Exhibit 99.9
Regency GP LP
Consolidated Financial Statements
December 31, 2009 and 2008
With Independent Auditors’ Report Thereon
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
The Partners
Regency GP LP:
We have audited the accompanying consolidated balance sheets of Regency GP LP and subsidiaries as of December 31, 2009 and 2008 and the related consolidated statements of operations, comprehensive income (loss), cash flows, and partners’ capital and noncontrolling interest for each of the years in the three-year period ended December 31, 2009. These consolidated financial statements are the responsibility of the Partnership’s management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Regency GP LP and subsidiaries as of December 31, 2009 and 2008, and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 2009 in conformity with U.S. generally accepted accounting principles.
/s/ KPMG LLP
Dallas, Texas
September 13, 2010
Regency GP LP
Consolidated Balance Sheets
(in thousands)
December 31, 2009 | December 31, 2008 | |||||||
ASSETS | ||||||||
Current Assets: | ||||||||
Cash and cash equivalents | $ | 9,828 | $ | 600 | ||||
Restricted cash | 1,511 | 10,031 | ||||||
Trade accounts receivable, net of allowance of $1,130 and $941 | 30,433 | 40,875 | ||||||
Accrued revenues | 95,240 | 96,712 | ||||||
Related party receivables | 6,222 | 855 | ||||||
Derivative assets | 24,987 | 73,993 | ||||||
Other current assets | 10,556 | 13,338 | ||||||
Total current assets | 178,777 | 236,404 | ||||||
Property, Plant and Equipment: | ||||||||
Gathering and transmission systems | 465,959 | 652,267 | ||||||
Compression equipment | 823,060 | 799,527 | ||||||
Gas plants and buildings | 159,596 | 156,246 | ||||||
Other property, plant and equipment | 162,433 | 167,256 | ||||||
Construction-in-progress | 95,547 | 154,852 | ||||||
Total property, plant and equipment | 1,706,595 | 1,930,148 | ||||||
Less accumulated depreciation | (250,160 | ) | (226,594 | ) | ||||
Property, plant and equipment, net | 1,456,435 | 1,703,554 | ||||||
Other Assets: | ||||||||
Investment in unconsolidated subsidiary | 453,120 | — | ||||||
Long-term derivative assets | 207 | 36,798 | ||||||
Other, net of accumulated amortization of debt issuance costs of $10,743 and $5,246 | 19,468 | 13,880 | ||||||
Total other assets | 472,795 | 50,678 | ||||||
Intangible Assets and Goodwill: | ||||||||
Intangible assets, net of accumulated amortization of $33,929 and $22,517 | 197,294 | 205,646 | ||||||
Goodwill | 228,114 | 262,358 | ||||||
Total intangible assets and goodwill | 425,408 | 468,004 | ||||||
TOTAL ASSETS | $ | 2,533,415 | $ | 2,458,640 | ||||
LIABILITIES & PARTNERS’ CAPITAL AND NONCONTROLLING INTEREST | ||||||||
Current Liabilities: | ||||||||
Trade accounts payable | $ | 44,912 | $ | 65,483 | ||||
Accrued cost of gas and liquids | 76,657 | 76,599 | ||||||
Related party payables | 2,312 | — | ||||||
Deferred revenue, including related party amounts of $338 and $0 | 11,292 | 11,572 | ||||||
Derivative liabilities | 12,256 | 42,691 | ||||||
Escrow payable | 1,511 | 10,031 | ||||||
Other current liabilities | 12,368 | 10,574 | ||||||
Total current liabilities | 161,308 | 216,950 | ||||||
Long-term derivative liabilities | 48,903 | 560 | ||||||
Other long-term liabilities | 14,183 | 15,487 | ||||||
Long-term debt, net | 1,014,299 | 1,126,229 | ||||||
Commitments and contingencies | ||||||||
Series A convertible redeemable subsidiary preferred units, redemption amount $83,891 | 51,711 | — | ||||||
Partners’ Capital and Noncontrolling Interest: | ||||||||
Partners’ interest | 19,250 | 29,284 | ||||||
Accumulated other comprehensive (loss) income | (1,994 | ) | 67,440 | |||||
Noncontrolling interest | 1,225,755 | 1,002,690 | ||||||
Total partners’ capital and noncontrolling interest | 1,243,011 | 1,099,414 | ||||||
TOTAL LIABILITIES AND PARTNERS’ CAPITAL AND NONCONTROLLING INTEREST | $ | 2,533,415 | $ | 2,458,640 | ||||
See accompanying notes to consolidated financial statements
Regency GP LP
Consolidated Statements of Operations
(in thousands)
Year Ended December 31, | ||||||||||||
2009 | 2008 | 2007 | ||||||||||
REVENUES | ||||||||||||
Gas sales | $ | 481,400 | $ | 1,126,760 | $ | 744,681 | ||||||
NGL sales | 262,652 | 409,476 | 347,737 | |||||||||
Gathering, transportation and other fees, including related party amounts of $11,162, $3,763 and $1,350 | 273,770 | 286,507 | 100,644 | |||||||||
Net realized and unrealized gain (loss) from derivatives | 41,577 | (21,233 | ) | (34,266 | ) | |||||||
Other | 30,098 | 62,294 | 31,442 | |||||||||
Total revenues | 1,089,497 | 1,863,804 | 1,190,238 | |||||||||
OPERATING COSTS AND EXPENSES | ||||||||||||
Cost of sales, including related party amounts of $10,913, $1,878 and $14,165 | 699,563 | 1,408,333 | 976,145 | |||||||||
Operation and maintenance | 130,826 | 131,629 | 58,000 | |||||||||
General and administrative | 57,863 | 51,323 | 39,713 | |||||||||
Loss (gain) on asset sales, net | (133,284 | ) | 472 | 1,522 | ||||||||
Management services termination fee | — | 3,888 | — | |||||||||
Transaction expenses | — | 1,620 | 420 | |||||||||
Depreciation and amortization | 109,893 | 102,566 | 55,074 | |||||||||
Total operating costs and expenses | 864,861 | 1,699,831 | 1,130,874 | |||||||||
OPERATING INCOME | 224,636 | 163,973 | 59,364 | |||||||||
Income from unconsolidated subsidiary | 7,886 | — | — | |||||||||
Interest expense, net | (77,996 | ) | (63,243 | ) | (52,016 | ) | ||||||
Loss on debt refinancing | — | — | (21,200 | ) | ||||||||
Other income and deductions, net | (15,132 | ) | 332 | 1,252 | ||||||||
INCOME (LOSS) BEFORE INCOME TAXES | 139,394 | 101,062 | (12,600 | ) | ||||||||
Income tax (benefit) expense | (1,095 | ) | (266 | ) | 931 | |||||||
NET INCOME (LOSS) | $ | 140,489 | $ | 101,328 | $ | (13,531 | ) | |||||
Net (income) loss attributable to noncontrolling interest | (135,237 | ) | (91,361 | ) | 13,138 | |||||||
NET INCOME (LOSS) ATTRIBUTABLE TO REGENCY GP LP | $ | 5,252 | $ | 9,967 | $ | (393 | ) | |||||
See accompanying notes to consolidated financial statements
Regency GP LP
Consolidated Statements of Comprehensive Income (Loss)
(in thousands)
Year Ended December 31, | |||||||||||
2009 | 2008 | 2007 | |||||||||
Net income (loss) | $ | 140,489 | $ | 101,328 | $ | (13,531 | ) | ||||
Net hedging amounts reclassified to earnings | (47,394 | ) | 35,512 | 19,362 | |||||||
Net change in fair value of cash flow hedges | (22,040 | ) | 70,253 | (58,706 | ) | ||||||
Comprehensive income (loss) | $ | 71,055 | $ | 207,093 | $ | (52,875 | ) | ||||
Comprehensive income (loss) attributable to noncontrolling interest | 67,192 | 195,011 | (51,695 | ) | |||||||
Comprehensive income (loss) attributable to Regency GP LP | $ | 3,863 | $ | 12,082 | $ | (1,180 | ) | ||||
See accompanying notes to consolidated financial statements
Regency GP LP
Consolidated Statements of Cash Flows
(in thousands)
Year Ended December 31, | ||||||||||||
2009 | 2008 | 2007 | ||||||||||
OPERATING ACTIVITIES | ||||||||||||
Net income (loss) | $ | 140,489 | $ | 101,328 | $ | (13,531 | ) | |||||
Adjustments to reconcile net income (loss) to net cash flows provided by operating activities: | ||||||||||||
Depreciation and amortization, including debt issuance cost amortization | 116,307 | 105,324 | 57,069 | |||||||||
Write-off of debt issuance costs | — | — | 5,078 | |||||||||
Non-cash income from unconsolidated subsidiary | — | — | (43 | ) | ||||||||
Derivative valuation changes | 5,163 | (14,700 | ) | 14,667 | ||||||||
Loss (gain) on asset sales, net | (133,284 | ) | 472 | 1,522 | ||||||||
Subsidiary unit based compensation expenses | 6,008 | 4,306 | 15,534 | |||||||||
Gain on insurance settlements | — | (3,282 | ) | — | ||||||||
Cash flow changes in current assets and liabilities: | ||||||||||||
Trade accounts receivable, accrued revenues, and related party receivables | 10,727 | 18,648 | (28,789 | ) | ||||||||
Other current assets | 10,471 | (6,615 | ) | (1,394 | ) | |||||||
Trade accounts payable, accrued cost of gas and liquids, and related party payables | (3,762 | ) | (40,772 | ) | 30,089 | |||||||
Other current liabilities | (6,726 | ) | 12,749 | (149 | ) | |||||||
Amount of swap termination proceeds reclassified into earnings | — | — | (1,078 | ) | ||||||||
Other assets and liabilities | (1,433 | ) | 3,840 | 554 | ||||||||
Net cash flows provided by operating activities | 143,960 | 181,298 | 79,529 | |||||||||
INVESTING ACTIVITIES | ||||||||||||
Capital expenditures | (193,083 | ) | (375,083 | ) | (129,784 | ) | ||||||
Acquisitions | (52,803 | ) | (577,668 | ) | (34,855 | ) | ||||||
Return of investment in unconsolidated subsidiary | 1,039 | — | — | |||||||||
Acquisition of investment in unconsolidated subsidiary, net of $100 cash | — | — | (5,000 | ) | ||||||||
Net proceeds from asset sales | 88,682 | 840 | 11,706 | |||||||||
Proceeds from insurance settlement | — | 3,282 | — | |||||||||
Net cash flows used in investing activities | (156,165 | ) | (948,629 | ) | (157,933 | ) | ||||||
FINANCING ACTIVITIES | ||||||||||||
Net (repayments) borrowings under revolving credit facilities | (349,087 | ) | 644,729 | 9,300 | ||||||||
Proceeds from issuance (repayments) of senior notes, net of discount | 236,240 | — | (192,500 | ) | ||||||||
Debt issuance costs | (12,224 | ) | (2,940 | ) | (2,427 | ) | ||||||
Partner contributions | 6,344 | 11,746 | 7,735 | |||||||||
Distribution to partners | (5,360 | ) | (3,716 | ) | (1,599 | ) | ||||||
Distribution to noncontrolling interest | (141,225 | ) | (116,875 | ) | (78,334 | ) | ||||||
Acquisition of assets between entities under common control in excess of historical cost | (10,197 | ) | — | — | ||||||||
Proceeds from subsidiary option exercises | — | 2,700 | — | |||||||||
Proceeds from subsidiary equity issuances, net of issuance costs | 220,318 | 199,315 | 353,546 | |||||||||
Proceeds from subsidiary issuance of Series A Preferred Units, net of issuance costs | 76,624 | — | — | |||||||||
FrontStreet distributions | — | — | (9,695 | ) | ||||||||
FrontStreet contributions | — | — | 13,417 | |||||||||
Net cash flows provided by financing activities | 21,433 | 734,959 | 99,443 | |||||||||
Net increase (decrease) in cash and cash equivalents | 9,228 | (32,372 | ) | 21,039 | ||||||||
Cash and cash equivalents at beginning of period | 600 | 32,972 | 9,140 | |||||||||
Cash acquired from FrontStreet | — | — | 2,793 | |||||||||
Cash and cash equivalents at end of period | $ | 9,828 | $ | 600 | $ | 32,972 | ||||||
Supplemental cash flow information: | ||||||||||||
Interest paid, net of amounts capitalized | $ | 69,401 | $ | 59,969 | $ | 67,844 | ||||||
Income taxes paid, net of refunds | 6 | 605 | — | |||||||||
Non-cash capital expenditures in accounts payable | 9,688 | 25,845 | 7,761 | |||||||||
Non-cash capital expenditure for consolidation of investment in previously unconsolidated subsidiary | — | — | 5,650 | |||||||||
Non-cash capital expenditure upon entering into a capital lease obligation | — | — | 3,000 | |||||||||
Issuance of common units for an acquisition | — | 219,560 | 19,724 | |||||||||
Release of escrow payable from restricted cash | 8,501 | 4,570 | — | |||||||||
Contribution of fixed assets, goodwill and working capital to HPC | 263,921 | — | — | |||||||||
Non-cash proceeds from contribution of RIGS to HPC | 403,568 | — | — | |||||||||
Distributions accrued but not paid to Series A Preferred Units | 3,891 |
See accompanying notes to consolidated financial statements
Regency GP LP
Consolidated Statements of Partners’ Capital and Noncontrolling Interest
(in thousands except unit data)
Partners’ Interest | Accumulated Other Comprehensive Income (Loss) | Noncontrolling Interest | Total | |||||||||||||
Balance—December 31, 2006 | $ | 5,544 | $ | 1,019 | $ | 206,095 | $ | 212,658 | ||||||||
Subsidiary issuance of common units for acquisition | — | — | 19,724 | 19,724 | ||||||||||||
Subsidiary issuance of common units, net of issuance cost | — | — | 353,446 | 353,446 | ||||||||||||
Exercise of subsidiary common unit options | — | — | 100 | 100 | ||||||||||||
Subsidiary unit based compensation expenses | — | — | 15,534 | 15,534 | ||||||||||||
Distributions to partners | (1,599 | ) | — | (1,599 | ) | |||||||||||
Subsidiary distributions | — | — | (78,334 | ) | (78,334 | ) | ||||||||||
Partner contributions | 7,735 | — | — | 7,735 | ||||||||||||
Acquisition of FrontStreet | — | — | 83,448 | 83,448 | ||||||||||||
FrontStreet contributions | — | — | 13,417 | 13,417 | ||||||||||||
FrontStreet distributions | — | — | (9,695 | ) | (9,695 | ) | ||||||||||
Contributions from noncontrolling interest | — | — | 4,588 | 4,588 | ||||||||||||
Net loss | (393 | ) | — | (13,138 | ) | (13,531 | ) | |||||||||
Other | — | — | 40 | 40 | ||||||||||||
Net hedging activity reclassified to earnings | — | 19,362 | — | 19,362 | ||||||||||||
Net change in fair value of cash flow hedges | — | (58,706 | ) | — | (58,706 | ) | ||||||||||
Balance—December 31, 2007 | 11,287 | (38,325 | ) | 595,225 | 568,187 | |||||||||||
Subsidiary issuance of Class D common units | — | — | 219,560 | 219,560 | ||||||||||||
Subsidiary option exercises | — | — | 2,700 | 2,700 | ||||||||||||
Subsidiary issuance of common units, net of issuance cost | — | — | 199,315 | 199,315 | ||||||||||||
Working capital adjustment on FrontStreet | — | — | (858 | ) | (858 | ) | ||||||||||
Acquisition on noncontrolling interest | — | — | (4,893 | ) | (4,893 | ) | ||||||||||
Subsidiary unit based compensation expenses | — | — | 4,306 | 4,306 | ||||||||||||
Distributions to partners | (3,716 | ) | — | (3,716 | ) | |||||||||||
Subsidiary distributions | — | — | (116,875 | ) | (116,875 | ) | ||||||||||
Partner contributions | 11,746 | — | — | 11,746 | ||||||||||||
Net income | 9,967 | — | 91,361 | 101,328 | ||||||||||||
Contributions from noncontrolling interest | — | — | 12,849 | 12,849 | ||||||||||||
Net hedging amounts reclassified to earnings | — | 35,512 | — | 35,512 | ||||||||||||
Net change in fair value of cash flow hedges | — | 70,253 | — | 70,253 | ||||||||||||
Balance—December 31, 2008 | 29,284 | 67,440 | 1,002,690 | 1,099,414 | ||||||||||||
Revision of partner interest | (6,073 | ) | — | 6,073 | — | |||||||||||
Subsidiary issuance of common units, net of issuance cost | — | — | 220,318 | 220,318 | ||||||||||||
Subsidiary unit based compensation expenses | — | — | 6,008 | 6,008 | ||||||||||||
Accrued distributions to subsidiary phantom units | — | — | (249 | ) | (249 | ) | ||||||||||
Acquisition of assets between entities under common control in excess of historical cost | (10,197 | ) | — | — | (10,197 | ) | ||||||||||
Distributions to partners | (5,360 | ) | — | (5,360 | ) | |||||||||||
Subsidiary distributions | — | — | (141,225 | ) | (141,225 | ) | ||||||||||
Partner contributions | 6,344 | — | — | 6,344 | ||||||||||||
Net income | 5,252 | — | 135,237 | 140,489 | ||||||||||||
Contributions from noncontrolling interest | — | — | 898 | 898 | ||||||||||||
Accrued distributions to Series A Preferred Units | — | — | (3,891 | ) | (3,891 | ) | ||||||||||
Accretion of Series A Preferred Units | — | — | (104 | ) | (104 | ) | ||||||||||
Net cash flow hedge amounts reclassified to earnings | — | (47,394 | ) | — | (47,394 | ) | ||||||||||
Net change in fair value of cash flow hedges | — | (22,040 | ) | — | (22,040 | ) | ||||||||||
Balance—December 31, 2009 | $ | 19,250 | $ | (1,994 | ) | $ | 1,225,755 | $ | 1,243,011 | |||||||
See accompanying notes to consolidated financial statements
Regency GP LP
Notes to Consolidated Financial Statements
For the Year Ended December 31, 2009
1. Organization and Basis of Presentation
Organization of Regency GP LP. Regency GP LP (the “General Partner”) is the general partner of Regency Energy Partners LP. The General Partner owns a 2 percent general partner interest and incentive distribution rights in Regency Energy Partners LP. The General Partner’s general partner is Regency GP LLC.
