form_10-q.htm
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-Q

X  Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the quarterly period ended March 31, 2012
OR
___ Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the transition period from __________ to __________.


Commission file number   001-13643



ONEOK, Inc.
(Exact name of registrant as specified in its charter)


Oklahoma
73-1520922
(State or other jurisdiction of
incorporation or organization)
(I.R.S. Employer Identification No.)
 
   
100 West Fifth Street, Tulsa, OK
74103
(Address of principal executive offices)
(Zip Code)


Registrant’s telephone number, including area code   (918) 588-7000


Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes X  No __

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate website, if any, every
Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes X No __

Indicate by checkmark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company.  See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer X             Accelerated filer __             Non-accelerated filer __             Smaller reporting company__

Indicate by checkmark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).
Yes __ No X

On April 27, 2012, the Company had 103,926,470 shares of common stock outstanding.



 
 

 
 






















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ONEOK, Inc.
TABLE OF CONTENTS


Part I.
Financial Information
Page No.
Item 1.
Financial Statements (Unaudited)
 
 
Consolidated Statements of Income - Three Months Ended March 31, 2012 and 2011
6
 
Consolidated Statements of Comprehensive Income - Three Months Ended March 31, 2012 and 2011
7
 
Consolidated Balance Sheets - March 31, 2012 and December 31, 2011
8-9
 
Consolidated Statements of Cash Flows - Three Months Ended March 31, 2012 and 2011
11
 
Consolidated Statement of Changes in Equity - Three Months Ended March 31, 2012
12-13
 
Notes to Consolidated Financial Statements
14-34
Item 2.
Management’s Discussion and Analysis of Financial Condition and Results of Operations
35-57
Item 3.
Quantitative and Qualitative Disclosures About Market Risk
57-58
Item 4.
Controls and Procedures
58
Part II.
Other Information
 
Item 1.
Legal Proceedings
58
Item 1A.
Risk Factors
58
Item 2.
Unregistered Sales of Equity Securities and Use of Proceeds
59
Item 3.
Defaults Upon Senior Securities
59
Item 4.
Mine Safety Disclosures
59
Item 5.
Other Information
59
Item 6.
Exhibits
59-60
Signature
 
61

As used in this Quarterly Report, references to “we,” “our” or “us” refer to ONEOK, Inc., an Oklahoma corporation, and its predecessors, divisions and subsidiaries, unless the context indicates otherwise.

The statements in this Quarterly Report that are not historical information, including statements concerning plans and objectives of management for future operations, economic performance or related assumptions, are forward-looking statements.  Forward-looking statements may include words such as “anticipate,” “estimate,” “expect,” “project,” “intend,” “plan,” “believe,” “should,” “goal,” “forecast,” “guidance,” “could,” “may,” “continue,” “might,” “potential,” “scheduled” and other words and terms of similar meaning.  Although we believe that our expectations regarding future events are based on reasonable assumptions, we can give no assurance that such expectations or assumptions will be achieved.  Important factors that could cause actual results to differ materially from those in the forward-looking statements are described under Part I, Item 2, Management’s Discussion and Analysis of Financial Condition and Results of Operations “Forward-Looking Statements,” and under Part I, Item IA, “Risk Factors,” in our Annual Report.

INFORMATION AVAILABLE ON OUR WEBSITE

We make available, free of charge, on our website (www.oneok.com) copies of our Annual Reports, Quarterly Reports, Current Reports on Form 8-K, amendments to those reports filed or furnished to the SEC pursuant to Section 13(a) or 15(d) of the Exchange Act and reports of holdings of our securities filed by our officers and directors under Section 16 of the Exchange Act as soon as reasonably practicable after filing such material electronically or otherwise furnishing it to the SEC.  Copies of our Code of Business Conduct, Corporate Governance Guidelines and Director Independence Guidelines are also available on our website, and we will provide copies of these documents upon request.  Our website and any contents thereof are not incorporated by reference into this report.

We also make available on our website the Interactive Data Files required to be submitted and posted pursuant to Rule 405 of Regulation S-T.
3
 
 

 
 
GLOSSARY

The abbreviations, acronyms and industry terminology used in this Quarterly Report are defined as follows:

AFUDC Allowance for funds used during construction
Annual Report
Annual Report on Form 10-K for the year ended December 31, 2011
ASU
Accounting Standards Update
Bbl
Barrels, 1 barrel is equivalent to 42 United States gallons
Bbl/d
Barrels per day
BBtu/d
Billion British thermal units per day
Bcf
Billion cubic feet
Bcf/d
Billion cubic feet per day
Btu(s)
British thermal units, a measure of the amount of heat required to raise the
          temperature of one pound of water one degree Fahrenheit
CFTC
Commodities Futures Trading Commission
Clean Air Act
Federal Clean Air Act, as amended
Clean Water Act
Federal Water Pollution Control Act Amendments of 1972, as amended
Dodd-Frank Act
Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010
DOT
United States Department of Transportation
EBITDA
Earnings before interest expense, income taxes, depreciation and amortization
EPA
United States Environmental Protection Agency
Exchange Act
Securities Exchange Act of 1934, as amended
FASB
Financial Accounting Standards Board
FERC
Federal Energy Regulatory Commission
GAAP
Accounting principles generally accepted in the United States of America
Intermediate Partnership
ONEOK Partners Intermediate Limited Partnership, a wholly owned subsidiary
          of ONEOK Partners, L.P.
KCC
Kansas Corporation Commission
KDHE
Kansas Department of Health and Environment
LDCs
Local distribution companies
LIBOR
London Interbank Offered Rate
MBbl
Thousand barrels
MBbl/d
Thousand barrels per day
Mcf
Thousand cubic feet
MDth/d
Thousand dekatherms per day
Midwestern Gas Transmission
Midwestern Gas Transmission Company
MMBbl
Million barrels
MMBtu
Million British thermal units
MMBtu/d
Million British thermal units per day
MMcf
Million cubic feet
MMcf/d
Million cubic feet per day
Moody’s
Moody’s Investors Service, Inc.
Natural Gas Policy Act
Natural Gas Policy Act of 1978, as amended
NGL products
Marketable natural gas liquid purity products, such as ethane, ethane/propane
          mix, propane, iso-butane, normal butane and natural gasoline
NGL(s)
Natural gas liquid(s)
NYMEX
New York Mercantile Exchange
OCC
Oklahoma Corporation Commission
ONEOK
ONEOK, Inc.
ONEOK 2011 Credit Agreement
ONEOK’s five-year, $1.2 billion revolving credit agreement dated April 5, 2011
ONEOK Partners
ONEOK Partners, L.P.
ONEOK Partners 2011 Credit Agreement
ONEOK Partners’ five-year, $1.2 billion revolving credit agreement dated
          August 1, 2011
ONEOK Partners GP
ONEOK Partners GP, L.L.C., a wholly owned subsidiary of ONEOK and the sole
          general partner of ONEOK Partners
 
4
 
 
 
 

 
 
 
Quarterly Report(s) Quarterly Report(s) on Form 10-Q
POP
Percent of Proceeds
S&P
Standard & Poor’s Rating Services
SEC
Securities and Exchange Commission
Securities Act
Securities Act of 1933, as amended
XBRL
eXtensible Business Reporting Language
 
5
 
 
 
 

 
 
PART I - FINANCIAL INFORMATION
             
ITEM 1.  FINANCIAL STATEMENTS
             
ONEOK, Inc. and Subsidiaries
             
CONSOLIDATED  STATEMENTS OF INCOME
             
   
Three Months Ended
   
   
March 31,
   
(Unaudited)
 
2012
   
2011
   
  (Thousands of dollars, except per share amounts)
               
Revenues
  $ 3,414,600     $ 3,760,600    
Cost of sales and fuel
    2,771,013       3,130,723    
Net margin
    643,587       629,877    
Operating expenses
                 
