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MURPHY OIL CORPORATION

 

TABLE OF CONTENTS

 

 

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PART I – FINANCIAL INFORMATION

 

ITEM 1.  FINANCIAL STATEMENTS

 

Murphy Oil Corporation and Consolidated Subsidiaries

CONSOLIDATED BALANCE SHEETS (unaudited)

(Thousands of dollars)

 

 

 

*Reclassified to conform to current presentation.

 

See Notes to Consolidated Financial Statements, page 7.

 

The Exhibit Index is on page 34.

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Murphy Oil Corporation and Consolidated Subsidiaries

CONSOLIDATED STATEMENTS OF OPERATIONS (unaudited)

(Thousands of dollars, except per share amounts)

 

 

 

See Notes to Consolidated Financial Statements, page 7.

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Murphy Oil Corporation and Consolidated Subsidiaries

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (unaudited)

(Thousands of dollars)

 

 

 

 

See Notes to Consolidated Financial Statements, page 7.

 

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Murphy Oil Corporation and Consolidated Subsidiaries

CONSOLIDATED STATEMENTS OF CASH FLOWS (unaudited)

(Thousands of dollars)

 

 

 

*Investments are Canadian government securities with maturities greater than 90 days at the date of acquisition.

 

See Notes to Consolidated Financial Statements, page 7.

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Murphy Oil Corporation and Consolidated Subsidiaries

CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY (unaudited)

(Thousands of dollars)

 

 

See Notes to Consolidated Financial Statements, page 7.

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These notes are an integral part of the financial statements of Murphy Oil Corporation and Consolidated Subsidiaries (Murphy/the Company) on pages 2 through 6 of this Form 10-Q report.

 

Note A – Nature of Business and Interim Financial Statements

 

NATURE OF BUSINESS – Murphy Oil Corporation is an international oil and gas company that conducts its business through various operating subsidiaries.  The Company produces oil and natural gas in the United States, Canada and Malaysia and conducts oil and natural gas exploration activities worldwide.  The Company has an interest in a Canadian synthetic oil operation.

 

INTERIM FINANCIAL STATEMENTS – In the opinion of Murphy's management, the unaudited financial statements presented herein include all accruals necessary to present fairly the Company's financial position at June  30, 2015 and December 31, 2014, and the results of operations,  cash flows and changes in stockholders’ equity for the interim periods ended June  30, 2015 and 2014, in conformity with accounting principles generally accepted in the United States of America (U.S.).  In preparing the financial statements of the Company in conformity with accounting principles generally accepted in the U.S., management has made a number of estimates and assumptions related to the reporting of assets, liabilities, revenues, and expenses and the disclosure of contingent assets and liabilities.  Actual results may differ from the estimates.

 

Financial statements and notes to consolidated financial statements included in this Form 10-Q report should be read in conjunction with the Company's 2014 Form 10-K report, as certain notes and other pertinent information have been abbreviated or omitted in this report.  Financial results for the six-month period ended June 30, 2015 are not necessarily indicative of future results.

 

 

Note B – Property, Plant and Equipment

 

Under U.S. generally accepted accounting principles for companies that use the successful efforts method of accounting, exploratory well costs should continue to be capitalized when the well has found a sufficient quantity of reserves to justify its completion as a producing well and the company is making sufficient progress assessing the reserves and the economic and operating viability of the project.

 

At June  30, 2015, the Company had total capitalized exploratory well costs pending the determination of proved reserves of $122.1 million.  The following table reflects the net changes in capitalized exploratory well costs during the six-month periods ended June  30, 2015 and 2014.

 

 

 

The following table provides an aging of capitalized exploratory well costs based on the date the drilling was completed for each individual well and the number of projects for which exploratory well costs have been capitalized.  The projects are aged based on the last well drilled in the project.

 

 

 

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Note B – Property, Plant and Equipment (Contd.)

 

Of the $121.9 million of exploratory well costs capitalized more than one year at June  30, 2015, $55.9 million is in the U.S. and $66.0 million is in Brunei.  In both geographical areas, either further appraisal or development drilling is planned and/or development studies/plans are in various stages of completion.

