Document




UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-Q 
 
ý
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 

For the quarterly period ended September 30, 2016
 
o
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: 001-34778
http://api.tenkwizard.com/cgi/image?quest=1&rid=23&ipage=11194821&doc=13
QEP RESOURCES, INC.

(Exact name of registrant as specified in its charter)
STATE OF DELAWARE
 
87-0287750
(State or other jurisdiction of
 
(I.R.S. Employer
incorporation or organization)
 
Identification No.)
 
1050 17th Street, Suite 800, Denver, Colorado 80265
(Address of principal executive offices)
 
Registrant’s telephone number, including area code (303) 672-6900
 
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 ý No o
 
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 (Section 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 ý No o
 
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:
 
Large accelerated filer
ý
Accelerated filer
o
Non-accelerated filer
o (Do not check if a smaller reporting company)
Smaller reporting company
o
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes oNo ý

At September 30, 2016, there were 239,557,986 shares of the registrant’s common stock, $0.01 par value, outstanding.
 



QEP Resources, Inc.
Form 10-Q for the Quarter Ended September 30, 2016

TABLE OF CONTENTS 
 
 
 
Page
 
 
 
 
 
ITEM 1.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
ITEM 2.
 
 
 
 
 
ITEM 3.
 
 
 
 
 
ITEM 4.
 
 
 
 
 
 
 
ITEM 1.
 
 
 
 
 
ITEM 1A.
 
 
 
 
 
ITEM 2.
 
 
 
 
 
ITEM 3.
 
 
 
 
 
ITEM 4.
 
 
 
 
 
ITEM 5.
 
 
 
 
 
ITEM 6.
 
 

1




PART I. FINANCIAL INFORMATION
 
ITEM 1. FINANCIAL STATEMENTS
QEP RESOURCES, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
 
Three Months Ended
 
Nine Months Ended
 
September 30,
 
September 30,
 
2016
 
2015
 
2016
 
2015
REVENUES
(in millions, except per share amounts)
Gas sales
$
123.2

 
$
129.4

 
$
287.5

 
$
363.3

Oil sales
201.6

 
211.7

 
553.1

 
640.9

NGL sales
19.8

 
16.5

 
56.2

 
61.7

Other revenue
2.5

 
2.8

 
4.3

 
12.4

Purchased gas and oil sales
35.3

 
147.2

 
76.3

 
472.0

Total Revenues
382.4

 
507.6

 
977.4

 
1,550.3

OPERATING EXPENSES
 

 
 

 
 
 
 
Purchased gas and oil expense
37.1

 
146.0

 
80.8

 
475.1

Lease operating expense
50.7

 
56.7

 
163.3

 
175.6

Gas, oil and NGL transportation and other handling costs
75.8

 
78.1

 
218.9

 
216.2

Gathering and other expense
0.9

 
1.3

 
3.8

 
4.4

General and administrative
67.0

 
42.0

 
159.4

 
140.7

Production and property taxes
26.8

 
30.2

 
65.3

 
90.7

Depreciation, depletion and amortization
217.8

 
238.1

 
667.5

 
649.3

Exploration expenses
0.2

 
0.8

 
0.9

 
2.7

Impairment
5.0

 
15.0

 
1,188.2

 
35.5

Total Operating Expenses
481.3

 
608.2

 
2,548.1

 
1,790.2

Net gain (loss) from asset sales
5.3

 
12.9

 
5.0

 
6.9

OPERATING INCOME (LOSS)
(93.6
)
 
(87.7
)
 
(1,565.7
)
 
(233.0
)
Realized and unrealized gains (losses) on derivative contracts (Note 7)
44.5

 
153.6

 
(85.1
)
 
168.5

Interest and other income (expense)
5.1

 
0.3

 
7.1

 
1.5

Interest expense
(35.9
)
 
(36.4
)
 
(109.2
)
 
(109.4
)
INCOME (LOSS) BEFORE INCOME TAXES
(79.9
)
 
29.8

 
(1,752.9
)
 
(172.4
)
Income tax (provision) benefit
29.0

 
(8.7
)
 
641.2

 
61.6

NET INCOME (LOSS)
$
(50.9
)
 
$
21.1

 
$
(1,111.7
)
 
$
(110.8
)
 
 
 
 
 
 
 
 
Earnings (loss) per common share
 
 
 

 
 
 
 
Basic
$
(0.21
)
 
$
0.12

 
$
(5.15
)
 
$
(0.63
)
Diluted
$
(0.21
)
 
$
0.12

 
$
(5.15
)
 
$
(0.63
)
 
 
 
 
 
 
 
 
Weighted-average common shares outstanding
 
 
 

 
 
 
 
Used in basic calculation
239.6

 
176.7

 
215.7

 
176.5

Used in diluted calculation
239.6

 
176.7

 
215.7

 
176.5

Dividends per common share
$

 
$
0.02

 
$

 
$
0.06


See Notes accompanying the Condensed Consolidated Financial Statements.

2




QEP RESOURCES, INC.
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(Unaudited)

 
Three Months Ended
 
Nine Months Ended
 
September 30,
 
September 30,
 
2016
 
2015
 
2016
 
2015
 
(in millions)
Net income (loss)
$
(50.9
)
 
$
21.1

 
$
(1,111.7
)
 
$
(110.8
)
Other comprehensive income, net of tax:
 

 
 

 
 
 
 
Pension and other postretirement plans adjustments:
 

 
 

 
 
 
 
Amortization of prior service costs (1)
0.2

 
0.3

 
0.6

 
0.9

Amortization of actuarial losses (2)
0.1

 

 
0.3

 
0.2

Other comprehensive income
0.3

 
0.3

 
0.9

 
1.1

Comprehensive income (loss)
$
(50.6
)
 
$
21.4

 
$
(1,110.8
)
 
$
(109.7
)
____________________________
(1) 
Presented net of income tax expense of $0.1 million and $0.3 million during the three and nine months ended September 30, 2016, respectively. Presented net of income tax expense of $0.1 million and $0.5 million during the three and nine months ended September 30, 2015, respectively.
(2) 
Presented net of income tax expense of $0.1 million and $0.3 million during the three and nine months ended September 30, 2016, respectively. Presented net of income tax expense of $0.2 million for the nine months ended September 30, 2015.

See Notes accompanying the Condensed Consolidated Financial Statements.


3




QEP RESOURCES, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(Unaudited)
 
September 30,
2016
 
December 31,
2015
ASSETS
(in millions)
Current Assets
 
 
 
Cash and cash equivalents
$
1,032.2

 
$
376.1

Accounts receivable, net
135.6

 
278.2

Income tax receivable
22.5

 
87.3

Fair value of derivative contracts
0.5

 
146.8

Gas, oil and NGL inventories, at lower of average cost or market
10.8

 
13.3

Prepaid expenses and other
7.4

 
30.1

Total Current Assets
1,209.0

 
931.8

Property, Plant and Equipment (successful efforts method for gas and oil properties)
 

 
 

Proved properties
13,684.0


13,314.9

Unproved properties
658.5


691.0

Gathering and other
300.7


297.9

Materials and supplies
31.7


38.5

Total Property, Plant and Equipment
14,674.9

 
14,342.3

Less Accumulated Depreciation, Depletion and Amortization
 
 
 

Exploration and production
8,604.7


6,870.2

Gathering and other
99.6


87.5

Total Accumulated Depreciation, Depletion and Amortization
8,704.3

 
6,957.7

Net Property, Plant and Equipment
5,970.6

 
7,384.6

Fair value of derivative contracts

 
23.2

Other noncurrent assets
95.6

 
58.6

TOTAL ASSETS
$
7,275.2


$
8,398.2

LIABILITIES AND EQUITY
 
 
 

Current Liabilities
 

 
 

Checks outstanding in excess of cash balances
$
4.3

 
$
29.8

Accounts payable and accrued expenses
259.3

 
351.7

Production and property taxes
40.3

 
46.1

Interest payable
32.8

 
36.4

Fair value of derivative contracts
34.5

 
0.8

Current portion of long-term debt

 
176.8

Total Current Liabilities
371.2

 
641.6

Long-term debt
2,019.3

 
2,014.7

Deferred income taxes
899.2

 
1,479.8

Asset retirement obligations
213.1

 
204.9

Fair value of derivative contracts
19.4

 
4.0

Other long-term liabilities
117.9

 
105.3

Commitments and contingencies (Note 10)


 


EQUITY
 
 
 

Common stock – par value $0.01 per share; 500.0 million shares authorized; 
240.7 million and 177.3 million shares issued, respectively
2.4

 
1.8

Treasury stock – 1.1 million and 0.5 million shares, respectively
(22.2
)
 
(14.6
)
Additional paid-in capital
1,359.8

 
554.8

Retained earnings
2,306.6

 
3,418.3

Accumulated other comprehensive income
(11.5
)
 
(12.4
)
Total Common Shareholders' Equity
3,635.1

 
3,947.9

TOTAL LIABILITIES AND EQUITY
$
7,275.2

 
$
8,398.2

 

See Notes accompanying the Condensed Consolidated Financial Statements.

4




QEP RESOURCES, INC.
CONDENSED CONSOLIDATED STATEMENT OF EQUITY
(Unaudited)
 
Common Stock
 
Treasury Stock
 
Additional Paid-in Capital
 
Retained Earnings
 
Accumulated Other Comprehensive Income(Loss)
 
Total
 
Shares
 
Amount
 
Shares
 
Amount
 
 
 
 
 
(in millions)
Balance at December 31, 2015
177.3

 
$
1.8

 
(0.5
)
 
$
(14.6
)
 
$
554.8

 
$
3,418.3

 
$
(12.4
)
 
$
3,947.9

Net income (loss)

 

 

 

 

 
(1,111.7
)
 

 
(1,111.7
)
Equity issuance, net of offering costs
61.0

 
0.6

 

 

 
781.0

 

 

 
781.6

Share-based compensation
2.4

 

 
(0.6
)
 
(7.6
)
 
24.0

 

 

 
16.4

Change in pension and postretirement liability, net of tax

 

 

 

 

 

 
0.9

 
0.9

Balance at September 30, 2016
240.7

 
$
2.4

 
(1.1
)
 
$
(22.2
)
 
$
1,359.8

 
$
2,306.6

 
$
(11.5
)
 
$
3,635.1


See Notes accompanying the Condensed Consolidated Financial Statements.


