USA Compression Partners, LP - Quarter Report: 2017 June (Form 10-Q)

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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

Form 10-Q

 

(MARK ONE)

 

☒QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

FOR THE QUARTERLY PERIOD ENDED June 30, 2017

 

☐TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

FOR THE TRANSITION PERIOD FROM               TO               .

 

Commission File No. 001-35779

 

USA Compression Partners, LP

(Exact name of registrant as specified in its charter)

 

 

(512) 473-2662

(Registrant’s telephone number, including area code)

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes ☒  No ☐

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes ☒  No ☐

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

 

 

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☒

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes ☐  No ☒

 

As of August 2, 2017, there were 61,574,965 common units outstanding.

 

 

 

TABLE OF CONTENTS

 

 

 

 

 

 

PART I.  FINANCIAL INFORMATION

 

ITEM 1.Financial Statements

 

USA COMPRESSION PARTNERS, LP

Unaudited Condensed Consolidated Balance Sheets

(in thousands, except for unit amounts)

 

 

 

 

See accompanying notes to unaudited condensed consolidated financial statements.

USA COMPRESSION PARTNERS, LP

Unaudited Condensed Consolidated Statements of Operations

(in thousands, except per unit amounts)

 

 

 

See accompanying notes to unaudited condensed consolidated financial statements.

 

USA COMPRESSION PARTNERS, LP

Unaudited Condensed Consolidated Statement of Changes in Partners’ Capital

Six Months Ended June 30, 2017

(in thousands)

 

 

 

 

See accompanying notes to unaudited condensed consolidated financial statements.

USA COMPRESSION PARTNERS, LP

Unaudited Condensed Consolidated Statements of Cash Flows

(in thousands)

 

 

 

 

See accompanying notes to unaudited condensed consolidated financial statements.

 

USA COMPRESSION PARTNERS, LP

NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

 

(1)  Organization and Summary of Significant Accounting Policies

 

(a)  Organization

 

Unless otherwise indicated, the terms “our”, “we”, “us”, “the Partnership” and similar language refer to USA Compression Partners, LP, collectively with its operating subsidiaries. We are a Delaware limited partnership. USA Compression GP, LLC, a Delaware limited liability company, serves as our general partner and is referred to herein as the “General Partner”. Our General Partner is owned by USA Compression Holdings, LLC (“USA Compression Holdings”). Through our operating subsidiaries, we provide compression services under term contracts with customers in the natural gas and crude oil industries, using natural gas compression packages that we design, engineer, own, operate and maintain. We provide compression services in a number of shale plays throughout the United States, including the Utica, Marcellus, Permian Basin, Delaware Basin, Eagle Ford, Mississippi Lime, Granite Wash, Woodford, Barnett, Haynesville, Niobrara and Fayetteville shales. 

 

Certain of our operating subsidiaries are borrowers under a revolving credit facility and the Partnership is a guarantor of that revolving credit facility (see Note 6). The accompanying unaudited condensed consolidated financial statements include the accounts of the Partnership and its operating subsidiaries, all of which are wholly owned by us. 

 

Net income is allocated to our general and limited partners using the two-class income allocation method. All intercompany balances and transactions have been eliminated in consolidation. Our common units representing limited partner interests in the Partnership trade on the New York Stock Exchange under the ticker symbol “USAC”. 

 

Our ownership structure was as follows:

 

 

(b)  Basis of Presentation

 

Our accompanying unaudited condensed consolidated financial statements have been prepared on the same basis as the audited consolidated financial statements included in our annual report on Form 10-K for the year ended December 31, 2016 filed on February 13, 2017 (our “2016 Annual Report”). In the opinion of our management, such financial information reflects all adjustments necessary for a fair presentation of the financial position as of June 30, 2017 and December 31, 2016, and the results of operations for the three and six months ended June 30, 2017 and 2016, changes in partners’ capital for the six months ended June 30, 2017 and the statements of cash flows for the six months ended June 30, 2017 and 2016 in accordance with U.S. generally accepted accounting principles (“GAAP”). Operating results for the three and six months ended June 30, 2017 are not necessarily indicative of the results that may be expected for the year ending December 31, 2017. Certain information and footnote disclosures normally included in annual consolidated financial statements prepared in accordance with GAAP have been condensed or omitted pursuant to the rules and regulations of the U.S. Securities and Exchange Commission (the “SEC”). Therefore, these consolidated financial statements should be read in conjunction with our audited consolidated financial statements for the year ended December 31, 2016 contained in our 2016 Annual Report.

