Blueknight Energy Partners, L.P. - Quarter Report: 2022 June (Form 10-Q)

PART I. FINANCIAL INFORMATION

Item 1.    Unaudited Condensed Consolidated Financial Statements

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements. 

BLUEKNIGHT ENERGY PARTNERS, L.P.

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

Blueknight Energy Partners, L.P. and subsidiaries (collectively, the “Partnership”) is a publicly traded master limited partnership with operations in 26 states. The Partnership provides integrated terminalling services for companies engaged in the production, distribution, and marketing of liquid asphalt. The Partnership manages its operations through one operating segment, asphalt terminalling services. The Partnership’s common units and preferred units, which represent limited partnership interests in the Partnership, are listed on the Nasdaq Global Market under the symbols “BKEP” and “BKEPP,” respectively. The Partnership was formed in February 2007 as a Delaware master limited partnership.

The Partnership previously provided integrated terminalling, gathering, and transportation services for companies engaged in the production, distribution, and marketing of crude oil in three different operating segments: (i) crude oil terminalling services, (ii) crude oil pipeline services, and (iii) crude oil trucking services. On December 21, 2020, the Partnership announced it had entered into multiple definitive agreements to sell these segments. These transactions closed in February and March of 2021. These segments are presented as discontinued operations for all periods presented. Unless otherwise noted, information in these notes to the consolidated financial statements relates to continuing operations. As the Partnership is only operating through one operating segment, a segment footnote is no longer required.

The consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”). The condensed consolidated balance sheet as of June 30, 2022, the condensed consolidated statements of operations for the three and six months ended June 30, 2021 and 2022, the condensed consolidated statements of changes in partners’ capital (deficit) for the three and six months ended June 30, 2021 and 2022, and the condensed consolidated statements of cash flows for the six months ended June 30, 2021 and 2022, are unaudited. In the opinion of management, the unaudited condensed consolidated financial statements have been prepared on the same basis as the audited financial statements and include all adjustments necessary to state fairly the financial position and results of operations for the respective interim periods. All adjustments are of a recurring nature unless otherwise disclosed herein. The 2021 year-end condensed consolidated balance sheet data was derived from audited financial statements but does not include all disclosures required by GAAP. These unaudited condensed consolidated financial statements and notes should be read in conjunction with the consolidated financial statements and notes thereto included in the Partnership’s annual report on Form 10-K for the year ended December 31, 2021, filed with the Securities and Exchange Commission (the “SEC”) on March 9, 2022 (the “2021 Form 10-K”). Interim financial results are not necessarily indicative of the results to be expected for an annual period. The Partnership’s significant accounting policies are consistent with those disclosed in Note 3 of the Notes to Consolidated Financial Statements in its 2021 Form 10-K.

The Partnership recognizes revenue from contracts with customers as well as lease revenue. The following table includes revenue associated with contractual commitments in place related to future performance obligations as of the end of the reporting period, which are expected to be recognized in revenue in the specified periods (in thousands):

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Disaggregation of Revenue

Disaggregation of revenue from contracts with customers and lease revenue by revenue type is presented as follows (in thousands):

Contract Balances

Accounts receivable from contracts with customers were $2.2 million and $3.2 million at December 31, 2021, and June 30, 2022, respectively. Contract assets were $1.1 million at June 30, 2022, and were immaterial at December 31, 2021.

The Partnership records unearned revenues when cash payments are received in advance of performance. Unearned revenue related to contracts with customers was $3.4 million and $3.7 million at  December 31, 2021, and June 30, 2022, respectively. For the six months ended June 30, 2022, the Partnership recognized $2.3 million of revenues that were previously included in the unearned revenue balance.

Practical Expedients and Exemptions

The Partnership does not disclose the value of unsatisfied performance obligations for contracts with an original expected length of one year or less.

On December 21, 2020, the Partnership announced that it entered into agreements to sell its crude oil trucking services, crude oil pipeline services, and crude oil terminalling services segments. These segments are reported as discontinued operations in the results of operations and financial position for all periods presented. The crude oil trucking services agreement closed in two phases, one on December 15, 2020, and one on February 2, 2021. The crude oil pipeline services agreement closed on February 1, 2021. Loss recognized on the classification of held for sale and disposal of these assets was recorded in the year ended  December 31, 2020. The transaction related to the crude oil terminalling services segment closed on March 1, 2021. The Partnership has allocated interest to discontinued operations on debt that was required to be repaid as a result of the sales of the crude oil pipeline and terminalling services segments for the three months ended March 31, 2021.

As part of the crude oil pipeline sale, $1.2 million of the gross sale proceeds are currently being held in escrow, subject to post-closing settlement terms and conditions. The Partnership expects to receive the majority of this in increments over the two years following the date of sale.

Exit and disposal costs related to these sales, in the form of employee severance payments, totaled $1.9 million. The Partnership provided limited transition services to both of the buyers of the crude oil pipeline and terminalling services segments, with the final transition services being completed during the third quarter of 2021. The contracts were designed to recover the costs of providing services, so there is minimal income statement impact for these services.

Capital expenditures for the six months ended June 30, 2022, include, in addition to normal maintenance capital expenditures, an asphalt terminal and industrial park acquisition that closed in January 2022 and costs related to an expansion project at an existing terminal.

