ITEM 1. BUSINESS.
Nature of business
Questar Gas distributes natural gas as a public utility in Utah, southwestern Wyoming and a small portion of southeastern Idaho. As of December 31, 2006, Questar Gas was serving 850,542 sales and transportation customers. Questar Gas is the only non-municipal gas-distribution utility in Utah, where over 96% of its customers are located. The PSCU, the PSCW and the Public Utility Commission of Idaho have granted Questar Gas the necessary regulatory approvals to serve these areas. Questar Gas also has long-term franchises granted by communities and counties within its service area.
Questar Gas growth is tied to the economic growth of Utah and southwestern Wyoming. It has over 90% of the load for residential space heating and water heating in its service area. During 2006, Questar Gas added 26,095 customers, a 3.2% increase.
Questar Gas’s sales to residential and commercial customers are seasonal, with a substantial portion of such sales made during the heating season. The typical residential customer in Utah (defined as a customer using 115 dth per year) consumes over 77% of total gas requirements in the coldest six months of the year. Questar Gas, however, has a weather-normalization mechanism for its general-service customers. This mechanism adjusts the nongas portion of a customer’s monthly bill as the actual heating-degree days in the billing cycle are warmer or colder than normal. This mechanism reduces dramatic fluctuations in any given customer’s monthly bill from year to year and reduces fluctuations in Questar Gas gross margin.
In October 2006, the PSCU approved a pilot program for a conservation enabling tariff (CET) effective January 1, 2006, to promote energy conservation. Under the Company’s prior rate structure, nongas revenues were tied to volumes. Revenues increased when customer usage increased and declined when usage declined. Under the CET, Questar Gas nongas revenues are decoupled from the volume of gas used by customers. The tariff specifies a margin per customer for each month with differences to be deferred and recovered from customers or refunded to customers through periodic rate adjustments. These adjustments will be limited to one percent of total revenues for the first year. The program will be reviewed after one year. Questar Gas recorded a $1.7 million revenue reduction in 2006 to recognize the impact of the CET.
In January 2007, the PSCU approved a demand-side management program (DSM) effective January 1, 2007. Under the DSM, Questar Gas will more proactively encourage its customers to conserve natural gas through advertising, rebates for efficient homes and appliances, and energy audits. The costs of the DSM will be deferred and recovered from customers through periodic rate adjustments.
Questar Gas minimizes gas-supply risk with cost-of-service natural gas reserves. During 2006, Questar Gas satisfied 43% of its supply requirements with cost-of-service gas and associated royalty-interest volumes. Wexpro, an affiliate, produces cost-of-service gas, which is then gathered by Questar Gas Management, an affiliate, and transported by Questar Pipeline, an affiliate. See Item 2 of Part I and Note 13 to the financial statements included in Item 8 of Part II of this Annual Report for more information on cost-of-service proved reserves. Questar Gas also has a balanced and diversified portfolio of supply contracts for natural gas produced in Wyoming, Colorado, and Utah. Questar Gas has regulatory approval to include costs associated with hedging activities in its balancing account for pass-through treatment.
Questar Gas has designed its distribution system and annual gas-supply plan to handle design-day demand requirements. It periodically updates its design-day demand, the volume of gas that firm customers could use during extremely cold weather. For the 2006-07 heating season, Questar Gas used a design-day demand of 1.2 MMdth for firm customers.
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Questar Gas has long-term contracts for transportation and storage capacity at Questar Pipeline’s Clay Basin gas-storage complex and at three Questar Pipeline-owned aquifer-storage facilities, which the Company uses to meet peak-day requirements. Questar Gas also has contracts to take deliveries at several locations on the Kern River Pipeline.
Regulation
As a public utility, Questar Gas is subject to the jurisdiction of the PSCU and PSCW. Natural gas sales and transportation services are provided under rate schedules approved by the two regulatory commissions. Questar Gas is authorized to earn a return on equity of 11.2% in Utah and 11.83% in Wyoming. Both the PSCU and PSCW permit Questar Gas to recover gas costs through a balancing-account procedure and to reflect natural gas-price changes on a periodic, generally semi-annual basis. Questar Gas has also received permission from the PSCU and PCSW to recover in its gas costs specific costs associated with derivative contracts.
Questar Gas has significant relationships with affiliates that have allowed it to lower its costs and improve efficiency. Transactions between Questar Gas and its affiliates are subject to greater scrutiny by regulators. See Note 8 of the financial statements included in Item 8 of Part II in this Annual Report for a discussion of gas-processing cost coverage.
Questar Gas is subject to the requirements of the Pipeline Safety Improvement Act. Questar Gas estimates that it will cost $4.0 to $5.0 million per year to comply with the Act, not including costs of pipeline replacement if necessary. The PSCU has allowed Questar Gas to recover $2.0 million per year of these costs beginning June 2006 and to record a regulatory asset for additional incremental operating costs incurred to comply with this Act.
Competition
Questar Gas currently does not face direct competition from other distributors of natural gas for residential and commercial customers in its service territory. Natural gas has historically enjoyed a favorable price comparison with other energy sources used by residential and commercial customers with the notable exceptions of electricity from coal-fired power plants and occasionally fuel oil when oil prices are low. It provides transportation service to industrial customers that can buy gas directly from others. Questar Gas earns lower margins on this transportation service than firm-sales service and could lose customers to competitor, Kern River Pipeline.
Environmental Matters
A discussion of Questar Gas’s environmental matters is included in Item 3 of Part I of this Annual Report.
Employees
At December 31, 2006, Questar Gas had 1,175 employees compared with 1,170 a year earlier.
ITEM 1A.
ITEM 1A. RISK FACTORS.
Investors should read carefully the following factors as well as the cautionary statements referred to in “Forward-Looking Statements” herein. If any of the risks and uncertainties described below or elsewhere in this Annual Report actually occur, the Company’s business, financial condition or results of operation could be materially adversely affected.
Questar Gas faces the same risks as other local-distribution companies. These risks include revenue variations based on seasonal changes in demand, access to sufficient gas supplies, declining residential usage per customer, adequate distribution facilities and adverse regulatory decisions. The risk of weather has been mitigated by the weather-normalization adjustment. The risk of declining usage has been mitigated by the conservation enabling tariff.
Questar Gas is subject to complex regulations on many levels. The Company is subject to federal, state and local environmental, health and safety laws and regulations. Environmental laws and regulations are complex, change frequently and tend to become more onerous over time. In addition to the costs of compliance, substantial costs may be incurred to take corrective actions at both owned and previously-owned facilities. Accidental spills and leaks requiring cleanup may occur in the ordinary course of business. As standards change, the Company may incur significant costs in
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cases where past operations followed practices that were considered acceptable at the time but that now require remedial work to meet current standards. Failure to comply with these laws and regulations may result in fines, significant costs for remedial activities, or injunctions.
Questar Gas must comply with numerous and complex regulations governing activities on federal and state lands in the Rocky Mountain region, notably the National Environmental Policy Act, the Endangered Species Act, and the National Historic Preservation Act. Federal and state agencies frequently impose conditions on the Company’s activities. These restrictions tend to become more stringent over time.
Questar Gas incurs significant costs to comply with federal pipeline-safety regulations. The Company may also be affected by possible future regulations requiring the tracking, reporting and reduction of greenhouse-gas emissions.
State agencies regulate the distribution of natural gas. Questar Gas natural gas-distribution business is regulated by the PSCU and the PSCW. These commissions set rates for distribution services and establish policies and procedures for services, accounting, purchase, sale and other activities. PSCU and PSCW policies may adversely affect Questar Gas profitability.
Distribution operations involve numerous risks that might result in accidents and other operating risks and costs. There are inherent operating risks and hazards in the Company’s operations, such as fires, earthquakes, leaks, explosions and mechanical problems that could cause substantial financial losses. In addition, these risks could result in loss of human life, significant damage to property, environmental pollution, impairment of operations and substantial losses. In accordance with customary industry practice, the Company maintains insurance against some, but not all, of these risks and losses. The location of pipelines near populated areas, including residential areas, commercial business centers and industrial sites, could increase the level of damages resulting from these risks. Certain segments of the Company’s pipelines run through such areas. In spite of the Company’s precautions, an event could cause considerable harm to people or property, and could have a material adverse effect on the financial position and results of operations, particularly if the event is not fully covered by insurance. Accidents or other operating risks could further result in loss of service available to the Company’s customers. Such circumstances could adversely impact the Company’s ability to meet contractual obligations and retain customers.
