Subsidiary shall have filed with the Securities and Exchange Commission, or any governmental agency substituted therefor, or with any national securities exchange. (e) From time to time, with reasonable promptness, such further information regarding the business, affairs and financial position of the Company and each Subsidiary as any Bank may reasonably request. 20 25 Section 5.02 Access to Books and Inspection. The Company shall, upon reasonable request by any Bank, give any representative of such Bank access, at the Company's principal office, during normal business hours to, and permit such representative to examine, copy or make excerpts from, any and all books, records and documents in the possession of the Company relating to its affairs and the affairs of its Subsidiaries, excluding, however, any privileged and confidential communications or other materials, and to inspect any of the properties of the Company or such Subsidiaries; provided that all information (other than publicly available information) delivered by the Company to any Bank pursuant to this Section 5.02 is strictly confidential, and each Bank agrees that it shall (or shall cause the persons referred to in clause (ii) below to) maintain the confidentiality of any such information, subject to: (i) the obligation to disclose such information pursuant to subpoena or other legal process, or to regulatory or examining authorities or other governmental agencies having jurisdiction, or otherwise as may be required by law; (ii) the right to disclose such information to the independent auditors and counsel of such Bank, or to the Agents or any other Bank; and (iii) the right to disclose such information to assignees and participants (including prospective assignees and participants) as provided in Section 8.05 hereof. Section 5.03 Litigation. Notwithstanding any other provision of this Agreement, the Company shall, promptly after its becoming available, furnish to each Bank a copy of any report filed by the Company with the Securities and Exchange Commission which contains a statement, description or disclosure as to any litigation or proceeding before any governmental or regulatory agencies affecting the Company or any of its Subsidiaries. Section 5.04 Maintenance of Existence. The Company will preserve and maintain, and cause each of its Restricted Subsidiaries to preserve and maintain, its corporate existence, provided that the foregoing shall not prevent a merger or consolidation, or sale or other disposition of assets, of the Company or any Restricted Subsidiary unless otherwise prohibited by this Agreement. Section 5.05 Merger; Sale of Assets. The Company shall not: (a) merge into or consolidate with any corporation if (i) the Company is not the surviving corporation, (ii) the Company is the surviving corporation and a majority of the board of directors of the Company for a period of three months after the effective date of such merger does not consist of individuals who were directors of the Company 12 months prior to such effective date (except for changes due to the retirement or death of any such individuals) or (iii) after giving effect to such merger or consolidation, a Default has occurred and is continuing; or (b) permit any Restricted Subsidiary to be a party to any merger or consolidation or to transfer all or substantially all of its assets, except that any such Restricted Subsidiary may merge or consolidate with, or transfer all or substantially all of its assets to, the Company or any of the Company's other Subsidiaries provided that (i) the surviving entity of such merger or consolidation or the transferee of such assets (if it is not the Company or another Restricted Subsidiary) shall thereafter be treated as a 21 26 Restricted Subsidiary for all purposes of this Agreement and (ii) after giving effect to such merger, consolidation or transfer of assets, no Default shall have occurred and be continuing; or (c) sell, assign, transfer or otherwise dispose of all or substantially all of its assets or, in any case, any stock of or other equity interest in any of the Restricted Subsidiaries, except that (i) stock of or other equity interest in any such Restricted Subsidiary may be sold, assigned or transferred by the Company to any of its wholly-owned Subsidiaries provided that thereafter such Subsidiary shall be treated as a Restricted Subsidiary for all purposes of this Agreement and the Company shall not permit such Subsidiary to sell, assign, transfer or otherwise dispose of any such stock or other equity interest except to the Company or otherwise in accordance with this clause (c), (ii) stock of or other equity interest in any Restricted Subsidiary may be sold, assigned, transferred or disposed of (whether by the Company or any of its wholly-owned Subsidiaries) so long as immediately after giving effect to such transaction the Company and/or one or more of its wholly-owned Subsidiaries owns stock of or other equity interests in such Restricted Subsidiary (x) representing, in the case of a partnership, not less than 80% of the outstanding capital and profit interests in such partnership or, in the case of any other entity, not less than 80% of the fair market value of the outstanding stock of or other equity interests in such Restricted Subsidiary (excluding Mandatory Preferred Stock of such Restricted Subsidiary) and (y) representing not less than 80% of the ordinary voting power for the election of directors or other persons performing similar functions of such Restricted Subsidiary (other than stock or other equity interests having such power only by reason of the happening of a contingency) and (iii) Mandatory Preferred Stock of any Restricted Subsidiary may be sold, assigned, transferred or disposed of (whether by the Company or any of its Subsidiaries). Section 5.06 Default; Investment Rating. The Company shall: (a) as soon as it shall become known to a senior officer of the Company, forthwith notify each Agent if any Default shall have occurred; and (b) if Moody's or S&P (or any successor thereto) shall have assigned a new rating to the senior debt securities of the Company, notify each Agent of such new rating within 30 days after it is first announced by the applicable rating agency. Section 5.07 ERISA. The Company will furnish to the Banks: (a) as soon as possible and in any event within 15 days after the Company knows or has reason to know that any Termination Event has occurred, a statement of a senior officer of the Company describing such Termination Event and the action, if any, which the Company proposes to take with respect thereto; (b) from time to time promptly after the request of any Bank, copies of each annual report filed pursuant to Section 104 of ERISA with respect to each Plan (including, to the extent required by Section 103 of ERISA, the related financial and 22 27 actuarial statements and opinions and other supporting statements, certifications, schedules and information referred to in Section 103) and each annual report filed with respect to each Plan under Section 4065 of ERISA; (c) promptly after receipt thereof by the Company from the PBGC, copies of each notice received by the Company of PBGC's intention to terminate any Plan or to have a trustee appointed to administer any Plan; and (d) promptly after such request, such other documents and information relating to Plans as any Bank may reasonably request from time to time. Section 5.08 Liens. The Company will not, and will not permit any Subsidiary to, grant a security interest in any stock of any of the Restricted Subsidiaries or Citrus Corp. The Company will not grant a security interest in any of its other assets to secure Indebtedness (except as provided in the next sentence) unless the Company simultaneously grants to any Designated Agent for the benefit of the Banks an equal and ratable security interest in the assets subject to such security interest. The provisions of the preceding sentence shall not apply to the grant by the Company of: (a) Any purchase money mortgage or purchase money security interest created to secure all or part of the purchase price of any property (or to secure a loan made to enable the Company to acquire the property described in such mortgage or in any applicable security agreement); provided that such mortgage or security interest shall extend only to the property so acquired, fixed improvements thereon, replacements thereof and the income and profits therefrom; (b) Any security interest on any property acquired or constructed by the Company, and created not later than twelve months after (i) such acquisition or completion of such construction or (ii) commencement of operation of such property, whichever is later; provided that such security interest shall extend only to the property so acquired or constructed, fixed improvements thereon, replacements thereof and income and profits therefrom; (c) Any security interest deemed to be created as a result of the deposit of cash or securities for the purpose of defeasance of Indebtedness; and (d) Any security interest in any of its cash or cash equivalents (within the meaning of generally accepted accounting principles) created by the Company for the purpose of securing Derivative Obligations of the Company, provided that the aggregate amount of all cash or cash equivalents secured by security interests permitted by this clause (d) shall not exceed $25,000,000. (e) Any security interest not otherwise permitted under the preceding clauses (a) through (d) in any of its assets created by the Company for the purpose of securing Indebtedness of the Company, provided that the aggregate amount of all Indebtedness of 23 28 the Company secured by security interests permitted by this clause (e) shall not exceed $10,000,000. Section 5.09 Total Indebtedness to Consolidated Capitalization. The Company will not at any time permit Total Indebtedness of the Company to exceed 65% of the Consolidated Capitalization of the Company. Section 5.10 Certain Existing Credit Lines. The Company will terminate its eleven bilateral credit lines in existence as of the date of this Agreement, which provide for borrowings of up to $200 million in the aggregate, within 30 days after the Effective Date, and will not make any borrowings thereunder from and after the Effective Date. Section 5.11 Insurance. The Company will, and will cause each of its Subsidiaries to, keep insured with financially sound and reputable insurers or through self-insurance conforming with practices of similar corporations maintaining systems of self-insurance all property of a character usually insured by corporations engaged in the same or similar business similarly situated against loss or damage of the kinds and in the amounts customarily insured against by such corporations and carry such other insurance as is usually carried by such corporations. Section 5.12 Maintenance of Properties. The Company will, and will cause each of its Subsidiaries to, keep all of its material properties necessary in its business in good working order and condition appropriate for the use being made thereof, ordinary wear and tear excepted; except, in every case, as and to the extent that the Company or its Subsidiaries may be prevented from maintaining their respective properties by fire, strikes, lockouts, acts of God, inability to obtain labor or materials, governmental (including judicial) restrictions, enemy action, civil commotion or unavoidable casualty or similar causes beyond the control of the Company; provided, however, that nothing in this Section 5.12 shall prevent the Company or any of its Subsidiaries from discontinuing the use, operation or maintenance of any of such properties if such discontinuance is, in the judgment of the Company or its applicable Subsidiary, desirable in the conduct of the business of the Company or such Subsidiary and if such discontinuance is not disadvantageous in any material respect to the Banks; and provided, further, that nothing in this Section 5.12 shall prohibit any sale, assignment, transfer or other disposition permitted by Section 5.05 hereof. Section 5.13 Public Utility Holding Company Act. The Company will not, and will not permit any of its Subsidiaries to, be subject to regulation under the Public Utility Holding Company Act of 1935, as amended. VI. REPRESENTATIONS AND WARRANTIES. The Company represents and warrants as follows: Section 6.01 Corporate Existence and Powers. The Company and each of its Restricted Subsidiaries is a corporation duly incorporated and validly existing and in good standing under the laws of the jurisdiction of its incorporation (or, in case of any Restricted Subsidiary not a corporation, such Restricted Subsidiary is duly organized and validly existing under the laws of the jurisdiction of its organization) and is duly licensed or qualified to do business and is in good standing in all states in which the Company believes the conduct of its business or the ownership 24 29 of its assets requires such qualification, and the Company has corporate power to make this Agreement and the Notes and to borrow hereunder. Section 6.02 Corporate Authority, etc. The making and performance by the Company of this Agreement and the Notes and each borrowing hereunder have been duly authorized by all necessary corporate action and do not and will not contravene any provision of law applicable to the Company or of the certificate of incorporation or by-laws of the Company or result in the material breach of, or constitute a material default or require any consent under, or result in the creation of any material lien, charge or other security interest or encumbrance not permitted by Section 5.08 hereof upon any property or assets of the Company or any of its Restricted Subsidiaries pursuant to, any indenture or other agreement or instrument to which the Company or any of its Restricted Subsidiaries is a party or by which the Company or any of its Restricted Subsidiaries or any of their respective properties may be bound or affected (or, if any such consent is so required, the Company has obtained such consent, which is sufficient for the purpose and remains in full force and effect, and copies thereof have been furnished to Chase). This Agreement has been duly and validly executed and delivered by the Company and constitutes, and each of the Notes when executed and delivered will constitute, its legal, valid and binding obligation, enforceable in accordance with its terms. Section 6.03 Financial Condition. The consolidated balance sheets of the Company and its Consolidated Subsidiaries as at December 31, 1996 and September 30, 1997 and the related statements of consolidated income and cash flows of the Company and its Consolidated Subsidiaries for the 12 months and nine months ended on said dates, respectively, heretofore furnished by the Company to the Banks, fairly present in all material respects the financial condition of the Company and its Consolidated Subsidiaries as at said dates and the results of their operations and cash flows for the 12 months and nine months, respectively, then ended in accordance with generally accepted accounting principles (except that the financial statements as of September 30, 1997 and for the nine months then ended were prepared in accordance with the rules of the Securities and Exchange Commission applicable to interim financial statements and they are subject to normal year-end audit adjustments). Except as disclosed in a letter dated January 26, 1998, from the Treasurer of the Company, a copy of which has been furnished to each Bank, since December 31, 1996 there has heretofore been no material adverse change in the financial condition or operating results of the Company and its Consolidated Subsidiaries, taken as a whole, from that set forth in the consolidated balance sheet and related statements as at and for the period ended on said date. Section 6.04 Litigation. Except as disclosed in a letter dated January 26, 1998, from the Executive Vice President and General Counsel of the Company, a copy of which has heretofore been furnished to each Bank, there are no actions, suits or proceedings, and no proceedings before any arbitrator or by or before any governmental commission, board, bureau or other administrative agency, pending, or to the knowledge of the Company threatened, against or affecting the Company or any Subsidiary which are reasonably likely to have a material adverse effect on the financial condition, properties or operations of the Company and its Subsidiaries, taken as a whole. 25 30 Section 6.05 Taxes. Each of the Company and each Restricted Subsidiary has filed all material tax returns required to be filed and paid all material taxes shown thereon to be due, including interest and penalties, or provided adequate reserves for payment thereof, except to the extent the same have become due and payable but are not yet delinquent, and except for any taxes and assessments of which the amount, applicability or validity is currently being contested in good faith by appropriate proceedings. Section 6.06 Approvals. No approval, license or consent of any governmental regulatory body is requisite to the making and performance by the Company of this Agreement, or the execution, delivery and payment of the Notes (or, if any such approval, license or consent is so requisite, the Company has obtained the same, which is sufficient for the purpose and remains in full force and effect, and copies thereof have been furnished to Chase). Section 6.07 ERISA. The Company, and each Subsidiary, has met its minimum funding requirements under ERISA with respect to all its Plans and has not incurred any material liabilities to PBGC or to such Plan under ERISA in connection with any such Plan. Section 6.08 Margin Regulations. The Company is not engaged principally, or as one of its important activities, in the business of extending credit for the purpose of purchasing or carrying margin stock (within the meaning of Regulation U or Regulation G of the Board of Governors of the Federal Reserve System), and no part of the proceeds of any Loan will be used to purchase or carry any such margin stock or to extend credit to others for the purpose of purchasing or carrying any such margin stock. Section 6.09 Certain Subsidiaries. Except as a consequence of a transaction or transactions permitted by this Agreement, the Company directly or indirectly owns all of the outstanding shares of common stock of each of the Restricted Subsidiaries (except for directors' qualifying shares), and all shares of stock of such corporations are validly issued, fully paid and non-assessable. Section 6.10 Investment Company Act. The Company is not an "investment company" or a company "controlled" by an "investment company", within the meaning of the Investment Company Act of 1940, as amended. Section 6.11 Environmental Laws. The Company and its Subsidiaries are in compliance in all material respects with the Comprehensive Environmental Response, Compensation and Liability Act of 1980, as amended, the Superfund Amendments and Reauthorization Act of 1986, the Resource Conservation and Recovery Act, the Toxic Substances Control Act, as amended, the Clean Air Act, as amended, the Clean Water Act, as amended, and each other federal, state or local statute, law, ordinance, code, rule or regulation, regulating or imposing liability or standards of conduct concerning, any hazardous, toxic or dangerous waste, substance or material, except for any noncompliance that is not reasonably likely to have a material adverse effect on the financial condition, properties or operations of the Company and its Subsidiaries, taken as a whole. 26 31 All representations and warranties made herein shall survive the making of the Loans and the delivery of the Notes hereunder. VII. EVENTS OF DEFAULT. If any of the following "Events of Default" shall occur and shall not have been remedied: A. default by the Company in the payment of any principal of any of the Notes when the same becomes due and payable; B. default by the Company in the payment of interest on any of the Notes or any other amounts payable under Section 1.03 or Section 2.08 hereof which shall remain unremedied for ten days after the same becomes due and payable; C. any representation or warranty made by the Company in Article VI hereof or in any certificate furnished to the Agents or to the Banks hereunder (or deemed to have been given at the time of any borrowing hereunder) shall prove to have been incorrect when made or deemed made, in any material respect; D. default by the Company in the due performance or observance of Section 5.05, Section 5.08 or Section 5.09 hereof; E. default by the Company in the due performance or observance of Section 5.06(a) hereof which shall remain unremedied for a period of ten days; F. default by the Company in the due performance or observance of Section 5.03 or Section 5.06(b) hereof which shall remain unremedied for a period of 30 days after such default shall have become known to an executive officer of the Company; G. default by the Company in the due performance or observance of any other covenant or agreement herein contained which shall remain unremedied for a period of 30 days after written notice thereof shall have been given to the Company by any Bank (through any Designated Agent); H. default by the Company or any Restricted Subsidiary (i) in the payment of any Indebtedness of the Company and/or one or more Restricted Subsidiaries in an aggregate unpaid principal amount of at least $25,000,000, beyond the period or periods of grace (if any) provided with respect thereto, or (ii) in the performance or observance of any other provisions in indentures, credit or loan agreements or other agreements or instruments under which such Indebtedness in such aggregate unpaid principal amount of the Company and/or one or more Restricted Subsidiaries is outstanding or by which such Indebtedness is evidenced and, in the case of clause (ii) only, if the effect of such default is to cause, or permit the holder or holders of such Indebtedness (or a trustee or an agent on behalf of such holder or holders) to cause, such Indebtedness to become due prior to its stated maturity; 27 32 I. any Termination Event shall have occurred and shall have continued under circumstances which result in an uninsured payment or repayment liability of the Company or any of its Subsidiaries to PBGC in an amount which is material in relation to the financial position of the Company and its Subsidiaries, on a consolidated basis; J. either the Company or one or more Restricted Subsidiaries (taken as a group) with total assets of at least $10,000,000 in the aggregate (such Restricted Subsidiary or Subsidiaries being hereinafter called the "Restricted Group") shall (1) apply for or consent to the appointment of, or taking possession by, a receiver, trustee, custodian, liquidator or other similar official of itself or of all or a substantial part of its assets, (2) admit in writing its inability to pay its debts, or generally become unable to pay its debts, as they become due, (3) make a general assignment for the benefit of its creditors, (4) commence a voluntary case under the federal bankruptcy laws (as now or hereafter in effect), (5) file a petition seeking to take advantage of any other laws relating to bankruptcy, reorganization, insolvency, winding-up or composition or readjustment of debts, or (6) acquiesce in writing to, or fail to controvert in a timely and appropriate manner, any petition filed against it or in any involuntary case under the aforesaid federal bankruptcy laws; or corporate action shall be taken by the Company or the Restricted Group for the purpose of effecting any of the foregoing; or K. a proceeding or case shall be commenced, without the application or consent of the Company or the Restricted Group (as defined in paragraph J above), in any court of competent jurisdiction, seeking (1) its liquidation, reorganization, dissolution, winding-up, or composition or readjustment of debts, (2) the appointment of a receiver, trustee, custodian, liquidator or any similar official of itself of all or a substantial part of its assets, (3) similar action with respect to the Company or the Restricted Group under the federal bankruptcy laws (as now or hereafter in effect) or any other laws relating to bankruptcy, insolvency, reorganization, liquidation or winding-up, or composition or adjustment of debts, and such proceeding or case shall continue undismissed, or an order, judgment or decree approving or ordering any of the foregoing shall be entered and continued unstayed and in effect, for any period of 60 consecutive days; or an order for relief against the Company or the Restricted Group shall be entered in an involuntary case under such federal bankruptcy laws, THEREUPON, (in addition to the rights and remedies of the Swingline Bank pursuant to Section 1.08(b)) (1) in the case of any of the Events of Default specified in paragraphs A through I above, (i) any Designated Agent may and, upon being directed so to do by the Majority Banks, shall, by notice to the Company, terminate all Commitments hereunder and they shall thereupon terminate, and (ii) any Designated Agent may and, upon being directed by Banks holding at least 66-2/3% of the aggregate unpaid principal amount of the Loans shall, by notice to the Company, declare all outstanding Loans and Notes and all other obligations of the Company hereunder to be due and payable, whereupon the same shall become forthwith due and payable, without 28 33 further protest, presentment, notice or demand, all of which are expressly waived by the Company, and (2) in case of any of the Events of Default specified in paragraph J or K above, without any notice to the Company or any act by any Designated Agent or the Majority Banks or any Bank, all Commitments hereunder shall terminate forthwith and the principal of and interest accrued on all the Loans and the Notes and all other obligations of the Company hereunder shall become and be due and payable. VIII. MISCELLANEOUS Section 8.01 Waiver. No failure on the part of any Agent, Bank or holder of a Note to exercise and no delay in exercising and no course of dealing with respect to any right, power or privilege under this Agreement or the Notes shall operate as a waiver thereof; nor shall any single or partial exercise of any right, power, or privilege under this Agreement or the Notes preclude any other or further exercise thereof or the exercise of any other right, power, or privilege. The remedies herein provided are cumulative and not exclusive of any remedies provided by law. Section 8.02 Notices and Delivery of Documents. Except as otherwise specified herein, all notices and other communications hereunder shall be in writing or by telex or telecopy, and shall be deemed to have been duly given when transmitted by telex or telecopier or personally delivered or, in the case of a mailed notice or other communication, three Business Days after the date deposited in the mails, certified and postage prepaid, addressed to any party hereto at its address given on Schedule 2 hereto or on the signature pages of, or any schedule to, any amendment hereto, or at such other address of which any party hereto shall have notified in writing the party giving such notice or (in the case of a telex message) addressed to any party at any telex number which is published as belonging to the addressee. Except as otherwise expressly provided herein, all Notes and other documents to be delivered to any Agent under this Agreement shall be delivered to it at its Principal Office. Section 8.03 Governing Law. This Agreement and the Notes hereunder shall be construed in accordance with and governed by the law of the State of New York. Section 8.04 Offsets, etc. Upon the occurrence and during the continuance of an Event of Default, each Bank is hereby authorized at any time and from time to time, without notice to the Company except as required by law (any such notice being expressly waived by the Company), to set off and apply any and all deposits (general or special, time or demand, provisional or final) at any time held and other indebtedness at any time owing by such Bank to or for the credit or the account of the Company against any and all of the obligations of the Company now or hereafter existing under this Agreement and the Notes held by such Bank. Each Bank agrees promptly to notify the Company after any such set-off and application made by such Bank, provided that the failure to give such notice shall not affect the validity of such set-off and application. The rights of the Banks under this Section 8.04 are in addition to other rights and remedies (including, without limitation, other rights of set-off) which the Banks may have. Section 8.05 Disposition of Loans. Each Bank may at any time, at its own expense, assign (but only with the prior written consent of the Company, which it may refuse or grant in 29 34 its sole discretion), or sell participations in, all or any portion of any Loans made by it to another bank or other entity; provided that no such assignment shall be in a principal amount less than $10,000,000. Any Bank making an assignment hereunder shall pay to Chase an administrative fee of $2,500 with respect to each assignment. In the case of an assignment, upon notice thereof by such Bank to the Company and the Agents, to the extent of such assignment and the Loans so assigned, the assignee shall have the same rights and benefits as it would have if it were a Bank hereunder and the assignor shall cease to have the rights and benefits of a Bank hereunder (provided that the obligations of the Company under Article III to such Bank shall survive such assignment). In the case of a participation, except as otherwise provided in Section 2.06(c) hereof, the participant shall not have any rights under this Agreement or such Bank's Notes (the participant's rights against such Bank in respect of such participations to be those set forth in the agreement executed by such Bank in favor of the participant relating thereto) and all amounts payable by the Company under Article III hereof shall be determined as if such Bank had not sold such participation. The granting of any such participation shall not relieve the grantor of its Commitment hereunder. Each Bank may furnish any information concerning the Company or any of its Subsidiaries in the possession of such Bank from time to time to assignees and participants (including prospective assignees and participants) under this Section 8.05, provided that, if any such information is confidential information consisting of or based upon information provided by the Company, prior to furnishing any such information such Bank shall obtain the agreement of any such assignee or participant, in favor of the Company, to maintain the confidentiality of such information, subject to the same requirements and exceptions as specified in Section 5.02 hereof (and such Bank shall promptly furnish a copy of each such agreement to the Company). Any Bank may at any time pledge or assign a security interest in all or any portion of its rights under this Agreement to secure obligations of such Bank to a Federal Reserve Bank, and this Section shall not apply to any such pledge or assignment of a security interest; provided that no such pledge or assignment of a security interest shall release a Bank from any of its obligations hereunder or substitute any such pledgee or assignee for such Bank as a party hereto. Section 8.06 Expenses. All statements, reports, certificates, opinions and other documents or information furnished by the Company to the Agents or the Banks under this Agreement shall be supplied without cost to the Agents or the Banks. Further, the Company hereby agrees that it shall pay, on demand, whether or not any Loan is made hereunder, (a) all reasonable out-of-pocket costs and expenses of the Banks and the Agents incurred in connection with the preparation, execution and delivery of this Agreement, or any amendment or supplement thereto, and the Notes and the making of the Loans hereunder, (b) the reasonable fees and disbursements of Simpson Thacher & Bartlett, special counsel to the Banks, in connection therewith, and (c) all costs and expenses of collection (including, without limitation, reasonable legal fees) incident to the enforcement, protection or preservation of any right of any Bank under this Agreement or the Notes. Section 8.07 Amendments, Waivers, etc. This Agreement and the Notes may not be amended, supplemented or modified, nor any of its terms be waived, except by written instruments signed by the Company and the Majority Banks (and, in the case of any amendment, supplement, modification or waiver affecting Article IX hereof, each of the Agents); provided, however, that no such amendment, supplement, modification or waiver shall, without the written 30 35 consent of all of the Banks: (i) extend the term of, or change the amount of, or change any of the provisions of Section 1.04 hereof with respect to the reduction or increase of, the Commitment of any Bank, or change the rate at which commitment or facility fees accrue hereunder or extend the time for payment thereof, (ii) extend the maturity of any Loan, change the rate of interest thereon, or affect in any way the terms of payment thereof, (iii) alter the definition of "Majority Banks", (iv) affect any provisions relating to Fixed Rate Loans, (v) alter this Section 8.07 or Section 8.09(a), (vi) waive any condition specified in Article IV, (vii) waive an Event of Default under paragraph J or K of Article VII or modify the effect thereof or (viii) waive or amend any representation contained in Article VI; provided, further, that Section 1.03 and Section 1.08 hereof may be amended, supplemented or modified, and any of the terms thereof waived, by written instrument signed only by the Company and the Swingline Bank. Any such amendment, supplement, modification or waiver so entered into shall apply equally to all of the Banks and any holder of the Notes and shall be binding upon all parties hereto. Any waiver hereunder shall be for such period and subject to such conditions as shall be specified in such written instrument. In the case of any waiver of an Event of Default, such Event of Default shall be deemed to be cured and not continuing, but no such waiver shall extend to any subsequent or other Event of Default or any right, power or privilege of the Banks hereunder in connection therewith. Section 8.08 Definitions. Certain terms are defined in Schedule 1 hereto and as used herein shall have meanings as so defined. Section 8.09 Successors and Assigns. (a) This Agreement shall be binding upon and inure to the benefit of the Banks, the Agents, the Company and their respective successors and assigns, except that Company may not assign or transfer any of its respective rights or obligations hereunder without the prior written consent of all the Banks. (b) Notwithstanding anything to the contrary contained herein, any Bank (a "Granting Lender") may grant to a special purpose funding vehicle (an "SPC") of such Granting Lender, identified as such in writing from time to time by the Granting Lender to the Agents and the Company, the option to provide to the Company all or any part of any Loan that such Granting Lender would otherwise be obligated to make to the Borrower pursuant to Section 1.01 or 1.02, provided that (i) nothing herein shall constitute a commitment to make any Loan by any SPC and (ii) if an SPC elects not to exercise such option or otherwise fails to provide all or any part of such Loan, the Granting Lender shall be obligated to make such Loan pursuant to the terms hereof. The making of a Syndicated Loan by an SPC hereunder shall utilize the Commitment of the Granting Lender to the same extent, and as if, such Loan were made by the Granting Lender. Each party hereto hereby agrees that no SPC shall be liable for any payment under this Agreement for which a Bank would otherwise be liable, for so long as, and to the extent, the related Granting Lender makes such payment. In furtherance of the foregoing, each party hereto hereby agrees that, prior to the date that is one year and one day after the later of (i) the payment in full of all outstanding senior indebtedness of any SPC and (ii) the Commitment Termination Date, it will not institute against, or join any other person in instituting against, such SPC any bankruptcy, reorganization, arrangement, insolvency or liquidation proceedings or similar proceedings under the laws of the United States or any State thereof. In addition, notwithstanding anything to the contrary contained in this Section 8.09(b), any SPC may (i) with 31 36 notice to, but without the prior written consent of, the Company or any Agent and without paying any processing fee therefor, assign all or a portion of its interests in any Loans to its Granting Lender or to any financial institutions providing liquidity and/or credit facilities to or for the account of such SPC to fund the Loans made by such SPC or to support the securities (if any) issued by such SPC to fund such Loans and (ii) disclose on a confidential basis any non-public information relating to its Loans to any rating agency, commercial paper dealer or provider of a surety, guarantee or credit or liquidity enhancement to such SPC. In no event shall the Company be obligated to pay to an SPC that has made a Loan any greater amount than the Company would have been obligated to pay under this Agreement if the Granting Lender had made such Loan. Each Granting Lender shall indemnify and hold harmless the Company and its directors, officers, employees and agents from and against any and all losses, liabilities, claims, damages and expenses arising from or attributable to the making of a Loan by an SPC of such Granting Lender. (c) In addition to the provisions of Section 8.09(b), PNC Bank, National Association, as Granting Lender, may designate Wood Street Funding Corporation as an SPC pursuant to a designating agreement entered into by such Granting Lender and such SPC and accepted by Chase in substantially the form of Exhibit F hereto (the "Designation Agreement"). Upon receipt of an appropriately completed Designation Agreement executed by such Granting Lender and such SPC, Chase will accept such Designation Agreement and give prompt notice thereof to the Company, whereupon, from and after the effective date specified in the Designation Agreement, such SPC shall become a party to this Agreement with a right to make Money Market Loans on behalf of such Granting Lender after the Company has accepted a Money Market Quote (or a portion thereof) of such Granting Lender. Promptly after receipt of such notice, the Company shall execute and deliver to such Granting Lender a Money Market Note in the name of such SPC. Such Granting Lender shall serve as the agent (in its capacity as a Granting Lender and not in its capacity as a referral lender) of such SPC and shall on behalf of such SPC give and receive all communications and notices and take all actions hereunder, including without limitation votes, approvals, waivers, consents and amendments under or relating to this Agreement. Any such notice, communication, vote approval, waiver, consent or amendment shall be signed by such Granting Lender as agent (in its capacity as a Granting Lender and not as a Bank) for such SPC and shall not be signed by such SPC. The Company, the Agents and the Banks may rely thereon without any requirement that such SPC sign or acknowledge the same. Section 8.10 Counterparts. This Agreement may be executed in any number of counterparts, all of which taken together shall constitute one instrument and any of the parties hereto may execute this Agreement by signing any such counterpart. IX. THE AGENTS Section 9.01 Appointment, Power and Immunities. Each Bank hereby irrevocably appoints and authorizes each Designated Agent to act as its agent hereunder with such powers as are specifically delegated to such Agent by the terms of this Agreement, together with such other powers as are reasonably incidental thereto. No Agent shall have any duties or responsibilities except those expressly set forth in this Agreement, nor shall any Agent, by reason of this 32 37 Agreement, have a fiduciary relationship with any Bank. No Agent shall be responsible to the Banks for any recitals, statements, representations or warranties contained in this Agreement or in any information memorandum pertaining to the Company or in any certificate or other document referred to or provided for in, or received by any of them under, this Agreement, for the value, validity, effectiveness, genuineness, enforceability or sufficiency of this Agreement or the Notes or any other document referred to or provided for herein or for any failure by the Company to perform its obligations under any thereof. Each Designated Agent may employ agents and attorneys-in-fact and shall not be answerable, except as to money or securities received by it or its authorized agents, for the negligence or misconduct of any such agents or attorneys-in-fact selected by it with reasonable care. Neither the Agents nor any of their directors, officers, employees or agents shall be liable or responsible for any action taken or omitted to be taken by them hereunder or in connection herewith, except for their own gross negligence or willful misconduct. Section 9.02 Reliance by Agents. Each Agent shall be entitled to rely upon any certificate, notice or other document (including any cable, telegram, telecopy or telex) believed by it to be genuine and correct and to have been signed or sent by or on behalf of the proper person or persons, and upon advice and statements of legal counsel, independent accountants and other experts selected by Chase. Chase may deem and treat the payee of any Note as the owner thereof for all purposes hereof unless and until a notice of the assignment thereof satisfactory to Chase signed by such payee shall have been filed with it. As to any matters not expressly provided for by this Agreement, each Agent shall in all cases be fully protected in acting, or in refraining from acting, hereunder in accordance with written instructions signed by the Majority Banks, and such instructions of the Majority Banks and any action taken or failure to act pursuant thereto shall be binding on all of the Banks. Section 9.03 Default. No Agent shall be deemed to have knowledge of the occurrence of a Default or an Event of Default (other than nonpayment of principal, interest or commitment or other fees) unless such Agent has received written notice from a Bank or the Company specifying such Default or Event of Default and stating that such notice is a "Notice of Default". In the event that any Designated Agent receives such a notice of the occurrence of a Default or an Event of Default, such Agent shall give prompt written notice thereof to the other Agents and the Banks. The Designated Agents shall take such action with respect to such Default or Event of Default as shall be reasonably directed in writing by the Majority Banks provided that (i) unless and until the Designated Agents shall have received such directions, the Designated Agents may take such action, or refrain from taking such action, with respect to such Default or Event of Default as they shall deem advisable in the best interests of the Banks and (ii) in no event shall any Agent be required to institute any action, suit or other proceeding in connection herewith. Section 9.04 Rights as a Lender. With respect to its Commitment and the Loans made by it or any collateral therefor, each of Chase, Morgan and SunTrust (and any successor Agent hereunder) in its capacity as a Bank under this Agreement shall have the same rights and powers hereunder as any other Bank and may exercise the same as though it were not acting as an Agent, and the term "Bank" or "Banks" shall, unless the context otherwise indicates, include each of Chase, Morgan and SunTrust (and any successor Agent hereunder) in its individual capacity. 33 38 Each of Chase, Morgan and SunTrust (and any successor Agent hereunder) and their affiliates may (without having to account therefor to any Bank) accept deposits from, lend money to and generally engage in any kind of banking, trust or other business with the Company (and any of its related companies) as if it were not acting as an Agent and may accept fees and other consideration from the Company for services in connection with this Agreement and otherwise without having to account for the same to the other Agent and the Banks. Section 9.05 Indemnification. The Banks severally agree to indemnify each Agent (to the extent requested by such Agent as provided in Section 9.08 hereof and/or to the extent not reimbursed by the Company), pro rata according to the amounts of their respective Commitments, for any and all liabilities, obligations, losses, damages, penalties, actions, judgments, suits, costs, expenses or disbursements of any kind and nature whatsoever which may be imposed on, incurred by or asserted against such Agent in any way relating to or arising out of this Agreement or any other documents referred to herein or the transactions contemplated hereby (including, without limitation, the costs and expenses which the Company is obligated to pay under Section 8.06 hereof but excluding, unless a Default has occurred and is continuing, normal administrative costs and expenses incident to the performance of its agency duties hereunder) or the enforcement of any of the terms hereof or of any such other documents, provided that (a) such Agent shall have given the Banks notice thereof and an opportunity to defend against the same at the expense of the Banks and with counsel selected by the Majority Banks, (b) no Bank shall be liable to an Agent for any of the foregoing to the extent they arise from such Agent's gross negligence or willful misconduct and (c) no Bank shall be liable for any amount in respect of any compromise or settlement of any of the foregoing unless such compromise or settlement is approved by the Majority Banks. Section 9.06 Reports. Promptly after its receipt thereof, each Agent (or, if all Agents shall have received the same, Chase) will forward to each Bank a copy of each report, notice or other document required by this Agreement to be delivered to such Agent for such Bank. Section 9.07 Non-Reliance on Agents and Other Banks. Each Bank agrees that it has, independently and without reliance on any Agent or any other Bank, and based on such documents and information as it has deemed appropriate, made its own credit analysis of the Company and decision to enter into this Agreement and that it will, independently and without reliance upon any Agent or any other Bank, and based on such documents and information as it shall deem appropriate at the time, continue to make its own analysis and decisions in taking or not taking such action under this Agreement. No Agent shall be required to keep itself informed as to the performance or observance by the Company of this Agreement or any other document referred to or provided for herein or to make inquiry of or to inspect the properties or books of the Company. Except for notices, reports and other documents and information expressly required to be furnished to the Banks by any Agent hereunder, no Agent shall have any duty or responsibility to provide any Bank with any credit or other information concerning the affairs, financial condition or business of the Company (or any of its related companies) which may come into the possession of such Agent or any of its affiliates. 34 39 Section 9.08 Failure to Act. Except for action expressly required of any Agent under this Agreement, such Agent shall in all cases be fully justified in failing or refusing to act unless it shall be indemnified to its satisfaction by the Banks against any and all liability and expense which may be incurred by it by reason of taking or continuing to take any such action. Section 9.09 Resignation or Removal of Agents. Subject to the appointment and acceptance of a successor Agent as provided below, any Agent may resign at any time by giving written notice thereof to the Banks and the Company and any Agent may be removed at any time with or without cause by the Majority Banks. Upon any such resignation or removal, the Majority Banks shall have the right to appoint a successor Agent. If no successor Agent shall have been so appointed by the Majority Banks and shall have accepted such appointment within 30 days after the retiring Agent's giving of notice of resignation or the Majority Banks' removal of the retiring Agent, then the retiring Agent may, on behalf of the Banks, appoint a successor Agent, which shall be a bank which has an office (or an affiliate or a Subsidiary with an office) in New York, New York. Upon the acceptance of any appointment as Agent hereunder by a successor Agent, such successor Agent shall thereupon succeed to and become vested with all the rights, powers, privileges and duties of the retiring Agent, and the retiring Agent shall be discharged from its duties and obligations hereunder. After any retiring Agent's resignation or removal hereunder as Agent, the provisions of this Agreement shall continue in effect for its benefit in respect of any actions taken or omitted to be taken by it while it was acting as the Agent. Section 9.10 Documentation Agent. Nothing in this Agreement shall impose on SunTrust, in its capacity as Documentation Agent, any duties or obligations whatsoever. 35 40 IN WITNESS WHEREOF, the parties hereto have caused this Agreement to be duly executed as of the date first above written. SONAT INC. By ----------------------------------- Title: THE CHASE MANHATTAN BANK By ----------------------------------- Title: MORGAN GUARANTY TRUST COMPANY OF NEW YORK By ----------------------------------- Title: TORONTO DOMINION (TEXAS), INC. By ----------------------------------- Title: THE BANK OF NOVA SCOTIA By ----------------------------------- Title: BANK OF AMERICA, N.T. & S.A. By ----------------------------------- Title: 36 41 SUNTRUST BANK, ATLANTA By ----------------------------------- Title: By ----------------------------------- Title: CREDIT LYONNAIS NEW YORK BRANCH By ----------------------------------- Title: NATIONSBANK OF TEXAS, N.A. By ----------------------------------- Title: MELLON BANK, N.A. By ----------------------------------- Title: WACHOVIA BANK OF GEORGIA, N.A. By ----------------------------------- Title: AMSOUTH BANK By ----------------------------------- Title: BANK OF TOKYO - MITSUBISHI, LTD. By ----------------------------------- Title: 37 42 THE FIRST NATIONAL BANK OF CHICAGO By ----------------------------------- Title: PNC BANK, NATIONAL ASSOCIATION By ----------------------------------- Title: REGIONS BANK By ----------------------------------- Title: KREDIETBANK By ----------------------------------- Title: COMPASS BANK By ----------------------------------- Title: FUJI BANK LTD. By ----------------------------------- Title: ROYAL BANK OF CANADA By ----------------------------------- Title: BANK OF NEW YORK By ----------------------------------- Title: 38 43 SOCIETE GENERALE By ----------------------------------- Title: Agents THE CHASE MANHATTAN BANK, as Administrative Agent By ----------------------------------- Title: MORGAN GUARANTY TRUST COMPANY OF NEW YORK, as Syndication Agent By ----------------------------------- Title: SUNTRUST BANK, ATLANTA, as Documentation Agent By ----------------------------------- Title: 39 44 SCHEDULE 1 DEFINITIONS As used in this Agreement, the following terms shall have the following respective meanings: "Additional Costs" shall have the meaning attributed thereto in Section 3.01(a) hereof. "Affected Loans" shall have the meaning attributed thereto in Section 3.04 hereto. "Affected Type" shall have the meaning attributed thereto in Section 3.04 hereto. "Agents" shall have the meaning attributed thereto in the preamble to this Agreement. "Annual Dates" shall mean the Quarterly Date in December of each year. "Applicable Facility Fee Rate" shall mean, with respect to any day, the percentage indicated below opposite the Rating Level in effect on such day:
Rating Level Percentage ------------ ---------- I 0.080% II 0.100% III 0.125% IV 0.150% V 0.200%
"Applicable Lending Office" shall mean, with respect to each Bank, with respect to each type of Loan, the Lending Office designated for such type of Loan on Schedule 2 hereof, or on the signature pages of, or any schedule to, any amendment hereto, or such other office or affiliate of such Bank as such Bank may from time to time specify to Chase and the Company as the office at which its Loans of such type are to be made and maintained. "Applicable Margin" shall mean: (a) with respect to Domestic Loans, zero; and (b) with respect to any Eurodollar Loan on any day, the percentage indicated below opposite the Rating Level in effect on such day:
Rating Level Percentage ------------ ---------- I 0.220% II 0.240% III 0.265% IV 0.315% V 0.440%
