PROPERTIES
Our only cash generating assets are our indirect ownership interests in NuStar Energy. We have no independent operations.
RISK FACTORS
RISKS RELATED TO THE POTENTIAL MERGER
The market value of the stated consideration to our unitholders will be determined by the price of NuStar Energy’s common units, the value of which will decrease if the market value of NuStar Energy’s common units decreases, and our unitholders cannot be sure of the market value of NuStar Energy common units that will be issued.
Pursuant to the Merger Agreement, our unitholders will receive approximately 23.6 million NuStar Energy common units as a result of the Merger. The aggregate market value of NuStar Energy’s common units that our unitholders will receive in the Merger will fluctuate with any changes in the trading price of NuStar Energy’s common units. This means there is no “price protection” mechanism contained in the Merger Agreement that would adjust the number of NuStar Energy common units that our unitholders will receive based on any decreases in the trading price of NuStar Energy common units. If NuStar Energy’s common unit price decreases, the market value of the stated consideration received by our unitholders will also decrease. Consider the following example:
Example
: Pursuant to the Merger Agreement, our unitholders will receive 0.55 of a NuStar Energy common unit for each NuStar GP Holdings common unit, subject to receipt of cash in lieu of any fractional NuStar Energy common units. Based on the closing sales price of NuStar Energy common units on February 7, 2018 of $31.25 per unit, the market value of all NuStar Energy common units to be received by our unitholders would be approximately $737.50 million. If the trading price for NuStar Energy common units decreased 10% from $31.25 to $28.13 per unit, then the market value of all NuStar Energy common units to be received by our unitholders would be approximately $663.87 million. Accordingly, there is a risk that the premium that existed on February 7, 2018, the last trading day before the public announcement of the Merger, will not be realized by our unitholders at the time the Merger is completed. NuStar Energy common unit price changes may result from a variety of factors, including general market and economic conditions, changes in its business, operations and prospects, and regulatory considerations. Many of these factors are beyond NuStar Energy’s control.
The right of our unitholders to distributions will be changed following the Merger.
Under NuStar Energy’s existing partnership agreement, we are entitled, as the indirect owner of NuStar Energy’s general partner, to receive approximately 2% of all distributions made by NuStar Energy and increasing percentages, up to a maximum of 23%, of the amount of incremental cash distributed by NuStar Energy in respect of the NuStar Energy common units as certain target distribution levels are reached in excess of $0.60 per NuStar Energy common unit in any quarter. After the Merger, assuming the number of units outstanding as of January 31, 2018, the former unitholders of NuStar GP Holdings common units as a group would be entitled to receive approximately 22% of all distributions made by NuStar Energy. As a result of this change, the distributions received by the former unitholders of NuStar GP Holdings could be significantly different.
While the Merger Agreement is in effect, our opportunities to enter into different business combination transactions with other parties on more favorable terms may be limited, and we may be limited in our ability to pursue other attractive business opportunities.
While the Merger Agreement is in effect, we are prohibited from knowingly initiating, soliciting or encouraging the submission of any acquisition proposal or from participating in any discussions or negotiations regarding any acquisition proposal, subject to certain exceptions. As a result of these provisions in the Merger Agreement, our opportunities to enter into more favorable transactions may be limited. Likewise, if we were to sell directly to a third party, we might have received more value with
respect to the general partner interest in us and the incentive distribution rights in NuStar Energy based on the value of NuStar Energy’s business at such time.
Moreover, the Merger Agreement provides for the payment by NuStar GP Holdings of up to $13.7 million in termination fees under specified circumstances, which may discourage other parties from proposing alternative transactions that could be more favorable to our unitholders.
We have also agreed to refrain from taking certain actions with respect to our business and financial affairs pending the consummation of the Merger or termination of the Merger Agreement. These restrictions could be in effect for an extended period of time if the consummation of the Merger is delayed. These limitations do not preclude us from conducting our business in the ordinary or usual course or from acquiring assets or businesses so long as such activity does not have a “material adverse effect,” as such term is defined in the Merger Agreement, or exceed certain thresholds specifically provided in the Merger Agreement.
In addition to the economic costs associated with pursuing the Merger, we will continue to devote substantial time and other human resources to the proposed Merger, which could limit our ability to pursue other attractive business opportunities, including potential joint ventures, stand-alone projects and other transactions. If we are unable to pursue such other attractive business opportunities, then our growth prospects and long-term strategic position following the Merger could be adversely affected.
The Merger is subject to conditions and may not be consummated even if the required NuStar GP Holdings unitholder approvals are obtained.
The Merger is subject to the satisfaction or waiver of certain conditions, some of which are out of the control of NuStar GP Holdings and NuStar Energy, including approval of the Merger Agreement by NuStar GP Holdings unitholders. The Merger Agreement contains other conditions that, if not satisfied or waived, would result in the Merger not occurring, regardless of whether or not the NuStar GP Holdings unitholders have voted in favor of the Merger-related proposals presented to them. Satisfaction of some of these other conditions to the Merger is not entirely in the control of either NuStar GP Holdings or NuStar Energy. In addition, NuStar GP Holdings and NuStar Energy can agree not to consummate the Merger even if all unitholder approvals have been received. The closing conditions to the Merger may not be satisfied, and NuStar GP Holdings and NuStar Energy may choose not to, or may be unable to, waive an unsatisfied condition, which may cause the Merger not to occur.
The Merger Agreement contains provisions granting both NuStar Energy and NuStar GP Holdings the right to terminate the Merger Agreement for certain reasons, including, among others (1) by mutual consent of NuStar Energy and NuStar GP Holdings; (2) by either party if the Merger has not been consummated on or before August 8, 2018; (3) if certain changes in rules or regulations prohibit the consummation of the Merger; (4) if NuStar GP Holdings fails to obtain NuStar GP Holdings unitholder approval; or (5) if a breach of, or an inaccuracy in, the representations or warranties is not cured within thirty days. Furthermore, NuStar Energy may terminate the Merger Agreement in the event that, prior to NuStar GP Holdings unitholder approval, NuStar GP Holdings has intentionally and materially breached the non-solicitation covenants in the Merger Agreement or the NuStar GP Holdings board issues a change of recommendation pursuant to the terms of the Merger Agreement, and NuStar GP Holdings may terminate the Merger Agreement in order to accept a Superior Proposal (as defined in the Merger Agreement) so long as NuStar GP Holdings (1) has not intentionally and materially breached certain provisions of the Merger Agreement and (2) has paid NuStar Energy a termination fee.
Failure to complete the Merger or delays in completing the Merger could negatively impact our common unit price.
If the Merger is not completed for any reason, we may be subject to a number of material risks, including the following:
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the price of our common units may decline to the extent that the current market price of these securities reflects a market assumption that the Merger will be completed; and
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some costs relating to the Merger, such as certain investment banking fees and legal and accounting fees, must be paid even if the Merger is not completed.
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Additionally, on February 8, 2018, NuStar Energy announced that its management anticipates recommending to the board of directors of NuStar GP, LLC, and expects such board to adopt, a reset of NuStar Energy’s quarterly distribution per NuStar Energy common unit to $0.60 ($2.40 on an annualized basis), starting with the first-quarter distribution payable in May 2018. If the Merger is not completed, NuStar Energy’s reset of its quarterly distributions would result in a significant reduction in the amount of cash distributed by NuStar Energy per common unit, including, at a $0.60 quarterly distribution or below, the elimination of any distributions with respect to the incentive distribution rights to us, which could negatively impact our common unit price.
The costs of the Merger could adversely affect NuStar Energy’s operations and cash flows available for distribution to its unitholders.
The total costs of the Merger, which could be substantial, primarily consist of investment banking, legal counsel and accounting fees, financial printing and other related costs. These costs could adversely affect NuStar Energy’s operations and cash flows available for distributions to NuStar Energy’s unitholders.
If the Merger Agreement were terminated, we may be obligated to pay NuStar Energy for costs incurred related to the Merger. These costs could require us to seek loans or use our available cash that would have otherwise been available for distributions.
Upon termination of the Merger Agreement, and depending upon the circumstances leading to that termination, we could be responsible for reimbursing NuStar Energy for Merger-related expenses that NuStar Energy has paid.
If the Merger Agreement is terminated, the expense reimbursements required by us under the Merger Agreement may require us to seek loans or use cash received from our distributions from NuStar Energy to reimburse these expenses. In either case, reimbursement of these costs could reduce the cash we have available to make quarterly distributions.
RISKS INHERENT IN AN INVESTMENT IN US
Our only cash generating assets are our ownership interests in NuStar Energy. Our cash flows and ability to make distributions at current levels are, therefore, completely dependent upon the ability of NuStar Energy to make cash distributions at current levels to its partners, including us. If NuStar Energy does not make cash distributions at its current levels or reduces the level of cash distributions to its partners, we may not have sufficient cash to pay distributions at our current levels.
Our operating cash flows currently are completely dependent upon NuStar Energy making cash distributions at current levels to its partners, including us. The amount of cash that NuStar Energy can distribute to its partners each quarter principally depends upon the amount of cash it generates from its operations, which fluctuates from quarter to quarter based on, among other things:
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throughput volumes transported in its pipelines;
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storage contract renewals or throughput volumes in its terminals and storage facilities;
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tariff rates and fees it charges and the revenue it realizes for its services;
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demand for and supply of crude oil, refined products and anhydrous ammonia;
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the effect of worldwide energy conservation measures;
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its costs to comply with environmental, health, safety and security laws and regulations;
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domestic and foreign governmental laws, regulations, sanctions, embargoes and taxes;
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prevailing economic conditions; and
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the results of its marketing, trading and hedging activities, which fluctuate depending upon the relationship between refined product prices and prices of crude oil and other feedstocks.
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In addition, the amount of cash that NuStar Energy will have available for distribution depends on other factors, including:
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its debt service requirements and restrictions on distributions contained in its current or future debt agreements;
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the sources of cash used to fund its acquisitions;
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its capital expenditures;
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fluctuations in its working capital needs;
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its issuances of debt and equity securities and ability to access the capital markets; and
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adjustments in cash reserves made by the board of directors of NuStar GP, LLC, in its discretion.
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As discussed above, on February 8, 2018, NuStar Energy announced that its management anticipates recommending to the board of directors of NuStar GP, LLC, and expects such board to adopt, a reset of NuStar Energy’s quarterly distribution per NuStar Energy common unit to $0.60 ($2.40 on an annualized basis), starting with the first-quarter distribution payable in May 2018. In addition, it is possible that one or more of the factors listed above may serve to reduce NuStar Energy’s available cash to such an extent that it could be rendered unable to pay distributions at the current level or at all in a given quarter. Furthermore, cash distributions to NuStar Energy unitholders depend primarily upon cash flows, and not solely on profitability, which is affected by non-cash items, and NuStar Energy may make cash distributions during periods in which it records net losses and may not make cash distributions during periods in which it records net income.
In the future, we may not have sufficient cash to pay distributions at our current quarterly distribution level or to increase distributions.
Because our only source of operating cash flows consists of cash distributions from NuStar Energy, the amount of distributions we are able to make to our unitholders may fluctuate based on the level of distributions NuStar Energy makes to its unitholders, including us. We cannot assure you that NuStar Energy will continue to make quarterly distributions at its current level of $1.095 per common unit, or any other amount, or increase its quarterly distributions in the future. In addition, while we would expect to increase or decrease distributions to our unitholders if NuStar Energy increases or decreases distributions to us, the timing and amount of such changes in distributions, if any, will not necessarily be comparable to the timing and amount of any changes in distributions made by NuStar Energy to us. Our ability to distribute cash received from NuStar Energy to our unitholders is limited by a number of factors, including:
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interest expense and principal payments on any indebtedness we may incur;
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restrictions on distributions contained in any future debt agreements;
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our general and administrative expenses, including expenses we incur as a public company;
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expenses of our subsidiaries, including tax liabilities of our corporate subsidiaries;
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reserves necessary for us to make the necessary capital contributions to maintain our general partner interest in NuStar Energy, as required by the partnership agreement of NuStar Energy upon the issuance of certain additional partnership securities by NuStar Energy; and
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reserves our board of directors believes prudent for us to maintain for the proper conduct of our business or to provide for future distributions.
