UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
Form 10-Q
x | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the quarterly period ended June 30, 2014
OR
o | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
Commission File Number 001-33016
EAGLE ROCK ENERGY PARTNERS, L.P.
(Exact name of registrant as specified in its charter)
Delaware | 68-0629883 | |
(State or other jurisdiction of incorporation or organization) | (I.R.S. Employer Identification Number) |
1415 Louisiana Street, Suite 2700
Houston, Texas 77002
(Address of principal executive offices, including zip code)
(281) 408-1200
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No o
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Large accelerated Filer x | Accelerated Filer o |
Non-accelerated Filer o | Smaller reporting company o |
(Do not check if a smaller reporting company)
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No x
The issuer had 159,865,760 common units outstanding as of July 28, 2014.
TABLE OF CONTENTS
Page | ||
PART I. FINANCIAL INFORMATION | ||
Item 1. | Financial Statements | |
Unaudited Condensed Consolidated Balance Sheets as of June 30, 2014 and December 31, 2013 | ||
Unaudited Condensed Consolidated Statements of Operations for the three and six months ended June 30, 2014 and 2013 | ||
Unaudited Condensed Consolidated Statement of Members' Equity for the six months ended June 30, 2014 | ||
Unaudited Condensed Consolidated Statements of Cash Flows for the six months ended June 30, 2014 and 2013 | ||
Notes to Unaudited Condensed Consolidated Financial Statements | ||
Item 2. | Management's Discussion and Analysis of Financial Condition and Results of Operations | |
Item 3. | Quantitative and Qualitative Disclosures About Market Risk | |
Item 4. | Controls and Procedures | |
PART II. OTHER INFORMATION | ||
Item 1. | Legal Proceedings | |
Item 1A. | Risk Factors | |
Item 2. | Unregistered Sales of Equity Securities and Use of Proceeds | |
Item 3. | Defaults Upon Senior Securities | |
Item 4. | Mine Safety Disclosures | |
Item 5. | Other Information | |
Item 6. | Exhibits |
1
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
EAGLE ROCK ENERGY PARTNERS, L.P.
UNAUDITED CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands, except unit amounts)
June 30, 2014 | December 31, 2013 | ||||||
ASSETS | |||||||
CURRENT ASSETS: | |||||||
Cash and cash equivalents | $ | 741 | $ | 76 | |||
Accounts receivable (a) | 34,785 | 17,250 | |||||
Risk management assets | 18 | 5,559 | |||||
Prepayments and other current assets | 13,316 | 6,123 | |||||
Assets held for sale | 1,211,230 | 1,259,382 | |||||
Total current assets | 1,260,090 | 1,288,390 | |||||
PROPERTY, PLANT AND EQUIPMENT — Net | 859,895 | 824,451 | |||||
INTANGIBLE ASSETS — Net | 3,170 | 3,268 | |||||
DEFERRED TAX ASSET | 2,224 | 1,438 | |||||
RISK MANAGEMENT ASSETS | 66 | 3,871 | |||||
OTHER ASSETS | 5,320 | 6,132 | |||||
TOTAL | $ | 2,130,765 | $ | 2,127,550 | |||
LIABILITIES AND MEMBERS' EQUITY | |||||||
CURRENT LIABILITIES: | |||||||
Accounts payable | $ | 72,460 | $ | 50,158 | |||
Accrued liabilities | 11,075 | 23,162 | |||||
Taxes payable | — | 149 | |||||
Risk management liabilities | 14,467 | 8,360 | |||||
Current portion of long-term debt | 439,000 | — | |||||
Liabilities held for sale | 626,732 | 637,738 | |||||
Total current liabilities | 1,163,734 | 719,567 | |||||
LONG-TERM DEBT | 380,712 | 757,480 | |||||
ASSET RETIREMENT OBLIGATIONS | 47,241 | 37,306 | |||||
DEFERRED TAX LIABILITY | 33,566 | 34,097 | |||||
RISK MANAGEMENT LIABILITIES | 8,011 | 2,826 | |||||
OTHER LONG TERM LIABILITIES | 4,499 | 2,395 | |||||
COMMITMENTS AND CONTINGENCIES (Note 12) | |||||||
MEMBERS' EQUITY (b) | 493,002 | 573,879 | |||||
TOTAL | $ | 2,130,765 | $ | 2,127,550 |
________________________
(a) | Net of allowance for bad debt of $902 as of June 30, 2014 and $931 as of December 31, 2013. |
(b) | 157,354,239 and 156,644,153 common units were issued and outstanding as of June 30, 2014 and December 31, 2013, respectively. These amounts do not include unvested restricted common units granted under the Partnership's long-term incentive plan of 2,510,221 and 2,743,807 as of June 30, 2014 and December 31, 2013, respectively. |
See accompanying notes to unaudited condensed consolidated financial statements.
2
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except per unit amounts)
Three Months Ended June 30, | Six Months Ended June 30, | |||||||||||||||
2014 | 2013 | 2014 | 2013 | |||||||||||||
REVENUE: | ||||||||||||||||
Natural gas, natural gas liquids, oil, condensate and sulfur | $ | 51,967 | $ | 49,252 | $ | 107,051 | $ | 96,057 | ||||||||
Commodity risk management losses, net | (18,081 | ) | 17,338 | (28,114 | ) | 10,502 | ||||||||||
Other revenue | 158 | 76 | 310 | 573 | ||||||||||||
Total revenue | 34,044 | 66,666 | 79,247 | 107,132 | ||||||||||||
COSTS AND EXPENSES: | ||||||||||||||||
Operations and maintenance | 10,907 | 9,579 | 22,405 | 21,279 | ||||||||||||
Taxes other than income | 3,596 | 3,583 | 7,387 | 5,999 | ||||||||||||
General and administrative | 12,005 | 13,341 | 25,295 | 26,651 | ||||||||||||
Impairment | — | 1,839 | — | 1,839 | ||||||||||||
Depreciation, depletion and amortization | 20,299 | 22,060 | 40,705 | 43,356 | ||||||||||||
Total costs and expenses | 46,807 | 50,402 | 95,792 | 99,124 | ||||||||||||
OPERATING (LOSS) INCOME | (12,763 | ) | 16,264 | (16,545 | ) | 8,008 | ||||||||||
OTHER INCOME (EXPENSE): | ||||||||||||||||
Interest expense, net | (4,948 | ) | (4,499 | ) | (9,702 | ) | (9,564 | ) | ||||||||
Interest rate risk management losses, net | (571 | ) | (151 | ) | (861 | ) | (307 | ) | ||||||||
Other income (expense), net | 2 | (27 | ) | 3 | (35 | ) | ||||||||||
Total other expense | (5,517 | ) | (4,677 | ) | (10,560 | ) | (9,906 | ) | ||||||||
(LOSS) INCOME BEFORE INCOME TAXES | (18,280 | ) | 11,587 | (27,105 | ) | (1,898 | ) | |||||||||
INCOME TAX BENEFIT | (885 | ) | (544 | ) | (1,750 | ) | (2,105 | ) | ||||||||
(LOSS) INCOME FROM CONTINUING OPERATIONS | (17,395 | ) | 12,131 | (25,355 | ) | 207 | ||||||||||
DISCONTINUED OPERATIONS, NET OF TAX | (25,646 | ) | 3,901 | (36,249 | ) | (17,689 | ) | |||||||||
NET (LOSS) INCOME | $ | (43,041 | ) | $ | 16,032 | $ | (61,604 | ) | (17,482 | ) |
NET (LOSS) INCOME PER COMMON UNIT—BASIC AND DILUTED: | ||||||||||||||||
Income from Continuing Operations | ||||||||||||||||
Common units - Basic | $ | (0.11 | ) | $ | 0.07 | $ | (0.16 | ) | $ | (0.01 | ) | |||||
Common units - Diluted | $ | (0.11 | ) | $ | 0.07 | $ | (0.16 | ) | $ | (0.01 | ) | |||||
Discontinued Operations | ||||||||||||||||
Common units - Basic | $ | (0.16 | ) | $ | 0.03 | $ | (0.23 | ) | $ | (0.12 | ) | |||||
Common units - Diluted | $ | (0.16 | ) | $ | 0.03 | $ | (0.23 | ) | $ | (0.12 | ) | |||||
Net (Loss) Income | ||||||||||||||||
Common units - Basic and diluted | $ | (0.27 | ) | $ | 0.10 | $ | (0.39 | ) | $ | (0.13 | ) | |||||
Common units - Diluted | $ | (0.27 | ) | $ | 0.10 | $ | (0.39 | ) | $ | (0.13 | ) | |||||
Weighted Average Units Outstanding | ||||||||||||||||
Common units - Basic and diluted | 156,955 | 155,269 | 156,802 | 150,860 | ||||||||||||
Common units - Diluted | 156,955 | 156,710 | 156,802 | 150,860 |
See accompanying notes to unaudited condensed consolidated financial statements.
3
UNAUDITED CONDENSED CONSOLIDATED STATEMENT OF MEMBERS’ EQUITY
FOR THE SIX MONTHS ENDED JUNE 30, 2014
($ in thousands, except unit amounts)
Number of Common Units | Common Units | Total | ||||||||
BALANCE — December 31, 2013 | 156,644,153 | $ | 573,879 | $ | 573,879 | |||||
Net loss | — | (61,604 | ) | (61,604 | ) | |||||
Distributions | — | (23,801 | ) | (23,801 | ) | |||||
Vesting of restricted units | 963,392 | — | — | |||||||
Repurchase of common units | (253,306 | ) | (1,084 | ) | (1,084 | ) | ||||
Equity based compensation | — | 5,612 | 5,612 | |||||||
BALANCE — June 30, 2014 | 157,354,239 | $ | 493,002 | $ | 493,002 |
See accompanying notes to unaudited condensed consolidated financial statements.
4
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
($ in thousands)
Six Months Ended June 30, | |||||||
2014 | 2013 | ||||||
CASH FLOWS FROM OPERATING ACTIVITIES: | |||||||
Net loss | $ | (61,604 | ) | $ | (17,482 | ) | |
Adjustments to reconcile net loss to net cash provided by operating activities: | |||||||
Discontinued operations | 36,249 | 17,689 | |||||
Depreciation, depletion and amortization | 40,705 | 43,356 | |||||
Impairment | — | 1,839 | |||||
Amortization of debt issuance costs | 1,269 | 966 | |||||
Loss from risk management activities, net | 28,975 | (10,195 | ) | ||||
Derivative settlements | (5,314 | ) | 5,024 | ||||
Equity-based compensation | 4,042 | 4,705 | |||||
Other | (139 | ) | 818 | ||||
Changes in assets and liabilities—net of acquisitions: | |||||||
Accounts receivable | (17,535 | ) | 8,671 | ||||
Prepayments and other current assets | (7,193 | ) | (2,460 | ) | |||
Accounts payable | 7,704 | 2,817 | |||||
Accrued liabilities | (496 | ) | 1,005 | ||||
Other assets | (15 | ) | 1,110 | ||||
Other current liabilities | (974 | ) | (779 | ) | |||
Net cash provided by operating activities | 25,674 | 57,084 | |||||
CASH FLOWS FROM INVESTING ACTIVITIES: | |||||||
Additions to property, plant and equipment | (63,789 | ) | (83,395 | ) | |||
Net cash used in investing activities | (63,789 | ) | (83,395 | ) | |||
CASH FLOWS FROM FINANCING ACTIVITIES: | |||||||
Proceeds from long-term debt | 315,150 | 316,700 | |||||
Repayment of long-term debt | (252,950 | ) | (312,200 | ) | |||
Payment of debt issuance costs | (410 | ) | — | ||||
Proceeds from derivative contracts | (3,425 | ) | 877 | ||||
Common unit issued in equity offerings | — | 102,388 | |||||
Issuance costs for equity offerings | — | (4,181 | ) | ||||
Repurchase of common units | (1,084 | ) | (1,000 | ) | |||
Distributions to members and affiliates | (23,801 | ) | (67,117 | ) | |||
Net cash provided by financing activities | 33,480 | 35,467 | |||||
CASH FLOWS FROM DISCONTINUED OPERATIONS: | |||||||
Operating activities | 29,580 | 47,990 | |||||
Investing activities | (24,280 | ) | (57,076 | ) | |||
Net cash provided by (used in) discontinued operations | 5,300 | (9,086 | ) | ||||
NET INCREASE IN CASH AND CASH EQUIVALENTS | 665 | 70 | |||||
CASH AND CASH EQUIVALENTS—Beginning of period | 76 | 25 | |||||
CASH AND CASH EQUIVALENTS—End of period | $ | 741 | $ | 95 | |||
NONCASH INVESTING AND FINANCING ACTIVITIES: | |||||||
Investments in property, plant and equipment, not paid | $ | 22,304 | $ | 14,869 | |||
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION: | |||||||
Interest paid—net of amounts capitalized | $ | 35,020 | $ | 29,633 | |||
Cash paid for taxes | $ | — | $ | 59 |
See accompanying notes to unaudited condensed consolidated financial statements.
5
EAGLE ROCK ENERGY PARTNERS, L.P.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1. ORGANIZATION AND DESCRIPTION OF BUSINESS
Description of Business—Eagle Rock Energy Partners, L.P. ("Eagle Rock Energy" or the "Partnership") is a growth-oriented master limited partnership engaged, as of July 1, 2014, in (a) the exploitation, development, and production of oil and natural gas properties and (b) ancillary gathering, compressing, treating, processing and marketing services with respect to its production of natural gas, natural gas liquids, condensate and crude oil (collectively, the "Upstream Business"). The Partnership's upstream assets, located primarily in South Alabama (where it also operates the associated gathering and processing assets), Texas, Oklahoma, Mississippi and Arkansas, are characterized by long-lived, high-working interest properties with extensive production histories and development opportunities.
On July 1, 2014, the Partnership contributed its business of gathering, compressing, treating, processing, transporting, marketing and trading natural gas, fractionating, transporting and marketing natural gas liquids ("NGLs") and crude oil and condensate logistics and marketing (collectively, the “Midstream Business”) to Regency Energy Partners LP ("Regency") (such contribution, the "Midstream Business Contribution"). The consideration received by the Partnership for the Midstream Business Contribution included: (i) $576.2 million of cash; (ii)8,245,859 Regency common units (valued at approximately$265 million based on the closing price of Regency common units on June 30, 2014) and (iii) the exchange of $498.9 million face amount of the Partnership's outstanding unsecured senior notes ("Senior Notes") for an equivalent amount of Regency unsecured senior notes. $51.1 million of the Partnership's Senior Notes did not exchange and remain outstanding. However, the Partnership, having secured a sufficient number of consents as part of the exchange offer, amended the indenture governing its Senior Notes to eliminate substantially all of the restrictive covenants and certain events of default pertaining to its Senior Notes.
Accordingly, upon satisfaction of the significant closing conditions of the Midstream Business Contribution, the assets, liabilities and operation of the Midstream Business were classified as held-for-sale and discontinued in the condensed consolidated financial statements. Prior periods have been retrospectively adjusted to reflect assets and liabilities held-for-sale and operations as discontinued (see Note 16) in the financial statements included in this report. As a result of this transaction, the Partnership now will only report as one segment.
The general partner of Eagle Rock Energy is Eagle Rock Energy GP, L.P., and the general partner of Eagle Rock Energy GP, L.P. is Eagle Rock Energy G&P, LLC, both of which are wholly-owned subsidiaries of the Partnership.
NOTE 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation and Principles of Consolidation—The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America ("GAAP"). These unaudited condensed consolidated financial statements should be read in conjunction with the consolidated financial statements presented in the Partnership's Annual Report on Form 10-K for the year ended December 31, 2013. In the opinion of management, the accompanying unaudited condensed consolidated financial statements contain all appropriate adjustments, all of which are normally recurring adjustments unless otherwise noted, considered necessary to present fairly the financial position of the Partnership and its consolidated subsidiaries and the results of operations and cash flows for the respective periods. Operating results for the three and six months ended June 30, 2014 are not necessarily indicative of the results that may be expected for the full year ending December 31, 2014.
As of June 30, 2014, the Partnership owned non-operating undivided interests in certain gas processing plants and gas gathering systems. The Partnership owned these interests as tenants-in-common with the majority owner-operator of the facilities. Accordingly, the Partnership includes its pro-rata share of assets, liabilities, revenues and expenses related to these assets in its financial statements. The assets and liabilities related to these undivided interests have been classified as assets and liabilities held-for-sale within the unaudited condensed consolidated balance sheet, while the operations related to these interests have been classified as discontinued within the unaudited condensed consolidated statement of operations (see Note 16).
All intercompany accounts and transactions are eliminated in the unaudited condensed consolidated financial statements.
6
EAGLE ROCK ENERGY PARTNERS, L.P.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
The Partnership has provided a discussion of significant accounting policies in its Annual Report on Form 10-K for the year ended December 31, 2013. Certain items from that discussion are repeated or updated below as necessary to assist in the understanding of these financial statements.
Use of Estimates—The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reported period. Significant estimates are required for proved oil and natural gas reserves, which can affect the carrying value of oil and natural gas properties. The Partnership evaluates its estimates and assumptions on a regular basis. The Partnership bases its estimates on historical experience and various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results could differ from those estimates and such differences could be material.
Inventory—Inventory is stated at the lower of cost or market, with cost being determined using the average cost method. At June 30, 2014 and December 31, 2013, the Partnership had $0.3 million and $1.0 million, respectively, of crude oil finished goods inventory, which is recorded as part of assets held for sale within the unaudited condensed consolidated balance sheet.
Impairment of Long-Lived Assets—Management evaluates whether the carrying value of non-oil and natural gas long-lived assets has been impaired when circumstances indicate the carrying value of those assets may not be recoverable. This evaluation is based on undiscounted cash flow projections. The carrying amount is not recoverable if it exceeds the undiscounted sum of cash flows expected to result from the use and eventual disposition of the assets. Management considers various factors when determining if these assets should be evaluated for impairment, including, but not limited to:
• | significant adverse changes in legal factors or in the business climate; |
• | a current-period operating or cash flow loss combined with a history of operating or cash flow losses or a projection or forecast which demonstrates continuing losses associated with the use of a long-lived asset; |
• | an accumulation of costs significantly in excess of the amount originally expected for the acquisition or construction of a long-lived asset; |
• | significant adverse changes in the extent or manner in which an asset is used or in its physical condition; |
• | a significant change in the market value of an asset; or |
• | a current expectation that, more likely than not, an asset will be sold or otherwise disposed of before the end of its estimated useful life. |
For its oil and natural gas long-lived assets, accounted for utilizing the successful efforts method, the Partnership reviews its proved properties at the depletion unit when management determines that events or circumstances indicate that the recorded carrying value of the properties may not be recoverable. Such events include a negative revision to the proved reserves estimates, unfavorable projections of future prices, the timing of future production and estimates of future costs to produce the oil and natural gas. Unproved properties (both individually significant and insignificant) are assessed periodically within specific geographic areas and, if necessary, impairments are charged to expense.
If the carrying value is not recoverable on an undiscounted basis, the impairment loss is measured as the excess of the asset's carrying value over its fair value. Management assesses the fair value of long-lived assets using commonly accepted techniques, and may use more than one method, including, but not limited to, recent third party comparable sales, internally developed discounted cash flow analysis and analysis from outside advisors. Significant changes in market conditions resulting from events such as the condition of an asset or a change in management's intent to utilize the asset would generally require management to reassess the cash flows related to the long-lived assets.
See Notes 4 and 6 for further discussion on impairment charges.
Revenue Recognition—Revenues associated with sales of natural gas, NGLs, crude oil, condensate and sulfur are recognized when title passes to the customer, which is when the risk of ownership passes to the customer and physical delivery occurs.
