OKE-2012.9.30-10Q
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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 September 30, 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 October 26, 2012, the Company had 204,613,070 shares of common stock outstanding.


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ONEOK, Inc.
TABLE OF CONTENTS


Page No.
 
 
 
 
 
 
 
 

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,” in this Quarterly Report 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 on Form 10-K, Quarterly Reports on Form 10-Q, 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.


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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
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 $1.2 billion revolving credit agreement dated April 5, 2011
ONEOK Partners
ONEOK Partners, L.P.
ONEOK Partners 2011 Credit Agreement
ONEOK Partners’ $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
POP
Percent of Proceeds

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Quarterly Report(s)
Quarterly Report(s) on Form 10-Q
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

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PART I - FINANCIAL INFORMATION
ITEM 1.  FINANCIAL STATEMENTS
ONEOK, Inc. and Subsidiaries
 

 

 

 
CONSOLIDATED  STATEMENTS OF INCOME
 

 

 

 
 
Three Months Ended

Nine Months Ended
 
September 30,

September 30,
(Unaudited)
2012

2011

2012

2011
 
(Thousands of dollars, except per share amounts)
Revenues
$
3,028,775


$
3,529,359


$
8,972,635


$
10,734,757

Cost of sales and fuel
2,474,803


2,996,735


7,226,114


9,053,423

Net margin
553,972


532,624


1,746,521


1,681,334

Operating expenses
 


 


 


 

Operations and maintenance
206,048


185,127


603,055


575,658

Depreciation and amortization
81,434


75,953


249,429


234,103

Goodwill impairment




10,255



General taxes
23,157


22,134


81,471


76,893

Total operating expenses
310,639


283,214


944,210


886,654

Gain (loss) on sale of assets
(420
)

(69
)

603


(791
)
Operating income
242,913


249,341


802,914


793,889

Equity earnings from investments (Note K)
28,591


32,029


92,380


93,665

Allowance for equity funds used during construction
3,302


759


6,126


1,625

Other income
5,049


184


11,495


1,069

Other expense
(919
)

(13,285
)

(3,990
)

(13,535
)
Interest expense (net of capitalized interest of $11,802, $6,469, $30,521 and $13,904, respectively)
(71,364
)

(73,841
)

(218,714
)

(228,688
)
Income before income taxes
207,572


195,187


690,211


648,025

Income taxes
(42,584
)

(34,028
)

(156,835
)

(154,252
)
Income from continuing operations
164,988


161,159


533,376


493,773

Income from discontinued operations, net of tax (Note B)


(279
)

762


1,219

Gain on sale of discontinued operations, net of tax (Note B)




13,517



Net income
164,988


160,880


547,655


494,992

Less: Net income attributable to noncontrolling interests
99,769


100,559


298,578


249,399

Net income attributable to ONEOK
$
65,219


$
60,321


$
249,077


$
245,593

Amounts attributable to ONEOK:
 


 


 


 

Income from continuing operations
$
65,219


$
60,600


$
234,798


$
244,374

Income from discontinued operations


(279
)

14,279


1,219

Net income
$
65,219


$
60,321


$
249,077


$
245,593

Basic earnings per share:
 


 


 


 

Income from continuing operations (Note I)
$
0.32


$
0.29


$
1.14


$
1.16

Income from discontinued operations




0.07


0.01

Net income
$
0.32


$
0.29


$
1.21


$
1.17

Diluted earnings per share:
 


 


 


 

Income from continuing operations (Note I)
$
0.31


$
0.29


$
1.11


$
1.13

Income from discontinued operations


(0.01
)

0.07


0.01

Net Income
$
0.31


$
0.28


$
1.18


$
1.14

Average shares (thousands)
 


 


 


 

Basic
205,005


206,606


206,638


210,440

Diluted
209,960


211,940


211,198


215,454

Dividends declared per share of common stock
$
0.33


$
0.28


$
0.94


$
0.80

See accompanying Notes to Consolidated Financial Statements.