45 "Appropriate Officer" shall mean the chief executive officer, the chief operating officer, the chief financial officer, the Vice President - Comptroller, the Vice President - Finance or the Treasurer. "Banks" shall have the meaning attributed thereto in the preamble to this Agreement, and which shall include the Swingline Bank in its capacity as such. "Base Rate" shall mean, for any day, the higher of (a) the Federal Funds Rate for such day plus 1/2 of 1% per annum and (b) the Prime Rate for such day. Each change in any interest rate provided for herein based upon the Base Rate resulting from a change in the Base Rate shall take effect at the time of such change in the Base Rate. "Basle Accord" shall have the meaning attributed thereto in Section 3.01(c) hereto. "Business Day" shall mean any day on which commercial banks are not authorized or required to close in New York City and, if such day relates to a borrowing of, a payment or prepayment of principal of or interest on, or the Interest Period for, a Eurodollar Loan or a notice by the Company with respect to any such borrowing, payment, prepayment or Interest Period, which is also a day on which dealings in Dollar deposits are carried out in the London interbank market. "Change in Control" shall have the meaning attributed thereto in Section 1.04(b) hereto. "Chase" shall mean The Chase Manhattan Bank in its capacity as the Administrative Agent. "Commitment" shall mean, as to each Bank, the obligation of such Bank to make Syndicated Loans pursuant to Section 1.01 hereof in an aggregate amount at any one time outstanding up to but not exceeding the amount set opposite such Bank's name on Schedule 3 to this Agreement under the caption "Commitment" (as the same may be reduced at any time or from time to time pursuant to Section 1.04 hereof). "Commitment Termination Date" shall mean the 363rd day after the Effective Date. "Company" shall have the meaning attributed thereto in the preamble to this Agreement. "Consolidated Capitalization" shall mean, for any Person, the sum of Total Indebtedness and Equity of such Person and its Consolidated Subsidiaries. "Consolidated Subsidiary" shall mean any Subsidiary of a Person which was or shall be consolidated with such Person in any consolidated financial statement furnished to the Banks under this Agreement. "Default" shall mean an Event of Default or an event which, with the notice or lapse of time or both specified in Article VII hereof, would become such an Event of Default. 2 46 "Derivative Obligations" shall mean any transaction which is a rate swap transaction, basis swap, forward rate transaction, commodity swap, commodity option, equity or equity index swap, equity or equity index option, bond option, interest rate option, foreign exchange transaction, cap transaction, floor transaction, collar transaction, currency swap transaction, cross-currency rate swap transaction, currency option or any other similar transaction (including any option with respect to any of these transactions). "Designated Agents" shall mean Chase and Morgan. "Dollars" and "$" shall mean lawful money of the United States of America. "Domestic Loans" shall mean Syndicated Loans which bear interest at rates based upon the Base Rate. "Effective Date" shall have the meaning attributed thereto in Section 4.01 hereof. "Equity" means at any time the sum of the following, for any Person and its Consolidated Subsidiaries: (i) the amount of share capital liability, including common and preferred shares (less cost of treasury shares), plus (ii) the amount of surplus and retained earnings (or, in the case of a surplus or retained earnings deficit minus the amount of such deficit). "ERISA" shall mean the Employee Retirement Income Security Act of 1974, as amended from time to time, including (unless the context otherwise requires) any rules or regulations promulgated thereunder. "Eurodollar Loans" shall mean Syndicated Loans, the interest rates on which are determined on the basis of rates referred to in the definition of "Fixed Base Rate". "Event of Default" shall mean any of the Events of Default specified in Article VII hereof. "Federal Funds Rate" shall mean, for any day, the rate per annum (rounded upwards, if necessary, to the nearest 1/100 of 1%) equal to the weighted average of the rates on overnight Federal funds transactions with members of the Federal Reserve System arranged by Federal funds brokers on such day, as published by the Federal Reserve Bank of New York on the Business Day next succeeding such day, provided that (i) if the day for which such rate is to be determined is not a Business Day, the Federal Funds Rate for such day shall be such rate on such transactions on the next preceding Business Day as so published on the next succeeding Business Day, and (ii) if such rate is not so published for any day, the Federal Funds Rate for such day shall be the average rate charged to The Chase Manhattan Bank on such day on such transactions as determined by Chase. 3 47 "Fixed Base Rate" shall mean, with respect to any Fixed Rate Loan, the arithmetic mean (rounded upwards, if necessary, to the nearest 1/100 of 1%), as determined by Chase, of the rate per annum quoted by each Reference Bank at approximately 11:00 a.m. London time (or as soon thereafter as practicable) on the date two Business Days prior to the first day of the Interest Period for such Loan for the offering by such Reference Bank to leading banks in the London interbank market of Dollar deposits having a term comparable to such Interest Period and in an amount comparable to the principal amount of the Eurodollar Loan to be made by such Reference Bank for such Interest Period. If any Reference Bank is not participating in any Fixed Rate Loan, the Fixed Base Rate for such Loan shall be determined by reference to the amount of the Loan which such Reference Bank would have made had it been participating in such Loan. If any Reference Bank does not timely furnish such information for determination of any Fixed Base Rate, Chase shall determine such Fixed Base Rate on the basis of information timely furnished by the remaining Reference Banks. "Fixed Rate" shall mean, for any Fixed Rate Loan, a rate per annum (rounded upwards, if necessary, to the nearest 1/100 of 1%) determined by Chase to be equal to the Fixed Base Rate for such Loan for the Interest Period for such Loan. "Fixed Rate Loans" shall mean Eurodollar Loans. "Indebtedness" shall mean, for any Person, all obligations for borrowed money or purchase money obligations of such Person which in accordance with generally accepted accounting principles would be shown on the balance sheet of such Person as a liability; all obligations under leases required to be capitalized under generally accepted accounting principles at the time of entering into such lease; all guarantees of such Person in respect of Indebtedness of others; Indebtedness of others secured by any mortgage, pledge, security interest, encumbrance, lien or charge upon property owned by such Person, whether or not assumed; Operating Lease Obligations; and, only as to any Consolidated Subsidiary of the Company, any Mandatory Preferred Stock of such Consolidated Subsidiary; provided that Indebtedness shall not include: (i) any Indebtedness evidence of which is held in treasury (but the subsequent resale of such Indebtedness shall be deemed to constitute the creation thereof); or (ii) any particular Indebtedness if, upon or prior to the maturity thereof, there shall have been deposited with the proper depositary, in trust, money or United States government securities (or evidences of such Indebtedness as permitted by the instrument creating such Indebtedness) in the necessary amount to pay, redeem or satisfy such Indebtedness; or (iii) only as to the Company, any Indebtedness of the Company to any of its Subsidiaries provided that such Indebtedness is subordinated in right of payment to the prior payment in full of the obligations of the Company to the Banks and the Agents under this Agreement and the termination in full of the Commitments hereunder (including interest accruing on such obligations after the date of any filing by the Company of any petition in bankruptcy or the commencement of any bankruptcy, insolvency or similar proceeding with respect to the Company) in the event that any Default under this Agreement shall have occurred and be continuing and in the event of any insolvency, bankruptcy or similar proceeding affecting the Company; or (iv) any indirect guarantees or other contingent obligations in respect of Indebtedness of other Persons, including agreements, contingent or otherwise, with such other persons or with third persons with respect to, or to permit or assure the payment of, 4 48 obligations of such other persons, including, without limitation, agreements to purchase or repurchase obligations of such other persons, to advance or supply funds to, or to invest in, such other persons or to pay for properties, products or services of such other persons (whether or not conveyed, delivered or rendered); demand charge contracts, through-put, take-or-pay, keep-well, make-whole or maintenance of working capital or similar agreements; or guarantees with respect to rental or other similar periodic payments to be made by such other Persons, including, but without limiting the generality of the foregoing, the Guaranty Agreement dated as of June 1, 1968, as amended as of August 1, 1968, May 1, 1970, April 13, 1973, May 26, 1973 and November 30, 1984, between Boise Cascade Corporation, the Company and Parish of Beauregard, Louisiana; or (v) any capitalized leases for space and/or equipment in respect of oil and gas production platforms not in excess of $25,000,000 in the aggregate; or (vi) any Indebtedness of Bear Creek Storage Company or Citrus Corp. that is shown on the balance sheet of the Company as a liability and which would not be required to be treated as Indebtedness of the Company or any of its Subsidiaries under generally accepted accounting principles as in effect on the date hereof but which is required to be treated as Indebtedness of the Company or any of its Subsidiaries as a result of a change in generally accepted accounting principles after the date hereof. For purposes of this Agreement, the principal amount of any Indebtedness of any Person (excluding Operating Lease Obligations and Mandatory Preferred Stock of a Consolidated Subsidiary) shall mean the amount required in accordance with generally accepted accounting principles to be shown as a liability on the balance sheet of such Person (or, in the case of Indebtedness of another Person required to be treated as Indebtedness of such Person under this Agreement, the balance sheet of such other Person) prepared as of the applicable date. "Interest Payment Date" shall mean, as to any Loan, the last day of the Interest Period for such Loan and (i) with respect to a Set Rate Loan with an Interest Period longer than 90 days, the last day of each consecutive 90 day period (other than such last day if such last day occurs within two Business Days of the last day of such Interest Period) occurring during such Interest Period commencing with the first day of such Interest Period, (ii) with respect to a Eurodollar Loan with an Interest Period longer than three months, the last day of each consecutive three month period (other than such last day if such last day occurs within two Business Days of the last day of such Interest Period) occurring during such Interest Period commencing with the first day of such Interest Period and (iii) with respect to a Domestic Loan, each Quarterly Date that occurs prior to the end of the Interest Period for such Loan. "Interest Period" shall mean, for any Loan, the period provided for such Loan pursuant to Section 2.03 hereof. "Loans" shall mean Money Market Loans, Syndicated Loans and Swingline Loans. "Majority Banks" shall mean Banks having at least 66-2/3% of the aggregate amount of the Commitments; provided that, if the Commitments shall have terminated, Majority Banks shall mean Banks and SPCs holding at least 66-2/3% of the aggregate unpaid principal amount of the Loans. 5 49 "Mandatory Preferred Stock" shall mean, for any Person, the aggregate stated liquidation value of any outstanding preferred stock issued by such Person which is required to be redeemed, in whole or in part, by sinking fund or other mandatory payments at any time prior to the Commitment Termination Date. "Moody's" shall mean Moody's Investor Service, Inc. "Money Market Borrowing" shall have the meaning assigned to such term in Section 1.02(b) hereof. "Money Market Loans" shall mean the loans provided for by Section 1.02 hereof. "Money Market Note" shall have the meaning assigned to such term in Section 1.10(b) hereof. "Money Market Quote" shall mean an offer in accordance with Section 1.02(c) hereof by a Bank to make a Money Market Loan with one single specified interest rate. "Money Market Quote Request" shall have the meaning assigned to such term in Section 1.02(b) hereof. "Money Market Rate" shall have the meaning assigned to such term in Section 1.02(c)(ii)(C) hereof. "Morgan" shall mean Morgan Guaranty Trust Company of New York in its capacity as the Syndication Agent. "Note" shall mean a Syndicated Note, a Money Market Note or a Swingline Note. "Operating Lease Obligations" shall mean, for the Company at any date, if the minimum annual rental commitments of the Company and its Consolidated Subsidiaries as lessee under leases (other than capital leases and mineral leases) in effect on such date for the fiscal year in which such date occurs shall exceed $30,000,000, the minimum rental commitments of the Company and its Consolidated Subsidiaries as lessee over the remaining terms of such leases that cause such minimum annual rental commitments to exceed $30,000,000, discounted to present value at the rate of 10% per annum. For purposes of this definition, rental payments under leases having the longest terms and which cannot be canceled by the Lessee without the incurrence of a substantial penalty shall be deemed to be those leases that cause such aggregate minimum rental commitments to exceed $30,000,000. "PBGC" shall mean the Pension Benefit Guaranty Corporation and any entity succeeding to any or all of its functions under ERISA. "Person" shall mean an individual, a corporation, a company, a voluntary association, a partnership, a trust, an unincorporated organization or a government or any agency, instrumentality or political subdivision thereof. 6 50 "Plan" shall mean any employee benefit or other plan maintained by the Company or any Subsidiary of the Company for its employees and covered by Title IV of ERISA. "Post-Default Rate" shall mean, in respect of any amount payable under this Agreement which is not paid when due (whether at stated maturity, by acceleration or otherwise), a rate per annum for each day during the period from the due date of such amount until such amount shall be paid in full equal to 2% above the Base Rate in effect on such day (provided that, if the amount so in default is principal of a Fixed Rate Loan or a Money Market Loan and the due date thereof is a day other than the last day of the Interest Period therefor, the "Post-Default Rate" for such principal shall be, for the period from and including such due date to but excluding the last day of the Interest Period for such Loan, 2% above the interest rate for such Loan as provided in Section 2.02 hereof and, thereafter, the rate provided for above in this definition). "Prime Rate" shall mean the rate of interest from time to time announced by Chase at its Principal Office as its prime commercial lending rate. "Principal Office" shall mean (i) with respect to Chase or The Chase Manhattan Bank, its principal office in New York, New York, presently located at 1 Chase Manhattan Plaza, New York, N.Y. and (ii) with respect to Morgan, its principal office in New York, New York, presently located at 60 Wall Street, New York, N.Y. "Quarterly Dates" shall mean the last day of each March, June, September and December, commencing on the first such date after the Effective Date. "Quarterly Period" shall mean the period of three consecutive calendar months ending on each Quarterly Date. "Quotation Date" shall have the meaning attributed thereto in Section 1.02(b)(iv) hereof. "Rating Level" shall mean, as of any day, the level indicated below opposite the statement that is correct with respect to the ratings of the Company's senior unsecured long-term debt securities as of such day, provided, that if the ratings of S&P and Moody's on such day fall within different levels, the level shall be the level which is one level above the level with the lower rating unless there is a difference of more than two levels, in which case the level shall be the level which is one level below the level with the higher rating:
Rating Level ------ ----- A- or better by S&P or A3 or better by Moody's I BBB+ by S&P or Baa1 by Moody's II BBB by S&P or Baa2 by Moody's III BBB- by S&P or Baa3 by Moody's IV
7 51
Rating Level ------ ----- Below BBB- by S&P and below Baa3 by Moody's V
For purposes of this definition, "I" shall be the highest level and "V" shall be the lowest level. If any rating established or deemed to have been established by Moody's or S&P shall be changed, such change shall be effective as of the date on which it is first announced by the applicable rating agency. Each change in the Rating Level shall apply during the period commencing on the effective date of such change and ending on the date immediately preceding the effective date of the next such change. If the rating system of Moody's or S&P shall change so as to make the above ratings inapplicable, or if either such rating agency shall cease to be in the business of rating corporate debt obligations or shall no longer have in effect a rating for any reason, the Company and the Banks shall negotiate in good faith to amend the references to specific ratings in this definition to reflect such changed rating system or the non-availability of ratings from such rating agency or to select a substitute rating agency and pending or in the absence of any agreement the Rating Level will be determined by reference to the single available rating, if any, or, in the absence of any rating, then such rating agencies will be deemed to have established a rating in Level V. "Reference Banks" shall mean The Chase Manhattan Bank and Morgan Guaranty Trust Company of New York (or their Applicable Lending Offices, as the case may be). "Regulation D" shall mean Regulation D of the Board of Governors of the Federal Reserve System (or any successor), as the same may be amended or supplemented from time to time. "Regulatory Change" shall mean, with respect to any Bank, any change after the date of this Agreement in United States Federal, state or foreign law or regulations (including, without limitation, Regulation D) or the adoption or making after such date of any interpretation, directive or request applying to a class of banks including such Bank of or under any United States Federal, state or foreign law or regulations (whether or not having the force of law) by any court or governmental or monetary authority charged with the interpretation or administration thereof. "Restricted Subsidiaries" shall mean SNG, Sonat Exploration, and any other Subsidiary of the Company which shall acquire or succeed to all or any substantial part of the assets or the stock of any such Restricted Subsidiary (in which case any references to any such Restricted Subsidiary in this Agreement shall, mutatis mutandis, be deemed to refer to such other Subsidiary). "Set Rate Auction" shall mean a solicitation of Money Market Quotes setting forth Money Market Rates pursuant to Section 1.02 hereof. 8 52 "Set Rate Loans" shall mean Money Market Loans the interest rates on which are determined on the basis of Money Market Rates pursuant to a Set Rate Auction. "SNG" shall mean Southern Natural Gas Company, a wholly-owned Subsidiary of the Company (except for directors' qualifying shares). "Sonat Exploration" shall mean Sonat Exploration Company, a wholly-owned Subsidiary of the Company (except for directors' qualifying shares). "S&P" shall mean Standard & Poor's Corporation. "SPC" shall have the meaning provided in Section 8.09(b). "Subsidiary" shall mean, as to any Person, any corporation, partnership or other entity at least a majority of whose securities or other ownership interests having ordinary voting power for the election of directors or other persons performing similar functions of such corporation, partnership or entity (other than securities or other ownership interests having such power only by reason of the happening of a contingency) are at the same time owned by such Person and/or one or more of its other Subsidiaries. "SunTrust" shall mean SunTrust Bank, Atlanta, in its capacity as the Documentation Agent. "Swingline Account" shall mean the account of the Company maintained with the Swingline Bank at its Lending Office which the Company and the Swingline Lender shall designate as the Swingline Account for purposes of this Agreement. "Swingline Bank" shall mean SunTrust Bank, Atlanta, in its capacity as the lender of Swingline Loans. "Swingline Business Day" shall mean any day on which commercial banks are not authorized or required to close in Atlanta, Georgia. "Swingline Commitment" shall mean the obligation of the Swingline Bank to make Swingline Loans pursuant to Section 1.03 hereof in an aggregate principal amount at any one time outstanding up to but not exceeding $60,000,000. "Swingline Loans" shall have the meaning assigned to such term in Section 1.03 hereof. "Swingline Note" shall have the meaning assigned to such term in Section 1.10(c) hereof. "Syndicated Loans" shall mean the loans provided for by Section 1.01 hereof. "Syndicated Note" shall have the meaning assigned to such term in Section 1.10(a) hereof. 9 53 "Termination Event" shall mean any event or condition which would constitute grounds under Section 4042 of ERISA for the termination of, or for the appointment of a trustee to administer, any Plan. "Total Indebtedness" shall mean, for any Person, the aggregate unpaid principal amount of the Indebtedness of such Person and its Consolidated Subsidiaries (excluding Indebtedness of any Consolidated Subsidiary to such Person or another such Consolidated Subsidiary and, except for the Company, Indebtedness of such Person to any of its Consolidated Subsidiaries). 10 54 SCHEDULE 2 LENDING OFFICES AND/OR ADDRESSES FOR NOTICES 1. SONAT INC. Address for Notices: ------------------- AmSouth-Sonat Tower 1900 Fifth Avenue North Birmingham, Alabama 35202-2563 Attention: Treasurer Fax: 205-325-7490 Telex: 4955644 Answerback: SNGC UI 2. The Chase Manhattan Bank (as a Bank and as Administrative Agent) Lending Office for All Types of Loans: -------------------------------------- The Chase Manhattan Bank 1 Chase Manhattan Plaza New York, New York 10081 Address for Notices: -------------------- The Chase Manhattan Bank 1 Chase Manhattan Plaza New York, New York 10081 Attention: Loan and Agency Services Lisa Pucciarelli Telephone: 212-552-7886 Fax: 212-552-5777 With copies to: --------------- The Chase Manhattan Bank 270 Park Avenue New York, New York 10017 Attention: Oil & Gas Group Mary Jo Woodford Renee Goldstein Chase Securities, Inc. 270 Park Avenue 55 New York, New York 10017-2070 Attention: Financial Products Money Market Management 6th floor Chase Securities, Inc. 1100 Milan, Suite 2345 Houston, Texas 77002 3. Morgan Guaranty Trust Company OF NEW YORK (AS A BANK AND AS SYNDICATION AGENT) Lending Office for Domestic Loans: ---------------------------------- Morgan Guaranty Trust Company of New York 60 Wall Street New York, New York 10260 Lending Office for Eurodollar Loans: ------------------------------------ Morgan Guaranty Trust Company of New York Nassau Bahamas Office c/o J.P. Morgan Services Inc. Euro-Loan Servicing Unit - Loan Operations 500 Stanton-Christiana Road - 3rd Fl. Newark, Delaware 19713 Address for Notices: -------------------- Morgan Guaranty Trust Company of New York c/o J.P. Morgan Services Inc. 500 Stanton-Christiana Road Newark, Delaware 19713 Attention: Deborah Jones Loan Department-Unit 22 Telephone: 302-634-1940 Fax: 302-634-1872 Telex: 177615 Answerback: MGT UT 4. The Toronto-Dominion Bank Lending Office for All Types of Loans: -------------------------------------- The Toronto-Dominion Bank 909 Fannin Street 17th Floor Houston, TX 77010 2 56 Address for Notices: -------------------- The Toronto-Dominion Bank 909 Fannin Street 17th Floor Houston, TX 77010 Telephone: 713-653-8200 Fax: 713-951-9921 5. The Bank of Nova Scotia Lending Office for All Types of Loans: -------------------------------------- The Bank of Nova Scotia 600 Peachtree Street, N.E. Suite 2700 Atlanta, Georgia 30308 Address for Notices: -------------------- The Bank of Nova Scotia 600 Peachtree Street, N.E. Suite 2700 Atlanta, Georgia 30308 Attention: Eudia Smith Telephone: 404-877-1553 Fax: 404-888-8998 6. Bank of America, N.T. & S.A. Lending Office for All Types of Loans: -------------------------------------- Bank of America (Houston) Three Allen Center, 333 Clay St. Houston, TX 77002 Address for Notices: -------------------- Bank of America (Houston) Three Allen Center, 333 Clay St. Houston, TX 77002 Attention: Robert R. Ingersall Telephone: 713-651-4922 Fax: 713-651-4808 3 57 7. SunTrust Bank, Atlanta (as a Bank, as the Swingline Bank and as Documentation Agent) Lending Office for All Types of Loans: -------------------------------------- SunTrust Bank, Atlanta 25 Park Place Atlanta, Georgia 30303 Address for Notices: -------------------- SunTrust Bank, Atlanta P.O. Box 4418, Mail Code 120 Atlanta, Georgia 30303 Attention: Gina Muncus Telephone: 404-658-4624 Fax: 404-827-6270 Telex: 54220 Answerback: TruscoIntAtl 8. Credit Lyonnais New York Branch Lending Office for All Types of Loans ------------------------------------- Credit Lyonnais New York Branch c/o Credit Lyonnais Houston Representative Office 1000 Louisiana, Suite #5360 Houston, Texas 77002 Address for Notices: -------------------- Credit Lyonnais New York Branch c/o Credit Lyonnais Houston Representative Office 1000 Louisiana, Suite #5360 Houston, Texas 77002 Attention: Richard S. Kaufman Vice President Telephone: (713) 751-0500 Fax: (713) 751-0307 Telex: 6868674 Answerback: CL HOU UN 9. NationsBank of Texas, N.A. Lending Office for All Types of Loans: -------------------------------------- NationsBank of Texas, N.A. 700 Louisiana Houston, TX 77002 4 58 Address for Notices: -------------------- NationsBank of Texas, N.A. 700 Louisiana Houston, TX 77002 Attention: Energy Group Telephone: 713-247-6078 Fax: 713-247-6432 Telex: 6829317 Answerback: NationSBk DAL 10. Mellon Bank, N.A. Lending Office for All Types of Loans: -------------------------------------- Mellon Bank, N.A. The Mellon Bank Center Loan Administration Room 1203 Pittsburgh, PA 15259 Attention: Supervisor Telephone: 412-234-4087 Fax: 412-236-2027 Address for notices: -------------------- Mellon Bank, N.A. One Mellon Bank Center Room 4425 Pittsburgh, PA 15258 Attention: A. Gary Chace Manager, Energy Services Group Telephone: 412-236-2786 Fax: 412-236-1840 Address for Notices Regarding Money Market Loans ------------------------------------------------ Mellon Bank, N.A. One Mellon Bank Center Capital Markets, Room 151-0400 Pittsburgh, PA 15258-0001 Attention: Marilyn Wagner Telephone: (412) 234-1693 Fax: (412) 234-7834 5 59 11. Wachovia Bank of Georgia, N.A. Lending Office for All Types of Loans: -------------------------------------- Wachovia Bank of Georgia, N.A. 191 Peachtree Street N.E. 29th Floor Atlanta, Georgia 30303-1757 Address for Notices: -------------------- Wachovia Bank of Georgia, N.A. 191 Peachtree Street N.E. 29th Floor Atlanta, Georgia 30303-1757 Attention: Lanny Nixon Assistant Vice President Telephone: 404-332-4884 Fax: 404-332-5016 12. AmSouth Bank Lending Office for All Types of Loans: -------------------------------------- AmSouth Bank 1900 Fifth Avenue North Birmingham, Alabama 35203 Address for Notices: -------------------- AmSouth Bank 1900 Fifth Avenue North Birmingham, Alabama 35203 Attention: David A. Simmons Senior Vice President Telephone: 205-326-5924 Fax: 205-801-0157 13. The Bank of Tokyo - Mitsubishi, Limited Lending Office for All Types of Loans: -------------------------------------- The Bank of Tokyo - Mitsubishi, Limited Atlanta Agency 133 Peachtree Street, N.E. Georgia Pacific Center # 4970 Atlanta, GA 30303-1808 6 60 Address for Notices: -------------------- The Bank of Tokyo - Mitsubishi, Limited Atlanta Agency 133 Peachtree Street, N.E. Georgia-Pacific Center, Suite 4970 Atlanta, GA 30303-1808 Attention: Bill Otott Telephone: 404-577-2960 Fax: 404-577-1155 14. PNC Bank, National Association Lending Office for All Types of Loans ------------------------------------- PNC Bank, National Association Natural Resources Department One PNC Plaza, 3rd Floor 249 Fifth Avenue Pittsburgh, PA 15222-2707 Address for Notices: -------------------- PNC Bank, National Association Natural Resources Department One PNC Plaza, 3rd Floor 249 Fifth Avenue Pittsburgh, PA 15222-2707 Attention: Drew Potts Telephone: 412-762-2572 Fax: 412-762-2571 15. Regions Bank Lending Office for All Types of Loans ------------------------------------- Regions Bank (Birmingham) 417 North 20th Street Birmingham AL 35202 Address for Notices: -------------------- Regions Bank (Birmingham 417 North 20th Street Birmingham, AL 35202 Attention: Chuck Allen Telephone: (205) 326-7003 Fax: (205) 326-7739 7 61 16. Kredietbank, N.V. Lending Office for All Types of Loans ------------------------------------- Kredietbank (Atlanta) 1349 West Peachtree Street, Suite 1750 Atlanta, GA 30309 Address for Notices: -------------------- Kredietbank (Atlanta) 1349 West Peachtree Street, Suite 1750 Atlanta, GA 30309 Attention: Michael Sawicki Telephone: (404) 876-2556 Fax: (404) 876-3212 17. Compass Bank Lending Office for All Types of Loans ------------------------------------- Compass Bank 15 20th Street South Birmingham, AL 25233 Address for Notices: -------------------- Compass Bank 15 20th Street South Birmingham, AL 25233 Attention: Todd Liscomb Telephone: (205) 933-3992 Fax: (205) 933-3926 18. Fuji Bank Ltd. Lending Office for All Types of Loans ------------------------------------- Fuji Bank Ltd. (Atlanta) Suite 2100 of the Marquis One Tower 245 Peachtree Center Avenue NE Atlanta, GA 30303 Attention: Connie Fowls Telephone: (404) 215-3304 Address for Notices: -------------------- Fuji Bank Ltd. (Atlanta) Suite 2100 of the Marquis One Tower 8 62 245 Peachtree Center Avenue NE Atlanta, GA 30303 Attention: Clarence Mahovlich Telephone: (404) 215-3316 Fax: (404) 653-2119 19. Royal Bank of Canada Lending Office for All Types of Loans ------------------------------------- Royal Bank of Canada, New York Financial Square, 23rd Floor New York NY 10005-3531 Attention: Asst. Manager, Loan Processing Telephone: (212) 428-6321 Fax: (212) 428-2372 Address for Notices: -------------------- Royal Bank of Canada c/o Royal Bank of Canada Financial Square, 23rd Floor New York NY 10005-3531 Telephone: Fax: (212) 428-2372 With Copies to: --------------- Royal Bank of Canada Attn: Gil Benard 12450 Greenspoint Drive, Suite 1450 Houston, TX 77060 Telephone: (281) 874-5662 Fax: (281) 874-0081 20. Bank of New York Lending Office for All Types of Loans ------------------------------------- Bank of New York One Wall Street New York, NY 10286 Address for Notices: -------------------- Bank of New York One Wall Street 9 63 New York, NY 10286 Attention: Steven Kalachman Telephone: (212) 635-7881 Fax: (212) 635-7923 21. Societe Generale Lending Office for All Types of Loans ------------------------------------- Societe Generale, Southwest Agency 1111 Bagby Street, Suite 2020 Houston, TX 77002 Attention: Richard A. Gould, Vice President Telephone: 713-759-6300 Fax: 713-650-0824 Address for Notices: -------------------- Societe Generale 2001 Ross Avenue, Suite 4800 Dallas, TX 75201 Attention: Lia Guerra Telephone: 214-979-2769 Fax: 214-979-1104 With copy to: ------------- Societe Generale (Houston) 1111 Bagby, Suite 2020 Houston, TX 77002 Attention: Richard A. Gould Telephone: (713) 759-6324 Fax: (713) 650-0824 10 64 SCHEDULE 3
BANKS COMMITMENT THE CHASE MANHATTAN BANK $ 65,000,000 MORGAN GUARANTY TRUST COMPANY OF NEW YORK 62,500,000 SUNTRUST BANK, ATLANTA 62,500,000 BANK OF AMERICA, N.T. & S.A. 40,000,000 CREDIT LYONNAIS NEW YORK BRANCH 40,000,000 NATIONSBANK OF TEXAS, N.A. 40,000,000 TORONTO DOMINION (TEXAS), INC. 40,000,000 THE BANK OF NOVA SCOTIA 30,000,000 BANK OF TOKYO - MITSUBISHI, LTD. 30,000,000 KREDIETBANK N.V. 30,000,000 MELLON BANK, N.A. 30,000,000 PNC BANK, NATIONAL ASSOCIATION 30,000,000 ROYAL BANK OF CANADA 30,000,000 SOCIETE GENERALE 30,000,000 AMSOUTH BANK 25,000,000 BANK OF NEW YORK 25,000,000 THE FUJI BANK LTD., ATLANTA AGENCY 25,000,000 REGIONS BANK 25,000,000 WACHOVIA BANK OF GEORGIA, N.A. 25,000,000 COMPASS BANK 15,000,000 ------------ $700,000,000
65 EXHIBIT A-1 [Form of Note for Syndicated Loans] PROMISSORY NOTE $______________ ____________, 19__ New York, New York FOR VALUE RECEIVED, SONAT INC., a Delaware corporation (the "Company"), hereby promises to pay to ______________ (the "Bank"), for account of its respective Applicable Lending Offices provided for by the Credit Agreement referred to below, at the principal office of The Chase Manhattan Bank at 1 Chase Manhattan Plaza, New York, New York 10081, the principal sum of _____________ Dollars (or such lesser amount as shall equal the aggregate unpaid principal amount of the Syndicated Loans made by the Bank to the Company under the Credit Agreement), in lawful money of the United States of America and in immediately available funds, on the dates and in the principal amounts provided in the Credit Agreement, and to pay interest on the unpaid principal amount of each such Syndicated Loan, at such office, in like money and funds, for the period commencing on the date of such Syndicated Loan until such Syndicated Loan shall be paid in full, at the rates per annum and on the dates provided in the Credit Agreement. The date, amount, type, interest rate and maturity date of each Syndicated Loan made by the Bank to the Company, and each payment made on account of the principal thereof, shall be recorded by the Bank on its books and, prior to any transfer of this Note, endorsed by the Bank on the schedule attached hereto or any continuation thereof. The failure of the Bank to make any notation or entry or any error in such a notation or entry shall not, however, limit or otherwise affect any obligation of the Company under the Credit Agreement or this Note. This Note is one of the Notes referred to in the Credit Agreement (as modified and supplemented and in effect from time to time, the "Credit Agreement") dated as of January 26, 1998, among the Company, the banks named therein and The Chase Manhattan Bank, as Administrative Agent, Morgan Guaranty Trust Company of New York, as Syndication Agent, and SunTrust Bank, Atlanta, as Documentation Agent, and evidences Syndicated Loans made by the Bank thereunder. Capitalized terms used in this Note have the respective meanings assigned to them in the Credit Agreement. The Credit Agreement provides for the acceleration of the maturity of this Note upon the occurrence of certain events and for prepayments of Loans upon the terms and conditions specified therein. 66 This Note shall be governed by, and construed in accordance with, the law of the State of New York. SONAT INC. By ----------------------------------- Title: 2 67 SCHEDULE OF LOANS This Note evidences Loans made under the within-described Credit Agreement to the Company, on the dates, in the principal amounts, of the types, bearing interest at the rates and maturing on the dates set forth below, subject to the payments and prepayments of principal set forth below:
Principal Date Amount Type Maturity Amount Unpaid of of of Interest Date of Paid or Principal Notation Loan Loan Loan Rate Loan Prepaid Amount Made by ---- --------- ---- -------- -------- ------- --------- --------
68 EXHIBIT A-2 [Form of Note for Money Market Loans] PROMISSORY NOTE _____________, 19_ New York, New York FOR VALUE RECEIVED, SONAT INC., a Delaware corporation (the "Company"), hereby promises to pay to __________________ (the "Bank"), for account of its respective Applicable Lending Offices provided for by the Credit Agreement referred to below, at the principal office of The Chase Manhattan Bank at 1 Chase Manhattan Plaza, New York, New York 10081, the aggregate unpaid principal amount of the Money Market Loans made by the Bank to the Company under the Credit Agreement, in lawful money of the United States of America and in immediately available funds, on the dates and in the principal amounts provided in the Credit Agreement, and to pay interest on the unpaid principal amount of each such Money Market Loan, at such office, in like money and funds, for the period commencing on the date of such Money Market Loan until such Money Market Loan shall be paid in full, at the rates per annum and on the dates provided in the Credit Agreement. The date, amount, interest rate and maturity date of each Money Market Loan made by the Bank to the Company, and each payment made on account of the principal thereof, shall be recorded by the Bank on its books and, prior to any transfer of this Note, endorsed by the Bank on the schedule attached hereto or any continuation thereof. The failure of the Bank to make any notation or entry or any error in such a notation or entry shall not, however, limit or otherwise affect any obligation of the Company under the Credit Agreement or this Note. This Note is one of the Notes referred to in the Credit Agreement (as modified and supplemented and in effect from time to time, the "Credit Agreement") dated as of January 26, 1998, among the Company, the banks named therein and The Chase Manhattan Bank, as Administrative Agent, Morgan Guaranty Trust Company of New York, as Syndication Agent, and SunTrust Bank, Atlanta, as Documentation Agent, and evidences Money Market Loans made by the Bank thereunder. Capitalized terms used in this Note have the respective meanings assigned to them in the Credit Agreement. The Credit Agreement provides for the acceleration of the maturity of this Note upon the occurrence of certain events and for prepayments of Loans upon the terms and conditions specified therein. 69 This Note shall be governed by, and construed in accordance with, the law of the State of New York. SONAT INC. By ----------------------------------- Title: 2 70 SCHEDULE OF LOANS This Note evidences Loans made under the within-described Credit Agreement to the Company, on the dates, in the principal amounts, bearing interest at the rates and maturing on the dates set forth below, subject to the payments and prepayments of principal set forth below:
Principal Date Amount Maturity Amount Unpaid of of Interest Date of Paid or Principal Notation Loan Loan Rate Loan Prepaid Amount Made by ---- --------- -------- -------- ------- --------- --------
71 EXHIBIT A-3 [Form of Note for Swingline Loans] PROMISSORY NOTE $__________________ ____________, 19__ New York, New York FOR VALUE RECEIVED, SONAT INC., a Delaware corporation (the "Company"), hereby promises to pay to SUNTRUST BANK, ATLANTA (the "Bank"), for account of its respective Applicable Lending Offices provided for by the Credit Agreement referred to below, at the principal office of The Chase Manhattan Bank at 1 Chase Manhattan Plaza, New York, New York 10081, the principal sum of ____________ Dollars (or such lesser amount as shall equal the aggregate unpaid principal amount of the Swingline Loans made by the Bank to the Company under the Credit Agreement), in lawful money of the United States of America and in immediately available funds, on the dates and in the principal amounts provided in the Credit Agreement, and to pay interest on the unpaid principal amount of each such Swingline Loan, at such office, in like money and funds, for the period commencing on the date of such Swingline Loan until such Swingline Loan shall be paid in full, at the rates per annum and on the dates provided in the Credit Agreement. The date, amount, type, interest rate and maturity date of each Swingline Loan made by the Bank to the Company, and each payment made on account of the principal thereof, shall be recorded by the Bank on its books and, prior to any transfer of this Note, endorsed by the Bank on the schedule attached hereto or any continuation thereof. The failure of the Bank to make any notation or entry or any error in such a notation or entry shall not, however, limit or otherwise affect any obligation of the Company under the Credit Agreement or this Note. This Note is one of the Notes referred to in the Credit Agreement (as modified and supplemented and in effect from time to time, the "Credit Agreement") dated as of January 26, 1998, among the Company, the banks named therein and The Chase Manhattan Bank, as Administrative Agent, Morgan Guaranty Trust Company of New York, as Syndication Agent, and SunTrust Bank, Atlanta, as Documentation Agent, and evidences Swingline Loans made by the Bank thereunder. Capitalized terms used in this Note have the respective meanings assigned to them in the Credit Agreement. The Credit Agreement provides for the acceleration of the maturity of this Note upon the occurrence of certain events and for prepayments of Loans upon the terms and conditions specified therein. 72 This Note shall be governed by, and construed in accordance with, the law of the State of New York. SONAT INC. By ----------------------------------- Title: 2 73 SCHEDULE OF LOANS This Note evidences Loans made under the within-described Credit Agreement to the Company, on the dates, in the principal amounts, of the types, bearing interest at the rates and maturing on the dates set forth below, subject to the payments and prepayments of principal set forth below:
Principal Date Amount Type Maturity Amount Unpaid of of of Interest Date of Paid or Principal Notation Loan Loan Loan Rate Loan Prepaid Amount Made by ---- -------- ---- -------- -------- ------- --------- --------
74 EXHIBIT B [Form of Opinion of Special Counsel to the Company] January __, 1998 To the Banks party to the Agreement referred to below and The Chase Manhattan Bank, as Administrative Agent, Morgan Guaranty Trust Company of New York, as Syndication Agent and SunTrust Bank, Atlanta, as Documentation Agent Dear Sirs: We have acted as special counsel for Sonat Inc., a Delaware corporation (the "Company"), in connection with the execution and delivery of the Credit Agreement (the "Agreement") dated as of January 26, 1998, among the Company, the Banks named therein and The Chase Manhattan Bank, as Administrative Agent, Morgan Guaranty Trust Company of New York, as Syndication Agent and SunTrust Bank, Atlanta, as Documentation Agent. This opinion is delivered to you pursuant to Section 4.01(v) of the Agreement. All capitalized terms not otherwise defined herein shall have the meanings attributed to them in the Agreement. In this connection, and as a basis for the opinions expressed below, we have examined or relied upon originals or copies, certified or otherwise identified to our satisfaction, of such records, instruments, certificates and other documents, have made such inquiries as to questions of fact of officers and representatives of the Company and have made such examinations of law as we have deemed necessary or appropriate for purposes of giving the opinions hereinafter expressed. As to certain matters in respect of the opinions expressed in paragraphs 1 and 2 below, we have relied, with your permission, solely on the opinion, a copy of which is attached hereto, of William A. Smith, Executive Vice President and General Counsel. In rendering the opinions expressed below, we have assumed that the Agreement has been duly authorized, executed and delivered by each party thereto other than the Company, that each party thereto other than the Company has the requisite power and authority to execute, deliver and perform the Agreement, and that such execution, delivery and performance by such other parties does not and will not breach, conflict with or constitute a violation of the laws or governmental rules or regulations of any jurisdiction. Each of the opinions expressed below is restricted to matters controlled or affected by Federal laws, the General Corporation Law of the State of Delaware and the laws of the State of New York. 75 On the basis of the foregoing, it is our opinion that: 1. The Company is a corporation duly incorporated, validly existing and in good standing under the laws of the State of Delaware and is duly licensed or qualified to do business and is in good standing in the States of Alabama, Texas and New York, constituting those states which we have been advised are the states in which the Company believes the conduct of its business or the ownership of its assets requires such qualification, and the Company has the corporate power to make the Agreement and the Notes and to borrow under the Agreement. 2. The making and performance by the Company of the Agreement and the Notes and borrowings under the Agreement have been duly authorized by all necessary corporate action and do not and will not contravene any provision of law applicable to the Company or of the certificate of incorporation or by-laws of the Company or result in the material breach of, or constitute a material default or require any consent under, or result in the creation of any material lien, charge or other security interest or encumbrance (except as may be required by the Agreement) upon any property or assets of the Company pursuant to, any indenture or other agreement or instrument to which the Company is a party or by which the Company or any of its property may be bound or affected. 3. No approval, license or consent of any governmental regulatory body is requisite to the making and performance by the Company of the Agreement or the execution, delivery and payment of the Notes. 4. The Agreement and the Notes have been duly executed and delivered by the Company and each constitutes a valid and binding agreement of the Company enforceable in accordance with its terms (subject to applicable bankruptcy, fraudulent conveyance, fraudulent transfer, preferential transfer, insolvency, moratorium and other like laws of general application affecting creditors' rights and to the application of general principles of equity, including without limitation concepts of materiality, reasonableness, good faith and fair dealing and whether considered in a proceeding in equity or at law), except that we express no opinion as to (i) Section 2.06(c) of the Agreement or (ii) the effect of the law of any jurisdiction (other than the State of New York) wherein any Bank (including any of its Applicable Lending Offices) may be located which limits rates of interest which may be charged or collected by such Bank or (iii) whether a Federal or state court outside of the State of New York would give effect to the choice of New York law provided for in the Agreement and the Notes. In connection with the above, we wish to point out that provisions of the Agreement which permit any Agent or any Bank to take action or make determinations or allocations, or to benefit from indemnities and similar undertakings of the Company, may be subject to a requirement that such action be taken or such determinations or allocations be made, 2 76 and that any action or inaction by an Agent or a Bank which may give rise to a request for payment under such an indemnity or similar undertaking be taken or not taken, on a reasonable basis and in good faith. Very truly yours, 3 77 (ATTACHMENT TO EXHIBIT B) [Form of Opinion of General Counsel] January __, 1998 Hughes Hubbard & Reed LLP One Battery Park Plaza New York, New York 10004 Dear Sirs: As Executive Vice President and General Counsel of Sonat Inc., a Delaware corporation (the "Company"), I am familiar with the Credit Agreement (the "Agreement") dated as of January 26, 1998, among the Company, the Banks named therein and The Chase Manhattan Bank, as Administrative Agent, Morgan Guaranty Trust Company of New York, as Syndication Agent and SunTrust Bank, Atlanta, as Documentation Agent. This opinion is delivered to you in connection with the opinion which you are rendering pursuant to Section 4.01(v) of the Agreement. You may rely on this opinion in rendering your opinion, you may attach a copy hereof to your opinion and the Banks may rely on this opinion as if it were addressed to them. All capitalized terms not otherwise defined herein shall have the meaning attributed to them in the Agreement. In this connection, and as a basis for the opinions expressed below, I have examined or relied upon originals or copies certified or otherwise identified to my satisfaction, of such records, instruments, certificates and other documents, have made inquiries as to questions of fact of officers and representatives of the Company and have made such examinations of law as I have deemed necessary or appropriate for purposes of giving the opinions hereinafter expressed. On the basis of the foregoing, it is my opinion that: 1. The Company is duly licensed or qualified to do business and is in good standing in the States of Alabama, Texas and New York, constituting those states in which the Company believes the conduct of its business or the ownership of its assets requires such qualification. 2. The making and performance by the Company of the Agreement and the Notes and borrowings under the Agreement do not and will not contravene any provision of law of the State of Alabama or the United States applicable to the Company by virtue of the nature of its or any of its Subsidiaries' businesses or of the properties owned or leased by any of them or result in the material breach of, or constitute a material default or require any consent under, or result in the creation of any material lien, charge or other security interest or encumbrance upon any property or assets of the Company pursuant to, any 78 indenture or other agreement or instrument to which the Company is a party or by which the Company or any of its property may be bound or affected. 3. The Company is not an "investment company" or a company "controlled" by an "investment company", within the meaning of the Investment Company Act of 1940, as amended. 4. Neither the Company nor any of its Subsidiaries is subject to regulation under the Public Utility Holding Company Act of 1935, as amended. Very truly yours, 2 79 EXHIBIT C [Form of Opinion of Special Counsel to the Banks and the Agents] January __, 1998 To the Banks currently party to the Credit Agreement referred to below and listed on Schedule 1 attached hereto; The Chase Manhattan Bank, as Administrative Agent, Morgan Guaranty Trust Company of New York, as Syndication Agent and SunTrust Bank, Atlanta, as Documentation Agent Gentlemen: We have acted as your special counsel in connection with the Credit Agreement (the "Credit Agreement") dated as of January 26, 1998, among Sonat Inc. (the "Company"), the Banks named therein and The Chase Manhattan Bank, as Administrative Agent, Morgan Guaranty Trust Company of New York, as Syndication Agent and SunTrust Bank, Atlanta, as Documentation Agent. Terms defined in the Credit Agreement are used herein as defined therein. We have assumed for purposes of our opinion hereinafter set forth that the Credit Agreement has been duly authorized, executed and delivered by the Company, each Bank and each Agent, and that the Company is duly incorporated and validly existing under the laws of the State of Delaware and has full power, authority and legal right to make and perform the Credit Agreement and the Notes and that such execution, delivery and performance by the Company does not contravene its certificate of incorporation or by-laws or violate, or require any consent not obtained under, any applicable law or regulation or any order, writ, injunction or decree of any court or other governmental authority and does not violate, or require any consent not obtained under, any contractual obligation applicable to or binding upon the Company. We have examined (i) a copy of the Credit Agreement signed by the Company, each Bank and each Agent and (ii) a copy of the opinion letter of Hughes Hubbard & Reed LLP, counsel for the Company, addressed to you and dated the date hereof in respect of the Credit Agreement together with the opinion of the Executive Vice President and General Counsel of the Company, attached thereto. We have assumed the genuineness of all signatures, the authenticity of documents submitted to us as originals, the conformity with the originals of all documents submitted to us as certified or photostatic copies, and the authenticity of the originals of such latter documents. Based upon the foregoing and subject to the comments and qualifications set forth below, we are of the opinion that the Credit Agreement constitutes, and the Notes when executed and delivered for value will constitute, valid and binding obligations of the Company enforceable 80 in accordance with their respective terms, except as the foregoing may be limited by bankruptcy, insolvency, fraudulent conveyance, reorganization, moratorium or other similar laws relating to or affecting creditors' rights generally, general equitable principles (whether considered in a proceeding in equity or at law) and an implied covenant of good faith and fair dealing, and except that we express no opinion as to (i) Section 2.06(c) of the Credit Agreement or (ii) the effect of the law of any jurisdiction (other than the State of New York) wherein any Bank (including any of its Applicable Lending Offices) may be located which limits rates of interest which may be charged or collected by such Bank. In addition, we express no opinion as to whether a Federal or state court outside of the State of New York would give effect to the choice of New York law provided for in the Credit Agreement and the Notes. In connection with the above, we wish to point out that provisions of the Credit Agreement which permit either Agent or any Bank to take action or make determinations, or to benefit from indemnities and similar undertakings of the Company, may be subject to a requirement that such action be taken or such determinations be made, and that any action or inaction by an Agent or a Bank which may give rise to a request for payment under such an undertaking be taken or not taken, on a reasonable basis and in good faith. We are members of the Bar of the State of New York and do not herein intend to express any opinion as to any matters governed by any laws other than the law of the State of New York and the Federal law of the United States of America. This opinion is rendered to you in connection with the above described transactions. This opinion may not be relied upon by you for any other purpose, or relied upon by, or furnished to, any other person, firm or corporation without our prior written consent. Very truly yours, 2 81 EXHIBIT D [Form of Money Market Quote Request] [Date] To: [Bank] From: Sonat Inc. Re: Money Market Quote Request Pursuant to Section 1.02 of the Credit Agreement (the "Credit Agreement") dated as of January 26, 1998, among Sonat Inc., the banks named therein and The Chase Manhattan Bank, as Administrative Agent, Morgan Guaranty Trust Company of New York, as Syndication Agent and SunTrust Bank, Atlanta, as Documentation Agent, we hereby give notice that we request Money Market Quotes for the following proposed Money Market Borrowing(s):
Borrowing Quotation Interest Date Date [*1] Amount [*2] Period [*3] --------- --------- ----------- -----------
Money Market Quotes responding to this Money Market Quote Request must be submitted to us not later than [time and date] [*4]. Terms used herein have the meanings assigned to them in the Credit Agreement. SONAT INC. By ----------------------------------- Title: - ----------------------------------- * All numbered footnotes appear on last page of this Exhibit. [1] For use if a Money Market Rate in a Set Rate Auction is requested to be submitted before the Borrowing Date. [2] Each amount must be $25,000,000 or a larger multiple of $5,000,000. [3] A period of up to 180 days after the making of such Set Rate Loan and ending on a Business Day. [4] Insert time and date determined pursuant to Section 1.02(c)(i). 82 EXHIBIT E [Form of Money Market Quote] To: Sonat Inc. Attention: Re: Money Market Quote to Sonat Inc. (the "Borrower") This Money Market Quote is given in accordance with Section 1.02(c) of the Credit Agreement (the "Credit Agreement") dated as of January 26, 1998, among the Borrower, the banks named therein and The Chase Manhattan Bank, as Administrative Agent, Morgan Guaranty Trust Company of New York, as Syndication Agent and SunTrust Bank, Atlanta, as Documentation Agent. Terms defined in the Credit Agreement are used herein as defined therein. In response to the Borrower's invitation dated ____________, 19__, we hereby make the following Money Market Quote(s) on the following terms: 1. Quoting Bank: 2. Person to contact at Quoting Bank: 3. We hereby offer to make Money Market Loan(s) in the following principal amount[s], for the following Interest Period(s) and at the following rate(s):
