NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Years Ended December 31, 2001, 2002 and 2003 and for the 62 Day Period Ended
March 2, 2004
(1) Organization and Nature of Business and the Transaction
General
Coffeyville Group Holdings, LLC (Coffeyville, Successor or the Company) is a
Delaware limited liability company which on March 3, 2004, acting through
wholly-owned subsidiaries, acquired the assets of the former Farmland
Industries, Inc. (Farmland) Petroleum Division and one facility located in
Coffeyville, Kansas within Farmland's eight-plant Nitrogen Fertilizer
Manufacturing and Marketing Division (collectively, the Predecessor). Farmland
was a farm supply cooperative and a processing and marketing cooperative. The
Predecessor operated as a division of Farmland (Petroleum), and a plant within a
division of Farmland (Nitrogen Fertilizer). The accompanying Predecessor
financial statements principally reflect the refining, crude oil gathering, and
petroleum distribution operations of Farmland and the only coke gasification
plant of Farmland's nitrogen fertilizer operations. Coffeyville Group Holdings,
LLC, acting through wholly-owned subsidiaries, is an independent petroleum
refiner and marketer in the mid-continental United States and a producer and
marketer of upgraded nitrogen fertilizer products in North America. Operations
are organized into two business segments: Petroleum and Nitrogen Fertilizer.
The Petroleum Segment operates as a mid-continent refiner and through
November 30, 2001, participated as a wholesale distributor of petroleum products
through a joint venture arrangement (see Note 5). The principal products of this
segment are refined fuels, propane, and by-products of the petroleum refinery.
The Predecessor owns, manages, and operates a petroleum refinery at Coffeyville,
Kansas with an approximate capacity of 100,000 barrels per day and a crude oil
gathering system in Kansas and Oklahoma. The refinery converts crude oil into
refined products such as gasoline, diesel fuel, and distillates. During the year
ended December 31, 2003 and the 62 days ended March 2, 2004, the Petroleum
Segment's pipeline and truck gathering systems collected approximately 17% of
its crude oil supplies under agreements with producers near its refinery.
Additional supplies were acquired from diversified sources and delivered through
a regional pipeline hub.
The Nitrogen Fertilizer Segment operates a coke gasification plant that
produces high-purity hydrogen which is subsequently converted to ammonia, some
of which is upgraded to urea ammonium nitrate (UAN) at the Predecessor's UAN
plant collectively referred to as the Coffeyville nitrogen plant. For the year
ending December 31, 2003 and the 62 day period ending March 2, 2004,
approximately 80% and 75%, respectively, of the petroleum coke used at the
nitrogen fertilizer plant was sourced from the Predecessor's adjacent refinery.
The plant experienced on-stream factors for the ammonia plant of 66.8%, 78.6%,
89.4% and 89.5% for the years ending December 31, 2001, 2002 and 2003 and for
the 62-day period ending March 2, 2004, respectively. The on-stream factor
represents the number of hours in the year the plant operated divided by the
total number of hours in the year stated as a percentage. The increasing
on-stream factor was a result of improved operating and maintenance techniques
developed from operating experience and technical studies.
Farmland Industries, Inc.'s Bankruptcy Proceedings
On May 31, 2002 (the Petition Date), Farmland Industries, Inc. and four of
its subsidiaries, Farmland Foods, Inc., Farmland Pipeline Company, Inc.,
Farmland Transportation, Inc., and SFA, Inc. (collectively, the Debtors or
Farmland), filed voluntary petitions for protection under Chapter 11 of the
United States Bankruptcy Code (the Bankruptcy Code) in the United States
Bankruptcy Court, Western District of Missouri (the Court). The Petroleum and
Nitrogen Divisions were divisions of
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Farmland, and therefore their assets and liabilities were included in the
bankruptcy filings. Farmland continued to manage the business as
debtor-in-possession but could not engage in transactions outside the ordinary
course of business without the approval of the Court.
As a result of the filing on May 31, 2002 of petitions under Chapter 11 of
the Bankruptcy Code by the Debtors, the accompanying Predecessor's financial
statements have been prepared in accordance with AICPA Statement of Position
(SOP) 90-7, Financial Reporting by Entities in Reorganization Under the
Bankruptcy Code, and accounting principles generally accepted in the United
States of America, applicable to a going concern, which, unless otherwise noted,
assume the realization of assets and the payment of liabilities in the ordinary
course of business. See Note 3, Summary of Significant Accounting
Policies-Liabilities Subject to Compromise, for additional information regarding
SOP 90-7.