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We cannot guarantee that in the future we will be able to pay distributions or that any distributions NuStar Energy pays to us will allow us to pay distributions at or above our current quarterly distribution of $0.545 per unit. The actual amount of cash that is available for distribution to our unitholders will depend on numerous factors, many of which are beyond our control or the control of NuStar Energy. Therefore, a reduction in the amount of cash distributed by NuStar Energy per common unit or on the incentive distribution rights, or an increase in our expenses, may result in our not being able to pay our current quarterly distribution of $0.545 per unit. For instance, in connection with NuStar Energy’s acquisition of Navigator Energy Services, LLC in May 2017, NuStar Energy, with our consent, amended and restated its partnership agreement to waive up to an aggregate $22.0 million of the quarterly incentive distributions payable to us for any NuStar Energy common units issued from April 11, 2017 (other than those attributable to NuStar Energy common units issued under any equity compensation plan) for ten consecutive quarters, starting with the distributions for the second quarter of 2017 and, as described above, NuStar Energy has announced an anticipated reset of its quarterly distribution per NuStar Energy common unit to $0.60 per unit.
If the Merger is not consummated, NuStar Energy’s common unitholders, excluding the owner of NuStar Energy’s general partner, have the right to remove NuStar Energy’s general partner by a simple majority vote, which would cause us to divest our general partner interest and incentive distribution rights in NuStar Energy in exchange for cash or common units of NuStar Energy and cause us to lose our ability to manage NuStar Energy.
We currently manage NuStar Energy through Riverwalk Logistics, L.P., NuStar Energy’s general partner and our indirect, wholly owned subsidiary. NuStar Energy’s partnership agreement, however, gives common unitholders of NuStar Energy the right to remove the general partner of NuStar Energy upon the affirmative vote of holders of a majority of outstanding NuStar Energy common units, excluding the common units owned by us. As of December 31, 2017, we owned 10,214,626 common units representing limited partner interests in NuStar Energy, and the public unitholders owned the remaining 82,962,057 outstanding common units representing limited partner interests. If the Merger is not consummated, and if Riverwalk Logistics, L.P. were removed as the general partner of NuStar Energy, it would receive cash or common units in exchange for its general partner interest and its incentive distribution rights and would lose its ability to manage NuStar Energy. While the common units or cash that Riverwalk Logistics, L.P. would receive are intended under the terms of NuStar Energy’s partnership agreement to fully compensate it in the event it is removed as general partner, these common units or the investments made with the cash over time may not provide us with as much distributable cash, or be as valuable, as the general partner interest and incentive distribution rights had we retained them.
NuStar Energy’s general partner, with our consent, may limit or modify the incentive distributions we are entitled to receive in order to facilitate the growth strategy of NuStar Energy. Our board of directors can give this consent without a vote of our unitholders.
We indirectly own NuStar Energy’s general partner, which owns the incentive distribution rights in NuStar Energy that entitle us to receive increasing percentages, up to a maximum of 23%, of any cash distributed by NuStar Energy to common unitholders as it exceeds a distribution of $0.60 per NuStar Energy common unit in any quarter. A substantial portion of the cash flows we receive from NuStar Energy are provided by these incentive distributions. Our limited liability company agreement provides that our board of directors may consent to the elimination, reduction or modification of the incentive distribution rights without our unitholders’ approval if our board determines that the elimination, reduction or modification will not adversely affect our unitholders in any material respect. For example, in connection with NuStar Energy’s acquisition of
Navigator Energy Services, LLC in May 2017, NuStar Energy, with our consent, amended and restated its partnership agreement to waive up to an aggregate $22.0 million of the quarterly incentive distributions payable to us for any NuStar Energy common units issued from April 11, 2017 (other than those attributable to NuStar Energy common units issued under any equity compensation plan) for ten consecutive quarters, starting with the distributions for the second quarter of 2017.
Restrictions in our credit facility limit our ability to make distributions to our unitholders. Our credit facility matures in June 2018.
Our credit facility contains covenants limiting our ability to incur indebtedness, grant liens, engage in transactions with affiliates and make distributions to our unitholders. The credit facility also contains covenants requiring NuStar Energy to maintain certain financial ratios. Our and NuStar Energy’s ability to comply with any restrictions and covenants may be affected by events beyond our control, including prevailing economic, financial and industry conditions. If we or NuStar Energy are unable to comply with these restrictions and covenants, any indebtedness under our credit facility may become immediately due and payable, and our lenders’ commitment to make loans to us under our credit facility may terminate. We might not have, or be able to obtain, sufficient funds to make these accelerated payments.
Our payment of principal and interest on any future indebtedness will reduce our cash available for distribution on our units. Our credit facility limits our ability to pay distributions to our unitholders during an event of default or if an event of default would result from the distribution.
In addition, this and any future levels of indebtedness may:
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adversely affect our ability to obtain additional financing for future operations or capital needs;
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limit our ability to pursue acquisitions and other business opportunities; or
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make our results of operations more susceptible to adverse economic or operating conditions.
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Our revolving credit facility matures in June 2018. It is possible that our lenders may not agree to renew our credit facility or may only agree to renew it on substantially less favorable terms. If our credit facility is renewed on substantially less favorable terms, or if our credit facility is not renewed and we must enter into alternative financing arrangements, various limitations in these financing agreements may reduce our ability to incur additional indebtedness, to engage in some transactions or to capitalize on business opportunities. In the event we are unable to obtain adequate financing and NuStar Energy issues additional units, we may not be able to make contributions to NuStar Energy necessary to maintain our general partner interest.
Our ability to sell our ownership interests in NuStar Energy may be limited by securities laws restrictions and liquidity constraints.
All of the units of NuStar Energy that we own are unregistered, restricted securities within the meaning of Rule 144 under the Securities Act of 1933. Unless we exercise our registration rights with respect to these units, we are limited to selling into the market in any three-month period an amount of NuStar Energy common units that does not exceed the greater of 1% of the total number of common units outstanding or the average weekly reported trading volume of the common units for the four calendar weeks prior to the sale. We face contractual limitations on our ability to sell our general partner interest and incentive distribution rights, and the market for such interests is illiquid.
The market price of our units may be volatile, which could cause you to lose all or part of your investment.
The market price of our units could be subject to significant fluctuations due to a variety of factors outside of our control, and the equity markets in general are subject to volatility that may be unrelated to the operating performance of particular companies. These broad market fluctuations may adversely affect the trading price of our units. In addition, potential investors may be deterred from investing in our units for various reasons, including the very limited number of publicly traded entities whose assets consist almost exclusively of partnership interests in a publicly traded partnership. The lack of liquidity may also contribute to significant fluctuations in the market price of our units and limit the number of investors who are able to buy our units.
The market price of our units could be adversely affected by sales of substantial amounts of our units into public markets, including sales by our existing unitholders.
Sales by us or any of our existing unitholders, including William E. Greehey, Chairman of the Boards of Directors of NuStar GP Holdings and NuStar GP, LLC, of a substantial number of our units in the public markets, or the perception that such sales might occur, could have a material adverse effect on the price of our units or could impair our ability to obtain capital through an offering of equity securities. As of December 31, 2017, Mr. Greehey beneficially owned approximately 21% of our outstanding units.
Distributions on our incentive distribution rights in NuStar Energy are more uncertain than distributions on the common units we hold.
Our indirect ownership of the incentive distribution rights in NuStar Energy entitles us to receive our pro rata share of specified percentages of cash distributions on common units made by NuStar Energy with respect to any particular quarter only in the event that NuStar Energy distributes more than $0.60 per common unit for such quarter. As a result, the holders of NuStar Energy’s common units have a priority over the holders of NuStar Energy’s incentive distribution rights to the extent of cash distributions by NuStar Energy up to and including $0.60 per common unit for any quarter.
Our incentive distribution rights entitle us to receive increasing percentages, up to 23%, of all cash distributed by NuStar Energy on its common units. However, in connection with NuStar Energy’s acquisition of Navigator Energy Services, LLC in May 2017, NuStar Energy, with our consent, amended and restated its partnership agreement to waive up to an aggregate $22.0 million of the quarterly incentive distributions payable to us for any NuStar Energy common units issued from April 11, 2017 (other than those attributable to NuStar Energy common units issued under any equity compensation plan) for ten consecutive quarters, starting with the distributions for the second quarter of 2017. Because the incentive distribution rights with respect to all common units not temporarily subject to the aforementioned waiver currently participate at the maximum 23% target cash distribution level in all distributions made by NuStar Energy at or above the current distribution level with respect to its common units, future growth in distributions we receive from NuStar Energy will not result from an increase in the target cash distribution level associated with the incentive distribution rights.
Furthermore, a decrease in the amount of distributions by NuStar Energy to less than $0.66 per common unit per quarter would reduce our percentage of the incremental cash distributions above $0.60 per common unit per quarter from 23% to 8%. As a result, any such reduction in quarterly cash distributions from NuStar Energy on its common units would have the effect of disproportionately reducing the amount of all distributions that we receive from NuStar Energy based on our ownership interest in the incentive distribution rights in NuStar Energy as compared to cash distributions we receive from NuStar Energy on our general partner interest in NuStar Energy and our NuStar Energy common units.
If NuStar Energy’s general partner is not fully reimbursed or indemnified for obligations and liabilities it incurs in managing the business and affairs of NuStar Energy, it may not be able to satisfy its obligations and its cash flows will be reduced.
The general partner of NuStar Energy and its affiliates may make expenditures on behalf of NuStar Energy for which they will seek reimbursement from NuStar Energy. In addition, under Delaware law, the general partner, in its capacity as the general partner of NuStar Energy, has unlimited liability for the obligations of NuStar Energy, such as its debts and environmental liabilities, except for those contractual obligations of NuStar Energy that are expressly made without recourse to the general partner. To the extent Riverwalk Logistics, L.P. incurs obligations on behalf of NuStar Energy, it is entitled to be reimbursed or indemnified by NuStar Energy. If NuStar Energy does not reimburse or indemnify its general partner, Riverwalk Logistics, L.P. may be unable to satisfy these liabilities or obligations, which would reduce its cash flows. In turn, Riverwalk Logistics, L.P. would have less cash to distribute to us.
If distributions on our units are not paid with respect to any fiscal quarter, our unitholders will not be entitled to receive such payments in the future.
Our distributions to our unitholders are not cumulative. Consequently, if distributions on our units are not paid with respect to any fiscal quarter at the current distribution rate, our unitholders will not be entitled to receive such payments in the future.
Our cash distribution policy limits our growth because we do not retain earnings to reinvest in any acquisitions or growth capital expenditures, and NuStar Energy’s distribution policy may limit NuStar Energy’s growth.
Because we distribute all of our available cash, our growth may not be as fast as businesses that reinvest their available cash to expand ongoing operations. In fact, our growth currently is completely dependent upon NuStar Energy’s ability to increase its quarterly distributions because our only cash-generating assets are indirect ownership interests in NuStar Energy. If we issue additional units or incur debt to fund acquisitions and growth capital expenditures, the payment of distributions on those additional units or interest on that debt could increase the risk that we will be unable to maintain or increase our current per unit distribution level.
Consistent with the terms of its partnership agreement, NuStar Energy distributes to its common unitholders and its general partner its available cash each quarter. In determining the amount of cash available for distribution, NuStar Energy sets aside cash reserves, which it uses to fund its growth capital expenditures. Additionally, it historically has relied upon external financing sources, including commercial borrowings and other debt and equity issuances, to fund its acquisition capital expenditures. Accordingly, to the extent NuStar Energy does not have sufficient cash reserves or is unable to finance growth externally, its cash distribution policy will significantly impair its ability to grow. In addition, to the extent NuStar Energy issues additional units in connection with any acquisitions or growth capital expenditures, the payment of distributions on those
additional units may increase the risk that NuStar Energy will be unable to maintain or increase its per unit distribution level, which in turn may impact the available cash that we have to distribute to our unitholders. The incurrence of additional debt to finance its growth strategy would result in increased interest expense to NuStar Energy, which in turn may impact the available cash that we have to distribute to our unitholders.