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ONEOK, Inc. and Subsidiaries
 
 
 
 
 
 
 
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
 
 
 
 
 
 
 
Three Months Ended
 
Nine Months Ended
 
September 30,
 
September 30,
(Unaudited)
2012
 
2011
 
2012
 
2011
 
(Thousands of dollars)
Net income
$
164,988

 
$
160,880

 
$
547,655

 
$
494,992

Other comprehensive income (loss), net of tax
 

 
 

 
 

 
 

Unrealized gains (losses) on energy marketing and risk-management assets/liabilities, net of tax of $12,244, $14,194, $(2,146) and $10,487, respectively
(30,383
)
 
(37,842
)
 
4,520

 
(38,004
)
Realized (gains) losses in net income, net of tax of $6,143, $10,193, $12,954 and $22,127, respectively
(20,973
)
 
(15,814
)
 
(44,675
)
 
(32,522
)
Unrealized holding gains (losses) on available-for-sale securities, net of tax of $(57), $31, $(132) and $234, respectively
90

 
(331
)
 
210

 
(370
)
Change in pension and postretirement benefit plan liability, net of tax of $3,644, $2,947, $10,932 and $8,842, respectively
(5,778
)
 
(4,672
)
 
(17,330
)
 
(14,017
)
Other, net of tax of $0, $11, $0 and $73, respectively

 
(18
)
 

 
(115
)
Total other comprehensive income (loss), net of tax
(57,044
)
 
(58,677
)
 
(57,275
)
 
(85,028
)
Comprehensive income
107,944

 
102,203

 
490,380

 
409,964

Less: Comprehensive income attributable to noncontrolling interests
77,561

 
85,189

 
275,658

 
230,142

Comprehensive income attributable to ONEOK
$
30,383

 
$
17,014

 
$
214,722

 
$
179,822

See accompanying Notes to Consolidated Financial Statements.

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ONEOK, Inc. and Subsidiaries
 
 
 
CONSOLIDATED BALANCE SHEETS
 

 

September 30,

December 31,
(Unaudited)
2012

2011
Assets
(Thousands of dollars)
Current assets
 

 
Cash and cash equivalents
$
978,825


$
65,953

Accounts receivable, net
984,724


1,339,933

Gas and natural gas liquids in storage
644,719


549,915

Commodity imbalances
57,303


63,452

Energy marketing and risk management assets (Notes C and D)
70,324


40,280

Other current assets
220,135


185,143

Assets of discontinued operations (Note B)


74,136

Total current assets
2,956,030


2,318,812

Property, plant and equipment
 


 

Property, plant and equipment
12,404,878


11,177,934

Accumulated depreciation and amortization
2,914,496


2,733,601

Net property, plant and equipment
9,490,382


8,444,333

Investments and other assets
 


 

Investments in unconsolidated affiliates (Note K)
1,218,282


1,223,398

Goodwill and intangible assets
998,122


1,014,127

Other assets
701,491


695,965

Total investments and other assets
2,917,895


2,933,490

Total assets
$
15,364,307


$
13,696,635

See accompanying Notes to Consolidated Financial Statements.

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ONEOK, Inc. and Subsidiaries
 

 
CONSOLIDATED BALANCE SHEETS
 

 
(Continued)
 
 
 

September 30,

December 31,
(Unaudited)
2012

2011
Liabilities and equity
(Thousands of dollars)
Current liabilities
 

 
Current maturities of long-term debt
$
11,140


$
364,391

Notes payable (Note E)
676,747


841,982

Accounts payable
1,153,750


1,341,718

Commodity imbalances
213,367


202,206

Energy marketing and risk management liabilities (Notes C and D)
25,856


137,680

Other current liabilities
358,253


345,383

Liabilities of discontinued operations (Note B)


12,815

Total current liabilities
2,439,113


3,246,175

Long-term debt, excluding current maturities (Note F)
6,517,464


4,529,551

Deferred credits and other liabilities





Deferred income taxes
1,539,960


1,446,591

Other deferred credits
692,211


674,586

Total deferred credits and other liabilities
2,232,171


2,121,177

Commitments and contingencies (Note M)