Gas and oil reserve estimates are imprecise and subject to revision. Cost-of-service proved natural gas and oil reserve estimates are prepared annually by Wexpro’s reservoir engineers. Gas and oil reserve estimates are subject to numerous uncertainties inherent in estimating quantities of proved reserves, projecting future rates of production and timing of development expenditures. The accuracy of these estimates depends on the quality of available data and on engineering and geological interpretation and judgment. Reserve estimates are imprecise and will change as additional information becomes available. Estimates of economically recoverable reserves and future net cash flows prepared by different engineers, or by the same engineers at different times may vary significantly. Results of subsequent drilling, testing and production may cause either upward or downward revisions of previous estimates. In addition, the estimation process also involves economic assumptions relating to commodity prices, production costs, severance and other taxes, capital expenditures and remedial costs. Actual results most likely will vary from the estimates.
Questar Gas is dependent on bank credit facilities and continued access to capital markets to successfully execute its operating strategies. Questar also relies on access to short-term commercial paper markets. The Company is dependent on these capital sources to provide financing for certain projects. The availability and cost of these credit sources is cyclical, and these capital sources may not remain available or the Company may not be able to obtain money at a reasonable cost in the future. Questar’s bank loans are floating-rate debt. From time-to-time the Company may use interest-rate derivatives to fix the rate on a portion of its variable-rate debt. The interest rates on bank loans and commercial paper are tied to debt credit ratings of Questar and its subsidiaries published by Standard & Poor’s and Moody’s. A downgrade of credit ratings could increase the interest cost of debt and decrease future availability of money from banks and other sources. Management believes it is important to maintain investment-grade credit ratings to conduct the Company’s businesses, but may not be able to keep investment-grade ratings.
General economic and other conditions impact Questar Gas results. Questar Gas results may also be negatively affected by: changes in general economic conditions; changes in regulation; creditworthiness of counterparties; rate of inflation and interest rates; assumptions used in business combinations; weather and natural disasters; changes in customers’ credit ratings; competition from other forms of energy, effects of accounting policies issued periodically
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by accounting standard-setting bodies; terrorist attacks or acts of war; changes in business or financial condition; changes in credit ratings; and availability of financing for Questar Gas.
ITEM 1B.
ITEM 1B. UNRESOLVED STAFF COMMENTS.
None.
ITEM 2.
ITEM 2. PROPERTIES.
Questar Gas distributes gas to customers in the major populated area of Utah, commonly referred to as the Wasatch Front, including the metropolitan Salt Lake area, Provo, Park City, Ogden, and Logan. It also serves customers throughout the state, including the cities of Price, Roosevelt, Vernal, Moab, Monticello, Fillmore, Cedar City and St. George. Questar Gas supplies natural gas to the southwestern Wyoming communities of Rock Springs, Green River, Evanston, Kemmerer and Diamondville and the southeastern Idaho community of Preston. To supply these communities Questar Gas owns and operates distribution systems and has a total of 25,527 miles of street mains, service lines and interconnecting pipelines. Questar Gas has a major operations center in Salt Lake City, and has operations centers, field offices and service-center facilities through other parts of its service area.
ITEM 3.
ITEM 3. LEGAL PROCEEDINGS.
Questar Gas is involved in various commercial and regulatory claims and litigation and other legal proceedings that arise in the ordinary course of its business. Management does not believe any of them will have a material adverse effect on the Company’s financial position. An accrual is recorded for a loss contingency when its occurrence is probable and damages can be reasonably estimated based on the anticipated most likely outcome. Some of the claims involve highly complex issues relating to liability, damages and other matters subject to substantial uncertainties and, therefore, the probability of liability or an estimate of loss cannot be reasonably determined.
Grynberg Cases
Questar affiliates are involved in various pending lawsuits filed by Jack Grynberg, an independent producer. In United States ex rel. Grynberg v. Questar Corp., Civil No. 99-MD-1604, consolidated as In re Natural Gas Royalties Qui Tam Litigation, Consolidated Case MDL No. 1293 (D. Wyo.), Grynberg filed qui tam claims against Questar under the federal False Claims Act that were substantially similar to other cases filed against other industry pipelines and their affiliates. The cases were consolidated for discovery and pre-trial motions in Wyoming’s federal district court. The cases involve allegations of industry-wide mismeasurement of natural gas quantities on which royalty payments are due the federal government.
The defendants filed a motion contending that the court has no jurisdiction over the case because Grynberg cannot satisfy the statutory requirements for jurisdiction. The defendants argued that Grynberg’s allegations were publicly disclosed prior to the filing of his complaint and that Grynberg is not the “original source” of the information on which the allegations are based. By order dated October 20, 2006, the district court granted defendants motion and dismissed all of Grynberg’s claims against all the defendants for lack of jurisdiction. The judge found that Grynberg was not the “original source” and therefore could not bring the action. Grynberg has appealed the case to the U.S. Tenth Circuit Court of Appeals.
In Grynberg and L & R Exploration Venture v. Questar Pipeline Co., Civil No. 97CV0471 (D. Wyo.), Grynberg brought breach of contract claims, statutory claims and fraud claims against Questar entities related to a certain gas purchase contract for the purchase of gas produced from wells located in Wyoming. In December, 1998, the federal district court granted Questar’s motion for partial summary judgment on a contract termination issue and in June 2001, the court granted partial summary judgment dismissing the antitrust claims from the case. By order dated September 12, 2006, the judge also dismissed the fraud claims and ratable-take claims. The breach of contract claims are the only issues remaining to be decided. Grynberg has appealed the case to the U.S. Tenth Circuit Court of Appeals.
Environmental Matters
Questar Gas is listed as a responsible party at sites involving hazardous wastes.
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Regulatory Proceedings
See Note 8 to the financial statements included in Item 8 of Part II of this Annual Report for information concerning various regulatory proceedings.
ITEM 4.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
The Company, as a wholly-owned subsidiary of a reporting company under the Securities Exchange Act, is entitled to omit the information in this Item.
PART II
ITEM 5.
ITEM 5. MARKET FOR REGISTRANT’S EQUITY AND RELATED STOCKHOLDER MATTERS.
All of the Company’s outstanding shares of common stock, $2.50 par value, are owned by Questar. Information concerning the dividends paid on such stock and the ability to pay dividends is reported in the Statements of Common Shareholder’s Equity and the notes accompanying the financial statements included in Item 8 of Part II of this Annual Report.
ITEM 6.
ITEM 6. SELECTED FINANCIAL DATA.
The Company, as a wholly-owned subsidiary of a reporting company under the Securities Exchange Act, is entitled to omit information requested in this Item.
ITEM 7.
ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATION.
Summary
Questar Gas net income increased 3% in 2006 versus 2005 and 14% in 2005 versus 2004. The 2006 results reflect continued customer growth and lower bad debt and depreciation expense. Higher 2005 revenues resulted from a record addition of 30,330 customers.
Results of Operation
Questar Gas reported net income of $37.0 million for 2006 compared with $36.0 million in 2005, a 3% increase, and $31.5 million in 2004. Operating income increased $2.4 million, or 3%, in the 2006 to 2005 comparison due primarily to higher margins from customer growth and lower bad debt and depreciation expenses. Following is a summary of Questar Gas’s financial and operating results:
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Margin Analysis
Questar Gas’s margin (revenues less gas costs) increased $0.5 million in 2006 compared to 2005, and $14.2 million in 2005 compared with 2004. Following is a summary of major changes in Questar Gas’s margin for 2006 compared to 2005 and 2005 compared to 2004:
Temperature-adjusted usage per customer increased less than 1% in 2006 compared to 2005 and decreased 1% in 2005 compared to 2004. The impact on the Company’s margin from changes in usage per customer has been mitigated by a conservation enabling tariff that was approved by the PSCU in October 2006, effective back to the beginning of 2006. Questar Gas recorded a reduction in margin of $1.7 million in 2006 to reflect the impact of changes in usage per customer. See Note 8 to the financial statements included in Item 8 of Part II of this Annual Report for a discussion of the conservation enabling tariff.