As debtors-in-possession, the Debtors, subject to any required Court
approval, may elect to assume or reject real estate leases, employment
contracts, personal property leases, service contracts, and other unexpired
executory pre-petition contracts. Damages related to rejected contracts are a
pre-petition claim. The Petroleum segment had no material accruals for any
damages as of March 2, 2004. The Nitrogen Fertilizer segment rejected an
operating and maintenance agreement with a vendor resulting in an accrual of
approximately $1,250,000 as of March 2, 2004 which was charged to reorganization
expenses in the year ending December 31, 2003.
Pursuant to the provisions of the Bankruptcy Code, on November 27, 2002, the
Debtors filed with the Court a Plan of Reorganization under which the Debtors'
liabilities and equity interests would be restructured. Subsequently, on
July 31, 2003, the Debtors filed with the Court an Amended Plan of
Reorganization. The Amended Plan of Reorganization, (the Amended Plan) as filed,
in effect contemplated that the Debtors would continue in existence solely for
the purpose of liquidating any remaining assets of the estate, including the
Petroleum and Nitrogen Fertilizer egments. In accordance with the Amended Plan,
on October 10, 2003 the Court entered an order approving the auction and bid
procedures for the sale of the Petroleum Division and Coffeyville nitrogen
fertilizer plant to subsidiaries of Coffeyville. Through an auction process
conducted by the court on March 3, 2004, the assets of the Predecessor were sold
to the Company for $106,727,365 and the assumption of $23,216,554 of
liabilities. The company also paid transactions costs of $9,871,964. The
Company's primary reason for the purchase was the belief that long-term
fundamentals for the refining industry were strengthening and the capital
requirement was within their desired investment range. The cost of the
acquisition was financed through long-term borrowings of approximately
$60.7 million and the
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issuance of capital shares of equity of approximately $63.2 million. The
allocation of the purchase price at March 3, 2004, the date of the acquisition,
is as follows:
Assets acquired
Inventories $ 100,491,131
Prepaid expenses and other current assets 1,085,598
Property plant and equipment 38,239,154
Total assets acquired $ 139,815,883
Liabilities assumed
Deferred revenue $ 9,910,897
Capital lease obligations 1,176,424
Environmental obligations 10,846,980
Other long term liabilities 1,282,253
Total liabilites assumed $ 23,216,554
Cash paid for acquistion of Predecessor $ 116,599,329
(2) Basis of Presentation
The accompanying Predecessor financial statements reflect an allocation of
certain general corporate expenses of Farmland, including general and corporate
insurance, corporate retirement and benefits, human resources and payroll
department salaries, facility costs, information services, and information
systems support. Those costs allocated to the Predecessor were $4,231,036,
$6,324,513, $12,709,178 and $3,802,996 for 2001, 2002, 2003, and the 62 day
period ending March 2, 2004, respectively. These allocations were based on a
variety of factors dependent on the nature of the costs, including fixed asset
levels, administrative headcount, and production headcount. Beginning in 2002,
the Petroleum Division and Coffeyville nitrogen plant represented a continually
increasing percentage of the Predecessor's business as a result of the
Predecessor's restructuring efforts, which by December 2003 included the
disposition of nearly all the Predecessors operating assets with the exception
of the Petroleum Division and Coffeyville nitrogen plant. As a result, the
Petroleum Division and Coffeyville nitrogen plant were allocated a higher
percentage of corporate cost in 2002 than 2001 and an even larger percentage in
2003 and the 62 day period ending on March 2, 2004. The allocation of theses
costs are not necessarily indicative of the costs that would have been incurred
if the Company had operated as a stand-alone entity. Reorganization expenses for
legal and professional fees incurred by Farmland in connection with the
bankruptcy proceedings were not allocated to the Predecessor. In addition,
umbrella property insurance premiums were allocated across Farmland's divisions
based on recoverable values. Property insurance costs allocated to the
Predecessor were $1,943,451, $2,111,004, $2,060,532 and $357,324 for the years
ended 2001, 2002, 2003, and the 62 day period ending March 2, 2004,
respectively. All interest expense prior to the Petition Date and interest on
secured borrowings subsequent to the Petition Date were allocated based on
identifiable net assets of each of Farmland's divisions. Under bankruptcy law,
payment of interest on Farmland's unsecured debt was stayed
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beginning on the Petition Date. Accordingly, Farmland did not allocate any
interest on its unsecured borrowings to the Predecessor since its Petition Date.
Management believes all allocations described above were made on a reasonable
basis.
Farmland used a centralized approach to cash management and the financing of
its operations. As a result, amounts owed to or from Farmland are reflected as a
component of divisional equity on the accompanying balance sheets.