Organization of Regency Energy Partners LP. Regency Energy Partners LP and its subsidiaries (the “Partnership”) are engaged in the business of gathering, processing and transporting natural gas and natural gas liquids (“NGLs”) as well as providing contract compression services.
On June 18, 2007, General Electric Energy Financial Services (“GE EFS”), which is comprised of indirect subsidiaries of General Electric Capital Corporation (“GECC”), an indirect wholly owned subsidiary of General Electric Company, acquired 91.3 percent of both the member interest in the General Partner and the outstanding limited partner interests in the General Partner from an affiliate of HM Capital Partners LLC and acquired 17,763,809 of the outstanding subordinated units, exclusive of 1,222,717 subordinated units which were owned directly or indirectly by certain members of the Partnership’s then existing management. The Partnership was not required to record any adjustments to reflect the acquisition of the HM Capital Partners LLC’s interest in the Partnership or the related transactions (together, referred to as “GE EFS Acquisition”).
In January 2008, the Partnership acquired all of the outstanding equity and noncontrolling interest (the “FrontStreet Acquisition”) of FrontStreet Hugoton LLC (“FrontStreet”) from ASC Hugoton LLC (“ASC”), an affiliate of GECC, and FrontStreet EnergyOne LLC (“EnergyOne”). Because the acquisition of ASC’s 95 percent interest was a transaction between commonly controlled entities, the Partnership accounted for this portion of the acquisition in a manner similar to the pooling of interest method. Information included in these financial statements is presented as if the FrontStreet Acquisition had been combined throughout the periods presented in which common control existed, June 18, 2007 forward. Conversely, the acquisition of EnergyOne’s noncontrolling interest is a transaction between independent parties, for which the Partnership applied the purchase method of accounting.
In March 2009, the Partnership contributed Regency Intrastate Gas LLC (“RIG”) to a RIGS Haynesville Partnership Co. (“HPC”) in exchange for a noncontrolling interest in HPC. Accordingly, the Partnership no longer consolidates RIG in its financial statements, and accounts for its investment in HPC under the equity method. Transactions between the Partnership and HPC involve the transportation of natural gas, contract compression services, and the provision of administrative support. Because these transactions are immediately realized, the Partnership does not eliminate these transactions with its equity method investee.
Basis of presentation. The consolidated financial statements of the General Partner and the Partnership have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) and include the accounts of all controlled subsidiaries after the elimination of all intercompany accounts and transactions. The General Partner has no independent operations and no material assets outside those of the Partnership. The number of reconciling items between the consolidated financial statements and that of the Partnership are few. The most significant difference is that relating to noncontrolling interest ownership in the General Partner’s net assets by certain limited partners of the Partnership, and the elimination of General Partner’s investment in the Partnership.
2. Summary of Significant Accounting Policies
Use of Estimates. These consolidated financial statements have been prepared in conformity with GAAP, which includes the use of estimates and assumptions by management that affect the reported amounts of assets, liabilities, revenues, expenses and disclosure of contingent assets and liabilities that exist at the date of the financial statements. Although these estimates are based on management’s available knowledge of current and expected future events, actual results could be different from those estimates.
Consolidation.The General Partner consolidates the financial statements of the Partnership with that of the General Partner. This accounting consolidation is required because the General Partner owns 100 percent of the general partner interest in the Partnership, which gives the General Partner the ability to exercise control over the Partnership.
Cash and Cash Equivalents. Cash and cash equivalents include temporary cash investments with original maturities of three months or less.
Restricted Cash. Restricted cash of $1,511,000 is held in escrow for purchase indemnifications related to the El Paso acquisition and for environmental remediation projects. A third-party agent invests funds held in escrow in US Treasury securities. Interest earned on the investment is credited to the escrow account.
Equity Method Investments. The equity method of accounting is used to account for the Partnership’s interest in investments of greater than 20 percent voting interest or exerts significant influence over an investee and where the Partnership lacks control over the investee.
Property, Plant and Equipment. Property, plant and equipment is recorded at historical cost of construction or, upon acquisition, the fair value of the assets acquired. Sales or retirements of assets, along with the related accumulated depreciation, are included in operating income unless the disposition is treated as discontinued operations. Natural gas and NGLs used to maintain pipeline minimum pressures is capitalized and classified as property, plant and equipment. Financing costs associated with the construction of larger assets requiring ongoing efforts over a period of time are capitalized. For the years ended December 31, 2009, 2008, and 2007, the Partnership capitalized interest of $1,722,000, $2,409,000 and $1,754,000, respectively. The costs of maintenance and repairs, which are not significant improvements, are expensed when incurred. Expenditures to extend the useful lives of the assets are capitalized.
The Partnership accounts for its asset retirement obligations by recognizing on its balance sheet the net present value of any legally-binding obligation to remove or remediate the physical assets that it retires from service, as well as any similar obligations for which the timing and/or method of settlement are conditional on a future event that may or may not be within the control of the Partnership. While the Partnership is obligated under contractual agreements to remove certain facilities upon their retirement, management is unable to reasonably determine the fair value of such asset retirement obligations because the settlement dates, or ranges thereof, were indeterminable and could range up to 95 years, and the undiscounted amounts are immaterial. An asset retirement obligation will be recorded in the periods wherein management can reasonably determine the settlement dates.
Depreciation expense related to property, plant and equipment was $97,426,000, $88,828,000, and $50,719,000 for the years ended December 31, 2009, 2008, and 2007, respectively. Depreciation of plant and equipment is recorded on a straight-line basis over the following estimated useful lives.
Functional Class of Property | Useful Lives (Years) | |
Gathering and transmission systems | 5 - 20 | |
Compression equipment | 10 - 30 | |
Gas plants and buildings | 15 - 35 | |
Other property, plant and equipment | 3 - 10 |
Intangible Assets. Intangible assets consisting of (i) permits and licenses, (ii) customer contracts, (iii) trade name, and (iv) customer relations are amortized on a straight line basis over their estimated useful lives, which is the period over which the assets are expected to contribute directly or indirectly to the Partnership’s future cash flows. The estimated useful lives range from three to 30 years.
The Partnership assesses long-lived assets, including property, plant and equipment and intangible assets, for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability is assessed by comparing the carrying amount of an asset to undiscounted future net cash flows expected to be generated by the asset. If such assets are considered to be impaired, the impairment to be recognized is measured as the amount by which the carrying amounts exceed the fair value of the assets. The Partnership did not record any impairment in 2009, 2008 or 2007.
Goodwill. Goodwill represents the excess of the purchase price over the fair value of identifiable net assets acquired in a business combination. Goodwill is not amortized, but is tested for impairment annually based on the carrying values as of December 31, or more frequently if impairment indicators arise that suggest the carrying value of goodwill may not be recovered. Impairment occurs when the carrying amount of a reporting unit exceeds its fair value. At the time it is determined that an impairment has occurred, the carrying value of the goodwill is written down to its fair value. To estimate the fair value of the reporting units, the Partnership makes estimates and judgments about future cash flows, as well as revenues, cost of sales, operating expenses, capital expenditures and net working capital based on assumptions that are consistent with the Partnership’s most recent forecast. No impairment was indicated for the years ended December 31, 2009, 2008, or 2007.
Other Assets, net. Other assets, net primarily consists of debt issuance costs, which are capitalized and amortized to interest expense, net over the life of the related debt. Taxes incurred on behalf of, and passed through to, the Partnership’s compression customers are accounted for on a net basis.
Gas Imbalances. Quantities of natural gas or NGLs over-delivered or under-delivered related to imbalance agreements are recorded monthly as other current assets or other current liabilities using then current market prices or the weighted average prices of natural gas or NGLs at the plant or system pursuant to imbalance agreements for which settlement prices are not contractually established. Within certain volumetric limits determined at the sole discretion of the creditor, these imbalances are generally settled by deliveries of natural gas. Imbalance receivables and payables as of December 31, 2009 and 2008 were immaterial.
Revenue Recognition. The Partnership earns revenue from (i) domestic sales of natural gas, NGLs and condensate, (ii) natural gas gathering, processing and transportation, and (iii) contract compression services. Revenue associated with sales of natural gas, NGLs and condensate are recognized when title passes to the customer, which is when the risk of ownership passes to the purchaser and physical delivery occurs. Revenue associated with transportation and processing fees are recognized when the service is provided. For contract compression services, revenue is recognized when the service is performed. For gathering and processing services, the Partnership receives either fees or commodities from natural gas producers depending on the type of contract. Commodities received are in turn sold and recognized as revenue in accordance with the criteria outlined above. Under the percentage-of-proceeds contract type, the Partnership is paid for its services by keeping a percentage of the NGLs produced and a percentage of the residue gas resulting from processing the natural gas. Under the percentage-of-index contract type, the Partnership earns revenue by purchasing wellhead natural gas at a percentage of the index price and selling processed natural gas at a price approximating the index price and NGLs to third parties. The Partnership generally reports revenue gross in the consolidated statements of operations when it acts as the principal, takes title to the product, and incurs the risks and rewards of ownership. Revenue for fee-based arrangements is presented net, because the Partnership takes the role of an agent for the producers. Allowance for doubtful accounts is determined based on historical write-off experience and specific identification.
Derivative Instruments. The Partnership’s net income and cash flows are subject to volatility stemming from changes in market prices such as natural gas prices, NGLs prices, processing margins and interest rates. The Partnership uses ethane, propane, butane, natural gasoline, and condensate swaps to create offsetting positions to specific commodity price exposures. Derivative financial instruments are recorded on the balance sheet at their fair value on a net basis by settlement date. The Partnership employs derivative financial instruments in connection with an underlying asset, liability and/or anticipated transaction and not for speculative purposes. Derivative financial instruments qualifying for hedge accounting treatment have been designated by the Partnership as cash flow hedges. The Partnership enters into cash flow hedges to hedge the variability in cash flows related to a forecasted transaction. At inception, the Partnership formally documents the relationship between the hedging instrument and the hedged item, the risk management objectives, and the methods used for assessing and testing correlation and hedge effectiveness. The Partnership also assesses, both at the inception of the hedge and on an on-going basis, whether the derivatives are highly effective in offsetting changes in cash flows of the hedged item. Furthermore, the Partnership regularly assesses the creditworthiness of counterparties to manage the risk of default. If the Partnership determines that a derivative is no longer highly effective as a hedge, it discontinues hedge accounting prospectively by including changes in the fair value of the derivative in current earnings. For cash flow hedges, changes in the derivative fair values, to the extent that the hedges are effective, are recorded as a component of accumulated other comprehensive income until the hedged transactions occur and are recognized in earnings. Any ineffective portion of a cash flow hedge’s change in value is recognized immediately in earnings. In the statement of cash flows, the effects of settlements of derivative instruments are classified consistent with the related hedged transactions. For the Partnership’s derivative financial instruments that were not designated for hedge accounting, the change in market value is recorded as a component of net unrealized and realized gain (loss) from derivatives in the consolidated statements of operations.
Benefits. The Partnership provides medical, dental, and other healthcare benefits to employees. The Partnership provides a matching contribution for employee contributions to their 401(k) accounts, which vests ratably over 3 years. The amount of matching contributions for the years ended December 31, 2009, 2008, and 2007 were $1,440,000, $395,000, and $469,000, respectively, and were recorded in general and administrative expenses. The Partnership has no pension obligations or other post employment benefits.
