##### Table of Contents



---

---

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



---



FORM 10-Q

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D)
OF THE SECURITIES EXCHANGE ACT OF 1934

|                                |  |                               
|------------------------------- |  | ------------------------------
|For Quarter Ended June 30, 2002 |  | Commission File Number 0-31095

DUKE ENERGY FIELD SERVICES, LLC

(Exact name of registrant as specified in its charter)


|                                                        |  |                                             
|------------------------------------------------------- |  | --------------------------------------------
|Delaware
(State or other jurisdiction of incorporation) |  | 76-0632293
(IRS Employer Identification No.)

370 17th Street, Suite 900
Denver, Colorado 80202
(Address of principal executive offices)
(Zip Code)

303-595-3331
(Registrants telephone number, including area code)

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 and (2) has been subject to such filing
requirements for the past 90 days.Yes (XBOX) No (BOX)



---

---





---

TABLE OF CONTENTS



|                                                   |                                                                                               |                                                        |  |  |  |  |  | 
|-------------------------------------------------- | --------------------------------------------------------------------------------------------- | ------------------------------------------------------ |  |  |  |  |  | 
|PART I. FINANCIAL INFORMATION                     
|                                                   | Item 1. Financial Statements                                                                 
|                                                   |                                                                                               | CONSOLIDATED STATEMENTS OF OPERATIONS                 
|                                                   |                                                                                               | CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)
|                                                   |                                                                                               | CONSOLIDATED STATEMENTS OF CASH FLOWS                 
|                                                   |                                                                                               | CONSOLIDATED BALANCE SHEETS                           
|                                                   |                                                                                               | CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS  
|                                                   | Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations
|                                                   | Item 3. Quantitative and Qualitative Disclosure about Market Risks                           
|PART II. OTHER INFORMATION                        
|                                                   | Item 1. Legal Proceedings                                                                    
|                                                   | Item 6. Exhibits and Reports on Form 8-K                                                     
|SIGNATURES                                        
|Exhibit Index                                     
|EX-10.1 Second Amendment to Contract for Services 
|EX-99.1 Certification Pursuant to 18 USC Sec. 1350
|EX-99.2 Certification Pursuant to 18 USC Sec. 1350



---



##### Table of Contents



DUKE ENERGY FIELD SERVICES, LLC
FORM 10-Q FOR THE QUARTER ENDED JUNE 30, 2002

INDEX

|     |    |  |  |                                                                                       |                                                                                                                  |      |    |   |  | 
|---- | -- |  |  | ------------------------------------------------------------------------------------- | ---------------------------------------------------------------------------------------------------------------- | ---- | -- | - |  | 
|Item |    |  |  |                                                                                       |                                                                                                                  | Page
|     |    |  |  |                                                                                       |                                                                                                                  |     
|     |    |  |  | PART I. FINANCIAL INFORMATION (UNAUDITED)                                             |                                                                                                                  |      |    |  
|    
|    
|    
|    
|     | 1. |  |  | Financial Statements                                                                  |                                                                                                                  |      | 1  |  
|    
|    
|    
|    
|     |    |  |  |                                                                                       | Consolidated Statements of Operations for the Three and Six Months Ended
June 30, 2002 and 2001                  |      |    | 1 | 
|    
|    
|    
|    
|     |    |  |  |                                                                                       | Consolidated Statements of Comprehensive Income (Loss) for the Three and Six Months
Ended June 30, 2002 and 2001 |      |    | 2 | 
|    
|    
|    
|    
|     |    |  |  |                                                                                       | Consolidated Statements of Cash Flows for the Six Months Ended June 30, 2002 and 2001                            |      |    | 3 | 
|    
|    
|    
|    
|     |    |  |  |                                                                                       | Consolidated Balance Sheets as of June 30, 2002 and December 31, 2001                                            |      |    | 4 | 
|    
|    
|    
|    
|     |    |  |  |                                                                                       | Condensed Notes to Consolidated Financial Statements                                                             |      |    | 5 | 
|    
|    
|    
|    
|     | 2. |  |  | Managements Discussion and Analysis of Financial Condition and Results of Operations |                                                                                                                  |      | 13 |  
|    
|    
|    
|    
|     | 3. |  |  | Quantitative and Qualitative Disclosure about Market Risks                            |                                                                                                                  |      | 20 |  
|    
|    
|    
|    
|     |    |  |  | PART II. OTHER INFORMATION                                                            |                                                                                                                  |      |    |  
|    
|    
|    
|    
|     | 1. |  |  | Legal Proceedings                                                                     |                                                                                                                  |      | 25 |  
|    
|    
|    
|    
|     | 6. |  |  | Exhibits and Reports on Form 8-K                                                      |                                                                                                                  |      | 25 |  
|    
|    
|    
|    
|     |    |  |  | Signatures                                                                            |                                                                                                                  |      | 26 |  

CAUTIONARY STATEMENT ABOUT FORWARD-LOOKING STATEMENTS

Our reports, filings and other public announcements may from time to time
contain statements that do not directly or exclusively relate to historical
facts. Such statements are forward-looking statements within the meaning of
the Private Securities Litigation Reform Act of 1995. You can typically
identify forward-looking statements by the use of forward-looking words, such
as may, could, project, believe, anticipate, expect, estimate,
potential, plan, forecast and other similar words.

All of such statements other than statements of historical facts,
including statements regarding our future financial position, business
strategy, budgets, projected costs and plans and objectives of management for
future operations, are forward-looking statements.

These forward-looking statements reflect our intentions, plans,
expectations, assumptions and beliefs about future events and are subject to
risks, uncertainties and other factors, many of which are outside our control.
Important factors that could cause actual results to differ materially from the
expectations expressed or implied in the forward-looking statements include
known and unknown risks. Known risks include, but are not limited to, the
following:



| |  |  | our ability to access the debt and equity markets, which will
depend on general market conditions and our credit ratings for our
debt obligations;                                
| | - |  | ----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | our use of derivative financial instruments to hedge commodity and interest rate risks;                                                                                           
|
| |  |  | the level of creditworthiness of counterparties to transactions;                                                                                                                  
|
| |  |  | changes in laws and regulations, particularly with regard to taxes, safety and protection of the environment or the
increased regulation of the gathering and processing industry;

i



---



##### Table of Contents





| |  |  | the timing and extent of changes in commodity prices, interest rates and demand for our services;                                                                                                                                                                                                                                                                                                                              
| | - |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | weather and other natural phenomena;                                                                                                                                                                                                                                                                                                                                                                                           
|
| |  |  | industry changes, including the impact of consolidations, and changes in competition;                                                                                                                                                                                                                                                                                                                                          
|
| |  |  | our ability to obtain required approvals for construction or modernization of gathering and processing facilities, and the
timing of production from such facilities, which are dependent on the issuance by federal, state and municipal governments,
or agencies thereof, of building, environmental and other permits, the availability of specialized contractors and work
force and prices of and demand for products; and
|
| |  |  | the effect of accounting policies issued periodically by accounting standard-setting bodies.                                                                                                                                                                                                                                                                                                                                   

In light of these risks, uncertainties and assumptions, the events
described in the forward-looking statements might not occur or might occur to a
different extent or at a different time than we have described.

ii





---



##### Table of Contents






PART I. FINANCIAL INFORMATION




Item 1. Financial Statements




DUKE ENERGY FIELD SERVICES, LLC
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
(In Thousands)

|                                                                             |  |                                                            |         |                          |           |                     |           |                   |           |           |           |      |           |           |           |   |           |           |           | 
|---------------------------------------------------------------------------- |  | ---------------------------------------------------------- | ------- | ------------------------ | --------- | ------------------- | --------- | ----------------- | --------- | --------- | --------- | ---- | --------- | --------- | --------- | - | --------- | --------- | --------- | 
|                                                                             |  |                                                            |         |                          |           | Three Months Ended, |           | Six Months Ended,
|                                                                             |  |                                                            |         |                          |           | June 30,            |           | June 30,         
|                                                                             |  |                                                            |         |                          |           |                     |           |                  
|                                                                             |  |                                                            |         |                          |           | 2002                |           | 2001              |           | 2002      |           | 2001
|                                                                             |  |                                                            |         |                          |           |                     |           |                   |           |           |           |     
|OPERATING REVENUES:                                                          |  |                                                            |         |                          |           |                     |           |                   |           |           |           |      |           |           |           |  
|                                                                            
|                                                                            
|                                                                            
|                                                                            
|                                                                             |  | Sales of natural gas and petroleum products                |         | $                        | 1,316,749 |                     |           | $                 | 1,892,236 |           |           | $    | 2,492,273 |           |           | $ | 4,274,119 |          
|                                                                            
|                                                                            
|                                                                            
|                                                                            
|                                                                             |  | Sales of natural gas and petroleum productsaffiliates     |         |                          | 392,807   |                     |           |                   | 582,455   |           |           |      | 701,643   |           |           |   | 1,522,754 |          
|                                                                            
|                                                                            
|                                                                            
|                                                                            
|                                                                             |  | Transportation, storage and processing                     |         |                          | 78,030    |                     |           |                   | 61,634    |           |           |      | 147,607   |           |           |   | 119,524   |          
|                                                                             |  |                                                            |         |                          |           |                     |           |                   |           |           |           |      |           |           |           |   |           |          
|                                                                             |  |                                                            |         | Total operating revenues |           |                     | 1,787,586 |                   |           |           | 2,536,325 |      |           |           | 3,341,523 |   |           |           | 5,916,397 | 
|                                                                             |  |                                                            |         |                          |           |                     |           |                   |           |           |           |      |           |           |           |   |           |          
|COSTS AND EXPENSES:                                                          |  |                                                            |         |                          |           |                     |           |                   |           |           |           |      |           |           |           |  
|                                                                            
|                                                                            
|                                                                            
|                                                                            
|                                                                             |  | Purchases of natural gas and petroleum products            |         |                          | 1,421,818 |                     |           |                   | 1,994,972 |           |           |      | 2,626,502 |           |           |   | 4,694,208 |          
|                                                                            
|                                                                            
|                                                                            
|                                                                            
|                                                                             |  | Purchases of natural gas and petroleum productsaffiliates |         |                          | 127,322   |                     |           |                   | 205,133   |           |           |      | 227,971   |           |           |   | 518,396   |          
|                                                                            
|                                                                            
|                                                                            
|                                                                            
|                                                                             |  | Operating and maintenance                                  |         |                          | 109,712   |                     |           |                   | 90,045    |           |           |      | 217,672   |           |           |   | 179,536   |          
|                                                                            
|                                                                            
|                                                                            
|                                                                            
|                                                                             |  | Depreciation and amortization                              |         |                          | 71,286    |                     |           |                   | 67,861    |           |           |      | 145,045   |           |           |   | 134,717   |          
|                                                                            
|                                                                            
|                                                                            
|                                                                            
|                                                                             |  | General and administrative                                 |         |                          | 33,081    |                     |           |                   | 30,368    |           |           |      | 69,777    |           |           |   | 58,585    |          
|                                                                            
|                                                                            
|                                                                            
|                                                                            
|                                                                             |  | General and administrativeaffiliates                      |         |                          | 6,032     |                     |           |                   | 2,673     |           |           |      | 8,493     |           |           |   | 6,862     |          
|                                                                            
|                                                                            
|                                                                            
|                                                                            
|                                                                             |  | Other                                                      |         |                          | 1,907     |                     |           |                   | (120      | )         |           |      | 7,095     |           |           |   | (988      | )        
|                                                                             |  |                                                            |         |                          |           |                     |           |                   |           |           |           |      |           |           |           |   |           |          
|                                                                             |  |                                                            |         | Total costs and expenses |           | 1,771,158           |           |                   |           | 2,390,932 |           |      |           | 3,302,555 |           |   |           | 5,591,316 |          
|                                                                             |  |                                                            |         |                          |           |                     |           |                   |           |           |           |      |           |           |           |   |           |          
|OPERATING INCOME                                                             |  |                                                            | 16,428  |                          |           |                     | 145,393   |                   |           |           | 38,968    |      |           |           | 325,081   |  
|                                                                            
|                                                                            
|                                                                            
|                                                                            
|EQUITY IN EARNINGS OF
UNCONSOLIDATED AFFILIATES                              |  |                                                            | 7,836   |                          |           |                     | 10,904    |                   |           |           | 13,906    |      |           |           | 16,080    |  
|                                                                            
|                                                                            
|                                                                            
|                                                                            
|INTEREST EXPENSE                                                             |  |                                                            | (42,295 | )                        |           |                     | (40,375   | )                 |           |           | (85,604   | )    |           |           | (82,392   | )
|                                                                             |  |                                                            |         |                          |           |                     |           |                   |           |           |           |      |           |           |           |   |           |          
|                                                                            
|                                                                            
|                                                                            
|                                                                            
|INCOME (LOSS) BEFORE INCOME TAXES AND CUMULATIVE EFFECT OF ACCOUNTING CHANGE |  |                                                            | (18,031 | )                        |           |                     | 115,922   |                   |           |           | (32,730   | )    |           |           | 258,769   |  
|                                                                            
|                                                                            
|                                                                            
|                                                                            
|INCOME TAX EXPENSE                                                           |  |                                                            | 3,313   |                          |           |                     | 280       |                   |           |           | 5,614     |      |           |           | 338       |  
|                                                                             |  |                                                            |         |                          |           |                     |           |                   |           |           |           |      |           |           |           |   |           |          
|                                                                            
|                                                                            
|                                                                            
|                                                                            
|(LOSS) INCOME BEFORE CUMULATIVE EFFECT OF ACCOUNTING CHANGE                  |  |                                                            | (21,344 | )                        |           |                     | 115,642   |                   |           |           | (38,344   | )    |           |           | 258,431   |  
|CUMULATIVE EFFECTIVE OF ACCOUNTING CHANGE                                    |  |                                                            |        |                          |           |                     |          |                   |           |           |          |      |           |           | 411       |  
|                                                                             |  |                                                            |         |                          |           |                     |           |                   |           |           |           |      |           |           |           |   |           |          
|NET (LOSS) INCOME                                                            |  |                                                            | (21,344 | )                        |           |                     | 115,642   |                   |           |           | (38,344   | )    |           |           | 258,020   |  
|                                                                            
|                                                                            
|                                                                            
|                                                                            
|DIVIDENDS ON PREFERRED MEMBERS INTEREST                                     |  |                                                            | 7,125   |                          |           |                     | 7,125     |                   |           |           | 14,250    |      |           |           | 14,250    |  
|                                                                             |  |                                                            |         |                          |           |                     |           |                   |           |           |           |      |           |           |           |   |           |          
|                                                                            
|                                                                            
|                                                                            
|                                                                            
|(DEFICIT) EARNINGS AVAILABLE FOR MEMBERS INTEREST                           |  | $                                                          | (28,469 | )                        |           | $                   | 108,517   |                   |           | $         | (52,594   | )    |           | $         | 243,770   |  
|                                                                             |  |                                                            |         |                          |           |                     |           |                   |           |           |           |      |           |           |           |   |           |          

See Condensed Notes to Consolidated Financial Statements.

