Southwestern Energy

Public Company
Founded: 1929 as Arkansas Western Gas Company
Employees: 2,621
Sales: $3.37 billion (2013)
Stock Exchanges: New York
Ticker Symbol: SWN
NAICS: 211111 Crude Petroleum and Natural Gas Extraction; 221210 Natural Gas Distribution; 486210 Pipeline Transportation of Natural Gas

Southwestern Energy Company is a leading independent oil and gas exploration and production company in the United States, the fourth-largest natural gas producer in the lower 48 states. With aggregate proved reserves exceeding 7 trillion cubic feet equivalent, the company’s primary operations are located in Arkansas, Louisiana, Oklahoma, Pennsylvania, and Texas. Midstream services include natural gas gathering, marketing, and distribution. Arkansas operations are vertically integrated, as Southwestern Energy Company owns drilling rigs, handles equipment maintenance, and mines sand and recycles water for hydraulic drilling.

Southwestern Energy Company derives about 74 percent of revenues from the Fayetteville Shale play in northwestern Arkansas, where 3,438 of 4,110 wells are operated by the company. The company holds leases for 905,684 net acres in the Marcellus Shale in northeastern Pennsylvania, where 172 of 269 wells are in operation. Conventional gas operations are located in the Arkoma Basin in northeastern Arkansas and in east Texas. Southwestern Energy Company is involved in unconventional oil projects in the Lower Smackover Brown Dense, along the border of Arkansas and Louisiana, and in the Denver-Julesburg Basin in eastern Colorado. Exploration activity in New Brunswick, Canada, is expected to secure natural gas reserves on par with the Fayetteville Shale.

THE FIRST 50 YEARS

Southwestern Energy Company formed in 1929 as Arkansas Western Gas Company (AWG), a utility that provided natural gas to northwest Arkansas for the first time in 1930. Originally a subsidiary of Southern Union Gas Company of Dallas, AWG became an independent utility in 1940.

AWG began exploring for natural gas in Franklin County, Arkansas, and discovered its first source in the White Oak Field. Completion of the well occurred on May 14, 1943. With an eight-inch main line feeding transmission and distribution lines, AWG served the town of Harrison, 73 miles east of Fayetteville. AWG opened an office in Ozark, Arkansas, 40 miles east of Fort Smith, to oversee production in the Arkoma Basin. Open flow capacity reached 196 million cubic feet per day (MMcfd) by the end of 1947. At that time, AWG owned 10 wells in the White Oak Field. Another four wells were operated by other companies, but AWG transferred the natural gas to its utility customers.

uring the 1950s AWG expanded exploratory operations to include both gas and oil. The company formed a new subsidiary for this purpose, Arkansas Western Production Company. Also, AWG improved gas transmission by adding a compressor station at White Oak Field, rather than relying on well pressure for movement of natural gas.

AWG became a public company during the 1960s through an offering of 50,000 shares of common stock. The fund enabled the company to expand operations. That decade AWG drilled and completed the largest well in its history. The Hillard Jackson No. 1 Well began operation with open flow of 40 MMcfd. Increasing natural gas production allowed AWG to serve more customers. During the early 1970s, AWG utility operations reached more than 50,000 customers. The company extended its range for natural gas exploration into eastern Oklahoma.

CORPORATE CHANGES: 1978–85

Corporate reorganization in 1978 and 1979 involved categorizing geographic and operational activities under subsidiaries of the company, newly renamed Southwestern Energy Company. AWG, now a subsidiary, handled utility operations. Natural gas exploration in Oklahoma remained with Arkansas Western Production Company, while exploration in Arkansas was placed with SEECO, Inc. Arkansas Western Production Company becameSouthwestern Energy Production Company (SEPCO) during the 1980s. Southwestern Energy Company was listed on the New York Stock Exchange on December 10, 1981.

Deregulation of natural gas in 1985 resulted in a decline in natural gas prices, and the industry entered a period of consolidation. Southwestern merged with Mustang Fuel Corporation in a stock exchange valued at $200 million. Southwestern gained 53 percent ownership interest in the Oklahoma City–based company. Southwestern exchanged 1.8 million shares of common stock for 4.07 million shares of Mustang stock. Based on 1984 results, the merger created a company with revenues in excess of $250 million and net income exceeding $35 million. The new company had strong cash flow, with more than $75 million.