The Predecessor was not a separate legal entity, and its operating results
were included with the operating results of Farmland and its subsidiaries in
filing consolidated Federal and state income tax returns. As a cooperative,
Farmland was subject to income taxes on all income not distributed to patrons as
qualified patronage refunds and Farmland did not allocate income taxes to its
divisions. As a result, the accompanying Predecessor financial statements do not
reflect any provision for income taxes.
(3) Summary of Significant Accounting Policies
Cash and Cash Equivalents
For purpose of the statements of cash flows, the Predecessor considers all
highly liquid debt instruments with original maturities of three months or less
be cash equivalents.
Accounts Receivable
The Predecessor granted credit to its customers. Credit is extended based on
the evaluation of a customer's financial condition; generally, collateral is not
required. Accounts receivable are due on negotiated terms and are stated at
amounts due from customers, net of an allowance for doubtful accounts. Accounts
outstanding longer than their contractual payment terms are considered past due.
The Predecessor determines its allowance for doubtful accounts by considering a
number of factors including the length of time trade accounts are past due, the
customer's ability to pay its obligations to the Predecessor, and the condition
of the general economy and the industry as a whole. The Predecessor writes off
accounts receivable when they become uncollectible, and payments subsequently
received on such receivables are credited to the allowance for doubtful
accounts. At December 31, 2002, substantially all accounts receivable were from
two customers. At December 31, 2003, 38% of the accounts receivable balance was
from one customer. At March 2, 2004, four customers each individually
represented greater than 10% and collectively represented 53% of the accounts
receivable balance. The largest concentration to any one customer at March 2,
2004 was 16% of the accounts receivable balance.
Inventories
Inventories consist primarily of crude oil, blending stock and components,
work in progress, fertilizer products, and refined fuels and by-products which
are valued at the lower of moving average cost, which approximates first-in
first-out (FIFO), or market for fertilizer products and lower of FIFO cost or
market for refined fuels and by-products for all years presented. Refinery
unfinished and finished products inventory values were determined using the
"ability to bare" process, whereby raw materials and production costs are
allocated to work-in-process and finished products based on their relative fair
values. Other inventories, including other raw materials, spare parts, and
supplies, are
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valued at the lower of average cost which approximates FIFO or market. The cost
of inventories includes inbound freight costs.
In connection with the initial distribution of the accompanying Predecessor
financial statements for purposes of effecting a business combination, the
Predecessor changed its method of accounting for inventories from the last-in,
first-out (LIFO) method to the FIFO method. Management believes the FIFO method
is preferable in the circumstances because the FIFO method is considered to
represent a better matching of costs with related revenues under current
volatile market conditions. Accordingly, crude oil, blending stock and
components, work in progress, and refined fuels and by-products are valued at
the lower of FIFO cost or market for all years presented.
Prepayment for Crude Oil
Subsequent to the Petition Date, Predecessor was required to prepay for
crude oil deliveries to the refinery. As of December 31, 2003, $24,986,936 had
been paid for crude oil for which title had not transferred to the Predecessor.
Property, Plant, and Equipment
Assets are stated at cost. Depreciation is computed using principally the
straight-line method over the estimated useful lives of the assets. The useful
lives are as follows:
Range of useful
lives, in years
Improvements to land 15 to 20
Buildings 20 to 30
Machinery and equipment 5 to 30
Automotive equipment 5
Furniture and fixtures 3 to 5
The Coffeyville nitrogen plant fixed assets were financed through an
operating lease through February 8, 2002. On February 8, 2002, Farmland prepaid
the outstanding balance of the operating lease and collateralized the assets
into its newly refinanced credit facility. These assets of approximately
$260 million were recorded in the accompanying 2002 balance sheet through a
contribution of divisional equity.
Planned Major Maintenance Costs
The direct-expense method of accounting is used for planned major
maintenance activities. Maintenance costs are recognized as expense as
maintenance services are performed. During 2002, the Coffeyville petroleum
refinery was shut down for approximately four weeks in order to perform planned
major maintenance. Normal operation levels were not reached for an additional
two weeks. Costs associated with this shutdown are included in cost of goods
sold for the year ending December 31, 2002, and were approximately $16,998,000.
Due to the startup nature of the Nitrogen Fertilizer operations for the
reporting period, no major maintenance cost has been incurred or recognized in
the Predecessor periods.