 

During the first quarter 2015, the Company completed the second phase of the sale of 30% of its oil and gas assets in Malaysia and received net cash proceeds of $417.2 million.  The Company recorded an after-tax gain on this sale of $199.5 million.  Combined net cash proceeds received to date from the 30% sale, subject to final adjustments, totaled $1.88 billion.

 

See also Note E for discussion regarding a capital lease of production equipment at the Kakap field.

 

 

Note C – Inventories

 

Inventories are carried at the lower of cost or market.  For the Company’s U.K. refining and marketing operations reported as discontinued operations, the cost of crude oil and finished products was predominantly determined on the last-in, first-out (LIFO) method.  The sale of the U.K. refining and marketing operations was completed in June 2015 and all inventories reported under the LIFO method were included in the sale.  At December 31, 2014, the carrying value of inventories under the LIFO method was $44.9 million less than such inventories would have been valued using the first-in, first-out (FIFO) method.  These inventories are included in current assets held for sale on the Consolidated Balance Sheet.

 

 

Note D – Discontinued Operations

 

The Company has accounted for its U.K. refining and marketing operations as discontinued operations for all periods presented.  The Company completed its agreement to sell the remaining U.K. downstream assets at the end of the second quarter.  The 2015 second quarter includes an adjustment to the impairment previously recognized as a result of the final sale of the U.K. downstream assets.

 

The results of operations associated with these discontinued operations for the three-month and six-month periods ended June 30, 2015 and 2014 were as follows:

 

 

 

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Note D – Discontinued Operations (Contd.)

 

The following table presents the carrying value of the major categories of assets and liabilities of U.K. refining and marketing operations reflected as held for sale on the Company’s Consolidated Balance Sheets at June 30, 2015 and December 31, 2014.  

 

 

 

 

 

 

Note E – Financing Arrangements and Debt

 

The Company has a $2.0 billion committed credit facility that expires in June 2017.  Borrowings under the facility bear interest at 1.25% above LIBOR based on the Company’s current credit rating as of June 30, 2015.  In addition, facility fees of 0.25% are charged on the full $2.0 billion commitment.  The Company also had unused uncommitted credit facilities that totaled approximately $315.3 million at June  30, 2015.  These uncommitted facilities may be withdrawn by the various banks at any time.  The Company also has a shelf registration statement on file with the U.S. Securities and Exchange Commission that permits the offer and sale of debt and/or equity securities through October 2015.

 

The Company and its partners are parties to a  25-year lease of production equipment at the Kakap field offshore Malaysia.  The lease has been accounted for as a capital lease, and payments under the agreement are to be made over a 15-year period through June 2028.  Current maturities and long-term debt on the Consolidated Balance Sheet included $14.9 million and $213.2 million, respectively, associated with this lease at June  30, 2015.

 

 

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Note F – Cash Flow Disclosures

 

Additional disclosures regarding cash flow activities are provided below.

 

 

 

 

 

 

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Note G – Employee and Retiree Benefit Plans

 

The Company has defined benefit pension plans that are principally noncontributory and cover most full-time employees.  All pension plans are funded except for the U.S. and Canadian nonqualified supplemental plans and the U.S. directors’ plan.  All U.S. tax qualified plans meet the funding requirements of federal laws and regulations.  Contributions to foreign plans are based on local laws and tax regulations.  The Company also sponsors health care and life insurance benefit plans, which are not funded, that cover most active and retired U.S. employees.  Additionally, most U.S. retired employees are covered by a life insurance benefit plan.  The health care benefits are contributory; the life insurance benefits are noncontributory.

 

The table that follows provides the components of net periodic benefit expense for the three-month and six-month periods ended June  30, 2015 and 2014.

 

 

 

Termination and curtailment expenses shown in the table above relate to restructuring activities in the U.S. undertaken by the Company in the second quarter 2015.

 

During the six-month period ended June 30, 2015, the Company made contributions of $30.1 million to its defined benefit pension and postretirement benefit plans.  Remaining required funding in 2015 for the Company’s defined benefit pension and postretirement plans is anticipated to be $6.1 million.

 

 

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Note H – Incentive Plans

 

The costs resulting from all share-based payment transactions are recognized as an expense in the Consolidated Statements of Income using a fair value-based measurement method over the periods that the awards vest.