If in the future we cease to manage NuStar Energy, we may be deemed to be an investment company under the Investment Company Act of 1940, which would cause us either to have to register as an investment company, obtain exemptive relief from the SEC or modify our organizational structure or our contract rights.
If we cease to manage NuStar Energy as a consequence of Riverwalk Logistics, L.P.’s removal or withdrawal as NuStar Energy’s general partner or otherwise, and are deemed to be an investment company under the Investment Company Act of 1940 because of our ownership of NuStar Energy partnership interests, we would either have to register as an investment company under the Investment Company Act, obtain exemptive relief from the SEC or modify our organizational structure or our contract rights to fall outside the definition of an investment company. Registering as an investment company could, among other things, materially limit our ability to engage in transactions with affiliates, including the sale and purchase of certain securities or other property to or from our affiliates and restrict our ability to borrow funds or engage in other transactions involving leverage.
An increase in interest rates may cause the market price of our units to decline.
As interest rates rise, the ability of investors to obtain higher risk-adjusted rates of return by purchasing government-backed debt securities may cause a corresponding decline in demand for riskier investments generally, including yield-based equity investments, such as limited liability company membership interests. Reduced demand for our units resulting from investors seeking other more favorable investment opportunities may cause the market price of our units to decline.
We may issue an unlimited number of additional securities without the consent of our unitholders, which will dilute each unitholder’s ownership interest in us and may increase the risk that we will be unable to maintain or increase our per unit distribution level.
At any time we may issue an unlimited number of additional securities without the approval of our unitholders on terms and conditions determined by our board of directors. The issuance by us of additional units or other equity securities of equal or senior rank will have the following effects:
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our unitholders’ proportionate ownership interest in us will decrease;
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the amount of cash available for distribution on each unit may decrease;
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the relative voting strength of each previously outstanding unit may be diminished;
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the ratio of taxable income to distributions may increase; and
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the market price of the units may decline.
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NuStar Energy may issue additional NuStar Energy units, which may increase the risk that NuStar Energy will not have sufficient available cash to maintain or increase its per unit cash distribution level and that we will have to make a capital contribution to NuStar Energy.
NuStar Energy may issue additional NuStar Energy units, including units that rank senior to the NuStar Energy common units, preferred units and incentive distribution rights as to quarterly cash distributions, on the terms and conditions established by its general partner. Additionally, we are required to make additional capital contributions to NuStar Energy upon certain issuances by NuStar Energy of additional units in order to maintain our general partner interest in NuStar Energy. Furthermore, to the extent NuStar Energy issues units that are senior to the NuStar Energy common units and the incentive distribution rights, such as the preferred units, their issuance will render more uncertain the payment of distributions on the common units and the incentive distribution rights. Neither the common units nor the incentive distribution rights are entitled to any arrearages from prior quarters; however, the NuStar Energy preferred units are cumulative and must be paid in full before distributions on the NuStar Energy common units and incentive distribution rights can be paid. The payment of distributions on any additional NuStar Energy units may increase the risk that NuStar Energy will be unable to maintain or increase its per unit cash distribution level and the requirement that we make capital contributions to NuStar Energy to maintain our general partner interest may impact the available cash that we have to distribute to our unitholders.
Anti-takeover provisions in our limited liability company agreement may make an acquisition of us complicated and the removal and replacement of our directors and executive officers difficult.
Our limited liability company agreement contains the following provisions that may delay or prevent a change in control. These provisions may also make it difficult for unitholders to remove and replace our board of directors and executive officers.
Section 203.
Our limited liability company agreement effectively adopts Section 203 of the Delaware General Corporation Law (DGCL). Section 203 of the DGCL, as it applies to us, prevents an interested unitholder, defined as a person who owns 15% or more of our outstanding units, from engaging in business combinations with us for three years following the time such person
becomes an interested unitholder. Section 203 broadly defines “business combination” to encompass a wide variety of transactions with or caused by an interested unitholder, including mergers, asset sales and other transactions in which the interested unitholder receives a benefit on other than a pro rata basis with other unitholders. This provision of our limited liability company agreement could have an anti-takeover effect with respect to transactions not approved in advance by our board of directors, including discouraging takeover attempts that might result in a premium over the market price for our units.
Limited Voting Rights.
Our limited liability company agreement provides that if any person or group other than our affiliates acquires beneficial ownership of 20% or more of any class of units, that person or group loses voting rights on all of its units. This loss of voting rights does not apply to any person or group that acquires all of its units from our affiliates or any transferees of that person or group approved by our board of directors or to any person or group who acquires the units with the prior approval of our board of directors.
Staggered Board.
Pursuant to our limited liability company agreement, our board is divided into three classes serving staggered three-year terms. This, when coupled with the provision of our limited liability company agreement authorizing only the board of directors to fill vacant or newly created directorships or increase the size of the board of directors and the provision providing that directors may only be removed at a meeting of unitholders and cannot be removed by written consent, may deter a unitholder from gaining control of our board of directors by removing incumbent directors or increasing the number of directorships and simultaneously filling the vacancies or newly created directorships with its own nominees.
These provisions may delay or prevent a third party from acquiring us and any such delay or prevention could cause the market price of our units to decline.
Unitholders may have liability to repay distributions.
Under certain circumstances, our unitholders may have to repay amounts wrongfully returned or distributed to them. Under Section 18-607 of the Delaware Limited Liability Company Act (the Delaware Act), we may not make a distribution to our unitholders if the distribution would cause our liabilities to exceed the fair value of our assets. Liabilities to members on account of their membership interests and liabilities that are nonrecourse to the limited liability company are not counted for purposes of determining whether a distribution is permitted.
Delaware law provides that, for a period of three years from the date of an impermissible distribution, members who received the distribution and who knew at the time of the distribution that it violated Delaware law will be liable to us for the repayment of the distribution amount. Likewise, upon the winding up of our limited liability company, in the event that (a) we do not distribute assets in the following order: (1) to creditors in satisfaction of their liabilities; (2) to members and former members in satisfaction of liabilities for distributions owed under our limited liability company agreement; (3) to members for the return of their contributions; and finally (4) to the members in the proportions in which the members share in distributions and (b) a member knows at the time that the distribution violated the Delaware Act, then such member will be liable to repay the distribution for a period of three years (subject to certain exceptions) from the impermissible distribution under Section 18-804 of the Delaware Act.
A purchaser of common units will be liable for the obligations of the transferor to make contributions to us that are known to such purchaser at the time it became a member and for unknown obligations, if the liabilities could be determined from our limited liability company agreement.
NuStar Energy’s unitholders may not have limited liability if a court finds that limited partner actions constitute control of NuStar Energy’s business and may, therefore, become liable for certain of NuStar Energy’s obligations, which may have an impact on the cash we have available to make distributions.
Under Delaware law, unitholders could be held liable for NuStar Energy’s obligations to the same extent as a general partner if a court determined that actions of a unitholder constituted participation in the “control” of NuStar Energy’s business.
Under Delaware law, the general partner generally has unlimited liability for the obligations of the partnership, such as its debts and environmental liabilities, except for those contractual obligations of the partnership that are expressly made without recourse to the general partner. In addition, Section 17-607 of the Delaware Revised Uniform Limited Partnership Act provides that, under some circumstances, a limited partner may be liable to NuStar Energy for the amount of a distribution for a period of three years from the date of the distribution.
If we fail to maintain an effective system of internal controls, we may not be able to report our financial results accurately or prevent fraud, which could have a material and adverse impact on our financial condition, results of operations, and cash flows and our ability to make distributions to our unitholders.
We are required to disclose material changes made in our internal controls over financial reporting on a quarterly basis and we are required to assess the effectiveness of our controls annually. Effective internal controls are necessary for us to provide reliable and timely financial reports. We may be unable to maintain effective controls over our financial processes and reporting in the future or to comply with our obligations under Section 404 of the Sarbanes-Oxley Act of 2002. For example, Section 404 requires us, among other things, annually to review and report on the effectiveness of our internal control over financial reporting. Any failure to maintain effective internal controls or to improve our internal controls could harm our operating results or cause us to fail to meet our reporting obligations.
Given the difficulties inherent in the design and operation of internal controls over financial reporting, we can provide no assurance as to our, or our independent registered public accounting firm’s, future conclusions about the effectiveness of our internal controls, and we may incur significant costs in our efforts to comply with Section 404. Any failure to maintain effective internal controls over financial reporting will subject us to regulatory scrutiny and a loss of confidence in our reported financial information, which could have a material adverse effect on our financial condition, results of operations and cash flows and our ability to make distributions to our unitholders.
RISKS RELATED TO CONFLICTS OF INTEREST
Although we manage NuStar Energy through our indirect ownership of its general partner, NuStar Energy’s general partner owes fiduciary duties to NuStar Energy and NuStar Energy’s unitholders, which may conflict with our interests.
Conflicts of interest exist and may arise in the future as a result of the relationships between us and our affiliates, including NuStar Energy’s general partner, on the one hand, and NuStar Energy and its limited partners, on the other hand. The directors and officers of NuStar GP, LLC have fiduciary duties to manage NuStar Energy’s business in a manner beneficial to us, its owner. At the same time, NuStar GP, LLC has a fiduciary duty to manage NuStar Energy in a manner beneficial to NuStar Energy and its unitholders. The board of directors of NuStar GP, LLC or its conflicts committee will resolve any such conflict and have broad latitude to consider the interests of all parties to the conflict. Our independent directors are not the same as the independent directors who serve on the conflicts committee of NuStar GP, LLC. The resolution of these conflicts may not always be in our best interest or that of our unitholders. For example, conflicts of interest may arise in the following situations:
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the allocation of shared overhead expenses to NuStar Energy and us;
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the determination and timing of the amount of cash to be distributed to NuStar Energy’s partners and the amount of cash to be reserved for the future conduct of NuStar Energy’s business;
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any proposal by NuStar GP, LLC to eliminate, reduce or modify the incentive distribution rights;
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the decision whether NuStar Energy should make acquisitions, and on what terms;
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the determination of whether NuStar Energy should use cash on hand, borrow or issue equity to raise cash to finance acquisitions or expansion capital projects, repay indebtedness, meet working capital needs, pay distributions to NuStar Energy’s partners or otherwise; and
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any decision we make in the future to engage in business activities independent of, or in competition with, NuStar Energy.
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Our limited liability company agreement limits and modifies our directors’ fiduciary duties and the fiduciary duties of our officers and directors may conflict with those of the general partner of NuStar Energy’s general partner’s officers and directors.
Our limited liability company agreement contains provisions that modify and limit our directors’ fiduciary duties to our unitholders. For example, our limited liability company agreement provides that:
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our directors will not have any liability to us or our unitholders for decisions made in good faith, meaning they believed the decision was in our best interests; and
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our board of directors will not be liable for monetary damages to us or our unitholders for any acts or omissions unless there has been a final and non-appealable judgment entered by a court of competent jurisdiction determining that the board of directors acted in bad faith or engaged in fraud or willful misconduct or, in the case of a criminal matter, acted with knowledge that such conduct was unlawful.
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Our directors and officers have fiduciary duties to manage our business in a manner beneficial to us and our unitholders. Simultaneously, two of our directors and all of our officers are also directors and officers of NuStar GP, LLC, the general partner of NuStar Energy’s general partner, and have fiduciary duties to manage the business of NuStar Energy in a manner beneficial to NuStar Energy and its unitholders. For instance, William E. Greehey is our Chairman of the Board as well as the Chairman of the Board of NuStar GP, LLC. Consequently, these directors and officers may encounter situations in which their fiduciary obligations to NuStar Energy, on the one hand, and us, on the other hand, are in conflict. The resolution of these
conflicts may not always be in our best interest or that of our unitholders. Our executive officers, who are also the executive officers of NuStar GP, LLC, will allocate, in their reasonable and sole discretion, their time spent on our behalf and on behalf of NuStar Energy. These allocations may not be the result of arms-length negotiations between NuStar GP, LLC and us and, therefore, the allocations may not exactly match the actual time and overhead spent.
RISKS RELATED TO NUSTAR ENERGY’S BUSINESS
NuStar Energy
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s future financial and operating flexibility may be adversely affected by its significant leverage, any future downgrades of its credit ratings, restrictions in its debt agreements and conditions in the financial markets.