QUESTAR GAS 2006 FORM 10-K
Effective June 1, 2006, Utah customer rates were reduced by $9.7 million per year, primarily to reflect changes in the Company’s depreciation rates. Questar Gas realized $4.9 million in reduced revenues from this rate change during the last seven months of 2006. Depreciation expense was approximately $5.3 million lower for this seven-month period as a result of the depreciation rate change. See Note 8 to the financial statements included in Item 8 of Part II of this Annual Report for a discussion of the rate changes.
Weather, as measured in degree days, was 2% and 3% warmer than normal in 2006 and 2005, respectively compared with 3% colder than normal in 2004. A weather-normalization adjustment on customer bills generally offsets financial impacts of moderate temperature variations. At December 31, 2006, Questar Gas was serving 850,542 customers, up from 824,447 at December 31, 2005.
Industrial deliveries (including sales and transportation) increased 5% in 2006 compared to 2005. Industrial deliveries declined 14% in 2005 compared with 2004 primarily driven by lower power-generation requirements and customers changing to the residential and commercial rate schedules.
Expenses
Cost of natural gas sold increased 14% in 2006 compared to 2005 due primarily to higher gas purchase expenses per dth and a 3% increase in volumes sold. Cost of natural gas sold increased 34% in 2005 compared with 2004. Questar Gas accounts for purchased-gas costs in accordance with procedures authorized by the PSCU and the PSCW. Purchased-gas costs that are different from those provided for in present rates are accumulated and recovered or credited through future rate changes. As of December 31, 2006, Questar Gas had a $34.3 million over-collection balance in the purchased-gas adjustment account representing costs recovered from customers in excess of costs incurred. In November 2005, rates were increased significantly to recover increased gas costs caused by the Gulf Coast hurricanes. Questar Gas reduced rates in Utah and Wyoming effective November 1, 2006, by more than the prior year increases.
Operating, maintenance, general and administrative expenses increased 2% in 2006 compared to 2005 due primarily to higher labor costs offset by lower bad debt costs. These expenses increased 8% in 2005 compared to 2004 due to higher labor costs and bad debt costs. Operating, maintenance, general and administrative expenses per customer were $135 in 2006 compared to $137 in 2005 and $132 in 2004.
Depreciation expense decreased 11% in 2006 compared to 2005 primarily as a result of reduced depreciation rates effective June 1, 2006, in accordance with a PSCU order as discussed above. This offsets the depreciation impact of plant additions from customer growth, which caused depreciation expense to increase 9% in 2005 compared with 2004.
Rate Matters
See Note 8 to the financial statements included in Item 8 of Part II of this Annual Report for a discussion of the conservation enabling tariff, a rate reduction in Utah and recovery of gas processing costs. Questar Gas is subject to the requirements of the Pipeline Safety Improvement Act. Questar Gas estimates that it will cost $4.0 to $5.0 million per year to comply with the act, not including costs of pipeline replacement if necessary. The PSCU has allowed Questar Gas to recover $2.0 million per year of these costs beginning June 2006 and to record a regulatory asset for additional incremental operating costs incurred to comply with this Act.
Investing Activities
Following is a summary of Questar Gas capital expenditures for 2006 and 2005 and a forecast for 2007:
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During 2006, Questar Gas added 818 miles of main, feeder and service lines to provide service to 26,095 new customers.
Contractual Cash Obligations and Other Commitments
Questar Gas enters into a variety of contractual cash obligations and other commitments in the course of ordinary business activities. The following table summarizes the Company’s significant contractual cash obligations as of December 31, 2006:
Critical Accounting Policies, Estimates and Assumptions
Questar Gas’s significant accounting policies are described in Note 1 to the financial statements included in Item 8 of Part II of this Annual Report. The Company’s financial statements are prepared in accordance with U.S. generally accepted accounting principles. The preparation of financial statements requires management to make assumptions and estimates that affect the reported results of operations and financial position. The following accounting policies may involve a higher degree of complexity and judgment on the part of management.
Revenue Recognition
Questar Gas estimates revenues on a calendar basis even though bills are sent to customers on a cycle basis throughout the month. The Company estimates unbilled revenues for the period from the date meters are read to the end of the month, using usage history and weather information. Approximately one-half month of revenues is estimated in any period. The gas costs and other variable costs are recorded on the same basis to ensure proper matching of revenues and expenses.
Questar Gas tariff provides for monthly adjustments to customer bills to approximate the impact of normal temperatures on nongas revenues. Questar Gas estimates the weather-normalization adjustment for the unbilled revenue each month. The weather-normalization adjustment is evaluated each month and reconciled on an annual basis in the summer to agree with the amount billed to customers. In 2006, the PSCU approved a pilot program for a conservation enabling tariff effective January 1, 2006, to promote energy conservation. Under the CET, Questar Gas nongas revenues are decoupled from the volume of gas used by customers. The tariff specifies a margin per customer for each month with differences to be deferred and recovered from customers or refunded to customers through periodic rate adjustments. These adjustments will be limited to one percent of total revenues for the first year.
Rate Regulation
Regulatory agencies establish rates for the transportation, distribution and sale of natural gas. The regulatory agencies also regulate, among other things, the extension and enlargement or abandonment of natural gas facilities. Regulation is intended to permit the recovery, through rates, of the cost of service, including a return on investment. Questar Gas follows SFAS 71, “Accounting for the Effects of Certain Types of Regulation,” that requires the recording of regulatory assets and liabilities by companies subject to cost-based regulation. The PSCU and PSCW have accepted the recording of regulatory assets and liabilities.
Recent Accounting Developments
Refer to Note 1 accompanying the financial statements in Item 8 of Part II of this Annual Report for a discussion of recent accounting developments.
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ITEM 7A.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
Questar Gas primary market risk exposure is from changes in the demand for natural gas. The temperature-adjusted usage per residential customer has decreased due to more energy efficient appliances and homes, and behavior changes in response to higher natural gas prices. This decline in usage per customer has been somewhat offset by the addition of new customers.
Credit Risk
Questar Gas requires deposits from customers that pose unfavorable credit risks. No single customer accounted for a significant portion of revenue in 2006.
Interest-Rate Risk
The fair value of fixed-rate debt is subject to change as interest rates fluctuate. The Company had $273.0 million of fixed-rate long-term debt with a fair value of $277.0 million at December 31, 2006. A year earlier the Company had $273.0 million of fixed-rate long-term debt with a fair value of $286.6 million. If interest rates would have declined 10%, fair value would increase to $285.1 million in 2006 and $295.3 million in 2005. The fair value calculations do not represent the cost to retire the debt securities. In addition, the Company held $50.0 million of variable-rate long-term at December 31, 2006. The Company also borrows funds on a short-term basis with variable interest rates.
ITEM 8.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
Page No.
Financial Statements:
Report of Independent Registered Public Accounting Firm
Statements of Income, three years ended December 31, 2006
Balance Sheets at December 31, 2006 and 2005
Statements of Common Shareholder’s Equity, three years ended
December 31, 2006
Statements of Cash Flows, three years ended December 31, 2006
Notes Accompanying the Financial Statements
Financial Statement Schedules:
For the three years ended December 31, 2006
Valuation and Qualifying Accounts
All other schedules are omitted because they are not applicable or the required information is shown in the Financial Statements or Notes thereto.
QUESTAR GAS 2006 FORM 10-K
Report of Independent Registered Public Accounting Firm
The Board of Directors and Shareholder
Questar Gas Company
We have audited the accompanying balance sheets of Questar Gas Company as of December 31, 2006 and 2005, and the related statements of income, shareholder’s equity, and cash flows for each of the three years in the period ended December 31, 2006. Our audits also included the financial statement schedule listed in the Index at Item 8. These financial statements and schedule are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements and schedule based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. We were not engaged to perform an audit of the Company’s internal control over financial reporting. Our audits included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, 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 financial position of Questar Gas Company at December 31, 2006 and 2005, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 2006, in conformity with U.S. generally accepted accounting principles. Also, in our opinion, the related financial statement schedule, when considered in relation to the basic financial statements taken as a whole, presents fairly in all material respects the information set forth therein.
As discussed in Note 2 to the financial statements, Questar Gas Company adopted Statement of Financial Accounting Standards No. 123R, Share Based Payment, under the modified prospective phase-in method, effective January 1, 2006.
/s/ Ernst & Young LLP
Salt Lake City, UT
February 26, 2007
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See notes accompanying the financial statements
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QUESTAR GAS COMPANY
NOTES ACCOMPANYING THE FINANCIAL STATEMENTS
Note 1 - Summary of Significant Accounting Policies
Nature of Business
Questar Gas Company (Questar Gas or Company) is a wholly-owned subsidiary of Questar. The Company provides retail natural gas distribution in Utah, southwestern Wyoming and a small portion of southeastern Idaho.
