UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

FORM 10-Q

 

(Mark one)

For the quarterly period ended September 30, 2014

OR

For the transition period from             to             

Commission File Number: 001-12209

 

RANGE RESOURCES CORPORATION

(Exact Name of Registrant as Specified in Its Charter)

 

 

Registrant’s telephone number, including area code

(817) 870-2601

 

Former Name, Former Address and Former Fiscal Year, if changed since last report: Not applicable

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  þ    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 during the preceding 12 months (or for shorter period that the registrant was required to submit and post such files).

    Yes  þ    No  ¨

Indicate by check mark 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.

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

    Yes  ¨    No  þ

168,700,876 Common Shares were outstanding on October 29, 2014

 

 

 

 

 

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RANGE RESOURCES CORPORATION

FORM 10-Q

Quarter Ended September 30, 2014

Unless the context otherwise indicates, all references in this report to “Range,” “we,” “us,” or “our” are to Range Resources Corporation and its wholly-owned subsidiaries and its ownership interests in equity method investees.

TABLE OF CONTENTS

 

 

 

 

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PART I – FINANCIAL INFORMATION

RANGE RESOURCES CORPORATION

CONSOLIDATED BALANCE SHEETS

(In thousands, except share data)

See accompanying notes.

 

 

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RANGE RESOURCES CORPORATION

CONSOLIDATED STATEMENTS OF OPERATIONS

(Unaudited, in thousands, except per share data)

 

 

 

 

 

 

 

 

See accompanying notes.

 

 

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RANGE RESOURCES CORPORATION

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(Unaudited, in thousands)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

See accompanying notes.

 

 

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RANGE RESOURCES CORPORATION

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited, in thousands)

 

 

See accompanying notes.

 

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RANGE RESOURCES CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)

 

(1) SUMMARY OF ORGANIZATION AND NATURE OF BUSINESS

Range Resources Corporation (“Range,” “we,” “us,” or “our”) is a Fort Worth, Texas-based independent natural gas, natural gas liquids (“NGLs”) and oil company primarily engaged in the exploration, development and acquisition of natural gas and oil properties in the Appalachian and Southwestern regions of the United States. Our objective is to build stockholder value through consistent growth in reserves and production on a cost-efficient basis. Range is a Delaware corporation with our common stock listed and traded on the New York Stock Exchange under the symbol “RRC.”

(2) BASIS OF PRESENTATION

Presentation

These interim financial statements should be read in conjunction with the consolidated financial statements and notes thereto included in the Range Resources Corporation 2013 Annual Report on Form 10-K filed with the Securities and Exchange Commission (the “SEC”) on February 26, 2014. The results of operations for the third quarter and the nine months ended September 30, 2014 are not necessarily indicative of the results to be expected for the full year. These consolidated financial statements are unaudited but, in the opinion of management, reflect all adjustments necessary for fair presentation of the results for the periods presented. All adjustments are of a normal recurring nature unless otherwise disclosed. These consolidated financial statements, including selected notes, have been prepared in accordance with the applicable rules of the SEC and do not include all of the information and disclosures required by accounting principles generally accepted in the United States of America (“U.S. GAAP”) for complete financial statements. Certain reclassifications have been made to prior years reported amounts in order to conform with the current year presentation including reclassifications between accounts payable and accrued liabilities within cash flow from operating activities and a change in the presentation for our derivative activities. These reclassifications have no impact on previously reported net income, stockholders’ equity or cash flows.

De-designation of Commodity Derivative Contracts

Effective March 1, 2013, we elected to discontinue hedge accounting prospectively. After March 1, 2013, both realized and unrealized gains and losses are recognized in derivative fair value income or loss immediately each quarter as derivative contracts are settled and marked to market. For additional information, see Note 11.

 

(3) NEW ACCOUNTING STANDARDS

Not Yet Adopted

In May 2014, an accounting standards update was issued for “Revenue from Contracts with Customers,” which supersedes the revenue recognition requirements in “Topic 605, Revenue Recognition” and requires entities to recognize revenue in a way that depicts the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. The new guidance is effective for us for the reporting period beginning January 1, 2017, with early application not permitted. We are evaluating our existing revenue recognition policies to determine whether any contracts will be affected by the new requirements.

