Fair Value Measurements:
Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date (exit price). The authoritative guidance requires disclosure of the framework for measuring fair value and requires that fair value measurements be classified and disclosed in one of the following categories:
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Level 1: | Unadjusted quoted prices in active markets that are accessible at the measurement date for identical, unrestricted assets or liabilities. We consider active markets as those in which transactions for the assets or liabilities occur with sufficient frequency and volume to provide pricing information on an ongoing basis. |
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Level 2: | Quoted prices in markets that are not active, or inputs that are observable, either directly or indirectly, for substantially the full term of the asset or liability. This category includes those derivative instruments that we value using observable market data. Substantially all of these inputs are observable in the marketplace throughout the full term of the derivative instrument, can be derived from observable data or supported by observable levels at which transactions are executed in the marketplace. Instruments in this category include non-exchange traded derivatives such as over-the-counter commodity price swaps and certain investments. |
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Level 3: | Measured based on prices or valuation models that require inputs that are both significant to the fair value measurement and less observable from objective sources (i.e., supported by little or no market activity). Level 3 instruments primarily include derivative instruments, such as commodity options (price collars and sold puts) and other financial investments. |
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• | Our valuation models for derivative contracts are primarily industry-standard models (i.e., Black-Scholes) that consider various inputs including: (a) quoted forward prices for commodities, (b) time value, (c) volatility factors, (d) counterparty credit risk and (e) current market and contractual prices for the underlying commodities, as well as other relevant economic measures. |
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• | Our valuation methodology for investments is a discounted cash flow model that considers various inputs including: (a) the coupon rate specified under the debt instruments, (b) the current credit ratings of the underlying issuers, (c) collateral characteristics and (d) risk-adjusted discount rates. |
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• | Our valuation model for the Stockholder Value Appreciation Program (SVAP) is a Monte Carlo simulation that is based on a probability model and considers various inputs including: (a) the measurement date stock price, (b) time value and (c) historical and implied volatility. See Note 11, "Stock-Based Compensation," for a description of the SVAP. |
Financial assets and liabilities are classified based on the lowest level of input that is significant to the fair value measurement. Our assessment of the significance of a particular input to the fair value measurement requires judgment and may affect the valuation of the fair value of assets and liabilities and their placement within the fair value hierarchy levels.
Fair Value of Financial Instruments
The following table summarizes the valuation of our financial assets (liabilities) of our continuing operations by measurement levels:
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| | | | | | | | | | | | | | | | |
| | Fair Value Measurement Classification | | |
| | Quoted Prices in Active Markets for Identical Assets or Liabilities (Level 1) | | Significant Other Observable Inputs (Level 2) | | Significant Unobservable Inputs (Level 3) | | Total |
| | (In millions) |
As of December 31, 2012: | | | | | | | | |
Money market fund investments | | $ | 22 |
| | $ | — |
| | $ | — |
| | $ | 22 |
|
Deferred compensation plan assets | | 6 |
| | — |
| | — |
| | 6 |
|
Investments available-for-sale: | | | | | | | | |
Equity securities | | 7 |
| | — |
| | — |
| | 7 |
|
Auction rate securities | | — |
| | — |
| | 36 |
| | 36 |
|
Oil and gas derivative swap contracts | | — |
| | 6 |
| | — |
| | 6 |
|
Oil and gas derivative option contracts | | — |
| | — |
| | 115 |
| | 115 |
|
Stock-based compensation liability awards | | (2 | ) | | — |
| | — |
| | (2 | ) |
Total | | $ | 33 |
| | $ | 6 |
| | $ | 151 |
| | $ | 190 |
|
As of December 31, 2013: | | | | | | | | |
Money market fund investments | | $ | 2 |
| | $ | — |
| | $ | — |
| | $ | 2 |
|
Deferred compensation plan assets | | 8 |
| | — |
| | — |
| | 8 |
|
Investments available-for-sale: | | | | | | | | |
Equity securities | | 8 |
| | — |
| | — |
| | 8 |
|
Auction rate securities | | — |
| | — |
| | 39 |
| | 39 |
|
Oil and gas derivative swap contracts | | — |
| | (28 | ) | | — |
| | (28 | ) |
Oil and gas derivative option contracts | | — |
| | — |
| | (8 | ) | | (8 | ) |
Stock-based compensation liability awards | | (11 | ) | | — |
| | (5 | ) | | (16 | ) |
Total | | $ | 7 |
| | $ | (28 | ) | | $ | 26 |
| | $ | 5 |
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The determination of the fair values above incorporates various factors, which include not only the impact of our non-performance risk on our liabilities but also the credit standing of the counterparties involved and the impact of credit enhancements (such as cash deposits, letters of credit and priority interests), if any. We utilize credit default swap values to assess the impact of non-performance risk when evaluating both our liabilities to and receivables from counterparties.