Operations and maintenance
    192,881       192,759    
Depreciation and amortization
    83,409       79,357    
Goodwill impairment
    10,255       -    
General taxes
    31,177       28,922    
Total operating expenses
    317,722       301,038    
Gain (loss) on sale of assets
    57       (510 )  
Operating income
    325,922       328,329    
Equity earnings from investments (Note K)
    34,620       32,092    
Allowance for equity funds used during construction
    975       466    
Other income
    9,861       3,352    
Other expense
    (2,274 )     (2,285 )  
Interest expense
    (75,815 )     (79,349 )  
Income before income taxes
    293,289       282,605    
Income taxes
    (73,839 )     (84,320 )  
Income from continuing operations
    219,450       198,285    
Income from discontinued operations, net of tax (Note B)
    762       1,061    
Gain on sale of discontinued operations, net of tax (Note B)
    13,250       -    
Net income
    233,462       199,346    
Less: Net income attributable to noncontrolling interests
    110,597       69,216    
Net income attributable to ONEOK
  $ 122,865     $ 130,130    
                   
Amounts attributable to ONEOK:
                 
Income from continuing operations
  $ 108,853     $ 129,069    
Income from discontinued operations
    14,012       1,061    
Net Income
  $ 122,865     $ 130,130    
                   
Basic earnings per share:
                 
Income from continuing operations (Note I)
  $ 1.05     $ 1.21    
Income from discontinued operations
    0.13       0.01    
Net Income
  $ 1.18     $ 1.22    
                   
Diluted earnings per share:
                 
Income from continuing operations (Note I)
  $ 1.03     $ 1.18    
Income from discontinued operations
    0.13       0.01    
Net Income
  $ 1.16     $ 1.19    
                   
Average shares (thousands)
                 
Basic
    103,809       107,020    
Diluted
    105,926       109,179    
                   
Dividends declared per share of common stock
  $ 0.61     $ 0.52    
See accompanying Notes to Consolidated Financial Statements.
                 
 
6
 
 
 

 
 
ONEOK, Inc. and Subsidiaries
         
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
       
 
Three Months Ended
 
 
March 31,
 
(Unaudited)
2012
   
2011
 
 
(Thousands of dollars)
           
Net income
$ 233,462     $ 199,346  
Other comprehensive income (loss), net of tax
             
Unrealized gains (losses) on energy marketing and risk-management
             
assets/liabilities, net of tax of ($19,094) and $1,415, respectively
  47,573       (16,888 )
Realized losses (gains) in net income, net of tax of ($1,615) and
             
$12,235, respectively
  (1,180 )     (20,116 )
Unrealized holding gains (losses) on available-for-sale securities,
             
net of tax of ($141) and $63, respectively
  224       (99 )
Change in pension and postretirement benefit plan liability, net of tax
             
of $3,644 and $2,947, respectively
  (5,777 )     (4,673 )
Other, net of tax of $0 and $11, respectively
  -       (18 )
Total other comprehensive income (loss), net of tax
  40,840       (41,794 )
Comprehensive income
  274,302       157,552  
Less: Comprehensive income attributable to noncontrolling interests
  124,161       53,757  
Comprehensive income attributable to ONEOK
$ 150,141     $ 103,795  
See accompanying Notes to Consolidated Financial Statements.
             
 
 
7
 
 

 
 
ONEOK, Inc. and Subsidiaries
           
CONSOLIDATED BALANCE SHEETS
           
   
March 31,
   
December 31,
 
(Unaudited)
 
2012
   
2011
 
Assets
 
(Thousands of dollars)
 
Current assets
           
Cash and cash equivalents
  $ 781,192     $ 65,953  
Accounts receivable, net
    1,154,951       1,339,933  
Gas and natural gas liquids in storage
    299,130       549,915  
Commodity imbalances
    163,939       63,452  
Energy marketing and risk management assets (Notes C and D)
    54,368       40,280  
Other current assets
    155,695       185,143  
Assets of discontinued operations (Note B)
    -       74,136  
Total current assets
    2,609,275       2,318,812  
                 
Property, plant and equipment
               
Property, plant and equipment
    11,495,219       11,177,934  
Accumulated depreciation and amortization
    2,794,183       2,733,601  
Net property, plant and equipment
    8,701,036       8,444,333  
                 
Investments and other assets
               
Goodwill and intangible assets
    1,001,956       1,014,127  
Investments in unconsolidated affiliates (Note K)
    1,219,635       1,223,398  
Other assets
    720,174       695,965  
Total investments and other assets
    2,941,765       2,933,490  
Total assets
  $ 14,252,076     $ 13,696,635  
See accompanying Notes to Consolidated Financial Statements.
               
 
8
 
 
 

 
 
ONEOK, Inc. and Subsidiaries
         
CONSOLIDATED BALANCE SHEETS
         
 
March 31,
   
December 31,
 
(Unaudited)
2012
   
2011
 
Liabilities and equity
(Thousands of dollars)
 
Current liabilities
         
Current maturities of long-term debt
$ 364,397     $ 364,391  
Notes payable (Note E)
  419,757       841,982  
Accounts payable
  1,110,108       1,341,718  
Commodity imbalances
  201,089       202,206  
Energy marketing and risk management liabilities (Notes C and D)
  94,573       137,680  
Other current liabilities
  410,399       345,383  
Liabilities of discontinued operations (Note B)
  -       12,815  
Total current liabilities
  2,600,323       3,246,175  
               
Long-term debt, excluding current maturities (Note F)
  5,225,849       4,529,551  
               
Deferred credits and other liabilities
             
Deferred income taxes
  1,408,420       1,446,591  
Other deferred credits
  638,029       674,586  
Total deferred credits and other liabilities
  2,046,449       2,121,177  
               
Commitments and contingencies (Note M)
             
               
Equity (Note G)
             
ONEOK shareholders' equity:
             
Common stock, $0.01 par value:
             
authorized 300,000,000 shares; issued 122,905,591 shares and outstanding
             
103,922,403 shares at March 31, 2012; issued 122,904,924 shares and
             
outstanding 103,254,980 shares at December 31, 2011
  1,229       1,229  
Paid-in capital
  1,317,489       1,418,414  
Accumulated other comprehensive loss (Note H)
  (178,845 )     (206,121 )
Retained earnings
  2,019,864       1,960,374  
Treasury stock, at cost: 18,983,188 shares at March 31, 2012, and
             
19,649,944 shares at December 31, 2011
  (903,585 )     (935,323 )
Total ONEOK shareholders' equity
  2,256,152       2,238,573  
               
Noncontrolling interests in consolidated subsidiaries
  2,123,303       1,561,159  
               
Total equity
  4,379,455       3,799,732  
Total liabilities and equity
$ 14,252,076     $ 13,696,635  
See accompanying Notes to Consolidated Financial Statements.
             
 
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ONEOK, Inc. and Subsidiaries
         
CONSOLIDATED STATEMENTS OF CASH FLOWS
         
 
Three Months Ended
 
 
March 31,
 
(Unaudited)
2012
   
2011
 
 
(Thousands of dollars)
 
Operating Activities
         
Net income
$ 233,462     $ 199,346  
Depreciation and amortization
  83,417       79,391  
Impairment of goodwill
  10,255       -  
Gain on sale of discontinued operations
  (13,250 )     -  
Reclassified loss on energy price risk management assets and liabilities
  29,861       -  
Equity earnings from investments
  (34,620 )     (32,092 )
Distributions received from unconsolidated affiliates
  36,879       27,607  
Deferred income taxes
  51,411       52,044  
Share-based compensation expense
  5,008       7,902  
Allowance for equity funds used during construction
  (975 )     (466 )
Loss (gain) on sale of assets
  (57 )     510  
Other
  (1,360 )     (333 )
Changes in assets and liabilities:
             
