NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
1. Organization and Summary of Significant Accounting Policies
The accompanying unaudited condensed consolidated financial statements of Archrock included herein have been prepared in accordance with U.S. GAAP for interim financial information and the rules and regulations of the SEC. Certain information and footnote disclosures normally included in financial statements prepared in accordance with GAAP are not required in these interim financial statements and have been condensed or omitted. Management believes that the information furnished includes all adjustments, consisting only of normal recurring adjustments, which are necessary to present fairly our consolidated financial position, results of operations and cash flows for the periods indicated. The accompanying unaudited condensed consolidated financial statements should be read in conjunction with the consolidated financial statements presented in our 2016 Form 10-K, which contains a more comprehensive summary of our accounting policies. The interim results reported herein are not necessarily indicative of results for a full year. Certain prior year amounts have been reclassified to conform to the current year presentation.
Organization
We are a pure play U.S. natural gas contract operations services business and the leading provider of natural gas compression services to customers in the oil and natural gas industry throughout the U.S. and a leading supplier of aftermarket services to customers that own compression equipment in the U.S. We operate in
two
primary business lines: contract operations and aftermarket services. In our contract operations business line, we use our fleet of natural gas compression equipment to provide operations services to our customers. In our aftermarket services business line, we sell parts and components and provide operations, maintenance, overhaul and reconfiguration services to customers who own compression equipment.
Income (Loss) Attributable to Archrock Common Stockholders Per Common Share
Basic income (loss) attributable to Archrock common stockholders per common share is computed using the two-class method, which is an earnings allocation formula that determines net income (loss) per share for each class of common stock and participating security according to dividends declared and participation rights in undistributed earnings. Under the two-class method, basic income (loss) attributable to Archrock common stockholders per common share is determined by dividing income (loss) attributable to Archrock common stockholders after deducting amounts allocated to participating securities, by the weighted average number of common shares outstanding for the period. Participating securities include unvested restricted stock and stock settled restricted stock units that have nonforfeitable rights to receive dividends or dividend equivalents, whether paid or unpaid. During periods of net loss, no effect is given to participating securities because they do not have a contractual obligation to participate in our losses.
Diluted income (loss) attributable to Archrock common stockholders per common share is computed using the weighted average number of shares outstanding adjusted for the incremental common stock equivalents attributed to outstanding options and stock to be issued pursuant to our employee stock purchase plan unless their effect would be anti-dilutive.
The following table summarizes net loss attributable to Archrock common stockholders used in the calculation of basic and diluted loss per common share (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30,
|
|
Nine Months Ended September 30,
|
|
2017
|
|
2016
|
|
2017
|
|
2016
|
Loss from continuing operations attributable to Archrock stockholders
|
$
|
(10,181
|
)
|
|
$
|
(9,632
|
)
|
|
$
|
(28,553
|
)
|
|
$
|
(15,902
|
)
|
Loss from discontinued operations, net of tax
|
(54
|
)
|
|
(16
|
)
|
|
(54
|
)
|
|
(42
|
)
|
Net loss attributable to Archrock stockholders
|
(10,235
|
)
|
|
(9,648
|
)
|
|
(28,607
|
)
|
|
(15,944
|
)
|
Less: Net income attributable to participating securities
|
(179
|
)
|
|
(135
|
)
|
|
(513
|
)
|
|
(470
|
)
|
Net loss attributable to Archrock common stockholders
|
$
|
(10,414
|
)
|
|
$
|
(9,783
|
)
|
|
$
|
(29,120
|
)
|
|
$
|
(16,414
|
)
|
The following table shows the potential shares of common stock that were included in computing diluted income (loss) attributable to Archrock common stockholders per common share (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30,
|
|
Nine Months Ended September 30,
|
|
2017
|
|
2016
|
|
2017
|
|
2016
|
Weighted average common shares outstanding including participating securities
|
70,952
|
|
|
70,603
|
|
|
70,847
|
|
|
70,450
|
|
Less: Weighted average participating securities outstanding
|
(1,308
|
)
|
|
(1,539
|
)
|
|
(1,327
|
)
|
|
(1,492
|
)
|
Weighted average common shares outstanding — used in basic income (loss) per common share
|
69,644
|
|
|
69,064
|
|
|
69,520
|
|
|
68,958
|
|
Net dilutive potential common shares issuable:
|
|
|
|
|
|
|
|
On exercise of options
|
*
|
|
|
*
|
|
|
*
|
|
|
*
|
|
On the settlement of employee stock purchase plan shares
|
*
|
|
|
—
|
|
|
*
|
|
|
—
|
|
Weighted average common shares outstanding — used in diluted income (loss) per common share
|
69,644
|
|
|
69,064
|
|
|
69,520
|
|
|
68,958
|
|
|
|
*
|
Excluded from diluted income (loss) per common share as their inclusion would have been anti-dilutive.
|
The following table shows the potential shares of common stock issuable that were excluded from computing diluted income (loss) attributable to Archrock common stockholders per common share as their inclusion would have been anti-dilutive (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30,
|
|
Nine Months Ended September 30,
|
|
2017
|
|
2016
|
|
2017
|
|
2016
|
Net dilutive potential common shares issuable:
|
|
|
|
|
|
|
|
On exercise of options where exercise price is greater than average market value for the period
|
240
|
|
|
469
|
|
|
278
|
|
|
640
|
|
On exercise of options
|
100
|
|
|
88
|
|
|
116
|
|
|
44
|
|
On the settlement of employee stock purchase plan shares
(1)
|
—
|
|
|
—
|
|
|
—
|
|
|
—
|
|
Net dilutive potential common shares issuable
|
340
|
|
|
557
|
|
|
394
|
|
|
684
|
|
|
|
(1)
|
The Archrock, Inc. 2017 Employee Stock Purchase Plan commenced during the third quarter of 2017. For the three and nine months ended September 30, 2017 potential common shares calculated under the treasury stock method were immaterial.
|
Comprehensive Income (Loss)
Components of comprehensive income (loss) are net income (loss) and all changes in equity during a period except those resulting from transactions with owners. Our accumulated other comprehensive income (loss) consists of changes in the fair value of derivative instruments, net of tax, that are designated as cash flow hedges to the extent the hedge is effective, amortization of terminated interest rate swaps and adjustments related to changes in our ownership of the Partnership.
The following table presents the changes in accumulated other comprehensive income (loss) by component, net of tax, and excluding noncontrolling interest, during the
nine
months ended
September 30, 2016
and
2017
(in thousands):
|
|
|
|
|
|
Derivatives Cash Flow Hedges
|
Accumulated other comprehensive loss, January 1, 2016
|
$
|
(1,570
|
)
|
Loss recognized in other comprehensive loss, net of tax
(1)
|
(2,132
|
)
|
Loss reclassified from accumulated other comprehensive loss, net of tax
(2)
|
994
|
|
Other comprehensive loss attributable to Archrock stockholders
|
(1,138
|
)
|
Accumulated other comprehensive loss, September 30, 2016
|
$
|
(2,708
|
)
|
|
|
Accumulated other comprehensive loss, January 1, 2017
|
$
|
(1,678
|
)
|
Gain recognized in other comprehensive income, net of tax
(3)
|
1,104
|
|
Loss reclassified from accumulated other comprehensive loss, net of tax
(4)
|
769
|
|
Other comprehensive income attributable to Archrock stockholders
|
1,873
|
|
Accumulated other comprehensive loss, September 30, 2017
|
$
|
195
|
|
|
|
(1)
|
During the three months ended
September 30, 2016
, we recognized a gain of
$0.9 million
and a tax provision of
$0.3 million
, in other comprehensive income (loss) related to the change in the fair value of derivative instruments. During the
nine
months ended
September 30, 2016
, we recognized a loss of
$3.1 million
and a tax benefit of
$1.0 million
in other comprehensive income (loss) related to the change in the fair value of derivative instruments.
|
|
|
(2)
|
During the three months ended
September 30, 2016
, we reclassified a loss of
$0.5 million
to interest expense and a tax benefit of
$0.1 million
to provision for (benefit from) income taxes in our condensed consolidated statements of operations from accumulated other comprehensive income (loss). During the
nine
months ended
September 30, 2016
, we reclassified a loss of
$1.5 million
to interest expense and a tax benefit of
$0.5 million
to provision for (benefit from) income taxes in our condensed consolidated statements of operations from accumulated other comprehensive income (loss).
|
|
|
(3)
|
During the three months ended
September 30, 2017
, we recognized a gain of
$1.2 million
and a tax provision of
$0.3 million
in other comprehensive income (loss) related to the change in the fair value of derivative instruments. During the
nine
months ended
September 30, 2017
, we recognized a gain of
$1.4 million
and tax provision of
$0.3 million
in other comprehensive income (loss) related to the change in the fair value of derivative instruments.
|
|
|
(4)
|
During the three months ended
September 30, 2017
, we reclassified a loss of
$0.3 million
to interest expense and a tax benefit of
$0.1 million
to provision for (benefit from) income taxes in our condensed consolidated statements of operations from accumulated other comprehensive income (loss). During the
nine
months ended
September 30, 2017
, we reclassified a loss of
$1.2 million
to interest expense and a tax benefit of
$0.4 million
to provision for (benefit from) income taxes in our condensed consolidated statements of operations from accumulated other comprehensive income (loss).
|
2. Recent Accounting Developments
Accounting Standards Updates Implemented
On January 1, 2017, we adopted Update 2016-09, which simplifies several aspects of the accounting for share-based payment transactions and had the following impacts to our condensed consolidated financial statements:
|
|
•
|
Update 2016-09 requires that all prospective excess tax benefits and tax deficiencies should be recognized as income tax benefits and expense. Additionally, Update 2016-09 requires that we recognize previously unrecognized excess tax benefits using a modified retrospective approach. As a result, we recorded a $
1.2 million
cumulative effect adjustment to retained earnings as of January 1, 2017.
|
|
|
•
|
Update 2016-09 allows companies to make an accounting policy election to either estimate forfeitures or account for forfeitures as they occur. We have elected to account for forfeitures as they occur which we are required to apply on a modified retrospective basis. As a result, we recorded a cumulative effect adjustment to retained earnings of $
0.2 million
to reverse forfeiture estimates on unvested awards as of January 1, 2017.
|
|
|
•
|
Update 2016-09 also reflects the FASB’s decision that cash flows related to excess tax benefits should be classified as cash flows from operating activities on the consolidated statements of cash flows. We adopted this provision on a retrospective basis which resulted in a $
0.2 million
increase in net cash provided by operating activities and a $
0.2 million
increase in net cash used in financing activities on the accompanying condensed consolidated statements of cash flows for the
nine
months ended
September 30, 2016
.
|
There were no other material impacts to the condensed consolidated financial statements as a result of adoption of Update 2016-09.