Revenues for the Partnership's Midstream Business include the sale of natural gas, NGLs, crude oil, condensate, sulfur and helium and from the compression, gathering, processing, treating and transportation of natural gas. Revenues associated with transportation and processing fees are recognized in the period when the services are provided. These revenues have been classified as discontinued operations within the unaudited condensed consolidated statements of operations.
7
EAGLE ROCK ENERGY PARTNERS, L.P.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
Natural gas revenues produced from the Partnership's natural gas interests are based on the amount of natural gas sold to purchasers. The volumes of natural gas sold may differ from the volumes to which the Partnership is entitled based on its interests in the properties. Differences between volumes sold and volumes based on entitlements create natural gas imbalances. Material imbalances are reflected as adjustments to reported natural gas reserves and future cash flows. The Partnership had long-term imbalance payables totaling $0.3 million and $0.3 million as of June 30, 2014 and December 31, 2013, respectively.
Transportation and Exchange Imbalances—In the course of transporting natural gas and NGLs for others, the Partnership may receive for redelivery different quantities of natural gas or NGLs than the quantities actually delivered. These transactions result in transportation and exchange imbalance receivables or payables which are recovered or repaid through the receipt or delivery of natural gas or NGLs in future periods, if not subject to cash out provisions. Imbalance receivables are included in accounts receivable and imbalance payables are included in accounts payable on the unaudited condensed consolidated balance sheets and marked-to-market using current market prices in effect for the reporting period of the outstanding imbalances. As of June 30, 2014, the Partnership had imbalance receivables totaling $2.3 million and imbalance payables totaling $1.9 million. As of December 31, 2013, the Partnership had imbalance receivables totaling $0.7 million and imbalance payables totaling $1.6 million. Imbalance receivables and imbalance payables have been classified as assets and liabilities held for sale, respectively, within the unaudited condensed consolidated balance sheet. Changes in market value and the settlement of any such imbalance at a price greater than or less than the recorded imbalance results in either an upward or downward adjustment, as appropriate, to the cost of natural gas sold, and have been classified as discontinued operations within the unaudited condensed consolidated statements of operations.
Derivatives—Authoritative guidance establishes accounting and reporting standards for derivative instruments, including certain derivative instruments embedded in other contracts, and for hedging activities. It requires an entity to recognize all derivatives as either assets or liabilities in the statement of financial position and measure those instruments at fair value. The guidance provides that normal purchase and sale contracts, when appropriately designated, are not subject to the guidance. Normal purchases and sales are contracts which provide for the purchase or sale of something, other than a financial instrument or derivative instrument, that will be delivered in quantities expected to be used or sold by the reporting entity over a reasonable period in the normal course of business. The Partnership's forward natural gas and crude oil purchase and sales contracts are designated as normal purchases and normal sales, with the exception of certain contracts with it's natural gas trading and marketing business. The Partnership uses financial instruments such as swaps, collars and other derivatives to mitigate the risks to cash flows resulting from changes in commodity prices and interest rates. The Partnership recognizes these financial instruments on its unaudited condensed consolidated balance sheet at the instrument's fair value with changes in fair value reflected in the unaudited condensed consolidated statement of operations, as the Partnership has not designated any of these derivative instruments as hedges. The cash flows from derivatives are reported as cash flows from operating activities unless the derivative contract is deemed to contain a financing element. Derivatives deemed to contain a financing element are reported as a financing activity in the unaudited condensed consolidated statement of cash flows. See Note 10 for a description of the Partnership's risk management activities.
Other Reclassifications—The prior period within the unaudited condensed consolidated statements of cash flows has been reclassified to conform to current period presentation. Amounts have been reclassified to new rows titled “Loss from risk management activities, net” that combines settled and mark-to-market gains/losses on derivative instruments and “Derivative settlements” that includes cash attributable to derivative instruments that settled during the periods. The revisions to the cash flow presentation had no impact on “Net cash provided by operating activities.”
NOTE 3. NEW ACCOUNTING PRONOUNCEMENTS
In February 2013, the Financial Accounting Standards Board ("FASB") issued new guidance related to obligations resulting from joint and several liability arrangements. The new guidance provides for the recognition, measurement, and disclosure of obligations resulting from joint and several liability arrangements for which the total amount of the obligation is fixed at the reporting date. The amendments in this update are effective for fiscal years, and interim periods within those years, beginning after December 15, 2013 and did not have a material impact on the Partnership’s unaudited condensed consolidated financial statements.
On April 10, 2014, the FASB issued new guidance which amends the definition of a discontinued operation and requires entities to provide additional disclosures about disposal transactions that do not meet the discontinued-operations criteria. Under the new guidance, a discontinued operation is defined as a disposal of a component or group of components that is disposed of or is classified as held for sale and represents a strategic shift that has or will have a major effect on an entity's operations and financial results. The new guidance is effective prospectively for all disposals (except disposals classified as
8
EAGLE ROCK ENERGY PARTNERS, L.P.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
held for sale before the adoption date) or components initially classified as held for sale in periods beginning on or after December 15, 2014, with early adoption permitted. The Partnership decided to early adopt this guidance in relation to its transaction to contribute its Midstream Business to Regency (see Notes 1 and 16).
On May 28, 2014, the FASB issued new guidance related to revenue from contracts with customers. This new guidance outlines a single comprehensive model for entities to use and supersedes most current revenue recognition guidance, including industry-specific guidance. This guidance is effective for annual reporting periods (including interim reporting periods within those periods) beginning after December 15, 2016. Early application of the guidance is not permitted. The Partnership is currently evaluating the potential impact, if any, of the adoption of this new guidance on its financial statements.
NOTE 4. PROPERTY, PLANT AND EQUIPMENT
Fixed assets consisted of the following:
June 30, 2014 | December 31, 2013 | ||||||
($ in thousands) | |||||||
Equipment and machinery | $ | 101 | $ | 101 | |||
Vehicles and transportation equipment | 212 | 212 | |||||
Office equipment, furniture, and fixtures | 3,019 | 1,391 | |||||
Computer equipment | 13,538 | 12,247 | |||||
Proved properties | 1,233,079 | 1,156,895 | |||||
Unproved properties | 9,209 | 10,022 | |||||
Construction in progress | 2,174 | 6,636 | |||||
1,261,332 | 1,187,504 | ||||||
Less: accumulated depreciation, depletion and amortization | (401,437 | ) | (363,053 | ) | |||
Net property, plant and equipment | $ | 859,895 | $ | 824,451 |
Amounts in the table above do not include the property, plant and equipment related to the Partnership's Midstream Business, as these amounts have been classified as assets held for sale within the unaudited condensed consolidated balance sheet (see Note 16).
The following table sets forth the total depreciation, depletion, capitalized interest costs and impairment expense by type of asset within the Partnership's unaudited condensed consolidated statements of operations:
Three Months Ended June 30, | Six Months Ended June 30, | ||||||||||||||
2014 | 2013 | 2014 | 2013 | ||||||||||||
($ in thousands) | |||||||||||||||
Depreciation | $ | 889 | $ | 612 | $ | 1,586 | $ | 1,003 | |||||||
Depletion | $ | 19,334 | $ | 21,399 | $ | 39,006 | $ | 42,270 | |||||||
Impairment expense: | |||||||||||||||
Proved properties (a) | $ | — | $ | 1,839 | $ | — | $ | 1,839 |
________________________________
(a) | During the three and six months ended June 30, 2013, the Partnership incurred impairment charges in its Upstream Business related to certain proved property primarily in the Permian region due to lower commodity prices and continued high operating costs. |
The table above does not include amounts related to the Partnership's Midstream Business as these amounts have been classified as part of discontinued operations within the unaudited condensed consolidated statement of operations (see Note 16).
NOTE 5. ASSET RETIREMENT OBLIGATIONS
The Partnership recognizes asset retirement obligations associated with the retirement of tangible long-lived assets that result from the acquisition, construction and development of the assets. The Partnership records the fair value of a liability for
9
EAGLE ROCK ENERGY PARTNERS, L.P.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
an asset retirement obligation in the period in which it is incurred and a corresponding increase in the carrying amount of the related long-lived asset. The Partnership makes estimates of property abandonment costs that, in some cases, will not be incurred until a substantial number of years in the future. Such cost estimates could be subject to significant revisions in subsequent years due to changes in regulatory requirements, technological advances and other factors that may be difficult to predict. Although uncertainty about the timing and/or method of settlement may exist and may be conditional upon a future event, the obligation to perform the asset retirement activity is unconditional. Accordingly, the Partnership is required to recognize a liability for the fair value of a conditional asset retirement obligation upon initial recognition if the fair value of the liability can be reasonably estimated. The fair value of additions to the asset retirement obligations is estimated using valuation techniques that convert future cash flows to a single discounted amount. Significant inputs to the valuation include estimates of (i) remediation costs, (ii) remaining lives, (iii) future inflation factors and (iv) a credit-adjusted risk free interest rate.
A reconciliation of the Partnership's liability for asset retirement obligations is as follows:
2014 | 2013 | ||||||
($ in thousands) | |||||||
Asset retirement obligations—January 1 (a) | $ | 48,564 | $ | 38,991 | |||
Additional liabilities | 21 | 919 | |||||
Liabilities settled | (826 | ) | (730 | ) | |||
Revision to liabilities | (105 | ) | 6,624 | ||||
Accretion expense | 1,620 | 1,401 | |||||
Asset retirement obligations—June 30 (a) | $ | 49,274 | $ | 47,205 |
_____________________________________
(a) | As of June 30, 2014 and December 31, 2013, $2.0 million and $11.3 million, respectively, were included within accrued liabilities in the unaudited condensed consolidated balance sheets. |
Amounts in the table above do not include the balances or the activity related to asset retirement obligations related to the Partnership's Midstream Business as these amount have been classified as liabilities held for sale within the unaudited condensed consolidated balance sheet and discontinued operations within the unaudited condensed consolidated statement of operations (see Note 16).
During the six months ended June 30, 2014 and 2013, the Partnership made decrease revisions of $0.1 million and increase of $6.6 million, respectively, to certain asset retirement obligations due to changes in the estimated costs to remediate.
NOTE 6. INTANGIBLE ASSETS
Intangible assets consist of rights-of-way and easements, which the Partnership amortizes over the estimated useful life of 20 years.
Intangible assets consisted of the following:
June 30, 2014 | December 31, 2013 | ||||||
($ in thousands) | |||||||
Rights-of-way and easements—at cost | $ | 3,920 | $ | 3,920 | |||
Less: accumulated amortization | (750 | ) | (652 | ) | |||
Net intangible assets | $ | 3,170 | $ | 3,268 |
Amounts in the table above do not include the intangible assets related to the Partnership's Midstream Business, as these amounts have been classified as assets held for sale within the unaudited condensed consolidated balance sheet (see Note 16).
The following table sets forth amortization expense by type of intangible asset within the Partnership's unaudited condensed consolidated statements of operations:
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EAGLE ROCK ENERGY PARTNERS, L.P.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
Three Months Ended June 30, | Six Months Ended June 30, | ||||||||||||||
2014 | 2013 | 2014 | 2013 | ||||||||||||
($ in thousands) | |||||||||||||||
Amortization | $ | 49 | $ | 49 | $ | 98 | $ | 98 |
The table above does not include amounts related to the Partnership's Midstream Business as these amounts have been classified as part of discontinued operations within the unaudited condensed consolidated statement of operations (see Note 16).
Estimated future amortization expense related to the intangible assets at June 30, 2014, is as follows (in thousands):
Year ending December 31, | |||
2014 | $ | 98 | |
2015 | $ | 196 | |
2016 | $ | 196 | |
2017 | $ | 196 | |
2018 | $ | 196 | |
Thereafter | $ | 2,288 |
NOTE 7. LONG-TERM DEBT
Long-term debt consisted of the following:
June 30, 2014 | December 31, 2013 | ||||||
($ in thousands) | |||||||
Revolving credit facility: | $ | 769,000 | $ | 706,800 | |||
Senior notes: | |||||||
8.375% Senior Notes due 2019 | 51,120 | 51,120 | |||||
Unamortized bond discount | (408 | ) | (440 | ) | |||
Total Senior Notes | 50,712 | 50,680 | |||||
Total debt | 819,712 | 757,480 | |||||
Less: current maturities (1) | 439,000 | — | |||||
Total long-term debt | $ | 380,712 | $ | 757,480 |
_____________________________
1) | Per the Credit Agreement (as defined below), as a result of the contribution of the Midstream Business, the Partnership is required to pay down outstanding debt to the amount of the upstream portion of the borrowing base. As of June 30, 2014 and December 31, 2013, the Partnership has classified as current the difference between the amount outstanding under its credit facility and the upstream portion of the borrowing base. |
Amounts in the table above do not include the portion of the unsecured senior notes that were exchanged for Regency unsecured senior notes upon the completion of the Midstream Business Contribution on July 1, 2014 (see Note 1). These notes have been classified as part of liabilities held for sale within the unaudited condensed consolidated balance sheet.
The Partnership currently pays an annual fee of 0.50% on the unused commitment under the Credit Agreement. As of June 30, 2014, the Partnership had approximately $4.4 million of outstanding letters of credit and approximately $45.8 million of availability under the Credit Agreement, based on its commitments of $819 million and before considering covenant limitations, prior to the paydown on July 1, 2014, as described above. The Credit Agreement matures on June 22, 2016.
On July 1, 2014, the Partnership used the cash received from Regency for the Midstream Business Contribution (see Note 1) to paydown $570.4 million outstanding under our revolving credit facility (the "Credit Agreement"). Thus, as of July 1, 2014, the amount outstanding under the Credit Agreement was $198.6 million.
On February 26, 2014, the Partnership and its lender group amended the Credit Agreement to allow for greater liquidity under the Credit Agreement and for greater covenant flexibility for the first quarter of 2014. Specifically, the amendment provided for: (i) an increase in the Total Leverage Ratio and Senior Secured Leverage Ratio (as defined in the
11
EAGLE ROCK ENERGY PARTNERS, L.P.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
Credit Agreement) for the quarter ended March 31, 2014; (ii) the exclusion of fees and expenses associated with the strategic review and disposition of the Partnership’s Midstream Business from the calculation of Consolidated EBITDA (as defined in the Credit Agreement); (iii) deferring the redetermination of the Upstream Borrowing Base (as defined in the Credit Agreement) until June 1, 2014; and (iv) the option for the Partnership, at its election, to expand the multiplier for the Midstream Borrowing Base (as defined in the Credit Agreement) from 3.75x to 4.00x. The Partnership exercised this option to expand the multiplier for the Midstream Borrowing Base on March 31, 2014.
On May 28, 2014 the Partnership and its lender group further amended the Credit Agreement to allow for greater liquidity and certain covenant relief through the second quarter of 2014. The amendment, among other items, provided for an increase in the midstream component of the Credit Agreement's total borrowing base and provided for an increase in the Total Leverage Ratio and Senior Secured Leverage Ratio (as defined in the Credit Agreement) for the quarter ended June 30, 2014. The amendment also provided that (i) effective June 1, 2014, the upstream component of the borrowing base of the Credit Agreement will decrease from $380 million to $330 million as part of the Partnership's regular semi-annual redetermination by its commercial lenders, (ii) the next borrowing base redetermination will be September 1, 2014, and (iii) that such reduction would automatically reduce aggregate commitments of the lenders under the Credit Agreement, with further automatic reductions in such aggregate commitments in amounts equal to, and upon, any future reductions in the borrowing base.
The following table presents the debt covenant levels specified in the Credit Agreement as of June 30, 2014:
Quarter Ended | Total Leverage Ratio (a) | Senior Secured Leverage Ratio (a) | Interest Coverage Ratio (b) | Current Ratio (b) | |||
June 30, 2014 | 5.85 | 3.40 | 2.50 | 1.0 | |||
September 30, 2014 | 4.75 | 2.95 | 2.50 | 1.0 | |||
Thereafter | 4.50 | N/A | 2.50 | 1.0 |
_____________________
(a) | Amount represents the maximum ratio for the period presented. |
(b) | Amount represents the minimum ratio for the period presented. |
The following table presents the Partnership's actual covenant ratios as of June 30, 2014:
Interest coverage ratio | 2.9 |
Total leverage ratio | 5.77 |
Senior secured leverage ratio | 3.37 |
Current ratio | 1.0 |
The calculation of the ratios above includes the amounts classified in the unaudited condensed consolidated financial statements as held for sale and as discontinued operations.
As of June 30, 2014, the Partnership was in compliance with the financial covenants under the revolving credit facility.
In part due to the completion of the Midstream Business Contribution on July 1, 2014 (see Note 1), the Partnership expects to remain in compliance with its financial covenants under the Credit Agreement throughout June 2015.
NOTE 8. MEMBERS’ EQUITY
At June 30, 2014 and December 31, 2013, there were 157,354,239 and 156,644,153 unrestricted common units outstanding, respectively. In addition, there were 2,510,221 and 2,743,807 unvested restricted common units outstanding at June 30, 2014 and December 31, 2013, respectively.
On May 31, 2012, the Partnership announced a program through which it may issue common units, from time to time, with an aggregate market value of up to $100 million. The Partnership is under no obligation to issue equity under the program. During the six months ended June 30, 2014, no units were issued under this program.
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EAGLE ROCK ENERGY PARTNERS, L.P.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
The table below summarizes the distributions paid or payable and declared for the six months ended June 30, 2014.
Quarter Ended | Distribution per Common Unit | Record Date* | Payment Date | |||||
December 31, 2013+* | $ | 0.1500 | February 7, 2014 | February 14, 2014 | ||||
March 31, 2014** | $ | — | N/A | N/A | ||||
June 30, 2014** | $ | — | N/A | N/A |
_____________________________
+ | The distribution excludes certain restricted unit grants. |
* | The "Record Date" set forth in the table above means the close of business on each of the listed Record Dates. |
** | No distribution was declared or paid for this period. |
NOTE 9. RELATED PARTY TRANSACTIONS
The following table summarizes transactions between the Partnership and certain affiliated entities:
Three Months Ended June 30, | Six Months Ended June 30, | ||||||||||||||
2014 | 2013 | 2014 | 2013 | ||||||||||||
Affiliates of Natural Gas Partners: | ($ in thousands) | ||||||||||||||
Natural gas purchases from affiliates | $ | 949 | $ | 419 | $ | 2,091 | $ | 542 |
June 30, 2014 | December 31, 2013 | ||||||
Affiliates of Natural Gas Partners: | ($ in thousands) | ||||||
Payable (related to natural gas purchases) | $ | 51 | $ | 18 |
The transactions above are all related to the Partnership's Midstream Business and have been classified as part of discontinued operations within the unaudited condensed consolidated statement of operations and liabilities held for sale within the unaudited condensed consolidated balance sheet (see Note 16).
NOTE 10. RISK MANAGEMENT ACTIVITIES
Interest Rate Swap Derivative Instruments
To reduce interest expense variability, the Partnership has entered into interest rate swaps that effectively convert LIBOR-based variable-rate payments to fixed-rate payments. Amounts received or paid under these swaps were recorded as reductions or increases in interest expense.
For accounting purposes, the Partnership has not designated any of its interest rate derivative instruments as hedges; instead it marks these derivative contracts to fair value (see Note 11). Changes in fair values of the interest rate derivative instruments are recorded as an adjustment to the mark-to-market gains (losses) on risk management transactions within other income (expense).
