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 MARCH 31, 2008
OR
o
TRANSITION
REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934
FOR
THE TRANSITION PERIOD
FROM TO
Commission
file number: 000-51120
Hiland
Holdings GP, LP
(Exact name of
Registrant as specified in its charter)
DELAWARE
|
|
76-0828238
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(State or other
jurisdiction of
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(I.R.S. Employer
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incorporation or
organization)
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|
Identification
No.)
|
|
|
|
205
West Maple, Suite 1100
|
|
|
Enid,
Oklahoma
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73701
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(Address of
principal executive offices)
|
|
(Zip Code)
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(580)
242-6040
(Registrants
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 is a large accelerated filer, an accelerated filer, a
non-accelerated filer, or a smaller reporting company. See definitions of
large accelerated filer, accelerated filer, and smaller reporting company
in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer
o
|
|
Accelerated filer
x
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|
|
|
Non-accelerated filer
o
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|
Smaller reporting
company
o
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(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
Act). Yes
o
No
x
The number of the
registrants outstanding equity units at May 5, 2008 was 21,603,000 common
units.
HILAND
HOLDINGS GP
, LP
INDEX
2
HILAND
HOLDINGS GP, LP
Consolidated Balance Sheets
|
|
March 31,
|
|
December 31,
|
|
|
|
2008
|
|
2007
|
|
|
|
(unaudited)
|
|
|
|
|
|
(in thousands, except unit amounts)
|
|
ASSETS
|
|
|
|
|
|
Current
assets:
|
|
|
|
|
|
Cash and cash
equivalents
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|
$
|
11,483
|
|
$
|
10,602
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|
Accounts
receivable:
|
|
|
|
|
|
Trade
|
|
37,411
|
|
31,842
|
|
Affiliates
|
|
1,098
|
|
1,178
|
|
|
|
38,509
|
|
33,020
|
|
Fair value of
derivative assets
|
|
1,050
|
|
2,718
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|
Other current
assets
|
|
2,730
|
|
1,420
|
|
Total current
assets
|
|
53,772
|
|
47,760
|
|
|
|
|
|
|
|
Property and
equipment, net
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|
323,552
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|
323,073
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|
Intangibles, net
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|
45,398
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|
46,937
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|
Fair value of
derivative assets
|
|
594
|
|
418
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|
Other assets,
net
|
|
2,355
|
|
2,098
|
|
|
|
|
|
|
|
Total
assets
|
|
$
|
425,671
|
|
$
|
420,286
|
|
|
|
|
|
|
|
LIABILITIES
AND PARTNERS EQUITY
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|
|
|
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Current
liabilities:
|
|
|
|
|
|
Accounts payable
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|
$
|
26,105
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|
$
|
24,713
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|
Accounts
payable-affiliates
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|
10,638
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|
7,957
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|
Fair value of
derivative liabilities
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|
7,748
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|
8,238
|
|
Accrued
liabilities and other
|
|
2,593
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|
2,075
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|
Total current
liabilities
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|
47,084
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|
42,983
|
|
|
|
|
|
|
|
Commitments and
contingencies (Note 8)
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|
|
|
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Long-term debt,
net of current maturities
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|
235,307
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|
226,459
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|
Fair value of
derivative liabilities
|
|
|
|
141
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|
Asset retirement
obligation
|
|
2,191
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|
2,159
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|
Minority
interests
|
|
123,856
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|
126,409
|
|
|
|
|
|
|
|
Partners
equity
|
|
|
|
|
|
Common
unitholders (21,603,000 units issued and outstanding)
|
|
20,925
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|
25,560
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|
Accumulated
other comprehensive loss
|
|
(3,692
|
)
|
(3,425
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)
|
Total
partners equity
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|
17,233
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|
22,135
|
|
|
|
|
|
|
|
Total
liabilities and partners equity
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|
$
|
425,671
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|
$
|
420,286
|
|
The accompanying
notes are an integral part of these consolidated financial statements.
3
HILAND
HOLDINGS GP, LP
Consolidated Statements of Operations
For
the Three Months Ended (unaudited)
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March 31,
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March 31,
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2008
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2007
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|
|
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(in thousands, except per unit amounts)
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Revenues:
|
|
|
|
|
|
Midstream
operations
|
|
|
|
|
|
Third parties
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$
|
89,253
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|
$
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58,860
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|
Affiliates
|
|
1,021
|
|
989
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|
Compression
services, affiliate
|
|
1,205
|
|
1,205
|
|
Total revenues
|
|
91,479
|
|
61,054
|
|
Operating
costs and expenses:
|
|
|
|
|
|
Midstream
purchases (exclusive of items shown separately below)
|
|
42,451
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|
31,881
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|
Midstream
purchases -affiliate (exclusive of items shown separately below)
|
|
26,167
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|
11,734
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|
Operations and
maintenance
|
|
6,769
|
|
4,970
|
|
Depreciation,
amortization and accretion
|
|
9,216
|
|
7,028
|
|
General and
administrative expenses
|
|
2,684
|
|
2,045
|
|
Total operating
costs and expenses
|
|
87,287
|
|
57,658
|
|
Operating income
|
|
4,192
|
|
3,396
|
|
Other
income (expense):
|
|
|
|
|
|
Interest and
other income
|
|
104
|
|
127
|
|
Amortization of
deferred loan costs
|
|
(156
|
)
|
(110
|
)
|
Interest expense
|
|
(3,506
|
)
|
(2,091
|
)
|
Other income
(expense), net
|
|
(3,558
|
)
|
(2,074
|
)
|
Income
before minority interest in loss (income) of Hiland Partners, LP
|
|
634
|
|
1,322
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|
Minority
interest in loss (income) of Hiland Partners, LP
|
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206
|
|
(574
|
)
|
Net
income
|
|
$
|
840
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|
$
|
748
|
|
|
|
|
|
|
|
Net
income per limited partners unit - basic
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|
$
|
0.04
|
|
$
|
0.03
|
|
Net
income per limited partners unit -diluted
|
|
$
|
0.04
|
|
$
|
0.03
|
|
Weighted
average limited partners units outstanding - basic
|
|
21,603
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|
21,600
|
|
Weighted
average limited partners units outstanding - diluted
|
|
21,609
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|
21,605
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|
The accompanying
notes are an integral part of these consolidated financial statements.
4
HILAND HOLDINGS GP, LP
Consolidated
Statements of Cash Flows
For the Three Months Ended (unaudited)
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|
March 31,
|
|
March 31,
|
|
|
|
2008
|
|
2007
|
|
|
|
(in thousands)
|
|
Cash
flows from operating activities:
|
|
|
|
|
|
Net income
|
|
$
|
840
|
|
$
|
748
|
|
Adjustments to
reconcile net income to net cash provided by
|
|
|
|
|
|
operating
activities:
|
|
|
|
|
|
Depreciation and
amortization
|
|
9,184
|
|
7,009
|
|
Accretion of
asset retirement obligation
|
|
32
|
|
19
|
|
Amortization of
deferred loan cost
|
|
156
|
|
110
|
|
Loss (gain) on
derivative transactions
|
|
401
|
|
(69
|
)
|
Unit based
compensation
|
|
409
|
|
464
|
|
Increase in
other assets
|
|
(91
|
)
|
|
|
Minority
interest in income (loss) of Hiland Partners, LP
|
|
(206
|
)
|
574
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|
(Increase)
decrease in current assets:
|
|
|
|
|
|
Accounts
receivable - trade
|
|
(5,569
|
)
|
(783
|
)
|
Accounts
receivable - affiliates
|
|
80
|
|
93
|
|
Other current assets
|
|
(1,310
|
)
|
104
|
|
Increase
(decrease) in current liabilities:
|
|
|
|
|
|
Accounts payable
- trade
|
|
3,665
|
|
587
|
|
Accounts payable
- affiliates
|
|
2,681
|
|
130
|
|
Accrued
liabilities and other
|
|
473
|
|
(45
|
)
|
Net
cash provided by operating activities
|
|
10,745
|
|
8,941
|
|
Cash
flows from investing activities:
|
|
|
|
|
|
Additions to
property and equipment
|
|
(10,403
|
)
|
(16,538
|
)
|
Proceeds from
disposals of property and equipment
|
|
6
|
|
|
|
Net
cash used in investing activities
|
|
(10,397
|
)
|
(16,538
|
)
|
Cash
flows from financing activities:
|
|
|
|
|
|
Proceeds from
long-term borrowings
|
|
9,000
|
|
12,100
|
|
Payments on
Capital lease obligations
|
|
(107
|
)
|
|
|
Debt issuance
costs
|
|
(317
|
)
|
|
|
Public offering
costs
|
|
(7
|
)
|
(142
|
)
|
Proceeds from
Hiland Partners, LP unit options exercise
|
|
611
|
|
969
|
|
Minority interest
cash distributions to unitholders of Hiland Partners, LP
|
|
(3,134
|
)
|
(2,767
|
)
|
Cash
distributions to unitholders
|
|
(5,513
|
)
|
(4,484
|
)
|
|
|
|
|
|
|
Net
cash provided by financing activities
|
|
533
|
|
5,676
|
|
|
|
|
|
|
|
Increase
(decrease) for the period
|
|
881
|
|
(1,921
|
)
|
Beginning of
period
|
|
10,602
|
|
10,569
|
|
End of
period
|
|
$
|
11,483
|
|
$
|
8,648
|
|
Supplementary
information
|
|
|
|
|
|
Cash paid for
interest, net of amounts capitalized
|
|
$
|
3,226
|
|
$
|
2,072
|
|
The accompanying notes are an integral part of these consolidated
financial statements
5
Hiland Holdings GP, LP
Consolidated
Statement of Changes in Partners Equity and Comprehensive Income
For the Three Months Ended March 31, 2008
(unaudited)
|
|
|
|
Accumulated
|
|
|
|
|
|
|
|
|
|
Other
|
|
|
|
Total
|
|
|
|
Common
|
|
Comprehensive
|
|
|
|
Comprehensive
|
|
|
|
Units
|
|
(loss)
|
|
Total
|
|
Income
|
|
|
|
(in thousands)
|
|
|
|
|
|
|
|
|
|
|
|
Balance January 1, 2008
|
|
$
|
25,560
|
|
$
|
(3,425
|
)
|
$
|
22,135
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Periodic cash distributions
|
|
(5,513
|
)
|
|
|
(5,513
|
)
|
|
|
Unit based compensation
|
|
38
|
|
|
|
38
|
|
|
|
Other comprehensive income reclassified to income on closed
derivative transactions
|
|
|
|
1,233
|
|
1,233
|
|
$
|
1,233
|
|
Change in fair value of derivatives
|
|
|
|
(1,500
|
)
|
(1,500
|
)
|
(1,500
|
)
|
Net income
|
|
840
|
|
|
|
840
|
|
840
|
|
Comprehensive income
|
|
|
|
|
|
|
|
$
|
573
|
|
Balance March 31, 2008
|
|
$
|
20,925
|
|
$
|
(3,692)
|
|
$
|
17,233
|
|
|
|
The accompanying notes are an integral part of this consolidated
financial statement.
6
HILAND
HOLDINGS GP, LP
CONDENSED NOTES TO CONSOLIDATED
FINANCIAL STATEMENTS (UNAUDITED)
THREE
MONTHS ENDED MARCH 31, 2008 and 2007
(in
thousands, except unit information or unless otherwise noted)
Note 1: Organization, Basis of Presentation and
Principles of Consolidation
Unless the context
requires otherwise, references to we, our, us, Hiland Holdings or the
Partnership are intended to mean the consolidated business and operations of
Hiland Holdings GP, LP. References to Hiland Partners are intended to mean
the consolidated business and operations of Hiland Partners, LP and its
subsidiaries.
Hiland Holdings GP, LP, a
Delaware limited partnership, was formed in May 2006 to own Hiland
Partners GP, LLC, the general partner of Hiland Partners, LP and certain other
common and subordinated units in Hiland Partners. Hiland Partners GP, LLC was
formed in October 2004 to hold the 2% general partner ownership interest
in Hiland Partners and serve as its general partner. Hiland Partners GP, LLC
manages the operations of Hiland Partners. In connection with the closing of
our initial public offering, all of the membership interests in Hiland Partners
GP, LLC were contributed to us. Hiland Partners GP, LLC constitutes our
predecessor.
Our general partner, Hiland
Partners GP Holdings, LLC manages our operations and activities, including,
among other things, paying our expenses and establishing the quarterly cash
distribution levels for our common units and reserves that our general partner
determines, in good faith, are necessary or appropriate to provide for the
conduct of our business, to comply with applicable law, any of our debt
instruments or other agreements or to provide for future distributions to our
unitholders for any one or more of the upcoming four quarters.
Hiland Partners, a
Delaware limited partnership, was formed in October 2004 to acquire and
operate certain midstream natural gas plants, gathering systems and compression
and water injection assets located in the states of Oklahoma, North Dakota,
Wyoming, Texas and Mississippi that were previously owned by Continental Gas, Inc.
and Hiland Partners, LLC. Hiland Partners commenced operations on February 15,
2005, and concurrently with the completion of its initial public offering,
Continental Gas, Inc. contributed a substantial portion of its net assets
to Hiland Partners. The transfer of ownership of net assets from Continental
Gas, Inc. to Hiland Partners represented a reorganization of entities
under common control and was recorded at historical cost. Continental Gas, Inc.
was formed in 1990 as a wholly owned subsidiary of Continental Resources, Inc.
Continental Gas, Inc.
operated in one segment, midstream, which involved the gathering, compressing,
dehydrating, treating, and processing of natural gas and fractionating natural
gas liquids, or NGLs. Continental Gas, Inc. historically has owned all of
Hiland Partners natural gas gathering, processing, treating and fractionation
assets other than the Worland, Bakken
and Woodford Shale gathering systems. Hiland Partners, LLC historically owned
the Worland gathering system and compression services assets, which Hiland
Partners acquired on February 15, 2005, and the Bakken gathering system.
The net assets acquired by Hiland Partners on February 15, 2005 had a fair
value of $48.6 million. Since its initial public offering, Hiland Partners
has operated in midstream and compression services segments. On September 26,
2005, Hiland Partners acquired Hiland Partners, LLC, which at such time owned
the Bakken gathering system, for $92.7 million, $35.0 million of
which was used to retire outstanding Hiland Partners, LLC indebtedness. On May 1,
2006, Hiland Partners acquired the Kinta Area gathering assets from Enogex Gas
Gathering, L.L.C., consisting of certain eastern Oklahoma gas gathering
assets, for $96.4 million. Hiland
Partners financed this acquisition with $61.2 million of borrowings from its
credit facility and $35.0 million of proceeds from the issuance to Hiland
Partners GP, LLC, its general partner, of 761,714 common units and 15,545
general partner equivalent units, both at $45.03 per unit. Hiland Partners
began construction of the Woodford Shale gathering system in the first quarter
of 2007. As of March 31, 2008,
Hiland Partners has invested approximately $25.7 million in the gathering
system.
The unaudited financial
statements
for the
three months ended March 31, 2008 and 2007 included herein have been
prepared pursuant to the rules and regulations of the United States
Securities and Exchange Commission (the SEC). The interim financial
statements reflect all adjustments, which in the opinion of our management, are
necessary for a fair presentation of our results for the interim periods. Such
adjustments are considered to be of a normal recurring nature. Results of
operations for the three months ended March 31, 2008 are not necessarily
indicative of the results of operations that will be realized for the year
ending December 31, 2008. The
accompanying consolidated financial statements and notes thereto should be read
in conjunction with the consolidated financial statements and notes thereto
included in our Form 10-K for the fiscal year ended December 31,
2007.
7
Principles of Consolidation
Because we own the
general partner of Hiland Partners, the consolidated financial statements
include our accounts, the accounts of Hiland Partners GP, LLC and the accounts
of Hiland Partners and its subsidiaries. All significant intercompany
transactions and balances have been eliminated.
Use of Estimates
The preparation of
financial statements in accordance with accounting principles generally
accepted in the United States of America requires management to make estimates
and assumptions that affect the amounts reported in the financial statements
and accompanying notes. Actual results could differ from those estimates.
Fair Value of Financial Instruments
Our financial
instruments, which require fair value disclosure, consist primarily of cash and
cash equivalents, accounts receivable, financial derivatives, accounts payable
and long-term debt. The carrying value of cash and cash equivalents, accounts
receivable and accounts payable are considered to be representative of their
respective fair values, due to the short maturity of these instruments.
Derivative instruments are reported in the accompanying consolidated financial
statements at fair value in accordance with Statement of Financial Accounting
Standards (SFAS) No. 133, Accounting for Derivative Instruments and
Hedging Activities, as amended. Fair value of our derivative instruments is
determined based on management estimates through utilization of market data
including forecasted forward natural gas and natural gas liquids (NGL) prices
as a function of forward New York Mercantile Exchange (NYMEX) natural gas and
light crude prices. The fair value of long-term debt approximates its carrying
value due to the variable interest rate feature of such debt.
Commodity Risk Management
We engage in price risk
management activities in order to minimize the risk from market fluctuation in
the prices of natural gas and NGLs. To qualify as an accounting hedge, the
price movements in the commodity derivatives must be highly correlated with the
underlying hedged commodity. Gains and losses related to commodity derivatives
that qualify as accounting hedges are recognized in income when the underlying
hedged physical transaction closes and are included in the consolidated
statements of operations as revenues from midstream operations. Gains and
losses related to commodity derivatives that are not designated as accounting
hedges or do not qualify as accounting hedges are recognized in income
immediately, and are included in revenues from midstream operations in the
consolidated statement of operations.