5




QEP RESOURCES, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
 
Nine Months Ended
 
September 30,
 
2016
 
2015
 
(in millions)
OPERATING ACTIVITIES
 

 
 

Net income (loss)
$
(1,111.7
)
 
$
(110.8
)
Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities:
 

 
 

Depreciation, depletion and amortization
667.5

 
649.3

Deferred income taxes
(581.1
)
 
22.7

Impairment
1,188.2

 
35.5

Bargain purchase gain from acquisition
(4.4
)
 

Share-based compensation
29.0

 
23.3

Pension curtailment loss

 
11.2

Amortization of debt issuance costs and discounts
4.8

 
4.7

Net (gain) loss from asset sales
(5.0
)
 
(6.9
)
Unrealized (gains) losses on marketable securities
(1.2
)
 

Unrealized (gains) losses on derivative contracts
218.6

 
148.0

Changes in operating assets and liabilities
128.2

 
(503.1
)
Net Cash Provided by (Used in) Operating Activities
532.9

 
273.9

INVESTING ACTIVITIES
 

 
 

Property acquisitions
(39.9
)
 
(23.5
)
Acquisition deposit held in escrow
(30.0
)
 

Property, plant and equipment, including dry exploratory well expense
(411.2
)
 
(862.6
)
Proceeds from disposition of assets
28.9

 
5.2

Net Cash Provided by (Used in) Investing Activities
(452.2
)

(880.9
)
FINANCING ACTIVITIES
 

 
 

Checks outstanding in excess of cash balances
(25.5
)
 
(41.9
)
Repayment of senior notes
(176.8
)
 

Treasury stock repurchases
(4.1
)
 
(2.3
)
Other capital contributions

 
(0.1
)
Dividends paid

 
(10.6
)
Proceeds from issuance of common stock, net
781.6

 

Excess tax (provision) benefit on share-based compensation
0.2

 
(2.4
)
Net Cash Provided by (Used in) Financing Activities
575.4

 
(57.3
)
Change in cash and cash equivalents
656.1


(664.3
)
Beginning cash and cash equivalents
376.1

 
1,160.1

Ending cash and cash equivalents
$
1,032.2

 
$
495.8

 
 
 
 
Supplemental Disclosures:
 

 
 

Cash paid for interest, net of capitalized interest
$
107.0

 
$
107.4

Cash paid (refund received) for income taxes
$
(123.3
)
 
$
492.3

Non-cash Investing Activities:
 

 
 

Change in capital expenditure accruals and other non-cash adjustments
$
(20.4
)
 
$
(68.9
)
 
See Notes accompanying the Condensed Consolidated Financial Statements.

6




QEP RESOURCES, INC.
NOTES ACCOMPANYING THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
 
Note 1 – Basis of Presentation

Nature of Business

QEP Resources, Inc. is an independent natural gas and crude oil exploration and production company focused in two regions of the United States: the Northern Region (primarily in Wyoming, North Dakota and Utah) and the Southern Region (primarily in Texas and Louisiana). Unless otherwise specified or the context otherwise requires, all references to "QEP" or the "Company" are to QEP Resources, Inc. and its subsidiaries on a consolidated basis. QEP's corporate headquarters are located in Denver, Colorado and shares of QEP's common stock trade on the New York Stock Exchange (NYSE) under the ticker symbol "QEP".

Basis of Presentation of Interim Condensed Consolidated Financial Statements

The interim Condensed Consolidated Financial Statements contain the accounts of QEP and its majority-owned or controlled subsidiaries. The Condensed Consolidated Financial Statements were prepared in accordance with United States Generally Accepted Accounting Principles (GAAP) and with the instructions for Quarterly Reports on Form 10-Q and Regulations S-X and S-K. All significant intercompany accounts and transactions have been eliminated in consolidation.

The Condensed Consolidated Financial Statements reflect all normal recurring adjustments and accruals that are, in the opinion of management, necessary for a fair statement of financial position and results of operations for the interim periods presented. Interim condensed consolidated financial statements and the year-end balance sheet do not include all of the information and notes required by GAAP for audited annual consolidated financial statements. These Condensed Consolidated Financial Statements should be read in conjunction with the Consolidated Financial Statements and Notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2015.
 
The preparation of the Condensed Consolidated Financial Statements and Notes in conformity with GAAP requires that management make estimates and assumptions that affect revenues, expenses, assets and liabilities, and disclosure of contingent assets and liabilities. Actual results could differ from estimates. The results of operations for the three and nine months ended September 30, 2016, are not necessarily indicative of the results that may be expected for the year ending December 31, 2016.

Equity Offerings

In June 2016, QEP issued 23.0 million shares of common stock through a public offering and received net proceeds of approximately $413.0 million. In October, QEP used the net proceeds from this offering to partially fund the 2016 Permian Acquisition (see Note 13 – Subsequent Event).

In March 2016, QEP issued 37.95 million shares of common stock through a public offering and received net proceeds of approximately $368.6 million. QEP used the net proceeds from this offering for general corporate purposes.

Termination of Marketing Agreements and QEP Marketing Segment
Effective January 1, 2016, QEP terminated its contracts for resale and marketing transactions between its wholly owned subsidiaries, QEP Marketing Company (QEP Marketing) and QEP Energy Company (QEP Energy).  In addition, substantially all of QEP Marketing's third-party purchase and sale agreements and gathering, processing and transportation contracts were assigned to QEP Energy, except those contracts related to natural gas storage activities and the Haynesville gathering system. As a result, QEP Energy is directly marketing its own gas, oil and NGL production. While QEP will continue to act as an agent for the sale of gas, oil and NGL production for other working interest owners, for whom QEP serves as the operator, QEP is no longer the first purchaser of this production.  QEP has substantially reduced its marketing activities, and subsequently, is reporting lower resale revenue and expenses than it had in prior periods. In conjunction with the changes described above, QEP conducted a segment analysis in accordance with Accounting Standards Codification (ASC) Topic 280, Segment Reporting, and determined that QEP has one reportable segment effective January 1, 2016.

Revision of Financial Statements

In the fourth quarter of 2015, the Company determined that certain transactions that had been reported on a gross basis and included in "Purchased gas and oil sales" and "Purchased gas and oil expense" on the Condensed Consolidated Statement of

7




Operations for the three and nine months ended September 30, 2015, should have been reported on a net basis, as the transactions were with the same counterparty and were entered into in contemplation of one another. The Company revised its financial statements to reflect the net accounting treatment and assessed the cumulative impact of the revisions on each period affected. The revisions had no effect on the Company’s operating income, net income, earnings per share, cash flows or retained earnings. The Company determined that the impact of the change from gross to net accounting was not material, either individually or in the aggregate, to previously issued financial statements. The Company has, for comparability purposes, recast its Condensed Consolidated Statement of Operations for the three and nine months ended September 30, 2015.

The following table details the impact of these revisions for the three and nine months ended September 30, 2015, on the Condensed Consolidated Statement of Operations.
 
Three Months Ended
 
Nine Months Ended
 
September 30, 2015
 
September 30, 2015
 
As reported
 
As revised
 
Change
 
As reported
 
As revised
 
Change
REVENUES
(in millions)
Purchased gas and oil sales
$
176.3

 
$
147.2

 
$
(29.1
)
 
$
558.6

 
$
472.0

 
$
(86.6
)
Total Revenues
536.7

 
507.6

 
(29.1
)
 
1,636.9

 
1,550.3

 
(86.6
)
OPERATING EXPENSES
 
 
 
 
 
 
 
 
 
 

Purchased gas and oil expense
$
175.1

 
$
146.0

 
$
(29.1
)
 
$
561.7

 
$
475.1

 
$
(86.6
)
Total Operating Expenses
637.3

 
608.2

 
(29.1
)
 
1,876.8

 
1,790.2

 
(86.6
)

Reclassifications

Certain prior period balances on the Condensed Consolidated Balance Sheets have been reclassified to conform to the current year presentation. Such reclassifications had no effect on the Company's operating income, net income, earnings per share, cash flows or retained earnings previously reported.

Impairment of Long-Lived Assets

During the three months ended September 30, 2016, QEP recorded impairment expense of $5.0 million, all of which was related to expiring leaseholds on unproved properties.

During the nine months ended September 30, 2016, QEP recorded impairment expense of $1,188.2 million, of which $1,167.9 million was related to proved properties due to lower future oil and gas prices, $16.6 million was related to expiring leaseholds on unproved properties and $3.7 million was related to an impairment of goodwill. Of the $1,167.9 million impairment on proved properties, $1,164.0 million related to Pinedale properties, $3.5 million related to Other Northern properties and $0.4 million related to Other Southern properties.

New Accounting Pronouncements

In February 2016, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) No. 2016-02, Leases (Topic 842), which requires lessees to recognize the lease assets and lease liabilities classified as operating leases on the balance sheet and disclosing key quantitative and qualitative information about leasing arrangements. The amendment will be effective for reporting periods beginning on or after December 15, 2018, and early adoption is permitted. The Company is currently assessing the impact of the ASU on the Company's Condensed Consolidated Financial Statements.

In March 2016, the FASB issued ASU No. 2016-06, Derivatives and hedging (Topic 815): Contingent put and call options in debt instruments, which clarifies the requirements for assessing whether contingent call (put) options that can accelerate the payment of principal on debt instruments are clearly and closely related to their debt hosts. The amendment will be effective prospectively for reporting periods beginning on or after December 31, 2016, and early adoption is permitted. The Company does not expect this ASU to have a material impact on the Company's Condensed Consolidated Financial Statements.

In March 2016, the FASB issued ASU No. 2016-08, Revenue from contracts with customers (Topic 606): Principal versus agent considerations (reporting revenue gross versus net), which clarifies the implementation guidance on principle versus agent considerations. The amendment will be effective prospectively for reporting periods beginning on or after December 31, 2017, and early adoption is permitted for periods beginning on or after December 31, 2016. The Company is currently assessing the impact of the ASU on the Company's Condensed Consolidated Financial Statements.

8





In March 2016, the FASB issued ASU No. 2016-09, Compensation – Stock Compensation (Topic 718): Improvements to employee share-based payment accounting, which includes provisions intended to simplify various aspects related to how share-based compensation payments are accounted for and presented in the financial statements. This amendment will be effective prospectively for reporting periods beginning on or after December 15, 2016, and early adoption is permitted. The Company does not expect this ASU to have a material impact on the Company's Condensed Consolidated Financial Statements.