Equity (Note G)
 


 

ONEOK shareholders’ equity:
 


 

Common stock, $0.01 par value:
 


 

authorized 600,000,000 shares; issued 245,811,180 shares and outstanding 204,598,717 shares at September 30, 2012; issued 245,809,848 shares and
outstanding 206,509,960 shares at December 31, 2011
2,458


2,458

Paid-in capital
1,337,045


1,417,185

Accumulated other comprehensive loss (Note H)
(240,476
)

(206,121
)
Retained earnings
2,015,008


1,960,374

Treasury stock, at cost: 41,212,463 shares at September 30, 2012, and
39,299,888 shares at December 31, 2011
(1,048,329
)

(935,323
)
Total ONEOK shareholders’ equity
2,065,706


2,238,573

Noncontrolling interests in consolidated subsidiaries
2,109,853


1,561,159

Total equity
4,175,559


3,799,732

Total liabilities and equity
$
15,364,307


$
13,696,635

See accompanying Notes to Consolidated Financial Statements.
 

 
 


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ONEOK, Inc. and Subsidiaries
 

 
CONSOLIDATED STATEMENTS OF CASH FLOWS
 

 
 
Nine Months Ended
 
September 30,
(Unaudited)
2012

2011
 
(Thousands of dollars)
Operating activities
 

 
Net income
$
547,655


$
494,992

Depreciation and amortization
249,437


234,201

Impairment of goodwill
10,255



Gain on sale of discontinued operations
(13,517
)


Reclassified loss on energy price risk management assets and liabilities
29,861



Equity earnings from investments
(92,380
)

(93,665
)
Distributions received from unconsolidated affiliates
92,996


87,151

Deferred income taxes
170,657


200,961

Share-based compensation expense
35,970


39,297

Allowance for equity funds used during construction
(6,126
)

(1,625
)
Loss (gain) on sale of assets
(603
)

791

Other
(1,770
)

(1,260
)
Changes in assets and liabilities:
 


 

Accounts receivable
350,350


194,631

Gas and natural gas liquids in storage
(94,362
)

26,975

Accounts payable
(156,483
)

(401
)
Commodity imbalances, net
17,310


(63,159
)
Energy marketing and risk management assets and liabilities
(205,008
)

(12,705
)
Other assets and liabilities
(171,383
)

(76,565
)
Cash provided by operating activities
762,859


1,029,619

Investing activities
 


 

Capital expenditures (less allowance for equity funds used during construction)
(1,238,908
)

(862,310
)
Proceeds from sale of discontinued operations, net of cash sold
32,946



Contributions to unconsolidated affiliates
(21,284
)

(51,686
)
Distributions received from unconsolidated affiliates
25,756


16,158

Proceeds from sale of assets
1,918


951

Other
988



Cash used in investing activities
(1,198,584
)

(896,887
)
Financing activities
 


 

Borrowing (repayment) of notes payable, net
(165,235
)

93,145

Issuance of debt, net of discounts
1,994,693


1,295,450

Long-term debt financing costs
(15,030
)

(10,986
)
Repayment of debt
(359,251
)

(724,405
)
Repurchase of common stock
(150,000
)

(300,108
)
Issuance of common stock
7,068


7,142

Issuance of common units, net of issuance costs
459,680



Dividends paid
(194,443
)

(169,337
)
Distributions to noncontrolling interests
(237,744
)

(206,260
)
Cash provided by (used in) financing activities
1,339,738


(15,359
)
Change in cash and cash equivalents
904,013


117,373

Change in cash and cash equivalents included in discontinued operations
8,859


1,898

Change in cash and cash equivalents from continuing operations
912,872


119,271

Cash and cash equivalents at beginning of period
65,953


30,341

Cash and cash equivalents at end of period
$
978,825


$
149,612

See accompanying Notes to Consolidated Financial Statements.