 

(c)  Use of Estimates

 

Our unaudited condensed consolidated financial statements have been prepared in conformity with GAAP, which includes the use of estimates and assumptions by management that affect the reported amounts of assets, liabilities, revenues, expenses and disclosure of contingent assets and liabilities that existed at the date of the unaudited condensed consolidated financial statements. Although these estimates were based on management’s available knowledge of current and expected future events, actual results could differ from these estimates.

 

(d)  Inventory

 

Inventory consists of serialized and non-serialized parts used primarily in the repair of compression units.  All inventory is stated at the lower of cost or net realizable value. Serialized parts inventory is determined using the specific identification cost method, while non-serialized parts inventory is determined using the weighted average cost method. Purchases of these assets are considered operating activities in the Unaudited Condensed Consolidated Statements of Cash Flows.

 

Components of inventory are as follows (in thousands):

 

 

 

(e)  Identifiable Intangible Assets

 

Identifiable intangible assets, net consisted of the following (in thousands):

 

 

Identifiable intangible assets are recorded at cost and amortized using the straight-line method over their estimated useful lives, which is the period over which the assets are expected to contribute directly or indirectly to our future cash flows. The estimated useful lives range from 4 to 30 years. Accumulated amortization of intangible assets was $21.8 million and $20.0 million as of June 30, 2017 and December 31, 2016, respectively.

 

We assess identifiable intangible assets for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. We did not record any impairment of identifiable intangible assets for the three and six months ended June 30, 2017 or the three and six months ended June 30, 2016.

 

(f)  Property and Equipment

 

Property and equipment are carried at cost except for (i) certain acquired assets which are recorded at fair value on their respective acquisition dates and (ii) impaired assets which are recorded at fair value on the last impairment evaluation date for which an adjustment was required. Overhauls and major improvements that increase the value or extend the life of compression equipment are capitalized and depreciated over 3 to 5 years. Ordinary maintenance and repairs are charged to cost of operations, exclusive of depreciation and amortization. Depreciation is calculated using the straight-line method over the estimated useful lives of the assets as follows:

 

 

When property and equipment is retired or sold, its carrying value and the related accumulated depreciation are removed from our accounts and any associated gains or losses are recorded on our statements of operations in the period of sale or disposition.

 

See more information on property and equipment in Note 3 to our unaudited condensed consolidated financial statements.

 

(g)  Impairments of Long-Lived Assets

 

Long-lived assets with recorded values that are not expected to be recovered through future cash flows are written-down to estimated fair value. We test long-lived assets for impairment when events or circumstances indicate that the assets’ carrying value may not be recoverable or will no longer be utilized in the operating fleet. The most common circumstance requiring compression units to be tested for impairment is when idle units do not meet the performance characteristics of our active revenue generating horsepower.

 

During the three and six months ended June 30, 2017, we evaluated the future deployment of our idle fleet under current market conditions and determined to retire, sell or re-utilize key components of compression units with a total of 5,246 and 8,006 horsepower, respectively, which were previously used to provide compression services in our business. The cause of the impairment was due to the type of units, which were not marketable, and were subject to excessive maintenance costs. These compression units were written down to their respective estimated salvage value, if any.