In April 2016, the FASB issued ASU No. 2016-10, Revenue from contracts with customers (Topic 606): Identifying performance obligations and licensing, which clarifies guidance related to identifying performance obligations and licensing implementation guidance contained in the new revenue recognition standard. This amendment will be effective prospectively for reporting periods beginning on or after December 15, 2017, and early adoption is permitted for periods beginning on or after December 31, 2016. The Company is currently assessing the impact of the ASU on the Company's Condensed Consolidated Financial Statements.

In May 2016, the FASB issued ASU No. 2016-11, Revenue recognition (Topic 605) and Derivatives and hedging (Topic 815): Rescission of SEC guidance because of ASU 2014-09 and 2014-16, which rescinds certain SEC staff observer comments that are codified in Topic 605, Revenue Recognition. This amendment will be effective prospectively for reporting periods beginning on or after December 15, 2017, and early adoption is permitted for periods beginning on or after December 31, 2016. The Company is currently assessing the impact of the ASU on the Company's Condensed Consolidated Financial Statements.

In May 2016, the FASB issued ASU No. 2016-12, Revenue from contracts with customers (Topic 606): Narrow-scope improvements and practical expedients, which intends to reduce the cost and complexity of applying the new revenue standard by narrowing the scope of improvements to the guidance on collectability, non-cash consideration, and completed contracts at transition. This amendment will be effective prospectively for reporting periods beginning on or after December 15, 2017, and early adoption is permitted for periods beginning on or after December 31, 2016. The Company is currently assessing the impact of the ASU on the Company's Condensed Consolidated Financial Statements.

In August 2016, the FASB issued ASU No. 2016-15, Statement of Cash Flows (Topic 230): Classification of certain cash receipts and cash payments, which intends to reduce the diversity in practice in how certain transactions are classified on the statement of cash flows. This amendment will be effective retrospectively for reporting periods beginning after December 31, 2017, and early adoption is permitted. The Company does not expect this ASU to have a material impact on the Company's Condensed Consolidated Financial Statements.

Note 2 – Acquisitions and Divestitures

Acquisitions

During the three months ended September 30, 2016, QEP acquired various oil and gas properties, primarily proved undeveloped leasehold acreage in the Williston Basin, for an aggregate purchase price of $16.3 million. The Company recorded a $4.4 million bargain purchase gain associated with the acquisition. The bargain purchase gain is reported on the Condensed Consolidated Statements of Operations within "Interest and other income (expense)". During the three months ended September 30, 2015, QEP acquired various oil and gas properties, primarily undeveloped leasehold acreage in the Permian Basin, for an aggregate purchase price of $24.1 million.

During the nine months ended September 30, 2016, QEP acquired various oil and gas properties, primarily in the Williston and Permian basins, for an aggregate purchase price of $46.1 million, including additional interests in QEP's operated wells and additional undeveloped leasehold acreage. In conjunction with the acquisitions, the Company recorded $3.7 million of goodwill and a $4.4 million bargain purchase gain. During the nine months ended September 30, 2015, QEP acquired various oil and gas properties, primarily undeveloped leasehold acreage in the Permian Basin, for an aggregate purchase price of $23.5 million.

Divestitures

During the three and nine months ended September 30, 2016, QEP received proceeds of $5.2 million and $28.9 million, respectively, and recorded a pre-tax gain on sale of $5.3 million and $5.0 million, respectively, primarily related to the divestiture of certain non-core properties in Other Southern. During the three and nine months ended September 30, 2015, QEP recorded a pre-tax gain on sale of $12.9 million and $6.9 million, respectively, comprised of a gain related to divestitures and post-closing purchase price adjustments of certain non-core properties in Other Southern, partially offset by a loss recognized for post-closing adjustments related to the sale of QEP's midstream business in 2014. These gains and losses are reported on the Condensed Consolidated Statements of Operations within "Net gain (loss) from asset sales".

9





Note 3 – Earnings Per Share
 
Basic earnings per share (EPS) are computed by dividing net income by the weighted-average number of common shares outstanding during the reporting period. Diluted EPS includes the potential increase in the number of outstanding shares that could result from the exercise of in-the-money stock options. QEP’s unvested restricted shares are included in weighted-average basic common shares outstanding because, once the shares are granted, the restricted shares are considered issued and outstanding, the historical forfeiture rate is minimal and the restricted shares are eligible to receive dividends.
 
Unvested share-based payment awards that contain non-forfeitable rights to dividends or dividend equivalents are considered participating securities and are included in the computation of earnings per share pursuant to the two-class method. The Company’s unvested restricted stock awards contain non-forfeitable dividend rights and participate equally with common stock with respect to dividends issued or declared. However, the Company’s unvested restricted stock does not have a contractual obligation to share in losses of the Company. The Company’s unexercised stock options do not contain rights to dividends. Under the two-class method, the earnings used to determine basic earnings per common share are reduced by an amount allocated to participating securities. When the Company records a net loss, none of the loss is allocated to the participating securities since the securities are not obligated to share in Company losses. Use of the two-class method has an insignificant impact on the calculation of basic and diluted earnings per common share. During the three and nine months ended September 30, 2016, there were anti-dilutive shares of 0.2 million and 0.1 million, respectively, not included in diluted common shares outstanding as they were anti-dilutive due to QEP's net loss. During the three and nine months ended September 30, 2015, there were no anti-dilutive shares.

A reconciliation of the components of basic and diluted shares used in the EPS calculation follows:
 
Three Months Ended
 
Nine Months Ended
 
September 30,
 
September 30,
 
2016

2015
 
2016
 
2015
 
(in millions)
Weighted-average basic common shares outstanding
239.6

 
176.7

 
215.7

 
176.5

Potential number of shares issuable upon exercise of in-the-money stock options under the Long-Term Stock Incentive Plan

 

 

 

Average diluted common shares outstanding
239.6

 
176.7

 
215.7

 
176.5


Note 4 – Capitalized Exploratory Well Costs

Net changes in capitalized exploratory well costs are presented in the table below. The balance at September 30, 2016, represents the amount of capitalized exploratory well costs that are pending the determination of proved reserves.

 
 
Capitalized Exploratory Well Costs
 
 
2016
 
 
(in millions)
Balance at January 1,
 
$
2.6

Additions to capitalized exploratory well costs pending the determination of proved reserves
 
11.0

Reclassification to proved properties after the determination of proved reserves
 

Capitalized exploratory well costs charged to expense
 
(0.1
)
Balance at September 30,
 
$
13.5



10




Note 5 – Asset Retirement Obligations
 
QEP records asset retirement obligations (ARO) associated with the retirement of tangible, long-lived assets. The Company's ARO liability applies primarily to abandonment costs associated with oil and gas wells and certain other properties. The fair values of such costs are estimated by Company personnel based on abandonment costs of similar assets and depreciated over the life of the related assets. Revisions to the ARO estimates result from changes in expected cash flows or material changes in estimated asset retirement costs. The ARO liability is adjusted to present value each period through an accretion calculation using a credit-adjusted risk-free interest rate. Of the $217.5 million and $206.8 million ARO liability for the periods ended September 30, 2016 and December 31, 2015, respectively, $4.4 million and $1.9 million, respectively, were included as a liability within "Accounts payable and accrued expenses" on the Condensed Consolidated Balance Sheets.

The following is a reconciliation of the changes in the Company's ARO for the period specified below:
 
Asset Retirement Obligations
 
2016
 
(in millions)
ARO liability at January 1,
$
206.8

Accretion
6.5

Additions
3.6

Revisions
7.1

Liabilities settled
(6.5
)
ARO liability at September 30,
$
217.5


Note 6 – Fair Value Measurements
 
QEP measures and discloses fair values in accordance with the provisions of ASC 820, Fair Value Measurements and Disclosures. This guidance defines fair value in applying GAAP, establishes a framework for measuring fair value and expands disclosures about fair value measurements. ASC 820 also establishes a fair value hierarchy. Level 1 inputs are quoted prices (unadjusted) for identical assets or liabilities in active markets that the Company has the ability to access at the measurement date. Level 2 inputs are inputs other than quoted prices included within Level 1 that are observable for the asset or liability, either directly or indirectly. Level 3 inputs are unobservable inputs for the asset or liability.
 
QEP has determined that its commodity derivative instruments are Level 2. The Level 2 fair value of commodity derivative contracts (see Note 7 – Derivative Contracts) is based on market prices posted on the respective commodity exchange on the last trading day of the reporting period and industry standard discounted cash flow models. QEP primarily applies the market approach for recurring fair value measurements and maximizes its use of observable inputs and minimizes its use of unobservable inputs. QEP considers bid and ask prices for valuing the majority of its assets and liabilities measured and reported at fair value. In addition to using market data, QEP makes assumptions in valuing its assets and liabilities, including assumptions about risk and the risks inherent in the inputs to the valuation technique. The Company's policy is to recognize significant transfers between levels at the end of the reporting period.
 
Certain of the Company's commodity derivative instruments are valued using industry standard models that consider various inputs, including quoted forward prices for commodities, time value, volatility, and current market and contractual prices for the underlying instruments, as well as other relevant economic measures. Substantially all of these inputs are observable in the marketplace throughout the full term of the instrument and can be derived from observable data or are supported by observable prices at which transactions are executed in the marketplace. The determination of fair value for derivative assets and liabilities also incorporates nonperformance risk for counterparties and for QEP. Derivative contract fair values are reported on a net basis to the extent a legal right of offset with the counterparty exists.

11





The fair value of financial assets and liabilities at September 30, 2016 and December 31, 2015, is shown in the table below:
 
Fair Value Measurements
 
Gross Amounts of Assets and Liabilities
 
Netting
Adjustments(1)
 
Net Amounts Presented on the Condensed Consolidated Balance Sheets
 
Level 1
 
Level 2
 
Level 3
 
 
 
September 30, 2016
 
(in millions)
Financial Assets
 
 
 
 
 
 
 
 
 
Fair value of derivative contracts – short-term
$

 
$
7.6

 
$

 
$
(7.1
)
 
$
0.5

Fair value of derivative contracts – long-term

 

 

 

 

Total financial assets
$

 
$
7.6

 
$

 
$
(7.1
)
 
$
0.5


 
 
 
 
 
 
 
 
 
Financial Liabilities
 

 
 

 
 

 
 

 
 

Fair value of derivative contracts – short-term
$

 
$
41.6

 
$

 
$
(7.1
)
 
$
34.5

Fair value of derivative contracts – long-term

 
19.4

 

 

 
19.4

Total financial liabilities
$

 
$
61.0

 
$

 
$
(7.1
)
 
$
53.9

 
 
 
 
 
 
 
 
 
 
 
December 31, 2015
 
(in millions)
Financial Assets
 
 
 
 
 
 
 
 
 
Fair value of derivative contracts – short-term
$

 
$
147.8

 
$

 
$
(1.0
)
 
$
146.8

Fair value of derivative contracts – long-term

 
23.2

 

 

 
23.2

Total financial assets
$

 
$
171.0

 
$

 
$
(1.0
)
 
$
170.0

 
 
 
 
 
 
 
 
 
 
Financial Liabilities
 

 
 

 
 

 
 

 
 

Fair value of derivative contracts – short-term
$

 
$
1.8

 
$

 
$
(1.0
)
 
$
0.8

Fair value of derivative contracts – long-term

 
4.0

 

 

 
4.0

Total financial liabilities
$


$
5.8


$


$
(1.0
)

$
4.8

_______________________
(1) 
The Company nets its derivative contract assets and liabilities outstanding with the same counterparty on the Condensed Consolidated Balance Sheets, as the contracts contain netting provisions. Refer to Note 7 – Derivative Contracts, for additional information regarding the Company's derivative contracts.