Income Taxes. The General Partner and the Partnership are generally not subject to income taxes, except as discussed below, because their income are taxed directly to their partners. The Partnership is subject to the gross margin tax enacted by the state of Texas. The Partnership has wholly-owned subsidiaries that are subject to income tax and provides for deferred income taxes using the asset and liability method for these entities. Accordingly, deferred taxes are recorded for differences between the tax and book basis that will reverse in future periods. The Partnership’s deferred tax liability of $6,996,000 and $8,156,000 as of December 31, 2009 and 2008 relates to the difference between the book and tax basis of property, plant and equipment and intangible assets and is included in other long-term liabilities in the accompanying consolidated balance sheet. The Partnership follows the guidance for uncertainties in income taxes where a liability for an unrecognized tax benefit is recorded for a tax position that does not meet the “more likely than not” criteria. The Partnership has not recorded any uncertain tax positions meeting the more likely than not criteria as of December 31, 2009 and 2008. The Partnership’s entities that are required to pay federal income tax recognized current federal income tax benefit (expense) of $420,000, ($62,000), and ($1,171,000), and deferred income tax benefit of $1,160,000, $486,000, and $240,000 using a 35 percent effective rate during the years ended December 31, 2009, 2008 and 2007.
As of December 31, 2009, the IRS is conducting an audit to the tax returns of Pueblo Holdings Inc., a wholly-owned subsidiary of the Partnership, for the tax years ended December 31, 2007 and December 31, 2008. In addition, on January 27, 2010, the IRS mailed two “Notice of Beginning of Administrative Proceeding” to the Partnership stating that the IRS is commencing audits of the Partnership’s 2007 and 2008 partnership tax returns.
Equity-Based Compensation. The Partnership accounts for equity-based compensation by recognizing the grant-date fair value of awards into expense as they are earned, using an estimated forfeiture rate. The forfeiture rate assumption is reviewed annually to determine whether any adjustments to expense are required.
Revision to Partners’ Capital Accounts. In 2009, the Partnership revised the allocation of net income between the General Partner and noncontrolling interest related to 2008 to reflect the income allocation provisions of the Partnership agreement. The effect of this revision is not material to the prior financial statements.
Noncontrolling Interest. Noncontrolling interest represents noncontrolling ownership interest in the net assets of the Partnership. The noncontrolling interest attributable to the limited partners of the Partnership consists of common units of the Partnership and the noncontrolling interest in a subsidiary. The non-affiliated interest in noncontrolling interest as of December 31, 2009 and 2008 was $903,243,000 and $743,872,000, respectively.
Recently Issued Accounting Standards. In June 2009, the FASB issued guidance that significantly changed the consolidation model for variable interest entities. The guidance is effective for annual reporting periods that begin after November 15, 2009, and for interim periods within that first annual reporting period. The Partnership has evaluated this guidance and determined that it will have no impact on its financial position, results of operations or cash flows as a result of adopting this guidance on January 1, 2010.
In January 2010, the FASB issued guidance requiring improved disclosure of transfers in and out of Levels 1 and 2 for an entity’s fair value measurements, such requirement becoming effective for interim and annual periods beginning after December 15, 2009. Further, additional disclosure of activities such as purchases, sales, issuances and settlements of items relying on Level 3 inputs will be required, such requirements becoming effective for interim and annual periods beginning after December 15, 2010. The Partnership has evaluated this guidance and determined that it will have no impact on its financial position, results of operations or cash flows upon adopting this guidance.
In February 2010, the FASB clarified the type of embedded credit derivative that is exempt from embedded derivative bifurcation requirements. The Partnership evaluated determined that this guidance had no impact on its financial position, results of operations or cash flows.
3. Partners’ Capital and Distributions
General Partner Interest and Incentive Distribution Rights. Partners’ capital of the General Partner is represented by 1,901,803 equivalent units as of December 31, 2009. The General Partner has the right, but not the obligation, to contribute a proportionate amount of capital to the Partnership to maintain its current general partner interest. The General Partner’s initial 2 percent interest in these distributions will be reduced if the Partnership issues additional units in the future and the General Partner does not contribute a proportionate amount of capital to the Partnership to maintain its 2 percent General Partner interest.
The incentive distribution rights held by the General Partner entitles it to receive an increasing share of Available Cash (defined below) when pre-defined distribution targets are achieved. The General Partner’s incentive distribution rights are not reduced if the Partnership issues additional units in the future and the general partner does not contribute a proportionate amount of capital to the Partnership to maintain its 2 percent general partner interest.
Noncontrolling Interest. Noncontrolling interest represents noncontrolling interest in the net assets of the Partnership. The noncontrolling interest attributable to the limited partners of the Partnership consists of common units of the Partnership and a gas gathering joint venture in south Texas 40 percent owned by a third party.
Subsidiary Common Unit Offerings. In August 2008, the Partnership sold 9,020,909 common units and received $204,133,000 in proceeds, inclusive of the General Partner’s proportionate capital contribution. In December 2009, the Partnership sold 12,075,000 common units and received $225,030,000 in proceeds, inclusive of the General Partner’s proportionate capital contribution.
Subsidiary Subordinated Units. The subordinated units converted into common units on a one-for-one basis on February 17, 2009.
Subsidiary Class E Common Units. On January 7, 2008, the Partnership issued 4,701,034 of Class E common units to ASC as consideration for the FrontStreet Acquisition. The Class E common units had the same terms and conditions as the Partnership’s common units, except that the Class E common units were not entitled to participate in earnings or distributions by the Partnership. The Class E common units were issued in a private placement conducted in accordance with the exemption from the registration requirements of the Securities Act of 1933, as amended under Section 4(2) thereof. The Class E common units converted into common units on a one-for-one basis on May 5, 2008.
Subsidiary Class D Common Units. On January 15, 2008, the Partnership issued 7,276,506 of Class D common units to owners of CDM Resource Management LLC (“CDM”) as partial consideration for the CDM acquisition. The Class D common units had the same terms and conditions as the Partnership’s common units, except that the Class D common units were not entitled to participate in earnings or distributions by the Partnership. The Class D common units were issued in a private placement conducted in accordance with the exemption from the registration requirements of the Securities Act of 1933, as amended under Section 4(2) thereof. The Class D common units converted into common units without the payment of further consideration on a one-for-one basis on February 9, 2009.
Distributions. The partnership agreement requires the distribution of all of the Partnership’s Available Cash (defined below) within 45 days after the end of each quarter to unitholders of record on the applicable record date, as determined by the General Partner.
Available Cash. Available Cash, for any quarter, generally consists of all cash and cash equivalents on hand at the end of that quarter less the amount of cash reserves established by the general partner to: (i) provide for the proper conduct of the Partnership’s business; (ii) comply with applicable law, any debt instruments or other agreements; or (iii) provide funds for distributions to the unitholders and to the General Partner for any one or more of the next four quarters and plus, all cash on hand on that date of determination of available cash for the quarter resulting from working capital borrowings made after the end of the quarter for which the determination is being made.
Distributions of Available Cash. The partnership agreement requires that it make distributions of Available Cash from operating surplus for any quarter after the subordination period in the following manner:
• | first, 98 percent to all unitholders, pro rata, and 2 percent to the General Partner, until each unitholder receives a total of $0.35 per unit for that quarter; |
• | second, 98 percent to all unitholders, pro rata, and 2 percent to the General Partner, until each unitholder receives a total of $0.4025 per unit for that quarter; |
• | third, 85 percent to all unitholders, pro rata, 13 percent to holders of the incentive distribution rights, and 2 percent to the General Partner, until the aggregate distributions equal $0.4375 per unit outstanding for that quarter; |
• | fourth, 75 percent to all unitholders, pro rata, 23 percent to holders of the incentive distribution rights, and 2 percent to the General Partner, until the aggregate distributions equal $0.525 per unit outstanding for that quarter; and |
• | thereafter, 50 percent to all unitholders, pro rata, 48 percent to holders of the incentive distribution rights, and 2 percent to the General Partner. |
The Partnership made the following cash distributions per unit during the years ended December 31, 2009 and 2008:
Distribution Date | Cash Distribution | ||
(per Unit) | |||
November 13, 2009 | $ | 0.445 | |
August 14, 2009 | 0.445 | ||
May 14, 2009 | 0.445 | ||
February 13, 2009 | 0.445 | ||
November 14, 2008 | 0.445 | ||
August 14, 2008 | 0.445 | ||
May 14, 2008 | 0.420 | ||
February 14, 2008 | 0.400 |
4. Acquisitions and Dispositions
2009
HPC. In March 2009, the Partnership completed a joint venture arrangement among Regency Haynesville Intrastate Gas LLC (“Regency HIG”), a wholly owned subsidiary of the Partnership, EFS Haynesville LLC (“EFS Haynesville”), a wholly owned subsidiary of GECC, and Alinda Gas Pipelines I. L.P. and Alinda Gas Pipelines II. L.P. (collectively the “Alinda Investors”). The Partnership contributed RIG, which owns the Regency Intrastate Gas System (“RIGS”), with a fair value of $401,356,000, to HPC, in exchange for a 38 percent interest in HPC. EFS Haynesville and Alinda Investors contributed $126,928,000 and $528,284,000 in cash, respectively, to HPC in return for a 12 percent and a 50 percent interest, respectively. The disposition and deconsolidation resulted in the recording of a $133,451,000 gain (of which $52,813,000 represents the remeasurement of the Partnership’s retained 38 percent interest to its fair value), net of transaction costs of $5,530,000.
In September 2009, the Partnership purchased a five percent interest in HPC from EFS Haynesville for $63,000,000, increasing the Partnership’s ownership percentage from 38 percent to 43 percent. Because the transaction occurred between two entities under common control, the Partnership’s general partner interest was reduced by $10,197,000, which represented a deemed distribution of the excess purchase price over EFS Haynesville’s carrying amount.
2008
FrontStreet. In January 2008, the Partnership completed the FrontStreet Acquisition. FrontStreet owned a gas gathering system located in Kansas and Oklahoma, which is operated by a third party. The total purchase price consisted of (a) 4,701,034 Class E common units of the Partnership issued to ASC in exchange for its 95 percent interest and (b) $11,752,000 in cash to EnergyOne in exchange for its five percent minority interest and the termination of a management services contract valued at $3,888,000. The Partnership financed the cash portion of the purchase price with borrowings under its revolving credit facility.
Because the acquisition of ASC’s 95 percent interest was a transaction between commonly controlled entities, the Partnership accounted for this portion of the acquisition in a manner similar to the pooling of interest method. Information included in these financial statements is presented as if the FrontStreet Acquisition had been combined throughout the periods presented in which common control existed, June 18, 2007 forward. Conversely, the acquisition of the five percent minority interest is a transaction between independent parties, for which the Partnership applied the purchase method of accounting.
The following table summarizes the book value of the assets acquired and the liabilities assumed at the date of common control, following the as if pooled method of accounting.
At June 18, 2007 | ||||
(in thousands) | ||||
Current assets | $ | 8,840 | ||
Property, plant and equipment | 91,556 | |||
Total assets acquired | 100,396 | |||
Current liabilities | (12,556 | ) | ||
Net book value of assets acquired | $ | 87,840 | ||
CDM Resource Management, Ltd. In January 2008, the Partnership acquired CDM by (a) issuing an aggregate of 7,276,506 Class D common units of the Partnership, which were valued at $219,590,000 and (b) paying an aggregate of $478,445,000 in cash, $316,500,000 of which was used to retire CDM’s debt obligations.
The total purchase price of $699,841,000, including direct transaction costs, was allocated as follows.
At January 15, 2008 | ||||
(in thousands) | ||||
Current assets | $ | 19,463 | ||
Other assets | 4,658 | |||
Gas plants and buildings | 1,528 | |||
Gathering and transmission systems | 420,974 | |||
Other property, plant and equipment | 2,728 | |||
Construction-in-process | 36,239 | |||
Identifiable intangible assets | 80,480 | |||
Goodwill | 164,882 | |||
Assets acquired | 730,952 | |||
Current liabilities | (31,054 | ) | ||
Other liabilities | (57 | ) | ||
Net assets acquired | $ | 699,841 | ||
Nexus Gas Holdings, LLC (“Nexus”). In March 2008, the Partnership acquired Nexus (“Nexus Acquisition”) for $88,486,000 in cash. The Partnership funded the Nexus Acquisition through borrowings under its existing credit facility.
The total purchase price of $88,640,000 was allocated as follows.
At March 25, 2008 | ||||
(in thousands) | ||||
Current assets | $ | 3,457 | ||
Buildings | 13 | |||
Gathering and transmission systems | 16,960 | |||
Other property, plant and equipment | 4,440 | |||
Identifiable intangible assets | 61,100 | |||
Goodwill | 3,341 | |||
Assets acquired | 89,311 | |||
Current liabilities | (671 | ) | ||
Net assets acquired | $ | 88,640 | ||
2007
Palafox Joint Venture. The Partnership acquired the outstanding interest in the Palafox Joint Venture not owned (50 percent) for $5,000,000 effective February 1, 2007. The Partnership allocated $10,057,000 to gathering and transmission systems in the three months ended March 31, 2007. The allocated amount consists of the investment in unconsolidated subsidiary of $5,650,000 immediately prior to the Partnership’s acquisition and the Partnership’s $5,000,000 purchase of the remaining interest offset by $593,000 of working capital accounts acquired.
Significant Asset Dispositions. The Partnership sold selected non-core pipelines, related rights of way and contracts located in south Texas for $5,340,000 on March 31, 2007 and recorded a loss on sale of $1,808,000. Additionally, the Partnership sold two small gathering systems and associated contracts located in the Mid-continent region for $1,750,000 on May 31, 2007 and recorded a loss on the sale of $469,000. The Partnership also sold its 34 mile NGL pipeline located in east Texas for $3,000,000 on June 29, 2007 and simultaneously entered into transportation and operating agreements with the buyer. The Partnership accounted for this transaction as a sale-leaseback whereby the $3,000,000 gain was deferred and will be amortized to earnings over a 20 year period. The Partnership recorded $3,000,000 in gathering and transmission systems and the related obligations under capital lease. On August 31, 2007, the Partnership sold an idle processing plant for $1,300,000 and recorded a $740,000 gain.
Acquisition of Pueblo Midstream Gas Corporation. In April 2007, the Partnership and its indirect wholly-owned subsidiary, Pueblo Holdings, acquired all the outstanding equity of Pueblo Midstream Gas Corporation (“Pueblo”). The purchase price for the Pueblo acquisition consisted of (1) the issuance of 751,597 common units of the Partnership to the members, valued at $19,724,000 and (2) the payment of $34,855,000 in cash, exclusive of outstanding Pueblo liabilities of $9,822,000 and certain working capital amounts acquired of $108,000. The cash portion of the consideration was financed out of the proceeds of the Partnership’s credit facility.
The Pueblo acquisition offered the opportunity to reroute gas to one of the Partnership’s existing gas processing plants to provide cost savings. The total purchase price was allocated as follows based on estimates of the fair values of assets acquired and liabilities assumed.