On January 1, 2017, we adopted Accounting Standards Update No. 2015-11 which requires us to measure inventory at the lower of cost and net realizable value, which is defined as the estimated selling prices in the ordinary course of business, less reasonably predictable costs of completion, disposal and transportation. There was no material impact to the condensed consolidated financial statements as a result of the adoption of this standard.
Accounting Standards Updates Not Yet Implemented
In August 2017, the FASB issued Update 2017-12 which expands and refines hedge accounting for both nonfinancial and financial risk components, aligns the recognition and presentation of the effects of the hedging instrument and hedged item in the financial statements and makes certain targeted improvements to simplify the application of hedge accounting guidance. Update 2017-12 is effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. Entities will apply Update 2017-12 provisions as a cumulative-effect adjustment to retained earnings as of the beginning of the first reporting period in which the guidance is adopted; amended presentation and disclosure guidance will be required only prospectively. Early adoption is permitted. We are currently evaluating the impact of Update 2017-12 on our consolidated financial statements including the impact of an early adoption as permitted in the guidance.
In August 2016, the FASB issued Update 2016-15 which addresses diversity in practice and simplifies several elements of cash flow classification, including how certain cash receipts and cash payments are presented and classified in the statement of cash flows. Update 2016-15 is effective for fiscal years beginning after December 15, 2017, including interim periods within those fiscal years. Update 2016-15 will require adoption on a retrospective basis unless it is impracticable to apply, in which case it would be required to apply the amendments prospectively as of the earliest date practicable. Early adoption is permitted. We have evaluated Update 2016-15 and do not expect a material impact on our consolidated financial statements.
In June 2016, the FASB issued Update 2016-13 that changes the impairment model for most financial assets and certain other instruments, including trade and other receivables, held-to-maturity debt securities and loans, and requires entities to use a new forward-looking expected loss model that will result in the earlier recognition of allowance for losses. Update 2016-13 is effective for fiscal years beginning after December 15, 2019, and early adoption is permitted. Entities will apply Update 2016-13 provisions as a cumulative-effect adjustment to retained earnings as of the beginning of the first reporting period in which the guidance is adopted. We are currently evaluating the impact of Update 2016-13 on our consolidated financial statements.
In February 2016, the FASB issued Update 2016-02 that establishes a right-of-use model that requires a lessee to record a right-of-use asset and a lease liability on the balance sheet for all leases with terms longer than 12 months. Leases will be classified as either finance or operating, with classification affecting the pattern of expense recognition in the income statement. Under the new guidance, lessor accounting is largely unchanged. Update 2016-02 is effective for fiscal years beginning after December 15, 2018, including interim periods within those fiscal years. A modified retrospective transition approach is required for lessees for capital and operating leases existing at, or entered into after, the beginning of the earliest comparative period presented in the financial statements, with certain practical expedients available. We are currently evaluating the impact of Update 2016-02 on our consolidated financial statements.
From May 2014 through May 2016, the FASB issued the Revenue Recognition Update that outlines a single comprehensive model for companies to use in accounting for revenue arising from contracts with customers and supersedes the most current revenue recognition guidance, including industry-specific guidance. The core principle of the Revenue Recognition Update is that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. The Revenue Recognition Update also requires disclosures enabling users of financial statements to understand the nature, amount, timing and uncertainty of revenue and cash flows arising from contracts with customers. The Revenue Recognition Update will be effective for reporting periods beginning after December 15, 2017, including interim periods within the reporting period. Early adoption is permitted for reporting periods beginning after December 15, 2016. Companies may use either a full retrospective or a modified retrospective approach.
We intend to adopt the Revenue Recognition Update on January 1, 2018, using the modified retrospective transition method applied to those contracts which are not complete as of that date. Upon adoption, we will recognize the cumulative effect of adoption as an adjustment to the opening balance of our retained earnings.
Under current guidance, contract operations revenue is recognized when earned, which generally occurs monthly when the service is provided under our customer contracts. We anticipate the timing of revenue recognized will be impacted by contractual provisions for service availability guarantees of our compressor assets, re-billable costs associated with moving our compressor assets to a customer site, as well as delayed billings for new agreements. At this time we do not expect these changes to result in a material difference from current practice for contract operations.
We do not expect there to be a material difference in the amount or timing of revenues for sales of aftermarket services parts and components. A significant change is expected related to our aftermarket services operations, maintenance, overhaul and reconfiguration services. Under current guidance, revenue is recognized on a completed contract basis as products are delivered and title is transferred, or services are performed for the customer. Under the new guidance, these services will meet the requirements to be recognized as revenue over time, using output or input methods to measure the progress toward complete satisfaction of the performance obligation based on the nature of the good or service being provided.
The Revenue Recognition Update provides guidance on contract costs that should be recognized as assets and amortized over the period that the related goods or services transfer to the customer. Certain costs such as sales commissions and freight charges to transport compressor assets, currently expensed as incurred, will be deferred and amortized.
The impacts noted are not all-inclusive, but reflect our current expectations. We are still determining the materiality of the impact for certain of these changes on our consolidated financial statements. We anticipate significant changes to our disclosures based on the requirements prescribed by the Revenue Recognition Update.
In preparation for the adoption of the Revenue Recognition Update on January 1, 2018, we have established a transition team, with representation from all functional areas of our businesses that will be impacted, to implement the required changes. Processes to capture and verify the quality of information needed, including identifying and implementing changes to our information technology systems, are being developed. We are also in the process of evaluating changes to our internal control structure to address risks associated with recognizing revenue under the new guidance. We have modified certain controls effective in the fourth quarter of 2017 to take into consideration the new criteria for recognizing revenue, specifically identifying promises within the contract that give rise to performance obligations, and evaluating the impact of variable consideration on the transaction price. We will continue to evaluate our business processes, systems and controls to ensure the accuracy and timeliness of the recognition and disclosure requirements under the new revenue guidance
3. Discontinued Operations
Spin-off of Exterran Corporation
We completed the Spin-off on the Distribution Date. We continue to hold our interests in the Partnership, which include the sole general partner interest and certain limited partner interests, as well as all of the incentive distribution rights in the Partnership. Exterran Corporation’s business following the Spin-off has been reported as discontinued operations, net of tax, in our condensed consolidated statement of operations for all periods presented and was previously included in the international contract operations segment, fabrication segment and aftermarket services segment. Following the Spin-off, we no longer operate in the international contract operations or fabrication segments and our operations in the aftermarket services segment are now limited to domestic operations.
In order to effect the Spin-off and govern our relationship with Exterran Corporation after the Spin-off, we entered into several agreements with Exterran Corporation on the Distribution Date, which include but are not limited to:
|
|
•
|
The separation and distribution agreement contains the key provisions relating to the separation of our business from Exterran Corporation’s business. The separation and distribution agreement identifies the assets and rights that were transferred, liabilities that were assumed or retained and contracts and related matters that were assigned to us or Exterran Corporation in the Spin-off and describes how these transfers, assumptions and assignments occurred. Additionally, the separation and distribution agreement specifies our right to receive payments from a subsidiary of Exterran Corporation based on a notional amount corresponding to payments received by Exterran Corporation’s subsidiaries from PDVSA Gas in respect of the sale of Exterran Corporation’s subsidiaries’ and joint ventures’ previously nationalized assets promptly after such amounts are collected by Exterran Corporation’s subsidiaries. During the
nine
months ended
September 30, 2017
, and 2016, Exterran Corporation received installment payments of
$19.7 million
and
$49.2 million
, respectively, from PDVSA Gas relating to these sales and transferred cash to us equal to that amount. Exterran Corporation or its subsidiary was due to receive the remaining principal amount as of
September 30, 2017
of approximately
$20.9 million
. As these remaining proceeds are received, Exterran Corporation intends to contribute to us an amount equal to such proceeds pursuant to the terms of the separation and distribution agreement. The separation and distribution agreement also specifies our right to receive a
$25.0 million
cash payment from a subsidiary of Exterran Corporation promptly following the occurrence of a qualified capital raise as defined in the Exterran Corporation credit agreement. Such a qualified capital raise occurred on April 4, 2017, when Exterran Corporation completed an issuance of
8.125%
Senior Notes. In satisfaction of the separation and distribution agreement, we received a cash payment of
$25.0 million
on April 11, 2017.
|
|
|
•
|
The tax matters agreement governs the respective rights, responsibilities and obligations of Exterran Corporation and us with respect to tax liabilities and benefits, tax attributes, the preparation and filing of tax returns, the control of audits and other tax proceedings and certain other matters regarding taxes. Subject to the provisions of this agreement Exterran Corporation and we agreed to indemnify the primary obligor of any return for tax periods beginning before and ending before or after the Spin-off (including any ongoing or future amendments and audits for these returns) for the portion of the tax liability (including interest and penalties) that relates to their respective operations reported in the filing. As of
September 30, 2017
, we classified
$6.4 million
of unrecognized tax benefits (including interest and penalties) as long-term liability associated with discontinued operations since it relates to operations of Exterran Corporation prior to the Spin-off. We have also recorded an offsetting
$6.4 million
indemnification asset related to this reserve as long-term assets associated with discontinued operations.
|
|
|
•
|
The transition services agreement sets forth the terms on which Exterran Corporation provides to us, and we provide to Exterran Corporation, on a temporary basis, certain services or functions that the companies historically shared. Each service provided under the agreement has its own duration, generally less than one year and not more than two years, extension terms and monthly cost, and the transition services agreement will terminate upon cessation of all services provided thereunder. For the
nine
months ended
September 30, 2016
, we recorded other income of
$0.5 million
and SG&A expense of
$0.9 million
associated with the services under the transition services agreement.
|
|
|
•
|
The supply agreement sets forth the terms under which Exterran Corporation provides manufactured equipment, including the design, engineering, manufacturing and sale of natural gas compression equipment, on an exclusive basis to us and the Partnership. This supply agreement has an initial term of two years, subject to certain cancellation conditions, and is extendible for additional one-year terms by mutual agreement of the parties. Pursuant to the supply agreement, we and the Partnership are each required to purchase our respective requirements of newly-manufactured compression equipment from Exterran Corporation, subject to certain exceptions. For the
nine
months ended
September 30, 2017
and
September 30, 2016
, we purchased
$115.3 million
and
$47.2 million
, respectively, of newly-manufactured compression equipment from Exterran Corporation.
|
Generally, the separation and distribution agreement provides for cross-indemnities principally designed to place financial responsibility for the obligations and liabilities of our business with us and financial responsibility for the obligations and liabilities of Exterran Corporation’s business with Exterran Corporation. Pursuant to the separation and distribution agreement, we and Exterran Corporation generally release the other party from all claims arising prior to the Spin-off that relate to the other party’s business.