As of December 31, 2017, NuStar Energy’s consolidated debt was $3.6 billion, and it has the ability to incur more debt. NuStar Energy also may be required to post cash collateral under certain of its hedging arrangements, which it expects to fund with borrowings under its revolving credit agreement. In addition to any potential direct financial impact of NuStar Energy’s debt, it is possible that any material increase to NuStar Energy’s debt or other negative financial factors may be viewed negatively by credit rating agencies, which could result in ratings downgrades and increased costs for NuStar Energy to access the capital markets. In November 2017, S&P Global Ratings downgraded NuStar Energy’s credit rating from BB+ Stable to BB Negative outlook, which raised the interest rate on its 7.65% Senior Notes Due 2018 (the 2018 Senior Notes). In February 2018, Moody’s Investors Service, Inc. downgraded NuStar Energy’s credit rating from Ba1 to Ba2, which increased the interest rate on both the 2018 Senior Notes and amounts borrowed under its credit facilities. Any additional downgrades in NuStar Energy’s credit ratings in the future could result in further increases to the interest rate on its 2018 Senior Notes, significantly increase its capital costs, reduce its liquidity and adversely affect its ability to raise capital in the future.
NuStar Energy’s revolving credit agreement contains restrictive covenants, such as limitations on indebtedness, liens, mergers, asset transfers and certain investing activities. In addition, the revolving credit agreement generally requires NuStar Energy to maintain, as of the end of each rolling period (consisting of any period of four consecutive fiscal quarters) a consolidated debt coverage ratio (consolidated debt to consolidated EBITDA, each as defined in the revolving credit agreement) not to exceed 5.00-to-1.00, except in specific circumstances, including acquisitions by NuStar Energy for aggregate net consideration of at least $50 million, when NuStar Energy is permitted to maintain a consolidated debt coverage ratio of up to 5.50-to-1.00 for two rolling periods, as provided in its revolving credit agreement. NuStar Energy’s maximum permitted ratio was raised to 5.50-to-1.00 through March 31, 2018 due to its acquisition of Navigator Energy Services, LLC. NuStar Energy also amended its revolving credit agreement in November 2017 to exclude NuStar Logistics, L.P.’s 7.625% Fixed-to-Floating Rate Subordinated Notes Due 2043 (the Junior Sub Notes) from its calculation of consolidated debt through December 31, 2018. Failure by NuStar Energy to comply with any of the revolving credit agreement restrictive covenants or its required coverage ratio will result in a default and could result in acceleration of its obligations under the revolving credit agreement and possibly other indebtedness. Future financing agreements NuStar Energy may enter into may contain similar or more restrictive covenants than those it has negotiated for its current financing agreements.
NuStar Energy’s accounts receivable securitization program contains various customary affirmative and negative covenants and default, indemnification and termination provisions. In addition, the related receivables financing agreement pursuant to which NuStar Energy is initial servicer and performance guarantor provides for acceleration of amounts owed upon the occurrence of certain specified events.
NuStar Energy’s debt service obligations, restrictive covenants and maturities resulting from its leverage may adversely affect NuStar Energy’s ability to finance future operations, pursue acquisitions, fund its capital needs and pay cash distributions to its unitholders, including us. In addition, this leverage may make NuStar Energy’s results of operations more susceptible to adverse economic or operating conditions, limit its flexibility in planning for, or reacting to, changes in its business and industry and place it at a competitive disadvantage compared to competitors with proportionately less indebtedness. For example, during an event of default under certain of NuStar Energy’s debt agreements, NuStar Energy would be prohibited from making cash distributions to its unitholders, including us. Also, if any of NuStar Energy’s lenders files for bankruptcy or experiences severe financial hardship, they may not honor their pro rata share of NuStar Energy’s borrowing requests under the revolving credit agreement, which may significantly reduce its available borrowing capacity and, as a result, materially adversely affect NuStar Energy’s financial condition and ability to pay distributions to its unitholders, including us.
NuStar Energy’s ability to service its debt will depend on, among other things, its future financial and operating performance, which will be affected by prevailing economic conditions and financial, business, regulatory and other factors, some of which are beyond its control. If NuStar Energy’s operating results are not sufficient to service its indebtedness, it may be required to reduce its distributions, reduce or delay its business activities, investments or capital expenditures, sell assets or issue equity, which could materially and adversely affect its financial condition, results of operations, cash flows and ability to make distributions to its unitholders, as well as the trading price of its units.
Depending on conditions in the credit and capital markets at a given time, NuStar Energy may not be able to obtain funding on acceptable terms or at all, which may hinder or prevent it from meeting its future capital needs.
From time to time, the domestic and global financial markets and economic conditions are volatile and disrupted by a variety of factors, including low consumer confidence, high unemployment, geoeconomic and geopolitical issues, weak economic conditions and uncertainty in the market. In addition, there are fewer investors and lenders for debt and equity capital market issuances by master limited partnerships, such as NuStar Energy, than there are for corporate issuances. As a result, NuStar Energy’s cost of raising capital in the debt and equity capital markets could increase substantially, possibly at a time when the availability of funds from these markets has diminished. The cost of obtaining funds from the credit markets may increase as interest rates increase and tighter lending standards are enacted, and lenders may refuse to refinance existing debt on similar terms or at all and reduce, or in some cases cease to provide, funding to borrowers.
In addition, lending counterparties under NuStar Energy’s existing revolving credit facility and other debt instruments may be unwilling or unable to meet their funding obligations. Due to these factors, NuStar Energy cannot be certain that new financing or funding will be available on acceptable terms. If funding is not available when needed, or is available only on unfavorable terms, NuStar Energy may be unable to execute its growth strategy, complete future acquisitions or construction projects or take advantage of other business opportunities, any of which could have a material adverse effect on its revenues and results of operations.
A significant portion of NuStar Energy’s debt matures over the next five years and will need to be repaid or refinanced, and changes to the debt and equity markets could limit its refinancing options.
A significant portion of NuStar Energy’s debt is set to mature within the next five years, including its revolving credit facility. NuStar Energy may not be able to refinance its maturing debt on commercially reasonable terms, or at all, depending on numerous factors, including its financial condition and prospects at the time and the then-current state of the banking and capital markets in the United States.
Increases in interest rates could adversely affect NuStar Energy’s business and the trading price of NuStar Energy’s units.
NuStar Energy has significant exposure to increases in interest rates through variable rate provisions in certain of its debt instruments. As of December 31, 2017, NuStar Energy had approximately $3.6 billion of consolidated debt, of which $2.3 billion was at fixed interest rates and $1.3 billion was at variable interest rates. Also, in January 2018 the interest rates on NuStar Energy’s Junior Sub Notes shifted from a fixed rate to a floating annual rate equal to the sum of the three-month LIBOR rate for the related quarterly interest period, plus 6.734%. Additionally, at December 31, 2017, NuStar Energy had $600.0 million aggregate notional amount of interest rate swap arrangements, which may expose it to risk of financial loss. Prior ratings downgrades on NuStar Energy’s existing indebtedness caused interest rates under its revolving credit agreement and its 2018 Senior Notes to increase, and any future downgrades may further increase the interest rate on its 2018 Senior Notes. NuStar Energy’s results of operations, cash flows and financial position could be materially adversely affected by significant changes in interest rates. In addition, NuStar Energy historically has funded its strategic capital expenditures and acquisitions from external sources, primarily borrowings under its revolving credit agreement or funds raised through debt or equity offerings. An increase in interest rates may also have a negative impact on NuStar Energy’s ability to access the capital markets at economically attractive rates.
Furthermore, the market price of master limited partnership units such as NuStar Energy’s, like other yield-oriented securities, may be affected by, among other factors, implied distribution yield. The distribution yield is often used by investors to compare and rank yield-oriented securities for investment decision-making purposes. Therefore, increases or decreases in interest rates may affect whether or not certain investors decide to invest in master limited partnership units, including NuStar Energy’s, and a rising interest rate environment could have an adverse impact on its unit price and impair its ability to issue additional equity or incur debt to fund growth or for other purposes, including distributions.
Continued low crude oil prices could have an adverse impact on NuStar Energy’s results of operations, cash flows and ability to make distributions to its unitholders, including us.
Since late 2014, the price of crude oil has been depressed, which has caused most crude oil producers to reduce their capital spending and drilling activity and narrow their focus to assets in the most cost-advantaged regions. On the other hand, refiners have benefited from lower crude prices, to the extent that lower feedstock price has been coupled with higher demand for certain refined products in some regional markets. While only a portion of NuStar Energy’s total business is directly affected by the price of crude, continued low crude oil prices and related overall economic downturn could have a negative impact on its cash flows and results of operations.
An extended period of reduced demand for or supply of crude oil and refined products could affect NuStar Energy’s results of operations and ability to make distributions to its unitholders, including us.
Although NuStar Energy enters into throughput and deficiency agreements to protect against near-term fluctuations whenever possible, its business is ultimately dependent upon the long-term demand for and supply of the crude oil and refined products it transports in its pipelines and stores in its terminals. Any sustained decrease in demand for refined products in the markets NuStar Energy’s pipelines and terminals serve that extends beyond the expiration of its existing throughput and deficiency agreements could result in a significant reduction in throughputs in its pipelines and storage in its terminals, which would reduce its cash flows and impair its ability to make distributions to its unitholders, including us. Factors that tend to decrease market demand include:
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a recession or other adverse economic condition that results in lower spending by consumers on gasoline, diesel and travel;
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higher fuel taxes or other governmental or regulatory actions that increase, directly or indirectly, the cost of gasoline;
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an increase in automotive engine fuel economy, whether as a result of a shift by consumers to more fuel-efficient vehicles or technological advances by manufacturers;
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new regulations or court decisions requiring the phase out or reduced use of gasoline-fueled vehicles;
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the increased use of alternative fuel sources;
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an increase in the market price of crude oil that leads to higher refined product prices, which may reduce demand for refined products and drive demand for alternative products. Market prices for crude oil and refined products, including fuel oil, are subject to wide fluctuation in response to changes in global and regional supply that are beyond NuStar Energy’s control, and increases in the price of crude oil may result in a lower demand for refined products that NuStar Energy transports, stores and markets, including fuel oil; and
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a decrease in corn acres planted for ethanol, which may reduce demand for anhydrous ammonia.
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Similarly, any sustained decrease in the supply of crude oil and refined products in markets NuStar Energy serves could result in a significant reduction in throughputs in its pipelines and storage in its terminals, which would reduce its cash flows and undermine its ability to make distributions to its unitholders, including us. Factors that tend to decrease supply and, by extension, utilization of NuStar Energy’s pipelines and terminals include:
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prolonged periods of low prices for crude oil and refined products, which could lead to a decrease in exploration and development activity and reduced production in markets served by NuStar Energy’s pipelines and storage terminals;
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a lack of drilling services or equipment available to accommodate production needs;
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changes in laws, regulations, sanctions or taxation that directly or indirectly delay supply or production or increase the cost of production of refined products; and
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macroeconomic forces affecting, or actions taken by, foreign oil and gas producing nations that impact supply of and prices for crude oil and refined products.
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NuStar Energy’s inability to develop and execute growth projects and acquire new assets could limit its ability to maintain and grow quarterly distributions to its unitholders, including us.
NuStar Energy’s ability to maintain and grow its distributions to unitholders, including us, depends on the growth of NuStar Energy’s existing businesses and strategic acquisitions. Decisions regarding new growth projects rely on numerous estimates, including, among other factors, predictions of future demand for NuStar Energy’s services, future supply shifts, crude oil production estimates, commodity price environments, economic conditions, both domestic and foreign, and potential changes in the financial condition of NuStar Energy’s customers. NuStar Energy’s predictions of such factors could cause it to forego certain investments and to lose opportunities to competitors who make investments based on different predictions. If NuStar Energy is unable to acquire new assets, due either to high prices or a lack of attractive synergistic targets, its future growth will be limited. In addition, NuStar Energy’s future growth will be limited if it is unable to develop additional expansion projects, implement business development opportunities and finance such activities on economically acceptable terms, which could adversely impact its results of operations and cash flows and, accordingly, result in reduced distributions to unitholders, including us, over time.