The following table discloses the fair value and related carrying amount of certain financial instruments not disclosed in other Notes accompanying the Condensed Consolidated Financial Statements in this Quarterly Report on Form 10-Q:
 
Carrying
Amount
 
Level 1
Fair Value
 
Carrying
Amount
 
Level 1
Fair Value
 
September 30, 2016
 
December 31, 2015
 
(in millions)
Financial Assets
 
 
 
 
 
 
 
Cash and cash equivalents
$
1,032.2

 
$
1,032.2

 
$
376.1

 
$
376.1

Financial Liabilities
 

 
 

 
 

 
 

Checks outstanding in excess of cash balances
$
4.3

 
$
4.3

 
$
29.8

 
$
29.8

Long-term debt
$
2,019.3

 
$
2,067.9

 
$
2,191.5

 
$
1,784.6


The carrying amounts of cash and cash equivalents and checks outstanding in excess of cash balances approximate fair value. The fair value of fixed-rate long-term debt is based on the trading levels and dollar prices for the Company’s debt at the end of the quarter. The carrying amount of variable-rate, long-term debt approximates fair value because the floating interest rate paid on such debt was set for periods of one month.

12





The initial measurement of ARO at fair value is calculated using discounted cash flow techniques and based on internal estimates of future retirement costs associated with property, plant and equipment. Significant Level 3 inputs used in the calculation of asset retirement obligations include plugging costs and reserve lives. A reconciliation of the Company’s ARO is presented in Note 5 – Asset Retirement Obligations.

Nonrecurring Fair Value Measurements

The provisions of the fair value measurement standard are also applied to the Company's nonrecurring measurements. The Company utilizes fair value on a nonrecurring basis to review its proved oil and gas properties for potential impairment when events and circumstances indicate a possible decline in the recoverability of the carrying value of such property. During the nine months ended September 30, 2016 and 2015, the Company recorded impairments on certain proved oil and gas properties of $1,167.9 million and $33.8 million, respectively, resulting in a reduction of the associated carrying value to fair value. The fair value of the property was measured utilizing the income approach and utilizing inputs which are primarily based upon internally developed cash flow models discounted at an appropriate weighted average cost of capital. Given the unobservable nature of the inputs, proved oil and gas property impairments are considered Level 3 within the fair value hierarchy.

Acquisitions of proved and unproved properties are also measured at fair value on a nonrecurring basis. The Company utilizes a discounted cash flow model to estimate the fair value of acquired property as of the acquisition date which utilizes the following inputs to estimate future net cash flows: estimated quantities of gas, oil and NGL reserves; estimates of future commodity prices; and estimated production rates, future operating and development costs, which are based on the Company's historic experience with similar properties. In some instances, market comparable information of recent transactions is used to estimate fair value of unproved acreage. Due to the unobservable characteristics of the inputs, the fair value of the acquired properties is considered Level 3 within the fair value hierarchy.

Note 7 – Derivative Contracts
 
QEP has established policies and procedures for managing commodity price volatility through the use of derivative instruments. In the normal course of business, QEP uses commodity price derivative instruments to reduce the impact of potential downward movements in commodity prices on cash flow, returns on capital investment, and other financial results. However, these instruments typically limit gains from favorable price movements. The volume of production subject to commodity derivative instruments and the mix of the instruments are frequently evaluated and adjusted by management in response to changing market conditions. QEP may enter into commodity derivative contracts for up to 100% of forecasted production, but generally, QEP enters into commodity derivative contracts for approximately 50% to 75% of its forecasted annual production by the end of the first quarter of each fiscal year. In addition, QEP may enter into commodity derivative contracts on a portion of its storage transactions. QEP does not enter into commodity derivative contracts for speculative purposes.

QEP uses commodity derivative instruments known as fixed-price swaps or collars to realize a known price or price range for a specific volume of production delivered into a regional sales point. QEP's commodity derivative instruments do not require the physical delivery of gas or oil between the parties at settlement. All transactions are settled in cash with one party paying the other for the net difference in prices, multiplied by the contract volume, for the settlement period. Gas price derivative instruments are typically structured as fixed-price swaps or collars at regional price indices. Oil price derivative instruments are typically structured as NYMEX fixed-price swaps based at Cushing, Oklahoma or oil price swaps that use Intercontinental Exchange, Inc. (ICE) Brent oil prices as the reference price. QEP also enters into crude oil and natural gas basis swaps to achieve a fixed-price swap for a portion of its gas and oil sales at prices that reference specific regional index prices.

QEP does not currently have any commodity derivative transactions that have margin requirements or collateral provisions that would require payments prior to the scheduled settlement dates. QEP's commodity derivative contract counterparties are typically financial institutions and energy trading firms with investment-grade credit ratings. QEP routinely monitors and manages its exposure to counterparty risk by requiring specific minimum credit standards for all counterparties and avoids concentration of credit exposure by transacting with multiple counterparties. The Company has master-netting agreements with some counterparties that allow the offsetting of receivables and payables in a default situation.

13





Derivative Contracts Production
The following table presents QEP’s volumes and average prices for its commodity derivative swap contracts as of September 30, 2016
Year
 
Index
 
Total Volumes
 
Average Swap Price per Unit
 
 
 
 
(in millions)
 
 
Gas sales
 
 
 
(MMBtu)

 
($/MMBtu)

2016
 
 NYMEX HH
 
15.6

 
$
2.80

2016
 
 IFNPCR
 
18.4

 
$
2.53

2017
 
NYMEX HH
 
80.3

 
$
2.78

2017
 
IFNPCR
 
32.9

 
$
2.51

2018
 
NYMEX HH
 
29.2

 
$
2.92

Oil sales
 
 
 
(bbls)

 
($/bbl)

2016
 
NYMEX WTI
 
3.0

 
$
51.24

2017
 
NYMEX WTI
 
11.0

 
$
50.74

2018
 
NYMEX WTI
 
5.1

 
$
52.73


The following table presents QEP's volumes and average prices for its commodity derivative gas collars as of September 30, 2016:
Year
 
Index
 
Total Volumes
 
Average Price Floor
 
Average Price Ceiling
 
 
 
 
(in millions)
 
 
 
 
 
 
 
 
(MMBtu)

 
($/MMBtu)

 
($/MMBtu)

2016
 
NYMEX HH
 
1.8

 
$
2.75

 
$
3.89

2017
 
NYMEX HH
 
11.0

 
$
2.50

 
$
3.50


QEP uses gas basis swaps, combined with NYMEX HH fixed price swaps, to achieve fixed price swaps for the location at which it sells its physical production. The following table presents details of QEP's gas basis swaps as of September 30, 2016:
Year
 
Index Less Differential
 
Index
 
Total Volumes
 
Weighted-Average Differential
 
 
 
 
 
 
(in millions)
 
 
 
 
 
 
 
 
(MMBtu)

 
($/MMBtu)

2016
 
NYMEX HH
 
IFNPCR
 
9.2

 
$
(0.16
)
2017
 
NYMEX HH
 
IFNPCR
 
51.1

 
$
(0.18
)
2018
 
NYMEX HH
 
IFNPCR
 
7.3

 
$
(0.16
)

14





Derivative Contracts Storage
QEP enters into commodity derivative transactions to lock in a margin on gas volumes placed into storage. The following table presents QEP’s volumes and average prices for its storage commodity derivative swap contracts as of September 30, 2016:
Year
 
Type of Contract
 
Index
 
Total Volumes
 
Average Swap Price per Unit
 
 
 
 
 
 
(in millions)
 
 
Gas sales
 
 
 
 
 
(MMBtu)

 
($/MMBtu)

2016
 
SWAP
 
IFNPCR
 
2.0

 
$
2.78

2017
 
SWAP
 
IFNPCR
 
3.8

 
$
2.87

Gas purchases
 
 
 
 
 
 
 
 

2016
 
SWAP
 
IFNPCR
 
1.5

 
$
2.57


 
QEP Derivative Financial Statement Presentation
The following table identifies the Condensed Consolidated Balance Sheet location of QEP’s outstanding derivative contracts on a gross contract basis as opposed to the net contract basis presentation on the Condensed Consolidated Balance Sheets and the related fair values at the balance sheet dates:
 
 
 
Gross asset derivative
instruments fair value
 
Gross liability derivative
instruments fair value
 
Balance Sheet
line item
 
September 30,
2016
 
December 31, 2015
 
September 30,
2016
 
December 31, 2015
Current:
 
 
(in millions)
Commodity
Fair value of derivative contracts
 
$
7.6

 
$
147.8

 
$
41.6

 
$
1.8

Long-term:
 
 
 

 
 

 
 
 
 

Commodity
Fair value of derivative contracts
 

 
23.2

 
19.4

 
4.0

Total derivative instruments
 
$
7.6

 
$
171.0

 
$
61.0

 
$
5.8



15




The effects of the change in fair value and settlement of QEP's derivative contracts recorded in "Realized and unrealized gains (losses) on derivative contracts" on the Condensed Consolidated Statements of Operations are summarized in the following table:
 
 
Three Months Ended
 
Nine Months Ended
Derivative contracts not designated as cash flow hedges
 
September 30,
 
September 30,
 
2016
 
2015
 
2016
 
2015
Realized gains (losses) on commodity derivative contracts
 
(in millions)
Production
 
 
 
 
 
 
 
 
Gas derivative contracts
 
$
0.4

 
$
23.1

 
$
50.8

 
$
69.1

Oil derivative contracts
 
19.1

 
96.8

 
79.8

 
245.3

Storage
 
 

 
 

 
 
 
 
Gas derivative contracts
 
0.1

 
(0.1
)
 
2.9

 
2.1

Total realized gains (losses) on commodity derivative contracts
 
19.6

 
119.8

 
133.5

 
316.5

Unrealized gains (losses) on commodity derivative contracts
 
 
 
 
 
 
 
 
Production
 
 

 
 

 
 
 
 
Gas derivative contracts
 
24.8

 
3.6

 
(80.0
)
 
(19.5
)
Oil derivative contracts
 
(0.3
)
 
28.8

 
(135.9
)
 
(128.0
)
Storage
 
 

 
 

 
 
 
 
Gas derivative contracts
 
0.4

 
1.4

 
(2.7
)
 
(0.5
)
Total unrealized gains (losses) on commodity derivative contracts
 
24.9

 
33.8

 
(218.6
)
 
(148.0
)
Total realized and unrealized gains (losses) on commodity derivative contracts
 
$
44.5

 
$
153.6

 
$
(85.1
)
 
$
168.5


Note 8 – Restructuring Costs

In April 2016, the Company streamlined its organizational structure, resulting in a reduction of approximately 6% of its total workforce. The total costs related to the 2016 restructuring were approximately $1.9 million and were related to one-time termination benefits. During the three and nine months ended September 30, 2016, restructuring costs of $0.1 million and $1.9 million, respectively, were incurred and paid related to the 2016 restructuring. The Company does not expect to incur additional costs related to the 2016 restructuring.