Borrowing Quotation Interest Date Date [*1] Amount [*2] Period [*3] Rate [*4] --------- --------- ----------- ----------- ---------
We understand and agree that the offer(s) set forth above, subject to the satisfaction of the applicable conditions set forth in the Credit Agreement, irrevocably obligate[s] us to make the Money Market Loan(s) for which any offer(s) (is/are) accepted, in whole or in part (subject to the third sentence of Section 1.02(d) of the Credit Agreement). Very truly yours, [Name of Bank] By ----------------------------------- Authorized Officer Dated: ____________, 83 - ----------------------------------- * All numbered footnotes appear on last page of this Exhibit. [1] As specified in the related Money Market Quote Request. [2] The principal amount bid for each Interest Period may not exceed the principal amount requested. Bids must be made for at least $5,000,000 or a larger multiple of $1,000,000. [3] A period of up to 180 days after the making of such Set Rate Loan and ending on a Business Day, as specified in the related Money Market Quote Request. [4] Specify rate of interest per annum (rounded to the nearest 1/10,000 of 1%). 2 84 EXHIBIT F [FORM OF DESIGNATION AGREEMENT] Dated _______________, 199___ Reference is made to the Credit Agreement dated as of January 26, 1998 (as amended, supplemented or otherwise modified from time to time, the "Credit Agreement") among Sonat Inc., a Delaware corporation (the "Company"), the Banks parties thereto, The Chase Manhattan Bank, as Administrative Agent, Morgan Guaranty Trust Company of New York, as Syndication Agent, and SunTrust Bank, Atlanta, as Documentation Agent. Terms defined in the Credit Agreement are used herein with the same meaning unless otherwise define herein. [NAME OF DESIGNOR] (the "Designor"), [NAME OF DESIGNEE] (the "Designee"), the Agent and the Borrower agree as follows: 1. The Designor hereby designates the Designee, and the Designee hereby accepts such designation, to have a right to make Money Market Loans pursuant to Section 1.02 of the Credit Agreement. Any assignment by Designor to Designee of its rights to make a Money Market Loan pursuant to such Section 1.02 shall be effective at the time of the funding for such Money Market Loan and not before such time. 2. The Designor makes no representation or warranty and assumes no responsibility pursuant to this Designation Agreement with respect to (a) any statements, warranties or representations made in or in connection with the Credit Agreement or the execution, legality, validity, enforceability, genuineness, sufficiency or value of the Credit Agreement or any other instrument and document furnished pursuant thereto and (b) the financial condition of the Company or the performance or observance by the Company of its obligations under the Credit Agreement or any other instrument or document furnished pursuant thereto. (It is acknowledged that the Designor may make representations and warranties of the type described above in other agreements to which the Designor is a party.) 3. The Designee (a) confirms that it has received a copy of the Credit Agreement, together with copies of the financial statements referred to in Section 6.03 of the Credit Agreement and such other documents and information as it has deemed appropriate to make its own independent credit analysis and decision to enter into this Designation Agreement; (b) agrees that it will, independently and without reliance upon any Agent, the Designor or any other Bank and based on such documents and information as it shall deem appropriate at the time, continue to make its own credit decisions in taking or not taking action under the Credit Agreement; (c) confirms that it is an SPC; (d) appoint and authorizes the Agents to take such action as agent on its behalf and to exercise such powers and discretion under the Credit Agreement as are delegated to the Agents by the terms thereof, together with such powers and discretion as are reasonably incidental thereto; and (e) agrees that it will perform in accordance 85 with their terms all of the obligations which by the terms of the Credit Agreement are required to be performed by it as a Bank. 4. The Designee hereby appoints Designor (in Designor's capacity as a the designating lender and not as the referral bank) as Designee's agent and attorney in fact, and grants to Designor an irrevocable power of attorney, to deliver and receive all communications and notices under the Credit Agreement and to exercise on Designee's behalf all rights to vote and to grant and made approvals, waivers, consents or amendment to or under the Credit Agreement. Any document executed by the Designor on the Designee's behalf in connection with the Credit Agreement shall be binding on the Designee. The Company, the Agent and each of the Banks may rely on and are beneficiaries of the preceding provisions. 5. Following the execution of this Designation Agreement by the Designor and its Designee, it will be delivered to Chase for acceptance and recording by Chase. The effective date for this Designation Agreement (the "Effective Date") shall be the date of acceptance hereof by Chase, unless otherwise specified on the signature page thereto. 6. The Designor unconditionally agrees to pay or reimburse the Designee and save the Designee harmless against all liabilities, obligations, losses, damages, penalties, actions, judgments, suits, costs, expenses or disbursements of any kind or nature whatsoever which may be imposed or asserted by any of the parties to the Credit Agreement against the Designee, in its capacity as such, in any way relating to or arising out of this Designation Agreement or any action taken or omitted by the Designee hereunder or thereunder, provided that the Designor shall not be liable for any portion of such liabilities, obligations, losses, damage, penalties, actions, judgments, suits, costs, expenses or disbursements if the same results from the Designee's gross negligence or willful misconduct. 7. Upon such acceptance and recording by Chase, as of the Effective Date, the Designee shall be a party to the Credit Agreement with a right to make Money Market Loans as a Bank pursuant to Section 1.02 of the Credit Agreement and the rights and obligations of a Bank related thereto. 8. This Designation Agreement shall be governed by, and construed in accordance with, the laws of the New York. 9. This Designation Agreement may be executed in any number of counterparts and by different parties hereto in separate counterparts, each of which when so executed shall be deemed to be an original and all of which taken together shall constitute one and the same agreement. Delivery of an executed counterpart of a signature page to this Designation Agreement by facsimile transmission shall be effective as delivery of a manually executed counterpart of this Designation Agreement. 2 86 IN WITNESS WHEREOF, the Designor and the Designee, intending to be legally bound, have caused this Designation Agreement to be executed by their officers thereunto duly authorized as of the date first above written. Effective Date(1): _______________, ____, 199__ [NAME OF DESIGNOR], as Designor By:________________________________ Title:_____________________________ [NAME OF DESIGNEE], as Designee By:________________________________ Title:_____________________________ Applicable Lending Office (and address for notices): [ADDRESS] Accepted this _____ day of _______________, 199__ THE CHASE MANHATTAN BANK, SONAT INC. as Agent By: ____________________________ By:________________________________ Title: _________________________ Title:_____________________________ - -------------------- 1. This date should be no earlier than five Business Days after the delivery of this Designation Agreement to the Agent. 3 EX-10.3 3 RESTRICTED STOCK PLAN FOR DIRECTORS OF SONAT, INC. 1 EXHIBIT 10.3 RESTRICTED STOCK PLAN FOR DIRECTORS OF SONAT INC. (As Amended and Restated as of February 26, 1998) 1. Purpose. This Restricted Stock Plan for Directors of Sonat Inc. (the "Plan") is hereby established by Sonat Inc. (the "Company"). The purpose of the Plan is to enable the Company to pay part of the compensation of its non-employee Directors in shares of the Company's Common Stock, thereby providing for or increasing such Directors' proprietary interest in the Company. The Plan provides for the grant of shares of Common Stock of the Company which are restricted in accordance with the terms and conditions set forth below ("Restricted Shares"). 2. Eligibility. Each Director of the Company who is not an officer or employee of the Company or any of its subsidiaries (an "Eligible Director") shall be eligible for awards under the Plan. Each Eligible Director to whom Restricted Shares are granted under the Plan is hereinafter referred to as a "Participant". 3. Administration. The Plan shall be administered by a committee of at least three Directors (the "Committee") appointed by the Board of Directors of the Company (the "Board of Directors"). The Committee shall have authority to interpret the Plan, to adopt, amend and rescind administrative regulations to further the purposes of the Plan, and to take any other action necessary to the proper operation of the Plan. All decisions and acts of the Committee shall be final and binding upon all Plan Participants. 4. Grant of Restricted Shares. (a)(1) Each Eligible Director who is a member of the Board of Directors on April 1, 1998 shall be granted 2,000 Restricted Shares, effective as of April 1, 1998. (2) Each person who becomes an Eligible Director after April 1, 1998 shall be granted, effective as of the date such person becomes an Eligible Director, a number of Restricted Shares equal to the sum of (i) the product of 33.33 multiplied by the number of full and partial calendar months between the date of such person's election as an Eligible Director through the March 31 following such election, with such product rounded up or down to the nearest whole share; plus (ii) 400 Restricted Shares for every full Plan Year (as defined below) in the period commencing on the April 1 following such election and ending on March 31, 2003. Plan Year shall mean the period April 1 through the following March 31. (b) Awards under the Plan shall be made from shares held in the Company's treasury. 2 5. Terms and Conditions of Restricted Shares. Stock certificates representing the Restricted Shares granted to a Participant shall be registered in the Participant's name and shall be held by the Company on behalf of the Participant. The Participant shall have the right to vote and receive dividends on such Restricted Shares. The Participant shall not be entitled to delivery of the stock certificates, and no Restricted Share may be sold, transferred, assigned, or pledged by the Participant, until such Restricted Share has vested, as provided in Section 6. In the event a Participant ceases to be a Director of the Company before all of his Restricted Shares have vested, any of such Participant's Restricted Shares which have not vested shall be forfeited. At the time Restricted Shares vest, a certificate for such shares shall be delivered to the Participant (or the Participant's Beneficiary (as defined in Section 10) in the event of the Participant's death), free of all restrictions. 6. Vesting of Restricted Shares. (a) With respect to Restricted Shares granted as of April 1, 1998, 400 shares shall vest on April 1 of each of the years 1999 through and including 2003. With respect to Restricted Shares granted after April 1, 1998, (i) on the April 1 following such grant there shall vest a number of shares equal to the product of 33.33 multiplied by the number of full or partial calendar months from the date of such person's election as an Eligible Director through the March 31 following such election, with such product rounded up or down to the nearest whole share, and (ii) on each April 1 thereafter through April 1, 2003 there shall vest 400 shares. (b) Notwithstanding the provisions of Sections 5 and 6(a), all Restricted Shares granted to a Participant shall vest immediately upon the Participant's death or disability. (c) Notwithstanding the provisions of Sections 5, 6(a) and 6(b), in the event of a "Change of Control" (as defined in Section 13), all Restricted Shares shall vest immediately; however, stock certificates for such shares shall be delivered to the Participants, and the restrictions on transfer of the shares shall lapse, in the amounts and at the times set forth in Section 6(a), regardless of whether the Participant is then serving as a Director of the Company. 7. Supplemental Payment on Vesting of Restricted Shares. Within 30 days of each date that Restricted Shares vest, a Supplemental Payment shall be paid to the Participant (or to the Participant's Beneficiary in the event of death), in cash, in an amount equal to the amount necessary to pay the federal income tax payable with respect to both the vesting of the Restricted Shares and receipt of the Supplemental Payment, assuming the Participant is taxed at the maximum effective federal income tax rate applicable thereto and has not elected to recognize income with respect to the Restricted Shares before the date such Restricted Shares vest. 8. Regulatory Compliance. The Company shall not be obligated to issue or deliver any Restricted Shares or certificates for Common Stock if (i) the issuance or delivery of such shares shall constitute a violation of any provision of any law or any regulation of any governmental authority or any national securities exchange, or (ii) the Company determines that an agreement by -2- 3 a Participant with respect to the disposition of shares of Common Stock is necessary or desirable (in connection with any requirement or interpretation of any federal or state securities law, rule or regulation) and such agreement has not been obtained. 9. Adjustments for Changes in Capitalization. In the event of a reorganization, recapitalization, stock split, stock dividend, combination of shares, rights offer, liquidation, dissolution, merger, consolidation, spin-off, sale of assets, payment of an extraordinary cash dividend, or any other change in or affecting the corporate structure or capitalization of the Company, each Restricted Share then outstanding shall be converted into or exchanged for the number and kind of securities or property into which each outstanding share of Common Stock of the Company shall be converted as a result of such event, and the provisions of this Plan shall continue to apply to such substituted securities or property. 10. Beneficiary. A Participant may file with the Company a written designation of Beneficiary, on such form as may be prescribed or permitted by the Committee, to receive any Restricted Shares and Supplemental Payments that become deliverable to the Participant pursuant to the Plan after the Participant's death. A Participant may, from time to time, amend or revoke a designation of Beneficiary. If no designated Beneficiary survives the Participant, the Participant's estate shall be deemed to be the Participant's Beneficiary. 11. Amendment to Plan. The Board of Directors may amend the Plan from time to time. No such amendment shall require approval by stockholders unless stockholder approval is required by applicable law or stock exchange requirements. No amendment shall adversely affect a Participant's right to receive Restricted Shares granted under the Plan without the written consent of the affected Participant. 12. No Guaranty of Directorship. Nothing in this Plan shall be deemed to create any obligation on the part of the Board to nominate any Director for re-election by the Company's stockholders. 13. Change of Control. A "Change of Control" shall mean: (i) The acquisition by any individual, entity or group (within the meaning of Section 13(d)(3) or 14(d)(2) of the Securities Exchange Act of 1934 (the "Exchange Act")) (a "Person") of beneficial ownership (within the meaning of Rule 13d-3 promulgated under the Exchange Act) of 20% or more of either (1) the then outstanding shares of common stock of the Company (the "Outstanding Common Stock") or (2) the combined voting power of the then outstanding voting securities of the Company entitled to vote generally in the election of directors (the "Outstanding Voting Securities"); provided, however, that for purposes of this subsection (i), the following acquisitions shall not constitute a Change of Control: (A) any acquisition directly from the Company, (B) any acquisition by the -3- 4 Company, (C) any acquisition by any employee benefit plan (or related trust) sponsored or maintained by the Company or any corporation controlled by the Company or (D) any acquisition by any corporation pursuant to a transaction which complies with clauses (A), (B) and (C) of subsection (iii); or (ii) Individuals who, as of December 1, 1995, constitute the Board of Directors (the "Incumbent Board") cease for any reason to constitute at least a majority of the Board of Directors; provided, however, that any individual becoming a director subsequent to such date whose election, or nomination for election by the Company's shareholders, was approved by a vote of at least a majority of the directors then comprising the Incumbent Board shall be considered as though such individual were a member of the Incumbent Board, but excluding, for this purpose, any such individual whose initial assumption of office occurs as a result of an actual or threatened election contest with respect to the election or removal of directors or other actual or threatened solicitation of proxies or consents by or on behalf of a Person other than the Board of Directors; or (iii) Consummation of a reorganization, merger or consolidation or sale or other disposition of all or substantially all of the assets of the Company (a "Business Combination"), in each case, unless, following such Business Combination, (A) all or substantially all of the individuals and entities who were the beneficial owners, respectively, of the Outstanding Common Stock and Outstanding Voting Securities immediately prior to such Business Combination beneficially own, directly or indirectly, more than 50% of, respectively, the then outstanding shares of common stock and the combined voting power of the then outstanding voting securities entitled to vote generally in the election of directors, as the case may be, of the corporation resulting from such Business Combination (including, without limitation, a corporation which as a result of such transaction owns the Company or all or substantially all of the Company's assets either directly or through one or more subsidiaries) in substantially the same proportions as their ownership, immediately prior to such Business Combination, of the Outstanding Common Stock and Outstanding Voting Securities, as the case may be, (B) no Person (excluding any corporation resulting from such Business Combination or any employee benefit plan (or related trust) of the Company or such corporation resulting from such Business Combination) beneficially owns, directly or indirectly, 20% or more of, respectively, the then outstanding shares of common stock of the corporation resulting from such Business Combination or the combined voting power of the then outstanding voting securities of such corporation except to the extent that such ownership existed prior to the Business Combination and (C) at least a majority of the members of the board of directors of the corporation resulting from such Business Combination were members of the Incumbent Board at the time of the execution of the initial agreement, or of the action of the Board of Directors, providing for such Business Combination. 14. Withholding. Whenever the Company proposes or is required to deliver shares of Common Stock under the Plan, the Company shall have the right to require the Participant to remit -4- 5 to the Company an amount sufficient to satisfy any federal, state or local withholding tax liability prior to the delivery of any certificate or certificates for such shares. Supplemental Payments under the Plan shall be net of an amount sufficient to satisfy any federal, state and local withholding tax liability on both the vesting of Restricted Shares and receipt of the Supplemental Payment. 15. Provisions Regarding Prior Grants. The provisions of the Plan as in effect on February 25, 1998, shall apply with respect to all unvested Restricted Shares outstanding on such date. 16. Effective Date and Termination Date. This Plan, as amended and restated herein, shall be effective as of February 26, 1998. The Plan's termination date shall be April 1, 2003. The Board of Directors may terminate the Plan prior to its termination date, but such action shall have no effect on Restricted Shares granted prior to such action. SONAT INC. By: /s/ Ronald L. Kuehn, Jr. -------------------------------------- Ronald L. Kuehn, Jr. Chairman of the Board, President and Chief Executive Officer -5- EX-10.7 4 EXECUTIVE SEVERANCE AGREEMENT - WILLIAM A. SMITH 1 EXHIBIT 10.7 EXECUTIVE SEVERANCE AGREEMENT, dated as of December 1, 1995, by and between Sonat Inc., a Delaware corporation ("Sonat"), and William A. Smith ("Executive"). WHEREAS, the Executive Compensation Committee of the Board of Directors of Sonat has recommended, and the Board of Directors has approved, that Sonat enter into severance agreements with key executives of Sonat who are from time to time designated by the Executive Compensation Committee; WHEREAS, Executive is a key executive of Sonat and has been selected by the Executive Compensation Committee and the Board of Directors to enter into a severance agreement with Sonat; WHEREAS, should Sonat become subject to any proposed or threatened Change of Control (as hereinafter defined), the Board of Directors believes it imperative that Sonat and the Board of Directors be able to rely upon Executive to continue in his position, and that Sonat be able to receive and rely upon his advice, if requested, as to the best interests of Sonat and its stockholders without concern that he might be distracted by the personal uncertainties and risks created by such a proposal or threat; and WHEREAS, should Sonat receive any such proposals, in addition to Executive's regular duties, he may be called upon to assist in the assessment of such proposals, advise management and the Board of Directors as to whether such proposals would be in the best interests of Sonat and its stockholders, and to take such other actions as the Board of Directors might determine to be appropriate; NOW, THEREFORE, Sonat and Executive agree as follows: 1. Services During Certain Events. In the event a third person begins a tender or exchange offer, circulates a proxy to stockholders, or takes other steps to effect a Change of Control, Executive agrees that he will not voluntarily leave the employ of Sonat, and will render the services contemplated in the recitals to this Agreement, until the third person has abandoned or terminated his efforts to effect a Change of Control or until a Change of Control has occurred. 2. Termination Following Change of Control. Except as provided in Section 4 hereof, Sonat will provide or cause to be provided to Executive the rights and benefits described in Section 3 hereof in the event that Executive's employment by Sonat is terminated: (a) at any time within three years following a Change of Control by Sonat for reasons other than for "cause" (as such term is defined in Section 4 hereof) or other than as a consequence of Executive's death, permanent disability or 2 retirement at or after the normal retirement date as provided under the Sonat Inc. Retirement Plan (the "Retirement Plan") as in effect immediately preceding such date ("Normal Retirement Date"); (b) at any time within three years following a Change of Control by Executive following the occurrence of any of the following events without Executive's written consent: (i) the assignment of Executive to any duties or responsibilities that are inconsistent with his position, duties, responsibilities or status immediately preceding such Change of Control, or a change in his reporting responsibilities or titles in effect at such time resulting in a reduction of his responsibilities or position at Sonat; (ii) the reduction of Executive's annual salary (including any deferred portions thereof) or level of benefits or supplemental compensation; or (iii) the transfer of Executive to a location requiring a change in his residence or a material increase in the amount of travel normally required of Executive in connection with his employment by Sonat; or (c) by Executive for any reason during the 30-day period immediately following the first anniversary of the date of the Change of Control. For purposes of this Agreement, "Change of Control" shall mean: A. The acquisition by any individual, entity or group (within the meaning of Section 13(d)(3) or 14(d)(2) of the Securities Exchange Act of 1934, as amended (the "Exchange Act")) (a "Person") of beneficial ownership (within the meaning of Rule 13(d)-3 promulgated under the Exchange Act) of 20% or more of either (i) the then outstanding shares of common stock of Sonat (the "Outstanding Common Stock") or (ii) the combined voting power of the then outstanding voting securities of Sonat entitled to vote generally in the election of directors (the "Outstanding Voting Securities"); provided, however, that for purposes of this subsection A, the following acquisitions shall not constitute a Change of Control: (i) any acquisition directly from Sonat, (ii) any acquisition by Sonat, (iii) any acquisition by any employee benefit plan (or related trust) sponsored or maintained by Sonat or any corporation controlled by Sonat or (iv) any acquisition by any corporation pursuant to a transaction which complies with clauses (i), (ii) and (iii) of subsection C; or B. Individuals who, as of the date hereof, constitute the Board of Directors (the "Incumbent Board") cease for any reason to constitute at least a majority of the Board of Directors; provided, however that any individual becoming a director subsequent to the date hereof whose election, or nomination for election by Sonat's 2 3 shareholders, was approved by a vote of at least a majority of the directors then comprising the Incumbent Board shall be considered as though such individual were a member of the Incumbent Board, but excluding, for this purpose, any such individual whose initial assumption of office occurs as a result of an actual or threatened election contest with respect to the election or removal of directors or other actual or threatened solicitation of proxies or consents by or on behalf of a Person other than the Board of Directors; or C. Consummation of a reorganization, merger or consolidation or sale or other disposition of all or substantially all of the assets of Sonat (a "Business Combination"), in each case, unless, following such Business Combination, (i) all or substantially all of the individuals and entities who were the beneficial owners, respectively, of the Outstanding Common Stock and Outstanding Voting Securities immediately prior to such Business Combination beneficially own, directly or indirectly, more than 50% of, respectively, the then outstanding shares of common stock and the combined voting power of the then outstanding voting securities entitled to vote generally in the election of directors, as the case may be, of the corporation resulting from such Business Combination (including, without limitation, a corporation which as a result of such transaction owns Sonat or all or substantially all of Sonat's assets either directly or through one or more subsidiaries) in substantially the same proportions as their ownership, immediately prior to such Business Combination, of the Outstanding Common Stock and Outstanding Voting Securities, as the case may be, (ii) no Person (excluding any corporation resulting from such Business Combination or any employee benefit plan (or related trust) of Sonat or such corporation resulting from such Business Combination) beneficially owns, directly or indirectly, 20% or more of, respectively, the then outstanding shares of common stock of the corporation resulting from such Business Combination or the combined voting power of the then outstanding voting securities of such corporation except to the extent that such ownership existed prior to the Business Combination and (iii) at least a majority of the members of the board of directors of the corporation resulting from such Business Combination were members of the Incumbent Board at the time of the execution of the initial agreement, or of the action of the Board of Directors, providing for such Business Combination. 3. Rights and Benefits upon Termination. In the event of the termination of Executive's employment under any of the circumstances set forth in Section 2 hereof ("Termination"), Sonat agrees to provide or cause to be provided to Executive the following rights and benefits: (a) Salary and Other Payment at Termination. Executive shall be entitled to receive within 30 days of Termination a lump-sum payment in cash in the amount of three times Executive's highest Earnings (as such term is defined in this Section 3(a)) with respect to any 12 consecutive month period during the three years ending with the date of Termination; provided, however, that if there are fewer than 36 months remaining from the date of Termination to Executive's Normal Retirement Date, the amount calculated pursuant to this paragraph will be reduced by multiplying such amount by a fraction, the numerator of which is the number of 3 4 months (including any fraction of a month) so remaining to Executive's Normal Retirement Date and the denominator of which is 36. For purposes of this Agreement, "Earnings" shall mean the sum of (1) all base pay (including Before-Tax Contributions (as defined in Sonat's Savings Plan) made on behalf of Executive under Sonat's Savings Plan, and before-tax contributions by Executive to a plan established under Section 125 of the Internal Revenue Code, as amended (the "Code"), and sponsored by Sonat), overtime, cash bonuses (including bonuses paid under Sonat's Performance Award Plan, Cash Bonus Plan, Performance Award and Cash Bonus Plan, and All-Employee Incentive Program) and commissions paid to Executive for personal service rendered to Sonat and its subsidiaries and (2) workers' compensation payments or other comparable payments required to be made by law, received in lieu of base pay, but only to the extent that such payments do not exceed the rate of base pay of Executive immediately prior to the commencement of such payments. Notwithstanding the provisions of the foregoing sentence, Earnings shall not include (1) severance pay, bonuses, workers' compensation payments, payment for unused vacation, and payments similar to any of the foregoing, received after or on account of Executive's Termination, (2) any income attributable to restricted stock, options, stock appreciation rights, supplemental payments, or dividends on restricted stock, acquired pursuant to Sonat's Executive Award Plan, or (3) any Choice Dollars (as defined in Sonat's Choice Benefits Plan) allocated to Executive under Sonat's Choice Benefits Plan, regardless of whether any Choice Dollars are paid to Executive in cash. (b) Retirement Benefits. If Executive (i) has at Termination attained the age of 50 and (ii) at Termination is not otherwise entitled to receive an early retirement benefit under the terms of a qualified retirement plan of Sonat or its subsidiaries, Sonat shall pay in cash to Executive a monthly benefit for life (a "Severance Retirement Benefit") in an amount equal to the difference between (i) the monthly benefit calculated under the early retirement provisions of the Retirement Plan (as in effect immediately prior to the Change of Control), using the early retirement benefit reduction factors applicable as of the later of age 55 or the Executive's actual age at his date of Termination, and (ii) the monthly benefit payable to Executive under the Retirement Plan (as in effect on the date of Executive's Termination), assuming the following for purposes of clauses (i) and (ii): (A) the benefit is payable in the form of a single life annuity as of the later of the date Executive attains age 55 and the date of Termination; (B) the benefit is calculated based on Executive's actual service and actual earnings history at the date of Termination; (C) Executive is fully vested in the benefit; and (D) the benefit is calculated under the assumption that Code Sections 401(a)(17) and 415 are nonexistent and the provisions of the Retirement Plan incorporating such Sections are inoperative. The Severance Retirement Benefit shall be paid commencing on the first day of the month following the later of the date Executive attains age 55 4 5 and the date of Termination, and shall not be affected by the settlement option or date of commencement of any benefits actually payable under the Retirement Plan or the Sonat Inc. Supplemental Benefit Plan. (c) Survivors' Benefits. If Executive is entitled to receive a Severance Retirement Benefit under Section 3(b) and Executive is survived by one or more Eligible Family Members (as such term is defined in the Retirement Plan as in effect immediately prior to the Change of Control), Sonat shall pay in cash to each such Eligible Family Member a monthly survivors' benefit (the "Severance Survivors' Benefit") in an amount equal to the excess of (i) over (ii), where (i) is the monthly survivors benefit that would have been payable to such Eligible Family Member under the Retirement Plan (as in effect immediately prior to the Change of Control) with respect to Executive if Executive's retirement benefit were calculated under the early retirement provisions of such plan, using the early retirement benefit reduction factors applicable as of the later of age 55 or Executive's actual age at his date of Termination, and assuming (A) the retirement benefit is payable in the form of a single life annuity as of the later of the date Executive attains age 55 and the date of Termination; (B) the retirement benefit is calculated based on Executive's actual service and actual earnings history at the date of Termination; (C) Executive is fully vested in the retirement benefit; and (D) the retirement benefit is calculated under the assumption that Code Sections 401(a)(17) and 415 are nonexistent and the provisions of the Retirement Plan incorporating such Sections are inoperative; and (ii) is the amount actually paid to such Eligible Family Member for such month as a Survivors' Benefit under the Retirement Plan and as an Excess Retirement Plan Benefit under the Sonat Inc. Supplemental Benefit Plan. Payment of the Severance Survivors' Benefit shall commence on the first day of the month following the death of Executive. (d) Insurance and Other Special Benefits. To the extent Executive is eligible thereunder, Executive shall continue to be covered by the life and dependent life insurance, medical and dental insurance, and accident and disability insurance plans of Sonat and its subsidiaries or any successor plan or program in effect at Termination for employees in the same class or category as Executive, subject to the terms of such plans and to Executive's making any required contributions thereto. In the event Executive is ineligible to continue to be so covered under the terms of any such benefit plan or program, or, in the event Executive is eligible but the benefits applicable to Executive are not substantially equivalent to the benefits applicable to Executive immediately prior to Termination, then, for a period of 36 months following Termination (or until Executive's Normal Retirement Date, 5 6 whichever is sooner), Sonat shall provide such substantially equivalent benefits, or such additional benefits as may be necessary to make the benefits applicable to Executive substantially equivalent to those in effect before Termination, through other sources; provided, however, that if during such period Executive should enter into the employ of another company or firm which provides substantially similar benefit coverage, Executive's participation in the comparable benefit provided by Sonat either directly or through such other sources shall cease. Nothing contained in this paragraph shall be deemed to require or permit termination or restriction of Executive's coverage under any plan or program of Sonat or any of its subsidiaries or any successor plan or program thereto to which Executive is entitled under the terms of such plan or program, whether at the end of the aforementioned 36-month period or at any other time. (e) Relocation Assistance. Should Executive move his residence in order to pursue other business opportunities within three years of the date of Termination (or until his Normal Retirement Date, whichever is sooner), Sonat shall reimburse him for any expenses incurred in that relocation (including taxes payable on the reimbursement) which are not reimbursed by another employer; provided, however, that Executive shall be entitled to such reimbursement with respect to only one such relocation, it being agreed that in the event of more than one such relocation, Executive shall be entitled to specify the relocation for which reimbursement hereunder is to be made. Benefits under this provision will include the assistance, at no cost to Executive, in selling his home and other assistance which was customarily provided to executives transferred within Sonat or between Sonat and its subsidiaries prior to the Change of Control. (f) Other Benefits Plans. The specific arrangements referred to in this Section 3 are not intended to exclude Executive's participation in other benefit plans in which Executive currently participates or which are available to executive personnel generally in the class or category of Executive or to preclude other compensation or benefits as may be authorized by the Board of Directors from time to time. (g) Duty to Mitigate. Executive's entitlement to benefits hereunder shall not be governed by any duty to mitigate his damages by seeking further employment nor offset by any compensation which he may receive from future employment. (h) Payment Obligations Absolute. Sonat's obligation to pay or cause to be paid to Executive the benefits and to make the arrangements provided in this Section 3 shall be absolute and unconditional and shall not be affected by any circumstances, including, without limitation, any setoff, counterclaim, recoupment, defense or other right, which Sonat may have against Executive or anyone else. All amounts payable by or on behalf of Sonat hereunder shall be paid without notice or demand. Each and every payment made hereunder by or on behalf of Sonat shall be 6 7 final and Sonat and its subsidiaries shall not, for any reason whatsoever, seek to recover all or any part of such payment from Executive or from whomever shall be entitled thereto. 4. Conditions to the Obligations of Sonat. Sonat shall have no obligation to provide or cause to be provided to Executive the rights and benefits described in Section 3 hereof if either of the following events shall occur: (a) Termination for Cause. Sonat shall terminate Executive's employment for "cause". For purposes of this Agreement, termination of employment for "cause" shall mean termination solely for dishonesty, conviction of a felony, or willful unauthorized disclosure of confidential information of Sonat. (b) Resignation as Director. Executive shall not, promptly after Termination and upon receiving a written request to do so, resign as a director and/or officer of each subsidiary and affiliate of Sonat of which he is then serving as a director and/or officer. 5. Confidentiality; Non-Solicitation; Cooperation. (a) Confidentiality. Executive agrees that at all times following Termination, he will not, without the prior written consent of Sonat, disclose to any person, firm or corporation any confidential information of Sonat or its subsidiaries which is now known to him or which hereafter may become known to him as a result of his employment or association with Sonat and which could be helpful to a competitor, unless such disclosure is required under the terms of a valid and effective subpoena or order issued by a court or governmental body; provided, however, that the foregoing shall not apply to confidential information which becomes publicly disseminated by means other than a breach of this Agreement. (b) Non-Solicitation. Executive agrees that for a period of three years following the date of Termination (or until Executive's Normal Retirement Date, whichever is sooner) he will not induce, either directly or indirectly, any employee of senior to manager level of Sonat or any of its subsidiaries to terminate his or her employment. (c) Cooperation. Executive agrees that, at all times following Termination, he will furnish such information and render such assistance and cooperation as may reasonably be requested in connection with any litigation or legal proceedings concerning Sonat or any of its subsidiaries (other than any legal proceedings concerning Executive's employment). In connection with such cooperation, Sonat will pay or reimburse Executive for reasonable expenses. (d) Remedies for Breach. It is recognized that damages in the event of breach of this Section 5 by Executive would be difficult, if not impossible, to ascertain, and it is therefore agreed that Sonat, in addition to and without limiting any other remedy or right it 7 8 may have, shall have the right to an injunction or other equitable relief in any court of competent jurisdiction, enjoining any such breach, and Executive hereby waives any and all defenses he may have on the ground of lack of jurisdiction or competence of the court to grant such an injunction or other equitable relief. The existence of this right shall not preclude Sonat from pursuing any other rights and remedies at law or in equity which Sonat may have. 6. Certain Additional Payments by Sonat. (a) Anything in this Agreement to the contrary notwithstanding and except as set forth below, in the event it shall be determined that any payment or distribution by Sonat to or for the benefit of Executive (whether paid or payable or distributed or distributable pursuant to the terms of this Agreement or otherwise, but determined without regard to any additional payments required under this Section 6) (a "Payment") would be subject to the excise tax imposed by Section 4999 of the Code or any interest or penalties are incurred by Executive with respect to such excise tax (such excise tax, together with any such interest and penalties, are hereinafter collectively referred to as the "Excise Tax"), then Executive shall be entitled to receive an additional payment (a "Gross-Up Payment") in an amount such that after payment by Executive of all federal income taxes (including any interest or penalties imposed with respect to such taxes), including, without limitation, any federal income taxes (and any interest and penalties imposed with respect thereto) and Excise Tax imposed upon the Gross-Up Payment, Executive retains an amount of the Gross-Up Payment equal to the Excise Tax imposed upon the Payments. Notwithstanding the foregoing provisions of this Section 6(a), if it shall be determined that Executive is entitled to a Gross-Up Payment, but that Executive, after taking into account the Payments and the Gross-Up Payment, would not receive a net after-tax benefit of at least $50,000 (taking into account both federal income taxes and any Excise Tax) as compared to the net after-tax proceeds to Executive resulting from an elimination of the Gross-Up Payment and a reduction of the Payments, in the aggregate, to an amount (the "Reduced Amount") such that the receipt of Payments would not give rise to any Excise Tax, then no Gross-Up Payment shall be made to Executive and the Payments, in the aggregate, shall be reduced to the Reduced Amount. (b) Subject to the provisions of Section 6(c), all determinations required to be made under this Section 6, including whether and when a Gross-Up Payment is required and the amount of such Gross-Up Payment and the assumptions to be utilized in arriving at such determination, shall be made by Ernst & Young LLP or such other certified public accounting firm as may be designated by Executive (the "Accounting Firm"), which shall provide detailed supporting calculations both to Sonat and Executive within 15 business days of the receipt of notice from Executive that there has been a Payment or such earlier time as is requested by Sonat. In the event that the Accounting Firm is serving as accountant or auditor for the individual, entity or group effecting a Change of Control, Executive shall appoint another nationally recognized accounting firm to make the determinations required hereunder (which accounting firm shall then be referred to as the Accounting Firm hereunder). All fees and expenses of the Accounting Firm shall be borne solely by Sonat. Any Gross-Up Payment shall be paid by Sonat to Executive within five days of the receipt of the 8 9 Accounting Firm's determination. Any determination by the Accounting Firm shall be binding upon Sonat and Executive. As a result of the uncertainty in the application of Section 4999 of the Code at the time of the initial determination by the Accounting Firm hereunder, it is possible that Gross-Up Payments which will not have been made by Sonat should have been made ("Underpayment"), consistent with the calculations required to be made hereunder. In the event that Sonat exhausts its remedies pursuant to Section 6(c) and Executive thereafter is required to make a payment of any Excise Tax, the Accounting Firm shall determine the amount of the Underpayment that has occurred and any such Underpayment shall be promptly paid by Sonat to or for the benefit of Executive. (c) Executive shall notify Sonat in writing of any claim by the Internal Revenue Service that, if successful, would require the payment by Sonat of a Gross-Up Payment. Such notification shall be given as soon as practicable but no later than ten business days after Executive is informed in writing of such claim and shall apprise Sonat of the nature of such claim and the date on which such claim is requested to be paid. Executive shall not pay such claim prior to the expiration of the 30-day period following the date on which it gives such notice to Sonat (or such shorter period ending on the date that any payment of taxes with respect to such claim is due). If Sonat notifies Executive in writing prior to the expiration of such period that it desires to contest such claim, Executive shall: (i) give Sonat any information reasonably requested by Sonat relating to such claim, (ii) take such action in connection with contesting such claim as Sonat shall reasonably request in writing from time to time, including without limitation, accepting legal representation with respect to such claim by an attorney reasonably selected by Sonat, (iii) cooperate with Sonat in good faith in order effectively to contest such claim, and (iv) permit Sonat to participate in any proceedings relating to such claim; provided, however, that Sonat shall bear and pay directly all costs and expenses (including additional interest and penalties) incurred in connection with such contest and shall indemnify and hold Executive harmless, on an after-tax basis, for any Excise Tax or federal income tax (including interest and penalties with respect thereto) imposed as a result of such representation and payment of costs and expenses. Without limitation on the foregoing provisions of this Section 6(c), Sonat shall control all proceedings taken in connection with such contest and, at its sole option, may pursue or forgo any and all administrative appeals, proceedings, hearings and conferences with the taxing authority in respect of such claim and may, at its sole option, either direct Executive to pay the tax claimed and sue for a refund or to contest the claim in any permissible manner, and Executive agrees to prosecute such contest to a determination before any administrative tribunal, in a court of initial jurisdiction and in one or more appellate courts, as Sonat shall determine; provided, however, that if 9 10 Sonat directs Executive to pay such claim and sue for a refund, Sonat shall advance the amount of such payment to Executive, on an interest-free basis, and shall indemnify and hold Executive harmless on an after-tax basis, from any Excise Tax or federal income tax (including interest or penalties with respect thereto) imposed with respect to such advance or with respect to any imputed income with respect to such advance; and further provided that any extension of the statute of limitations relating to payment of taxes for the taxable year of Executive with respect to which such contested amount is claimed to be due is limited solely to such contested amount. Furthermore, Sonat's control of the contest shall be limited to issues with respect to which a Gross-Up Payment would be payable hereunder, and Executive shall be entitled to settle or contest, as the case may be, any other issue raised by the Internal Revenue Service or any other taxing authority. (d) If, after the receipt by Executive of an amount advanced by Sonat pursuant to Section 6(c), Executive becomes entitled to receive any refund with respect to such claim, Executive shall (subject to Sonat's complying with the requirements of Section 6(c)) promptly pay to Sonat the amount of such refund (together with any interest paid or credited thereon after taxes applicable thereto). If, after the receipt by Executive of an amount advanced by Sonat pursuant to Section 6(c), a determination is made that Executive shall not be entitled to any refund with respect to such claim and Sonat does not notify Executive in writing of its intent to contest such denial of refund prior to the expiration of 30 days after such determination, then such advance shall be forgiven and shall not be required to be repaid and the amount of such advance shall offset, to the extent thereof, the amount of Gross-Up Payment required to be paid. 7. Term of Agreement. This Agreement shall terminate on April 30, 1996; provided, however, that this Agreement shall automatically renew for successive one-year terms unless the Board of Directors notifies Executive in writing at least 30 days prior to an April 30 expiration date that it does not desire to renew the Agreement for an additional term; and provided further, however, that this Agreement shall terminate prior to April 30, 1996 or, in the event of a renewal of this Agreement, any subsequent April 30, if and when the Executive Compensation Committee determines that Executive is no longer a key executive for purposes of being a party to an executive severance agreement with Sonat and so notifies Executive, except that such determination shall not be made, and if made shall have no effect, (i) within three years after a Change of Control or (ii) during any period of time when Sonat has reason to believe that any third person has begun a tender or exchange offer, circulated a proxy to stockholders, or taken other steps or formulated plans to effect a Change of Control, such period of time to end when, in the opinion of the Executive Compensation Committee, the third person has abandoned or terminated his efforts or plans to effect a Change of Control. 8. Expenses. Sonat shall pay or reimburse Executive for all costs and expenses, including, without limitation, court costs and attorneys' fees, incurred by Executive as a result of any claim, action or proceeding (including, without limitation, a claim, action or proceeding by Executive against Sonat) arising out of, or challenging the validity or enforceability of, this Agreement or any provision hereof. 