 

During the three and six months ended June 30, 2016, we evaluated the future deployment of our idle fleet under then-current market conditions and determined to retire, sell or re-utilize key components of compression units with a total of approximately 1,700 horsepower, which were previously used to provide compression services in our business. The cause of the impairment was related to certain performance characteristics of the impaired equipment, such as excessive maintenance costs and the inability of the equipment to meet then-current emission standards without retrofitting. We determined that this equipment was unlikely to be accepted by customers under then-current market conditions.  These compression units were written down to their respective estimated salvage value, if any.

 

As a result of our decision to retire, sell or re-utilize key components of these compression units, we recorded $2.6 million and $3.7 million of impairment of long-lived assets in the three and six months ended June 30, 2017, respectively, and $0.7 million of impairment of long-lived assets in the three and six months ended June 30, 2016.

 

(h)  Fair Value Measurements

 

Accounting standards on fair value measurements establish a framework for measuring fair value and stipulate disclosures about fair value measurements. The standards apply to recurring and nonrecurring financial and non-financial assets and liabilities that require or permit fair value measurements. Among the required disclosures is the fair value hierarchy of inputs we use to value an asset or a liability. The three levels of the fair value hierarchy are described as follows:

 

Level 1 inputs are quoted prices (unadjusted) in active markets for identical assets or liabilities that we have the ability to access at the measurement date.

 

Level 2 inputs are those other than quoted prices included within Level 1 that are observable for the asset or liability, either directly or indirectly.

 

Level 3 inputs are unobservable inputs for the asset or liability.

 

Phantom unit awards granted to employees under the USA Compression Partners, LP 2013 Long-Term Incentive Plan (the “LTIP”) are accounted for as a liability, and such liability is re-measured on a quarterly basis. The liability is based on the publicly quoted price of our common units, which is considered a Level 1 input, and is recorded within the accrued liabilities caption on the Unaudited Condensed Consolidated Balance Sheets. 

 

Net liabilities measured at fair value on a recurring basis are summarized below (in thousands):

 

 

As of June 30, 2017 and December 31, 2016, our financial instruments consisted primarily of cash and cash equivalents, trade accounts receivable, trade accounts payable and long-term debt. The book values of cash and cash

equivalents, trade accounts receivable and trade accounts payable are representative of fair value due to their short-term maturities.  The carrying amount of long-term debt approximates fair value due to the floating interest rates associated with the debt. 

 

(i)  Operating Segment

 

We operate in a single business segment, the compression services business.

 

(j)  Pass Through Taxes

 

Sales taxes incurred on behalf of, and passed through to, customers are accounted for on a net basis.

 

(2)  Trade Accounts Receivable

 

Trade accounts receivable are recorded at the invoiced amount and do not bear interest.  The allowance for doubtful accounts, which was $0.6 million and $0.7 million at June 30, 2017 and December 31, 2016, respectively, is our best estimate of the amount of probable credit losses included in our existing accounts receivable. We determine the allowance based upon historical write-off experience and specific customer circumstances.  The determination of the allowance for doubtful accounts requires us to make estimates and judgments regarding our customers’ ability to pay amounts due.  On an ongoing basis, we conduct an evaluation of the financial strength of our customers based on payment history, the overall business climate in which our customers operate and specific identification of customer bad debt and make adjustments to the allowance as necessary. Our evaluation of our customers’ financial strength is based on the aging of their respective receivables balance, customer correspondence, financial information and third-party credit ratings. Our evaluation of the business climate in which our customers operate is based on a review of various publicly-available materials regarding our customers’ industries, including the solvency of various companies in the industry. During the six months ended June 30, 2017, we reduced our allowance for doubtful accounts by $0.1 million, and during the three and six months ended June 30, 2016, we reduced our allowance for doubtful accounts by $0.6 million and $1.4 million, respectively. Reductions for such periods were due primarily to collections on accounts that had previously been reserved.

 

(3)  Property and Equipment

 

Property and equipment consisted of the following (in thousands):

 

 

We recognized $23.6 million and $22.5 million of depreciation expense on property and equipment for the three months ended June 30, 2017 and 2016, respectively. We recognized $46.9 million and $43.7 million of depreciation expense on property and equipment for the six months ended June 30, 2017 and 2016, respectively.