Accounts receivable
  180,413       53,410  
Gas and natural gas liquids in storage
  251,227       301,262  
Accounts payable
  (176,674 )     (77,843 )
Commodity imbalances, net
  (101,604 )     (18,092 )
Energy marketing and risk management assets and liabilities
  (122,900 )     (12,683 )
Other assets and liabilities
  (4,408 )     67,818  
Cash provided by operating activities
  426,085       647,781  
Investing Activities
             
Capital expenditures (less allowance for equity funds used during construction)
  (348,437 )     (194,679 )
Proceeds from sale of discontinued operations, net of cash sold
  32,008       -  
Contributions to unconsolidated affiliates
  (2,577 )     (250 )
Distributions received from unconsolidated affiliates
  4,062       4,904  
Proceeds from sale of assets
  521       540  
Other
  24       -  
Cash used in investing activities
  (314,399 )     (189,485 )
Financing Activities
             
Borrowing (repayment) of notes payable, net
  (422,225 )     (556,855 )
Issuance of debt, net of discounts
  699,657       1,295,450  
Long-term debt financing costs
  (5,392 )     (10,986 )
Repayment of debt
  (3,082 )     (228,137 )
Issuance of common stock
  2,228       5,024  
Issuance of common units
  459,735       -  
Dividends paid
  (63,375 )     (55,651 )
Distributions to noncontrolling interests
  (72,852 )     (68,041 )
Other
  -       (48 )
Cash provided by financing activities
  594,694       380,756  
Change in cash and cash equivalents
  706,380       839,052  
Change in cash and cash equivalents included in discontinued operations
  8,859       7,179  
Change in cash and cash equivalents from continuing operations
  715,239       846,231  
Cash and cash equivalents at beginning of period
  65,953       30,341  
Cash and cash equivalents at end of period
$ 781,192     $ 876,572  
See accompanying Notes to Consolidated Financial Statements.
 
 
11
 

 
 
 

 

ONEOK, Inc. and Subsidiaries
                     
CONSOLIDATED STATEMENT OF CHANGES IN EQUITY
                   
                       
                       
 
ONEOK Shareholders' Equity
 
                   
Accumulated
 
 
Common
               
Other
 
 
Stock
   
Common
   
Paid-in
   
Comprehensive
 
(Unaudited)
Issued
   
Stock
   
Capital
   
Income (Loss)
 
 
(Shares)
 
     (Thousands of dollars)
 
                       
December 31, 2011
  122,904,924     $ 1,229     $ 1,418,414     $ (206,121 )
Net income
  -       -       -       -  
Other comprehensive income
  -       -       -       27,276  
Common stock issued
  667       -       (29,177 )     -  
Common stock dividends -
                             
$0.61 per share
  -       -       -       -  
Issuance of common units of ONEOK Partners
  -       -       (51,100 )     -  
Distributions to noncontrolling interests
  -       -       -       -  
Other
  -       -       (20,648 )     -  
March 31, 2012
  122,905,591     $ 1,229     $ 1,317,489     $ (178,845 )
See accompanying Notes to Consolidated Financial Statements.
                         
 
12
 
 
 
 

 
 
ONEOK, Inc. and Subsidiaries
                     
CONSOLIDATED STATEMENT OF CHANGES IN EQUITY
                   
(Continued)
                     
                       
 
ONEOK Shareholders' Equity
             
             
Noncontrolling
       
             
Interests in
       
 
Retained
   
Treasury
   
Consolidated
   
Total
 
(Unaudited)
Earnings
   
Stock
   
Subsidiaries
   
Equity
 
 
(Thousands of dollars)
 
                       
December 31, 2011
$ 1,960,374     $ (935,323 )   $ 1,561,159     $ 3,799,732  
Net income
  122,865       -       110,597       233,462  
Other comprehensive income
  -       -       13,564       40,840  
Common stock issued
  -       31,738       -       2,561  
Common stock dividends -
                             
$0.61 per share
  (63,375 )     -       -       (63,375 )
Issuance of common units of ONEOK Partners
  -       -       510,835       459,735  
Distributions to noncontrolling interests
  -       -       (72,852 )     (72,852 )
Other
  -       -       -       (20,648 )
March 31, 2012
$ 2,019,864     $ (903,585 )   $ 2,123,303     $ 4,379,455  
 
13
 
 
 
 

 
 
ONEOK, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

A.           SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Our accompanying unaudited consolidated financial statements have been prepared pursuant to the rules and regulations of the SEC.  These statements have been prepared in accordance with GAAP and reflect all adjustments that, in our opinion, are necessary for a fair presentation of the results for the interim periods presented.  All such adjustments are of a normal recurring nature.  The 2011 year-end consolidated balance sheet data was derived from audited financial statements but does not include all disclosures required by GAAP.  These unaudited consolidated financial statements should be read in conjunction with our audited consolidated financial statements in our Annual Report.  Due to the seasonal nature of our business, the results of operations for the three months ended March 31, 2012, are not necessarily indicative of the results that may be expected for a 12-month period.

Our significant accounting policies are consistent with those disclosed in Note A of the Notes to Consolidated Financial Statements in our Annual Report.
 
Recently Issued Accounting Standards Update - In May 2011, the FASB issued ASU 2011-04, “Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and International Financial Reporting Standards (IFRS),” which provides a consistent definition of fair value and common requirements for measurement of and disclosure about fair value between GAAP and IFRS.  This new guidance changes some fair value measurement principles and disclosure requirements.  We adopted this guidance with this Quarterly Report and the impact was not material.  See Note C for information on our fair value measurements.

In June 2011, the FASB issued ASU 2011-05, “Presentation of Comprehensive Income,” which provides two options for presenting items of net income, other comprehensive income and total comprehensive income by creating either one continuous statement of comprehensive income or two separate consecutive statements, and requires certain other disclosures.  In December 2011, the FASB issued ASU 2011-12, “Deferral of the Effective Date for Amendments to the Presentation of Reclassifications of Items Out of Accumulated Other Comprehensive Income in Accounting Standards Update No. 2011-05,” which deferred certain presentation requirements in ASU 2011-05 for items reclassified out of accumulated other comprehensive income.  We adopted this guidance, except for the portions deferred by ASU 2011-12, with this Quarterly Report, and the impact was not material.

B.           DISCONTINUED OPERATIONS

On February 1, 2012, we sold ONEOK Energy Marketing Company, our retail natural gas marketing business, to Constellation Energy Group, Inc. for $22.5 million plus working capital.  We received net proceeds of approximately $32.0 million, and recognized an after-tax gain on the sale of approximately $13.3 million.  The proceeds from the sale were used to reduce short-term borrowings.  The financial information of ONEOK Energy Marketing Company is reflected as discontinued operations in this Quarterly Report.  All prior periods presented have been recast to reflect the discontinued operations.
 
14
 
 
 
 

 

The amounts of revenue, costs and income taxes reported in discontinued operations are set forth in the table below for the periods indicated:

 
One Month Ended
  Three Months Ended
 
January 31,
  March 31,
 
2012
  2011
 
(Thousands of dollars)
               
Operating revenues
$ 27,607     $ 106,289  
Cost of sales and fuel
  25,961       102,617  
Net margin
  1,646       3,672  
Operating costs
  408       1,933  
Depreciation, depletion and amortization
  8       32  
Operating income
  1,230       1,707  
Other income (expense), net
  -       16  
Income taxes
  (468 )     (662 )
Income from discontinued operations, net
$ 762     $ 1,061  
Gain on sale of discontinued operation, net of tax of $8,119
$ 13,250     $ -  

The following table discloses the major classes of discontinued assets and liabilities included on our Consolidated Balance Sheets for the period indicated:
 
   
December 31,
 
   
2011
 
Assets
  (Thousands of dollars)
   Cash and cash equivalents
  $ 8,859  
Accounts receivable, net
    47,967  
Gas in storage
    2,101  
Energy marketing and risk management assets
    15,016  
Other assets
    193  
Assets of discontinued operations
  $ 74,136  
         
Liabilities
       
Accounts payable
  $ 11,435  
Energy marketing and risk management liabilities
    629  
Other liabilities
    751  
Liabilities of discontinued operations
  $ 12,815  

At December 31, 2011, the liabilities of our discontinued operations exclude $45.7 million of intercompany payables due to its parent or other affiliates.
 