At April 2, 2007 | ||||
(in thousands) | ||||
Current assets | $ | 1,295 | ||
Gas plants and buildings | 8,994 | |||
Gathering and transmission systems | 13,079 | |||
Other property, plant and equipment | 180 | |||
Intangible assets subject to amortization (contracts) | 5,242 | |||
Goodwill | 36,523 | |||
Assets acquired | 65,313 | |||
Current liabilities | (1,187 | ) | ||
Long-term liabilities | (9,492 | ) | ||
Total Purchase price | $ | 54,634 | ||
The following unaudited pro forma financial information has been prepared as if the acquisitions of FrontStreet, CDM, Nexus and Pueblo, as well as the contribution of RIG to HPC as well as the acquisition of additional five percent HPC interest had occurred as of the beginning of the earliest period presented. Such unaudited pro forma financial information does not purport to be indicative of the results of operations that would have been achieved if the transactions to which the Partnership is giving pro forma effect actually occurred on the date referred to above or the results of operations that may be expected in the future.
Pro Forma Results for the Year Ended December 31, | ||||||||||||
2009 | 2008 | 2007 | ||||||||||
(in thousands except unit and per unit data) | ||||||||||||
Revenue | $ | 1,077,524 | $ | 1,822,722 | $ | 1,274,829 | ||||||
Net income | 5,935 | 82,003 | 112,779 | |||||||||
Less: Amount allocated to noncontrolling interest | (3,450 | ) | (78,234 | ) | (110,799 | ) | ||||||
Net income attributable to Regency GP LP | $ | 2,485 | $ | 3,769 | $ | 1,980 | ||||||
5. Investment in Unconsolidated Subsidiary
As described in the Acquisitions and Dispositions footnote, the Partnership contributed RIG to HPC for a 38 percent partner’s interest in HPC. Subsequently, on September 2, 2009, the Partnership purchased an additional five percent partner’s interest in HPC from EFS Haynesville for $63,000,000. The Partnership recognized $7,886,000 in income from unconsolidated subsidiary for its ownership interest and received $8,926,000 of distributions from HPC from inception (March 18, 2009) to December 31, 2009. The summarized financial information of HPC for the period from inception (March 18, 2009) to December 31, 2009 is disclosed below.
RIGS Haynesville Partnership Co.
Condensed Consolidated Balance Sheet
December 31, 2009
(in thousands)
ASSETS | |||
Total current assets | $ | 39,239 | |
Restricted cash, non-current | 33,595 | ||
Property, plant and equipment, net | 861,570 | ||
Total other assets | 149,755 | ||
TOTAL ASSETS | $ | 1,084,159 | |
LIABILITIES & PARTNERS’ CAPITAL | |||
Total current liabilities | $ | 30,967 | |
Partners’ capital | 1,053,192 | ||
TOTAL LIABILITIES & PARTNERS’ CAPITAL | $ | 1,084,159 | |
RIGS Haynesville Partnership Co.
Condensed Consolidated Income Statement
From Inception (March 18, 2009) to December 31, 2009
(in thousands)
Total revenues | $ | 43,483 | ||
Total operating costs and expenses | 24,926 | |||
OPERATING INCOME | 18,557 | |||
Interest expense | (158 | ) | ||
Other income and deductions, net | 1,335 | |||
NET INCOME | $ | 19,734 | ||
The HPC partnership agreement requires the distribution of 100 percent of “available cash” to the partners in accordance with their sharing ratios within 30 days after the end of each calendar quarter. Available cash is defined as cash on hand (excluding cash restricted for the Haynesville Expansion Project), less amounts reserved for normal operating expenses.
6. Derivative Instruments
Policies. The Partnership established comprehensive risk management policies and procedures to monitor and manage the market risks associated with commodity prices, counterparty credit, and interest rates. The General Partner is responsible for delegation of transaction authority levels, and the Risk Management Committee of the General Partner is responsible for the overall management of these risks, including monitoring exposure limits. The Risk Management Committee receives regular briefings on exposures and overall risk management in the context of market activities.
Commodity Price Risk. The Partnership is a net seller of NGLs, condensate and natural gas as a result of its gathering and processing operation. The prices of these commodities are impacted by changes in the supply and demand as well as market focus. Both the Partnership’s profitability and cash flow are affected by the inherent volatility of these commodities which could adversely affect its ability to make distributions to its unitholders. The Partnership manages this commodity price exposure through an integrated strategy that includes management of its contract portfolio, matching sales prices of commodities with purchases, optimization of its portfolio by monitoring basis and other price differentials in operating areas, and the use of derivative contracts. In some cases, the Partnership may not be able to match pricing terms or to cover its risk to price exposure with financial hedges, and it may be exposed to commodity price risk. It is the Partnership’s policy not to take any speculative positions with its derivative contracts.
The Partnership has executed swap contracts settled against NGLs (ethane, propane, butane, and natural gasoline), condensate and natural gas market prices for expected exposure in the approximate percentages set for below.
As of December 31, 2009 | ||||||
2010 | 2011 | |||||
NGLs | 80 | % | 33 | % | ||
Condensate | 84 | % | 21 | % | ||
Natural gas | 85 | % | 27 | % |
At December 31, 2009, the 2010 and 2011 natural gas and 2010 condensate swaps are accounted for as cash flow hedges; the 2011 condensate swaps are accounted for using mark-to-market accounting; and the 2010 and 2011 NGLs swaps are accounted for using a combination of cash flow hedge accounting and mark-to-market accounting.
Interest Rate Risk. The Partnership is exposed to variable interest rate risk as a result of borrowings under its credit facility. As of December 31, 2009, the Partnership had $419,642,000 of outstanding borrowings exposed to variable interest rate risk. In February 2008, the Partnership entered into two-year interest rate swaps related to $300,000,000 of borrowings under its credit facility, effectively locking the base rate for these borrowings at 2.4 percent, plus the applicable margin (3.0 percent as of December 31, 2009) through March 5, 2010. These interest rate swaps were designated as cash flow hedges.
Credit Risk. The Partnership’s resale of natural gas exposes it to credit risk, as the margin on any sale is generally a very small percentage of the total sales price. Therefore, a credit loss can be very large relative to overall profitability on these transactions. The Partnership attempts to ensure that it issues credit only to credit-worthy counterparties and that in appropriate circumstances any such extension of credit is backed by adequate collateral such as a letter of credit or a guarantee from a parent company with potentially better credit.
The Partnership is exposed to credit risk from its derivative counterparties. The Partnership does not require collateral from these counterparties. The Partnership deals primarily with financial institutions when entering into financial derivatives. The Partnership has entered into Master International Swap Dealers Association (“ISDA”) Agreements that allow for netting of swap contract receivables and payables in the event of default by either party. If the Partnership’s counterparties failed to perform under existing swap contracts, the Partnership’s maximum loss is $25,246,000, which would be reduced by $13,284,000 due to the netting feature. The Partnership has elected to present assets and liabilities under Master ISDA Agreements gross on the consolidated balance sheets.
Embedded Derivatives.The Partnership’s Series A Convertible Redeemable Preferred Units (“Series A Preferred Units”) contain embedded derivatives which are required to be bifurcated and accounted for separately, such as the holders’ conversion option and the Partnership’s call option. These embedded derivatives are accounted for using mark-to-market accounting. Changes in the fair value are recorded in other income and deductions, net within the consolidated statement of operations. The Partnership does not expect the embedded derivatives to affect its cash flows. During the year ended December 31, 2009, the loss recognized related to these embedded derivatives was $15,686,000 and is reflected in other income and deductions, net on the consolidated statement of operations.
Quantitative Disclosures. On May 26, 2010, the Partnership’s accumulated other comprehensive income was adjusted to its fair value, which was $0, as a result of a change in control in the General Partner. For more information about the change in control, see Note 17.
The Partnership’s derivative assets and liabilities, including credit risk adjustment, for the years ending December 31, 2009 and 2008 are detailed below.
Assets | Liabilities | |||||||||||||||
December 31, 2009 | December 31, 2008 | December 31, 2009 | December 31, 2008 | |||||||||||||
(in thousands) | ||||||||||||||||
Derivatives designated as cash flow hedges | ||||||||||||||||
Current amounts | ||||||||||||||||
Interest rate contracts | $ | — | $ | — | $ | 1,067 | $ | 4,680 | ||||||||
Commodity contracts | 9,525 | 59,882 | 11,200 | — | ||||||||||||
Long-term amounts | ||||||||||||||||
Interest rate contracts | — | — | — | 560 | ||||||||||||
Commodity contracts | 207 | 13,373 | 931 | — | ||||||||||||
Total cash flow hedging instruments | 9,732 | 73,255 | 13,198 | 5,240 | ||||||||||||
Derivatives not designated as cash flow hedges | ||||||||||||||||
Current amounts | ||||||||||||||||
Commodity contracts | 15,514 | 16,001 | 31 | 38,402 | ||||||||||||
Long-term amounts | ||||||||||||||||
Commodity contracts | — | 23,425 | 3,378 | — | ||||||||||||
Embedded derivatives in Series A Preferred Units | — | — | 44,594 | — | ||||||||||||
Total derivatives not designated as cash flow hedges | 15,514 | 39,426 | 48,003 | 38,402 | ||||||||||||
Credit Risk Assessment | ||||||||||||||||
Current amounts | (52 | ) | (1,890 | ) | (42 | ) | (391 | ) | ||||||||
Total derivatives | $ | 25,194 | $ | 110,791 | $ | 61,159 | $ | 43,251 | ||||||||
Derivatives designated as cash flow hedges
Year Ended December 31, 2009 | Year Ended December 31, 2008 | |||||||||||||||||||||||
Interest Rate | Commodity | Total | Interest Rate | Commodity | Total | |||||||||||||||||||
(in thousands) | ||||||||||||||||||||||||
Gain (loss) recorded in accumulated OCI (Effective) | $ | (2,082 | ) | $ | (19,958 | ) | $ | (22,040 | ) | $ | (4,555 | ) | $ | 74,808 | $ | 70,253 | ||||||||
Gain (loss) reclassified from accumulated OCI into income (Effective)* | (6,255 | ) | 54,260 | 48,005 | 676 | (35,942 | ) | (35,266 | ) | |||||||||||||||
Gain (loss) recognized in income (Ineffective)* | — | 108 | 108 | — | 543 | 543 | ||||||||||||||||||
Derivatives not designated as cash flow hedges | ||||||||||||||||||||||||
Year Ended December 31, 2009 | Year Ended December 31, 2008 | |||||||||||||||||||||||
Embedded Derivatives | Commodity | Total | Embedded Derivatives | Commodity | Total | |||||||||||||||||||
(in thousands) | ||||||||||||||||||||||||
Loss from dedesignation amortized from accumulated OCI into income* | $ | — | $ | (611 | ) | $ | (611 | ) | $ | — | $ | (246 | ) | $ | (246 | ) | ||||||||
(Loss) gain recognized in income* | (15,686 | ) | (13,669 | ) | (29,355 | ) | — | 15,911 | 15,911 | |||||||||||||||
Credit risk assessment for commodity and interest rate swaps | ||||||||||||||||||||||||
Year Ended December 31, | ||||||||||||||||||||||||
2009 | 2008 | 2007 | ||||||||||||||||||||||
(in thousands) | ||||||||||||||||||||||||
Gain (loss) recognized in income* | $ | 1,489 | $ | (1,499 | ) | $ | — |
* | Gain and loss related to commodity swaps, interest swaps and embedded derivatives were included in revenue, interest expense, and other income and deductions, net, respectively, in the Partnership’s consolidated statements of operations. |
7. Long-term Debt
Obligations in the form of senior notes and borrowings under the credit facilities are as follows.
December 31, 2009 | December 31, 2008 | |||||||
(in thousands) | ||||||||
Senior notes | $ | 594,657 | $ | 357,500 | ||||
Revolving loans | 419,642 | 768,729 | ||||||
Total | 1,014,299 | 1,126,229 | ||||||
Less: current portion | — | — | ||||||
Long-term debt | $ | 1,014,299 | $ | 1,126,229 | ||||
Availability under revolving credit facility: | ||||||||
Total credit facility limit | $ | 900,000 | $ | 900,000 | ||||
Unfunded Lehman commitments | (10,675 | ) | (8,646 | ) | ||||
Revolving loans | (419,642 | ) | (768,729 | ) | ||||
Letters of credit | (16,257 | ) | (16,257 | ) | ||||
Total available | $ | 453,426 | $ | 106,368 | ||||
Long-term debt maturities as of December 31, 2009 for each of the next five years are as follows.
Year Ended December 31, | Amount | |||
(in thousands) | ||||
2010 | $ | — | ||
2011 | 419,642 | |||
2012 | — | |||
2013 | 357,500 | |||
2014 | — | |||
Thereafter | 250,000 | * | ||
Total | $ | 1,027,142 | ||
* | As of December 31, 2009, the carrying value of the senior notes due 2016 was $237,157,000 which included an unamortized discount of $12,843,000. |
In the year ended December 31, 2009, the Partnership borrowed $191,693,000 under its credit facility; these borrowings were primarily to fund capital expenditures. During the same period, the Partnership repaid $540,780,000 with proceeds from an equity offering and issuance of senior notes due 2016. In the years ended December 31, 2008 and 2007, the Partnership borrowed $844,729,000 and $283,230,000, respectively; these funds were used primarily to finance capital expenditures. During the same periods, the Partnership repaid $200,000,000 and $421,430,000, respectively, of these borrowings with proceeds from equity offerings.
Senior Notes due 2016. In May 2009, the Partnership and Finance Corp. issued $250,000,000 of senior notes in a private placement that mature on June 1, 2016. The senior notes bear interest at 9.375 percent with interest payable semi-annually in arrears on June 1 and December 1. The Partnership paid a $13,760,000 discount upon issuance. The net proceeds were used to partially repay revolving loans under the Partnership’s credit facility.
At any time before June 1, 2012, up to 35 percent of the senior notes can be redeemed at a price of 109.375 percent plus accrued interest. Beginning June 1, 2013, the Partnership may redeem all or part of these notes for the principal amount plus a declining premium until June 1, 2015, and thereafter at par, plus accrued and unpaid interest. At any time prior to June 1, 2013, the Partnership may also redeem all or part of the notes at a price equal to 100 percent of the principal amount of notes redeemed plus accrued interest and the applicable premium, which equals to the greater of (1) one percent of the principal amount of the note; or (2) the excess of the present value at such redemption date of (i) the redemption price of the note at June 1, 2013 plus (ii) all required interest payments due on the note through June 1, 2013, computed using a discount rate equal to the treasury rate (as defined) as of such redemption date plus 50 basis points over the principal amount of the note.
Upon a change of control, each noteholder may, at its option, require the Partnership to purchase all or a portion of its notes at a purchase price of 101 percent plus accrued interest and liquidated damages, if any. The Partnership’s ability to purchase the notes upon a change of control will be limited by the terms of its debt agreements, including its credit facility. As disclosed in Note 17, a change in control of the General Partner occurred effective May 26, 2010. Subsequent to this change in control, no noteholder has exercised this option.
The senior notes contain various covenants that limit, among other things, the Partnership’s ability, and the ability of certain of its subsidiaries, to:
• | incur additional indebtedness; |
• | pay distributions on, or repurchase or redeem equity interests; |
• | make certain investments; |
• | incur liens; |
• | enter into certain types of transactions with affiliates; and |
• | sell assets, consolidate or merge with or into other companies. |
If the senior notes achieve investment grade ratings by both Moody’s and S&P and no default or event of default has occurred and is continuing, the Partnership will no longer be subject to many of the foregoing covenants. At December 31, 2009, the Partnership was in compliance with these covenants.