During 2015, QEP had multiple restructuring events, including the closure of its Tulsa office, which occurred in the third quarter of 2015. The total costs related to the 2015 restructuring events were approximately $8.3 million, of which approximately $5.3 million was related to one-time termination benefits and approximately $3.0 million was related to relocation of certain employees. During the three and nine months ended September 30, 2016, restructuring costs of $0.1 million and $0.6 million, respectively, were incurred and paid related to the Tulsa office closure, all of which were related to the relocation of certain employees. The Company does not expect to incur additional costs related to the closure of its Tulsa office.

All restructuring costs were recorded within "General and administrative" expense on the Condensed Consolidated Statement of Operations.


16




Note 9 – Debt
 
As of the indicated dates, the principal amount of QEP’s debt consisted of the following:
 
September 30,
2016
 
December 31,
2015
 
(in millions)
Revolving Credit Facility due 2019
$

 
$

6.05% Senior Notes due 2016 (1)

 
176.8

6.80% Senior Notes due 2018
134.0

 
134.0

6.80% Senior Notes due 2020
136.0

 
136.0

6.875% Senior Notes due 2021
625.0

 
625.0

5.375% Senior Notes due 2022
500.0

 
500.0

5.25% Senior Notes due 2023
650.0

 
650.0

Less: unamortized discount and unamortized debt issuance costs
(25.7
)
 
(30.3
)
Total principal amount of debt (including current portion)
2,019.3


2,191.5

Less: current portion of long-term debt

 
(176.8
)
Total long-term debt outstanding
$
2,019.3

 
$
2,014.7

_______________________
(1) 
During the three months ended September 30, 2016, the Company paid $176.8 million for the repayment of the 6.05% Senior Notes, which were due on September 1, 2016.

Of the total debt outstanding on September 30, 2016, the 6.80% Senior Notes due April 1, 2018, the 6.80% Senior Notes due March 1, 2020 and the 6.875% Senior Notes due March 1, 2021, will mature within the next five years. In addition, the revolving credit facility matures on December 2, 2019.
 
Credit Facility
QEP’s revolving credit facility, which matures in December 2019, provides for loan commitments of $1.8 billion from a group of financial institutions. The credit facility provides for borrowings at short-term interest rates and contains customary provisions and restrictions. The credit agreement contains financial covenants (as defined in the credit agreement) that limit the amount of debt the Company may incur and may limit the amount available to be drawn under the credit facility, including: (i) a net funded debt to capitalization ratio that may not exceed 60%, (ii) a leverage ratio under which net funded debt may not exceed 4.25 times consolidated EBITDA (as defined in the credit agreement) for the fiscal quarters ending on and prior to December 31, 2017, and 3.75 times thereafter and (iii) a present value coverage ratio under which the present value of the Company’s proved reserves must exceed net funded debt by 1.25 times at any time prior to January 1, 2018, and 1.50 times at any time on or after January 1, 2018. At September 30, 2016, QEP was in compliance with the covenants under the credit agreement.

During the nine months ended September 30, 2016 and 2015, QEP had no borrowings under the credit facility. Additionally, as of September 30, 2016 and December 31, 2015, QEP had no borrowings outstanding under the credit facility and had $2.8 million and $3.4 million, respectively, in letters of credit outstanding under the credit facility.

Senior Notes

At September 30, 2016, the Company had $2,045.0 million principal amount of senior notes outstanding with maturities ranging from April 2018 to May 2023 and coupons ranging from 5.25% to 6.875%. The senior notes pay interest semi-annually, are unsecured senior obligations and rank equally with all of our other existing and future unsecured and senior obligations. QEP may redeem all of its senior notes at any time before their maturity at a redemption price based on a make-whole amount plus accrued and unpaid interest to the date of redemption. The indentures governing QEP’s senior notes contain customary events of default and covenants that may limit QEP’s ability to, among other things, place liens on its property or assets.

Note 10 – Commitments and Contingencies

The Company is involved in various commercial and regulatory claims, litigation and other legal proceedings that arise in the ordinary course of its business. In each reporting period, the Company assesses these claims in an effort to determine the degree of probability and range of possible loss for potential accrual in its Condensed Consolidated Financial Statements. In

17




accordance with ASC 450, Contingencies, an accrual is recorded for a material loss contingency when its occurrence is probable and damages are reasonably estimable based on the anticipated most likely outcome or the minimum amount within a range of possible outcomes.

Legal proceedings are inherently unpredictable, and unfavorable resolutions can occur. Assessing contingencies is highly subjective and requires judgments about uncertain future events. When evaluating contingencies related to legal proceedings, the Company may be unable to estimate losses due to a number of factors, including potential defenses, the procedural status of the matter in question, the presence of complex legal and/or factual issues, the ongoing discovery and/or development of information important to the matter.

Rocky Mountain Resources Lawsuit – Rocky Mountain Resources, LLC (Rocky Mountain) filed a complaint against the Company in March 2011, seeking determination of the existence of a 4% overriding royalty interest in an oil and gas lease. Rocky Mountain alleges that the defendants have failed to pay Rocky Mountain monies associated with the claimed 4% overriding royalty interest since the issuance of the lease by the State of Wyoming in 1980. In February 2015, a jury rendered a verdict against the Company and awarded Rocky Mountain damages in the amount of $16.7 million, including interest. The Company appealed the verdict to the Wyoming Supreme Court and posted a bond for approximately $20.0 million (representing the amount of the verdict and two years of accrued interest at the statutory rate of 10%). In accordance with the Court’s order, the Company is depositing the future monthly revenues attributable to the 4% overriding royalty interest with the Court as such amounts become due and payable. These deposits are presented within “Prepaid expenses and other” on the Company’s Condensed Consolidated Balance Sheets. The overriding royalty payments will be subject to the direction of the Court following the conclusion of the appeal.

Claims of Former Limited Partners The Company received a demand from certain former limited partners of terminated drilling partnerships of the Company (acting as the general partner). The former limited partners allege that distributions to which they were entitled from the drilling partnerships were not made or were calculated incorrectly. Other former limited partners may assert claims. No litigation has been filed, and the Company is in the process of evaluating the allegations and its defenses.

Arbitration Regarding Gas Purchase Agreement A midstream service provider that purchases, gathers and processes natural gas produced from oil wells operated by the Company in the Williston Basin has claimed that the decline in commodity prices has rendered its gathering and processing operations “uneconomic” and demanded that, effective March 1, 2016, QEP pay additional fees for gathering and processing services. The midstream service provider has been unwilling to connect new wells unless the Company agrees to pay the increased fees for production from the new wells. QEP initiated arbitration proceedings in May 2016 to enforce the terms of the existing agreement. The arbitration proceedings are scheduled for the fourth quarter of 2016.

Department of Interior Investigation regarding Indian Royalties – Pursuant to regulations published by the Office of Natural Resources Revenue (ONRR) of the Department of the Interior (DOI), certain of the Company’s Indian leases are subject to “dual accounting” and “major portion” requirements.  The Company must initially report royalties on production from these leases based upon its actual sales arrangements and, once ONRR publishes the major portion price (approximately 18 months after a calendar year), the Company must recalculate its previously reported royalties for the applicable calendar year and pay additional royalties if the dual accounting or major portion pricing results in higher royalties. In July 2016, the Company was notified that the Office of Inspector General of the DOI is conducting an investigation into the timeliness of the Company’s compliance with ONRR dual accounting and major portion requirements to recalculate royalties for 2013 on production from certain Indian leases. There may be penalties and additional royalties due.

EPA Request for Information In July 2015, QEP received an information request from the Environmental Protection Agency (EPA) pursuant to Section 114(a) of the Clean Air Act. The information request sought facts and data about certain tank batteries in QEP’s Williston Basin operations. QEP timely responded to the information requests. In August 2016, the EPA requested a conference to review this matter. In addition, since February 2016, the North Dakota Department of Health (NDDH) has engaged with the oil and gas production industry in North Dakota to address potential noncompliance associated with emissions from tank batteries. QEP has participated in these discussions. While no formal federal or state enforcement action has been commenced in connection with the tank batteries to date, other operators have been assessed penalties following similar information requests. QEP anticipates that resolution of these matters will likely result in penalties and require QEP to incur additional capital expenditures to correct noncompliance issues.

To the extent that the Company can reasonably estimate losses for contingencies where the risk of a material loss (in excess of accruals, if any) is reasonably possible, the Company estimates such losses could total between zero and approximately $60.0 million.

18





Note 11 – Share-Based Compensation
 
QEP issues stock options, restricted shares and restricted share units under its Long-Term Stock Incentive Plan (LTSIP) and awards performance share units under its Cash Incentive Plan (CIP) to certain officers, employees, and non-employee directors. QEP recognizes the expense over the vesting periods for the stock options, restricted shares, restricted share units and performance share units. There were 7.1 million shares available for future grants under the LTSIP at September 30, 2016.