15
 
 
 
 

 

C.           FAIR VALUE MEASUREMENTS

Fair Value Measurements - We define fair value as the price that would be received from the sale of an asset or the transfer of a liability in an orderly transaction between market participants at the measurement date.  We use the market and income approaches to determine the fair value of our assets and liabilities and consider the markets in which the transactions are executed.  While many of the contracts in our portfolio are executed in liquid markets where price transparency exists, some contracts are executed in markets for which market prices may exist, but the market may be relatively inactive.  This results in limited price transparency that requires management’s judgment and assumptions to estimate fair values.  Inputs into our fair value estimates include commodity exchange prices, over-the-counter quotes, volatility, historical correlations of pricing data and LIBOR and other liquid money market instrument rates.  We also utilize internally developed basis curves that incorporate observable and unobservable market data.  We validate our valuation inputs with third-party information and settlement prices from other sources, where available.  In addition, as prescribed by the income approach, we compute the fair value of our derivative portfolio by discounting the projected future cash flows from our derivative assets and liabilities to present value using interest-rate yields to calculate present-value discount factors derived from LIBOR, Eurodollar futures and interest-rate swaps.  We also take into consideration the potential impact on market prices of liquidating positions in an orderly manner over a reasonable period of time under current market conditions.  We consider current market data in evaluating counterparties’, as well as our own, nonperformance risk, net of collateral, by using specific and sector bond yields and also monitor the credit default swap markets.  Although we use our best estimates to determine the fair value of the derivative contracts we have executed, the ultimate market prices realized could differ from our estimates, and the differences could be material.

Recurring Fair Value Measurements - The following tables set forth our recurring fair value measurements for our continuing and discontinued operations for the periods indicated:
 
 
March 31, 2012
 
 
Level 1
   
Level 2
   
Level 3
   
Netting
   
Total
 
 
(Thousands of dollars)
 
Assets
                           
Derivatives (a)
                           
Commodity contracts
                           
Financial contracts
$ 601,625     $ 20,271     $ 27,480     $ -     $ 649,376  
Physical contracts
  -       23,678       3,464       -       27,142  
Netting
  -       -       -       (603,984 )     (603,984 )
Total derivatives
  601,625       43,949       30,944       (603,984 )     72,534  
Trading securities (b)
  6,826       -       -       -       6,826  
Available-for-sale investment securities (c)
  2,315       -       -       -       2,315  
Total assets
$ 610,766     $ 43,949     $ 30,944     $ (603,984 )   $ 81,675  
                                       
Liabilities
                                     
Derivatives (a)
                                     
Commodity contracts
                                     
Financial contracts
$ (595,397 )   $ (11,766 )   $ (12,859 )   $ -     $ (620,022 )
Physical contracts
  -       (83 )     (137 )     -       (220 )
Netting
  -       -       -       589,142       589,142  
Interest-rate contracts
  -       (63,473 )     -       -       (63,473 )
Total derivatives
  (595,397 )     (75,322 )     (12,996 )     589,142       (94,573 )
Fair value of firm commitments (d)
  -       -       (3,770 )     -       (3,770 )
Total liabilities
$ (595,397 )   $ (75,322 )   $ (16,766 )   $ 589,142     $ (98,343 )
(a) - Our derivative assets and liabilities are presented in our Consolidated Balance Sheets as energy marketing and risk-management assets and liabilities and other assets on a net basis. We net derivative assets and liabilities, including cash collateral, when a legally enforceable master-netting arrangement exists between the counterparty to a derivative contract and us. At March 31, 2012, we held $15.1 million of cash collateral and had posted $0.3 million of cash collateral with various counterparties.
 
(b) - Included in our Consolidated Balance Sheets as other current assets.
 
(c) - Included in our Consolidated Balance Sheets as other assets.
 
(d) - Included in our Consolidated Balance Sheets as other current liabilities and other deferred credits.
 

16
 
 
 
 

 
 
 
 
December 31, 2011
 
 
Level 1
   
Level 2
   
Level 3
   
Netting
   
Total
 
 
(Thousands of dollars)
 
Assets
                           
Derivatives (a)
                           
Commodity contracts
                           
Financial contracts
$ 545,247     $ 13,874     $ 32,931     $ -     $ 592,052  
Physical contracts
  -       23,879       14,916       -       38,795  
Netting
  -       -       -       (569,243 )     (569,243 )
Total derivatives
  545,247       37,753       47,847       (569,243 )     61,604  
Trading securities (b)
  5,749       -       -       -       5,749  
Available-for-sale investment securities (c)
  1,949       -       -       -       1,949  
Total assets
$ 552,945     $ 37,753     $ 47,847     $ (569,243 )   $ 69,302  
                                       
Liabilities
                                     
Derivatives (a)
                                     
Commodity contracts
                                     
Financial contracts
$ (479,073 )   $ (6,498 )   $ (20,995 )   $ -     $ (506,566 )
Physical contracts
  -       (261 )     (1,748 )     -       (2,009 )
Netting
  -       -       -       497,608       497,608  
Interest-rate contracts
  -       (128,666 )     -       -       (128,666 )
Total derivatives
  (479,073 )     (135,425 )     (22,743 )     497,608       (139,633 )
Fair value of firm commitments (d)
  -       -       (7,283 )     -       (7,283 )
Total liabilities
$ (479,073 )   $ (135,425 )   $ (30,026 )   $ 497,608     $ (146,916 )
(a) - Our derivative assets and liabilities are presented in our Consolidated Balance Sheets as energy marketing and risk-management assets and liabilities, other assets and other deferred credits on a net basis. We net derivative assets and liabilities, including cash collateral, when a legally enforceable master-netting arrangement exists between the counterparty to a derivative contract and us. At December 31, 2011, we held $73.3 million of cash collateral and had posted $1.7 million of cash collateral with various counterparties.
 
(b) - Included in our Consolidated Balance Sheets as other current assets.
 
(c) - Included in our Consolidated Balance Sheets as other assets.
 
(d) - Included in our Consolidated Balance Sheets as other current liabilities and other deferred credits.
 
 
The tables above include balances for ONEOK Energy Marketing Company that have been reflected as discontinued operations in our Consolidated Balance Sheets.  At December 31, 2011, we had $15.0 million in derivative assets and $0.6 million in derivative liabilities related to this discontinued operation.

Our Level 1 fair value measurements are based on NYMEX-settled prices and actively quoted prices for equity securities.  These balances are comprised predominantly of exchange-traded derivative contracts, including futures and certain options for natural gas and crude oil, which are valued based on unadjusted quoted prices in active markets.  Also included in Level 1 are equity securities.

Our Level 2 fair value inputs are based on NYMEX-settled prices for natural gas and crude oil that are utilized to determine the fair value of certain nonexchange-traded financial instruments, including natural gas and crude oil swaps, as well as physical forwards.  Also, included in Level 2 are interest-rate swaps that are valued using financial models that incorporate the implied forward LIBOR yield curve for the same period as the future interest swap settlements.

Our Level 3 inputs include internally developed basis curves incorporating observable and unobservable market data, NGL price curves from broker quotes, market volatilities derived from the most recent NYMEX close spot prices and forward LIBOR curves, and adjustments for the credit risk of our counterparties.  We corroborate the data on which our fair value estimates are based using our market knowledge of recent transactions, analysis of historical correlations and validation with independent broker quotes.  The derivatives categorized as Level 3 include natural gas basis swaps, swing swaps, options, other commodity swaps and physical forward contracts.  Also included in Level 3 are the fair values of firm commitments.  We do not believe that our Level 3 fair value estimates have a material impact on our results of operations, as the majority of our derivatives are accounted for as hedges for which ineffectiveness is not material.  The significant unobservable inputs used in the fair value measurement of our swaps, forwards and firm commitments are the unpublished forward basis and
 
17
 
 
 

 
 
index curves.  Significant increases or decreases in either of those inputs in isolation would not have a material impact on our fair value measurements.
 
