Chesapeake Energy 1996 Annual Report Download - page 35

CHESAPEAKE EN
tains less energy value (Btu's) per Mcf. The company an-
ticipates gas production in Louisiana will receive pre-
mium prices at least equivalent to Henry Hub indexes
due to the high Btu content and favorable market loca-
tion of the production.
Gas Marketing Sales
In December 1995, the company entered into the gas
marketing business by acquiring all of the outstanding
stock of an Oklahoma City-based natural gas marketing
company for total consideration of $725,000. This sub-
sidiary provides natural gas marketing services including
commodity price structuring, contract administration and
nomination services for the company, its partners and
other natural gas producers in the geographical areas in
which the company is active.
As a result of this purchase, the company realized $28.4
million in gas marketing sales for third parties in fiscal
1996, with corresponding costs of gas marketing sales of
$27.5 million resulting in a gross margin of $0.9 mil-
lion. There were no gas marketing activities in 1995 or
1994.
Oil and Gas Service Operations
Revenues from oil and gas service operations were $6.3
million in fiscal 1996, down 28% from $8.8 million in
fiscal 1995, and down 2% from $6.4 million in 1994.
The related costs and expenses of these operations were
$4.9 million, $7.7 million and $5.2 million for the three
years ended June 30, 1996, 1995 and 1994, respectively.
The gross profit margin of 22% in fiscal 1996 was up
from the 12% margin in fiscal 1995, and up slightly from
the 19% gross margin in fiscal 1994. The gross profit
margin derived from these operations is a function of
drilling activities in the period, costs of materials and
supplies and the mix of operations between lower mar-
gin trucking operations versus higher margin labor ori-
ented service operations.
In June 1996, Peak USA Energy Services, Ltd., a lim-
ited partnership ("Peak"), was formed by Peak Oilfield
Services Company (a joint venture between Cook Inlet
Region, Inc. and Nabors Industries, Inc.) and Chesapeake
for the purpose of purchasing the company's oilfield ser-
vice assets and providing rig moving, transportation and
related site construction services to the company and the
industry. The company sold its service company assets to
Peak for $6.4 million, and simultaneously invested $2.5
million in exchange for a 33.3% partnership interest in
Y CORPO RATI ON
Peak. This transaction resulted in recognition of a $1.8
million pre-tax gain during the fourth fiscal quarter of
1996 reported in Interest and Other. A deferred gain from
the sale of service company assets of $0.9 million was
recorded as a reduction in the company's investment in
Peak and will be amortized to income over the estimated
useful lives of the Peak assets. The company's investment
in Peak will be accounted for using the equity method.
Interest and Other
Interest and other income for fiscal 1996 was $3.8
million which compares to $1.5 million in 1995 and $1
million in 1994. During fiscal 1996, the company real-
ized $3.7 million of interest and other investment in-
come, and a $1.8 million gain related to the sale of cer-
tain service company assets, offset by a $1.7 million loss
due to natural gas basis changes in April 1996 as a result
of the company's hedging activities. During 1995 and
1994, the company did not incur any such gains on sale
of assets or basis losses.
Production Expenses and Taxes
Production expenses and taxes, which include lifting
costs and production and excise taxes, increased to $8.3
million in fiscal 1996, as compared to $4.3 million in
fiscal 1995, and $3.6 million in fiscal 1994. These in-
creases on a year-to-year basis were primarily the result
of increased production. On a Mcfe production unit ba-
sis, production expenses and taxes increased to $0.14 per
Mcfe as compared to $0.13 per Mcfe in fiscal 1995 and
$0.36 per Mcfe in 1994. Severance tax exemptions for
production were available in fiscal 1996 and 1995, and
certain of the exemptions in Giddings are applicable for
production through 2001 for wells spud prior to Sep-
tember 1, 1996, and, on a more limited basis, for quali-
fying wells spud thereafter. The company expects that
operating costs in fiscal 1997 will increase based on the
company's expansion of drilling efforts into the Louisi-
ana Trend and the Williston Basin, because both are oil
prone areas with significant associated water production,
which generally have higher operating costs than gas prone
areas, and because limited severance tax exemptions will
be applicable in these areas as compared to existing ex-
emptions in Giddings.
Depreciation, Depletion
and Amortization
Depreciation, depletion and amortization ("DD&A")
of oil and gas properties for fiscal 1996 was $50.9 mil-
MANAGEMENT'S DISCUSSION AND ANALYSIS