10 11 9. Miscellaneous. (a) Assignment. No right, benefit or interest hereunder shall be subject to assignment, anticipation, alienation, sale, encumbrance, charge, pledge, hypothecation or set-off in respect of any claim, debt or obligation, or to execution, attachment, levy or similar process; provided, however, that Executive may assign any right, benefit or interest hereunder if such assignment is permitted under the terms of any plan or policy of insurance or annuity contract governing such right, benefit or interest. (b) Construction of Agreement. Nothing in this Agreement shall be construed to amend any provision of any plan or policy of Sonat. This Agreement is not, and nothing herein shall be deemed to create, a commitment of continued employment of Executive by Sonat or any of its subsidiaries. (c) Amendment. This Agreement may not be amended, modified or cancelled except by written agreement of the parties. (d) Waiver. No provision of this Agreement may be waived except by a writing signed by the party to be bound thereby. Executive may at any time or from time to time waive any or all of the rights and benefits provided for herein which have not been received by Executive at the time of such waiver. In addition, prior to the last day of the calendar year in which Executive's Termination occurs, Executive may waive any or all rights and benefits provided for herein which have been received by Executive; provided that prior to the end of such year Executive repays to Sonat (or, if the benefit was received from an employee benefit plan trust, to such trust) the amount of the benefit received together with interest thereon at the minimum rate required to avoid imputed income. Any waiver of benefits pursuant to this paragraph shall be irrevocable. If Executive waives a right or benefit provided for herein and such waiver is determined by the Internal Revenue Service not to be effective, Sonat shall indemnify Executive for any federal income and excise taxes he incurs as a result of that determination, so as to put Executive in the position he would have been in had the waiver been given effect. (e) Severability. In the event that any provision or portion of this Agreement shall be determined to be invalid or unenforceable for any reason, the remaining provisions of this Agreement shall remain in full force and effect to the fullest extent permitted by law. (f) Successors. This Agreement shall be binding upon and inure to the benefit of Executive and his personal representative and heirs, and Sonat and any successor organization or organizations which shall succeed to substantially all of the business and property of Sonat, whether by means of merger, consolidation, acquisition of substantially all of the assets of Sonat or otherwise, including by operation of law. 11 12 (g) Taxes. Any payment or delivery required under this Agreement shall be subject to all requirements of the law with regard to withholding of taxes, filing, making of reports and the like, and Sonat shall use its best efforts to satisfy promptly all such requirements. (h) Governing Law. This Agreement shall be governed and construed in accordance with the laws of the State of Delaware. (i) Entire Agreement. This Agreement sets forth the entire agreement and understanding of the parties hereto with respect to the matters covered hereby. IN WITNESS WHEREOF, the parties have executed this Agreement as of the 1st day of December, 1995. SONAT INC. By: /s/ Ronald L. Kuehn, Jr. --------------------------------- Ronald L. Kuehn, Jr. Chairman of the Board, President and Chief Executive Officer /s/ William A. Smith ---------------------------------- William A. Smith 12 13 SCHEDULE SONAT INC. EXECUTIVES SIGNING NEW SEVERANCE AGREEMENT The following executives of Sonat Inc. executed severance agreements substantially identical to the Executive Severance Agreement dated December 1, 1995, between Sonat Inc. and William A. Smith: Thomas W. Barker, Jr. Richard B. Bates Beverley T. Krannich James E. Moylan, Jr. James A. Rubright 13 EX-10.8 5 EXECUTIVE SEVERANCE AGREEMENT - RONALD L. KUEHN,JR 1 EXHIBIT 10.8 EXECUTIVE SEVERANCE AGREEMENT, as amended and restated as of January 22, 1998, by and between Sonat Inc., a Delaware corporation ("Sonat"), and Ronald L. Kuehn, Jr. ("Executive"). WHEREAS, the Executive Compensation Committee of the Board of Directors of Sonat has recommended, and the Board of Directors has approved, that Sonat enter into severance agreements with key executives of Sonat who are from time to time designated by the Executive Compensation Committee; WHEREAS, Executive is a key executive of Sonat and has been selected by the Executive Compensation Committee and the Board of Directors to enter into a severance agreement with Sonat; WHEREAS, should Sonat become subject to any proposed or threatened Change of Control (as hereinafter defined), the Board of Directors believes it imperative that Sonat and the Board of Directors be able to rely upon Executive to continue in his position, and that Sonat be able to receive and rely upon his advice, if requested, as to the best interests of Sonat and its stockholders without concern that he might be distracted by the personal uncertainties and risks created by such a proposal or threat; WHEREAS, should Sonat receive any such proposals, in addition to Executive's regular duties, he may be called upon to assist in the assessment of such proposals, advise management and the Board of Directors as to whether such proposals would be in the best interests of Sonat and its stockholders, and to take such other actions as the Board of Directors might determine to be appropriate; and WHEREAS, Sonat and Executive wish to amend and restate the Executive Severance Agreement dated as of December 1, 1995, as set forth herein; NOW, THEREFORE, Sonat and Executive agree as follows: 1. Services During Certain Events. In the event a third person begins a tender or exchange offer, circulates a proxy to stockholders, or takes other steps to effect a Change of Control, Executive agrees that he will not voluntarily leave the employ of Sonat, and will render the services contemplated in the recitals to this Agreement, until the third person has abandoned or terminated his efforts to effect a Change of Control or until a Change of Control has occurred. 2. Termination Following Change of Control. Except as provided in Section 4 hereof, Sonat will provide or cause to be provided to Executive the 2 rights and benefits described in Section 3 hereof in the event that Executive's employment by Sonat is terminated: (a) at any time within three years following a Change of Control by Sonat for reasons other than for "cause" (as such term is defined in Section 4 hereof) or other than as a consequence of Executive's death, permanent disability or retirement under the Sonat Inc. Retirement Plan (the "Retirement Plan") on or after April 1, 2001 ("Normal Retirement Date"); (b) At any time within three years following a Change of Control by Executive following the occurrence of any of the following events without Executive's written consent: (i) the assignment of Executive to any duties or responsibilities that are inconsistent with his position, duties, responsibilities or status immediately preceding such Change of Control, or a change in his reporting responsibilities or titles in effect at such time resulting in a reduction of his responsibilities or position at Sonat; (ii) the reduction of Executive's annual salary (including any deferred portions thereof) or level of benefits or supplemental compensation; or (iii) the transfer of Executive to a location requiring a change in his residence or a material increase in the amount of travel normally required of Executive in connection with his employment by Sonat; or (c) by Executive for any reason during the 30-day period immediately following the first anniversary of the date of the Change of Control. For purposes of this Agreement, "Change of Control" shall mean: A. The acquisition by any individual, entity or group (within the meaning of Section 13(d)(3) or 14(d)(2) of the Securities Exchange Act of 1934, as amended (the "Exchange Act")) (a "Person") of beneficial ownership (within the meaning of Rule 13(d)-3 promulgated under the Exchange Act) of 20% or more of either (i) the then outstanding shares of common stock of Sonat (the "Outstanding Common Stock") or (ii) the combined voting power of the then outstanding voting securities of Sonat entitled to vote generally in the election of directors (the "Outstanding 2 3 Voting Securities"); provided, however, that for purposes of this subsection A, the following acquisitions shall not constitute a Change of Control: (i) any acquisition directly from Sonat, (ii) any acquisition by Sonat, (iii) any acquisition by any employee benefit plan (or related trust) sponsored or maintained by Sonat or any corporation controlled by Sonat or (iv) any acquisition by any corporation pursuant to a transaction which complies with clauses (i), (ii) and (iii) of subsection C; or B. Individuals who, as of the date hereof, constitute the Board of Directors (the "Incumbent Board") cease for any reason to constitute at least a majority of the Board of Directors; provided, however, that any individual becoming a director subsequent to the date hereof whose election, or nomination for election by Sonat's shareholders, was approved by a vote of at least a majority of the directors then comprising the Incumbent Board shall be considered as though such individual were a member of the Incumbent Board, but excluding, for this purpose, any such individual whose initial assumption of office occurs as a result of an actual or threatened election contest with respect to the election or removal of directors or other actual or threatened solicitation of proxies or consents by or on behalf of a Person other than the Board of Directors; or C. Consummation of a reorganization, merger or consolidation or sale or other disposition of all or substantially all of the assets of Sonat (a "Business Combination"), in each case, unless, following such Business Combination, (i) all or substantially all of the individuals and entities who were the beneficial owners, respectively, of the Outstanding Common Stock and Outstanding Voting Securities immediately prior to such Business Combination beneficially own, directly or indirectly, more than 50% of, respectively, the then outstanding shares of common stock and the combined voting power of the then outstanding voting securities entitled to vote generally in the election of directors, as the case may be, of the corporation resulting from such Business Combination (including, without limitation, a corporation which as a result of such transaction owns Sonat or all or substantially all of Sonat's assets either directly or through one or more subsidiaries) in substantially the same proportions as their ownership, immediately prior to such Business Combination, of the Outstanding Common Stock and Outstanding Voting Securities, as the case may be, (ii) no Person (excluding any corporation resulting from such Business Combination or any employee benefit plan (or related trust) of Sonat or such corporation resulting from such Business Combination) beneficially owns, directly or indirectly, 20% or more of, respectively, the then outstanding shares of common stock of the corporation resulting from such Business Combination or the combined voting power of the then outstanding voting securities of such corporation except to the extent that such ownership existed prior to the Business Combination and (iii) at least a majority of the members of the board of directors of the 3 4 corporation resulting from such Business Combination were members of the Incumbent Board at the time of the execution of the initial agreement, or of the action of the Board of Directors, providing for such Business Combination. 3. Rights and Benefits upon Termination. In the event of the termination of Executive's employment under any of the circumstances set forth in Section 2 hereof ("Termination"), Sonat agrees to provide or cause to be provided to Executive the following rights and benefits: (a) Salary and Other Payment at Termination. Executive shall be entitled to receive within 30 days of Termination a lump-sum payment in cash in the amount of three times Executive's highest Earnings (as such term is defined in this Section 3 (a)) with respect to any 12 consecutive month period during the three years ending with the date of Termination; provided, however, that if there are fewer than 36 months remaining from the date of Termination to Executive's Normal Retirement Date, the amount calculated pursuant to this paragraph will be reduced by multiplying such amount by a fraction, the numerator of which is the number of months (including any fraction of a month) so remaining to Executive's Normal Retirement Date and the denominator of which is 36. For purposes of this Agreement, "Earnings" shall mean the sum of (1) all base pay (including Before-Tax Contributions (as defined in Sonat's Savings Plan) made on behalf of Executive under Sonat's Savings Plan, and before-tax contributions by Executive to a plan established under Section 125 of the Internal Revenue Code, as amended (the "Code"), and sponsored by Sonat), overtime, cash bonuses (including bonuses paid under Sonat's Performance Award Plan, Cash Bonus Plan, Performance Award and Cash Bonus Plan, and All-Employee Incentive Program) and commissions paid to Executive for personal service rendered to Sonat and its subsidiaries and (2) workers' compensation payments or other comparable payments required to be made by law, received in lieu of base pay, but only to the extent that such payments do not exceed the rate of base pay of Executive immediately prior to the commencement of such payments. Notwithstanding the provisions of the foregoing sentence, Earnings shall not include (1) severance pay, bonuses, workers' compensation payments, payment for unused vacation, and payments similar to any of the foregoing, received after or on account of Executive's Termination, (2) any income attributable to restricted stock, options, stock appreciation rights, supplemental payments, or dividends on restricted stock, acquired pursuant to Sonat's Executive Award Plan, or (3) any Choice Dollars (as defined in Sonat's Choice Benefits Plan) allocated to 4 5 Executive under Sonat's Choice Benefits Plan, regardless of whether any Choice Dollars are paid to Executive in cash. (b) Retirement Benefits. If Executive (i) has at Termination attained the age of 50 and (ii) at Termination is not otherwise entitled to receive an early retirement benefit under the terms of a qualified retirement plan of Sonat or its subsidiaries, Sonat shall pay in cash to Executive a monthly benefit for life (a "Severance Retirement Benefit") in an amount equal to the difference between (a) the monthly benefit calculated under the early retirement provisions of the Retirement Plan (as in effect immediately prior to the Change of Control), using the early retirement benefit reduction factors applicable as of the later of age 55 or the Executive's actual age at his date of Termination, and (b) the monthly benefit payable to Executive under the Retirement Plan (as in effect on the date of Executive's Termination), assuming the following for purposes of clauses (a) and (b): (A) the benefit is payable in the form of a single life annuity as of the later of the date Executive attains age 55 and the date of Termination; (B) the benefit is calculated based on Executive's actual service and actual earnings history at the date of Termination; (C) Executive is fully vested in the benefit; and (D) the benefit is calculated under the assumption that Code Sections 401(a)(17) and 415 are nonexistent and the provisions of the Retirement Plan incorporating such Sections are inoperative. The Severance Retirement Benefit shall be paid commencing on the first day of the month following the later of the date Executive attains age 55 and the date of Termination, and shall not be affected by the settlement option or date of commencement of any benefit actually payable under the Retirement Plan or the Sonat Inc. Supplemental Benefit Plan. (c) Survivors' Benefits. If Executive is entitled to receive a Severance Retirement Benefit under Section 3(b) and Executive is survived by one or more Eligible Family Members (as such term is defined in the Retirement Plan as in effect immediately prior to the Change of Control), Sonat shall pay in cash to each such Eligible Family Member a monthly survivors' benefit (the "Severance Survivors' Benefit") in an amount equal to the excess of (i) over (ii), where (i) is the monthly survivors benefit that would have been payable to such Eligible Family Member under the Retirement Plan (as in effect immediately prior to the Change of Control) with respect to Executive if Executive's retirement benefit were calculated under the early retirement provisions of such plan, using the early retirement benefit reduction factors applicable as of the later of age 55 or Executive's actual age at his date of Termination, and assuming (A) the retirement benefit is payable in the form of 5 6 a single life annuity as of the later of the date Executive attains age 55 and the date of Termination; (B) the retirement benefit is calculated based on Executive's actual service and actual earnings history at the date of Termination; (C) Executive is fully vested in the retirement benefit; and (D) the retirement benefit is calculated under the assumption that Code Sections 401(a)(17) and 415 are nonexistent and the provisions of the Retirement Plan incorporating such Sections are inoperative; and (ii) is the amount actually paid to such Eligible Family Member for such month as a Survivors' Benefit under the Retirement Plan and as an Excess Retirement Plan Benefit under the Sonat Inc. Supplemental Benefit Plan. Payment of the Severance Survivors' Benefit shall commence on the first day of the month following the death of Executive. (d) Insurance and Other Special Benefits. To the extent Executive is eligible thereunder, Executive shall continue to be covered by the life and dependent life insurance, medical and dental insurance, and accident and disability insurance plans of Sonat and its subsidiaries or any successor plan or program in effect at Termination for employees in the same class or category as Executive, subject to the terms of such plans and to Executive's making any required contributions thereto. In the event Executive is ineligible to continue to be so covered under the terms of any such benefit plan or program, or, in the event Executive is eligible but the benefits applicable to Executive are not substantially equivalent to the benefits applicable to Executive immediately prior to Termination, then, for a period of 36 months following Termination (or until Executive's Normal Retirement Date, whichever is sooner), Sonat shall provide such substantially equivalent benefits, or such additional benefits as may be necessary to make the benefits applicable to Executive substantially equivalent to those in effect before Termination, through other sources; provided, however, that if during such period Executive should enter into the employ of another company or firm which provides substantially similar benefit coverage, Executive's participation in the comparable benefit provided by Sonat either directly or through such other sources shall cease. Nothing contained in this paragraph shall be deemed to require or permit termination or restriction of Executive's coverage under any plan or program of Sonat or any of its subsidiaries or any successor plan or program thereto to which Executive is entitled 6 7 under the terms of such plan or program, whether at the end of the aforementioned 36-month period or at any other time. (e) Relocation Assistance. Should Executive move his residence in order to pursue other business opportunities within three years of the date of Termination (or until his Normal Retirement Date, whichever is sooner), Sonat shall reimburse him for any expenses incurred in that relocation (including taxes payable on the reimbursement) which are not reimbursed by another employer; provided, however, that Executive shall be entitled to such reimbursement with respect to only one such relocation, it being agreed that in the event of more than one such relocation, Executive shall be entitled to specify the relocation for which reimbursement hereunder is to be made. Benefits under this provision will include the assistance, at no cost to Executive, in selling his home and other assistance which was customarily provided to executives transferred within Sonat or between Sonat and its subsidiaries prior to the Change of Control. (f) Other Benefit Plans. The specific arrangements referred to in this Section 3 are not intended to exclude Executive's participation in other benefit plans in which Executive currently participates or which are available to executive personnel generally in the class or category of Executive or to preclude other compensation or benefits as may be authorized by the Board of Directors from time to time. (g) Duty to Mitigate. Executive's entitlement to benefits hereunder shall not be governed by any duty to mitigate his damages by seeking further employment nor offset by any compensation which he may receive from future employment. (h) Payment Obligations Absolute. Sonat's obligation to pay or cause to be paid to Executive the benefits and to make the arrangements provided in this Section 3 shall be absolute and unconditional and shall not be affected by any circumstances, including, without limitation, any setoff, counterclaim, recoupment, defense or other right, which Sonat may have against Executive or anyone else. All amounts payable by or on behalf of Sonat hereunder shall be paid without notice or demand. Each and every payment made hereunder by or on behalf of Sonat shall be final and Sonat and its subsidiaries shall not, for any reason whatsoever, seek to recover all or any part of such payment from Executive or from whomever shall be entitled thereto. 7 8 4. Conditions to the Obligations of Sonat. Sonat shall have no obligation to provide or cause to be provided to Executive the rights and benefits described in Section 3 hereof if either of the following events shall occur: (a) Termination for Cause. Sonat shall terminate Executive's employment for "cause". For purposes of this Agreement, termination of employment for "cause" shall mean termination solely for dishonesty, conviction of a felony, or willful unauthorized disclosure of confidential information of Sonat. (b) Resignation as Director. Executive shall not, promptly after Termination and upon receiving a written request to do so, resign as a director and/or officer of each subsidiary and affiliate of Sonat of which he is then serving as a director and/or officer. 5. Confidentiality; Non-Solicitation; Cooperation. (a) Confidentiality. Executive agrees that at all times following Termination, he will not, without the prior written consent of Sonat, disclose to any person, firm or corporation any confidential information of Sonat or its subsidiaries which is now known to him or which hereafter may become known to him as a result of his employment or association with Sonat and which could be helpful to a competitor, unless such disclosure is required under the terms of a valid and effective subpoena or order issued by a court or governmental body; provided, however, that the foregoing shall not apply to confidential information which becomes publicly disseminated by means other than a breach of this Agreement. (b) Non-Solicitation. Executive agrees that for a period of three years following the date of Termination (or until Executive's Normal Retirement Date, whichever is sooner) he will not induce, either directly or indirectly, any employee of senior to manager level of Sonat or any of its subsidiaries to terminate his or her employment. (c) Cooperation. Executive agrees that, at all times following Termination, he will furnish such information and render such assistance and cooperation as may reasonably be requested in connection with any litigation or legal proceedings concerning Sonat or any of its subsidiaries (other than any legal proceedings concerning Executive's employment). In connection with such cooperation, Sonat will pay or reimburse Executive for reasonable expenses. (d) Remedies for Breach. It is recognized that damages in the event of breach of this Section 5 by Executive would be difficult, if not impossible, to ascertain, and it is therefore agreed that Sonat, in addition to and without limiting any other remedy or right it may have, shall have 8 9 the right to an injunction or other equitable relief in any court of competent jurisdiction, enjoining any such breach, and Executive hereby waives any and all defenses he may have on the ground of lack of jurisdiction or competence of the court to grant such an injunction or other equitable relief. The existence of this right shall not preclude Sonat from pursuing any other rights and remedies at law or in equity which Sonat may have. 6. Certain Additional Payments by Sonat. (a) Anything in this Agreement to the contrary notwithstanding and except as set forth below, in the event it shall be determined that any payment or distribution by Sonat to or for the benefit of Executive (whether paid or payable or distributed or distributable pursuant to the terms of this Agreement or otherwise, but determined without regard to any additional payments required under this Section 6) (a "Payment") would be subject to the excise tax imposed by Section 4999 of the Code or any interest or penalties are incurred by Executive with respect to such excise tax (such excise tax, together with any such interest and penalties, are hereinafter collectively referred to as the "Excise Tax"), then Executive shall be entitled to receive an additional payment (a "Gross-Up Payment") in an amount such that after payment by Executive of all federal income taxes (including any interest or penalties imposed with respect to such taxes), including, without limitation, any federal income taxes (and any interest and penalties imposed with respect thereto) and Excise Tax imposed upon the Gross-Up Payment, Executive retains an amount of the Gross-Up Payment equal to the Excise Tax imposed upon the Payments. Notwithstanding the foregoing provisions of this Section 6(a), if it shall be determined that Executive is entitled to a Gross-Up Payment, but that Executive, after taking into account the Payments and the Gross-Up Payment, would not receive a net after-tax benefit of at least $50,000 (taking into account both federal income taxes and any Excise Tax) as compared to the net after-tax proceeds to Executive resulting from an elimination of the Gross-Up Payment and a reduction of the Payments, in the aggregate, to an amount (the "Reduced Amount") such that the receipt of Payments would not give rise to any Excise Tax, then no Gross-Up Payment shall be made to Executive and the Payments, in the aggregate, shall be reduced to the Reduced Amount. (b) Subject to the provisions of Section 6(c), all determinations required to be made under this Section 6, including whether and when a Gross-Up Payment is required and the amount of such Gross-Up Payment and the assumptions to be utilized in arriving at such determination, shall be made by Ernst & Young LLP or such other certified public accounting firm as may be designated by Executive (the "Accounting Firm"), which shall provide detailed supporting calculations both to Sonat and Executive within 15 business days of the receipt of 9 10 notice from Executive that there has been a Payment or such earlier time as is requested by Sonat. In the event that the Accounting Firm is serving as accountant or auditor for the individual, entity or group effecting a Change of Control, Executive shall appoint another nationally recognized accounting firm to make the determinations required hereunder (which accounting firm shall then be referred to as the Accounting Firm hereunder). All fees and expenses of the Accounting Firm shall be borne solely by Sonat. Any Gross-Up Payment shall be paid by Sonat to Executive within five days of the receipt of the Accounting Firm's determination. Any determination by the Accounting Firm shall be binding upon Sonat and Executive. As a result of the uncertainty in the application of Section 4999 of the Code at the time of the initial determination by the Accounting Firm hereunder, it is possible that Gross-Up Payments which will not have been made by Sonat should have been made ("Underpayment"), consistent with the calculations required to be made hereunder. In the event that Sonat exhausts its remedies pursuant to Section 6(c) and Executive thereafter is required to make a payment of any Excise Tax, the Accounting Firm shall determine the amount of the Underpayment that has occurred and any such Underpayment shall be promptly paid by Sonat to or for the benefit of Executive. (c) Executive shall notify Sonat in writing of any claim by the Internal Revenue Service that, if successful, would require the payment by Sonat of a Gross-Up Payment. Such notification shall be given as soon as practicable but no later than ten business days after Executive is informed in writing of such claim and shall apprise Sonat of the nature of such claim and the date on which such claim is requested to be paid. Executive shall not pay such claim prior to the expiration of the 30-day period following the date on which it gives such notice to Sonat (or such shorter period ending on the date that any payment of taxes with respect to such claim is due). If Sonat notifies Executive in writing prior to the expiration of such period that it desires to contest such claim, Executive shall: (i) give Sonat any information reasonably requested by Sonat relating to such claim, (ii) take such action in connection with contesting such claim as Sonat shall reasonably request in writing from time to time, including without limitation, accepting legal representation with respect to such claim by an attorney reasonably selected by Sonat, (iii) cooperate with Sonat in good faith in order effectively to contest such claim, and 10 11 (iv) permit Sonat to participate in any proceedings relating to such claim; provided, however, that Sonat shall bear and pay directly all costs and expenses (including additional interest and penalties) incurred in connection with such contest and shall indemnify and hold Executive harmless, on an after-tax basis, for any Excise Tax or federal income tax (including interest and penalties with respect thereto) imposed as a result of such representation and payment of costs and expenses. Without limitation on the foregoing provisions of this Section 6(c), Sonat shall control all proceedings taken in connection with such contest and, at its sole option, may pursue or forgo any and all administrative appeals, proceedings, hearings and conferences with the taxing authority in respect of such claim and may, at its sole option, either direct Executive to pay the tax claimed and sue for a refund or to contest the claim in any permissible manner, and Executive agrees to prosecute such contest to a determination before any administrative tribunal, in a court of initial jurisdiction and in one or more appellate courts, as Sonat shall determine; provided, however, that if Sonat directs Executive to pay such claim and sue for a refund, Sonat shall advance the amount of such payment to Executive, on an interest-free basis, and shall indemnify and hold Executive harmless on an after-tax basis, from any Excise Tax or federal income tax (including interest or penalties with respect thereto) imposed with respect to such advance or with respect to any imputed income with respect to such advance; and further provided that any extension of the statute of limitations relating to payment of taxes for the taxable year of Executive with respect to such contested amount is claimed to be due is limited solely to such contested amount. Furthermore, Sonat's control of the contest shall be limited to issues with respect to which a Gross-Up Payment would be payable hereunder, and Executive shall be entitled to settle or contest, as the case may be, any other issue raised by the Internal Revenue Service or any other taxing authority. (d) If, after the receipt by Executive of an amount advanced by Sonat pursuant to Section 6(c), Executive becomes entitled to receive any refund with respect to such claim, Executive shall (subject to Sonat's complying with the requirements of Section 6(c)) promptly pay to Sonat the amount of such refund (together with any interest paid or credited thereon after taxes applicable thereto). If, after the receipt by Executive of an amount advanced by Sonat pursuant to Section 6(c), a determination is made that Executive shall not be entitled to any refund with respect to such claim and Sonat does not notify Executive in writing of its intent to contest such denial of refund prior to the expiration of 30 days after such determination, then such advance shall be forgiven and shall not be required to be repaid and the amount of such advance shall offset, to the extent thereof, the amount of Gross-Up Payment required to be paid. 11 12 7. Term of Agreement. This Agreement shall terminate on April 30, 1999; provided, however, that this Agreement shall automatically renew for successive one-year terms unless the Board of Directors notifies Executive in writing at least 30 days prior to an April 30 expiration date that it does not desire to renew the Agreement for an additional term; and provided further, however, that this Agreement shall terminate prior to April 30, 1999 or, in the event of a renewal of this Agreement, any subsequent April 30, if and when the Executive Compensation Committee determines that Executive is no longer a key executive for purposes of being a party to an executive severance agreement with Sonat and so notifies Executive, except that such determination shall not be made, and if made shall have no effect, (i) within three years after a Change of Control or (ii) during any period of time when Sonat has reason to believe that any third person has begun a tender or exchange offer, circulated a proxy to stockholders, or taken other steps or formulated plans to effect a Change of Control, such period of time to end when, in the opinion of the Executive Compensation Committee, the third person has abandoned or terminated his efforts or plans to effect a Change of Control. 8. Expenses. Sonat shall pay or reimburse Executive for all costs and expenses, including, without limitation, court costs and attorneys' fees, incurred by Executive as a result of any claim, action or proceeding (including, without limitation, a claim, action or proceeding by Executive against Sonat) arising out of, or challenging the validity or enforceability of, this Agreement or any provision hereof. 9. Miscellaneous. (a) Assignment. No right, benefit or interest hereunder shall be subject to assignment, anticipation, alienation, sale, encumbrance, charge, pledge, hypothecation or set-off in respect of any claim, debt or obligation, or to execution, attachment, levy or similar process; provided, however, that Executive may assign any right, benefit or interest hereunder if such assignment is permitted under the terms of any plan or policy of insurance or annuity contract governing such right, benefit or interest. (b) Construction of Agreement. Nothing in this Agreement shall be construed to amend any provision of any plan or policy of Sonat. This Agreement is not, and nothing herein shall be deemed to create, a commitment of continued employment of Executive by Sonat or any of its subsidiaries. (c) Amendment. This Agreement may not be amended, modified or canceled except by written agreement of the parties. 12 13 (d) Waiver. No provision of this Agreement may be waived except by a writing signed by the party to be bound thereby. Executive may at any time or from time to time waive any or all of the rights and benefits provided for herein which have not been received by Executive at the time of such waiver. In addition, prior to the last day of the calendar year in which Executive's Termination occurs, Executive may waive any or all rights and benefits provided for herein which have been received by Executive; provided that prior to the end of such year Executive repays to Sonat (or, if the benefit was received from an employee benefit plan trust, to such trust) the amount of the benefit received together with interest thereon at the minimum rate required to avoid imputed income. Any waiver of benefits pursuant to this paragraph shall be irrevocable. If Executive waives a right or benefit provided for herein and such waiver is determined by the Internal Revenue Service not to be effective, Sonat shall indemnify Executive for any federal income and excise taxes he incurs as a result of that determination, so as to put Executive in the position he would have been in had the waiver been given effect. (e) Severability. In the event that any provision or portion of this Agreement shall be determined to be invalid or unenforceable for any reason, the remaining provisions of this Agreement shall remain in full force and effect to the fullest extent permitted by law. (f) Successors. This Agreement shall be binding upon and inure to the benefit of Executive and his personal representative and heirs, and Sonat and any successor organization or organizations which shall succeed to substantially all of the business and property of Sonat, whether by means of merger, consolidation, acquisition of substantially all of the assets of Sonat or otherwise, including by operation of law. (g) Taxes. Any payment or delivery required under this Agreement shall be subject to all requirements of the law with regard to withholding of taxes, filing, making of reports and the like, and Sonat shall use its best efforts to satisfy promptly all such requirements. (h) Governing Law. This Agreement shall be governed and construed in accordance with the laws of the State of Delaware. (i) Entire Agreement. This Agreement sets forth the entire agreement and understanding of the parties hereto with respect to the matters covered hereby. 13 14 IN WITNESS WHEREOF, the parties have executed this Agreement as of January 22, 1998. SONAT INC. By:/s/ William A. Smith --------------------------------- William A. Smith Executive Vice President and General Counsel /s/ Ronald L. Kuehn, Jr. --------------------------------- Ronald L. Kuehn, Jr. 14 EX-10.9 6 EXECUTIVE SEVERANCE AGREEMENT - DONALD G. RUSSELL 1 EXHIBIT 10.9 EXECUTIVE SEVERANCE AGREEMENT, as amended and restated as of January 22, 1998, by and between Sonat Inc., a Delaware corporation ("Sonat"), and Donald G. Russell ("Executive"). WHEREAS, the Executive Compensation Committee of the Board of Directors of Sonat has recommended, and the Board of Directors has approved, that Sonat enter into severance agreements with key executives of Sonat who are from time to time designated by the Executive Compensation Committee; WHEREAS, Executive is a key executive of Sonat and has been selected by the Executive Compensation Committee and the Board of Directors to enter into a severance agreement with Sonat; WHEREAS, should Sonat become subject to any proposed or threatened Change of Control (as hereinafter defined), the Board of Directors believes it imperative that Sonat and the Board of Directors be able to rely upon Executive to continue in his position, and that Sonat be able to receive and rely upon his advice, if requested, as to the best interests of Sonat and its stockholders without concern that he might be distracted by the personal uncertainties and risks created by such a proposal or threat; WHEREAS, should Sonat receive any such proposals, in addition to Executive's regular duties, he may be called upon to assist in the assessment of such proposals, advise management and the Board of Directors as to whether such proposals would be in the best interests of Sonat and its stockholders, and to take such other actions as the Board of Directors might determine to be appropriate; and WHEREAS, Sonat and Executive wish to amend and restate the Executive Severance Agreement dated as of December 1, 1995, as set forth herein; NOW, THEREFORE, Sonat and Executive agree as follows: 1. Services During Certain Events. In the event a third person begins a tender or exchange offer, circulates a proxy to stockholders, or takes other steps to effect a Change of Control, Executive agrees that he will not voluntarily leave the employ of Sonat, and will render the services contemplated in the recitals to this Agreement, until the third person has abandoned or terminated his efforts to effect a Change of Control or until a Change of Control has occurred. 2. Termination Following Change of Control. Except as provided in Section 4 hereof, Sonat will provide or cause to be provided to Executive the 2 rights and benefits described in Section 3 hereof in the event that Executive's employment by Sonat is terminated: (a) at any time within three years following a Change of Control by Sonat for reasons other than for "cause" (as such term is defined in Section 4 hereof) or other than as a consequence of Executive's death, permanent disability or retirement under the Sonat Inc. Retirement Plan (the "Retirement Plan") on or after January 1, 2000 ("Normal Retirement Date"); (b) At any time within three years following a Change of Control by Executive following the occurrence of any of the following events without Executive's written consent: (i) the assignment of Executive to any duties or responsibilities that are inconsistent with his position, duties, responsibilities or status immediately preceding such Change of Control, or a change in his reporting responsibilities or titles in effect at such time resulting in a reduction of his responsibilities or position at Sonat; (ii) the reduction of Executive's annual salary (including any deferred portions thereof) or level of benefits or supplemental compensation; or (iii) the transfer of Executive to a location requiring a change in his residence or a material increase in the amount of travel normally required of Executive in connection with his employment by Sonat; or (c) by Executive for any reason during the 30-day period immediately following the first anniversary of the date of the Change of Control. For purposes of this Agreement, "Change of Control" shall mean: A. The acquisition by any individual, entity or group (within the meaning of Section 13(d)(3) or 14(d)(2) of the Securities Exchange Act of 1934, as amended (the "Exchange Act")) (a "Person") of beneficial ownership (within the meaning of Rule 13(d)-3 promulgated under the Exchange Act) of 20% or more of either (i) the then outstanding shares of common stock of Sonat (the "Outstanding Common Stock") or (ii) the combined voting power of the then outstanding voting securities of Sonat entitled to vote generally in the election of directors (the "Outstanding -2- 3 Voting Securities"); provided, however, that for purposes of this subsection A, the following acquisitions shall not constitute a Change of Control: (i) any acquisition directly from Sonat, (ii) any acquisition by Sonat, (iii) any acquisition by any employee benefit plan (or related trust) sponsored or maintained by Sonat or any corporation controlled by Sonat or (iv) any acquisition by any corporation pursuant to a transaction which complies with clauses (i), (ii) and (iii) of subsection C; or B. Individuals who, as of the date hereof, constitute the Board of Directors (the "Incumbent Board") cease for any reason to constitute at least a majority of the Board of Directors; provided, however, that any individual becoming a director subsequent to the date hereof whose election, or nomination for election by Sonat's shareholders, was approved by a vote of at least a majority of the directors then comprising the Incumbent Board shall be considered as though such individual were a member of the Incumbent Board, but excluding, for this purpose, any such individual whose initial assumption of office occurs as a result of an actual or threatened election contest with respect to the election or removal of directors or other actual or threatened solicitation of proxies or consents by or on behalf of a Person other than the Board of Directors; or C. Consummation of a reorganization, merger or consolidation or sale or other disposition of all or substantially all of the assets of Sonat (a "Business Combination"), in each case, unless, following such Business Combination, (i) all or substantially all of the individuals and entities who were the beneficial owners, respectively, of the Outstanding Common Stock and Outstanding Voting Securities immediately prior to such Business Combination beneficially own, directly or indirectly, more than 50% of, respectively, the then outstanding shares of common stock and the combined voting power of the then outstanding voting securities entitled to vote generally in the election of directors, as the case may be, of the corporation resulting from such Business Combination (including, without limitation, a corporation which as a result of such transaction owns Sonat or all or substantially all of Sonat's assets either directly or through one or more subsidiaries) in substantially the same proportions as their ownership, immediately prior to such Business Combination, of the Outstanding Common Stock and Outstanding Voting Securities, as the case may be, (ii) no Person (excluding any corporation resulting from such Business Combination or any employee benefit plan (or related trust) of Sonat or such corporation resulting from such Business Combination) beneficially owns, directly or indirectly, 20% or more of, respectively, the then outstanding shares of common stock of the corporation resulting from such Business Combination or the combined voting power of the then outstanding voting securities of such corporation except to the extent that such ownership existed prior to the Business Combination and (iii) at least a majority of the members of the board of directors of the 3 4 corporation resulting from such Business Combination were members of the Incumbent Board at the time of the execution of the initial agreement, or of the action of the Board of Directors, providing for such Business Combination. 3. Rights and Benefits upon Termination. In the event of the termination of Executive's employment under any of the circumstances set forth in Section 2 hereof ("Termination"), Sonat agrees to provide or cause to be provided to Executive the following rights and benefits: (a) Salary and Other Payment at Termination. Executive shall be entitled to receive within 30 days of Termination a lump-sum payment in cash in the amount of three times Executive's highest Earnings (as such term is defined in this Section 3 (a)) with respect to any 12 consecutive month period during the three years ending with the date of Termination; provided, however, that if there are fewer than 36 months remaining from the date of Termination to Executive's Normal Retirement Date, the amount calculated pursuant to this paragraph will be reduced by multiplying such amount by a fraction, the numerator of which is the number of months (including any fraction of a month) so remaining to Executive's Normal Retirement Date and the denominator of which is 36. For purposes of this Agreement, "Earnings" shall mean the sum of (1) all base pay (including Before-Tax Contributions (as defined in Sonat's Savings Plan) made on behalf of Executive under Sonat's Savings Plan, and before-tax contributions by Executive to a plan established under Section 125 of the Internal Revenue Code, as amended (the "Code"), and sponsored by Sonat), overtime, cash bonuses (including bonuses paid under Sonat's Performance Award Plan, Cash Bonus Plan, Performance Award and Cash Bonus Plan, and All-Employee Incentive Program) and commissions paid to Executive for personal service rendered to Sonat and its subsidiaries and (2) workers' compensation payments or other comparable payments required to be made by law, received in lieu of base pay, but only to the extent that such payments do not exceed the rate of base pay of Executive immediately prior to the commencement of such payments. Notwithstanding the provisions of the foregoing sentence, Earnings shall not include (1) severance pay, bonuses, workers' compensation payments, payment for unused vacation, and payments similar to any of the foregoing, received after or on account of Executive's Termination, (2) any income attributable to restricted stock, options, stock appreciation rights, supplemental payments, or dividends on restricted stock, acquired pursuant to Sonat's Executive Award Plan, or (3) any Choice Dollars (as defined in Sonat's Choice Benefits Plan) allocated to 4 5 Executive under Sonat's Choice Benefits Plan, regardless of whether any Choice Dollars are paid to Executive in cash. (b) Retirement Benefits. If Executive (i) has at Termination attained the age of 50 and (ii) at Termination is not otherwise entitled to receive an early retirement benefit under the terms of a qualified retirement plan of Sonat or its subsidiaries, Sonat shall pay in cash to Executive a monthly benefit for life (a "Severance Retirement Benefit") in an amount equal to the difference between (a) the monthly benefit calculated under the early retirement provisions of the Retirement Plan (as in effect immediately prior to the Change of Control), using the early retirement benefit reduction factors applicable as of the later of age 55 or the Executive's actual age at his date of Termination, and (b) the monthly benefit payable to Executive under the Retirement Plan (as in effect on the date of Executive's Termination), assuming the following for purposes of clauses (a) and (b): (A) the benefit is payable in the form of a single life annuity as of the later of the date Executive attains age 55 and the date of Termination; (B) the benefit is calculated based on Executive's actual service and actual earnings history at the date of Termination; (C) Executive is fully vested in the benefit; and (D) the benefit is calculated under the assumption that Code Sections 401(a)(17) and 415 are nonexistent and the provisions of the Retirement Plan incorporating such Sections are inoperative. The Severance Retirement Benefit shall be paid commencing on the first day of the month following the later of the date Executive attains age 55 and the date of Termination, and shall not be affected by the settlement option or date of commencement of any benefit actually payable under the Retirement Plan or the Sonat Inc. Supplemental Benefit Plan. (c) Survivors' Benefits. If Executive is entitled to receive a Severance Retirement Benefit under Section 3(b) and Executive is survived by one or more Eligible Family Members (as such term is defined in the Retirement Plan as in effect immediately prior to the Change of Control), Sonat shall pay in cash to each such Eligible Family Member a monthly survivors' benefit (the "Severance Survivors' Benefit") in an amount equal to the excess of (i) over (ii), where (i) is the monthly survivors benefit that would have been payable to such Eligible Family Member under the Retirement Plan (as in effect immediately prior to the Change of Control) with respect to Executive if Executive's retirement benefit were calculated under the early retirement provisions of such plan, using the early retirement benefit reduction factors applicable as of the later of age 55 or Executive's actual age at his date of Termination, and assuming (A) the retirement benefit is payable in the form of 5 6 a single life annuity as of the later of the date Executive attains age 55 and the date of Termination; (B) the retirement benefit is calculated based on Executive's actual service and actual earnings history at the date of Termination; (C) Executive is fully vested in the retirement benefit; and (D) the retirement benefit is calculated under the assumption that Code Sections 401(a)(17) and 415 are nonexistent and the provisions of the Retirement Plan incorporating such Sections are inoperative; and (ii) is the amount actually paid to such Eligible Family Member for such month as a Survivors' Benefit under the Retirement Plan and as an Excess Retirement Plan Benefit under the Sonat Inc. Supplemental Benefit Plan. Payment of the Severance Survivors' Benefit shall commence on the first day of the month following the death of Executive. (d) Insurance and Other Special Benefits. To the extent Executive is eligible thereunder, Executive shall continue to be covered by the life and dependent life insurance, medical and dental insurance, and accident and disability insurance plans of Sonat and its subsidiaries or any successor plan or program in effect at Termination for employees in the same class or category as Executive, subject to the terms of such plans and to Executive's making any required contributions thereto. In the event Executive is ineligible to continue to be so covered under the terms of any such benefit plan or program, or, in the event Executive is eligible but the benefits applicable to Executive are not substantially equivalent to the benefits applicable to Executive immediately prior to Termination, then, for a period of 36 months following Termination (or until Executive's Normal Retirement Date, whichever is sooner), Sonat shall provide such substantially equivalent benefits, or such additional benefits as may be necessary to make the benefits applicable to Executive substantially equivalent to those in effect before Termination, through other sources; provided, however, that if during such period Executive should enter into the employ of another company or firm which provides substantially similar benefit coverage, Executive's participation in the comparable benefit provided by Sonat either directly or through such other sources shall cease. Nothing contained in this paragraph shall be deemed to require or permit termination or restriction of Executive's coverage under any plan or program of Sonat or any of its subsidiaries or any successor plan or program thereto to which Executive is entitled 6 7 under the terms of such plan or program, whether at the end of the aforementioned 36-month period or at any other time. (e) Relocation Assistance. Should Executive move his residence in order to pursue other business opportunities within three years of the date of Termination (or until his Normal Retirement Date, whichever is sooner), Sonat shall reimburse him for any expenses incurred in that relocation (including taxes payable on the reimbursement) which are not reimbursed by another employer; provided, however, that Executive shall be entitled to such reimbursement with respect to only one such relocation, it being agreed that in the event of more than one such relocation, Executive shall be entitled to specify the relocation for which reimbursement hereunder is to be made. Benefits under this provision will include the assistance, at no cost to Executive, in selling his home and other assistance which was customarily provided to executives transferred within Sonat or between Sonat and its subsidiaries prior to the Change of Control. (f) Other Benefit Plans. The specific arrangements referred to in this Section 3 are not intended to exclude Executive's participation in other benefit plans in which Executive currently participates or which are available to executive personnel generally in the class or category of Executive or to preclude other compensation or benefits as may be authorized by the Board of Directors from time to time. (g) Duty to Mitigate. Executive's entitlement to benefits hereunder shall not be governed by any duty to mitigate his damages by seeking further employment nor offset by any compensation which he may receive from future employment. (h) Payment Obligations Absolute. Sonat's obligation to pay or cause to be paid to Executive the benefits and to make the arrangements provided in this Section 3 shall be absolute and unconditional and shall not be affected by any circumstances, including, without limitation, any setoff, counterclaim, recoupment, defense or other right, which Sonat may have against Executive or anyone else. All amounts payable by or on behalf of Sonat hereunder shall be paid without notice or demand. Each and every payment made hereunder by or on behalf of Sonat shall be final and Sonat and its subsidiaries shall not, for any reason whatsoever, seek to recover all or any part of such payment from Executive or from whomever shall be entitled thereto. 7 8 4. Conditions to the Obligations of Sonat. Sonat shall have no obligation to provide or cause to be provided to Executive the rights and benefits described in Section 3 hereof if either of the following events shall occur: (a) Termination for Cause. Sonat shall terminate Executive's employment for "cause". For purposes of this Agreement, termination of employment for "cause" shall mean termination solely for dishonesty, conviction of a felony, or willful unauthorized disclosure of confidential information of Sonat. (b) Resignation as Director. Executive shall not, promptly after Termination and upon receiving a written request to do so, resign as a director and/or officer of each subsidiary and affiliate of Sonat of which he is then serving as a director and/or officer. 