Recently Adopted

In February 2013, an accounting standards update was issued to provide guidance for the recognition, measurement, and disclosure of obligations resulting from joint and several liability arrangements for which the total amount of the obligation is fixed at the reporting date, except for obligations such as asset retirement and environmental obligations, contingencies, guarantees, income taxes and retirement benefits, which are separately addressed within U.S. GAAP. An entity is required to measure obligations resulting from joint and several liability arrangements for which the total amount of the obligation is fixed at the reporting date as the sum of (1) the amount the entity agreed to pay on the basis of its arrangement among its co-obligors and (2) any amount the entity expects to pay on behalf of its co-obligors. Disclosure of the nature of the obligation, including how the liability arose, the relationship with other co-obligors and the terms and conditions of the arrangement is required. In addition, the total outstanding amount under the arrangement, not reduced by the effect of any amounts that may be recoverable from other entities, plus the carrying amount of any liability or receivable recognized must be disclosed. This accounting standards update is effective for us beginning in first quarter 2014 and should be applied retrospectively for those in-scope obligations resulting from joint and several liability arrangements that exist at the beginning of 2014. Early adoption was permitted and we adopted this new standard in first quarter 2014 which did not have an impact on our consolidated results of operations, financial position or cash flows.

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In April 2014, an accounting standards update was issued that raised the threshold for a disposal to qualify as a discontinued operation and requires new disclosures of both discontinued operations and certain other material disposal transactions that do not meet the revised definition of a discontinued operation. Under the updated standard, a disposal of a component or group of components of an entity is required to be reported as discontinued operations if the disposal represents a strategic shift that has (or will have) a major effect on an entity’s operations and financial results when the component or group of components of the entity (1) has been disposed of by a sale, (2) has been disposed of other than by sale or (3) is classified as held for sale. This accounting standards update is effective for annual periods beginning on or after December 15, 2014 and is applied prospectively. Early adoption is permitted but only for disposals (or classifications that are held for sale) that have not been reported in financial statements previously issued or available for use. We adopted this new standard in first quarter 2014 and, as a result, the Conger Exchange defined and described in more detail below, is not reported as a discontinued operation.

(4) ACQUISITIONS AND DISPOSITIONS

Conger Exchange Transaction

In April 2014, we entered into an exchange agreement with EQT Corporation and certain of its affiliates (collectively, “EQT”) in which we sold our Conger assets in Glasscock and Sterling Counties, Texas in exchange for producing properties and other EQT assets in Virginia and $145.0 million in cash (“Conger Exchange”). We closed the exchange transaction on June 16, 2014. The assets exchanged meet the definition of a business under accounting standards and was recorded at fair value. We recognized a pre-tax gain of $275.2 million related to this exchange, before selling expenses of $5.0 million, which is recognized as a gain on sale of assets in our consolidated statement of operations for the nine months ended September 30, 2014. The combined carrying amount of our Conger assets prior to the exchange was $271.8 million. We are in the process of identifying and determining the fair value of the assets acquired and liabilities assumed as part of the Conger Exchange. The following table presents a preliminary estimate of the fair value of assets acquired and liabilities assumed in the transaction, pending final closing adjustments (in thousands):

 

In connection with the Conger Exchange, we acquired the remaining 50% interest held by EQT in Nora Gathering, LLC (“NGLLC”), a natural gas gathering operation, which we had previously accounted for using the equity method of accounting. As of June 16, 2014, we have consolidated NGLLC into our consolidated financial statements. Our previous 50% membership interest in NGLLC was remeasured to fair value on the acquisition date, resulting in a gain of $10.0 million which is recognized in gain on sale of assets in our consolidated statement of operations for the nine months ended September 30, 2014. We assumed trade receivables as part of the acquisition of NGLLC of $5.5 million, all of which we expect to collect.

For the period from June 16, 2014 through September 30, 2014, we recognized $18.4 million of natural gas, oil and NGLs sales and we recognized $14.6 million of field net operating income (defined as natural gas, oil and NGLs sales less direct operating expenses, production and ad valorem taxes and transportation expenses) from the property interests acquired in the Conger Exchange.

Conger Exchange Fair Value

Accounting standards define fair value as 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 (often referred to as the “exit price”). The fair value measurement is based on the assumptions of market participants and not those of the reporting entity. Therefore, entity-specific intentions do not impact the measurement of fair value unless those assumptions are consistent with market participant views.

