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The $1 billion deal.

The $1 Billion Deal A Killing Combination of Clauses Put Arkla's Future In Arkoma's Hands

In September 1989, when it was revealed that the final purchase price Arkla Gas Co. paid Arkoma Production Co. for its reserves and drilling operations was $174.8 million, the public was shocked and a second Public Service Commission investigation was launched.

What few realize - but Arkla's staff did by 1986 - is that the Arkoma deal signed in December 1982 contained a deadly combination of clauses that allowed oilman Jerry Jones to potentially bankrupt the company. Arkla's staff concluded that the company's potential liability to Arkoma under the contract was nearly $1 billion.

How? By combining the following three factors:

* A "take-or-pay" clause that required Arkla to purchase 75 percent of any gas Jones could either drill for, or buy, in Arkla's five-state region over the next 15 years.

* All of Jones' gas had to be purchased by Arkla at the maximum price level the law would allow. Gas prices were undergoing step-by-step deregulation in the 1980s and as the gas glut of the mid-1980s occurred Jones' fixed, regulated price continued upward, while the open market price for gas dropped, creating a disastrous spread for Arkla.

* Jones as the seller had the one-sided ability in almost all cases to negotiate his price with Arkla, while Arkla had limited, nearly non-existent negotiating powers. This unilateral sales agreement was called "unprecedented" by a utility attorney who reviewed it.

In summary, Jones had the ability to buy gas at substantially cheaper prices, then turn around and sell at least 75 percent of the gas to Arkla, whether they wanted it or not. If he had desired, Jones could have gone all over the five-state area, found producers getting paid less than the maximum market rate for gas, struck deals with them and then forced the gas down Arkla's throat.

Skyrocketing Gas Prices

This is exactly what Jones did with Stephens Production Co. in the spring of 1983 by purchasing the rights to their wells in the Cecil and Aetna fields which were producing for 55 cents and 16 cents per thousand cubic feet, respectively. He then sold the gas to Arkla for $3 per thousand cubic feet, splitting the profits with Stephens and dramatically increasing the cost Arkla had to pay for gas.

Trying to swallow Arkoma's prodigious production, some gas sources contacted believe that Arkla purchased Entex Inc. with its 1.24 million customer base and Mississippi River Transmission Corp. in order to find new customers. Without them, Arkla would have been left with a huge, expensive supply of unwanted gas.

Arkla officials this February detailed their concerns in an "Arkoma Resolution Briefing Sheet" which they gave to the Arkansas Public Service Commission. In the section titled, "Context: Where Arkla was in 1985-86" one entry reads: "Unlimited potential for the dedication of additional gas under the contract." It goes on to note, "Arkla began intense settlement efforts with JMC (Arkoma's successor) in early 1986" to break the contract because of those concerns.

When Jones signed the Arkoma contract in December 1982, then-Chairman Sheffield Nelson told the Arkla board in an internal memorandum that "this is one of the best deals we have made...". Nelson cited concerns over gas supplies and testified at a 1983 hearing before the Arkansas Public Service Commission that gas prices were going to rise when deregulation was phased in over the next five years. He said the Arkoma deal would ensure that Arkla didn't run out of gas, or have to pay too much. Nelson also said it would allow Arkla to save on drilling expense.

Yet, at the time the deal was forged, Arkla had a 15-year supply of gas on hand; it had an internal geologic study of its Arkoma Basin holdings showing them to be potentially lucrative; Arkla geologist Leonard E. Jordan said just months before that Arkla would be "able to drill this field for years to is recommended that Arkla not farm out (sell) any of its interest..."; and Arkla had many producers like Stephens Production Co. locked in at well below market rates.

Countering Nelson's 1983 PSC testimony about the potential gas shortage, the heads of Arkansas Western Gas and Arkansas Oklahoma Gas Corp. both correctly informed the PSC a gas glut was in progress. One of them, AOG's Emon A. Mahoney Jr., in a 1989 letter to Arkansas Democrat Publisher Walter Hussman described Nelson's Arkoma deal as, at best, a "colossal blunder."
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Title Annotation:Arkla Inc. and Arkoma Production Co. gas purchasing contract
Author:Walker, Wythe, Jr.; Kern, David F.
Publication:Arkansas Business
Date:Apr 9, 1990
Previous Article:Oily deals: pattern emerging in questionable gas deals in Arkansas, California and Canada.
Next Article:Are PSC investigations biased for Arkla?

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