Edward C. Joullian III, chairman of Mustang’s board of directors, became chairman and CEO of Southwestern. Southwestern’s chairman, Charles E. Scharlau, took the positions of president and COO. Scharlau eventually became CEO. The company planned to become vertically integrated in natural gas exploration and production, gathering, transmission, marketing, and distribution. Associated Natural Gas Company, a new division of AWG, expanded natural gas utility operations to southern Missouri.

PRODUCTION AND DISTRIBUTION EXPANSION

Initiatives at this time involved pipeline construction along with increasing reserves to supply pipeline distribution. In 1985 Southwestern formed a limited partnership with Midcon Corporation to build a 114-mile natural gas pipeline capable of transferring 75 Mmcfd. Southwestern held a 40 percent interest in the project. During the early 1990s, Southwestern began construction on the 258-mile NOARK Pipeline System, holding a majority ownership in that pipeline. The $100 million project crossed 14 counties in north Arkansas.

In expanding its exploration and production (E&P) activities, the company concentrated its acquisition efforts on revenue producing properties that could be purchased at low cost. In 1989 Southwestern’s SEPCO subsidiary purchased 11,000 undrilled acres in western Arkansas for $11 million. The company participated in eight new discoveries with an estimated 46.6 billion cubic feet equivalent (Bcfe) of natural gas reserves. Other new projects included oil producing properties in North Dakota, offshore properties along the Texas Gulf Coast, and onshore natural gas properties in Louisiana. In 1994 the company completed the Dill No. 1 discovery well in Louisiana, which produced 4.4 MMcfd of gas and 80 barrels of condensate per day.

One of Southwestern’s largest acquisitions, completed in July 1996, involved oil and gas properties in Oklahoma and west Texas, purchased from L.B. Simmons Energy, Inc. The $32 million investment added production of 1,400 barrels of oil and 5.5 Mmcf of natural gas per day. Proved reserves were estimated to be 6 million barrels of oil and 17 Bcfe of natural gas.

Southwestern gained new opportunities for exploration, as well. Also in 1996, Southwestern acquired 3-D seismic data and leasehold acreage in south Louisiana and along the Texas Gulf Coast.

To organize the distribution and marketing of its oil and gas products, Southwestern established the Energy Services Division. The division comprised two subsidiaries. Southwestern Energy Pipeline Company managed the NOARK Pipeline System. A new subsidiary, Southwestern Energy Services Company, handled natural gas marketing. Southwestern planned to develop new sources of revenue by offering new services to third-party natural gas customers. The Energy Services Division, located in Tulsa, Oklahoma, was expected to establish a base of customers among unaffiliated producers as well as to improve pipeline operations.

For the year 1996 Southwestern reported revenues of $189.2 million and net income of $19.2 million. With 170,327 customers in Arkansas and Missouri, the AWG utility generated about half of revenues. Gas and oil production reached 37.1 billion Bcfe. The company owned oil and gas reserves of 346.9 Bcfe.

ROYALTY LAWSUIT PROMPTS CHANGES

While Southwestern appeared to be operating successfully, in 1997 a class-action lawsuit laid claim to unmet royalties. Southwestern froze an escalating rate clause in 1978, meaning to prevent potential interference by the Arkansas Public Service Commission for high natural gas payments. In October 1998 SEECO, Inc., lost a class-action lawsuit for unpaid royalties of $109 million. The company filed an appeal.

As the problem unfolded, Southwestern hired a new CEO, Harold Korell, in 1997. Bringing nearly 30 years of experience to the position, Korell guided the company toward a single focus on E&P. He hired a new team of senior operating executives with reputations for success in E&P. The changes improved 1998 drilling results, as Southwestern added 47.5 Bcfe of oil and gas reserves, replacing 129 percent of depleted reserves.

The shift toward E&P continued with the October 1999 sale of its Associated Natural Gas Company utility assets, then serving 48,000 customers in Missouri. Southwestern applied the $32 million proceeds to pay down debt and continue its property investments. Southwestern expanded E&P operations in Louisiana and the Arkoma Basin. In the Permian Basin the company obtained properties in west Texas and southeastern New Mexico through the August 1999 acquisition of Petro-Quest Exploration. Properties gained from the $9.2 million transaction included proven reserves of 7.1 Bcfe of natural gas and 707,000 barrels of oil.

During the first half of 2000, Southwestern experienced the most successful drilling prospects in the company’s history. Southwestern participated in 37 exploratory wells, which garnered 24 discoveries. Seven of 13 wells in the Arkoma properties were successfully completed. Operations in the Permian Basin garnered 16 successful wells out of 21 drilled. The new sources of gas and oil replaced annual production by 200 percent. In 2000 Southwestern purchased 11,000 acres in Overton Field in east Texas, where 20 drilled wells yielded 20 discoveries.