 

As of June 30, 2017 and December 31, 2016, there was $7.2 million and $1.4 million, respectively, of property and equipment purchases in accounts payable and accrued liabilities.

 

During the six months ended June 30, 2017, we recognized a $0.2 million gain on the sale of a compression unit. During the three and six months ended June 30, 2016, we abandoned certain assets and incurred a $1.0 million loss. Each of these is reported within the Loss (gain) on disposition of assets caption in the Unaudited Condensed Consolidated Statements of Operations.

 

(4)  Installment Receivable

 

On June 30, 2014, we entered into a FMV Bargain Purchase Option Grant Agreement (the “BPO Capital Lease Transaction”) with a customer, pursuant to which we granted a bargain purchase option to the customer with respect to certain compressor packages leased to the customer.  The bargain purchase option provides the customer with an option to acquire the equipment at a value significantly less than the fair market value at the end of the lease term, which is 7 years.

 

On November 1, 2016, we entered into a Formula Price Purchase Agreement (the “FPP Capital Lease Transaction”) with a customer with respect to certain assets leased to the customer that the customer will purchase at the end of the lease term. The customer has the option to purchase these assets in April and October of each year with the final option occurring in May 2021.

 

Both capital leases were accounted for as sales type leases resulting in a current installment receivable included in other accounts receivable of $8.7 million and $8.9 million as of June 30, 2017 and December 31, 2016, respectively, and a long-term installment receivable of $12.4 million and $14.1 million as of such period ends, respectively.

 

Revenue and interest income related to both capital leases is recognized over the respective lease terms. We recognize maintenance revenue within Contract operations revenue and interest income within Interest expense, net on the Unaudited Condensed Consolidated Statements of Operations. For both of the three and six months ended June 30, 2017 and 2016, maintenance revenue related to the BPO Capital Lease Transaction was $0.3 million and $0.6 million, respectively. There is no maintenance revenue component to the FPP Capital Lease Transaction. Interest income related to both capital leases was $0.4 million in each of the three months ended June 30, 2017 and 2016, and $0.8 million and $0.7 million in the six months ended June 30, 2017 and 2016, respectively.

 

(5)  Accrued Liabilities

 

Accrued liabilities include accrued payroll and benefits and accrued property taxes.  We recognized $5.4 million and $6.9 million of accrued payroll and benefits as of June 30, 2017 and December 31, 2016, respectively. We recognized $5.2 million and $6.6 million of accrued property taxes as of June 30, 2017 and December 31, 2016, respectively.

 

(6)  Long-Term Debt

 

Our first lien long-term debt, of which there is no current portion, consisted of the following (in thousands):

 

 

In March 2016, we entered into a third amendment to our revolving credit facility, which amended the credit agreement to, among other things, (i) modify the leverage ratio covenant to be (A) 5.50 to 1.0 as of the end of the fiscal quarter ending June 30, 2017, (B) 5.25 to 1.0 as of the end of the respective fiscal quarters ending September 30, 2017 and December 31, 2017 and (C) 5.00 to 1.0 thereafter, and (ii) amend certain other provisions of the credit agreement, all as more fully set forth in the third amendment.

 

In connection with entering into the third amendment, we paid certain amendment fees to the lenders party thereto and paid a certain arrangement fee to the arranger of the third amendment in the amount of $2.0 million, collectively, during the six months ended June 30, 2016. These fees were capitalized to loan costs and will be amortized through January 2020. No such fees were paid during the three or six months ended June 30, 2017. 

 

As of June 30, 2017 we were in compliance with all of our covenants under our revolving credit facility.

 

As of June 30, 2017, we had outstanding borrowings under our revolving credit facility of $725.0 million, $317.8 million of borrowing base availability and, subject to compliance with the applicable financial covenants, available borrowing capacity of $82.0 million. Our interest rate in effect for all borrowings under our revolving credit facility as of June 30, 2017 and December 31, 2016 was 3.14% and 2.94%, respectively, with a weighted average interest rate of 3.03% and 2.47% during the three months ended June 30, 2017 and 2016, respectively, and 3.01% and 2.47% during the six months ended June 30, 2017 and 2016, respectively. There were no letters of credit issued as of June 30, 2017 or 2016.