1



---



##### Table of Contents






DUKE ENERGY FIELD SERVICES, LLC
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)
(Unaudited)
(In Thousands)

|                                   |                                                     |                                         |         |                     |        |                   |         |        |       |      |          |         |         |   |         |         |        | 
|---------------------------------- | --------------------------------------------------- | --------------------------------------- | ------- | ------------------- | ------ | ----------------- | ------- | ------ | ----- | ---- | -------- | ------- | ------- | - | ------- | ------- | ------ | 
|                                   |                                                     |                                         |         | Three Months Ended, |        | Six Months Ended,
|                                   |                                                     |                                         |         | June 30,            |        | June 30,         
|                                   |                                                     |                                         |         |                     |        |                  
|                                   |                                                     |                                         |         | 2002                |        | 2001              |         | 2002   |       | 2001
|                                   |                                                     |                                         |         |                     |        |                   |         |        |       |     
|NET (LOSS) INCOME                  |                                                     | $                                       | (21,344 | )                   |        | $                 | 115,642 |        |       | $    | (38,344  | )       |         | $ | 258,020 |        
|                                  
|                                  
|                                  
|                                  
|OTHER COMPREHENSIVE INCOME (LOSS): |                                                     |                                         |         |                     |        |                   |         |        |       |      |          |         |         |   |         |        
|                                  
|                                  
|                                  
|                                  
|                                   | Cumulative effect of change in accounting principle |                                         |         |                    |        |                   |         |       |       |      |          |        |         |   |         | 6,626   |       
|                                  
|                                  
|                                  
|                                  
|                                   | Foreign currency translation adjustment             |                                         |         | 13,451              |        |                   |         | 3,059  |       |      |          | 11,107  |         |   |         | 2,147   |       
|                                  
|                                  
|                                  
|                                  
|                                   | Net unrealized (losses) gains on cash flow hedges   |                                         |         | (4,339              | )      |                   |         | 6,866  |       |      |          | (61,439 | )       |   |         | (11,336 | )     
|                                  
|                                  
|                                  
|                                  
|                                   | Reclassification into earnings                      |                                         |         | 2,542               |        |                   |         | (2,053 | )     |      |          | (15,992 | )       |   |         | 14,941  |       
|                                   |                                                     |                                         |         |                     |        |                   |         |        |       |      |          |         |         |   |         |        
|                                   |                                                     | Total other comprehensive income (loss) |         |                     | 11,654 |                   |         |        | 7,872 |      |          |         | (66,324 | ) |         |         | 12,378 | 
|                                   |                                                     |                                         |         |                     |        |                   |         |        |       |      |          |         |         |   |         |        
|TOTAL COMPREHENSIVE INCOME (LOSS)  |                                                     | $                                       | (9,690  | )                   |        | $                 | 123,514 |        |       | $    | (104,668 | )       |         | $ | 270,398 |        
|                                   |                                                     |                                         |         |                     |        |                   |         |        |       |      |          |         |         |   |         |        

See Condensed Notes to Consolidated Financial Statements.

2



---



##### Table of Contents






DUKE ENERGY FIELD SERVICES, LLC
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
(In Thousands)

|                                      |                                                                                                         |                                                        |                                           |         |                   |          |      |         |          |          |  
|------------------------------------- | ------------------------------------------------------------------------------------------------------- | ------------------------------------------------------ | ----------------------------------------- | ------- | ----------------- | -------- | ---- | ------- | -------- | -------- | -
|                                      |                                                                                                         |                                                        |                                           |         | Six Months Ended,
|                                      |                                                                                                         |                                                        |                                           |         | June 30,         
|                                      |                                                                                                         |                                                        |                                           |         |                  
|                                      |                                                                                                         |                                                        |                                           |         | 2002              |          | 2001
|                                      |                                                                                                         |                                                        |                                           |         |                   |          |     
|CASH FLOWS FROM OPERATING ACTIVITIES: |                                                                                                         |                                                        |                                           |         |                   |          |      |        
|                                     
|                                     
|                                     
|                                     
|                                      | Net (loss) income                                                                                       |                                                        | $                                         | (38,344 | )                 |          | $    | 258,020 |         
|                                     
|                                     
|                                     
|                                     
|                                      | Adjustments to reconcile net (loss) income to net cash provided by operating activities:                |                                                        |                                           |         |                   |          |      |         |         
|                                     
|                                     
|                                     
|                                     
|                                      |                                                                                                         | Depreciation and amortization                          |                                           |         | 145,045           |          |      |         | 134,717  |         
|                                     
|                                     
|                                     
|                                     
|                                      |                                                                                                         | Equity in earnings of unconsolidated affiliates        |                                           |         | (13,906           | )        |      |         | (16,080  | )       
|                                     
|                                     
|                                     
|                                     
|                                      |                                                                                                         | Other                                                  |                                           |         | 5,511             |          |      |         | (1,326   | )       
|                                     
|                                     
|                                     
|                                     
|                                      | Change in operating assets and liabilities (net of effects of acquisitions)
which provided (used) cash: |                                                        |                                           |         |                   |          |      |         |         
|                                     
|                                     
|                                     
|                                     
|                                      |                                                                                                         | Accounts receivable                                    |                                           |         | 13,441            |          |      |         | 615      |         
|                                     
|                                     
|                                     
|                                     
|                                      |                                                                                                         | Accounts receivableaffiliates                         |                                           |         | 114,121           |          |      |         | 163,184  |         
|                                     
|                                     
|                                     
|                                     
|                                      |                                                                                                         | Inventories                                            |                                           |         | (11,784           | )        |      |         | 15,274   |         
|                                     
|                                     
|                                     
|                                     
|                                      |                                                                                                         | Net unrealized mark-to-market and hedging transactions |                                           |         | 46,103            |          |      |         | (25,092  | )       
|                                     
|                                     
|                                     
|                                     
|                                      |                                                                                                         | Other current assets                                   |                                           |         | 4,313             |          |      |         | 2,879    |         
|                                     
|                                     
|                                     
|                                     
|                                      |                                                                                                         | Other
noncurrent assets                                |                                           |         | (1,105            | )        |      |         | (14,785  | )       
|                                     
|                                     
|                                     
|                                     
|                                      |                                                                                                         | Accounts payable                                       |                                           |         | (43,712           | )        |      |         | (53,227  | )       
|                                     
|                                     
|                                     
|                                     
|                                      |                                                                                                         | Accounts payableaffiliates                            |                                           |         | (10,737           | )        |      |         | (28,537  | )       
|                                     
|                                     
|                                     
|                                     
|                                      |                                                                                                         | Accrued interest payable                               |                                           |         | (2,890            | )        |      |         | 5,726    |         
|                                     
|                                     
|                                     
|                                     
|                                      |                                                                                                         | Other current liabilities                              |                                           |         | 15,397            |          |      |         | (20,072  | )       
|                                     
|                                     
|                                     
|                                     
|                                      |                                                                                                         | Other long term liabilities                            |                                           |         | 9,256             |          |      |         | (4,659   | )       
|                                      |                                                                                                         |                                                        |                                           |         |                   |          |      |         |         
|                                      |                                                                                                         |                                                        | Net cash provided by operating activities |         |                   | 230,709  |      |         |          | 416,637  |  
|                                      |                                                                                                         |                                                        |                                           |         |                   |          |      |         |         
|                                      | CASH FLOWS FROM INVESTING ACTIVITIES:                                                                   |                                                        |                                           |         |                   |          |      |         |         
|                                     
|                                     
|                                     
|                                     
|                                      |                                                                                                         | Expenditures for acquisitions                          |                                           |         |                  |          |      |         | (155,603 | )       
|                                     
|                                     
|                                     
|                                     
|                                      |                                                                                                         | Other capital expenditures                             |                                           |         | (166,393          | )        |      |         | (153,092 | )       
|                                     
|                                     
|                                     
|                                     
|                                      |                                                                                                         | Investment expenditures, net of cash acquired          |                                           |         | 7,620             |          |      |         | (1,114   | )       
|                                     
|                                     
|                                     
|                                     
|                                      |                                                                                                         | Investment distributions                               |                                           |         | 24,040            |          |      |         | 28,538   |         
|                                     
|                                     
|                                     
|                                     
|                                      |                                                                                                         | Proceeds from sales of assets                          |                                           |         |                  |          |      |         | 18,852   |         
|                                      |                                                                                                         |                                                        |                                           |         |                   |          |      |         |         
|                                      |                                                                                                         |                                                        | Net cash used in investing activities     |         |                   | (134,733 | )    |         |          | (262,419 | )
|                                      |                                                                                                         |                                                        |                                           |         |                   |          |      |         |         
|                                      | CASH FLOWS FROM FINANCING ACTIVITIES:                                                                   |                                                        |                                           |         |                   |          |      |         |         
|                                     
|                                     
|                                     
|                                     
|                                      |                                                                                                         | Distributions to members                               |                                           |         | (63,162           | )        |      |         | (115,437 | )       
|                                     
|                                     
|                                     
|                                     
|                                      |                                                                                                         | Proceeds from issuing debt                             |                                           |         |                  |          |      |         | 248,358  |         
|                                     
|                                     
|                                     
|                                     
|                                      |                                                                                                         | Payment of debt                                        |                                           |         | (152              | )        |      |         | (47,556  | )       
|                                     
|                                     
|                                     
|                                     
|                                      |                                                                                                         | Payment of dividends                                   |                                           |         | (14,250           | )        |      |         | (14,250  | )       
|                                     
|                                     
|                                     
|                                     
|                                      |                                                                                                         | Debt issuance costs                                    |                                           |         |                  |          |      |         | (1,518   | )       
|                                     
|                                     
|                                     
|                                     
|                                      |                                                                                                         | Short term debtnet                                    |                                           |         | (23,930           | )        |      |         | (226,428 | )       
|                                      |                                                                                                         |                                                        |                                           |         |                   |          |      |         |         
|                                      |                                                                                                         |                                                        | Net cash used in financing activities     |         |                   | (101,494 | )    |         |          | (156,831 | )
|                                      |                                                                                                         |                                                        |                                           |         |                   |          |      |         |         
|                                      | EFFECT OF FOREIGN EXCHANGE RATE CHANGES ON CASH                                                         |                                                        |                                           | 2,007   |                   |          |      | 2,147   |         
|                                      |                                                                                                         |                                                        |                                           |         |                   |          |      |         |         
|                                      | NET DECREASE IN CASH                                                                                    |                                                        |                                           | (3,511  | )                 |          |      | (466    | )       
|                                     
|                                     
|                                     
|                                     
|                                      | CASH, BEGINNING OF PERIOD                                                                               |                                                        |                                           | 4,906   |                   |          |      | 1,553   |         
|                                      |                                                                                                         |                                                        |                                           |         |                   |          |      |         |         
|                                      | CASH, END OF PERIOD                                                                                     |                                                        | $                                         | 1,395   |                   |          | $    | 1,087   |         
|                                      |                                                                                                         |                                                        |                                           |         |                   |          |      |         |         
|                                     
|                                     
|                                     
|                                     
|                                      | SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION  Cash paid for interest (net of amounts capitalized)  |                                                        | $                                         | 84,402  |                   |          | $    | 74,085  |         

See Condensed Notes to Consolidated Financial Statements.

3



---



##### Table of Contents






DUKE ENERGY FIELD SERVICES, LLC
CONSOLIDATED BALANCE SHEETS
(Unaudited)
(In Thousands)