Other discontinued operations activity
In December 2013, we abandoned our contract water treatment business as part of our continued emphasis on simplification and focus on our core businesses. The abandonment of this business meets the criteria established for recognition as discontinued operations under GAAP. Therefore certain deferred tax assets related to our contract water treatment business have been reported as discontinued operations in our condensed consolidated balance sheet. This business was previously included in our contract operations segment.
The following table summarizes the balance sheet data for discontinued operations (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
September 30, 2017
|
|
December 31, 2016
|
|
Exterran Corporation
|
|
Contract Water Treatment Business
|
|
Total
|
|
Exterran Corporation
|
|
Contract Water Treatment Business
|
|
Total
|
Other current assets
|
$
|
300
|
|
|
$
|
—
|
|
|
$
|
300
|
|
|
$
|
923
|
|
|
$
|
—
|
|
|
$
|
923
|
|
Total current assets associated with discontinued operations
|
300
|
|
|
—
|
|
|
300
|
|
|
923
|
|
|
—
|
|
|
923
|
|
Other assets, net
|
6,421
|
|
|
—
|
|
|
6,421
|
|
|
6,575
|
|
|
—
|
|
|
6,575
|
|
Deferred income taxes
|
—
|
|
|
11,914
|
|
|
11,914
|
|
|
54
|
|
|
13,445
|
|
|
13,499
|
|
Total assets associated with discontinued operations
|
$
|
6,721
|
|
|
$
|
11,914
|
|
|
$
|
18,635
|
|
|
$
|
7,552
|
|
|
$
|
13,445
|
|
|
$
|
20,997
|
|
Other current liabilities
|
$
|
297
|
|
|
$
|
—
|
|
|
$
|
297
|
|
|
$
|
909
|
|
|
$
|
—
|
|
|
$
|
909
|
|
Total current liabilities associated with discontinued operations
|
297
|
|
|
—
|
|
|
297
|
|
|
909
|
|
|
—
|
|
|
909
|
|
Deferred income taxes
|
6,421
|
|
|
—
|
|
|
6,421
|
|
|
6,575
|
|
|
—
|
|
|
6,575
|
|
Total liabilities associated with discontinued operations
|
$
|
6,718
|
|
|
$
|
—
|
|
|
$
|
6,718
|
|
|
$
|
7,484
|
|
|
$
|
—
|
|
|
$
|
7,484
|
|
4. Business Acquisitions
On March
1, 2016, the Partnership completed the March 2016 Acquisition, whereby it acquired contract operations customer service agreements with
four
customers and a fleet of
19
compressor units used to provide compression services under those agreements comprising approximately
23,000
horsepower. The
$18.8 million
purchase price was funded with
$13.8 million
in borrowings under it’s Former Credit Facility, a non-cash exchange of
24
Partnership compressor units for
$3.2 million
, and the issuance of
257,000
of the Partnership’s common units for
$1.8 million
. In connection with this acquisition, the Partnership issued and sold to GP, our wholly owned subsidiary and the Partnership’s general partner,
5,205
general partner units to maintain GP’s approximate
2%
general partner interest in the Partnership. During the
nine
months ended
September 30, 2016
, the Partnership incurred transaction costs of
$0.2 million
related to the March
2016 Acquisition, which is reflected in other income, net, in our condensed consolidated statement of operations.
We accounted for the March
2016 Acquisition using the acquisition method, which requires, among other things, assets acquired to be recorded at their fair value on the acquisition date. The following table summarized the purchase price allocation based on estimated fair values of the acquired assets as of the acquisition date (in thousands):
|
|
|
|
|
|
Fair Value
|
Property, plant and equipment
|
$
|
14,929
|
|
Intangible assets
|
3,839
|
|
Purchase price
|
$
|
18,768
|
|
Property, Plant and Equipment and Intangible Assets Acquired
Property, plant and equipment is primarily comprised of compressor units that will be depreciated on a straight-line basis over an estimated average remaining useful life of
15 years
.
The amount of finite life intangible assets, and their associated average useful lives, was determined based on the period which the assets are expected to contribute directly or indirectly to our future cash flows, and consisted of the following:
|
|
|
|
|
|
|
|
Amount
(in thousands)
|
|
Average
Useful Life
|
Contract based
|
$
|
3,839
|
|
|
2.3 years
|
The results of operations attributable to the assets acquired in the March
2016 Acquisition have been included in our condensed consolidated financial statements as part of our contract operations segment since the date of acquisition.
Pro forma financial information is not presented for the March
2016 Acquisition as it is immaterial to our reported results.
5. Inventory
Inventory consisted of the following amounts (in thousands):
|
|
|
|
|
|
|
|
|
|
September 30, 2017
|
|
December 31, 2016
|
Parts and supplies
|
$
|
73,665
|
|
|
$
|
80,641
|
|
Work in progress
|
20,629
|
|
|
13,160
|
|
Inventory
|
$
|
94,294
|
|
|
$
|
93,801
|
|
6. Property, Plant and Equipment, net
Property, plant and equipment, net, consisted of the following (in thousands):
|
|
|
|
|
|
|
|
|
|
September 30, 2017
|
|
December 31, 2016
|
Compression equipment, facilities and other fleet assets
|
$
|
3,184,449
|
|
|
$
|
3,147,708
|
|
Land and buildings
|
49,698
|
|
|
48,964
|
|
Transportation and shop equipment
|
100,292
|
|
|
102,312
|
|
Computer equipment
|
89,229
|
|
|
79,019
|
|
Other
|
11,689
|
|
|
29,481
|
|
Property, plant and equipment
|
3,435,357
|
|
|
3,407,484
|
|
Accumulated depreciation
|
(1,361,604
|
)
|
|
(1,328,385
|
)
|
Property, plant and equipment, net
|
$
|
2,073,753
|
|
|
$
|
2,079,099
|
|
7. Long-Term Debt
Long-term debt consisted of the following (in thousands):
|
|
|
|
|
|
|
|
|
|
September 30, 2017
|
|
December 31, 2016
|
Revolving credit facility due November 2020
|
$
|
75,500
|
|
|
$
|
99,000
|
|
Partnership’s revolving credit facility due March 2022
|
631,500
|
|
|
—
|
|
Partnership’s revolving credit facility due May 2018
|
—
|
|
|
509,500
|
|
|
|
|
|
Partnership’s term loan facility due May 2018
|
—
|
|
|
150,000
|
|
Less: Deferred financing costs, net of amortization
|
—
|
|
|
(353
|
)
|
|
—
|
|
|
149,647
|
|
|
|
|
|
Partnership’s 6% senior notes due April 2021
|
350,000
|
|
|
350,000
|
|
Less: Debt discount, net of amortization
|
(2,700
|
)
|
|
(3,213
|
)
|
Less: Deferred financing costs, net of amortization
|
(3,595
|
)
|
|
(4,366
|
)
|
|
343,705
|
|
|
342,421
|
|
|
|
|
|
Partnership’s 6% senior notes due October 2022
|
350,000
|
|
|
350,000
|
|
Less: Debt discount, net of amortization
|
(3,603
|
)
|
|
(4,076
|
)
|
Less: Deferred financing costs, net of amortization
|
(4,155
|
)
|
|
(4,768
|
)
|
|
342,242
|
|
|
341,156
|
|
Long-term debt
|
$
|
1,392,947
|
|
|
$
|
1,441,724
|
|
Archrock Revolving Credit Facility
In October 2015, in connection with the Spin-off, we entered into the Credit Facility, a
five
-year,
$350 million
revolving credit facility and in November 2015, we terminated our former credit facility. The Credit Facility will mature in November 2020. As of
September 30, 2017
, we had
$75.5 million
in outstanding borrowings,
$15.1 million
in outstanding letters of credit and undrawn capacity of
$259.4 million
under the Credit Facility. Our Credit Facility limits our Total Debt to EBITDA ratio (as defined in the Credit Facility) to not greater than
4.25
to 1.0. As a result of this limitation,
$156.5 million
of the
$259.4 million
undrawn capacity under the Credit Facility was available for additional borrowings as of
September 30, 2017
.
At
September 30, 2017
, the applicable margin on amounts outstanding was
1.75%
.
We are required to pay commitment fees based on the daily unused amount of the Credit Facility in an amount, depending on our leverage ratio, ranging from
0.25%
to
0.50%
. We incurred
$0.2 million
in commitment fees on the daily unused amount of the Credit Facility during each of the three months ended
September 30, 2017
and
2016
, and
$0.5 million
and
$0.4 million
during the
nine
months ended
September 30, 2017
and
2016
, respectively.
The Partnership Asset-Based Revolving Credit Facility
On
March 30, 2017
, the Partnership entered into the Partnership Credit Facility, a
five
-year,
$1.1 billion
asset-based revolving credit facility. The Partnership Credit Facility will mature on
March 30, 2022
, except that if any portion of the Partnership’s
6%
senior notes due April 2021 are outstanding as of December 2, 2020, then the Partnership Credit Facility will instead mature on
December 2, 2020
. The Partnership incurred
$14.9 million
in transaction costs related to the Partnership Credit Facility, which were included in other long-term assets in our condensed consolidated balance sheets and will be amortized over the term of the Partnership Credit Facility. Concurrent with entering into the Partnership Credit Facility, the Partnership terminated its Former Credit Facility and repaid
$648.4 million
in borrowings and accrued and unpaid interest and fees outstanding. All commitments under the Former Credit Facility have been terminated. As a result of the termination, we expensed
$0.6 million
of unamortized deferred financing costs associated with the
$825.0 million
revolving credit facility, which was included in interest expense in our condensed consolidated statements of operations. Additionally, we recorded a loss of
$0.3 million
related to the extinguishment of the
$150.0 million
term loan.
As of
September 30, 2017
, the Partnership had
$631.5 million
in outstanding borrowings and
no
outstanding letters of credit under the Partnership Credit Facility.