Failure to complete capital projects as planned could adversely affect NuStar Energy’s financial condition, results of operations and cash flows.
Delays or cost increases related to capital spending programs involving construction of new facilities (or improvements and repairs to NuStar Energy’s existing facilities) could adversely affect NuStar Energy’s ability to achieve forecasted operating results. Although NuStar Energy evaluates and monitors each capital spending project and tries to anticipate difficulties that may arise, such delays or cost increases may arise as a result of factors that are beyond its control, including:
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non-performance or delay by, or disputes with, counterparties, vendors, suppliers, contractors or subcontractors involved with a project;
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denial or delay in issuing requisite regulatory approvals and/or permits;
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protests and other activist interference with planned or in-process projects;
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unplanned increases in the cost of construction materials or labor;
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disruptions in transportation of modular components and/or construction materials;
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severe adverse weather conditions, natural disasters or other events (such as equipment malfunctions, explosions, fires or spills) affecting NuStar Energy’s facilities, or those of vendors and suppliers;
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shortages of sufficiently skilled labor, or labor disagreements resulting in unplanned work stoppages; or
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market-related increases in a project’s debt or equity financing costs.
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NuStar Energy will incur financing costs during the planning and construction phases of its projects; however, the operating cash flows it expects these projects to generate will not materialize until sometime after the projects are completed, if at all. Additionally, NuStar Energy’s forecasted operating results from capital spending projects are based upon its projections of future market fundamentals that are not within its control, including changes in general economic conditions, the supply and demand of crude oil and refined products, availability to its customers of attractively priced alternative solutions for storage, transportation or supplies of crude oil and refined products and overall customer demand.
If NuStar Energy is unable to retain or replace current customers and existing contracts to maintain utilization of its pipeline and storage assets at current or more favorable rates, NuStar Energy’s revenue and cash flows could be reduced to levels that could adversely affect its ability to make quarterly distributions to its unitholders, including us.
NuStar Energy’s revenue and cash flows are generated primarily from its customers’ payments of fees under throughput contracts and storage agreements. Failure by NuStar Energy to renew or enter into new contracts or its storage customers’ material reduction of their utilization under existing contracts could result from many factors, including:
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continued low crude oil prices;
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a material decrease in the supply or price of crude oil;
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a material decrease in demand for refined products in the markets served by NuStar Energy’s pipelines and terminals;
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political, social or economic instability in another country impacting a customer based there;
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competition for customers from companies with comparable assets and capabilities;
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scheduled turnarounds or unscheduled maintenance at refineries NuStar Energy serves;
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operational problems or catastrophic events affecting NuStar Energy’s assets or a refinery it serves;
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environmental proceedings or other litigation that compel the cessation of all or a portion of the operations at NuStar Energy’s assets or a refinery it serves;
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increasingly stringent environmental, health, safety and security regulations;
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a decision by NuStar Energy’s current customers to redirect refined products transported in NuStar Energy’s pipelines to markets not served by NuStar Energy’s pipelines or to transport crude oil or refined products by means other than NuStar Energy’s pipelines; or
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a decision by NuStar Energy’s current customers to sell one or more of the refineries NuStar Energy serves to a purchaser that elects not to use NuStar Energy’s pipelines and terminals.
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Competing midstream service providers, including certain major energy and chemical companies, possess, or have greater financial resources to acquire, assets better suited to meet customer demand, which could undermine NuStar Energy’s ability to obtain and retain customers or reduce utilization of its assets, which could reduce NuStar Energy’s revenues and cash flows, thereby reducing its ability to make its quarterly distributions to unitholders, including us.
NuStar Energy’s competitors include major energy and chemical companies, some of which have greater financial resources, more pipelines or storage terminals, greater capacity pipelines or storage terminals and greater access to supply than NuStar Energy does. Certain of its competitors also may have advantages in competing for acquisitions or other new business opportunities because of their financial resources and synergies in operations. As a consequence of increased competition in the industry, some of NuStar Energy’s customers may be reluctant to renew or enter into long-term contracts or contracts that provide for minimum throughput amounts in the future. NuStar Energy’s inability to renew or replace current contracts as they expire, to enter into contracts for newly acquired, constructed or expanded assets and to respond appropriately to changing market conditions could have a negative effect on NuStar Energy’s revenue, cash flows and ability to make quarterly distributions to its unitholders, including us.
NuStar Energy’s operations are subject to operational hazards and interruptions, and NuStar Energy cannot insure against and/or predict all potential losses and liabilities that might result therefrom.
NuStar Energy’s operations and those of its customers and suppliers are subject to operational hazards and unforeseen interruptions such as natural disasters, adverse weather conditions (such as hurricanes, tornadoes, storms and floods), accidents, fires, explosions, hazardous materials releases, mechanical failures and other events beyond its control. In addition, many scientists hypothesize that global climatic changes are occurring that are likely to cause an increase in hurricanes and other
severe weather conditions. These events might result in a loss of life or equipment, injury or extensive property damage, as well as an interruption in NuStar Energy’s operations or those of its customers or suppliers. In the event any of NuStar Energy’s facilities, or those of its customers or suppliers, suffer significant damage or are forced to shut down for a significant period of time, it may have a material adverse effect on NuStar Energy’s earnings, its other results of operations and its financial condition as a whole.
As a result of market conditions, premiums and deductibles for certain of NuStar Energy’s insurance policies have increased substantially and could escalate further; therefore, NuStar Energy may not be able to maintain or obtain insurance of the type and amount it desires at reasonable rates. Certain insurance coverage could become subject to broad exclusions, become unavailable altogether or become available only for reduced amounts of coverage and at higher rates. For example, NuStar Energy’s insurance carriers require broad exclusions for losses due to terrorist acts. If NuStar Energy were to incur a significant liability for which it is not fully insured, such a liability could have a material adverse effect on NuStar Energy’s financial position and its ability to make distributions to its unitholders, including us, and to meet its debt service requirements.
NuStar Energy could be subject to damages or lose customers due to failure to maintain certain quality specifications or other claims related to the operation of its assets and the services it provides to its customers.
Certain of the products NuStar Energy stores and transports are produced to precise customer specifications. If NuStar Energy fails to maintain the quality and purity of the products it receives and/or a product fails to perform in a manner consistent with the quality specifications required by the customer, the customer could seek replacement of the product or damages for costs incurred as a result of the product failing to perform as guaranteed. NuStar Energy also could face other claims by its customers if its assets do not operate as expected by its customers or its services otherwise do not meet its customers’ expectations. A successful claim or series of claims against NuStar Energy could result in unforeseen expenditures and a loss of one or more customers.
NuStar Energy is exposed to counterparty credit risk. Nonpayment and nonperformance by NuStar Energy’s customers, vendors or derivative counterparties could reduce its revenues, increase its expenses and otherwise have a negative impact on its ability to conduct its business, operating results, cash flows and ability to make distributions to its unitholders, including us.
Weak economic conditions and widespread financial stress could reduce the liquidity of NuStar Energy’s customers, vendors or counterparties, making it more difficult for them to meet their obligations to NuStar Energy. NuStar Energy is therefore subject to risks of loss resulting from nonpayment or nonperformance by its customers to whom it extends credit. Severe financial problems encountered by NuStar Energy’s customers could limit its ability to collect amounts owed to it, or to enforce the performance of obligations owed to it under contractual arrangements. For example, a substantial portion of NuStar Energy’s St. Eustatius facility revenue derives from its storage of petroleum products exported from Venezuela on behalf of Petróleos de Venezuela, S.A. (PDVSA), a state-owned Venezuelan oil company. Significant political, social and economic instability in Venezuela, including constraints on foreign currency transactions by the Venezuelan government, has caused PDVSA to utilize NuStar Energy’s assets significantly less than it forecasted and late-pay invoices from time to time. NuStar Energy’s involvement with products exported from Venezuela also exposes it to the risk of trade restrictions and economic embargoes imposed by the United States and other countries.
In addition, nonperformance by vendors who have committed to provide NuStar Energy with critical products or services could raise its costs or interfere with its ability to successfully conduct its business. Furthermore, nonpayment by the counterparties to any of NuStar Energy’s outstanding derivatives could expose it to additional interest rate or commodity price risk. While NuStar Energy attempts to mitigate its risk through warehouseman’s liens and other security protections, any substantial increase in the nonpayment and nonperformance by its customers, vendors or counterparties could have a material adverse effect on its results of operations, cash flows and ability to make distributions to unitholders, including us.
Cybersecurity breaches and other disruptions could compromise NuStar Energy’s information and operations, and expose it to liability, which would cause its business and reputation to suffer.
NuStar Energy relies on its information technology infrastructure to process, transmit and store electronic information, including information it uses to safely operate its assets. In recent years, there has been a rise in the number of cyberattacks on other companies’ network and information systems by both state-sponsored and criminal organizations, and as a result, the risks associated with such an event continue to increase. A significant failure, compromise, breach or interruption in NuStar Energy’s systems could result in a disruption of its operations, customer dissatisfaction, damage to its reputation, a loss of customers or revenues and potential regulatory fines. If any such failure, interruption or similar event results in improper disclosure of information maintained in NuStar Energy’s information systems and networks or those of its vendors, including personnel, customer and vendor information, it could also be subject to liability under relevant contractual obligations and laws and regulations protecting personal data and privacy. NuStar Energy’s financial results could also be adversely affected if
operational systems are breached or an employee causes its operational systems to fail, either as a result of inadvertent error or by deliberately tampering with or manipulating its operational systems.
Although NuStar Energy believes that it has robust information security procedures and other safeguards in place, as cyberthreats continue to evolve, it may be required to expend additional resources to continue to enhance its information security measures and/or to investigate and remediate information security vulnerabilities.
Acquisitions and expansions, if any, may increase substantially the level of NuStar Energy’s indebtedness and contingent liabilities or otherwise change its capital structure, and NuStar Energy may be unable to integrate acquisitions and expansions effectively into its existing operations.
From time to time, NuStar Energy evaluates and acquires assets and businesses that it believes complement or diversify its existing assets and operations. Acquisitions may require NuStar Energy to raise a substantial amount of equity or incur a substantial amount of indebtedness. If NuStar Energy consummates any future material acquisitions, its capitalization and results of operations may change significantly, and unitholders will not have the opportunity to evaluate the economic, financial and other relevant information that NuStar Energy will consider in connection with any future acquisitions.
Part of NuStar Energy’s overall business strategy includes acquiring additional assets that complement NuStar Energy’s existing asset base and distribution capabilities or provide entry into new markets. NuStar Energy may not be able to identify suitable acquisitions, or it may not be able to purchase or finance any acquisitions on terms that it finds acceptable. Additionally, NuStar Energy competes against other companies for acquisitions, and NuStar Energy may not be successful in the acquisition of any assets or businesses appropriate for its growth strategy.
Even if NuStar Energy does consummate acquisitions that it believes will increase distributable cash flow, these acquisitions may nevertheless result in a decrease in distributable cash flow. Any acquisition involves potential risks, including, among other things:
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NuStar Energy may not be able to obtain the cost savings and financial improvements it anticipates or acquired assets may not perform as NuStar Energy expects;
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NuStar Energy may not be able to successfully integrate the assets, management teams or employees of the businesses it acquires with its assets and management team, or such integration may be significantly delayed;
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NuStar Energy may fail or be unable to discover some of the liabilities of businesses that it acquires, including liabilities resulting from a prior owner’s noncompliance with applicable federal, state or local laws;
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NuStar Energy may have assumed prior known or unknown liabilities for which it may not be indemnified or have adequate insurance;
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acquisitions may divert the attention of NuStar Energy’s senior management from focusing on its core business;
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NuStar Energy may experience a decrease in its liquidity by using a significant portion of its available cash or borrowing capacity to finance acquisitions; and
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NuStar Energy may face the risk that its existing financial controls, information systems, management resources and human resources will need to grow to support future growth.
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NuStar Energy operates a global business that exposes it to additional risk.