On May 26, 2021, the Partnership entered into an amended and restated credit agreement with a revolving loan facility of $300.0 million. As of  July 29, 2022, approximately $109.0 million of revolver borrowings and $0.3 million of letters of credit were outstanding under the credit agreement, leaving the Partnership with approximately $190.7 million available capacity for additional revolver borrowings and letters of credit under the credit agreement, although the Partnership’s ability to borrow such funds is limited by the financial covenants in the credit agreement. The proceeds of loans made under the credit agreement may be used for working capital and other general corporate purposes of the Partnership.

The credit agreement is guaranteed by all of the Partnership’s existing subsidiaries. Obligations under the credit agreement are secured by first priority liens on substantially all of the Partnership’s assets and those of the guarantors.

The credit agreement includes procedures for additional financial institutions to become revolving lenders, or for any existing lender to increase its revolving commitment thereunder, subject to an aggregate maximum of $450.0 million for all revolving loan commitments under the credit agreement.

Borrowings under the credit agreement bear interest, at the Partnership’s option, at either the reserve-adjusted eurodollar rate (as defined in the credit agreement) (“eurodollar rate”) plus an applicable margin that ranges from 2.0% to 3.25% or the alternate base rate (the highest of the agent bank’s prime rate, the federal funds effective rate plus 0.5%, and the 30-day eurodollar rate plus 1.0%) plus an applicable margin that ranges from 1.0% to 2.25%. The Partnership pays a per annum fee on all letters of credit issued under the credit agreement, which fee equals the applicable margin for loans accruing interest based on the eurodollar rate, and the Partnership pays a commitment fee ranging from 0.375% to 0.5% on the unused commitments under the credit agreement. The applicable margins for the Partnership’s interest rate, the letter of credit fee and the commitment fee vary quarterly based on the Partnership’s consolidated total leverage ratio (as defined in the credit agreement, being generally computed as the ratio of consolidated total debt to consolidated earnings before interest, taxes, depreciation, amortization, and certain other non-cash charges).

The credit agreement includes financial covenants that are tested on a quarterly basis, based on the rolling four-quarter period that ends on the last day of each fiscal quarter.

Prior to the date on which the Partnership issues qualified senior notes in an aggregate principal amount (when combined with all other qualified senior notes previously or concurrently issued) that equals or exceeds $200.0 million, the maximum permitted consolidated total leverage ratio is 4.75 to 1.00; provided that the maximum permitted consolidated total leverage ratio may be increased to 5.25 to 1.00 for certain quarters, based on the occurrence of a specified acquisition (as defined in the credit agreement, but generally being an acquisition for which the aggregate consideration is $15.0 million or more).

From and after the date on which the Partnership issues qualified senior notes in an aggregate principal amount (when combined with all other qualified senior notes previously or concurrently issued) that equals or exceeds $200.0 million, the maximum permitted consolidated total leverage ratio is 5.00 to 1.00; provided that from and after the fiscal quarter ending immediately preceding the fiscal quarter in which a specified acquisition occurs to and including the last day of the second full fiscal quarter following the fiscal quarter in which such acquisition occurred, the maximum permitted consolidated total leverage ratio will be 5.50 to 1.00.

The maximum permitted consolidated senior secured leverage ratio (as defined in the credit agreement, but generally computed as the ratio of consolidated total secured debt to consolidated earnings before interest, taxes, depreciation, amortization and certain other non-cash charges) is 3.50 to 1.00, but this covenant is only tested from and after the date on which the Partnership issues qualified senior notes in an aggregate principal amount (when combined with all other qualified senior notes previously or concurrently issued) that equals or exceeds $200.0 million.

The minimum permitted consolidated interest coverage ratio (as defined in the credit agreement, but generally computed as the ratio of consolidated earnings before interest, taxes, depreciation, amortization and certain other non-cash charges to consolidated interest expense) is 2.50 to 1.00. In addition, the credit agreement contains various covenants that, among other restrictions, limit the Partnership’s ability to:

The credit agreement permits the Partnership to make quarterly distributions of available cash (as defined in the Partnership’s partnership agreement) to unitholders so long as, on a pro forma basis after giving effect to such distributions, the Partnership is in compliance with its financial covenants under the credit agreement and no default or event of default exists under the credit agreement. Additionally, the credit agreement permits the Partnership to repurchase up to an aggregate of $40.0 million of its units (including preferred units), up to $10.0 million for each calendar year, so long as, on a pro forma basis after giving effect to such repurchases, the Partnership’s total leverage ratio is less than 4.00 to 1.00, no default or event of default exists under the credit agreement, and availability under the revolving credit facility is at least 20% of the total commitments thereunder.

In addition to other customary events of default, the credit agreement includes an event of default if:

If an event of default relating to bankruptcy or other insolvency events occurs with respect to the general partner or the Partnership, all indebtedness under the credit agreement will immediately become due and payable. If any other event of default exists under the credit agreement, the lenders may accelerate the maturity of the obligations outstanding under the credit agreement and exercise other rights and remedies. In addition, if any event of default exists under the credit agreement, the lenders may commence foreclosure or other actions against the collateral.

If any default occurs under the credit agreement, or if the Partnership is unable to make any of the representations and warranties in the credit agreement, the Partnership will be unable to borrow funds or to have letters of credit issued under the credit agreement. 