|                                                        |                                                        |                |                                               |                                 |         |           |           |              |         |           |           | 
|------------------------------------------------------- | ------------------------------------------------------ | -------------- | --------------------------------------------- | ------------------------------- | ------- | --------- | --------- | ------------ | ------- | --------- | --------- | 
|                                                        |                                                        |                |                                               |                                 |         | June 30,  |           | December 31,
|                                                        |                                                        |                |                                               |                                 |         | 2002      |           | 2001        
|                                                        |                                                        |                |                                               |                                 |         |           |           |             
|                                                        |                                                        |                |                                               | ASSETS                          |         |           |           |              |         |           |           | 
|                                                       
|                                                       
|                                                       
|                                                       
|CURRENT ASSETS:                                         |                                                        |                |                                               |                                 |         |           |           |             
|                                                       
|                                                       
|                                                       
|                                                       
|                                                        | Cash                                                   |                | $                                             | 1,395                           |         |           | $         | 4,906        |        
|                                                       
|                                                       
|                                                       
|                                                       
|                                                        | Accounts receivable:                                   |                |                                               |                                 |         |           |           |              |        
|                                                       
|                                                       
|                                                       
|                                                       
|                                                        |                                                        | Customers, net |                                               |                                 | 544,849 |           |           |              | 520,118 |          
|                                                       
|                                                       
|                                                       
|                                                       
|                                                        |                                                        | Affiliates     |                                               |                                 | 116,400 |           |           |              | 230,521 |          
|                                                       
|                                                       
|                                                       
|                                                       
|                                                        |                                                        | Other          |                                               |                                 | 89,337  |           |           |              | 136,810 |          
|                                                       
|                                                       
|                                                       
|                                                       
|                                                        | Inventories                                            |                |                                               | 94,719                          |         |           |           | 82,935       |        
|                                                       
|                                                       
|                                                       
|                                                       
|                                                        | Unrealized gains on trading and hedging transactions   |                |                                               | 76,585                          |         |           |           | 180,809      |        
|                                                       
|                                                       
|                                                       
|                                                       
|                                                        | Other                                                  |                |                                               | 4,747                           |         |           |           | 9,060        |        
|                                                        |                                                        |                |                                               |                                 |         |           |           |              |        
|                                                        |                                                        |                |                                               | Total current assets            |         |           | 928,032   |              |         |           | 1,165,159 | 
|                                                        |                                                        |                |                                               |                                 |         |           |           |              |        
|PROPERTY, PLANT AND EQUIPMENT, NET                      |                                                        |                | 4,741,901                                     |                                 |         |           | 4,711,960 |             
|                                                       
|                                                       
|                                                       
|                                                       
|INVESTMENT IN AFFILIATES                                |                                                        |                | 177,286                                       |                                 |         |           | 132,252   |             
|                                                       
|                                                       
|                                                       
|                                                       
|INTANGIBLE ASSETS:                                      |                                                        |                |                                               |                                 |         |           |           |             
|                                                       
|                                                       
|                                                       
|                                                       
|                                                        | Natural gas liquids sales and purchases contracts, net |                |                                               | 88,879                          |         |           |           | 94,019       |        
|                                                       
|                                                       
|                                                       
|                                                       
|                                                        | Goodwill, net                                          |                |                                               | 436,230                         |         |           |           | 421,176      |        
|                                                        |                                                        |                |                                               |                                 |         |           |           |              |        
|                                                        |                                                        |                |                                               | Total intangible assets         |         |           | 525,109   |              |         |           | 515,195   | 
|                                                        |                                                        |                |                                               |                                 |         |           |           |              |        
|UNREALIZED GAINS ON TRADING AND HEDGING TRANSACTIONS    |                                                        |                | 12,828                                        |                                 |         |           | 19,095    |             
|                                                       
|                                                       
|                                                       
|                                                       
|OTHER NONCURRENT ASSETS                                 |                                                        |                | 88,862                                        |                                 |         |           | 86,548    |             
|                                                        |                                                        |                |                                               |                                 |         |           |           |              |        
|                                                        |                                                        |                |                                               | TOTAL ASSETS                    |         | $         | 6,474,018 |              |         | $         | 6,630,209 | 
|                                                        |                                                        |                |                                               |                                 |         |           |           |              |        
|                                                        |                                                        |                |                                               | LIABILITIES AND MEMBERS EQUITY |         |           |           |              |         |           |           | 
|                                                       
|                                                       
|                                                       
|                                                       
|CURRENT LIABILITIES:                                    |                                                        |                |                                               |                                 |         |           |           |             
|                                                       
|                                                       
|                                                       
|                                                       
|                                                        | Accounts payable:                                      |                |                                               |                                 |         |           |           |              |        
|                                                       
|                                                       
|                                                       
|                                                       
|                                                        |                                                        | Trade          |                                               | $                               | 607,621 |           |           | $            | 620,094 |          
|                                                       
|                                                       
|                                                       
|                                                       
|                                                        |                                                        | Affiliates     |                                               |                                 | 14,883  |           |           |              | 25,620  |          
|                                                       
|                                                       
|                                                       
|                                                       
|                                                        |                                                        | Other          |                                               |                                 | 59,441  |           |           |              | 76,914  |          
|                                                       
|                                                       
|                                                       
|                                                       
|                                                        | Short term debt                                        |                |                                               | 189,025                         |         |           |           | 212,955      |        
|                                                       
|                                                       
|                                                       
|                                                       
|                                                        | Unrealized losses on trading and hedging transactions  |                |                                               | 83,897                          |         |           |           | 84,811       |        
|                                                       
|                                                       
|                                                       
|                                                       
|                                                        | Accrued interest payable                               |                |                                               | 54,527                          |         |           |           | 57,417       |        
|                                                       
|                                                       
|                                                       
|                                                       
|                                                        | Accrued taxes other than income                        |                |                                               | 22,306                          |         |           |           | 24,646       |        
|                                                       
|                                                       
|                                                       
|                                                       
|                                                        | Distributions payable to members                       |                |                                               |                                |         |           |           | 45,672       |        
|                                                       
|                                                       
|                                                       
|                                                       
|                                                        | Other                                                  |                |                                               | 120,431                         |         |           |           | 102,694      |        
|                                                        |                                                        |                |                                               |                                 |         |           |           |              |        
|                                                        |                                                        |                |                                               | Total current liabilities       |         |           | 1,152,131 |              |         |           | 1,250,823 | 
|                                                        |                                                        |                |                                               |                                 |         |           |           |              |        
|DEFERRED INCOME TAXES                                   |                                                        |                | 11,519                                        |                                 |         |           | 14,362    |             
|                                                       
|                                                       
|                                                       
|                                                       
|LONG TERM DEBT                                          |                                                        |                | 2,242,621                                     |                                 |         |           | 2,235,034 |             
|                                                       
|                                                       
|                                                       
|                                                       
|UNREALIZED LOSSES ON TRADING AND HEDGING TRANSACTIONS   |                                                        |                | 32,606                                        |                                 |         |           | 25,188    |             
|                                                       
|                                                       
|                                                       
|                                                       
|OTHER LONG TERM LIABILITIES                             |                                                        |                | 87,654                                        |                                 |         |           | 15,845    |             
|                                                       
|                                                       
|                                                       
|                                                       
|MINORITY INTERESTS                                      |                                                        |                | 130,855                                       |                                 |         |           | 135,915   |             
|                                                       
|                                                       
|                                                       
|                                                       
|PREFERRED MEMBERS INTEREST                             |                                                        |                | 300,000                                       |                                 |         |           | 300,000   |             
|                                                       
|                                                       
|                                                       
|                                                       
|COMMITMENTS AND CONTINGENT LIABILITIES
MEMBERS EQUITY: |                                                        |                |                                               |                                 |         |           |           |             
|                                                       
|                                                       
|                                                       
|                                                       
|                                                        |                                                        |                | Members interest                             |                                 |         | 1,709,290 |           |              |         | 1,709,290 |          
|                                                       
|                                                       
|                                                       
|                                                       
|                                                        |                                                        |                | Retained earnings                             |                                 |         | 825,621   |           |              |         | 895,707   |          
|                                                       
|                                                       
|                                                       
|                                                       
|                                                        |                                                        |                | Accumulated other comprehensive (loss) income |                                 |         | (18,279   | )         |              |         | 48,045    |          
|                                                        |                                                        |                |                                               |                                 |         |           |           |              |        
|                                                        |                                                        |                |                                               | Total members equity           |         |           | 2,516,632 |              |         |           | 2,653,042 | 
|                                                        |                                                        |                |                                               |                                 |         |           |           |              |        
|TOTAL LIABILITIES AND MEMBERS EQUITY                   |                                                        | $              | 6,474,018                                     |                                 |         | $         | 6,630,209 |             
|                                                        |                                                        |                |                                               |                                 |         |           |           |              |        

See Condensed Notes to Consolidated Financial Statements.

4



---



##### Table of Contents






DUKE ENERGY FIELD SERVICES, LLC
CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

1. General

Duke Energy Field Services, LLC (with its consolidated subsidiaries, the
Company or Field Services LLC) operates in the two principal segments of the
midstream natural gas industry of (1) natural gas gathering, processing,
transportation, marketing and storage; and (2) natural gas liquids (NGLs)
fractionation, transportation, marketing and trading. Duke Energy Corporation
(Duke Energy) owns 69.7% of the Companys outstanding member interests and
Phillips Petroleum Company (Phillips) owns the remaining 30.3%.

2. Accounting Policies

Consolidation
The Consolidated Financial Statements include the accounts
of the Company and all majority-owned subsidiaries, after eliminating
significant intercompany transactions and balances. Investments in 20% to 50%
owned affiliates are accounted for using the equity method. Investments greater
than 50% are consolidated unless the Company does not operate these investments
and, as a result, does not have the ability to exercise control. These
Consolidated Financial Statements reflect all normal recurring adjustments that
are, in the opinion of management, necessary to present fairly the financial
position and results of operations for the respective periods.

Use
of Estimates Conformity with accounting principles generally accepted
in the United States of America requires management to make estimates and
assumptions that affect the amounts reported in the financial statements and
notes. Although these estimates are based on managements best available
knowledge of current and expected future events, actual results could be
different from those estimates.

Accounting for Hedges and Commodity Trading Activities All derivatives
are recorded in the Consolidated Balance Sheets at their fair value as
Unrealized Gains or Unrealized Losses on Trading and Hedging Transactions. On
the date that swaps or option contracts are entered into, the Company
designates the derivative as either held for trading (trading instruments); as
a hedge of a recognized asset, liability or firm commitment (fair value
hedges); as a hedge of a forecasted transaction or future cash flows (cash flow
hedges); or leaves the derivative undesignated and marks it to market.

For hedge contracts, the Company formally assesses, both at the hedge
contracts inception and on an ongoing basis, whether the hedge contract is
highly effective in offsetting changes in fair values or cash flows of hedged
items. The Company excludes time value of the options when assessing hedge
effectiveness.

When available, quoted market prices or prices obtained through external
sources are used to verify a contracts fair value. For contracts with a
delivery location or duration for which quoted market prices are not available,
fair value is determined based on pricing models developed primarily from
historical and expected correlations with quoted market prices.

Values are adjusted to reflect the potential impact of liquidating the
positions held in an orderly manner over a reasonable time period under current
conditions. Changes in market price and management estimates directly affect
the estimated fair value of these contracts. Accordingly, it is reasonably
possible that such estimates may change in the near term.

Commodity Trading  A favorable or unfavorable price movement of any
derivative contract held for trading purposes is reported as Purchases of
Natural Gas and Petroleum Products in the Consolidated Statements of
Operations. An offsetting amount is recorded in the Consolidated Balance Sheets
as Unrealized Gains or Unrealized Losses on

5



---



##### Table of Contents



Trading and Hedging Transactions. When a contract to sell is physically
settled, the fair value entries are reversed and the gross amount invoiced to
the customer is included as Sales of Natural Gas and Petroleum Products in the
Consolidated Statements of Operations. Similarly, when a contract to purchase
is physically settled, the purchase price is included as Purchases of Natural
Gas and Petroleum Products in the Consolidated Statements of Operations. If a
contract is not physically settled, the unrealized gain or unrealized loss in
the Consolidated Balance Sheets is reclassified to a receivable or payable
account. For income statement purposes, financial settlement has no revenue
presentation effect on the Consolidated Statements of Operations.

Commodity Cash Flow Hedges  The effective portion of the change in fair
value of a derivative designated and qualified as a cash flow hedge are
included in the Consolidated Statements of Comprehensive Income (Loss) as Other
Comprehensive Income (Loss) (OCI) until earnings are affected by the hedged
item. Settlement amounts of cash flow hedges are removed from OCI and recorded
in the Consolidated Statements of Operations in the same accounts as the item
being hedged. The Company discontinues hedge accounting prospectively when it
is determined that the derivative no longer qualifies as an effective hedge, or
when it is no longer probable that the hedged transaction will occur. When
hedge accounting is discontinued because the derivative no longer qualifies as
an effective hedge, the derivative continues to be carried on the Consolidated
Balance Sheets at its fair value, with subsequent changes in its fair value
recognized in current-period earnings. Gains and losses related to discontinued
hedges that were previously accumulated in OCI will remain in OCI until
earnings are affected by the hedged item, unless it is no longer probable that
the hedged transaction will occur, in which case, the gains and losses that
were accumulated in OCI will be immediately recognized in current-period
earnings.

Commodity Fair Value Hedges  Changes in the fair value of a derivative
that is designated and qualifies as a fair value hedge are included in the
Consolidated Statements of Operations as Sales of Natural Gas and Petroleum
Products and Purchases of Natural Gas and Petroleum Products, as appropriate.
Changes in the fair value of the physical portion of a fair value hedge (i.e.,
the hedged item) are recorded in the Consolidated Statements of Operations in
the same accounts as the changes in the fair value of the derivative, with
offsetting amounts in the Consolidated Balance Sheets as Other Current Assets,
Other Noncurrent Assets, Other Current Liabilities, or Other Long Term
Liabilities, as appropriate.

Interest Rate Fair Value Hedges  The Company enters into interest rate
swaps to convert some of its fixed-rate long term debt to floating-rate long
term debt. Hedged items in fair value hedges are marked to market with the
respective derivative instruments. Accordingly, the Companys hedged fixed-rate
debt is carried at fair value. The terms of the outstanding swap match those of
the associated debt which permits the assumption of no ineffectiveness, as
defined by Statement of Financial Accounting Standards (SFAS) No. 133,
Accounting for Derivative Instruments and Hedging Activities. As such, for
the life of the swap no ineffectiveness will be recognized.

Income
Taxes The Company is required to make quarterly distributions to
its members, Duke Energy and Phillips, based on allocated taxable income. The
distributions are based on the highest taxable income allocated to either
member, with the other member receiving a proportionate amount to maintain the
ownership capital accounts at 69.7% for Duke Energy and 30.3% for Phillips.

New Accounting Standards The Company adopted SFAS No. 142, Goodwill and
Other Intangible Assets, on January 1, 2002. SFAS No. 142 requires that
goodwill no longer be amortized over an estimated useful life, as previously
required. Instead, goodwill amounts are subject to a fair-value-based annual
impairment assessment. The Company did not recognize any impairments due to the
implementation of SFAS No. 142. The standard also requires certain identifiable
intangible assets to be recognized separately and amortized as appropriate. No
such intangibles have been identified by the Company at transition.

6



---



##### Table of Contents



The following table shows what net income would have been if amortization
related to goodwill that is no longer being amortized had been excluded from
prior periods.

|                           |                            |   |                |         |              |   |         |         |      |   |         |         |   |   |         |         | 
|-------------------------- | -------------------------- | - | -------------- | ------- | ------------ | - | ------- | ------- | ---- | - | ------- | ------- | - | - | ------- | ------- | 
|                           |                            |   | For the Three  |         | For the six 
|                           |                            |   | Months Ended   |         | Months Ended
|                           |                            |   | June 30,       |         | June 30,    
|                           |                            |   |                |         |             
|                           |                            |   | 2002           |         | 2001         |   | 2002    |         | 2001
|                           |                            |   |                |         |              |   |         |         |     
|                           |                            |   | (In Thousands)
|Reported net (loss) income |                            | $ | (21,344        | )       |              | $ | 115,642 |         |      | $ | (38,344 | )       |   | $ | 258,020 |        
|                          
|                          
|                          
|                          
|Add: Goodwill amortization |                            |   |               |         |              |   | 5,497   |         |      |   |        |         |   |   | 10,634  |        
|                           |                            |   |                |         |              |   |         |         |      |   |         |         |   |   |         |        
|                           | Adjusted net (loss) income |   | $              | (21,344 | )            |   | $       | 121,139 |      |   | $       | (38,344 | ) |   | $       | 268,654 | 
|                           |                            |   |                |         |              |   |         |         |      |   |         |         |   |   |         |        

The changes in the carrying amount of goodwill for the six months ended June
30, 2002 and June 30, 2001 are as follows:

Goodwill (In Thousands)

|                                                                         |                    |   |                   |         |          |   |       |   |               |   |         |        |  |   |         |         | 
|------------------------------------------------------------------------ | ------------------ | - | ----------------- | ------- | -------- | - | ----- | - | ------------- | - | ------- | ------ |  | - | ------- | ------- | 
|                                                                         |                    |   | Balance           |         | Acquired |   |       |   |               |   | Balance
|                                                                         |                    |   | December 31, 2001 |         | Goodwill |   | Other |   | June 30, 2002
|                                                                         |                    |   |                   |         |          |   |       |   |              
|Natural gas gathering, processing,
transportation, marketing and storage |                    | $ | 394,054           |         |          | $ |      |   |               | $ | 1,636   |        |  | $ | 395,690 |        
|                                                                        
|                                                                        
|                                                                        
|                                                                        
|NGL fractionation, transportation,
marketing and trading                 |                    |   | 27,122            |         |          |   |      |   |               |   | 13,418  |        |  |   | 40,540  |        
|                                                                         |                    |   |                   |         |          |   |       |   |               |   |         |        |  |   |         |        
|                                                                         | Total consolidated |   | $                 | 421,176 |          |   | $     |  |               |   | $       | 15,054 |  |   | $       | 436,230 | 
|                                                                         |                    |   |                   |         |          |   |       |   |               |   |         |        |  |   |         |        

|                                                                         |                    |   |                   |         |          |   |       |   |               |   |         |         |   |   |         |         | 
|------------------------------------------------------------------------ | ------------------ | - | ----------------- | ------- | -------- | - | ----- | - | ------------- | - | ------- | ------- | - | - | ------- | ------- | 
|                                                                         |                    |   | Balance           |         | Acquired |   |       |   |               |   | Balance
|                                                                         |                    |   | December 31, 2000 |         | Goodwill |   | Other |   | June 30, 2001
|                                                                         |                    |   |                   |         |          |   |       |   |              
|Natural gas gathering, processing,
transportation, marketing and storage |                    | $ | 376,195           |         |          | $ |      |   |               | $ | (10,634 | )       |   | $ | 365,561 |        
|                                                                        
|                                                                        
|                                                                        
|                                                                        
|NGL fractionation, transportation,
marketing and trading                 |                    |   |                  |         |          |   |      |   |               |   |        |         |   |   |        |        
|                                                                         |                    |   |                   |         |          |   |       |   |               |   |         |         |   |   |         |        
|                                                                         | Total consolidated |   | $                 | 376,195 |          |   | $     |  |               |   | $       | (10,634 | ) |   | $       | 365,561 | 
|                                                                         |                    |   |                   |         |          |   |       |   |               |   |         |         |   |   |         |        

The Company adopted SFAS No. 144, Accounting for the Impairment or
Disposal of Long-Lived Assets, on January 1, 2002. The new rules supersede
SFAS No. 121, Accounting for the Impairment of Long-Lived Assets and for
Long-Lived Assets to Be Disposed Of. The new rules retain many of the
fundamental recognition and measurement provisions of SFAS
No. 121, but significantly change
the criteria for classifying an asset as held-for-sale. Adoption of the new
standard had no material effect on the Companys consolidated results of
operations or financial position.