 

The 2012 Annual Incentive Plan (2012 Annual Plan) authorizes the Executive Compensation Committee (the Committee) to establish specific performance goals associated with annual cash awards that may be earned by officers, executives and other key employees.  Cash awards under the 2012 Annual Plan are determined based on the Company’s actual financial and operating results as measured against the performance goals established by the Committee.  The 2012 Long-Term Incentive Plan (2012 Long-Term Plan) authorizes the Committee to make grants of the Company’s Common Stock and other stock-based incentives to employees.  These grants may be in the form of stock options (nonqualified or incentive), stock appreciation rights (SAR), restricted stock, restricted stock units (RSU), performance units, performance shares, dividend equivalents and other stock-based incentives.  The 2012 Long-Term Plan expires in 2022.  A total of 8,700,000 shares are issuable during the life of the 2012 Long-Term Plan, with annual grants limited to 1% of Common shares outstanding.  The Company has an Employee Stock Purchase Plan that permits the issuance of up to 980,000 shares through September 30, 2017.  The Company also has a Stock Plan for Non-Employee Directors that permits the issuance of restricted stock and stock options or a combination thereof to the Company’s Directors.

 

In February 2015, the Committee granted stock options for 991,000 shares at an exercise price of either $49.65 or $51.63 per share.  The Black-Scholes valuation for these awards was $10.97 per option.  The Committee also granted 455,000 performance-based RSU and 233,400 time-based RSU in February.  The fair value of the performance-based RSU, using a Monte Carlo valuation model, ranged from $44.03 to $48.12 per unit.  The fair value of time-based RSU was estimated based on the fair market value of the Company’s stock on the date of grant, which was $49.65 per share.  Additionally, the Committee granted 847,400 SAR and 616,790 units of cash-settled RSU (RSU-C) to certain employees.  The SAR and

RSU-C are to be settled in cash, net of applicable income taxes, and are accounted for as liability-type awards.  The initial fair value of these SAR was equivalent to the stock options granted, while the initial value of RSU-C was equivalent to equity-settled restricted stock units granted.  Also in February, the Committee granted 48,665 shares of time-based RSU to the Company’s Directors under the Non-employee Director Plan.  These shares vest on the third anniversary of the date of grant. The estimated fair value of these awards ranged between $49.09 and $50.90 per unit on date of grant.

 

Beginning January 1, 2014, all stock option exercises are non-cash transactions for the Company.  The employee will receive net shares, after applicable statutory withholding taxes, upon each exercise.  The actual income tax benefit realized for the tax deductions from option exercises of the share-based payment arrangements totaled $3.1 million for the six-month period ended June  30, 2014.  No income tax benefit was realized from option exercises for the six-month period ended June  30, 2015.

 

Amounts recognized in the financial statements with respect to share-based plans are as follows:

 

 

 

 

 

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Note I – Earnings per Share

 

Net income (loss) was used as the numerator in computing both basic and diluted income per Common share for the

three-month and six-month periods ended June  30, 2015 and 2014.  The following table reconciles the weighted-average shares outstanding used for these computations.

 

 

 

*Due to a net loss recognized by the Company for the three-month and six-month periods ended June 30, 2015, no unvested stock awards were included in computing earnings per share because the effect was anti-dilutive.

 

The following table reflects certain options to purchase shares of common stock that were outstanding during the 2015 and 2014 periods but were not included in the computation of diluted earnings per share because the incremental shares from assumed conversion were antidilutive.

 

 

 

 

 

Note J – Income Taxes

 

The Company’s effective income tax rate generally exceeds the statutory U.S. tax rate of 35%.  The effective tax rate is calculated as the amount of income tax expense divided by income before income tax expense.  For the three-month and six-month periods in 2015 and 2014, the Company’s effective income tax rates were as follows:

 

 

The effective tax rates for most periods generally exceed the U.S. statutory tax rate of 35% due to several factors, including:  the effects of income generated in foreign tax jurisdictions, certain of which have income tax rates that are higher than the U.S. Federal rate; U.S. state tax expense; and certain expenses, including exploration and other expenses in certain foreign jurisdictions, for which no income tax benefits are available or are not presently being recorded due to a lack of reasonable certainty of adequate future revenue against which to utilize these expenses as deductions.  The effective tax rate for the three month period ended June 30, 2015 was less than the U.S. statutory tax rate primarily due to a deferred tax expense associated with the increase in the statutory tax rate in Alberta.  The effective tax rate for the six-month period ended June  30, 2015 was above the U.S. statutory tax rate primarily due to  a deferred tax benefit associated with the sale of Malaysian assets partially offset by other expenses in foreign jurisdictions for which no tax benefits were recognized and the increase in statutory rate in Alberta.  The effective tax rate for the three and six-month periods ended June  30, 2014 was above the U.S. statutory tax rate, primarily due to other expenses in certain foreign jurisdictions for which no tax benefits were recognized.