SFAS No. 133, as
amended, establishes accounting and reporting standards for derivative
instruments, including certain derivative instruments embedded in other
contracts, and for hedging activities. SFAS No. 133 requires that an
entity recognize all derivatives as either assets or liabilities in the
statement of financial position and measure those instruments at fair value.
However, if a derivative does qualify for hedge accounting, depending on the
nature of the hedge, changes in fair value can be offset against the change in
fair value of the hedged item through earnings or recognized in other
comprehensive income until such time as the hedged item is recognized in
earnings. To qualify for cash flow hedge accounting, the cash flows from the
hedging instrument must be highly effective in offsetting changes in cash flows
due to changes in the underlying item being hedged. In addition, all hedging
relationships must be designated, documented and reassessed periodically. SFAS No. 133
also provides that normal purchases and normal sales contracts are not subject
to the statement. Normal purchases and normal sales are contracts that 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. Our fixed price physical forward natural gas sales contract in
which we have contracted to sell natural gas quantities at a fixed price is
designated as a normal sale. This forward sales contract expires on December 31,
2008.
Currently, our derivative
financial instruments that qualify for hedge accounting are designated as cash
flow hedges. The cash flow hedge instruments hedge the exposure of variability
in expected future cash flows that is attributable to a particular risk. The
effective portion of the gain or loss on these derivative instruments is
recorded in accumulated other comprehensive income in partners equity and
reclassified into earnings in the same period in which the hedged transaction
closes. The asset or liability related to the derivative instruments is
recorded on the balance sheet as fair value of derivative assets or liabilities.
Any ineffective portion of the gain or loss is recognized in earnings
immediately.
8
Comprehensive Income
Comprehensive income
includes net income and other comprehensive income, which includes, but is not
limited to, changes in the fair value of derivative financial instruments.
Pursuant to SFAS No. 133, for derivatives qualifying as accounting hedges,
the effective portion of changes in fair value are recognized in partners
equity as accumulated other comprehensive income and reclassified to earnings
when the underlying hedged physical transaction closes, to the extent of our
interest in Hiland Partners. Our comprehensive income for the three months
ended March 31, 2008 and 2007 is presented in the table below:
|
|
For the Three Months Ended March 31,
|
|
|
|
2008
|
|
2007
|
|
Net income
|
|
$
|
840
|
|
$
|
748
|
|
Closed
derivative transactions reclassified from income
|
|
1,233
|
|
(332
|
)
|
Change in fair
value of derivatives
|
|
(1,500
|
)
|
(832
|
)
|
Comprehensive
income (loss)
|
|
$
|
573
|
|
$
|
(416
|
)
|
Net Income per Limited Partners Unit
Net income per limited
partners unit is computed based on the weighted-average number of common units
outstanding during the period. The computation of diluted net income per
limited partner unit further assumes the dilutive effect of restricted unit
awards. Net income per limited partners unit is computed by dividing net
income applicable to limited partners by both the basic and diluted
weighted-average number of limited partnership units outstanding.
Minority Interests
The minority interest on
our consolidated balance sheets as of March 31, 2008 and December 31,
2007 reflects the outside ownership interest of Hiland Partners. Minority
interest in income is calculated by multiplying the minority interest owners
proportionate ownership of limited partner units in Hiland Partners by the
limited partners allocation of Hiland Partners net income. Hiland Partners
net income is allocated to its limited partners and its general partner based
on the proportionate share of the cash distributions declared for the period,
with adjustments made for incentive distributions specifically allocated to its
general partner. All amounts we have received from Hiland Partners issuance
and sale of limited partner units have been recorded as increases to the
minority interest balance on the consolidated balance sheet.
Contributions to Subsidiary
The Partnership directly
and indirectly owns all of the equity interests in Hiland Partners GP, LLC, the
general partner of Hiland Partners. Hiland Partners GP, LLC is required to make
contributions to Hiland Partners each time Hiland Partners issues common units
in order to maintain its 2% general partner ownership in Hiland Partners.
Hiland Holdings or Hiland Partners GP, LLC was required to contribute $12 and
$18 for the three months ended March 31, 2008 and 2007.
Recent Accounting Pronouncements
On March 19, 2008,
the Financial Accounting Standards Board (FASB) issued SFAS No. 161,
Disclosures about Derivative Instruments and Hedging Activities, an Amendment
of FASB Statement No. 133 (SFAS 161). SFAS 161 is intended to improve
transparency in financial reporting by requiring enhanced disclosures of an
entitys derivative instruments and hedging activities and their effects on the
entitys financial position, financial performance, and cash flows. SFAS 161 is
effective prospectively for financial statements issued for fiscal years and
interim periods beginning after November 15, 2008, with early application
encouraged. SFAS 161 encourages, but does not require, comparative disclosures
for periods prior to its initial adoption. SFAS 161 amends the current
qualitative and quantitative disclosure requirements for derivative instruments
and hedging activities set forth in SFAS 133 and generally increases the level
of aggregation/disaggregation that will be required in an entitys financial
statements. We are currently reviewing this Standard to determine the effect it
will have on our financial statements and disclosures therein.
On March 12, 2008,
the Emerging Issues Task Force (EITF) reached consensus opinion on EITF Issue
No. 07-4, Application of the two-class method under FASB Statement No. 128,
Earnings per Share, to Master Limited Partnerships
9
(EITF No. 07-4), which the FASB ratified at its March 26,
2008 meeting. EITF No. 07-4 requires the calculation of a Master Limited
Partnerships (MLPs) net earnings per limited partner unit for each period
presented according to distributions declared and participation rights in
undistributed earnings as if all of the earnings for that period had been
distributed. In periods with undistributed earnings above specified levels, the
calculation per the two-class method results in an increased allocation of such
undistributed earnings to the general partner and a dilution of earnings to the
limited partners. EITF No. 07-4 is effective for fiscal years beginning
after December 15, 2008, and is to be applied retrospectively to all
periods presented. Early application is not permitted. We will apply the
requirements of EITF No. 07-4 as it pertains to MLPs upon its adoption
during the quarter ended March 31, 2009.
In December 2007,
the FASB issued SFAS No. 141(R), Business Combinations. This statement
amends and replaces SFAS No. 141, but retains the fundamental requirements
in SFAS No. 141 that the purchase method of accounting be used for all
business combinations and an acquirer be identified for each business
combination. The statement provides for how the acquirer recognizes and
measures the identifiable assets acquired, liabilities assumed and any
non-controlling interest in the acquiree. SFAS No. 141(R) provides
for how the acquirer recognizes and measures the goodwill acquired in the
business combination or a gain from a bargain purchase. The statement also
determines what information to disclose to enable users to be able to evaluate
the nature and financial effects of the business combination. The provisions of
SFAS No. 141(R) apply prospectively to business combinations for
which the acquisition date is on or after the beginning of the first annual
reporting period beginning on or after December 15, 2008 and do not allow
early adoption. We are evaluating the new requirements of SFAS No. 141(R) and
the impact it will have on business combinations completed in 2009 or
thereafter.
In December 2007, the FASB issued SFAS No. 160,
Noncontrolling Interests in Consolidated Financial Statements an amendment
of ARB No. 51. SFAS No. 160 establishes accounting and reporting
standards that require the ownership interests in subsidiaries held by parties
other than the parent (minority interest) be clearly identified, labeled and
presented in the consolidated balance sheet within equity, but separate from
the parents equity. SFAS No. 160 requires the equity amount of
consolidated net income attributable to the parent and to the noncontrolling
interest be clearly identified and presented on the face of the consolidated
income statement and that changes in a parents ownership interest while the
parent retains its controlling financial interest in its subsidiary be
accounted for consistently and similarly as equity transactions. Consolidated
net income and comprehensive income will be determined without deducting
minority interest; however, earnings-per-share information will continue to be
calculated on the basis of the net income attributable to the parents
shareholders. Additionally, SFAS No. 160 establishes a single method for
accounting for changes in a parents ownership interest in a subsidiary that
does not result in deconsolidation and that the parent recognize a gain or loss
in net income when a subsidiary is deconsolidated. SFAS No. 160 is
effective for fiscal years beginning on or after December 15, 2008. Early
adoption is not permitted. We do not expect this Statement will have a material
impact on our financial position, results of operations or cash flows.
In February 2007,
the FASB issued SFAS No. 159, The Fair Value Option for Financial Assets
and Financial Liabilities. SFAS No. 159 expands opportunities to use fair
value measurement in financial reporting and permits entities to choose to
measure many financial instruments and certain other items at fair value. SFAS No. 159
is effective for fiscal years beginning after November 15, 2007. This
Statement was adopted by us effective January 1, 2008, at which time no
financial assets or liabilities, not previously required to be recorded at fair
value by other authoritative literature, were designated to be recorded at fair
value. As such, the adoption of this Statement did not have any impact on our
financial position, results of operations or cash flows.
In September 2006,
the FASB issued SFAS No. 157 Fair Value Measurements. SFAS No. 157 defines fair value as 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,
establishes a framework for measuring fair value in generally accepted
accounting principles (GAAP) such as fair value hierarchy used to classify the
source of information used in fair value measurements (i.e., market based or
non-market based) and expands disclosure about fair value measurements based on
their level in the hierarchy. SFAS No. 157
applies to derivatives and other financial instruments, which SFAS No 133, Accounting for Derivative Instruments and Hedging Activities,
as amended, requires be measured at fair value at initial recognition and for
all subsequent periods. SFAS No. 157 establishes a fair value hierarchy
which requires an entity to maximize the use of observable inputs and minimize
the use of unobservable inputs when measuring fair value. SFAS No. 157s
hierarchy defines three levels of inputs that may be used to measure fair
value. Level 1 refers to assets that have observable market prices, level 2
assets do not have an observable price but do have inputs that are based on
such prices in which components have observable data points and level 3 refers
to assets in which one or more of the inputs do not have observable prices and
calibrated model parameters, valuation techniques or managements assumptions
are used to derive the fair value. SFAS No. 157 is effective for financial
statements issued for fiscal years beginning after November 15, 2007 and
interim periods within those fiscal years. We elected to implement SFAS No. 157
prospectively in the first quarter of 2008 with the one-year
10
deferral permitted by FASB Staff Position (FSP) 157-2 for
nonfinancial assets and nonfinancial liabilities measured at fair value, except
those that are recognized or disclosed on a recurring basis (at least
annually). The deferral applies to nonfinancial assets and liabilities measured
at fair value in a business combination; impaired properties, plants and
equipment; intangible assets and goodwill; and initial recognition of asset
retirement obligations and restructuring costs for which we use fair value. We
do not expect any significant impact to our consolidated financial statements
when we implement SFAS No. 157 for these assets and liabilities. See Note
5 Fair Value Measurements of Financial Instruments.
Note 2: Property
and Equipment and Asset Retirement Obligations
Property
and equipment consisted of the following for the periods indicated:
|
|
As of
|
|
As of
|
|
|
|
March 31,
|
|
December 31,
|
|
|
|
2008
|
|
2007
|
|
Land
|
|
$
|
298
|
|
$
|
295
|
|
Construction in
progress
|
|
6,777
|
|
12,030
|
|
Midstream
pipeline, plants and compressors
|
|
369,577
|
|
356,491
|
|
Compression and
water injection equipment
|
|
19,310
|
|
19,258
|
|
Other
|
|
4,189
|
|
3,958
|
|
|
|
400,151
|
|
392,032
|
|
Less:
accumulated depreciation and amortization
|
|
76,599
|
|
68,959
|
|
|
|
$
|
323,552
|
|
$
|
323,073
|
|
During the three months
ended March 31, 2008 and 2007, we capitalized interest of $131 and $669,
respectively.
In accordance with SFAS No. 143,
Accounting for Asset Retirement Obligations, we have recorded the fair value
of liabilities for asset retirement obligations in the periods in which they
are incurred and corresponding increases in the carrying amounts of the related
long-lived assets. The asset retirement costs are subsequently allocated to
expense using a systematic and rational method and the liabilities are accreted
to measure the change in liability due to the passage of time. The provisions
of this standard primarily apply to dismantlement and site restoration of
certain of our plants and pipelines. We have evaluated our asset retirement
obligations as of March 31, 2008 and have determined that revisions in the
carrying values are not necessary at this time. Asset retirement obligations
totaling $2,159 at January 1, 2008 increased to $2,191 at March 31,
2008 as a result of accreting the obligation by $32.
Note 3: Intangible Assets
Intangible assets consist
of the acquired value of customer relationships, existing contracts to sell
natural gas and other NGLs and compression contracts, which do not have
significant residual value. The customer relationships and the contracts are
being amortized over their estimated lives of ten years. We review intangible
assets for impairment whenever events or circumstances indicate that the
carrying amounts may not be recoverable. If such a review should indicate that
the carrying amount of intangible assets is not recoverable, we reduce the
carrying amount of such assets to fair value based on the discounted probable
cash flows of the intangible assets. No impairments of intangible assets were
recorded during the three months ended March 31, 2008 or 2007. Intangible
assets consisted of the following at March 31, 2008 and December 31,
2007:
|
|
As of
|
|
As of
|
|
|
|
March 31,
|
|
December 31,
|
|
|
|
2008
|
|
2007
|
|
Gas sales
contracts
|
|
$
|
32,564
|
|
$
|
32,564
|
|
Compression
contracts
|
|
18,515
|
|
18,515
|
|
Customer
relationships
|
|
10,492
|
|
10,492
|
|
|
|
61,571
|
|
61,571
|
|
Less accumulated
amortization
|
|
16,173
|
|
14,634
|
|
Intangible
assets, net
|
|
$
|
45,398
|
|
$
|
46,937
|
|
11
During each of the three
months ended March 31, 2008 and 2007 we recorded $1,539 of amortization
expense. Estimated aggregate amortization expense for the remainder of 2008 is
$4,618 and $6,157 for each of the four succeeding fiscal years from 2009
through 2012 and a total of $16,152 for all years thereafter.
Note 4: Derivatives
Hiland Partners has
entered into certain derivative contracts that are classified as cash flow
hedges in accordance with SFAS No. 133, as amended, and relate to
forecasted sales in 2008 and 2009. Hiland Partners entered into these financial
swap instruments to hedge forecasted natural gas and natural gas liquids (NGLs)
sales or purchases against the variability in expected future cash flows
attributable to changes in commodity prices. Under these contractual swap
agreements with Hiland Partners counterparty, Hiland Partners receives a fixed
price and pays a floating price or pays a fixed price and receives a floating
price based on certain indices for the relevant contract period as the
underlying natural gas or NGL is sold or purchased.
Hiland Partners formally
documents all relationships between hedging instruments and the items being
hedged, including its risk management objective and strategy for undertaking
the hedging transactions. This includes matching the natural gas and NGL
futures, the sold fixed for floating price or buy fixed for floating price
contracts, to the forecasted transactions. Hiland Partners assesses, both at
the inception of the hedge and on an ongoing basis, whether the derivatives are
highly effective in offsetting changes in the fair value of hedged items.
Highly effective is deemed to be a correlation range from 80% to 125% of the
change in cash flows of the derivative in offsetting the cash flows of the
hedged transaction. If it is determined that a derivative is not highly
effective as a hedge or it has ceased to be a highly effective hedge, due to
the loss of correlation between changes in natural gas or NGL reference prices
under a hedging instrument and actual natural gas or NGL prices, Hiland
Partners will discontinue hedge accounting for the derivative and subsequent
changes in fair value for the derivative will be recognized immediately into
earnings. Hiland Partners assesses effectiveness using regression analysis and
ineffectiveness using the dollar offset method.
Derivatives are recorded
on our consolidated balance sheet as assets or liabilities at fair value. For
derivatives qualifying as hedges, the effective portion of changes in fair
value are recognized in partners equity as accumulated other comprehensive
loss and reclassified to earnings when the underlying hedged physical
transaction closes. Changes in fair value of non-qualifying derivatives and the
ineffective portion of qualifying derivatives are recognized in earnings as
they occur. Actual amounts that will be reclassified will vary as a result of
future changes in prices. Hedge ineffectiveness is recorded in income while the
hedge contract is open and may increase or decrease until settlement of the contract.
Realized cash gains and losses on closed/settled instruments and hedge
ineffectiveness are reflected in the contract month being hedged as an
adjustment to midstream revenue.
Hiland Partners did not
enter into any new derivative contracts in the three months ended March 31,
2008. At December 31, 2007, Hiland Partners had entered into one financial
instrument that was designated as an open trade, in which Hiland Partners
received a NYMEX index price less a basis differential and paid a floating price
based on certain indices for the relevant contract period as the underlying
natural gas was sold. This open trade financial swap instrument was not
designated as a hedge and did not qualify for hedge accounting. On January 8,
2008, Hiland Partners negotiated a fixed price on the open trade and the
financial swap instrument now qualifies for hedge accounting. During the three
months ended March 31, 2008, we reclassified net losses of $1,233 on
closed/settled hedge transactions to midstream revenues out of accumulated
other comprehensive income and also recorded $1,500 out of accumulated other
comprehensive income for the increase in fair value of open derivatives.