The following table sets forth certain information regarding the Partnership's interest rate swaps as of June 30, 2014:
Effective Date | Expiration Date | Notional Amount | Fixed Rate | ||||||
6/22/2011 | 6/22/2015 | $ | 250,000,000 | 2.950 | % |
Commodity Derivative Instruments
The prices of crude oil, natural gas and NGLs are subject to fluctuations in response to changes in supply, demand, market uncertainty and a variety of additional factors which are beyond the Partnership's control. These risks can cause
13
EAGLE ROCK ENERGY PARTNERS, L.P.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
significant changes in the Partnership's cash flows and affect its ability to achieve its distribution objectives and comply with the covenants of its Credit Agreement. In order to manage the risks associated with changes in the future prices of crude oil, natural gas and NGLs on its forecasted equity production, the Partnership engages in risk management activities that take the form of commodity derivative instruments. Historically, the Partnership has hedged a substantial portion of its expected production in an attempt to meaningfully reduce its future cash flow volatility. The Partnership generally limits its hedging levels to less than its total expected future production. While hedging at this level of production does not attempt to eliminate all of the volatility in the Partnership's cash flows, it allows the Partnership to mitigate the risk of situations where a modest loss of production would not put it in an over-hedged position. At times, the Partnership's strategy may involve entering into hedges with strike prices above current future prices or resetting existing hedges to higher price levels in order to meet its cash flow objectives or to stay in compliance with the covenants under its Credit Agreement. In addition, the Partnership may also terminate or unwind hedges or portions of hedges when the expected future volumes do not support the level of hedges. Expected future production for its Upstream Business is derived from the proved reserves estimates, adjusted for certain expenses and revenue deductions that are a function of volume and price. The Partnership applies the appropriate contract terms to these projections to determine its expected future equity share of the commodities.
The Partnership uses fixed-price swaps, costless collars and put options to achieve its hedging objectives. Historically, the Partnership has hedged its expected future commodity volumes either with derivatives of the same commodity ("direct hedges") or with derivatives of another commodity which the Partnership expects will correlate well with the underlying commodity ("proxy hedges"). For example, the Partnership has often hedged the changes in future NGL prices using crude oil hedges because NGL prices historically had been highly correlated to crude oil prices and hedging NGLs directly was less attractive due to the relative illiquidity in the NGL forward market. Likewise, the Partnership has used natural gas hedges to hedge a portion of its expected future ethane production because forward prices for ethane are more often heavily discounted from its current prices than natural gas, ethane prices have been correlated to natural gas prices in the past, and natural gas prices provide support for ethane prices because in many processing plants ethane can be recombined with the residue gas stream and sold as natural gas. When the Partnership uses proxy hedges, it converts the expected volumes of the underlying commodity to equivalent volumes of the hedged commodity. In the case of NGLs hedged with crude oil derivatives, these conversions are based on the historical relationship of the prices of the two commodities and management's judgment regarding future price relationships of the commodities. In the case where ethane is hedged with natural gas derivatives, the conversion is based on the thermal content of ethane. In recent quarters, the correlation of price changes in crude oil and NGLs has weakened relative to longer-term averages as NGL prices have fallen while crude index prices have risen which has reduced the effectiveness of some of our hedges in reducing the impact of price fluctuations. At this time, our practice is to no add new proxy hedges to our portfolio and to seek opportunities to convert our existing ones to direct product hedges.
For accounting purposes, the Partnership has not designated any of its commodity derivative instruments as hedges; instead it marks these derivative contracts to fair value (see Note 11). Changes in fair values of the commodity derivative instruments are recorded as an adjustment to the mark-to-market gains (losses) on risk management transactions within revenue.
By using derivative instruments to economically hedge exposure to changes in commodity prices, the Partnership exposes itself to counterparty credit risk. Historically, the Partnership's counterparties have all been participants or affiliates of participants within its Credit Agreement, which is secured by substantially all of the assets of the Partnership. Therefore, the Partnership is not currently required to post any collateral, nor does it require collateral from its counterparties. The Partnership minimizes the credit risk in derivative instruments by limiting exposure to any single counterparty and monitoring the creditworthiness of its counterparties on an ongoing basis. In addition, the Partnership's derivative contracts for certain counterparties are subject to counterparty netting agreements governing such derivatives, and when possible, the Partnership nets the open positions of each counterparty. See Note 11 for the impact to the Partnership's unaudited condensed consolidated balance sheets of the netting of these derivative contracts.
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EAGLE ROCK ENERGY PARTNERS, L.P.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
The following tables set forth certain information regarding the Partnership's commodity derivatives. Within each table, some trades of the same commodities with the same tenors have been aggregated and shown as weighted averages.
Commodity derivatives, as of June 30, 2014, that will mature during the years ended December 31, 2014, 2015 and 2016:
Underlying | Type | Notional Volumes (units) (a) | Floor Strike Price ($/unit)(b) | Cap Strike Price ($/unit)(b) | |||||||||
Portion of Contracts Maturing in 2014 | |||||||||||||
Natural Gas | Swap (Pay Floating/Receive Fixed) | 5,880,000 | $ | 4.51 | |||||||||
Crude Oil | Swap (Pay Floating/Receive Fixed) | 624,000 | $ | 96.14 | |||||||||
Crude Oil | Swap (Pay Fixed/Receive Floating) | 99,570 | $ | 92.53 | |||||||||
Propane | Swap (Pay Floating/Receive Fixed) | 4,788,000 | $ | 1.06 | |||||||||
IsoButane | Swap (Pay Floating/Receive Fixed) | 1,134,000 | $ | 1.31 | |||||||||
Normal Butane | Swap (Pay Floating/Receive Fixed) | 2,066,400 | $ | 1.30 | |||||||||
Contracts Maturing in 2015 | |||||||||||||
Natural Gas | Swap (Pay Floating/Receive Fixed) | 10,800,000 | $ | 4.07 | |||||||||
Crude Oil | Costless Collar | 480,000 | $ | 90.00 | $ | 97.55 | |||||||
Crude Oil | Swap (Pay Floating/Receive Fixed) | 630,000 | $ | 89.78 | |||||||||
Contracts Maturing in 2016 | |||||||||||||
Natural Gas | Swap (Pay Floating/Receive Fixed) | 9,480,000 | $ | 4.25 | |||||||||
Crude Oil | Swap (Pay Floating/Receive Fixed) | 936,000 | $ | 84.66 |
_______________________
(a) | Volumes of natural gas are measured in MMbtu, volumes of crude oil are measured in barrels, and volumes of natural gas liquids are measured in gallons. |
(b) | Amounts represent the weighted average price in $/MMbtu for natural gas, $/barrel for crude oil and $/gallon for natural gas liquids. |
The table above does not include derivative contracts that have been classified as assets or liabilities held for sale within the unaudited condensed consolidated balance sheet (see Note 16).
Commodity Derivative Instruments - Marketing & Trading
Prior to the consummation of the Midstream Business Contribution, the Partnership's Midstream Business conducted natural gas marketing and trading activities intended to capitalize on favorable price differentials between various receipt and delivery locations. This business was contributed to Regency as part of the Midstream Business Contribution completed on July 1, 2014.
15
EAGLE ROCK ENERGY PARTNERS, L.P.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
Fair Value of Interest Rate and Commodity Derivatives
The following tables set forth the fair values of interest rate and commodity derivative instruments not designated as hedging instruments and their location within the unaudited condensed consolidated balance sheet as of June 30, 2014 and December 31, 2013:
As of June 30, 2014 | |||||||||||
Derivative Assets | Derivative Liabilities | ||||||||||
Balance Sheet Classification | Fair Value | Balance Sheet Classification | Fair Value | ||||||||
($ in thousands) | |||||||||||
Interest rate derivatives - liabilities | Current assets | $ | — | Current liabilities | $ | (6,531 | ) | ||||
Commodity derivatives - assets | Current assets | 18 | Current liabilities | 3,238 | |||||||
Commodity derivatives - assets | Long-term assets | 66 | Long-term liabilities | 323 | |||||||
Commodity derivatives - assets | Assets held-for-sale | 745 | Liabilities held-for-sale | 572 | |||||||
Commodity derivatives - liabilities | Current assets | — | Current liabilities | (11,173 | ) | ||||||
Commodity derivatives - liabilities | Long-term assets | — | Long-term liabilities | (8,334 | ) | ||||||
Commodity derivatives - liabilities | Assets held-for-sale | — | Liabilities held-for-sale | (12,796 | ) | ||||||
Total derivatives | $ | 829 | $ | (34,701 | ) | ||||||
As of December 31, 2013 | |||||||||||
Derivative Assets | Derivative Liabilities | ||||||||||
Balance Sheet Classification | Fair Value | Balance Sheet Classification | Fair Value | ||||||||
($ in thousands) | |||||||||||
Interest rate derivatives - liabilities | Current assets | $ | — | Current liabilities | $ | (6,210 | ) | ||||
Interest rate derivatives - liabilities | Long-term assets | — | Long-term liabilities | (2,885 | ) | ||||||
Commodity derivatives - assets | Current assets | 6,841 | Current liabilities | 1,043 | |||||||
Commodity derivatives - assets | Long-term assets | 4,669 | Long-term liabilities | 202 | |||||||
Commodity derivatives - assets | Assets held-for-sale | 6,017 | Liabilities held-for-sale | 1,973 | |||||||
Commodity derivatives - liabilities | Current assets | (1,282 | ) | Current liabilities | (3,193 | ) | |||||
Commodity derivatives - liabilities | Long-term assets | (798 | ) | Long-term liabilities | (143 | ) | |||||
Commodity derivatives - liabilities | Assets held-for-sale | (824 | ) | Liabilities held-for-sale | (5,658 | ) | |||||
Total derivatives | $ | 14,623 | $ | (14,871 | ) |
The following table sets forth the location of gains and losses for derivatives not designated as hedging instruments within the Partnership's unaudited condensed consolidated statement of operations:
Amount of Gain (Loss) Recognized in Income on Derivatives | Three Months Ended June 30, | Six Months Ended June 30, | |||||||||||||||
2014 | 2013 | 2014 | 2013 | ||||||||||||||
($ in thousands) | |||||||||||||||||
Interest rate derivatives | Interest rate risk management losses, net | $ | (571 | ) | $ | (151 | ) | $ | (861 | ) | $ | (307 | ) | ||||
Commodity derivatives | Commodity risk management losses, net | (18,081 | ) | 17,338 | (28,114 | ) | 10,502 | ||||||||||
Commodity derivatives | Discontinued operations | (10,968 | ) | 13,155 | (15,879 | ) | 2,083 | ||||||||||
Commodity derivatives - trading | Discontinued operations | (1,416 | ) | 1,134 | (2,404 | ) | (16 | ) | |||||||||
Total | $ | (31,036 | ) | $ | 31,476 | $ | (47,258 | ) | $ | 12,262 |
NOTE 11. FAIR VALUE OF FINANCIAL INSTRUMENTS
Fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date (exit price). The Partnership utilizes market data or assumptions that market participants would use in pricing the asset or liability, including assumptions about risk inherent in the inputs to the valuation technique. The authoritative guidance establishes a fair value hierarchy that prioritizes the inputs used to measure fair value. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1 measurements) and the lowest priority to unobservable inputs (Level 3 measurements).
16
EAGLE ROCK ENERGY PARTNERS, L.P.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
The three levels of the fair value hierarchy are as follows:
Level 1 – Quoted prices are available in active markets for identical assets and liabilities as of the reporting date. Active markets are those in which transactions for the asset or liability occur in sufficient frequency and volume to provide information on an ongoing basis.
Level 2 – Pricing inputs are other than quoted prices in active markets included in Level 1, which are either directly or indirectly observable as of the reporting date. Level 2 includes those financial instruments that are valued using models or other valuation methodologies. These models are primarily industry-standard models that consider various assumptions, including quoted forward prices for commodities, time value, volatility factors and current market and contractual prices for the underlying instruments, as well as other relevant economic measures. Substantially all of these assumptions are observable in the market place throughout the full term of the instrument, can be derived from observable data or are supported by observable levels at which transactions are executed in the marketplace.
Level 3 – Pricing inputs include significant inputs that are generally less observable from objective sources. These inputs may be used with internally developed methodologies that result in management's best estimate of fair value.
As of June 30, 2014, the Partnership recorded its interest rate swaps and commodity derivative instruments (see Note 10), which includes crude oil, natural gas and NGLs, at fair value. The Partnership reviews the classification of the inputs at the end of each period and classified the inputs to measure the fair value of its interest rate swaps, crude oil derivatives, NGL derivatives and natural gas derivatives as Level 2.
The following tables disclose the fair value of the Partnership's derivative instruments as of June 30, 2014 and December 31, 2013:
As of June 30, 2014 | |||||||||||||||||||
Level 1 | Level 2 | Level 3 | Netting (a) | Total | |||||||||||||||
($ in thousands) | |||||||||||||||||||
Assets: | |||||||||||||||||||
Crude oil derivatives | $ | — | $ | 1,085 | $ | — | $ | (1,085 | ) | $ | — | ||||||||
Natural gas derivatives | — | 2,551 | — | (2,467 | ) | 84 | |||||||||||||
NGL derivatives | — | 8 | — | (8 | ) | — | |||||||||||||
Total | $ | — | $ | 3,644 | $ | — | $ | (3,560 | ) | $ | 84 | ||||||||
Liabilities: | |||||||||||||||||||
Crude oil derivatives | $ | — | $ | (15,412 | ) | $ | — | $ | 1,085 | $ | (14,327 | ) | |||||||
Natural gas derivatives | — | (3,753 | ) | — | 2,467 | (1,286 | ) | ||||||||||||
NGL derivatives | — | (342 | ) | — | 8 | (334 | ) | ||||||||||||
Interest rate swaps | — | (6,531 | ) | — | — | (6,531 | ) | ||||||||||||
Total | $ | — | $ | (26,038 | ) | $ | — | $ | 3,560 | $ | (22,478 | ) |
____________________________
(a) | Represents counterparty netting under the agreement governing such derivative contracts. |
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EAGLE ROCK ENERGY PARTNERS, L.P.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
As of December 31, 2013 | |||||||||||||||||||
Level 1 | Level 2 | Level 3 | Netting (a) | Total | |||||||||||||||
($ in thousands) | |||||||||||||||||||
Assets: | |||||||||||||||||||
Crude oil derivatives | $ | — | $ | 6,151 | $ | — | $ | (1,716 | ) | $ | 4,435 | ||||||||
Natural gas derivatives | — | 6,562 | — | (1,567 | ) | 4,995 | |||||||||||||
NGL derivatives | — | 42 | — | (42 | ) | — | |||||||||||||
Total | $ | — | $ | 12,755 | $ | — | $ | (3,325 | ) | $ | 9,430 | ||||||||
Liabilities: | |||||||||||||||||||
Crude oil derivatives | $ | — | $ | (1,792 | ) | $ | — | $ | 1,716 | $ | (76 | ) | |||||||
Natural gas derivatives | — | (2,503 | ) | — | 1,567 | (936 | ) | ||||||||||||
NGL derivatives | — | (1,121 | ) | — | 42 | (1,079 | ) | ||||||||||||
Interest rate swaps | — | (9,095 | ) | — | — | (9,095 | ) | ||||||||||||
Total | $ | — | $ | (14,511 | ) | $ | — | $ | 3,325 | $ | (11,186 | ) |
____________________________
(a) | Represents counterparty netting under the agreement governing such derivative contracts. |
Gains and losses, from continuing operations, related to the interest rate derivatives are recorded as part of interest rate risk management gains and losses in the unaudited condensed consolidated statements of operations. Gains and losses, from continuing operations, related to the Partnership's commodity derivatives are recorded as a component of revenue in the unaudited condensed consolidated statements of operations.
Fair Value of Assets and Liabilities Measured on a Non-recurring Basis
For periods in which impairment charges have been incurred, the Partnership is required to write down the value of the impaired asset to its fair value. See Note 4 and 6 for a further discussion of the impairment charges recorded during the three and six months ended June 30, 2014. The following table discloses the fair value of the Partnership's assets measured at fair value on a nonrecurring basis during the three months ended June 30, 2014:
Six Months Ended June 30, | |||||||||||||||||||
2014 | Level 1 | Level 2 | Level 3 | Total Losses | |||||||||||||||
($ in thousands) | |||||||||||||||||||
Plant assets | $ | 52 | $ | — | $ | — | $ | 52 | $ | 132 | |||||||||
Pipeline assets | $ | 746 | $ | — | $ | — | $ | 746 | $ | 1,904 | |||||||||
Rights-of-way | $ | 24 | $ | — | $ | — | $ | 24 | $ | 61 |
The assets and impairment losses included in the table above are all related to the Partnership's Midstream Business and have been classified as assets held for sale within the unaudited condensed consolidated balance sheet and as discontinued operations within the unaudited condensed consolidated statement of operations, respectively (see Note 16).
The Partnership calculated the fair value of the impaired assets using a discounted cash flow analysis to determine the excess of the asset's carrying value over its fair value. Significant inputs to the valuation of fair value of the plant, pipeline and intangible assets includes estimates of (i) future cash flows, including revenue, expenses and capital expenditures, (ii) timing of cash flows, (iii) forward commodity prices, adjusted for estimate location differentials and (iv) a discount rate reflective of our cost of capital.
The carrying amount of cash equivalents is believed to approximate their fair values because of the short maturities of these instruments. The fair value of accounts receivable and accounts payable are not materially different from their carrying amounts because of the short-term nature of these instruments.
As of June 30, 2014, the outstanding debt associated with the Credit Agreement bore interest at a floating rate; as such, the Partnership believes that the carrying value of this debt approximates its fair value. The outstanding debt associated with
18
EAGLE ROCK ENERGY PARTNERS, L.P.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
the Senior Notes bears interest at a fixed rate; based on the market price of the Senior Notes as of June 30, 2014 and December 31, 2013, the Partnership estimates that the fair value of the Senior Notes was $55.5 million and $55.7 million, respectively. Fair value of the senior notes was estimated based on prices quoted from third-party financial institutions, which are characteristic of Level 2 fair value measurement inputs.
NOTE 12. COMMITMENTS AND CONTINGENCIES
Litigation—The Partnership and its operating subsidiaries are subject to lawsuits which arise from time to time in the ordinary course of business. The Partnership had no accruals as of June 30, 2014 or December 31, 2013 related to legal matters, and current lawsuits are not expected to have a material adverse effect on the Partnership's financial position, results of operations or cash flows. Lawsuits the Partnership and its operating subsidiaries was subject to relating solely to its midstream business were assumed by Regency on July 1, 2014 as part of the Midstream Business Contribution.
In March and April 2014, alleged unitholders of the Partnership filed three class action lawsuits in the United States District Court for the Southern District of Texas on behalf of the Partnership's public unitholders. The lawsuits name the Partnership, its Board of Directors, Regency Energy Partners, L.P. (“Regency”), and Regal Midstream LLC as defendants. One of the lawsuits also names the Partnership's general partner and its general partner’s general partner as defendants. Plaintiffs in each lawsuit allege a variety of causes of action challenging Regency’s acquisition of the Partnership's midstream assets, including alleged breaches of fiduciary or contractual duties, alleged aiding and abetting these alleged breaches of duty, and alleged violations of the Securities Exchange Act of 1934. The lawsuits allege that the Partnership (i) sold its midstream assets for inadequate value, (ii) engaged in an unfair sales process, (iii) agreed to contractual terms (the no-solicitation, fiduciary out, superior proposal, and termination fee provisions and the voting and support agreement) that would dissuade other potential acquirors from seeking to purchase the midstream assets, and (iv) failed to disclose material information in its definitive proxy statement concerning the analysis of our financial advisors, potential conflicts of the advisors (and directors), management’s financial projections, strategic alternatives, other potential acquirors, the bases for certain actions, and the background of the transaction. Based on these allegations, the plaintiffs seek to have the sale rescinded, monetary damages and attorneys’ fees. The United States District Court for the Southern District of Texas has yet to resolve a pending motion to consolidate the three lawsuits or two pending motions to appoint a lead plaintiff. The Partnership believes that the lawsuits are without merit.