The fair value of the Conger Exchange described above was based on an income approach which was supplemented by a market approach. For the natural gas and oil properties, the income approach uses significant inputs not observable in the market, which are Level 3 inputs. The significant inputs assumed include future production and capital, commodity prices, risk-adjusted discount rates, natural gas and oil pricing differentials, and projected reserve recovery factors. The market approach uses inputs such as recent market

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transactions in a similar geographic region and with similar production. The income approach for the natural gas gathering operations was based on a discounted future net cash flow model, which uses Level 3 inputs and was supplemented by a market approach.

Other 2014 Dispositions

In addition to the Conger Exchange above, in the nine months ended September 30, 2014, we sold miscellaneous proved property and inventory for proceeds of $2.1 million resulting in a pre-tax gain of $1.7 million.

2013 Dispositions

In September 2013, we sold our equity method investment in a drilling company for proceeds of $7.0 million and recognized a gain of $4.4 million. In addition, in third quarter 2013 we sold unproved leases in West Texas for proceeds of $2.6 million where we recognized a gain of $1.7 million and sold surface acreage in North Texas for proceeds of $5.3 million with a loss of $253,000 recognized.

In the nine months ended September 30, 2013, we completed the sale of certain of our Delaware and Permian Basin properties in southeast New Mexico and West Texas for a price of $275.0 million and we recognized pre-tax gain of $83.3 million, before selling expenses of $4.2 million. In addition, we also sold miscellaneous proved and unproved properties and inventory for proceeds of $26.0 million resulting in a pre-tax gain of $4.1 million.  

(5) INCOME TAXES

Income tax expense from operations was as follows (in thousands):

 

We compute our quarterly taxes under the effective tax rate method based on applying an anticipated annual effective rate to our year-to-date income, except for discrete items. Income taxes for discrete items are computed and recorded in the period that the specific transaction occurs. For third quarter and the nine months ended September 30, 2014 and 2013, our overall effective tax rate on operations was different than the federal statutory rate of 35% due primarily to state income taxes, valuation allowances and other permanent differences.

(6) INCOME PER COMMON SHARE

Basic income or loss per share attributable to common shareholders is computed as (1) income or loss attributable to common shareholders (2) less income allocable to participating securities (3) divided by weighted average basic shares outstanding. Diluted income or loss per share attributable to common stockholders is computed as (1) basic income or loss attributable to common shareholders (2) plus diluted adjustments to income allocable to participating securities (3) divided by weighted average diluted shares outstanding. The following tables set forth a reconciliation of income or loss attributable to common shareholders to basic income or loss attributable to common shareholders to diluted income or loss attributable to common shareholders (in thousands except per share amounts):

 

^(a) Restricted Stock Awards represent participating securities because they participate in nonforfeitable dividends or distributions with common equity owners. Income allocable to participating securities represents the distributed and undistributed earnings attributable to the participating securities. Participating securities, however, do not participate in undistributed net losses.

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The following table provides a reconciliation of basic weighted average common shares outstanding to diluted weighted average common shares outstanding (in thousands):

 

Weighted average common shares-basic for both the three months ended September 30, 2014 and 2013 excludes 2.9 million shares held in our deferred compensation plans (although all awards are issued and outstanding upon grant). Weighted average common shares-basic for both the nine months ended September 30, 2014 and 2013 excludes 2.8 million shares of restricted stock. Stock appreciation rights (“SARs”) of 351,000 for the three months ended September 30, 2014 were outstanding but not included in the computations of diluted income from operations per share because the grant prices of the SARs were greater than the average market price of the common stock. All SARs for the nine months ended September 30, 2014 were included in the computations of diluted income from operations per share because the grant prices of the SARs were all less than the average market price of the common stock. SARs of 796 for the three months ended September 30, 2013 and 181,000 for the nine months ended September 30, 2013 were outstanding but not included in the computations of diluted income from operations per share because the grant prices of the SARs were greater than the average market price of the common shares.