Included in minority interest on the balance sheet is $2,498 of the changes in
the net fair value of derivatives during the three months ended March 31,
2008 attributable to minority interest. During the three months ended March 31,
2008, we recorded losses of $401 on the ineffective portions of our qualifying
open derivative transactions. At March 31, 2008, our accumulated other
comprehensive loss related to qualifying derivatives was $(3,692). Of this
amount, we anticipate $4,046 will be reclassified from earnings during the next
twelve months and $354 will be reclassified to earnings in subsequent periods.
During the three months
ended March 31, 2007 we reclassified net gains of $332 on closed/settled
hedge transactions to midstream revenues out of accumulated other comprehensive
loss and also recorded $832 out of accumulated other comprehensive loss for the
decrease in fair value of open derivatives. Included in minority interest on
the balance sheet is $800 of the changes in the net fair value of derivatives
during the three months ended March 31, 2007 attributable to minority
interest. During the three months ended March 31, 2007, Hiland Partners
recorded a gain of $83, on the non-qualifying open trade financial instrument
and losses of $14 on the ineffective portions of qualifying open derivative
transactions.
12
The fair value of
derivative assets and liabilities are as follows for the indicated periods:
|
|
As of
|
|
As of
|
|
|
|
March 31,
|
|
December 31,
|
|
|
|
2008
|
|
2007
|
|
Fair value of
derivative assets - current
|
|
$
|
1,050
|
|
$
|
2,718
|
|
Fair value of
derivative assets - long term
|
|
594
|
|
418
|
|
Fair value of
derivative liabilities - current
|
|
(7,748
|
)
|
(8,238
|
)
|
Fair value of
derivative liabilities - long term
|
|
|
|
(141
|
)
|
Net fair value
of derivatives
|
|
$
|
(6,104
|
)
|
$
|
(5,243
|
)
|
The terms of Hiland
Partners derivative contracts currently extend out as far as December 2009.
Our counterparty to all of our derivative contracts is BP Energy Company. Set
forth below is the summarized notional amount and terms of all instruments held
for price risk management purposes at March 31, 2008.
|
|
|
|
Average
|
|
Fair Value
|
|
|
|
|
|
Fixed/Open
|
|
Asset
|
|
|
|
Volume
|
|
Price
|
|
(Liability)
|
|
Description and Production Period
|
|
(MMBtu)
|
|
(per MMBtu)
|
|
|
|
Natural Gas -
Sold Fixed for Floating Price Swaps
|
|
|
|
|
|
|
|
April 2008
- March 2009
|
|
2,019,000
|
|
$
|
7.70
|
|
$
|
(2,026
|
)
|
April 2009
- December 2009
|
|
1,602,000
|
|
$
|
7.30
|
|
594
|
|
|
|
|
|
|
|
$
|
(1,432
|
)
|
|
|
(MMBtu)
|
|
(per MMBtu)
|
|
|
|
Natural Gas -
Buy Fixed for Floating Price Swaps
|
|
|
|
|
|
|
|
April 2008
- December 2008
|
|
540,864
|
|
$
|
6.93
|
|
$
|
1,050
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(Bbls)
|
|
(per Gallon)
|
|
|
|
Natural Gas
Liquids - Sold Fixed for Floating Price Swaps
|
|
|
|
|
|
|
|
April 2008
- December 2008
|
|
331,326
|
|
$
|
1.31
|
|
$
|
(5,722
|
)
|
|
|
|
|
|
|
|
|
|
|
Note 5:
Fair Value
Measurements of Financial Instruments
We adopted SFAS No. 157
Fair Value Measurements beginning in the first quarter of 2008. SFAS No. 157
defines fair value as 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, establishes a framework for measuring fair value in
generally accepted accounting principles (GAAP) such as fair value hierarchy
used to classify the source of information used in fair value measurements
(i.e., market based or non-market based) and expands disclosure about fair
value measurements based on their level in the hierarchy. SFAS No. 157 applies to derivatives and
other financial instruments, which SFAS No. 133,
Accounting for Derivative Instruments
and Hedging Activities, as amended, requires be measured at fair value
at initial recognition and for all subsequent periods. SFAS No. 157
establishes a fair value hierarchy which requires an entity to maximize the use
of observable inputs and minimize the use of unobservable inputs when measuring
fair value. SFAS No. 157s hierarchy defines three levels of inputs that
may be used to measure fair value. Level 1 refers to assets that have
observable market prices, level 2 assets do not have an observable price but
do have inputs that are based on such prices in which components have
observable data points and level 3 refers to assets in which one or more of the
inputs do not have observable prices and calibrated model parameters, valuation
techniques or managements assumptions are used to derive the fair value.
13
We use the fair value
methodology outlined in SFAS No. 157 to value assets and liabilities for
our outstanding fixed price cash flow swap derivative contracts. Valuations of
our natural gas and propane derivative contracts are based on published forward
price curves for natural gas and propane and, as such, are defined as Level 2
fair value hierarchy assets and liabilities. There are no published forward
price curves for butanes or natural gasoline, and therefore, our butanes and
natural gasoline derivative contracts are defined as Level 3 fair value
hierarchy assets and liabilities. We value our butanes and natural gasoline
derivative contracts based on calibrated model parameters relative to forward
published price curves for crude oil and comparative mark-to-market values
received from our counterparty. The
following table represents the fair value hierarchy for our assets and
liabilities at March 31, 2008:
|
|
Level 1
|
|
Level 2
|
|
Level 3
|
|
Total
|
|
Commodity -based
derivative assets
|
|
$
|
|
|
$
|
1,644
|
|
$
|
|
|
$
|
1,644
|
|
Commodity -based
derivative liabilities
|
|
|
|
(4,312
|
)
|
(3,436
|
)
|
(7,748
|
)
|
Total
|
|
$
|
|
|
$
|
(2,668
|
)
|
$
|
(3,436
|
)
|
$
|
(6,104
|
)
|
The
following table provides a summary of changes in the fair value of Hiland PartnersLevel
3 commodity-based derivatives for the three months ended March 31, 2008:
|
|
Fixed Price
|
|
|
|
Cash Flow
|
|
|
|
Swaps
|
|
Balance
January 1, 2008
|
|
$
|
(4,489
|
)
|
Cash settlements
from other comprehensive income (loss)
|
|
1,418
|
|
Net change in
other comprehensive income
|
|
(365
|
)
|
Balance
March 31, 2008
|
|
$
|
(3,436
|
)
|
Note 6: Long-Term
Debt
|
|
As of
|
|
As of
|
|
|
|
March 31,
|
|
December 31,
|
|
|
|
2008
|
|
2007
|
|
Hiland
Partners-Revolving Credit Facility
|
|
$
|
230,064
|
|
$
|
221,064
|
|
Hiland
Holdings-Revolving Credit Facility
|
|
355
|
|
355
|
|
Capital lease
obligation
|
|
5,478
|
|
5,585
|
|
|
|
235,897
|
|
227,004
|
|
Less current
portion of capital lease obligations
|
|
590
|
|
545
|
|
Long-term debt
|
|
$
|
235,307
|
|
$
|
226,459
|
|
Hiland Partners
On February 6, 2008,
Hiland Partners entered into a fourth amendment to its credit facility dated as
of February 15, 2005. Pursuant to the fourth amendment, Hiland Partners
has, among other things, increased its borrowing base from $250 million to $300
million and decreased the accordion feature in the facility from $100 million
to $50 million. Hiland Partners
original credit facility dated May 2005 was first amended in September 2005,
amended a second time in June 2006 and amended a third time in July 2007.
The fourth amendment
increases Hiland Partners borrowing capacity under its senior secured
revolving credit facility to $300 million such that the facility now consists
of a $291 million senior secured revolving credit facility to be used for
funding acquisitions and other capital expenditures, issuance of letters of
credit and general corporate purposes (the Acquisition Facility) and a $9.0
million senior secured revolving credit facility to be used for working capital
and to fund distributions (the Working Capital Facility).
In addition, the credit
facility provides for an accordion feature, which permits Hiland Partners, if
certain conditions are met, to increase the size of the Acquisition Facility by
up to $50 million and allows for the issuance of letters of credit of up
14
to $15 million in the aggregate. The senior secured revolving
credit facility also requires HIiland Partners to meet certain financial tests,
including a maximum consolidated funded debt to EBITDA ratio of 4.0:1.0 as of
the last day of any fiscal quarter; provided that in the event that Hiland
Partners makes certain permitted acquisitions or capital expenditures, this
ratio may be increased to 4.75:1.0 for the three fiscal quarters following the
quarter in which such acquisition or capital expenditure occurs; and a minimum
interest coverage ratio of 3.0:1.0. The
credit facility will mature in May 2011. At that time, the agreement will
terminate and all outstanding amounts thereunder will be due and payable.
Hiland Partners obligations
under the credit facility are secured by substantially all of its assets and
guaranteed by Hiland Partners, and all of its subsidiaries, other than Hiland
Operating, LLC its operating company, which is the borrower under the credit
facility.
Indebtedness under the
credit facility will bear interest, at Hiland Partners option, at either (i) an
Alternate Base Rate plus an applicable margin ranging from 50 to 125 basis
points per annum or (ii) LIBOR plus an applicable margin ranging from 150
to 225 basis points per annum based on our ratio of consolidated funded debt to
EBITDA. The Alternate Base Rate is a rate per annum equal to the greatest of (a) the
Prime Rate in effect on such day, (b) the base CD rate in effect on such
day plus 1.50% and (c) the Federal Funds effective rate in effect on such
day plus ½ of 1%. A letter of credit fee will be payable for the aggregate
amount of letters of credit issued under the credit facility at a percentage
per annum equal to 1.0%. An unused commitment fee ranging from 25 to 50 basis
points per annum based on our ratio of consolidated funded debt to EBITDA will
be payable on the unused portion of the credit facility. During any step-up
period, the applicable margin with respect to loans under the credit facility
will be increased by 35 basis points per annum and the unused commitment fee
will be increased by 12.5 basis points per annum. At March 31, 2008, the
interest rate on outstanding borrowings from Hiland Partners credit facility
was 5.32%.
The credit facility
prohibits Hiland Partners from making distributions to unitholders if any
default or event of default, as defined in the credit facility, has occurred
and is continuing or would result from the distribution. In addition, the
credit facility contains various covenants that limit, among other things,
subject to certain exceptions and negotiated baskets, Hiland Partners
ability to incur indebtedness, grant liens, make certain loans, acquisitions
and investments, make any material changes to the nature of its business, amend
its material agreements, including its Omnibus Agreement, or enter into a
merger, consolidation or sale of assets.
The credit facility
defines EBITDA as Hiland Partners consolidated net income, plus income tax
expense, interest expense, depreciation, amortization and accretion expense,
amortization of intangibles and organizational costs, non-cash unit based
compensation expense, and adjustments for non-cash gains and losses on
specified derivative transactions and for other extraordinary items.
Upon the occurrence of an
event of default as defined in the credit facility, the lenders may, among
other things, be able to accelerate the maturity of the credit facility and
exercise other rights and remedies as set forth in the credit facility.
The credit facility
limits distributions to Hiland Partners unitholders to available cash, as
defined by the agreement, and borrowings to fund such distributions are only
permitted under the revolving working capital facility. The revolving working
capital facility is subject to an annual clean-down period of 15 consecutive
days in which the amount outstanding under the revolving working capital
facility is reduced to zero.
As of March 31,
2008, Hiland Partners had $230.1 million outstanding under this credit
facility and was in compliance with its financial covenants.
Hiland Holdings
On September 25,
2006, concurrently with the closing of our initial public offering, the
Partnership entered into a three-year $25.0 million secured revolving credit
facility. The facility will permit us, if certain conditions are met, to
increase borrowing capacity by up to an additional $25.0 million. The facility
is secured by all of our ownership interests in Hiland Partners and its general
partner, other than the 2% general partner interest and the incentive
distribution rights.
The facility will mature
on September 25, 2009 at which time all outstanding amounts thereunder
become due and payable.
15
Indebtedness under the
facility bears interest, at our option, at either (i) an alternate base
rate plus an applicable margin ranging from 100 to 150 basis points per annum
or (ii) LIBOR plus an applicable margin ranging from 200 to 250 basis
points per annum in each case based on our ratio of consolidated funded debt to
EBITDA. The alternate base rate is equal to the greatest of (a) the prime
rate in effect on such day, (b) the base CD rate in effect on such day
plus 1.50% and (c) the federal funds effective rate in effect on such day
plus
1
/
2
of 1%. A letter of credit fee will be payable
for the aggregate amount of letters of credit issued under the facility at a
percentage per annum equal to 2.0%. A commitment fee ranging from 25 to 50
basis points per annum based on our ratio of consolidated funded debt to EBITDA
will be payable on the average daily unused portion of the facility for the
quarter most recently ended. At March 31, 2008, the interest rate on
outstanding borrowings from our credit facility was 5.06%.
The facility contains
several covenants that, among other things, require the maintenance of two
financial performance ratios, restrict the payment of distributions to
unitholders, and require financial reports to be submitted periodically to the
financial institutions.
The credit facility also
contains covenants requiring a maximum consolidated funded debt to EBITDA ratio
of 3.0:1.0 for the four fiscal quarters most recently ended and a minimum
interest coverage ratio of 3.0:1.0.
The amount we may borrow
under the facility is limited to the lesser of: (i) 50% of the sum of the
value of the Hiland Partners common and subordinated units and certain other
assets held by us and certain of our subsidiaries at the end of each fiscal
quarter and (ii) the maximum available amount of the facility (currently
$25.0 million).
The facility prohibits us
from making distributions to unitholders if any default or event of default, as
defined in the credit facility, has occurred and is continuing or would result
from the distribution. In addition, the facility contains various covenants
that limit, among other things, subject to certain exceptions and negotiated baskets,
our ability to incur indebtedness, grant liens, enter into agreements
restricting our ability to grant liens on our assets or amend the facility,
make certain loans, acquisitions and investments or enter into a merger,
consolidation or sale of assets.
The facility limits
distributions to our unitholders to our available cash, as defined in our
partnership agreement. Restricted payments under the facility are subject to an
annual clean-down period of 15 consecutive days in which the amount
outstanding that relates to funding the restricted payments under the facility
must be reduced to zero.
As of March 31,
2008, we had $0.4 million outstanding under this credit facility and were
in compliance with our financial covenants.
Capital Lease Obligations
During the third quarter
of 2007, Hiland Partners incurred two separate capital lease obligations at the
Bakken and Badlands gathering systems. Under the terms of a capital lease
agreement for a rail loading facility and an associated products pipeline at
the Bakken gathering system, Hiland Partners has agreed to repay a business
partner a predetermined amount over a period of eight years. Once fully paid,
title to the leased assets will transfer to Hiland Partners no later than the
end of the eight-year period commencing from the inception date of the lease.
Hiland Partners also incurred a capital lease obligation for the aid to
construct several electric substations at Hiland Partners Badlands gathering
system which, by agreement, will be repaid in equal monthly installments over a
period of five years.
During the three months
ended March 31, 2008, Hiland Partners made principal payments of $107 on
the above described capital lease obligations.
The current portion of the capital lease obligations presented in the
table above is included in accrued liabilities and other in the balance sheet.
Note 7: Share-Based Compensation
Hiland Holdings GP, LP Long Term Incentive
Plan
Hiland Holdings GP, the
general partner of Hiland Holdings, adopted the Hiland Holdings GP, LP
Long-Term Incentive Plan for its employees and directors of its general partner
and employees of its affiliates. The long-term incentive plan consists of three
components: unit options, restricted units and phantom units. The long-term
incentive plan limits the number of units that be delivered pursuant to awards
to 2,160,000 units. The plan is administered by the board of directors of our
general partner or the compensation committee of the board of directors of our
general partner. The plan will expire upon the
16
first to occur of its termination by the board of directors or the
compensation committee, the date when no units remain available under the plan
for awards or the tenth anniversary of the date the plan is approved by our
unitholders. Awards then outstanding will continue pursuant to the terms of
their grants.
The board of directors of
our general partner and the compensation committee of the board may terminate
or amend the long-term incentive plan at any time with respect to any units for
which a grant has not yet been made. Our board of directors and the
compensation committee of the board also have the right to alter or amend the
long-term incentive plan or any part of the plan from time to time, including
increasing the number of units that may be granted subject to unitholder
approval as may be required by applicable law or stock exchange rules. However,
no change in any outstanding grant may be made that would materially reduce the
benefits of the participant without the consent of the participant. Restricted
common units granted vest and become exercisable in one-fourth increments on
the anniversary of the grant date over four years. A restricted unit is a
common unit that is subject to forfeiture, and upon vesting, the grantee
receives a common unit that is not subject to forfeiture. Distributions on
unvested restricted common units are held in trust by our general partner until
the units vest, at which time the distributions are distributed to the grantee.
As provided for in the
long-term incentive plan, each non-employee board member of Hiland Partners GP
Holdings, LLC on each anniversary date of the initial reward is entitled to
receive an additional 1,000 restricted common units. We issued no restricted
units during the three months ended March 31, 2008. As of March 31,
2008 and December 31, 2007, we had 15,000 restricted common units
outstanding with a weighted average fair value at grant date of $23.30 per
restricted unit. Compensation expense related to the 12,000 restricted units
issued is to be recognized over their respective four-year vesting period on
the graded vesting attribution method. We recorded compensation expense related
to the restricted units of $35 and $32 for the three months ended March 31,
2008 and 2007, respectively, and will record additional compensation expense of
$206 over the next four years.