Subject to certain conditions, including the approval by the lenders, the Partnership is able to increase the aggregate commitments under the Partnership Credit Facility by up to an additional
$250.0 million
. Portions of the Partnership Credit Facility up to
$25.0 million
and
$50.0 million
will be available for the issuance of letters of credit and swing line loans, respectively.
The Partnership Credit Facility bears interest at a base rate or LIBOR, at the Partnership’s option, plus an applicable margin. Depending on the Partnership’s leverage ratio, the applicable margin varies (i) in the case of LIBOR loans, from
2.00%
to
3.25%
and (ii) in the case of base rate loans, from
1.00%
to
2.25%
. The base rate is the highest of (i) the prime rate announced by JPMorgan Chase Bank, (ii) the Federal Funds Effective Rate plus
0.50%
and (iii) one-month LIBOR plus
1.00%
. At
September 30, 2017
, the applicable margin on amounts outstanding was
3.24%
.
Additionally, the Partnership is required to pay commitment fees based on the daily unused amount of the Credit Facility in an amount, depending on its leverage ratio, ranging from
0.375%
to
0.50%
. The Partnership incurred
$0.6 million
and
$0.3 million
in commitment fees on the daily unused amount of the Partnership Credit Facility and the former
$825.0 million
revolving credit facility during the three months ended
September 30, 2017
and
2016
, respectively, and
$1.5 million
and
$1.0 million
during the
nine
months ended
September 30, 2017
and
2016
, respectively.
The Credit Facility borrowing base consists of eligible accounts receivable, inventory and compressor units. The largest component is eligible compressor units.
Borrowings under the Partnership Credit Facility are secured by substantially all of the personal property assets of the Partnership and its Significant Domestic Subsidiaries (as defined in the Partnership Credit Facility agreement), including all of the membership interests of the Partnership’s Domestic Subsidiaries (as defined in the Partnership Credit Facility agreement).
The Partnership Credit Facility agreement contains various covenants including, but not limited to, restrictions on the use of proceeds from borrowings and limitations on the Partnership’s ability to incur additional indebtedness, engage in transactions with affiliates, merge or consolidate, sell assets, make certain investments and acquisitions, make loans, grant liens, repurchase equity and pay distributions. The Partnership Credit Facility agreement also contains various covenants requiring mandatory prepayments from the net cash proceeds of certain asset transfers. In addition, if as of any date the Partnership has cash and cash equivalents (other than proceeds from a debt or equity issuance received in the 30 days prior to such date reasonably expected to be used to fund an acquisition permitted under the Partnership Credit Facility agreement) in excess of
$50.0 million
, then such excess amount will be used to pay down outstanding borrowings of a corresponding amount under the Partnership Credit Facility.
The Partnership must maintain the following consolidated financial ratios, as defined in the Partnership Credit Facility agreement:
|
|
|
EBITDA to Interest Expense
|
2.5 to 1.0
|
Senior Secured Debt to EBITDA
|
3.5 to 1.0
|
Total Debt to EBITDA
|
|
Through fiscal year 2017
|
5.95 to 1.0
|
Through fiscal year 2018
|
5.75 to 1.0
|
Through second quarter of 2019
|
5.50 to 1.0
|
Thereafter
(1)
|
5.25 to 1.0
|
|
|
(1)
|
Subject to a temporary increase to
5.5
to 1.0 for any quarter during which an acquisition meeting certain thresholds is completed and for the following two quarters after the quarter in which the acquisition closes.
|
As of
September 30, 2017
, the Partnership had undrawn capacity of
$468.5 million
under the Partnership Credit Facility. As a result of the financial ratio requirements discussed above,
$213.6 million
of the
$468.5 million
of undrawn capacity was available for additional borrowings as of
September 30, 2017
.
A material adverse effect on the Partnership’s assets, liabilities, financial condition, business or operations that, taken as a whole, impacts its ability to perform its obligations under the Partnership Credit Facility agreement, could lead to a default under that agreement. A default under one of the Partnership’s debt agreements would trigger cross-default provisions under the Partnership’s other debt agreements, which would accelerate its obligation to repay its indebtedness under those agreements. As of
September 30, 2017
, the Partnership was in compliance with all financial covenants under the Partnership Credit Facility agreement.
8. Derivatives
We are exposed to market risks associated with changes in interest rates. We use derivative instruments to minimize the risks and/or costs associated with financial activities by managing our exposure to interest rate fluctuations on a portion of our debt obligations. We do not use derivative instruments for trading or other speculative purposes.
Interest Rate Risk
At
September 30, 2017
, the Partnership was a party to the following interest rate swaps, which were entered into to offset changes in expected cash flows due to fluctuations in the associated variable interest rates:
|
|
|
|
|
|
Expiration Date
|
|
Notional Value
(in millions)
|
May 2019
|
|
$
|
100
|
|
May 2020
|
|
100
|
|
March 2022
|
|
300
|
|
|
|
$
|
500
|
|
As of
September 30, 2017
, the weighted average effective fixed interest rate on the interest rate swaps was
1.8%
. We have designated these interest rate swaps as cash flow hedging instruments so that any change in their fair values is recognized as a component of comprehensive income (loss) and is included in accumulated other comprehensive income (loss) to the extent the hedge is effective. As the swap terms substantially coincide with the hedged item and are expected to offset changes in expected cash flows due to fluctuations in the variable rate, we currently do not expect a significant amount of ineffectiveness on these hedges. We perform qua
rterly calculations to determine whether the swap agreements are still effective and to calculate any ineffectiveness. We recorded
$0.7 million
of interest expense during the
nine
months ended
September 30, 2017
as compared to an immaterial amount of interest expense during the
nine
months ended
September 30, 2016
due to ineffectiveness related to interest rate swaps. We estimate that
$1.1 million
of deferred pre-tax losses attributable to interest rate swaps and included in our accumulated other comprehensive income (loss) at
September 30, 2017
, will be reclassified into earnings as interest expense at then-current values during the next twelve months as the underlying hedged transactions occur. Cash flows from derivatives designated as hedges are classified in our condensed consolidated statements of cash flows under the same category as the cash flows from the underlying assets, liabilities or anticipated transactions, unless the derivative contract contains a significant financing element; in this case, the cash settlements for these derivatives are classified as cash flows from financing activities in our condensed consolidated statements of cash flows.
In August 2017, the Partnership amended the terms of certain of its interest rate swap agreements, designated as cash flow hedges against the variability of future interest payments due under the Partnership Credit Facility, with a notional value of
$300.0 million
. The amended terms adjusted the fixed interest rate and extended the maturity dates to March 2022. These amendments effectively created new derivative contracts and terminated the old derivative contracts. As a result, as of the amendment date, we discontinued the original cash flow hedge relationships on a prospective basis and designated the amended interest rate swaps under new cash flow hedge relationships based on the amended terms. The fair value of the interest rate swaps immediately prior to the execution of the amendments was a liability of
$0.7 million
. The associated amount in accumulated other comprehensive income (loss) is being amortized into interest expense over the original terms of the interest rate swaps through May 2018.
The following tables present the effect of derivative instruments on our consolidated financial position and results of operations (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fair Value Asset (Liability)
|
|
Balance Sheet Location
|
|
September 30, 2017
|
|
December 31, 2016
|
Derivatives designated as hedging instruments:
|
|
|
|
|
|
Interest rate swaps
|
Other long-term assets
|
|
$
|
1,884
|
|
|
$
|
413
|
|
Interest rate swaps
|
Accrued liabilities
|
|
(1,297
|
)
|
|
(3,226
|
)
|
Interest rate swaps
|
Other long-term liabilities
|
|
—
|
|
|
(377
|
)
|
Total derivatives
|
|
|
$
|
587
|
|
|
$
|
(3,190
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
Pre-tax Gain (Loss)
Recognized in Other
Comprehensive
Income (Loss) on
Derivatives
|
|
Location of Pre-tax
Loss
Reclassified from
Accumulated Other
Comprehensive
Income (Loss) into
Income (Loss)
|
|
Pre-tax Loss
Reclassified from
Accumulated Other
Comprehensive
Income (Loss) into
Income (Loss)
|
Derivatives designated as cash flow hedges:
|
|
|
|
|
|
Interest rate swaps
|
|
|
|
|
|
Three months ended September 30, 2017
|
$
|
1,919
|
|
|
Interest expense
|
|
$
|
(678
|
)
|
Three months ended September 30, 2016
|
2,049
|
|
|
Interest expense
|
|
(1,208
|
)
|
Nine months ended September 30, 2017
|
2,282
|
|
|
Interest expense
|
|
(2,521
|
)
|
Nine months ended September 30, 2016
|
(7,401
|
)
|
|
Interest expense
|
|
(3,483
|
)
|
The counterparties to the derivative agreements are major financial institutions. We monitor the credit quality of these financial institutions and do not expect non-performance by any counterparty, although such non-performance could have a material adverse effect on us. The Partnership has no specific collateral posted for its derivative instruments.
9. Fair Value Measurements
The accounting standard for fair value measurements and disclosures establishes a fair value hierarchy that prioritizes the inputs of valuation techniques used to measure fair value into the following three categories:
|
|
•
|
Level 1
— Quoted unadjusted prices for identical instruments in active markets to which we have access at the date of measurement.
|
|
|
•
|
Level 2
— Quoted prices for similar instruments in active markets; quoted prices for identical or similar instruments in markets that are not active; and model-derived valuations in which all significant inputs and significant value drivers are observable in active markets. Level 2 inputs are those in markets for which there are few transactions, the prices are not current, little public information exists or prices vary substantially over time or among brokered market makers.
|
|
|
•
|
Level 3
— Model-derived valuations in which one or more significant inputs or significant value drivers are unobservable. Unobservable inputs are those inputs that reflect our own assumptions regarding how market participants would price the asset or liability based on the best available information.
|
Asset and Liabilities Measured at Fair Value on a Recurring Basis
On a quarterly basis, our interest rate swaps are valued based on the income approach (discounted cash flow) using market observable inputs, including forward LIBOR curves. These fair value measurements are classified as Level 2.