In June 2001, the Financial Accounting Standards Board (FASB) issued SFAS
No. 143, Accounting for Asset Retirement Obligations, which addresses
financial accounting and reporting for obligations associated with the
retirement of tangible long-lived assets and the associated asset retirement
costs. The standard applies to legal obligations associated with the retirement
of long-lived assets that result from the acquisition, construction,
development and/or normal use of the asset.

SFAS No. 143 requires that the fair value of a liability for an asset
retirement obligation be recognized in the period in which it is incurred, if a
reasonable estimate of fair value can be made. The fair value of the liability
is added to the carrying amount of the associated asset. This additional
carrying amount is then depreciated over the life of the asset. The liability
is accreted until the obligation is settled.

The Company is required to adopt the provisions of SFAS No. 143 as of
January 1, 2003. To accomplish this, the Company must identify any legal
obligations for asset retirement obligations, and determine the fair value of
these obligations on the date of adoption. The determination of fair value is
complex and requires gathering market information and developing cash flow
models. Additionally, the Company will be required to develop processes to
track and monitor these obligations. Because of the effort needed to comply
with the adoption of SFAS No. 143, the

7



---



##### Table of Contents



Company is currently assessing the new standard but has not yet determined
the impact on its consolidated results of operations, cash flows or financial
position.

On June 20, 2002, the FASBs Emerging Issues Task Force (EITF) reached a
partial consensus on Issue No. 02-03, Recognition and Reporting of Gains and
Losses on Energy Trading Contracts under EITF Issues No. 98-10, Accounting for
Contracts Involved in Energy Trading and Risk Management Activities, and EITF
No. 00-17, Measuring the Fair Value of Energy-Related Contracts in Applying
Issue No. 98-10. The EITF concluded that, effective for periods ending after
July 15, 2002, mark-to-market gains and losses on energy trading contracts
(including those to be physically settled) must be shown on a net basis in the
Consolidated Statements of Income. Comparative financial statements for prior
periods must be reclassified to reflect presentation on a net basis. Also,
companies must disclose volumes of physically settled energy trading contracts.
The Company is evaluating the impact of this new consensus on the presentation
of its Consolidated Statement of Operations, but has not yet determined the
impact it will have on total revenues and product purchases. The partial consensus will
have no impact on net income.

In June 2002, the FASB issued SFAS No. 146, Accounting for Costs
Associated with Exit or Disposal Activities, which addresses accounting for
restructuring and similar costs. SFAS No. 146 supersedes previous accounting
guidance, principally EITF No. 94-3. The Company will adopt the provisions of
SFAS No. 146 for restructuring activities initiated after December 31, 2002.
SFAS No. 146 requires that the liability for costs associated with an exit or
disposal activity be recognized when the liability is incurred. Under EITF No.
94-3, a liability for an exit cost was recognized at the date of the Companys
commitment to an exit plan. SFAS No. 146 also establishes that the liability
should initially be measured and recorded at fair value. Accordingly, SFAS No.
146 may affect the timing of recognizing future restructuring costs as well as
the amounts recognized.

Reclassifications Certain prior period amounts have been reclassified in
the Consolidated Financial Statements to conform to the current presentation.

3. Derivative Instruments, Hedging Activities and Credit Risk

Commodity price risk The Companys principal operations of gathering,
processing, transportation and storage of natural gas, and the accompanying
operations of fractionation, transportation, trading and marketing of NGLs
create commodity price risk exposure due to market fluctuations in commodity
prices, primarily with respect to the prices of NGLs and natural gas. As an
owner and operator of natural gas processing and other midstream assets, the
Company has an inherent exposure to market variables and commodity price risk.
The amount and type of price risk is dependent on the underlying natural gas
contracts entered in to purchase and process natural gas feedstock. Risk is
also dependent on the types and mechanisms for sales of natural gas and natural
gas liquid products produced, processed, transported or stored.

Energy trading (market) risk Certain of the Companys subsidiaries are
engaged in the business of trading energy related products and services
including managing purchase and sales portfolios, storage contracts and
facilities, and transportation commitments for products. These energy trading
operations are exposed to market variables and commodity price risk with
respect to these products and services, and may enter into physical contracts
and financial instruments with the objective of realizing a positive margin
from the purchase and sale of commodity-based instruments.

Corporate economic risks The Company enters into debt arrangements that
are exposed to market risks related to changes in interest rates. The Company
periodically uses interest rate lock agreements and interest rate swaps to
hedge interest rate risk associated with new debt issuances. The Companys
primary goals include (1) maintaining an appropriate ratio of fixed-rate debt
to total debt for the Companys debt rating; (2) reducing volatility of
earnings resulting from interest rate fluctuations; and (3) locking in
attractive interest rates based on historical rates.

Counterparty risks The Company sells various commodities (i.e. natural
gas, NGLs and crude oil) to a

8



---



##### Table of Contents



variety of customers. The natural gas customers include local utilities,
industrial consumers, independent power producers and merchant energy trading
organizations. The NGL customers range from large, multi-national petrochemical
and refining companies to small regional retail propane distributors.
Substantially all of the Companys NGL sales are made at market-based prices,
including approximately 40% of NGL production that is committed to Phillips and
Chevron Phillips Chemical LLC, under a contract with a primary term that
expires on January 1, 2015. This concentration of credit risk may affect the
Companys overall credit risk in that these customers may be similarly affected
by changes in economic, regulatory or other factors. On all transactions where
the Company is exposed to credit risk, the Company analyzes the counterparties
financial condition prior to entering into an agreement, establishes credit
limits and monitors the appropriateness of these limits on an ongoing basis.
The corporate credit policy prescribes the use of master collateral agreements
to mitigate credit exposure. The collateral agreements provide for a
counterparty to post cash or letters of credit for exposure in excess of the
established threshold. The threshold amount represents an open credit limit,
determined in accordance with the corporate credit policy. The collateral
agreements also provide that the inability to post collateral is sufficient
cause to terminate a contract and liquidate all positions.

Physical forward contracts and financial derivatives are generally cash
settled at the expiration of the contract term. However, financial derivatives
are generally subject to margin agreements with the majority of our
counterparties.

Commodity cash flow hedges The Company uses cash flow hedges, as
specifically defined by SFAS No. 133, to reduce the potential negative impact
that commodity price changes could have on the Companys earnings, and its
ability to adequately plan for cash needed for debt service, dividends, capital
expenditures and tax distributions. The Companys primary corporate hedging
goals include (1) maintaining minimum cash flows to fund debt service,
dividends, production replacement, maintenance capital projects and tax
distributions; (2) avoiding disruption of the Companys growth capital and
value creation process; and (3) retaining a high percentage of potential upside
relating to price increases of NGLs.

The Company uses natural gas, crude oil and NGL swaps and options to hedge
the impact of market fluctuations in the price of NGLs, natural gas and other
energy-related products. For the six months ended June 30, 2002, the Company
recognized a net loss of $0.9 million, of which a $12.4 million loss
represented the total ineffectiveness of all cash flow hedges and an $16.0
million gain represented the total derivative settlements. The time value of
options, a recognized $4.5 million loss for the six months ended June 30, 2002,
was excluded in the assessment of hedge effectiveness. The time value of
options is included in Sales of Natural Gas and Petroleum Products in the
Consolidated Statements of Operations. No derivative gains or losses were
reclassified from OCI to current period earnings as a result of the
discontinuance of cash flow hedges related to certain forecasted transactions
that are not probable of occurring.

Gains and losses on derivative contracts that are reclassified from
accumulated OCI to current period earnings are included in the line item in
which the hedged item is recorded. As of June 30, 2002, $13.4 million of
deferred net losses on derivative instruments accumulated in OCI are expected
to be reclassified as earnings during the next 12 months as the hedge
transactions occur; however, due to the volatility of the commodities markets,
the corresponding value in OCI is subject to change prior to its
reclassification into earnings. The maximum term over which the Company is
hedging its exposure to the variability of future cash flows is three years.

Commodity fair value hedges The Company uses fair value hedges to hedge
exposure to changes in the fair value of an asset or a liability (or an
identified portion thereof) that is attributable to price risk. The Company may
hedge producer price locks (fixed price gas purchases) and market locks (fixed
price gas sales) to reduce the Companys exposure to fixed price risk via
swapping out the fixed price risk for a floating price position (New York
Mercantile Exchange or index based).

For the six months ended June 30, 2002, the gains or losses representing
the ineffective portion of the Companys fair value hedges were not material.
All components of each derivatives gain or loss are included in the assessment
of hedge effectiveness, unless otherwise noted. The Company did not have any
firm commitments that no

9



---



##### Table of Contents



longer qualified as fair value hedge items and therefore, did not
recognize an associated gain or loss.

Interest rate fair value hedge In October 2001, the Company entered an
interest rate swap to convert the fixed interest rate of $250.0 million of debt
securities that were issued in August 2000 to floating rate debt. The interest
rate fair value hedge is at a floating rate based on a six-month London
Interbank Offered Rate (LIBOR), which is re-priced semiannually through 2005.
The swap meets conditions which permit the assumption of no ineffectiveness, as
defined by SFAS 133. As such, for the life of the swap no ineffectiveness will
be recognized. As of June 30, 2002, the fair value of the interest rate swap of
$1.9 million gain was included in the Consolidated Balance Sheets as Unrealized
Gains or Losses on Trading and Hedging Transactions with an offset to the
underlying debt included in Long Term Debt.

Commodity Derivatives  Trading The trading of energy related products
and services exposes the Company to the fluctuations in the market values of
traded instruments. The Company manages its traded instrument portfolio with
strict policies which limit exposure to market risk and require daily reporting
to management of potential financial exposure. These policies include
statistical risk tolerance limits using historical price movements to calculate
a daily earnings at risk measurement.

4. Financing

Credit
Facility with Financial Institutions On March 29, 2002, the
Company entered into a new credit facility (the New Facility). The New
Facility replaces the credit facility that matured on March 29, 2002. The New
Facility is used to support the Companys commercial paper program and for
working capital and other general corporate purposes. The New Facility matures
on March 28, 2003, however, any outstanding loans under the New Facility at
maturity may, at the Companys option, be converted to a one-year term loan.
The New Facility is a $650.0 million revolving credit facility, of which $150.0
million can be used for letters of credit. The New Facility requires the
Company to maintain at all times a debt to total capitalization ratio of less
than or equal to 53%. The New Facility bears interest at a rate equal to, at
the Companys option and based on the Companys current debt rating, either (1)
LIBOR plus 0.75% per year or (2) the higher of (a) the Bank of America prime
rate and (b) the Federal Funds rate plus 0.50% per year. At June 30, 2002,
there were no borrowings against the New Facility.

At June 30, 2002 the Company had a $30.0 million outstanding Irrevocable
Standby Letter of Credit expiring March 31, 2003.

At June 30, 2002 the Company was the guarantor of approximately $107.0
million of debt associated with unconsolidated subsidiaries. Assets of the
unconsolidated subsidiaries are pledged as collateral for the debt.

5. Commitments and Contingent Liabilities

Litigation The midstream natural gas industry has seen a number of
lawsuits involving royalty disputes, mismeasurement, pricing and mispayment
allegations. Although the industry has seen these types of cases before, they
were typically brought by a single plaintiff or small group of plaintiffs. Some
of these cases are now being brought as class actions. The Company and its
subsidiaries are currently named as defendants in a number of these types of
cases, including the referenced class actions and other similar types of cases
impacting the midstream natural gas industry. Management believes the Company
and its subsidiaries have meritorious defenses to these cases, and therefore
will continue to defend them vigorously. However, these class actions can be
costly and time consuming to defend.

Management believes that the final disposition of these proceedings will
not have a material adverse effect on the consolidated results of operations or
financial position of the Company.

Environmental On June 13, 2001, the Company received two administrative
Compliance Orders from the New Mexico Environment Department (NMED) seeking
civil penalties for primarily historic air permit matters. One order alleged
specific permit non-compliance at 11 facilities that occurred periodically
between 1996

10



---



##### Table of Contents



and 1999. Allegations under this order related primarily to emissions from
certain compressor engines in excess of what were then new operating permit
limits. The other order alleged numerous unexcused excursions from an hourly
permit limit arising from upset events at the Companys Dagger Draw facilitys
sulfur recovery unit between 1997 and 2001. NMED applied its civil penalty
policy to the alleged violations and calculated the penalties to be $10.4
million in the aggregate. On May 31, 2002, the Company and NMED entered into a
Settlement Agreement which resolves all aspects of the June 2001 Compliance
Orders. Under the terms of the Settlement Agreement, no penalty will be
assessed, and the Company has agreed to undertake upgrades at several of its
facilities in New Mexico that will significantly reduce emissions and will also
ensure those facilities are achieving state ambient air quality standards.

The Company was in discussion with the Oklahoma Department of
Environmental Quality (ODEQ) regarding apparent non-compliance issues
relating to the Companys Title V Clean Air Act Operating permits at its
Oklahoma facilities, primarily consisting of compliance issues disclosed to the
ODEQ pursuant to permit requirements or otherwise voluntarily disclosed to the
ODEQ in 2001. These non-compliance issues relate to various specific and
detailed terms of the Title V permits, including, separate filing requirements,
engine testing procedural requirements, certification requirements, and
quarterly emissions testing obligations. On May 20, 2002, the Company and ODEQ
entered into a Consent Order to address and resolve all of the items of
non-compliance with Title V permits as discussed above. Under the Consent
Order, the Company agreed to pay a civil penalty of $85,050 and install
pollution control equipment on certain of its compressor engines to achieve
significant emissions reductions at a cost of $481,950. The items of
non-compliance have been corrected, and the installation of the pollution
controls is presently underway.

6. Business Segments

The Company operates in two principal business segments as follows: (1)
natural gas gathering, processing, transportation, marketing and storage, and
(2) NGL fractionation, transportation, marketing and trading. These segments
are monitored separately by management for performance against its internal
forecast and are consistent with the Companys internal financial reporting.
These segments have been identified based on the differing products and
services, regulatory environment and the expertise required for these
operations. Margin, earnings before interest, taxes, depreciation and
amortization (EBITDA) and earnings before interest and taxes (EBIT) are the
performance measures used by management to monitor the business of each
segment. The accounting policies for the segments are the same as those
described in Note 2. Foreign operations are not material and are therefore not
separately identified.