On May 26, 2021, as part of the credit agreement refinancing, there was a non-cash increase in credit borrowings of $2.9 million and a non-cash increase in debt issuance costs of $2.5 million. 

The following table sets forth financial information pertaining to the credit agreement (in thousands, except for interest rate):

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For purposes of calculating earnings per unit, preferred units, general partner units, and common units are first allocated net income to the extent they receive a distribution. Next, the excess of distributions over earnings or excess of earnings over distributions for each period are allocated to the Partnership’s general partner based on the general partner’s ownership interest at the time. For the six months ended June 30, 2021, the preferred units were also allocated income for the excess consideration paid over carrying value for the repurchase of preferred units that occurred in the first quarter of 2021. The remainder is allocated to common units. The following sets forth the computation of basic and diluted net income per common unit (in thousands, except per unit data): 

During the six months ended June 30, 2021, the Partnership repurchased a total of 688,417 outstanding preferred units at $7.50 per unit or total cash consideration of $5.2 million. The consideration paid was based on the fair market value of the units at the time of purchase. The carrying value of the units was $7.23 per unit. The preferred units were allocated additional net income for the six months ended June 30, 2021, of $0.2 million for the consideration paid in excess of carrying value. All repurchased units were subsequently retired. There have been no repurchases of preferred units by the Partnership during 2022. 

On July 26, 2022, the Board approved a cash distribution of $0.17875 per outstanding preferred unit for the three months ended June 30, 2022. The Partnership will pay this distribution on August 12, 2022, to unitholders of record as of August 5, 2022. The total distribution will be approximately $6.2 million, with approximately $6.2 million and $0.1 million to be paid to the Partnership’s preferred unitholders and general partner, respectively.

In addition, the Board approved a cash distribution of $0.0425 per outstanding common unit for the three months ended June 30, 2022. The Partnership will pay this distribution on August 12, 2022, to unitholders of record on August 5, 2022. The total distribution will be approximately $1.9 million, with approximately $1.8 million to be paid to the Partnership’s common unitholders, less than $0.1 million to be paid to the general partner, and approximately $0.1 million to be paid to holders of phantom and restricted units pursuant to awards granted under the Partnership’s Long-Term Incentive Plan.

The Partnership leases asphalt facilities and provides asphalt terminalling services to Ergon. For the three months ended June 30, 2021 and 2022, the Partnership recognized related-party revenues of $12.0 million and $12.3 million, respectively, for services provided to Ergon. For the six months ended June 30, 2021 and 2022, the Partnership recognized related-party revenues of $23.9 million and $24.7 million, respectively, for services provided to Ergon. As of December 31, 2021, and June 30, 2022, the Partnership had receivables from Ergon of $0.4 million and $0.5 million, respectively. As of December 31, 2021, and June 30, 2022, the Partnership had unearned revenues from Ergon of $9.3 million and $7.9 million, respectively, which primarily relates to cash received in advance for the following month's lease and storage fees, and capital project reimbursements and deductibles that are being recognized straight-line over the term of the existing revenue contracts. 

Ergon also provides certain operations and maintenance services to certain of the Partnership's asphalt facilities that have existing revenue contracts between the parties. For the three months ended June 30, 2021 and 2022, the Partnership recognized operating expense of $4.6 million and $4.8 million, respectively, for these services. For the six months ended June 30, 2021 and 2022, the Partnership recognized operating expense of $9.3 million and $9.6 million, respectively, for these services. 

In July 2007, the general partner adopted the Long-Term Incentive Plan (the “LTIP”), which is administered by the compensation committee of the Board. The Partnership’s unitholders have approved 8.1 million common units to be reserved for issuance under the incentive plan, subject to adjustments for certain events. Although other types of awards are contemplated under the LTIP, currently outstanding awards include “phantom” units, which convey the right to receive common units upon vesting, and “restricted” units, which are grants of common units restricted until the time of vesting. The phantom unit awards also include distribution equivalent rights (“DERs”).

Subject to applicable earning criteria, a DER entitles the grantee to a cash payment equal to the cash distribution paid on an outstanding common unit prior to the vesting date of the underlying award. Recipients of restricted and phantom units are entitled to receive cash distributions paid on common units during the vesting period which are reflected initially as a reduction of partners’ capital. Distributions paid on units which ultimately do not vest are reclassified as compensation expense. Awards granted to date are equity awards and, accordingly, the fair value of the awards as of the grant date is expensed over the vesting period.

Each year, restricted common units are granted to the independent directors that may or may not have vesting requirements. In December 2021, the directors received a total of 21,228 units with a grant date fair value of $3.26 per unit and a total grant date fair value of $0.1 million, that do not have a vesting requirement. The following table includes information on outstanding grants made to the directors under the LTIP that vest in one-third increments over three years:

The Partnership also grants phantom units to employees. These grants are equity awards under ASC 718 – Stock Compensation and, accordingly, the fair value of the awards as of the grant date is expensed over the vesting period. All grants made in 2020 and 2021 vest after three years. The grant made in 2022 vests in one-third increments over three years. The following table includes information on the outstanding grants:

The unrecognized estimated compensation cost of outstanding phantom and restricted units at June 30, 2022, was $2.6 million, which will be expensed over the remaining vesting period.

