buys natural gas at the wellhead, refines it and sells the NGLs. If the price of

those liquids–propane, ethane and isobutane–falls relative to natural gas, OGE's margins get squeezed. But if the company can lock in a frac spread

wider than its budgeted level, it wins.

The market for NGL derivatives is thin and "backwardated"–that is,

contracts that expire in the future trade at a discount to the price for delivery

of NGLs today. So OGE used to hedge its NGL risk by selling crude oil

futures traded on the New York Mercantile Exchange.

The price of crude oil is highly correlated with NGL prices, but apparently not

highly correlated enough to satisfy requirements of FAS 133, the new standard from the Financial Accounting Standards Board governing how companies

account for their derivatives. In place for just over a year now, FAS 133 requires companies to mark derivatives positions to market and show any

change in value in the profit-and-loss statement, unless the derivatives can be shown to be an effective hedge for an underlying exposure. The basis risk

between crude oil futures and NGL prices bars OGE from using hedge accounting for the futures, leaving Hatfield to look for other solutions.

Hatfield is not alone in wrestling with FAS 133. Almost one in five respondents

to Treasury & Risk Management's 2001 Derivatives Survey say their company reduced its use of derivatives as a result of the new accounting

standard. Even when a particular hedge would be considered effective and not add volatility to a company's income statement, survey respondents say the

hassle of gathering and massaging information to prove hedge effectiveness

can make a trade more trouble than it's worth. "It's kind of sad when your

accounting starts driving the financing decisions," laments one disgusted financial risk manager.

Even companies that have not pared back their use of derivatives as a result of

FAS 133 can see how even relatively straightforward risk management strategies could become more complicated in the future.

Reynolds and Reynolds, a $1 billion Dayton, Ohio-based company that

develops automobile dealership management systems, leases its products to car dealerships at a fixed rate and funds itself at a floating rate, and sometimes

swaps the variable-rate liability into a fixed rate. In order to use hedge accounting for the interest-rate swap, the company must be able to borrow at

the same underlying rate that it receives from the swap.

If a reset period on the swap occurs when the money markets are disrupted,

as they were on Sept. 11 by the World Trade Center attack, it is possible that the company would have to borrow money at a rate different from that which

it receives on the swap. That would create an inefficiency under FAS 133 and require mark-to-market accounting. "Until Sept. 11, I couldn't think of a

situation where a money market would be closed for four days," says James

Penikas, director of capital markets at Reynolds and Reynolds. Now that possibility seems all too real.

Perhaps our 156 respondents would have curtailed their derivatives usage even

more had they been using more exotic derivatives (see table). But as in 1999, the last time T&RM probed its readers' derivatives usage, those answering the

2001 survey favored fairly simple instruments: interest-rate swaps (69% of the respondents who use any derivatives say they have traded them, up from 67%

two years ago) and foreign-exchange forwards (67% of derivatives users, compared with 63% in 1999). Those two were followed by OTC FX and

interest-rate options, exchange-traded interest-rate derivatives, exchange-traded foreign-exchange futures and options, energy products, equity

products and credit derivatives (which were not included in the 1999 survey).

But simple as they are, swaps and FX forwards are not immune to FAS 133.

ProLogis Trust, a global warehouse real estate investment trust with almost $1 billion in revenue, had been considering swapping some of its existing liabilities

into the euro. Had it done so, it would have had to mark the swap to market and not the existing non-euro debt, thus creating a potential earnings impact of

several cents per share, says M. Gordon Keiser, senior vice president and treasurer of the Aurora, Colo.-based company.

L.H. Gopal, finance manager at FMC Biopolymer, a Philadelphia-based unit of

FMC Corp., is a little more cautious about hedging anticipated foreign currency cash flows than he might have been before the emergence of FAS 133.

When business units such as FMC Biopolymer want to hedge anticipated FX

cash flows, they have to predict when those cash flows will occur, Gopal says. But under FAS 133, if they are wrong about the timing, the mismatch impacts

the P&L. That means managers now might require greater certainty about anticipated exposures before requesting a hedge, or they might hedge only a

portion of the exposure, he says.

As if the reduction in derivatives use wasn't enough, compliance with FAS 133

doesn't come cheap. While the T&RM survey reveals that 36% of the respondents spent less than $25,000 to date (excluding staff time) to meet the

requirements of the new accounting standard, 24% said they spent between $25,000 and $99,999.

Another 11% reported outlays of $100,000 to $249,999, while 8% percent

spent between $250,000 and $749,999 and 4% spent more than $750,000. Gopal says FMC's treasury upgraded its software and hired a consultant to

test for hedge effectiveness on all of its derivatives positions put on since November 2000.

One of the greatest frustrations for derivatives users is the amount of time it

took to nail down the particulars of FAS 133, given that its provisions changed over time. Specifically, many financial risk managers thought that it would be

difficult to get hedge accounting for the time value of options until last spring,

when FASB decided the full price change of an option could be reported in other comprehensive income.

"We're trying to change a tire on a moving car, in terms of trying to keep up

with the changes from FASB," grouses Russ Booth, treasurer of the $17 billion (assets) AgAmerica, FCB/Western Farm Credit Bank in Sacramento,

Calif.