The following tables set forth the reconciliation of our Level 3 fair value measurements for the periods indicated:
 
 
Derivative
Assets
(Liabilities)
   
Fair Value of
Firm
Commitments
   
Total
 
 
(Thousands of dollars)
 
January 1, 2012 $ 25,104     $ (7,283 )   $ 17,821  
Total realized/unrealized gains (losses):
                     
Included in earnings (a)
  (4,801 )     3,513       (1,288 )
Included in other comprehensive income (loss)
  5,785       -       5,785  
Sale of discontinued operations
  (3,636 )     -       (3,636 )
Transfers into Level 3
  -       -       -  
Transfers out of Level 3
  (4,504 )     -       (4,504 )
March 31, 2012
$ 17,948     $ (3,770 )   $ 14,178  
                         
Total gains (losses) for the period included in
    earnings attributable to the change in unrealized
    gains (losses) relating to assets and liabilities
    still held as of March 31, 2012 (a)
$ (4,687 )   $ 1,498     $ (3,189 )
(a) - Reported in revenues and cost of sales and fuel in our Consolidated Statements of Income.
 

 
 
Derivative
Assets
(Liabilities)
   
Fair Value of
Firm
Commitments
   
Total
 
 
(Thousands of dollars)
 
January 1, 2011 $ 49,266     $ (29,536 )   $ 19,730  
Total realized/unrealized gains (losses):
                     
Included in earnings (a)
  (7,696 )     545       (7,151 )
Included in other comprehensive income (loss)
  (9,855 )     -       (9,855 )
Transfers into Level 3
  6       -       6  
Transfers out of Level 3
  (1,106 )     -       (1,106 )
March 31, 2011
$ 30,615     $ (28,991 )   $ 1,624  
                         
Total gains (losses) for the period included in
    earnings attributable to the change in unrealized
    gains (losses) relating to assets and liabilities
    still held as of March 31, 2011 (a)
$ 2,878     $ (4,191 )   $ (1,313 )
(a) - Reported in revenues and cost of sales and fuel in our Consolidated Statements of Income.
 
 
Realized/unrealized gains (losses) include the realization of our derivative contracts through maturity and changes in fair value of our hedged firm commitments.  We recognize transfers into and out of the levels in the fair value hierarchy as of the end of each reporting period.  We had no transfers into or out of Level 1 during the periods presented.  Transfers into Level 3 represent existing assets or liabilities that were previously categorized at a higher level for which the unobservable inputs became a more significant portion of the fair value estimates.  Transfers out of Level 3 represent existing assets and liabilities that were classified previously as Level 3 for which the observable inputs became a more significant portion of the fair value estimates.
 
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The following table provides quantitative information about our Level 3 unobservable inputs, excluding the portion of our fair value measurements based on third-party pricing information without adjustment for the period indicated:
 
March 31, 2012
 
Derivative
Assets
(Liabilities)
   
Fair Value of
Firm
Commitments
 
 Unobservable Inputs
 Valuation Process
(Thousands of dollars)
               
Commodity contracts (a)
           
Financial
$ 126     $ -  
 Basis and Index Curves
 Notional volume x Price Curve
Physical
  1,355       (424 )
 Basis and Index Curves
 Notional volume x Price Curve
Unobservable inputs
$ 1,481     $ (424 )    
(a) - Unpublished basis and index curves on commodity contracts developed using broker quotes and management estimates.
 
Goodwill Impairment - As a result of the continued decline in natural gas prices and its effect on location and seasonal price differentials, we performed an interim impairment assessment of our Energy Services segment’s goodwill balance as of March 31, 2012.  As a result of this assessment, goodwill with a carrying amount of $10.3 million was written down to its implied fair value of zero, with a resulting impairment charge of $10.3 million recorded in earnings for the period.  The fair value of our Energy Services reporting unit and the implied fair value of its goodwill were calculated using Level 3, significant unobservable inputs.

Other Financial Instruments - The approximate fair value of cash and cash equivalents, accounts receivable, accounts payable and notes payable is equal to book value, due to the short-term nature of these items.

Our cash and cash equivalents are comprised of bank and money market accounts and would be classified as Level 1.  Our notes payable would be classified as Level 2 since the estimated fair value of the notes payable can be determined using information available in the commercial paper market.  The estimated fair value of our consolidated long-term debt, including current maturities, was $6.3 billion at March 31, 2012, and $5.6 billion at December 31, 2011.  The book value of long-term debt, including current maturities, was $5.6 billion and $4.9 billion at March 31, 2012, and December 31, 2011, respectively.  The estimated fair value of long-term debt has been determined using quoted market prices of ONEOK’s and ONEOK Partners’ senior notes or similar issues with similar terms and maturities.  Our consolidated long-term debt would be classified as Level 2.

D.           RISK MANAGEMENT AND HEDGING ACTIVITIES USING DERIVATIVES

Our Energy Services and ONEOK Partners segments are exposed to various risks that we manage by periodically entering into derivative instruments.  These risks include the following:
 
·  
Commodity price risk - We are exposed to the risk of loss in cash flows and future earnings arising from adverse changes in the price of natural gas, NGLs and crude oil.  We use commodity derivative instruments such as futures, physical forward contracts, swaps and options to reduce the commodity price risk associated with a portion of the forecasted purchases and sales of commodities and natural gas and natural gas liquids in storage.  Commodity price volatility may have a significant impact on the fair value of our derivative instruments as of a given date;
·  
Basis risk - We are exposed to the risk of loss in cash flows and future earnings arising from adverse changes in the price differentials between pipeline receipt and delivery locations.  Our firm transportation capacity allows us to purchase natural gas at a pipeline receipt point and sell natural gas at a pipeline delivery point.  As market conditions permit, our Energy Services segment periodically enters into basis swaps between the transportation receipt and delivery points in order to protect the fair value of these location price differentials related to our firm commitments;
·  
Currency exchange rate risk - As a result of our Energy Services segment’s activities in Canada, we are exposed to the risk of loss in cash flows and future earnings from adverse changes in currency exchange rates on our commodity purchases and sales, primarily related to our firm transportation and storage contracts that are transacted in a currency other than our functional currency, the United States dollar.  To reduce our exposure to exchange-rate fluctuations, we use physical forward transactions, which result in an actual two-way flow of currency on the settlement date in which we exchange United States dollars for Canadian dollars with another party; and
·  
Interest-rate risk - We are also subject to fluctuations in interest rates.  We manage interest-rate risk through the use of fixed-rate debt, floating-rate debt and, at times, interest-rate swaps.
 
19

 
 
 

 
 
The following derivative instruments are used to manage our exposure to these risks:
 
·  
Futures contracts - Standardized exchange-traded contracts to purchase or sell natural gas and crude oil at a specified price, requiring delivery on or settlement through the sale or purchase of an offsetting contract by a specified future date under the provisions of exchange regulations;
·  
Forward contracts - Commitments to purchase or sell natural gas, crude oil or NGLs for physical delivery at some specified time in the future.  We also use currency forward contracts to manage our currency exchange-rate risk.  Forward contracts are different from futures in that forwards are customized and nonexchange traded;
·  
Swaps - Financial trades involving the exchange of payments based on two different pricing structures for a commodity or other instrument.  In a typical commodity swap, parties exchange payments based on changes in the price of a commodity or a market index, while fixing the price they effectively pay or receive for the physical commodity.  As a result, one party assumes the risks and benefits of movements in market prices, while the other party assumes the risks and benefits of a fixed price for the commodity.  Interest-rate swaps are agreements to exchange interest payments at some future point based on specified notional amounts; and
·  
Options - Contractual agreements that give the holder the right, but not the obligation, to buy or sell a fixed quantity of a commodity, at a fixed price, within a specified period of time.  Options may either be standardized and exchange traded or customized and nonexchange traded.
 