NuStar Energy operates a global business. A significant portion of its revenues come from its business outside of the United States, and its operations are subject to various risks unique to each country that could have a material adverse effect on its business, results of operations and financial condition. With respect to any particular country, these risks may include political and economic instability, including: civil unrest, war and other armed conflict; inflation; and currency fluctuations, devaluation and conversion restrictions. NuStar Energy is also exposed to the risk of governmental actions that may: limit or disrupt markets for its operations, restrict payments to it or limit the movement of funds; impose sanctions on its ability to conduct business with certain customers or persons; or result in the deprivation of contract rights. Its operations outside the United States may also be affected by changes in trade protection laws, policies and measures, and other regulatory requirements affecting trade and investment, including the Foreign Corrupt Practices Act, the United Kingdom Bribery Act and other foreign laws prohibiting corrupt payments, as well as import and export regulations. Additionally, negotiations are ongoing regarding the United Kingdom’s exit from the European Union, and any future effects from this are currently unknown.
NuStar Energy also has assets in, or does business with customers based in, certain emerging markets, and the developing nature of these markets presents a number of risks. In addition, due to the unsettled political conditions in many oil-producing countries, NuStar Energy’s operations may be subject to the adverse consequences of war, civil unrest, strikes, currency controls and governmental actions. Deterioration of social, political, labor or economic conditions, including the increasing threat of terrorist organizations and drug cartels, in a country or region in which NuStar Energy does business, or affecting a customer with whom NuStar Energy does business, as well as difficulties in staffing and managing foreign operations, may adversely affect its operations or financial results. For example, PDVSA, a state-owned oil company in Venezuela, is a
significant customer at NuStar Energy’s terminal facility in St. Eustatius, and recent political, social and economic instability in Venezuela seems to have had a negative impact on both PDVSA’s utilization of NuStar Energy’s facility and its ability to timely pay amounts invoiced.
NuStar Energy is subject to laws and sanctions implemented by the United States and foreign jurisdictions where it does business that may restrict the type of business it is permitted to conduct with certain entities, including PDVSA, restrict its activities in certain countries, or even restrict the services it may provide with respect to crude oil or other products produced in certain countries. In 2017, the United States and the European Union imposed sanctions relating to Venezuela and PDVSA. While these sanctions do not prohibit NuStar Energy from continuing to perform under its existing contracts with PDVSA, the sanctions may increase the likelihood that PDVSA will be unable to perform its obligations to NuStar Energy. In addition, in the event additional sanctions are imposed in the future relating to Venezuela or PDVSA, such future sanctions may result in further deterioration of PDVSA’s ability to perform its obligations to NuStar Energy and could prevent it from continuing to serve PDVSA in St. Eustatius.
NuStar Energy does not own all of the land on which its pipelines and facilities have been constructed, and NuStar Energy is therefore subject to the possibility of increased costs or the inability to retain necessary land use.
NuStar Energy obtains the rights to construct and operate its pipelines, storage terminals and other facilities on land owned by third parties and governmental agencies. Many of these rights-of-way or other property rights are perpetual in duration, but others are for a specific period of time. In addition, some of NuStar Energy’s facilities are located on leased premises. Its loss of property rights, through its inability to renew right-of-way contracts or leases or otherwise, could adversely affect its operations and cash flows available for distribution to unitholders, including us.
In addition, the construction of additions to NuStar Energy’s existing assets may require it to obtain new rights-of-way or property rights prior to construction. NuStar Energy may be unable to obtain such rights-of-way or other property rights to connect new supplies to its existing pipelines, storage terminals or other facilities or to capitalize on other attractive expansion opportunities. Additionally, it may become more expensive for NuStar Energy to obtain new rights-of-way or other property rights or to renew existing rights-of-way or property rights. If the cost of obtaining new or renewing existing rights-of-way or other property rights increases, it may adversely affect NuStar Energy’s operations and cash flows available for distribution to unitholders, including us.
NuStar Energy may be unable to obtain or renew permits necessary for its operations, which could inhibit its ability to do business.
NuStar Energy’s facilities operate under a number of federal, state and local permits, licenses and approvals with terms and conditions containing a significant number of prescriptive limits and performance standards in order to operate. These limits and standards require a significant amount of monitoring, recordkeeping and reporting in order to demonstrate compliance with the underlying permit, license or approval. Noncompliance or incomplete documentation of NuStar Energy’s compliance status may result in the imposition of fines, penalties and injunctive relief. In addition, public protest and responsive government intervention have recently made it more difficult for some energy companies to acquire the permits required to complete planned infrastructure projects. A decision by a government agency to deny or delay issuing a new or renewed permit, license or approval, or to revoke or substantially modify an existing permit, license or approval, could have a material adverse effect on NuStar Energy’s ability to continue operations and on its financial condition, results of operations, cash flows and ability to make distributions to its unitholders, including us.
NuStar Energy may have liabilities from its assets that preexist NuStar Energy’s acquisition of those assets, but that may not be covered by indemnification rights NuStar Energy may have against the sellers of the assets.
In some cases, NuStar Energy may have indemnified the previous owners and operators of acquired assets. Some of NuStar Energy’s assets have been used for many years to transport and store crude oil and refined products, and releases may have occurred in the past that could require costly future remediation. If a significant release or event occurred in the past, the liability for which was not retained by the seller, or for which indemnification from the seller is not available, it could adversely affect NuStar Energy’s financial position and results of operations. Conversely, if future releases or other liabilities arise from assets NuStar Energy has sold, NuStar Energy could incur costs related to those liabilities if the buyer possesses valid indemnification rights against it with respect to those assets.
Climate change legislation and other regulatory initiatives may decrease demand for the products NuStar Energy stores, transports and sells and increase NuStar Energy’s operating costs.
In response to scientific studies asserting that emissions of certain “greenhouse gases” such as carbon dioxide and methane may be contributing to warming of the Earth’s atmosphere, the U.S. Congress, European Union and other political bodies have considered legislation or regulation to reduce emissions of greenhouse gases. Passage of climate change or fuels legislation or other regulatory initiatives in fuel efficiency, fuel additives, renewable fuels and other areas in which NuStar Energy conducts
business, could result in changes to the demand for the products NuStar Energy stores, transports and sells, and could increase the costs of NuStar Energy’s operations, including costs to operate and maintain its facilities, install new emission controls on its facilities, acquire allowances to authorize its greenhouse gas or other emissions, pay any taxes related to its greenhouse gas or other emissions or administer and manage emissions programs. In addition, certain of NuStar Energy’s blending operations can result in requirements to purchase renewable energy credits. Even though NuStar Energy attempts to mitigate such lost revenues or increased costs through the contracts it signs with its customers, NuStar Energy may be unable to recover those revenues or mitigate the increased costs, and any such recovery may depend on events beyond its control, including the outcome of future rate proceedings before the Federal Energy Regulatory Commission (the FERC), the Surface Transportation Board (STB) or other regulators and the provisions of any final legislation or regulations. Reductions in NuStar Energy’s revenues or increases in its expenses as a result of climate change legislation or other regulatory initiatives could have adverse effects on NuStar Energy’s business, financial position, results of operations and prospects.
NuStar Energy’s operations are subject to federal, state and local laws and regulations, in the U.S. and in the other countries in which it operates, relating to environmental, health, safety and security that could require NuStar Energy to make substantial expenditures.
NuStar Energy’s operations are subject to increasingly stringent federal, state and local environmental, health, safety and security laws and regulations. Transporting, storing and distributing hazardous materials, including petroleum products, entails the risk that these products may be released into the environment, potentially causing substantial expenditures for a response action, significant government penalties, liability to government agencies including for damages to natural resources, personal injury or property damages to private parties and significant business interruption. Further, certain of NuStar Energy’s pipeline facilities may be subject to the pipeline integrity and safety regulations of various federal and state regulatory agencies. In recent years, increased regulatory focus on pipeline integrity and safety has resulted in various proposed or adopted regulations. The implementation of these regulations, and the adoption of future regulations, could require NuStar Energy to make additional capital expenditures, including to install new or modified safety measures, or to conduct new or more extensive maintenance programs.
Current and future legislative action and regulatory initiatives could also result in changes to operating permits, material changes in operations, increased capital expenditures and operating costs, increased costs of the goods NuStar Energy transports and decreased demand for products it handles that cannot be assessed with certainty at this time. NuStar Energy may be required to make expenditures to modify operations or install pollution control equipment or release prevention and containment systems that could materially and adversely affect its business, financial condition, results of operations and liquidity if these expenditures, as with all costs, are not ultimately reflected in the tariffs and other fees it receives for its services.
NuStar Energy owns or leases a number of properties that were used to transport, store or distribute products for many years before NuStar Energy acquired them; therefore, such properties were operated by third parties whose handling, disposal or release of products and wastes was not under NuStar Energy’s control. Environmental laws and regulations could impose obligations to conduct assessment or remediation efforts at NuStar Energy’s facilities, third-party sites where it takes wastes for disposal, or where wastes have migrated. Environmental laws and regulations also may impose joint and several liabilities on NuStar Energy for the conduct of third parties or for actions that complied with applicable requirements when taken, regardless of negligence or fault.
If NuStar Energy were to incur a significant liability pursuant to environmental, health, safety or security laws or regulations, such a liability could have a material adverse effect on its financial position and its ability to make distributions to its unitholders, including us, and its ability to meet its debt service requirements.
NuStar Energy’s interstate common carrier pipelines are subject to regulation by the FERC.
The FERC regulates the tariff rates and terms and conditions of service for interstate oil movements on NuStar Energy’s common carrier pipelines. FERC regulations require that these rates must be just and reasonable and that the pipeline not engage in undue discrimination or undue preference with respect to any shipper. Under the Interstate Commerce Act, the FERC or shippers may challenge NuStar Energy’s pipeline tariff filings, including rates and terms and conditions of service. Further, other than for rates set under market-based rate authority, if a new rate is challenged by protest and investigated by the FERC, the FERC may suspend collection of such new rate for up to seven months. If such new rate is found to be unjust and unreasonable, the FERC may order refunds of amounts collected in excess of amounts generated by the just and reasonable rate determined by the FERC. A successful rate challenge could result in a common carrier paying refunds together with interest for the period that the rate was in effect. In addition, shippers may challenge by complaint tariff rates and terms and conditions of service even after the rates and terms and conditions of service are in effect. If the FERC, in response to such a complaint or on its own initiative, initiates an investigation of rates that are already in effect, the FERC may order a carrier to change its rates prospectively. If existing rates are challenged and are determined by the FERC to be in excess of a just and reasonable level,
any complaining shipper may obtain reparations for damages sustained during the two years prior to the date the shipper filed a complaint.
NuStar Energy is able to use various FERC-authorized rate change methodologies for its interstate pipelines, including indexed rates, cost-of-service rates, market-based rates and settlement rates. Typically, NuStar Energy adjusts its rates annually in accordance with FERC indexing methodology, which currently allows a pipeline to change its rates within prescribed ceiling levels that are tied to an inflation index. For the five-year period beginning July 1, 2011, the index was measured by the year-over-year change in the Bureau of Labor’s producer price index for finished goods, plus 2.65%. For the five-year period beginning July 1, 2016, the current index is measured by the year-over-year change in the Bureau of Labor’s producer price index for finished goods, plus 1.23%. Further, some of NuStar Energy’s newer projects that involved an open season include negotiated indexation rate caps.
In October 2016, the FERC initiated an Advance Notice of Proposed Rulemaking (ANOPR) to determine whether to require oil pipeline companies to file cost and revenue data for each of the company’s pipeline systems, with the definition of such systems also part of the ANOPR. Among other things, the ANOPR also proposed that index rate adjustments be capped or prohibited under certain circumstances and that ceiling rates be capped under certain circumstances. These methodologies, if adopted, could result in changes in NuStar Energy’s revenue that do not fully reflect changes in costs it incurs to operate and maintain its pipelines. For example, NuStar Energy’s costs could increase more quickly or by a greater amount than the negotiated or, if adopted, FERC-mandated indexation rate cap.