 

In the event that any of the operating subsidiaries guarantees any series of the debt securities as described in our registration statements on Form S-3, such guarantees will be full and unconditional and made on a joint and several basis for the benefit of each holder and the Trustee.  However, such guarantees will be subject to release, subject to certain limitations, as follows (i) upon the sale, exchange or transfer, whether by way of a merger or otherwise, to any Person that is not our affiliate, of all of our direct or indirect limited partnership or other equity interest in such Subsidiary Guarantor; or (ii) upon our or USA Compression Finance Corp.’s (together, the “Issuers”) delivery of a written notice to the Trustee of the release or discharge of all guarantees by such Subsidiary Guarantor of any Debt of the Issuers other than obligations arising under the indenture governing such debt and any debt securities issued under such indenture, except a discharge or release by or as a result of payment under such guarantees.  Capitalized terms used but not defined in this paragraph are defined in the Form of Indenture filed as exhibit 4.1 to such registration statement.

 

Our operating subsidiaries and USA Compression Finance Corp. are our only existing subsidiaries. We have no assets or operations independent of our subsidiaries, and there are no significant restrictions upon our ability to obtain funds from our subsidiaries by dividend or loan. None of the assets of our subsidiaries represent restricted net assets pursuant to Rule 4-08(e)(3) of Regulation S-X under the Securities Act of 1933, as amended.

 

Our revolving credit facility matures in January 2020 and we expect to maintain this facility for the term.

 

(7)  Partners’ Capital

 

Common Units and General Partner Interest

 

As of June 30, 2017, we had 61,574,965 common units outstanding.  USA Compression Holdings held 24,513,199 common units as of June 30, 2017 and controlled our General Partner, which held an approximate 1.3% general partner interest (the “General Partner’s Interest”) and the incentive distribution rights (“IDRs”). See the Unaudited Condensed Consolidated Statement of Changes in Partners’ Capital.

 

Cash Distributions

 

We have declared quarterly distributions per unit to limited partner unitholders of record, including holders of common and phantom units, and distributions paid to the General Partner, including the General Partner’s Interest and IDRs, as follows (in millions, except distribution per unit):

 

 

Announced Quarterly Distribution

 

On July 20, 2017, we announced a cash distribution of $0.525 per unit on our common units.  The distribution will be paid on August 11, 2017 to unitholders of record as of the close of business on August 1, 2017. USA Compression Holdings, the owner of approximately 39.8% of our outstanding limited partner interests, has elected to reinvest 50% of this distribution with respect to its units pursuant to our distribution reinvestment plan (the “DRIP”).

 

Distribution Reinvestment Plan

 

During the six months ended June 30, 2017 and 2016, distributions of $10.7 million and $21.3 million, respectively, were reinvested under the DRIP resulting in the issuance of 0.6 million and 2.1 million common units, respectively.  Such distributions are treated as non-cash transactions in the accompanying Unaudited Condensed Consolidated Statements of Cash Flows.

 

Earnings Per Common and Subordinated Unit

 

The computations of earnings per common unit and subordinated unit are based on the weighted average number of common units and subordinated units, respectively, outstanding during the applicable period. The subordinated units and our General Partner’s Interest (including its IDRs) meet the definition of participating securities as defined by the Financial Accounting Standards Board’s (“FASB”) Accounting Standards Codification Topic 260 Earnings Per Share; therefore, we apply the two-class method in our computation of earnings per unit. Basic earnings per common and subordinated unit are determined by dividing net income allocated to the common and subordinated units, respectively, after deducting the amount allocated to our General Partner (including distributions to our General Partner on our General Partner’s Interest and its IDRs), by the weighted average number of outstanding common and subordinated units, respectively, during the period.  Net income is allocated to the common units, subordinated units and our General Partner’s Interest (including its IDRs) based on their respective shares of the distributed and undistributed earnings for the period. To the extent cash distributions exceed net income for the period, the excess distributions are allocated to all participating units outstanding based on their respective ownership percentages. Diluted earnings per unit are computed using the treasury stock method, which considers the potential issuance of limited partner units associated with our LTIP. Unvested phantom units are not included in basic earnings per unit, as they are not considered to be participating securities, but are included in the calculation of diluted earnings per unit. Incremental unvested phantom units outstanding represent the only difference between our basic and diluted weighted average common units outstanding during the three and six months ended June 30, 2017 and 2016.