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ONEOK, Inc. and Subsidiaries
 
 
 
 
 
 
 
CONSOLIDATED STATEMENT OF CHANGES IN EQUITY
 
 
 
 
 
ONEOK Shareholders’ Equity
(Unaudited)
Common Stock Issued
 
Common Stock
 
Paid-in Capital
 
Accumulated Other Comprehensive Income (Loss)
 
(Shares)
 
(Thousands of dollars)
December 31, 2011
245,809,848

 
$
2,458

 
$
1,417,185

 
$
(206,121
)
Net income

 

 

 

Other comprehensive income (loss)

 

 

 
(34,355
)
Repurchase of common stock

 

 

 

Common stock issued
1,332

 

 
(26,604
)
 

Common stock dividends -
 

 
 

 
 

 
 

$0.94 per share

 

 

 

Issuance of common units of ONEOK Partners

 

 
(51,100
)
 

Distributions to noncontrolling interests

 

 

 

Other

 

 
(2,436
)
 

September 30, 2012
245,811,180

 
$
2,458

 
$
1,337,045

 
$
(240,476
)
See accompanying Notes to Consolidated Financial Statements.

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ONEOK, Inc. and Subsidiaries
 
 
 
 
 
 
 
CONSOLIDATED STATEMENT OF CHANGES IN EQUITY
 
 
 
 
(Continued)
 
 
 
 
 
 
 
 
ONEOK Shareholders’ Equity
 
 
 
 
(Unaudited)
Retained Earnings
 
Treasury Stock
 
Noncontrolling Interests in Consolidated Subsidiaries
 
Total Equity
 
(Thousands of dollars)
December 31, 2011
$
1,960,374

 
$
(935,323
)
 
$
1,561,159

 
$
3,799,732

Net income
249,077

 

 
298,578

 
547,655

Other comprehensive income (loss)

 

 
(22,920
)
 
(57,275
)
Repurchase of common stock

 
(150,000
)
 

 
(150,000
)
Common stock issued

 
36,994

 

 
10,390

Common stock dividends -
 

 
 

 
 

 
 

$0.94 per share
(194,443
)
 

 

 
(194,443
)
Issuance of common units of ONEOK Partners

 

 
510,780

 
459,680

Distributions to noncontrolling interests

 

 
(237,744
)
 
(237,744
)
Other

 

 

 
(2,436
)
September 30, 2012
$
2,015,008

 
$
(1,048,329
)
 
$
2,109,853

 
$
4,175,559


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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 and nine months ended September 30, 2012, are not necessarily indicative of the results that may be expected for a 12-month period.

Stock Split - In June 2012, we completed our previously announced two-for-one split of our common stock. We have adjusted all share and per-share amounts contained herein to be presented on a post-split basis.

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 our March 31, 2012, 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 either by creating 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 our March 31, 2012, Quarterly Report, and the impact was not material.

In September 2011, the FASB issued ASU 2011-08, “Testing Goodwill for Impairment,” which permits an entity to first assess qualitative factors to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying amount.  Under the amendments in this update, an entity is not required to calculate the fair value of a reporting unit unless the entity determines that it is more likely than not that its fair value is less than its carrying amount.  An entity has the option to bypass the qualitative assessment for any reporting unit in any period and proceed directly to performing the first step of the two-step goodwill impairment test.  An entity may also resume performing the qualitative assessment in any subsequent period.  We adopted this guidance beginning with our July 1, 2012, goodwill impairment test, and it did not impact our financial position or results of operations.

In July 2012, the FASB issued ASU 2012-02, “Testing Indefinite-lived Intangible Assets for Impairment,” which allows companies to perform a “qualitative” assessment to determine whether further impairment testing of indefinite-lived intangible assets is necessary.  Under the revised standard, an entity is not required to calculate the fair value of an indefinite-lived intangible asset and perform the quantitative impairment test unless the entity determines that it is more likely than not that the asset is impaired.  An entity has the option to bypass the qualitative assessment and perform the quantitative impairment test for any indefinite-lived intangible assets in any period.  We expect the impact of this guidance to be immaterial when we adopt it for our annual assessments beginning in 2013.