The following table presents our interest rate swaps asset and liability measured at fair value on a recurring basis as of
September 30, 2017
and
December 31, 2016
, with pricing levels as of the date of valuation (in thousands):
|
|
|
|
|
|
|
|
|
|
September 30, 2017
|
|
December 31, 2016
|
Interest rate swaps asset
|
$
|
1,884
|
|
|
$
|
413
|
|
Interest rate swaps liability
|
(1,297
|
)
|
|
(3,603
|
)
|
Asset and Liabilities Measured at Fair Value on a Nonrecurring Basis
During the nine months ended
September 30, 2017
, we recorded non-recurring fair value measurements related to our idle and previously-culled compressor units. Our estimate of the compressor units’ fair value was primarily based on either the expected net sale proceeds compared to other fleet units we recently sold and/or a review of other units recently offered for sale by third parties, or the estimated component value of the equipment we plan to use. We discounted the expected proceeds, net of selling and other carrying costs, using a weighted average disposal period of
four years
. These fair value measurements are classified as Level 3. The fair value of our impaired compressor units was
$1.1 million
and
$6.5 million
at
September 30, 2017
and
December 31, 2016
, respectively. See
Note 10
(“Long-Lived Asset Impairment”)
for further details.
Other Financial Instruments
The carrying amounts of our cash, receivables and payables approximate fair value due to the short-term nature of those instruments.
The carrying amounts of borrowings outstanding under our Credit Facility and Partnership Credit Facility approximate fair value due to their variable interest rates. The fair value of these outstanding borrowings was estimated using a discounted cash flow analysis based on interest rates offered on loans with similar terms to borrowers of similar credit quality, which are Level 3 inputs.
The fair value of our fixed rate debt was estimated based on quoted prices in inactive markets and is considered a Level 2 measurement. The following table summarizes the carrying amount and fair value of our fixed rate debt as of
September 30, 2017
and
December 31, 2016
(in thousands):
|
|
|
|
|
|
|
|
|
|
September 30, 2017
|
|
December 31, 2016
|
Carrying amount of fixed rate debt
(1)
|
$
|
685,947
|
|
|
$
|
683,577
|
|
Fair value of fixed rate debt
|
687,000
|
|
|
686,000
|
|
|
|
(1)
|
Carrying amounts are shown net of unamortized debt discounts and unamortized deferred financing costs. See
Note 7
(“Long-Term Debt”)
for further details.
|
10. Long-Lived Asset Impairment
We review long-lived assets, including property, plant and equipment and identifiable intangibles that are being amortized, for impairment whenever events or changes in circumstances, including the removal of compressor units from our active fleet, indicate that the carrying amount of an asset may not be recoverable.
During the
three and nine
months ended
September 30, 2017
and
2016
we reviewed the future deployment of our idle compression assets for units that were not of the type, configuration, condition, make or model that are cost efficient to maintain and operate. Based on these reviews, we determined that certain idle compressor units would be retired from the active fleet. The retirement of these units from the active fleet triggered a review of these assets for impairment, and as a result of our review, we recorded an asset impairment to reduce the book value of each unit to its estimated fair value. The fair value of each unit was estimated based on either the expected net sale proceeds compared to other fleet units we recently sold and/or a review of other units recently offered for sale by third parties, or the estimated component value of the equipment we plan to use.
In connection with our review of our idle compression assets during the
three and nine
months ended
September 30, 2017
and
2016
, we evaluated for impairment idle units that had been culled from our fleet in prior years and were available for sale. Based upon that review, we reduced the expected proceeds from disposition for certain of the remaining units and recorded additional impairment to reduce the book value of each unit to its estimated fair value.
The following table presents the results of our impairment review of compressor units for the
three and nine
months ended
September 30, 2017
and
2016
(dollars in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30,
|
|
Nine Months Ended September 30,
|
|
2017
|
|
2016
|
|
2017
|
|
2016
|
Idle compressor units retired from the active fleet
|
50
|
|
|
60
|
|
|
190
|
|
|
270
|
|
Horsepower of idle compressor units retired from the active fleet
|
20,000
|
|
|
25,000
|
|
|
71,000
|
|
|
97,000
|
|
Impairment recorded on idle compressor units retired from the active fleet
|
$
|
5,934
|
|
|
$
|
9,081
|
|
|
$
|
19,686
|
|
|
$
|
29,674
|
|
Additional impairment recorded on available-for-sale compressor units previously culled
|
$
|
—
|
|
|
$
|
7,632
|
|
|
$
|
—
|
|
|
$
|
10,707
|
|
In addition to the impairment discussed above, during the
three and nine
months ended
September 30, 2017
,
$0.8 million
of leasehold improvements and furniture and fixtures were impaired in conjunction with the relocation of our corporate office during the third quarter. See
Note 12
(“Corporate Office Relocation”)
for further details.
11. Restructuring and Other Charges
As discussed in
Note 3
(“Discontinued Operations”)
, we completed the Spin-off on the Distribution Date. During the three months ended
September 30, 2017
and
2016
, we incurred
$0.4 million
and
$0.7 million
, respectively, of costs associated with the Spin-off that were directly attributable to Archrock. During the
nine
months ended
September 30, 2017
and
2016
, we incurred
$1.2 million
and
$2.5 million
, respectively, of costs associated with the Spin-off. The restructuring charges associated with the Spin-off are not directly attributable to our reportable segments because they primarily represent costs incurred within the corporate function. As of
September 30, 2017
, we had an accrued liability of
$0.5 million
related to retention benefits incurred. We expect to incur an additional
$0.1 million
for the remainder of
2017
.
In the first quarter of
2016
, we determined to undertake a cost reduction program to reduce our on-going operating expenses, including workforce reductions and closure of certain make-ready shops. These actions were a result of our review of our businesses and efforts to efficiently manage cost and maintain our businesses in line with then current and expected activity levels and anticipated make-ready demand in the U.S. market. During the
three and nine
months ended
September 30, 2016
, we incurred
$4.0 million
and
$13.3 million
, respectively, of restructuring and other charges as a result of this plan primarily related to severance benefits and consulting fees. These charges are reflected as restructuring and other charges in our condensed consolidated statement of operations. The cost reduction program under this plan was completed during the fourth quarter of 2016.
The following table presents the expense incurred under this plan by reportable segment (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Contract
Operations
|
|
Aftermarket
Services
|
|
Other
(1)
|
|
Total
|
Three months ended September 30, 2016
|
$
|
508
|
|
|
$
|
312
|
|
|
$
|
3,210
|
|
|
$
|
4,030
|
|
Nine months ended September 30, 2016
|
3,424
|
|
|
1,113
|
|
|
8,762
|
|
|
13,299
|
|
|
|
(1)
|
Represents expenses incurred under this plan that are not directly attributable to our reportable segments because it represents severance benefits and consulting fees incurred within the corporate function.
|
The following table summarizes the changes to our accrued liability balance related to restructuring and other charges for the
nine
months ended
September 30, 2016
and
2017
(in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Spin-off
|
|
Cost
Reduction Plan
|
|
Total
|
Beginning balance at January 1, 2016
|
$
|
855
|
|
|
$
|
—
|
|
|
$
|
855
|
|
Additions for costs expensed
|
2,459
|
|
|
13,299
|
|
|
15,758
|
|
Less non-cash expense
(1)
|
(1,492
|
)
|
|
—
|
|
|
(1,492
|
)
|
Reductions for payments
|
(1,106
|
)
|
|
(13,235
|
)
|
|
(14,341
|
)
|
Ending balance at September 30, 2016
|
$
|
716
|
|
|
$
|
64
|
|
|
$
|
780
|
|
|
|
|
|
|
|
Beginning balance at January 1, 2017
|
$
|
712
|
|
|
$
|
—
|
|
|
$
|
712
|
|
Additions for costs expensed
|
1,245
|
|
|
—
|
|
|
1,245
|
|
Less non-cash expense
(1)
|
(895
|
)
|
|
—
|
|
|
(895
|
)
|
Reductions for payments
|
(606
|
)
|
|
—
|
|
|
(606
|
)
|
Ending balance at September 30, 2017
|
$
|
456
|
|
|
$
|
—
|
|
|
$
|
456
|
|
|
|
(1)
|
Represents non-cash retention benefits associated with the Spin-off to be settled in Archrock stock.
|
The following table summarizes the components of charges included in restructuring and other charges in our condensed consolidated statements of operations for the three and
nine
months ended
September 30, 2017
and
2016
(in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30,
|
|
Nine Months Ended September 30,
|
|
2017
|
|
2016
|
|
2017
|
|
2016
|
Retention and severance benefits
|
$
|
422
|
|
|
$
|
4,297
|
|
|
$
|
1,245
|
|
|
$
|
11,692
|
|
Consulting services
|
—
|
|
|
392
|
|
|
—
|
|
|
4,066
|
|
Total restructuring and other charges
|
$
|
422
|
|
|
$
|
4,689
|
|
|
$
|
1,245
|
|
|
$
|
15,758
|
|
12. Corporate Office Relocation
During the
three and nine
months ended
September 30, 2017
we recorded
$2.1 million
in charges associated with the relocation of our corporate headquarters during the third quarter. The charges included the estimated costs that will continue to be incurred through the end of the lease term in the first quarter of 2018 associated with our former corporate office and relocation costs which are reflected in SG&A. Additionally, leasehold improvements and furniture and fixtures were impaired in the third quarter of 2017 and are reflected in long-lived asset impairment in our condensed consolidated income statement (see
Note 10
(“Long-Lived Asset Impairment”)
). We do not expect to incur additional costs as a result of the relocation.
The following table summarizes the changes to our accrued liability balance related to our corporate office relocation for the
nine
months ended
September 30, 2017
(in thousands):
|
|
|
|
|
Beginning balance at January 1, 2017
|
$
|
—
|
|
Additions for costs expensed
|
2,113
|
|
Less non-cash expense
(1)
|
(613
|
)
|
Reductions for payments
|
(72
|
)
|
Ending balance at September 30, 2017
|
$
|
1,428
|
|
|
|
(1)
|
Represents non-cash write-off of leasehold improvements, furniture and fixtures and the net liability associated with the straight-line expense associated with the lease of our former corporate office.
|
The following table summarizes our corporate office relocation costs by category during the
three and nine
months ended
September 30, 2017
(in thousands):
|
|
|
|
|
Remaining lease costs
|
$
|
1,258
|
|
Impairment of leasehold improvements and furniture and fixtures
|
795
|
|
Relocation costs
|
60
|
|
Total corporate relocation costs
|
$
|
2,113
|
|
13. Income Taxes
Recent appellate court decisions have required us to remeasure certain of our uncertain tax positions. Consequently, we increased our unrecognized tax benefit for these positions during the
nine
months ended
September 30, 2017
. We had
$21.1 million
and
$9.7 million
of unrecognized tax benefits at
September 30, 2017
and
December 31, 2016
, respectively, of which
$16.0 million
and
$9.7 million
, respectively, would affect the effective tax rate if recognized. We also recorded
$1.5 million
and
$0.2 million
of potential interest expense and penalties related to unrecognized tax benefits associated with uncertain tax positions as of
September 30, 2017
and
December 31, 2016
, respectively. In addition, our income tax provision reflects a federal benefit of
$0.1 million
and
$2.4 million
in the three and nine months ended
September 30, 2017
, respectively, and a deferred state release of
$4.3 million
in the
nine
months ended
September 30, 2017
related to the increase in our unrecognized tax benefit.