Preparation of Financial Statements
The financial statements of Questar Gas were prepared in accordance with U.S. generally accepted accounting principles (GAAP) and with the instructions for annual reports on Form 10-K and Regulations S-X and S-K.
Use of Estimates
The preparation of financial statements and notes in conformity with GAAP requires management to formulate estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses and the disclosure of contingent assets and liabilities. Actual results could differ from these estimates.
Regulation
Questar Gas is regulated by the PSCU and the PSCW. The Idaho Public Utilities Commission has contracted with the PSCU for rate oversight of Questar Gas operations in a small area of southeastern Idaho. These regulatory agencies establish rates for the transportation and sale of natural gas. The regulatory agencies also regulate, among other things, the extension and enlargement or abandonment of jurisdictional natural gas facilities. Regulation is intended to permit the recovery, through rates, of the cost of service, including a return on investment.
The financial statements of rate-regulated businesses are presented in accordance with regulatory requirements. Methods of allocating costs to time periods, in order to match revenues and expenses, may differ from those of other businesses because of cost-allocation methods used in establishing rates. Regulatory assets and liabilities are recorded to reflect these timing differences.
Revenue Recognition
Questar Gas records revenues for gas delivered to residential and commercial customers but not billed as of the end of the accounting period. Unbilled gas deliveries are estimated for the period from the date meters are read to the end of the month. Approximately one-half month of revenue is estimated in any period. Gas costs and other variable costs are recorded on the same basis to ensure proper matching of revenues and expenses. Questar Gas tariff allows for monthly adjustments to customer bills to approximate the effect of abnormal weather on nongas revenues. The weather-normalization adjustment significantly reduces the impact of weather on gas-distribution earnings. In 2006, the PSCU approved a pilot program for a “conservation enabling tariff” (CET) effective January 1, 2006, to promote energy conservation. Under the CET, Questar Gas nongas revenues are decoupled from the volume of gas used by customers. The tariff specifies a margin per customer for each month with differences to be deferred and recovered from customers or refunded to customers through periodic rate adjustments. These adjustments will be limited to one percent of total revenues for the first year.
Cash and Cash Equivalents
Cash equivalents consist principally of repurchase agreements with maturities of three months or less. In almost all cases, the repurchase agreements are highly liquid investments in overnight securities made through commercial-bank accounts that result in available funds the next business day.
Purchased-Gas Adjustments and Other Regulatory Assets and Liabilities
Questar Gas accounts for purchased-gas costs in accordance with procedures authorized by the PSCU and the PSCW. Purchased-gas costs that are different from those provided for in present rates are accumulated and recovered or credited through future rate changes. Questar Gas may hedge a portion of its natural gas supply to mitigate price fluctuations for gas-distribution customers. The regulatory commissions allow Questar Gas to record periodic mark-to-market adjustments for commodity price derivatives in the purchased-gas-adjustment account.
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In addition to purchased-gas adjustments, rate-regulated businesses are permitted to defer recognition of certain costs, which is different from the accounting treatment required of nonrate-regulated businesses. See Note 4 to the financial statements for a description and comparison of regulatory assets and liabilities as of December 31, 2006 and 2005.
Property, Plant and Equipment
Property, plant and equipment is stated at historical cost. Maintenance and repair costs are expensed as incurred.
Major categories of gas-distribution fixed assets are grouped together and depreciated using the straight-line method at rates ranging from 1% to 25% per year. Gains and losses on asset disposals are recorded as adjustments in accumulated depreciation. Gas-production fixed assets are depreciated using the unit-of-production method.
The Company has not capitalized future-abandonment costs on a majority of its long-lived gas-distribution assets because the Company does not have a legal obligation to restore the area surrounding abandoned assets. In these cases, the regulatory agencies have opted to leave retired facilities in the ground undisturbed rather than excavate and dispose of the assets. Average depreciation, depletion and amortization rates for the year ended December 31, were as follows:
Effective June 1, 2006, Utah customer rates were reduced by $9.7 million per year, primarily to reflect changes in the Company’s depreciation rates. Depreciation expense was approximately $5.3 million lower for this seven-month period as a result of the depreciation rate change.
Impairment of Long-Lived Assets
Properties are evaluated on a specific-asset basis or in groups of similar assets, as applicable. Impairment is indicated when a triggering event occurs and the sum of the estimated undiscounted future net cash flows of an evaluated asset is less than the asset’s carrying value. If impairment is indicated, fair value is calculated using a discounted-cash-flow approach. Cash-flow estimates require forecasts and assumptions for many years into the future for a variety of factors, including commodity prices and operating costs.
Goodwill and Other Intangible Assets
Goodwill represents the excess of the amount paid over the fair value of net assets acquired in a business combination and is not subject to amortization. Goodwill is tested for impairment at a minimum of once a year or when a triggering event occurs. If a triggering event occurs, the undiscounted net cash flows of the intangible asset or entity to which the goodwill relates are evaluated. Impairment is indicated if undiscounted cash flows are less than the carrying value of the assets. The amount of the impairment is measured using a discounted-cash-flow model considering future revenues, operating costs, a risk-adjusted discount rate and other factors.
Capitalized Interest and Allowance for Funds Used During Construction
The Company capitalizes the cost of capital during the construction period of plant and equipment using a method required by regulatory authorities. Capitalized financing costs, called allowance for funds used during construction (AFUDC), consist of debt and equity portions. The debt portion of AFUDC is recorded as a reduction of interest costs and the equity portion is recorded in other income. Interest expense was reduced by $0.4 million in 2006 and $0.1 million in 2005 and 2004. No amounts of equity AFUDC were recorded in the three years ended December 31, 2006.
Derivative Instruments
The Company follows the accounting provisions of SFAS 133, as amended, “Accounting for Derivative Instruments and Hedging Activities.” Derivative instruments are recorded at fair value. Changes in fair value, which result in gains or losses, are reported in the purchased-gas adjustment account. The Company has a number of contracts that are derivative instruments that are specifically excluded from the provisions of SFAS 133 because they are normal sales and purchase transactions.
QUESTAR GAS 2006 FORM 10-K
Credit Risk
The Company’s primary market area is located in Utah, southwestern Wyoming and southeastern Idaho. Exposure to credit risk may be impacted by the concentration of customers in this area due to changes in economic or other conditions. Customers include individuals and numerous industries that may be affected differently by changing conditions. Management believes that its credit review procedures, loss reserves, customer deposits and collection procedures have adequately provided for usual and customary credit related losses. Loss reserves are periodically reviewed for adequacy and may be established on a specific case basis. Questar Gas estimates bad-debt expense as a percentage of general-service revenues with periodic adjustments. Uncollected accounts are generally written off six months after gas is delivered and interest is no longer accrued.
Bad debt expense amounted to $4.8 million in 2006, $8.6 million in 2005 and $6.2 million in 2004. The allowance for bad debt expenses was $3.1 million and $4.1 million at December 31, 2006, and 2005, respectively.
Income Taxes
Questar and its subsidiaries file a consolidated federal income tax return. Questar Gas accounts for income tax expense on a separate return basis and records tax benefits as they are generated. Deferred income taxes have been provided for the temporary timing differences arising between the book and tax carrying amounts of assets and liabilities. These differences create taxable or tax deductible amounts for future periods. Questar Gas uses the deferral method to account for investment tax credits as required by regulatory commissions.
Recent Accounting Developments
In July 2006, the Financial Accounting Standards Board (FASB) issued FASB Interpretation 48 “Accounting for Uncertainty in Income Taxes” (FIN 48). The interpretation applies to all tax positions related to income taxes subject to FASB Statement 109 “Accounting for Income Taxes.” FIN 48 clarifies the accounting for uncertainty in income taxes by prescribing a minimum recognition threshold for a tax position to be reflected in the financial statements. If recognized, the tax benefit is measured as the largest amount of tax benefit that is more-likely-than-not to be realized upon ultimate settlement. FIN 48 is effective for Questar beginning January 1, 2007. The Company does not expect the provisions of FIN 48 will have a significant impact on its financial statements.