Goodwill Impairment Test - We assess our goodwill for impairment at least annually on July 1, unless events or changes in circumstances indicate an impairment may have occurred before that time. As a result of the 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 that 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

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earnings for the three months ended March 31, 2012.  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.

At July 1, 2012, we assessed qualitative factors to determine whether it was more likely than not that the fair value of each of our reporting units was less than its carrying amount. After assessing qualitative factors (including macroeconomic conditions, industry and market considerations, cost factors and overall financial performance), we determined that no further testing was necessary.

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 $32.9 million and recognized a gain on the sale of approximately $13.5 million, net of taxes of $8.3 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.

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
 
Nine Months Ended
 
January 31,
 
September 30,
 
September 30,
 
2012
 
2011
 
2011
 
(Thousands of dollars)
Revenues
$
27,607

 
$
65,832

 
$
241,798

Cost of sales and fuel
25,961

 
64,463

 
233,942

Net margin
1,646

 
1,369

 
7,856

Operating costs
408

 
1,797

 
5,814

Depreciation and amortization
8

 
33

 
98

Operating income
1,230

 
(461
)
 
1,944

Other income (expense), net

 
(93
)
 
(78
)
Income taxes
(468
)
 
275

 
(647
)
Income from discontinued operations, net
$
762

 
$
(279
)
 
$
1,219

 
The following table discloses the major classes of discontinued assets and liabilities included on our Consolidated Balance Sheet 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.

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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.  We measure the fair value of groups of financial assets and liabilities consistent with how a market participant would price the net risk exposure at the measurement date.

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.


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Recurring Fair Value Measurements - The following tables set forth our recurring fair value measurements for our continuing and discontinued operations for the periods indicated:
 
September 30, 2012
 
Level 1
 
Level 2
 
Level 3
 
Netting
 
Total
 
(Thousands of dollars)
Assets
 
 
 
 
 
 
 
 
 
Derivatives (a)
 
 
 
 
 
 
 
 
 
Commodity contracts
 
 
 
 
 
 
 
 
 
Financial contracts
$
140,955

 
$
25,252

 
$
20,946

 
$

 
$
187,153

Physical contracts

 
3,205

 
2,707

 

 
5,912

Netting

 

 

 
(126,717
)
 
(126,717
)
Interest-rate contracts

 
7,600

 

 

 
7,600

Total derivatives
140,955

 
36,057

 
23,653

 
(126,717
)
 
73,948

Trading securities (b)
6,759

 

 

 

 
6,759

Available-for-sale investment securities (c)
2,292

 

 

 

 
2,292

Total assets
$
150,006

 
$
36,057

 
$
23,653

 
$
(126,717
)
 
$
82,999

Liabilities
 

 
 

 
 

 
 

 
 

Derivatives (a)
 
 
 

 
 

 
 

 
 

Commodity contracts
 
 
 
 
 
 
 
 
 

Financial contracts
$
(118,050
)
 
$
(16,651
)
 
$
(8,336
)
 
$

 
$
(143,037
)
Physical contracts

 
(630
)
 
(1,163
)
 

 
(1,793
)
Netting

 

 

 
118,554

 
118,554

Total derivatives
(118,050
)
 
(17,281
)
 
(9,499
)
 
118,554

 
(26,276
)
Fair value of firm commitments (d)

 

 
(2,167
)
 

 
(2,167
)
Total liabilities
$
(118,050
)
 
$
(17,281
)
 
$
(11,666
)
 
$
118,554

 
$
(28,443
)
(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 September 30, 2012, we held $8.2 million of cash collateral and had posted $7.6 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.