Level 3 Fair Value Measurements
The following table sets forth a reconciliation of changes in the fair value of financial assets and liabilities classified as Level 3 in the fair value hierarchy for the indicated periods:
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| | | | | | | | | | | | | | | | |
| | Investments | | Derivatives | | Stock-based Compensation | | Total |
| | (In millions) |
Balance at January 1, 2011 | | $ | 30 |
| | $ | 48 |
| | $ | — |
| | $ | 78 |
|
Total realized or unrealized gains (losses): | |
| |
| |
| |
|
Included in earnings | | — |
| | 87 |
| | — |
| | 87 |
|
Included in other comprehensive income (loss) | | 4 |
| | — |
| | — |
| | 4 |
|
Purchases, issuances and settlements: | |
| |
| |
| |
|
Settlements | | (2 | ) | | (64 | ) | | — |
| | (66 | ) |
Transfers in and out of Level 3 | | — |
| | — |
| | — |
| | — |
|
Balance at December 31, 2011 | | $ | 32 |
| | $ | 71 |
| | $ | — |
| | $ | 103 |
|
Change in unrealized gains or losses included in earnings relating to
Level 3 assets and liabilities still held at December 31, 2011 | | $ | — |
| | $ | 56 |
| | $ | — |
| | $ | 56 |
|
Balance at January 1, 2012 | | $ | 32 |
| | $ | 71 |
| | $ | — |
| | $ | 103 |
|
Total realized or unrealized gains (losses): | |
| |
| |
| |
|
Included in earnings | | — |
| | 135 |
| | — |
| | 135 |
|
Included in other comprehensive income (loss) | | 4 |
| | — |
| | — |
| | 4 |
|
Purchases, issuances and settlements: | |
| |
| |
| |
|
Settlements | | — |
| | (91 | ) | | — |
| | (91 | ) |
Transfers in and out of Level 3 | | — |
| | — |
| | — |
| | — |
|
Balance at December 31, 2012 | | $ | 36 |
| | $ | 115 |
| | $ | — |
| | $ | 151 |
|
Change in unrealized gains or losses included in earnings relating to
Level 3 assets and liabilities still held at December 31, 2012 | | $ | — |
| | $ | 82 |
| | $ | — |
| | $ | 82 |
|
Balance at January 1, 2013 | | $ | 36 |
| | $ | 115 |
| | $ | — |
| | $ | 151 |
|
Total realized or unrealized gains (losses): | |
| |
| |
| |
|
Included in earnings | | (6 | ) | | (66 | ) | | (18 | ) | | (90 | ) |
Included in other comprehensive income (loss) | | 10 |
| | — |
| | — |
| | 10 |
|
Purchases, issuances and settlements: | |
| |
| |
| |
|
Settlements | | (1 | ) | | (57 | ) | | 13 |
| | (45 | ) |
Transfers in and out of Level 3 | | — |
| | — |
| | — |
| | — |
|
Balance at December 31, 2013 | | $ | 39 |
| | $ | (8 | ) | | $ | (5 | ) | | $ | 26 |
|
Change in unrealized gains or losses included in earnings relating to
Level 3 assets and liabilities still held at December 31, 2013 | | $ | (6 | ) | | $ | (10 | ) | | $ | — |
| | $ | (16 | ) |
Qualitative Disclosures about Unobservable Inputs for Level 3 Fair Value Measurements
Investments. We utilize a discounted cash flow model in the determination of the valuation of our auction rate securities classified as Level 3. This model considers various inputs including (a) the coupon rate specified under the debt instrument, (b) the current credit rating of the underlying issuers, (c) collateral characteristics and (d) risk-adjusted discount rates. The most significant unobservable factor in the determination of the investments fair value, however, is market liquidity for these instruments. A significant change in the liquidity of the market for auction rate securities would lead to a corresponding change in the fair value measurement of these investments.