The following table sets forth the Companys segment information.

|                       |                  |              |                             |                          |         |                |           |              |         |         |           |           |         |         |           |            |         |         |           | 
|---------------------- | ---------------- | ------------ | --------------------------- | ------------------------ | ------- | -------------- | --------- | ------------ | ------- | ------- | --------- | --------- | ------- | ------- | --------- | ---------- | ------- | ------- | --------- | 
|                       |                  |              |                             |                          |         | For the Three  |           | For the six 
|                       |                  |              |                             |                          |         | Months Ended   |           | Months Ended
|                       |                  |              |                             |                          |         | June 30,       |           | June 30,    
|                       |                  |              |                             |                          |         |                |           |             
|                       |                  |              |                             |                          |         | 2002           |           | 2001         |         | 2002    |           | 2001     
|                       |                  |              |                             |                          |         |                |           |              |         |         |           |          
|                       |                  |              |                             |                          |         | (In Thousands)
|Operating revenues:    |                  |              |                             |                          |         |                |           |              |         |         |           |           |         |         |           |           
|                      
|                      
|                      
|                      
|                       | Natural gas      |              | $                           | 1,066,583                |         |                | $         | 1,211,835    |         |         | $         | 1,971,500 |         |         | $         | 3,955,248  |        
|                      
|                      
|                      
|                      
|                       | NGLs             |              |                             | 1,123,518                |         |                |           | 1,867,100    |         |         |           | 2,050,391 |         |         |           | 3,094,930  |        
|                      
|                      
|                      
|                      
|                       | Intersegment (a) |              |                             | (402,515                 | )       |                |           | (542,610     | )       |         |           | (680,368  | )       |         |           | (1,133,781 | )      
|                       |                  |              |                             |                          |         |                |           |              |         |         |           |           |         |         |           |            |        
|                       |                  |              |                             | Total operating revenues |         | $              | 1,787,586 |              |         | $       | 2,536,325 |           |         | $       | 3,341,523 |            |         | $       | 5,916,397 | 
|                       |                  |              |                             |                          |         |                |           |              |         |         |           |           |         |         |           |            |        
|Margin:                |                  |              |                             |                          |         |                |           |              |         |         |           |           |         |         |           |           
|                      
|                      
|                      
|                      
|                       | Natural gas      |              | $                           | 227,832                  |         |                | $         | 319,350      |         |         | $         | 460,381   |         |         | $         | 675,107    |        
|                      
|                      
|                      
|                      
|                       | NGLs             |              |                             | 10,614                   |         |                |           | 16,870       |         |         |           | 26,669    |         |         |           | 28,686     |        
|                       |                  |              |                             |                          |         |                |           |              |         |         |           |           |         |         |           |            |        
|                       |                  | Total margin |                             | $                        | 238,446 |                |           | $            | 336,220 |         |           | $         | 487,050 |         |           | $          | 703,793 |        
|                       |                  |              |                             |                          |         |                |           |              |         |         |           |           |         |         |           |            |        
|Other operating costs: |                  |              |                             |                          |         |                |           |              |         |         |           |           |         |         |           |           
|                      
|                      
|                      
|                      
|                       | Natural gas      |              | $                           | 109,238                  |         |                | $         | 88,551       |         |         | $         | 219,985   |         |         | $         | 176,301    |        
|                      
|                      
|                      
|                      
|                       | NGLs             |              |                             | 2,381                    |         |                |           | 1,374        |         |         |           | 4,782     |         |         |           | 2,247      |        
|                      
|                      
|                      
|                      
|                       | Corporate        |              |                             | 39,113                   |         |                |           | 33,041       |         |         |           | 78,270    |         |         |           | 65,447     |        
|                       |                  |              |                             |                          |         |                |           |              |         |         |           |           |         |         |           |            |        
|                       |                  |              | Total other operating costs |                          | $       | 150,732        |           |              | $       | 122,966 |           |           | $       | 303,037 |           |            | $       | 243,995 |          
|                       |                  |              |                             |                          |         |                |           |              |         |         |           |           |         |         |           |            |        

11



---



##### Table of Contents



|                                                 |             |                                                       |        |                |         |              |        |         |         |      |        |          |         |   |        |          |         | 
|------------------------------------------------ | ----------- | ----------------------------------------------------- | ------ | -------------- | ------- | ------------ | ------ | ------- | ------- | ---- | ------ | -------- | ------- | - | ------ | -------- | ------- | 
|                                                 |             |                                                       |        | For the Three  |         | For the six 
|                                                 |             |                                                       |        | Months Ended   |         | Months Ended
|                                                 |             |                                                       |        | June 30,       |         | June 30,    
|                                                 |             |                                                       |        |                |         |             
|                                                 |             |                                                       |        | 2002           |         | 2001         |        | 2002    |         | 2001
|                                                 |             |                                                       |        |                |         |              |        |         |         |     
|                                                 |             |                                                       |        | (In Thousands)
|Equity in earnings of unconsolidated affiliates: |             |                                                       |        |                |         |              |        |         |         |      |        |          |         |   |        |         
|                                                
|                                                
|                                                
|                                                
|                                                 | Natural Gas |                                                       | $      | 6,870          |         |              | $      | 11,434  |         |      | $      | 12,519   |         |   | $      | 16,122   |        
|                                                
|                                                
|                                                
|                                                
|                                                 | NGLs        |                                                       |        | 966            |         |              |        | (530    | )       |      |        | 1,387    |         |   |        | (42      | )      
|                                                 |             |                                                       |        |                |         |              |        |         |         |      |        |          |         |   |        |          |        
|                                                 |             | Total equity in earnings of unconsolidated affiliates |        | $              | 7,836   |              |        | $       | 10,904  |      |        | $        | 13,906  |   |        | $        | 16,080  | 
|                                                 |             |                                                       |        |                |         |              |        |         |         |      |        |          |         |   |        |          |        
|EBITDA (b):                                      |             |                                                       |        |                |         |              |        |         |         |      |        |          |         |   |        |         
|                                                
|                                                
|                                                
|                                                
|                                                 | Natural gas |                                                       | $      | 125,464        |         |              | $      | 242,233 |         |      | $      | 252,915  |         |   | $      | 514,928  |        
|                                                
|                                                
|                                                
|                                                
|                                                 | NGLs        |                                                       |        | 9,199          |         |              |        | 14,966  |         |      |        | 23,274   |         |   |        | 26,397   |        
|                                                
|                                                
|                                                
|                                                
|                                                 | Corporate   |                                                       |        | (39,113        | )       |              |        | (33,041 | )       |      |        | (78,270  | )       |   |        | (65,447  | )      
|                                                 |             |                                                       |        |                |         |              |        |         |         |      |        |          |         |   |        |          |        
|                                                 |             | Total EBITDA                                          |        | $              | 95,550  |              |        | $       | 224,158 |      |        | $        | 197,919 |   |        | $        | 475,878 | 
|                                                 |             |                                                       |        |                |         |              |        |         |         |      |        |          |         |   |        |          |        
|Depreciation and amortization:                   |             |                                                       |        |                |         |              |        |         |         |      |        |          |         |   |        |         
|                                                
|                                                
|                                                
|                                                
|                                                 | Natural gas |                                                       | $      | 68,387         |         |              | $      | 64,728  |         |      | $      | 137,574  |         |   | $      | 128,209  |        
|                                                
|                                                
|                                                
|                                                
|                                                 | NGLs        |                                                       |        | 2,305          |         |              |        | 2,083   |         |      |        | 5,623    |         |   |        | 4,378    |        
|                                                
|                                                
|                                                
|                                                
|                                                 | Corporate   |                                                       |        | 594            |         |              |        | 1,050   |         |      |        | 1,848    |         |   |        | 2,130    |        
|                                                 |             |                                                       |        |                |         |              |        |         |         |      |        |          |         |   |        |          |        
|                                                 |             | Total depreciation and amortization                   |        | $              | 71,286  |              |        | $       | 67,861  |      |        | $        | 145,045 |   |        | $        | 134,717 | 
|                                                 |             |                                                       |        |                |         |              |        |         |         |      |        |          |         |   |        |          |        
|EBIT (b):                                        |             |                                                       |        |                |         |              |        |         |         |      |        |          |         |   |        |         
|                                                
|                                                
|                                                
|                                                
|                                                 | Natural gas |                                                       | $      | 57,077         |         |              | $      | 177,505 |         |      | $      | 115,341  |         |   | $      | 386,719  |        
|                                                
|                                                
|                                                
|                                                
|                                                 | NGLs        |                                                       |        | 6,894          |         |              |        | 12,883  |         |      |        | 17,651   |         |   |        | 22,019   |        
|                                                
|                                                
|                                                
|                                                
|                                                 | Corporate   |                                                       |        | (39,707        | )       |              |        | (34,091 | )       |      |        | (80,118  | )       |   |        | (67,577  | )      
|                                                 |             |                                                       |        |                |         |              |        |         |         |      |        |          |         |   |        |          |        
|                                                 |             | Total EBIT                                            |        | $              | 24,264  |              |        | $       | 156,297 |      |        | $        | 52,874  |   |        | $        | 341,161 | 
|                                                 |             |                                                       |        |                |         |              |        |         |         |      |        |          |         |   |        |          |        
|Corporate interest expense                       |             | $                                                     | 42,295 |                |         | $            | 40,375 |         |         | $    | 85,604 |          |         | $ | 82,392 |         
|                                                 |             |                                                       |        |                |         |              |        |         |         |      |        |          |         |   |        |          |        
|Income before income taxes:                      |             |                                                       |        |                |         |              |        |         |         |      |        |          |         |   |        |         
|                                                
|                                                
|                                                
|                                                
|                                                 | Natural gas |                                                       | $      | 57,077         |         |              | $      | 177,505 |         |      | $      | 115,341  |         |   | $      | 386,719  |        
|                                                
|                                                
|                                                
|                                                
|                                                 | NGLs        |                                                       |        | 6,894          |         |              |        | 12,883  |         |      |        | 17,651   |         |   |        | 22,019   |        
|                                                
|                                                
|                                                
|                                                
|                                                 | Corporate   |                                                       |        | (82,002        | )       |              |        | (74,466 | )       |      |        | (165,722 | )       |   |        | (149,969 | )      
|                                                 |             |                                                       |        |                |         |              |        |         |         |      |        |          |         |   |        |          |        
|                                                 |             | Total income before income taxes                      |        | $              | (18,031 | )            |        | $       | 115,922 |      |        | $        | (32,730 | ) |        | $        | 258,769 | 
|                                                 |             |                                                       |        |                |         |              |        |         |         |      |        |          |         |   |        |          |        
|Capital expenditures:                            |             |                                                       |        |                |         |              |        |         |         |      |        |          |         |   |        |         
|                                                
|                                                
|                                                
|                                                
|                                                 | Natural gas |                                                       | $      | 47,606         |         |              | $      | 195,371 |         |      | $      | 150,616  |         |   | $      | 256,256  |        
|                                                
|                                                
|                                                
|                                                
|                                                 | NGLs        |                                                       |        | 6,717          |         |              |        | 40,641  |         |      |        | 6,896    |         |   |        | 41,181   |        
|                                                
|                                                
|                                                
|                                                
|                                                 | Corporate   |                                                       |        | 5,285          |         |              |        | 9,565   |         |      |        | 8,881    |         |   |        | 11,258   |        
|                                                 |             |                                                       |        |                |         |              |        |         |         |      |        |          |         |   |        |          |        
|                                                 |             | Total acquisitions and other capital expenditures     |        | $              | 59,608  |              |        | $       | 245,577 |      |        | $        | 166,393 |   |        | $        | 308,695 | 
|                                                 |             |                                                       |        |                |         |              |        |         |         |      |        |          |         |   |        |          |        

|              |               |              |   |                |           |              |   |           |           | 
|------------- | ------------- | ------------ | - | -------------- | --------- | ------------ | - | --------- | --------- | 
|              |               |              |   | As of         
|              |               |              |   |               
|              |               |              |   | June 30,       |           | December 31,
|              |               |              |   | 2002           |           | 2001        
|              |               |              |   |                |           |             
|              |               |              |   | (In Thousands)
|Total assets: |               |              |   |                |           |              |   |          
|             
|             
|             
|             
|              | Natural gas   |              | $ | 5,325,892      |           |              | $ | 5,326,889 |          
|             
|             
|             
|             
|              | NGLs          |              |   | 251,180        |           |              |   | 258,177   |          
|             
|             
|             
|             
|              | Corporate (c) |              |   | 896,946        |           |              |   | 1,045,143 |          
|              |               |              |   |                |           |              |   |           |          
|              |               | Total assets |   | $              | 6,474,018 |              |   | $         | 6,630,209 | 
|              |               |              |   |                |           |              |   |           |          



---

|(a) |  | Intersegment sales represent sales of NGLs from the natural gas segment
to the NGLs segment at either index prices or weighted average prices of
NGLs. Both measures of intersegment sales are effectively based on current
economic market conditions.
|--- |  | -------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|   
|   
|   
|   
|(b) |  | EBITDA consists of income from continuing operations before interest
expense, income tax expense, and depreciation and amortization expense.
EBIT is EBITDA less depreciation and amortization. These measures                                         

12



---



##### Table of Contents



|    |  | are not a measurement presented in accordance with generally accepted
accounting principles and should not be considered in isolation from or
as a substitute for net income or cash flow measures prepared in
accordance with generally accepted accounting principles or as a measure
of the Companys profitability or liquidity. The measures are included as
a supplemental disclosure because it may provide useful information
regarding the Companys ability to service debt and to fund capital
expenditures. However, not all EBITDA or EBIT may be available to service
debt.
|--- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|   
|   
|   
|   
|(c) |  | Includes items such as unallocated working capital, affiliate related
accounts and other assets.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         

7. Acquisition

On May 31, 2002, the Company acquired 33.33% of the outstanding membership
interests in Discovery Producer Services, LLC (DPS). The base purchase price
of $71.0 million was adjusted for working capital and certain capital
expenditures. This adjusted purchase price was then reduced by approximately
$84.6 million of DPS debt guaranteed by the Company, resulting in the Company
receiving cash of approximately $11.5 million on the closing date of the
transaction. This acquisition is accounted for under the equity method of
accounting. The pro forma impact of the acquisition on the Companys results of
operations was not material.




Item 2. Managements Discussion and Analysis of Financial Condition and Results
of Operations

The following discussion details the material factors that affected our
historical financial condition and results of operations during the three
months and six months ended June 30, 2002 and 2001. This discussion should be
read in conjunction with the Consolidated Financial Statements and related
notes included elsewhere in this report.

Overview

We operate in the two principal business segments of the midstream natural
gas industry:



| |  |  | natural gas gathering, processing, transportation, marketing and
storage, from which we generate revenues primarily by providing
services such as compression, treating and gathering, processing,
local fractionation, transportation of residue gas, storage and
marketing;
| | - |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | natural gas liquids (NGLs) fractionation, transportation, marketing
and trading, from which we generate revenues from transportation fees,
market center fractionation and the marketing and trading of NGLs.                                                              

Our limited liability company agreement limits the scope of our business
to the midstream natural gas industry in the United States and Canada, the
marketing of NGLs in Mexico and the transportation, marketing and storage of
other petroleum products, unless otherwise approved by our board of directors.
This limitation in scope is not currently expected to materially impact the
results of our operations.