The reporting of system-based cost and revenue data, if adopted as a result of the ANOPR, could lead to an increase in rate litigation at the FERC. Currently, shippers may protest rate increases made within the ceiling levels, but such protests must show that the portion of the rate increase resulting from application of the index is substantially in excess of the pipeline’s change in costs from the previous year. However, if the index results in a negative adjustment, NuStar Energy is required to reduce any rates that exceed the new maximum allowable rate. In addition, changes in the index might not be large enough to fully reflect actual increases in NuStar Energy’s costs. If the FERC’s rate-making methodologies change, any such change or new methodologies could result in rates that generate lower revenues and cash flow and could adversely affect NuStar Energy’s ability to make distributions to its unitholders, including us, and to meet its debt service requirements. Additionally, because competition constrains NuStar Energy’s rates in various markets, NuStar Energy may from time to time be forced to reduce some of its rates to remain competitive.
Changes to FERC rate-making principles or pronouncements could have an adverse impact on NuStar Energy’s ability to recover the full cost of operating its pipeline facilities and its ability to make distributions to its unitholders, including us.
In May 2005, the FERC issued a statement of general policy stating it will permit pipelines to include in their costs of service a tax allowance to reflect actual or potential tax liability on their public utility income attributable to all partnership or limited liability company interests, if the ultimate owner of the interest has an actual or potential income tax liability on such income. Whether a pipeline’s owners have such actual or potential income tax liability will be reviewed by the FERC on a case-by-case basis. Although this policy is generally favorable for pipelines that are organized as pass-through entities, it still entails rate risk due to the case-by-case review requirement. This tax allowance policy and the FERC’s application of that policy were appealed to the D.C. Circuit, and, on May 29, 2007, the D.C. Circuit issued an opinion upholding the FERC’s tax allowance policy.
In two proceedings involving SFPP, L.P., a refined products pipeline system, shippers again challenged the FERC’s income tax allowance policy, alleging that it is unlawful for a pipeline organized as a tax-pass-through entity to be afforded an income tax allowance and that the income tax allowance is unnecessary because an allowance for income taxes for such pipelines is recovered indirectly through the rate of return on equity. The FERC rejected these shipper arguments in multiple orders. Petitions for review of the FERC’s rulings on the income tax allowance were filed with the D.C. Circuit.
On July 1, 2016, the D.C. Circuit issued an opinion granting the shippers’ petition for review of the FERC’s rulings on the income tax allowance, finding that the FERC had failed to demonstrate that there is no double recovery of taxes for partnerships that receive an income tax allowance in addition to the return they receive through the rate of return on equity. On this basis, the D.C. Circuit remanded the issue to the FERC, which established a pending industrywide Notice of Inquiry regarding this issue. Certain participants in the Notice of Inquiry made filings claiming that pipeline rates should be reduced based on anticipated income tax reductions related to the Tax Cuts and Jobs Act. Because the extent to which an interstate oil pipeline organized as a partnership is entitled to an income tax allowance is subject to a case-by-case review at the FERC and is a matter that remains under litigation and FERC review, the level of income tax allowance to which NuStar Energy would ultimately be entitled is not certain. The manner in which the FERC’s income tax allowance policy is applied to pipelines owned by publicly traded partnerships could limit NuStar Energy’s ability to include a full income tax allowance in its cost of service.
The rates that NuStar Energy may charge on its interstate ammonia pipeline are subject to regulation by the STB.
NuStar Energy’s ammonia pipeline is subject to regulation under the Interstate Commerce Act by the STB, which is part of the DOT. Under that regulation NuStar Energy’s ammonia pipeline’s rates, rules and practices related to the interstate transportation of anhydrous ammonia must be reasonable and, in providing interstate transportation, NuStar Energy’s ammonia pipeline may not subject a shipper to unreasonable discrimination.
Increases in natural gas and power prices could adversely affect NuStar Energy’s operating expenses and its ability to make distributions to its unitholders, including us.
Power costs constitute a significant portion of NuStar Energy’s operating expenses. For the year ended December 31, 2017, NuStar Energy’s power costs equaled approximately $46.0 million, or 10.2% of NuStar Energy’s operating expenses for the year. NuStar Energy uses mainly electric power at its pipeline pump stations and terminals, and such electric power is furnished by various utility companies that primarily use natural gas to generate electricity. Accordingly, NuStar Energy’s power costs typically fluctuate with natural gas prices, and increases in natural gas prices may cause NuStar Energy’s power costs to increase further. If natural gas prices increase, NuStar Energy’s cash flows may be adversely affected, which could adversely affect NuStar Energy’s ability to make distributions to its unitholders, including us.
Terrorist attacks and the threat of future attacks worldwide, as well as continued hostilities in the Middle East or other sustained military campaigns, may adversely impact NuStar Energy’s results of operations.
The United States Department of Homeland Security has identified pipelines and other energy infrastructure assets as ones that might be specific targets of terrorist organizations. These potential targets might include NuStar Energy’s pipeline systems, storage facilities or operating systems and may affect its ability to operate or control its pipeline and storage assets. Increased security measures taken by NuStar Energy as a precaution against possible terrorist attacks have resulted in increased costs to its business. Uncertainty surrounding continued hostilities in the Middle East or other sustained military campaigns may affect NuStar Energy’s operations in unpredictable ways, including disruptions of crude oil supplies and markets for refined products, instability in the financial markets that could restrict NuStar Energy’s ability to raise capital and the possibility that infrastructure facilities could be direct targets of, or indirect casualties of, an attack.
Hedging transactions may limit NuStar Energy’s potential gains or result in significant financial losses.
While intended to reduce the effects of volatile commodity prices, hedging transactions, depending on the hedging instrument used, may limit NuStar Energy’s potential gains if petroleum product prices were to rise substantially over the price established by the hedge. In addition, such transactions may expose NuStar Energy to the risk of financial loss in certain circumstances, including instances in which there is a change in the expected differential between the underlying price in the hedging agreement and the actual prices received.
The accounting standards regarding hedge accounting are complex and, even when NuStar Energy engages in hedging transactions that are effective economically, these transactions may not be considered effective for accounting purposes. Accordingly, NuStar Energy’s financial statements will reflect increased volatility due to these hedges, even when there is no underlying economic impact at that point. It is not possible for NuStar Energy to engage in a hedging transaction that completely mitigates its exposure to commodity prices, and NuStar Energy’s financial statements may reflect a gain or loss arising from an exposure to commodity prices for which NuStar Energy is unable to enter into an effective hedge.
NuStar Energy’s purchase and sale of crude oil and petroleum products may expose NuStar Energy to trading losses and hedging losses, and non-compliance with NuStar Energy’s related risk management policies could result in significant financial losses.
Although NuStar Energy’s marketing and trading of crude oil and petroleum products represents a small percentage of its overall business, these activities expose NuStar Energy to some commodity price volatility risk for the purchase and sale of crude oil and petroleum products, including distillates and fuel oil. NuStar Energy attempts to mitigate this volatility risk through hedging, but it is still exposed to basis risk and may be required to post cash collateral under its hedging arrangements. NuStar Energy also may be exposed to inventory and financial liquidity risk due to the inability to trade certain products or rising costs of carrying some inventories. Further, NuStar Energy’s marketing and trading activities, including any hedging activities, may cause volatility in NuStar Energy’s earnings. In addition, NuStar Energy will be exposed to credit risk in the event of non-performance by counterparties.
NuStar Energy’s risk management policies may not eliminate all price risk since open trading positions will expose it to price volatility, and there is a risk that NuStar Energy’s risk management policies will not be complied with. Although NuStar Energy has designed procedures to anticipate and detect non-compliance, there are no assurances these steps will detect and prevent all violations of NuStar Energy’s trading policies and procedures, particularly if deception and other intentional misconduct are involved.
As a result of the risks described above, the activities associated with NuStar Energy’s marketing and trading business may expose NuStar Energy to volatility in earnings and financial losses, which may adversely affect its financial condition and ability to make its quarterly distributions to its unitholders, including us.
TAX RISKS TO OUR UNITHOLDERS
If we or NuStar Energy were treated as a corporation for federal or state income tax purposes or we or NuStar Energy were otherwise subject to a material amount of entity-level taxation, then our cash available for distribution to our unitholders would be substantially reduced.
The anticipated after-tax benefit of an investment in our units depends largely on our being treated as a partnership for federal income tax purposes. We have not requested, and do not plan to request, a ruling from the Internal Revenue Service (the IRS) on this matter.
The value of our investment in NuStar Energy depends largely on NuStar Energy being treated as a partnership for federal income tax purposes.
Despite the fact that we are a limited liability company and NuStar Energy is a limited partnership under Delaware law, we would each be treated as a corporation for federal income tax purposes unless each of us satisfies a “qualifying income” requirement. Based upon our current operations, we believe we and NuStar Energy each satisfy the qualifying income requirement. Failing to meet the qualifying income requirement or a change in current law could cause us or NuStar Energy to be treated as a corporation for federal income tax purposes or otherwise subject us or NuStar Energy to taxation as an entity.
If we were treated as a corporation for federal income tax purposes, we would pay federal income tax on our taxable income at the corporate tax rate and would likely pay state and local income tax at varying rates. Distributions to unitholders who are treated as holders of corporate stock would generally be taxed again as corporate dividends (to the extent of our current and accumulated earnings and profits), and no income, gains, losses, deductions or credits would flow through to unitholders. If NuStar Energy were treated as a corporation for federal income tax purposes, it would pay federal income tax on its taxable income at the corporate tax rate. Distributions to us would generally be taxed again as corporate distributions, and no income, gains, losses, deductions or credits would flow through to us. Because a tax would be imposed upon us or NuStar Energy as a corporation, our distributable cash flow would be substantially reduced.
Moreover, changes in current state law may subject us or NuStar Energy to entity-level taxation by individual states. Because of widespread state budget deficits and other reasons, several states are evaluating ways to subject entities treated as partnerships to entity-level taxation through the imposition of state income, franchise and other forms of taxation. Imposition of any such taxes or an increase in the existing tax rates would substantially reduce the cash available for distribution to unitholders. Therefore, if we or NuStar Energy were treated as a corporation for federal income tax purposes or otherwise subjected to a material amount of entity-level taxation, there would be a material reduction in the anticipated cash flow and after-tax return to our unitholders, likely causing a substantial reduction in the value of our common units.
The tax treatment of publicly traded entities treated as partnerships for federal income tax purposes, or an investment in our or NuStar Energy units, could be subject to potential legislative, judicial or administrative changes or differing interpretations, possibly applied on a retroactive basis.
The present U.S. federal income tax treatment of publicly traded entities treated as partnerships for federal income tax purposes, including us or NuStar Energy, or an investment in our or NuStar Energy’s units may be modified by administrative, legislative or judicial changes or differing interpretations at any time. From time to time, members of Congress propose and consider such substantive changes to the existing federal income tax laws that affect such entities. Further, final Treasury regulations under Section 7704(d)(1)(E) of the Code published in the Federal Register interpret the scope of qualifying income requirements for publicly traded partnerships by providing industry-specific guidance. We do not believe the final Treasury regulations affect our or NuStar Energy’s ability to be treated as partnerships for U.S. federal income tax purposes.
In addition, the Tax Cuts and Jobs Act enacted December 22, 2017 makes significant changes to the U.S. federal income tax rules applicable to both individuals and entities, including changes to the tax rate on a unitholder’s allocable share of income from a publicly traded entity. The Tax Cuts and Jobs Act is complex and lacks administrative guidance. Thus, the impact of certain aspects of its provisions on us or an investment in our units is currently unclear. Unitholders should consult their tax advisor regarding the Tax Cuts and Jobs Act and its effect on us or an investment in our units.
Any changes to the federal income tax laws and interpretations thereof (including administrative guidance relating to the Tax Cuts and Jobs Act) may be applied retroactively and could make it more difficult or impossible for us or NuStar Energy to meet the exception for certain publicly traded entities to be treated as partnerships for federal income tax purposes or otherwise adversely affect our business, financial condition or results of operations. We are unable to predict whether any additional
changes or other proposals will ultimately be enacted. Any such changes could negatively impact the value of an investment in our units.
A successful IRS contest of the federal income tax positions we or NuStar Energy take may adversely impact the market for our or NuStar Energy’s units, and the costs of any contest will reduce cash available for distribution to our unitholders.