Hiland Partners, LP Long Term Incentive
Plan
Hiland Partners GP, LLC,
the general partner of Hiland Partners adopted the Hiland Partners, LP
Long-Term Incentive Plan for its employees and directors of its general partner
and employees of its affiliates. The long-term incentive plan currently permits
an aggregate of 680,000 of Hiland Partners common units to be issued with
respect to unit options, restricted units and phantom units granted under the
plan. No more than 225,000 of the 680,000 common units may be issued with
respect to vested restricted or phantom units. The plan is administered by the
compensation committee of Hiland Partners GP, LLCs board of
directors. The plan will continue in effect until the earliest of (i) the
date determined by the board of directors of the general partner; (ii) the
date that common units are no longer available for payment of awards under the
plan; or (iii) the tenth anniversary of the plan.
Hiland Partners GP, LLCs
board of directors or compensation committee may, in their discretion,
terminate, suspend or discontinue the long-term incentive plan at any time with
respect to any units for which a grant has not yet been made. Hiland Partners
GP, LLCs board of directors or its compensation committee also has the right
to alter or amend the long-term incentive plan or any part of the plan from
time to time, including increasing the number of units that may be granted,
subject to unitholder approval if required by the exchange upon which the
common units are listed at that time. No change in any outstanding grant may be
made, however, that would materially impair the rights of the participant
without the consent of the participant. Under the unit option grant agreement,
granted options of common units will vest and become exercisable in one-third
increments on the anniversary of the grant date over three years. Vested
options are exercisable within the options contractual life of ten years after
the grant date. Restricted common units granted vest and become exercisable in
one-fourth increments on the anniversary of the grant date over four years. A
restricted unit is a common unit that is subject to forfeiture, and upon
vesting, the grantee receives a common unit that is not subject to forfeiture.
Distributions on unvested restricted common units are held in trust by Hiland
Partners general partner until the units vest, at which time the distributions
are distributed to the grantee. Granted phantom common units are generally more
flexible than restricted units and vesting periods and distribution rights may
vary with each grant. A phantom unit is a common unit that is subject to
forfeiture and is not considered issued until it vests. Upon vesting, holders
of phantom units will receive (i) a common unit that is not subject to
forfeiture, cash in lieu of the delivery of such unit equal to the fair market
value of the unit on the vesting date, or a combination thereof, at the
discretion of our general partners board of directors and (ii) the
distributions held in trust, if applicable, related to the vested units.
Phantom
Units.
On February 4, 2008, Hiland Partners
granted 7,500 phantom units to Mr. Matthew S. Harrison, ours and Hiland
Partners new Chief Financial Officer (CFO), formerly Vice President of
Business Development. The phantom units granted vest over a three-year period
from the date of issuance and distributions are held in trust by Hiland
Partners
17
general partner until the units vest.
On February 25, 2008, Hiland Partners granted 2,500 phantom units
to a key employee that vest over a four-year period from the date of issuance
and do not accumulate distributions. On March 19, 2008, Mr. Ken
Maples, ours and Hiland Partners former CFO, resigned and the 5,000 phantom
units Hiland Partners granted to him in November 2007 were forfeited.
Hiland Partners granted no phantom units during the three months ended March 31,
2007.
The following
table summarizes information about Hiland Partners phantom units for the three
months ended March 31, 2008:
|
|
|
|
Weighted
|
|
|
|
|
|
Average
|
|
|
|
|
|
Fair Value
|
|
|
|
|
|
At Grant
|
|
|
|
Units
|
|
Date ($)
|
|
Unvested January 1, 2008
|
|
42,825
|
|
$
|
50.12
|
|
Granted
|
|
10,000
|
|
$
|
49.36
|
|
Forfeited
|
|
(5,000
|
)
|
$
|
48.80
|
|
Unvested March 31, 2008
|
|
47,825
|
|
$
|
50.10
|
|
During the three
months ended March 31, 2008, Hiland Partners incurred compensation expense
of $279 related to phantom units. Hiland Partners will recognize additional
expense of $1,881 over the next four years, and the additional expense is to be
recognized over a weighted average period of 3.4 years.
Restricted
Units.
Hiland
Partners issued no restricted units during the three months ended March 31,
2008. As of March 31, 2008 and December 31, 2007, Hiland
Partners had 19,375 restricted common units outstanding with a weighted average
fair value at grant date of $46.57 per restricted unit outstanding. Total
compensation expense related to restricted units was $84 and $120 for the three
months ended March 31, 2008 and 2007, respectively. As of March 31,
2008, there was $475 of total unrecognized cost related to unvested restricted
units. This cost is to be recognized over a weighted average period of 2.5
years.
Unit
Options.
There have been
no unit options granted since March 2006. As a result of adopting SFAS No. 123R
on the modified prospective basis beginning on January 1, 2006, during the
three months ended March 31, 2008 and 2007, Hiland Partners expensed $8
and $58, respectively, related to unit options that were awarded in both 2006
and 2005. Hiland Partners basic and diluted earnings per unit were reduced by
$0.01 for the three months ended March 31, 2007 as a result of the $87
additional compensation recognized under SFAS No. 123R.
The following
table summarizes information about Hiland Partners common unit options for the
three months ended March 31, 2008:
|
|
|
|
|
|
Weighted-
|
|
|
|
|
|
|
|
Weighted
|
|
Average
|
|
|
|
|
|
|
|
Average
|
|
Remaining
|
|
Aggregate
|
|
|
|
|
|
Exercise
|
|
Contractual
|
|
Intrinsic
|
|
Options
|
|
Units
|
|
Price ($)
|
|
Term (Years)
|
|
Value ($)
|
|
Outstanding at January 1, 2008
|
|
75,041
|
|
$
|
28.24
|
|
|
|
|
|
Granted
|
|
|
|
|
|
|
|
|
|
Exercised
|
|
(22,039
|
)
|
$
|
27.71
|
|
|
|
$
|
462
|
|
Forfeited or expired
|
|
(500
|
)
|
$
|
43.00
|
|
|
|
|
|
Outstanding at March 31, 2008
|
|
52,502
|
|
$
|
32.43
|
|
7.4
|
|
$
|
686
|
|
Exercisable at March 31, 2008
|
|
35,834
|
|
$
|
23.87
|
|
7.2
|
|
$
|
775
|
|
18
Note 8: Commitments and Contingencies
Hiland Partners has
executed a natural gas fixed price physical forward sales contract on 100,000
MMBtu per month for the remainder of 2008 with a fixed price of $8.43 per
MMBtu. This contract has been designated
as a normal sale under SFAS No. 133 and is therefore not marked to market
as a derivative.
We maintain a defined
contribution retirement plan for our employees under which we make
discretionary contributions to the plan based on a percentage of eligible
employees compensation. Contributions to the plan are 5.0% of eligible
employees compensation and resulted in expenses for the three months ended March 31,
2008 and 2007 of $75 and $63, respectively.
We maintain our health
and workers compensation insurance through third-party providers. Property and
general liability insurance is also maintained through third-party providers
with a $100 deductible on each policy.
The operation of
pipelines, plants and other facilities for gathering, compressing, treating, or
processing natural gas, NGLs and other products is subject to stringent and
complex laws and regulations pertaining to health, safety and the environment.
Our management believes that compliance with federal, state or local
environmental laws and regulations will not have a material adverse effect on
our business, financial position or results of operations.
Although there are no
significant regulatory proceedings in which we are currently involved,
periodically we may be a party to regulatory proceedings. The results of
regulatory proceedings cannot be predicted with certainty; however, our
management believes that we presently do not have material potential liability
in connection with regulatory proceedings that would have a significant
financial impact on our consolidated financial condition, results of operations
or cash flows.
We and Hiland Partners
lease office space from a related entity (Note 10). We lease certain
facilities, vehicles and equipment under operating leases, most of which
contain annual renewal options. For the three months ended March 31, 2008
and 2007, rent expense was $616 and $514, respectively, under these leases.
Note 9: Significant Customers and Suppliers
All of Hiland Partners
revenues are domestic revenues. The following table presents Hiland Partners
top midstream customers as a percent of total revenue for the periods
indicated:
|
|
For the Three Months
Ended March 31,
|
|
|
|
2008
|
|
2007
|
|
Customer 1
|
|
21
|
%
|
29
|
%
|
Customer 2
|
|
19
|
%
|
14
|
%
|
Customer 3
|
|
15
|
%
|
16
|
%
|
Customer 4
|
|
10
|
%
|
6
|
%
|
All of Hiland Partners
purchases are from domestic sources. The following table presents Hiland
Partners top midstream suppliers as a percent of total midstream purchases for
the periods indicated:
|
|
For the Three Months
Ended March 31,
|
|
|
|
2008
|
|
2007
|
|
Supplier 1
(affiliated company)
|
|
38
|
%
|
27
|
%
|
Supplier 2
|
|
19
|
%
|
26
|
%
|
Supplier 3
|
|
15
|
%
|
15
|
%
|
19
Note 10: Related Party Transactions
Hiland Partners purchases
natural gas and NGLs from affiliated companies. Purchases of product from
affiliates totaled $26,167 and $11,734 for the three months ended March 31,
2008 and 2007, respectively. Hiland Partners also sells natural gas and NGLs to
affiliated companies. Sales of product to affiliates totaled $1,021 and $989
for the three months ended March 31, 2008 and 2007, respectively.
Compression revenues from affiliates were $1,205 for each of the three months
ended March 31, 2008 and 2007.
Accounts
receivable-affiliates of $1,098 at March 31, 2008 include $1,005 from one
affiliate for midstream sales. Accounts receivable-affiliates of $1,178 at December 31,
2007, includes $1,090 from one affiliate for midstream sales.
Accounts
payable-affiliates of $10,638 at March 31, 2008 include $10,145 due to one
affiliate for midstream purchases. Accounts payable-affiliates of $7,957 at December 31,
2007 include $7,094 payable to the same affiliate for midstream purchases
We utilize affiliated
companies to provide services to our plants and pipelines and certain
administrative services. The total expenditures to these companies was $152 and
$94 during the three months ended March 31, 2008 and 2007, respectively.
We and Hiland Partners
lease office space under operating leases directly or indirectly from an
affiliate. Rent expense associated with these leases totaled $38 and $32 for
the three months ended March 31, 2008 and 2007, respectively.
Note 11: Reportable Segments
Hiland Partners has
distinct operating segments for which additional financial information must be
reported. Hiland Partners operations are classified into two reportable
segments:
(1)
Midstream, which is the gathering, compressing, dehydrating, treating and
processing of natural gas and fractionating NGLs.
(2)
Compression which is providing air compression and water injection services for
Continental Resources, Inc.s oil and gas secondary recovery operations
that are ongoing in North Dakota.
These business segments
reflect the way Hiland Partners manages its operations. Hiland Partners
operations are conducted in the United States. General and administrative
costs, which consist of executive management, accounting and finance,
operations and engineering, marketing and business development, are allocated
to the individual segments based on revenues.
Midstream assets totaled
$398,710 at March 31, 2008. Assets attributable to compression operations
totaled $26,961. All but $14 of the total capital expenditures of $8,130 for
the three months ended March 31, 2008 was attributable to midstream
operations. All but $15 of the total capital expenditures of $16,538 for the
three months ended March 31, 2007 was attributable to midstream
operations.
20
The tables below present
information for the reportable segments for the three months ended March 31,
2008 and 2007.
|
|
For the Three Months Ended March 31,
|
|
|
|
2008
|
|
2007
|
|
|
|
Midstream
|
|
Compression
|
|
|
|
Midstream
|
|
Compression
|
|
|
|
|
|
Segment
|
|
Segment
|
|
Total
|
|
Segment
|
|
Segment
|
|
Total
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenues
|
|
$
|
90,274
|
|
$
|
1,205
|
|
$
|
91,479
|
|
$
|
59,849
|
|
$
|
1,205
|
|
$
|
61,054
|
|
Operating costs
and expenses:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Midstream purchases
(exclusive of items shown separately below)
|
|
68,618
|
|
|
|
68,618
|
|
43,615
|
|
|
|
43,615
|
|
Operations and
maintenance
|
|
6,541
|
|
228
|
|
6,769
|
|
4,802
|
|
168
|
|
4,970
|
|
Depreciation and
amortization
|
|
8,321
|
|
895
|
|
9,216
|
|
6,135
|
|
893
|
|
7,028
|
|
General and
administrative expenses
|
|
2,654
|
|
30
|
|
2,684
|
|
2,005
|
|
40
|
|
2,045
|
|
Total operating
costs and expenses
|
|
86,134
|
|
1,153
|
|
87,287
|
|
56,557
|
|
1,101
|
|
57,658
|
|
Operating income
(loss)
|
|
$
|
4,140
|
|
$
|
52
|
|
4,192
|
|
$
|
3,292
|
|
$
|
104
|
|
3,396
|
|
Other income
(expense):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Interest and
other income
|
|
|
|
|
|
104
|
|
|
|
|
|
127
|
|
Amortization of
deferred loan costs
|
|
|
|
|
|
(156
|
)
|
|
|
|
|
(110
|
)
|
Interest expense
|
|
|
|
|
|
(3,506
|
)
|
|
|
|
|
(2,091
|
)
|
Minority
interest in loss (income) of Hiland Partners, LP
|
|
|
|
|
|
206
|
|
|
|
|
|
(574
|
)
|
Net income
|
|
|
|
|
|
$
|
840
|
|
|
|
|
|
$
|
748
|
|
Note 12: Net Income per Limited Partners Unit
The computation of basic
net income per limited partners unit is based on the weighted-average number
of common units outstanding during the period. The computation of diluted
earnings per unit further assumes the dilutive effect of restricted units. Net
income per unit applicable to limited partners is computed by dividing net
income applicable to limited partners by the weighted-average number of limited
partnership units outstanding. The following is a reconciliation of the limited
partner units used in the calculations of income per limited partner unitbasic
and income per limited partner unitdiluted assuming dilution for the three
months ended March 31, 2008 and 2007:
|
|
Income
|
|
|
|
|
|
|
|
Available to
|
|
|
|
|
|
|
|
Limited
|
|
Limited
|
|
|
|
|
|
Partners
|
|
Partner Units
|
|
Per Unit
|
|
|
|
(Numerator)
|
|
(Denominator)
|
|
Amount
|
|
|
|
(in thousands)
|
|
|
|
For the Three Months Ended March 31, 2008
|
|
|
|
|
|
|
|
Income per
limited partner unit -basic:
|
|
|
|
|
|
|
|
Income available
to limited partners
|
|
$
|
840
|
|
|
|
$
|
0.04
|
|
Weighted average
limited partner units outstanding
|
|
|
|
21,603
|
|
|
|
Income per
limited partner unit diluted:
|
|
|
|
|
|
|
|
Restricted units
|
|
|
|
6
|
|
|
|
Income available
to limited partners plus assumed conversions
|
|
$
|
840
|
|
21,609
|
|
$
|
0.04
|
|
|
|
|
|
|
|
|
|
For the Three Months Ended March 31, 2007
|
|
|
|
|
|
|
|
Income per
limited partner unit -basic:
|
|
|
|
|
|
|
|
Income available
to limited partners
|
|
$
|
748
|
|
|
|
$
|
0.03
|
|
Weighted average
limited partner units outstanding
|
|
|
|
21,600
|
|
|
|
Income per
limited partner unit diluted:
|
|
|
|
|
|
|
|
Restricted units
|
|
|
|
5
|
|
|
|
Income available
to limited partners plus assumed conversions
|
|
$
|
748
|
|
21,605
|
|
$
|
0.03
|
|
21
Note 13:
Partners
Equity and Cash Distributions
Hiland Holdings
Our unitholders (limited
partners) have only limited voting rights on matters affecting our operations
and activities and, therefore, limited ability to influence our managements
decisions regarding our business. Unitholders did not select our general
partner or elect the board of directors of our general partner and effectively
have no right to select our general partner or elect its board of directors in
the future. Unitholders voting rights are further restricted by our
partnership agreement, which provides that any units held by a person that owns
20% or more of any class of units then outstanding, other than the general
partner, its affiliates, their transferees and persons who acquired such units
with the prior approval of the board of directors of our general partner,
cannot be voted on any matter. In addition, our partnership agreement contains
provisions limiting the ability of our unitholders to call meetings or to
acquire information about our operations, as well as other provisions limiting
a unitholders ability to influence the manner or direction of our management.
Our Partnership Agreement
requires that we distribute all of our cash on hand at the end of each quarter,
less reserves established at our general partners discretion. We refer to this
as available cash. Initially our only cash-generating assets are our
interests in Hiland Partners from which we receive quarterly distributions. The
amount of available cash may be greater than or less than the minimum quarterly
distributions.