The Partnership’s equity-based incentive compensation expense for the three months ended June 30, 2021 and 2022, was $0.2 million and $0.3 million, respectively. The Partnership’s equity-based incentive compensation expense for the six months ended June 30, 2021 and 2022, was $0.3 million and $0.6 million, respectively.

Activity pertaining to phantom and restricted common unit awards granted under the LTIP was as follows:

The Partnership uses valuation techniques, such as the market approach (comparable market prices), the income approach (present value of future income or cash flow), and the cost approach (cost to replace the service capacity of an asset or replacement cost) to value assets and liabilities required to be measured at fair value, as appropriate. The Partnership uses an exit price when determining the fair value. The exit price represents amounts that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants.

The Partnership utilizes a three-tier fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value into three broad levels. The following is a brief description of those three levels:

This hierarchy requires the use of observable market data, when available, to minimize the use of unobservable inputs when determining fair value.

As of December 31, 2021, and  June 30, 2022, the Partnership had no recurring financial assets or liabilities subject to fair value measurement.

Fair Value of Other Financial Instruments

The following disclosure of the estimated fair value of financial instruments is made in accordance with accounting guidance for financial instruments. The Partnership has determined the estimated fair values by using available market information and valuation methodologies. Considerable judgment is required in interpreting market data to develop the estimates of fair value. The use of different market assumptions or valuation methodologies may have a material effect on the estimated fair value amounts.

At June 30, 2022, the carrying values on the unaudited condensed consolidated balance sheets for cash and cash equivalents (classified as Level 1), accounts receivable, and accounts payable approximate their fair value because of their short-term nature.

Based on the borrowing rates currently available to the Partnership for credit agreement debt with similar terms and maturities and consideration of the Partnership’s non-performance risk, long-term debt associated with the Partnership’s credit agreement at June 30, 2022, approximates its fair value. The fair value of the Partnership’s long-term debt was calculated using observable inputs (eurodollar rate for the risk-free component) and unobservable company-specific credit spread information. As such, the Partnership considers this debt to be Level 3.

The Partnership is from time to time subject to various legal actions and claims incidental to its business. Management believes that these legal proceedings will not have a material adverse effect on the financial position, results of operations or cash flows of the Partnership. Once management determines that information pertaining to a legal proceeding indicates that it is probable that a liability has been incurred and the amount of such liability can be reasonably estimated, an accrual is established equal to its estimate of the likely exposure. As part of the consideration for the purchase of the asphalt terminal during the three months ended March 31, 2022, the Partnership assumed environmental liabilities of approximately $2.0 million related to consent orders with a state regulatory agency. The assumption of the environmental liabilities had no impact on the statement of operations, and actual costs are not expected to vary significantly from the initial accrual.

The Partnership has contractual obligations to perform dismantlement and removal activities in the event that some of its asphalt product and residual fuel oil terminalling and storage assets are abandoned. These obligations include varying levels of activity including completely removing the assets and returning the land to its original state. The Partnership has determined that the settlement dates related to the retirement obligations are indeterminate. The assets with indeterminate settlement dates have been in existence for many years and with regular maintenance will continue to be in service for many years to come. Also, it is not possible to predict when demands for the Partnership’s terminalling and storage services will cease, and the Partnership does not believe that such demand will cease for the foreseeable future. Accordingly, the Partnership believes the date when these assets will be abandoned is indeterminate. With no reasonably determinable abandonment date, the Partnership cannot reasonably estimate the fair value of the associated asset retirement obligations. Management believes that if the Partnership’s asset retirement obligations were settled in the foreseeable future the present value of potential cash flows that would be required to settle the obligations based on current costs are not material. The Partnership will record asset retirement obligations for these assets in the period in which sufficient information becomes available for it to reasonably determine the settlement dates.

There have been no new accounting pronouncements that have become effective or have been issued during the six months ended June 30, 2022, that are of significance or potential significance to the Partnership.

Merger Agreement

On October 8, 2021, Ergon filed an amendment to its Schedule 13D with the SEC disclosing that Ergon made a non-binding proposal to the Board, pursuant to which Ergon would acquire all the outstanding common units and Preferred Units of the Partnership not already owned by Ergon and its affiliates.

 On April 21, 2022, the Partnership, the General Partner, Ergon Asphalt & Emulsions, Inc. (“Parent”) and Merle, LLC (“Merger Sub”), entered into an Agreement and Plan of Merger (the “Merger Agreement”), pursuant to which Merger Sub will merge with and into the Partnership, with the Partnership surviving as a wholly owned subsidiary of Parent (the “Merger”).

Under the terms of the Merger Agreement, at the effective time of the Merger, (i) each issued and outstanding common unit representing a limited partner interest in the Partnership (each, a “Common Unit”) other than Common Units owned by Parent, the Partnership and their subsidiaries will be converted into the right to receive $4.65 in cash without any interest thereon (the “Common Unit Merger Consideration”), and (ii) each issued and outstanding Series A Preferred Unit of the Partnership (each, a “Preferred Unit”), other than Preferred Units owned by Parent, the Partnership and their subsidiaries will be converted into the right to receive $8.75 in cash without any interest thereon (the “Preferred Unit Merger Consideration” and, together with the Common Unit Merger Consideration, the “Merger Consideration”). In connection with the Merger, (i) the General Partner’s non-economic general partner interest in the Partnership, (ii) the incentive distribution rights held by the General Partner and (iii) the Common Units and the Preferred Units owned by Parent and its subsidiaries, in each case, will not be cancelled, will not be converted into the right to receive the Merger Consideration and will remain outstanding following the Merger.