In September 2006, the FASB issued Statement of Financial Accounting Standards (SFAS) 157 “Fair Value Measures”. SFAS 157 defines fair value, establishes a framework for measuring fair value and expands disclosures about fair-value measures required under other accounting pronouncements, but does not change existing guidance as to whether or not an instrument is carried at fair value. SFAS 157 is effective for fiscal years beginning after November 15, 2007. The Company is continuing to assess the impact of SFAS 157.
In December 2006, the FASB issued an exposure draft titled “Disclosures about Derivative Instruments and Hedging Activities.” The proposed statement would amend and expand the disclosure requirements in SFAS 133 “Accounting for Derivative Instruments and Hedging Activities”, and other related accounting pronouncements. The proposed expanded disclosure is intended to provide enhanced understanding of (i) how and why an entity uses derivative instruments; (ii) how derivative instruments and related hedged items are accounted for under SFAS 133 and its related interpretations; and (iii) how derivative instruments affect an entity’s financial position, results of operations, and cash flows. The proposed effective date would be for fiscal years and interim periods ending after December 15, 2007. The Company has not evaluated the potential effect of the proposed disclosures.
In February 2007, the FASB issued SFAS 159 “The Fair Value Option for Financial Assets and Financial Liabilities.” SFAS 159 permits the measurement of certain financial instruments at fair value. Entities may choose to measure eligible items at fair value at specified election dates, reporting unrealized gains and losses on such items at each subsequent reporting period. SFAS 159 is effective for fiscal years beginning after November 15, 2007. The Company has not evaluated the potential impact of the fair value option.
Reclassifications
Certain reclassifications were made to prior year financial statements to conform with the 2006 presentation of current portion of deferred income taxes and regulatory assets and liabilities.
QUESTAR GAS 2006 FORM 10-K
Note 2 - Share-Based Compensation
Prior to January 1, 2006, Questar and the Company accounted for share-based compensation using the intrinsic value method prescribed by Accounting Principles Board Opinion (APBO) 25 “Accounting for Stock Issued to Employees” and related interpretations. No compensation cost was recorded for stock options because the exercise price equaled the market price on the date of grant. The granting of restricted shares results in recognition of compensation cost. Restricted shares are valued at the grant-date market price and amortized to expense over the vesting period. Questar Gas uses an accelerated method in recognizing share-based compensation costs with graded-vesting periods.
Questar and the Company implemented SFAS 123R “Share Based Payment” effective January 1, 2006, and chose the modified prospective phase-in method of accounting by SFAS 123R. The modified prospective phase-in method requires recognition of compensation costs for all share-based payments granted, modified or settled after January 1, 2006, as well as for any awards that were granted prior to the implementation date for which the required service has not yet been performed. As a result of adopting SFAS 123R, the Company’s income before income taxes and net income for the year ended December 31, 2006, were approximately $0.1 million lower than if the Company had continued to account for share-based compensation under APBO 25. The pro forma share-based compensation expense impact for the year of 2005 was approximately $0.3 million. Share-based compensation associated with unvested restricted shares amounted to $0.6 million for the year ended December 31, 2006.
Transactions involving stock options granted to employees of Questar Gas under the Long-term Stock Incentive Plan (LTSIP) are summarized below:
The number of unvested stock options held by Questar Gas employees decreased by 61,250 shares in 2006.
Most restricted share grants vest in equal installments over a three to five year period from the grant date. The weighted-average vesting period of unvested restricted shares at December 31, 2006, was 16 months. Transactions involving restricted shares in the LTSIP in 2006 are summarized below:
QUESTAR GAS 2006 FORM 10-K
Note 3 - Asset Retirement Obligations (ARO)
Questar Gas recognizes ARO in accordance with SFAS 143 “Accounting for Asset Retirement Obligations.” SFAS 143 addresses the financial accounting and reporting of the fair value of legal obligations associated with the retirement of tangible long-lived assets. The provisions of SFAS 143 do not apply to a majority of the Company’s long-lived distribution system assets due to a lack of a legal obligation to retire the assets. Changes in asset retirement obligations were as follows:
Wexpro activities are governed by a long-standing agreement with the states of Utah and Wyoming (the Wexpro Agreement). The accounting treatment of reclamation activities associated with ARO for properties administered under the Wexpro Agreement is spelled out in a guideline letter between Wexpro and the Utah Division of Public Utilities and the staff of the PSCW. Accordingly, Wexpro collects from Questar Gas and deposits in trust funds related to estimated ARO costs. The funds are used to satisfy retirement obligations as the properties are abandoned. At December 31, 2006, approximately $5.8 million was held in this trust invested primarily in a short-term bond index fund.
Note 4 - Other Regulatory Assets and Liabilities
The Company has other regulatory assets and liabilities in addition to purchased-gas adjustments. The Company recovers these costs but does not generally receive a return on these assets.
Following is a description of the Company’s regulatory assets:
·
Gains and losses on the reacquisition of debt are deferred and amortized as interest expense over the would-be remaining life of the reacquired debt. The reacquired debt costs had a weighted-average life of approximately 11 years as of December 31, 2006.
·
Questar Gas has a regulatory asset that represents future expenses related to abandonment of Wexpro operated gas and oil wells. The regulatory asset will be reduced over an 18 year period following an amortization schedule that commenced January 1, 2003, or as cash is paid to plug and abandon wells.
·
Production taxes on cost-of-service gas production are recorded when the gas is produced and recovered from customers when taxes are paid, generally within 12 months.
·
The costs of complying with pipeline-integrity regulations are recovered in rates subject to a PSCU order effective June 1, 2006. Costs incurred prior to June 2006 were deferred and will now be recovered over a three-year period. Actual current costs in excess of $1.4 million annually will be deferred and recovered in future rates.
Regulatory liabilities are included with other long-term liabilities in the balance sheets. A list of regulatory assets and liabilities follows:
QUESTAR GAS 2006 FORM 10-K
Note 5 - Debt
Questar makes loans to Questar Gas under a short-term borrowing arrangement. Short-term notes payable to Questar totaled $13.2 million at December 31, 2006 with an interest rate of 5.44% and $77.4 million at December 31, 2005 with an interest rate of 4.42%.
Questar Gas long-term debt consists of $273.0 million of medium-term notes with interest rates ranging from 5.00% to 7.58% due 2007 to 2018 and a $50.0 million bank term loan at 5.62% due 2010. Long-term debt maturities are $10.0 million in 2007, $43.0 million in 2008, $50.0 million in 2010 and $2.0 million in 2011. All notes are unsecured obligations and rank equally with all other unsecured liabilities. At December 31, 2006, Questar Gas could pay dividends of $130.0 million without violating the terms of its debt covenants.
On December 15, 2005, Questar Gas borrowed $50.0 million from a bank under a five-year term loan agreement. The loan’s interest rate varies periodically with changes in short-term interest rates available in the credit markets.
Cash paid for interest was $21.9 million in 2006, $19.1 million in 2005 and $19.5 million in 2004.
Note 6 - Financial Instruments and Risk Management
The carrying value and estimated fair values of the Company’s financial instruments were as follows:
The Company used the following methods and assumptions in estimating fair values.
QUESTAR GAS 2006 FORM 10-K
Cash and cash equivalents and short-term debt - the carrying amount approximates fair value.
Long-term debt - the carrying amount of variable-rate long-term debt approximates fair value. The fair value of fixed-rate debt is based on the discounted present value of cash flows using the Company’s current borrowing rates.
Note 7 - Income Taxes
Details of Questar Gas’s income tax expense and deferred income taxes were as follows:
The difference between the statutory federal income tax rate and the Company’s effective income tax rate is explained as follows:
Significant components of the Company’s deferred income taxes were as follows:
QUESTAR GAS 2006 FORM 10-K
Questar Gas paid cash for income taxes of $31.4 million in 2006, $13.7 million in 2005 and received a $2.9 million refund in 2004.
Note 8 - Rate Regulation
Questar Gas Rate Changes
In October 2006, the PSCU approved a pilot program for a CET effective January 1, 2006, to promote energy conservation. Under the Company’s prior rate structure, declining usage lowered revenues and increasing usage per customer raised revenues. Under the CET, Questar Gas nongas revenues are decoupled from the volume of gas used by customers. The tariff specifies a margin per customer for each month with differences to be deferred and recovered from customers or refunded to customers through periodic rate adjustments. These adjustments will be limited to one percent of total revenues for the first year. The program will be reviewed after one year. Questar Gas recorded a $1.7 million revenue reduction in 2006 to recognize the impact of implementing the CET.
