El Paso Q2 back in the black versus year-ago; making progress on debt-cutting goal

By Paul Deckelman

New York, Aug. 7 - El Paso Corp. swung to a profit in the second quarter ended June 30 versus a year-earlier loss - and reported what company president and chief executive officer Douglas L. Foshee called "significant improvement" in the company's balance sheet, including sizable reductions in both its gross and net debt profile since the beginning of the year.

And more improvements, in the form of still lower debt levels and greater corporate financial flexibility, lie ahead, as Foshee and company chief financial officer D. Mark Leland told analysts on a conference call Monday following the release of the results.

The executives cited the impact of the new credit facility that the Houston-based natural gas exploration, production and pipeline company recently entered into. The $2.25 billion facility replaced $3 billion of previous facilities, extending the maturities to 2009 and 2011 and capturing lower interest rates. Leland noted that the new facility included a $500 million unsecured letters of credit component - the first unsecured borrowing the company was able to do since 2002.

Each of the three components of the new facility - the unsecured letters of credit, a $500 million secured letter of credit facility, and a $1.25 billion secured revolving credit line - carry significantly lower interest rates than the corresponding old facilities that they replaced - for instance, the revolver has a draw cost of 175 basis points over Libor, a full 100 bps pickup over the terms of the previous $1 billion revolver.

Leland estimated that El Paso should reap about $40 million in annual savings from the better terms and reduced borrowing levels under the new credit agreement.

The improved terms - including the company's renewed ability to borrow money without the need to put up collateral - "really shows the improvement in our credit strength," Leland declared. "The better pricing reflects our improved credit metrics."

The ratings agencies apparently agree - a development that Leland and Foshee made note of - with Standard & Poor's having raised the company's raised long-term corporate credit rating, and that of its subsidiaries to B+ from B, with a positive outlook in late May. S&P said that the upgrades "recognize the considerable progress that the company has made refocusing on the core pipeline and oil and gas exploration and production operations and stabilizing its financial position."

Moody's Investors Service just days later upped El Paso's corporate family rating to B1 from B3, raised the parent company's senior unsecured debt to B2 from Caa1, raised its pipeline subsidiaries' senior unsecured debt to Ba2 from B1, and elevated its El Paso Exploration & Production Co. subsidiary's senior unsecured debt to B1 from B3, citing progress that the company had made on debt reduction.

El Paso reported total debt obligations of about $16.212 billion as of the end of the second quarter on June 30 - an improvement of nearly $2 billion over the $18.009 billion of obligations it had as the year opened.

The company had $1.762 billion of cash and equivalents on hand at June 30, for a net debt level of $14.45 billion - well down from the $16.102 billion of net debt on the balance sheet at the end of 2005, which included $2.132 billion of cash

Revolver replacing cash

During the question and answer portion of the call, Leland noted that "we'd been carrying about $2 billion of cash since 2003, just for liquidity purposes based on the volatility and margin requirements we had on our businesses." In the interim, El Paso simplified its business model by getting out of non-core businesses and by winding down volatile energy trading hedges, which required keeping cash aside as counterparty collateral.

With such needs greatly lessened, he said, "basically what we're doing is taking [some of] that cash sitting on the balance sheet and retiring debt with it, and using our revolver capacity as our source of liquidity, as opposed to cash sitting on the balance sheet."

Since the beginning of the year, El Paso had engaged in several major transaction to lower its debt levels, including the February redemption of all of subsidiary Coastal Finance I's $300 million 8 3/8% Trust-Originated Preferred Securities due 2038, its repurchase, also in February, of $1.092 billion face amount of zero-coupon convertible debentures due 2021 during a put exercise at a cash price of 55.207, for a total expenditure of roughly $603 million; and its use of proceeds from a recent $500 million equity issue to pay down credit facility debt at El Paso Exploration & Production.

Leland said that elements in the $1.7 billion net debt reduction since the beginning of the year included the $500 million equity issue, $900 million of proceeds from the asset sales, and $300 million of free cash flow improvement and funds from other sources.

Aiming for $14 billion net debt

He said that the company fully expects to meet its goal of bringing net debt down to an even $14 billion by the end of this year, anticipating generation of $200 million of proceeds from the closings of announced and pending asset sales, plus another $200 million of further free cash flow improvements, asset sales and cash from other sources.

"We are on track," he told the analysts.

The company already moved to further lower its gross debt since the end of the second quarter with the repayment of $965 million of relatively high interest (Libor plus 275 bps) term loan debt under its old credit facility, the executives said. All told, they asserted, gross debt was some $3 billion lower as of July 31 than it had been at the start of the year.

Although its debt balance is lower than year-ago levels, Leland noted that interest and debt expense in the second quarter was about flat from the previous year's $333 million, with the lower balances offset by higher interest rates on its floating-rate debt.

Between the new credit facility and the cash balance on hand, total liquidity as of the end of the quarter was $2.37 billion, up somewhat from $2.303 billion at the end of 2005.

El Paso - which like much of the energy industry went through a shakeout period following the collapse of trading powerhouse Enron Corp., extricating itself from the volatile energy trading arena to focus more on its core gas exploration, production and transmission businesses - posted its second consecutive quarterly profit. It earned $141 million (21 cents per share), versus a net loss of $246 million (38 cents per share) in the year-ago period.

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