LNG

Cheniere Energy, Inc. - 10-Q Summary (Period Ended September 30, 2006)

Business Context and Reporting Period

This Form 10-Q covers the quarterly period ended September 30, 2006. Cheniere Energy, Inc. is primarily engaged in developing, constructing, and operating a network of LNG receiving terminals and related natural gas pipelines along the U.S. Gulf Coast. The company operates four segments: LNG receiving terminal, natural gas pipeline, LNG and natural gas marketing, and oil and gas exploration and development. As of the reporting date, the company is in the construction phase for its Sabine Pass LNG terminal (Phase 1 and Phase 2) and has received FERC authorization for its Creole Trail LNG terminal and pipeline.

Key Financial Metrics

Note: Revenues are derived solely from the oil and gas exploration and development segment. The LNG and pipeline segments are in development and generated no revenue.

Material Changes vs. Prior Period

• Net Loss Expansion: The company reported a net loss of $33.1 million for the quarter ended September 30, 2006, compared to a net income of $8.0 million in the same period of 2005. The 2005 income was significantly boosted by a $20.2 million gain on the sale of an investment in an unconsolidated affiliate (Gryphon), which did not recur in 2006.
• Operating Expenses: General and administrative (G&A) expenses increased to $12.0 million in Q3 2006 from $6.5 million in Q3 2005. This increase is attributed to business expansion, higher employee counts, and the adoption of SFAS No. 123R, which required the recognition of $4.0 million in non-cash stock-based compensation expense.
• Interest Costs: Interest expense rose to $10.9 million in Q3 2006 from $5.1 million in Q3 2005 due to increased debt levels, including the Term Loan and borrowings under the Sabine Pass Credit Facility. This was partially offset by higher interest income ($11.1 million vs. $4.5 million).
• Accounting Changes: The company adopted SFAS No. 123R (Share-Based Payment) effective January 1, 2006, and changed its accounting method for oil and gas properties from full cost to successful efforts. Additionally, the application of SFAS No. 71 (Regulated Operations) in Q2 2006 allowed for the capitalization of certain pipeline development costs, resulting in a $12.3 million credit to expenses for the nine-month period.

Guidance, Outlook, and Risks

• Construction Progress: Construction of Phase 1 of the Sabine Pass LNG terminal is ongoing, with operations anticipated in 2008. Phase 2 construction commenced in July 2006. Preliminary site work for the Corpus Christi LNG terminal began in Q2 2006.
• Capital Requirements: The company estimates total construction costs for its three LNG terminals at approximately $3 billion and pipeline costs at $800 million to $1 billion. Funding is expected to come from cash on hand, project-level debt, and equity offerings.
• Financing Activity: In July 2006, the Sabine Pass Credit Facility was amended to increase available loans to $1.5 billion. In November 2006 (post-period), the company announced a pending offering of senior secured notes to refinance existing debt and fund remaining construction costs.
• Risks: Key risks include the ability to secure necessary financing, regulatory approvals (FERC), construction delays, and the potential for natural gas prices to fall below the $3.00 per Mcf threshold required for project viability. The company is also subject to an ongoing SEC investigation regarding past transactions and communications.
• Unusual Items: A $1.6 million impairment of fixed assets (leasehold costs) was recorded in Q3 2006 due to the relocation of corporate offices. A deferred income tax provision of $15.1 million was recorded in Q3 2006 related to changes in the valuation of tax assets associated with derivative instruments.

Investor Verification Checklist

• Capital Sufficiency: Verify the company's ability to raise the estimated $3 billion+ required to complete LNG terminals and pipelines, given the current cash burn rate and lack of operating cash flow.
• Regulatory Status: Confirm the status of FERC approvals for the Creole Trail and Corpus Christi projects and any potential delays in construction timelines.
• Debt Structure: Review the terms of the pending senior secured notes offering and the impact of interest rate swaps on future cash flows.
• SEC Investigation: Monitor updates regarding the SEC's formal investigation into the company's past actions and communications.
• Accounting Adjustments: Understand the impact of the SFAS No. 71 regulatory asset recognition on reported earnings and the sustainability of such accounting treatments.