Share-based compensation expense is recognized within "General and administrative" expense on the Condensed Consolidated Statements of Operations and is summarized in the table below:
 
Three Months Ended
 
Nine Months Ended
 
September 30,
 
September 30,
 
2016
 
2015
 
2016
 
2015
 
(in millions)
Stock options
$
0.6

 
$
0.7

 
$
1.8

 
$
2.2

Restricted share awards
6.0

 
6.8

 
18.2

 
19.5

Performance share units
3.2

 
0.2

 
8.8

 
1.6

Restricted share units
0.1

 

 
0.2

 

Total share-based compensation expense
$
9.9

 
$
7.7

 
$
29.0

 
$
23.3


Stock Options
QEP uses the Black-Scholes-Merton mathematical model to estimate the fair value of stock option awards at the date of the grant. Fair value calculations rely upon subjective assumptions used in the mathematical model and may not be representative of future results. The Black-Scholes-Merton model is intended for calculating the value of options not traded on an exchange. The Company utilizes the "simplified" method to estimate the expected term of the stock options granted as there is limited historical exercise data available in estimating the expected term of the stock options. QEP uses a historical volatility method to estimate the fair value of stock options awards and the risk-free interest rate is based on the yield on U.S. Treasury strips with maturities similar to those of the expected term of the stock options. The stock options typically vest in equal installments over a three-year period from the grant date and are exercisable immediately upon vesting through the seventh anniversary of the grant date. To fulfill options exercised, QEP either reissues treasury stock or issues new shares.

The calculated fair value of options granted and major assumptions used in the model at the date of grant are listed below for the nine months ended September 30, 2016:
 
Stock Option Assumptions
Weighted-average grant date fair value of awards granted during the period
$
3.77

Weighted-average risk-free interest rate
1.15
%
Weighted-average expected price volatility
43.4
%
Expected dividend yield
%
Expected term in years at the date of grant
4.5



19




Stock option transactions under the terms of the LTSIP are summarized below:
 
Options Outstanding
 
Weighted-Average Exercise Price
 
Weighted-Average Remaining Contractual Term
 
Aggregate Intrinsic Value
 
 
 
(per share)
 
(in years)
 
(in millions)
Outstanding at December 31, 2015
2,200,776

 
$
27.94

 
 
 
 
Granted
438,180

 
10.14

 
 
 
 
Canceled
(486,999
)
 
23.77

 
 
 
 
Outstanding at September 30, 2016
2,151,957

 
$
25.26

 
3.92
 
$
4.1

Options Exercisable at September 30, 2016
1,385,753

 
$
30.18

 
2.86
 
$
0.2

Unvested Options at September 30, 2016
766,204

 
$
16.38

 
5.83
 
$
3.9

 
During the nine months ended September 30, 2016, there were no exercises of stock options. During the nine months ended September 30, 2015, the total intrinsic value (the difference between the market price at the exercise date and the exercise price) of options exercised was $0.1 million. As of September 30, 2016, $1.7 million of unrecognized compensation cost related to stock options granted under the LTSIP, which is included within "Additional paid-in capital" on the Condensed Consolidated Balance Sheet, is expected to be recognized over a weighted-average period of 2.02 years.
 
Restricted Share Awards
Restricted share award grants typically vest in equal installments over a three-year period from the grant date. The grant date fair value is determined based on the closing bid price of the Company's common stock on the grant date. The total fair value of restricted share awards that vested during the nine months ended September 30, 2016 and 2015, was $24.2 million and $21.0 million, respectively. The weighted-average grant date fair value of restricted share awards was $10.37 per share and $21.02 per share for the nine months ended September 30, 2016 and 2015, respectively. As of September 30, 2016, $22.9 million of unrecognized compensation cost related to restricted share awards granted under the LTSIP, which is included within "Additional paid-in capital" on the Condensed Consolidated Balance Sheet, is expected to be recognized over a weighted-average vesting period of 2.15 years.

Transactions involving restricted share awards under the terms of the LTSIP are summarized below:
 
Restricted Share Awards Outstanding
 
Weighted-Average Grant Date Fair Value
 
 
 
(per share)
Unvested balance at December 31, 2015
2,008,210

 
$
24.18

Granted
2,427,634

 
10.37

Vested
(966,748
)
 
25.03

Forfeited
(252,448
)
 
14.16

Unvested balance at September 30, 2016
3,216,648

 
$
14.29

 
Performance Share Units
The performance share units' cash payouts are dependent upon the Company’s total shareholder return compared to a group of its peers over a three-year period. The awards are denominated in share units and have historically been delivered in cash. Beginning with awards granted in 2015, the Company has the option to settle earned awards in cash or shares of common stock under the Company's LTSIP; however, as of September 30, 2016, the Company expects to settle all awards in cash. These awards are classified as liabilities and are included within "Other long-term liabilities" on the Condensed Consolidated Balance Sheet. As these awards are dependent upon the Company's total shareholder return and stock price, they are remeasured at fair value at the end of each reporting period. The weighted-average grant date fair value of the performance share units was $10.16 per share and $21.69 per share for the nine months ended September 30, 2016 and 2015, respectively. As of September 30, 2016, $16.6 million of unrecognized compensation cost, which represents the unvested portion of the fair market value of performance shares granted, is expected to be recognized over a weighted-average vesting period of 1.98 years.


20




Transactions involving performance share units under the terms of the CIP are summarized below:
 
Performance Share Units Outstanding
 
Weighted-Average Grant Date Fair Value
 
 
 
(per share)
Unvested balance at December 31, 2015
630,786

 
$
27.50

Granted
597,185

 
10.16

Vested and Paid
(178,169
)
 
30.07

Forfeited
(22,431
)
 
15.09

Unvested balance at September 30, 2016
1,027,371

 
$
17.24


Restricted Share Units
Restricted share units vest over a three-year period and are deferred into the Company's nonqualified unfunded deferred compensation plan at the time of vesting. These awards are classified as liabilities and are included within "Other long-term liabilities" on the Condensed Consolidated Balance Sheet. As these awards are dependent upon the Company's stock price, they are remeasured at fair value at the end of each reporting period. The weighted-average grant date fair value of the restricted share units was $10.12 per share for the nine months ended September 30, 2016. As of September 30, 2016, $0.2 million of unrecognized compensation cost, which represents the unvested portion of the fair market value of restricted share units granted, is expected to be recognized over a weighted-average vesting period of 2.59 years.

Transactions involving restricted share units under the terms of the LTSIP are summarized below:
 
Restricted Share Units Outstanding
 
Weighted-Average Grant Date Fair Value
 
 
 
(per share)
Unvested balance at December 31, 2015

 
$

Granted
21,493

 
10.12

Vested
(193
)
 
10.12

Forfeited
(3,266
)
 
10.12

Unvested balance at September 30, 2016
18,034

 
$
10.12


Note 12 – Employee Benefits

Pension and Other Postretirement Benefits
The Company provides pension and other postretirement benefits to certain employees through three retirement benefit plans: the QEP Resources, Inc. Retirement Plan (the Pension Plan), the Supplemental Executive Retirement Plan (the SERP), and a postretirement medical plan (the Medical Plan).

The Pension Plan is a closed, qualified, defined-benefit pension plan that is funded and provides pension benefits to certain QEP employees. During the nine months ended September 30, 2016, the Company made contributions of $4.0 million to the Pension Plan and does not expect to make additional contributions to the Pension Plan during the remainder of 2016. Contributions to the Pension Plan increase plan assets.

As a result of the Company's divestitures in 2014 and retirements in 2015, the number of active participants in the Pension Plan fell to 50 employees during the year ended December 31, 2015, which is the minimum number of active participants required for a plan to be qualified under the Internal Revenue Services' participation rules. In order to prevent disqualification, the Pension Plan was amended in June 2015 and was frozen effective January 1, 2016, such that employees do not earn additional defined benefits for future services.

The SERP is a nonqualified retirement plan that is unfunded and provides pension benefits to certain QEP employees. During the nine months ended September 30, 2016, the Company made contributions of $3.5 million to its SERP and expects to contribute an additional $0.1 million to its SERP during the remainder of 2016. Contributions to the SERP are used to fund current benefit payments. The SERP was amended and restated in June 2015 and was closed to new participants effective January 1, 2016.


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The Medical Plan is unfunded and provides other postretirement benefits including certain health care and life insurance benefits for certain retired QEP employees. During the nine months ended September 30, 2016, the Company made contributions of $0.2 million to its Medical Plan and expects to contribute an additional $0.1 million to its Medical Plan during the remainder of 2016. Contributions to the Medical Plan are used to fund current benefit payments.

The following table sets forth the Company’s net periodic benefit costs related to its Pension Plan, SERP and Medical Plan:
 
Three Months Ended
 
Nine Months Ended
 
September 30,
 
September 30,
 
2016
 
2015
 
2016
 
2015
Pension Plan and SERP benefits
(in millions)
Service cost
$
0.3

 
$
0.5

 
$
0.9

 
$
1.5

Interest cost
1.3

 
1.3

 
3.9

 
3.7

Expected return on plan assets
(1.4
)
 
(1.5
)
 
(4.2
)
 
(4.3
)
Amortization of prior service costs (1)
0.3

 
0.4

 
0.9

 
1.3

Amortization of actuarial losses (1)
0.2

 
0.1

 
0.6

 
0.4

Curtailment loss (2)

 

 

 
11.2

Periodic expense
$
0.7

 
$
0.8

 
$
2.1

 
$
13.8

 
 
 
 
 
 
 
 
Medical Plan benefits
 
 
 
 
 
 
 
Interest cost
$
0.1

 
$
0.1

 
$
0.2

 
$
0.2

Amortization of prior service costs (1)

 

 
0.1

 
0.1

Periodic expense
$
0.1

 
$
0.1

 
$
0.3

 
$
0.3

____________________________
(1) 
Amortization of prior service costs and actuarial losses out of accumulated other comprehensive income are recognized on the Condensed Consolidated Statements of Operations within "General and administrative" expense.
(2) 
A curtailment is recognized immediately when there is a significant reduction in, or an elimination of, defined benefit accruals for current employees' future services. These expenses are recognized on the Condensed Consolidated Statements of Operations within "General and administrative" expense for the nine months ended September 30, 2015.

Note 13 – Subsequent Event

On October 19, 2016, QEP closed on its previously announced acquisition of oil and gas properties in the Permian Basin for an aggregate purchase price of approximately $590.0 million, subject to customary purchase price adjustments (the 2016 Permian Acquisition). The 2016 Permian Acquisition consists of approximately 9,400 net acres in Martin County, Texas, which are primarily held by production from existing vertical wells. The 2016 Permian Acquisition was funded with proceeds from the June 2016 equity offering and cash on hand. Final purchase accounting for the transaction was not complete at the time this Form 10-Q was filed with the SEC, and as such, certain disclosures required by ASC Topic 805, Business Combinations, have not been made herein. The Company will include this information in its 2016 Annual Report on Form 10-K.