As reported in the Partnership's Form 10-Q for the first quarter of 2014, the Partnership was the defendant in a lawsuit filed by a plaintiff who was alleging an entitlement to participate in various wells drilled by the Partnership in a defined area of land. The Partnership filed for, and was granted, a motion to dismiss such lawsuit.
Insurance—The Partnership covers its operations and assets with insurance which management believes is consistent with that in force for other companies engaged in similar commercial operations with similar type properties. This insurance includes: (1) commercial general liability insurance covering liabilities to third parties for bodily injury, property damage and pollution arising out of the Partnership's operations; (2) workers’ compensation liability coverage for employees to required statutory limits; (3) automobile liability insurance covering liability to third parties for bodily injury and property damage arising out of the operation of all owned, hired and non-owned vehicles by its employees on company business; (4) property insurance covering the replacement cost of all owned real and personal property, including coverage for losses due to boiler and machinery breakdown, earthquake, flood and consequent business interruption/extra expense; (5) control of well/operator's extra expense insurance for operated and non-operated wells; and (6) corporate liability insurance, including coverage for directors and officers and employment practices liabilities. In addition, the Partnership maintains excess liability insurance providing limits in excess of the established primary limits for commercial general liability and automobile liability insurance.
Environmental—The operation of pipelines, plants and other facilities for gathering, transporting, processing, treating, or storing natural gas, NGLs and other products is subject to stringent and complex laws and regulations pertaining to health, safety and the environment. As an owner or operator of these facilities, the Partnership must comply with United States laws and regulations at the federal, state and local levels that relate to air and water quality, hazardous and solid waste management and disposal and other environmental matters. The cost of planning, designing, constructing and operating pipelines, plants, and other facilities must incorporate compliance with environmental laws and regulations and safety standards. Failure to comply with these laws and regulations may trigger a variety of administrative, civil and potentially criminal enforcement measures, including citizen suits, which can include the assessment of monetary penalties, the imposition of remedial requirements and the issuance of injunctions or restrictions on operation. Management believes that, based on currently known information, compliance with these laws and regulations will not have a material adverse effect on the Partnership's combined results of operations, financial position or cash flows. As of July 1, 2014, in connection with the Midstream Business Contribution, Regency agreed to indemnify the Partnership for losses arising from the Midstream Business, including potential losses associated with these laws and regulations, and the Partnership agreed to use commercially reasonable efforts to mitigate
19
EAGLE ROCK ENERGY PARTNERS, L.P.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
such losses. At June 30, 2014 and December 31, 2013, the Partnership had accrued approximately $2.4 million and $2.5 million for environmental matters related to the Partnership's upstream business, respectively. Environmental accruals related to the Partnership's Midstream Business have been classified as liabilities held-for-sale within the unaudited condensed consolidated balance sheet (see Note 16).
Retained Revenue Interest—Certain Partnership's assets are subject to retained revenue interests. These interests were established under purchase and sale agreements that were executed by the Partnership's predecessors in title. The terms of these agreements entitle the owners of the retained revenue interests to a portion of the revenues received from the sale of the hydrocarbons above specified base oil and natural gas prices. These retained revenue interests do not represent a real property interest in the hydrocarbons. The Partnership's reported revenues are reduced to account for the retained revenue interests on a monthly basis.
The retained revenue interests affect the Partnership's interest in the Big Escambia Creek, Flomaton and Fanny Church fields in Escambia County, Alabama. With respect to the Partnership's Flomaton and Fanny Church fields, these retained revenue interests are in effect for any calendar year in which the Partnership surpasses certain average net production rates. The Partnership did not surpass such rates in 2013 and does not anticipate doing so in 2014. With respect to the Partnership's Big Escambia Creek field, the retained revenue interest commenced in 2010 and continues through the end of 2019.
Other Commitments—The Partnership utilizes assets under operating leases for its corporate office, certain rights-of-way and facilities locations, vehicles and in several areas of its operations. Rental expense, including leases with no continuing commitment, amounted to approximately $0.8 million, $1.6 million, $0.4 million and $0.9 million for the three and six months ended June 30, 2014 and 2013, respectively. Rental expense for leases with escalation clauses is recognized on a straight-line basis over the initial lease term.
NOTE 13. INCOME TAXES
Provision for Income Taxes -The Partnership is a limited partnership for federal and state income tax purposes, in which income tax liabilities and/or benefits of the Partnership are passed through to its unitholders. In the State of Texas, limited partnerships are directly subject to the Texas margin tax, which liability is not passed through to Partnership unitholders. In addition, certain of the Partnership's subsidiaries are Subchapter C-corporations subject to federal and state income taxes. During the three and six months ended June 30, 2014 and 2013, the Partnership recognized an income tax benefit of $0.9 million, $1.8 million, $0.5 million and $2.1 million, respectively. The change in the Partnership's tax benefit from period to period is primarily due to changes in income generated by the Partnership's taxable entities.
NOTE 14. EQUITY-BASED COMPENSATION
Eagle Rock Energy G&P, LLC, the general partner of the general partner of the Partnership, has a long-term incentive plan (as amended, the "LTIP"), for its employees, directors and consultants who provide services to the Partnership and its subsidiaries and affiliates. The LTIP provides for the issuance of an aggregate of up to 14,500,000 common units to be granted either as options, restricted units or phantom units, of which, as of June 30, 2014, a total of 7,937,294 common units remained available for issuance. Grants under the LTIP are made at the discretion of the board and as of June 30, 2014 have only been made in the form of restricted units. Distributions declared and paid on outstanding restricted units, where such restricted units are eligible to receive distributions, are paid directly to the holders of the restricted units. No options or phantom units have been issued to date.
Grants of restricted units eligible to receive distributions are valued at the market price as of the date issued, while grants of restricted units not eligible to receive distributions are valued at the market price as of the date issued less the present value of the expected distribution stream over the vesting period using the risk-free interest rate. The awards generally vest over three years on the basis of one-third of the award each year. The Partnership recognizes compensation expense on a straight-line basis over the requisite service period for the restricted unit grants. During the restriction period, distributions associated with the grants of restricted units eligible to receive distributions are distributed to the awardees.
20
EAGLE ROCK ENERGY PARTNERS, L.P.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
A summary of the changes in outstanding restricted common units for the six months ended June 30, 2014 is provided below:
Number of Restricted Units | Weighted Average Fair Value | |||||
Outstanding at December 31, 2013 | 2,743,807 | $ | 9.37 | |||
Granted | 1,287,360 | $ | 4.63 | |||
Vested | (963,392 | ) | $ | 9.60 | ||
Forfeited | (557,554 | ) | $ | 9.19 | ||
Outstanding at June 30, 2014 | 2,510,221 | $ | 6.89 |
For the three and six months ended June 30, 2014 and 2013, non-cash compensation expense of approximately $1.5 million, $4.0 million, $2.7 million and $4.7 million, respectively, was recorded related to the granted restricted units as general and administrative expense on the unaudited condensed consolidated statements of operations.
As of June 30, 2014, unrecognized compensation costs related to the outstanding restricted units under the LTIP totaled approximately $13.4 million. The remaining expense is to be recognized over a weighted average of 1.84 years.
In connection with the vesting of certain restricted units during the three months ended June 30, 2014, the Partnership cancelled 0.3 million of the newly-vested common units in satisfaction of $1.1 million of employee tax liability paid by the Partnership. Pursuant to the terms of the LTIP, these cancelled units are available for future grants under the LTIP.
NOTE 15. EARNINGS PER UNIT
Basic earnings per unit is computed by dividing the net income (loss) by the weighted average number of units outstanding during a period. To determine net income (loss) allocated to each class of ownership (common and restricted common units), the Partnership first allocates net income (loss) in accordance with the amount of distributions made for the quarter by each class, if any. The remaining net income is allocated to each class in proportion to the class weighted average number of units outstanding for a period, as compared to the weighted average number of units for all classes for the period, with the exception of net losses. Net losses are allocated to just the common units.
As of June 30, 2014 and 2013, the Partnership had unvested restricted common units outstanding, which are considered dilutive securities. These units are considered in the diluted weighted average common units outstanding number in periods of net income. In periods of net losses, these units are excluded from the diluted weighted average common units outstanding number.
The majority of the restricted units granted under the LTIP, as discussed in Note 14, contain non-forfeitable rights to the distributions declared by the Partnership and therefore meet the definition of participating securities. Participating securities are required to be included in the computation of earnings per unit pursuant to the two-class method. Restricted units granted in 2013 to certain senior executives and members of the board of directors are not eligible to receive the distributions declared by the Partnership and therefore do not meet the definition of participating securities.
21
EAGLE ROCK ENERGY PARTNERS, L.P.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
The following table presents the Partnership's calculation of basic and diluted units outstanding for the periods indicated:
Three Months Ended June 30, | Six Months Ended June 30, | ||||||||||
2014 | 2013 | 2014 | 2013 | ||||||||
(in thousands) | |||||||||||
Weighted average units outstanding during period: | |||||||||||
Common units - Basic and diluted | 156,955 | 155,269 | 156,802 | 150,860 | |||||||
Effect of Dilutive Securities: | |||||||||||
Restricted Units (non-participating securities) | — | 285 | — | — | |||||||
Restricted Units (participating securities) | — | 1,156 | — | — | |||||||
Common units - Diluted | 156,955 | 156,710 | 156,802 | 150,860 |
For the three months ended June 30, 2013, the Partnership determined that it is more dilutive to apply the two-class method versus the treasury stock method in calculating dilutive earnings per unit. Thus, the unvested restricted common units are included in the computation of the diluted weighted average common units outstanding calculation, but the denominator in the computation of diluted earnings per unit only includes the basic weighted average common units and restricted units (non-participating securities) outstanding.
Due to the distribution being suspended for both the quarters ended March 31, 2014 and June 30, 2013 (see Notes 8) and the Partnership generating a net loss during each period, earnings per unit for the three and six months ended June 30, 2014 was only calculated for the common units as the net loss was only allocated to the common units.
The following table presents the Partnership's basic and diluted income per unit for the three months ended June 30, 2014:
Total | Common Units | Restricted Common Units* | ||||||||||
($ in thousands, except for per unit amounts) | ||||||||||||
Loss from continuing operations | $ | (17,395 | ) | |||||||||
Distributions** | — | $ | — | $ | — | |||||||
Assumed loss from continuing operations after distribution to be allocated | (17,395 | ) | (17,395 | ) | — | |||||||
Assumed allocation of loss from continuing operations | (17,395 | ) | (17,395 | ) | — | |||||||
Discontinued operations | (25,646 | ) | (25,646 | ) | — | |||||||
Assumed net loss to be allocated | $ | (43,041 | ) | $ | (43,041 | ) | $ | — | ||||
Basic loss from continuing operations per unit | $ | (0.11 | ) | |||||||||
Basic discontinued operations per unit | $ | (0.16 | ) | |||||||||
Basic and diluted loss per unit | $ | (0.27 | ) | |||||||||
Diluted income from continuing operations per unit | $ | (0.11 | ) | |||||||||
Diluted discontinued operations per unit | $ | (0.16 | ) | |||||||||
Diluted income per unit | $ | (0.27 | ) |
_____________________________
* | Restricted common units granted under the LTIP that contain non-forfeitable rights to the distributions declared by the Partnership. |
** | No distribution was declared or paid for this period as the distribution was suspended for this period. |
22
EAGLE ROCK ENERGY PARTNERS, L.P.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
The following table presents the Partnership's basic and diluted income per unit for the three months ended June 30, 2013:
Total | Common Units | Restricted Common Units | ||||||||||
($ in thousands, except for per unit amounts) | ||||||||||||
Income from continuing operations | $ | 12,131 | ||||||||||
Distributions | 34,972 | $ | 34,337 | $ | 635 | |||||||
Assumed income from continuing operations after distribution to be allocated | (22,841 | ) | (22,841 | ) | — | |||||||
Assumed allocation of income from continuing operations | 12,131 | 11,496 | 635 | |||||||||
Discontinued operations | 3,901 | 3,901 | — | |||||||||
Assumed net income to be allocated | $ | 16,032 | $ | 15,397 | $ | 635 | ||||||
Basic income from continuing operations per unit | $ | 0.07 | ||||||||||
Basic discontinued operations per unit | $ | 0.03 | ||||||||||
Basic and diluted income per unit | $ | 0.10 | ||||||||||
Diluted income from continuing operations per unit | $ | 0.07 | ||||||||||
Diluted discontinued operations per unit | $ | 0.03 | ||||||||||
Diluted income per unit | $ | 0.10 |
The following table presents the Partnership's basic and diluted income per unit for the six months ended June 30, 2014:
Total | Common Units | Restricted Common Units* | ||||||||||
($ in thousands, except for per unit amounts) | ||||||||||||
Loss from continuing operations | $ | (25,355 | ) | |||||||||
Distributions ** | — | $ | — | $ | — | |||||||
Assumed loss from continuing operations after distribution to be allocated | (25,355 | ) | (25,355 | ) | — | |||||||
Assumed allocation of loss from continuing operations | (25,355 | ) | (25,355 | ) | — | |||||||
Discontinued operations, net of tax | (36,249 | ) | (36,249 | ) | — | |||||||
Assumed net loss to be allocated | $ | (61,604 | ) | $ | (61,604 | ) | $ | — | ||||
Basic income from continuing operations per unit | $ | (0.16 | ) | |||||||||
Basic discontinued operations per unit | $ | (0.23 | ) | |||||||||
Basic and diluted loss per unit | $ | (0.39 | ) | |||||||||
Diluted income from continuing operations per unit | $ | (0.16 | ) | |||||||||
Diluted discontinued operations per unit | $ | (0.23 | ) | |||||||||
Diluted income per unit | $ | (0.39 | ) |
_____________________________
* | Restricted common units granted under the LTIP that contain non-forfeitable rights to the distributions declared by the Partnership. |
** | No distribution was declared or paid for this period as the distribution was suspended for this period. |
23
EAGLE ROCK ENERGY PARTNERS, L.P.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
The following table presents the Partnership's basic and diluted income per unit for the six months ended June 30, 2013:
Total | Common Units | Restricted Common Units | ||||||||||
($ in thousands, except for per unit amounts) | ||||||||||||
Loss from continuing operations | $ | 207 | ||||||||||
Distributions | 69,670 | $ | 68,443 | $ | 1,227 | |||||||
Assumed loss from continuing operations after distribution to be allocated | (69,463 | ) | (69,463 | ) | — | |||||||
Assumed allocation of loss from continuing operations | 207 | (1,020 | ) | 1,227 | ||||||||
Discontinued operations, net of tax | (17,689 | ) | (17,689 | ) | — | |||||||
Assumed net loss to be allocated | $ | (17,482 | ) | $ | (18,709 | ) | $ | 1,227 | ||||
Basic income from continuing operations per unit | $ | (0.01 | ) | |||||||||
Basic discontinued operations per unit | $ | (0.12 | ) | |||||||||
Basic and diluted loss per unit | $ | (0.13 | ) | |||||||||
Diluted income from continuing operations per unit | $ | (0.01 | ) | |||||||||
Diluted discontinued operations per unit | $ | (0.12 | ) | |||||||||
Diluted income per unit | $ | (0.13 | ) |
NOTE 16. DIVESTITURE RELATED ACTIVITIES
As discussed in Note 1, as of June 30, 2014, the Partnership met the criteria for classifying the assets and liabilities of its Midstream Business as held-for-sale and the operations as discontinued.
The following is the reconciliation of the major classes of assets and liabilities classified as held for sale.
June 30, 2014 | December 31, 2013 | ||||||
Assets held-for-sale | |||||||
Accounts Receivable | $ | 111,131 | $ | 128,713 | |||
Property, plant and equipment | 989,755 | 1,004,317 | |||||
Intangible assets | 99,830 | 102,352 | |||||
Other current assets | 750 | 5,663 | |||||
Other long-term assets | 9,764 | 18,337 | |||||
Total assets held-for-sale | $ | 1,211,230 | $ | 1,259,382 | |||
Liabilities held-for-sale | |||||||
Long-term debt | $ | 494,898 | $ | 494,582 | |||
Accounts payable and accrued liabilities | 99,653 | 119,966 | |||||
Other current liabilities | 11,778 | 9,471 | |||||
Other long-term liabilities | 20,403 | 13,719 | |||||
Total liabilities held-for-sale | $ | 626,732 | $ | 637,738 |
24
EAGLE ROCK ENERGY PARTNERS, L.P.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
The following following is the reconciliation of the major classes of line items classified as discontinued operations.
Three Months Ended June 30, | Six Months Ended June 30, | |||||||||||||||
2014 | 2013 | 2014 | 2013 | |||||||||||||
Class of statement of operations line item of discontinued operations: | ||||||||||||||||
Revenue | $ | 245,210 | $ | 253,485 | $ | 548,081 | $ | 470,750 | ||||||||
Cost of natural gas, natural gas liquids, condensate and helium | 199,700 | 185,760 | 444,673 | 365,748 | ||||||||||||
Operations, maintenance and taxes other than income | 25,078 | 27,020 | 50,127 | 48,989 | ||||||||||||
General and administrative | 12,107 | 6,055 | 20,208 | 11,592 | ||||||||||||
Depreciation, amortization and impairment | 19,737 | 19,097 | 41,936 | 38,038 | ||||||||||||
Interest expense | (14,118 | ) | (12,110 | ) | (27,350 | ) | (24,129 | ) | ||||||||
Other expense | (60 | ) | 140 | (68 | ) | 140 | ||||||||||
Operating income (loss) from discontinued operations before taxes | (25,590 | ) | 3,583 | (36,281 | ) | (17,606 | ) | |||||||||
Income tax expense (benefit) | 56 | (318 | ) | (32 | ) | 83 | ||||||||||
Discontinued operations | $ | (25,646 | ) | $ | 3,901 | $ | (36,249 | ) | $ | (17,689 | ) |
Allocation of interest expense
Per accounting guidance provided by the FASB related to discontinued operations, interest on debt that is to be assumed by the buyer and interest on debt that is required to be repaid as a result of a disposal transaction should be allocated to discontinued operations. Per the Partnership's Credit Agreement, as a result of the contribution of the Midstream Business, the Partnership is required to pay down outstanding debt to the amount of the upstream portion of the borrowing base. Thus, interest expense in the table above includes the the interest expense related to the portion of the Partnership's unsecured Senior Notes exchanged for Regency unsecured senior notes on July 1, 2014 (see Note 1) and interest related to the difference between the total amount outstanding under the Credit Agreement and the upstream portion of the borrowing base.
Restructuring activities
In connection with the contribution of the Midstream Business to Regency, the Partnership accrued one-time employee termination benefit of $3.2 million as of June 30, 2014. The Partnership expects to pay these amounts by the end of 2014. The accrual is recorded as part of accrued liabilities within the unaudited condensed consolidated balance sheet, while the expense is recorded as part of discontinued operations within the unaudited condensed consolidated statement of operations.