All distributions paid by
Hiland Holdings to common unitholders from January 1, 2007 forward,
including amounts paid to affiliate owners, were as follows (in thousands,
except per unit amounts):
Date Cash
|
|
Per Unit Cash
|
|
|
|
Distribution
|
|
Distribution
|
|
Total Cash
|
|
Paid
|
|
Amount
|
|
Distribution
|
|
|
|
|
|
|
|
02/19/07
|
|
$
|
0.2075
|
|
$
|
4,484
|
|
05/18/07
|
|
0.2075
|
|
4,484
|
|
08/17/07
|
|
0.2200
|
|
4,755
|
|
11/19/07
|
|
0.2300
|
|
4,972
|
|
02/19/08
|
|
0.2550
|
|
5,513
|
|
05/19/08 (a)
|
|
0.2800
|
|
6,053
|
|
|
|
$
|
1.4000
|
|
$
|
30,261
|
|
(a)
This
cash distribution was announced on April 25, 2008 and will be paid on May 19,
2008 to all unitholders of record as of May 5, 2008.
Hiland Partners
The unitholders (limited
partners) of Hiland Partners have only limited voting rights on matters
affecting its operations and activities and, therefore, limited ability to
influence its managements decisions regarding its business. Unitholders did
not select Hiland Partners GP, LLC as general partner or elect its board of
directors and effectively have no right to select a general partner or elect
its board of directors in the future. Unitholders voting rights are further
restricted by Hiland Partners partnership agreement, which provides that any
units held by a person that owns 20% or more of any class of units then
outstanding, other than the general partner, its affiliates, their transferees
and persons who acquired such units with the prior approval of Hiland Partners
GP, LLCs board of directors, cannot be voted on any matter. In addition,
Hiland Partners partnership agreement contains provisions limiting the ability
of its unitholders to call meetings or to acquire information about its
operations, as well as other provisions limiting a unitholders ability to
influence the manner or direction of Hiland Partners management.
Hiland Partners
partnership agreement requires that it distribute all of its cash on hand at
the end of each quarter, less reserves established at Hiland Partners GP, LLCs
discretion. We refer to this as available cash. The amount of available
22
cash may be greater than or less than the minimum quarterly
distributions described below. In general, Hiland Partners will pay any cash
distribution made each quarter in the following manner:
·
first, 98%
to the common units, pro rata, and 2% to Hiland Partners GP, LLC, until each
common unit has received a minimum quarterly distribution of $0.45 plus any
arrearages from prior quarters;
·
second, 98%
to the subordinated units, pro rata, and 2% to Hiland Partners GP, LLC, until
each subordinated unit has received a minimum quarterly distribution of $0.45;
and
·
third, 98%
to all units, pro rata, and 2% to Hiland Partners GP, LLC, until each unit has
received a distribution of $0.495.
If cash distributions per
unit exceed $0.495 in any quarter, Hiland Partners GP, LLC as general partner
will receive increasing percentages, up to a maximum of 50% of the cash Hiland
Partners distributes in excess of that amount. We refer to these distributions
as incentive distributions.
The distributions on the
subordinated units may be reduced or eliminated if necessary to ensure the
common units receive their minimum quarterly distribution. Subordinated units
will not accrue arrearages. The subordination period will end with respect to
certain portions of the subordinated units once Hiland Partners meets certain
financial tests, but will not end with respect to all subordinated units before
March 31, 2010. These financial tests require Hiland Partners to have earned
and paid the minimum quarterly distribution on all of its outstanding units for
three consecutive four-quarter periods. When the subordination period ends, all
remaining subordinated units will convert into common units on a one-for-one
basis and the common units will no longer be entitled to arrearages. Hiland
Partners expects that certain financial tests will have been met when Hiland
Partners makes its distribution for the quarter ended March 31, 2008 on May 14,
2008, such that 25% of the subordinated units will be converted to common units
on the second day following distribution. As of March 31, 2008 we own
4,080,000 subordinated units, which is all of Hiland Partners subordinated
units.
Presented below are cash
distributions to Hiland Partners common and subordinated unitholders, including
amounts to affiliate owners and regular and incentive distributions to Hiland
Partners GP, LLC paid by Hiland Partners from January 1, 2007 forward (in
thousands, except per unit amounts):
Date Cash
|
|
Per Unit Cash
|
|
|
|
|
|
|
|
|
|
|
|
Distribution
|
|
Distribution
|
|
Common
|
|
Subordinated
|
|
General Partner
|
|
Total Cash
|
|
Paid
|
|
Amount
|
|
Units
|
|
Units
|
|
Regular
|
|
Incentive
|
|
Distributions
|
|
02/14/07
|
|
$
|
0.7125
|
|
$
|
3,694
|
|
$
|
2,907
|
|
$
|
150
|
|
$
|
749
|
|
$
|
7,500
|
|
05/15/07
|
|
0.7125
|
|
3,724
|
|
2,907
|
|
151
|
|
752
|
|
7,534
|
|
08/14/07
|
|
0.7325
|
|
3,837
|
|
2,989
|
|
158
|
|
932
|
|
7,916
|
|
11/14/07
|
|
0.7550
|
|
3,959
|
|
3,080
|
|
167
|
|
1,134
|
|
8,340
|
|
02/14/08
|
|
0.7950
|
|
4,169
|
|
3,243
|
|
182
|
|
1,492
|
|
9,086
|
|
05/14/08 (a)
|
|
0.8275
|
|
4,364
|
|
3,376
|
|
194
|
|
1,789
|
|
9,723
|
|
|
|
$
|
4.5350
|
|
$
|
23,747
|
|
$
|
18,502
|
|
$
|
1,002
|
|
$
|
6,848
|
|
$
|
50,099
|
|
(a)
This
cash distribution was announced on April 25, 2008 and will be paid on May 14,
2008 to all unitholders of record as of May 5, 2008.
Presented below are cash
distributions by Hiland Partners to us and Hiland Partners GP, LLC from January 1,
2007 forward (in thousands, except per unit amounts):
Date Cash
|
|
Per Unit Cash
|
|
|
|
|
|
|
|
|
|
|
|
Distribution
|
|
Distribution
|
|
Common
|
|
Subordinated
|
|
General Partner
|
|
Total Cash
|
|
Paid
|
|
Amount
|
|
Units
|
|
Units
|
|
Regular
|
|
Incentive
|
|
Distributions
|
|
02/14/07
|
|
$
|
0.7125
|
|
$
|
927
|
|
$
|
2,907
|
|
$
|
150
|
|
$
|
749
|
|
$
|
4,733
|
|
05/15/07
|
|
0.7125
|
|
927
|
|
2,907
|
|
151
|
|
752
|
|
4,737
|
|
08/14/07
|
|
0.7325
|
|
953
|
|
2,989
|
|
158
|
|
932
|
|
5,032
|
|
11/14/07
|
|
0.7550
|
|
983
|
|
3,080
|
|
167
|
|
1,134
|
|
5,364
|
|
02/14/08
|
|
0.7950
|
|
1,035
|
|
3,243
|
|
182
|
|
1,492
|
|
5,952
|
|
05/14/08 (a)
|
|
0.8275
|
|
1,077
|
|
3,376
|
|
194
|
|
1,789
|
|
6,436
|
|
|
|
$
|
4.5350
|
|
$
|
5,902
|
|
$
|
18,502
|
|
$
|
1,002
|
|
$
|
6,848
|
|
$
|
32,254
|
|
(a)
This
cash distribution was announced on April 25, 2008 and will be paid on May 14,
2008 to all unitholders of record as of May 5, 2008.
23
Cautionary
Statement About Forward-Looking Statements
This quarterly report on Form 10-Q
includes certain forward-looking statements within the meaning of Section 27A
of the Securities Act of 1933 and Section 21E of the Securities Exchange
Act of 1934. These statements include statements regarding our plans, goals,
beliefs or current expectations. Statements using words such as anticipate, believe,
intend, project, plan, continue, estimate, forecast, may, will
or similar expressions help identify forward-looking statements. Although we
believe such forward-looking statements are based on reasonable assumptions and
current expectations and projections about future events, no assurance can be
given that every objective will be reached.
Actual results may differ
materially from any results projected, forecasted, estimated or expressed in
forward-looking statements since many of the factors that determine these
results are subject to uncertainties and risks, difficult to predict, and
beyond managements control. Such factors include:
·
our ability to pay distributions to
our unitholders;
·
our expected receipt of distributions
from Hiland Partners;
·
the general
economic conditions in the United States of America as well as the general
economic conditions and currencies in foreign countries;
·
the
continued ability of Hiland Partners to find and contract for new sources of
natural gas supply;
·
the amount
of natural gas transported on Hiland Partners gathering systems;
·
the level of
throughput in Hiland Partners natural gas processing and treating facilities;
·
the fees
Hiland Partners charges and the margins realized for its services;
·
the prices
and market demand for, and the relationship between, natural gas and natural
gas liquids, or (NGLs);
·
energy
prices generally;
·
the level of
domestic oil and natural gas production;
·
the
availability of imported oil and natural gas;
·
actions
taken by foreign oil and gas producing nations;
·
the
political and economic stability of petroleum producing nations;
·
the weather
in Hiland Partners operating areas;
·
the extent
of governmental regulation and taxation;
·
hazards or
operating risks incidental to the transporting, treating and processing of
natural gas and NGLs that may not be fully covered by insurance;
·
competition
from other midstream companies;
·
loss of key
personnel;
·
the
availability and cost of capital and Hiland Partners ability to access certain
capital sources;
·
changes in
laws and regulations to which we and Hiland Partners are subject, including tax,
environmental, transportation and employment regulations;
24
·
the costs
and effects of legal and administrative proceedings;
·
the ability
to successfully identify and consummate strategic acquisitions at purchase
prices that are accretive to the Hiland Partners financial results; and
·
risks
associated with the construction of new pipelines and treating and processing
facilities or additions to Hiland Partners existing pipelines and facilities.
These factors are not
necessarily all of the important factors that could cause our actual results to
differ materially from those expressed in any of our forward-looking
statements. Our future results will depend upon various other risks and
uncertainties, including but not limited to those described above. Other
unknown or unpredictable factors also could have material adverse effects on
our future results. You should not put undue reliance on any forward-looking
statements.
All forward-looking
statements attributable to us are qualified in their entirety by this
cautionary statement. We undertake no duty to update our forward-looking
statements to reflect the impact of events or circumstances after the date of
the forward-looking statements.
Item
2. Managements Discussion and Analysis of Financial Condition and Results of
Operations
Unless the context
requires otherwise, references to we, our, us, Hiland Holdings or the
Partnership are intended to mean the consolidated business and operations of
Hiland Holdings GP, LP. References to Hiland Partners are intended to mean
the consolidated business and operations of Hiland Partners, LP and its
subsidiaries.
Overview
of Hiland Holdings
We are a Delaware limited
partnership formed in May 2006 to own Hiland Partners GP, LLC, the
general partner of Hiland Partners, and certain other common and subordinated
units in Hiland Partners We reflect our ownership interest in Hiland Partners
on a consolidated basis, which means that our financial results are combined
with Hiland Partners financial results. The non-controlling limited partner
interest in Hiland Partners is reflected as an expense in our results of
operations and as a liability on our consolidated balance sheet. Hiland
Partners GP, LLCs results of operations principally reflect the results of
operations of Hiland Partners and are adjusted for non-controlling partners
interests in Hiland Partners net income.
Our cash generating
assets consist of our direct or indirect ownership interests in Hiland
Partners. Hiland Partners is principally engaged in gathering, compressing,
dehydrating, treating, processing and marketing natural gas, fractionating
natural gas liquids and providing air compression and water injection services
for oil and gas secondary recovery operations. Our aggregate ownership
interests in Hiland Partners consist of the following:
·
the 2% general partner interest in
Hiland Partners;
·
100% of the incentive distribution
rights in Hiland Partners; and
·
1,301,471 common units and 4,080,000
subordinated units of Hiland Partners, representing a 57.6% limited partner
interest in Hiland Partners.
Hiland Partners is
required by its partnership agreement to distribute all of its cash on hand at
the end of each quarter, after establishing reserves to provide for the proper
conduct of its business or to provide funds for future distributions. Hiland
Partners announced its quarterly distribution to $0.8275 per unit for the
quarter ended March 31, 2008. This distribution will be paid on May 14,
2008 to unitholders of record on May 5, 2008.
Our primary objective is
to increase our cash distributions to our unitholders by actively assisting
Hiland Partners in executing its business strategy. We intend to support Hiland
Partners in implementing its business strategy by assisting in identifying,
evaluating and pursuing growth opportunities. In the future, it is possible
that we may also support the growth of Hiland Partners through the use of our
capital resources, which could involve loans or capital contributions to Hiland
Partners to provide funding for the acquisition of a business or an asset or
for an internal growth project. In addition, we may provide Hiland Partners
with other forms of credit support, such as guarantees relating to financing a
project or other types of support related to a merger or acquisition
transaction.
25
Cash Distributions.
The
following table sets forth the distributions that we have received from Hiland
Partners during the periods indicated.
|
|
Three Months Ended March 31,
|
|
|
|
2008
|
|
2007
|
|
Distributions on
Hiland Partners common units
|
|
$
|
1,035
|
|
$
|
927
|
|
Distributions on
Hiland Partners subordinated units
|
|
3,243
|
|
2,907
|
|
Distributions
from ownership interest in Hiland Partners general partner
|
|
182
|
|
150
|
|
Distributions
from Hiland Partners incentive distribution rights
|
|
1,492
|
|
749
|
|
Total
|
|
$
|
5,952
|
|
$
|
4,733
|
|
Because
we own Hiland Partners GP, LLC the distributions to us include the
distributions made to Hiland Partners GP, LLC.
Overview of Hiland Partners
Hiland Partners is
engaged in gathering, compressing, dehydrating, treating, processing and
marketing natural gas, fractionating NGLs and providing air compression and
water injection services for oil and gas secondary recovery operations. Hiland
Partners operations are primarily located in the Mid-Continent and Rocky
Mountain regions of the United States.
Hiland Partners manages
its business and analyzes and reports its results of operations on a segment
basis. Hiland Partners operations are divided into two business segments:
·
Midstream
Segment,
which is engaged in gathering and processing of natural gas
primarily in the Mid-Continent and Rocky Mountain regions. Within this segment,
Hiland Partners also provides certain related services for compression,
dehydrating, and treating of natural gas and the fractionation of NGLs. The
midstream segment generated 94.7% of total segment margin for the three months
ended March 31, 2008 and 93.1% of total segment margin for the three
months ended March 31, 2007.
·
Compression
Segment,
which is engaged in providing air compression and water
injection services for oil and gas secondary recovery operations that are
ongoing in North Dakota. The compression segment generated 5.3% of total
segment margin for the three months ended March 31, 2008 and 6.9% of total
segment margin for the three months ended March 31, 2007.
Hiland Partners
midstream assets currently consist of 14 natural gas gathering systems with
approximately 2,030 miles of gas gathering pipelines, five natural gas
processing plants, seven natural gas treating facilities and three NGL
fractionation facilities. Hiland
Partners compression assets consist of two air compression facilities and a
water injection plant.
Hiland Partners results
of operations are determined primarily by five interrelated variables: (1) the
volume of natural gas gathered through its pipelines; (2) the volume of
natural gas processed; (3) the volume of NGLs fractionated; (4) the
levels and relationship of natural gas and NGL prices; and (5) Hiland
Partners current contract portfolio. Because Hiland Partners profitability is
a function of the difference between the revenues it receives from its
operations, including revenues from the products it sells, and the costs
associated with conducting its operations, including the costs of products it
purchases, increases or decreases in Hiland Partners revenues alone are not
necessarily indicative of increases or decreases in its profitability. To a
large extent, Hiland Partners contract portfolio and the pricing environment
for natural gas and NGLs will dictate increases or decreases in its
profitability. Hiland Partners profitability is also dependent upon prices and
market demand for natural gas and NGLs, which fluctuate with changes in market
and economic conditions and other factors.
Recent Events
Distribution
Increase.
On April 25,
2008, we declared a cash distribution for the first quarter of 2008. This
declared quarterly distribution on our
common units increased to $0.28 per unit (an annualized rate of $1.12 per unit)
from our most recent distribution of $0.255 per unit (an annualized rate of
$1.02 per unit). This represents a 9.8% increase over the prior quarter and a
34.9% increase over the distribution for the same quarter of the prior year.
The distribution will be paid on May 19, 2008 to unitholders of record on May 4,
2008.
26
Officer Selection.
On April 16, 2008, we appointed Mr. Matthew
S. Harrison to the positions of Chief Financial Officer, Vice President -
Finance, Secretary and director of our general partner. Mr. Harrison had
been serving as Interim CFO since April 4, 2008 subsequent to the
resignation of our former CFO, Ken Maples, on March 19, 2008. Mr. Harrison first joined Hiland
Partners executive management team on February 4, 2008 when he was
appointed to the position of Vice President of Business Development of Hiland
Partners general partner.
Badlands Gathering System.
The
nitrogen rejection plant at Hiland Partners Badlands gathering system in North
Dakota was inoperable for 29 days from February 5, 2008 to March 5,
2008. The plant was taken out of service when it was discovered that a primary
piece of equipment had failed.
Hiland Partners Credit Facility Amendment.
On February 6,
2008, Hiland Partners completed a fourth
amendment to its existing credit agreement to increase its borrowing base by
$50 million from $250 million to $300 million. For a more complete discussion
of Hiland Partners credit facility, please see Managements Discussion and
Analysis of Financial Condition and Results of OperationsLiquidity and Capital
ResourcesCredit Facility.