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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 December 31, 2011, table above includes balances for ONEOK Energy Marketing Company that have been reflected as discontinued operations in our Consolidated Balance Sheet.  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 independent 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

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the fair value measurement of our swaps, forwards and firm commitments are the unpublished forward basis and 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)
July 1, 2012
$
37,745

 
$
(4,250
)
 
$
33,495

Total realized/unrealized gains (losses):
 
 
 

 
 

Included in earnings (a)
(4,366
)
 
2,083

 
(2,283
)
Included in other comprehensive income (loss)
(20,295
)
 

 
(20,295
)
Transfers into Level 3
385

 

 
385

Transfers out of Level 3
685

 

 
685

September 30, 2012
$
14,154

 
$
(2,167
)
 
$
11,987

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 September 30, 2012 (a)
$
51

 
$
205

 
$
256

(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)
July 1, 2011
$
23,858

 
$
(21,212
)
 
$
2,646

Total realized/unrealized gains (losses):
 
 
 

 
 

Included in earnings (a)
(5,444
)
 
9,881

 
4,437

Included in other comprehensive income (loss)
9,717

 

 
9,717

Transfers into Level 3
1,284

 

 
1,284

Transfers out of Level 3
(3,682
)
 

 
(3,682
)
September 30, 2011
$
25,733

 
$
(11,331
)
 
$
14,402

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 September 30, 2011 (a)
$
14,115

 
$
(3,229
)
 
$
10,886

(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, 2012
$
25,104

 
$
(7,283
)
 
$
17,821

Total realized/unrealized gains (losses):
 
 
 

 
 

Included in earnings (a)
(13,153
)
 
5,116

 
(8,037
)
Included in other comprehensive income (loss)
6,384

 

 
6,384

Sale of discontinued operations
(3,636
)
 

 
(3,636
)
Transfers out of Level 3
(545
)
 

 
(545
)
September 30, 2012
$
14,154

 
$
(2,167
)
 
$
11,987

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 September 30, 2012 (a)
$
352

 
$
(296
)
 
$
56

(a) - Reported in revenues and cost of sales and fuel in our Consolidated Statements of Income.

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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)
(28,352
)
 
18,205

 
(10,147
)
Included in other comprehensive income (loss)
1,160

 

 
1,160

Transfers into Level 3
4,739

 

 
4,739

Transfers out of Level 3
(1,080
)
 

 
(1,080
)
September 30, 2011
$
25,733

 
$
(11,331
)
 
$
14,402

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 September 30, 2011 (a)
$
20,620

 
$
(6,978
)
 
$
13,642

(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.

Our Level 3 fair value measurements based on unobservable inputs, excluding the portion of our fair value measurements based on third-party pricing information without adjustment, are not material at September 30, 2012.
 
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 are classified as Level 1.  Our notes payable are 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 $7.4 billion at September 30, 2012, and $5.6 billion at December 31, 2011.  The book value of long-term debt, including current maturities, was $6.5 billion and $4.9 billion at September 30, 2012, and December 31, 2011, respectively.  The estimated fair value of the aggregate of ONEOK’s and ONEOK Partners’ senior notes outstanding was determined using quoted market prices for similar issues with similar terms and maturities.  Our consolidated long-term debt is 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

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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 interest-rate swaps.

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 may 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 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 notional values totaling $500 million at December 31, 2011.  In January 2012, ONEOK entered into additional interest-rate swaps with notional amounts totaling $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 (loss) that will be amortized to interest expense over the term of the related debt.  

ONEOK Partners has 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

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the debt is issued.  At December 31, 2011, ONEOK Partners had interest-rate swaps with notional values totaling $750 million.  During the nine months ended September 30, 2012, ONEOK Partners entered into additional interest-rate swaps with notional amounts totaling $650 million.  Upon ONEOK Partners’ debt issuance in September 2012, ONEOK Partners settled $1 billion of its interest-rate swaps and realized a loss of $124.9 million in accumulated other comprehensive income (loss) that will be amortized to interest expense over the term of the related debt.  At September 30, 2012, ONEOK Partners’ remaining interest-rate swaps with notional amounts totaling $400 million have settlement dates greater than 12 months.

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.

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.

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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.