The senior notes are jointly and severally guaranteed by all of the Partnership’s current consolidated subsidiaries, other than Finance Corp., and by certain of its future subsidiaries. The senior notes and the guarantees are unsecured and rank equally with all of the Partnership’s and the guarantors’ existing and future unsubordinated obligations. The senior notes and the guarantees will be senior in right of payment to any of the Partnership’s and the guarantors’ future obligations that are, by their terms, expressly subordinated in right of payment to the notes and the guarantees. The senior notes and the guarantees will be effectively subordinated to the Partnership’s and the guarantors’ secured obligations, including the Partnership’s credit facility, to the extent of the value of the assets securing such obligations.
Senior Notes due 2013.In 2006, the Partnership and Finance Corp. issued $550,000,000 senior notes that mature on December 15, 2013 in a private placement. The senior notes bear interest at 8.375 percent and interest is payable semi-annually in arrears on each June 15 and December 15. In August 2007, the Partnership exercised its option to redeem 35 percent or $192,500,000 of these senior notes at a price of 108.375 percent of the principal amount plus accrued interest. Accordingly, a redemption premium of $16,122,000 and a loss on debt refinancing and unamortized loan origination costs of $4,575,000 were charged to loss on debt refinancing in the year ended December 31, 2007. Under the senior notes terms, no further redemptions are permitted until December 15, 2010.
The Partnership may redeem the outstanding senior notes, in whole or in part, at any time on or after December 15, 2010, at a redemption price equal to 100 percent of the principal amount thereof, plus a premium declining ratably to par and accrued and unpaid interest and liquidated damages, if any, to the redemption date.
Upon a change of control, each noteholder may, at its option, require the Partnership to purchase all or a portion of its notes at a purchase price of 101 percent plus accrued interest and liquidated damages, if any. The Partnership’s ability to purchase the notes upon a change of control will be limited by the terms of its debt agreements, including its credit facility. As disclosed in Note 17, a change in control of the General Partner occurred effective May 26, 2010. Subsequent to this change in control, no noteholder has exercised this option.
The senior notes contain various covenants that limit, among other things, the Partnership’s ability, and the ability of certain of its subsidiaries, to:
• | incur additional indebtedness; |
• | pay distributions on, or repurchase or redeem equity interests; |
• | make certain investments; |
• | incur liens; |
• | enter into certain types of transactions with affiliates; and |
• | sell assets, consolidate or merge with or into other companies. |
If the senior notes achieve investment grade ratings by both Moody’s and S&P and no default or event of default has occurred and is continuing, the Partnership will no longer be subject to many of the foregoing covenants. At December 31, 2009, the Partnership was in compliance with these covenants.
The senior notes are jointly and severally guaranteed by all of the Partnership’s current consolidated subsidiaries, other than Regency Energy Finance Corp. (“Finance Corp.”), a wholly owned subsidiary of the Partnership, and by certain of its future subsidiaries. The senior notes and the guarantees are unsecured and rank equally with all of the Partnership’s and the guarantors’ existing and future unsubordinated obligations. The senior notes and the guarantees will be senior in right of payment to any of the Partnership’s and the guarantors’ future obligations that are, by their terms, expressly subordinated in right of payment to the notes and the guarantees. The senior notes and the guarantees will be effectively subordinated to the Partnership’s and the guarantors’ secured obligations, including the Partnership’s credit facility, to the extent of the value of the assets securing such obligations.
Finance Corp. has no operations and will not have revenue other than as may be incidental as co-issuer of the senior notes. Since the Partnership has no independent operations, the guarantees are fully unconditional and joint and several of its subsidiaries, except certain wholly owned subsidiaries, the Partnership has not included condensed consolidated financial information of guarantors of the senior notes.
GECC Credit Facility. On February 26, 2009, the Partnership entered into a $45,000,000 unsecured revolving credit agreement with GECC. The proceeds of the GECC Credit Facility were available for expenditures made in connection with the Haynesville Expansion Project prior to the effectiveness of the March 17, 2009 amendment discussed below. The commitments under the GECC Credit Facility terminated on March 17, 2009. The Partnership paid a commitment fee of $2,718,000 to GECC related to this GECC Credit Facility, which was recorded as a decrease to gain on asset sales, net.
Fourth Amended and Restated Credit Agreement. In February 2008, Regency Gas Services LP (“RGS”)’s Fourth Amended and Restated Credit Agreement was expanded to $900,000,000 and the availability for letters of credit was increased to $100,000,000. The Partnership also has the option to request an additional $250,000,000 in revolving commitments with ten business days written notice provided that no event of default has occurred or would result due to such increase, and all other additional conditions for the increase of the commitments set forth in the credit facility have been met. The maturity date of the Credit Facility is August 15, 2011.
Effective March 17, 2009, RGS amended the credit facility to authorize the contribution of RIG to HPC and allow for a future investment of up to $135,000,000 in HPC. The amendment imposed additional financial restrictions that limit the ratio of senior secured indebtedness to EBITDA. The alternate base rate used to calculate interest on base rate loans will be calculated based on the greatest to occur of a base rate, a federal funds effective rate plus 0.50 percent and an adjusted one-month LIBOR rate plus 1.50 percent. The applicable margin shall range from 1.50 percent to 2.25 percent for base rate loans, 2.50 percent to 3.25 percent for Eurodollar loans, and a commitment fee will range from 0.375 to 0.500 percent. On July 24, 2009, RGS further amended its credit facility to allow for a $25,000,000 working capital facility for RIG. These amendments did not materially change other terms of the RGS revolving credit facility.
On September 15, 2008, Lehman Brothers Holdings, Inc. (“Lehman”) filed a petition in the United States Bankruptcy Court seeking relief under Chapter 11 of the United States Bankruptcy Code. As a result, a subsidiary of Lehman that is a committed lender under the Partnership’s credit facility has declined requests to honor its commitment to lend. The total amount committed by Lehman was $20,000,000 and as of December 31, 2009, the Partnership had borrowed all but $10,675,000 of that amount. Since Lehman has declined requests to honor its remaining commitment, the Partnership’s total size of the credit facility’s capacity has been reduced from $900,000,000 to $889,325,000. Further, if the Partnership makes repayments of loans against the credit facility which were, in part, funded by Lehman, the amounts funded by Lehman may not be reborrowed.
The outstanding balance of revolving loans under the credit facility bears interest at the London Interbank Offered Rate (“LIBOR”) plus a margin or Alternative Base Rate (equivalent to the U.S. prime lending rate) plus a margin, or a combination of both. The weighted average interest rates for the revolving loans and senior notes, including interest rate swap settlements, commitment fees, and amortization of debt issuance costs were 6.69 percent, 6.27 percent, and 8.78 percent for the years ended December 31, 2009, 2008, and 2007, respectively. The senior notes pay fixed interest rates and the weighted average rate is 8.787 percent.
RGS must pay (i) a commitment fee equal to 0.50 percent per annum of the unused portion of the revolving loan commitments, (ii) a participation fee for each revolving lender participating in letters of credit equal to 3.0 percent per annum of the average daily amount of such lender’s letter of credit exposure, and (iii) a fronting fee to the issuing bank of letters of credit equal to 0.125 percent per annum of the average daily amount of the letter of credit exposure.
The credit facility contains financial covenants requiring RGS and its subsidiaries to maintain debt to adjusted EBITDA (as defined in the credit agreement) ratio less than 5.25, and adjusted EBITDA to interest expense ratio greater than 2.75 times. At December 31, 2009 and 2008, RGS and its subsidiaries were in compliance with these covenants.
The credit facility restricts the ability of RGS to pay dividends and distributions other than reimbursements of the Partnership for expenses and payment of dividends to the Partnership to the extent of the Partnership’s determination of available cash (so long as no default or event of default has occurred or is continuing). The credit facility also contains various covenants that limit (subject to certain exceptions and negotiated baskets), among other things, the ability of RGS to:
• | incur indebtedness; |
• | grant liens; |
• | enter into sale and leaseback transactions; |
• | make certain investments, loans and advances; |
• | dissolve or enter into a merger or consolidation; |
• | enter into asset sales or make acquisitions; |
• | enter into transactions with affiliates; |
• | prepay other indebtedness or amend organizational documents or transaction documents (as defined in the credit facility); |
• | issue capital stock or create subsidiaries; or |
• | engage in any business other than those businesses in which it was engaged at the time of the effectiveness of the credit facility or reasonable extensions thereof. |
8. Other Assets
Intangible assets, net. Intangible assets, net consist of the following.
Permits and Licenses | Contracts | Trade Names | Customer Relations | Total | ||||||||||||||||
(in thousands) | ||||||||||||||||||||
Balance at January 1, 2008 | $ | 9,368 | $ | 68,436 | $ | — | $ | — | $ | 77,804 | ||||||||||
Additions | — | 64,770 | 35,100 | 41,710 | 141,580 | |||||||||||||||
Amortization | (786 | ) | (6,407 | ) | (2,252 | ) | (4,293 | ) | (13,738 | ) | ||||||||||
Balance at December 31, 2008 | 8,582 | 126,799 | 32,848 | 37,417 | 205,646 | |||||||||||||||
Disposals | (2,921 | ) | — | — | — | (2,921 | ) | |||||||||||||
Other | — | 7,000 | — | — | 7,000 | |||||||||||||||
Amortization | (569 | ) | (7,467 | ) | (2,340 | ) | (2,055 | ) | (12,431 | ) | ||||||||||
Balance at December 31, 2009 | $ | 5,092 | $ | 126,332 | $ | 30,508 | $ | 35,362 | $ | 197,294 | ||||||||||
The average remaining amortization periods for permits and licenses, contracts, trade names, and customer relations are 10, 16, 13 and 18 years, respectively. As of December 31, 2009 the expected amortization of the intangible assets for each of the five succeeding years is as follows.
Year ending December 31, | Total | ||
(in thousands) | |||
2010 | $ | 12,553 | |
2011 | 11,244 | ||
2012 | 11,002 | ||
2013 | 11,002 | ||
2014 | 11,002 |
Goodwill. Goodwill activity consists of the following.
Gathering and Processing | Transportation | Contract Compression | Total | |||||||||||
(in thousands) | ||||||||||||||
Balance at January 1, 2008 | $ | 59,831 | $ | 34,244 | $ | — | $ | 94,075 | ||||||
Additions | 3,401 | — | 164,882 | 168,283 | ||||||||||
Balance at December 31, 2008 | 63,232 | 34,244 | 164,882 | 262,358 | ||||||||||
Disposals | — | (34,244 | ) | — | (34,244 | ) | ||||||||
Balance at December 31, 2009 | $ | 63,232 | $ | — | $ | 164,882 | $ | 228,114 | ||||||
On March 17, 2009, the Partnership contributed all assets of RIG, which owns RIGS, to HPC, in exchange for an interest in HPC. As a result, goodwill associated with the transportation segment was removed from the balance sheet.
9. Fair Value Measures
On January 1, 2008, the Partnership adopted the fair value measurement provisions for financial assets and liabilities and on January 1, 2009, the Partnership applied the fair value measurement provisions to non-financial assets and liabilities, such as goodwill, indefinite-lived intangible assets, property, plant and equipment and asset retirement obligations. These provisions establish a three-tiered fair value hierarchy that prioritizes inputs to valuation techniques used in fair value calculations. The three levels of inputs are defined as follows:
• | Level 1—unadjusted quoted prices for identical assets or liabilities in active accessible markets; |
• | Level 2—inputs that are observable in the marketplace other than those classified as Level 1; and |
• | Level 3—inputs that are unobservable in the marketplace and significant to the valuation. |
Entities are encouraged to maximize the use of observable inputs and minimize the use of unobservable inputs. If a financial
instrument uses inputs that fall in different levels of the hierarchy, the instrument will be categorized based upon the lowest level of input that is significant to the fair value calculation.
Derivatives. The Partnership’s financial assets and liabilities measured at fair value on a recurring basis are derivatives related to interest rate and commodity swaps and embedded derivatives in the Series A Preferred Units. Derivatives related to interest rate and commodity swaps are valued using discounted cash flow techniques. These techniques incorporate Level 1 and Level 2 inputs such as future interest rates and commodity prices. These market inputs are utilized in the discounted cash flow calculation considering the instrument’s term, notional amount, discount rate and credit risk and are classified as Level 2 in the hierarchy. Derivatives related to Series A Preferred Units are valued using a binomial lattice model. The market inputs utilized in the model include credit spread, probabilities of the occurrence of certain events, common unit price, dividend yield, and expected volatility, and are classified as Level 3 in the hierarchy. The change in fair value of the derivatives related to Series A Preferred Units is recorded in other income and deductions, net within the statement of operations.
The following table presents the Partnership’s derivative assets and liabilities measured at fair value on a recurring basis.
December 31, 2009 | December 31, 2008 | |||||||||||
Assets | Liabilities | Assets | Liabilities | |||||||||
(in thousands) | ||||||||||||
Level 1 | $ | — | $ | — | $ | — | $ | — | ||||
Level 2 | 25,194 | 16,565 | 110,791 | 43,251 | ||||||||
Level 3 | — | 44,594 | — | — | ||||||||
Total | $ | 25,194 | $ | 61,159 | $ | 110,791 | $ | 43,251 | ||||
The following table presents the changes in Level 3 derivatives measured on a recurring basis for the year ended December 31, 2009. There were no Level 3 derivatives for the years ended December 31, 2008 or 2007.
Derivatives related to Series A Preferred Units For the Year Ended December 31, 2009 | |||
(in thousands) | |||
Beginning Balance | $ | — | |
Issuance | 28,908 | ||
Net unrealized losses included in other income and deductions, net | 15,686 | ||
Ending Balance | $ | 44,594 | |
The carrying amount of cash and cash equivalents, accounts receivable and accounts payable approximates fair value due to their short-term maturities. Restricted cash and related escrow payable approximates fair value due to the relatively short-term settlement period of the escrow payable. Long-term debt, other than the senior notes, is comprised of borrowings under which, interest accrues under a floating interest rate structure. Accordingly, the carrying value approximates fair value. The estimated fair value of the senior notes due 2013 based on third party market value quotations as of December 31, 2009 and 2008 was $364,650,000 and $244,888,000, respectively. The estimated fair value of the senior notes due 2016 based on third party market value quotations as of December 31, 2009 was $265,625,000.
10. Leases
The Partnership leases office space and certain equipment and the following table is a schedule of future minimum lease payments for leases that had initial or remaining noncancelable lease terms in excess of one year as of December 31, 2009.
For the year ending December 31, | Operating | Capital | ||||
(in thousands) | ||||||
2010 | $ | 3,838 | $ | 589 | ||
2011 | 3,801 | 422 | ||||
2012 | 3,426 | 436 | ||||
2013 | 2,714 | 448 | ||||
2014 | 2,351 | 462 | ||||
Thereafter | 9,975 | 7,101 | ||||
Total minimum lease payments | $ | 26,105 | $ | 9,458 | ||
Less: Amount representing estimated executory costs (such as maintenance and insurance), including profit thereon, included in minimum lease payments | 1,890 | |||||
Net minimum lease payments | 7,568 | |||||
Less: Amount representing interest | 4,365 | |||||
Present value of net minimum lease payments | $ | 3,203 | ||||
The following table sets forth the Partnership’s assets and obligations under the capital lease which are included in other current and long-term liabilities on the consolidated balance sheet.