13



---



##### Table of Contents



Effects of Commodity Prices

The Company is exposed to commodity prices as a result of being paid for
certain services in the form of commodities rather than cash. For gathering
services, the Company receives fees from producers to bring natural gas from
the well head to the processing plant. For processing services, the Company
either receives fees or physical commodities as payment for these services,
depending on the type of contract. Under a percentage-of-proceeds contract
type, the Company is paid for its services by keeping a percentage of both the
NGLs produced and the residue gas resulting from processing the natural gas.
Under a keep-whole contract, the Company keeps all or a portion of the NGLs
produced, but returns the equivalent British thermal unit (Btu) content of
the gas back to the producer. Based on the Companys current contract mix, the
Company has a net long NGL position and is sensitive to changes in NGL prices.
The Company also has a net short residue gas position, however the short
residue gas position is less significant than the long NGL position.

During 2001 and the first and second quarters of 2002, approximately 75%
of our gross margin was generated by commodity sensitive arrangements and
approximately 25% of our gross margin was generated by fee-based arrangements.
The commodity exposure is actively managed by the Company as discussed below.

The midstream natural gas industry has been cyclical, with the operating
results of companies in the industry significantly affected by the prevailing
price of NGLs, which in turn has been generally correlated to the price of
crude oil. Although the prevailing price of natural gas has less short term
significance to our operating results than the price of NGLs, in the long term
the growth of our business depends on natural gas prices being at levels
sufficient to provide incentives and capital for producers to increase natural
gas exploration and production. In the past, the prices of NGLs and natural gas
have been extremely volatile.

We generally expect NGL prices to follow changes in crude oil prices over
the long term, which we believe will in large part be determined by the level
of production from major crude oil exporting countries and the demand generated
by growth in the world economy. However, during the last two quarters of 2001
and first two quarters of 2002, the relationship or correlation between crude
oil value and NGL prices declined significantly. During the second quarter of
2002, NGL prices strengthened while the relationship between NGL prices and
crude remained weak.

We believe that future natural gas prices will be influenced by supply
deliverability, the severity of winter weather and the level of United States
economic growth. We believe that weather will be the strongest determinant of
near term natural gas prices. The price increases in crude oil, NGLs and
natural gas experienced during 2000 and the first two quarters of 2001 spurred
increased natural gas drilling activity. For example, the average number of
active drilling rigs in North America increased by approximately 19% from 1,263
in 2000 to 1,497 in 2001. The decline in commodity prices over the final two
quarters of 2001 and first quarter of 2002 negatively affected drilling activity
as the average number of active rigs in North America declined to 1,048 during
the second quarter of 2002. We expect that continued pressure from reduced
commodity prices on drilling will negatively impact North American drilling
activity in the short term. We expect lower drilling levels over a sustained
period will have a negative effect on natural gas volumes gathered and
processed.

To better address the risks associated with volatile commodity prices, the
Company employs a comprehensive commodity price risk management program. We
closely monitor the risks associated with these commodity price changes on our
future operations and, where appropriate, use various commodity instruments
such as natural gas, crude oil and NGL contracts to hedge the value of our
assets and operations from such price risks. See Item 3. Quantitative and
Qualitative Disclosures About Market Risk. Our second quarter 2001 and 2002
results of operations include hedging losses of $1.2 million and
$8.3 million,
respectively. During the first six months of 2001 and 2002 our hedging
activities resulted in losses of $15.8 million and $0.9 million, respectively.
The hedging losses incurred in the second quarter of 2001 and 2002 relate to
hedges placed during periods of higher prices.

14



---



##### Table of Contents



Results of Operations

|                                                                        |                                                 |                          |         |                     |           |                   |         |           |           |      |         |           |           |   |         |           |           | 
|----------------------------------------------------------------------- | ----------------------------------------------- | ------------------------ | ------- | ------------------- | --------- | ----------------- | ------- | --------- | --------- | ---- | ------- | --------- | --------- | - | ------- | --------- | --------- | 
|                                                                        |                                                 |                          |         | Three Months Ended, |           | Six Months Ended,
|                                                                        |                                                 |                          |         | June 30,            |           | June 30,         
|                                                                        |                                                 |                          |         |                     |           |                  
|                                                                        |                                                 |                          |         | 2002                |           | 2001              |         | 2002      |           | 2001
|                                                                        |                                                 |                          |         |                     |           |                   |         |           |           |     
|                                                                        |                                                 |                          |         | (In Thousands)     
|Operating revenues:                                                     |                                                 |                          |         |                     |           |                   |         |           |           |      |         |           |           |   |         |          
|                                                                       
|                                                                       
|                                                                       
|                                                                       
|                                                                        | Sales of natural gas and petroleum products     |                          | $       | 1,709,556           |           |                   | $       | 2,474,691 |           |      | $       | 3,193,916 |           |   | $       | 5,796,873 |          
|                                                                       
|                                                                       
|                                                                       
|                                                                       
|                                                                        | Transportation, storage and processing          |                          |         | 78,030              |           |                   |         | 61,634    |           |      |         | 147,607   |           |   |         | 119,524   |          
|                                                                        |                                                 |                          |         |                     |           |                   |         |           |           |      |         |           |           |   |         |           |          
|                                                                        |                                                 | Total operating revenues |         |                     | 1,787,586 |                   |         |           | 2,536,325 |      |         |           | 3,341,523 |   |         |           | 5,916,397 | 
|                                                                       
|                                                                       
|                                                                       
|                                                                       
|                                                                        | Purchases of natural gas and petroleum
products |                          |         | 1,549,140           |           |                   |         | 2,200,105 |           |      |         | 2,854,473 |           |   |         | 5,212,604 |          
|                                                                        |                                                 |                          |         |                     |           |                   |         |           |           |      |         |           |           |   |         |           |          
|Gross margin                                                            |                                                 |                          | 238,446 |                     |           |                   | 336,220 |           |           |      | 487,050 |           |           |   | 703,793 |          
|                                                                       
|                                                                       
|                                                                       
|                                                                       
|Equity earnings of unconsolidated affiliates                            |                                                 |                          | 7,836   |                     |           |                   | 10,904  |           |           |      | 13,906  |           |           |   | 16,080  |          
|                                                                        |                                                 |                          |         |                     |           |                   |         |           |           |      |         |           |           |   |         |           |          
|Total gross margin and equity earnings of
Unconsolidated affiliates (1) |                                                 | $                        | 246,282 |                     |           | $                 | 347,124 |           |           | $    | 500,956 |           |           | $ | 719,873 |          
|                                                                        |                                                 |                          |         |                     |           |                   |         |           |           |      |         |           |           |   |         |           |          



---

|(1) |  | Gross margin and equity in earnings (Gross Margin) consists of income
from continuing operations before operating and general and administrative
expense, interest expense, income tax expense, and depreciation and
amortization expense plus equity earnings of unconsolidated affiliates.
Gross Margin as defined is not a measurement presented in accordance with
generally accepted accounting principles. You should not consider this
measure in isolation from or as a substitute for net income or cash flow
measures prepared in accordance with generally accepted accounting
principles or as an isolated measure of our profitability or liquidity.
Gross margin is included as a supplemental disclosure because it may
provide useful information regarding the impact of key drivers such as
commodity prices and supply contract mix on the Companys earnings.
|--- |  | -----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------

Three months ended June 30, 2002 compared with three months ended June 30, 2001

Gross Margin.Gross Margin decreased $100.8 million, or 29% from $347.1
million in the second quarter of 2001 to $246.3 million in 2002. This decrease
was primarily the result of lower NGL prices of approximately $76.0 million
(net of hedging) due to an $0.11 per gallon decrease in average NGL prices.
These decreases were partially offset by approximately $13.0 million due to a
$1.27 per million British thermal unit (Btu) decrease in natural gas prices.
Average prices for the three months ended June 30, 2002 were $0.37 per gallon
for NGLs and $3.40 per million Btus for natural gas, respectively, as compared
with $0.48 per gallon and $4.67 per million Btus during the same period 2001.
Throughput volumes and NGL trading declines contributed another $7.0 million
and $8.9 million, respectively, to the Gross Margin decrease.

Gross Margin was negatively impacted further in the second quarter by a
$12.0 million reserve as a result of the Companys ongoing analysis of its gas
imbalances with suppliers and customers. Furthermore, the Company recorded a
writedown of storage inventory in southeast Texas of $6.0 million and recorded
miscellaneous other charges of $14.0 million, including charges associated with
the resolution of disputed receivables and payables.

Partially offsetting these decreases were increases of approximately $10.3
million attributable to the combination of our acquisitions of Canadian
Midstream, northeast propane terminal and marketing assets, and additional
interests in three Offshore Gulf of Mexico partnerships.

Gross Margin associated with the natural gas gathering, processing,
transportation and storage segment decreased $96.1 million, or 29%, from $330.8
million to $234.7 million, mainly as a result of lower NGL prices.
Commodity sensitive processing arrangements accounted for approximately $63.0
million (net of hedging) of this decrease due mainly to the $0.11 per gallon
decrease in average NGL prices. This reduction was the result of the
interaction of commodity prices and our gas supply arrangements. Gross Margin
was also negatively affected by

15



---



##### Table of Contents



charges related to reserves for gas imbalances with suppliers and
customers, the writedown of storage inventory and miscellaneous other charges,
as noted above.

Gross Margin associated with the natural gas liquids fractionation,
transportation, marketing and trading segment decreased $4.7 million, or 29%,
from $16.3 million to $11.6 million. This reduction was primarily the result
of lower margin from NGL trading, offset by increases from the acquisition of
northeast propane terminal and marketing assets in 2001.

NGL production during the second quarter of 2002 decreased 14,700 barrels
per day, or 4%, from 406,700 barrels per day to 392,000 barrels per day, and
natural gas transported and/or processed decreased 0.1 trillion Btus per day,
or 1%, from 8.5 trillion Btus per day to 8.4 trillion Btus per day. The primary
cause of the decrease in NGL production was the decreased keep-whole processing
activity due to tightened processing margins in the second quarter of 2002 and
reduced volumes associated with lower North American drilling activity.

Costs and Expenses.Operating and maintenance expenses increased $19.7
million, or 22%, from $90.0 million in the second quarter of 2001 to $109.7
million in the same period of 2002. This increase is primarily the result of
acquisitions of approximately $6.0 million and increased maintenance, cost of
labor and pipeline integrity projects. General and administrative expenses
increased $6.1 million, or 18%, from $33.0 million in the second quarter of
2001 to $39.1 million in the same period of 2002. This increase is primarily
the result of increased costs for core business process improvements, allocated
costs from Duke Energy due to increased service levels and expanded business
activity resulting from 2001 acquisitions.

Depreciation and amortization increased $8.9 million (excluding $5.5
million of goodwill amortization in 2001), or 14%, from $62.4 million in the
second quarter of 2001 to $71.3 million in the same period of 2002. This
increase was due primarily to acquisitions, ongoing capital expenditures for
well connections and facility maintenance and enhancements.

Other costs and expenses of $1.9 million were due mainly to impairment of
investments in offshore Gulf of Mexico partnerships.

Interest.Interest expense increased $1.9 million, or 5%, from $40.4
million in the second quarter of 2001 to $42.3 million in the same period of
2002. This increase was primarily the result of higher outstanding debt levels,
partially offset by lower interest rates.

Income Taxes.The Company is structured as a limited liability company,
which is a pass-through entity for income tax purposes. Second quarter 2002
income tax expense of $3.3 million is mainly the result of other miscellaneous
taxes associated with tax-paying subsidiaries.

Net Income.Net income decreased $136.9 million from $115.6 million in the
second quarter of 2001 to a loss of $21.3 million in the second quarter of
2002. This decrease was largely the result of decreased NGL prices and
increases in operating and general and administrative expenses, slightly offset by
lower natural gas prices and acquisition activity. Net income was also
negatively affected by charges related to reserves for gas imbalances, reduced
storage inventory, impairments of partnership investments and miscellaneous
other charges.

Six months ended June 30, 2002 compared with six months ended June 30, 2001

Gross Margin.Gross Margin decreased $218.9 million, or 30%, from $719.9
million for the six months ended June 30, 2001 to $501.0 million in 2002. This
decrease was primarily the result of lower NGL prices of approximately $237.0
million (net of hedging) due to a $0.20 per gallon decrease in average NGL
prices. These decreases were partially offset by approximately $49.0 million
due to a $3.02 per million Btu decrease in natural gas prices. Average prices
for the six months ended June 30, 2002 were $0.34 per gallon for NGLs and $2.86
per million Btus for natural gas, respectively, as compared with $0.54 per
gallon and $5.88 per million Btus during the same

16



---



##### Table of Contents



period in 2001. Throughput volumes and NGL trading activity declines
contributed another $16.0 million and $8.0 million, respectively, to the Gross
Margin decrease.

Gross Margin was negatively impacted further in the six months ended June
30, 2002, by a $12.0 million reserve as a result of the Companys ongoing
analysis of its gas imbalances with suppliers and customers. Furthermore, the
Company recorded a writedown of storage inventory in southeast Texas of $6.0
million and recorded miscellaneous other charges of $14.0 million, including
charges associated with the resolution of disputed receivables and payables.

Partially offsetting these decreases were increases of approximately $25.0
million attributable to the combination of our acquisitions of Canadian
Midstream, northeast propane terminal and marketing assets, and additional
interests in three Offshore Gulf of Mexico partnerships.

Gross Margin associated with the natural gas gathering, processing,
transportation and storage segment decreased $218.3 million, or 32%, from
$691.2 million for the six months ended June 30, 2001 to $472.9 million for the
same period 2002, mainly as a result of the lower NGL prices. Commodity
sensitive processing arrangements accounted for approximately $188.0 million
(net of hedging) of this decrease due mainly to the $0.20 per gallon decrease
in average NGL prices. This reduction was the result of the interaction of
commodity prices and our gas supply arrangements. Gross Margin was also
negatively affected by charges related to reserves for gas imbalances with
suppliers and customers, the writedown of storage inventory and miscellaneous
other charges, as noted above.

Gross Margin associated with the natural gas liquids fractionation,
transportation, marketing and trading segment decreased $0.5 million, or 2%,
from $28.6 million to $28.1 million. The decrease is mainly the result of lower
NGL trading margins, offset by increases due to the acquisition of northeast
propane terminal and marketing assets in 2001.

NGL production during the six months ended June 30, 2002 increased 1,500
barrels per day, or less than 1%, from 388,900 barrels per day to 390,400
barrels per day, and natural gas transported and/or processed remained
unchanged at 8.4 trillion Btus per day through the first two quarters of both
2001 and 2002. The primary cause of the slight increase in NGL production was
the increase in keep-whole processing activity due to more profitable
processing margins experienced during the first quarter of 2002, as
compared to very poor processing and keep-whole margins in the first
quarter of 2001.

Costs and Expenses.Operating and maintenance expenses increased $38.2
million, or 21%, from $179.5 million for the six months ended June 30, 2001 to
$217.7 million in the same period of 2002. This increase is primarily the
result of acquisitions of $12.0 million, first quarter 2002 accrual increases
of $10.0 million and increased maintenance, cost of labor and pipeline
integrity projects. General and administrative expenses increased $12.9
million, or 20%, from $65.4 million for the six months ended June 30, 2001 to
$78.3 million in the same period of 2002. This increase is primarily the result
of increased costs for core business process improvements, allocated costs from
Duke Energy due to increased service levels and expanded business activity
resulting from 2001 acquisitions.