 

Incentive Distribution Rights

 

Our General Partner holds all of our IDRs. The IDRs represent the right to receive an increasing percentage of our quarterly distributions of available cash from operating surplus after the minimum quarterly distribution and the target distribution levels have been achieved. 

 

The following table illustrates the percentage allocations of Available Cash from Operating Surplus between our unitholders and our General Partner based on the specified target distribution levels. The amounts set forth under “Marginal Percentage Interest in Distributions” are the percentage interests of our General Partner and our unitholders in any Available Cash from Operating Surplus we distribute up to and including the corresponding amount in the column “Total Quarterly Distribution Per Unit.” The percentage interests shown for our unitholders and our General Partner for the minimum quarterly distribution are also applicable to quarterly distribution amounts that are less than the minimum quarterly distribution. The percentage interests set forth below for our General Partner include its General Partner’s Interest, and assume our General Partner has contributed any additional capital necessary to maintain its General Partner’s Interest and our General Partner has not transferred our IDRs.

 

 

 

 

 

(8)  Transactions with Related Parties

 

John Chandler, who has served as a director of our General Partner since October 2013, has served as a director of one of our customers since October 2014. During the three months ended June 30, 2017 and 2016, we recognized $1.9 million and $2.2 million, respectively, and $3.8 million and $4.4 million during the six months ended June 30, 2017 and 2016, respectively, in revenue from compression services provided to this customer in the Unaudited Condensed Consolidated Statements of Operations. We recognized $0.7 million and $1.1 million in accounts receivable from this customer on the Unaudited Condensed Consolidated Balance Sheets as of June 30, 2017 and December 31, 2016, respectively.

 

We provide compression services to entities affiliated with Riverstone/Carlyle Global Energy and Power Fund IV, L.P. (“Riverstone”), which owns a majority of the membership interests in USA Compression Holdings. As of June 30, 2017, USA Compression Holdings owned and controlled our General Partner and owned 39.8% of our limited partner interests. During the three and six months ended June 30, 2017, we recognized $0.2 and  $0.4 million, respectively, in revenue from compression services from such affiliated entities in the Unaudited Condensed Consolidated Statements of Operations. We recognized no revenue from such controlled entities during the three and six months ended June 30, 2016.  We may provide compression services to additional entities affiliated with Riverstone in the future, and any significant transactions will be disclosed.

 

(9)  Commitments and Contingencies

 

(a)  Major Customers

 

We did not have revenue from any single customer representing 10% or more of total revenue for the three and six months ended June 30, 2017 or 2016.    

 

(b)  Litigation

 

From time to time, we and our subsidiaries may be involved in various claims and litigation arising in the ordinary course of business. In management’s opinion, the resolution of such matters is not expected to have a material adverse effect on our consolidated financial position, results of operations or cash flows.

 

(c)  Equipment Purchase Commitments

 

Our future capital commitments are comprised of binding commitments under purchase orders for new compression units and serialized parts ordered but not received. The commitments as of June 30, 2017 were $106.1 million, which are expected to be settled throughout 2017 and 2018.  Subsequent to June 30, 2017, we ordered an additional 75,000 horsepower for delivery during 2018 which will cost an additional $63.6 million.