NOTE 17. SUBSIDIARY GUARANTORS
The Partnership has issued registered debt securities guaranteed by its subsidiaries. As of June 30, 2014, all guarantors were wholly-owned or available to be pledged and such guarantees were joint and several and full and unconditional. Although the guarantees of the Partnership's subsidiary guarantors are considered full and unconditional, the guarantees are subject to certain customary release provisions. Such guarantees may be released in the following customary circumstances:
• | in connection with any sale or other disposition of all or substantially all of the properties or assets of that guarantor (including by way of merger or consolidation) to a person that is not (either before or after giving effect to such transaction) an issuer or a restricted subsidiary of the Partnership; |
• | in connection with any sale or other disposition of capital stock of that guarantor to a person that is not (either before or after giving effect to such transaction) an issuer or a restricted subsidiary of us, such that, the guarantor ceases to be a restricted subsidiary of us as a result of the sale or other disposition; |
• | if the Partnership designates any restricted subsidiary that is a guarantor to be an unrestricted subsidiary in accordance with the applicable provisions of the indenture; |
• | upon legal defeasance or satisfaction and discharge of the indenture; |
• | upon the liquidation or dissolution of such guarantor provided no default or event of default has occurred that is continuing; |
25
EAGLE ROCK ENERGY PARTNERS, L.P.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
• | at such time as such guarantor ceases to guarantee any other indebtedness of either of the issuers or any guarantor; or |
• | upon such guarantor consolidating with, merging into or transferring all of its properties or assets to us or another guarantor, and as a result of, or in connection with, such transaction such guarantor dissolving or otherwise ceasing to exist. |
In accordance with Rule 3-10 of SEC Regulation S-X, the Partnership has prepared Unaudited Condensed Consolidating Financial Statements as supplemental information. The following unaudited condensed consolidating balance sheets at June 30, 2014 and December 31, 2013, and unaudited condensed consolidating statements of operations for the three and six months ended June 30, 2014 and 2013, and unaudited condensed consolidating statements of cash flows for the six months ended June 30, 2014 and 2013, present financial information for Eagle Rock Energy as the parent on a stand-alone basis (carrying any investments in subsidiaries under the equity method), financial information for the co-issuer and the subsidiary guarantors, which are all 100% owned by the parent, on a stand-alone basis, and the consolidation and elimination entries necessary to arrive at the information for the Partnership on a consolidated basis. The subsidiary guarantors are not restricted from making distributions to the Partnership. Pursuant to the Contribution of the Midstream Business, all of the Partnership's Midstream Subsidiaries were contributed to Regency on July 1, 2014 and released from their guarantees under the indenture and Credit Agreement.
Unaudited Condensed Consolidating Balance Sheet
June 30, 2014
Parent Issuer | Co-Issuer | Subsidiary Guarantors | Non-Guarantor Investments | Consolidating Entries | Total | ||||||||||||||||||
($ in thousands) | |||||||||||||||||||||||
ASSETS: | |||||||||||||||||||||||
Accounts receivable – related parties | $ | 676,812 | $ | — | $ | — | $ | — | $ | (676,812 | ) | $ | — | ||||||||||
Assets held for sale | 9,401 | — | 1,201,829 | — | — | $ | 1,211,230 | ||||||||||||||||
Other current assets | 6,055 | 1 | 42,804 | — | — | 48,860 | |||||||||||||||||
Total property, plant and equipment, net | 1,966 | — | 857,929 | — | — | 859,895 | |||||||||||||||||
Investment in subsidiaries | 1,161,226 | — | — | 884 | (1,162,110 | ) | — | ||||||||||||||||
Total other long-term assets | 1,423 | — | 9,357 | — | — | 10,780 | |||||||||||||||||
Total assets | $ | 1,856,883 | $ | 1 | $ | 2,111,919 | $ | 884 | $ | (1,838,922 | ) | $ | 2,130,765 | ||||||||||
LIABILITIES AND EQUITY: | |||||||||||||||||||||||
Accounts payable – related parties | $ | — | $ | — | $ | 676,812 | $ | — | $ | (676,812 | ) | $ | — | ||||||||||
Current portion of long-term debt | 439,000 | — | — | — | — | 439,000 | |||||||||||||||||
Liabilities held for sale | 509,767 | — | 116,965 | — | — | 626,732 | |||||||||||||||||
Other current liabilities | 23,828 | — | 74,174 | — | — | 98,002 | |||||||||||||||||
Other long-term liabilities | 10,574 | — | 82,743 | — | — | 93,317 | |||||||||||||||||
Long-term debt | 380,712 | — | — | — | — | 380,712 | |||||||||||||||||
Equity | 493,002 | 1 | 1,161,225 | 884 | (1,162,110 | ) | 493,002 | ||||||||||||||||
Total liabilities and equity | $ | 1,856,883 | $ | 1 | $ | 2,111,919 | $ | 884 | $ | (1,838,922 | ) | $ | 2,130,765 |
26
EAGLE ROCK ENERGY PARTNERS, L.P.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
Unaudited Condensed Consolidating Balance Sheet
December 31, 2013
Parent Issuer | Co-Issuer | Subsidiary Guarantors | Non-Guarantor Investments | Consolidating Entries | Total | ||||||||||||||||||
($ in thousands) | |||||||||||||||||||||||
ASSETS: | |||||||||||||||||||||||
Accounts receivable – related parties | $ | 691,588 | $ | — | $ | — | $ | — | $ | (691,588 | ) | $ | — | ||||||||||
Assets held for sale | 7,333 | — | 1,252,049 | — | — | 1,259,382 | |||||||||||||||||
Other current assets | 6,927 | 1 | 22,080 | — | — | 29,008 | |||||||||||||||||
Total property, plant and equipment, net | 2,318 | — | 822,133 | — | — | 824,451 | |||||||||||||||||
Investment in subsidiaries | 1,133,217 | — | — | 908 | (1,134,125 | ) | — | ||||||||||||||||
Total other long-term assets | 11,441 | — | 3,268 | — | — | 14,709 | |||||||||||||||||
Total assets | $ | 1,852,824 | $ | 1 | $ | 2,099,530 | $ | 908 | $ | (1,825,713 | ) | $ | 2,127,550 | ||||||||||
LIABILITIES AND EQUITY: | |||||||||||||||||||||||
Accounts payable – related parties | $ | — | $ | — | $ | 691,588 | $ | — | $ | (691,588 | ) | $ | — | ||||||||||
Current portion of long-term debt | — | — | — | — | — | — | |||||||||||||||||
Liabilities held for sale | 500,110 | — | 137,628 | — | — | 637,738 | |||||||||||||||||
Other current liabilities | 15,688 | — | 66,141 | — | — | 81,829 | |||||||||||||||||
Other long-term liabilities | 5,667 | — | 70,957 | — | — | 76,624 | |||||||||||||||||
Long-term debt | 757,480 | — | — | — | — | 757,480 | |||||||||||||||||
Equity | 573,879 | 1 | 1,133,216 | 908 | (1,134,125 | ) | 573,879 | ||||||||||||||||
Total liabilities and equity | $ | 1,852,824 | $ | 1 | $ | 2,099,530 | $ | 908 | $ | (1,825,713 | ) | $ | 2,127,550 |
Unaudited Condensed Consolidating Statement of Operations
For the Three Months Ended June 30, 2014
Parent Issuer | Co-Issuer | Subsidiary Guarantors | Non-Guarantor Investments | Consolidating Entries | Total | ||||||||||||||||||
($ in thousands) | |||||||||||||||||||||||
Total revenues | $ | (18,081 | ) | $ | — | $ | 52,125 | $ | — | $ | — | $ | 34,044 | ||||||||||
Operations and maintenance | 3 | — | 10,904 | — | — | 10,907 | |||||||||||||||||
Taxes other than income | — | — | 3,596 | — | — | 3,596 | |||||||||||||||||
General and administrative | 2,064 | — | 9,941 | — | — | 12,005 | |||||||||||||||||
Depreciation, depletion and amortization | 295 | — | 20,004 | — | — | 20,299 | |||||||||||||||||
Loss from operations | (20,443 | ) | — | 7,680 | — | — | (12,763 | ) | |||||||||||||||
Interest expense, net | (4,946 | ) | — | (2 | ) | — | — | (4,948 | ) | ||||||||||||||
Other non-operating income | 2,163 | — | 2,291 | — | (4,454 | ) | — | ||||||||||||||||
Other non-operating expense | (1,987 | ) | — | (3,036 | ) | — | 4,454 | (569 | ) | ||||||||||||||
Income (loss) before income taxes | (25,213 | ) | — | 6,933 | — | — | (18,280 | ) | |||||||||||||||
Income tax benefit | 82 | — | (967 | ) | — | — | (885 | ) | |||||||||||||||
Equity in earnings of subsidiaries | 9,377 | — | — | — | (9,377 | ) | — | ||||||||||||||||
Income (loss) from continuing operations | (15,918 | ) | — | 7,900 | — | (9,377 | ) | (17,395 | ) | ||||||||||||||
Discontinued operations, net of tax | (27,123 | ) | — | 1,479 | (2 | ) | — | (25,646 | ) | ||||||||||||||
Net income (loss) | $ | (43,041 | ) | $ | — | $ | 9,379 | $ | (2 | ) | $ | (9,377 | ) | $ | (43,041 | ) |
27
EAGLE ROCK ENERGY PARTNERS, L.P.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
Unaudited Condensed Consolidating Statement of Operations
For the Three Months Ended June 30, 2013
Parent Issuer | Co-Issuer | Subsidiary Guarantors | Non-Guarantor Investments | Consolidating Entries | Total | ||||||||||||||||||
($ in thousands) | |||||||||||||||||||||||
Total revenues | $ | 17,338 | $ | — | $ | 49,328 | $ | — | $ | — | $ | 66,666 | |||||||||||
Operations and maintenance | — | — | 9,579 | — | — | 9,579 | |||||||||||||||||
Taxes other than income | — | — | 3,583 | — | — | 3,583 | |||||||||||||||||
General and administrative | 3,031 | — | 10,310 | — | — | 13,341 | |||||||||||||||||
Depreciation, depletion and amortization | 299 | — | 21,761 | — | — | 22,060 | |||||||||||||||||
Impairment | — | — | 1,839 | — | — | 1,839 | |||||||||||||||||
Income from operations | 14,008 | — | 2,256 | — | — | 16,264 | |||||||||||||||||
Interest expense, net | (4,446 | ) | — | (53 | ) | — | — | (4,499 | ) | ||||||||||||||
Other non-operating income | 2,238 | — | 2,325 | — | (4,563 | ) | — | ||||||||||||||||
Other non-operating expense | (1,602 | ) | — | (3,139 | ) | — | 4,563 | (178 | ) | ||||||||||||||
Income (loss) before income taxes | 10,198 | — | 1,389 | — | — | 11,587 | |||||||||||||||||
Income tax provision (benefit) | (98 | ) | — | (446 | ) | — | — | (544 | ) | ||||||||||||||
Equity in earnings of subsidiaries | 9,962 | — | — | — | (9,962 | ) | — | ||||||||||||||||
Income (loss) from continuing operations | 20,258 | — | 1,835 | — | (9,962 | ) | 12,131 | ||||||||||||||||
Discontinued operations, net of tax | (4,226 | ) | — | 8,128 | (1 | ) | — | 3,901 | |||||||||||||||
Net income (loss) | $ | 16,032 | $ | — | $ | 9,963 | $ | (1 | ) | $ | (9,962 | ) | $ | 16,032 |
Unaudited Condensed Consolidating Statement of Operations
For the Six Months Ended June 30, 2014
Parent Issuer | Co-Issuer | Subsidiary Guarantors | Non-Guarantor Investments | Consolidating Entries | Total | ||||||||||||||||||
($ in thousands) | |||||||||||||||||||||||
Total revenues | $ | (28,114 | ) | $ | — | $ | 107,361 | $ | — | $ | — | $ | 79,247 | ||||||||||
Operations and maintenance | 3 | — | 22,402 | — | — | 22,405 | |||||||||||||||||
Taxes other than income | — | — | 7,387 | — | — | 7,387 | |||||||||||||||||
General and administrative | 4,961 | — | 20,334 | — | — | 25,295 | |||||||||||||||||
Depreciation, depletion and amortization | 348 | — | 40,357 | — | — | 40,705 | |||||||||||||||||
(Loss) income from operations | (33,426 | ) | — | 16,881 | — | — | (16,545 | ) | |||||||||||||||
Interest expense, net | (9,700 | ) | — | (2 | ) | — | — | (9,702 | ) | ||||||||||||||
Other non-operating income | 4,384 | — | 4,592 | — | (8,976 | ) | — | ||||||||||||||||
Other non-operating expense | (3,703 | ) | — | (6,131 | ) | — | 8,976 | (858 | ) | ||||||||||||||
(Loss) income before income taxes | (42,445 | ) | — | 15,340 | — | — | (27,105 | ) | |||||||||||||||
Income tax benefit | (185 | ) | — | (1,565 | ) | — | — | (1,750 | ) | ||||||||||||||
Equity in earnings of subsidiaries | 28,011 | — | — | — | (28,011 | ) | — | ||||||||||||||||
Income (loss) from continuing operations | (14,249 | ) | — | 16,905 | — | (28,011 | ) | (25,355 | ) | ||||||||||||||
Discontinued operations, net of tax | (47,355 | ) | — | 11,115 | (9 | ) | — | (36,249 | ) | ||||||||||||||
Net (loss) income | $ | (61,604 | ) | $ | — | $ | 28,020 | $ | (9 | ) | $ | (28,011 | ) | $ | (61,604 | ) |
28
EAGLE ROCK ENERGY PARTNERS, L.P.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
Unaudited Condensed Consolidating Statement of Operations
For the Six Months Ended June 30, 2013
Parent Issuer | Co-Issuer | Subsidiary Guarantors | Non-Guarantor Investments | Consolidating Entries | Total | ||||||||||||||||||
($ in thousands) | |||||||||||||||||||||||
Total revenues | $ | 10,502 | $ | — | $ | 96,630 | $ | — | $ | — | $ | 107,132 | |||||||||||
Operations and maintenance | — | — | 21,279 | — | — | 21,279 | |||||||||||||||||
Taxes other than income | — | — | 5,999 | — | — | 5,999 | |||||||||||||||||
General and administrative | 6,679 | — | 19,972 | — | — | 26,651 | |||||||||||||||||
Depreciation, depletion and amortization | 346 | — | 43,010 | — | — | 43,356 | |||||||||||||||||
Impairment | — | — | 1,839 | — | — | 1,839 | |||||||||||||||||
Income from operations | 3,477 | — | 4,531 | — | — | 8,008 | |||||||||||||||||
Interest expense, net | (8,731 | ) | — | (833 | ) | — | — | (9,564 | ) | ||||||||||||||
Other non-operating income | 4,519 | — | 4,659 | — | (9,178 | ) | — | ||||||||||||||||
Other non-operating expense | (3,218 | ) | — | (6,302 | ) | — | 9,178 | (342 | ) | ||||||||||||||
Loss before income taxes | (3,953 | ) | — | 2,055 | — | — | (1,898 | ) | |||||||||||||||
Income tax benefit | (673 | ) | — | (1,432 | ) | — | — | (2,105 | ) | ||||||||||||||
Equity in earnings of subsidiaries | (907 | ) | — | — | — | 907 | — | ||||||||||||||||
Income (loss) from continuing operations | (4,187 | ) | — | 3,487 | — | 907 | 207 | ||||||||||||||||
Discontinued operations, net of tax | (13,295 | ) | — | (4,388 | ) | (6 | ) | — | (17,689 | ) | |||||||||||||
Net loss | $ | (17,482 | ) | $ | — | $ | (901 | ) | $ | (6 | ) | $ | 907 | $ | (17,482 | ) |
Unaudited Condensed Consolidating Statement of Cash Flows
For the Six Months Ended June 30, 2014
Parent Issuer | Co-Issuer | Subsidiary Guarantors | Non-Guarantor Investments | Consolidating Entries | Total | ||||||||||||||||||
($ in thousands) | |||||||||||||||||||||||
Net cash flows provided by operating activities | $ | 2,594 | $ | — | $ | 23,080 | $ | — | $ | — | $ | 25,674 | |||||||||||
CASH FLOWS FROM INVESTING ACTIVITIES: | |||||||||||||||||||||||
Additions to property, plant and equipment | 4 | — | (63,793 | ) | — | — | (63,789 | ) | |||||||||||||||
Net cash flows used in investing activities | 4 | — | (63,793 | ) | — | — | (63,789 | ) | |||||||||||||||
CASH FLOWS FROM FINANCING ACTIVITIES: | |||||||||||||||||||||||
Proceeds from long-term debt | 315,150 | — | — | — | — | 315,150 | |||||||||||||||||
Repayment of long-term debt | (252,950 | ) | — | — | — | — | (252,950 | ) | |||||||||||||||
Payment of debt issuance cost | (410 | ) | — | — | — | — | (410 | ) | |||||||||||||||
Proceeds from derivative contracts | (3,425 | ) | — | — | — | — | (3,425 | ) | |||||||||||||||
Repurchase of common units | (1,084 | ) | — | — | — | — | (1,084 | ) | |||||||||||||||
Distributions to members and affiliates | (23,801 | ) | — | — | — | — | (23,801 | ) | |||||||||||||||
Net cash flows used in financing activities | 33,480 | — | — | — | — | 33,480 | |||||||||||||||||
Net cash flows used in discontinued operations | (34,973 | ) | — | 40,251 | 22 | — | 5,300 | ||||||||||||||||
Net increase (decrease) in cash and cash equivalents | 1,105 | — | (462 | ) | 22 | — | 665 | ||||||||||||||||
Cash and cash equivalents at beginning of period | 1,237 | 1 | (1,389 | ) | 227 | — | 76 | ||||||||||||||||
Cash and cash equivalents at end of period | $ | 2,342 | $ | 1 | $ | (1,851 | ) | $ | 249 | $ | — | $ | 741 |
29
EAGLE ROCK ENERGY PARTNERS, L.P.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
Unaudited Condensed Consolidating Statement of Cash Flows
For the Six Months Ended June 30, 2013
Parent Issuer | Co-Issuer | Subsidiary Guarantors | Non-Guarantor Investments | Consolidating Entries | Total | ||||||||||||||||||
($ in thousands) | |||||||||||||||||||||||
Net cash flows (used in) provided by operating activities | $ | (31,423 | ) | $ | — | $ | 88,507 | $ | — | $ | — | $ | 57,084 | ||||||||||
CASH FLOWS FROM INVESTING ACTIVITIES: | |||||||||||||||||||||||
Additions to property, plant and equipment | (855 | ) | — | (82,540 | ) | — | — | (83,395 | ) | ||||||||||||||
Net cash flows used in investing activities | (855 | ) | — | (82,540 | ) | — | — | (83,395 | ) | ||||||||||||||
CASH FLOWS FROM FINANCING ACTIVITIES: | |||||||||||||||||||||||
Proceeds from long-term debt | 316,700 | — | — | — | — | 316,700 | |||||||||||||||||
Repayment of long-term debt | (312,200 | ) | — | — | — | — | (312,200 | ) | |||||||||||||||
Proceeds from derivative contracts | 877 | — | — | — | — | 877 | |||||||||||||||||
Common unit issued in equity offerings | 102,388 | — | — | — | — | 102,388 | |||||||||||||||||
Issuance costs for equity offerings | (4,181 | ) | — | — | — | — | (4,181 | ) | |||||||||||||||
Repurchase of common units | (1,000 | ) | — | — | — | — | (1,000 | ) | |||||||||||||||
Distributions to members and affiliates | (67,117 | ) | — | — | — | — | (67,117 | ) | |||||||||||||||
Net cash flows provided by financing activities | 35,467 | — | — | — | — | 35,467 | |||||||||||||||||
Net cash flows used in discontinued operations | (3,660 | ) | — | (5,447 | ) | 21 | — | (9,086 | ) | ||||||||||||||
Net (decrease) increase in cash and cash equivalents | (471 | ) | — | 520 | 21 | — | 70 | ||||||||||||||||
Cash and cash equivalents at beginning of period | 1,670 | 1 | (1,832 | ) | 186 | — | 25 | ||||||||||||||||
Cash and cash equivalents at end of period | $ | 1,199 | $ | 1 | $ | (1,312 | ) | $ | 207 | $ | — | $ | 95 |
NOTE 18. SUBSEQUENT EVENTS
Contribution of the Midstream Business
On July 1, 2014, the Partnership completed the contribution of its Midstream Business to Regency (see Note 1).