 

The Company’s tax returns in multiple jurisdictions are subject to audit by taxing authorities.  These audits often take years to complete and settle.  Although the Company believes that recorded liabilities for unsettled issues are adequate, additional gains or losses could occur in future years from resolution of outstanding unsettled matters.  As of June  30, 2015, the earliest years remaining open for audit and/or settlement in our major taxing jurisdictions are as follows:  United States – 2011; Canada – 2008; Malaysia – 2007; and United Kingdom – 2012.

 

 

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Note K – Financial Instruments and Risk Management

 

Murphy often uses derivative instruments to manage certain risks related to commodity prices, foreign currency exchange rates and interest rates.  The use of derivative instruments for risk management is covered by operating policies and is closely monitored by the Company’s senior management.  The Company does not hold any derivatives for speculative purposes and it does not use derivatives with leveraged or complex features.  Derivative instruments are traded primarily with creditworthy major financial institutions or over national exchanges, such as the New York Mercantile Exchange (NYMEX).  The Company has a risk management control system to monitor commodity price risks and any derivatives obtained to manage a portion of such risks.  For accounting purposes, the Company has not designated commodity and foreign currency derivative contracts as hedges, and therefore, it recognizes all gains and losses on these derivative contracts in its Consolidated Statements of Income.  Certain interest rate derivative contracts were accounted for as hedges and the net payment upon settlement recording the fair value of these contracts was deferred in Accumulated Other Comprehensive Income (Loss).  This deferred cost is being reclassified to Interest Expense in the Consolidated Statements of Income over the period until the associated notes mature in 2022.

 

Commodity Purchase Price Risks 

The Company is subject to commodity price risk related to crude oil, natural gas liquids and natural gas it produces and sells.  The Company had open derivative contracts at June 30,  2015 and 2014.  The impact from marking to market these commodity derivative contracts increased revenue by $7.4 million for the six-month period ended June  30, 2015 but reduced revenue by $36.9 million for the same period in 2014.    Open West Texas Intermediate contracts for each period were as follows:

 

 

 

Foreign Currency Exchange Risks

The Company is subject to foreign currency exchange risk associated with operations in countries outside the U.S.  Short-term derivative instrument contracts totaling $8.0 million and $33.0 million U.S. dollars were also outstanding at June 30, 2015 and 2014, respectively, to manage the risk of certain U.S. dollar accounts receivable associated with sale of crude oil production in Canada.  The impact from marking to market these foreign currency derivative contracts increased income before taxes by $11 thousand and $0.7 million for the six-month periods ended June 30, 2015 and 2014, respectively.

 

 

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Note K – Financial Instruments and Risk Management (Contd.)

 

At June 30, 2015 and December 31, 2014, the fair value of derivative instruments not designated as hedging instruments are presented in the following table.

 

 

 

 

For the three-month and six-month periods ended June  30, 2015 and 2014, the gains and losses recognized in the Consolidated Statements of Income for derivative instruments not designated as hedging instruments are presented in the following table.

 

 

 

Interest Rate Risks

In 2011 the Company entered into a series of derivative contracts known as forward starting interest rate swaps to manage interest rate risk associated with $350 million of 10-year notes that were sold in May 2012.  These interest rate swaps matured in May 2012.  Under hedge accounting rules, the Company deferred the net cost associated with these contracts to match the payment of interest on these notes through 2022.  During each of the six-month periods ended June  30, 2015 and 2014, $1.5 million of the deferred cost on the interest rate swaps was charged to income as a component of Interest Expense.  The remaining cost deferred on these matured contracts at June  30, 2015 was $13.2 million, which is recorded, net of income taxes of $7.1 million, in Accumulated Other Comprehensive Loss in the Consolidated Balance Sheet.  The Company expects to charge approximately $1.5 million of this deferred cost to income in the form of interest expense during the remaining six months of 2015.