Effective June 1, 2006, the PSCU approved a settlement of other issues and ordered Questar Gas to reduce the nongas portion of customer rates by $9.7 million to reflect a reduction in depreciation rates, a change in capital structure, and recovery of pipeline integrity costs.
In January 2007, the PSCU approved a “demand-side management” program (DSM) effective January 1, 2007. Under the DSM, Questar Gas will encourage the conservation of natural gas through advertising, rebates for efficient homes and appliances, and energy audits. The costs of the DSM will be deferred and recovered from customers through periodic rate adjustments.
State Rate Regulation
Questar Gas files periodic applications with the PSCU and PSCW requesting permission to reflect annualized gas-cost increases or decreases in its rates. Gas costs are passed on to customers on a dollar-for-dollar basis with no markup.
Gas-Processing Dispute
In October 2005, Questar Gas, the Utah Division of Public Utilities and the Committee of Consumer Services submitted a stipulation to the PSCU to resolve issues related to cost recovery of carbon dioxide processing activities. The PSCU issued an order on January 6, 2006, approving the stipulation beginning on February 1, 2005. The stipulation provides for the recovery of 90% of the non fuel cost of service for processing and 100% of the fuel costs up to 360 Mdth per year. Half of the third-party processing revenues are shared with customers after the first $0.4 million. In the fourth quarter of 2005 Questar Gas reduced expenses for recovery of gas costs by $4.9 million for the period from February 1, 2005 to December 31, 2005. This settlement has been appealed to the Utah Supreme Court by a group of individuals.
Note 9 - Commitments and Contingencies
Questar Gas is involved in various commercial and regulatory claims and litigation and other legal proceedings that arise in the ordinary course of its business. Management does not believe any of them will have a material adverse effect on the Company’s financial position. An accrual is recorded for a loss contingency when its occurrence is probable and damages can be reasonably estimated based on the anticipated most likely outcome. Some of the claims involve highly complex issues relating to liability, damages and other matters subject to substantial uncertainties and, therefore, the probability of liability or an estimate of loss cannot be reasonably determined.
QUESTAR GAS 2006 FORM 10-K
Commitments
Historically, 40 to 50% of Questar Gas gas-supply portfolio has been provided from cost-of-service reserves. In 2006, the remainder of the gas supply was purchased from 14 suppliers using index-based or fixed-price contracts. Questar Gas has commitments to purchase gas for $170 million in 2007, $61 million in 2008, $35 million in 2009, $17 million in 2010 and $9 million in 2011. Generally, at the conclusion of the heating season and after a bid process, new agreements for the next heating season are put in place. Questar Gas bought natural gas under purchase agreements amounting to $429.5 million in 2006, $447.4 million in 2005 and $336 million in 2004. In addition, Questar Gas makes use of various storage arrangements to meet peak-gas demand during certain times of the heating season.
Questar Gas has third-party transportation commitments requiring yearly payments of $5.3 million through 2018.
Questar Gas has contracted for transportation and storage services with Questar Pipeline. Annual payments and the years covered are as follows:
Note 10 - Employee Benefits
Pension Plan
Questar Gas employees are covered by Questar’s defined-benefit pension plan. Benefits are generally based on the employee’s age at retirement, years of service and highest earnings in a consecutive 72 semimonthly pay period interval during the 10 years preceding retirement. Questar is subject to and complies with minimum required and maximum allowed annual contribution levels mandated by the Employee Retirement Income Security Act and by the Internal Revenue Code. Subject to the above limitations, Questar intends to fund the qualified pension plan approximately equal to the yearly expense. Questar also has a nonqualified pension plan that covers certain management employees in addition to the qualified pension plan. The nonqualified pension plan provides for defined-benefit payments upon retirement of the management employee, or to the spouse upon death of the management employee above the benefit limit defined by the Internal Revenue Service for the qualified plan. The nonqualified pension plan is unfunded. Claims are paid from the Company’s general funds. Qualified pension plan assets consist principally of equity securities and corporate and U.S. government debt obligations. A third-party consultant calculates the pension plan projected benefit obligation. Pension expense was $11.6 million in 2006, $12.5 million in 2005 and $6.6 million in 2004.
Questar Gas portion of plan assets and benefit obligations can not be determined because the plan assets are not segregated or restricted to meet the Company’s pension obligations. If the Company were to withdraw from the pension plan, the pension obligation for the Company’s employees would be retained by the pension plan. At December 31, 2006 and 2005, Questar’s projected benefit obligation exceeded the fair value of plan assets.
Postretirement Benefits Other Than Pensions
Eligible Questar Gas employees participate in Questar’s postretirement benefits other than pensions plan. Postretirement health care benefits and life insurance are provided only to employees hired before January 1, 1997. The Company pays a portion of the costs of health care benefits, based on an employee’s years of service, and generally limits payments to 170% of the 1992 contribution. Plan assets consist of equity securities and corporate and U.S. government debt obligations. A third party consultant calculates the projected benefit obligation. The cost of postretirement benefits other than pensions was $2.9 million in 2006, $2.8 million in 2005 and $1.1 million in 2004.
The Company’s portion of plan assets and benefit obligations related to postretirement medical and life insurance benefits can not be determined because the plan assets are not segregated or restricted to meet the Company’s obligations. At December 31, 2006 and 2005, Questar’s accumulated benefit obligation exceeded the fair value of plan assets.
QUESTAR GAS 2006 FORM 10-K
Employee Investment Plan
Questar Gas participates in Questar’s Employee Investment Plan (EIP). The EIP allows eligible employees to purchase shares of Questar common stock or other investments through payroll deduction at the current fair market value on the transaction date. The Company currently contributes an overall match of 80% of employees’ pre-tax purchases up to a maximum of 6% of their qualifying earnings. In addition, the Company contributes $200 annually to the EIP for each eligible employee. Beginning in 2005, the EIP trustee purchases Questar shares on the open market as cash contributions are received. The Company’s expense equaled its matching contribution of $3.3 million, $3.1 million and $1.6 million for the years ended December 31, 2006, 2005 and 2004, respectively.
Note 11 - Questar Regulated Services Merger
Questar Gas prior parent company, Questar Regulated Services Company (Regulated Services), merged effective March 31, 2005 with Questar Gas. Questar Gas was the surviving company. Regulated Services was a holding company that provided management, engineering and accounting services for its wholly-owned subsidiaries, Questar Pipeline and Questar Gas. Regulated Services was a wholly-owned subsidiary of Questar. Questar Pipeline and Questar Gas became wholly-owned subsidiaries of Questar as a result of the merger.
Note 12 - Related Party Transactions
Questar Gas provided administrative, technical, accounting, legal, data-processing and communication services plus regulatory support to Questar Pipeline at a cost of $17.8 million in 2006 and $20.5 million in 2005. Prior to January 1, 2005, Regulated Services provided administrative, technical, legal and accounting support to Questar Gas amounting to $35.9 million in 2004. Questar Gas also provided services to other affiliated companies amounting to $7.5 million in 2006 and $5.8 in 2005. The majority of these costs are allocated and included in operating and maintenance expenses. The allocation methods are based on the specific nature of the charges. Management believes that the allocation methods are reasonable.
Questar Gas has reserved transportation capacity on Questar Pipeline for 951,000 dth per day including 50,000 dth per day of winter peaking service. Questar Gas periodically releases excess capacity and receives a credit from Questar Pipeline for the released capacity revenues and a portion of Questar Pipeline’s interruptible transportation revenues. Questar Gas paid for transportation, storage and processing services provided by Questar Pipeline and a subsidiary amounting to $75.8 million in 2006, $76.7 million in 2005 and $80.3 million in 2004, which included demand charges. The costs of these services were included in cost of gas sold.
Wexpro, an affiliated company, manages and develops certain properties owned by Questar Gas under the terms of the Wexpro Agreement. The Company receives a portion of Wexpro’s income from oil operations after recovery of Wexpro’s operating expenses and a return on investment. This amount, which is included in revenues and reduces amounts billed to gas distribution customers, was $5.5 million in 2006, $6.1 million in 2005 and $4.7 million in 2004. The amounts that Questar Gas paid Wexpro for the operation of gas properties owned by Questar Gas were $150.1 million in 2006, $132.0 million in 2005 and $115.4 million in 2004. Questar Gas reports these amounts in cost of gas sold.