 Immediately prior to the effective time of the Merger, all restricted units and phantom units outstanding immediately prior to the effective time will fully vest, and each holder of such units will receive an amount equal to the Merger Consideration with respect to each such unit that becomes vested pursuant to the terms of the Merger Agreement.

 The Partnership has entered into a Support Agreement, dated as of April 21, 2022 (the “Support Agreement”), with Parent, pursuant to which Parent has agreed to vote the Covered Units (as defined in the Support Agreement) it beneficially owns in favor of the Merger Agreement and the transactions contemplated thereby, including the Merger.

The Merger is subject to customary closing conditions, including approval of the unitholders. The Partnership has established a special meeting date of  August 16, 2022 for its unitholders to consider approval of the Merger.

As used in this quarterly report, unless we indicate otherwise: (1) “Blueknight,” “our,” “we,” “us” and similar terms refer to Blueknight Energy Partners, L.P., together with its subsidiaries, (2) our “General Partner” refers to Blueknight Energy Partners G.P., L.L.C., and (3) “Ergon” refers to Ergon, Inc., its affiliates and subsidiaries (other than our General Partner and us). The following discussion analyzes the historical financial condition and results of operations of the Partnership and should be read in conjunction with our financial statements and notes thereto, and Management’s Discussion and Analysis of Financial Condition and Results of Operations presented in our Annual Report on Form 10-K for the year ended December 31, 2021, which was filed with the Securities and Exchange Commission (the “SEC”) on March 9, 2022 (the “2021 Form 10-K”). 

Forward-Looking Statements

This report contains “forward-looking statements” within the meaning of the federal securities laws. Statements included in this quarterly report that are not historical facts (including any statements regarding plans and objectives of management for future operations or economic performance, or assumptions or forecasts related thereto), including, without limitation, the information set forth in this Management’s Discussion and Analysis of Financial Condition and Results of Operations, are forward-looking statements. These statements can be identified by the use of forward-looking terminology including “may,” “will,” “should,” “believe,” “expect,” “intend,” “anticipate,” “estimate,” “continue,” or other similar words. These statements discuss future expectations, contain projections of results of operations or of financial condition, or state other “forward-looking” information. We and our representatives may from time to time make other oral or written statements that are also forward-looking statements.

Such forward-looking statements are subject to various risks and uncertainties that could cause actual results to differ materially from those anticipated as of the date of the filing of this report. Although we believe that the expectations reflected in these forward-looking statements are based on reasonable assumptions, no assurance can be given that these expectations will prove to be correct. Important factors that could cause our actual results to differ materially from the expectations reflected in these forward-looking statements include, among other things, those set forth in “Part I, Item 1A. Risk Factors” in the 2021 Form 10-K.

All forward-looking statements included in this report are based on information available to us on the date of this report. We undertake no obligation to publicly update or revise any forward-looking statement, whether as a result of new information, future events or otherwise. All subsequent written and oral forward-looking statements attributable to us or persons acting on our behalf are expressly qualified in their entirety by the cautionary statements contained throughout this report.

Overview

We are a publicly traded master limited partnership with operations in 26 states. We have the largest independent asphalt facility footprint in the nation, and through that we provide integrated terminalling services for companies engaged in the production, distribution, and marketing of liquid asphalt for infrastructure or other end markets. We manage our operations through a single operating segment, asphalt terminalling services.

We previously provided integrated terminalling, gathering, and transportation services for companies engaged in the production, distribution, and marketing of crude oil in three different operating segments: (i) crude oil terminalling services, (ii) crude oil pipeline services, and (iii) crude oil trucking services. On December 21, 2020, we announced that we had entered into multiple definitive agreements to sell these segments. The transactions closed in February and March of 2021, and these segments are presented as discontinued operations for all periods.

Our 54 asphalt facilities are well-positioned to provide asphalt terminalling services in the market areas they serve throughout the continental United States. With our approximately 9.0 million barrels of total liquid asphalt storage capacity, we provide our customers the ability to effectively manage their liquid asphalt inventories while allowing significant flexibility in their processing and marketing activities. Our asphalt terminalling business delivers a stable cash flow profile through long-term take-or-pay contracts that generally have original terms of 5 to 10 years with options to extend the term. The stability comes from the contract structure that is comprised primarily of fixed fees and cost reimbursements, which make up approximately 95% of our revenues on an annual basis. The remaining revenue is variable, primarily consisting of volume-based throughput fees.

We have contractual agreements in place for all of our asphalt terminalling facilities. We lease certain facilities for operation by our customers and at the remaining facilities we store, process, blend, and manufacture products, among other things, to meet our customers’ specifications. The agreements have, based on a weighted average by remaining fixed revenue, approximately 4.9 years remaining under their terms as of July 29, 2022. Approximately 13% of our tank capacity will expire at the end of 2022 if not renewed with the current customer or a new customer, and the remaining capacity expires at varying times thereafter, through 2035. Our varying contract expiration dates provide for staggered renewals, which provides additional stability to the cash flow. 