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:
 
September 30, 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
$
73,544

(b)
 
$
(31,188
)
(b)
 
$
184,184

(c)
 
$
(73,346
)
(c)
Physical contracts
18

 
 
(85
)
 
 
62

 
 
(344
)
 
Interest-rate contracts
7,600

 
 

 
 

 
 
(128,666
)
 
Total derivatives designated as hedging instruments
81,162

 
 
(31,273
)
 
 
184,246

 
 
(202,356
)
 
Derivatives not designated as hedging instruments
 

 
 
 

 
 
 

 
 
 

 
Commodity contracts
 

 
 
 

 
 
 

 
 
 

 
Nontrading instruments
 

 
 
 

 
 
 

 
 
 

 
Financial contracts
87,342

 
 
(87,271
)
 
 
295,948

 
 
(323,170
)
 
Physical contracts
5,894

 
 
(1,708
)
 
 
38,733

 
 
(1,665
)
 
Trading instruments
 

 
 
 

 
 
 

 
 
 

 
Financial contracts
26,267

 
 
(24,578
)
 
 
111,920

 
 
(110,050
)
 
Total derivatives not designated as hedging instruments
119,503

 
 
(113,557
)
 
 
446,601

 
 
(434,885
)
 
Total derivatives
$
200,665

 
 
$
(144,830
)
 
 
$
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 $4.7 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. Includes $22.8 million of deferred net assets and ineffectiveness associated with cash flow hedges of inventory related to certain financial contracts that were used to hedge forecasted purchases and sales of natural gas. The deferred gains and losses associated with these assets have been reclassified from accumulated other comprehensive income (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 income (loss).


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Table of Contents

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:
 
 
 
September 30, 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
 
3.0

 
(12.3
)
 
21.2

 
(23.4
)
 
Swaps
 
2.1

 
(95.3
)
 
19.5

 
(111.9
)
- Crude oil and NGLs (MMbbl)
Swaps
 

 
(2.0
)
 

 
(2.9
)
Basis
 
 
 

 
 

 
 

 
 

- Natural gas (Bcf)
Forwards and swaps
 
3.8

 
(44.8
)
 
3.2

 
(82.8
)
Interest-rate contracts (Millions of dollars)
Forward-starting
swaps
 
$
400.0

 
$

 
$
1,250.0

 
$

Fair value hedges
 
 
 

 
 

 
 

 
 

Basis
 
 
 

 
 

 
 

 
 

- Natural gas (Bcf)
Forwards and swaps
 
74.3

 
(74.3
)
 
76.5

 
(77.0
)
Derivatives not designated as hedging instruments:
 
 

 
 

 
 

 
 

Fixed price
 
 
 

 
 

 
 

 
 

- Natural gas (Bcf)
Exchange futures
 
42.7

 
(34.1
)
 
76.9

 
(59.6
)
 
Forwards and swaps
 
77.7

 
(85.9
)
 
235.8

 
(253.4
)
 
Options
 
259.0

 
(261.7
)
 
33.6

 
(14.3
)
Basis
 
 
 

 
 

 
 

 
 

- Natural gas (Bcf)
Forwards and swaps
 
117.6

 
(119.5
)
 
216.9

 
(219.3
)
Index
 
 
 

 
 

 
 

 
 

- Natural gas (Bcf)
Forwards and swaps
 
18.7

 
(8.7
)
 
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 September 30, 2012, includes losses of approximately $14.5 million, net of tax, related to these hedges that will be recognized within the next 15 months as the forecasted transactions affect earnings.  If prices remain at current levels, we will recognize $16.2 million in net losses over the next 12 months, and we will recognize net gains of $1.7 million thereafter.  The remaining amounts deferred in accumulated other comprehensive income (loss) associated with derivative instruments are primarily attributable to our interest-rate swaps of which losses of $14.1 million will be reclassified into earnings during the next 12 months as the hedged items affect earnings.

For the nine months ended September 30, 2012, net margin in our Consolidated Statement 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.