14. Stock-Based Compensation
Stock Incentive Plan
In April 2013, we adopted the 2013 Plan to provide for the granting of stock options, restricted stock, restricted stock units, stock appreciation rights, performance units, other stock-based awards and dividend equivalent rights to employees, directors and consultants of Archrock. Under the 2013 Plan, the maximum number of shares of common stock available for issuance pursuant to awards is
10,100,000
. Each option and stock appreciation right granted counts as
one
share against the aggregate share limit, and any share subject to a stock settled award other than a stock option, stock appreciation right or other award for which the recipient pays intrinsic value counts as
1.75
shares against the aggregate share limit. Shares subject to awards granted under the 2013 Plan that are subsequently canceled, terminated, settled in cash or forfeited (excluding shares withheld to satisfy tax withholding obligations or to pay the exercise price of an option) are, to the extent of such cancellation, termination, settlement or forfeiture, available for future grant under the 2013 Plan. Cash-settled awards are not counted against the aggregate share limit. No additional grants may be made under the 2007 Plan. Previous grants made under the 2007 Plan will continue to be governed by that plan and the applicable award agreements.
Stock Options
Stock options are granted at fair market value at the grant date, are exercisable according to the vesting schedule established by the compensation committee of our board of directors in its sole discretion and expire no later than
seven
years after the grant date. Stock options generally vest one-third per year on each of the first three anniversaries of the grant date, subject to continued service through the applicable vesting date.
The following table presents stock option activity during the
nine
months ended
September 30, 2017
:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Stock
Options
(in thousands)
|
|
Weighted
Average
Exercise Price
Per Share
|
|
Weighted
Average
Remaining
Life
(in years)
|
|
Aggregate
Intrinsic
Value
(in thousands)
|
Options outstanding, January 1, 2017
|
747
|
|
|
$
|
16.88
|
|
|
|
|
|
Granted
|
—
|
|
|
—
|
|
|
|
|
|
Exercised
|
(83
|
)
|
|
12.04
|
|
|
|
|
|
|
Canceled
|
(175
|
)
|
|
32.00
|
|
|
|
|
|
Options outstanding, September 30, 2017
|
489
|
|
|
12.28
|
|
|
1.8
|
|
$
|
1,494
|
|
Options exercisable, September 30, 2017
|
489
|
|
|
12.28
|
|
|
1.8
|
|
1,494
|
|
Intrinsic value is the difference between the market value of our stock and the exercise price of each stock option multiplied by the number of stock options outstanding for those stock options where the market value exceeds their exercise price. The total intrinsic value of stock options exercised during the
nine
months ended
September 30, 2017
was
$0.3 million
.
Restricted Stock, Stock-Settled Restricted Stock Units, Performance Units, Cash-Settled Restricted Stock Units and Cash Settled Performance Units
For grants of restricted stock, restricted stock units and performance units, we recognize compensation expense over the vesting period equal to the fair value of our common stock at the grant date. Our restricted stock, restricted stock units, and performance units include rights to receive dividends or dividend equivalents. We remeasure the fair value of cash-settled restricted stock units and cash-settled performance units and record a cumulative adjustment of the expense previously recognized. Our obligation related to the cash-settled restricted stock units and cash settled performance units is reflected as a liability in our condensed consolidated balance sheets. Restricted stock, stock-settled restricted stock units, cash-settled restricted stock units and cash-settled performance units generally vest one-third per year on dates as specified in the applicable award agreement, subject to continued service through the applicable vesting date. Stock-settled performance units cliff vest at the end of the performance period as specified in the terms of the applicable award agreement, subject to continued service through the applicable vesting date.
The following table presents restricted stock, restricted stock unit, performance unit, cash-settled restricted stock unit and cash- settled performance unit activity during the
nine
months ended
September 30, 2017
:
|
|
|
|
|
|
|
|
|
Shares
(in thousands)
|
|
Weighted
Average
Grant Date
Fair Value
Per Share
|
Non-vested awards, January 1, 2017
|
1,612
|
|
|
$
|
10.08
|
|
Granted
|
811
|
|
|
12.95
|
|
Vested
|
(668
|
)
|
|
12.30
|
|
Canceled
|
(105
|
)
|
|
10.82
|
|
Non-vested awards, September 30, 2017
(1)
|
1,650
|
|
|
10.54
|
|
|
|
(1)
|
Non-vested awards as of
September 30, 2017
are comprised of
258,000
cash-settled restricted stock units and cash-settled performance units and
1,392,000
restricted shares and stock-settled performance units.
|
As of
September 30, 2017
, we expect
$12.8 million
of unrecognized compensation cost related to unvested restricted stock, stock-settled restricted stock units, performance units, cash-settled restricted stock units and cash-settled performance units to be recognized over the weighted-average period of
2.2
years.
Partnership Long-Term Incentive Plan
In April 2017, the Partnership adopted the 2017 Partnership LTIP to provide for the benefit of employees, directors and consultants of the Partnership, us and our respective affiliates.
Two million
common units have been authorized for issuance with respect to awards under the 2017 Partnership LTIP. The 2017 Partnership LTIP provides for the issuance of unit options, unit appreciation rights, restricted units, phantom units, performance awards, bonus awards, distribution equivalent rights, cash awards and other unit based awards. The Partnership Plan will be administered by the Partnership Plan Administrator. The 2006 Partnership LTIP expired in 2016 and as such no further grants can be made under that plan. Previous grants made under the 2006 Partnership LTIP will continue to be governed by the 2006 Partnership LTIP and the applicable award agreements.
Phantom units are notional units that entitle the grantee to receive common units upon the vesting of such phantom units or, at the discretion of the Partnership Plan Administrator, cash equal to the fair market value of such common units. Phantom units may include nonforfeitable tandem distribution equivalent rights to receive cash distributions on unvested phantom units in the quarter in which distributions are paid on common units. For grants of phantom units, we recognize compensation expense over the vesting period equal to the fair value of the Partnership’s common units at the grant date. Phantom units generally vest
one-third
per year on dates as specified in the applicable award agreements subject to continued service through the applicable vesting date.
Partnership Phantom Units
The following table presents phantom unit activity during the
nine
months ended
September 30, 2017
:
|
|
|
|
|
|
|
|
|
Phantom
Units
(in thousands)
|
|
Weighted
Average
Grant Date
Fair Value
per Unit
|
Phantom units outstanding, January 1, 2017
|
197
|
|
|
$
|
11.60
|
|
Granted
|
81
|
|
|
16.28
|
|
Vested
|
(89
|
)
|
|
14.86
|
|
Canceled
|
(11
|
)
|
|
7.84
|
|
Phantom units outstanding, September 30, 2017
|
178
|
|
|
12.32
|
|
As of
September 30, 2017
, we expect
$1.7 million
of unrecognized compensation cost related to unvested phantom units to be recognized over the weighted-average period of
2.1 years
.
15. Cash Dividends
The following table summarizes our dividends per common share:
|
|
|
|
|
|
|
|
|
|
|
|
Declaration Date
|
|
Payment Date
|
|
Dividends per
Common Share
|
|
Total Dividends
|
January 26, 2016
|
|
February 16, 2016
|
|
$
|
0.1875
|
|
|
$
|
13.1
|
million
|
May 2, 2016
|
|
May 18, 2016
|
|
0.0950
|
|
|
6.7
|
million
|
July 27, 2016
|
|
August 16, 2016
|
|
0.0950
|
|
|
6.7
|
million
|
October 31, 2016
|
|
November 17, 2016
|
|
0.1200
|
|
|
8.4
|
million
|
January 19, 2017
|
|
February 15, 2017
|
|
0.1200
|
|
|
8.5
|
million
|
April 26, 2017
|
|
May 16, 2017
|
|
0.1200
|
|
|
8.5
|
million
|
July 26, 2017
|
|
August 15, 2017
|
|
0.1200
|
|
|
8.5
|
million
|
On
October 20, 2017
, our board of directors declared a quarterly dividend of
$0.12
per share of common stock to be paid on
November 15, 2017
to stockholders of record at the close of business on
November 8, 2017
.
16. Commitments and Contingencies
Performance Bonds
In the normal course of business we have issued performance bonds to various state authorities that ensure payment of certain obligations. We have also issued a bond to protect our 401(k) retirement plan against losses caused by acts of fraud or dishonesty. The bonds have expiration dates in 2017 through the first quarter of 2020 and maximum potential future payments of
$2.3 million
. As of
September 30, 2017
, we were in compliance with all obligations to which the performance bonds pertain.
Tax Matters
We are subject to a number of state and local taxes that are not income-based. As many of these taxes are subject to audit by the taxing authorities, it is possible that an audit could result in additional taxes due. We accrue for such additional taxes when we determine that it is probable that we have incurred a liability and we can reasonably estimate the amount of the liability. As of
September 30, 2017
and
December 31, 2016
, we accrued
$1.7 million
and
$1.5 million
, respectively, for the outcomes of non-income based tax audits. We do not expect that the ultimate resolutions of these audits will result in a material variance from the amounts accrued. We do not accrue for unasserted claims for tax audits unless we believe the assertion of a claim is probable, it is probable that it will be determined that the claim is owed and we can reasonably estimate the claim or range of the claim. We believe the likelihood is remote that the impact of potential unasserted claims from non-income based tax audits could be material to our consolidated financial position, but it is possible that the resolution of future audits could be material to our consolidated results of operations or cash flows for the period in which the resolution occurs.
Subject to the provisions of the tax matters agreement between Exterran Corporation and us, both parties agreed to indemnify the primary obligor of any return for tax periods beginning before and ending before or after the Spin-off (including any ongoing or future amendments and audits for these returns) for the portion of the tax liability (including interest and penalties) that relates to their respective operations reported in the filing. As of
September 30, 2017
and
December 31, 2016
, we recorded an indemnification liability (including penalties and interest) of
$2.0 million
and
$1.7 million
, respectively, related to non-income based tax audits.