Merger Agreement

On October 8, 2021, Ergon filed an amendment to its Schedule 13D with the SEC disclosing that Ergon made a non-binding proposal to the Board, pursuant to which Ergon would acquire all the outstanding common units and Preferred Units of the Partnership not already owned by Ergon and its affiliates.

 On April 21, 2022, the Partnership, the General Partner, Ergon Asphalt & Emulsions, Inc. (“Parent”) and Merle, LLC (“Merger Sub”), entered into an Agreement and Plan of Merger (the “Merger Agreement”), pursuant to which Merger Sub will merge with and into the Partnership, with the Partnership surviving as a wholly owned subsidiary of Parent (the “Merger”).

Under the terms of the Merger Agreement, at the effective time of the Merger, (i) each issued and outstanding common unit representing a limited partner interest in the Partnership (each, a “Common Unit”) other than Common Units owned by Parent, the Partnership and their subsidiaries will be converted into the right to receive $4.65 in cash without any interest thereon (the “Common Unit Merger Consideration”), and (ii) each issued and outstanding Series A Preferred Unit of the Partnership (each, a “Preferred Unit”), other than Preferred Units owned by Parent, the Partnership and their subsidiaries will be converted into the right to receive $8.75 in cash without any interest thereon (the “Preferred Unit Merger Consideration” and, together with the Common Unit Merger Consideration, the “Merger Consideration”). In connection with the Merger, (i) the General Partner’s non-economic general partner interest in the Partnership, (ii) the incentive distribution rights held by the General Partner and (iii) the Common Units and the Preferred Units owned by Parent and its subsidiaries, in each case, will not be cancelled, will not be converted into the right to receive the Merger Consideration and will remain outstanding following the Merger.

 Immediately prior to the effective time of the Merger, all restricted units and phantom units outstanding immediately prior to the effective time will fully vest, and each holder of such units will receive an amount equal to the Merger Consideration with respect to each such unit that becomes vested pursuant to the terms of the Merger Agreement.

 The Partnership has entered into a Support Agreement, dated as of April 21, 2022 (the “Support Agreement”), with Parent, pursuant to which Parent has agreed to vote the Covered Units (as defined in the Support Agreement) it beneficially owns in favor of the Merger Agreement and the transactions contemplated thereby, including the Merger.

 The Merger is subject to customary closing conditions, including approval of the unitholders. The Partnership has established a special meeting date of August 16, 2022 for its unitholders to consider approval of the Merger. 

Potential Impact of Certain Factors on Future Earnings

Due to the high percentage of fixed and reimbursement revenue from our long-term contracts, our focus and our primary risk is renewing contracts at current or more favorable terms. Our ability to renew agreements at more favorable terms, or at all, could be impacted if our customers experience negative market conditions. These factors include infrastructure spending, the strength of state and local economies, and the level of allocations of tax funding to transportation spending from state or federal funds. Public transportation infrastructure projects historically have been a relatively stable portion of state and federal budgets and represent a significant share of the United States construction market. Federal funds are allocated on a state-by-state basis, and each state is required to match a portion of the federal funds that it receives.

Currently, from a macroeconomic view, a positive indicator for the infrastructure and construction sector includes government spending programs for infrastructure at the federal, state, and local levels. The federal infrastructure spending bill (the Infrastructure Investment and Jobs Act) that was passed in November 2021, is expected to provide long-term funding and support for road construction and repair. Increased funding potentially impacts us through favorable customer contract renewals, including facility expansion opportunities, as well as increased customer volumes through our terminals. Separate from these funds, COVID-19 relief funds remain available and could have a positive impact on the allocation of state and local spending. Further, there has been an increase in state and local initiatives to support infrastructure funding, and a high percentage of those initiatives have been approved by voters. While it is still early in the asphalt season, customer throughput volumes are trending in line with prior years. However, it is too early in the season to determine the financial impact for this year. 

 Currently, from a macroeconomic view, negative indicators for the infrastructure and construction sector include increased costs due to higher fuel and energy costs, inflation and supply chain disruptions. Although asphalt prices have risen to help customers offset the higher costs, if margins deteriorate for our customers, it could impact their volumes through our terminals. 

 We continue to monitor potential impacts to our business due to inflation and supply chain disruptions. To date, we have had limited impact to our business from these items primarily due to the structure of our contracts. For example, our utility and fuel costs are passed through to our customers. However, we have experienced higher maintenance and repair costs due to timing delays from supply chain disruptions or availability of certain maintenance contractors.

Another factor impacting us and our customers, from a short-term perspective, is weather patterns. Our customers’ volumes could be significantly impacted by prolonged rain or snow seasons or any severe weather that occurs. Damage to our terminal facilities from severe weather, such as flooding or hurricanes, could impact our operating results through additional costs and/or loss of revenue.

Results of Operations

Non-GAAP Financial Measures

To supplement our financial information presented in accordance with generally accepted accounting principles, or “GAAP”, management uses additional measures that are known as “non-GAAP financial measures” in its evaluation of past performance and prospects for the future. The primary measure used by management is operating margin, excluding depreciation and amortization.