After SEECO lost its appeal in 2000, Southwestern suspended shareholder dividends and obtained financing to pay the $109 million judgment. The judgment amounted to more than half of the company’s market capitalization, then at $200 million. Southwestern intended to sell its Arkansas utility operations, but Korell was not satisfied with the offers he received. In 2002, however, the company did sell several Oklahoma properties for $26.9 million. A new phase of the company’s development began with relocation of its headquarters from Arkansas to Houston, Texas, in 2001.

FAYETTEVILLE SHALE DEVELOPMENT

By 2003 Korell’s transformation of Southwestern into a leading independent oil and gas producer was complete. An offering of common stock raised $109 million, which the company applied to development of the Overton Field, where the company completed 57 wells. Overall, the company replaced its depleted resources at 350 percent, as 100 of 137 wells drilled resulted in new discoveries. That year increases in production andPage 440  |  Top of Articlemarket prices resulted in a 25 percent increase in sales to $327.40 million and record earnings of $48.9 million.

Solid profitability in conventional E&P provided a foundation for Southwestern to enter the higher risk, horizontal hydraulic fracturing of shale. This method of drilling involved the injection of water, sand, and chemicals to fracture hard shale along a horizontal line, thus releasing the natural gas beneath the shale deposit. Early testing indicated high potential in the Fayetteville Shale, located in the Arkoma Basin. Southwestern acquired 343,000 undeveloped acres in 2004 and then increased its net acreage to 830,000 through leasing by the end of 2005. The company began operation of its first producing well, Thomas 1-9, in 2004 and drilled 21 test wells. An investment of $155 million to drill 67 wells followed in 2005.

In 2005 Southwestern formed several subsidiaries to support operations in the Fayetteville Shale play. DeSoto Drilling, Inc., purchased 10 drilling rigs for use in hydraulic fracturing. Southwestern Midstream Services Company acted as a holding company for DeSoto Gathering Company LLC, which transported natural gas to the points of distribution in the market. The marketing subsidiary, Southwestern Energy Services Company (SES), garnered revenues from the sale of natural gas produced by Southwestern and third-party suppliers. Also, in 2008 SES became the “foundation shipper” for the proposed Fayetteville Express Pipeline.

Southwestern funded operations by increasing an existing credit facility to $500 million by January 2005. The following September a stock offering raised $580.2 million, applied to reduce debt and to fund operations in the Fayetteville Shale. Also, Southwestern divested assets unrelated to gas production, selling the NOARK Pipeline System in 2006, followed by AWG in 2008. In January 2008 a private placement of senior notes raised $591 million in net proceeds.

As Southwestern identified productive gas reserves, Fayetteville Shale production increased rapidly. Gross natural gas production reached 100 MMcfd in 2006, exceeded 500 MMcfd by the end of 2007 and reaching 1 billion cubic feet per day in July 2009. Southwestern began construction on a regional headquarters in Con-way, Arkansas, in 2009. Ancillary services included a 570-acre sand mining operation, maintenance and repair and warehouse facilities for drilling equipment, and satellite offices.

OTHER ACTIVITIES

As Korell prepared to retire in 2008, he hired Steven L. Mueller as president and chief operating officer. Korell knew Mueller from their employment at Tenneco Oil and American Exploration Company. Mueller, who had 30 years of experience in oil and gas development, was promoted to CEO in May 2009.

While Fayetteville Shale dominated Southwestern’s development activities, the company continued to pursue opportunities elsewhere. Southwestern began investing in lease holdings for shale oil development in Pennsylvania’s Appalachian Mountains in 2007. The company won a bid for an exclusive license to develop natural gas wells across 2.5 million acres in New Brunswick, Canada. The Department of Energy and Mines of the Province of New Brunswick required Southwestern to invest CAD 47 million by March 31, 2013. Research prior to exploratory drilling included 2-D seismic data, surface geochemistry surveys, and aerial gravity and magnetic surveys.

Southwestern allocated the majority of its capital program to the Fayetteville play. Of $2.1 billion in expenditures planned for 2010, the company earmarked $1.5 billion to drill more than 400 net wells in the Fayetteville properties. Other activities included initial drilling at the Marcellus Shale properties in Appalachia, adding 29 wells. The company signed agreements for natural gas gathering and distribution pipelines in Pennsylvania in 2011 and 2012. Southwestern began exploratory horizontal drilling in the Lower Smackover Brown Dense in 2011.