December 31, 2009 | ||||
(in thousands) | ||||
Gross amount included in gathering and tranmission systems | $ | 3,000 | ||
Gross amount included in other property, plant and equipment | 560 | |||
Less accumulated depreciation | (755 | ) | ||
$ | 2,805 | |||
Current obligation under capital lease | 529 | |||
Non-current obligation under capital lease | 2,674 | |||
$ | 3,203 | |||
Total rent expense for operating leases, including those leases with terms of less than one year, was $5,465,000, $2,576,000, and $1,597,000, for the years ended December 31, 2009, 2008, and 2007, respectively.
11. Commitments and Contingencies
Legal. The Partnership is involved in various claims and lawsuits incidental to its business. These claims and lawsuits in the aggregate are not expected to have a material adverse effect on the Partnership’s business, financial condition, results of operations or cash flows.
Escrow Payable. At December 31, 2009, $1,511,000 remained in escrow pending the completion by El Paso of environmental remediation projects pursuant to the purchase and sale agreement (“El Paso PSA”) related to assets in north Louisiana and the mid-continent area and a subsequent 2008 settlement agreement between the Partnership and El Paso. In the El Paso PSA, El Paso indemnified Regency Gas Services LLC, now known as Regency Gas Services LP, against losses arising from pre-closing and known environmental liabilities subject to a limit of $84,000,000 and certain deductible limits. Upon completion of a Phase II environmental study, the Partnership notified El Paso of remediation obligations amounting to $1,800,000 with respect to known environmental matters and $3,600,000 with respect to pre-closing environmental liabilities. This escrow amount will be further reduced under a specified schedule as El Paso completes its cleanup obligations and the remainder will be released upon completion.
Environmental. A Phase I environmental study was performed on certain assets located in west Texas in connection with the pre-acquisition due diligence process in 2004. Most of the identified environmental contamination had either been remediated or was being remediated by the previous owners or operators of the properties. The aggregate potential environmental remediation costs at specific locations were estimated to range from $1,900,000 to $3,100,000. No governmental agency has required the Partnership to undertake these remediation efforts. Management believes that the likelihood that it will be liable for any significant potential remediation liabilities identified in the study is remote. Separately, the Partnership acquired an environmental pollution liability insurance policy in connection with the acquisition to cover any undetected or unknown pollution discovered in the future. The policy covers clean-up costs and damages to third parties, and has a 10-year term (expiring 2014) with a $10,000,000 limit subject to certain deductibles. No claims have been made against the Partnership or under the policy.
TCEQ Notice of Enforcement. In February 2008, the TCEQ issued a Notice of Enforcement (“NOE”) concerning one of the Partnership’s processing plants located in McMullen County, Texas. The NOE alleged that, between March 9, 2006, and May 8, 2007, this plant experienced 15 emission events of various durations from four hours to 41 days, which were not reported to TCEQ and other agencies within 24 hours of occurrence. In January 2010, the TCEQ notified the Partnership in writing that it had concluded that there had been no violation and that the TCEQ would take no further action.
Keyes Litigation. In August 2008, Keyes Helium Company, LLC (“Keyes”) filed suit against Regency Gas Services LP, the Partnership, the General Partner and various other subsidiaries. Keyes entered into an output contract with the Partnership’s predecessor-in-interest in 1996 under which it purchased all of the helium produced at the Lakin, Kansas processing plant. In September 2004, the Partnership decided to shut down its Lakin plant and contract with a third party for the processing of volumes processed at Lakin; as a result, the Partnership no longer delivered any helium to Keyes. In its suit, Keyes alleges it is entitled to damages for the costs of covering its purchases of helium. Discovery ended in October 2009. A hearing on cross-motions for summary judgment took place in December 2009. A decision is expected in the first quarter of 2010. If the Partnership does not win its motion, a jury trial is scheduled for April 2010.
Kansas State Severance Tax. In August 2008, a customer began remitting severance tax to the state of Kansas based on the value of condensate purchased from one of the Partnership’s Mid-Continent gathering fields and deducting the tax from its payments to the Partnership. The Kansas Department of Revenue advised the customer that it was appropriate to remit such taxes and withhold the taxes from its payments to the Partnership, absent an order or legal opinion from the Kansas Department of Revenue stating otherwise. The Partnership has requested a determination from the Kansas Department of Revenue regarding the matter since severance taxes were already paid on the gas from which the condensate is collected and no additional tax is due. The Kansas Department of Revenue has initiated an audit of the Partnership’s condensate sales in Kansas. If the Kansas Department of Revenue determines that the condensate sales are taxable, then the Partnership may be subject to additional taxes, interest and possible penalties for past and future condensate sales.
Caddo Gas Gathering LLC v. Regency Intrastate Gas LLC. Regency Intrastate Gas LLC was a defendant in a lawsuit filed by Caddo Gas Gathering LLC (“Caddo Gas”). In February 2010, the dispute was resolved and the lawsuit dismissed with prejudice without material expense.
Remediation of Groundwater Contamination at Calhoun and Dubach Plants. Regency Field Services LLC (“RFS”) currently owns the Dubach and Calhoun gas processing plants in north Louisiana (the “Plants”). The Plants each have a groundwater contamination as result of historical operations. At the time that RFS acquired the Plants from El Paso, Kerr-McGee Corporation (“Kerr-McGee”) was performing remediation of the groundwater contamination, because the Plants were once owned by Kerr-McGee and when Kerr-McGee sold the Plants to a predecessor of El Paso in 1988, Kerr-McGee retained liability for any environmental contamination at the Plants. In 2005, Kerr-McGee created and spun off Tronox and Tronox allegedly assumed certain of Kerr-McGee’s environmental remediation obligations (including its obligation to perform remediation at the Plants) prior to the acquisition of Kerr-McGee by Anadarko Petroleum Corporation. In January 2009, Tronox filed for Chapter 11 bankruptcy protection. RFS filed a claim in the bankruptcy proceeding relating to the environmental remediation work at the Plants. Tronox has thus far continued its remediation efforts at the Plants.
12. Series A Convertible Redeemable Preferred Units
On September 2, 2009, the Partnership issued 4,371,586 Series A Preferred Units at a price of $18.30 per unit, less a four percent discount of $3,200,000 and issuance costs of $176,000 for net proceeds of $76,624,000, exclusive of the General Partner’s contribution of $1,633,000. The Series A Preferred Units are convertible to common units under terms described below, and if outstanding, are mandatorily redeemable on September 2, 2029 for $80,000,000 plus all accrued but unpaid distributions thereon (the “Series A Liquidation Value”). The Series A Preferred Units will receive fixed quarterly cash distributions of $0.445 per unit beginning with the quarter ending March 31, 2010.
Distributions on the Series A Preferred Units will be accrued for the first two quarters (and not paid in cash) and will result in an increase in the number of common units issuable upon conversion. For the year ended December 31, 2009, total accrued distributions per unit was $0.89. If on any distribution payment date beginning March 31, 2010, the Partnership (1) fails to pay distributions on the Series A Preferred Units, (2) reduces the distributions on the common units to zero and (3) is prohibited by its material financing agreements from paying cash distributions, such distributions shall automatically accrue and accumulate until paid in cash. If the Partnership has failed to pay cash distributions in full for two quarters (whether or not consecutive) from and including the quarter ending on March 31, 2010, then if the Partnership fails to pay cash distributions on the Series A Preferred Units, all future distributions on the Series A Preferred Units that are accrued rather than being paid in cash by the Partnership will consist of the following: (1) $0.35375 per Series A Preferred Unit per quarter, (2) $0.09125 per Series A Preferred Unit per quarter (the “Common Unit Distribution Amount”), payable solely in common units, and (3) $0.09125 per Series A Preferred Unit per quarter (the “PIK Distribution Additional Amount”), payable solely in common units. The total number of common units payable in connection with the Common Unit Distribution Amount or the PIK Distribution Additional Amount cannot exceed 1,600,000 in any period of 20 consecutive fiscal quarters.
Upon the Partnership’s breach of certain covenants (a “Covenant Default”), the holders of the Series A Preferred Units will be entitled to an increase of $0.1825 per quarterly distribution, payable solely in common units (the “Covenant Default Additional Amount”). All accumulated and unpaid distributions will accrue interest (i) at a rate of 2.432 percent per quarter, or (ii) if the Partnership has failed to pay all PIK Distribution Additional Amounts or Covenant Default Additional Amounts or any Covenant Default has occurred and is continuing, at a rate of 3.429 percent per quarter while such failure to pay or such Covenant Default continues.
The Series A Preferred Units are convertible, at the holder’s option, into common units commencing on March 2, 2010, provided that the holder must request conversion of at least 375,000 Series A Preferred Units. The conversion price will initially be $18.30, subject to adjustment for customary events (such as unit splits) and until December 31, 2011, based on a weighted average formula in the event the Partnership issues any common units (or securities convertible or exercisable into common units) at a per common unit price below $16.47 per common unit (subject to typical exceptions). The number of common units issuable is equal to the issue price of the Series A Preferred Units (i.e. $18.30) being converted plus all accrued but unpaid distributions and accrued but unpaid interest thereon (the “Redeemable Face Amount”), divided by the applicable conversion price.
Commencing on September 2, 2014, if at any time the volume-weighted average trading price of the common units over the trailing 20-trading day period (the “VWAP Price”) is less than the then-applicable conversion price, the conversion ratio will be increased to: the quotient of (1) the Redeemable Face Amount on the date that the holder’s conversion notice is delivered, divided by (2) the product of (x) the VWAP Price set forth in the applicable conversion notice and (y) 91 percent, but will not be less than $10.
Also commencing on September 2, 2014, the Partnership will have the right at any time to convert all or part of the Series A Preferred Units into common units, if (1) the daily volume-weighted average trading price of the common units is greater than 150 percent of the then-applicable conversion price for twenty (20) out of the trailing thirty (30) trading days, and (2) certain minimum public float and trading volume requirements are satisfied.
In the event of a change of control, the Partnership will be required to make an offer to the holders of the Series A Preferred Units to purchase their Series A Preferred Units for an amount equal to 101 percent of their Series A Liquidation Value. In addition, in the event of certain business combinations or other transactions involving the Partnership in which the holders of common units receive cash consideration exclusively in exchange for their common units (a “Cash Event”), the Partnership must use commercially reasonable efforts to ensure that the holders of the Series A Preferred Units will be entitled to receive a security issued by the surviving entity in the Cash Event with comparable powers, preferences and rights to the Series A Preferred Units. If the Partnership is unable to ensure that the holders of the Series A Preferred Units will be entitled to receive such a security, then the Partnership will be required to make an offer to the holders of the Series A Preferred Units to purchase their Series A Preferred Units for an amount equal to 120 percent of their Series A Liquidation Value. If the Partnership enters into any recapitalization, reorganization, consolidation, merger, spin-off that is not a Cash Event, the Partnership will make appropriate provisions to ensure that the holders of the Series A Preferred Units receive a security with comparable powers, preferences and rights to the Series A Preferred Units upon consummation of such transaction. As disclosed in Note 17, a change in control of the General Partner occurred on May 26, 2010. Subsequent to the change in control no holders of these units have exercised this option.
As of December 31, 2009, accrued distributions of $3,891,000 have been added to the value of the Series A Preferred Units and increases the number of common units to 4,584,192 that may be issued upon conversion. Holders may elect to convert Series A Preferred Units to common units beginning on March 2, 2010.
Net proceeds from the issuance of Series A Preferred Units on September 2, 2009 was $76,624,000, of which $28,908,000 was allocated to the initial fair value of the embedded derivatives and recorded into long-term derivative liabilities on the balance sheet. The remaining $47,716,000 represented the initial value of the Series A Preferred Units and will be accreted to $80,000,000 by deducting the accretion amounts from partners’ capital over 20 years.
The following table provides a reconciliation of the beginning and ending balances of the Series A Preferred Units for all income statement periods presented.
Units | Amount (in thousands) | |||||
Beginning balance as of January 1, 2009 | — | $ | — | |||
Original issuance, net of discount of $3,200 | 4,371,586 | 76,624 | ||||
Amount reclassed to long-term derivative liabilities | — | (28,908 | ) | |||
Accrued distributions | — | 3,891 | ||||
Accretion to redemption value | — | 104 | ||||
Ending balance as of December 31, 2009 | 4,371,586 | $ | 51,711 | |||
13. Related Party Transactions
In September 2008, HM Capital Partners LLC and affiliates sold 7,100,000 common units for total consideration of $149,100,000, reducing their ownership percentage to an amount less than ten percent of the Partnership’s outstanding common units. As a result of this sale, HM Capital Partners LLC is no longer a related party of the Partnership. During the years ended December 31, 2008 and 2007, HM Capital Partners LLC and affiliates received cash disbursements, in conjunction with distributions by the Partnership for limited and general partner interests, of $10,308,000 and $24,392,000, respectively.
The employees operating the assets of the Partnership and its subsidiaries and all those providing staff or support services are employees of the General Partner. Pursuant to the Partnership Agreement, the General Partner receives a monthly reimbursement for all direct and indirect expenses incurred on behalf of the Partnership. Reimbursements of $33,834,000, $26,899,000, and $27,628,000, were recorded in the Partnership’s financial statements during the years ended December 31, 2009, 2008, and 2007, respectively, as operating expenses or general and administrative expenses, as appropriate.
Concurrent with the GE EFS Acquisition, eight members of the Partnership’s senior management, together with two independent directors, entered into an agreement to sell an aggregate of 1,344,551 subordinated units for a total consideration of $24.00 per unit. Additionally, GE EFS entered into a subscription agreement with four officers and certain other management of the Partnership whereby these individuals acquired an 8.2 percent indirect economic interest in the General Partner.
GE EFS and certain members of the Partnership’s management made capital contributions aggregating to $6,344,000, $11,746,000 and $7,735,000 to maintain the General Partner’s two percent interest in the Partnership for the years ended December 31, 2009, 2008, and 2007, respectively.
In conjunction with distributions by the Partnership to its limited and general partner interests, GE EFS received cash distributions of $51,226,000, $35,054,000, and $14,592,000 during the years ended December 31, 2009, 2008 and 2007, respectively.
As part of the August 1, 2008 common units offering, an affiliate of GECC purchased 2,272,727 common units for total consideration of $50,000,000.
The Partnership’s contract compression segment provided contract compression services to CDM MAX LLC (“CDM MAX”). In 2009, CDM MAX was purchased by a third party and, as a result, CDM MAX is no longer a related party. The Partnership’s related party revenue associated with CDM MAX was $1,101,000 and $3,712,000 during the years ended December 31, 2009 and 2008, respectively.