Historical Results of Operations
Our historical results of
operations for the periods presented may not be comparable, either from period
to period or going forward due to (i) increased volumes and associated
operationg expenses and Hiland Partners Badlands gathering system as a result
of the construction of Hiland Partners nitrogen rejection plant, which became
operational in August 2007 and (ii) volumes and operating expenses at
Hiland Partners Woodford Shale gathering system, which commenced production in
April 2007.
Our Results of Operations
The results of our
operations discussed below principally reflect the activities of Hiland
Partners. Because our consolidated financial statements include the results of
Hiland Partners, our financial statements are substantially similar to the
financial statements of Hiland Partners. However, our consolidated balance
sheet includes a minority interest amount that reflects the proportion of
Hiland Partners owned by its unitholders other than us. Similarly, the
ownership interests in Hiland Partners held by its unitholders other than us
are reflected in our consolidated income statement as minority interest. The
minority interest amounts are not reflected on Hiland Partners financial
statements.
Set forth in the tables
below are certain financial and operating data for the periods indicated.
|
|
Three Months Ended March 31,
|
|
|
|
2008
|
|
2007
|
|
|
|
(in thousands)
|
|
Total
Segment Margin Data:
|
|
|
|
|
|
Midstream
revenues
|
|
$
|
90,274
|
|
$
|
59,849
|
|
Midstream
purchases
|
|
68,618
|
|
43,615
|
|
Midstream
segment margin
|
|
21,656
|
|
16,234
|
|
Compression
revenues (1)
|
|
1,205
|
|
1,205
|
|
Total segment
margin (2)
|
|
$
|
22,861
|
|
$
|
17,439
|
|
|
|
|
|
|
|
Summary
of Operations Data:
|
|
|
|
|
|
Midstream
revenues
|
|
$
|
90,274
|
|
$
|
59,849
|
|
Compression
revenues
|
|
1,205
|
|
1,205
|
|
Total revenues
|
|
91,479
|
|
61,054
|
|
|
|
|
|
|
|
Midstream
purchases (exclusive of items shown separately below)
|
|
68,618
|
|
43,615
|
|
Operations and
maintenance
|
|
6,769
|
|
4,970
|
|
Depreciation,
amortization and accretion
|
|
9,216
|
|
7,028
|
|
General and
administrative
|
|
2,684
|
|
2,045
|
|
Total operating
costs and expenses
|
|
87,287
|
|
57,658
|
|
Operating income
|
|
4,192
|
|
3,396
|
|
Other income
(expense), net
|
|
(3,558)
|
|
(2,074)
|
|
Income before
minority interest in loss (income) of Hiland Partners, LP
|
|
634
|
|
1,322
|
|
Minority
interest in loss (income) of Hiland Partners, LP
|
|
206
|
|
(574)
|
|
Net
income
|
|
$
|
840
|
|
$
|
748
|
|
|
|
|
|
|
|
Hiland
Partners Operating Data:
|
|
|
|
|
|
Inlet natural
gas (MCF/d)
|
|
227,431
|
|
200,088
|
|
Natural gas
sales (MMBTU/d)
|
|
85,773
|
|
74,521
|
|
NGL sales
(Bbls/d)
|
|
5,275
|
|
3,986
|
|
27
(1) Compression
revenues and compression segment margin are the same. There are no compression
purchases associated with the compression segment.
(2) Reconciliation
of total segment margin to operating income:
|
|
Three Months Ended March 31,
|
|
|
|
2008
|
|
2007
|
|
|
|
(in thousands)
|
|
Reconciliation
of Total Segment Margin to Operating Income
|
|
|
|
|
|
Operating income
|
|
$
|
4,192
|
|
$
|
3,396
|
|
Add:
|
|
|
|
|
|
Operations and
maintenance expenses
|
|
6,769
|
|
4,970
|
|
Depreciation,
amortization and accretion
|
|
9,216
|
|
7,028
|
|
General and
administrative expenses
|
|
2,684
|
|
2,045
|
|
Total segment
margin
|
|
$
|
22,861
|
|
$
|
17,439
|
|
We view total segment
margin, a non-GAAP financial measure, as an important performance measure of
the core profitability of our operations. We review total segment margin
monthly for a consistency and trend analysis. We define midstream segment
margin as midstream revenue less midstream purchases. Midstream purchases
include the following costs and expenses: cost of natural gas and NGLs
purchased by us from third parties, cost of natural gas and NGLs purchased by
us from affiliates, and the cost of crude oil purchased by us from third
parties. We define compression segment margin as the revenue derived from our
compression segment.
Three Months Ended March 31,
2008 Compared with Three Months Ended March 31, 2007
Revenues.
Total revenues
(midstream and compression) were $91.5 million for the three months ended March 31,
2008 compared to $61.1 million for the three months ended March 31, 2007,
an increase of $30.4 million, or 49.8%. This $30.4 million increase was
due to (i) increased natural gas sales volumes of 11,252 MMBtu/day (MMBtu
per day) primarily related to our Woodford Shale gathering system which
commenced production in April 2007, (ii) increased NGL sales volumes
of 1,286 Bbls/day (Bbls per day) largely attributable to our Badlands and
Woodford Shale gathering systems and (iii) significantly higher average
realized natural gas and NGL sales prices for the three months ended March 31,
2008 as compared to the same period in 2007, resulting in increased revenue at
our Bakken, Eagle Chief and Matli gathering systems. Revenues from
compression assets were the same for both periods.
Midstream revenues were
$90.3 million for the three months ended March 31, 2008 compared to $59.8
million for the three months ended March 31, 2007, a net increase of $30.4
million, or 50.8%. Of this net increase in midstream revenues, approximately
$11.5 million was attributable to revenues from natural gas and NGL sales volumes
at the Woodford Shale gathering system and increased natural gas and NGL sales
volumes at the Bakken and Badlands gathering systems, and $18.9 million was
attributable to significantly higher average realized natural gas and NGL sales
prices for the three months ended
28
March 31, 2008 as compared to the same period in 2007, resulting
in increased revenues for nearly all of our gathering systems.
Inlet natural gas was
227,431 Mcf/d (Mcf per day) for the three months ended March 31, 2008
compared to 200,088 Mcf/d for the three months ended March 31, 2007, a net
increase of 27,343 Mcf/d, or 13.7%. This
increase is primarily attributable to volume growth at the Woodford Shale and
Badlands gathering systems.
Natural gas sales volumes
were 85,773 MMBtu/d for the three months ended March 31, 2008 compared to
74,521 MMBtu/d for the three months ended March 31, 2007, an increase of
11,252 MMBtu/d, or 15.1%. The 11,252 MMBtu/d increase was almost entirely
attributable to the natural gas sales volumes at the Woodford Shale gathering
system. NGL sales volumes were 5,272 Bbls/d for the three months ended March 31,
2008 compared to 3,986 Bbls/d for the three months ended March 31, 2007,
an increase of 1,286 Bbls/d, or 32.3%. This increase is primarily
attributable to volume growth at the Woodford Shale and Badlands gathering
systems.
Average realized natural
gas sales prices were $7.33 per MMBtu for the three months ended March 31,
2008 compared to $6.19 per MMBtu for the three months ended March 31,
2007, an increase of $1.14 per MMBtu, or 18.4%. In addition, average
realized NGL sales prices were $1.40 per gallon for the three months ended March 31,
2008 compared to $0.94 per gallon for the three months ended March 31,
2007, an increase of $0.46 per gallon or 48.9%. The increase in average
realized natural gas and NGL sales prices was primarily a result of higher
index prices for natural gas and posted prices for NGLs during the three months
ended March 31, 2008 compared to the three months ended March 31,
2007.
Cash received from Hiland
Partners counterparty on cash flow swap contracts for natural gas derivative
transactions that closed during the three months ended March 31, 2008
totaled $0.2 million. This gain increased average realized natural gas
sales prices to $7.33 per MMBtu from $7.31 per MMBtu, an increase of $0.02 per
MMBtu. Cash paid to Hiland Partners
counterparty on cash flow swap contracts for NGL derivative transactions that
closed during the three months ended March 31, 2008 totaled $2.2
million. This loss decreased average realized NGL sales prices to
$1.40 per gallon from $1.51 per gallon, a decrease of $0.11 per gallon. Cash received from Hiland Partners
counterparty on cash flow swap contracts for natural gas derivative
transactions that closed during the three months ended March 31, 2007
totaled $0.6 million. This gain
increased average realized natural gas sales prices to $6.19 per MMBtu from
$6.10 per MMBtu, an increase of $0.09 per MMBtu, or 1.5%. Cash paid to Hiland Partners counterparty on
cash flow swap contracts for NGL derivative transactions that closed during the
three months ended March 31, 2007 were insignificant.
Compression revenues were
$1.2 million for the each of the three months ended March 31, 2008 and
2007.
Midstream Purchases.
Midstream
purchases were $68.6 million for the three months ended March 31, 2008
compared to $43.6 million for the three months ended March 31, 2007, an
increase of $25.0 million, or 57.3%. The $25.0 million increase primarily
consists of $11.7 million attributable to purchased gas from the Woodford Shale
gathering system and $11.4 million attributable to increased purchased gas
volumes at the Bakken, Eagle Chief and Matli gathering systems. The remaining
$1.9 million increase in midstream purchases was primarily attributable to
increased payments to producers due to higher natural gas and NGL purchase
prices, which generally are closely related to fluctuations in natural gas and
NGL sales prices.
Midstream Segment Margin .
Midstream segment margin was $21.7 million for the three months ended March 31,
2008 compared to $16.2 million for the three months ended March 31, 2007,
an increase of $5.5 million, or 33.4%.
The increase is primarily due to favorable gross processing spreads,
significantly higher average realized natural gas and NGL prices and the volume
growth at the Woodford Shale and appreciably expanded Badlands gathering
systems which commenced production in April 2007 and August 2007,
respectively. The increase in midstream
segment margin was offset by approximately $2.3 million of forgone margin as a
result of the nitrogen rejection plant being taken out of service due to
equipment failure during the three months ended March 31, 2008.
Operations and Maintenance.
Operations and maintenance expense totaled $6.8 million for the three months
ended March 31, 2008 compared with $5.0 million for the three months ended
March 31, 2007, an increase of $1.8 million, or 36.2%. Of this increase,
$0.9 million, or 51.5%, was attributable to increased operations and
maintenance at the Badlands gathering system and $0.6 million, or 35.4%, was
attributable to operations at the Woodford Shale gathering system.
Depreciation, Amortization and Accretion.
Depreciation, amortization and accretion expense totaled $9.2 million for the
three months ended March 31, 2008 compared with $7.0 million for the three
months ended March 31, 2007, an increase of $2.2 million, or 31.1 %.
Of this increase, $0.8 million was attributable to increased depreciation on
the Badlands gathering
29
system, $0.5 million was attributable to increased depreciation on the
Bakken gathering system and another $0.5 million was attributable to the
Woodford Shale gathering system.
General and Administrative.
General and administrative expense totaled $2.7 million for the three months
ended March 31, 2008 compared with $2.0 million for the three months ended
March 31, 2007, an increase of $0.7 million, or 31.3%. Of this
increase, $0.5 million, or 73.1%, is attributable to the timing of executive
annual cash bonuses and additional staffing, and $0.1 million, or 21.3%, is attributable to increased costs of being a
public company, including the costs of audit and tax preparation fees..
Other Income (Expense).
Other
income (expense) totaled ($3.6) million for the three months ended March 31,
2008 compared with ($2.1) million for the three months ended March 31,
2007, an increase in expense of $1.4 million. The increase is primarily
attributable to additional interest expense from borrowings on Hiland Partners
credit facility to fund the expansion project at the Badlands gathering system
and to construct the Woodford Shale gathering system.
Minority Interest.
Minority interest in (loss) income of Hiland
Partners, which represents the allocation of Hiland Partners loss or earnings
to its limited partner interests not owned by Hiland Holdings, totaled $(0.2)
million for the three months ended March 31, 2008 compared to $0.6 million for
the three months ended March 31, 2007. The $0.2 million loss for the three
months ended March 31, 2008 is the result of the excess of net income allocated
to us related to our 2% general partner interest, including 100% of the incentive distribution
rights, over Hiland Partners net income for the three months ended March 31,
2008.
LIQUIDITY AND CAPITAL RESOURCES
Overview
We rely on distributions
from Hiland Partners to fund cash requirements for our operations. Cash
generated from operations, borrowings under Hiland Partners credit facility
and funds from private or public equity and future debt offerings are Hiland
Partners primary sources of liquidity. We believe that funds from these
sources should be sufficient to meet both Hiland Partners short-term working
capital requirements and its long-term capital expenditure requirements. Hiland
Partners ability to pay distributions to unitholders, to fund planned capital
expenditures and to make acquisitions depends upon Hiland Partners future
operating performance, and more broadly, on the availability of equity and debt
financing, which will be affected by prevailing economic conditions in Hiland
Partners industry and financial, business and other factors, many of which are
beyond Hiland Partners control.
Cash Flows from Operating Activities
Cash flows from operating activities increased
by $1.8 million to $10.7 million for the three months ended March 31, 2008
from $8.9 million for the three months ended March 31, 2007. During
the three months ended March 31, 2008 we received cash flows from
customers of approximately $85.2 million attributable to increased natural gas
and NGLs volumes and significantly higher average realized natural gas and NGL
sales prices, had cash payments to our suppliers and employees of approximately
$71.3 million and payment of interest expense of $3.2 million, net of amounts
capitalized, resulting in cash received from operating activities of $10.7
million. During the same three month period in 2007, we received cash flows
from customers of approximately $60.5 million attributable to increased volumes
of natural gas and NGLs decreased by lower natural gas and NGL sales prices,
had cash payments to our suppliers and employees of approximately $49.5 million
and payment of interest expense of $2.1 million, net of amounts capitalized,
resulting in cash received from our operating activities of $8.9 million.
Changes in cash receipts and payments are primarily due to the timing of
collections at the end of our reporting periods. We collect and pay large
receivables and payables at the end of each calendar month. The timing of these
payments and receipts may vary by a day or two between month-end periods and
cause fluctuations in cash received or paid. Contributions to cash flows from
operating activities from workling capital items exclusive of cash was
insignificant for the three months ended March 31, 2008 compared to $0.1
million for the three months ended March 31, 2007. Net income for the
three months ended March 31, 2008 was $.8 million, an increase of $0.1
million from a net income of $0.7 million for the three months ended March 31,
2007. Depreciation increased by $2.2 million to $9.2 million for the
three months ended March 31, 2008 from $7.0 million for the three months
ended March 31, 2007.
Cash Flows Used for Investing Activities
Cash flows used in
investing activities, which represent investments in property and equipment
decreased by $6.1 million to $10.4 million for the three months ended March 31,
2008 from $16.5 million for the three months ended March 31,
30
2007 predominately due to reduced capital investing in the three months
ended March 31, 2008 related to the Badlands nitrogen rejection plant that
was under construction during the first three months of 2007.
Cash Flows from Financing Activities
Cash flows from financing
activities decreased to $0.5 million for the three months ended March 31,
2008 from $5.7 million for the three months ended March 31, 2007. During
the three months ended March 31, 2008, Hiland Partners borrowed $9.0
million under its credit facility to fund its internal expansion projects and
received $0.6 million from issuing Hiland Partners common units as a result
of the exercise of 22,039 vested unit
options. During the three months ended March 31, 2008, Hiland Partners
also incurred debt issuance costs of $0.3 million associated with the fourth
amendment to its credit facility amended in February 2008 and made $0.1
million payments on capital lease obligations. During the three months ended March 31,
2008, we made a distribution of $5.5 million to our unitholders and Hiland
Partners distributed $3.1 million to its minority interest unitholders.
During the three months ended March 31, 2007, Hiland Partners borrowed
$12.1 million under its credit facility to fund its internal expansion projects
and received $1.0 million from issuing Hiland Partners common units as a result
of the exercise of 39,930 vested unit options. During the three months ended March 31,
2007, we made a distribution of $4.5 million to our unitholders, Hiland
Partners distributed $2.8 million to its minority interest unitholders and
Hiland Partners paid deferred offering costs of $0.1 million associated with
Hiland Partners S-3/A registration statement filed with the SEC on January 23,
2007.
Capital Requirements
The midstream energy
business is capital intensive, requiring significant investment to maintain and
upgrade existing operations. Our capital requirements have consisted primarily
of, and we anticipate will continue to be:
·
maintenance
capital expenditures, which are capital expenditures made to replace partially
or fully depreciated assets to maintain the existing operating capacity of
Hiland Partners assets and to extend their useful lives, or other capital
expenditures that are incurred in maintaining existing system volumes and
related cash flows; and
·
expansion
capital expenditures such as those to acquire additional assets to grow Hiland
Partners business, to expand and upgrade gathering systems, processing plants,
treating facilities and fractionation facilities and to construct or acquire
similar systems or facilities.
We believe that cash
generated from the operations of Hiland Partners business will be sufficient
to meet anticipated maintenance capital expenditures for the next twelve
months. Given Hiland Partners objective of growth through acquisitions and
expansions, Hiland Partners anticipates that it will continue to invest
significant amounts of capital to grow and acquire assets. Hiland Partners
actively considers a variety of assets for potential acquisitions. We
anticipate that expansion capital expenditures will be funded through long-term
borrowings or other debt financings and/or equity offerings. See Credit
Facility below for information related to our credit agreements.