5. Confidentiality; Non-Solicitation; Cooperation. (a) Confidentiality. Executive agrees that at all times following Termination, he will not, without the prior written consent of Sonat, disclose to any person, firm or corporation any confidential information of Sonat or its subsidiaries which is now known to him or which hereafter may become known to him as a result of his employment or association with Sonat and which could be helpful to a competitor, unless such disclosure is required under the terms of a valid and effective subpoena or order issued by a court or governmental body; provided, however, that the foregoing shall not apply to confidential information which becomes publicly disseminated by means other than a breach of this Agreement. (b) Non-Solicitation. Executive agrees that for a period of three years following the date of Termination (or until Executive's Normal Retirement Date, whichever is sooner) he will not induce, either directly or indirectly, any employee of senior to manager level of Sonat or any of its subsidiaries to terminate his or her employment. (c) Cooperation. Executive agrees that, at all times following Termination, he will furnish such information and render such assistance and cooperation as may reasonably be requested in connection with any litigation or legal proceedings concerning Sonat or any of its subsidiaries (other than any legal proceedings concerning Executive's employment). In connection with such cooperation, Sonat will pay or reimburse Executive for reasonable expenses. (d) Remedies for Breach. It is recognized that damages in the event of breach of this Section 5 by Executive would be difficult, if not impossible, to ascertain, and it is therefore agreed that Sonat, in addition to and without limiting any other remedy or right it may have, shall have 8 9 the right to an injunction or other equitable relief in any court of competent jurisdiction, enjoining any such breach, and Executive hereby waives any and all defenses he may have on the ground of lack of jurisdiction or competence of the court to grant such an injunction or other equitable relief. The existence of this right shall not preclude Sonat from pursuing any other rights and remedies at law or in equity which Sonat may have. 6. Certain Additional Payments by Sonat. (a) Anything in this Agreement to the contrary notwithstanding and except as set forth below, in the event it shall be determined that any payment or distribution by Sonat to or for the benefit of Executive (whether paid or payable or distributed or distributable pursuant to the terms of this Agreement or otherwise, but determined without regard to any additional payments required under this Section 6) (a "Payment") would be subject to the excise tax imposed by Section 4999 of the Code or any interest or penalties are incurred by Executive with respect to such excise tax (such excise tax, together with any such interest and penalties, are hereinafter collectively referred to as the "Excise Tax"), then Executive shall be entitled to receive an additional payment (a "Gross-Up Payment") in an amount such that after payment by Executive of all federal income taxes (including any interest or penalties imposed with respect to such taxes), including, without limitation, any federal income taxes (and any interest and penalties imposed with respect thereto) and Excise Tax imposed upon the Gross-Up Payment, Executive retains an amount of the Gross-Up Payment equal to the Excise Tax imposed upon the Payments. Notwithstanding the foregoing provisions of this Section 6(a), if it shall be determined that Executive is entitled to a Gross-Up Payment, but that Executive, after taking into account the Payments and the Gross-Up Payment, would not receive a net after-tax benefit of at least $50,000 (taking into account both federal income taxes and any Excise Tax) as compared to the net after-tax proceeds to Executive resulting from an elimination of the Gross-Up Payment and a reduction of the Payments, in the aggregate, to an amount (the "Reduced Amount") such that the receipt of Payments would not give rise to any Excise Tax, then no Gross-Up Payment shall be made to Executive and the Payments, in the aggregate, shall be reduced to the Reduced Amount. (b) Subject to the provisions of Section 6(c), all determinations required to be made under this Section 6, including whether and when a Gross-Up Payment is required and the amount of such Gross-Up Payment and the assumptions to be utilized in arriving at such determination, shall be made by Ernst & Young LLP or such other certified public accounting firm as may be designated by Executive (the "Accounting Firm"), which shall provide detailed supporting calculations both to Sonat and Executive within 15 business days of the receipt of 9 10 notice from Executive that there has been a Payment or such earlier time as is requested by Sonat. In the event that the Accounting Firm is serving as accountant or auditor for the individual, entity or group effecting a Change of Control, Executive shall appoint another nationally recognized accounting firm to make the determinations required hereunder (which accounting firm shall then be referred to as the Accounting Firm hereunder). All fees and expenses of the Accounting Firm shall be borne solely by Sonat. Any Gross-Up Payment shall be paid by Sonat to Executive within five days of the receipt of the Accounting Firm's determination. Any determination by the Accounting Firm shall be binding upon Sonat and Executive. As a result of the uncertainty in the application of Section 4999 of the Code at the time of the initial determination by the Accounting Firm hereunder, it is possible that Gross-Up Payments which will not have been made by Sonat should have been made ("Underpayment"), consistent with the calculations required to be made hereunder. In the event that Sonat exhausts its remedies pursuant to Section 6(c) and Executive thereafter is required to make a payment of any Excise Tax, the Accounting Firm shall determine the amount of the Underpayment that has occurred and any such Underpayment shall be promptly paid by Sonat to or for the benefit of Executive. (c) Executive shall notify Sonat in writing of any claim by the Internal Revenue Service that, if successful, would require the payment by Sonat of a Gross-Up Payment. Such notification shall be given as soon as practicable but no later than ten business days after Executive is informed in writing of such claim and shall apprise Sonat of the nature of such claim and the date on which such claim is requested to be paid. Executive shall not pay such claim prior to the expiration of the 30-day period following the date on which it gives such notice to Sonat (or such shorter period ending on the date that any payment of taxes with respect to such claim is due). If Sonat notifies Executive in writing prior to the expiration of such period that it desires to contest such claim, Executive shall: (i) give Sonat any information reasonably requested by Sonat relating to such claim, (ii) take such action in connection with contesting such claim as Sonat shall reasonably request in writing from time to time, including without limitation, accepting legal representation with respect to such claim by an attorney reasonably selected by Sonat, (iii) cooperate with Sonat in good faith in order effectively to contest such claim, and 10 11 (iv) permit Sonat to participate in any proceedings relating to such claim; provided, however, that Sonat shall bear and pay directly all costs and expenses (including additional interest and penalties) incurred in connection with such contest and shall indemnify and hold Executive harmless, on an after-tax basis, for any Excise Tax or federal income tax (including interest and penalties with respect thereto) imposed as a result of such representation and payment of costs and expenses. Without limitation on the foregoing provisions of this Section 6(c), Sonat shall control all proceedings taken in connection with such contest and, at its sole option, may pursue or forgo any and all administrative appeals, proceedings, hearings and conferences with the taxing authority in respect of such claim and may, at its sole option, either direct Executive to pay the tax claimed and sue for a refund or to contest the claim in any permissible manner, and Executive agrees to prosecute such contest to a determination before any administrative tribunal, in a court of initial jurisdiction and in one or more appellate courts, as Sonat shall determine; provided, however, that if Sonat directs Executive to pay such claim and sue for a refund, Sonat shall advance the amount of such payment to Executive, on an interest-free basis, and shall indemnify and hold Executive harmless on an after-tax basis, from any Excise Tax or federal income tax (including interest or penalties with respect thereto) imposed with respect to such advance or with respect to any imputed income with respect to such advance; and further provided that any extension of the statute of limitations relating to payment of taxes for the taxable year of Executive with respect to such contested amount is claimed to be due is limited solely to such contested amount. Furthermore, Sonat's control of the contest shall be limited to issues with respect to which a Gross-Up Payment would be payable hereunder, and Executive shall be entitled to settle or contest, as the case may be, any other issue raised by the Internal Revenue Service or any other taxing authority. (d) If, after the receipt by Executive of an amount advanced by Sonat pursuant to Section 6(c), Executive becomes entitled to receive any refund with respect to such claim, Executive shall (subject to Sonat's complying with the requirements of Section 6(c)) promptly pay to Sonat the amount of such refund (together with any interest paid or credited thereon after taxes applicable thereto). If, after the receipt by Executive of an amount advanced by Sonat pursuant to Section 6(c), a determination is made that Executive shall not be entitled to any refund with respect to such claim and Sonat does not notify Executive in writing of its intent to contest such denial of refund prior to the expiration of 30 days after such determination, then such advance shall be forgiven and shall not be required to be repaid and the amount of such advance shall offset, to the extent thereof, the amount of Gross-Up Payment required to be paid. 11 12 7. Term of Agreement. This Agreement shall terminate on April 30, 1999; provided, however, that this Agreement shall automatically renew for successive one-year terms unless the Board of Directors notifies Executive in writing at least 30 days prior to an April 30 expiration date that it does not desire to renew the Agreement for an additional term; and provided further, however, that this Agreement shall terminate prior to April 30, 1999 or, in the event of a renewal of this Agreement, any subsequent April 30, if and when the Executive Compensation Committee determines that Executive is no longer a key executive for purposes of being a party to an executive severance agreement with Sonat and so notifies Executive, except that such determination shall not be made, and if made shall have no effect, (i) within three years after a Change of Control or (ii) during any period of time when Sonat has reason to believe that any third person has begun a tender or exchange offer, circulated a proxy to stockholders, or taken other steps or formulated plans to effect a Change of Control, such period of time to end when, in the opinion of the Executive Compensation Committee, the third person has abandoned or terminated his efforts or plans to effect a Change of Control. 8. Expenses. Sonat shall pay or reimburse Executive for all costs and expenses, including, without limitation, court costs and attorneys' fees, incurred by Executive as a result of any claim, action or proceeding (including, without limitation, a claim, action or proceeding by Executive against Sonat) arising out of, or challenging the validity or enforceability of, this Agreement or any provision hereof. 9. Miscellaneous. (a) Assignment. No right, benefit or interest hereunder shall be subject to assignment, anticipation, alienation, sale, encumbrance, charge, pledge, hypothecation or set-off in respect of any claim, debt or obligation, or to execution, attachment, levy or similar process; provided, however, that Executive may assign any right, benefit or interest hereunder if such assignment is permitted under the terms of any plan or policy of insurance or annuity contract governing such right, benefit or interest. (b) Construction of Agreement. Nothing in this Agreement shall be construed to amend any provision of any plan or policy of Sonat. This Agreement is not, and nothing herein shall be deemed to create, a commitment of continued employment of Executive by Sonat or any of its subsidiaries. (c) Amendment. This Agreement may not be amended, modified or canceled except by written agreement of the parties. 12 13 (d) Waiver. No provision of this Agreement may be waived except by a writing signed by the party to be bound thereby. Executive may at any time or from time to time waive any or all of the rights and benefits provided for herein which have not been received by Executive at the time of such waiver. In addition, prior to the last day of the calendar year in which Executive's Termination occurs, Executive may waive any or all rights and benefits provided for herein which have been received by Executive; provided that prior to the end of such year Executive repays to Sonat (or, if the benefit was received from an employee benefit plan trust, to such trust) the amount of the benefit received together with interest thereon at the minimum rate required to avoid imputed income. Any waiver of benefits pursuant to this paragraph shall be irrevocable. If Executive waives a right or benefit provided for herein and such waiver is determined by the Internal Revenue Service not to be effective, Sonat shall indemnify Executive for any federal income and excise taxes he incurs as a result of that determination, so as to put Executive in the position he would have been in had the waiver been given effect. (e) Severability. In the event that any provision or portion of this Agreement shall be determined to be invalid or unenforceable for any reason, the remaining provisions of this Agreement shall remain in full force and effect to the fullest extent permitted by law. (f) Successors. This Agreement shall be binding upon and inure to the benefit of Executive and his personal representative and heirs, and Sonat and any successor organization or organizations which shall succeed to substantially all of the business and property of Sonat, whether by means of merger, consolidation, acquisition of substantially all of the assets of Sonat or otherwise, including by operation of law. (g) Taxes. Any payment or delivery required under this Agreement shall be subject to all requirements of the law with regard to withholding of taxes, filing, making of reports and the like, and Sonat shall use its best efforts to satisfy promptly all such requirements. (h) Governing Law. This Agreement shall be governed and construed in accordance with the laws of the State of Delaware. (i) Entire Agreement. This Agreement sets forth the entire agreement and understanding of the parties hereto with respect to the matters covered hereby. 13 14 IN WITNESS WHEREOF, the parties have executed this Agreement as of January 22, 1998. SONAT INC. By: /s/ Ronald L. Kuehn, Jr. ---------------------------------------- Ronald L. Kuehn, Jr. Chairman of the Board, President and Chief Executive Officer /s/ Donald G. Russell --------------------------------------- Donald G. Russell 14 EX-10.10 7 DIRECTORS' FEES DEFERRAL PLAN OF SONAT, INC. 1 EXHIBIT 10.10 SONAT INC. DIRECTOR'S FEES DEFERRAL PLAN (AS AMENDED AND RESTATED EFFECTIVE AS OF JANUARY 1, 1997) ARTICLE I PURPOSE 1.1 Purpose. The purpose of this Director's Fees Deferral Plan (the "Plan") is to enable Sonat Inc. (the "Company") to attract and retain Directors of outstanding ability by providing them with a plan to allow them to defer and accumulate Director's fees. For purposes of this Plan, Director's fees shall mean the retainer fee and fees for attendance at meetings of the Board of Directors and Board committees. ARTICLE II DEFERRAL ELECTIONS 2.1 Deferral Election. At any time before the beginning of a calendar year, a Director may elect (the "Deferral Election") that all or (subject to any limitations imposed by the Company) any specified portion of the Director's fees earned from the Company during such calendar year shall be credited to an Account maintained on such Director's behalf in lieu of payment in cash. A Director shall also have the right to make a Deferral Election during the 30 days following the date on which the Director first becomes eligible to receive Director's fees. Any Deferral Election made pursuant to the preceding sentence shall be made only with respect to Director's fees earned following such Deferral Election. Each Deferral Election shall be submitted to the Company in writing. 2.2 Effect of Deferral Election. Pursuant to an effective Deferral Election, the Company (a) shall not pay in cash the fees covered thereby, (b) shall credit the Director's Account as provided in Article III, and (c) shall debit the Director's Account and make payments therefrom as provided in Article IV. 2.3 Renewal of Elections. Once a Deferral Election has been made, it shall be automatically renewed from year to year unless the Director elects to change or revoke such election. However, a change or revocation of a Deferral Election shall be effective only with respect to Director's fees earned after the commencement of the calendar year next following such change or revocation. 2 ARTICLE III CREDITS TO DIRECTOR'S ACCOUNT 3.1 Crediting of Contributions. The Company shall create and maintain on its books a Director's Account for each Director who has made a Deferral Election under Section 2.1. The Company shall credit to such Account the amount of any Director's fee which would have been paid to the Director but which is not paid to the Director pursuant to such Deferral Election. Such credit to the Director's Account shall be as of the date the fee would have been payable in cash if the Director's Deferral Election were inoperative. 3.2 Subaccounts. The Company shall establish in each Director's Account a subaccount (the "Phantom Stock Subaccount") that is deemed invested in units ("Units") of the Sonat Stock Fund established under the Company's Savings Plan (the "Sonat Stock Fund") and subaccounts which are deemed invested in shares of mutual fund investments designated by the Company (each of such subaccounts referred to as a "Phantom Mutual Fund Subaccount"). Amounts shall be credited to such Subaccounts as directed by the Director, as provided in Section 3.4. The Director's Phantom Stock Subaccount and each Phantom Mutual Fund Subaccount shall be credited with the number of phantom Units or phantom shares (including fractional Units or shares) equal to the number of Units or shares which could have been purchased with the dollar amount to be credited, valued at the closing price of such Unit or share on the business day such amounts are credited. At the time that any dividends are paid on the Sonat Stock Fund or the applicable mutual fund, as the case may be, the Director's Phantom Stock Subaccount or Phantom Mutual Fund Subaccount, as the case may be, shall be adjusted to reflect such dividend payment in a manner consistent with the treatment of accounts that are actually invested in the Sonat Stock Fund or the applicable mutual fund, as the case may be. 3.3 Determination of Fair Market Value. Except as provided in Article IV, the fair market value of a Phantom Stock Subaccount or a Phantom Mutual Fund Subaccount, as the case may be, on any given date shall be determined by multiplying (a) the number of phantom Units or shares credited to such Subaccount on such date, by (b) the closing price of a Unit or share (of the Sonat Stock Fund or of such mutual fund, as the case may be) as of such date (or, if such date is not a business day, on the preceding business day). 3.4 Investment Elections and Transfers. (a) Contributions. At the time of making a Deferral Election or on any business day thereafter, a Director may elect (in the manner and subject to any limitations specified by the Company) to designate the Subaccounts to which new contributions to the Director's Account shall be credited. All amounts credited to the Director's Account 2 3 on or after the date of such an election shall be credited in accordance with such election. The Director may make a new election on any business day (in the manner and subject to any limitations specified by the Company), which shall take effect on the close of business on the day the Company receives such election. If a Director fails to make an election, all amounts subsequently credited to such Account before the effective date of a properly-made election shall be credited as phantom shares of the Benchmark Government Portfolio (or such other short-term money market investment as the Company may designate). (b) Transfers Among Subaccounts. A Director may elect on any business day (in the manner and subject to any limitations specified by the Company) to transfer a portion of his or her Account from one Subaccount to another. Transfers shall be made as of the close of business on the day the Company receives the election, based on the respective closing prices of the respective phantom Units or shares on such business day. Notwithstanding the foregoing provisions, a Director may not transfer among his or her Subaccounts on or after a Lump Sum Valuation Date, or during the period beginning on an Installment Valuation Date and ending upon the close of business on the next Installment Payment Date (as such terms are defined in Sections 4.2 and 4.3). 3.5 Antidilution Adjustments. In the event of a reorganization, recapitalization, stock split, stock dividend, combination of shares, rights offer, liquidation, dissolution, merger, consolidation, spin-off, sale of assets, or other change in or affecting the corporate structure or capitalization of the Company, the Board of Directors of the Company shall make the appropriate adjustment to the Phantom Stock Subaccounts of Directors so that the phantom Units therein shall be treated as if they were actual Units. In the event the Common Stock is converted into cash or other securities or property, the value of the Units on the date of such conversion shall be determined by AmSouth Bank NA, the phantom Units shall be converted into cash based on such value, and credited as phantom shares of the Benchmark Government Portfolio (or such other Phantom Mutual Fund Subaccount as may be designated by the Board of Directors). ARTICLE IV PAYMENT OF ACCOUNT Upon the occurrence of a Director's Payment Commencement Event (as defined below), on each Lump Sum Payment Date or Installment Payment Date (as such terms are defined below) the Company shall debit the Director's Account and pay to such Director (or in the event of the Director's death, to his or her beneficiary) amounts at the times determined pursuant to this Article IV. 3 4 4.1 Payment Commencement Event. A Director's "Payment Commencement Event" shall be either (a) the termination of the Director's service as a Director of the Company (or any successor thereof), or (b) if, under the Plan as in effect before December 2, 1994, the Director elected a "Payment Commencement Event" of a specified age, the date on which the Director attains such age. 4.2 Cash Lump Sum. Except as provided in Section 4.3, upon the occurrence of a Director's Payment Commencement Event, there shall be paid to the Director in a cash lump sum on the fifteenth day of the calendar quarter following the Payment Commencement Event (or, if such day is not a business day, on the next business day thereafter) (the "Lump Sum Payment Date") (or as soon as practicable thereafter) an amount equal to the value of the Director's Account, as determined below. For purposes of determining the value of a Director's Account pursuant to this Section 4.2, (a) each of the Director's Phantom Mutual Fund Subaccounts shall have a value equal to the product of (1) the closing price of a share of such mutual fund on the last business day of the calendar quarter in which the Payment Commencement Event occurs ("Lump Sum Valuation Date") and (2) the number of phantom shares credited to such Subaccount on the Lump Sum Valuation Date, and (b) the Director's Phantom Stock Subaccount shall have a value equal to the product of (1) the average of the closing prices of a Unit on the ten business days ending on the Lump Sum Valuation Date and (2) the number of phantom Units credited to such Subaccount on the Lump Sum Valuation Date. 4.3 Installment Payments. (a) Installment Payments Commenced On or After July 1, 1997. A Director may elect to have all or (subject to any limitations imposed by the Company) any designated portion of his or her Account paid in a number of annual installments (up to a maximum of 15 installment payments) designated by the Director. To be effective, such election must be written, irrevocable, and filed with the Company at least twelve months before the Director's Payment Commencement Event. Payment shall be made in the designated number of installments as set forth below (the date of each payment being an "Installment Payment Date"). The first installment shall be paid on the fifteenth day of the calendar quarter following the Director's Payment Commencement Event (or if such day is not a business day, on the next business day thereafter) or as soon as practicable thereafter. Each subsequent installment shall be paid on an Installment Payment Date that is the anniversary of the fifteenth day of such calendar quarter (or if such day is not a business day, on the next business day thereafter). Each installment shall be in an amount equal to (a) the value of the Director's Account at the time of payment of such installment, as determined below, divided by (b) the number of installments remaining to be paid (including the installment about to be paid), and shall be made on a pro rata basis from the Director's Subaccounts. For purposes of determining the value of an installment 4 5 of a Director's Account pursuant to this Section 4.3(a), (a) each of the Director's Phantom Mutual Fund Subaccounts shall have a value equal to the product of (1) the closing price of a share of such mutual fund on the last business day of the calendar quarter immediately preceding the Installment Payment Date (the "Installment Valuation Date") and (2) the number of phantom shares credited to such Subaccount on the Installment Valuation Date, and (b) the Director's Phantom Stock Subaccount shall have a value equal to the product of (1) the average of the closing prices of a Unit on the ten business days ending on the Installment Valuation Date and (2) the number of phantom Units credited to such Subaccount on the Installment Valuation Date. (b) Installment Payment Commenced Before July 1, 1997. If a Director received his or her first installment payment under this Plan before July 1, 1997, the date of each installment payment, and the value of each such payment, shall be determined pursuant to the terms of the Plan as in effect on December 31, 1996. 4.4 Disability. In the event a Director becomes disabled, the payment date and/or payment schedule with respect to the balance in the Director's Account may be accelerated by the Plan Committee (as defined in Section 6.1) in its sole discretion. 4.5 Death. A Director shall be entitled to designate a beneficiary (and to change such beneficiary from time to time) for payment of the balance of the Director's Account in the event that a balance exists therein at the Director's date of death. Upon a Director's death, any balance in the Director's Account shall be paid to the deceased Director's beneficiary pursuant to the payment schedule previously elected by the Director as provided in Sections 4.2 and 4.3. If no beneficiary has been designated, the Director's estate shall be deemed the beneficiary. 4.6 Change of Control. (a) Before Termination of Service. Notwithstanding any other election made by a Director pursuant to this Article IV, in the event that a Director terminates service as a Director of the Company within three years following a "Change of Control" (as defined in Section 6.9), the Payment Commencement Event shall be the date of the termination of the Director's service as a Director, and payment of the Director's Account shall be made in a cash lump sum as soon as practicable (and within 30 days) after such Payment Commencement Event. The amount of such lump-sum payment shall equal the value of the Director's Account, as determined below. For purposes of determining the value of a Director's Account pursuant to this Section 4.6(a), (a) the Director's Phantom Mutual Fund Subaccounts shall have a value equal to the product of (i) the closing price of a share of such mutual fund on the date of the Payment Commencement Event (or, if the Payment Commencement Event does not occur on a business day, on the next 5 6 succeeding business day) and (2) the number of phantom shares credited to such Subaccount on the date of the Payment Commencement Event (or the following business day, if applicable), and (b) the Director's Phantom Stock Subaccount shall have a value equal to the product of (1) the average of the closing prices of a Unit on the ten business days ending on the date of the Payment Commencement Event (or, if the Payment Commencement Event does not occur on a business day, on the next succeeding business day), and (2) the number of phantom Units credited to such Subaccount on the date of the Payment Commencement Event (or the following business day, if applicable). (b) After Payment Commencement Event. Notwithstanding any other election made by a Director pursuant to this Article IV, in the event a "Change of Control" (as defined in Section 6.9) occurs after a Director's Payment Commencement Event, payment of the Director's Account shall be made in a cash lump sum as soon as practicable (and within 30 days) after such Change of Control. The amount of such lump-sum payment shall equal the value of the Director's Account, as determined below. For purposes of determining the value of a Director's Account pursuant to this Section 4.6(b), (a) the Director's Phantom Mutual Fund Subaccounts shall have a value equal to the product of (1) the closing price of a share of such mutual fund on the date of the Change of Control (or, if the Change of Control does not occur on a business day, on the next succeeding business day) and (2) the number of phantom shares credited to such Subaccount on the date of the Change of Control (or the following business day, if applicable), and (b) the Director's Phantom Stock Subaccount shall have a value equal to the product of (1) the average of the closing prices of a Unit on the ten business days ending on the date of the Change of Control (or, if the Change of Control does not occur on a business day, on the next succeeding business day), and (2) the number of phantom Units credited to such Subaccount on the date of the Change of Control (or the following business day, if applicable). ARTICLE V UNFUNDED ARRANGEMENT 5.1 Unfunded Arrangement. Neither this Plan nor a Director's Account shall be funded. Rather, a Director's Account and all entries thereto shall constitute bookkeeping records only and shall not relate to any specific funds of the Company. Payments due with respect to balances in a Director's Account shall be made from the general assets of the Company. 6 7 ARTICLE VI ADMINISTRATION 6.1 Plan Committee. The Plan shall be administered by a Plan Committee. The Plan Committee shall be the Committee on Directors of the Board of Directors of the Company or such other Committee as may be established by the Board of Directors of the Company and may include Directors who have elected to participate in the Plan. No member of the Plan Committee shall be liable for any act done or determination made in good faith. 6.2 Committee Determinations Final. The construction and interpretation of any provision of the Plan by the Plan Committee, and a determination by the Plan Committee of the amount of any Director's Account, shall be final and conclusive. 6.3 Amendments. The Company, subject to approval of the Board of Directors, reserves the right to terminate, modify or amend this Plan at any time; provided, however, that the Plan shall not be subject to termination, modification or amendment with respect to any balance of a Director's Account and rights therein, including the right to future increments pursuant to Section 3.3, unless the affected Director consents in writing. 6.4 Non-Alienation. No Director (or estate of a Director) shall have power to transfer, assign, anticipate, mortgage or otherwise encumber any rights or any amounts payable hereunder; nor shall any such rights or payments be subject to seizure for the payment of any debts, judgments, alimony, or separate maintenance, or be transferable by operation of law in the event of bankruptcy, insolvency, or otherwise. 6.5 Expenses. The expenses of administering the Plan shall be borne by the Company and shall not be charged against any Director's Account. 6.6 Withholding. The Company shall have the right to deduct from all payments any taxes required to be withheld with respect to such payments. 6.7 Effect of IRS Determination. If any amounts deferred pursuant to the Plan are found in a "determination" (within the meaning of Section 1313(a) of the Internal Revenue Code of 1986, as amended) to have been includable in gross income by a Director before payment of such 7 8 amounts from the Director's Account, such amounts shall be immediately paid to such Director, notwithstanding the Director's elections pursuant to Article IV. 6.8 Effect on Other Plans. All amounts which are credited to a Director's Account pursuant to Section 3.1 (but not Sections 3.2 and 3.3) shall, solely for purposes of calculating benefits under the Sonat Inc. Retirement Plan for Directors, be deemed to have been paid to the Director on the date such amounts would have been paid absent a Deferral Election under Article II of the Plan. 6.9 Change of Control. A "Change of Control" shall mean: (i) The acquisition by any individual, entity or group (within the meaning of Section 13(d)(3) or 14(d)(2) of the Securities Exchange Act of 1934 (the "Exchange Act")) (a "Person") of beneficial ownership (within the meaning of Rule 13d-3 promulgated under the Exchange Act) of 20% or more of either (1) the then outstanding shares of common stock of the Company (the "Outstanding Common Stock") or (2) the combined voting power of the then outstanding voting securities of the Company entitled to vote generally in the election of directors (the "Outstanding Voting Securities"); provided, however, that for purposes of this subsection (i), the following acquisitions shall not constitute a Change of Control: (A) any acquisition directly from the Company, (B) any acquisition by the Company, (C) any acquisition by any employee benefit plan (or related trust) sponsored or maintained by the Company or any corporation controlled by the Company or (D) any acquisition by any corporation pursuant to a transaction which complies with clauses (A), (B) and (C) of subsection (iii); or (ii) Individuals who, as of December 1, 1995, constitute the Board of Directors (the "Incumbent Board") cease for any reason to constitute at least a majority of the Board of Directors; provided, however, that any individual becoming a Director subsequent to such date whose election, or nomination for election by the Company's shareholders, was approved by a vote of at least a majority of the Directors then comprising the Incumbent Board shall be considered as though such individual were a member of the Incumbent Board, but excluding, for this purpose, any such individual whose initial assumption of office occurs as a result of an actual or threatened election contest with respect to the election or removal of Directors or other actual or threatened solicitation of proxies or consents by or on behalf of a Person other than the Board of Directors; or (iii) Consummation of a reorganization, merger or consolidation or sale or other disposition of all or substantially all of the assets of the Company (a "Business Combination"), in each case, unless, following such Business 8 9 Combination, (A) all or substantially all of the individuals and entities who were the beneficial owners, respectively, of the Outstanding Common Stock and Outstanding Voting Securities immediately prior to such Business Combination beneficially own, directly or indirectly, more than 50% of, respectively, the then outstanding shares of common stock and the combined voting power of the then outstanding voting securities entitled to vote generally in the election of Directors, as the case may be, of the corporation resulting from such Business Combination (including, without limitation, a corporation which as a result of such transaction owns the Company or all or substantially all of the Company's assets either directly or through one or more subsidiaries) in substantially the same proportions as their ownership, immediately prior to such Business Combination, of the Outstanding Common Stock and Outstanding Voting Securities, as the case may be, (B) no Person (excluding any corporation resulting from such Business Combination or any employee benefit plan (or related trust) of the Company or such corporation resulting from such Business Combination) beneficially owns, directly or indirectly, 20% or more of, respectively, the then outstanding shares of common stock of the corporation resulting from such Business Combination or the combined voting power of the then outstanding voting securities of such corporation except to the extent that such ownership existed prior to the Business Combination and (C) at least a majority of the members of the board of directors of the corporation resulting from such Business Combination were members of the Incumbent Board at the time of the execution of the initial agreement, or of the action of the Board of Directors, providing for such Business Combination. 6.10 Payment Commencement Events Before December 2, 1994. Any Plan provision to the contrary notwithstanding, the Account of a Director who has a Payment Commencement Event on or before December 1, 1994, shall be credited, debited and paid out in accordance with the provisions of the Plan as in effect on such date. IN WITNESS WHEREOF, Sonat Inc. has caused this document to be executed as of December 6, 1996, to be effective as of January 1, 1997. SONAT INC. By ------------------------------------ Chairman of the Board, President and Chief Executive Officer 9 EX-10.11 8 INDEMNITY AGREEMENTS 1 EXHIBIT 10.11 INDEMNITY AGREEMENT AGREEMENT, dated as of January 30, 1998, by and between Sonat Inc. (the "Company") and the undersigned director of the Company (the "Director"). The Company's Certificate of Incorporation provides that the Company shall indemnify the Directors to the full extent permitted by the laws of the State of Delaware as from time to time in effect. Section 145 of the General Corporation Law of Delaware (relating to the indemnification of officers, directors, employees and agents) provides that the indemnification afforded by that section shall not be deemed exclusive of any other rights to which those seeking indemnification may be entitled under any by-law, agreement, vote of stockholders or disinterested directors or otherwise. Section 145 also expressly empowers the Company to purchase and maintain insurance on behalf of the Director. In exercising the discretion with respect to indemnification given it by the Company's Certificate of Incorporation, the Board of Directors of the Company has considered the following, among other factors: (a) It is essential to the Company to attract and retain as directors the most capable persons available. (b) The substantial increase in corporate litigation that may subject directors to litigation costs and risks and the recent limitations on the availability of director's liability insurance have made and will make it increasingly difficult for the Company to attract and retain such persons. (c) When obtainable, insurance policies relating to indemnification are often subject to retentions by the insured, co-insurance requirements, exclusions and other limitations on coverage. 2 2. In view of the foregoing and the fact that the Director is rendering valuable services to the Company and desires to continue to provide such services provided he receives assurance that the Company will indemnify him to the full extent permitted by its Certificate of Incorporation, the Board of Directors has determined to provide such assurance. In consideration of the Director's continued service to the Company, the Company hereby agrees with the Director as follows: Section 1. General Right to Indemnification. Notwithstanding any other provision of this Agreement except for Section 8, the Company shall indemnify the Director to the full extent permitted by the laws of the State of Delaware as from time to time in effect. Without limiting the generality of the foregoing, the Company shall indemnify the Director in accordance with the provisions set forth below. Section 2. Actions, Suits or Proceedings Other Than by or in the Right of the Company. The Company shall indemnify the Director in the event that he was or is a party or is threatened to be made a party to, or otherwise requires representation by counsel in connection with, any threatened, pending or completed action, suit or proceeding, whether civil, criminal, administrative or investigative (other than an action by or in the right of the Company) by reason of the fact that he is or was or has agreed to become a director, officer, employee or agent of the Company, or is or was serving or has agreed to serve as a director, officer, employee or agent of any corporation, partnership, joint venture or other entity of which the Company owns 50% or more of the voting or equity interest (an "Affiliate") or any employee benefit plan of the Company or an Affiliate, or by reason of any action alleged 3 3. to have been taken or omitted in such capacity, against costs, charges, expenses (including attorneys' fees), judgments, fines and amounts paid in settlement actually and reasonably incurred by him or on his behalf in connection with such action, suit or proceeding and any appeal therefrom, if he acted in good faith and in a manner he reasonably believed to be in or not opposed to the best interests of the Company, and, with respect to any criminal action or proceeding, had no reasonable cause to believe his conduct was unlawful. The termination of any action, suit or proceeding by judgment, order, settlement, conviction, or upon a plea of nolo contendere or its equivalent, shall not, of itself, create a presumption that the Director did not act in good faith and in a manner which he reasonably believed to be in or not opposed to the best interests of the Company, and, with respect to any criminal action or proceeding, had reasonable cause to believe that his conduct was unlawful. Section 3. Actions or Suits by or in the Right of the Company. The Company shall indemnify the Director in the event that he was or is a party or is threatened to be made a party to, or otherwise requires representation by counsel in connection with, any threatened, pending or completed action or suit by or in the right of the Company to procure a judgment in its favor by reason of the fact that he is or was or has agreed to become a director, officer, employee or agent of the Company, or is or was serving or has agreed to serve as a director, officer, employee or agent of any Affiliate or any employee benefit plan of the Company or an Affiliate, or by reason of any action alleged to have been taken or omitted in such capacity, against costs, charges and expenses (including attorneys' fees) actually and reasonably incurred by him or on his behalf in connection with the defense or settlement of 4 4. such action or suit and any appeal therefrom, if he acted in good faith and in a manner he reasonably believed to be in or not opposed to the best interests of the Company except that no indemnification shall be made in respect of any claim, issue or matter as to which such Director shall have been adjudged to be liable to the Company unless and only to the extent that the Court of Chancery of Delaware or the court in which such action or suit was brought shall determine upon application that, despite the adjudication of such liability but in view of all the circumstances of the case, such Director is fairly and reasonably entitled to indemnity for such costs, charges and expenses which the Court of Chancery or such other court shall deem proper. Section 4. Indemnification for Costs, Charges and Expenses of Successful Party. Notwithstanding the other provisions of this Agreement, to the extent that the Director has been successful on the merits or otherwise, including, without limitation, the dismissal of an action without prejudice, in defense of any action, suit or proceeding covered by this Agreement, or in defense of any claim, issue or matter therein, he shall be indemnified against all costs, charges and expenses (including attorneys' fees) actually and reasonably incurred by him or on his behalf in connection therewith. Section 5. Adverse Finding. Any indemnification under Sections 2 and 3 of this Agreement (unless ordered by a court) shall be paid by the Company, in accordance with the procedures set forth in Section 7 of this Agreement, unless a determination is made within the 90-day period set forth in Section 7 (A) by the Board of Directors by a majority vote of a quorum consisting of directors who were not parties to such action, suit or 5 5. proceeding, or (B) if such a quorum is not obtainable, or, even if obtainable a quorum of disinterested directors so directs, by independent legal counsel in a written opinion, or (C) by the stockholders, that indemnification of the Director is not proper in the circumstances because he has not met the applicable standard of conduct set forth in Sections 2 and 3 of this Agreement. Section 6. Advances. Costs, charges, expenses (including attorneys' fees), judgments, fines and amounts paid in settlement incurred by the Director covered by Sections 1 and 2 of this Agreement in defending any pending, threatened or completed action, suit or proceeding, whether civil, criminal, administrative or investigative, and costs, charges and expenses (including attorneys' fees) incurred by the Director covered by Section 3 of this Agreement in defending an action by or in the right of the Company shall be paid by the Company in advance of the determination of the Director's entitlement to indemnification promptly upon receipt by the Company of evidence of the Director's obligation to pay such costs, charges, expenses, judgments, fines or amounts paid in settlement (as the case may be); provided, however, that such payment shall be made in advance of the determination of the Director's entitlement to indemnification only with the undertaking of the Director (which the Director hereby gives) that the Director shall repay all amounts so advanced in the event that it shall ultimately be determined that the Director is not entitled to be indemnified by the Company as authorized in this Agreement. The Board of Directors may, upon approval of the Director, authorize the Company's counsel to 6 6. represent the Director, in any action, suit or proceeding, whether or not the Company is a party to such action, suit or proceeding. Section 7. Procedure for Indemnification. After the final disposition of any action, suit or proceeding covered by this Agreement, the Director shall send to the Company a written request for any indemnification sought under this Agreement. No later than 90 days following receipt by the Company of such request, the Company shall cause the indemnification provided hereunder to be authorized and paid, unless during such 90-day period, with respect to indemnification under Section 1 of this Agreement, a finding by the Company that the indemnification requested is not permitted by the laws of the State of Delaware then in effect is made and with respect to indemnification under Section 2 or 3 of this Agreement, the adverse finding described in Section 5 of this Agreement is made pursuant to such Section. The burden of proving that such standard has not been met shall be on the Company. The Director shall be given an opportunity to be heard and to present evidence on his behalf in connection with consideration by the Board of Directors, independent legal counsel, or the stockholders, as the case may be, of any findings required by applicable law. If the Company (A) does not pay the indemnification requested by the Director within 90 days after the receipt of such request, or (B) does not pay promptly an advance in accordance with Section 6, the Director's right to indemnification or to any advance and the Company's right to the repayment of any advance shall be enforceable in any court of competent jurisdiction. In any such action, neither the failure of the Company (including its Board of Directors, its independent legal counsel, and its stockholders) to have 7 7. made a determination prior to the commencement of such action that indemnification of the Director is proper in the circumstances because he has met the applicable standard of conduct set forth in Section 2 or 3 of this Agreement, nor the fact that the Company has made an adverse finding pursuant to Section 5 of this Agreement, shall be a defense to the action or create a presumption that the Director has not met the applicable standard of conduct. However, it shall be a defense to the action (other than an action brought to enforce a claim for an advance) if it is established that the Director has not met the applicable standard of conduct set forth in Section 2 or 3 of this Agreement. The Director's costs and expenses (including attorneys' fees) incurred in connection with successfully establishing his right to indemnification (including his right to indemnification in the event he shall have been adjudged to be liable to the Company under Section 3 of this Agreement) or any advance, in whole or in part, in any such action shall also be indemnified by the Company. Any action instituted by the Company or by the Director under this Agreement may be maintained as to the Company and the Director in any court of competent jurisdiction, including but not limited to the courts of the State of Delaware. The Company and the Director each consents to the exercise of jurisdiction over it or him, as the case may be, by the Court of Chancery of Delaware. Section 8. Voluntary Proceedings. The Company shall not indemnify the Director or pay any advance to the Director in connection with any threatened, pending or completed action, suit or proceeding, whether civil, criminal, administrative or investigative, voluntarily commenced by such Director against the Company, any affiliate or any other director, 8 8. officer, employee or agent of the Company or any Affiliate or any employee benefit plan of the Company or an Affiliate unless the institution of such action, suit or proceeding was authorized prior to its commencement by a majority vote of the Board of Directors or the Director is successful on the merits in such action, suit or proceeding. Section 9. Notice to Company. The Director must provide prompt written notice to the Company of any pending or threatened action, suit or proceeding in connection with which the Director may assert a right to be indemnified hereunder; however, failure to provide such notice shall not be construed as a waiver of any right to an advance or indemnification hereunder. Section 10. Other Rights; Continuation of Right to Indemnification. The indemnification and advances provided by this Agreement shall not be deemed exclusive of any other rights to which a Director seeking indemnification may be entitled under any law (common or statutory), provision of the Company's Certificate of Incorporation or By-Laws, vote of stockholders or disinterested directors or otherwise, both as to action in his official capacity and as to action in another capacity while holding office or while employed by or acting as agent for the Company, and shall continue as to a person who has ceased to be a Director, and shall inure to the benefit of the estate, heirs, executors and administrators of the Director. Section 11. Amendments. This Agreement may not be amended without the agreement in writing of the Company and the Director. Section 12. Savings Clause. If this Agreement or any portion hereof shall be deemed invalid, illegal or unenforceable in any respect, the validity, legality and 9 9. enforceability of the remaining provisions contained herein shall not in any way be affected or impaired thereby, and the Company shall nevertheless indemnify the Director as to costs, charges and expenses (including attorneys' fees), judgments, fines and amounts paid in settlement with respect to any action, suit or proceeding, whether civil, criminal, administrative or investigative, including an action by or in the right of the Company, to the full extent permitted by any applicable portion of this Agreement that shall not have been invalidated and to the full extent permitted by applicable law. Section 13. Survival Clause. The Company acknowledges that in continuing to provide services to the Company, the Director is relying on this Agreement. Accordingly, the Company agrees that its obligations hereunder will survive (a) any actual or purported termination of this Agreement by the Company or its successors or assigns whether by operation of law or otherwise, and (b) termination of the Director's services to the Company, whether such services were terminated by the Company or the Director, with respect to any claim, action, suit or proceeding covered by Section 1, 2 or 3 hereof, whether or not such claim is made or action, suit or proceeding is threatened or commenced before or after the actual or purported termination of this Agreement or the termination of the Director's services to the Company. Section 14. Successors and Assigns. This Agreement shall be binding on the successors and assigns of the Company whether by operation of law or otherwise and shall inure to the benefit of the estate, heirs and personal representatives of the Director. 