Under a Master Services Agreement with HPC, the Partnership operates and provides all employees and services for the operation and management of HPC. Under this agreement the Partnership received $500,000 monthly as a partial reimbursement of its general and administrative costs. The Partnership also incurs expenditures on behalf of HPC and these amounts are billed to HPC on a monthly basis. For the period from March 18, 2009 to December 31, 2009, the related party general and administrative expenses reimbursed to the Partnership were $4,726,000. On December 18, 2009, the reimbursement amount was amended to $1,400,000 per month effective on the first calendar day in the month subsequent to mechanical completion of the expansion of the Regency Intrastate Gas System (February 1, 2010), subject to an annual escalation beginning March 1, 2011. The amount is recorded as fee revenue in the Partnership’s corporate and other segment. Additionally, the Partnership’s contract compression segment provides contract compression services to HPC. On the other hand, HPC provides transportation service to the Partnership.
Upon the formation of HPC in March 2009, the Partnership was reimbursed by HPC for construction-in-progress incurred prior to formation of HPC at the cost of $80,608,000. Subsequently, the Partnership sold an additional $7,984,000 of compression equipment to HPC.
The Partnership’s related party receivables and related party payables as of December 31, 2009 relate to HPC. The Partnership’s related party receivables and related party payables as of December 31, 2008 related to CDM MAX.
As disclosed in Note 1 and in Note 4, the Partnership’s acquisition of FrontStreet and contribution of RIGS to HPC are related party transactions.
14. Concentration Risk
The following table provides information about the extent of reliance on major customers and gas suppliers. Total revenues and cost of sales from transactions with an external customer or supplier amounting to ten percent or more of revenue or cost of gas and liquids are disclosed below, together with the identity of the reporting segment.
Year Ended | |||||||||||
Reportable Segment | December 31, 2009 | December 31, 2008 | December 31, 2007 | ||||||||
(in thousands) | |||||||||||
Customer | |||||||||||
Customer A | Gathering and Processing | $ | 123,524 | * | * | ||||||
Supplier | |||||||||||
Supplier A | Transportation | $ | 14,053 | $ | 75,464 | $ | 17,930 | ||||
Supplier A | Gathering and Processing | 143,435 | 243,075 | 139,116 |
* | Amounts are less than ten percent of the total revenue or cost of sales. |
The Partnership is a party to various commercial netting agreements that allow it and contractual counterparties to net receivable and payable obligations. These agreements are customary and the terms follow standard industry practice. In the opinion of management, these agreements reduce the overall counterparty risk exposure.
15. Segment Information
In 2009, the Partnership’s management realigned the composition of its segments. Accordingly, the Partnership has restated the items of segment information for earlier periods to reflect this new alignment.
The Partnership has four reportable segments: (a) gathering and processing, (b) transportation, (c) contract compression and (d) corporate and others. Gathering and processing involves collecting raw natural gas from producer wells and transporting it to treating plants where water and other impurities such as hydrogen sulfide and carbon dioxide are removed. Treated gas is then processed to remove the natural gas liquids. The treated and processed natural gas is then transported to market separately from the natural gas liquids. Revenue and the associated cost of sales from the gathering and processing segment directly expose the Partnership to commodity price risk, which is managed through derivative contracts and other measures. The Partnership aggregates the results of its gathering and processing activities across five geographic regions into a single reporting segment. The Partnership, through its producer services function, primarily purchases natural gas from producers at gathering systems and plants connected to its pipeline systems and sells this gas at downstream outlets.
Following the initial contribution of RIG to HPC in March 2009, as well as the subsequent acquisition of an additional five percent interest in HPC, the transportation segment consists exclusively of the Partnership’s 43 percent interest in HPC, for which equity method accounting applies. Prior periods have been restated to reflect the Partnership’s then wholly-owned subsidiary of Regency Intrastate Gas LLC as the exclusive reporting unit within this segment. The transportation segment uses pipelines to transport natural gas from receipt points on its system to interconnections with other pipelines, storage facilities or end-use markets. RIG performs transportation services for shipping customers under firm or interruptible arrangements. In either case, revenue is primarily fee based and involves minimal direct exposure to commodity price fluctuations. The north Louisiana intrastate pipeline operated by this segment serves the Partnership’s gathering and processing facilities in the same area and those transactions create a portion of the intersegment revenue shown in the table below.
The contract compression segment provides customers with turn-key natural gas compression services to maximize their natural gas and crude oil production, throughput, and cash flow. The Partnership’s integrated solutions include a comprehensive assessment of a customer’s natural gas contract compression needs and the design and installation of a compression system that addresses those particular needs. The Partnership is responsible for the installation and ongoing operation, service, and repair of its compression units, which are modified as necessary to adapt to customers’ changing operating conditions. The contract compression segment also provides services to certain operations in the gathering and processing segment, creating a portion of the intersegment revenues shown in the table below.
The corporate and others segment comprises regulated entities and the Partnership’s corporate offices. Revenue in this segment includes the collection of the partial reimbursement of general and administrative costs from HPC.
Management evaluates the performance of each segment and makes capital allocation decisions through the separate consideration of segment margin and operation and maintenance expenses. Segment margin, for the gathering and processing and for the transportation segments, is defined as total revenue, including service fees, less cost of sales. In the contract compression segment, segment margin is defined as revenues minus direct costs, which primarily consist of compressor repairs. Management believes segment margin is an important measure because it directly relates to volume, commodity price changes and revenue generating horsepower. Operation and maintenance expenses are a separate measure used by management to evaluate performance of field operations. Direct labor, insurance, property taxes, repair and maintenance, utilities and contract services comprise the most significant portion of operation and maintenance expenses. These expenses fluctuate depending on the activities performed during a specific period. The Partnership does not deduct operation and maintenance expenses from total revenue in calculating segment margin because management separately evaluates commodity volume and price changes in segment margin.
Results for each income statement period, together with amounts related to balance sheets for each segment are shown below.
Gathering and Processing | Transportation | Contract Compression | Corporate and Others | Eliminations | Total | |||||||||||||||||
(in thousands) | ||||||||||||||||||||||
External Revenue | ||||||||||||||||||||||
Year ended December 31, 2009 | $ | 920,650 | $ | 9,078 | $ | 148,846 | $ | 10,923 | $ | — | $ | 1,089,497 | ||||||||||
Year ended December 31, 2008 | 1,685,946 | 42,400 | 132,549 | 2,909 | — | 1,863,804 | ||||||||||||||||
Year ended December 31, 2007 | 1,151,739 | 36,587 | — | 1,912 | — | 1,190,238 | ||||||||||||||||
Intersegment Revenue | ||||||||||||||||||||||
Year ended December 31, 2009 | (8,755 | ) | 4,933 | 4,604 | 296 | (1,078 | ) | — | ||||||||||||||
Year ended December 31, 2008 | 42,310 | 11,422 | 4,573 | 339 | (58,644 | ) | — | |||||||||||||||
Year ended December 31, 2007 | 26,165 | 12,391 | — | 281 | (38,837 | ) | — | |||||||||||||||
Cost of Sales | ||||||||||||||||||||||
Year ended December 31, 2009 | 681,383 | 2,297 | 12,422 | (65 | ) | 3,526 | 699,563 | |||||||||||||||
Year ended December 31, 2008 | 1,463,851 | (13,066 | ) | 11,619 | — | (54,071 | ) | 1,408,333 | ||||||||||||||
Year ended December 31, 2007 | 1,018,721 | (3,570 | ) | — | (169 | ) | (38,837 | ) | 976,145 | |||||||||||||
Segment Margin | ||||||||||||||||||||||
Year ended December 31, 2009 | 230,512 | 11,714 | 141,028 | 11,284 | (4,604 | ) | 389,934 | |||||||||||||||
Year ended December 31, 2008 | 264,405 | 66,888 | 125,503 | 3,248 | (4,573 | ) | 455,471 | |||||||||||||||
Year ended December 31, 2007 | 159,183 | 52,548 | — | 2,362 | — | 214,093 | ||||||||||||||||
Operation and Maintenance | ||||||||||||||||||||||
Year ended December 31, 2009 | 88,520 | 2,112 | 45,744 | 426 | (5,976 | ) | 130,826 | |||||||||||||||
Year ended December 31, 2008 | 82,689 | 3,540 | 49,799 | 74 | (4,473 | ) | 131,629 | |||||||||||||||
Year ended December 31, 2007 | 53,496 | 4,407 | — | 97 | — | 58,000 | ||||||||||||||||
Depreciation and Amortization | ||||||||||||||||||||||
Year ended December 31, 2009 | 67,583 | 2,448 | 36,548 | 3,314 | — | 109,893 | ||||||||||||||||
Year ended December 31, 2008 | 58,900 | 14,099 | 28,448 | 1,119 | — | 102,566 | ||||||||||||||||
Year ended December 31, 2007 | 40,309 | 13,457 | — | 1,308 | — | 55,074 | ||||||||||||||||
Income from Unconsolidated | ||||||||||||||||||||||
Subsidiary | ||||||||||||||||||||||
Year ended December 31, 2009 | — | 7,886 | — | — | — | 7,886 | ||||||||||||||||
Year ended December 31, 2008 | — | — | — | — | — | — | ||||||||||||||||
Year ended December 31, 2007 | — | — | — | — | — | — | ||||||||||||||||
Assets | ||||||||||||||||||||||
December 31, 2009 | 1,046,619 | 453,120 | 926,213 | 107,463 | — | 2,533,415 | ||||||||||||||||
December 31, 2008 | 1,101,906 | 325,310 | 881,552 | 149,872 | — | 2,458,640 | ||||||||||||||||
Investment in Unconsolidated Subsidiary | ||||||||||||||||||||||
December 31, 2009 | — | 453,120 | — | — | — | 453,120 | ||||||||||||||||
December 31, 2008 | — | — | — | — | — | — | ||||||||||||||||
Goodwill | ||||||||||||||||||||||
December 31, 2009 | 63,232 | — | 164,882 | — | — | 228,114 | ||||||||||||||||
December 31, 2008 | 63,232 | 34,244 | 164,882 | — | — | 262,358 | ||||||||||||||||
Expenditures for Long-Lived Assets | ||||||||||||||||||||||
Year ended December 31, 2009 | 84,097 | 22,367 | 83,707 | 2,912 | — | 193,083 | ||||||||||||||||
Year ended December 31, 2008 | 124,736 | 59,231 | 186,063 | 5,053 | — | 375,083 | ||||||||||||||||
Year ended December 31, 2007 | 112,813 | 15,658 | — | 1,313 | — | 129,784 |
The table below provides a reconciliation of total segment margin to net income (loss) from continuing operations.
Year Ended | ||||||||||||
December 31, 2009 | December 31, 2008 | December 31, 2007 | ||||||||||
(in thousands) | ||||||||||||
Net income (loss) attributable to Regency GP LP | $ | 5,252 | $ | 9,967 | $ | (393 | ) | |||||
Add (deduct): | ||||||||||||
Operation and maintenance | 130,826 | 131,629 | 58,000 | |||||||||
General and administrative | 57,863 | 51,323 | 39,713 | |||||||||
(Gain) loss on assets sales | (133,284 | ) | 472 | 1,522 | ||||||||
Management services termination fee | — | 3,888 | — | |||||||||
Transaction expenses | — | 1,620 | 420 | |||||||||
Depreciation and amortization | 109,893 | 102,566 | 55,074 | |||||||||
Income from unconsolidated subsidiary | (7,886 | ) | — | — | ||||||||
Interest expense, net | 77,996 | 63,243 | 52,016 | |||||||||
Loss on debt refinancing | — | — | 21,200 | |||||||||
Other income and deductions, net | 15,132 | (332 | ) | (1,252 | ) | |||||||
Income tax (benefit) expense | (1,095 | ) | (266 | ) | 931 | |||||||
Net (income) loss attributable to noncontrolling interest | 135,237 | 91,361 | (13,138 | ) | ||||||||
Total segment margin | $ | 389,934 | $ | 455,471 | $ | 214,093 | ||||||
16. Equity-Based Compensation
Common Unit Option and Restricted (Non-Vested) Units.The Partnership’s Long-Term Incentive Plan (“LTIP”) for the Partnership’s employees, directors and consultants covers an aggregate of 2,865,584 common units. Awards under the LTIP have been made since completion of the Partnership’s IPO. All outstanding, unvested LTIP awards at the time of the GE EFS Acquisition vested upon the change of control. As a result, the Partnership recorded a one-time charge of $11,928,000 during the year ended December 31, 2007 that was recorded in general and administrative expenses. LTIP awards made subsequent to the GE EFS Acquisition generally vest on the basis of one-fourth of the award each year. Options expire ten years after the grant date. LTIP compensation expense of $5,590,000, $4,318,000, and $15,534,000, is recorded in general and administrative in the statement of operations for the years ended December 31, 2009, 2008, and 2007, respectively.
The fair value of each option award is estimated on the date of grant using the Black-Scholes Option Pricing Model. The Partnership used the simplified method outlined in Staff Accounting Bulletin No. 107 for estimating the exercise behavior of option grantees, given the absence of historical exercise data to provide a reasonable basis upon which to estimate expected term due to the limited period of time its units have been publicly traded. Upon the exercise of the common unit options, the Partnership intends to settle these obligations with new issues of common units on a net basis. The following assumptions apply to the options granted during the year ended December 31, 2007.
For the Year Ended December 31, 2007 | ||||
Weighted average expected life (years) | 4 | |||
Weighted average expected dividend per unit | $ | 1.51 | ||
Weighted average grant date fair value of options | $ | 2.31 | ||
Weighted average risk free rate | 4.60 | % | ||
Weighted average expected volatility | 16.0 | % | ||
Weighted average expected forfeiture rate | 11.0 | % |
The common unit options activity for the years ended December 31, 2009, 2008, and 2007 is as follows.
2009 | |||||||||||
Common Unit Options | Units | Weighted Average | Weighted Average (Years) | Aggregate (in thousands) | |||||||
Outstanding at the beginning of period | 431,918 | $ | 21.31 | ||||||||
Granted | — | — | |||||||||
Exercised | — | — | $ | — | |||||||
Forfeited or expired | (125,267 | ) | 20.87 | ||||||||
Outstanding at end of period | 306,651 | 21.50 | 6.3 | 184 | |||||||
Exercisable at the end of the period | 306,651 | 184 | |||||||||
2008 | |||||||||||
Common Unit Options | Units | Weighted Average | Weighted Average (Years) | Aggregate (in thousands) | |||||||
Outstanding at the beginning of period | 738,668 | $ | 21.05 | ||||||||
Granted | — | — | |||||||||
Exercised | (245,150 | ) | 20.55 | $ | 1,719 | ||||||
Forfeited or expired | (61,600 | ) | 21.11 | ||||||||
Outstanding at end of period | 431,918 | 21.31 | 7.3 | — | |||||||
Exercisable at the end of the period | 431,918 | — | |||||||||
2007 | |||||||||||
Common Unit Options | Units | Weighted Average | Weighted Average (Years) | Aggregate (in thousands) | |||||||
Outstanding at the beginning of period | 909,600 | $ | 21.06 | ||||||||
Granted | 21,500 | 27.18 | |||||||||
Exercised | (149,934 | ) | 21.78 | $ | 1,738 | ||||||
Forfeited or expired | (42,498 | ) | 21.85 | ||||||||
Outstanding at end of period | 738,668 | 21.05 | 8.2 | 9,104 | |||||||
Exercisable at the end of the period | 738,668 | 9,104 |
* | Intrinsic value equals the closing market price of a unit less the option strike price, multiplied by the number of unit options outstanding as of the end of the period presented. Unit options with an exercise price greater than the end of the period closing market price are excluded. |
The restricted (non-vested) common unit activity for the years ended December 31, 2009, 2008, and 2007 is as follows.