(7) SUSPENDED EXPLORATORY WELL COSTS

We capitalize exploratory well costs until a determination is made that the well has either found proved reserves or that it is impaired. Capitalized exploratory well costs are presented in natural gas and oil properties in the accompanying consolidated balance sheets. If an exploratory well is determined to be impaired, the well costs are charged to exploration expense in the accompanying consolidated statements of operations. The following table reflects the changes in capitalized exploratory well costs for the nine months ended September 30, 2014 and the year ended December 31, 2013 (in thousands except for number of projects):

 

As of September 30, 2014, $35.6 million of capitalized exploratory well costs have been capitalized for more than one year which relates to one well in our Marcellus Shale area where we continue to evaluate pipeline options and opportunities and four wells, also in our Marcellus Shale area, which are expected to be producing in fourth quarter 2014. The following table provides an aging of capitalized exploratory well costs that have been suspended for more than one year as of September 30, 2014 (in thousands):

 

 

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(8) INDEBTEDNESS

We had the following debt outstanding as of the dates shown below (bank debt interest rate at September 30, 2014 is shown parenthetically) (in thousands). No interest was capitalized during the three months or the nine months ended September 30, 2014 or 2013:

Bank Debt

In February 2011, we entered into an amended and restated revolving bank facility, which we refer to as our bank debt or our bank credit facility, which is secured by substantially all of our assets. The bank credit facility provides for an initial commitment equal to the lesser of the facility amount or the borrowing base. On September 30, 2014, the facility amount was $1.75 billion and the borrowing base was $2.0 billion. The bank credit facility provides for a borrowing base subject to redeterminations semi-annually and for event-driven unscheduled redeterminations. As of September 30, 2014, our bank group was composed of twenty-eight financial institutions with no bank holding more than 9% of the total facility. The bank credit facility amount may be increased to the borrowing base amount with twenty days notice, subject to the banks agreeing to participate in the facility increase and our payment of a mutually acceptable commitment fee to those banks. As of September 30, 2014, the outstanding balance under our bank credit facility was $649.0 million. Additionally, we had $104.0 million of undrawn letters of credit leaving $997.0 million of borrowing capacity available under the facility. As of September 30, 2014, borrowings under the bank credit facility can either be at the Alternate Base Rate (as defined in the bank credit facility) plus a spread ranging from 0.50% to 1.5% or LIBOR borrowings at the Adjusted LIBO Rate (as defined in the bank credit facility) plus a spread ranging from 1.5% to 2.5%. The applicable spread is dependent upon borrowings relative to the borrowing base. We may elect, from time to time, to convert all or any part of our LIBOR loans to base rate loans or to convert all or any of the base rate loans to LIBOR loans. The weighted average interest rate was 2.1% for the three months ended September 30, 2014 compared to 1.9% for the three months ended September 30, 2013. The weighted average interest rate was 2.1% for the nine months ended September 30, 2014 and compared to 2.0% for the nine months ended September 30, 2013. A commitment fee is paid on the undrawn balance based on an annual rate of 0.375% to 0.50%. At September 30, 2014, the commitment fee was 0.375% and the interest rate margin was 1.75% on our LIBOR loans and 0.75% on our base rate loans.

Subsequent Development

On October 16, 2014, we entered into an amended and restated revolving bank credit facility, which replaced our previous bank credit facility and which we refer to as our new bank credit facility. The new bank credit facility, secured by substantially all of our assets, provides for an initial commitment equal to the lesser of the facility amount or the borrowing base. At closing, the facility amount was $2.0 billion and the borrowing base was $3.0 billion. The new bank credit facility provides for a borrowing base subject to redetermination annually each May and for event-driven unscheduled redeterminations. The new bank group is composed of twenty-nine financial institutions, with no one bank holding more than 6% of the total facility. The facility amount may be increased to the borrowing base amount subject to payment of a mutually acceptable commitment fee to those banks agreeing to participate in the facility increase. The facility matures on October 16, 2019. During a non-investment grade period, borrowings under the new bank credit facility can either be at the alternate base rate (“ABR,” as defined in the new bank credit facility) plus a spread ranging from 0.25% to 1.25% or LIBOR borrowings plus a spread ranging from 1.25% to 2.25%. The applicable spread is dependent upon borrowings relative to the borrowing base. We may elect, from time to time, to convert all or any part of our LIBOR loans to base rate loans or to convert all or any of the base rate loans to LIBOR loans. A commitment fee is paid on the undrawn balance based on an annual rate of 0.30% to 0.375%. At closing, the commitment fee was 0.30% and the interest rate margin was 1.50% on our LIBOR loans and 0.50% on our base rate loans.