Insurance Matters
Our business can be hazardous, involving unforeseen circumstances such as uncontrollable flows of natural gas or well fluids and fires or explosions. As is customary in our industry, we review our safety equipment and procedures and carry insurance against some, but not all, risks of our business. Our insurance coverage includes property damage, general liability and commercial automobile liability and other coverage we believe is appropriate. In addition, we have a minimal amount of insurance on our offshore assets. We believe that our insurance coverage is customary for the industry and adequate for our business; however, losses and liabilities not covered by insurance would increase our costs.
Additionally, we are substantially self-insured for workers’ compensation and employee group health claims in view of the relatively high per-incident deductibles we absorb under our insurance arrangements for these risks. Losses up to the deductible amounts are estimated and accrued based upon known facts, historical trends and industry averages.
Indemnification Obligations
On November 3, 2015, we completed the Spin-off of our international contract operations, international aftermarket services and global fabrication businesses into a separate, publicly traded company operating as Exterran Corporation. In connection with the Spin-off, we entered into a separation and distribution agreement, which provides for cross-indemnities between Exterran Corporation’s operating subsidiary and us and established procedures for handling claims subject to indemnification and related matters. Generally, the separation and distribution agreement provides for cross-indemnities principally designed to place financial responsibility for the obligations and liabilities of our business with us and financial responsibility for the obligations and liabilities of Exterran Corporation’s business with Exterran Corporation. Pursuant to the separation and distribution agreement, we and Exterran Corporation will generally release the other party from all claims arising prior to the Spin-off that relate to the other party’s business.
Litigation and Claims
In 2011, the Texas Legislature enacted changes related to the appraisal of natural gas compressors for ad valorem tax purposes by expanding the definitions of “Heavy Equipment Dealer” and “Heavy Equipment” effective from the beginning of 2012. Under the revised Heavy Equipment Statutes, we believe we are a Heavy Equipment Dealer, that our natural gas compressors are Heavy Equipment and that we, therefore, are required to file our ad valorem taxes under this new methodology. We further believe that our natural gas compressors are taxable under the Heavy Equipment Statutes in the counties where we maintain a business location and keep natural gas compressors instead of where the compressors may be located on January 1 of a tax year. As a result of this new methodology, our ad valorem tax expense (which is reflected in our condensed consolidated statements of operations as a component of cost of sales (excluding depreciation and amortization expense)) includes a benefit of
$12.7 million
during the
nine
months ended
September 30, 2017
. Since the change in methodology became effective in 2012, we have recorded an aggregate benefit of
$73.4 million
as of
September 30, 2017
, of which
$16.0 million
has been agreed to by a number of appraisal review boards and county appraisal districts and
$57.4 million
has been disputed and is currently in litigation. A large number of appraisal review boards denied our position, although some accepted it, and our wholly owned subsidiary, Archrock Services Leasing LLC, formerly known as EES Leasing, and Archrock Partners’ subsidiary, Archrock Partners Leasing LLC, formerly known as EXLP Leasing, filed
176
petitions for review in the appropriate district courts with respect to the 2012 tax year,
109
petitions for review in the appropriate district courts with respect to the 2013 tax year,
115
petitions for review in the appropriate district courts with respect to the 2014 tax year,
120
petitions for review in the appropriate district courts with respect to the 2015 tax year,
113
petitions for review in the appropriate district courts with respect to the 2016 tax year and
83
petitions for review in the appropriate district courts with respect to the 2017 tax year.
To date, only
five
cases have advanced to the point of trial or submission of summary judgment motions on the merits, and only
three
cases have been decided, with
two
of the decisions having been rendered by the same presiding judge. All
three
of those decisions were appealed, and all
three
of the appeals have been decided by intermediate appellate courts.
On October 17, 2013, the 143rd Judicial District Court of Loving County, Texas ruled in
EXLP Leasing LLC & EES Leasing LLC v. Loving County Appraisal District
that EES Leasing and EXLP Leasing are Heavy Equipment Dealers and that their compressors qualify as Heavy Equipment, but the district court further held that the Heavy Equipment Statutes were unconstitutional as applied to EES Leasing’s and EXLP Leasing’s compressors. EES Leasing and EXLP Leasing appealed the district court’s constitutionality holding to the Eighth Court of Appeals in El Paso, Texas. On September 23, 2015, the Eighth Court of Appeals ruled in EES Leasing’s and EXLP Leasing’s favor by overruling the 143rd District Court’s constitutionality ruling. The Eighth Court of Appeals also ruled, however, that EES Leasing’s and EXLP Leasing’s natural gas compressors are taxable in the counties where they were located on January 1 of the tax year at issue.
On October 28, 2013, the 143rd Judicial District Court of Ward County, Texas ruled in
EES Leasing LLC & EXLP Leasing LLC v. Ward County Appraisal District
that EES Leasing and EXLP Leasing are Heavy Equipment Dealers and that their compressors qualify as Heavy Equipment, but the court held that the Heavy Equipment Statutes were unconstitutional as applied to their compressors. EES Leasing and EXLP Leasing appealed the district court’s constitutionality holding to the Eighth Court of Appeals in El Paso, Texas, and the Ward County Appraisal District cross-appealed the district court’s rulings that EES Leasing’s and EXLP Leasing’s compressors qualify as Heavy Equipment. On September 23, 2015, the Eighth Court of Appeals ruled in EES Leasing’s and EXLP Leasing’s favor by overruling the 143rd District Court’s constitutionality ruling and affirming its ruling that EES Leasing’s and EXLP Leasing’s compressors qualify as Heavy Equipment. The Eighth Court of Appeals also ruled, however, that EES Leasing’s and EXLP Leasing’s natural gas compressors are taxable in the counties where they were located on January 1 of the tax year at issue.
The Ward County Appraisal District and Loving County Appraisal District each filed (on January 27, 2016 and February 10, 2016, respectively) a petition asking the Texas Supreme Court to review its respective Eighth Court of Appeals decision. On March 11, 2016, EES Leasing and EXLP Leasing filed responses to the appraisal districts’ petitions and cross-petitions for review in each case asking the Texas Supreme Court to also review the Eighth Court of Appeals’ determination that natural gas compressors are taxable in the counties where they were located on January 1 of the tax year at issue. The Ward County Appraisal District filed its response to EES Leasing’s and EXLP Leasing’s cross-petition on June 6, 2016, and EES Leasing and EXLP Leasing filed their reply on June 21, 2016. The Loving County Appraisal District filed its response to EES Leasing’s and EXLP Leasing’s cross-petition on May 27, 2016, and EES Leasing and EXLP Leasing filed their reply on June 10, 2016.
On March 18, 2014, the 10th Judicial District Court of Galveston, Texas ruled in
EXLP Leasing LLC & EES Leasing LLC v. Galveston Central Appraisal District
that EES Leasing and EXLP Leasing are Heavy Equipment Dealers and that their compressors qualify as Heavy Equipment, but the court held the Heavy Equipment Statutes unconstitutional as applied to their compressors. EES Leasing and EXLP Leasing appealed the district court’s constitutionality holding to the Fourteenth Court of Appeals in Houston, Texas. On August 25, 2015, the Fourteenth Court of Appeals issued a ruling stating that EES Leasing’s and EXLP Leasing’s compressors are taxable in the counties where they were located on January 1 of the tax year at issue, and it remanded the case to the district court for further evidence on the issue of whether the Heavy Equipment Statutes are constitutional as applied to EES Leasing’s and EXLP Leasing’s compressors. On November 24, 2015, EES Leasing and EXLP Leasing filed a petition asking the Texas Supreme Court to review this decision. On March 21, 2016, the Galveston Central Appraisal District filed a response to EES Leasing’s and EXLP Leasing’s petition for review, and EES Leasing and EXLP Leasing filed their reply on April 26, 2016.
In EES
Leasing v. Irion County Appraisal District
, EES Leasing and the appraisal district each filed motions for summary judgment in the 51st District Court concerning the applicability and constitutionality of the Heavy Equipment Statutes. On May 20, 2014, the district court entered an order denying both motions for summary judgment, holding that a fact issue existed as to the applicability of the Heavy Equipment Statutes to the one compressor at issue. The presiding judge for the 51st District Court has since consolidated the 2012 tax year case with EES Leasing’s 2013 tax year case, which also included EXLP Leasing as a party. On August 27, 2015, the presiding judge abated the combined case,
EES Leasing LLC and EXLP Leasing LLC v. Irion County Appraisal District
, until the final resolution of the appellate cases considering the constitutionality of the Heavy Equipment Statutes, or further order of the court.
EES Leasing and EXLP Leasing also filed a motion for summary judgment in
EES Leasing LLC & EXLP Leasing LLC v. Harris County Appraisal District
, pending in the 189th Judicial District Court of Harris County, Texas. The court heard arguments on the motion on December 6, 2013 but has yet to rule. No trial date has been set.
On June 3, 2015, the Fourth Court of Appeals in San Antonio, Texas issued a decision reversing the 406th District Court’s dismissal of EES Leasing’s and EXLP Leasing’s tax appeals for want of jurisdiction. In EXLP Leasing LLC et. al v. Webb County Appraisal District, United Independent School District (“United ISD”) intervened as a party in interest and sought to dismiss the lawsuit arguing that the district court was without jurisdiction to hear the appeal. Under Section 42.08(b) of the Texas Tax Code, a property owner must pay before the delinquency date the lesser of (1) the amount of taxes due on the portion of the taxable value of the property that is not in dispute or (2) the amount of taxes due on the property under the order from which the appeal is taken. EES Leasing and EXLP Leasing paid zero taxes to Webb County because the entire amount of tax assessed by Webb County was in dispute. Instead, as required by the Heavy Equipment Statutes and Texas Comptroller forms, EES Leasing and EXLP Leasing paid taxes on the compressors at issue to Victoria County, where they maintain their place of business and keep natural gas compressors. The Webb County Appraisal District and United ISD contested EES Leasing’s and EXLP Leasing’s position that the Heavy Equipment Statutes contain situs provisions requiring that taxes be paid where the dealer has a business location and keeps its natural gas compressors, instead arguing that taxes are payable to the county where each compressor is located as of January 1 of the tax year at issue. The district court granted United ISD’s motion to dismiss on April 1, 2014 and declined EES Leasing’s and EXLP Leasing’s motion to reconsider. The Fourth Court of Appeals reversed, holding that, based on the plain meaning of Section 42.08(b)(1), and because the entire amount was in dispute, EES Leasing and EXLP Leasing were not required to prepay disputed taxes to invoke the trial court’s jurisdiction. The Fourth Court of Appeals denied United ISD’s request for a rehearing. On September 29, 2015, United ISD filed a petition for review in the Texas Supreme Court. On December 4, 2015, the Texas Supreme Court denied United ISD’s petition for review.