Management believes that the presentation of such additional financial measures provides useful information to investors regarding our performance and results of operations because these measures, when used in conjunction with related GAAP financial measures, (i) provide additional information about our core operating performance and ability to generate and distribute cash flow; (ii) provide investors with the financial analytical framework upon which management bases financial, operational, compensation and planning decisions and (iii) present measurements that investors, rating agencies and debt holders have indicated are useful in assessing us and our results of operations. These additional financial measures are reconciled to the most directly comparable measures as reported in accordance with GAAP, and should be viewed in addition to, and not in lieu of, our unaudited condensed consolidated financial statements and footnotes. 

The table below summarizes our financial results for the three and six months ended June 30, 2021 and 2022, reconciled to the most directly comparable GAAP measure:

Revenues. Total revenues increased to $29.5 million for the three months ended June 30, 2022, as compared to $27.8 million for the same period in 2021, and increased to $58.0 million for the six months ended June 30, 2022, as compared to $54.8 million for the same period in 2021.  Revenues consist primarily of fixed fees for items such as storage and minimum throughput requirements, with consideration of annual consumer price index (“CPI”) adjustments built into our agreements. Variable cost recovery revenue is driven by certain reimbursable operating expenses, such as utility costs, and therefore have no net impact on operating margin or net income. Variable throughput revenue is primarily driven by our customers’ excess volumes over annual minimum thresholds and such thresholds are typically reached during the latter part of the year. 

Operating expenses, excluding depreciation and amortization. Operating expense, excluding depreciation and amortization, increased to $14.8 million for the three months ended June 30, 2022, as compared to $13.1 million for the same period in 2021, and increased to $29.0 million for the six months ended June 30, 2022, as compared to $26.0 million for the same period in 2021. The increase was primarily due to higher utility costs, which are recoverable costs from our customers, and timing of maintenance and repair projects.

Depreciation and amortization expense. Depreciation and amortization expense increased to $3.5 million for the three months ended June 30, 2022, as compared to $3.0 million for the same period in 2021, and increased to $6.9 million for the six months ended June 30, 2022, as compared to $6.0 million for the same period in 2021. This increase is primarily related to the timing of placing maintenance capital projects in-service and the asphalt terminal and industrial park acquisition that closed in January 2022.

General and administrative expense. General and administrative expense increased to $3.6 million for the three months ended June 30, 2022, as compared to $3.0 million for the same period in 2021, and decreased to $6.9 million for the six months ended June 30, 2022, as compared to $7.0 million for the same period in 2021.  The increase for the three month period was primarily due to non-recurring legal and professional fees related to the Ergon buyout offer. The decrease for the six month period was primarily due to corporate cost synergies, which included lower compensation costs, realized after the completion of the crude oil business sales, offset by non-recurring legal and professional fees related to the Ergon buyout offer. 

Interest expense. Interest expense represents interest on borrowings under our credit agreement as well as amortization of debt issuance costs. The following table presents the significant components of interest expense (dollars in thousands):

The increase in credit agreement interest for the three month period is due to higher interest rates.

Distributions

The amount of distributions we pay and the decision to make any distribution is determined by the Board of Directors of our General Partner (the “Board”), which has broad discretion to establish cash reserves for the proper conduct of our business and for future distributions to our unitholders. In addition, our cash distribution policy is subject to restrictions on distributions under our credit agreement. 

On July 26, 2022, the Board approved a cash distribution of $0.17875 per outstanding preferred unit for the three months ended June 30, 2022. We will pay this distribution on August 12, 2022, to unitholders of record as of August 5, 2022. The total distribution will be approximately $6.2 million, with approximately $6.2 million and $0.1 million to be paid to our preferred unitholders and general partner, respectively.

In addition, the Board approved a cash distribution of $0.0425 per outstanding common unit for the three months ended June 30, 2022. We will pay this distribution on August 12, 2022, to unitholders of record as of August 5, 2022. The total distribution will be approximately $1.9 million, with approximately $1.8 million to be paid to our common unitholders, less than $0.1 million to be paid to our general partner, and approximately $0.1 million to be paid to holders of phantom and restricted units pursuant to awards granted under our Long-Term Incentive Plan.

Off-Balance Sheet Arrangements

We do not have any off-balance sheet arrangements as defined by Item 303 of Regulation S-K.

Liquidity and Capital Resources

Cash Flows

The following table summarizes our sources and uses of cash, inclusive of both continuing and discontinued operations, for the six months ended June 30, 2021 and 2022: 

Operating Activities. Net cash provided by operating activities was $13.1 million for the six months ended June 30, 2022, as compared to $14.8 million for the six months ended June 30, 2021, primarily due to changes in working capital.

Investing Activities. Net cash used in investing activities was $12.8 million for the six months ended June 30, 2022, compared to net cash provided by investing activities of $151.7 million for the six months ended June 30, 2021. Capital expenditures for the six months ended June 30, 2022, included expansion capital expenditures and acquisition costs of $9.8 million related to the growth projects announced in December 2021 and maintenance capital expenditures of $3.0 million. The six months ended June 30, 2021, included net proceeds from the sale of the crude oil businesses of $155.4  million, which excluded $1.5 million of funds held in escrow for right of way renewals. Capital expenditures for the six months ended June 30, 2021, inclusive of both continuing and discontinued operations, included maintenance capital expenditures of $2.7 million and expansion capital expenditures of $1.0 million. 