 

(d)  Sales Tax Contingency

 

Our compliance with state and local sales tax regulations is subject to audit by various taxing authorities.  Certain taxing authorities have claimed that specific operational processes, which we and others in our industry regularly conduct, result in transactions that are subject to state sales taxes. We, and other entities in our industry, have disputed these claims based on existing tax statutes which provide for manufacturing exemptions on the transactions in question. We continue to work with the state taxing authority in providing them the documentation available to us to support the position we have taken with regard to the disputed transactions. We have recognized a liability of $0.1 million related to this issue; however, we believe it is reasonably possible that we could incur additional losses for this matter depending on whether the taxing authority accepts our documentation as sufficient to support our position that the disputed transactions are not taxable and the impact of any potential resulting litigation. Management estimates that the range of losses we could incur related to this matter is from $0.1 million to approximately $3.0 million. The upper end of this range assumes that we will be unable to apply the manufacturing exemption to any of the transactions in question, which management believes is remote.

 

(10)  Recent Accounting Pronouncements

 

In July 2015, the FASB agreed to defer by one year the mandatory effective date of the new revenue recognition standard to annual and interim periods in fiscal years beginning after December 15, 2017. We expect to elect the modified retrospective transition method for adoption to annual and interim periods beginning January 1, 2018 on contracts which are not completed on the transition date. We expect to identify similar performance obligations under the new accounting standard as compared with deliverables and separate units of account previously identified. As a result, we expect the timing of our revenue recognition will not be materially impacted under this new accounting standard. Further, we expect that the revenue amounts we historically reported will not materially change as we apply the modified retrospective provisions of this new standard. We do not expect significant changes to our current accounting policies and are in the process of developing pro-forma quantitative and qualitative disclosures to reflect the nature, timing and uncertainty of cash flows, changes in contract balances, and significant judgments related to our performance obligations. 

 

In February 2016, the FASB issued a new leasing standard that increases transparency and comparability among organizations by, among other things, requiring lessees to recognize lease assets and lease liabilities on the balance sheet and requiring both lessees and lessors to disclose expanded qualitative and quantitative information about leasing arrangements. Income recognition for lessors will remain substantially similar to current GAAP but with some changes to conform and align guidance with the new lessee guidance and other areas within GAAP, such as the new revenue recognition standard. The new leasing standard requires modified retrospective adoption, with elective reliefs, and becomes effective for public business entities for annual and interim periods in fiscal years beginning after December 15, 2018. We expect to adopt this new standard on January 1, 2019.  We are still in the process of evaluating the financial impact of adopting this standard on our consolidated financial statements.

 

 

 

ITEM 2.  Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

DISCLOSURE REGARDING FORWARD-LOOKING STATEMENTS

 

This report contains “forward-looking statements.” All statements other than statements of historical fact contained in this report are forward-looking statements, including, without limitation, statements regarding our plans, strategies, prospects and expectations concerning our business, results of operations and financial condition.  You can identify many of these statements by looking for words such as “believe,” “expect,” “intend,” “project,” “anticipate,” “estimate,” “continue” or similar words or the negative thereof.

 

Known material factors that could cause our actual results to differ from those in these forward-looking statements are described in Part II, Item 1A (“Risk Factors”) and elsewhere in this report. Important factors that could cause our actual results to differ materially from the expectations reflected in these forward-looking statements include, among other things:

 

 

 

 

 

 

 

 

 

 

 

All forward-looking statements included in this report are based on information available to us on the date of this report and speak only as of the date of this report.  Except as required by law, 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 foregoing cautionary statements.