Amendment to Senior Note Indenture
$51.1 million of the Partnership's Senior Notes did not exchange and remain outstanding; however, the Partnership secured a sufficient number of consents as part of the exchange offer to, and did, amend the indenture governing its remaining outstanding unsecured senior notes to eliminate substantially all of the restrictive covenants and certain events of default pertaining to its Senior Notes.
30
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations
CAUTIONARY NOTE REGARDING FORWARD-LOOKING STATEMENTS
This report includes “forward-looking statements” as defined by the Securities and Exchange Commission (the "SEC"). All statements, other than statements of historical facts, included in this report that address activities, events or developments that we expect, believe or anticipate will or may occur in the future are forward-looking statements. These statements are based on certain assumptions made by us based on our experience and perception of historical trends, current conditions, expected future developments and other factors we believe are appropriate under the circumstances. Such statements are subject to a number of assumptions, risks and uncertainties, many of which are beyond our control, which may cause our actual results to differ materially from those implied or expressed by the forward-looking statements. We do not assume any obligation to update such forward-looking statements following the date of this report. For a complete description of known material risks, please read our risk factors set forth in our Annual Report on Form 10-K for the year ended December 31, 2013 and in "Part II. Item 1A. Risk Factors." These factors include but are not limited to:
• | Drilling and geological / exploration risks; |
• | Assumptions regarding oil and natural gas reserve levels and costs to exploit and timing of development; |
• | Volatility or declines (including sustained declines) in commodity prices; |
• | Ability to make favorable acquisitions and integrate operations from such acquisitions; |
• | Our existing indebtedness; |
• | Hedging activities; |
• | Ability to obtain credit and access capital markets; |
• | Ability to remain in compliance with the covenants set forth in our revolving credit facility; |
• | Conditions in the securities and/or capital markets; |
• | Availability and cost of processing and transporting of natural gas liquids ("NGLs"); |
• | Competition in the oil and natural gas industry; |
• | Relevant legislative or regulatory changes, including retroactive royalty or production tax regimes, changes in environmental, health and safety regulation, hydraulic fracturing regulation, environmental risks and liability under federal, state and foreign environmental laws and regulations; |
• | Shortages of personnel and equipment; |
• | Increases in interest rates; |
• | Creditworthiness of our counterparties; |
• | Weather, including the occurrence of any adverse weather conditions and/or natural disasters affecting our business; |
• | Any other factors that impact or could impact the exploration of oil or natural gas resources, including but not limited to the geology of a resource, the total amount and costs to develop recoverable reserves, legal title, regulatory, natural gas administration, marketing and operations factors relating to the extraction of oil and natural gas; |
• | Tax risk associated with pass-through investment, including potential reduction in tax shield or creation of phantom income in the event distributions are not enough to support the tax burden; and |
• | Impact of cyber-security threats and related disruptions. |
31
OVERVIEW
The following discussion and analysis of financial condition and results of operations should be read in conjunction with our unaudited condensed consolidated financial statements, and the notes thereto, appearing elsewhere in this report, as well as our Annual Report on Form 10-K for the year ended December 31, 2013 filed with the Securities and Exchange Commission. For a description of oil and natural gas terms, see our Annual Report on Form 10-K for the year ended December 31, 2013.
Recent Developments
On December 23, 2013, we announced that we had entered into a definitive agreement to contribute our gathering, compressing, treating, processing, transporting, marketing and trading natural gas; fractionating, transporting and marketing NGLs; and crude oil and condensate logistics and marketing assets and businesses ("Midstream Business") to Regency Energy Partners LP ("Regency") (the "Midstream Business Contribution"). The Midstream Business Contribution was approved by the Partnership's common unitholders on April 29, 2014. On June 27, 2014, the Partnership announced that the Federal Trade Commission had voted to close its investigation into the contribution of its Midstream Business to Regency. As of that date, all significant closing conditions for the transaction had been satisfied and the Partnership has classified the assets and liabilities of its Midstream Business as held for sale and the operations as discontinued.
On July 1, 2014, we completed the contribution of our Midstream Business to Regency. The consideration received by us for the contribution of our Midstream Business included: (i) $576.2 million of cash; (ii) 8,245,859 Regency common units (valued at approximately $265 million based on the closing price of Regency common units on June 30, 2014) and (iii) the exchange of $498.9 million face amount of newly-issued Regency 8.375% Senior Notes due 2019 for $498.9 million face amount of our existing 8.375% Senior Notes.
Results Overview
As a result of the contribution of our Midstream Business, we are now a domestically-focused, growth-oriented, publicly-traded Delaware limited partnership engaged in developing and producing oil and natural gas property interests. Our interests include operated and non-operated wells located in the Mid-Continent (which includes areas in Oklahoma, Arkansas, and the Texas Panhandle); Permian (which includes areas in West Texas); East Texas / South Texas / Mississippi; and Southern Alabama (which also includes two treating facilities and one natural gas processing plant and related gathering systems).
Results for the three and six months ended June 30, 2014, included the following:
• | revenues, excluding the impact of commodity risk management gains (losses) were $52.1 million and $107.4 million, respectively, for the three and six months ended June 30, 2014, compared to $49.3 million and $96.6 million for the three and six months ended June 30, 2013; |
• | commodity risk management losses were $18.1 million and $28.1 million, respectively, for the three and six months ended June 30, 2014, compared to commodity risk management gains of $17.3 million and $10.5 million, respectively, for the three and six months ended June 30, 2013; |
• | operating losses were $12.8 million and $16.5 million, respectively, for the three and six months ended June 30, 2014, compared to operating gains of $16.3 million and $8.0 million, respectively, for the three and six months ended June 30, 2013; |
• | average daily production was 72 MMcfe/d for the six months ended June 30, 2014, compared to 73 MMcfe/d for the six months ended June 30, 2013; and |
• | capital expenditures were $35.7 million and $75.0 million, respectively, for the three and six months ended June 30, 2014, compared to $35.1 million and $69.2 million, respectively, for the three and six months ended June 30, 2013. |
Impairment
During the three and six months ended June 30, 2013, we recorded an impairment charge of $1.8 million in our Upstream Business related to certain proved properties in our Permian region due to lower commodity prices and continued higher operating costs. We did not recorded any impairment charges in our Upstream Business during the three and six months ended June 30, 2014. During the six months ended June 30, 2014, we recorded an impairment charge of $2.1 million in our Midstream Business due to the loss of two customers on our North System. This charge is included within discontinued
32
operations. We did not record any impairment charges in Midstream Business during the three months ended June 30, 2014 or the three and six months ended June 30, 2013.
Pursuant to accounting principles generally accepted in the United States of America ("GAAP"), our impairment analysis does not take into account the value of our commodity derivative instruments, which generally increase as the estimates of future prices decline. Further declines in commodity prices and other factors could result in additional impairment charges and changes to the fair value of our derivative instruments.
Subsequent Events
On July 1, 2014, we used the cash received from Regency for the Midstream Business Contribution (see above) to paydown $570.4 million outstanding under the Credit Agreement. Accordingly, as of July 1, 2014, the amount outstanding under the Credit Agreement was $198.6 million.
In addition, $51.1 million of our Senior Notes did not exchange in connection with the Midstream Business Contribution and remain outstanding. However, having secured a sufficient number of consents as part of the exchange offer, we amended the indenture governing our Senior Notes to eliminate substantially all of the restrictive covenants and certain events of default pertaining to its Senior Notes.
33
RESULTS OF OPERATIONS
Summary of Consolidated Operating Results
Below is a table of a summary of our consolidated operating results for the three and six months ended June 30, 2014 and 2013.
Three Months Ended June 30, | Six Months Ended June 30, | ||||||||||||||
2014 | 2013 | 2014 | 2013 | ||||||||||||
($ in thousands) | |||||||||||||||
Revenues: | |||||||||||||||
Oil and condensate | 26,493 | 24,976 | 53,627 | 48,575 | |||||||||||
Natural gas | 12,899 | 12,729 | 27,498 | 22,724 | |||||||||||
NGLs | 10,247 | 8,596 | 21,713 | 18,872 | |||||||||||
Sulfur | 2,328 | 2,951 | 4,213 | 5,886 | |||||||||||
Commodity risk management gains (losses), net | (18,081 | ) | 17,338 | (28,114 | ) | 10,502 | |||||||||
Other revenue | 158 | 76 | 310 | 573 | |||||||||||
Total revenue | 34,044 | 66,666 | 79,247 | 107,132 | |||||||||||
Costs and expenses: | |||||||||||||||
Operations and maintenance | 10,907 | 9,579 | 22,405 | 21,279 | |||||||||||
Taxes other than income | 3,596 | 3,583 | 7,387 | 5,999 | |||||||||||
General and administrative | 12,005 | 13,341 | 25,295 | 26,651 | |||||||||||
Impairment | — | 1,839 | — | 1,839 | |||||||||||
Depreciation, depletion and amortization | 20,299 | 22,060 | 40,705 | 43,356 | |||||||||||
Total costs and expenses | 46,807 | 50,402 | 95,792 | 99,124 | |||||||||||
Operating (loss) income | (12,763 | ) | 16,264 | (16,545 | ) | 8,008 | |||||||||
Other income (expense): | |||||||||||||||
Interest expense, net | (4,948 | ) | (4,499 | ) | (9,702 | ) | (9,564 | ) | |||||||
Interest rate risk management losses, net | (571 | ) | (151 | ) | (861 | ) | (307 | ) | |||||||
Other income (expense), net | 2 | (27 | ) | 3 | (35 | ) | |||||||||
Total other expense | (5,517 | ) | (4,677 | ) | (10,560 | ) | (9,906 | ) | |||||||
(Loss) income before income taxes | (18,280 | ) | 11,587 | (27,105 | ) | (1,898 | ) | ||||||||
Income tax benefit | (885 | ) | (544 | ) | (1,750 | ) | (2,105 | ) | |||||||
(Loss) income from continuing operations | (17,395 | ) | 12,131 | (25,355 | ) | 207 | |||||||||
Discontinued operations, net of tax | (25,646 | ) | 3,901 | (36,249 | ) | (17,689 | ) | ||||||||
Net (loss) income | $ | (43,041 | ) | $ | 16,032 | $ | (61,604 | ) | $ | (17,482 | ) | ||||
Adjusted EBITDA(a) | $ | 24,899 | $ | 29,372 | $ | 50,995 | $ | 56,720 |
________________________
(a) | See "—Liquidity and Capital Resources — Non-GAAP Financial Measures" for a definition and reconciliation to GAAP. |
34
Three Months Ended June 30, | Six Months Ended June 30, | ||||||||||||||
2014 | 2013 | 2014 | 2013 | ||||||||||||
Realized average prices: | |||||||||||||||
Oil and condensate (per Bbl) | $ | 88.21 | $ | 84.85 | $ | 86.85 | $ | 84.71 | |||||||
Natural gas (per Mcf) | $ | 4.38 | $ | 4.00 | $ | 4.66 | $ | 3.60 | |||||||
NGLs (per Bbl) | $ | 35.38 | $ | 30.90 | $ | 38.55 | $ | 33.22 | |||||||
Sulfur (per Long ton) | $ | 91.09 | $ | 110.75 | $ | 84.22 | $ | 110.54 | |||||||
Production volumes: | |||||||||||||||
Oil and condensate (Bbl) | 300,330 | 294,353 | 617,456 | 573,421 | |||||||||||
Natural gas (Mcf) | 2,943,718 | 3,181,264 | 5,895,866 | 6,310,316 | |||||||||||
NGLs (Bbl) | 289,639 | 278,158 | 563,312 | 568,024 | |||||||||||
Total (Mcfe) | 6,483,532 | 6,616,330 | 12,980,474 | 13,158,986 | |||||||||||
Sulfur (Long ton) | 25,554 | 26,641 | 50,015 | 53,240 | |||||||||||
Capital expenditures | 36,106 | 36,740 | 76,941 | 72,458 |
Commodity Revenues. For the three and six months ended June 30, 2014, commodity revenues increased by $2.8 million and $10.7 million, respectively, as compared to the three and six months ended June 30, 2013. The increase in revenues for the three months ended June 30, 2014 compared to the three months ended June 30, 2013 was due to to higher realized oil, NGL and natural gas prices and higher oil and NGL volumes, partially offset by lower natural gas and sulfur volumes and lower sulfur prices. The increase in revenues for the six months ended June 30, 2014, as compared to the six months ended June 30, 2013, was due to higher oil, NGL and natural gas prices and higher oil volumes, offset by decreases in sulfur prices and lower natural gas, NGL and sulfur volumes.
Production volumes during the three and six months ended June 30, 2014 were negatively impacted by performance on our Alabama wells due to unexpected increases in completion times as well as equipment delays and significant declines in production on our Mid-Continent wells due to offsetting fracing on other wells, delay in completions and poorer performance of certain wells.
Commodity Risk Management Gains (Losses), net. During the three and six months ended June 30, 2014, losses in our commodity derivative portfolio decreased by $35.4 million and $38.6 million, respectively, as compared to the three and six months ended June 30, 2013. During the three and six months ended June 30, 2014, losses in our mark-to-market commodity derivative portfolio increased by $29.4 million and $24.1 million as compared to the three and six months ended June 30, 2013, respectively, primarily due to increases in the natural gas, NGL and crude oil forward curves. Our gains from derivative contracts that settled during the three and six months ended June 30, 2014 decreased by $6.0 million and $14.6 million, respectively, compared to the three and six months ended June 30, 2013. The decrease was due to higher natural gas and crude oil index prices, partially offset by lower NGL index prices, in relation to the strike prices of our settled contracts, as compared to the same period in the prior year. In addition, the decrease in realized gains is due to the higher level of direct NGL product contracts that settled during the three and six months ended June 30, 2013, as compared to the same period in 2014.
Given the uncertainty surrounding future commodity prices, and the general inability to predict future commodity prices as they relate to the strike prices at which we have hedged our exposure, it is difficult to predict the magnitude and impact that marking our hedges to market will have on our income from operations in future periods.
Operating Expenses. Operating expenses, including severance and ad valorem taxes, increased $1.3 million and $2.5 million for the three and six months ended June 30, 2014, respectively, as compared to the three and six months ended June 30, 2013. The increase was primarily due to higher severance tax due to higher sales value, a 2013 severance tax credit, increased plant operating expense, and higher lease operating costs due to additional wells drilled.
General and Administrative Expenses. General and administrative expenses decreased by $1.3 million and $1.4 million for the three and six months ended June 30, 2014, respectively, as compared to the same period in 2013. This decrease was primarily due to lower equity based compensation expense due to increase made to the estimated forfeiture rate made during the three months ended June 30, 2014. The forfeiture rate is used to calculate the amount of equity based compensation expense.
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Depletion, Depreciation and Amortization. Depletion, depreciation and amortization expense decreased by $2.1 million and $3.3 million for the three and six months ended June 30, 2014, respectively, as compared to the same period in the prior year. The decrease for the three and six months ended June 30, 2014 was primarily a result of the impairment charges recorded during 2013 and overall decrease in production for the three and six months ended June 30, 2014 compared to the same periods in 2013.
Total Other Expense. Total other expense primarily consists of gains and losses from our interest rate swaps and interest expense related to our Credit Agreement and our senior unsecured notes. During the three and six months ended June 30, 2014, our interest rate risk management losses increased by $0.4 million and $0.6 million, respectively. as compared to the three and six months ended June 30, 2013. These increases were primarily due to decreases in the forward interest rate curve. These unrealized mark-to-market gains did not have any impact on cash activities for the period, and are excluded by definition from our calculation of Adjusted EBITDA.
Interest expense increased by $0.4 million for the three months ended June 30, 2014, as compared to the three months ended June 30, 2013 and decreased by $0.1 million during the three and six months ended June 30, 2014, respectively, as compared to the three and six months ended June 30, 2013. Interest expense is shown before the impact of our interest rate derivatives, which convert a portion of our outstanding debt from variable-rate interest obligations to fixed-rate interest obligations. The increase in interest expense is primarily due to increased borrowings on the Credit Agreement, offset by amounts allocated to discontinued operations.
Income Tax (Benefit) Provision. Income tax provision for 2014 and 2013 relates to (i) state taxes due by us and (ii) federal taxes due by Eagle Rock Energy Acquisition Co., Inc. and Eagle Rock Energy Acquisition Co. II, Inc. and their wholly-owned subsidiary corporations, Eagle Rock Upstream Development Company, Inc. and Eagle Rock Upstream Development Company II, Inc., all of which are subject to federal income taxes.
Discontinued Operations. On June 27, 2014, we announced that the Federal Trade Commission had voted to close its investigation into the contribution of our Midstream Business to Regency. As of that date, all significant closing conditions for the transaction had been satisfied and we have classified the assets of our Midstream Business as assets-held-for-sale or the operations as discontinued. The transaction was completed on July 1, 2014. Discontinued operations decreased by $29.5 million and $18.6 million, respectively, for the three and six months ended June 30, 2014, as compared to the three and six months ended June 30, 2013. The decrease in discontinued operations is primarily due to commodity risk management losses incurred during the three and six months ended June 30, 2014 and increased interest expense allocated to discontinued operations. In addition, included within discontinued operations for the three and six months ended June 30, 2014 are professional fees of $3.5 million and $6.2 million, respectively, and one-time termination benefits of $3.2 million. We expect to incur an additional $2.4 million of one-time termination benefits during the remainder of 2014. See Note 16 to the unaudited condensed consolidated financial statements for the major line items that comprise discontinued operations.
Capital Expenditures. Capital expenditures increased by $0.6 million and $5.8 million for the three and six months ended June 30, 2014, respectively, as compared to the three and six months ended June 30, 2013, primarily due to increased drilling activity.
During the three months ended June 30, 2014, we drilled and completed three gross (1.95 net) operated wells and participated in three gross (0.01 net) non-operated wells in the Mid-Continent region. Additionally, during the three months ended June 30, 2014, we conducted seven gross (5.66 net) capital workovers and three gross (3.00 net) recompletions across our operations.
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Adjusted EBITDA
Adjusted EBITDA, as defined under "—Liquidity and Capital Resources — Non-GAAP Financial Measures," from continuing operations decreased by $4.5 million from $29.4 million for the three months ended June 30, 2013 to $24.9 million for the three months ended June 30, 2014. Adjusted EBITDA from continuing operations decreased by $5.6 million for the six months ended June 30, 2014 as compared to the same period in 2013. The following table presents the changes in operations impacting Adjusted EBITDA:
Three Months Ended June 30, | Six Months Ended June 30, | ||||||||||||||||||||||
2014 | 2013 | Change | 2014 | 2013 | Change | ||||||||||||||||||
Revenues (a) | $ | 52,124 | $ | 49,323 | $ | 2,801 | $ | 107,354 | $ | 96,625 | $ | 10,729 | |||||||||||
Commodity derivative settlements | (2,176 | ) | 3,858 | (6,034 | ) | (5,314 | ) | 9,236 | (14,550 | ) | |||||||||||||
Operating expenses | 14,503 | 13,162 | 1,341 | 29,792 | 27,278 | 2,514 | |||||||||||||||||
General and administrative expenses (b) | 10,546 | 10,647 | (101 | ) | 21,253 | 21,946 | (693 | ) | |||||||||||||||
Adjusted EBITDA (c) | $ | 24,899 | $ | 29,372 | $ | (4,473 | ) | $ | 50,995 | $ | 56,637 | $ | (5,642 | ) |
_________________________
(a) | Excludes the impact of imbalances. |
(b) | Excludes non-cash compensation charges related to our long-term incentive program. |
(c) | See "—Liquidity and Capital Resources — Non-GAAP Financial Measures" for a definition and reconciliation to GAAP. |
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LIQUIDITY AND CAPITAL RESOURCES
Historically, our sources of liquidity have included cash generated from operations, issuances of equity and debt securities, asset sales and borrowings under our revolving Credit Agreement Our primary cash requirements have included general and administrative expenses, operating expenses, maintenance and growth capital expenditures, short-term working capital needs, interest payments on our outstanding debt, distributions to our unitholders and acquisitions of new assets or businesses.