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Management’s Discussion and Analysis of Financial Condition and Results of Operations (MD&A) is intended to provide the reader of the financial statements with a narrative from the perspective of management on the financial condition, results of operations, liquidity and certain other factors that may affect the Company’s operating results. MD&A should be read in conjunction with the Condensed Consolidated Financial Statements and related Notes included in Part I, Item 1 of this Quarterly Report on Form 10-Q.

The following information updates the discussion of QEP's financial condition provided in its 2015 Annual Report on Form 10-K and analyzes the changes in the results of operations between the three and nine months ended September 30, 2016 and 2015. For definitions of commonly used oil and gas terms found in this Quarterly Report on Form 10-Q, please refer to the "Glossary of Terms" provided in QEP's 2015 Annual Report on Form 10-K.


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OVERVIEW

QEP Resources, Inc. is an independent natural gas and crude oil exploration and production company focused in two regions of the United States: the Northern Region (primarily in Wyoming, North Dakota and Utah) and the Southern Region (primarily in Texas and Louisiana). Unless otherwise specified or the context otherwise requires, all references to "QEP" or the "Company" are to QEP Resources, Inc. and its subsidiaries on a consolidated basis. QEP's corporate headquarters are located in Denver, Colorado and shares of QEP's common stock trade on the New York Stock Exchange (NYSE) under the ticker symbol "QEP".

The Company has substantial acreage positions and operations in some of the most prolific hydrocarbon resource plays in the continental United States, including the Williston Basin, Permian Basin, Pinedale Anticline, Uinta Basin and Haynesville Shale. These resource plays are characterized by unconventional oil or gas accumulations in continuous tight sands or shales that underlie broad geographic areas. The lateral continuity of such resource plays means that, aside from wells abandoned due to mechanical issues, the Company does not expect to drill many unsuccessful wells as it develops these resource plays. Resource plays allow the Company the opportunity to gain considerable operational efficiencies through high-density, repeatable drilling and completion operations. The Company believes it has a large inventory of lower-risk, predictable development drilling locations across its acreage holdings in the onshore U.S., which provide a solid base for growth in organic production and reserves.

Outlook

In response to the commodity price environment in the first three quarters of 2016, we have reduced drilling and completion activities from 2015 and focused on reducing costs and preserving our liquidity, and plan to continue these strategies for the remainder of 2016. We are focused on driving improved operating performance by optimizing reservoir development, enhancing well completion designs, and pursuing cost reductions.

Based on current commodity prices, we expect to be able to fund our planned capital program with cash flow from operating activities, cash on hand and, if needed, availability under our credit facility. Our total capital expenditures (excluding acquisitions) for 2016 are expected to be approximately $538.0 million, a decrease of approximately 50% from 2015 capital expenditures. With this capital program, we expect total equivalent production to be slightly higher than in 2015, excluding production from the 2016 Permian Acquisition (defined below). We plan to continuously evaluate our level of drilling and completion activity in light of both commodity prices and changes in our operating and development costs and will adjust our capital spending program as appropriate. See "Cash Flow from Investing Activities" for further discussion of our capital expenditures. We will also continue to pursue acquisitions and divest of non-core properties.

Equity Offerings

In June 2016, QEP issued 23.0 million shares of common stock through a public offering and received net proceeds of approximately $413.0 million. In October, QEP used the net proceeds from this offering to partially fund the 2016 Permian Acquisition (defined below).

In March 2016, QEP issued 37.95 million shares of common stock through a public offering and received net proceeds of approximately $368.6 million. QEP used the net proceeds from this offering for general corporate purposes.

Termination of Marketing Agreements and QEP Marketing Segment

Effective January 1, 2016, QEP terminated its contracts for resale and marketing transactions between its wholly owned subsidiaries, QEP Marketing Company (QEP Marketing) and QEP Energy Company (QEP Energy).  In addition, substantially all of QEP Marketing's third-party purchase and sale agreements and gathering, processing and transportation contracts were assigned to QEP Energy, except those contracts related to natural gas storage activities and the Haynesville gathering system. As a result, QEP Energy is directly marketing its own gas, oil and NGL production. While QEP will continue to act as an agent for the sale of gas, oil and NGL production for other working interest owners, for whom QEP serves as the operator, QEP is no longer the first purchaser of this production.  QEP has substantially reduced its marketing activities, and subsequently is reporting lower resale revenue and expenses than it had in prior periods. In conjunction with the changes described above, QEP conducted a segment analysis in accordance with Accounting Standards Codification (ASC) Topic 280, Segment Reporting, and determined that QEP has one reportable segment effective January 1, 2016.


23




Acquisitions and Divestitures

On October 19, 2016, QEP closed on its previously announced acquisition of oil and gas properties in the Permian Basin for an aggregate purchase price of approximately $590.0 million, subject to customary purchase price adjustments (the 2016 Permian Acquisition). The 2016 Permian Acquisition consists of approximately 9,400 net acres in Martin County, Texas, which are primarily held by production from existing vertical wells. The 2016 Permian Acquisition was funded with proceeds from the June 2016 equity offering and cash on hand.

During the nine months ended September 30, 2016, QEP acquired various oil and gas properties, primarily in the Williston and Permian basins, for an aggregate purchase price of $46.1 million, including interests in QEP's operated wells and additional undeveloped leasehold acreage. In conjunction with the acquisitions, the Company recorded $3.7 million of goodwill and a $4.4 million bargain purchase gain. During the nine months ended September 30, 2015, QEP acquired various oil and gas properties, primarily undeveloped leasehold acreage in the Permian Basin, for an aggregate purchase price of $23.5 million.

During the nine months ended September 30, 2016, QEP received proceeds of $28.9 million and recorded a pre-tax gain on sale of $5.0 million primarily related to the divestiture of certain non-core properties in Other Southern. During the nine months ended September 30, 2015, QEP recorded a pre-tax gain on sale of $6.9 million comprised of a gain related to divestitures and post-closing purchase price adjustments of certain non-core properties in Other Southern, partially offset by a loss recognized for post-closing adjustments related to the sale of QEP's midstream business in 2014.

While QEP believes its extensive inventory of identified drilling locations provides a solid base for growth in production and reserves, the Company continues to evaluate acquisition opportunities that it believes will create significant long-term value. QEP believes that its experience, expertise, and presence in its core operating areas, combined with a low-cost operating model and financial strength, enhances its ability to pursue acquisition opportunities.

Financial and Operating Results

During the three months ended September 30, 2016, QEP:

Maintained flat natural gas equivalent production of 86.6 Bcfe, compared to 86.7 Bcfe during the third quarter of 2015;
Reported oil production in the Permian Basin of 989.9 Mbbls, a 33% increase over the third quarter of 2015;
Reduced lease operating expense by $0.07 per Mcfe from the third quarter of 2015 to $0.58 per Mcfe;
Generated a net loss of $50.9 million, or $0.21 per diluted share;
Reported Adjusted EBITDA (a non-GAAP financial measure defined and reconciled below) of $168.7 million; and
Maintained $1,032.2 million in cash and cash equivalents and had no borrowings under its credit facility.

During the nine months ended September 30, 2016, QEP:

Reported natural gas equivalent production of 252.6 Bcfe, a 4% increase over the same period in 2015;
Reported oil production of 15,411.0 Mbbls, a 6% increase over the first three quarters of 2015, including higher production in the Permian and Williston basins;
Reduced lease operating expense by $0.07 per Mcfe from the first three quarters of 2015 to $0.65 per Mcfe;
Generated a net loss of $1,111.7 million, or $5.15 per diluted share;
Reported Adjusted EBITDA (a non-GAAP financial measure defined and reconciled below) of $452.1 million;
Incurred impairment expense of $1,188.2 million, primarily due to lower future commodity prices; and
Issued 60.95 million shares of common stock through two public offerings and received net proceeds of approximately $781.6 million.

Factors Affecting Results of Operations

Supply, Demand, Market Risk and their Impact on Oil and Gas Prices
Oil and gas prices are affected by many factors outside of our control, including changes in market supply and demand, which are impacted by weather conditions, pipeline capacity constraints, inventory storage levels, basis differentials, export capacity, strength of the U.S. dollar and other factors. In recent years, oil and gas prices have been affected by supply growth particularly in U.S. oil and gas production, driven by advances in drilling and completion technologies, and fluctuations in demand driven by a variety of factors.


24




Changes in the market prices for gas, oil and NGL directly impact many aspects of QEP's business, including its financial condition, revenues, results of operations, planned drilling and completion activity and related capital expenditures, liquidity, rate of growth, costs of goods and services required to drill, complete and operate wells, and the carrying value of its oil and gas properties. Historically, field-level prices received for QEP’s oil and gas production have been volatile. During the past five years, the posted price for WTI crude oil has ranged from a low of $26.19 per barrel in February 2016 to a high of $110.62 per barrel in September 2013. The Henry Hub spot market price of natural gas has ranged from a low of $1.49 per MMBtu in March 2016 to a high of $8.15 per MMBtu in February 2014. If prices of oil and gas decline to early 2016 levels or further, our operations, financial condition and level of expenditures for the development of our oil and gas reserves may be materially and adversely affected.

NGL prices have also been affected by increased U.S. hydrocarbon production and insufficient domestic demand and export capacity. Prices of heavier NGL components, typically correlated to oil prices, have declined in concert with weakening oil prices. Concurrently, the lighter NGL components, ethane and propane, have experienced declines as a result of growing North American oversupply. In addition to commodity price movements, QEP's composite NGL prices are affected by ethane recovery or rejection. When ethane is recovered as a discrete NGL component instead of being sold as part of the natural gas stream, the average sales price of a NGL barrel decreases as the ethane price is generally lower than the prices of the remaining NGL components. As permitted in some of its processing agreements, QEP recovers ethane when gas processing economics support the recovery of ethane from the natural gas stream. When gas processing economics do not support ethane recovery, and processing agreements permit it to do so, QEP elects to reject ethane from the NGL stream. In instances where QEP can make an election, QEP rejected ethane during the nine months ended September 30, 2016, and will likely continue to reject ethane for the remainder of 2016.