Woodford Shale
Hiland Partners is continuing to develop the Woodford
Shale gathering system located in the Woodford Shale reservoir area in the
Arkoma Basin of southeastern Oklahoma,
just to the west of our Kinta Area gathering systems. The gathering system is
being designed to provide low-pressure and highly reliable gathering,
compression and dehydration services. During the third quarter of 2008, the
gathering infrastructure is expected to include up to 17,400 horsepower of
compression to provide takeaway capacity in excess of 65,000 Mcf/d. As of March 31, 2008, Hiland Partners
has invested $25.7 million in this internal expansion project.
Financial
Derivatives and Commodity Hedges.
Hiland Partners has
entered into certain derivative contracts that are classified as cash flow
hedges in accordance with SFAS No. 133, as amended, and relate to
forecasted sales in 2008 and 2009. Hiland Partners entered into these financial
swap instruments to hedge the forecasted natural gas and NGL sales or purchases
against the variability in expected future cash flows attributable to changes
in commodity prices. The swap instruments are contractual agreements between
counterparties to exchange obligations of money as the underlying natural gas
or natural gas liquids are sold or purchased. Under these swap agreements,
Hiland Partners receives a fixed price and pays a floating price or pays a
fixed price and receives a floating price based on certain indices for the
relevant contract period as the underlying natural gas or NGL is sold or
purchased.
31
The following table
provides information about these financial derivative instruments for the
periods indicated:
|
|
|
|
Average
|
|
Fair Value
|
|
|
|
|
|
Fixed/Open
|
|
Asset
|
|
Description and Production Period
|
|
Volume
|
|
Price
|
|
(Liability)
|
|
|
|
(MMBtu)
|
|
(per MMBtu)
|
|
|
|
Natural Gas -
Sold Fixed for Floating Price Swaps
|
|
|
|
|
|
|
|
April 2008
- March 2009
|
|
2,019,000
|
|
$
|
7.70
|
|
$
|
(2,026
|
)
|
April 2009
- December 2009
|
|
1,602,000
|
|
$
|
7.30
|
|
594
|
|
|
|
|
|
|
|
$
|
(1,432
|
)
|
|
|
(MMBtu)
|
|
(per MMBtu)
|
|
|
|
Natural Gas -
Buy Fixed for Floating Price Swaps
|
|
|
|
|
|
|
|
April 2008
- December 2008
|
|
540,864
|
|
$
|
6.93
|
|
$
|
1,050
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(Bbls)
|
|
(per Gallon)
|
|
|
|
Natural Gas Liquids - Sold Fixed for Floating Price Swaps
|
|
|
|
|
|
|
|
April 2008
- December 2008
|
|
331,326
|
|
$
|
1.31
|
|
$
|
(5,722)
|
|
|
|
|
|
|
|
|
|
|
|
In addition to the
contractual obligations noted in the table above, Hiland Partners has executed
one natural gas fixed price physical forward sales contract on 100,000 MMBtu
per month with a fixed price of $8.43 per MMBtu for the remainder of
2008. This contract has been designated as normal sales under SFAS No. 133
and is therefore not marked to market as a derivative.
Off-Balance
Sheet Arrangements.
We had no significant
off-balance sheet arrangements as of March 31, 2008.
Credit Facility
Hiland Holdings
On September 25,
2006, concurrently with the closing of our initial public offering, the
Partnership entered into a three-year $25.0 million secured revolving
credit facility. The facility will permit us, if certain conditions are met, to
increase borrowing capacity by up to an additional $25.0 million. The facility
will be secured by all of our ownership interests in Hiland Partners and its
general partner, other than the 2% general partner interest and the incentive
distribution rights.
The facility will mature
on September 25, 2009, at which time all outstanding amounts thereunder
become due and payable.
Loans under the facility
will bear interest, at our option, at either (i) an alternate base rate
plus an applicable margin ranging from 100 to 150 basis points per annum or (ii) LIBOR
plus an applicable margin ranging from 200 to 250 basis points per annum in
each case based on our ratio of consolidated funded debt to EBITDA. The
alternate base rate is equal to the greatest of (a) the prime rate in
effect on such day, (b) the base CD rate in effect on such day plus 1.50%
and (c) the federal funds effective rate in effect on such day plus 1/2 of
1%. A letter of credit fee will be payable for the aggregate amount of letters
of credit issued under the facility at a percentage per annum equal to 2.0%. A
commitment fee ranging from 25 to 50 basis points per annum based on our ratio
of consolidated funded debt to EBITDA will be payable on the average daily
unused portion of the facility for the quarter most recently ended. At March 31,
2008, the interest rate on outstanding borrowings from our credit facility was
5.06%.
The facility contains
several covenants that, among other things, require the maintenance of two
financial performance ratios, restrict the payment of distributions to
unitholders, and require financial reports to be submitted periodically to the
financial institutions.
The credit facility also
contains covenants requiring a maximum consolidated funded debt to EBITDA ratio
of 3.0:1.0 for the four fiscal quarters most recently ended and a minimum interest
coverage ratio of 3.0:1.0.
32
The amount we may borrow
under the facility is limited to the lesser of: (i) 50% of the sum of the
value of the Hiland Partners common and subordinated units and certain other
assets held by us and certain of our subsidiaries at the end of each fiscal
quarter and (ii) the maximum available amount of the facility (currently
$25.0 million). For purposes of this calculation, the value of (i) the
Hiland Partners common units on any date shall be the closing price for such
units as reflected on the Nasdaq National Market on any date, and (ii) the
Hiland Partners subordinated units on any date shall be deemed to equal 85% of
the value of the Hiland Partners common units on such date.
The facility prohibits us
from making distributions to unitholders if any default or event of default, as
defined in the credit facility, has occurred and is continuing or would result
from the distribution. In addition, the facility contains various covenants
that limit, among other things, subject to certain exceptions and negotiated baskets,
our ability to incur indebtedness, grant liens, enter into agreements
restricting our ability to grant liens on our assets or amend the facility,
make certain loans, acquisitions and investments or enter into a merger,
consolidation or sale of assets.
The facility limits
distributions to our unitholders to our available cash, as defined in our
partnership agreement. Restricted payments under the facility are subject to an
annual clean-down period of 15 consecutive days in which the amount
outstanding that relates to funding the restricted payments under the facility
must be reduced to zero.
As of March 31,
2008, we had $0.4 million outstanding under this credit facility and were
in compliance with our financial covenants.
Hiland Partners
On February 6, 2008,
Hiland Partners entered into a fourth amendment to its credit facility dated as
of February 15, 2005. Pursuant to the fourth amendment, Hiland Partners
has, among other things, increased its borrowing base from $250 million to $300
million and decreased the accordion feature in the facility from $100 million
to $50 million. Hiland Partners
original credit facility dated May 2005 was first amended in September 2005,
amended a second time in June 2006 and amended a third time in July 2007.
The fourth amendment
increases Hiland Partners borrowing capacity under its senior secured
revolving credit facility to $300 million such that the facility now consists
of a $291 million senior secured revolving credit facility to be used for
funding acquisitions and other capital expenditures, issuance of letters of
credit and general corporate purposes (the Acquisition Facility) and a $9.0
million senior secured revolving credit facility to be used for working capital
and to fund distributions (the Working Capital Facility).
In addition, the fourth
amendment provides for an accordion feature, which permits Hiland Partners, if
certain conditions are met, to increase the size of the Acquisition Facility by
up to $50 million and allows for the issuance of letters of credit of up to $15
million in the aggregate. The senior secured revolving credit facility
also requires Hiland Partners to meet certain financial tests, including a
maximum consolidated funded debt to EBITDA ratio of 4.0:1.0 as of the last day
of any fiscal quarter; provided that in the event that the Partnership makes
certain permitted acquisitions or capital expenditures, this ratio may be
increased to 4.75:1.0 for the three fiscal quarters following the quarter in
which such acquisition or capital expenditure occurs; and a minimum interest
coverage ratio of 3.0:1.0. The credit facility will mature in May 2011. At
that time, the agreement will terminate and all outstanding amounts thereunder
will be due and payable.
Hiland Partners
obligations under the credit facility are secured by substantially all of
Hiland Partners assets and guaranteed by Hiland Partners, and all of Hiland
Partners subsidiaries, other than Hiland Partners operating company, which is
the borrower under the credit facility.
Indebtedness under the
credit facility will bear interest, at Hiland Partners option, at either (i) an
Alternate Base Rate, as defined therin, plus an applicable margin ranging from
50 to 125 basis points per annum or (ii) LIBOR plus an applicable margin
ranging from 150 to 225 basis points per annum based on Hiland Partners ratio
of consolidated funded debt to EBITDA. The Alternate Base Rate is a rate per
annum equal to the greatest of (a) the Prime Rate in effect on such day, (b) the
base CD rate in effect on such day plus 1.50% and (c) the Federal Funds
effective rate in effect on such day plus
1
/
2 of 1%. A letter of credit fee will be
payable for the aggregate amount of letters of credit issued under the credit
facility at a percentage per annum equal to 1.0%. An unused commitment fee
ranging from 25 to 50 basis points per annum based on Hiland Partners ratio of
consolidated funded debt to EBITDA will be payable on the unused portion of the
credit facility. During any step-up period, the applicable margin with respect
to loans under the credit facility will be increased by 35 basis
33
points per annum and the unused commitment fee will be increased by
12.5 basis points per annum. At March 31, 2008, the interest rate on
outstanding borrowings from Hiland Partners credit facility was 5.32%
The credit facility
prohibits Hiland Partners from making distributions to unitholders if any
default or event of default, as defined in the credit facility, has occurred
and is continuing or would result from the distribution. In addition, the
credit facility contains various covenants that limit, among other things, subject
to certain exceptions and negotiated baskets, Hiland Partners ability to
incur indebtedness, grant liens, make certain loans, acquisitions and
investments, make any material changes to the nature of its business, amend its
material agreements, including the Omnibus Agreement or enter into a merger,
consolidation or sale of assets.
The credit facility
defines EBITDA as Hiland Partners consolidated net income, plus income tax
expense, interest expense, depreciation, amortization and accretion expense,
amortization of intangibles and organizational costs, non-cash unit based
compensation expense, and adjustments for non-cash gains and losses on
specified derivative transactions and for other extraordinary items.
Upon the occurrence of an
event of default as defined in the credit facility, the lenders may, among
other things, be able to accelerate the maturity of the credit facility and
exercise other rights and remedies as set forth in the credit facility.
The credit facility
limits distributions to Hiland Partners unitholders to available cash, as
defined by the agreement, and borrowings to fund such distributions are only
permitted under the revolving working capital facility. The revolving working
capital facility is subject to an annual clean-down period of 15 consecutive
days in which the amount outstanding under the revolving working capital
facility is reduced to zero.
As of March 31,
2008, Hiland Partners had $230.1 million outstanding under its credit
facility and was in compliance with its financial covenants.
Impact
of Inflation
Inflation
in the United States has been relatively low in recent years and did not have a
material impact on our results of operations for the periods presented.
Recent Accounting Pronouncements
On March 19, 2008,
the Financial Accounting Standards Board (FASB) issued SFAS No. 161,
Disclosures about Derivative Instruments and Hedging Activities, an Amendment
of FASB Statement No. 133 (SFAS 161). SFAS 161 is intended to improve
transparency in financial reporting by requiring enhanced disclosures of an
entitys derivative instruments and hedging activities and their effects on the
entitys financial position, financial performance, and cash flows. SFAS 161 is
effective prospectively for financial statements issued for fiscal years and
interim periods beginning after November 15, 2008, with early application
encouraged. SFAS 161 encourages, but does not require, comparative disclosures
for periods prior to its initial adoption. SFAS 161 amends the current qualitative
and quantitative disclosure requirements for derivative instruments and hedging
activities set forth in SFAS 133 and generally increases the level of
aggregation/disaggregation that will be required in an entitys financial
statements. We are currently reviewing this Standard to determine the effect it
will have on our financial statements and disclosures therein.
On March 12, 2008,
the Emerging Issues Task Force (EITF) reached consensus opinion on EITF Issue
No. 07-4, Application of the two-class method under FASB Statement No. 128,
Earnings per Share, to Master Limited Partnerships (EITF No. 07-4),
which the FASB ratified at its March 26, 2008 meeting. EITF No. 07-4
requires the calculation of a Master Limited Partnerships (MLPs) net earnings
per limited partner unit for each period presented according to distributions
declared and participation rights in undistributed earnings as if all of the
earnings for that period had been distributed. In periods with undistributed
earnings above specified levels, the calculation per the two-class method
results in an increased allocation of such undistributed earnings to the
general partner and a dilution of earnings to the limited partners. EITF No. 07-4
is effective for fiscal years beginning after December 15, 2008, and is to
be applied retrospectively to all periods presented. Early application is not
permitted. We will apply the requirements of EITF No. 07-4 as it pertains
to MLPs upon its adoption during the quarter ended March 31, 2009.
In December 2007,
the FASB issued SFAS No. 141(R), Business Combinations. This statement
amends and replaces SFAS No. 141, but retains the fundamental requirements
in SFAS No. 141 that the purchase method of accounting be used for all
business combinations and an acquirer be identified for each business
combination. The statement provides for how
34
the acquirer recognizes and measures the identifiable assets acquired,
liabilities assumed and any non-controlling interest in the acquiree.
SFAS No.141(R) provides for how the acquirer recognizes and measures
the goodwill acquired in the business combination or a gain from a bargain
purchase. The statement also determines what information to disclose to enable
users to be able to evaluate the nature and financial effects of the business
combination. The provisions of SFAS No.141(R) apply prospectively to
business combinations for which the acquisition date is on or after the
beginning of the first annual reporting period beginning on or after December 15,
2008 and do not allow early adoption. We are evaluating the new requirements of
SFAS No. 141(R) and the impact it will have on business combinations
completed in 2009 or thereafter.
In December 2007,
the FASB issued SFAS No. 160, Noncontrolling Interests in Consolidated
Financial Statements an amendment of ARB No. 51. SFAS No. 160
establishes accounting and reporting standards that require the ownership
interests in subsidiaries held by parties other than the parent (minority
interest) be clearly identified, labeled, and presented in the consolidated
balance sheet within equity, but separate from the parents equity. SFAS No. 160
requires the equity amount of consolidated net income attributable to the
parent and to the noncontrolling interest be clearly identified and presented
on the face of the consolidated income statement and that changes in a parents
ownership interest while the parent retains its controlling financial interest
in its subsidiary be accounted for consistently and similarly as equity
transactions. Consolidated net income and comprehensive income will be
determined without deducting minority interest; however, earnings-per-share
information will continue to be calculated on the basis of the net income
attributable to the parents shareholders. Additionally, SFAS No. 160
establishes a single method for accounting for changes in a parents ownership
interest in a subsidiary that does not result in deconsolidation and that the
parent recognize a gain or loss in net income when a subsidiary is
deconsolidated. SFAS No. 160 is effective for fiscal years beginning on or
after December 15, 2008. Early adoption is not permitted. We do not expect
this Statement will have a material impact on our financial position, results
of operations or cash flows.
In February 2007,
the FASB issued SFAS No. 159, The Fair Value Option for Financial Assets
and Financial Liabilities. SFAS No. 159 expands opportunities to use fair
value measurement in financial reporting and permits entities to choose to
measure many financial instruments and certain other items at fair value. SFAS No. 159
is effective for fiscal years beginning after November 15, 2007. This
Statement was adopted by us effective January 1, 2008, at which time no
financial assets or liabilities, not previously required to be recorded at fair
value by other authoritative literature, were designated to be recorded at fair
value. As such, the adoption of this Statement did not have any impact on our
financial position, results of operations or cash flows.
In September 2006,
the FASB issued SFAS No. 157 Fair Value Measurements. SFAS No. 157 defines fair value as 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,
establishes a framework for measuring fair value in generally accepted
accounting principles (GAAP) such as fair value hierarchy used to classify the
source of information used in fair value measurements (i.e., market based or
non-market based) and expands disclosure about fair value measurements based on
their level in the hierarchy. SFAS No. 157
applies to derivatives and other financial instruments, which SFAS No. 133,
Accounting for Derivative Instruments
and Hedging Activities, as amended, requires be measured at fair value
at initial recognition and for all subsequent periods. SFAS No. 157
establishes a fair value hierarchy which requires an entity to maximize the use
of observable inputs and minimize the use of unobservable inputs when measuring
fair value. SFAS No. 157s hierarchy defines three levels of inputs that
may be used to measure fair value. Level 1 refers to assets that have
observable market prices, level 2 assets do not have an observable price but
do have inputs that are based on such prices in which components have observable
data points and level 3 refers to assets in which one or more of the inputs do
not have observable prices and calibrated model parameters, valuation
techniques or managements assumptions are used to derive the fair value. SFAS No. 157
is effective for financial statements issued for fiscal years beginning after November 15,
2007 and interim periods within those fiscal years. We elected to implement
SFAS No. 157 prospectively in the first quarter of 2008 with the one-year
deferral permitted by FASB Staff Position (FSP) 157-2 for nonfinancial
assets and nonfinancial liabilities measured at fair value, except those that
are recognized or disclosed on a recurring basis (at least annually). The
deferral applies to nonfinancial assets and liabilities measured at fair value
in a business combination; impaired properties, plants and equipment;
intangible assets and goodwill; and initial recognition of asset retirement
obligations and restructuring costs for which we use fair value. We do not
expect any significant impact to our consolidated financial statements when we
implement SFAS No. 157 for these assets and liabilities.