Our objectives for entering into such contracts include but are not limited to:
 
·  
reducing the variability of cash flows by locking in the price for all or a portion of anticipated index-based physical purchases and sales, transportation fuel requirements, asset management transactions and customer-related business activities;
·  
locking in a price differential to protect the fair value between transportation receipt and delivery points and to protect the fair value of natural gas or NGLs that are purchased in one month and sold in a later month;
·  
reducing our exposure to fluctuations in interest and foreign currency exchange rates; and
·  
reducing variability in cash flows from changes in interest rates associated with forecasted debt issuances.

Our Energy Services segment also enters into derivative contracts for financial trading purposes primarily to capitalize on opportunities created by market volatility, weather-related events, supply-demand imbalances and market liquidity inefficiencies, which allow us to capture additional margin.  Financial trading activities are executed generally using financially settled derivatives and are normally short term in nature.

With respect to the net open positions that exist within our marketing and financial trading operations, fluctuating commodity prices can impact our financial position and results of operations.  The net open positions are actively managed, and the impact of the changing prices on our financial condition at a point in time is not necessarily indicative of the impact of price movements throughout the year.

Our Natural Gas Distribution segment also uses derivative instruments to hedge the cost of a portion of anticipated natural gas purchases during the winter heating months to protect our customers from upward volatility in the market price of natural gas.  The use of these derivative instruments and the associated recovery of these costs have been approved by the OCC, KCC and regulatory authorities in certain Texas jurisdictions.

ONEOK and ONEOK Partners have each entered into forward-starting interest-rate swaps designated as cash flow hedges of the variability of interest payments on a portion of forecasted debt issuances that may result from changes in the benchmark interest rate before the debt is issued.  ONEOK had interest-rate swaps with a notional value of $500 million at December 31, 2011.  In January 2012, ONEOK entered into additional interest-rate swaps with a notional amount of $200 million.  Upon issuance in January 2012 of our $700 million, 4.25-percent senior notes due 2022, ONEOK settled all $700 million of its interest-rate swaps and realized a loss of $44.1 million in accumulated other comprehensive income that will be amortized to interest expense over the term of the hedged debt.  At March 31, 2012, and December 31, 2011, ONEOK Partners had forward-starting interest-rate swaps with notional amounts of $750 million.  In April 2012, ONEOK Partners entered into additional forward-starting interest-rate swaps with a notional amount of $250 million.
 
Accounting Treatment

We record all derivative instruments at fair value, with the exception of normal purchases and normal sales that are expected to result in physical delivery.  The accounting for changes in the fair value of a derivative instrument depends on whether it has been designated and qualifies as part of a hedging relationship and, if so, the reason for holding it.
 
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If certain conditions are met, we may elect to designate a derivative instrument as a hedge of exposure to changes in fair values, cash flows or foreign currency.  Certain nontrading derivative transactions, which are economic hedges of our accrual transactions such as our storage and transportation contracts, do not qualify for hedge accounting treatment.
 
The table below summarizes the various ways in which we account for our derivative instruments and the impact on our consolidated financial statements:
 
   
Recognition and Measurement
Accounting Treatment
 
Balance Sheet
 
Income Statement
Normal purchases and
normal sales
-
Fair value not recorded
-
Change in fair value not recognized in earnings
Mark-to-market
-
Recorded at fair value
-
Change in fair value recognized in earnings
Cash flow hedge
-
Recorded at fair value
-
Ineffective portion of the gain or loss on the
derivative instrument is recognized in earnings
 
-
Effective portion of the gain or loss on the
derivative instrument is reported initially
as a component of accumulated other
comprehensive income (loss)
-
Effective portion of the gain or loss on the derivative
instrument is reclassified out of accumulated other
comprehensive income (loss) into earnings when the
forecasted transaction affects earnings
Fair value hedge
-
Recorded at fair value
-
The gain or loss on the derivative instrument is
recognized in earnings
 
-
Change in fair value of the hedged item is
recorded as an adjustment to book value
-
Change in fair value of the hedged item is recognized
in earnings

Gains or losses associated with the fair value of derivative instruments entered into by our Natural Gas Distribution segment are included in, and recoverable through, the monthly purchased-gas cost mechanism.

We formally document all relationships between hedging instruments and hedged items, as well as risk-management objectives, strategies for undertaking various hedge transactions and methods for assessing and testing correlation and hedge ineffectiveness.  We specifically identify the asset, liability, firm commitment or forecasted transaction that has been designated as the hedged item.  We assess the effectiveness of hedging relationships quarterly by performing an effectiveness analysis on our cash flow and fair value hedging relationships to determine whether the hedge relationships are highly effective on a retrospective and prospective basis.  We also document our normal purchases and normal sales transactions that we expect to result in physical delivery and that we elect to exempt from derivative accounting treatment.

The presentation of settled derivative instruments on either a gross or net basis in our Consolidated Statements of Income is dependent on the relevant facts and circumstances of our different types of activities rather than based solely on the terms of the individual contracts.  All financially settled derivative instruments, as well as derivative instruments considered held for trading purposes that result in physical delivery, are reported on a net basis in revenues in our Consolidated Statements of Income.  The realized revenues and purchase costs of derivative instruments that are not considered held for trading purposes and nonderivative contracts are reported on a gross basis.  Derivatives that qualify as normal purchases or normal sales that are expected to result in physical delivery are also reported on a gross basis.

Revenues in our Consolidated Statements of Income include financial trading margins, as well as certain physical natural gas transactions with our trading counterparties.  Revenues and cost of sales and fuel from such physical transactions are reported on a net basis.

Cash flows from futures, forwards, options and swaps that are accounted for as hedges are included in the same category as the cash flows from the related hedged items in our Consolidated Statements of Cash Flows.
 
21
 
 
 

 

Fair Values of Derivative Instruments - The following table sets forth the fair values of our derivative instruments for our continuing and discontinued operations for the periods indicated:
 
 
March 31, 2012
     
December 31, 2011
 
 
Fair Values of Derivatives (a)
     
Fair Values of Derivatives (a)
 
 
Assets
     
(Liabilities)
     
Assets
     
(Liabilities)
 
 
(Thousands of dollars)
 
Derivatives designated as hedging instruments
                           
Commodity contracts
                           
Financial contracts
$ 146,928  
 (b)
  $ (102,526 )
 (b)
  $ 184,184  
 (c)
  $ (73,346 )
Physical contracts
  375         (43 )       62         (344 )
Interest-rate contracts
  -         (63,473 )       -         (128,666 )
Total derivatives designated as hedging instruments
  147,303         (166,042 )       184,246         (202,356 )
Derivatives not designated as hedging instruments
                                   
Commodity contracts
                                   
Nontrading instruments
                                   
Financial contracts
  345,662         (362,653 )       295,948         (323,170 )
Physical contracts
  26,767         (177 )       38,733         (1,665 )
Trading instruments
                                   
Financial contracts
  156,786         (154,843 )       111,920         (110,050 )
Total derivatives not designated as hedging instruments
  529,215         (517,673 )       446,601         (434,885 )
Total derivatives
$ 676,518       $ (683,715 )     $ 630,847       $ (637,241 )
(a) - Included on a net basis in energy marketing and risk-management assets and liabilities, other assets and other deferred credits on our Consolidated Balance Sheets.
 
(b) - Includes $11.1 million of derivative assets associated with cash flow hedges of inventory that were adjusted to reflect the lower of cost or market value in a prior period. Also, includes $31.6 million of net derivative liabilities and ineffectiveness associated with cash flow hedges of inventory related to certain financial contracts that were used to hedge forecasted purchases of natural gas. The deferred gains and losses associated with these assets and net liabilities have been reclassified from accumulated other comprehensive loss.
 