24

Table of Contents

The following table sets forth the effects of cash flow hedges recognized in other comprehensive income (loss) for the periods indicated:
Derivatives in Cash Flow
Hedging Relationships
Three Months Ended
 
Nine Months Ended
September 30,
 
September 30,
2012
 
2011
 
2012
 
2011
 
(Thousands of dollars)
Commodity contracts
$
(41,452
)
 
$
60,217

 
$
39,461

 
$
63,762

Interest-rate contracts
(1,175
)
 
(112,253
)
 
(32,795
)
 
(112,253
)
Total gain (loss) recognized in other comprehensive income (loss) on derivatives (effective portion)
$
(42,627
)
 
$
(52,036
)
 
$
6,666

 
$
(48,491
)

The following tables set forth the effect of cash flow hedges on our Consolidated Statements of Income for the periods indicated:
Derivatives in Cash Flow
Hedging Relationships
Location of Gain (Loss) Reclassified from 
Accumulated Other Comprehensive Income
(Loss) into Net Income (Effective Portion)
Three Months Ended
September 30,
2012
 
2011
 
 
(Thousands of dollars)
Commodity contracts
Revenues
$
31,447

 
$
2,416

Commodity contracts
Cost of sales and fuel
(2,503
)
 
23,681

Interest-rate contracts
Interest expense
(1,828
)
 
(90
)
Total gain (loss) reclassified from accumulated other comprehensive income (loss) into net income on derivatives (effective portion)
$
27,116

 
$
26,007

Derivatives in Cash Flow
Hedging Relationships
Location of Gain (Loss) Reclassified from 
Accumulated Other Comprehensive Income
(Loss) into Net Income (Effective Portion)
Nine Months Ended
September 30,
2012
 
2011
 
 
(Thousands of dollars)
Commodity contracts
Revenues
$
127,477

 
$
32,292

Commodity contracts
Cost of sales and fuel
(65,940
)
 
22,745

Interest-rate contracts
Interest expense
(3,908
)
 
(388
)
Total gain (loss) reclassified from accumulated other comprehensive income (loss) into net income on derivatives (effective portion)
$
57,629

 
$
54,649

 
Ineffectiveness related to our cash flow hedges was not material for the three and nine months ended September 30, 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 and nine months ended September 30, 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 September 30, 2012 instruments that are not part of a hedging relationship in our Consolidated Statements of Income for our continuing and discontinued operations for the periods indicated:
Derivatives Not Designated as
Hedging Instruments
 Location of Gain
(Loss)
Three Months Ended
 
Nine Months Ended
September 30,
 
September 30,
2012
 
2011
 
2012
 
2011
 
 
(Thousands of dollars)
 
 
Commodity contracts - trading
Revenues
$
867

 
$
1,357

 
$
1,673

 
$
1,474

Commodity contracts - nontrading (a)
Cost of sales and fuel
601

 
4,991

 
4,924

 
15,498

Total gain recognized in income on derivatives
$
1,468

 
$
6,348

 
$
6,597

 
$
16,972

(a) - Amounts are presented net of deferred gains (losses) associated with derivatives entered into by our Natural Gas Distribution segment.


25

Table of Contents


Our Natural Gas Distribution segment held natural gas call options with premiums totaling $12.3 million and $10.0 million at September 30, 2012, and December 31, 2011, respectively.  The premiums are recorded in other current assets as these contracts are included in, and recoverable through, the monthly purchased-gas cost mechanism.  For the three and nine months ended September 30, 2012, we recorded gains of $2.8 million and $3.8 million, respectively, associated with the change in value of option contracts, which are deferred as part of our unrecovered purchased-gas costs. For the three and nine months ended September 30, 2011, we recorded losses of $8.4 million and $11.5 million, respectively, associated with the decline in value and expiration of option contracts, which are deferred as part of our unrecovered purchase-gas costs. The gains and losses associated with these derivative instruments are deferred as part of our unrecovered-gas costs.

Fair Value Hedges - Our Energy Services segment uses basis swaps to hedge the fair value of location price differentials related to certain firm transportation commitments.  Cost of sales and fuel in our Consolidated Statements of Income includes losses of $0.3 million and gains of $0.9 million for the three and nine months ended September 30, 2012, respectively, related to the change in fair value of derivatives designated as fair value hedges.  Revenues include gains of $0.2 million and losses of $0.1 million for the three and nine months ended