As of December 31, 2013, we held $39 million of auction rate securities maturing beginning in 2033 that are classified as a Level 3 fair value measurement. This amount reflects an other than temporary decrease in the fair value of these investments since the time of purchase of $6 million ($4 million net of tax) recorded under the caption “Other income (expense) — Other, net" on our consolidated statement of operations as a result of our decision to liquidate our auction rate investments. As of December 31, 2012, we held $36 million of auction rate securities, which reflected a decrease in the fair value of $9 million ($6 million net of tax) recorded under the caption "Accumulated other comprehensive income" on our consolidated balance sheet. The debt instruments underlying our auction rate securities are mostly investment grade (rated BBB or better) and are guaranteed by the United States government or backed by private loan collateral. Please see Note 1, "Organization and Summary of Significant Accounting Policies" for additional disclosure regarding our auction rate securities.
Derivatives. Our valuation models for Level 3 derivative option contracts are primarily industry-standard models that consider various factors, including certain significant unobservable inputs such as (a) quoted forward prices for commodities, (b) volatility factors and (c) counterparty credit risk. The calculation of the fair value of our option contracts requires the use of an option-pricing model. The estimated future prices are compared to the strike prices fixed by the hedge agreements, and the resulting estimated future cash inflows or outflows over the lives of the hedges are discounted to calculate the fair value of the derivative contracts. These pricing and discounting variables are sensitive to market volatility as well as changes in future price forecasts, regional price differences and interest rates. Significant increases (decreases) in the quoted forward prices for commodities generally lead to corresponding decreases (increases) in the fair value measurement of our oil and gas derivative contracts. Significant changes in the volatility factors utilized in our option-pricing model can cause significant changes in the fair value measurement of our oil and gas derivative contracts.
The determination of the fair values of derivative instruments incorporates various factors that include not only the impact of our non-performance risk on our liabilities but also the credit standing of the counterparties involved and the impact of credit enhancements (such as cash deposits, letters of credit and priority interests). Historically, we have not experienced significant changes in the fair value of our derivative contracts resulting from changes in counterparty credit risk as the counterparties for all of our hedging transactions have an “investment grade” credit rating.
Stock-Based Compensation. The calculation of the fair value of the SVAP liability requires the use of a probability-based Monte Carlo simulation, which requires the use of unobservable inputs. The simulation predicts multiple scenarios of future stock return over the performance period, which are discounted to calculate the fair value. The fair value is recognized over a service period derived from the simulation. Future stock returns and discounting variables are sensitive to market volatility. Significant increases (decreases) in the volatility factors utilized in our option-pricing model can cause significant increases (decreases) in the fair value measurement of the SVAP liability.
Quantitative Disclosures about Unobservable Inputs for Level 3 Fair Value Measurements
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| | | | | | | | | | | | | |
| | Estimated Fair Value Asset (Liability) | | Quantitative Information about Level 3 Fair Value Measurements |
Instrument Type | | Valuation Technique | | Unobservable Input | | Range |
| | (In millions) | | | | | | | | |
Oil option positions | | $ | (9 | ) | | Option model | | NYMEX Oil price forward curve | | $86.29 | — | $98.77 |
| | | | | | Oil price volatility curves | | 14.33 | % | — | 23.22% |
| | | | | | Credit risk | | 0.01 | % | — | 0.89% |
Natural gas option positions | | $ | 1 |
| | Option model | | NYMEX Natural gas price
forward curve | | $4.01 | — | $4.42 |
| | | | | | Natural gas price volatility curves | | 18.74 | % | — | 50.02% |
| | | | | | Credit risk | | 0.01 | % | — | 1.58% |
SVAP | | $ | (5 | ) | | Monte Carlo | | Historical volatility | |
|
| | 37.4% |
| | | | | | Implied volatility | |
|
| | 41.2% |
The underlying inputs in the determination of the valuation of our auction rate securities are developed by a third party and, therefore, not included in the quantitative analysis above.
Fair Value of Debt
The estimated fair value of our notes, based on quoted prices in active markets (Level 1) as of December 31, was as follows:
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| | | | | | | | |
| | 2013 | | 2012 |
| | (In millions) |
5¾% Senior Notes due 2022 | | $ | 767 |
| | $ | 836 |
|
5⅝% Senior Notes due 2024 | | 1,025 |
| | 1,074 |
|
7⅛% Senior Subordinated Notes due 2018 | | 624 |
| | 630 |
|
6⅞% Senior Subordinated Notes due 2020 | | 755 |
| | 749 |
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Any amounts outstanding under our credit arrangements at December 31, 2013 and 2012 are stated at cost, which approximates fair value. Please see Note 9, "Debt."