35
Significant Accounting Policies and Estimates
Revenue
Recognition
.
Revenues for sales and of natural gas and NGLs
product sales are recognized at the time the product is delivered and title is
transferred. Revenues for compression services are recognized when the services
under the agreement are performed.
Depreciation
and Amortization
.
Depreciation of all equipment is
determined under the straight-line method using various rates based on useful
lives, 10 to 22 years for pipeline and processing plants, and 3 to
10 years for corporate and other assets. The cost of assets and related
accumulated depreciation is removed from the accounts when such assets are
disposed of, and any related gains or losses are reflected in current earnings.
Maintenance, repairs and minor replacements are expensed as incurred. Costs of
replacements constituting improvement are capitalized. Intangible assets
consist of the acquired value of existing contracts to sell natural gas and
other NGLs, compression contracts and identifiable customer relationships,
which do not have significant residual value. The contracts are being amortized
over their estimated lives of ten years.
Derivatives.
We utilize derivative financial
instruments to reduce commodity price risks. We do not hold or issue derivative
financial instruments for trading purposes. Statement of Financial Accounting
Standards (or SFAS) No. 133, Accounting for Derivative Instruments and
Hedging Activities, which was amended in June 2000 by SFAS No. 138
and in May 2003 by SFAS No. 149, establishes accounting and reporting
standards for derivative instruments and hedging activities. It requires that
an entity recognize all derivatives as either assets or liabilities in the
statement of financial condition and measure those instruments at fair value.
Derivatives that are not designated as hedges are adjusted to fair value
through income. If the derivative is designated as a hedge, depending upon the
nature of the hedge, changes in the fair value of the derivatives are either
offset against the fair value of assets, liabilities or firm commitments
through income, or recognized in other comprehensive income until the hedged
item is recognized in income. The ineffective portion of a derivatives change
in fair value is immediately recognized into income. If a derivative no longer
qualifies for hedge accounting the amounts in accumulated other comprehensive
income will be immediately charged to operations.
Asset
Retirement Obligations.
SFAS No. 143, Accounting for Asset Retirement
Obligations requires entities to record the fair value of a liability for 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.
Subsequently, the asset retirement cost is allocated to expense using a
systematic and rational method and the liability is accreted to measure the
change in liability due to the passage of time. The primary impact of this
standard relates to our estimated costs for dismantling and site restoration of
certain of our plants and pipelines. Estimating future asset retirement
obligations requires us to make estimates and judgments regarding timing,
existence of a liability, as well as what constitutes adequate restoration. We
use the present value of estimated cash flows related to our asset retirement
obligation to determine the fair value, generally as estimated by third party
consultants. The present value calculation requires us to make numerous
assumptions and judgments, including the ultimate costs of dismantling and site
restoration, inflation factors, credit adjusted discount rates, timing of
settlement and changes in the legal, regulatory, environmental and political
environments. To the extent future revisions to these assumptions impact the
present value of the existing asset retirement obligation liability, a
corresponding adjustment will be required to the related asset. We believe the
estimates and judgments reflected in our financial statements are reasonable
but are necessarily subject to the uncertainties we have just described.
Accordingly, any significant variance in any of the above assumptions or
factors could materially affect our cash flows.
Impairment
of Long-Lived Assets.
In accordance with SFAS No. 144, Accounting for
the Impairment or Disposal of Long-Lived Assets, we evaluate our long-lived
assets, including intangible assets, of identifiable business activities for
impairment when events or changes in circumstances indicate, in managements
judgment, that the carrying value of such assets may not be recoverable. The
determination of whether impairment has occurred is based on managements
estimate of undiscounted future cash flows attributable to the assets as
compared to the carrying value of the assets. If impairment has occurred, the
amount of the impairment recognized is determined by estimating the fair value
for the assets and recording a provision for loss if the carrying value is
greater than fair value. For assets identified to be disposed of in the future,
the carrying value of these assets is compared to the estimated fair value less
the cost to sell to determine if impairment is required. Until the assets are
disposed of, an estimate of the fair value is re-determined when related events
or circumstances change.
When determining whether
impairment of one of our long-lived assets has occurred, we must estimate the
undiscounted cash flows attributable to the asset or asset group. Our estimate
of cash flows is based on assumptions regarding the volume of reserves
providing asset cash flow and future NGL product and natural gas prices. The
amount of reserves and drilling
36
activity are dependent in part on natural gas prices. Projections of reserves
and future commodity prices are inherently subjective and contingent upon a
number of variable factors, including, but not limited to:
·
changes in general economic conditions in
regions in which the Partnerships products are located;
·
the availability and prices of NGL
products and competing commodities;
·
the availability and prices of raw
natural gas supply;
·
our ability to negotiate favorable
marketing agreements;
·
the risks that third party oil and gas
exploration and production activities will not occur or be successful;
·
our dependence on certain significant
customers and producers of natural gas; and
·
competition from other midstream service
providers and processors, including major energy companies.
Any significant variance
in any of the above assumptions or factors could materially affect our cash
flows, which could require us to record an impairment of an asset.
Share
Based Compensation.
In October 1995 the FASB issued SFAS No. 123,
Share-Based Payment, which was revised in December 2004 (SFAS 123R).
SFAS 123R requires that the compensation cost relating to share-based payment
transactions be recognized in the financial statements and that cost be
measured based on the fair value of the equity or liability instruments issued.
We adopted SFAS 123R September 25, 2006 and Hiland Partners adopted SFAS
123R January 1, 2006. We have applied SFAS 123R using the permitted modified
prospective method beginning as of the same date. Hiland Partners had unearned
deferred compensation of $289 as of January 1, 2006 which has been
eliminated against Hiland Partners common unit equity. Prior to January 1,
2006 Hiland Partners recorded any unamortized compensation related to
restricted unit awards as unearned compensation in equity. We expect no change
to cash flow presentation from the adoption of SFAS 123R since no tax benefits
were recognized by Hiland Partners as a pass through entity.
We estimate the fair
value of each option granted on the date of grant using the American Binomial
option-pricing model. In estimating the fair value of each option, we use our
peer group volatility averages as determined on the option grant dates. We
calculate expected lives of the options under the simplified method as
prescribed by the SEC Staff Accounting Bulletin 107 and have used a risk free
interest rate based on the applicable U.S. Treasury yield in effect at the time
of grant. Our compensation expense for these awards is recognized on
the graded vesting attribution method. Units to be issued under our unit
incentive plan may be from newly issued units. Prior to Hiland Partners
adoption of SFAS 123R on January 1, 2006, Hiland Partners applied Accounting
Principles Board Opinion No. 25 and related interpretations in accounting
for the unit-based compensation awards.
Item 3. Quantitative and Qualitative Disclosures
about Market Risk
Market risk is the risk
of loss arising from adverse changes in market rates and prices. The principal
market risk to which we are exposed is commodity price risk for natural gas and
NGLs. We also incur, to a lesser extent, risks related to interest rate
fluctuations. We do not engage in commodity energy trading activities.
Commodity Price Risks.
Our profitability is affected by
volatility in prevailing NGL and natural gas prices. Historically, changes in
the prices of most NGL products have generally correlated with changes in the
price of crude oil. NGL and natural gas prices are volatile and are impacted by
changes in the supply and demand for NGLs and natural gas, as well as market
uncertainty. Our cash flow is affected by the volatility of natural gas and NGL
product prices, which could adversely affect our ability to make distributions
to unitholders. To illustrate the impact of changes in prices for natural gas
and NGLs on our operating results, we have provided the table below, which
reflects, for the three months ended March 31, 2008, the impact on our
midstream segment margin of a $0.01 per gallon change (increase or decrease) in
NGL prices coupled with a $0.10 per MMBtu change (increase or decrease) in the
price of natural gas. The magnitude of the impact on total segment margin of
changes in natural gas and NGL prices presented may not be representative of
the magnitude of the impact on total segment margin for different commodity
prices or contract portfolios. Natural gas prices can also affect our
profitability indirectly by influencing the level of drilling activity and
related opportunities for our services.
|
|
|
|
Natural Gas Price Change ($/MMBtu)
|
|
|
|
|
|
$0.10
|
|
$(0.10)
|
|
NGL Price
|
|
$
|
0.01
|
|
$
|
144,000
|
|
$
|
113,000
|
|
Change ($/gal)
|
|
$
|
(0.01
|
)
|
$
|
(112,000
|
)
|
$
|
(144,000
|
)
|
37
We manage this commodity
price exposure through an integrated strategy that includes management of our
contract portfolio, optimization of our assets and the use of derivative
contracts. As a result of these derivative contracts, we have hedged a portion
of our expected exposure to natural gas prices and natural gas liquid prices in
2008 and 2009. We continually monitor our hedging and contract portfolio and
expect to continue to adjust our hedge position as conditions warrant. The
following table provides information about our derivative instruments for the
periods indicated:
|
|
|
|
Average
|
|
Fair Value
|
|
|
|
|
|
Fixed/Open
|
|
Asset
|
|
Description and Production Period
|
|
Volume
|
|
Price
|
|
(Liability)
|
|
Natural Gas - Sold Fixed for Floating Price Swaps
|
|
(MMBtu)
|
|
(per MMBtu)
|
|
|
|
April 2008
- March 2009
|
|
2,019,000
|
|
$
|
7.70
|
|
$
|
(2,026
|
)
|
April 2009
- December 2009
|
|
1,602,000
|
|
$
|
7.30
|
|
594
|
|
|
|
|
|
|
|
$
|
(1,432
|
)
|
Natural Gas - Buy Fixed for Floating Price Swaps
|
|
(MMBtu)
|
|
(per MMBtu)
|
|
|
|
April 2008
- December 2008
|
|
540,864
|
|
$
|
6.93
|
|
$
|
1,050
|
|
|
|
|
|
|
|
|
|
|
|
Natural Gas Liquids - Sold Fixed for Floating Price Swaps
|
|
(Bbls)
|
|
(per Gallon)
|
|
|
|
April 2008
- December 2008
|
|
331,326
|
|
$
|
1.31
|
|
$
|
(5,722
|
)
|
|
|
|
|
|
|
|
|
|
|
In addition to the
derivative instruments noted in the table above, Hiland Partners has executed
one natural gas fixed price physical forward sales contract on 100,000 MMBtu
per month with a fixed price of $8.43 per MMBtu for the remainder of
2008. This contract has been designated as normal sales under SFAS No. 133
and is therefore not marked to market as a derivative.
Interest Rate Risk.
We are exposed to changes in interest
rates as a result of our credit facilities, which have floating interest
rates. As of March 31, 2008 we had approximately $0.4 million of
indebtedness outstanding under our credit facility which was used to finance
the costs related to the closing of our $25.0 million secured revolving
credit facility. As of March 31, 2008, Hiland Partners had approximately
$230.1 million of indebtedness outstanding under its credit facility. The
impact of a 100 basis point increase in interest rates on the amount of current
debt would result in an increase in interest expense and a corresponding
decrease in net income of approximately $2.3 million annually.
Credit
Risk.
Counterparties pursuant to the terms of
their contractual obligations expose us to potential losses as a result of
nonperformance. Hiland Partners four largest customers for the three months
ended March 31, 2008 accounting for approximately 22%, 19%, 14% and 10%,
respectively, of revenues. Consequently, changes within one or more of these
companies operations have the potential to impact, both positively and
negatively, our credit exposure. Hiland Partners counterparty for all of its
derivative instruments as of March 31, 2008 is BP Energy Company.
Item 4. Controls and Procedures
)
Evaluation of Disclosure Controls and Procedures
(a) Evaluation of
disclosure controls and procedures.
As required by Rule 13a-15(b) under the
Securities Exchange Act of 1934, as amended, we have evaluated, under the
supervision and with the participation of our management, including our
principal executive officer and principal financial officer, the effectiveness
of the design and operation of our disclosure controls and procedures (as
defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act)
as of the end of the period covered by this Quarterly Report on Form 10-Q.
Based upon that evaluation, our principal executive officer and principal
financial officer concluded that our disclosure controls and procedures were
effective as of March 31, 2008, to ensure that information is accumulated
and communicated to our management, including our principal executive officer
and principal financial officer, as appropriate, to allow timely decisions
regarding required disclosure and is recorded, processed, summarized and
reported within the time periods specified in the rules and forms of the
SEC.
38
(b) Changes in
internal control over financial reporting.
During the three months ended March 31, 2008,
there were no changes in our system of internal control over financial
reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the
Exchange Act) that has materially affected, or is reasonably likely to
materially affect, our internal control over financial reporting.
PART II
OTHER INFORMATION
Item
1. Legal Proceedings
Although there are no
significant regulatory proceedings in which we are currently involved,
periodically we may be a party to regulatory proceedings. The results of
regulatory proceedings cannot be predicted with certainty; however, our
management believes that we presently do not have material potential liability
in connection with regulatory proceedings that would have a significant
financial impact on our consolidated financial condition, results of operations
or cash flows.
Item 1A.
Risk Factors
In addition to the other
information set forth in this report, you should carefully consider the factors
discussed in Part I, Item 1A. Risk Factors in our Annual Report on Form 10-K
for the year ended December 31, 2007, which could materially affect our
business, financial condition or future results. The risks described in our
Annual Report on Form 10-K are not the only risks facing our Company.
Additional risks and uncertainties not currently known to us or that we
currently deem to be immaterial also may materially adversely affect our
business, financial condition and/ or operating results.
Item 2. Unregistered Sales of Equity
Securities and Use of Proceeds
None.
Item 3. Defaults Upon Senior
Securities
None.
Item 4. Submission of Matters to a
Vote of Security Holders
None.
Item 5. Other Information
None.
Item 6.
Exhibits
Exhibit
Number
|
|
|
Description
|
3.1
|
|
|
Certificate of Limited
Partnership of Hiland Holdings GP, LP (incorporated by reference to
Exhibit 3.1 of Registrants Statement on form S-1 (File
No. 333-134491))
|
3.2
|
|
|
Form of Amended
and Restated Agreement of Limited Partnership of Hiland Holdings GP, LP
(incorporated by reference to Exhibit 3.2 of Registrants Statement on
form S-1 (File No. 333-134491))
|
3.3
|
|
|
Certificate of
Formation of Hiland Partners GP Holdings, LLC (incorporated by reference to
Exhibit 3.3 of Registrants Statement on form S-1 (File
No. 333-134491))
|
3.4
|
|
|
Form of Amended
and Restated Limited Liability Company Agreement of Hiland Partners GP
Holdings, LLC(incorporated by reference to Exhibit 3.4 of
Registrants Statement on form S-1
|
31.1
|
|
|
Certification of Chief
Executive Officer under Section 302 of the Sarbanes-Oxley Act of 2002
|
31.2
|
|
|
Certification of Chief
Financial Officer under Section 302 of the Sarbanes-Oxley Act of 2002
|
32.1
|
|
|
Certification of Chief
Executive Officer under Section 906 of the Sarbanes-Oxley Act of 2002
|
32.2
|
|
|
Certification of Chief
Financial Officer under Section 906 of the Sarbanes-Oxley Act of 2002
|
39
SIGNATURES
Pursuant to the
requirements of Section 13 or 15(d) 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 in the city of Enid, Oklahoma, on
the 9
th
day of May, 2008.
|
HILAND HOLDINGS GP, LP
|
|
By:
|
Hiland Partners GP Holdings, LLC, its general
partner
|
|
By:
|
/s/ Joseph L. Griffin
|
|
|
Joseph L. Griffin
|
|
|
|
|
Chief Executive Officer, President and
Director
|
|
|
|
|
|
|
|
By:
|
/s/ Matthew S. Harrison
|
|
|
Matthew S. Harrison
|
|
|
Chief Financial Officer, Vice President-Finance,
Secretary
and Director
|
40
Exhibit Index
Exhibit
Number
|
|
|
Description
|
3.1
|
|
|
Certificate of Limited
Partnership of Hiland Holdings GP, LP (incorporated by reference to Exhibit 3.1
of Registrants Statement on form S-1 (File No. 333-134491))
|
3.2
|
|
|
Form of Amended
and Restated Agreement of Limited Partnership of Hiland Holdings GP, LP
(incorporated by reference to Exhibit 3.2 of Registrants Statement on
form S-1 (File No. 333-134491))
|
3.3
|
|
|
Certificate of
Formation of Hiland Partners GP Holdings, LLC (incorporated by reference to
Exhibit 3.3 of Registrants Statement on form S-1 (File
No. 333-134491))
|
3.4
|
|
|
Form of Amended and
Restated Limited Liability Company Agreement of Hiland Partners GP Holdings, LLC(incorporated
by reference to Exhibit 3.4 of Registrants Statement on form S-1
|
31.1
|
|
|
Certification of Chief
Executive Officer under Section 302 of the Sarbanes-Oxley Act of 2002
|
31.2
|
|
|
Certification of Chief
Financial Officer under Section 302 of the Sarbanes-Oxley Act of 2002
|
32.1
|
|
|
Certification of Chief
Executive Officer under Section 906 of the Sarbanes-Oxley Act of 2002
|
32.2
|
|
|
Certification of Chief
Financial Officer under Section 906 of the Sarbanes-Oxley Act of 2002
|
41
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