At any time during which we have an investment grade debt rating from Moody’s Investors Service, Inc. or Standard & Poor’s Ratings Services and we have elected, at our discretion, to effect the investment grade rating period, certain collateral security requirements, including the borrowing base requirement and restrictive covenants will cease to apply and certain other restrictive covenants will become less restrictive, and an additional financial covenant (as defined in the new bank credit facility) will be temporarily imposed. During the investment grade period, borrowings under the credit facility can either be at the ABR plus a spread

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ranging from 0.125% to 0.75% or LIBOR borrowings plus a spread ranging from 1.125% to 1.75% depending on our debt rating. The commitment fee paid on the undrawn balance ranges from 0.15% to 0.30%.

Senior Subordinated Notes

If we experience a change of control, bondholders may require us to repurchase all or a portion of all of our senior subordinated notes at 101% of the aggregate principal amount plus accrued and unpaid interest, if any. All of the senior subordinated notes and the guarantees by our subsidiary guarantors are general, unsecured obligations and are subordinated to our bank debt and will be subordinated to future senior debt that we or our subsidiary guarantors are permitted to incur under the bank credit facility and the indentures governing the subordinated notes.

Early Extinguishment of Debt

On May 27, 2014, we announced a call for the redemption of $300.0 million of our outstanding 8.0% senior subordinated notes due 2019 at 104.0% of par plus accrued and unpaid interest, which were redeemed on June 26, 2014. In second quarter 2014, we recognized a $24.6 million loss on extinguishment of debt, including transaction call premium cost as well as expensing of the remaining deferred financing costs on the repurchased debt.

Guarantees

Range Resources Corporation is a holding company which owns no operating assets and has no significant operations independent of its subsidiaries. The guarantees by our subsidiaries, which are directly or indirectly owned by Range, of our senior subordinated notes and our bank credit facility are full and unconditional and joint and several, subject to certain customary release provisions. A subsidiary guarantor may be released from its obligations under the guarantee:

Debt Covenants and Maturity

Our bank credit facility contains negative covenants that limit our ability, among other things, to pay cash dividends, incur additional indebtedness, sell assets, enter into certain hedging contracts, change the nature of our business or operations, merge, consolidate, or make certain investments. In addition, we are required to maintain a ratio of debt to EBITDAX (as defined in the credit agreement) of no greater than 4.25 to 1.0 and a current ratio (as defined in the credit agreement) of no less than 1.0 to 1.0. During an investment grade period in which Range has only one investment grade rating, an additional covenant is imposed whereby the ratio of the present value of proved reserves (as defined in the credit agreement) to total debt must be equal to or greater than 1.5 to 1.0. We were in compliance with applicable covenants under the bank credit facility at September 30, 2014.

The indentures governing our senior subordinated notes contain various restrictive covenants that are substantially identical to each other and may limit our ability to, among other things, pay cash dividends, incur additional indebtedness, sell assets, enter into transactions with affiliates, or change the nature of our business. At September 30, 2014, we were in compliance with these covenants.

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(9) ASSET RETIREMENT OBLIGATIONS

Our asset retirement obligations primarily represent the estimated present value of the amounts we will incur to plug, abandon and remediate our producing properties at the end of their productive lives. Significant inputs used in determining such obligations include estimates of plugging and abandonment costs, estimated future inflation rates and well life. The inputs are calculated based on historical data as well as current estimated costs. A reconciliation of our liability for plugging and abandonment costs for the nine months ended September 30, 2014 is as follows (in thousands):

Accretion expense is recognized as a component of depreciation, depletion and amortization expense in the accompanying statements of operations.

(10) CAPITAL STOCK

We have authorized capital stock of 485.0 million shares which includes 475.0 million shares of common stock and 10.0 million shares of preferred stock. We currently have no preferred stock issued or outstanding. The following is a schedule of changes in the number of common shares outstanding since the beginning of 2013:

 

 

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(11) DERIVATIVE ACTIVITIES

We use commodity-based derivative contracts to manage exposure to commodity price fluctuations. We do not enter into these arrangements for speculative or trading purposes. We do not utilize complex derivatives as we typically utilize commodity swaps or collars to (1) reduce the effect of price volatility of the commodities we produce and sell and (2) support our annual capital budget and expenditure plans. The fair value of our derivative contracts, represented by the estimated amount that would be realized upon termination, based on a comparison of the contract price and a reference price, generally the New York Mercantile Exchange (“NYMEX”) or Mont Belvieu for NGLs, approximated a net unrealized pre-tax gain of $63.3 million at September 30, 2014. These contracts expire monthly through December 2016. The following table sets forth our commodity-based derivative volumes by year as of September 30, 2014, excluding our basis swaps which are discussed separately below:

 

Every derivative instrument is required to be recorded on the balance sheet as either an asset or a liability measured at its fair value. Through February 28, 2013, changes in the fair value of our derivatives that qualified for hedge accounting were recorded as a component of accumulated other comprehensive income or loss (“AOCI” or “AOCL”) in the stockholders’ equity section of the accompanying consolidated balance sheets, which is later transferred to natural gas, NGLs and oil sales when the underlying physical transaction occurs and the hedging contract is settled. As of September 30, 2014, an unrealized pre-tax derivative loss of $358,000 ($222,000 after tax) was recorded in AOCL. See additional discussion below regarding the discontinuance of hedge accounting. If the derivative does not qualify as a hedge or is not designated as a hedge, changes in fair value of these non-hedge derivatives are recognized in earnings in derivative fair value income or loss.

For those derivative instruments that qualified or were designated for hedge accounting, settled transaction gains and losses were determined monthly, and were included as increases or decreases to natural gas, NGLs and oil sales in the period the hedged production was sold. Through February 28, 2013, we had elected to designate our commodity derivative instruments that qualified for hedge accounting as cash flow hedges. Natural gas, NGLs and oil sales include $3.5 million of gains in third quarter 2014 compared to gains of $27.4 million in the same period of 2013 related to settled hedging transactions. Natural gas, NGLs and oil sales include $10.6 million of gains in first nine months 2014 compared to gains of $94.4 million in the same period of 2013 related to settled hedging transactions. Any ineffectiveness associated with these hedge derivatives is reflected in derivative fair value income or loss in the accompanying statements of operations. The ineffective portion is generally calculated as the difference between the changes in fair value of the derivative and the estimated change in future cash flows from the item hedged. Derivative fair value income or loss for the three months and the nine months ended September 30, 2014 includes no ineffective gains or losses compared to a loss of $39,000 in the three months ended September 30, 2013 and a loss of $2.9 million in the nine months ended September 30, 2013. During the nine months ended September 30, 2013, we recognized a pre-tax gain of $3.9 million in derivative fair value income as a result of the discontinuance of hedge accounting where we determined the transaction was probable not to occur primarily due to the sale of certain of our Delaware and Permian Basin properties in New Mexico and West Texas.

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Basis Swap Contracts

In addition to the collars and swaps above, at September 30, 2014, we had natural gas basis swap contracts that are not designated for hedge accounting, which lock in the differential between NYMEX and certain of our physical pricing indices primarily in Appalachia. These contracts are for an average of 70,593 Mmbtu/day and settle monthly through October 2015. The fair value of these contracts was a loss of $1.5 million on September 30, 2014.

Discontinuance of Hedge Accounting

Effective March 1, 2013, we elected to de-designate all commodity contracts that were previously designated as cash flow hedges and elected to discontinue hedge accounting prospectively. AOCI included $103.6 million ($63.2 million after tax) of unrealized net gains, representing the mark-to-market value of the effective portion of our cash flow hedges as of February 28, 2013. As a result of discontinuing hedge accounting, the mark-to-market values included in AOCI as of the de-designation date were frozen and will be reclassified into earnings in natural gas, NGLs and oil sales in future periods as the underlying hedged transactions occur. As of September 30, 2014, we expect to reclassify into earnings $358,000 of unrealized losses in the remaining months of 2014.

With the election to de-designate hedging instruments, all of our derivative instruments continue to be recorded at fair value with unrealized gains and losses recognized immediately in earnings rather than in AOCI. These mark-to-market adjustments will produce a degree of earnings volatility that can be significant from period to period, but such adjustments will have no cash flow impact relative to changes in market prices. The impact to cash flow occurs upon settlement of the underlying contract.     

Derivative Assets and Liabilities

The combined fair value of derivatives included in the accompanying consolidated balance sheets as of September 30, 2014 and December 31, 2013 is summarized below. The assets and liabilities are netted where derivatives with both gain and loss positions are held by a single counterparty and we have master netting arrangements. The tables below provide additional information relating to our master netting arrangements with our derivative counterparties (in thousands):

 

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The effects of our cash flow hedges (or those derivatives that previously qualified for hedge accounting) on AOCI in the accompanying consolidated balance sheets are summarized below (in thousands):