(c) - Includes $88.9 million of derivative assets associated with cash flow hedges of inventory that were adjusted to reflect the lower of cost or market value. The deferred gains associated with these assets have been reclassified from accumulated other comprehensive loss.
 
 
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Notional Quantities for Derivative Instruments - The following table sets forth the notional quantities for derivative instruments held for our continuing and discontinued operations for the periods indicated:
 
   
March 31, 2012
   
December 31, 2011
 
 
Contract
Type
Purchased/
Payor
   
Sold/
Receiver
   
Purchased/
Payor
   
Sold/
Receiver
 
Derivatives designated as hedging instruments:
                     
Cash flow hedges
                       
Fixed price
                       
- Natural gas (Bcf)
Exchange futures
  21.0     (20.9 )     21.2     (23.4 )
 
Swaps
  18.4     (95.2 )     19.5     (111.9 )
- Crude oil and NGLs (MMBbl)
Swaps
  -     (3.6 )     -     (2.9 )
Basis
                           
- Natural gas (Bcf)
Forwards and swaps
  4.1     (49.6 )     3.2     (82.8 )
Interest-rate contracts (Millions of dollars)
Forward-starting
swaps
$ 750.0     -     $ 1,250.0     -  
                             
Fair value hedges
                           
Basis
                           
- Natural gas (Bcf)
Forwards and swaps
  109.1     (109.1 )     76.5     (77.0 )
                             
 Derivatives not designated as hedging instruments:                            
Fixed price
                           
- Natural gas (Bcf)
Exchange futures
  56.7     (53.4 )     76.9     (59.6 )
 
Forwards and swaps
  197.3     (200.6 )     235.8     (253.4 )
 
Options
  146.1     (141.1 )     33.6     (14.3 )
Basis
                           
- Natural gas (Bcf)
Forwards and swaps
  184.0     (186.1 )     216.9     (219.3 )
Index
                           
- Natural gas (Bcf)
Forwards and swaps
  51.8     (22.7 )     29.3     (22.1 )

These notional amounts are used to summarize the volume of financial instruments; however, they do not reflect the extent to which the positions offset one another and consequently do not reflect our actual exposure to market or credit risk.

Cash Flow Hedges - Our Energy Services and ONEOK Partners segments use derivative instruments to hedge the cash flows associated with anticipated purchases and sales of natural gas, NGLs and condensate and cost of fuel used in the transportation of natural gas.  Accumulated other comprehensive income (loss) at March 31, 2012, includes net gains of approximately $22.8 million, net of tax, related to these hedges that will be recognized within the next 21 months as the forecasted transactions affect earnings.  If prices remain at current levels, we will recognize $13.1 million in net gains over the next 12 months, and we will recognize net gains of $9.7 million thereafter.  The amounts deferred in accumulated comprehensive income (loss) attributable to our interest-rate swaps will be amortized to interest expense over the life of long-term, fixed-rate debt upon issuance of the debt.

For the three months ended March 31, 2012, net margin in Consolidated Statements of Income includes losses of $29.9 million related to certain financial contracts that were used to hedge forecasted purchases of natural gas.  As a result of the continued decline in natural gas prices, the combination of the cost basis of the forecasted purchases of inventory and the financial contracts exceed the amount expected to be recovered through sales of that inventory after considering related sales hedges, which requires reclassification of the loss from accumulated other comprehensive loss to current period earnings.

The following table sets forth the effect of cash flow hedges recognized in other comprehensive income (loss) for the periods indicated:

   
Three Months Ended
 
Derivatives in Cash Flow
Hedging Relationships
 
March 31,
 
 
2012
   
2011
 
   
(Thousands of dollars)
 
Commodity contracts
  $ 45,565     $ (18,303 )
Interest rate contracts
    21,102       -  
Total gain (loss) recognized in other comprehensive income (loss) on
derivatives (effective portion)
  $ 66,667     $ (18,303 )
 
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The following table sets forth the effect of cash flow hedges on our Consolidated Statements of Income for the periods indicated:
 
 
Location of Gain (Loss) Reclassified from
 
Three Months Ended
 
Derivatives in Cash Flow
  Accumulated Other Comprehensive Income  
March 31,
 
Hedging Relationship
  (Loss) into Net Income (Effective Portion)  
2012
   
2011
 
     
(Thousands of dollars)
 
Commodity contracts
Revenues
  $ 62,369     $ 33,387  
Commodity contracts
Cost of sales and fuel
    (61,977 )     (828 )
Interest-rate contracts
Interest expense
    (827 )     (208 )
Total gain (loss) reclassified from accumulated other comprehensive income
(loss) into net income on derivatives (effective portion)
  $ (435 )   $ 32,351  

Ineffectiveness related to our cash flow hedges was not material for the three months ended March 31, 2012 and 2011.  In the event that it becomes probable that a forecasted transaction will not occur, we will discontinue cash flow hedge treatment, which will affect earnings.  For the three months ended March 31, 2012 and 2011, there were no gains or losses due to the discontinuance of cash flow hedge treatment as a result of the underlying transactions being no longer probable.

Other Derivative Instruments - The following table sets forth the effect of our derivative instruments that are not part of a hedging relationship on our Consolidated Statements of Income for our continuing and discontinued operations for the periods indicated:

     
Three Months Ended
 
Derivatives Not Designated as
   
March 31,
 
Hedging Instruments Location of Gain (Loss)  
2012
   
2011
 
     
(Thousands of dollars)
 
Commodity contracts - trading
Revenues
  $ 315     $ 406  
Commodity contracts - nontrading (a)
Cost of sales and fuel
    2,963       2,548  
Total gain recognized in income on derivatives
  $ 3,278     $ 2,954  
(a) - Amounts are presented net of deferred losses associated with derivatives entered into by our Natural Gas Distribution
segment.
 
 
Our Natural Gas Distribution segment did not hold any derivative financial instruments at March 31, 2012, and held call options with premiums totaling $10 million at December 31, 2011.  The premiums are recorded in other current assets as these contracts are included in, and recoverable through, the monthly purchased-gas cost mechanism.  We recorded immaterial losses associated with the decline in the value and expiration of option contracts for the three months ended March 31, 2012 and 2011.  The gains and losses associated with these derivative instruments are deferred as part of our unrecovered purchase-gas costs.

Fair Value Hedges - Our Energy Services segment uses basis swaps to hedge the fair value of price location differentials related to certain firm transportation commitments.  Cost of sales and fuel in our Consolidated Statements of Income includes gains of $0.5 million and $5.4 million for the three months ended March 31, 2012 and 2011, respectively, related to the change in fair value of derivatives designated as fair value hedges.  Revenues include losses of $1.8 million and $5.0 million for the three months ended March 31, 2012 and 2011, respectively, to recognize the change in fair value of the related hedged firm commitments.  Ineffectiveness included in cost of sales and fuel related to these hedges was immaterial for the three months ended March 31, 2012 and 2011.

Credit Risk - We monitor the creditworthiness of our counterparties and compliance with policies and limits established by our Risk Oversight and Strategy Committee.  We maintain credit policies with regard to our counterparties that we believe minimize overall credit risk.  These policies include an evaluation of potential counterparties’ financial condition (including credit ratings, bond yields and credit default swap rates), collateral requirements under certain circumstances and the use of standardized master-netting agreements that allow us to net the positive and negative exposures associated with a single counterparty.  We have counterparties whose credit is not rated, and for those customers we use internally developed credit ratings.

Some of our derivative instruments contain provisions that require us to maintain an investment-grade credit rating from S&P and/or Moody’s.  If our credit ratings on senior unsecured long-term debt were to decline below investment grade, we would be in violation of these provisions, and the counterparties to the derivative instruments could request collateralization on derivative instruments in net liability positions.  The aggregate fair value of all financial derivative instruments with
 
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contingent features related to credit risk that were in a net liability position as of March 31, 2012, was $6.8 million.  If the contingent features underlying these agreements were triggered on March 31, 2012, we would have been required to post an additional $6.8 million of collateral to our counterparties.