Depreciation and amortization increased $20.9 million (excluding $10.6
million of goodwill amortization in 2001), or 17%, from $124.1 million for the
six months ended June 30, 2001 to $145.0 million in the same period of 2002.
This increase was due primarily to acquisitions, ongoing capital expenditures
for well connections and facility maintenance and enhancements.

Other costs and expenses increased $8.1 million from income of $1.0
million for the six months ended June 30, 2001, to expense of $7.1 million in
the same period in 2002. This increase is mainly due to impairment of the
Brigham partnership investment in the first quarter of 2002 and the impairment
of investments in offshore Gulf of Mexico partnerships of $1.9 million in the
second quarter of 2002.

Interest.Interest expense increased $3.2 million, or 4%, from $82.4
million for the six months ended June

17



---



##### Table of Contents



30, 2001 to $85.6 million in the same period of 2002. This increase was
primarily the result of higher outstanding debt levels, partially offset by
lower interest rates.

Income Taxes.The Company is structured as a limited liability company,
which is a pass-through entity for income tax purposes. Income tax expense for
the six months ended June 30, 2002 of $5.6 million is mainly the result of
other miscellaneous taxes associated with tax-paying subsidiaries.

Net Income.Net income decreased $296.3 million from $258.0 million for
the six months ended June 30, 2001 to a loss of $38.3 million in the same
period of 2002. This decrease was largely the result of decreased NGL prices
and increases in operating and general and administrative expenses, slightly offset
by lower natural gas prices and acquisition activity. Net income was also
negatively affected by charges related to reserves for gas imbalances, reduced
storage inventory, impairment of partnership investments, and miscellaneous
other charges, as well as increased operating and maintenance and
general and administrative costs.

Liquidity and Capital Resources

Operating Cash Flows

During the first six months of 2002, funds of $230.7 million were provided
by operating activities, a decrease of $185.9 million from the same period of
2001. The decrease is due primarily to a $296.3 million decrease in net income
partially offset by non-cash transactions and unrealized mark-to-market and
hedging activity. The decrease in net income is due largely to lower NGL prices
and increased operating and general and administrative expenses.

Price volatility in crude oil, NGLs and natural gas prices have a direct
impact on our generation of cash from operations.

Investing Cash Flows

Our capital expenditures consist of expenditures for acquisitions and
construction of additional gathering systems, processing plants, fractionators
and other facilities and infrastructure in addition to well connections and
upgrades to our existing facilities. For the six months ended June 30, 2002, we
spent approximately $166.4 million on capital expenditures. These capital
expenditures were primarily for plant expansions, well connections and plant
upgrades.

Our level of capital expenditures for acquisitions and construction
depends on many factors, including industry conditions, the availability of
attractive acquisition opportunities and construction projects, the level of
commodity prices and competition. We expect to finance our capital expenditures
with our cash on hand, cash flow from operations and borrowings available under
our commercial paper program, our credit facilities or other available sources
of financing.

Financing Cash Flows

Bank Financing and Commercial Paper

In
March 2002, we entered into a $650.0 million credit facility (the Facility), of which $150.0 million can be used for letters of credit. The
Facility is used to support our commercial paper program and for working
capital and other general corporate purposes. The Facility matures on March 28,
2003, however, any outstanding loans under the Facility at maturity may, at our
option, be converted to a one-year term loan. The Facility requires us to
maintain at all times a debt to total capitalization ratio of less than or
equal to 53%. The Facility bears interest at a rate equal to, at our option,
either (1) the London Interbank Offered Rate (LIBOR) plus 0.75% per year or
(2) the higher of (a) the Bank of America prime rate and (b) the Federal Funds
rate plus 0.50% per year. At June 30, 2002, there were no borrowings against
the Facility.

18



---



##### Table of Contents



At June 30, 2002 we had a $30.0 million outstanding Irrevocable Standby
Letter of Credit expiring March 31, 2003.

At June 30, 2002 we had $189.0 million in outstanding commercial paper,
with maturities ranging from one day to 19 days and annual interest rates
ranging from 2.00% to 2.20%. At no time did the amount of our outstanding
commercial paper exceed the available amount under the Facility. In the future,
our debt levels will vary depending on our liquidity needs, capital
expenditures and cash flow.

In April 2002 we filed a shelf registration statement increasing our
ability to issue securities to $500.0 million. The shelf registration statement
provides for the issuance of senior notes, subordinated notes and trust
preferred securities.

Based on current and anticipated levels of operations, we believe that our
cash on hand and cash flow from operations, combined with borrowings available
under the commercial paper program and the Facility, will be sufficient to
enable us to meet our current and anticipated cash operating requirements and
working capital needs for the next year. Actual capital requirements, however,
may change, particularly as a result of any acquisitions that we may make. Our
ability to meet current and anticipated operating requirements will depend on
our future performance.

Contractual Obligations and Commercial Commitments

As part of our normal business, we are a party to various financial
guarantees and other contractual commitments to extend guarantees of credit and
other assistance to various subsidiaries, investees and other third parties. To
varying degrees, these guarantees involve elements of performance and credit
risk, which are not included on the Consolidated Balance Sheets. The
possibility of us having to honor our contingencies is largely dependent upon
future operations of various subsidiaries, investees and other third parties,
or the occurrence of certain future events.

At June 30, 2002 we were the guarantor of approximately $107.0 million of
debt associated with unconsolidated subsidiaries. Assets of the unconsolidated
subsidiaries are pledged as collateral for the debt.

Accounting Pronouncements

We adopted SFAS No. 144, Accounting for the Impairment or Disposal of
Long-Lived Assets, on January 1, 2002. The new rules supersede SFAS No. 121,
Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets
to Be Disposed Of. The new rules retain many of the fundamental recognition
and measurement provisions of SFAS No. 121, but significantly change the criteria for
classifying an asset as held-for-sale. Adoption of the new standard had no
material effect on our consolidated results of operations or financial
position.

In June 2001, the Financial Accounting Standards Board (FASB) issued SFAS
No. 143, Accounting for Asset Retirement Obligations, which addresses
financial accounting and reporting for obligations associated with the
retirement of tangible long-lived assets and the associated asset retirement
costs. The standard applies to legal obligations associated with the retirement
of long-lived assets that result from the acquisition, construction,
development and (or) normal use of the asset.

SFAS No. 143 requires that the fair value of a liability for an asset
retirement obligation be recognized in the period in which it is incurred, if a
reasonable estimate of fair value can be made. The fair value of the liability
is added to the carrying amount of the associated asset. This additional
carrying amount is then depreciated over the life of the asset. The liability
is accreted until the obligation is settled.

19



---



##### Table of Contents



We are required and plan to adopt the provisions of SFAS No. 143 for the
quarter ending March 31, 2003. To accomplish this, we must identify any legal
obligations for asset retirement obligations, and determine the fair value of
these obligations on the date of adoption. The determination of fair value is
complex and requires gathering market information and developing cash flow
models. Additionally, we will be required to develop processes to track and
monitor these obligations. Because of the effort needed to comply with the
adoption of SFAS No. 143, we are currently assessing the new standard but have
not yet determined the impact on our consolidated results of operations,
cashflows or financial position.

On June 20, 2002, the FASBs Emerging Issues Task Force (EITF) reached a
partial consensus on Issue No. 02-03, Recognition and Reporting of Gains and
Losses on Energy Trading Contracts under EITF Issues No. 98-10, Accounting for
Contracts Involved in Energy Trading and Risk Management Activities, and EITF
No. 00-17, Measuring the Fair Value of Energy-Related Contracts in Applying
Issue No. 98-10. The EITF concluded that, effective for periods ending after
July 15, 2002, mark-to-market gains and losses on energy trading contracts
(including those to be physically settled) must be shown on a net basis in the
Consolidated Statements of Income. Comparative financial statements for prior
periods must be reclassified to reflect presentation on a net basis. Also,
companies must disclose volumes of physically settled energy trading contracts.
We are evaluating the impact of this new consensus on the presentation of our
Consolidated Statement of Operations, but have not yet determined the impact it
will have on total revenues and expenses. The partial consensus will have no
impact on net income.

In June 2002, the FASB issued SFAS No. 146, Accounting for Costs
Associated with Exit or Disposal Activities, which addresses accounting for
restructuring and similar costs. SFAS No. 146 supersedes previous accounting
guidance, principally EITF No. 94-3. The Company will adopt the provisions of
SFAS No. 146 for restructuring activities initiated after December 31, 2002.
SFAS No. 146 requires that the liability for costs associated with an exit or
disposal activity be recognized when the liability is incurred. Under EITF No.
94-3, a liability for an exit cost was recognized at the date of the Companys
commitment to an exit plan. SFAS No. 146 also establishes that the liability
should initially be measured and recorded at fair value. Accordingly, SFAS No.
146 may affect the timing of recognizing future restructuring costs as well as
the amounts recognized.




Item 3. Quantitative and Qualitative Disclosure about Market Risks

Risk and Accounting Policies

We are exposed to market risks associated with commodity prices, credit
exposure, interest rates and foreign currency exchange rates. Management has
established comprehensive risk management policies to monitor and manage these
market risks. Our Risk Management Committee (RMC) oversees risk exposure
including fluctuations in commodity prices. The RMC ensures that proper
policies and procedures are in place to adequately manage our commodity price
risks and is responsible for the overall management of commodity price and
other risk exposures.

Mark-to-Market Accounting (MTM accounting) Under the MTM accounting
method, an asset or liability is recognized at fair value and the change in the
fair value of that asset or liability is recognized in earnings during the
current period. This accounting method has been used by other industries for
many years, and in 1998 the Financial Accounting Standards Boards (FASB)
Emerging Issues Task Force (EITF) issued guidance 98-10 that required MTM
accounting for energy trading contracts. MTM accounting reports contracts at
their fair value, (the value a willing third party would pay for the
particular contract at the time a valuation is made).

When available, quoted market prices are used to record a contracts fair
value. However, market values for energy trading contracts may not be readily
determinable because the duration of the contracts exceeds the liquid activity
in a particular market. If no active trading market exists for a commodity or
for a contracts duration, holders of these contracts must calculate fair value
using pricing models or matrix pricing based on contracts with similar terms
and risks. This is validated by an internal group independent of the Companys
trading area. Holders of thinly traded securities or investments (mutual funds,
for example) use similar techniques to price such holdings.

20



---



##### Table of Contents



Correlation and volatility are two significant factors used in the
computation of fair values. We validate our internally developed fair values by
comparing locations/durations that are highly correlated, using forecasted
market intelligence and mathematical extrapolation techniques. While we use
industry best practices to develop our pricing models, changes in our pricing
methodologies or the underlying assumptions could result in significantly
different fair values, income recognition and realization in future periods.

Hedge Accounting Hedging typically refers to the mechanism that the
Company uses to mitigate the impact of volatility associated with price
fluctuations. Hedge accounting treatment is used when we contract to buy or
sell a commodity such as natural gas at a fixed price for future delivery
corresponding with the anticipated physical sale or purchase of natural gas
(cash flow hedge). In addition, hedge accounting treatment is used when the
Company holds firm commitments or asset positions, and enters into transactions
that hedge the risk that the price of natural gas may change between the
contracts inception and the physical delivery date of the commodity ultimately
affecting the underlying value of the firm commitment or position (fair value
hedge). While the majority of our hedging transactions are used to protect the
value of future cash flows related to our physical assets, to the extent the
hedge is effective, we recognize in earnings the value of the contract when the
commodity is purchased or sold, or the hedged transaction occurs or settles.

Commodity Price Risk

We are exposed to the impact of market fluctuations primarily in the price
of NGLs and natural gas that we own as a result of our processing activities.
We employ established policies and procedures to manage our risks associated
with these market fluctuations using various commodity derivatives, including
forward contracts, swaps and options for non-trading activity (primarily hedge
strategies). (See Notes 2 and 3 to the Consolidated Financial Statements.)

Commodity Derivatives  Trading The risk in the commodity trading
portfolio is measured and monitored on a daily basis utilizing a Value-at-Risk
model to determine the potential one-day favorable or unfavorable Daily
Earnings at Risk (DER) as described below. DER is monitored daily in
comparison to established thresholds. Other measures are also used to limit and
monitor the risk in the commodity trading portfolio (which includes all trading
contracts not designated as hedge positions) on a monthly and annual basis.
These measures include limits on the nominal size of positions and periodic
loss limits.

DER computations are based on a historical simulation, which uses price
movements over a specified period (generally ranging from seven to 14 days) to
simulate forward price curves in the energy markets to estimate the potential
favorable or unfavorable impact of one days price movement on the existing
portfolio. The historical simulation emphasizes the most recent market
activity, which is considered the most relevant predictor of immediate future
market movements for crude oil, NGLs, gas and other energy-related products.
DER computations utilize several key assumptions, including 95% confidence
level for the resultant price movement and the holding period specified for the
calculation. The Companys DER amounts for commodity derivatives instruments
held for trading purposes are shown in the following table.



Daily Earnings at
Risk


|               |  |                   |     |                   |  |                |     |                |  |   |     |  |  |   |     | 
|-------------- |  | ----------------- | --- | ----------------- |  | -------------- | --- | -------------- |  | - | --- |  |  | - | --- | 
|               |  |                   |     |                   |  |                |     |                |  |  
|               |  | Estimated Average |     | Estimated Average |  | High One-Day   |     | Low One-Day   
|               |  | One-Day Impact    |     | One-Day Impact    |  | Impact on EBIT |     | Impact on EBIT
|               |  | on EBIT for the   |     | on EBIT for the   |  | for the six    |     | for the six   
|               |  | Six months ended  |     | six months ended  |  | months ended   |     | months ended  
|               |  | June 30, 2002     |     | June 30, 2001     |  | June 30, 2002  |     | June 30, 2002 
|               |  |                   |     |                   |  |                |     |               
|               |  | (In millions)    
|Calculated DER |  | $                 | 2.4 |                   |  | $              | 1.4 |                |  | $ | 4.8 |  |  | $ | 1.3 | 

21



---



##### Table of Contents



|               |  |                    |     |                    |  |                   |     |                   |  |   |     |  |  |   |     | 
|-------------- |  | ------------------ | --- | ------------------ |  | ----------------- | --- | ----------------- |  | - | --- |  |  | - | --- | 
|               |  | Estimated Average  |     | Estimated Average  |  | High One-Day      |     | Low One-Day      
|               |  | One-Day Impact     |     | One-Day Impact     |  | Impact on EBIT    |     | Impact on EBIT   
|               |  | on EBIT for the    |     | on EBIT for the    |  | for the three     |     | for the three    
|               |  | three months ended |     | three months ended |  | months ended June |     | months ended June
|               |  | June 30, 2002      |     | June 30, 2001      |  | 30, 2002          |     | 30, 2002         
|               |  |                    |     |                    |  |                   |     |                  
|               |  |                    |     |                    |  | (In millions)     |     |                   |  |  
|Calculated DER |  | $                  | 2.5 |                    |  | $                 | 1.1 |                   |  | $ | 3.7 |  |  | $ | 1.8 | 

DER is an estimate based on historical price volatility. Actual volatility
can exceed assumed results. DER also assumes a normal distribution of price
changes; thus, if the actual distribution is not normal, the DER may understate
or overstate actual results. DER is used to estimate the risk of the entire
portfolio, and for locations that do not have daily trading activity, it may
not accurately estimate risk due to limited price information. Stress tests may
be employed in addition to DER to measure risk where market data information is
limited. In the current DER methodology, options are modeled in a manner
equivalent to forward contracts which may understate the risk.