The IRS may adopt positions that differ from the positions we or NuStar Energy take, even positions taken with the advice of counsel. It may be necessary to resort to administrative or court proceedings to sustain some or all of the positions we or NuStar Energy take. A court may not agree with all of the positions we or NuStar Energy take. Any contest with the IRS may affect adversely the taxable income reported to our unitholders and the income taxes they are required to pay. As a result, any such contest with the IRS may materially and adversely impact the market for our or NuStar Energy’s units and the prices at which they trade. In addition, the costs of any contest between NuStar Energy and the IRS will result in a reduction in cash available for distribution to NuStar Energy unitholders and thus will be borne indirectly by us, as a unitholder and as the owner of the general partner of NuStar Energy, and by other unitholders of NuStar Energy.
If the IRS makes audit adjustments to our or NuStar Energy’s income tax returns for tax years beginning after December 31, 2017, it (and some states) may assess and collect any taxes (including any applicable penalties and interest) resulting from such audit adjustment directly from us or NuStar Energy, in which case we or NuStar Energy, as applicable, may elect to either pay the taxes directly to the IRS or to have its unitholders and former unitholders take such audit adjustment into account and pay any resulting taxes. If we or NuStar Energy bears such payment, our cash available for distribution to our unitholders might be substantially reduced
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Pursuant to the Bipartisan Budget Act of 2015, for tax years beginning after December 31, 2017, if the IRS makes audit adjustments to our or NuStar Energy’s income tax returns, it (and some states) may assess and collect any taxes (including any applicable penalties and interest) resulting from such audit adjustment directly from us or NuStar Energy, as applicable. To the extent possible under the new rules, we may elect to either pay the taxes (including any applicable penalties and interest) directly to the IRS or, if we are eligible, issue a revised Schedule K-1 to each unitholder with respect to an audited and adjusted return. Although we or NuStar Energy’s general partner, as applicable, may elect to have our unitholders and former unitholders take such audit adjustment into account and pay any resulting taxes (including applicable penalties or interest) in accordance with their interests in us during the tax year under audit, there can be no assurance that such election will be practical, permissible or effective in all circumstances. As a result, our current unitholders may bear some or all of the tax liability resulting from such audit adjustment, even if such unitholders did not own common units in us during the tax year under audit. If, as a result of any such audit adjustment, we or NuStar Energy make payments of taxes, penalties and interest, our cash available for distribution to our unitholders might be substantially reduced.
Even if unitholders do not receive any cash distributions from us, they will be required to pay taxes on their respective share of our taxable income.
Unitholders will be required to pay federal income taxes and, in some cases, state and local income taxes on their respective share of our taxable income, whether or not the unitholders receive cash distributions from us. Unitholders may not receive cash distributions from us equal to their respective share of our taxable income or even equal to the actual tax liability that results from their respective share of our taxable income.
Tax gain or loss on the disposition of our units could be different than expected.
If a unitholder sells units, the selling unitholder will recognize a gain or loss equal to the difference between the amount realized and the unitholder’s tax basis in those units. Prior distributions to the selling unitholder in excess of the total net taxable income the unitholder was allocated for a unit, which decreased the unitholder’s tax basis in that unit, will, in effect, become taxable income to the selling unitholder if the unit is sold at a price greater than the unitholder’s tax basis in that unit, even if the price the unitholder receives is less than the units’ original cost. A substantial portion of the amount realized, whether or not representing gain, may be ordinary income to the selling unitholder.
Unitholders may be subject to limitations on their ability to deduct interest expense incurred by us.
In general, we are entitled to a deduction for interest paid or accrued on indebtedness properly allocable to our trade or business during our taxable year, and NuStar Energy is entitled to a deduction for interest paid or accrued on indebtedness properly allocable to its trade or business during its taxable year. However, under the Tax Cuts and Jobs Act, for taxable years beginning after December 31, 2017, a deduction for “business interest” is limited to the sum of a taxpayer’s business interest income plus 30% of its “adjusted taxable income.” This limitation is applied at the entity level for entities treated as partnerships for federal income tax purposes, including us and NuStar Energy. For the purposes of this limitation, adjusted taxable income is computed without regard to any business interest expense or business interest income, and in the case of taxable years beginning before January 1, 2022, any deduction allowable for depreciation, amortization, or depletion. Any interest disallowed at the entity level may be carried forward and deducted in future years by the partner from his share of the entity’s “excess taxable income,”
which is generally equal to the excess of 30% of its adjusted taxable income over the amount of its deduction for business interest for such future taxable year, subject to certain restrictions.
Tax-exempt entities face unique tax issues from owning our units that may result in adverse tax consequences to them.
Investment in our units by tax-exempt entities, such as employee benefit plans and individual retirement accounts (known as IRAs) raises issues unique to them. For example, virtually all of our income allocated to organizations that are exempt from U.S. federal income tax, including IRAs and other retirement plans, will be unrelated business taxable income and will be taxable to them. Further, with respect to taxable years beginning after December 31, 2017, a tax-exempt entity with more than one unrelated trade or business (including by attribution from investment in us or NuStar Energy that is engaged in one or more unrelated trades or businesses) is required to compute the unrelated business taxable income of such tax-exempt entity separately with respect to each such trade or business (including for purposes of determining any net operating loss deduction). As a result, for years beginning after December 31, 2017, it may not be possible for tax-exempt entities to utilize losses from an investment in us to offset unrelated business taxable income from another unrelated trade or business and vice versa. Tax-exempt entities should consult a tax advisor before investing in our units.
Non-U.S. unitholders will be subject to U.S. taxes and withholding with respect to their income and gain from owning our units.
Non-U.S. unitholders are subject to U.S. federal income tax on income effectively connected with a U.S. trade or business (“effectively connected income”). A unitholder’s share of our income, gain, loss and deduction, and any gain from the sale or disposition of our units will generally be considered to be “effectively connected” with a U.S. trade or business and subject to U.S. federal income tax. Additionally, distributions to a non-U.S. unitholder will be subject to withholding at the highest applicable effective tax rate.
The Tax Cuts and Jobs Act imposes a withholding obligation of 10% of the amount realized upon a non-U.S. unitholder’s sale or disposition of units. The IRS has temporarily suspended the application of the withholding requirements on sales of publicly traded interests, including our units, pending promulgation of regulations or other guidance. It is not clear if or when such regulations or other guidance will be issued. Non-U.S. unitholders should consult a tax advisor before investing in our units.
We will treat each purchaser of our units as having the same tax benefits without regard to the units purchased. The IRS may challenge this treatment, which could adversely affect the value of our units.
Because we cannot match transferors and transferees of units, we will adopt depreciation and amortization positions that may not conform with all aspects of existing Treasury regulations. A successful IRS challenge to those positions could adversely affect the amount of tax benefits available to unitholders. It also could affect the timing of these tax benefits or the amount of gain from a unitholder’s sale of units and could have a negative impact on the value of our units or result in audit adjustments to the unitholder’s tax returns.
Unitholders will likely be subject to state and local taxes and return filing requirements as a result of investing in our units.
In addition to federal income taxes, unitholders will likely be subject to other taxes, such as state and local income taxes, unincorporated business taxes and estate, inheritance or intangible taxes that are imposed by the various jurisdictions in which we or NuStar Energy do business or own property. Unitholders will likely be required to file state and local income tax returns and pay state and local income taxes in some or all of these various jurisdictions. Further, unitholders may be subject to penalties for failure to comply with those requirements. We or NuStar Energy may own property or conduct business in other states or foreign countries in the future. It is each unitholder’s responsibility to file all federal, state and local tax returns.
We prorate our items of income, gain, loss and deduction between transferors and transferees of our units each month based upon the ownership of our units on the first day of each month, instead of on the basis of the date a particular unit is transferred. The IRS may challenge this treatment, which could change the allocation of items of income, gain, loss and deduction among our unitholders.
We prorate our items of income, gain, loss and deduction between transferors and transferees of our units each month based upon the ownership of our units on the first day of each month, instead of on the basis of the date a particular unit is transferred. The U.S. Treasury Department and the IRS recently issued final regulations pursuant to which a publicly traded entity treated as a partnership for federal income tax purposes may use a similar monthly simplifying convention to allocate tax items among transferor and transferee unitholders although such tax items must be prorated on a daily basis and the regulations do not specifically authorize all aspects of the proration method we have currently adopted. If the IRS were to challenge our proration method, we may be required to change the allocation of items of income, gain, loss and deduction among our unitholders.
We and NuStar Energy have adopted certain valuation methodologies in determining a unitholder’s allocations of income, gain, loss and deduction. The IRS may challenge these methods or the resulting allocations and such a challenge could adversely affect the value of our investment in NuStar Energy.
In determining the items of income, gain, loss and deduction allocable to our and NuStar Energy’s common unitholders, we and NuStar Energy must routinely determine the fair market value of our respective assets. Although we or NuStar Energy may from time to time consult with professional appraisers regarding valuation matters, we and NuStar Energy make valuation estimates using a methodology based on the fair market value of our respective common units as a means to measure the fair market value of our respective assets. The IRS may challenge these valuation methods and the resulting allocations of income, gain, loss and deduction.
A successful IRS challenge to these methods or allocations could adversely affect the amount of taxable income or loss being allocated to our unitholders or the NuStar Energy common unitholders. It also could affect the amount of gain on the sale of common units by NuStar Energy’s common unitholders and our unitholders and could have a negative impact on our investment in NuStar Energy or result in audit adjustments to the tax returns of our or NuStar Energy’s common unitholders without the benefit of additional deductions.
We expect that our ratio of taxable income to cash distributions will be higher than the ratio applicable to holders of common units in NuStar Energy.
We expect that our ratio of taxable income to cash distributions will be higher than the ratio applicable to holders of common units in NuStar Energy. Other holders of common units in NuStar Energy will receive remedial allocations of deductions from NuStar Energy. Any remedial allocations of deductions to us from NuStar Energy will be very limited. In addition, our ownership of NuStar Energy incentive distribution rights will cause more taxable income to be allocated to us from NuStar Energy. If NuStar Energy is successful in increasing its distributions over time, our income allocations from our NuStar Energy incentive distribution rights will increase, and, therefore, our ratio of taxable income to cash distributions will increase.
Items of our income, gain, loss and deduction will be allocated among our unitholders to account for the difference between the fair market value and tax basis of our assets at the time of an offering.
Specified items of income, gain, loss and deduction will be allocated to us from NuStar Energy and among our unitholders to account for the difference between the fair market value and tax basis of NuStar Energy’s assets and our assets at the time the assets were contributed to NuStar Energy (or its predecessors) or at any other offering. The effect of these allocations will be to allocate to us from NuStar Energy and to our unitholders, gains attributable to our share of the difference between the fair market value and the tax basis of NuStar Energy’s assets at these times (including gain attributable to our ownership of the incentive distribution rights). The effect of these allocations to a unitholder purchasing units will be essentially the same as if the tax basis of our and NuStar Energy’s assets were equal to their fair market values at the time of the purchase, with the result that a unitholder purchasing units will not bear the federal income tax burden associated with any existing difference between the fair market value and tax basis of our or NuStar Energy’s assets. The federal income tax burden associated with the difference between the fair market value and the tax basis of our assets immediately prior to purchasing units will be borne by our existing unitholders as of that time.
A unitholder whose units are the subject of a securities loan (e.g., a loan to a “short seller” to cover a short sale of units) may be considered as having disposed of those units. If so, the unitholder would no longer be treated for tax purposes as a partner with respect to those units during the period of the loan and may recognize gain or loss from the disposition.
Because there are no specific rules governing the federal income tax consequences of loaning an interest in an entity treated as a partnership for federal income tax purposes, a unitholder whose units are the subject of a securities loan may be considered as having disposed of the loaned units. In that case, the unitholder may no longer be treated for tax purposes as a partner with respect to those units during the period of the loan to the short seller and the unitholder may recognize gain or loss from such disposition. Moreover, during the period of the loan, any of our income, gain, loss or deduction with respect to those units may not be reportable by the unitholder and any cash distributions received by the unitholder as to those units could be fully taxable as ordinary income. Unitholders desiring to assure their status as partners for tax purposes and avoid the risk of gain recognition from a loan to a short seller are urged to consult a tax advisor to discuss whether it is advisable to modify any applicable brokerage account agreements to prohibit their brokers from borrowing their units.