In connection with the consummation of the Midstream Business Contribution, we were able to improve our liquidity position by paying down our borrowings under our Credit Agreement, resulting in increased borrowing availability, and exchanging $498.9 million of our Senior Notes, resulting in significantly decreased debt levels. In addition, we received 8,245,859 Regency common units (valued at approximately $265 million based on the closing price of Regency common units on June 30, 2014), which could be a potential source of future liquidity.
We believe that our improved liquidity position as a result of the Midstream Business Contribution and our historical sources of liquidity will be sufficient to satisfy our short-term liquidity needs and to fund our committed capital expenditures for at least the next twelve months. Our growth strategy entails pursuing attractive upstream acquisitions and organic drilling opportunities. We may utilize any of various available financing sources, including liquidity from the consummation of the Midstream Business Contribution, proceeds from the issuance of equity or debt securities, or borrowings from our Credit Agreement to fund all or a portion of our potential acquisitions and organic growth expenditures. Our ability to complete future offerings of equity or debt securities and the timing of these offerings will depend upon various factors including prevailing market conditions and our financial condition.
Equity Offerings
On May 31, 2012, we announced a program through which we may issue common units, from time to time, with an aggregate market value of up to $100 million. We are under no obligation to issue equity under the program. We intend to use the net proceeds from any sales under the program for general partnership purposes, which may include, among other things, repayment of indebtedness, acquisitions, capital expenditures and additions to working capital. As of June 30, 2014, a total of 1,521,086 units had been issued under this program for net proceeds of approximately $12.9 million. No sales were made under the program during the three and six months ended June 30, 2014.
Capital Expenditures
The energy business can be capital intensive, requiring significant investment for the acquisition or development of new facilities. Due to the completion of the contribution of our Midstream Business to Regency on July, 1, 2014, we now categorize our capital expenditures as (and, as necessary, allocate the attributable portion of our capital expenditures between) either:
• | growth capital expenditures, defined as expenditures to grow our natural gas, NGL, crude or sulfur production; or |
• | maintenance capital expenditures, defined as expenditures necessary to maintain our natural gas, NGL, crude or sulfur production. With respect to maintenance capital expenditures intended to maintain our natural gas, NGL, crude or sulfur production, we estimate these amounts based on current projections and expectations, and do not undertake to adjust any historical amounts based on the actual impact of such expenditures on production. As a result, the included amount of maintenance capital expenditures could fail to maintain production if actual performance does not meet our projections and expectations, including, without limitation, on account of: (i) unanticipated mechanical issues; (ii) unanticipated delays; (iii) poorer than expected production performance of our new wells and recompletions; and/or (iv) unanticipated loss of, or higher than anticipated decline in, existing production. |
The primary impact of this categorization is that we reduce the amount of cash we consider available for distribution by the amount of our maintenance capital expenditures.
We anticipate that our capital expenditures for the second half of 2014 will be approximately $57 million, of which we expect approximately $27 million to be categorized as maintenance capital expenditures and $30 million to be categorized as growth capital expenditures.
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Our capital expenditures, excluding amounts related to our Midstream Business, were approximately $36.1 million and $76.9 million for the three and six months ended June 30, 2014, respectively, of which $14.3 million and $29.0 million were related to maintenance capital expenditures and $21.8 million and $48.0 million were related to growth capital expenditures.
In order to lower sulfur dioxide (SO2) emissions from our Big Escambia Creek processing facility in Alabama, as required by our existing air emissions permit, our operating subsidiary initiated the first phase of an SO2 emissions reduction project at our Big Escambia Creek processing facility in December 2011. This phase of the project involved adding a Superclaus reactor to the existing sulfur recovery unit to achieve the desired reduction in SO2 emissions. The new unit began operations on December 17, 2012, and through June 30, 2014 had resulted in increased sulfur production and reductions in SO2 emissions to levels within the required permitted levels. The total cost of this phase through June 30, 2014 is approximately $19.2 million net to our interest.
The second and final phase of our SO2 emissions reduction project involves replacing or upgrading certain components of our existing sulfur recovery unit at the Big Escambia Creek processing facility. This phase is designed to improve the operational reliability of the processing facility, further increase the quantity of marketable sulfur recovered from the inlet gas stream, reduce the frequency of facility turnarounds, extend the facility's operating life and achieve cost savings across our operations in Southern Alabama. The improvements to our sulfur recovery unit will also further reduce SO2 emissions, helping to ensure our compliance with the National Ambient Air Quality Standards the Environmental Protection Agency enacted in mid-2010. In the first of these planned upgrades, we expect to replace the incinerator portion of the sulfur recovery unit in 2015 and 2016 at a cost of approximately $11.6 million net to our interest. We expect the facility will require further upgrades to repair or replace certain sulfur recovery unit components beyond 2016.
Distribution Policy
Our distribution policy is to distribute to our unitholders, on a quarterly basis, all of our available cash in the manner described below and as further described in our partnership agreement. Available cash generally means, for any quarter ending prior to liquidation, all cash and cash equivalents on hand at the end of that quarter (or, if the general partner chooses, on the date of determination) less the amount of cash reserves established by the general partner to:
• | provide for the proper conduct of our business, including for future capital expenditures and credit and other needs; |
• | comply with applicable law or any Partnership debt instrument or other agreement; or |
• | provide funds for distributions to unitholders in respect of any one or more of the next four quarters. |
In connection with making the distribution decision for the quarter ended March 31, 2014, the Board of Directors, upon management's recommendation, decided to suspend the quarterly distribution in order to preserve liquidity in advance of closing the contribution of the Midstream Business to Regency. For the quarter ended June 30, 2014, the Board of Directors, upon management's recommendation, decided to continue the suspension of the quarterly distribution . Management expects to recommend resuming the quarterly distribution for the quarter ended September 30, 2014.
The actual distributions we will declare will be subject to our operating performance, prevailing market conditions (including forward oil, natural gas and sulfur prices), the impact of unforeseen events and the approval of our Board of Directors and will be done pursuant to our distribution policy.
Revolving Credit Facility
On June 22, 2011, we entered into an Amended and Restated Credit Agreement (as amended, the "Credit Agreement") with Wells Fargo Bank, National Association, as administrative and documentation agent and swingline lender, Bank of America, N.A. and The Royal Bank of Scotland plc, as co-syndication agents, and the other lenders who are parties to the Credit Agreement.
On December 31, 2012, aggregate commitments under the Credit Agreement increased from $675 million to $820 million. We have the option to request further increases, subject to the terms and conditions of the Credit Agreement, up to a total aggregate amount of $1.2 billion. Availability under the Credit Agreement is subject to a borrowing base comprised of two components: the upstream component and the midstream component. As of June 30, 2014, our borrowing base totaled approximately $819 million, and based on our outstanding borrowings and letters of credit, we had approximately $45.8 million of availability under the Credit Agreement.
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Effective June 1, 2014, the upstream component of the borrowing base decreased from $380 million to $330 million as part of the our regular semi-annual redetermination by our commercial lenders. Our next scheduled borrowing base redetermination is set for September 1, 2014. In addition, as a result of the completion of the contribution of the Midstream Business to Regency on July 1, 2014, our liquidity under the Credit Agreement is now strictly based on the upstream component of the borrowing base.
Senior Unsecured Notes
On May 27, 2011, we completed the sale of $300 million of our 8.375% senior unsecured notes due 2019 (the "Senior Notes") through a private placement, which were exchanged for registered notes on February 15, 2012. The Senior Notes will mature on June 1, 2019, and interest is payable on June 1 and December 1 each year. We used the net proceeds of approximately $290.3 million to repay borrowings outstanding under the Credit Agreement.
On July 13, 2012, we completed the sale of an additional $250.0 million of Senior Notes under the same indenture through a private placement. After the original discount of $3.7 million and excluding related offering expenses, we received net proceeds of approximately $246.3 million, which were used to repay borrowings outstanding under the Credit Agreement.
On July 1, 2014, as part of the contribution of the Midstream Business to Regency, $498.9 million face amount of newly-issued Regency unsecured senior notes due 2019 were exchanged for $498.9 million face amount of our existing Senior Notes. Thus, as of July 1, 2014, only $51.1 million face amount of our unsecured senior notes remained outstanding. See discussion below for changes to the Senior Notes' indenture.
Debt Covenants
Our Credit Agreement requires us to maintain certain leverage, current and interest coverage ratios. On February 26, 2014, we entered into an amendment to our Credit Agreement with our lender group which allowed for greater liquidity under the Credit Agreement and for greater covenant flexibility for the first quarter of 2014. Specifically, the amendment provides for: (i) an increase in the Total Leverage Ratio and Senior Secured Leverage Ratio (as defined in the Credit Agreement) for the quarter ended March 31, 2014; (ii) the exclusion of fees and expenses associated with the strategic review and disposition of the Partnership’s Midstream Business from the calculation of Consolidated EBITDA (as defined in the Credit Agreement); (iii) deferring the redetermination of the Upstream Borrowing Base (as defined in the Credit Agreement) until June 1, 2014; and (iv) the option for us, at our election, to expand the multiplier for the Midstream Borrowing Base (as defined in the Credit Agreement) from 3.75x to 4.00x. On March 31, 2014, we elected to expand the multiplier for the Midstream Borrowing Base.
On May 28, 2014, we entered into an amendment to our Credit Agreement that allows for greater liquidity and certain covenant relief through the second quarter of 2014. The amendment, among other items, provides for an increase in the midstream component of the Credit Agreement's total borrowing base and provides for an increase in the Total Leverage Ratio and Senior Secured Leverage Ratio (as defined in the Credit Agreement) for the quarter ended June 30, 2014. The amendment also provided that (i) effective June 1, 2014, the upstream component of the borrowing base of the Credit Agreement will decrease from $380 million to $330 million as part of the Partnership's regular semi-annual redetermination by its commercial lenders, (ii) the next borrowing base redetermination will be September 1, 2014, and (iii) that such reduction would automatically reduce aggregate commitments of the lenders under the Credit Agreement, with further automatic reductions in such aggregate commitments in amounts equal to, and upon, any future reductions in the borrowing base.
The following table presents the debt covenant levels specified in the Credit Agreement as of June 30, 2014:
Quarter Ended | Total Leverage Ratio | Senior Secured Leverage Ratio | Interest Coverage Ratio | Current Ratio | |||
June 30, 2014 | 5.85 | 3.40 | 2.50 | 1.0 | |||
September 30, 2014 | 4.75 | 2.95 | 2.50 | 1.0 | |||
Thereafter | 4.50 | N/A | 2.50 | 1.0 |
The following table presents the Partnership's actual covenant ratios as of June 30, 2014:
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Interest coverage ratio | 2.9 |
Total leverage ratio | 5.77 |
Senior secured leverage ratio | 3.37 |
Current ratio | 1.0 |
As of June 30, 2014, we were in compliance with the financial covenants under the Credit Agreement. On July 1, 2014, we used the cash received from Regency for the Midstream Business Contribution (see above) to paydown $570.4 million outstanding under the Credit Agreement. Thus, as of July 1, 2014, the amount outstanding under the Credit Agreement was $198.6 million and as a result, our Total Leverage Ratio as of July 1, 2014 was 2.2.
Our Senior Notes were issued under an indenture that contains certain covenants limiting our ability to, among others, pay distributions, repurchase our equity securities, make certain investments, incur additional indebtedness, and sell assets. At June 30, 2014, we were in compliance with our covenants under the Senior Notes indenture. As $51.1 million of our unsecured senior notes did not exchange as part of the transaction with Regency and remain outstanding, we had secured a sufficient number of consents as part of the exchange offer, and thus on July 1, 2014, we amended the indenture governing the remaining outstanding unsecured senior notes to eliminate substantially all of the restrictive covenants and certain events of default pertaining to our senior notes.
For a further discussion of the Credit Agreement and Senior Notes, see Note 7 to our consolidated financial statements included in "Part II. Item 8. Financial Statements and Supplementary Data" of our Annual Report on Form 10-K for the year ended December 31, 2013.
Cash Flows
Cash Distributions
On January 28, 2014, we declared our fourth quarter 2013 cash distribution of $0.15 per unit to our common unitholders of record as of the close of business on February 7, 2014 (excluding certain restricted unit grants). The distribution was paid on February 14, 2014.
The quarterly cash distributions were suspended, upon recommendation of management and approval by the Board, for the quarters ended March 31, 2014 and June 30, 2014.
Working Capital
Working capital is the amount by which current assets exceed current liabilities. As of June 30, 2014, working capital excluding assets and liabilities held for sale and the current portion of long-term debt, was a negative $49.1 million as compared to a negative $52.8 million as of December 31, 2013.
The net decrease in working capital of $3.7 million from December 31, 2013 to June 30, 2014, resulted primarily from the following factors:
• | accounts payable increased by $22.3 million primarily as a result of higher volumes and the timing of payments of unbilled expenditures; |
• | risk management net working capital balance decreased by a net $11.6 million as a result of changes in the current portion of mark-to-market unrealized positions as a result of increases to the forward natural gas, oil and NGL price curves; and |
• | accrued liabilities increased by $12.1 million primarily reflecting accrued interest. |
These decreases were partially offset primarily by the following factors:
• | trade accounts receivable increased $17.5 million, primarily from higher volumes and the timing of the receipt of payments; |
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• | prepayment and other current assets increased $7.2 million primarily due to the payment of insurance premiums; and |
• | cash and cash equivalents increased by $0.7 million primarily due to the timing of payments and the receipt of cash. |
Cash Flows for the Six Months Ended June 30, 2014, Compared to the Six Months Ended June 30, 2013
Cash Flow from Operating Activities. Cash flows from operating activities decreased $31.4 million during the six months ended June 30, 2014, as compared to the six months ended June 30, 2013. This decrease was driven by:
• | Timing of cash payments and cash receipts; and |
• | A decrease in our results of operations due to commodity risk management losses. |
Cash Flows from Investing Activities. Cash flows used in investing activities decreased $19.6 million during the six months ended June 30, 2014, as compared to the six months ended June 30, 2013. The decrease was due to a decline in capital expenditures during the six months ended June 30, 2014 of $19.6 million as compared to the same period in 2013.
Cash Flows from Financing Activities. Cash flows provided by financing activities decreased $2.0 million during the six months ended June 30, 2014, as compared to the six months ended June 30, 2013. The decrease was driven by:
• | Decreased in net proceeds of $98.2 million from our equity offering during the six months ended June 30, 2013, as compared to the same period in 2014; |
• | Net proceeds on the Credit Agreement were $62.2 million during the six months ended June 30, 2014, as compared to net payments of $4.5 million during the six months ended June 30, 2013; and |
• | Proceeds from derivative contracts decreased by $4.3 million during the six months ended June 30, 2014, as compared to the same period in 2013. |
These decreases were partially offset by:
• | Decreased distributions of $43.3 million during the six months ended June 30, 2014, as compared to the same period in 2013, as a result of our dropping our quarterly distribution rate to $0.15 (for the fourth quarter of 2013) compared to $0.22 (for the fourth quarter of 2012) and the suspension of our quarterly distribution for the first quarter of 2014. |
Hedging Strategy
We use a variety of hedging instruments such as fixed-price swaps, costless collars and put options to manage our risks related to our commodity price and interest rate exposure. At times our hedging strategy may involve adjusting strike prices of existing hedges to better reflect current market conditions or to meet other corporate objectives. In addition, we may also terminate or unwind hedges or portions of hedges when the expected future volumes do not support the level of hedges. Hedge transactions such as these impact our liquidity in that we are required to pay the present value of the difference between the hedged price and the current futures price. These transactions also increase our exposure to the counterparties through which we execute the hedges.
For further description of our hedging activity, see Note 10 to our unaudited condensed consolidated financial statements included in "Part I. Item 1. Financial Statements" of this Form 10-Q.
Off-Balance Sheet Obligations
We had no off-balance sheet transactions or obligations as of June 30, 2014.
Recent Accounting Pronouncements
For recent accounting pronouncements, please see Note 3 of our unaudited condensed consolidated financial statements included in "Part I. Item 1. Financial Statements" of this Form 10-Q.
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Non-GAAP Financial Measures
We include in this report Adjusted EBITDA, a non-GAAP financial measure. We provide reconciliations of this non-GAAP financial measure to its most directly comparable financial measures as calculated and presented in accordance with GAAP.
We define Adjusted EBITDA as net income (loss) plus or (minus) income tax provision (benefit); interest-net, including realized interest rate risk management instruments and other expense; depreciation, depletion and amortization expense; impairment expense; other operating expense, non-recurring (which includes certain general and administrative expenses incurred in connection with the Partnership’s strategic review and Midstream Business Contribution); other non-cash operating and general and administrative expenses, including non-cash compensation related to our equity-based compensation program; unrealized (gains) losses on commodity and interest rate risk management related instruments; gains (losses) on discontinued operations and other (income) expense.
We use Adjusted EBITDA as a measure of our core profitability to assess the financial performance of our assets. Adjusted EBITDA is also used as a supplemental financial measure by external users of our financial statements such as investors, commercial banks and research analysts. For example, the compliance covenant used by our lenders under our Credit Agreement which is designed to measure the viability of us and our ability to perform under the terms of our Credit Agreement uses our Adjusted EBITDA. We believe that investors benefit from having access to the same financial measures that our management team uses in evaluating performance. Adjusted EBITDA is useful in determining our ability to sustain or increase distributions. By excluding unrealized derivative gains (losses), a non-cash, mark-to-market benefit (charge) which represents the change in fair market value of our executed derivative instruments and is independent of our assets’ performance or cash flow generating ability, we believe Adjusted EBITDA reflects more accurately our ability to generate cash sufficient to pay interest costs, support our level of indebtedness, make cash distributions to our unitholders and finance our maintenance capital expenditures. We further believe that Adjusted EBITDA also describes more accurately the underlying performance of our operating assets by isolating the performance of our operating assets from the impact of an unrealized, non-cash measure designed to describe the fluctuating inherent value of a financial asset. Similarly, by excluding the impact of non-recurring discontinued operations, Adjusted EBITDA provides users of our financial statements a more accurate picture of our current assets’ cash generation ability, independently from that of assets which are no longer a part of our operations. Our Adjusted EBITDA definition may not be comparable to Adjusted EBITDA or similarly titled measures of other entities, as other entities may not calculate Adjusted EBITDA in the same manner as us.
Adjusted EBITDA should not be considered an alternative to net income, operating income, cash flows from operating activities or any other measure of financial performance presented in accordance with GAAP.
Adjusted EBITDA does not include interest expense, income taxes or depreciation and amortization expense. Because we have borrowed money to finance our operations, interest expense is a necessary element of our costs and our ability to generate net income. Because we use capital assets, depreciation and amortization are also necessary elements of our costs. Therefore, any measures that exclude these elements have material limitations. To compensate for these limitations, we believe that it is important to consider both net income determined under GAAP, as well as Adjusted EBITDA, to evaluate our performance and liquidity.