 

Overview

 

We provide compression services in a number of shale plays throughout the U.S., including the Utica, Marcellus, Permian Basin, Delaware Basin, Eagle Ford, Mississippi Lime, Granite Wash, Woodford, Barnett, Haynesville, Niobrara and Fayetteville shales. The demand for our services is driven by the domestic production of natural gas and crude oil; as such, we have focused our activities in areas of attractive natural gas and crude oil production growth, which are generally found in these shale and unconventional resource plays. According to studies promulgated by the Energy Information Agency (“EIA”), the production and transportation volumes in these shale plays are expected to increase over the long term due to the comparably attractive economic returns versus returns achieved in many conventional basins. Furthermore, the changes in production volumes and pressures of shale plays over time require a wider range of compression services than in conventional basins. We believe we are well-positioned to meet these changing operating conditions due to the flexibility of our compression units. While our business focuses largely on compression services serving infrastructure installations, including centralized natural gas gathering systems and processing facilities, which utilize large horsepower compression units, typically in shale plays, we also provide compression services in more mature conventional basins, including gas lift applications on crude oil wells targeted by horizontal drilling techniques. Gas lift, a process by which natural gas is injected into the production tubing of an existing producing well, thus

reducing the hydrostatic pressure and allowing the oil to flow at a higher rate, and other artificial lift technologies are critical to the enhancement of oil production from horizontal wells operating in tight shale plays.

 

Operating Highlights

 

The following table summarizes certain horsepower and horsepower utilization percentages for the periods presented.

 

 

 

 

 

 

 

 

 

 

 

The 1.1% increase in fleet horsepower as of June 30, 2017 over the fleet horsepower as of June 30, 2016 was attributable to the compression units added to our fleet to meet the then expected incremental demand by new and current customers for our compression services. The 6.3% and 3.0% increases in average revenue generating horsepower during the three and six months ended June 30, 2017 over June 30, 2016, respectively, were primarily due to organic growth in our large horsepower fleet. The 3.7% and 4.2% decreases in average revenue per revenue generating horsepower per month for the three and six months ended June 30, 2017 over June 30, 2016, respectively, were primarily due to (1) reduced pricing in the small horsepower portion of our fleet in the current period and (2) an increase in the average horsepower per revenue generating compression unit in the current period, resulting from an increase in the number of our large horsepower compression units which generally generate lower average revenue per revenue generating horsepower than do small horsepower compression units. 

 

Average horsepower utilization increased to 91.2% during the three months ended June 30, 2017 compared to 86.1% during the three months ended June 30, 2016.  The 5.1% increase in average horsepower utilization is primarily attributable to the following changes as a percentage of total available horsepower: (1) a 9.1% increase in horsepower that is under contract but not yet generating revenue and (2) a 1.6% decrease in our average fleet of compression units returned to us not yet under contract, offset by (3) a 4.1% decrease in idle horsepower under repair, which is excluded from the average horsepower utilization calculation until such repair is complete.  We believe the increase in average horsepower utilization is the result of increased demand for our services commensurate with increased operating activity in the oil and gas industry. The above noted fluctuation in utilization components describes the change in both period end and average horsepower utilization between the six months ended June 30, 2017 and 2016.

 

Average horsepower utilization based on revenue generating horsepower and fleet horsepower increased to 84.3% during the three months ended June 30, 2017 compared to 80.4% during the three months ended June 30, 2016. The 3.9% increase is primarily attributable to an increase in total active horsepower as a result of the following changes as a percentage of total fleet horsepower: (1) a 4.0% decrease in idle horsepower under repair and (2) a 2.6% decrease in our average idle fleet composed of new compression units, offset by (3) a 2.8% increase in our average idle fleet from compression units returned to us. The overall decrease in idle horsepower is the result of increased demand for our services commensurate with increased operating activity in the oil and gas industry. These factors also describe the variances in both period end and average horsepower utilization based on revenue generating horsepower and fleet horsepower between the six months ended June 30, 2017 and 2016.

 

Financial Results of Operations

 

Three months ended June 30, 2017 compared to the three months ended June 30, 2016

 

The following table summarizes our results of operations for the periods presented (dollars in thousands):

 

 

 

Contract operations revenue.  During the three months ended June 30, 2017, we experienced a year-to-year increase in demand for our compression services driven by increased operating activity in natural gas and crude oil production, resulting in a $0.5 million increase in our contract operations revenue. Average revenue generating horsepower increased 6.3% during the three months ended June 30, 2017 over June 30, 2016 while average revenue per revenue generating