2009 | ||||||
Restricted (Non-Vested) Common Units | Units | Weighted Average | ||||
Outstanding at the beginning of the period | 704,050 | $ | 29.26 | |||
Granted | 24,500 | 11.13 | ||||
Vested | (176,291 | ) | 29.78 | |||
Forfeited or expired | (88,250 | ) | 27.96 | |||
Outstanding at the end of period | 464,009 | 28.36 | ||||
2008 | ||||||
Restricted (Non-Vested) Common Units | Units | Weighted Average | ||||
Outstanding at the beginning of the period | 397,500 | $ | 31.62 | |||
Granted | 477,800 | 27.99 | ||||
Vested | (90,500 | ) | 31.63 | |||
Forfeited or expired | (80,750 | ) | 30.66 | |||
Outstanding at the end of period | 704,050 | 29.26 | ||||
2007 | ||||||
Restricted (Non-Vested) Common Units | Units | Weighted Average | ||||
Outstanding at the beginning of the period | 516,500 | $ | 21.06 | |||
Granted | 615,500 | 30.44 | ||||
Vested | (684,167 | ) | 22.91 | |||
Forfeited or expired | (50,333 | ) | 27.20 | |||
Outstanding at the end of period | 397,500 | 31.62 | ||||
The Partnership will make distributions to non-vested restricted common units at the same rate and on the same dates as the common units. Restricted common units are subject to contractual restrictions against transfer which lapse over time; non-vested restricted units are subject to forfeitures on termination of employment. As further disclosed in Note 17, due to the change in control of the General Partner, in May 2010, the Partnership recorded a one-time general and administrative charge of $9,893,000 as a result of the vesting of these LTIP units.
Phantom Units. During 2009, the Partnership awarded 308,200 phantom units to senior management and certain key employees. These phantom units are in substance two grants composed of (1) service condition grants (also defined as “time-based grants” in the LTIP plan document) with graded vesting occurring on March 15 of each of the following three years; and (2) market condition grants (also defined as “performance-based grants” in the LTIP plan document) with cliff vesting based upon the Partnership’s relative ranking in total unitholder return among 20 peer companies, which peer companies are disclosed in Item 11 of the Partnership’s Annual Report on Form 10-K for the year ended December 31, 2009. At the end of the measurement period (March 15, 2012) for the market condition grants, the phantom units will convert to common units in a ratio ranging from 0 to 150 percent. Upon a change in control, the market condition based grants will convert to common units at 150 percent and the service condition grants will convert to common on a one-for-one basis. For both the service condition grants and the market condition grants, distributions will be accumulated from the grant date and paid upon vesting at the same rate as the common units.
In determining the grant date fair value, the grant date closing price of the Partnership’s common units on NASDAQ was used for the service condition awards. For the market condition awards, a Monte Carlo simulation was performed which incorporated variables mainly including the unit price volatility and the grant-date closing price of the Partnership’s common units on NASDAQ.
During the year ended December 31, 2009, the Partnership recognized $418,000 of expense, which was reflected in general and administrative expense in the statement of operations. As further disclosed in Note 17, due to the change in control of the General Partner, all outstanding phantom units described below vested on May 26, 2010.
The following table presents phantom unit activity for the year ended December 31, 2009.
Phantom Units | Units | Weighted Average | ||||
Outstanding at the beginning of the period | — | $ | — | |||
Service condition grants | 133,480 | 13.43 | ||||
Market condition grants | 174,720 | 4.64 | ||||
Vested service condition | — | — | ||||
Vested market condition | — | — | ||||
Forfeited service condition | (2,600 | ) | 12.46 | |||
Forfeited market condition | (3,900 | ) | 4.49 | |||
Total outstanding at end of period | 301,700 | 8.63 | ||||
17. Subsequent Events
Subsidiary distributions. On January 26, 2010, the Partnership declared a distribution of $0.445 per outstanding common unit including units equivalent to the General Partner’s two percent interest in the Partnership, and a distribution of approximately $728,000, with respect to incentive distribution rights, that was paid on February 12, 2010 to unitholders of record at the close of business on February 5, 2010.
On April 26, 2010, the Partnership declared a distribution of $0.445 per outstanding common unit and Series A Preferred Unit, including units equivalent to the General Partner’s two percent interest in the Partnership, and a distribution of approximately $713,000, with respect to incentive distribution rights, that was paid on May 14, 2010, to unitholders of record at the close of business on May 7, 2010.
On July 27, 2010, the Partnership declared a distribution of $0.445 per outstanding common unit and Series A Preferred Unit, including units equivalent to the General Partner’s two percent interest in the Partnership, and a distribution with respect to incentive distribution rights of approximately $915,000, payable on August 13, 2010, to unitholders of record at the close of business on August 6, 2010.
Escrow Payable.In connection with the El Paso PSA, $500,000 was released on May 6, 2010.
Keyes Litigation. On May 7, 2010, the jury rendered a verdict in favor of the Partnership. No damages were awarded to the Keyes. Keyes has appealed the verdict. The hearing on appeal will take place sometime in 2011.
Revolving Credit Facility. On March 4, 2010, RGS executed the Fifth Amended and Restated Credit Agreement (the “new credit agreement”), to be effective as of March 4, 2010. The material differences between the Fourth Amended and Restated Credit Agreement (the “previous credit agreement”) and the new credit agreement include:
• | The extension of the maturity date to June 15, 2014 from August 15, 2011, subject to the following contingency: |
• | If the Partnership’s 8.375 percent senior notes due December 15, 2013 have not been refinanced or paid off by June 15, 2013, then the maturity date of the revolving credit facility will be June 15, 2013; |
• | An increase in the amount of allowed investments in HPC to $250,000,000 from $135,000,000; |
• | The addition of an allowance for joint venture investments (other than HPC) of up to $75,000,000, provided that (i) distributed cash and net income from joint ventures under this basket shall be excluded from consolidated net income and (ii) equity interests in joint ventures created under this basket shall be pledged as collateral; |
• | The modification of financial covenants to give credit for projected EBITDA associated with certain future material HPC projects on a percentage of completion basis, provided that such amount, together with adjustments related to the Haynesville Expansion Project and other material projects, does not exceed 20 percent of consolidated EBITDA (as defined in the new credit agreement) through March 31, 2010, and 15 percent thereafter; |
• | An increase in the annual general asset sales permitted from $20,000,000 annually to five percent of consolidated net tangible assets (as defined in the new credit agreement) annually. |
The new credit agreement and the guarantees are senior to the Partnership’s and the guarantors’ secured obligations, including the Series A Preferred Units, to the extent of the value of the assets securing such obligations. As of March 31, 2010, the Partnership was in compliance with all of the financial covenants contained within the new credit agreement.
The Partnership treated the amendment of the credit facility as a modification of an existing revolving credit agreement and, therefore, recorded a write-off of debt issuance costs of $1,780,000 that was recorded to interest expense, net in the three months ended March 31, 2010. In addition, the Partnership paid and capitalized $15,272,000 loan fees which will be amortized over the remaining term of the credit facility.
On May 26, 2010, the Partnership amended its credit facility to, among other things:
• | amend the definitions of “Consolidated EBITDA” and “Consolidated Net Income” in the Credit Agreement to include Midcontinent Express Pipeline, LLC (“MEP”); |
• | amend the definition of “Joint Venture” in the Credit Agreement to include MEP; |
• | amend the definition of “Permitted Acquisition” in the Credit Agreement to clarify that the initial investment in MEP is a permitted acquisition under the terms of the Credit Agreement; |
• | amend the definition of “Permitted Holders” in the Credit Agreement to include Energy Transfer Equity, L.P. (“ETE”) as a party that may hold the equity interests in the Managing General Partner (as defined below) without triggering an event of default under the Credit Agreement; |
• | amend Section 5.11(b) of the Credit Agreement to provide that the Partnership’s equity interests in MEP will be pledged as collateral under the Credit Agreement (but only indirectly through the direct pledge of equity interests in Regency Midcontinent Express LLC (“Regency Midcon”), ETC Midcontinent Express Pipeline III L.L.C. (“ETC III”) and, to the extent applicable, ETC Midcontinent Express Pipeline II L.L.C. (“ETC II”); |
• | amend Section 6.04 of the Credit Agreement to permit certain investments in MEP by the Partnership and its affiliates; |
• | amend Section 6.09 of the Credit Agreement to include the investments in MEP and related agreements as permitted affiliate transactions; and |
• | amend Section 6.10(c) of the Credit Agreement to require that the Borrower and its subsidiaries maintain a senior secured leverage ratio not to exceed 3.00 to 1.00. |
HPC Purchase. On April 30, 2010, the Partnership purchased 76,989 units representing general partner interests in HPC for an aggregate purchase price of $92,087,000 from EFS Haynesville, an affiliate of GECC and the Partnership. This purchase was funded using the Partnership’s revolving credit facility and it increased the Partnership’s ownership percentage in HPC from 43 percent to approximately 49.99 percent. The Partnership and EFS Haynesville also entered into a Voting Agreement which grants the Partnership the right to vote the general partner interest in HPC retained by EFS Haynesville. Because this transaction occurred between two entities that are under common control, partners’ capital will be reduced by a deemed distribution of the excess purchase price over EFS Haynesville’s carrying amount during the second quarter of 2010.
Transfer of GP Interest. On May 26, 2010, Regency GP Acquirer, L.P. (the “GP Seller”) completed the sale of all of the outstanding membership interests in Regency GP LLC (the “Managing General Partner”) and all of the outstanding limited partners’ interests in the General Partner pursuant to a Purchase Agreement (the “Purchase Agreement”) among itself, ETE and ETE GP Acquirer LLC.
Prior to the closing of the transactions under the Purchase Agreement, GP Seller, an affiliate of GE EFS, owned all the outstanding limited partners’ interests in the General Partner, which is the sole general partner of the Partnership, and the entire member’s interest in the Managing General Partner, which is the sole general partner of the General Partner and by virtue of that position controlled the Partnership.
While none of the Partnership, Managing General Partner or General Partner was a party to the Purchase Agreement, the Partnership has been advised that:
• | GP Seller received preferred units in ETE with a value of approximately $300,000,000; |
• | the approximately 24.7 million common units in the Partnership held by affiliates of GE EFS continue to be held by such affiliates and were not a part of this transaction; and |
• | the parties entered into an Investor Rights Agreement with respect to certain representation rights on the Board of Directors of the Managing General Partner, as described below. |
As a result of this transaction, control of the Partnership has been transferred from GE EFS to ETE and the Partnership recorded a one time general and administrative charge of $9,893,000 as a result of the vesting of LTIP units in May 2010.
On May 26, 2010, the Partnership entered into the GP Seller Registration Rights Agreement. Under the GP Seller Registration Rights Agreement, the Partnership granted to the GP Seller certain registration rights, including rights to cause the Partnership to file with the SEC a shelf registration statement under the Securities Act with respect to resales of the Partnership common units owned by the GP Seller. The GP Seller Registration Rights Agreement also contains customary provisions regarding rights of indemnification between the parties with respect to certain applicable securities law liabilities.
MEP Purchase. On May 10, 2010, the Partnership, Regency Midcon and ETE entered into the Contribution Agreement, pursuant to which, following the closing of the transactions:
• | ETE agreed to contribute to the Partnership (through Regency Midcon), |
• | 100 percent of the membership interests in ETC III, and |
• | an option to purchase all of the outstanding membership interests in ETC II, that is exercisable one year and one day following the closing; and |
• | the Partnership agreed to issue 26,266,791 of its common units to ETE valued at approximately $600,000,000 based on a 10-day volume weighted average closing price of the Partnership’s common units as of May 4, 2010. The consideration payable under the Contribution Agreement is subject to a purchase price adjustment, payable in cash, based on changes in the working capital and long-term debt levels of MEP from those as of January 1, 2010 and any capital expenditures made by MEP after January 1, 2010. |
ETC III and ETC II own a 49.9 percent and 0.1 percent membership interest in MEP, respectively.
The transactions contemplated by the Contribution Agreement were completed on May 26, 2010. At the closing of these transactions, (i) the Partnership issued 26,266,791 of its common units to ETE in a private placement, relying on Section 4(2) of the Securities Act of 1933, as amended (the “Securities Act”), and (ii) ETE paid $20,283,216 in cash to the Partnership as an estimated purchase price adjustment. The consideration is subject to further post-closing adjustment. Following completion of these transactions, the Partnership indirectly owns 49.9 percent of MEP and has an option to acquire an indirect .1 percent interest in MEP (as described above) that is exercisable on May 27, 2011. An affiliate of Kinder Morgan Energy Partners, L.P. continues to own the other 50 percent interest in MEP.
On May 26, 2010, the Partnership entered into the ETE Registration Rights Agreement with ETE. Under the ETE Registration Rights Agreement, the Partnership granted to ETE certain registration rights, including rights to cause the Partnership to file with the SEC a shelf registration statement under the Securities Act with respect to resales of the Partnership common units acquired by ETE under the Contribution Agreement. The ETE Registration Rights Agreement also contains customary provisions regarding rights of indemnification between the parties with respect to certain applicable securities law liabilities.
Immediately following the closing of the transactions contemplated by the Purchase Agreement and the Contribution Agreement described above, ETE beneficially owned 26,266,791 of the Partnership’s common units (or approximately 21.99% of the Partnership’s outstanding common units) and owned 100% of the interests in the Managing General Partner and the General Partner.
Services Agreement. On May 26, 2010, the Partnership entered into the Services Agreement with ETE and ETE Services Company, LLC (“Services Co.”). Under the Services Agreement, Services Co. will perform certain general and administrative services to be agreed upon by the parties. The Partnership will pay Services Co.’s direct expenses for the provision of these services, plus an annual fee of $10,000,000, and the Partnership will receive the benefit of any cost savings recognized for these services. The Services Agreement has a five-year term, subject to earlier termination rights in the event of a change of control of a party, the failure to achieve certain costs savings for the benefit of the Partnership or upon an event of default.
Disposition.On July 15, 2010, the Partnership sold its gathering and processing assets located in east Texas to an affiliate of Tristream Energy LLC for approximately $70,000,000. The Partnership plans to use the proceeds from the sale of the assets to fund future capital expenditures.
Zephyr Acquisition. On September 1, 2010, the Partnership acquired Zephyr Gas Services, LLC, a field services company for approximately $185,000,000.
Equity Offering. On August 16, 2010, the Partnership issued 17,537,500 common units representing limited partner interests at $23.80 per common unit.
Management has evaluated subsequent events from the balance sheet date through September 13, 2010, the date the financial statements were available to be issued.