Our exposure to commodity price risk is influenced by a number of factors,
including contract size, length, market liquidity, location and unique or
specific contract terms. The following table illustrates the movements in the
fair value of our trading instruments during the six months ending June 30,
2002.

Changes in Fair Value of Trading Contracts

|                                                                   |  |               |       |  
|------------------------------------------------------------------ |  | ------------- | ----- | -
|                                                                   |  | (In millions)
|Fair value of contracts outstanding at the beginning of the period |  | $             | 37.4  |  
|                                                                  
|                                                                  
|                                                                  
|                                                                  
|Contracts realized or otherwise settled during the period          |  |               | (55.0 | )
|                                                                  
|                                                                  
|                                                                  
|                                                                  
|Net mark-to-market changes in fair values                          |  |               | 24.7  |  
|                                                                   |  |               |       |  
|Fair value of contracts outstanding at the end of the period       |  | $             | 7.1   |  
|                                                                   |  |               |       |  

For the six months ended June 30, 2002, the unrealized net loss recognized
in operating income was $30.3 million as compared to an unrealized $26.2
million net gain for the same period in 2001. The fair value of these contracts
is expected to be realized in future periods, as detailed in the following
table. The amount of cash ultimately realized for these contracts will differ
from the amounts shown in the following table due to factors such as market
volatility, counterparty default and other unforeseen events that could impact
the amount and/or realization of these values.

When available, we use observable market prices for valuing our trading
instruments. When quoted market prices are not available, we use established
guidelines for the valuation of these contracts. We may use a variety of
reasonable methods to assist in determining the valuation of a trading
instrument, including analogy to reliable quotations of similar trading
instruments, pricing models, matrix pricing and other formula-based pricing
methods. These methodologies incorporate factors for which published market
data may be available. All valuation methods employed by us are approved by an
internal corporate risk management committee and are applied on a consistent
basis.

The following table shows the fair value of our trading portfolio as of
June 30, 2002.

|                                                                    |       |      |                                             |      |             |      |             |            |          |                  |      |     |  |   |             |      |   |   |      |     | 
|------------------------------------------------------------------- | ----- | ---- | ------------------------------------------- | ---- | ----------- | ---- | ----------- | ---------- | -------- | ---------------- | ---- | --- |  | - | ----------- | ---- | - | - | ---- | --- | 
|                                                                    |       |      | Fair Value of Contracts as of June 30, 2002
|                                                                    |       |      |                                            
|                                                                    |       |      |                                             |      |             |      |             |            |          |                  |      |     |  |   | Maturity in |      |   |   |     
|                                                                    |       |      | Maturity in                                 |      | Maturity in |      | Maturity in |            | 2005 and |                  |      |     | 
|Sources of Fair Value                                               |       | 2002 |                                             | 2003 |             | 2004 |             | Thereafter |          | Total Fair Value
|                                                                    |       |      |                                             |      |             |      |             |            |          |                 
|                                                                    |       |      | (In millions)                              
|Prices supported by quoted market prices
and other external sources |       | $    | 17.4                                        |      |             | $    | (4.5        | )          |          | $                | 1.3  |     |  | $ | (0.3        | )    |   | $ | 13.9 |    
|                                                                   
|                                                                   
|                                                                   
|                                                                   
|Prices based on models and other valuation
methods                  |       |      | (6.0                                        | )    |             |      | 0.7         |            |          |                  | (1.1 | )   |  |   | (0.4        | )    |   |   | (6.8 | )  
|                                                                    |       |      |                                             |      |             |      |             |            |          |                  |      |     |  |   |             |      |   |   |      |    
|                                                                    | Total |      | $                                           | 11.4 |             |      | $           | (3.8       | )        |                  | $    | 0.2 |  |   | $           | (0.7 | ) |   | $    | 7.1 | 
|                                                                    |       |      |                                             |      |             |      |             |            |          |                  |      |     |  |   |             |      |   |   |      |    

The prices supported by quoted market prices and other external sources
category includes Duke Energy Field Services New York Mercantile Exchange
(NYMEX) swap positions in natural gas and crude oil. The NYMEX has currently
quoted prices for the next 32 months. In addition, this category includes our
forward positions and options in natural gas and natural gas basis swaps at
points for which over-the-counter (OTC) broker quotes are available. On
average, OTC quotes for natural gas forwards and swaps extend 22 and 32 months
into the future,

22



---



##### Table of Contents



respectively. OTC quotes for natural gas options extend 12 months into the
future, on average. We value these positions against internally developed
forward market price curves that are validated and recalibrated against OTC
broker quotes. This category also includes strip transactions whose prices
are obtained from external sources and then modeled to daily or monthly prices
as appropriate.

The prices based on models and other valuation methods category includes
(i) the value of options not quoted by an exchange or OTC broker, (ii) the
value of transactions for which an internally developed price curve was
constructed as a result of the long dated nature of the transaction or the
illiquidity of the market point, and (iii) the value of structured
transactions. It is important to understand that in certain instances
structured transactions can be decomposed and modeled by us as simple forwards
and options based on prices actively quoted. Although the valuation of the
simple structures might not be different from the valuation of contracts in
other categories, the effective model price for any given period is a
combination of prices from two or more different instruments and therefore have
been included in this category due to the complex nature of these transactions.

Hedging Strategies We are exposed to market fluctuations in the prices
of energy commodities related to natural gas gathering, processing and
marketing activities. We closely monitor the risks associated with these
commodity price changes on our future operations and, where appropriate, use
various commodity instruments such as natural gas, crude oil and NGL contracts
to hedge the value of our assets and operations from such price risks. In
accordance with SFAS No. 133, our primary use of commodity derivatives is to
hedge the output and production of assets we physically own. Contract terms are
up to three years, however, since these contracts are designated and qualify as
effective hedge positions of future cash flows, or fair values of assets owned
by us, to the extent that the hedge relationships are effective, their market
value change impacts are not recognized in current earnings. The unrealized
gains or losses on these contracts are deferred in OCI or included in Other
Current or Noncurrent Assets or Liabilities on the Consolidated Balance Sheets
for fair value hedges of firm commitments, in accordance with SFAS No. 133.
Amounts deferred in OCI are realized in earnings concurrently with the
transaction being hedged. However, in instances where the hedging contract no
longer qualifies for hedge accounting, amounts included in OCI through the date
of de-designation remain in OCI until the underlying transaction actually
occurs. The derivative contract (if continued as an open position) will be
marked to market currently through earnings. Several factors influence the
effectiveness of a hedge contract, including counterparty credit risk and using
contracts with different commodities or unmatched terms. Hedge effectiveness is
monitored regularly and measured each month.

The following table shows when gains and losses deferred on the
Consolidated Balance Sheets for derivative instruments qualifying as effective
hedges of firm commitments or anticipated future transactions will be
recognized into earnings. Contracts with terms extending several years are
generally valued using models and assumptions developed internally or by
industry standards. However, as mentioned previously, the effective portion of
the gains and losses for these contracts are not recognized in earnings until
settlement at their then market price. Therefore, assumptions and valuation
techniques for these contracts have no impact on reported earnings prior to
settlement for the effective portion of these hedges.

The fair value of our qualifying hedge positions at a point in time is not
necessarily indicative of the value realized when such contracts settle.

|                                                     |       |      |                                    |       |             |      |             |            |          |       |            |      |   |   |             |      |   |   |       |       |  
|---------------------------------------------------- | ----- | ---- | ---------------------------------- | ----- | ----------- | ---- | ----------- | ---------- | -------- | ----- | ---------- | ---- | - | - | ----------- | ---- | - | - | ----- | ----- | -
|                                                     |       |      | Contract Value as of June 30, 2002
|                                                     |       |      |                                   
|                                                     |       |      |                                    |       |             |      |             |            |          |       |            |      |   |   | Maturity in |      |   |   |      
|                                                     |       |      | Maturity in                        |       | Maturity in |      | Maturity in |            | 2005 and |       | Total Fair
|Sources of Fair Value                                |       | 2002 |                                    | 2003  |             | 2004 |             | Thereafter |          | Value
|                                                     |       |      |                                    |       |             |      |             |            |          |      
|                                                     |       |      | (In millions)                     
|Quoted market prices                                 |       | $    | (14.0                              | )     |             | $    | (15.8       | )          |          | $     | (2.8       | )    |   | $ |            |      |   | $ | (32.6 | )    
|                                                    
|                                                    
|                                                    
|                                                    
|Prices based on models or other valuation techniques |       |      | (0.5                               | )     |             |      | 2.4         |            |          |       | (1.3       | )    |   |   | (2.2        | )    |   |   | (1.6  | )    
|                                                     |       |      |                                    |       |             |      |             |            |          |       |            |      |   |   |             |      |   |   |       |      
|                                                     | Total |      | $                                  | (14.5 | )           |      | $           | (13.4      | )        |       | $          | (4.1 | ) |   | $           | (2.2 | ) |   | $     | (34.2 | )
|                                                     |       |      |                                    |       |             |      |             |            |          |       |            |      |   |   |             |      |   |   |       |      

Based upon our portfolio of supply contracts, without giving effect to
hedging activities that would reduce the impact of commodity price decreases, a
decrease of $.01 per gallon in the price of NGLs and $.10 per million Btus in
the average price of natural gas would result in changes in annual pre-tax net
income of approximately

23



---



##### Table of Contents



($25.0) million and $5.0 million, respectively.

Credit Risk

We sell various commodities (i.e. natural gas, NGLs and crude oil) to a
variety of customers. Our natural gas customers include local utilities,
industrial consumers, independent power producers and merchant energy trading
organizations. Our NGL customers range from large, multi-national petrochemical
and refining companies to small regional retail propane distributors.
Substantially all of our NGL sales are made at market-based prices, including
approximately 40% of NGL production that is committed to Phillips and Chevron
Phillips Chemical LLC, under a contract with a primary term that expires on
January 1, 2015. This concentration of credit risk may affect our overall
credit risk in that these customers may be similarly affected by changes in
economic, regulatory or other factors. On all transactions where we are exposed
to credit risk, we analyze the counterparties financial condition prior to
entering into an agreement, establish credit limits and monitor the
appropriateness of these limits on an ongoing basis. The corporate credit
policy prescribes the use of master collateral agreements to mitigate credit
exposure. The collateral agreements provide for a counterparty to post cash or
letters of credit for exposure in excess of the established threshold. The
threshold amount represents an open credit limit, determined in accordance with
the corporate credit policy. The collateral agreements also provide that the
inability to post collateral is sufficient cause to terminate a contract and
liquidate all positions.

At June 30 2002, we held cash or letters of credit of $9.5 million to
secure future performance, and had no amounts deposited with
counterparties. Collateral amounts held or posted vary depending on the value
of the underlying contracts and cover trading and hedging contracts
outstanding. We may be required to return held collateral and post additional
collateral should price movements adversely impact the value of open contracts
or positions.

Physical forward contracts and financial derivatives are generally cash
settled at the expiration of the contract term. However, financial derivatives
are generally subject to margin agreements with the majority of our
counterparties.

Interest Rate Risk

We enter into debt arrangements that are exposed to market risks related
to changes in interest rates. We periodically utilize interest rate lock
agreements and interest rate swaps to hedge interest rate risk associated with
new debt issuances. Our primary goals include (1) maintaining an appropriate
ratio of fixed-rate debt to total debt for the Companys debt rating; (2)
reducing volatility of earnings resulting from interest rate fluctuations; and
(3) locking in attractive interest rates based on historical averages. As of
June 30, 2002, the fair value of our interest rate swap was an asset of $1.9
million.

As of June 30, 2002, we had approximately $189.0 million outstanding under
a commercial paper program. As a result, we are exposed to market risks related
to changes in interest rates. In the future, we intend to manage our interest
rate exposure using a mix of fixed and floating interest rate debt. An increase
of .5% in interest rates would result in an increase in annual interest expense
of approximately $2.2 million.

Foreign Currency Risk

Our primary foreign currency exchange rate exposure at June 30, 2002 was
the Canadian dollar. Foreign currency risk associated with this exposure was
not material.

24



---



##### Table of Contents






PART II. OTHER INFORMATION




Item 1. Legal Proceedings

For information concerning litigation and other contingencies, see Part I.
Item 1, Note 5 to the Consolidated Financial Statements, Commitments and
Contingent Liabilities, of this report and Item 3, Legal Proceedings,
included in our Form 10-K for December 31, 2001, which are incorporated herein
by reference.

Management believes that the resolution of the matters referred to above
will not have a material adverse effect on the consolidated results of
operations or financial position of the Company.




Item 6. Exhibits and Reports on Form 8-K

|    |                                                                                                                                                   
|--- | --------------------------------------------------------------------------------------------------------------------------------------------------
|(a) | Exhibits                                                                                                                                          
|   
|   
|   
|   
|    |                                                                                                                                                   
|   
|   
|   
|   
|    | Exhibit 10.1: Second Amendment to Contract for Services dated as of June
28, 2002 between Duke Energy Field Services, LP and William W. Slaughter.
|   
|   
|   
|   
|    |                                                                                                                                                   
|   
|   
|   
|   
|    | Exhibit 99.1: Certification Pursuant to 18 U.S.C. Section 1350, as
Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.             
|   
|   
|   
|   
|    |                                                                                                                                                   
|   
|   
|   
|   
|    | Exhibit 99.2: Certification Pursuant to 18 U.S.C. Section 1350, as
Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.             
|   
|   
|   
|   
|    |                                                                                                                                                   
|   
|   
|   
|   
|(b) | Reports on Form 8-K                                                                                                                               
|   
|   
|   
|   
|    |                                                                                                                                                   
|   
|   
|   
|   
|    | None.                                                                                                                                             

25



---



##### Table of Contents






SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.

|                |  |                                                                                                                                           
|--------------- |  | ------------------------------------------------------------------------------------------------------------------------------------------
|                |  | DUKE ENERGY FIELD SERVICES, LLC                                                                                                           
|               
|               
|               
|               
|                |  |                                                                                                                                           
|               
|               
|               
|               
|August 14, 2002 |  |                                                                                                                                           
|               
|               
|               
|               
|                |  |                                                                                                                                           
|               
|               
|               
|               
|                |  | /s/ Rose M. Robeson                                                                                                                       
|                |  |                                                                                                                                           
|                |  | Rose M. Robeson
Vice President and Chief Financial Officer
(On Behalf of the Registrant and as
Principal Financial and Accounting Officer)

26



---



##### Table of Contents






Exhibit Index



| |  |  | Exhibit 10.1: Second Amendment to Contract for Services dated as of June
28, 2002 between Duke Energy Field Services, LP and William W. Slaughter.
| |  |  | --------------------------------------------------------------------------------------------------------------------------------------------------
|
| |  |  | Exhibit 99.1: Certification Pursuant to 18 U.S.C. Section 1350, as
Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.             
|
| |  |  | Exhibit 99.2:

Certification Pursuant to 18 U.S.C. Section 1350, as
Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.