10 10. Section 15. Governing Law. This Agreement shall be governed in all respects, including validity, interpretation and effect, by the laws of the State of Delaware (without giving effect to the provisions thereof relating to conflicts of law). IN WITNESS WHEREOF, this Agreement has been executed by the parties thereto, in the case of the Company, by a duly authorized officer thereof on its behalf. SONAT INC. By ------------------------------------------- Ronald L. Kuehn, Jr. Chairman of the Board, President and Chief Executive Officer ------------------------------------------- Selim K. Zilkha Signature page of Indemnity Agreement dated as of January 30, 1998, between Sonat Inc. and above named Director. 11 INDEMNITY AGREEMENT AGREEMENT, dated as of January 30, 1998, by and between Sonat Inc. (the "Company") and the undersigned director of the Company (the "Director"). The Company's Certificate of Incorporation provides that the Company shall indemnify the Directors to the full extent permitted by the laws of the State of Delaware as from time to time in effect. Section 145 of the General Corporation Law of Delaware (relating to the indemnification of officers, directors, employees and agents) provides that the indemnification afforded by that section shall not be deemed exclusive of any other rights to which those seeking indemnification may be entitled under any by-law, agreement, vote of stockholders or disinterested directors or otherwise. Section 145 also expressly empowers the Company to purchase and maintain insurance on behalf of the Director. In exercising the discretion with respect to indemnification given it by the Company's Certificate of Incorporation, the Board of Directors of the Company has considered the following, among other factors: (a) It is essential to the Company to attract and retain as directors the most capable persons available. (b) The substantial increase in corporate litigation that may subject directors to litigation costs and risks and the recent limitations on the availability of director's liability insurance have made and will make it increasingly difficult for the Company to attract and retain such persons. (c) When obtainable, insurance policies relating to indemnification are often subject to retentions by the insured, co-insurance requirements, exclusions and other limitations on coverage. 12 2. In view of the foregoing and the fact that the Director is rendering valuable services to the Company and desires to continue to provide such services provided he receives assurance that the Company will indemnify him to the full extent permitted by its Certificate of Incorporation, the Board of Directors has determined to provide such assurance. In consideration of the Director's continued service to the Company, the Company hereby agrees with the Director as follows: Section 1. General Right to Indemnification. Notwithstanding any other provision of this Agreement except for Section 8, the Company shall indemnify the Director to the full extent permitted by the laws of the State of Delaware as from time to time in effect. Without limiting the generality of the foregoing, the Company shall indemnify the Director in accordance with the provisions set forth below. Section 2. Actions, Suits or Proceedings Other Than by or in the Right of the Company. The Company shall indemnify the Director in the event that he was or is a party or is threatened to be made a party to, or otherwise requires representation by counsel in connection with, any threatened, pending or completed action, suit or proceeding, whether civil, criminal, administrative or investigative (other than an action by or in the right of the Company) by reason of the fact that he is or was or has agreed to become a director, officer, employee or agent of the Company, or is or was serving or has agreed to serve as a director, officer, employee or agent of any corporation, partnership, joint venture or other entity of which the Company owns 50% or more of the voting or equity interest (an "Affiliate") or any employee benefit plan of the Company or an Affiliate, or by reason of any action alleged 13 3. to have been taken or omitted in such capacity, against costs, charges, expenses (including attorneys' fees), judgments, fines and amounts paid in settlement actually and reasonably incurred by him or on his behalf in connection with such action, suit or proceeding and any appeal therefrom, if he acted in good faith and in a manner he reasonably believed to be in or not opposed to the best interests of the Company, and, with respect to any criminal action or proceeding, had no reasonable cause to believe his conduct was unlawful. The termination of any action, suit or proceeding by judgment, order, settlement, conviction, or upon a plea of nolo contendere or its equivalent, shall not, of itself, create a presumption that the Director did not act in good faith and in a manner which he reasonably believed to be in or not opposed to the best interests of the Company, and, with respect to any criminal action or proceeding, had reasonable cause to believe that his conduct was unlawful. Section 3. Actions or Suits by or in the Right of the Company. The Company shall indemnify the Director in the event that he was or is a party or is threatened to be made a party to, or otherwise requires representation by counsel in connection with, any threatened, pending or completed action or suit by or in the right of the Company to procure a judgment in its favor by reason of the fact that he is or was or has agreed to become a director, officer, employee or agent of the Company, or is or was serving or has agreed to serve as a director, officer, employee or agent of any Affiliate or any employee benefit plan of the Company or an Affiliate, or by reason of any action alleged to have been taken or omitted in such capacity, against costs, charges and expenses (including attorneys' fees) actually and reasonably incurred by him or on his behalf in connection with the defense or settlement of 14 4. such action or suit and any appeal therefrom, if he acted in good faith and in a manner he reasonably believed to be in or not opposed to the best interests of the Company except that no indemnification shall be made in respect of any claim, issue or matter as to which such Director shall have been adjudged to be liable to the Company unless and only to the extent that the Court of Chancery of Delaware or the court in which such action or suit was brought shall determine upon application that, despite the adjudication of such liability but in view of all the circumstances of the case, such Director is fairly and reasonably entitled to indemnity for such costs, charges and expenses which the Court of Chancery or such other court shall deem proper. Section 4. Indemnification for Costs, Charges and Expenses of Successful Party. Notwithstanding the other provisions of this Agreement, to the extent that the Director has been successful on the merits or otherwise, including, without limitation, the dismissal of an action without prejudice, in defense of any action, suit or proceeding covered by this Agreement, or in defense of any claim, issue or matter therein, he shall be indemnified against all costs, charges and expenses (including attorneys' fees) actually and reasonably incurred by him or on his behalf in connection therewith. Section 5. Adverse Finding. Any indemnification under Sections 2 and 3 of this Agreement (unless ordered by a court) shall be paid by the Company, in accordance with the procedures set forth in Section 7 of this Agreement, unless a determination is made within the 90-day period set forth in Section 7 (A) by the Board of Directors by a majority vote of a quorum consisting of directors who were not parties to such action, suit or 15 5. proceeding, or (B) if such a quorum is not obtainable, or, even if obtainable a quorum of disinterested directors so directs, by independent legal counsel in a written opinion, or (C) by the stockholders, that indemnification of the Director is not proper in the circumstances because he has not met the applicable standard of conduct set forth in Sections 2 and 3 of this Agreement. Section 6. Advances. Costs, charges, expenses (including attorneys' fees), judgments, fines and amounts paid in settlement incurred by the Director covered by Sections 1 and 2 of this Agreement in defending any pending, threatened or completed action, suit or proceeding, whether civil, criminal, administrative or investigative, and costs, charges and expenses (including attorneys' fees) incurred by the Director covered by Section 3 of this Agreement in defending an action by or in the right of the Company shall be paid by the Company in advance of the determination of the Director's entitlement to indemnification promptly upon receipt by the Company of evidence of the Director's obligation to pay such costs, charges, expenses, judgments, fines or amounts paid in settlement (as the case may be); provided, however, that such payment shall be made in advance of the determination of the Director's entitlement to indemnification only with the undertaking of the Director (which the Director hereby gives) that the Director shall repay all amounts so advanced in the event that it shall ultimately be determined that the Director is not entitled to be indemnified by the Company as authorized in this Agreement. The Board of Directors may, upon approval of the Director, authorize the Company's counsel to 16 6. represent the Director, in any action, suit or proceeding, whether or not the Company is a party to such action, suit or proceeding. Section 7. Procedure for Indemnification. After the final disposition of any action, suit or proceeding covered by this Agreement, the Director shall send to the Company a written request for any indemnification sought under this Agreement. No later than 90 days following receipt by the Company of such request, the Company shall cause the indemnification provided hereunder to be authorized and paid, unless during such 90-day period, with respect to indemnification under Section 1 of this Agreement, a finding by the Company that the indemnification requested is not permitted by the laws of the State of Delaware then in effect is made and with respect to indemnification under Section 2 or 3 of this Agreement, the adverse finding described in Section 5 of this Agreement is made pursuant to such Section. The burden of proving that such standard has not been met shall be on the Company. The Director shall be given an opportunity to be heard and to present evidence on his behalf in connection with consideration by the Board of Directors, independent legal counsel, or the stockholders, as the case may be, of any findings required by applicable law. If the Company (A) does not pay the indemnification requested by the Director within 90 days after the receipt of such request, or (B) does not pay promptly an advance in accordance with Section 6, the Director's right to indemnification or to any advance and the Company's right to the repayment of any advance shall be enforceable in any court of competent jurisdiction. In any such action, neither the failure of the Company (including its Board of Directors, its independent legal counsel, and its stockholders) to have 17 7. made a determination prior to the commencement of such action that indemnification of the Director is proper in the circumstances because he has met the applicable standard of conduct set forth in Section 2 or 3 of this Agreement, nor the fact that the Company has made an adverse finding pursuant to Section 5 of this Agreement, shall be a defense to the action or create a presumption that the Director has not met the applicable standard of conduct. However, it shall be a defense to the action (other than an action brought to enforce a claim for an advance) if it is established that the Director has not met the applicable standard of conduct set forth in Section 2 or 3 of this Agreement. The Director's costs and expenses (including attorneys' fees) incurred in connection with successfully establishing his right to indemnification (including his right to indemnification in the event he shall have been adjudged to be liable to the Company under Section 3 of this Agreement) or any advance, in whole or in part, in any such action shall also be indemnified by the Company. Any action instituted by the Company or by the Director under this Agreement may be maintained as to the Company and the Director in any court of competent jurisdiction, including but not limited to the courts of the State of Delaware. The Company and the Director each consents to the exercise of jurisdiction over it or him, as the case may be, by the Court of Chancery of Delaware. Section 8. Voluntary Proceedings. The Company shall not indemnify the Director or pay any advance to the Director in connection with any threatened, pending or completed action, suit or proceeding, whether civil, criminal, administrative or investigative, voluntarily commenced by such Director against the Company, any affiliate or any other director, 18 8. officer, employee or agent of the Company or any Affiliate or any employee benefit plan of the Company or an Affiliate unless the institution of such action, suit or proceeding was authorized prior to its commencement by a majority vote of the Board of Directors or the Director is successful on the merits in such action, suit or proceeding. Section 9. Notice to Company. The Director must provide prompt written notice to the Company of any pending or threatened action, suit or proceeding in connection with which the Director may assert a right to be indemnified hereunder; however, failure to provide such notice shall not be construed as a waiver of any right to an advance or indemnification hereunder. Section 10. Other Rights; Continuation of Right to Indemnification. The indemnification and advances provided by this Agreement shall not be deemed exclusive of any other rights to which a Director seeking indemnification may be entitled under any law (common or statutory), provision of the Company's Certificate of Incorporation or By-Laws, vote of stockholders or disinterested directors or otherwise, both as to action in his official capacity and as to action in another capacity while holding office or while employed by or acting as agent for the Company, and shall continue as to a person who has ceased to be a Director, and shall inure to the benefit of the estate, heirs, executors and administrators of the Director. Section 11. Amendments. This Agreement may not be amended without the agreement in writing of the Company and the Director. Section 12. Savings Clause. If this Agreement or any portion hereof shall be deemed invalid, illegal or unenforceable in any respect, the validity, legality and 19 9. enforceability of the remaining provisions contained herein shall not in any way be affected or impaired thereby, and the Company shall nevertheless indemnify the Director as to costs, charges and expenses (including attorneys' fees), judgments, fines and amounts paid in settlement with respect to any action, suit or proceeding, whether civil, criminal, administrative or investigative, including an action by or in the right of the Company, to the full extent permitted by any applicable portion of this Agreement that shall not have been invalidated and to the full extent permitted by applicable law. Section 13. Survival Clause. The Company acknowledges that in continuing to provide services to the Company, the Director is relying on this Agreement. Accordingly, the Company agrees that its obligations hereunder will survive (a) any actual or purported termination of this Agreement by the Company or its successors or assigns whether by operation of law or otherwise, and (b) termination of the Director's services to the Company, whether such services were terminated by the Company or the Director, with respect to any claim, action, suit or proceeding covered by Section 1, 2 or 3 hereof, whether or not such claim is made or action, suit or proceeding is threatened or commenced before or after the actual or purported termination of this Agreement or the termination of the Director's services to the Company. Section 14. Successors and Assigns. This Agreement shall be binding on the successors and assigns of the Company whether by operation of law or otherwise and shall inure to the benefit of the estate, heirs and personal representatives of the Director. 20 10. Section 15. Governing Law. This Agreement shall be governed in all respects, including validity, interpretation and effect, by the laws of the State of Delaware (without giving effect to the provisions thereof relating to conflicts of law). IN WITNESS WHEREOF, this Agreement has been executed by the parties thereto, in the case of the Company, by a duly authorized officer thereof on its behalf. SONAT INC. By ------------------------------------------- Ronald L. Kuehn, Jr. Chairman of the Board, President and Chief Executive Officer ------------------------------------------- Michael E. Zilkha Signature page of Indemnity Agreement dated as of January 30, 1998, between Sonat Inc. and above named Director. EX-10.15 9 FORM OF SONAT INC. EXECUTIVE LIFE INSUR. PROGRAM 1 EXHIBIT 10.15 SCHEDULE OF PARTICIPANTS SONAT INC. EXECUTIVE LIFE INSURANCE PROGRAM The following are participants in the Sonat Inc. Executive Life Insurance Program, form of which is filed as Exhibit 10-(20) to the Sonat Inc. Annual Report on Form 10-K for the year ended December 31,1 990: Thomas W. Barker, Jr. Richard B. Bates Beverley T. Krannich Ronald L. Kuehn, Jr. James E. Moylan, Jr. John M. Musgrave James A. Rubright Donald G. Russell William A. Smith EX-10.16 10 SONAT INC. DEFERRED COMPENSATION PLAN 1 EXHIBIT 10.16 SONAT INC. DEFERRED COMPENSATION PLAN PLAN SUMMARY The Sonat Inc. Deferred Compensation Plan ("the Plan") provides you with a tax-advantaged opportunity to save for retirement and other future income needs. You are encouraged to review the Plan with your family and your tax and financial advisors to determine how the Plan can help you meet your personal financial goals. The following is a summary of the Plan, in a Question-and-Answer format. The official provisions of the Plan are in the Plan document, which you may obtain from the Human Resources Department in Birmingham. If there is any conflict or inconsistency between this summary or any other written or oral communication and the Plan document, the official Plan document will always govern. The Plan is subject to continued compliance with Internal Revenue Service regulations. HOW THE PLAN WORKS 1. What is the Sonat Inc. Deferred Compensation Plan? - An Overview The Plan is a non-qualified deferred compensation program that allows you to make pre-tax deferrals of base pay and bonuses, allocate the deferrals to various investment options, and have your account balance paid to you in the future. You will be able to elect, for each year, the amount of base pay and bonus that you wish to defer. You may defer up to 25% of your base pay and up to 90% of your annual bonus. Your deferrals will accrue earnings as if held in "phantom" investments in the investment options available under the Sonat Savings Plan. Generally speaking, distribution will be made upon termination of your employment. You may instead select a specified date on which to receive payments, which may be before or after your anticipated retirement or termination date. Payment will be made as a lump sum or in annual installments, at your election. 2. What are the advantages of the Deferred Compensation Plan? A. Reduced Current Income Taxes. Your current federal taxable income is reduced by the amount you elect to defer. However, you will be taxed at the ordinary income rates in effect at the time of distribution of your account. All state income tax laws (except in Pennsylvania and New Jersey) follow the federal law and exclude the amount you defer from current taxable income. Please consult with your personal tax advisor regarding the laws for your particular state. 2 B. More Dollars Available for Investment. The initial deferral (investment) into this Plan can be a more efficient investment than most other outside investments, because you are investing pre-tax income rather than after-tax income. For example:
=============================== Outside Investment This Plan ============================================================== Compensation $1.00 $1.00 Current Income Tax at 36% -.36 -.00 Net Funds Invested $ .64 $1.00 ==============================================================
C. Tax-Deferred Accumulation. Earnings in your Plan account are not subject to federal income tax until paid to you. As a result, investments in the Plan can generate higher results than similar investments whose earnings are taxed each year. D. Possible Future Tax Savings. You may achieve additional income tax savings when you receive your deferral account, if you are in a lower tax bracket at that time. 3. What are the trade-offs if I participate? A. Reduced Current Cash Flow. By deferring your compensation, you reduce your current cash flow. Therefore, if you require a greater amount of current income, deferral may not be appropriate for you. However, the cash flow reduction may be significantly less than the amount deferred, since your deferral is in pre-tax dollars. For example, if your tax rate is 36%, $10,000 of compensation produces approximately $6,400 of after-tax income. Therefore, deferring $10,000 reduces your disposable after-tax income by $6,400, and you also have the equivalent of $10,000 working for you in your deferral account. B. The Program Is Unfunded. Under current IRS regulations, your deferral account must be an unsecured general obligation of Sonat Inc. and may not be funded in any way. Therefore, your right to receive 2 3 payments under the Plan will be subject to Sonat Inc.'s ability to pay, and in the event of Sonat's bankruptcy or insolvency will be the same as any other unsecured general creditor. The Plan does not create a trust relationship between you, or any other person, and the Company. C. Restricted Access To Your Money. You do not have access to your deferrals and earnings until the date you specify on your election form, except in the limited circumstances discussed at Question 15. D. Employment and Local Taxes. Amounts you defer under the Plan are subject to Social Security taxes (up to the statutory limit), Medicare taxes and local (county and city) taxes (if applicable). Withholding of these taxes on base pay deferral amounts will be made from your remaining undeferred base pay. If you defer any of your bonus, the taxes on your deferral will be withheld from the portion of the bonus that is not deferred. (This is the reason the Plan does not allow complete deferral of a bonus payout.) However, under current law, the payments from your accounts will not be subject to Social Security, Medicare or local taxes at the time of distribution. E. Possible Higher Tax Rate. The benefits of your deferral may be smaller than you would otherwise expect if, at the time of distribution, you are in a higher tax bracket than when you deferred. 4. How does the Deferred Compensation Plan compare with the Sonat Savings Plan? Please refer to Exhibit A of this Summary. 5. Does my participation affect my other Sonat benefits? Your participation in the Plan will have no effect on your other Sonat benefits. ELIGIBILITY 6. Who is eligible to participate in the Deferred Compensation Plan? To be eligible to participate in the Plan, you must be an officer of the Company or one of its principal subsidiaries, and must be selected for participation by the Company's Chief Executive Officer. DEFERRAL ELECTIONS 7. What deferral elections can I make? 3 4 Each year you will be able to elect to defer both base pay and bonus. Each item of compensation (base pay and bonus) for each year will be treated as a discrete election. With each deferral election, you will select how much you wish to defer, how you wish it to be paid (lump sum or installments), and when you wish to receive it in the future. You will also select how the deferred amounts will be allocated among the investment choices under the Plan. All of these elections are discussed in more detail below. 8. When do I make my election to defer? An election to defer base pay must be made before the calendar year in which the base pay is earned. The election to defer a bonus earned for a given calendar year must be made by March 31 of that year. Special rules will apply for an officer who first becomes eligible to participate in the Plan after January 1, 1997. Such an officer must make deferral elections for the remainder of the year's base pay, and the bonus earned for that year, during that year and within 31 days after becoming eligible. 9. How much can I defer? You may defer up to 25% of your annual base pay. Your deferral can be for 1, 2, 3, 4 or 5% of base pay, or in 5% increments up to 25%. You may also defer up to 90% of your annual bonus in 10% increments. An election to defer a bonus will apply only to your annual bonus opportunity, and not to any special bonus that you may receive. In certain circumstances, if you elect to defer 90% of an annual bonus, the remaining 10% may not be enough to satisfy the applicable federal and state income, Social Security, Medicare and local tax withholding obligations. If this situation applies to you, the Company will automatically reduce the amount of bonus deferred (generally to about 85%), and use the remainder to satisfy the tax withholding obligations. Your election to defer is irrevocable, so you should carefully assess the impact of your deferral elections on your personal financial situation. 10. What are my investment options? Your deferral accounts will accrue earnings, according to your election, as if held in the investment options available under the Sonat Savings Plan - Sonat Stock Fund, Benchmark Government, PIMCO Total Return, Fidelity Puritan, Benchmark Equity Index, MFS Research, Fidelity Magellan, T. Rowe Price New Horizons, and T. Rowe Price International. Your allocations to these investment choices must be in 1% increments. For more information, see the Summary of Investment Options for the Plan. 4 5 Please note that your deferrals will not actually be invested in these funds, but will be valued as if they were. (This bookkeeping treatment is often called a "phantom" investment.) Your account's value will change as the values of the relevant funds change, including reinvestments of dividends and earnings. 11. Can I change how future allocations will be invested, and move funds among the investment options? You may change the way future allocations are invested by selecting a new allocation (in 1% increments, with a total of 100% among the investment choices). You may also transfer your current balance among the investment options by selecting (in 1% increments, with a total allocation of 100%) the options in which you want your funds to be invested. Each procedure can be done by phone on any business day, and will be effective on the day you make the phone call. To process these transactions, you should call Mike Byrne in the Company's Human Resources Department (205/325-7329). 12. When will I receive my deferral account balance? Each time you make a deferral election, you will elect a payment event upon which to receive the amount deferred (and earnings on that amount) - termination of employment, or a specified future date. Each year and each element of compensation (base pay or bonus) will be treated as a separate election. Special Plan provisions apply in the event of your death, or in the event of a change of control of the Company. A. Termination of Employment You may select termination of employment as the payment event. This selection would cover termination due to early or normal retirement, disability, discharge, or resignation. An election to receive a deferred amount (and earnings) upon termination of employment will be irrevocable. B. Specified Date You may instead select a specified date on which to receive the amount deferred (and earnings). Such a date must be a July 1, must be at least two years after the deferral election is made, and must be no later than your 70th birthday. If you select a payment event of a specified date you may, by making a subsequent election at least 12 months before the specified date, elect to postpone the date of payment. The new date must be a July 1, must be at least two years after the date you first selected, and must be no later than your 70th birthday. (You may not select termination of employment as your new payment event.) You may postpone the specified payment date of a given deferral (and earnings) only once. For example, if you elect to have a portion of your 1998 base pay (and earnings) paid on July 1, 2001, you could elect a later payment date (on or after July 1, 2003) by filing an election before July 1, 2000. 5 6 C. Death Upon your death, your entire balance in the Plan will be paid to your beneficiary in a cash lump sum on the fifteenth day of the calendar quarter following your death (or the first business day thereafter). For information about beneficiary designations, see Question 14. D. Change of Control If your employment terminates within three years after a Change of Control of the Company (as defined in the Plan), your entire balance in the Plan will be paid to you in a cash lump sum as soon as practicable (and within 30 days) after your termination of employment. Also, if a Change of Control occurs after termination of your employment, your entire balance in the Plan will be paid to you in a cash lump sum as soon as practicable (and within 30 days) after the Change of Control. E. Committee Discretion to Defer Payment Under current tax law, if you are an executive whose pay is disclosed in the Company's proxy statement, and if the "non-performance based" pay you receive in a year exceeds $1,000,000, the Company will not receive a tax deduction for the excess non-performance based pay. In general, under the Company's current compensation programs, the following elements of pay are "non-performance based" when received: base pay; a portion of annual bonus; base pay deferred from previous years (and earnings thereon); and a portion of annual bonuses deferred from previous years (and earnings thereon). If the Executive Compensation Committee determines that your receipt of a payment from the Plan could cause the Company to lose a tax deduction under this law, the Committee can defer all or part of the payment to eliminate or reduce loss of the tax deduction. Under current law, this issue can generally arise only if you receive a payment before termination of employment. 13. How will my account be paid out of the Plan? When you make a deferral election, you will elect how you wish to receive the amount deferred (and earnings on that amount). As with the payment event, each year and each element of compensation (base pay and bonus) will be treated as a separate election. You may choose, in each case, a lump sum payment or annual installments. A. Annual Installments You may elect to have payment made to you in 2-15 annual installments. If you make an installment election, that election is irrevocable. If you elect installment payments to begin on a 6 7 specified future date, the first payment will be made on the July 1 that you selected (or, if that day is not a business day, on the next business day). If you elect installment payments to begin upon termination of employment, the first payment will be made on the fifteenth day of the following calendar quarter (or if that day is not a business day, on the next business day). Each subsequent payment will be made on the anniversary of the preceding payment. Each installment will equal (1) the balance of the amount deferred (and earnings) being paid out under the installment election at the time of payment, divided by (2) the number of payments remaining to be paid (including the current installment). For example, if you elect for a deferral (and earnings) to be paid in three annual installments beginning July 1, 2005, the first payment will equal 1/3 of the balance on July 1, 2005; the second installment will equal 1/2 of the balance on July 1, 2006; and the last installment will equal the remaining balance on July 1, 2007. B. Lump Sum If you make a lump sum election, payments will be made to you in that form. If you elect a lump sum, you may later decide, by making an irrevocable election at least 12 months before the payment event (that is, termination of employment or a specified date, according to your election), to instead receive the payment in 2-15 annual installments, as discussed above. Therefore, if you are not sure whether you want installment payments at the time you make a deferral election, you may wish to elect a lump sum, and consider making an installment election later. If a lump sum payment is to be made on a specified future date, payment will be made on the July 1 that you selected (or, if that day is not a business day, on the next business day). If a lump sum payment is to be made after your termination of employment, payment will be made on the fifteenth day of the following calendar quarter (or, if that day is not a business day, on the next business day). C. Account Valuation All investment options (except the Sonat Stock Fund investment) will be valued at the close of the June 15 (or, if that day is not a business day, the next business day) before the payment date (if payment is being made on a specified future date), or on the last business day of the calendar quarter before the payment date (if payment is being made upon termination of employment). The Sonat Stock Fund investment will be valued based on the average of the closing price of the Fund on the 10 business days ending on June 15 (or next business day) or the last business day of the calendar quarter (as the case may be). All installment payments will be made on a pro rata basis from your investments at the time of payment. 14. How do I name my beneficiary? 7 8 Upon your death, your beneficiary(ies) will be paid your entire Plan balance. You may make or change a beneficiary designation at any time, by filling out a Beneficiary Designation Form and filing it with the Company's Human Resources Department. You may name one or more primary beneficiaries, as well as one or more contingent beneficiaries (to receive your Plan balance if all primary beneficiaries predecease you). If you make no beneficiary designation, or if all designated beneficiaries predecease you, your Plan balance will be paid to your estate. ACCESS TO YOUR MONEY BEFORE THE PAYMENT EVENT 15. Can I get money from my account before the date I elect for deferral payments to begin? Access to your Plan balance before the payment event that you select is very limited. You may withdraw funds from your deferral account only in the event of an extreme and unforeseen financial hardship. A. Financial Hardship Distributions In the event of unusual, extraordinary expenses or unforeseen financial hardship, you may request a distribution of the amount reasonably necessary to meet your financial need. This definition of hardship is more stringent than the hardship provision in the Sonat Savings Plan, and does not, for instance, include college expenses, or costs in connection with a home purchase. It generally encompasses hardship generated by unforeseen circumstances, such as unreimbursed medical expenses, family loss of income by layoff and the like. The Executive Compensation Committee of the Board of Directors may approve or deny the request in its sole discretion, and distribution is limited to the amount necessary to relieve the hardship plus your income tax liability on the distribution. If approved, this distribution is not subject to any penalty taxes, and is ordinary income for federal and state income tax purposes. B. Loans Loans are not available from your account balance, since the Plan would lose its favorable tax treatment if loans were permitted. TAX CONSIDERATIONS 16. What are some of the more common tax-related questions that should concern me? Am I taxed on my deferrals or earnings credited to them? Under current tax law, neither your deferrals nor the earnings thereon are subject to federal income tax before withdrawal from the Plan. All state income laws (except in Pennsylvania and New Jersey) follow the federal law and exclude the amount you defer from current taxable income. Under current law, there will be no income tax liability until you actually receive a payment. Check with your legal or tax counsel concerning your specific state or local (city, county) tax laws. 8 9 What about Social Security, Medicare and Local taxes? Deferred amounts are subject to these taxes at the time of deferral. The eventual payment of your deferral accounts, including earnings, will not be subject to these taxes under current law. Distributions from the Plan will not reduce your Social Security benefits after retirement, as they do not represent wages for services performed in the calendar year of receipt. How will payments be reported? Payments made to you will be reported on Form W-2, whether you are employed or retired at time of distribution. Payments to beneficiaries made in the event of your death will be reported on Form 1099. Can I roll over my distribution to an IRA? No, because this is not a tax-qualified program under the Internal Revenue Code. When electing a Plan distribution, you should seek professional tax advice to determine the best course of action in light of your financial circumstances. Will the Plan benefits paid to my beneficiaries be included in my gross estate for federal estate tax purposes? Yes, the cumulative amounts in your account at the time of death will be included in your estate. If, however, your spouse is your beneficiary and the benefit qualifies for the estate tax marital deduction, the amount in your account may not increase your taxable estate. You should consult with your legal and financial advisors about beneficiary designations and the payment of benefits in the event of your death. How will my distributions be taxed? Under current law, distributions from your account are taxed as ordinary income when received, and no special tax advantages or penalties apply. Federal and state income taxes will be withheld from your payments when they are made. ENROLLMENT 17. How do I sign up for the Deferred Compensation Plan? You will be given enrollment materials a few weeks before a deferral election is required under the Plan. You should review these materials carefully with your family and financial advisors, and return all the necessary forms by the dates described in the materials. 9 10 18. Who can I talk to if I have questions about the Deferred Compensation Plan or the enrollment package? If you have general questions about the Plan or the enrollment materials, call Mike Byrne (205/325-7329) or Al Delchamps (205/325-7676). You should call Mike Byrne (205/325-7329) for information about your Plan accounts and the available investment options, to change the way future allocations to your account are invested, to move funds among the investment options, and for information regarding beneficiary designations. OTHER INFORMATION 19. What information will I receive about my Plan balance? You will receive a quarterly statement that will provide you with the balance in your account, deferrals and investment earnings for the quarter, and other information. 20. What are the Section 16 consequences of participating in the Plan? You need to review this Question and Answer only if you are an executive officer of Sonat Inc. who is subject to the provisions of Section 16 of the Securities Exchange Act. Section 16(b) requires executive officers to pay over to the Company any profit realized from the purchase and sale, or sale and purchase, of Company equity securities within any period of less than six months. Section 16(a) requires reports of changes in beneficial ownership of Sonat equity securities to the Securities and Exchange Commission. You will be notified if you are subject to Section 16. The following will describe how transactions in the Plan are treated for purposes of Sections 16(b) (short swing profit liability) and 16(a) (reporting). When a transaction is said to be "exempt", it means the transaction is not a "purchase" or a "sale" under Section 16(b). (As noted below, however, many exempt transactions still trigger reporting requirements under Section 16(a).) A. Contributions; Investment of Earnings Acquisitions of units of the phantom Sonat Stock Fund through deferrals and reinvestment of earnings under the Plan are exempt under Section 16(b). B. Transfers Among Investment Options; In-Service Cash Withdrawals and Payments; Savings Plan Loans Transfers among investment options under the Plan are called "discretionary" transactions under the Section 16 rules. The Section 16 consequence of a discretionary transaction in the Plan is 10 11 affected by the discretionary transactions in any Sonat plan that involves stock or phantom stock funds - the Sonat Savings Plan, the Savings Plan feature of the Supplemental Benefit Plan, and the Deferred Compensation Plan. A discretionary disposition of units of the Sonat Stock Fund or phantom Sonat Stock Fund in any of these plans (such as a transfer into a mutual fund investment, or the liquidation of stock to acquire loan proceeds or to fund a cash in-service withdrawal from the Savings Plan) will be exempt unless you elected to make a discretionary acquisition (such as transfer from a mutual fund (or phantom mutual fund) into units of the Sonat Stock Fund (or phantom Sonat Stock Fund)) within the previous 6 months under any plan. Similarly, a discretionary acquisition of units of the Sonat Stock Fund (or phantom Sonat Stock Fund) under any plan (as described above) is exempt, unless you elected to make a discretionary disposition of units of the Sonat Stock Fund (or phantom Sonat Stock Fund) under any plan within the previous 6 months. For example, assume the following sequence of transactions, with no prior discretionary transactions under any plan: December 1, 1998 -- you transfer 1,000 units out of the Sonat Stock Fund in the Savings Plan into a mutual fund. January 1, 1999 -- you transfer 1,000 units out of the phantom Sonat Stock Fund in the Supplemental Savings Plan into a phantom mutual fund. March 1, 1999 -- you acquire 1,000 units of the phantom Sonat Stock Fund in the Deferred Compensation Plan by transfer from a mutual fund. July 1, 1999 -- you take an in-service cash withdrawal from the Savings Plan which results in the liquidation of 500 units of the Sonat Stock Fund. The first two transactions are exempt under Section 16(b), because they are both dispositions of Sonat stock or phantom stock and there was no discretionary acquisition under any plan within the preceding six months. The March 1 transaction is a non-exempt "purchase" under Section 16(b), because it is a discretionary acquisition that occurs only two months after a discretionary disposition (the January 1 transfer). The fact that the January and March transactions occurred in different plans does not change the result. The March 1 purchase can be matched against any sale that occurs inside or outside the plans within six months before or after March 1 (including a sale resulting from a cashless option exercise). The July transaction is a discretionary disposition that occurred within three months of the March 1 discretionary acquisition, so it is a non-exempt "sale" under Section 16(b). The March purchase and the July sale will be matched against each other for Section 16(b) short-swing profit liability purposes. 11 12 C. Distributions From the Plan In general, the liquidation of phantom Sonat Stock Funds units in connection with a distribution from the Plan is a Section 16(b) "sale", unless the Executive Compensation Committee of the Company's Board of Directors specifically approves the related deferral election. (However, such a liquidation is exempt under Section 16(b) if the distribution results from termination of employment, if you did not initially elect a lump-sum payment and subsequently change to annual installments.) D. Reporting Requirements Transactions in the Plan that result in a Section 16 "purchase" or "sale" must be reported on Form 4. All other (exempt) transactions must be reported on Form 5 (or, if you so elect, on an earlier Form 4). Each Form 4 or Form 5 report that shows a transaction in phantom Sonat Stock Fund units must show the total number of shares of phantom Sonat stock represented by the units credited to your account in the Plan. 21. Can the Plan be amended or discontinued? The Company's Board of Directors retains the right to amend or terminate the Plan at any time. However, your accrued benefits at the time of any amendment, suspension or termination of the Plan cannot be reduced. 12 13 SONAT INC. DEFERRED COMPENSATION PLAN PLAN SUMMARY EXHIBIT A Comparison of Non-qualified Deferred Compensation Plan and Before-Tax (401K) Contributions to Qualified Sonat Savings Plan
===================================================================================== Non-qualified Deferred Qualified Compensation Principal Characteristics Sonat Savings Plan Plan ===================================================================================== Yes Deferral on Pre-Tax Basis Yes(1) - ------------------------------------------------------------------------------------- Yes FICA/Medicare/Local Withheld on Deferrals Yes - ------------------------------------------------------------------------------------- Yes Earnings Accumulate Tax Deferred Yes - ------------------------------------------------------------------------------------- No Actual Funds or Assets Held in Participant Accounts Yes - ------------------------------------------------------------------------------------- Yes Distributions Subject to Income Taxes Yes - ------------------------------------------------------------------------------------- Federal Income Tax Statutory Withholding Rate (28%) on Lump-Sum Payments 20%(2) - ------------------------------------------------------------------------------------- No Rollover into an IRA Allowed Yes - ------------------------------------------------------------------------------------- No 5 or 10 Year Income Tax Averaging Available Yes(3) - ------------------------------------------------------------------------------------- Yes(4) Hardship Withdrawals Available Yes - ------------------------------------------------------------------------------------- No Loans Against Accounts Available Yes - ------------------------------------------------------------------------------------- No 10% Penalty Tax for pre-age 59 1/2 distributions Yes(2) =====================================================================================
- -------------------------- (1) Amount limited by IRS rules. (2) If not rolled over. (3) 5 year averaging not available on distributions after 1999; 10 year averaging grandfathered for those born on or before January 1, 1936. (4) "Hardship" definition is much more stringent than in the Savings Plan. 13 EX-12 11 COMPUTATION OF RATIO OF EARNINGS TO FIXED CHARGES 1 EXHIBIT 12 SONAT INC. AND SUBSIDIARIES COMPUTATION OF RATIOS OF EARNINGS FROM CONTINUING OPERATIONS TO FIXED CHARGES TOTAL ENTERPRISE (a)
Years Ended December 31, ------------------------------------------------------------------------- 1997 1996 1995 1994 1993 --------- --------- --------- --------- --------- (In Thousands) Earnings from Continuing Operations: Income before income taxes $ 256,457 $ 294,304 $ 282,497 $ 154,871 $ 364,198 Fixed charges (see computation below) 153,051 152,830 165,154 127,909 129,160 Less allowance for interest capitalized (3,778) (5,094) (6,540) (6,692) (4,101) --------- --------- --------- --------- --------- Total Earnings Available for Fixed Charges $ 405,730 $ 442,040 $ 441,111 $ 276,088 $ 489,257 ========= ========= ========= ========= ========= Fixed Charges: Interest expense before deducting interest capitalized $ 145,015 $ 145,406 $ 157,653 $ 120,295 $ 122,204 Rentals(b) 8,036 7,424 7,501 7,614 6,956 --------- --------- --------- --------- --------- $ 153,051 $ 152,830 $ 165,154 $ 127,909 $ 129,160 ========= ========= ========= ========= ========= Ratio of Earnings to Fixed Charges 2.7 2.9 2.7 2.2 3.8 ========= ========= ========= ========= =========
- ----------- (a) Amounts include the Company's portion of the captions as they relate to persons accounted for by the equity method. (b) These amounts represent 1/3 of rentals which approximate the interest factor applicable to such rentals of the Company and its subsidiaries and unconsolidated affiliates. EX-21 12 SUBSIDIARIES OF SONAT, INC. 1 EXHIBIT 21 SUBSIDIARIES OF SONAT INC. AS OF FEBRUARY 10, 1998
Percent of Country of Voting Organization Securities or, if United Owned by States, State Immediate Name of Company of Organization Parent - --------------- --------------- ---------- SONAT INC.: CITRUS CORP. (a) Delaware 50% SNT REALTY INC. (b) Alabama 100% SONAT ENERGY SERVICES COMPANY Delaware 100% Sonat Intrastate-Alabama Inc. Alabama 100% Sonat Marketing Company Delaware 100% Sonat Marketing Company L. P.( c) Delaware 65% JV Trading Inc. (d) Delaware 100% Keystone Trading Company Delaware 100% Sonat Public Service Company L.L.C.(e) Delaware 50% Unicom Gas Services LLC(f) Delaware 50% Vail Trading Company Delaware 100% Sonat Power Inc. (g) Delaware 100% Sonat Mid-Georgia L.L.C.(h) Delaware 100% Pacific Gas Power Inc. Delaware 100% Sonat Power Marketing Inc. Delaware 100% Sonat Power Marketing L. P. (i) Delaware 65% Utilities Service Group L.P. (j) Delaware 100%
- ---------------------------- Indentations indicate subsidiaries of subsidiaries 2
Percent of Country of Voting Organization Securities or, if United Owned by States, State Immediate Name of Company of Organization Parent - --------------- --------------- ---------- SONAT EXPLORATION COMPANY (k) Delaware 100% Field Gas Gathering Inc. Delaware 100% Sonat Minerals Inc. Delaware 100% Sonat Minerals Leasing Inc. Delaware 100% Sonat Texas Gathering Company Delaware 100% Sonat Oil Transmission Inc. Delaware 100% Stateline Gas Gathering Company Delaware 100% SONAT EXPLORATION GOM INC Delaware 100% Sonat Energy Development I Company Delaware 100% SONAT POWER SYSTEMS INC Delaware 100% SONAT SERVICES INC Alabama l00% Sonat Services (D. C.) Inc. Delaware 100% SOUTHERN NATURAL GAS COMPANY Delaware 100% Destin Pipeline Company LLC(l) Delaware 33.33% Etowah LNG Company, L.L.C.(m) Delaware 50% Sonat Gathering Company Delaware 100% Sonat Ventures Inc. (n)(o) Delaware 100% Sonat NGV Technology Inc. (p) Delaware 100% South Georgia Natural Gas Company Delaware l00% Southern Deepwater Pipeline Company (q) Delaware 100%
- 2 - 3
Percent of Country of Voting Organization Securities or, if United Owned by States, State Immediate Name of Company of Organization Parent - --------------- --------------- ---------- Southern LNG Inc. Delaware l00% Southern Gas Storage Company (r) Delaware l00% Southern Offshore Pipeline Company (q) Delaware 100%