Also included in cost of gas sold are amounts paid to Questar Gas Management for gathering gas. These costs amounted to $14.7 million in 2006, $13.1 million in 2005 and $11.6 million in 2004. The Company purchased gas from other affiliates amounting to $11.0 million in 2006, $13.9 million in 2005 and $4.4 million in 2004.
Questar Gas has a lease with an affiliate for space in an office building located in Salt Lake City, Utah. Rent expense was $2.2 million in 2006 and $1.4 million in 2005 and 2004. The lease payment will be $2.4 million in 2007, $2.5 million in 2008 and $2.6 million in 2009 through 2011.
An affiliated company, Questar InfoComm Inc., provided data-processing and communication services (IT) to Questar Gas. The Company paid Questar InfoComm $0.5 million in 2005 and $5.5 million in 2004. The Company also paid $1.7 million to Questar InfoComm for software development in 2004. Questar Gas capitalized these costs.
Questar charged Questar Gas for certain administrative functions amounting to $7.7 million in 2006, $8.8 million in 2005 and $6.9 million in 2004 including $0.8 million for IT charges. These costs are included in operating and maintenance expenses and are allocated based on each affiliated company’s proportional share of revenues less
QUESTAR GAS 2006 FORM 10-K
product costs; property, plant and equipment; and labor costs. Management believes that the allocation method is reasonable.
Questar Gas borrowed cash from Questar and incurred interest expense of $0.4 million in 2006, $1.7 million in 2005 and $0.7 million in 2004.
Note 13 - Supplemental Gas and Oil Information (Unaudited)
The following information is provided with respect to estimated natural gas reserves, which are managed, developed and delivered by Wexpro at cost of service pursuant to the Wexpro Agreement, and Wexpro’s proved oil reserves. Net income from Wexpro’s oil properties remaining after recovery of expenses and Wexpro’s return on investment under the Wexpro Agreement is divided between Wexpro and Questar Gas. Questar Gas’s portion of the net income from oil properties reduces gas supply costs. Questar Gas has not incurred any cost for gas and oil producing activities for the three years ended December 31, 2006. Information on the standardized measure of future net cash flows has not been included because the operations of and return on investment for the properties are regulated by the Wexpro Agreement. See Note 12 for amounts paid by Questar Gas to Wexpro pursuant to the Wexpro Agreement.
Since the gas reserves operated by Wexpro are delivered to Questar Gas at cost-of-service, SEC guidelines with respect to standard economic assumptions are not applicable. The SEC anticipated this potential difficulty and provides that companies may give appropriate recognition to differences arising because of the effect of the ratemaking process. Accordingly, Wexpro uses a minimum-producing rate or maximum well-life limit to determine the ultimate quantity of reserves attributable to each well. All gas and oil reserves reported are located in the United States. The Company does not have any long-term supply contracts with foreign governments or reserves of equity investees. The following estimates were made by the Wexpro’s reservoir engineers:
QUESTAR GAS 2006 FORM 10-K
(a) The area approved by the Wyoming Oil and Gas Conservation Commission for 10-acre-density drilling of Lance Pool wells corresponds to the estimated productive limits of the Company’s core acreage in the field. The Company will continue to disclose future revisions to proved reserves associated with Pinedale increased-density drilling separately.
ITEM 9.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE.
The Company has not changed its independent auditors or had any disagreement with them concerning accounting matters and financial statement disclosures within the last 24 months.
ITEM 9A.
ITEM 9A. CONTROLS AND PROCEDURES.
Evaluation of Disclosure Controls and Procedures.
The Company’s Chief Executive Officer and Chief Financial Officer have evaluated the effectiveness of the Company’s disclosure controls and procedures (as such term is defined in Rules 13a-15(e) under the Securities Exchange Act of 1934, as amended (the Exchange Act)) as of the end of the period covered by the report (the Evaluation Date). Based on such evaluation, such officers have concluded that, as of the Evaluation Date, the Company’s disclosure controls and procedures are effective in alerting them on a timely basis to material information relating to the Company, including its consolidated subsidiaries, required to be included in the Company’s reports filed or submitted under the Exchange Act. The Company’s Chief Executive Officer and Chief Financial Officer also concluded that the controls and procedures were effective in ensuring that information required to be disclosed by the Company in the reports that it files or submits under the Exchange Act is accumulated and communicated to the Company’s management including its principal executive and financial officers or persons performing similar functions as appropriate to allow timely decisions regarding required disclosure.
QUESTAR GAS 2006 FORM 10-K
Changes in Internal Controls.
Since the Evaluation Date, there have not been any changes in the Company’s internal controls or other factors during the most recent fiscal quarter that could materially affect such controls.
ITEM 9B.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES.
Ernst & Young, LLP, serves as the independent registered public accounting firm for Questar and its subsidiaries including the Company. The following table lists the fees billed by Ernst &Young to Questar for services and the fees billed directly to the Company or allocated to the Company as a member of Questar’s consolidated group.
Audit Fees:
$1,392,407
$1,148,183
Questar Gas Portion
292,351
312,760
Audit related Fees
90,000
48,500
Questar Gas Portion
30,503
16,388
Tax Fees
8,545
9,008
Questar Gas Portion
1,879
3,084
All Other Fees
-
-
Questar Gas Portion
-
-
PART IV
ITEM 15.
ITEM 15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES.
Financial statements and financial statement schedules filed as part of this report are listed in the index included in Item 8.
(b) Exhibits. The following is a list of exhibits required to be filed as a part of this report in Item 15(b).
Exhibit No.
Description
3.1.*
Restated Consolidated Articles of Incorporation dated August 15, 1980. (Exhibit No. 4(a) to Registration Statement No. 2-70087, filed December 1, 1980.)
3.2.*
Certificate of Amendment to Restated Consolidated Articles of Incorporation dated May 13, 1982. (Exhibit No. 3(b) to Form 10-K Annual Report for 1982.)
3.3.*
Certificate of Amendment to Restated Consolidated Articles of Incorporation dated May 10, 1983. (Included in Exhibit No. 4.1. to Registration Statement No. 2-84713, filed June 23, 1983.)
3.4.*
Certificate of Amendment to Restated Consolidated Articles of Incorporation dated August 16, 1983. (Exhibit No. 3(a) to Form 8 Report amending the Company’s Form 10-Q Report for Quarter Ended September 30, 1983.)
3.5.*
Certificate of Amendment to Restated Consolidated Articles of Incorporation dated October 26, 1984. (Exhibit No. 3.5. to Form 10-K Annual Report for 1984.)
QUESTAR GAS 2006 FORM 10-K
3.6.*
Certificate of Amendment to Restated Consolidated Articles of Incorporation dated May 13, 1985. (Exhibit No. 3.1. to Form 10-Q Report for Quarter Ended June 30, 1985.)
3.7.*
Articles of Amendment to Restated Consolidated Articles of Incorporation dated February 10, 1988. (Exhibit No. 3.7. to Form 10-K Annual Report for 1987.)
3.8.*
Articles of Amendment to Restated Consolidated Articles of Incorporation dated December 31, 1997. (Exhibit No. 3.7. to Form 8-K Current Report for December 31, 1997.)
3.9.*
Bylaws (as amended effective February 13, 2001). (Exhibit No. 3.9. to Form 10-K Annual Report for 2000.)
4.*1
Indenture dated as of May 1, 1992, between the Company and Citibank, as trustee, for the Company’s Debt Securities. (Exhibit No. 4. to Form 10-Q Report for Quarter Ended June 30, 1992.)
10.1.*
Stipulations and Agreement, dated October 14, 1981, executed by the Company; Wexpro Company; the Utah Department of Business Regulations, Division of Public Utilities; the Utah Committee of Consumer Services; and the staff of the Public Service Commission of Wyoming. (Exhibit No. 10(a) to Form 10-K Annual Report for 1981.)
10.2.*
Gas Gathering Agreement between the Company and Questar Pipeline Company effective September 1, 1993. (This agreement has been transferred from Questar Pipeline to Questar Gas Management Company.) (Exhibit No. 10.11. to Form 10-K Annual Report for 1994.)
10.3.*
Amendment to Gas Gathering Agreement between the Company and Questar Gas Management Company effective September 1, 1997. (Exhibit No. 10.12. to Form 10-K Annual Report for 1997.)
24.
Power of Attorney.
31.1.
Certification signed by Alan K. Allred, Questar Gas Company President and Chief Executive Officer, pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
31.2.