 

The Company carries certain assets and liabilities at fair value in its Consolidated Balance Sheets.  The fair value hierarchy is based on the quality of inputs used to measure fair value, with Level 1 being the highest quality and Level 3 being the lowest quality.  Level 1 inputs are quoted prices in active markets for identical assets or liabilities.  Level 2 inputs are observable inputs other than quoted prices included within Level 1.  Level 3 inputs are unobservable inputs which reflect assumptions about pricing by market participants.

 

The carrying value of assets and liabilities recorded at fair value on a recurring basis at June  30, 2015 and December 31, 2014 are presented in the following table.

 

 

 

 

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Note K – Financial Instruments and Risk Management (Contd.)

 

The fair value of WTI crude oil derivative contracts was determined based on active market quotes for WTI crude oil at the balance sheet date.  The fair value of foreign exchange derivative contracts was based on market quotes for similar contracts at the balance sheet dates.  The income effect of changes in the fair value of crude oil derivative contracts is recorded in Sales and Other Operating Revenues in the Consolidated Statements of Income and changes in fair value of foreign exchange derivative contracts is recorded in Interest and Other Income.  The nonqualified employee savings plan is an unfunded savings plan through which participants seek a return via phantom investments in equity securities and/or mutual funds.  The fair value of this liability was based on quoted prices for these equity securities and mutual funds.  The income effect of changes in the fair value of the nonqualified employee savings plan is recorded in Selling and General Expenses in the Consolidated Statements of Income.

 

The Company offsets certain assets and liabilities related to derivative contracts when the legal right of offset exists.  There were no offsetting positions recorded at June  30, 2015 and December 31, 2014.

 

 

Note L – Accumulated Other Comprehensive Loss

 

The components of Accumulated Other Comprehensive Loss on the Consolidated Balance Sheets at December 31, 2014 and June  30, 2015 and the changes during the six-month period ended June 30, 2015 are presented net of taxes in the following table.

 

 

1All amounts are presented net of income taxes.

2Reclassifications for the six-month period ended June 30, 2015 are included in discontinued operations and primarily relate to financial adjustments recognized upon selling all operational assets in the U.K.

3Reclassifications before taxes of $8,522 for the six-month period ended June 30, 2015 are included in the computation of net periodic benefit expense.  See Note G for additional information.  Related income taxes of $2,956 for the six-month period ended June 30, 2015 are included in Income tax expense.

4Reclassifications before taxes of $1,482 for the six-month period ended June  30, 2015 are included in Interest expense.  Related income taxes of $519 for the six-month period ended June 30, 2015 are included in Income tax expense.

 

 

Note M – Environmental and Other Contingencies

 

The Company’s operations and earnings have been and may be affected by various forms of governmental action both in the United States and throughout the world.  Examples of such governmental action include, but are by no means limited to:  tax increases and retroactive tax claims; royalty and revenue sharing increases; import and export controls; price controls; currency controls; allocation of supplies of crude oil and petroleum products and other goods; expropriation of property; restrictions and preferences affecting the issuance of oil and gas or mineral leases; restrictions on drilling and/or production; laws and regulations intended for the promotion of safety and the protection and/or remediation of the environment; governmental support for other forms of energy; and laws and regulations affecting the Company’s relationships with employees, suppliers, customers, stockholders and others.  Because governmental actions are often motivated by political considerations and may be taken without full consideration of their consequences, and may be taken in response to actions of other governments, it is not practical to attempt to predict the likelihood of such actions, the form the actions may take or the effect such actions may have on the Company.

 

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Note M – Environmental and Other Contingencies (Contd.)

 

Murphy and other companies in the oil and gas industry are subject to numerous federal, state, local and foreign laws and regulations dealing with the environment.  Violation of federal or state environmental laws, regulations and permits can result in the imposition of significant civil and criminal penalties, injunctions and construction bans or delays.  A discharge of hazardous substances into the environment could, to the extent such event is not insured, subject the Company to substantial expense, including both the cost to comply with applicable regulations and claims by neighboring landowners and other third parties for any personal injury and property damage that might result.