Notes - ----- (a) Citrus Corp. owns 100 percent of the stock of Florida Gas Transmission Company, Florida Intrastate Pipeline Company, Citrus Trading Corp., Citrus Industrial Sales Company, Citrus Energy Services, Inc. and Citrus Interstate Pipeline Company. Houston Natural Gas Company, a wholly owned subsidiary of Enron Corp., owns the remaining 50 percent of Citrus Corp. (b) SNT Realty Inc. has a 50-percent interest in Fifth Avenue Realty Company, an unincorporated joint venture, the remaining 50 percent of which is owned by AmSouth Bank N.A. (c) Sonat Marketing Company is a 65-percent participant and General Partner in Sonat Marketing Company L. P., a limited partnership; AGL Energy Services, Inc., a wholly owned subsidiary of AGL Resources, Inc., holds a 35-percent limited partnership interest. (d) JV Trading Inc. has a 50-percent partnership interest in Seminole Gas Marketing; the remaining 50-percent partnership interest of which is held by Suwannee Gas Marketing, Inc., a subsidiary of Lykes Energy, Inc. (e) Sonat Marketing Company L.P. has a 50-percent interest in Sonat Public Service Company L.L.C., a limited liability company, the remaining 50 percent of which is owned by PSNC Production Corporation, a wholly owned subsidiary of Public Service Company of North Carolina, Inc. (f) Sonat Marketing Company L.P has a 50-percent interest in Unicom Gas Services LLC, a limited liability company, the remaining 50 percent of which is held by Unicom Energy Services, Inc., a wholly owned subsidiary of Unicom Corporation. (g) Sonat Mid-Georgia L.L.C. is a 50-percent participant in Mid-Georgia Cogen L.P., the remaining 50 percent is held jointly by NCP Inc. and NCP Houston Power Inc., wholly owned subsidiaries of GPU, Inc. - 3 - 4 (h) Sonat Power Inc. is a 50-percent participant in AES/Sonat Power L.L.C., a limited liability company, the remaining 50-percent interest of which is held by AES Gas Power, Inc., a wholly owned subsidiary of The AES Corporation. (i) Sonat Power Marketing Inc. is a 65-percent participant and General Partner in Sonat Power Marketing L.P., a limited partnership; AGL Power Services, Inc., a wholly owned subsidiary of AGL Resources, Inc., holds a 35-percent limited partnership interest. (j) Sonat Energy Services Company has a 64-percent limited partnership interest and a 1-percent general partnership interest and Sonat Power Marketing Inc. has a 35-percent limited partnership interest in Utilities Service Group L.P., a Delaware limited partnership. (k) Sonat Exploration Company has a 50-percent interest in Black Warrior Methane Corp. and Black Warrior Transmission Corp., the remaining 50 percent of each being owned by Jim Walter Resources, Inc. (l) Southern Natural Gas Company has a 33.33-percent interest in Destin Pipeline Company LLC, a limited liability company, the remaining 66.66-percent interest is held equally by Amoco Destin Pipeline Company, a wholly owned subsidiary of Amoco Corporation, and Shell Destin, LLC, a wholly owned subsidiary of Shell Oil Company. (m) Southern Natural Gas Company is a 50-percent participant in Etowah LNG Company, L.L.C., a limited liability company, the remaining 50 percent is held by AGL Peaking Services, Inc., a wholly owned subsidiary of AGL Resources, Inc. (n) Sonat Ventures Inc. is a 50-percent participant in Monarch CNG, an Alabama general partnership, the remaining 50-percent interest of which is held by Midtown NGV, Inc., a wholly owned subsidiary of Energen Corporation. (o) Sonat Ventures Inc. is a 50-percent participant in Florida Natural Fuels, Ltd., a Florida limited partnership, the remaining 50-percent interest of which is held by Suwannee Gas Marketing, Inc., a wholly owned subsidiary of Lykes Energy, Inc. (p) Sonat NGV Technology Inc. is a one-half participant in NGV Southeast Technology Center, L.L.C., a Georgia limited liability company, the remaining 50 percent of which is held by Georgia Energy Company, a subsidiary of AGL Resources, Inc. (q) Southern Deepwater Pipeline Company and Southern Offshore Pipeline Company each have a 50-percent interest in Sea Robin Pipeline Company, an unincorporated joint venture. (r) Southern Gas Storage Company has a 50-percent interest in Bear Creek Storage Company, an unincorporated joint venture, the remaining 50 percent of which is owned by Tennessee Storage Company, a wholly owned subsidiary of Tennessee Gas Pipeline Company, a subsidiary of El Paso Energy Corporation. Bear Creek Storage Company has a l00-percent interest in Bear Creek Capital Corporation. -4- EX-22 13 PROXY STATEMENT OF SONAT DATED MARCH 21, 1998 1 EXHIBIT 22 SONAT INC. P. O. BOX 2563, BIRMINGHAM, ALABAMA 35202 TELEPHONE: (205) 325-3800 NOTICE OF ANNUAL MEETING OF STOCKHOLDERS TO BE HELD APRIL 23, 1998 To Our Stockholders: The Annual Meeting of Stockholders of Sonat Inc., a Delaware corporation, will be held at the AmSouth Upper Lobby Auditorium, AmSouth-Harbert Plaza, Birmingham, Alabama, at 9:00 a.m., local time, on Thursday, April 23, 1998, for the following purposes: 1. To elect four Directors as members of the Board of Directors of the Company, to serve until the 2001 Annual Meeting of Stockholders and until their respective successors have been duly elected and qualified. 2. To elect an Auditor of the Company for the ensuing year. The Board of Directors of the Company has recommended Ernst & Young LLP, the present Auditor, for election as Auditor (Proposal No. 1). 3. To transact such other business as may properly be brought before the meeting. Only holders of Common Stock of record at the close of business on March 6, 1998, will be entitled to vote at the meeting. The meeting may be adjourned from time to time without other notice than by announcement at the meeting, or any adjournment thereof, and any and all business for which the meeting is hereby noticed may be transacted at any such adjournment. By order of the Board of Directors, /s/ Beverley T. Krannich BEVERLEY T. KRANNICH Secretary Birmingham, Alabama March 21, 1998 YOUR VOTE IS IMPORTANT PLEASE COMPLETE, SIGN AND RETURN YOUR PROXY IN THE ENCLOSED RETURN ENVELOPE. 2 PROXY STATEMENT FOR ANNUAL MEETING OF STOCKHOLDERS APRIL 23, 1998 This Proxy Statement is furnished in connection with the solicitation of proxies by Sonat Inc. on behalf of the Board of Directors of the Company, to be voted at the Annual Meeting of Stockholders, called to be held on Thursday, April 23, 1998 at 9:00 a.m. at the AmSouth Upper Lobby Auditorium, AmSouth-Harbert Plaza, Birmingham, Alabama. Mailing of the Proxy Statement and the accompanying proxy card to the stockholders is expected to commence on or about March 23, 1998. VOTING SECURITIES As of January 31, 1998, the Company had outstanding 109,960,050 shares of Common Stock, par value $1.00 per share, which are its only voting securities. Holders of Common Stock are entitled to one vote for each share held. The Board of Directors has fixed March 6, 1998, as the record date for the determination of stockholders entitled to notice of, and to vote at, the Annual Meeting. THE PROXY If a proxy is executed properly by a stockholder and is not revoked, it will be voted at the Annual Meeting in the manner specified on the proxy, or if no manner is specified, it will be voted "FOR" the election of the four nominees for Director and "FOR" Proposal No. l. The submission of an executed proxy will not affect a stockholder's right to attend, and to vote in person at, the Annual Meeting. A stockholder who executes a proxy may revoke it at any time before it is voted by filing a written revocation with the Secretary of the Company, executing a proxy bearing a later date or attending and voting in person at the Annual Meeting. THE BOARD OF DIRECTORS URGES YOU TO SIGN, DATE AND RETURN THE ENCLOSED PROXY IN THE ENCLOSED RETURN ENVELOPE. ELECTION OF DIRECTORS The Company's Restated Certificate of Incorporation provides for the classification of the Board of Directors into three classes (Class I, Class II and Class III). Four Class III Directors are to be elected at the Annual Meeting of Stockholders to serve for a three-year term and until the election and qualification of their respective successors in office. On January 30, 1998, pursuant to the terms of an Agreement and Plan of Merger dated as of November 22, 1997 (the "Merger Agreement") between the Company and Zilkha Energy Company, an oil and gas exploration, development and production company ("Zilkha Energy"), a wholly-owned subsidiary of the Company merged with Zilkha Energy. As provided in the Merger Agreement, at the time of the merger the stock of Zilkha Energy was converted into the right to receive an aggregate of 24,158,380 shares of the Company's Common Stock. Of such shares, 8,594,305 were issued to Michael S. Zilkha; 14,429,037 shares were issued to the Selim K. Zilkha Trust (of which Selim K. Zilkha is settlor, trustee and beneficiary); and 1,135,038 shares were issued to the Selim K. Zilkha (1996) Annuity Trust (of which Selim K. Zilkha is beneficiary during the annuity period). On March 29, 1998, the Selim K. Zilkha (1996) Annuity Trust will expire, substantially all of the shares of the Company's Common Stock held in such Trust will be distributed to Michael S. Zilkha, and the remainder of such shares will be distributed to the Selim K. Zilkha Trust. Pursuant to the terms of the Merger Agreement, on December 5, 1997, the Board of Directors appointed Selim K. Zilkha as a Class III Director and Michael S. Zilkha as a Class I Director. Such appointments were effective immediately following the effective time of the merger on January 30, 1998. The Merger Agreement provides that as long as Michael S. Zilkha, Selim K. Zilkha and their 3 respective affiliates own at least 8% of the Company's Common Stock, the Board of Directors will nominate and support the reelection of the Zilkhas to the Board following the expiration of their respective terms. If such stock ownership drops below 8% of the Company's Common Stock, the Merger Agreement provides that the Zilkhas will promptly tender their resignations as Directors. The four nominees for election as Class III Directors are Max L. Lukens, Benjamin F. Payton, John J. Phelan, Jr. and Selim K. Zilkha. Each of the nominees has been previously elected as a Director by the stockholders, except for Selim K. Zilkha. In the event that any of the nominees becomes unavailable for any reason, which is not anticipated, the Board of Directors in its discretion may, unless it has taken appropriate action to provide for a lesser number of Directors, designate a substitute nominee, in which event, pursuant to the accompanying proxy, votes will be cast for such substitute nominee. THE BOARD OF DIRECTORS RECOMMENDS A VOTE "FOR" MAX L. LUKENS, BENJAMIN F. PAYTON, JOHN J. PHELAN, JR. AND SELIM K. ZILKHA AS CLASS III DIRECTORS. NOMINEES FOR DIRECTOR -- CLASS III -- TERMS TO EXPIRE 2001 Max L. Lukens [Picture] MAX L. LUKENS, age 49, is Chairman, President and Chief Executive Officer of Baker Hughes Incorporated, the principal business of which is the provision of products and services to the petroleum and continuous process industries. He has served as a Director of the Company since 1995. Mr. Lukens is also a Director of Baker Hughes Incorporated and Transocean Offshore Inc. During the past five years, Mr. Lukens has served as an executive officer of Baker Hughes Incorporated. - -------------------------------------------------------------------------------------------- BENJAMIN F. PAYTON, age 65, is President of Tuskegee Benjamin F. Payton [Picture] University, a position he has held during the past five years. He has served as a Director of the Company since 1992. Dr. Payton is also a Director of AmSouth Bancorporation, ITT Corporation, Liberty Corporation, Morrison's Health Care, Inc., Praxair, Inc. and Ruby Tuesday, Inc. - -------------------------------------------------------------------------------------------- JOHN J. PHELAN, JR., age 66, is the former Chairman of the John J. Phelan, Jr. [Picture] Board and Chief Executive Officer of the New York Stock Exchange. From 1991 to 1993, he was President of the International Federation of Stock Exchanges. Mr. Phelan has served as a Director of the Company since 1990. He is also a Director of Eastman Kodak Company, Merrill Lynch & Co., Inc. and Metropolitan Life Insurance Company and a Senior Advisor to The Boston Consulting Group. - --------------------------------------------------------------------------------------------
2 4 SELIM K. ZILKHA, age 70, is the former Chief Executive Selim K. Zilkha [Picture] Officer of Zilkha Energy. He served as the sole Director and Chief Executive Officer of Zilkha Energy from March 1984 until January 1998. Prior to such time, Mr. Zilkha was a banker with Zilkha & Sons in the United States and Europe from 1947 to 1955 and in London from 1955 to 1960. In 1960, he founded Mothercare, PLC, a retail chain catering to mothers-to-be, babies and small children in Great Britain, Europe and the United States. Mr. Zilkha sold his interest in Mothercare, PLC in January 1982. - --------------------------------------------------------------------------------------------
CONTINUING DIRECTORS -- CLASS I -- TERMS TO EXPIRE 1999 WILLIAM O. BOURKE, age 70, is the former Chairman of the William O. Bourke [Picture] Board of Directors and Chief Executive Officer of Reynolds Metals Company, an aluminum and consumer products company. He has served as a Director of the Company since 1990. Mr. Bourke is also a Director of Merrill Lynch & Co., Inc. During the past five years prior to his retirement in April 1992, Mr. Bourke served as an executive officer of Reynolds Metals Company. - -------------------------------------------------------------------------------------------- RONALD L. KUEHN, JR., age 62, is Chairman of the Board, Ronald L. Kuehn, Jr. [Picture] President and Chief Executive Officer of the Company. He has served as a Director of the Company since 1981. Mr. Kuehn is also a Director of AmSouth Bancorporation, Praxair, Inc., Protective Life Corporation, The Dun & Bradstreet Corporation, Transocean Offshore Inc. and Union Carbide Corporation, and a member of the Board of Trustees of Tuskegee University and Southern Research Institute. During the past five years, Mr. Kuehn has served as an executive officer of the Company. - --------------------------------------------------------------------------------------------
3 5 ROBERT J. LANIGAN, age 69, is Chairman Emeritus of the Board Robert J. Lanigan [Picture] of Directors of Owens-Illinois, Inc., the principal business of which is the manufacture and sale of packaging products. He has served as a Director of the Company since 1983. Mr. Lanigan is also a Director of Chrysler Corporation, Cognizant Corporation, The Dun & Bradstreet Corporation and Transocean Offshore Inc. During the past five years prior to his appointment to his current position, Mr. Lanigan served as an executive officer of Owens-Illinois, Inc. - -------------------------------------------------------------------------------------------- CHARLES MARSHALL, age 68, is the former Vice Chairman of the Charles Marshall [Picture] Board of American Telephone and Telegraph Company. He has served as a Director of the Company since 1982. Mr. Marshall is also a Director of Ceridian Corporation, GATX Corporation, Hartmarx Corporation and Sundstrand Corporation. Prior to his retirement, Mr. Marshall served as an executive officer of American Telephone and Telegraph Company. - -------------------------------------------------------------------------------------------- MICHAEL S. ZILKHA, age 43, is the former Executive Vice Michael S. Zilkha [Picture] President of Zilkha Energy. He served as an executive officer of Zilkha Energy from July 1986 to January 1998. Mr. Zilkha was an editor at Atlantic Monthly Press from 1985 to 1986, and from 1978 to 1985, he was President of ZE Records, an independent record production company in New York. - --------------------------------------------------------------------------------------------
4 6 CONTINUING DIRECTORS -- CLASS II -- TERMS TO EXPIRE 2000 JEROME J. RICHARDSON, age 61, is Owner/Founder of the NFL Jerome J. Richardson [Picture] Carolina Panthers. He has served as a Director of the Company since 1991. Mr. Richardson is also a Director of NCAA Foundation and a trustee of Wofford College. During the past five years prior to his retirement in May 1995, Mr. Richardson served as an executive officer of Flagstar Companies, Inc. and Flagstar Corporation. - -------------------------------------------------------------------------------------------- DONALD G. RUSSELL, age 66, is Vice Chairman of the Company Donald G. Russell [Picture] and Chairman of the Board and Chief Executive Officer of Sonat Exploration Company (a wholly-owned subsidiary of the Company). He has served as a Director of the Company since 1994. Mr. Russell is also a Director of Grant Geophysical, Inc. During the past five years, Mr. Russell has served as an executive officer of the Company and Sonat Exploration Company. - -------------------------------------------------------------------------------------------- ADRIAN M. TOCKLIN, age 46, is the former President and Chief Adrian M. Tocklin [Picture] Executive Officer -- Diversified Operations of CNA Insurance Companies, the principal business of which is property and casualty insurance. She has served as a Director of the Company since 1994. Ms. Tocklin is also a Director and Chairman of the Board of CNA Surety Corp. and of First Insurance Company of Hawaii. She was President and a Director of The Continental Corporation until its merger with CNA Insurance Companies in May 1995. During the past five years prior to her retirement in March 1998, Ms. Tocklin served as an executive officer of The Continental Corporation and CNA Insurance Companies. - --------------------------------------------------------------------------------------------
5 7 JAMES B. WILLIAMS, age 65, is Chairman of the Executive James B. Williams [Picture] Committee of the Board of Directors of SunTrust Banks, Inc. He has served as a Director of the Company since 1987. Mr. Williams is also a Director of The Coca-Cola Company, Genuine Parts Company, Georgia-Pacific Corporation, Rollins, Inc. and RPC, Inc. During the past five years prior to his retirement in March 1998, Mr. Williams served as Chairman of the Board and Chief Executive Officer of SunTrust Banks, Inc. - -------------------------------------------------------------------------------------------- JOE B. WYATT, age 62, is Chancellor, Chief Executive Officer Joe B. Wyatt [Picture] and Trustee of Vanderbilt University, a position he has held during the past five years. He has served as a Director of the Company since 1984. Chancellor Wyatt is also a Director of Advanced Network & Services, Inc., Ingram Micro, Inc., Reynolds Metals Company, The Aerostructures Corporation and University Research Association. - --------------------------------------------------------------------------------------------
Selim K. Zilkha is the father of Michael S. Zilkha. There are no other family relationships between Directors and executive officers of the Company. BOARD MEETINGS AND COMMITTEES During 1997 the Board of Directors held eight regular and special meetings. The Board has established Committees that assist the Board in the discharge of its responsibilities. Each Director attended at least 75% of the meetings of the Board and the Committees on which the Director served. Audit Committee. The Audit Committee reviews and reports to the Board the scope and results of audits by the Auditor and the Company's internal auditing staff, and reviews with the Auditor the adequacy of the Company's system of internal controls. It reviews transactions between the Company and its Directors and officers and Company policies with respect thereto, and compliance with the Company's business ethics and conflict of interest policies. The Committee also recommends a firm of certified public accountants to serve as Auditor of the Company (subject to nomination by the Board and election by the stockholders), authorizes all audit and other professional services rendered by the Auditor and periodically reviews the independence of the Auditor. Membership on the Audit Committee is restricted to those Directors who are not active or retired officers or employees of the Company. The Company's policy on Audit Committee membership complies with the Audit Committee Policy Statement adopted by the New York Stock Exchange. The current members of the Committee are John J. Phelan, Jr., Chairman, Charles Marshall, Jerome J. Richardson, Adrian M. Tocklin, Joe B. Wyatt and Michael S. Zilkha. The Committee met five times during 1997. 6 8 Committee on Directors. The Committee on Directors makes recommendations to the Board with respect to the size and composition of the Board, Board retirement and tenure policies, and Director compensation. It also reviews the qualifications of potential candidates for the Board of Directors, evaluates the performance of incumbent Directors and recommends to the Board nominees to be elected at the Annual Meeting of Stockholders. The current members of the Committee are Charles Marshall, Chairman, William O. Bourke, Benjamin F. Payton, John J. Phelan, Jr., Jerome J. Richardson, James B. Williams and Selim K. Zilkha. The Committee met once during 1997. The Committee on Directors will consider nominees for Director recommended by stockholders. Such recommendations should be submitted in writing, accompanied by a resume of the nominee's qualifications and business experience and a signed statement of the proposed candidate consenting to be named as a candidate and, if nominated and elected, to serve as a Director, and addressed to the offices of the Company to the attention of Beverley T. Krannich, Secretary. Employee Benefits Committee. The Employee Benefits Committee periodically reviews the status of the Company's employee benefit programs and the performance of the managers of the funded programs. To assist in its review, the Committee meets periodically with the chairman of the administrative committee of the funded plans. The current members of the Committee are Joe B. Wyatt, Chairman, Robert J. Lanigan, Benjamin F. Payton, Adrian M. Tocklin, James B. Williams and Michael S. Zilkha. The Committee met three times during 1997. Executive Compensation Committee. The Executive Compensation Committee reviews and makes recommendations to the Board with respect to the Company's overall executive compensation policy. The Committee also reviews and approves the compensation of the officers of the Company and makes awards under the Executive Award Plan, Performance Award Plan and Cash Bonus Plan. Membership on the Executive Compensation Committee is restricted to Directors who are not active or retired officers or employees of the Company. The current members of the Committee are Robert J. Lanigan, Chairman, William O. Bourke, Max L. Lukens, James B. Williams and Joe B. Wyatt. The Committee met six times during 1997. Finance Committee. The Finance Committee approves long-term financial policies and annual financial plans, significant capital expenditures, insurance programs and investment policies of the Company. It also makes recommendations to the Board concerning dividend policy, the issuance and terms of debt and equity securities and the establishment of bank lines of credit. The current members of the Committee are James B. Williams, Chairman, Robert J. Lanigan, Max L. Lukens, John J. Phelan, Jr., Jerome J. Richardson and Selim K. Zilkha. The Committee met six times during 1997. Public Affairs Committee. The Public Affairs Committee reviews the Company's policies and practices which address issues of social and public concern, such as government affairs, the environment, energy conservation and charitable contributions. It also reviews stockholder relations and considers stockholder proposals and matters of corporate governance. The current members of the Committee are William O. Bourke, Chairman, Charles Marshall, Benjamin F. Payton, John J. Phelan, Jr. and Adrian M. Tocklin. The Committee met twice during 1997. Strategic Planning Committee. The Strategic Planning Committee assists in the formulation of the business strategies of the Company and its subsidiaries and reviews the Company's management succession plan. The current members of the Committee are Max L. Lukens, Chairman, William O. Bourke, Robert J. Lanigan, Charles Marshall, Benjamin F. Payton, John J. Phelan, Jr., Jerome J. Richardson, Adrian M. Tocklin, James B. Williams, Joe B. Wyatt, Michael S. Zilkha and Selim K. Zilkha. The Committee met twice during 1997. 7 9 COMPENSATION OF OUTSIDE DIRECTORS FEES AND RETAINERS. Each non-employee Director of the Company receives a quarterly retainer of $9,000 ($10,250 for Committee Chairmen) and a fee of $1,250 for each Board meeting and each Board Committee meeting attended, plus incurred expenses where appropriate. Pursuant to the Director's Fees Deferral Plan, a Director may elect to defer receipt of some or all of the Director's fees and retainer. All amounts deferred are credited to the Director's account under the Plan. The Director may invest the Plan balance in "phantom" investments in the Company's common stock and eight mutual funds. The Director may choose to have the account balance distributed in a lump sum or in annual installments, commencing upon termination of service as a Director. RETIREMENT PLAN FOR DIRECTORS. Directors of the Company who during some portion of their service as Directors were not officers of the Company or its subsidiaries are participants in the Retirement Plan for Directors. An eligible Director who ceases being a Director after reaching age 70, completing five years of service as a non-employee Director or as a result of death or permanent disability, will receive a retirement benefit from the Plan. The Director may choose to have such benefit paid as either (1) a cash lump sum in an amount equal to the value of a series of quarterly payments equal to the retainer (as of the date of the Director's retirement) for the period the Director served as a non-employee Director of the Company or (2) in a series of quarterly payments with a value equal to such lump-sum payment. RESTRICTED STOCK PLAN FOR DIRECTORS. Each non-employee Director of the Company is a participant in the Restricted Stock Plan for Directors. Each such Director who is a member of the Board of Directors on April 1, 1998 (the effective date of the Plan, as amended and restated on February 26, 1998) will be granted 2,000 shares of restricted stock on such date. The Plan provides that 400 shares granted to each Director will vest on April 1 of each of the years 1999 through 2003. Each person who first becomes a non-employee Director after April 1, 1998 and before April 1, 2003 will be granted 33.33 shares of restricted stock for each calendar month or fraction thereof from the Director's election as a non-employee Director to the following March 31 (rounded to the nearest whole share), plus 400 shares for each subsequent Plan Year (April 1-March 31) until April 1, 2003. The product of 33.33 shares times the number of full and partial calendar months from the Director's election as a non-employee Director to the following March 31 (rounded to the nearest whole share) will vest on the April 1 following such election, and 400 shares will vest on each April 1 thereafter through April 1, 2003. Each current non-employee Director has 400 shares of unvested restricted stock (except Michael S. Zilkha and Selim K. Zilkha, each of whom has 100 shares of such stock), which were granted under the Plan as in effect before the February 26, 1998 amendment and restatement. Such shares will vest on April 1, 1998. All shares of restricted stock will vest immediately upon the Director's death or disability. At the time the restricted stock vests, the Director will receive a cash tax-offset "supplemental payment" in an amount equal to the amount necessary to pay the federal income tax payable with respect to both the vesting of restricted stock and receipt of the supplemental payment, assuming the Director is taxed at the maximum effective federal income tax rate. If a Director leaves the Board of Directors before all of the Director's shares of restricted stock have vested, the unvested shares will be forfeited. 8 10 OWNERSHIP OF COMMON STOCK BY DIRECTORS AND EXECUTIVE OFFICERS The following table shows the amount and nature of beneficial ownership of shares of the Common Stock of the Company beneficially owned by the Directors and certain executive officers of the Company, and by all present Directors and executive officers of the Company as a group, as of January 31, 1998.
AMOUNT AND NATURE OF PERCENT OF NAME OF BENEFICIAL OWNER BENEFICIAL OWNERSHIP (1) CLASS ------------------------ ------------------------ ---------- Richard B. Bates............................ 83,815(2) * William O. Bourke........................... 7,000 * Ronald L. Kuehn, Jr......................... 865,550(2 and3) * Robert J. Lanigan........................... 8,040 * Max L. Lukens............................... 4,107 * Charles Marshall............................ 15,310 * James E. Moylan, Jr......................... 122,946(2 and4) * Benjamin F. Payton.......................... 4,668 * John J. Phelan, Jr.......................... 4,660 * Jerome J. Richardson........................ 7,293 * James A. Rubright........................... 103,734(2) * Donald G. Russell........................... 338,715(2) * William A. Smith............................ 226,635(2) * Adrian M. Tocklin........................... 5,360(5) * James B. Williams........................... 22,993 * Joe B. Wyatt................................ 5,200 * Michael S. Zilkha........................... 9,731,443(6) 8.8% 909 Fannin Two Houston Center, Suite 2910 Houston, TX 77010 Selim K. Zilkha............................. 14,431,137(7) 13.1% 750 Lausanne Road Los Angeles, CA 90077 All present Directors and Executive Officers as a Group (20 persons)................... 26,123,288(8) 23.8%
- --------------- * Less than 1%. NOTE 1: Each Director and executive officer has sole voting power and sole investment power with respect to all shares beneficially owned by such individual, unless otherwise indicated. The number of shares shown includes 400 shares of restricted stock for each of William O. Bourke, Robert J. Lanigan, Max L. Lukens, Charles Marshall, Benjamin F. Payton, John J. Phelan, Jr., Jerome J. Richardson, Adrian M. Tocklin, James B. Williams and Joe B. Wyatt, and 100 shares of restricted stock for each of Michael S. Zilkha and Selim K. Zilkha, granted under the Company's Restricted Stock Plan for Directors, which shares had not vested as of January 31, 1998. Such persons have the power to vote and receive dividends on such shares, but do not have the power to dispose of, or to direct the disposition of, such shares until such shares are vested pursuant to the terms of such plan. The number of shares shown includes 2,000 shares of restricted stock for each of William O. Bourke, Robert J. Lanigan, Max L. Lukens, Charles Marshall, Benjamin F. Payton, John J. Phelan, Jr., Jerome J. Richardson, Adrian M. Tocklin, James B. Williams, Joe B. Wyatt, Michael S. Zilkha and Selim K. Zilkha, to be granted under the Company's Restricted Stock Plan for Directors on April 1, 1998. The number of shares shown includes "phantom" shares of the Company's Common Stock held by the following individuals: (a) Charles Marshall, 5,710 phantom shares; Adrian M. Tocklin, 727 phantom shares; and James B. Williams, 5,793 phantom shares (all held under the Company's Director's Fees Deferral Plan); and (b) Richard B. Bates, 675 phantom shares; Ronald L. 9 11 Kuehn, Jr., 29,348 phantom shares; James E. Moylan, Jr., 312 phantom shares; James A. Rubright, 605 phantom shares; Donald G. Russell, 16,821 phantom shares; and William A. Smith, 733 phantom shares (all held under the Company's Supplemental Benefit Plan and Deferred Compensation Plan). NOTE 2: The number of shares shown for Messrs. Bates, Kuehn, Moylan, Rubright, Russell and Smith includes 7,900 shares, 118,400 shares, 11,800 shares, 7,900 shares, 18,000 shares and 7,700 shares, respectively, of restricted stock granted under the Company's Executive Award Plan, which shares had not vested as of January 31, 1998. Such persons have the right to vote and receive dividends on such shares, but do not have the power to dispose of, or to direct the disposition of, such shares until such shares are vested pursuant to the terms of such plan. The number of shares shown for Messrs. Bates, Kuehn, Moylan, Rubright, Russell and Smith also includes (a) 9,072 shares, 49,328 shares, 11,100 shares, 411 shares, 12,250 shares and 16,872 shares, respectively, held by the Trustee under the Company's Savings Plan as of January 31, 1998; and (b) 60,000 shares, 651,300 shares, 96,000 shares, 89,500 shares, 267,600 shares and 184,400 shares, respectively, covered by options under the Company's Executive Award Plan which were exercisable within sixty days after January 31, 1998. NOTE 3: The number of shares shown for Mr. Kuehn includes 10,500 shares owned by his wife, 20 shares owned by his children, and 2,000 shares held in trust for his children, of which shares he disclaims any beneficial ownership. NOTE 4: The number of shares shown for Mr. Moylan includes 1,237 shares owned by his wife, of which shares he disclaims any beneficial ownership. NOTE 5: The number of shares shown for Ms. Tocklin includes 100 shares owned by her husband, of which shares she disclaims any beneficial ownership. NOTE 6: The number of shares shown for Michael S. Zilkha includes 1,135,038 shares held in the Selim K. Zilkha (1996) Annuity Trust (the "Trust"), of which Selim K. Zilkha is the sole beneficiary during the annuity period. On March 29, 1998, the Trust will expire, substantially all of the shares held in the Trust will be distributed to Michael S. Zilkha, and the remainder of such shares will be distributed to the Selim K. Zilkha Trust. NOTE 7: The number of shares shown for Selim K. Zilkha includes 14,429,037 shares held in the Selim K. Zilkha Trust (of which Mr. Zilkha is settlor, trustee and beneficiary). NOTE 8: The number of shares shown includes 184,400 shares of restricted stock granted under the Company's Executive Award Plan, which shares had not vested as of January 31, 1998; 118,119 shares held by the Trustee under the Company's Savings Plan as of January 31, 1998; 1,445,640 shares covered by options under the Company's Executive Award Plan which were exercisable within sixty days after January 31, 1998; 4,200 shares of restricted stock granted under the Company's Restricted Stock Plan for Directors, which shares had not vested as of January 31, 1998; 24,000 shares of restricted stock to be granted under the Company's Restricted Stock Plan for Directors on April 1, 1998; and 61,953 phantom shares of the Company's Common Stock held under the Company's Director's Fees Deferral Plan, Supplemental Benefit Plan and Deferred Compensation Plan as of January 31, 1998. COMPENSATION OF EXECUTIVE OFFICERS REPORT OF THE EXECUTIVE COMPENSATION COMMITTEE The Executive Compensation Committee of the Board of Directors of the Company, which is composed solely of non-employee Directors, administers the Company's executive compensation program. The Committee's primary responsibility is to ensure that the executive compensation program furthers the interests of the Company and its stockholders. 10 12 The Company's executive compensation program has three principal objectives: (1) to attract and retain a highly qualified and motivated management team; (2) to appropriately reward individual executives for their contributions to the attainment of the Company's key strategic goals; and (3) to link the interests of executives and stockholders through stock-based plans and performance measures. The Committee meets with outside consultants at least annually to evaluate the Company's performance against the performance of a peer group of companies and to review and compare the level of compensation paid or awarded to key executives to the compensation practices of the peer group. The peer group used for determining 1997 compensation for corporate executives consisted of 18 publicly held companies in the energy business (the "Corporate Peer Group"). In comparing the level of the Company's compensation to that of the companies in the Corporate Peer Group, the Committee reviews an analysis which "size-adjusts" the compensation paid by a company to take into account the relative size of the company as measured by its revenues. The recommended size-adjustment is computed by an independent compensation consulting firm. The Committee also reviews and may give greater weight to compensation survey data specific to a particular business segment when considering the compensation of executive officers whose job is related primarily to a single business segment. The Standard & Poor's Natural Gas Distribution/Pipeline Group described in the five-year total stockholder return comparison on page 19 of this Proxy Statement is not used to determine the compensation of executives, because that group includes primarily natural gas distribution companies and does not adequately represent the broader energy industry from which the Company recruits. The key components of the Company's executive compensation program are base salary, annual cash bonus incentives, and long-term stock incentives. The Committee's policies with respect to each component of the program, including the bases for the compensation of Mr. Kuehn, Chairman of the Board, President and Chief Executive Officer of the Company, are described below. The Committee consults with Mr. Kuehn in reviewing the individual performance and compensation of key executives of the Company (other than Mr. Kuehn). The Committee reviews Mr. Kuehn's performance and compensation in executive session at least annually. BASE SALARIES. Base salaries are initially established by an evaluation of the executive's position, responsibilities and experience and a review of salary surveys. Each year the Committee reviews the base salaries of key executive officers of the Company and its subsidiaries and determines whether salaries should be adjusted, based primarily on the executive's individual performance and experience and salary survey information. In general, the Committee's objective is to maintain executive salaries at the median of the salaries for comparable executives in the Corporate Peer Group or other relevant peer group. Executive salaries for 1997 were slightly above the median level overall, although some executives were below and some above the median. Mr. Kuehn has been in his current position for approximately 13 1/2 years. His salary for 1997 (which included a 5.1% increase, effective April 1) was 3% above the median of the Corporate Peer Group. ANNUAL CASH BONUS INCENTIVES. Annual cash bonus incentive opportunities are awarded each year. The amount of an executive's bonus opportunity (which is expressed as a percentage of base salary) is dependent primarily upon such individual's position and responsibilities and bonus opportunities provided to comparable positions within the Corporate Peer Group or other relevant peer group. At the beginning of each year, the Committee reviews and approves annual performance goals. Shortly after the end of the year, the Committee determines the appropriate bonus payout levels based on the degree to which these goals have been achieved. The annual incentive program is designed to pay total annual cash compensation in the upper quartile of the relevant peer group when the Company meets or exceeds substantially all of the goals established for an executive's bonus opportunity. Similarly, when the goals are not achieved, the program is intended to result in total annual cash compensation below the median of the relevant peer group. 11 13 The payout of an executive's 1997 bonus opportunity was based on the level of achievement of certain financial goals, corporate and subsidiary goals, and individual goals, as described below. The goals for each executive's bonus opportunity were weighted as follows: financial goals -- 50% for Mr. Kuehn and 40-50% for the other named executive officers; corporate and subsidiary goals -- 35% for Mr. Kuehn and 35-45% for the other named executive officers; and individual goals -- 15% for all executives. The Committee also has the discretion to make additional cash bonus awards to recognize exceptional individual performance. The financial goals included in the 1997 bonus opportunities were the Company's 1997 earnings per share ("EPS") as compared to EPS targets established by the Committee, the Company's five-year average cash flow return on assets as compared to that of a group of energy companies whose aggregate asset mix approximates that of the Company (the "Financial Peer Group") and, for the subsidiary officers, subsidiary earnings before interest, taxes and corporate charges ("EBITC") as compared to EBITC targets established by the Committee. Payout of the earnings goals was based on comparison of actual earnings to the earnings targets, provided that a minimum level of EPS or EBITC was required for any payout to be made. The payout of the cash flow return on assets goal was based on the Company's performance against the mean of the Financial Peer Group. The corporate and subsidiary business goals included in the 1997 bonus opportunities included operating, marketing and strategic goals relating to each major business segment, and goals relating to safety and the environment, human resources, and corporate citizenship. When appropriate, an executive's goals focused on the company for which he was primarily employed. Achievement of many of the goals was determined by quantitative or objective measures, while other goals were subjective in nature. Each executive's 1997 bonus opportunity included individual performance. Mr. Kuehn's individual performance was based primarily on the Committee's assessment of his leadership for the year. In January 1998, the Committee reviewed in detail the extent to which the 1997 performance goals had been achieved. The Company's EPS was below the minimum payout level, while cash flow return on assets was significantly above the mean for the Financial Peer Group. The payout percentage was 100% of the bonus opportunity for the cash flow return on assets goal; no payout was made with respect to the bonus opportunity for the EPS goal. The level of achievement of subsidiary financial goals varied among the business segments. The Sonat Pipeline Group significantly exceeded its earnings target, while Sonat Exploration Company had earnings below the minimum payout level. The level of achievement of corporate and subsidiary business goals varied considerably among the Company's business segments. The payout percentage for corporate and subsidiary business goals ranged from 59% to 98%. Including individual performance, the total bonus payout percentages under the 1997 annual incentive program for executives ranged from 39% to 106%. Mr. Kuehn's total bonus payout percentage for 1997 was 70% of his bonus opportunity. LONG-TERM STOCK INCENTIVES. The long-term stock incentives component of the Company's executive compensation program is designed to align executive and stockholder interests by rewarding executives for the attainment of stock price appreciation and total stockholder returns. As a general rule, the Committee administers the long-term stock incentive program through annual grants of stock options and restricted stock to certain executive officers of the Company and its major operating subsidiaries. Awards under the annual grant program were made in December 1997. In addition, the Committee may make special awards to individual executives during the year on a discretionary basis. In 1997, the number of stock options and restricted shares granted to each executive officer as part of the annual grant program was determined primarily by individual position and responsibili- 12 14 ties, compensation survey data of the Company's Corporate Peer Group, and the Company's three-year total stockholder return (considering stock price appreciation and dividends paid, and weighted for most recent performance) as compared to the total stockholder return of the Financial Peer Group. The amount of an executive's annual long-term incentive grant was expressed as a percentage of base salary. The percentage used for each executive was tied to the Company's total stockholder return as compared to that of the Financial Peer Group. In 1997, the Company's weighted annualized three-year total stockholder return was at the 40th percentile of the Financial Peer Group. The December 1997 long-term incentive grants were designed to reflect that performance and to result in long-term compensation in the 40th to 50th percentile of the Corporate Peer Group. For purposes of determining the value of long-term incentive compensation, an independent compensation consulting firm uses a modified Black-Scholes option pricing model to value stock options granted by the Company and the companies in the Corporate Peer Group. Similarly, the consulting firm values restricted share grants based on the present value of the shares on the date of grant (taking into account the vesting schedules of the grants and projected executive turnover). The Committee may adjust the grants to take into account individual performance and the number of options and restricted shares previously granted to the executive. In December 1997, Mr. Kuehn was awarded stock options and restricted stock as a part of the annual program. As discussed above, the amount of this award was intended to compensate Mr. Kuehn for the performance of the Company's stock as compared to the Financial Peer Group and to result in long-term compensation at slightly below the median of the Corporate Peer Group. STOCK OWNERSHIP GUIDELINES. The Committee has established guidelines designed to encourage key executives of the Company and its subsidiaries to attain specified levels of stock ownership over a five-year period. Stock ownership goals are based on the value of the Company's stock, and are expressed as a multiple of the executive's base salary. The Committee periodically reviews the guidelines and the executives' progress toward attaining the stock ownership goals. POLICY WITH RESPECT TO SECTION 162(m). Section 162(m) of the Internal Revenue Code limits the tax deduction that the Company or its subsidiaries can take with respect to the compensation of certain executive officers, unless the compensation is "performance-based." The Committee expects that all income recognized by executive officers with respect to restricted stock and stock options granted under the Executive Award Plan, and the portion of the Company's annual cash bonus program that is based on objective financial and operating measures, will qualify as performance-based compensation. The Committee feels that it should not use only mechanical formulas in carrying out its responsibilities for compensating the Company's management. Therefore, the Committee currently intends to continue to make cash bonus payments that are based on the achievement of subjective, non-quantifiable goals, and that may therefore not qualify as performance-based compensation. The Committee believes that these Company, subsidiary and individual goals, while not properly measurable by the kind of quantifiable targets that are required to qualify compensation as performance-based, are important to the long-term financial success of the Company and to its stockholders. CONCLUSION. The Committee believes that the executive compensation philosophy that it has adopted effectively serves the interests of the stockholders and the Company. It is the Committee's intention that the pay delivered to executives be commensurate with Company performance. Robert J. Lanigan William O. Bourke Max L. Lukens James B. Williams Joe B. Wyatt
13 15 SUMMARY COMPENSATION TABLE The following table shows, for the fiscal years ending December 31, 1995, 1996 and 1997 the cash compensation paid by the Company, and a summary of certain other compensation paid or accrued for such years, to certain of the Company's executive officers (as determined pursuant to the rules of the Securities and Exchange Commission) (the "named executive officers") for service in all capacities with the Company and its subsidiaries. SUMMARY COMPENSATION TABLE
LONG TERM COMPENSATION ANNUAL COMPENSATION AWARDS ---------------------------------- -------------------------- SECURITIES RESTRICTED UNDERLYING ALL OTHER NAME AND OTHER ANNUAL STOCK OPTIONS/ COMPENSATION PRINCIPAL POSITION YEAR SALARY BONUS COMPENSATION AWARDS(1) SARS (2) ------------------ ---- -------- -------- ------------ ---------- ---------- ------------ Ronald L. Kuehn, Jr., 1997 $770,500 $550,000 $ 0 $385,528(4) 92,000 $105,522 Director, Chairman of 1996 $736,500 $800,000 $2,154,978(3) $748,800(5) 82,500 $111,058 the Board, President and 1995 $710,000 $418,600 $ 332,396(3) $306,375(6) 79,200 $108,107 Chief Executive Officer Richard B. Bates, 1997 $256,875 $138,300 $ 165,553(3) $ 70,096(4) 20,000 $ 29,132 Senior Vice President 1996 $241,875 $165,000 $ 0 $208,000(5) 20,000 $ 28,023 1995 $222,500 $ 84,900 $ 0 $ 74,175(6) 18,000 $ 26,100 James E. Moylan, Jr., 1997 $259,000 $132,100 $ 0 $ 70,096(4) 25,000 $ 30,098 Senior Vice President 1996 $245,000 $190,000 $ 0 $208,000(5) 20,000 $ 29,131 and Chief Financial Officer 1995 $226,250 $131,100 $ 0 $ 74,175(6) 18,000 $ 27,284 James A. Rubright, 1997 $314,250 $163,600 $ 0 $ 70,096(4) 25,000 $ 41,810 Senior Vice President 1996 $300,250 $193,700 $ 0 $208,000(5) 20,000 $ 41,246 1995 $287,750 $117,100 $ 0 $ 74,175(6) 18,000 $ 40,534 Donald G. Russell, 1997 $522,500 $196,300 $ 880,075(3) $175,240(4) 46,000 $ 44,413 Director and 1996 $481,500 $469,400 $ 0 $468,000(5) 53,000 $ 40,928 Vice Chairman 1995 $465,750 $184,400 $ 0 $161,250(6) 45,000 $ 39,588 William A. Smith, 1997 $365,000 $131,300 $ 669,098(3) $ 70,096(4) 23,000 $ 43,547 Executive Vice President 1996 $365,000 $218,300 $ 919,299(3) $197,600(5) 17,000 $ 44,260 and General Counsel 1995 $361,250 $135,300 $ 188,043(7) $ 74,175(6) 18,000 $ 45,560
NOTE 1: The amount shown represents the dollar value of restricted stock awards made during the year, calculated by multiplying the closing price of unrestricted shares of the Company's Common Stock on the date of grant by the number of shares awarded. Dividends are paid on all shares of restricted stock. All shares of restricted stock granted to Messrs. Bates, Moylan, Rubright and Smith generally vest at the earlier of age 65 or 10 years from the date of grant, unless the average closing price of the Company's Common Stock achieves certain specified levels, in which case vesting of such shares is accelerated. All shares of restricted stock granted to Mr. Kuehn generally vest on April 1, 2001. The shares of restricted stock granted to Mr. Russell in 1995 and 1996 generally vest at age 67; the shares of restricted stock granted to Mr. Russell in 1997 generally vest on January 1, 2000. All shares of restricted stock that have not previously vested are generally forfeited upon termination of employment, unless such termination occurs either by reason of death or disability or for the convenience of the Company (as determined by the Executive Compensation Committee). All shares of restricted stock that have not previously vested will immediately vest upon a "Change of Control" of the Company, as described under "Compensation Upon Change of Control" below. The number of shares of restricted stock held by the named executive officers as of December 31, 1997, and the value of such shares (calculated by multiplying the closing price of unrestricted shares of the Company's Common Stock on December 31, 1997 ($45.75) by the number of shares held on such date) is as follows: Mr. Kuehn, 118,400 shares, $5,416,800; Mr. Bates, 7,900 shares, $361,425; Mr. Moylan, 11,800 shares, $539,850; Mr. Rubright, 7,900 shares, $361,425; Mr. Russell, 18,000 shares, $823,500; and Mr. Smith, 7,700 shares, $352,275. 14 16 NOTE 2: With respect to 1997, represents the following amounts for each of Messrs. Kuehn, Bates, Moylan, Rubright, Russell and Smith, respectively: (1) Company matching contributions to the trust established under the Company's Savings Plan -- $13,600, $13,600, $10,700, $13,600, $13,600 and $10,700; (2) Company contributions to the Savings Plan accounts under the Company's Supplemental Benefit Plan -- $51,893, $8,234, $11,315, $13,111, $30,813 and $20,325; and (3) with respect to premiums paid by the Company under the Company's "split-dollar" Executive Life Insurance Program, the sum of (a) the value of the premium payment used to purchase term life insurance plus (b) the value of the benefit to the executive officer of the remainder of the premium payment -- $40,029, $7,298, $8,083, $15,099, $0 and $12,522. NOTE 3: Represents the amount of tax-offset "supplemental payments" paid upon the exercise of stock options (or tandem stock appreciation rights) granted under the Company's Executive Award Plan. NOTE 4: Represents the value of 8,800 shares, 1,600 shares, 1,600 shares, 1,600 shares, 4,000 shares and 1,600 shares of restricted stock granted on December 5, 1997 to Messrs. Kuehn, Bates, Moylan, Rubright, Russell and Smith, respectively. NOTE 5: Represents the value of 14,400 shares, 4,000 shares, 4,000 shares, 4,000 shares, 9,000 shares and 3,800 shares of restricted stock granted on December 5, 1996 to Messrs. Kuehn, Bates, Moylan, Rubright, Russell and Smith, respectively. NOTE 6: Represents the value of 9,500 shares, 2,300 shares, 2,300 shares, 2,300 shares, 5,000 shares and 2,300 shares of restricted stock granted on November 30, 1995, to Messrs. Kuehn, Bates, Moylan, Rubright, Russell and Smith, respectively. NOTE 7: Includes (a) a $119,353 tax-offset "supplemental payment" paid upon the exercise of stock options granted under the Company's Executive Award Plan, (b) $59,663 for housing allowances and moving expenses related to Mr. Smith's relocation from Birmingham, Alabama to Houston, Texas, and (c) tax-reimbursement payments of $9,027 made with respect to such moving expenses. OPTION GRANT TABLE The following table contains certain information with respect to stock options (and tandem stock appreciation rights that become exercisable only upon certain change of control events ("Limited SARs")) granted in 1997 under the Company's Executive Award Plan to the named executive officers. OPTION/SAR GRANTS IN LAST FISCAL YEAR
POTENTIAL REALIZABLE VALUE AT ASSUMED ANNUAL RATES OF STOCK PRICE APPRECIATION FOR OPTION INDIVIDUAL GRANTS TERM (10 YEARS) ------------------------------------------------------- ------------------------------- NUMBER OF % OF TOTAL 5% 10% SECURITIES OPTIONS/SARS (RESULTING (RESULTING UNDERLYING GRANTED TO EXERCISE COMPANY STOCK COMPANY STOCK OPTIONS/SARS EMPLOYEES PRICE EXPIRATION PRICE OF PRICE OF NAME GRANTED(1) IN 1997 ($/SHARE)(2) DATE(3) $71.36)(4) $113.63)(4) ---- ------------ ------------ ------------ ---------- -------------- -------------- All Stockholders....... -- -- -- -- $3,029,399,378 $7,677,410,691 Ronald L. Kuehn, Jr.... 92,000 12.9% $43.81 12/4/07 $ 2,534,600 $ 6,423,440 Richard B. Bates....... 20,000 2.8% $43.81 12/4/07 $ 551,000 $ 1,396,400 James E. Moylan, Jr.... 25,000 3.5% $43.81 12/4/07 $ 688,750 $ 1,745,500 James A. Rubright...... 25,000 3.5% $43.81 12/4/07 $ 688,750 $ 1,745,500 Donald G. Russell...... 46,000 6.5% $43.81 12/4/07 $ 1,267,300 $ 3,211,720 William A. Smith....... 23,000 3.2% $43.81 12/4/07 $ 633,650 $ 1,605,860 Named Executive Officers' Potential Realizable Value as a % of All Stockholders' Potential Realizable Value 0.21% 0.21%
15 17 NOTE 1: All stock options shown in the table were granted on December 5, 1997. Each stock option was granted with a tandem Limited SAR that may be exercised only within 60 days after an SAR Change of Control (as defined under "Compensation Upon Change of Control" below). For more information on Limited SARs, see "Compensation Upon Change of Control" below. The stock options (and tandem Limited SARs) shown in the table become exercisable in equal installments on each of the first five anniversaries of the date of grant, provided that the entire grant will become immediately exercisable if, during any 10 business day period ending prior to December 5, 2002, the average of the closing prices of the Company's Common Stock during such period is at least $65.06. Any stock options (and tandem Limited SARs) that have not previously become exercisable are generally forfeited upon termination of employment, unless such termination occurs by reason of normal retirement, death, disability or for the convenience of the Company (as determined by the Executive Compensation Committee). Any options (and tandem Limited SARs) held by then-current employees will become immediately exercisable in the event of a "Change of Control" of the Company, as described under "Compensation Upon Change of Control" below. NOTE 2: The exercise price equals the closing price of the Company's Common Stock on the date of grant. NOTE 3: The stock options (and tandem Limited SARs) are subject to termination prior to their expiration date in the event of termination of employment. NOTE 4: The Resulting Company Stock Price shown in the table equals the price the Company's Common Stock would attain at the end of the option's 10-year term if the price of the Company's Common Stock appreciated from the date of stock option grant at a rate of 5% or 10% per year (as the case may be). The potential realizable values shown represent the difference between the $71.36 or $113.63 Resulting Company Stock Price (as the case may be) and the $43.81 exercise price, multiplied by (a) for all stockholders, the number of outstanding shares of the Company's Common Stock as of January 31, 1998, and (b) for each named executive officer, the number of options granted. AGGREGATED OPTION/SAR EXERCISES AND FISCAL YEAR-END OPTION/SAR VALUE TABLE The following table shows certain information with respect to the named executive officers concerning the exercise of stock options (or stock appreciation rights ("SARs") granted in tandem therewith) during 1997 and unexercised stock options (and tandem SARs) held as of December 31, 1997.