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Impairment of Long-Lived Assets
During 2001, the Predecessor accounted for long-lived assets in accordance
with Statement of Financial Accounting Standards No. 121, Accounting for
Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed of
(SFAS 121). SFAS 121 was superseded by SFAS 144, Accounting for the Impairment
or Disposal of Long-Lived Assets, which was adopted by the Predecessor effective
January 1, 2002.
In accordance with both SFAS No. 144 and SFAS No. 121, the Predecessor
reviews long-lived assets for impairment whenever events or changes in
circumstances indicate that the carrying amount of an asset may not be
recoverable. Recoverability of assets to be held and used is measured by a
comparison of the carrying amount of an asset to estimated undiscounted future
net cash flows expected to be generated by the asset. If the carrying amount of
an asset exceeded its estimated future undiscounted net cash flows, an
impairment charge was recognized by the amount by which the carrying amount of
the assets exceeded the fair value of the assets. Assets to be disposed of are
reported at the lower of the carrying value or fair value less cost to sell.
In its Plan of Reorganization, Farmland stated, among other things, its
intent to dispose of its petroleum and nitrogen assets. Despite this stated
intent, these assets were not classified as held for sale under SFAS 144
because, ultimately, any disposition required approval of the Court and the
Court did not ultimately approve such disposition until March 3, 2004. Since
Farmland determined that it was more likely than not that its petroleum and
nitrogen fertilizer assets would be disposed of, those assets were tested for
impairment in 2002 pursuant to SFAS 144, using projected undiscounted net cash
flows based on Farmland's best assumptions regarding the use and eventual
disposition of those assets. Based on the tests, assumptions and determinations
as of the impairment testing date, the assets were determined to be impaired.
Farmland's best estimate at December 31, 2002 was that the carrying value of
these assets exceeded the fair value expected to be received on disposition of
these assets by $375,068,359. Accordingly, an impairment charge was recognized
for such amount in 2002. The ultimate proceeds from disposition of these assets
resulted from a bidding and auction process conducted in the bankruptcy
proceedings. This process led to an additional impairment charge of $9,638,626
recorded in September of 2003 when Farmland management's estimate was refined to
reflect additional current information regarding the ultimate disposition of
these assets.
Investments
Investments in entities over which the Predecessor exercises significant
influence (generally 20% to 50% voting control) are accounted for by the equity
method.
Revenue Recognition
Sales are recognized when the product is delivered and all significant
obligations of Predecessor have been satisfied. Deferred sales represent
customer prepayments under contracts to guarantee a price and supply of nitrogen
fertilizer in quantities expected to be delivered in the next 12 months in the
normal course of business.
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Shipping Costs
Pass-through finished goods delivery costs reimbursed by customers are
reported in sales, while an offsetting expense is included in cost of goods
sold.
Derivative Commodity Instruments and Fair Value of Financial Instruments
The Predecessor used futures contracts, options, and forward contracts
primarily to reduce the exposure to changes in crude oil prices and to provide
economic hedges of inventory positions and forecasted transactions. These
derivative instruments have not been designated as hedges for accounting
purposes. Accordingly, these instruments are recorded in the consolidated
balance sheets at fair value, and each period's gain or loss is recorded as a
component of other income (expense) in accordance with FASB-issued Statement of
Financial Accounting Standards No. 133, Accounting for Derivative Instruments
and Hedging Activities, as amended by No. 149 (SFAS 149) Amendment of Statement
133 on Derivative Instruments and Hedging Activities.
Financial instruments consisting of cash and cash equivalents, accounts
receivable, and accounts payable are carried at cost, which approximates fair
value, as a result of the short-term nature of the instruments.
Environmental Expenditures
Liabilities related to remediation of past environmental contamination of
properties are recognized when the related costs are considered probable and can
be reasonably estimated. Estimates of these costs are based upon currently
available facts, existing technology, site-specific costs, and currently enacted
laws and regulations. In reporting environmental liabilities, no offset is made
for potential recoveries. All liabilities are monitored and adjusted as new
facts or changes in law or technology occur. Environmental expenditures are
capitalized when such costs provide future economic benefits.
Liabilities Subject to Compromise
As a result of the filed petitions under Chapter 11 of the Bankruptcy Code,
the Predecessor's financial statements have been prepared in accordance with
SOP'S 90-7, Financial Reporting by Entities in Reorganization Under the
Bankruptcy Code. Virtually all liabilities, litigation, and other claims against
the Debtors that were in existence as of the Petition Date are stayed unless the
stay is modified or lifted or the Court authorizes payment. SOP 90-7 does not
change the application of accounting principles generally accepted in the United
States of America in the preparation of financial statements. However, it does
require that the financial statements for the periods including and subsequent
to filing the Chapter 11 petition distinguish transactions and events which are
directly associated with the reorganization from the ongoing operations of the
business.