Certification signed by S. E. Parks, Questar Gas Company Vice President and Chief Financial Officer, pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
32.
Certification signed by Alan K. Allred and S. E. Parks, Questar Gas Company President and Chief Executive Officer and Vice President and Chief Financial Officer, respectively, pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
*Exhibits so marked have been filed with the Securities and Exchange Commission as part of the referenced filing and are incorporated herein by reference.
1Wells Fargo Bank, N.A. serves as the successor trustee.
QUESTAR GAS 2006 FORM 10-K
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, on the 20th day of March, 2007.
QUESTAR GAS COMPANY
(Registrant)
By /s/A. K. Allred
A. K. Allred
President and Chief Executive Officer
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 date indicated.
/s/A. K. Allred
Chief Executive Officer;
A. K. Allred
Director
(Principal Executive Officer)
/s/S. E. Parks
Vice President and Chief
S. E. Parks
Financial Officer
(Principal Financial Officer)
/s/D. M. Curtis
Vice President and Controller
D. M. Curtis
(Principal Accounting Officer)
*Keith O. Rattie
Chairman of the Board; Director
*A. K. Allred
Director
*Teresa Beck
Director
*Gary G. Michael
Director
*Harris H. Simmons
Director
*Bruce A. Williamson
Director
March 20, 2007
*By /s/ A. K. Allred
Date
A. K. Allred, Attorney in Fact
QUESTAR GAS 2006 FORM 10-K
Exhibits List
Exhibit No.
Description
3.1.*
Restated Consolidated Articles of Incorporation dated August 15, 1980. (Exhibit No. 4(a) to Registration Statement No. 2-70087, filed December 1, 1980.)
3.2.*
Certificate of Amendment to Restated Consolidated Articles of Incorporation dated May 13, 1982. (Exhibit No. 3(b) to Form 10-K Annual Report for 1982.)
3.3.*
Certificate of Amendment to Restated Consolidated Articles of Incorporation dated May 10, 1983. (Included in Exhibit No. 4.1. to Registration Statement No. 2-84713, filed June 23, 1983.)
3.4.*
Certificate of Amendment to Restated Consolidated Articles of Incorporation dated August 16, 1983. (Exhibit No. 3(a) to Form 8 Report amending the Company’s Form 10-Q Report for Quarter Ended September 30, 1983.)
3.5.*
Certificate of Amendment to Restated Consolidated Articles of Incorporation dated October 26, 1984. (Exhibit No. 3.5. to Form 10-K Annual Report for 1984.)
3.6.*
Certificate of Amendment to Restated Consolidated Articles of Incorporation dated May 13, 1985. (Exhibit No. 3.1. to Form 10-Q Report for Quarter Ended June 30, 1985.)
3.7.*
Articles of Amendment to Restated Consolidated Articles of Incorporation dated February 10, 1988. (Exhibit No. 3.7. to Form 10-K Annual Report for 1987.)
3.8.*
Articles of Amendment to Restated Consolidated Articles of Incorporation dated December 31, 1997. (Exhibit No. 3.7. to Form 8-K Current Report for December 31, 1997.)
3.9.*
Bylaws (as amended effective February 13, 2001). (Exhibit No. 3.9. to Form 10-K Annual Report for 2000.)
4.*1
Indenture dated as of May 1, 1992, between the Company and Citibank, as trustee, for the Company’s Debt Securities. (Exhibit No. 4. to Form 10-Q Report for Quarter Ended June 30, 1992.)
10.1.*
Stipulations and Agreement, dated October 14, 1981, executed by the Company; Wexpro Company; the Utah Department of Business Regulations, Division of Public Utilities; the Utah Committee of Consumer Services; and the staff of the Public Service Commission of Wyoming. (Exhibit No. 10(a) to Form 10-K Annual Report for 1981.)
10.2.*
Gas Gathering Agreement between the Company and Questar Pipeline Company effective September 1, 1993. (This agreement has been transferred from Questar Pipeline to Questar Gas Management Company.) (Exhibit No. 10.11. to Form 10-K Annual Report for 1994.)
10.3.*
Amendment to Gas Gathering Agreement between the Company and Questar Gas Management Company effective September 1, 1997. (Exhibit No. 10.12. to Form 10-K Annual Report for 1997.)
24.
Power of Attorney.
31.1.
Certification signed by Alan K. Allred, Questar Gas Company President and Chief Executive Officer, pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
31.2.
Certification signed by S. E. Parks, Questar Gas Company Vice President and Chief Financial Officer, pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
QUESTAR GAS 2006 FORM 10-K
32.
Certification signed by Alan K. Allred and S. E. Parks, Questar Gas Company President and Chief Executive Officer and Vice President and Chief Financial Officer, respectively, pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
*Exhibits so marked have been filed with the Securities and Exchange Commission as part of the referenced filing and are incorporated herein by reference.
1Wells Fargo Bank, N.A. serves as the successor trustee.
Exhibit 24.
POWER OF ATTORNEY
We, the undersigned directors of Questar Gas Company, hereby severally constitute A. K. Allred and S. E. Parks, and each of them acting alone, our true and lawful attorneys, with full power to them and each of them to sign for us, and in our names in the capacities indicated below, the Annual Report on Form 10-K for 2006 and any and all amendments to be filed with the Securities and Exchange Commission by Questar Gas Company, hereby ratifying and confirming our signa­tures as they may be signed by the attorneys appointed herein to the Annual Report on Form 10-K for 2006 and any and all amendments to such Report.
Witness our hands on the respective dates set forth below.
Signature
Title
Date
/s/
Chairman of the Board
02/13/07
K. O. Rattie
/s/
President and
02/13/07
A. K. Allred
Chief Executive Officer
_________/s/_____________
Director
02/13/07
Teresa Beck
/s/
Director
02/13/07
Gary G. Michael
/s/
Director
02/13/07
Harris H. Simmons
/s/
Director
02/13/07
Bruce A. Williamson
QUESTAR GAS 2006 FORM 10-K
Exhibit 31.1.
CERTIFICATION
I, Alan K. Allred, certify that:
1.
I have reviewed this report of Questar Gas Company on Form 10-K for the period ending December 31, 2006;
2.
Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;
3.
Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operation and cash flows of the registrant as of, and for, the periods presented in this report;
4.
The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and we have:
a)
designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;
b)
evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and
c)
disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting.
5.
The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent function):
a)
all significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and
b)
any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.
March 20, 2007
/s/Alan K. Allred
Alan K. Allred
President and Chief
Executive Officer
QUESTAR GAS 2006 FORM 10-K
Exhibit 31.2.
CERTIFICATION
I, S. E. Parks, certify that:
1.
I have reviewed this report of Questar Gas Company on Form 10-K for the period ending December 31, 2006;
2.
Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;
3.
Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operation and cash flows of the registrant as of, and for, the periods presented in this report;
4.
The registrant’s other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) for the registrant and we have:
a)
designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;
b)
evaluated the effectiveness of the registrant’s disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and
c)
disclosed in this report any change in the registrant’s internal control over financial reporting that occurred during the registrant’s most recent fiscal quarter (the registrant’s fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant’s internal control over financial reporting.
5.
The registrant’s other certifying officer and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent function):
a)
all significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant’s ability to record, process, summarize and report financial information; and
b)
any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal control over financial reporting.
March 20, 2007
/s/S. E. Parks
S. E. Parks
Vice President and Chief
Financial Officer
QUESTAR GAS 2006 FORM 10-K
Exhibit 32.
CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
In connection with the Annual Report of Questar Gas Company on Form 10-K for the period ending December 31, 2006, as filed with the Securities and Exchange Commission on the date hereof (the Report), Alan K. Allred, President and Chief Executive Officer of the Company, and S. E. Parks, Vice President and Chief Financial Officer of the Company, each hereby certifies, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that, to the best of his knowledge:
(1)
The Report fully complies with the requirements of Section 13(a) or Section 15(d) of the Securities Exchange Act of 1934; and
(2)
The information contained in the Report fairly presents, in all material respects, the financial condition and results of operation of the Company.
QUESTAR GAS COMPANY
March 20, 2007
/s/Alan K. Allred
Alan K. Allred
President and Chief Executive Officer
March 20, 2007
/s/S. E. Parks
S. E. Parks
Vice President and Chief
Financial Officer
QUESTAR GAS 2006 FORM 10-K