AGGREGATED OPTION/SAR EXERCISES IN LAST FISCAL YEAR AND FISCAL YEAR-END OPTION/SAR VALUES --------------------------------------------------------------------------------- NUMBER OF SECURITIES UNDERLYING VALUE OF UNEXERCISED, SHARES UNEXERCISED OPTIONS/SARS IN-THE-MONEY OPTIONS/SARS ACQUIRED AT FISCAL YEAR END(1) AT FISCAL YEAR END(2) ON VALUE --------------------------- --------------------------- NAME EXERCISE REALIZED EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE ---- -------- -------- ----------- ------------- ----------- ------------- Ronald L. Kuehn, Jr...... 0 $ 0 651,300 158,000 $13,805,100 $178,480 Richard B. Bates......... 10,000 $ 240,313 60,000 36,000 $ 923,750 $ 38,800 James E. Moylan, Jr...... 0 $ 0 96,000 41,000 $ 1,741,825 $ 48,500 James A. Rubright........ 0 $ 0 89,500 41,000 $ 1,399,563 $ 48,500 Donald G. Russell........ 40,000 $1,277,500 267,600 88,400 $ 5,002,938 $ 89,240 William A. Smith......... 30,000 $ 971,250 184,400 36,600 $ 3,751,063 $ 44,620
NOTE 1: Certain stock options granted before December 6, 1991, were granted with tandem SARs. Each stock option granted before December 6, 1991 was granted with a tax-offset "supplemental payment" payable upon the exercise of the stock option (or tandem SAR). The amount of the supplemental payment is the amount necessary to pay the federal income tax payable with respect to both (1) exercise of the stock option (or tandem SAR) and (2) receipt of the 16 18 supplemental payment, based on the assumption that the participant is taxed at the maximum effective federal income tax rate applicable to such income. NOTE 2: The value of each unexercised in-the-money stock option (or tandem SAR) is equal to the difference between $45.75 (the closing price of the Company's Common Stock on December 31, 1997) and the exercise price of the stock option. Such value does not include the value of any tax-offset supplemental payments. DEFINED BENEFIT PLANS Employees and officers of the Company and participating subsidiaries are participants in the Company's Retirement Plan. In general, annual retirement benefits are based on average covered compensation for the highest five consecutive years of the final ten years of employment. Covered compensation under the Retirement Plan currently includes salaries and amounts paid under the Performance Award Plan and the Cash Bonus Plan (reported in the Summary Compensation Table); covered compensation does not include amounts relating to the grant or vesting of restricted stock, the exercise of stock options and SARs, and receipt of supplemental payments under the Executive Award Plan, or to employer contributions under the Savings Plan or the Supplemental Benefit Plan. The maximum annual retirement benefit is 65% of the participant's average covered compensation minus 50% of his primary social security benefit. Participants accrue benefits under the following formula: (a) 2.4% of average covered compensation minus 2.0% of primary social security benefits for each year of service before January 1, 1992; plus (b) 2.0% of average covered compensation minus 1.667% of primary social security benefits for each year of service after January 1, 1992; plus (c) when the total of (a) plus (b) above equals 60% of average covered compensation minus 50% of primary social security benefits, 1% of average covered compensation for each year of service after January 1, 1992, not included in the calculation in (b) above, up to five such additional years of service. The eligible survivors of a deceased Retirement Plan participant are entitled to a survivors benefit, which equals 75% or 50% of the participant's retirement benefit (depending upon the participant's date of hire, age and years of service). Retirement Plan benefits are generally paid as life annuities. The Supplemental Benefit Plan provides its eligible participants and their eligible survivors with retirement and survivors benefits which would have been payable under the Retirement Plan but for the fact that benefits payable under funded pension plans are limited by federal tax laws. As a general rule, during 1997 the federal tax laws limited annual benefits under the Retirement Plan to $125,000 (subject to reduction in certain circumstances), and required the Retirement Plan to disregard any portion of the participant's 1997 compensation in excess of $160,000. A participant may choose to have benefits under the Plan paid either as a life annuity or in a cash lump sum upon termination of employment. The following table sets forth information with respect to the named executive officers concerning the benefits payable under the Retirement Plan and Supplemental Benefit Plan. 17 19 DEFINED BENEFIT PLAN TABLE
CURRENT ESTIMATED ANNUAL YEARS OF 1997 COVERED RETIREMENT NAME SERVICE(1) COMPENSATION(2) BENEFIT(3) ---- ---------- --------------- ---------------- Ronald L. Kuehn, Jr. ......................... 27.4 $1,570,500 $1,020,825 Richard B. Bates.............................. 12.8 $ 421,875 $ 272,531 James E. Moylan, Jr. ......................... 21.5 $ 449,000 $ 291,850 James A. Rubright............................. 3.8 $ 507,950 $ 190,481 Donald G. Russell............................. 9.9 $ 991,900 $ 255,249 William A. Smith.............................. 27.7 $ 583,300 $ 379,145
NOTE 1: The number of years of credited service under the Retirement Plan and Supplemental Benefit Plan as of December 31, 1997. NOTE 2: The amount of covered compensation under the Retirement Plan and Supplemental Benefit Plan during 1997. NOTE 3: The estimated annual retirement benefit payable as a single life annuity to the named executive officer (based on the assumptions that such officer has average covered compensation at his retirement date equal to his 1997 covered compensation, and calculated prior to the offset for primary social security benefits). The assumed retirement dates are April 1, 2001 for Mr. Kuehn; January 1, 2000 for Mr. Russell; and age 65 for the other named executive officers. 18 20 PERFORMANCE GRAPH The following graph compares the cumulative total stockholder return on the Company's Common Stock for the five-year period ending December 31, 1997, with the cumulative total return of two indices during such period. COMPARISON OF FIVE-YEAR CUMULATIVE TOTAL STOCKHOLDER RETURN SONAT INC.; STANDARD & POOR'S 500 STOCK INDEX; STANDARD & POOR'S NATURAL GAS DISTRIBUTION/PIPELINE GROUP(1)
MEASUREMENT PERIOD (FISCAL YEAR COVERED) SONAT INC. S&P 500 S&P NATURAL GAS 12/31/92 100.00 100.00 100.00 12/31/93 124.08 110.03 118.64 12/31/94 124.81 111.53 113.25 12/31/95 164.24 153.29 160.01 12/31/96 243.38 188.39 212.50 12/31/97 220.87 251.16 250.59
The total returns set forth above assume that $100 was invested in the Company's Common Stock and each of the indices set forth above on December 31, 1992, and that all dividends were reinvested. NOTE 1: The Standard & Poor's Natural Gas Distribution/Pipeline Group consists of the following companies: The Coastal Corporation, The Columbia Gas System, Inc., Consolidated Natural Gas Company, Eastern Enterprises, Enron Corp., NICOR Inc., ONEOK Inc., Pacific Enterprises, Peoples Energy Corporation, Sonat Inc. and The Williams Companies, Inc. COMPENSATION UPON CHANGE OF CONTROL Certain of the Company's benefit plans provide for the acceleration of certain benefits in the event of a "Change of Control" of the Company. Under such plans, a Change of Control will be deemed to have occurred if (1) any person or group becomes the owner of (or obtains the right to acquire) 20% or more of the Company's common stock or outstanding voting securities (with certain exceptions, as set forth in the plans); (2) the individuals who, as of December 1, 1995, constituted the Board of Directors (the "Incumbent Board"), cease to be at least a majority of the Board of Directors (but including as Incumbent Board members, except as otherwise provided, any director whose election or nomination was approved by the Incumbent Board); or (3) there is 19 21 consummation of a reorganization, consolidation or merger involving the Company, or sale of all or substantially all of the Company's assets, unless the stockholders and Board of Directors of the Company before the transaction control the resulting company after the transaction. Any outside Director who is eligible for a retirement benefit under the Retirement Plan for Directors will receive such benefit (regardless of whether he has met the other eligibility requirements of the Plan) in the event he ceases to be a Director following a Change of Control. The balance of a Director's account in the Director's Fees Deferral Plan will be distributed to him in a lump sum in the event his service as a Director is terminated within three years following a Change of Control, regardless of any other elections he may have made with respect to the timing and manner of payment of amounts in his account. Also, all shares of restricted stock granted under the Restricted Stock Plan for Directors will vest immediately upon a Change of Control. Upon the occurrence of a Change of Control, all outstanding shares of restricted stock under the Executive Award Plan will immediately vest, and all outstanding options (and tandem SARs) under the Executive Award Plan held by then-current employees will become immediately exercisable. Also, upon the occurrence of a Change of Control, the participant will receive 100% of his bonus opportunities under the Performance Award Plan and the Cash Bonus Plan. Any officer of the Company or certain of its subsidiaries who at the time of a Change of Control is not vested under the Retirement Plan will be provided with a vested benefit under the Supplemental Benefit Plan equal to the benefit that would have been payable under the Retirement Plan if his actual years of service had been sufficient for vesting. Following a Change of Control, a participant's Savings Plan account under the Supplemental Benefit Plan will be distributed within 30 days of his termination of employment. The named executive officers have Limited SARs in tandem with all outstanding options under the Executive Award Plan. Upon exercise of a Limited SAR or an SAR within 60 days after an SAR Change of Control (as defined below), the executive officer would receive the difference between (1) the greater of (a) the highest price of the Company's Common Stock during the 60-day period before exercise of the Limited SAR or SAR and (b) the highest price paid for a share of the Company's Common Stock by an acquiring person during the 60-day period before the SAR Change of Control and (2) the exercise price of the Limited SAR or SAR. An "SAR Change of Control" is deemed to have occurred if (1) any person or group acquires (or obtains the right to acquire) beneficial ownership of 35% or more of the Company's voting securities, (2) there is a change in the composition of a majority of the Company's Board of Directors within any period of three consecutive years which change was not approved by a majority of the Board as constituted immediately prior to the commencement of such three-year period or (3) at any meeting of stockholders of the Company called for the purpose of electing Directors the entire slate nominated by the Board of Directors fails to be elected. EXECUTIVE SEVERANCE AGREEMENTS The Company has Executive Severance Agreements with Messrs. Kuehn, Bates, Moylan, Rubright, Russell and Smith. These agreements provide that if the executive officer's employment is terminated either (1) within three years after a Change of Control (as defined above), either (a) by the Company for reasons other than dishonesty, conviction of a felony or willful unauthorized disclosure of confidential information or other than as a consequence of death, disability or retirement at normal retirement age or (b) by the executive officer for reasons relating to a diminution of responsibilities or compensation or relocation requiring a change in residence or a significant increase in travel, or (2) by the executive officer for any reason during the 30-day period immediately following the first anniversary of the Change of Control, he will receive: (1) a lump sum payment equal to three times his highest earnings (defined to include those items described as covered compensation under the Retirement Plan) during any 12-month period during the three years preceding the termination (such lump sum payment to be reduced pro rata to the extent there 20 22 are less than 36 months until the officer reaches normal retirement age); (2) life, medical, and accident and disability insurance as provided in the Company's insurance programs or, in certain circumstances, substantially equivalent insurance to be provided by the Company for a period of 36 months after termination of employment (or until normal retirement age, whichever is sooner); and (3) for an executive officer who has reached age 50 and is not otherwise entitled to an early retirement benefit under the terms of a qualified retirement plan of the Company or its subsidiaries, an annual benefit equal to the amount such officer would have received had he been entitled to an early retirement benefit (reduced by any benefits payable to him under such retirement plan and the Supplemental Benefit Plan), and a survivors benefit with respect to such early retirement benefit. The Executive Severance Agreements also provide that if the executive officer receives payments that would be subject to the tax imposed by Section 4999 of the Internal Revenue Code, the executive shall be entitled to receive an additional payment in an amount necessary to put the executive officer in the same after-tax position as if such tax had not been imposed. Assuming that the executive officers terminated employment on January 31, 1998, in a manner entitling them to benefits under the Executive Severance Agreements, the respective executive officers would receive the following lump sum cash payments pursuant to item (1) above and the following annual retirement benefits pursuant to item (3) above: Mr. Kuehn, $4,711,500 in cash and $0 in retirement benefits; Mr. Bates, $1,265,625 in cash and $0 in retirement benefits; Mr. Moylan, $1,347,000 in cash and $0 in retirement benefits; Mr. Rubright, $1,523,850 in cash and $7,039 in retirement benefits; Mr. Russell, $1,901,142 in cash and $0 in retirement benefits; and Mr. Smith, $1,749,900 in cash and $71,993 in retirement benefits. The Executive Severance Agreements provide that the executive officer may not voluntarily leave the employ of the Company if a third party attempts to effect a Change of Control until such third party abandons such attempt or a Change of Control has occurred. The Agreements renew automatically for one-year terms unless terminated at the end of any term by the Board of Directors. The Agreements shall also terminate if the Executive Compensation Committee determines that the executive officer is no longer a key employee, unless a Change of Control is threatened at the time or has occurred within the past three years. ELECTION OF AUDITOR (PROPOSAL NO. 1) Ernst & Young LLP has been nominated for election as Auditor of the Company. The Restated Certificate of Incorporation provides that no other person shall be eligible for election as Auditor unless notice of intention to nominate such person has been given to the Company not less than ten days before the Annual Meeting. A representative of Ernst & Young LLP will be present at the Annual Meeting with the opportunity to make a statement if such representative desires to do so and will be available to respond to appropriate questions. THE BOARD OF DIRECTORS RECOMMENDS A VOTE "FOR" THE ELECTION OF ERNST & YOUNG LLP AS AUDITOR (PROPOSAL NO. 1). OTHER MATTERS PROPOSALS OF STOCKHOLDERS STOCKHOLDER PROPOSALS IN THE COMPANY'S PROXY STATEMENT. In order for proposals by stockholders to be considered for inclusion in the proxy statement and form of proxy relating to the 1999 Annual Meeting of Stockholders, such proposals must be received at the principal executive offices of the Company, AmSouth-Sonat Tower, Birmingham, Alabama 35203, by no later than November 24, 1998. 21 23 STOCKHOLDER PROPOSALS TO BE PRESENTED AT MEETINGS. A stockholder who desires to propose any business at an annual meeting of stockholders must give the Secretary of the Company written notice which is received not later than the close of business on the 60th day nor earlier than the close of business on the 90th day before the first anniversary of the preceding year's annual meeting (the "Notice Deadline"). (Special notice provisions apply if the date of the annual meeting is more than 30 days before or more than 60 days after such anniversary date.) Adjournment of an annual meeting shall not commence a new Notice Deadline. The stockholder's notice must set forth (a) a brief description of the business desired to be brought before the meeting, the reasons for conducting such business at the meeting and the beneficial owner, if any, on whose behalf the proposal is made; (b) a representation that the stockholder is a holder of record of stock of the Company entitled to vote at such meeting (or if the record date for such meeting is subsequent to the date required for such stockholder notice, a representation that the stockholder is a holder of record at the time of such notice and intends to be a holder of record on the record date for such meeting) and intends to appear in person or by proxy at such meeting to propose such business; (c) any material interest of the stockholder in such business; and (d) for both the stockholder giving notice and the beneficial owner, if any, on whose behalf the proposal is made (1) the name and address of such stockholder and beneficial owner and (2) the class and number of shares owned beneficially and of record by such stockholder and beneficial owner. STOCKHOLDER NOMINATIONS FOR DIRECTORS. A stockholder who desires to nominate Directors at a meeting of stockholders must give the Secretary of the Company written notice within the Notice Deadline (for an annual meeting) or, for a special meeting at which directors are to be elected pursuant to the Company's notice of meeting, not earlier than the close of business on the 90th day before such special meeting and not later than the close of business on the later of the 60th day before such special meeting or the 10th day after the date public announcement is made of the date of the special meeting and the nominees proposed by the Board of Directors to be elected at such meeting. The stockholder's notice must set forth (a) the name and address of the stockholder giving the notice and of the beneficial owner, if any, on whose behalf the nominations are made; (b) the class and number of shares owned beneficially and of record by such stockholder and such beneficial owner; (c) a representation that the stockholder is a holder of record of stock of the Company entitled to vote at such meeting (or if the record date for such meeting is subsequent to the date required for such stockholder notice, a representation that the stockholder is a holder of record at the time of such notice and intends to be a holder of record on the record date for such meeting) and intends to appear in person or by proxy at the meeting to nominate the person or persons specified in the notice; (d) a description of all arrangements or understandings between the stockholder or beneficial owner and each nominee and any other person or persons (naming such person or persons) pursuant to which the nomination or nominations are to be made; (e) such other information regarding each nominee proposed by such stockholder as would have been required to be disclosed in solicitations of proxies for election of directors pursuant to the rules of the Securities and Exchange Commission; and (f) the consent of each nominee to be named in the proxy statement as a nominee and to serve as a Director of the Company if so elected. The Chairman of the meeting may refuse to transact any business or to acknowledge the nomination of any person if a stockholder has failed to comply with the foregoing procedures. A copy of the Company's By-Laws may be obtained from the Company upon written request to the Company at its Birmingham, Alabama office. VOTING AT THE ANNUAL MEETING The presence, in person or by proxy, of the holders of a majority of the Company's Common Stock is necessary to constitute a quorum at the Annual Meeting or any adjournment thereof. The vote required for the election of Directors and the approval of the other matters scheduled for a vote at the Annual Meeting is controlled by the provisions of the Company's Charter and By- 22 24 Laws and the Delaware General Corporation Law. Directors are elected by a plurality vote. Approval of Proposal No. 1 would require a plurality vote. Abstentions and broker "non-votes" (shares not voted on a matter because a nominee holding shares for a beneficial owner neither receives voting instructions from such beneficial owner nor has discretionary voting power with respect thereto) shall not have an effect on the vote at the Annual Meeting. The vote will be tabulated by an independent tabulator and the results of such vote will be certified by independent inspectors of election. SOLICITATION OF PROXIES The Company will bear the costs of solicitation of proxies. Officers and regular employees of the Company may solicit proxies by mail, telephone, telegraph and personal interview. In addition, the Company has retained D. F. King & Co., Inc. to assist in the solicitation of proxies, and anticipates that the fees that it will incur for this service, excluding out-of-pocket expenses, will not exceed $10,000. Arrangements will be made with brokerage houses and with other custodians, nominees and fiduciaries to forward proxy soliciting material to beneficial owners. The Company will reimburse persons holding stock for others in their names or in those of their nominees for their reasonable out-of-pocket expenses in sending proxy material to their principals and obtaining their proxies. ------------------------------ The information provided under the headings "Report of the Executive Compensation Committee" and "Performance Graph" above shall not be deemed to be "soliciting material" or to be "filed" with the Securities and Exchange Commission or subject to Regulations 14A or 14C, other than as provided in Item 402 of Regulation S-K, or to the liabilities of Section 18 of the Securities Exchange Act of 1934 and, unless specific reference is made therein to such headings, shall not be incorporated by reference into any filing under the Securities Act of 1933 or the Securities Exchange Act of 1934. The Company is not aware that any matters other than those mentioned above will be presented for action at the 1998 Annual Meeting, but if any other matters do properly come before the meeting, the persons named as proxies will vote upon such matters in accordance with their best judgment. Please complete, sign, date and return the enclosed proxy card promptly. SONAT INC. /s/ Beverley T. Krannich Beverley T. Krannich SECRETARY Birmingham, Alabama March 21, 1998 23 EX-23.1 14 CONSENT OF ERNST & YOUNG LLP 1 EXHIBIT 23.1 CONSENT OF INDEPENDENT AUDITORS We consent to the incorporation by reference in (i) the Registration Statement (Form S-8, No. 33-64367) pertaining to the Sonat Inc. Executive Award Plan and the related Prospectus and (ii) the Registration Statement (Form S-8, No. 33-50142) pertaining to the Sonat Savings Plan and the related Prospectus of our report dated January 16, 1998, with respect to the consolidated financial statements of Sonat Inc. included in the Annual Report (Form 10-K) for the year ended December 31, 1997. ERNST & YOUNG LLP Birmingham, Alabama March 23, 1998 EX-23.2 15 CONSENT OF COBB & ASSOCIATES 1 EXHIBIT 23.2 CONSENT OF INDEPENDENT PETROLEUM ENGINEERS We hereby consent to the references to us and to the use of the information derived from our reserve report on the interests of Sonat Exploration GOM Inc. (formerly Zilkha Energy Company) ("Sonat GOM"), dated February 27, 1998, relating to the estimated quantities of certain of Sonat GOM's proved reserves, in the Sonat Inc. Annual Report on Form 10-K for 1997 under the caption "Sonat Exploration GOM Inc." and to the incorporation by reference of such references and information in the Sonat Inc. Registration Statements on Form S-8 (No. 33-64367 and No. 33-50142). We also consent to our being named as experts for purposes of such Registration Statements. WILLIAM M. COBB & ASSOCIATES, INC. By: /s/ Frank J. Marek ----------------------------------------- Dallas, Texas March 23, 1998 EX-24 16 POWERS OF ATTORNEY 1 EXHIBIT 24 POWER OF ATTORNEY KNOW ALL MEN BY THESE PRESENTS, that the undersigned, a director of Sonat Inc., does hereby constitute and appoint Ronald L. Kuehn, Jr.; Thomas W. Barker, Jr.; James E. Moylan, Jr.; William A. Smith; and John C. Griffin, and each of them, his true and lawful attorneys to execute in his name (whether on behalf of Sonat Inc. or as a director of Sonat Inc.) the Sonat Inc. Annual Report on Form 10-K for the fiscal year ended December 31, 1997, and any and all amendments thereto to be filed with the Securities and Exchange Commission pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 and to file the same, with all exhibits thereto, and any other documents in connection therewith, with the Securities and Exchange Commission. The undersigned does hereby ratify and confirm all that said attorneys and agents, and each of them, shall do or cause to be done by virtue hereof. Each of such attorneys shall have and may exercise all powers to act hereunder with or without the others. IN WITNESS WHEREOF, the undersigned has signed his name hereto as of the 26th day of February, 1998. /s/ William O. Bourke ----------------------------------------- William O. Bourke 2 POWER OF ATTORNEY KNOW ALL MEN BY THESE PRESENTS, that the undersigned, an officer and director of Sonat Inc., does hereby constitute and appoint Ronald L. Kuehn, Jr.; Thomas W. Barker, Jr.; James E. Moylan, Jr.; William A. Smith; and John C. Griffin, and each of them, his true and lawful attorneys to execute in his name (whether on behalf of Sonat Inc. or as an Officer or director of Sonat Inc.) the Sonat Inc. Annual Report on Form 10-K for the fiscal year ended December 31, 1997, and any and all amendments thereto to be filed with the Securities and Exchange Commission pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 and to file the same, with all exhibits thereto, and any other documents in connection therewith, with the Securities and Exchange Commission. The undersigned does hereby ratify and confirm all that said attorneys and agents, and each of them, shall do or cause to be done by virtue hereof. Each of such attorneys shall have and may exercise all powers to act hereunder with or without the others. IN WITNESS WHEREOF, the undersigned has signed his name hereto as of the 26th day of February, 1998. /s/ Ronald L. Kuehn, Jr. ----------------------------------------- Ronald L. Kuehn, Jr. 3 POWER OF ATTORNEY KNOW ALL MEN BY THESE PRESENTS, that the undersigned, a director of Sonat Inc., does hereby constitute and appoint Ronald L. Kuehn, Jr.; Thomas W. Barker, Jr.; James E. Moylan, Jr.; William A. Smith; and John C. Griffin, and each of them, his true and lawful attorneys to execute in his name (whether on behalf of Sonat Inc. or as a director of Sonat Inc.) the Sonat Inc. Annual Report on Form 10-K for the fiscal year ended December 31, 1997, and any and all amendments thereto to be filed with the Securities and Exchange Commission pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 and to file the same, with all exhibits thereto, and any other documents in connection therewith, with the Securities and Exchange Commission. The undersigned does hereby ratify and confirm all that said attorneys and agents, and each of them, shall do or cause to be done by virtue hereof. Each of such attorneys shall have and may exercise all powers to act hereunder with or without the others. IN WITNESS WHEREOF, the undersigned has signed his name hereto as of the 26th day of February, 1998. /s/ Robert J. Lanigan ----------------------------------------- Robert J. Lanigan 4 POWER OF ATTORNEY KNOW ALL MEN BY THESE PRESENTS, that the undersigned, a director of Sonat Inc., does hereby constitute and appoint Ronald L. Kuehn, Jr.; Thomas W. Barker, Jr.; James E. Moylan, Jr.; William A. Smith; and John C. Griffin, and each of them, his true and lawful attorneys to execute in his name (whether on behalf of Sonat Inc. or as a director of Sonat Inc.) the Sonat Inc. Annual Report on Form 10-K for the fiscal year ended December 31, 1997, and any and all amendments thereto to be filed with the Securities and Exchange Commission pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 and to file the same, with all exhibits thereto, and any other documents in connection therewith, with the Securities and Exchange Commission. The undersigned does hereby ratify and confirm all that said attorneys and agents, and each of them, shall do or cause to be done by virtue hereof. Each of such attorneys shall have and may exercise all powers to act hereunder with or without the others. IN WITNESS WHEREOF, the undersigned has signed his name hereto as of the 26th day of February, 1998. /s/ Max L. Lukens ----------------------------------------- Max L. Lukens 5 POWER OF ATTORNEY KNOW ALL MEN BY THESE PRESENTS, that the undersigned, a director of Sonat Inc., does hereby constitute and appoint Ronald L. Kuehn, Jr.; Thomas W. Barker, Jr.; James E. Moylan, Jr.; William A. Smith; and John C. Griffin, and each of them, his true and lawful attorneys to execute in his name (whether on behalf of Sonat Inc. or as a director of Sonat Inc.) the Sonat Inc. Annual Report on Form 10-K for the fiscal year ended December 31, 1997, and any and all amendments thereto to be filed with the Securities and Exchange Commission pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 and to file the same, with all exhibits thereto, and any other documents in connection therewith, with the Securities and Exchange Commission. The undersigned does hereby ratify and confirm all that said attorneys and agents, and each of them, shall do or cause to be done by virtue hereof. Each of such attorneys shall have and may exercise all powers to act hereunder with or without the others. IN WITNESS WHEREOF, the undersigned has signed his name hereto as of the 28th day of February, 1998. /s/ Charles Marshall ----------------------------------------- Charles Marshall 6 POWER OF ATTORNEY KNOW ALL MEN BY THESE PRESENTS, that the undersigned, a director of Sonat Inc., does hereby constitute and appoint Ronald L. Kuehn, Jr.; Thomas W. Barker, Jr.; James E. Moylan, Jr.; William A. Smith; and John C. Griffin, and each of them, his true and lawful attorneys to execute in his name (whether on behalf of Sonat Inc. or as a director of Sonat Inc.) the Sonat Inc. Annual Report on Form 10-K for the fiscal year ended December 31, 1997, and any and all amendments thereto to be filed with the Securities and Exchange Commission pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 and to file the same, with all exhibits thereto, and any other documents in connection therewith, with the Securities and Exchange Commission. The undersigned does hereby ratify and confirm all that said attorneys and agents, and each of them, shall do or cause to be done by virtue hereof. Each of such attorneys shall have and may exercise all powers to act hereunder with or without the others. IN WITNESS WHEREOF, the undersigned has signed his name hereto as of the 26th day of February, 1998. /s/ Benjamin F. Payton ----------------------------------------- Benjamin F. Payton 7 POWER OF ATTORNEY KNOW ALL MEN BY THESE PRESENTS, that the undersigned, a director of Sonat Inc., does hereby constitute and appoint Ronald L. Kuehn, Jr.; Thomas W. Barker, Jr.; James E. Moylan, Jr.; William A. Smith; and John C. Griffin, and each of them, his true and lawful attorneys to execute in his name (whether on behalf of Sonat Inc. or as a director of Sonat Inc.) the Sonat Inc. Annual Report on Form 10-K for the fiscal year ended December 31, 1997, and any and all amendments thereto to be filed with the Securities and Exchange Commission pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 and to file the same, with all exhibits thereto, and any other documents in connection therewith, with the Securities and Exchange Commission. The undersigned does hereby ratify and confirm all that said attorneys and agents, and each of them, shall do or cause to be done by virtue hereof. Each of such attorneys shall have and may exercise all powers to act hereunder with or without the others. IN WITNESS WHEREOF, the undersigned has signed his name hereto as of the 26th day of February, 1998. /s/ John J. Phelan, Jr. ----------------------------------------- John J. Phelan, Jr. 8 POWER OF ATTORNEY KNOW ALL MEN BY THESE PRESENTS, that the undersigned, a director of Sonat Inc., does hereby constitute and appoint Ronald L. Kuehn, Jr.; Thomas W. Barker, Jr.; James E. Moylan, Jr.; William A. Smith; and John C. Griffin, and each of them, his true and lawful attorneys to execute in his name (whether on behalf of Sonat Inc. or as a director of Sonat Inc.) the Sonat Inc. Annual Report on Form 10-K for the fiscal year ended December 31, 1997, and any and all amendments thereto to be filed with the Securities and Exchange Commission pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 and to file the same, with all exhibits thereto, and any other documents in connection therewith, with the Securities and Exchange Commission. The undersigned does hereby ratify and confirm all that said attorneys and agents, and each of them, shall do or cause to be done by virtue hereof. Each of such attorneys shall have and may exercise all powers to act hereunder with or without the others. IN WITNESS WHEREOF, the undersigned has signed his name hereto as of the 26th day of February, 1998. /s/ Jerome J. Richardson ----------------------------------------- Jerome J. Richardson 9 POWER OF ATTORNEY KNOW ALL MEN BY THESE PRESENTS, that the undersigned, an officer and director of Sonat Inc., does hereby constitute and appoint Ronald L. Kuehn, Jr.; Thomas W. Barker, Jr.; James E. Moylan, Jr.; William A. Smith; and John C. Griffin, and each of them, his true and lawful attorneys to execute in his name (whether on behalf of Sonat Inc. or as an Officer or director of Sonat Inc.) the Sonat Inc. Annual Report on Form 10-K for the fiscal year ended December 31, 1997, and any and all amendments thereto to be filed with the Securities and Exchange Commission pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 and to file the same, with all exhibits thereto, and any other documents in connection therewith, with the Securities and Exchange Commission. The undersigned does hereby ratify and confirm all that said attorneys and agents, and each of them, shall do or cause to be done by virtue hereof. Each of such attorneys shall have and may exercise all powers to act hereunder with or without the others. IN WITNESS WHEREOF, the undersigned has signed his name hereto as of the 26th day of February, 1998. /s/ Donald G. Russell ----------------------------------------- Donald G. Russell 10 POWER OF ATTORNEY KNOW ALL MEN BY THESE PRESENTS, that the undersigned, a director of Sonat Inc., does hereby constitute and appoint Ronald L. Kuehn, Jr.; Thomas W. Barker, Jr.; James E. Moylan, Jr.; William A. Smith; and John C. Griffin, and each of them, his true and lawful attorneys to execute in his name (whether on behalf of Sonat Inc. or as a director of Sonat Inc.) the Sonat Inc. Annual Report on Form 10-K for the fiscal year ended December 31, 1997, and any and all amendments thereto to be filed with the Securities and Exchange Commission pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 and to file the same, with all exhibits thereto, and any other documents in connection therewith, with the Securities and Exchange Commission. The undersigned does hereby ratify and confirm all that said attorneys and agents, and each of them, shall do or cause to be done by virtue hereof. Each of such attorneys shall have and may exercise all powers to act hereunder with or without the others. IN WITNESS WHEREOF, the undersigned has signed her name hereto as of the 26th day of February, 1998. /s/ Adrian M. Tocklin ----------------------------------------- Adrian M. Tocklin 11 POWER OF ATTORNEY KNOW ALL MEN BY THESE PRESENTS, that the undersigned, a director of Sonat Inc., does hereby constitute and appoint Ronald L. Kuehn, Jr.; Thomas W. Barker, Jr.; James E. Moylan, Jr.; William A. Smith; and John C. Griffin, and each of them, his true and lawful attorneys to execute in his name (whether on behalf of Sonat Inc. or as a director of Sonat Inc.) the Sonat Inc. Annual Report on Form 10-K for the fiscal year ended December 31, 1997, and any and all amendments thereto to be filed with the Securities and Exchange Commission pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 and to file the same, with all exhibits thereto, and any other documents in connection therewith, with the Securities and Exchange Commission. The undersigned does hereby ratify and confirm all that said attorneys and agents, and each of them, shall do or cause to be done by virtue hereof. Each of such attorneys shall have and may exercise all powers to act hereunder with or without the others. IN WITNESS WHEREOF, the undersigned has signed his name hereto as of the 26th day of February, 1998. /s/ James B. Williams ----------------------------------------- James B. Williams 12 POWER OF ATTORNEY KNOW ALL MEN BY THESE PRESENTS, that the undersigned, a director of Sonat Inc., does hereby constitute and appoint Ronald L. Kuehn, Jr.; Thomas W. Barker, Jr.; James E. Moylan, Jr.; William A. Smith; and John C. Griffin, and each of them, his true and lawful attorneys to execute in his name (whether on behalf of Sonat Inc. or as a director of Sonat Inc.) the Sonat Inc. Annual Report on Form 10-K for the fiscal year ended December 31, 1997, and any and all amendments thereto to be filed with the Securities and Exchange Commission pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 and to file the same, with all exhibits thereto, and any other documents in connection therewith, with the Securities and Exchange Commission. The undersigned does hereby ratify and confirm all that said attorneys and agents, and each of them, shall do or cause to be done by virtue hereof. Each of such attorneys shall have and may exercise all powers to act hereunder with or without the others. IN WITNESS WHEREOF, the undersigned has signed his name hereto as of the 26th day of February, 1998. /s/ Joe B. Wyatt ----------------------------------------- Joe B. Wyatt 13 POWER OF ATTORNEY KNOW ALL MEN BY THESE PRESENTS, that the undersigned, a director of Sonat Inc., does hereby constitute and appoint Ronald L. Kuehn, Jr.; Thomas W. Barker, Jr.; James E. Moylan, Jr.; William A. Smith; and John C. Griffin, and each of them, his true and lawful attorneys to execute in his name (whether on behalf of Sonat Inc. or as a director of Sonat Inc.) the Sonat Inc. Annual Report on Form 10-K for the fiscal year ended December 31, 1997, and any and all amendments thereto to be filed with the Securities and Exchange Commission pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 and to file the same, with all exhibits thereto, and any other documents in connection therewith, with the Securities and Exchange Commission. The undersigned does hereby ratify and confirm all that said attorneys and agents, and each of them, shall do or cause to be done by virtue hereof. Each of such attorneys shall have and may exercise all powers to act hereunder with or without the others. IN WITNESS WHEREOF, the undersigned has signed his name hereto as of the 26th day of February, 1998. /s/ Selim K. Zilkha ----------------------------------------- Selim K. Zilkha 14 POWER OF ATTORNEY KNOW ALL MEN BY THESE PRESENTS, that the undersigned, a director of Sonat Inc., does hereby constitute and appoint Ronald L. Kuehn, Jr.; Thomas W. Barker, Jr.; James E. Moylan, Jr.; William A. Smith; and John C. Griffin, and each of them, his true and lawful attorneys to execute in his name (whether on behalf of Sonat Inc. or as a director of Sonat Inc.) the Sonat Inc. Annual Report on Form 10-K for the fiscal year ended December 31, 1997, and any and all amendments thereto to be filed with the Securities and Exchange Commission pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 and to file the same, with all exhibits thereto, and any other documents in connection therewith, with the Securities and Exchange Commission. The undersigned does hereby ratify and confirm all that said attorneys and agents, and each of them, shall do or cause to be done by virtue hereof. Each of such attorneys shall have and may exercise all powers to act hereunder with or without the others. IN WITNESS WHEREOF, the undersigned has signed his name hereto as of the 26th day of February, 1998. /s/ Michael S. Zilkha ----------------------------------------- Michael S. Zilkha EX-27.1 17 FINANCIAL DATA SCHEDULE FOR PERIOD ENDED 12/31/97
5 1,000 YEAR DEC-31-1997 DEC-31-1997 13,512 0 594,972 0 61,706 937,725 5,597,864 2,859,649 4,431,514 1,250,089 1,042,734 0 0 87,227 1,548,193 4,431,514 3,694,942 4,174,624 3,174,060 3,355,171 326,014 0 89,956 256,457 80,537 175,920 0 0 0 175,920 2.05 2.01
EX-27.2 18 FINANCIAL DATA SCHEDULE FOR PERIOD ENDED 12/31/96
5 1,000 YEAR DEC-31-1996 DEC-31-1996 29,639 0 577,021 0 30,500 693,290 5,084,283 2,650,419 3,774,659 848,837 872,255 0 0 87,233 1,497,131 3,774,659 2,556,822 3,039,014 2,038,846 2,202,583 288,192 0 86,946 294,304 93,115 201,189 0 0 0 201,189 2.33 2.30
EX-27.3 19 FINANCIAL DATA SCHEDULE FOR PERIOD ENDED 12/31/95
5 1,000 YEAR DEC-31-1995 DEC-31-1995 37,289 0 327,697 0 23,956 494,431 4,822,879 2,545,320 3,511,441 640,125 770,313 0 0 87,244 1,395,398 3,511,441 1,236,953 1,754,341 913,054 1,084,939 298,714 0 96,257 287,881 94,993 192,888 0 0 0 192,888 2.24 2.21
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