Global Geopolitical and Macroeconomic Factors
QEP continues to monitor the global economy, including Europe's economic outlook and the impact of United Kingdom’s vote to exit the European Union; the Organization of Petroleum Exporting Countries (OPEC) countries oil production; political unrest in Europe, the Middle East, and Africa; slowing growth in Asia, particularly in China; the outcome of U.S. federal, state and local elections and ballot initiatives; the U.S. federal budget deficit; changes in regulatory oversight policy; commodity price volatility; the impact of a potential increase in interest rates; volatility in various global currencies; and other factors. A dramatic decline in regional or global economic conditions, a major recession or depression, regional political instability, economic sanctions, war, or other factors beyond the control of QEP could have a significant impact on gas, oil and NGL supply, demand, prices and the Company's ability to continue its planned drilling programs on federal and Native American lands and could materially impact the Company's financial position, results of operations and cash flow from operations. In December 2015, the U.S. lifted a 40-year ban on the export of crude oil. U.S. producers now have access to a wider market, and the U.S. could become a significant exporter of oil if the necessary infrastructure is built to support oil exports. Disruption to the global oil supply system, political and/or economic instability, fluctuations in currency values, and/or other factors could trigger additional volatility in oil prices.

Due to increased global economic uncertainty and the corresponding volatility of commodity prices, QEP has built a strong liquidity position to ensure financial flexibility and has reduced drilling and completion activity and planned capital expenditures. QEP uses commodity derivatives to reduce the volatility of the prices QEP receives for a portion of its production and to partially protect cash flow and returns on invested capital from a drop in commodity prices. Generally, QEP intends to enter into commodity derivative contracts for approximately 50% to 75% of its forecasted annual production by the end of the first quarter of each fiscal year. At September 30, 2016, assuming forecasted 2016 annual production of approximately 337 Bcfe, QEP had approximately 74% of its forecasted gas production and 46% of its forecasted oil production covered with fixed-price swaps and collars. The average swap prices for the derivative contracts settling in 2016, 2017 and 2018 are significantly lower than the average swap prices for the derivative contracts settled prior to 2016 and, therefore, QEP's derivative portfolio may not contribute as much to QEP's net realized prices for current and future production. See Part 1, Item 3 – "Quantitative and Qualitative Disclosures about Market Risk-Commodity Price Risk Management" for further details on QEP’s commodity derivatives transactions.

Government Regulatory Developments
Clean Air Act regulations at 40 C.F.R Part 60, Subpart OOOO (Subpart OOOO) became effective in 2012, with further amendments effective in 2013 and 2014. Subpart OOOO imposes air quality controls and requirements upon QEP's operations. For example, in June 2016, the Environmental Protection Agency (EPA) finalized updates to Subpart OOOO to achieve additional methane and volatile organic compound reductions from certain activities in the oil and gas industry. The new rules include, among others, new requirements for finding and repairing leaks at new well sites and reduced emission completion requirements for oil wells. Additionally, many states are adopting air permitting and other air quality control regulations specific to oil and gas exploration, production, gathering and processing that are more stringent than existing requirements under federal regulations.

25





In June 2016, the EPA published a rule under the Clean Air Act regarding source determination and permitting requirements for the onshore oil and gas industry. This rule defines adjacent sources as those within a quarter of a mile of each other that have shared equipment. Under the new rule, emissions from those sources must be aggregated as a single source. The new rule specifically addresses programs administered by the EPA, such as tribal lands. Most states and local agencies will have discretion on adopting similar rules. This ruling could lead to increased emission controls and potentially increased permitting costs and compliance requirements, particularly for operations located in areas where EPA has primary jurisdiction.

In June 2016, the EPA also issued a Federal Implementation Plan (FIP) to implement the Federal Minor New Source Review Program on tribal lands for oil and gas production. The FIP primarily impacts QEP’s operations on the Fort Berthold Reservation in the Williston Basin and on the Uintah and Ouray Indian Reservations in the Uinta Basin. The FIP creates a permit-by-rule process for minor sources that also incorporates emission limits and other requirements under various federal air quality standards, applying them to a range of equipment and processes used in oil and gas production. However, the FIP does not apply in areas of ozone non-attainment. As a result, the EPA may impose area-specific regulations in parts of the Uinta Basin identified as tribal lands that may require additional emissions controls on existing equipment. The proposals will likely result in increased operating and compliance costs.

In June 2016, the EPA also issued a proposed Information Collection Request (ICR) to support development of new regulations covering methane emissions at existing oil and gas sites. There will be both an "operator survey" and a "facility survey" with greater detail required in the "facility survey". This process could result in additional regulations on existing oil and gas sites potentially leading to increased operating and compliance costs.

In October 2016, the Department of Interior’s Bureau of Land Management (BLM) finalized Onshore Orders No. 3 (Site Security), No. 4 (Measurement of Oil), and No. 5 (Measurement of Gas). The finalized versions of the new Orders are substantially different from the draft versions originally circulated by the BLM for public comment in 2015. QEP is currently reviewing the new regulations to determine the overall impact to the Company.

Potential for Future Asset Impairments
The carrying value of the Company's properties is sensitive to declines in gas, oil and NGL prices. The value of these assets are at risk of impairment if future gas, oil and/or NGL prices decline and/or drilling and completion costs increase. The cash flow model that the Company uses to assess proved properties for impairment includes numerous assumptions, such as management's estimates of future gas, oil and NGL production, market outlook on forward commodity prices, operating and development costs, and discount rates. During the nine months ended September 30, 2016, the Company recorded impairments of $1,188.2 million, of which $1,167.9 million was related to impairments of proved properties due to lower future prices, primarily in Pinedale, $16.6 million was related to expiring leaseholds on unproved properties and $3.7 million was related to an impairment of goodwill. During the nine months ended September 30, 2015, impairments totaled $35.5 million, of which $33.8 million was related to proved properties due to lower future prices and $1.7 million was related to expiring leaseholds on unproved properties. If commodity prices decline during 2016, there could be additional impairment charges to our oil and gas assets or other investments.
 
Multi-Well Pad Drilling
To reduce the costs of well location construction and rig mobilization and demobilization and to obtain other efficiencies, QEP utilizes multi-well pad drilling where practical. In certain of our producing areas, wells drilled on a pad are not brought into production until all wells on the pad are drilled and cased and the drilling rig is moved from the location. As a result, multi-well pad drilling delays the commencement of production. In addition, existing wells that offset new wells being completed by QEP or offset operators may need to be temporarily shut-in during the completion process. Such delays and well shut-ins have caused and may continue to cause volatility in QEP’s quarterly operating results. 

Midstream Services
QEP's ability to produce its wells depends in substantial part on the availability and capacity of gathering, transportation and gas processing facilities owned and operated by third parties. Due to market conditions, many midstream companies are attempting to renegotiate their gathering, processing and transportation agreements with their upstream counterparties. For example, an entity that purchases, gathers and processes natural gas produced from oil wells operated by QEP in the Williston Basin has claimed that the decline in commodity prices has rendered its gathering and processing operations "uneconomic" and demanded that QEP pay additional fees for gathering and processing services. The midstream provider has been unwilling to connect recently drilled and completed wells on the Company's South Antelope acreage of the Williston Basin unless QEP agrees to pay the increased fees. Due to this dispute, completion activities and production volumes were negatively impacted during the third quarter of 2016, and the pace at which the Company is able to complete additional drilled and uncompleted wells during the fourth quarter of 2016 at South Antelope in the Williston Basin will be impacted. QEP initiated arbitration

26




proceedings in May 2016 to enforce the terms of the existing agreement. The arbitration proceedings are scheduled for the fourth quarter of 2016.

Uncertainties related to Claims
QEP is currently subject to claims that could adversely impact QEP’s liquidity, operating results and capital expenditures for a particular reporting period, including, but not limited to, claims of former limited partners regarding distributions, a Department of Interior Investigation regarding timely payment of Indian royalties, and claims regarding potential noncompliance associated with air emissions in the Williston Basin, each of which is described more fully in Note 10 – Commitments and Contingencies, in Item 1 of Part I of this Quarterly Report on Form 10-Q. Given the uncertainties involved in these matters, QEP is unable to predict the ultimate outcomes.

Critical Accounting Estimates
QEP's significant accounting policies are described in Item 7 of Part II of its 2015 Annual Report on Form 10-K. The Company's Condensed Consolidated Financial Statements are prepared in accordance with GAAP. The preparation of the Company's Condensed Consolidated Financial Statements requires management to make assumptions and estimates that affect the reported results of operations and financial position. QEP's accounting policies on oil and gas reserves, successful efforts accounting for oil and gas operations, impairment of long-lived assets, asset retirement obligations, revenue recognition, litigation and other contingencies, environmental obligations, derivative contracts, pension and other postretirement benefits, share-based compensation, income taxes and purchase price allocations, among others, may involve a high degree of complexity and judgment on the part of management.

Drilling Activity
The following table presents operated and non-operated well completions for the three and nine months ended September 30, 2016:
 
Operated Completions
 
Non-operated Completions
 
Three Months Ended
 
Nine Months Ended
 
Three Months Ended
 
Nine Months Ended
 
September 30, 2016
 
September 30, 2016
 
September 30, 2016
 
September 30, 2016
 
Gross
 
Net
 
Gross
 
Net
 
Gross
 
Net
 
Gross
 
Net
Northern Region
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Pinedale
34

 
18.4

 
38

 
21.8

 

 

 

 

Williston Basin
9

 
7.8

 
27

 
25.6

 
16

 
1.0

 
23

 
1.0

Uinta Basin

 

 
8

 
8.0

 

 

 
2

 
0.0

Other Northern

 

 

 

 

 

 

 

Southern Region
 

 
 

 
 
 
 
 
 

 
 

 
 
 
 
Haynesville/Cotton Valley

 

 

 

 

 

 
9

 
1.8

Permian Basin
5

 
5.0

 
18

 
17.7

 

 

 

 

Other Southern

 

 

 

 

 

 

 



27




The following table presents operated and non-operated wells drilling or waiting on completion at September 30, 2016:
 
Operated
 
Non-operated
 
Drilling
 
Waiting on completion
 
Drilling
 
Waiting on completion
 
Gross
 
Net
 
Gross
 
Net
 
Gross
 
Net
 
Gross
 
Net
Northern Region
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Pinedale
8

 
4.5

 
6

 
2.6

 

 

 

 

Williston Basin
4

 
3.7

 
23

 
19.1

 
4

 
0.1

 
12

 
1.3

Uinta Basin

 

 

 

 

 

 
1

 
0.0

Other Northern
1

 
1.0