The counterparties to our derivative contracts consist primarily of major energy companies, LDCs, electric utilities, financial institutions and commercial and industrial end-users.  This concentration of counterparties may impact our overall exposure to credit risk, either positively or negatively, in that the counterparties may be affected similarly by changes in economic, regulatory or other conditions.  Based on our policies, exposures, credit and other reserves, we do not anticipate a material adverse effect on our financial position or results of operations as a result of counterparty nonperformance.

The following tables set forth the net credit exposure from our derivative assets for the period indicated:
 
 
March 31, 2012
 
 
Investment
   
Noninvestment
   
Not
       
 
Grade
   
Grade
   
Rated
   
Total
 
Counterparty sector
(Thousands of dollars)
 
Gas and electric utilities
$ 34,644     $ -     $ 374     $ 35,018  
Oil and gas
  11,791       3       75       11,869  
Financial
  24,798       -       -       24,798  
Other
  124       11       714       849  
Total
$ 71,357     $ 14     $ 1,163     $ 72,534  
 
 
 
December 31, 2011
 
 
Investment
   
Noninvestment
   
Not
       
 
Grade
   
Grade
   
Rated
   
Total
 
Counterparty sector
(Thousands of dollars)
 
Gas and electric utilities
$ 22,335     $ -     $ 564     $ 22,899  
Oil and gas
  9,986       5       80       10,071  
Industrial
  7       -       14,955       14,962  
Financial
  13,566       -       -       13,566  
Other
  100       6       -       106  
Total
$ 45,994     $ 11     $ 15,599     $ 61,604  
 
E.           CREDIT FACILITIES AND SHORT-TERM NOTES PAYABLE

ONEOK 2011 Credit Agreement - The ONEOK 2011 Credit Agreement, which is scheduled to expire in April 2016, contains certain financial, operational and legal covenants.  Among other things, these covenants include maintaining ONEOK’s stand-alone debt-to-capital ratio of no more than 67.5 percent at the end of any calendar quarter, limitations on the ratio of indebtedness secured by liens and indebtedness of subsidiaries to consolidated net tangible assets, a requirement that ONEOK maintains the power to control the management and policies of ONEOK Partners, and a limit on new investments in master limited partnerships.

The ONEOK 2011 Credit Agreement also contains customary affirmative and negative covenants, including covenants relating to liens, investments, fundamental changes in the nature of ONEOK’s businesses, transactions with affiliates, the use of proceeds and a covenant that limits ONEOK’s ability to restrict its subsidiaries’ ability to pay dividends.  Under the terms of the ONEOK 2011 Credit Agreement, ONEOK may request an increase in the size of the facility to an aggregate of $1.7 billion from $1.2 billion by either commitments from new lenders or increased commitments from existing lenders.

The debt covenant calculations in the ONEOK 2011 Credit Agreement exclude the debt of ONEOK Partners.  Upon breach of certain covenants by ONEOK, amounts outstanding under the ONEOK 2011 Credit Agreement may become due and payable immediately.  At March 31, 2012, ONEOK’s stand-alone debt-to-capital ratio, as defined by the ONEOK 2011 Credit Agreement, was 47.1 percent, and ONEOK was in compliance with all covenants under the ONEOK 2011 Credit
 
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Agreement.  At March 31, 2012, ONEOK had $419.8 million of commercial paper outstanding and $2.0 million in letters of credit issued, leaving approximately $778.2 million of credit available under the ONEOK 2011 Credit Agreement.

The ONEOK 2011 Credit Agreement is available to repay our commercial paper notes, if necessary.  Amounts outstanding under the commercial paper program reduce the borrowing capacity under the ONEOK 2011 Credit Agreement.

ONEOK Partners 2011 Credit Agreement - The ONEOK Partners 2011 Credit Agreement, which is scheduled to expire in August 2016, contains certain financial, operational and legal covenants.  Among other things, these covenants include maintaining a ratio of indebtedness to adjusted EBITDA (EBITDA, as defined in the ONEOK Partners 2011 Credit Agreement, adjusted for all noncash charges and increased for projected EBITDA from certain lender-approved capital expansion projects) of no more than 5.0 to 1.  If ONEOK Partners consummates one or more acquisitions in which the aggregate purchase price is $25 million or more, the allowable ratio of indebtedness to adjusted EBITDA will increase to 5.5 to 1 for the quarter of the acquisition and the two following quarters.  Upon breach of certain covenants by ONEOK Partners in the ONEOK Partners 2011 Credit Agreement, amounts outstanding under the ONEOK Partners 2011 Credit Agreement, if any, may become due and payable immediately.
 
The ONEOK Partners 2011 Credit Agreement includes a $100-million sublimit for the issuance of standby letters of credit and also features an option to request an increase in the size of the facility to an aggregate of $1.7 billion from $1.2 billion by either commitments from new lenders or increased commitments from existing lenders.

The ONEOK Partners 2011 Credit Agreement is available to repay ONEOK Partners’ commercial paper notes, if necessary.  Amounts outstanding under the commercial paper program reduce the borrowing capacity under the ONEOK Partners 2011 Credit Agreement.

At March 31, 2012, ONEOK Partners’ ratio of indebtedness to adjusted EBITDA was 2.6 to 1, and ONEOK Partners was in compliance with all covenants under the ONEOK Partners 2011 Credit Agreement.  At March 31, 2012, ONEOK Partners had no commercial paper outstanding, no letters of credit issued and no borrowings under the ONEOK Partners 2011 Credit Agreement.

Neither ONEOK nor ONEOK Partners guarantees the debt or other similar commitments to unaffiliated parties, and ONEOK does not guarantee the debt or other similar commitments of ONEOK Partners.

F.           LONG-TERM DEBT

In January 2012, we completed an underwritten public offering of $700 million, 4.25-percent senior notes due 2022.  The net proceeds from the offering, after deducting underwriting discounts and offering expenses, of approximately $694.3 million were used to repay amounts outstanding under our $1.2 billion commercial paper program and for general corporate purposes.
 
The indenture governing ONEOK’s senior notes due 2022 includes an event of default upon the acceleration of other indebtedness of $100 million or more.  Such events of default would entitle the trustee or the holders of 25 percent in aggregate principal amount of the outstanding senior notes due 2022 to declare those senior notes immediately due and payable in full.

ONEOK may redeem its senior notes due 2022 at a redemption price equal to the principal amount, plus accrued and unpaid interest, starting three months before the maturity date.  Prior to this date, ONEOK may redeem the senior notes due 2022, in whole or in part, at any time for a redemption price equal to the principal amount plus accrued and unpaid interest and a make-whole premium.  The redemption price will never be less than 100 percent of the principal amount of the respective note plus accrued and unpaid interest to the redemption date.  ONEOK’s senior notes due 2022 are senior unsecured obligations, ranking equally in right of payment with all of ONEOK’s existing and future unsecured senior indebtedness.
 
ONEOK Partners repaid its $350 million, 5.9-percent senior notes at maturity in April 2012 with a portion of the proceeds from its March 2012 equity issuance.

 
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G.           EQUITY

The following tables set forth the changes in equity attributable to us and our noncontrolling interests, including other comprehensive income, net of tax, for the periods indicated:
 
 
Three Months Ended
   
Three Months Ended
 
 
March 31, 2012
   
March 31, 2011
 
 
ONEOK Shareholders'
Equity
   
Noncontrolling Interests in Consolidated Subsidiaries
   
Total Equity
   
ONEOK Shareholders'
Equity
   
Noncontrolling Interests in Consolidated Subsidiaries
   
Total Equity
 
 
(Thousands of dollars)
 
Beginning balance
$ 2,238,573     $ 1,561,159     $ 3,799,732     $ 2,448,623     $ 1,472,218     $ 3,920,841  
Net income
  122,865       110,597       233,462       130,130       69,216       199,346  
Other comprehensive income (loss)
  27,276       13,564       40,840