 

The Company currently owns or leases, and has in the past owned or leased, properties at which hazardous substances have been or are being handled.  Although the Company has used operating and disposal practices that were standard in the industry at the time, hazardous substances may have been disposed of or released on or under the properties owned or leased by the Company or on or under other locations where these wastes have been taken for disposal.  In addition, many of these properties have been operated by third parties whose treatment and disposal or release of hydrocarbons or other wastes were not under Murphy’s control. Under existing laws the Company could be required to remove or remediate previously disposed wastes (including wastes disposed of or released by prior owners or operators), to clean up contaminated property (including contaminated groundwater) or to perform remedial plugging operations to prevent future contamination.  Certain of these historical properties are in various stages of negotiation, investigation, and/or cleanup and the Company is investigating the extent of any such liability and the availability of applicable defenses.  The Company has retained certain liabilities related to environmental matters at formerly owned U.S. refineries that were sold in 2011.  The Company also obtained insurance covering certain levels of environmental exposures related to past operations of these refineries.  The Company believes costs related to these sites will not have a material adverse affect on Murphy’s net income, financial condition or liquidity in a future period.

 

During the first quarter 2015, the Company’s subsidiary in Canada identified a leak or leaks at an infield condensate transfer pipeline at the Seal field in a remote area of Alberta.  The pipeline was immediately shut down and the Company’s emergency response plan was activated.  In cooperation with local governmental regulators, and with the assistance of qualified consultants, an investigation and remediation plan continues and the Company’s insurers were previously notified.  The Company has not yet established a complete estimate of the costs to remediate the site.  The Company recorded $43.9 million in other expense during the first quarter 2015 associated with the estimated costs of remediating the site.  Further refinements in the estimated total cost to remediate the site are anticipated in future periods, including possible fines from regulators and insurance recoveries.  It is possible that the ultimate net remediation costs to the Company associated with the condensate leak or leaks will exceed the amount of expense recorded through June 30, 2015.

 

There is the possibility that environmental expenditures could be required at currently unidentified sites, and new or revised regulations could require additional expenditures at known sites.  However, based on information currently available to the Company, the amount of future remediation costs incurred at known or currently unidentified sites is not expected to have a material adverse effect on the Company’s future net income, cash flows or liquidity.

 

Murphy and its subsidiaries are engaged in a number of other legal proceedings, all of which Murphy considers routine and incidental to its business.  Based on information currently available to the Company, the ultimate resolution of these matters is not expected to have a material adverse effect on the Company’s net income, financial condition or liquidity in a future period.

 

 

Note N – Commitments

 

The Company has entered into forward sales contracts to mitigate the price risk for a portion of its 2015 and 2016 natural gas sales volumes in Western Canada.  The natural gas sales contracts call for deliveries in the second half of 2015 and for the full year of 2016 of approximately 65 million cubic feet per day and 59 million cubic feet per day, respectively, at prices that average Cdn $4.13 and Cdn $3.19 per MCF in the respective period.  These natural gas contracts have been accounted for as normal sales for accounting purposes.

 

 

 

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Note O – New Accounting Principles

 

In April 2015, the Financial Accounting Standards Board (FASB) issued an Accounting Standards Update (ASU) that simplifies the presentation of debt issuance costs.  The ASU requires that the cost of issuing debt be presented on the balance sheet as a direct reduction from the associated debt liability.  These costs have historically been recorded as an asset, rather than a direct reduction of debt.  This ASU does not affect the results of operations, as costs of debt issuance will continue to be amortized to interest expense.  The Company is required to adopt the ASU effective in the first quarter of 2016, but early adoption is permitted.  The Company adopted this ASU early, effective with the first quarter of 2015.  This change in accounting principle is preferable due to allowing debt issuance costs and debt issuance discounts to be presented similarly in the Balance Sheet as reductions to recorded debt balances.  A retrospective change to the December 31, 2014 Balance Sheet as previously presented is required due to the adoption.  The retrospective adjustment to the December 31, 2014 Balance Sheet is shown below:

 

 

 

 

Note P – Business Segments

 

 

 

 

 

*Additional details about results of oil and gas operations are presented in the table on pages 25 and 26.