United ISD has
four
delinquency lawsuits pending against EES Leasing and EXLP Leasing in the 49th District Court of Webb County, Texas. The cases have been abated pending the resolution of EES Leasing’s and EXLP Leasing’s 2012 tax year case pending in the 406th Judicial District Court of Webb County, Texas.
On September 2, 2016, the Texas Supreme Court requested that consolidated merits briefs be filed in EES Leasing’s and EXLP Leasing’s cases against the Loving County Appraisal District, Ward County Appraisal District, and Galveston Central Appraisal District, as well as two similar cases involving different taxpayers. On September 19, 2016, the Supreme Court entered a consolidated briefing schedule for the
five
cases. Consolidated briefing was completed on February 7, 2017.
On March 10, 2017, the Texas Supreme Court granted EXLP Leasing’s and EES Leasing’s petition for review in
EXLP Leasing LLC & EES Leasing LLC v. Galveston Central Appraisal District
. Oral argument before the Texas Supreme Court was held on October 10, 2017.
We continue to believe that the revised statutes are constitutional as applied to natural gas compressors and that under the revised statutes our natural gas compressors are taxable in the counties where we maintain a business location and keep natural gas compressors. Recognizing the similarity of the issues and that these cases will ultimately be resolved by the Texas appellate courts, most of the remaining 2012-2017 district court cases have been formally or effectively abated pending a decision from the Texas Supreme Court.
If we are unsuccessful in our litigation, we would be required to pay ad valorem taxes up to the aggregate benefit we have recorded, and the additional ad valorem tax payments may also be subject to substantial penalties and interest. In addition, while we do not expect the ultimate determination of the issue of where the natural gas compressors are taxable under the Heavy Equipment Statutes would have an impact on the amount of taxes due, we could be subject to substantial penalties if we are unsuccessful on this issue. Also, if we are unsuccessful in our litigation, or if legislation is enacted in Texas that repeals or alters the Heavy Equipment Statutes such that in the future we do not qualify as a Heavy Equipment Dealer or our compressors do not qualify as Heavy Equipment, then we would likely be required to pay these ad valorem taxes under the old methodology going forward, which would increase our quarterly cost of sales expense up to approximately the amount of our then most recent quarterly benefit recorded. If this litigation is resolved against us in whole or in part, or if in the future we do not qualify as a Heavy Equipment Dealer or our compressors do not qualify as Heavy Equipment because of new or revised Texas statutes, we will incur additional taxes and could be subject to substantial penalties and interest, which would impact our future results of operations, financial position and cash flows, including our ability to pay dividends.
In the ordinary course of business, we are also involved in various other pending or threatened legal actions. While management is unable to predict the ultimate outcome of these actions, it believes that any ultimate liability arising from any of these other actions will not have a material adverse effect on our consolidated financial position, results of operations or cash flows, including our ability to pay dividends. However, because of the inherent uncertainty of litigation and arbitration proceedings, we cannot provide assurance that the resolution of any particular claim or proceeding to which we are a party will not have a material adverse effect on our consolidated financial position, results of operations or cash flows, including our ability to pay dividends.
In addition, the SEC has been conducting an investigation in connection with certain previously disclosed errors and possible irregularities at one of our former international operations. We and Exterran Corporation are cooperating with the SEC in the investigation. Among other things, we have been assisting Exterran Corporation in responding to a subpoena for documents related to the restatement of prior period consolidated and combined financial statements and related disclosures and compliance with the U.S. Foreign Corrupt Practices Act, which are also being provided to the U.S. Department of Justice at its request.
17. Reportable Segments
We manage our business segments primarily based upon the type of product or service provided. We have
two
reportable segments which we operate within the U.S.: contract operations and aftermarket services. The contract operations segment primarily provides natural gas compression services to meet specific customer requirements. The aftermarket services segment provides a full range of services to support the compression needs of customers, from part sales and normal maintenance services to full operation of a customer’s owned assets.
We evaluate the performance of our segments based on gross margin for each segment. Revenue includes only sales to external customers.
The following table presents revenue and other financial information by reportable segment during the three and
nine
months ended
September 30, 2017
and
2016
(in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Contract
Operations
|
|
Aftermarket
Services
|
|
Reportable
Segments
Total
|
Three months ended September 30, 2017:
|
|
|
|
|
|
Revenue from external customers
|
$
|
153,524
|
|
|
$
|
44,329
|
|
|
$
|
197,853
|
|
Gross margin
|
81,573
|
|
|
5,843
|
|
|
87,416
|
|
Three months ended September 30, 2016:
|
|
|
|
|
|
Revenue from external customers
|
$
|
156,599
|
|
|
$
|
39,250
|
|
|
$
|
195,849
|
|
Gross margin
|
96,823
|
|
|
6,500
|
|
|
103,323
|
|
|
|
|
|
|
|
Nine months ended September 30, 2017:
|
|
|
|
|
|
Revenue from external customers
|
$
|
454,622
|
|
|
$
|
131,098
|
|
|
$
|
585,720
|
|
Gross margin
|
256,331
|
|
|
19,271
|
|
|
275,602
|
|
Nine months ended September 30, 2016:
|
|
|
|
|
|
Revenue from external customers
|
$
|
495,811
|
|
|
$
|
117,478
|
|
|
$
|
613,289
|
|
Gross margin
|
308,990
|
|
|
20,013
|
|
|
329,003
|
|
The following table reconciles total gross margin to loss before income taxes (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three Months Ended September 30,
|
|
Nine Months Ended September 30,
|
|
2017
|
|
2016
|
|
2017
|
|
2016
|
Total gross margin
|
$
|
87,416
|
|
|
$
|
103,323
|
|
|
$
|
275,602
|
|
|
$
|
329,003
|
|
Less:
|
|
|
|
|
|
|
|
Selling, general and administrative
|
29,108
|
|
|
25,448
|
|
|
81,823
|
|
|
87,745
|
|
Depreciation and amortization
|
47,463
|
|
|
52,068
|
|
|
142,483
|
|
|
157,891
|
|
Long-lived asset impairment
|
7,105
|
|
|
16,713
|
|
|
20,858
|
|
|
40,381
|
|
Restatement and other charges
|
566
|
|
|
426
|
|
|
3,287
|
|
|
860
|
|
Restructuring and other charges
|
422
|
|
|
4,689
|
|
|
1,245
|
|
|
15,758
|
|
Interest expense
|
22,892
|
|
|
21,365
|
|
|
66,817
|
|
|
62,842
|
|
Debt extinguishment costs
|
—
|
|
|
—
|
|
|
291
|
|
|
—
|
|
Other income, net
|
(2,716
|
)
|
|
(2,470
|
)
|
|
(4,472
|
)
|
|
(4,640
|
)
|
Loss before income taxes
|
$
|
(17,424
|
)
|
|
$
|
(14,916
|
)
|
|
$
|
(36,730
|
)
|
|
$
|
(31,834
|
)
|
18. Transactions Related to the Partnership
At
September 30, 2017
, Archrock owned an approximate
43%
interest in the Partnership. As of
September 30, 2017
, the Partnership’s fleet included
6,046
compressor units comprising approximately
3.3 million
horsepower, or
85%
of our and the Partnership’s combined total horsepower.
The liabilities recognized as a result of consolidating the Partnership do not necessarily represent additional claims on the general assets of Archrock outside of the Partnership; rather, they represent claims against the specific assets of the consolidated Partnership. Conversely, assets recognized as a result of consolidating the Partnership do not necessarily represent additional assets that could be used to satisfy claims against Archrock’s general assets. There are no restrictions on the Partnership’s assets that are reported in Archrock’s general assets.
On
October 20, 2017
, the board of directors of Archrock GP LLC, the general partner of GP, approved a cash distribution by the Partnership of
$0.2850
per common unit, or approximately
$20.5 million
. Of the total distribution the Partnership will pay us approximately
$8.7 million
with respect to our common unit and general partner interest in the Partnership. The distribution covers the period from
July 1, 2017
through
September 30, 2017
. The record date for this distribution is
November 8, 2017
and payment is expected to occur on
November 14, 2017
.
In August 2017, the Partnership sold, pursuant to a public underwritten offering,
4,600,000
common units, including
600,000
common units pursuant to an over-allotment option. The Partnership received net proceeds of
$60.3 million
, after deducting underwriting discounts, commissions and offering expenses, which it used to repay borrowings outstanding under the Partnership Credit Facility. In connection with this sale and as permitted under its partnership agreement, the Partnership sold
93,163
general partner units to GP for a contribution of
$1.3 million
to maintain GP’s approximate
2%
general partner interest in the Partnership. As a result, adjustments were made to noncontrolling interest, accumulated other comprehensive income (loss), deferred income taxes and additional paid-in capital to reflect our new ownership percentage in the Partnership.
During the
nine
months ended
September 30, 2017
, the Partnership issued and sold to GP
94,506
general partner units, including the
93,163
units sold in the offering discussed above, to maintain GP’s approximate
2%
general partner interest in the Partnership.
During the
nine
months ended
September 30, 2016
, the Partnership issued and sold to GP
6,363
general partner units, including the
5,205
units sold in the March 2016 Acquisition, to maintain GP’s approximate
2%
general partner interest in the Partnership.
On March 1, 2016, the Partnership completed the March 2016 Acquisition. A portion of the
$18.8 million
purchase price was funded through the issuance of
257,000
of the Partnership’s common units for
$1.8 million
in connection with this acquisition, the Partnership issued and sold to GP, our wholly owned subsidiary and the Partnership’s general partner,
5,205
general partner units to maintain GP’s approximate
2%
general partner interest in the Partnership. See
Note 4
(“Business Acquisitions”)
for additional information. As a result, adjustments were made to noncontrolling interest, accumulated other comprehensive income (loss), deferred income taxes and additional paid-in capital to reflect our new ownership percentage in the Partnership.
The following table presents the effects of changes from net loss attributable to Archrock stockholders and changes in our equity interest of the Partnership on our equity attributable to Archrock stockholders (in thousands):