Financing Activities. Net cash used in financing activities was $0.7 million for the six months ended June 30, 2022, compared to net cash used in financing activities of $166.9 million for the six months ended June 30, 2021. Cash used in financing activities for the six months ended June 30, 2022, consisted primarily of net borrowings on long-term debt of $16.0 million, partially offset by $16.2 million in distributions to our unitholders. Net cash used in financing activities for the six months ended June 30, 2021, consisted primarily of $16.1 million in distributions to our unitholders, net payments on long-term debt of $144.5 million, and the repurchase of preferred units for $5.2 million.

Liquidity and Capital Resources

Cash flows from operations and availability under our revolving credit facility are our primary sources of liquidity. At June 30, 2022, we had a working capital deficit of $10.3 million. This is primarily a function of our approach to cash management. At June 30, 2022, we had approximately $114.0 million of revolver borrowings and approximately $0.3 million of letters of credit outstanding under the credit agreement, leaving us with approximately $185.7 million of availability under our revolving credit facility subject to covenant restrictions, which limited our availability to $137.0 million. As of July 29, 2022, we have approximately $109.0 million of revolver borrowings and approximately $0.3 million of letters of credit outstanding under the credit agreement, leaving us with aggregate unused commitments under our revolving credit facility of approximately $190.7 million and cash on hand of approximately $0.6 million. The credit agreement is scheduled to mature on May 26, 2025.

Our credit agreement contains certain financial covenants which include a maximum permitted consolidated total leverage ratio, which may limit our availability to borrow funds thereunder. The consolidated total leverage ratio is assessed quarterly based on the trailing twelve months of EBITDA, as defined in the credit agreement. The maximum permitted consolidated total leverage ratio as of June 30, 2022, and for each fiscal quarter thereafter, is 4.75 to 1.00. Our consolidated total leverage ratio was 2.16 to 1.00 as of June 30, 2022. Based on current operating plans and forecasts, we expect to remain in compliance with all covenants of the credit agreement for at least the next year.

Capital Requirements. Our capital requirements consist of the following:

The following table breaks out capital expenditures from continuing operations for the six months ended June 30, 2021 and 2022 (in thousands):

We currently expect our 2022 expansion capital expenditures for organic growth projects to be approximately $15.0 million and our maintenance capital expenditures to be between $5.5 million to $6.5 million, each net of reimbursable expenditures. Our expansion capital expenditures include an asphalt terminal and industrial park acquired in January 2022 and costs related to an expansion project at one of our current terminals. Management is evaluating other expansion opportunities for 2022 and beyond that could increase this range of capital expenditures. These projects will have potential future expansion opportunities that are not currently part of our 2022 expansion capital forecast. Our sources of liquidity for expansion and maintenance capital expenditures will be a combination of cash flows from operations and borrowings under our revolving credit facility.

Our Ability to Grow Depends on Our Ability to Access External Expansion Capital. Our partnership agreement requires that we distribute all of our available cash to our unitholders. Available cash is reduced by cash reserves established by our General Partner to provide for the proper conduct of our business (including for future capital expenditures) and to comply with the provisions of our credit agreement. We may not grow as quickly as businesses that reinvest their available cash to expand ongoing operations because we distribute all of our available cash. 

Recent Accounting Pronouncements

There have been no new accounting pronouncements that have become effective or have been issued during the six months ended June 30, 2022, that are of significance or potential significance to us.

Pursuant to Item 305(e) of Regulation S-K (§ 229.305(e)), the Partnership is not required to provide the information required by this Item as it is a “smaller reporting company,” as defined by Rule 229.10(f)(1).

Evaluation of disclosure controls and procedures. Our General Partner’s management, including the Chief Executive Officer and Chief Financial Officer of our General Partner, evaluated, as of the end of the period covered by this report, the effectiveness of our disclosure controls and procedures as defined in Rule 13a-15(e) under the Securities Exchange Act of 1934. Based on that evaluation, the Chief Executive Officer and Chief Financial Officer of our General Partner concluded that our disclosure controls and procedures, as of June 30, 2022, were effective. 

Changes in internal control over financial reporting. There were no changes to our internal control over financial reporting that occurred during the three months ended June 30, 2022, that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

PART II. OTHER INFORMATION

The information required by this item is included under the caption “Commitments and Contingencies” in Note 12 to our unaudited condensed consolidated financial statements and is incorporated herein by reference thereto.

See the risk factors set forth in Part I, Item 1A, of our Annual Report on Form 10-K for the year ended December 31, 2021.

None.

The information required by this Item 6 is set forth in the Index to Exhibits accompanying this quarterly report and is incorporated herein by reference.

INDEX TO EXHIBITS

Attached as Exhibit 101 to this Quarterly Report are the following Inline XBRL-related documents: (i) Document and Entity Information; (ii) Unaudited Condensed Consolidated Balance Sheets as of December 31, 2021 and June 30, 2022; (iii) Unaudited Condensed Consolidated Statements of Operations for the three and six months ended June 30, 2021 and 2022; (iv) Unaudited Condensed Consolidated Statement of Changes in Partners’ Capital (Deficit) for the three and six months ended June 30, 2021 and 2022; (v) Unaudited Condensed Consolidated Statements of Cash Flows for the six months ended June 30, 2021 and 2022; and (vi) Notes to Unaudited Condensed Consolidated Financial Statements.

____________________

*    Filed herewith.

#     Furnished herewith

SIGNATURES

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