To support development elsewhere, Southwestern divested its New Mexico and many Texas assets. Although the Angelina River Trend in east Texas proved to be a valuable investment, the company decided to sell its assets in June 2010, raising $355 million. In May 2012 the company divested 19,800 net acres of its Overton Field leases, plus wells and gathering equipment, for $164 million.

ATTENTION TO ENVIRONMENTAL IMPACT

As Southwestern and numerous competitors expanded hydraulic fracturing of natural gas wells in the Arkoma Basin, environmental problems arose. In 2011 the Arkansas Oil & Gas Commission responded with new regulations on well spacing, disclosure of the chemicals in fracking fluids, horizontal drilling, and environmental safety issues. Unprecedented earthquake activity associated with underground waste fluid disposal led to a permanent moratorium on disposal wells. Also, damage to rural county roads from increased traffic led to increased severance tax on natural gas production.

Southwestern’s involvement in the hydraulic fracturing process led the company to establish a new division, V+ Development Solutions, in 2012. The new division developed methods of minimizing the negative impacts of hydraulic fracturing, or “fracking,” and sought to resolve the economic, environmental, and social effects of fracking. The division included the V₊ Resource Development group, a corporate and public relations group, the government, and the company’s general counsel.

A water conservation program, named ECH2O, determined to reduce the company’s use of freshwater supplies by switching to non-potable or recycled water. One goal involved developing new water treatment technology for water reuse and recycling. Southwestern established a facility for that purpose in Judsonia in 2013. The ECH2O program included watershed protection, as well.

MILESTONES AND ONGOING INVESTMENTS

Southwestern reached several milestones related to the Fayetteville Shale in 2013. After completing 382 wells, the company became the fourth-largest natural gas producer in the continental United States. The gross operated production exceeded three trillion cubic feet since production began in 2004. At the end of 2013, Southwestern Energy’s Fayetteville Shale operations accounted for 74 percent of its overall production. Royalty payments for mineral rights holders exceeded $1 billion. With proved reserves at 4.8 trillion cubic feet of natural gas, the company planned to invest $1 billion to drill and operate up to 470 horizontal wells in 2014. In 2013 Southwestern increased its investment in the Marcellus Shale to $872 million. The acquisition of 162,000 net acres for $93 million increased net acreage to 292,446.

The company also bought exploration rights to 460,000 acres at the Lower Smackover Brown Dense. Drilling failed to bring the desired success, however. Southwestern initiated a 3-D seismic project to review the true potential of its wells across a 75 square-mile area in Louisiana’s Union Parrish. The company reduced its investments in the area by the end of 2014, decreasing its holdings to 396,000 acres.

By the end of 2013, the company had spent CAD 39.2 million on research in New Brunswick and obtained an extension to its CAD 47 million investment deadline, now set for March 31, 2015. A citizens’ group sought to stop hydraulic fracturing in New Brunswick, citing the concern for water and land pollution and lost property values. In October 2013, the group halted operations by blocking Southwestern’s access to fracking equipment.

Southwestern expected capital investment of approximately $2.3 billion in 2014 to increase net gas and oil production by 14 percent, to 752 Bcfe. While the Fayetteville Shale was expected to only replace depleted resources, Southwestern projected that drilling a net 75 new wells in the Marcellus Shale would increase production by 60 percent, to 249 Bcfe. The company planned 10 new wells for the Brown Dense formation. In the Denver-Julesburg Basin and on new acreage in the Paradox Basin in Utah, the company planned to drill eight wells and conduct additional testing.

The company continued to invest in new properties in 2014. In March Southwestern acquired 312,000 net acres in the Niobrara formation in northwest Colorado for $180 million. The following October Southwestern purchased Marcellus Shale assets in Pennsylvania and West Virginia from Chesapeake Energy Corporation, including both producing and nonproducing wells across 413,000 net acres. To accommodate growth, Southwestern constructed a new facility in Spring, Texas, for its corporate headquarters and relocated from Houston at the end of 2014.

KEY DATES

1929:

Company originates as Arkansas Western Gas Company.

1981:

Southwestern Energy Company is listed on the New York Stock Exchange.

1997–2000:

Royalty lawsuit prompts transformation of exploration and production operations.

2004:

Investment and operations in the Fayetteville Shale play begin.

2014:

Company relocates headquarters from Houston to Spring, Texas.