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The following table sets forth a reconciliation of Adjusted EBITDA to its most directly comparable financial measures calculated and presented in accordance with GAAP:
Three Months Ended June 30, | Six Months Ended June 30, | ||||||||||||||
2014 | 2013 | 2014 | 2013 | ||||||||||||
($ in thousands) | |||||||||||||||
Reconciliation of Adjusted EBITDA to net cash flows provided by (used in) operating activities and net income: | |||||||||||||||
Net cash flows provided by operating activities | $ | 2,077 | $ | 37,865 | $ | 25,674 | $ | 57,084 | |||||||
Add (deduct): | |||||||||||||||
Discontinued operations | (25,646 | ) | 3,901 | (36,249 | ) | (17,689 | ) | ||||||||
Depreciation, depletion, amortization and impairment | (20,299 | ) | (23,899 | ) | (40,705 | ) | (45,195 | ) | |||||||
Amortization of debt issuance costs | (610 | ) | (746 | ) | (1,269 | ) | (966 | ) | |||||||
(Loss) gain from risk management activities, net | (18,652 | ) | 17,187 | (28,975 | ) | 10,195 | |||||||||
Derivative settlements - operating | 2,176 | (2,341 | ) | 5,314 | (5,024 | ) | |||||||||
Other | (1,375 | ) | (2,762 | ) | (3,903 | ) | (5,523 | ) | |||||||
Accounts receivable and other current assets | 3,998 | (11,540 | ) | 24,728 | (6,211 | ) | |||||||||
Accounts payable and accrued liabilities | 12,223 | (2,222 | ) | (7,208 | ) | (3,822 | ) | ||||||||
Other assets and liabilities | 3,067 | 589 | 989 | (331 | ) | ||||||||||
Net loss | (43,041 | ) | 16,032 | (61,604 | ) | (17,482 | ) | ||||||||
Add (deduct): | |||||||||||||||
Interest expense, net | 6,663 | 6,211 | 13,124 | 12,935 | |||||||||||
Depreciation, depletion, amortization and impairment | 20,299 | 23,899 | 40,705 | 45,195 | |||||||||||
Income tax expense benefit | (885 | ) | (544 | ) | (1,750 | ) | (2,105 | ) | |||||||
EBITDA | (16,964 | ) | 45,598 | (9,525 | ) | 38,543 | |||||||||
Add (deduct): | |||||||||||||||
Loss (gain) from risk management activities, net | 18,652 | (17,187 | ) | 28,975 | (10,195 | ) | |||||||||
Total derivative settlements | (3,893 | ) | 2,173 | (8,739 | ) | 5,900 | |||||||||
Restricted unit compensation expense | 1,459 | 2,694 | 4,042 | 4,705 | |||||||||||
Non-cash mark-to-market Upstream imbalances | (1 | ) | (5 | ) | (7 | ) | (5 | ) | |||||||
Discontinued operations | 25,646 | (3,901 | ) | 36,249 | 17,689 | ||||||||||
ADJUSTED EBITDA | $ | 24,899 | $ | 29,372 | $ | 50,995 | $ | 56,637 |
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Item 3. Quantitative and Qualitative Disclosures About Market Risk
Risk and Accounting Policies
We are exposed to market risks associated with adverse changes in commodity prices, interest rates and counterparty credit. We may use financial instruments such as put and call options, swaps and other derivatives to mitigate the effects of the identified risks. Adverse effects on our cash flow from changes in crude oil, natural gas, NGL product prices or interest rates could adversely impact our ability to make distributions to our unitholders, meet debt service obligations, fund required capital expenditures, and other similar requirements. Our management has established a comprehensive review of our market risks and has developed risk management policies and procedures to monitor and manage these market risks. Our general partner is responsible for the overall approval of market risk management policies, delegation of transaction authority levels, and for the establishment of a Risk Management Committee ("RMC"). The RMC is composed of officers (including our chief executive officer) who receive regular briefings on positions and exposures, credit exposures and overall risk management in the context of market activities. The RMC is responsible for the overall management of commodity price risk, interest rate risk and credit risk, including monitoring exposure limits.
Commodity Price Risk
We are exposed to the impact of market fluctuations in the prices of crude oil, natural gas, NGLs and other commodities.Our profitability and cash flow are affected by changes in prices of these commodities. These prices are impacted by changes in the supply and demand for these commodities, as well as market uncertainty and other factors beyond our control.
We manage this commodity price exposure through an integrated strategy that includes management of our contract portfolio, matching sales prices of commodities with purchases, optimization of our portfolio by monitoring basis and other price differentials in our areas of operations, and the use of derivative contracts. Crude oil, natural gas and NGL prices can also indirectly affect our profitability by influencing the level of drilling activity and related opportunities for our service.
We frequently use financial derivatives ("hedges") to reduce our exposure to commodity price risk. Historically, we have hedged a substantial portion of our exposure to changes in NGL prices with crude or natural gas hedges, which we call "proxy hedges." To the extent the price of the underlying physical product (NGL) does not correlate with the price of the designated proxy hedge product (crude or natural gas), these hedges can be ineffective in reducing our commodity price exposure. We have implemented a Risk Management Policy which allows management to execute crude oil, natural gas liquids and natural gas hedging instruments, which may include swaps, collars, options and other derivatives, in order to reduce exposure to substantial adverse changes in the prices of these commodities. These hedges are only intended to mitigate the risk associated with our natural physical position. We monitor and ensure compliance with this Risk Management Policy through senior level executives in our operations, finance and legal departments.
We have not designated our contracts as accounting hedges based on authoritative guidance. As a result, we mark our derivatives to market with the resulting change in fair value being included in our statement of operations. As of June 30, 2014, our commodity hedge portfolio totaled a net liability position of $15.9 million (which does not include amounts classified as held for sale), consisting of assets aggregating $3.6 million (which does not include amount classified as held for sale) and liabilities aggregating $19.5 million (which does not include amounts classified as held for sale). For additional information about our hedging activities and related fair values, see "Part I. Item 1. Financial Statements" Notes 10 and 11.
We continually monitor our commodity sales agreements and hedging portfolio and expect to continue to adjust our hedge position as conditions warrant.
Interest Rate Risk
We are exposed to variable interest rate risk as a result of borrowings under our Credit Agreement. To mitigate its interest rate risk, we have entered into various interest rate swaps that eliminate interest rate variability by effectively converting LIBOR-based variable-rate payments to fixed-rate payments. Amounts received or paid under these swaps were recorded as reductions or increases in interest expense.
We have not designated our contracts as accounting hedges. As a result, we mark our derivatives to market with the resulting change in fair value included in our statement of operations. As of June 30, 2014, the fair value liability of these interest rate contracts totaled approximately $6.5 million. For additional information about our interest rate swaps and related fair values, see "Part I. Item 1. Financial Statements" Notes 10 and 11.
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As of July 1, 2014, due to the completion of the contribution of the Midstream Business to Regency and the use of some of the consideration received from the transaction to pay down a portion of the amount outstanding under our Credit Agreement, the notional amount of our interest rate swaps was in excess of our outstanding floating rate borrowings. Due to our future anticipated borrowings, we have no current plans to terminate a portion of our interest rate swaps to eliminate our over-hedged interest rate exposure.
Credit Risk
Our principal natural gas sales customers are large gas marketing companies that, in turn, typically sell to large end users such as local distribution companies and electrical utilities. With respect to the sale of our NGLs and condensates, our principal customers are large natural gas liquids purchasers, fractionators and marketers, and large condensate aggregators that typically sell to large multi-national petrochemical and refining companies. We also sell a small amount of propane to medium sized, local distributors.
This concentration of credit risk may affect our overall credit risk in that these customers may be similarly affected by changes in the natural gas, natural gas liquids, petrochemical and other segments of the energy industry, the economy in general, the regulatory environment and other factors.
Our derivative counterparties at June 30, 2014, not including counterparties of our marketing and trading business, included Wells Fargo Bank, National Association, Comerica Bank, Bank of Nova Scotia, The Royal Bank of Scotland plc, Bank of America N.A., J Aron & Company (an affiliate of Goldman Sachs), ING Capital Markets LLC, BBVA Compass Bank, Royal Bank of Canada, Regions Financial Corporation and CITIBANK, N.A.
Item 4. Controls and Procedures
Evaluation of Disclosure Controls and Procedures
Based on the evaluation of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the "Exchange Act")) required by Exchange Act Rules 13a-15(b) or 15d-15(b), our principal executive officer and principal financial officer have concluded that as of the end of the period covered by this report, our disclosure controls and procedures were effective at the reasonable assurance level to ensure that information we are required to disclose in reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in Securities and Exchange Commission rules and forms, and include controls and procedures designed to ensure that information required to be disclosed by us in such reports is accumulated and communicated to our management, including the principal executive officer and principal financial officer, as appropriate to allow timely decisions regarding required disclosure.
Changes in Internal Control Over Financial Reporting
There were no changes in our internal control over financial reporting (as defined in Rules 13a-15(f) and 15d - 15(f) under the Exchange Act) that occurred during our most recent fiscal quarter that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
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PART II. OTHER INFORMATION
Item 1. Legal Proceedings
Our operations are subject to a variety of risks and disputes normally incident to our business. As a result, we are and may, at any given time, be a defendant in various legal proceedings and litigation arising in the ordinary course of business. We maintain insurance policies with insurers in amounts and with coverage and deductibles that we, with the advice of our insurance advisors and brokers, believe are reasonable and prudent. We cannot, however, assure that this insurance will be adequate to protect us from all material expenses related to potential future claims for personal and property damage or that these levels of insurance will be available in the future at economical prices.
In March and April 2014, alleged Eagle Rock unitholders filed three class action lawsuits in the United States District Court for the Southern District of Texas on behalf of our public unitholders. The lawsuits name us, our Board of Directors, Regency Energy Partners, L.P. (“Regency”), and Regal Midstream LLC as defendants. One of the lawsuits also names our general partner and our general partner’s general partner as defendants. Plaintiffs in each lawsuit allege a variety of causes of action challenging Regency’s acquisition of our midstream assets, including alleged breaches of fiduciary or contractual duties, alleged aiding and abetting these alleged breaches of duty, and alleged violations of the Securities Exchange Act of 1934. The lawsuits allege that we (i) sold our midstream assets for inadequate value, (ii) engaged in an unfair sales process, (iii) agreed to contractual terms (the no-solicitation, fiduciary out, superior proposal, and termination fee provisions and the voting and support agreement) that would dissuade other potential acquirors from seeking to purchase the midstream assets, and (iv) failed to disclose material information in our definitive proxy statement concerning the analysis of our financial advisors, potential conflicts of the advisors (and directors), management’s financial projections, strategic alternatives, other potential acquirors, the bases for certain actions, and the background of the transaction. Based on these allegations, the plaintiffs seek in each case to have the sale rescinded, and also seek monetary damages and attorneys’ fees. The United States District Court for the Southern District of Texas has yet to resolve a pending motion to consolidate the three lawsuits or two pending motions to appoint a lead plaintiff. We believe that the lawsuits are without merit.
Item 1A. | Risk Factors. |
In addition to the other information set forth in this quarterly report on Form 10-Q, you should carefully consider the risks discussed in our annual report on Form 10-K for the year ended December 31, 2013, under the headings “Item 1. Business,” “Item 1A. Risk Factors,” “Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations” and “Item 7A. Quantitative and Qualitative Disclosures About Market Risk,” which risks could materially affect our business, financial condition or future results. There have been no material changes in our risk factors from those described in our Annual Report on Form 10-K for the year ended December 31, 2013, and the subsequent Quarterly Report on Form 10-Q for the quarter ended March 31, 2014.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
The following table sets forth certain information with respect to repurchases of common units during the three months ended June 30, 2014:
Period | Total Number of Units Purchased | Average Price Paid Per Unit | Total Number of Units Purchased as Part of Publicly Announced Plans or Programs | Maximum Number (or Approximate Dollar Value) of Units that May Yet Be Purchased Under the Plans or Programs | |||||||||
April 1, 2014 - April 30, 2014 | — | $ | — | — | — | ||||||||
May 1, 2014 - May 31, 2014 | (219,036 | ) | $ | 4.17 | — | — | |||||||
June 1, 2014 - June 30, 2014 | (34,270 | ) | $ | 4.99 | — | — | |||||||
Total | (253,306 | ) | $ | 4.28 | — | — |
All of the units were surrendered by employees to pay tax withholding in connection with the vesting of restricted common units. As a result, we are deeming the surrenders to be "repurchases." These repurchases were not part of a publicly announced program to repurchase our common units, nor do we have a publicly announced program to repurchase our common units.
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Item 3. Defaults Upon Senior Securities
None
Item 4. Mine Safety Disclosures
None
Item 5. Other Information
None
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Item 6. | Exhibits |
Exhibit Number | Description |
2.1* | Contribution Agreement dated as of December 23, 2013, by and among Eagle Rock Energy Partners, L.P. and Regal Midstream LLC (incorporated by reference to Exhibit 2.1 to the registrant's Current Report on Form 8-K filed with the Commission on December 23, 2013). |
3.1 | Certificate of Limited Partnership of Eagle Rock Energy Partners, L.P. (incorporated by reference to Exhibit 3.1 of the registrant's registration statement on Form S-1 (File No. 333-134750)). |
3.2 | Second Amended and Restated Agreement of Limited Partnership of Eagle Rock Energy Partners, L.P. (incorporated by reference to Exhibit 3.1 of the registrant's current report on Form 8-K filed with the Commission on May 25, 2010). |
3.3 | Certificate of Limited Partnership of Eagle Rock Energy GP, L.P. (incorporated by reference to Exhibit 3.3 of the registrant's registration statement on Form S-1 (File No. 333-134750)). |
3.4 | Limited Partnership Agreement of Eagle Rock Energy GP, L.P. (incorporated by reference to Exhibit 3.4 of the registrant’s registration statement on Form S-1 (File No. 333-134750)). |
3.5 | Certificate of Formation of Eagle Rock Energy G&P, LLC (incorporated by reference to Exhibit 3.5 of the registrant's registration statement on Form S-1 (File No. 333-134750)). |
3.6 | Third Amended and Restated Limited Liability Company Agreement of Eagle Rock Energy G&P, LLC (incorporated by reference to Exhibit 42 of the registrant's current report on Form 8-K filed with the Commission on July 30, 2010). |
3.7 | Amendment No. 1 to the Second Amended and Restated Agreement of Limited Partnership of Eagle Rock Energy Partners, L.P. (incorporated by reference to Exhibit 4.1 of the registrant's current report on Form 8-K filed with the Commission on July 30, 2010). |
4.1 | Third Supplemental Indenture dated as of July 1, 2014, among Eagle Rock Energy Partners, L.P., Eagle Rock Energy Finance Corp., the Guarantors named therein and U.S. Bank National Association, as trustee (incorporated by reference to Exhibit 4.1 of the registrant's current report on Form 8-K filed with the Commissions on July 3, 2014). |
10.1 | Fourth Amendment to Amended and Restated Credit Agreement by and among the Partnership, the lenders party thereto and Wells Fargo Bank, National Association, as the administrative agent, dated May 28, 2014 (incorporated by reference to Exhibit 10.1 of the registrant's current report on Form 8-K filed with the Commission on May 29, 2014). |
31.1* | Certification of Periodic Financial Reports by Joseph A. Mills in satisfaction of Section 302 of the Sarbanes-Oxley Act of 2002 |
31.2* | Certification of Periodic Financial Reports by Robert M. Haines in satisfaction of Section 302 of the Sarbanes-Oxley Act of 2002 |
32.1** | Certification of Periodic Financial Reports by Joseph A. Mills in satisfaction of Section 906 of the Sarbanes-Oxley Act of 2002 |
32.2** | Certification of Periodic Financial Reports by Robert M. Haines in satisfaction of Section 906 of the Sarbanes-Oxley Act of 2002 |
101.INS* | XBRL Instance Document |
101.SCH* | XBRL Taxonomy Extension Schema Document |
101.CAL* | XBRL Taxonomy Extension Calculation Linkbase Document |
101.DEF* | XBRL Taxonomy Extension Definition Linkbase Document |
101.LAB* | XBRL Taxonomy Extension Label Linkbase Document |
101.PRE* | XBRL Taxonomy Extension Presentation Linkbase Document |
* | Filed herewith. |
** | Furnished herewith. |
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized, on August 1, 2014.
EAGLE ROCK ENERGY PARTNERS, L.P. | ||||
By: | Eagle Rock Energy GP, L.P., its general partner | |||
By: | Eagle Rock Energy G&P, LLC, its general partner | |||
By: | /s/ ROBERT M. HAINES | |||
Name: | Robert M. Haines | |||
Title: | Vice President and Chief Financial Officer |
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Index to Exhibits
Exhibit Number | Description |
2.1* | Contribution Agreement dated as of December 23, 2013, by and among Eagle Rock Energy Partners, L.P. and Regal Midstream LLC (incorporated by reference to Exhibit 2.1 to the registrant's Current Report on Form 8-K filed with the Commission on December 23, 2013). |
3.1 | Certificate of Limited Partnership of Eagle Rock Energy Partners, L.P. (incorporated by reference to Exhibit 3.1 of the registrant's registration statement on Form S-1 (File No. 333-134750)). |
3.2 | Second Amended and Restated Agreement of Limited Partnership of Eagle Rock Energy Partners, L.P. (incorporated by reference to Exhibit 3.1 of the registrant's current report on Form 8-K filed with the Commission on May 25, 2010). |
3.3 | Certificate of Limited Partnership of Eagle Rock Energy GP, L.P. (incorporated by reference to Exhibit 3.3 of the registrant's registration statement on Form S-1 (File No. 333-134750)). |
3.4 | Limited Partnership Agreement of Eagle Rock Energy GP, L.P. (incorporated by reference to Exhibit 3.4 of the registrant’s registration statement on Form S-1 (File No. 333-134750)). |
3.5 | Certificate of Formation of Eagle Rock Energy G&P, LLC (incorporated by reference to Exhibit 3.5 of the registrant's registration statement on Form S-1 (File No. 333-134750)). |
3.6 | Third Amended and Restated Limited Liability Company Agreement of Eagle Rock Energy G&P, LLC (incorporated by reference to Exhibit 42 of the registrant's current report on Form 8-K filed with the Commission on July 30, 2010). |
3.7 | Amendment No. 1 to the Second Amended and Restated Agreement of Limited Partnership of Eagle Rock Energy Partners, L.P. (incorporated by reference to Exhibit 4.1 of the registrant's current report on Form 8-K filed with the Commission on July 30, 2010). |
4.1 | Third Supplemental Indenture dated as of July 1, 2014, among Eagle Rock Energy Partners, L.P., Eagle Rock Energy Finance Corp., the Guarantors named therein and U.S. Bank National Association, as trustee (incorporated by reference to Exhibit 4.1 of the registrant's current report on Form 8-K filed with the Commissions on July 3, 2014). |
10.1 | Fourth Amendment to Amended and Restated Credit Agreement by and among the Partnership, the lenders party thereto and Wells Fargo Bank, National Association, as the administrative agent, dated May 28, 2014 (incorporated by reference to Exhibit 10.1 of the registrant's current report on Form 8-K filed with the Commission on May 29, 2014). |
31.1* | Certification of Periodic Financial Reports by Joseph A. Mills in satisfaction of Section 302 of the Sarbanes-Oxley Act of 2002 |
31.2* | Certification of Periodic Financial Reports by Robert M. Haines in satisfaction of Section 302 of the Sarbanes-Oxley Act of 2002 |
32.1** | Certification of Periodic Financial Reports by Joseph A. Mills in satisfaction of Section 906 of the Sarbanes-Oxley Act of 2002 |
32.2** | Certification of Periodic Financial Reports by Robert M. Haines in satisfaction of Section 906 of the Sarbanes-Oxley Act of 2002 |
101.INS* | XBRL Instance Document |
101.SCH* | XBRL Taxonomy Extension Schema Document |
101.CAL* | XBRL Taxonomy Extension Calculation Linkbase Document |
101.DEF* | XBRL Taxonomy Extension Definition Linkbase Document |
101.LAB* | XBRL Taxonomy Extension Label Linkbase Document |
101.PRE* | XBRL Taxonomy Extension Presentation Linkbase Document |
* | Filed herewith. |
** | Furnished herewith. |