SOP 90-7 requires (a) that pre-petition liabilities which are subject to
compromise be segregated in the balance sheet as liabilities subject to
compromise, and (b) that revenues, expenses, realized gains and losses, and
provisions for losses resulting from the reorganization of the Debtors be
reported separately as reorganization expenses in the statement of operations.
Liabilities subject to compromise were not assumed by Successor in the
transaction described in Note 1.
F-13
As a result of the Chapter 11 filings, substantially all pre-petition
indebtedness of the Debtors was subject to compromise or other treatment under
the Plan of Reorganization. Generally, actions to enforce or otherwise effect
payment of pre-Chapter 11 liabilities are stayed. These claims are reflected in
the accompanying balance sheets as liabilities subject to compromise.
Pre-petition claims secured by the Debtors' assets are also stayed, although the
holders of such claims have the right to move the Court for relief from the
stay. For the Petroleum Division, the pre-petition secured claims primarily
represent environmental liabilities. These secured claims have not been
reflected as liabilities subject to compromise. Following the Chapter 11
filings, the Petroleum and Nitrogen Fertilizer Divisions paid undisputed
post-petition claims of all vendors and suppliers in the ordinary course of
business. As of December 31, 2002 and 2003 and March 2, 2004 liabilities subject
to compromise consisted of the following (in thousands):
December 31,
--------------------- March 2,
2002 2003 2004
Trade accounts payable $ 103,402 $ 103,934 $ 97,856
Accrued environmental liabilities 1,846 - -
Rejection damages on executory contracts - 1,250 1,250
$ 105,248 $ 105,184 $ 99,106
Use of Estimates
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America requires
management to make estimates and assumptions that affect the reported amounts of
assets and liabilities and the disclosure of contingent assets and liabilities
at the date of the financial statements and the reported amounts of revenues and
expenses during the reporting period. Actual results could differ from those
estimates.
Earnings Per Share
Per share data has been omitted because, under Farmland's cooperative
structure, earnings of the Predecessor were distributed as patronage dividends
to members and associate members based on the level of business conducted with
the Predecessor as opposed to a common shareholder's proportionate share of
underlying equity in the Predecessor.
Recently Issued Accounting Standards
In June of 2001, the FASB issued SFAS No. 143, "Accounting for Asset
Retirement Obligations". This statement provides accounting and disclosure
requirements for retirement obligations associated with long-lived assets and
became effective January 1, 2003. SFAS No. 143 requires that the fair value of a
liability for an asset retirement obligation be recognized in the period in
which it is incurred with the associated asset retirement costs being
capitalized as a part of the carrying amount of the long-lived asset. SFAS
No. 143 also includes disclosure requirements that provide a description of
asset retirement obligations and reconciliation of changes in the components of
those obligations. The Predecessor increased its environmental accrual by
$1,018,461 as result of its implementation of SFAS No. 143. The
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accrued amount was recognized in the selling, general and administrative
expenses in the year ended December 31, 2003.
In April 2003, the FASB issued Statement of Financial Accounting Standards
No. 149 (SFAS 149), Amendment of Statement 133 on Derivative Instruments and
Hedging Activities. SFAS 149 amends and clarifies financial accounting and
reporting for derivative instruments, including certain derivative instruments
embedded in other contracts and for hedging activities under FASB Statement
No. 133, Accounting for Derivative Instruments and Hedging Activities. SFAS 149
is effective for contracts entered into or modified after June 30, 2003 except
for contracts entered into during fiscal quarters that began prior to June 15,
2003 and for hedging relationships designated after June 30, 2003. All
provisions of this statement have been applied prospectively with no significant
impact to the Predecessor's financial condition or results of operations.
In May 2003, the FASB issued Statement of Financial Accounting Standards
No. 150 (SFAS 150), Accounting for Certain Financial Instruments with
Characteristics of both Liabilities and Equity. SFAS 150 establishes standards
for how an issuer classifies and measures certain financial instruments with
characteristics of both liabilities and equity. It requires that an issuer
classify a financial instrument which is within its scope as a liability (or an
asset in some circumstances). SFAS 150 is effective for the first interim period
beginning after June 15, 2003. The Predecessor does not have financial
instruments with characteristics of both liabilities and equity; therefore, the
adoption of this statement has not had an impact on the Predecessor's
consolidated financial condition or results of operations.
In December 2003, the FASB issued FASB Interpretation No. 46(R) (FIN 46(R)),
Consolidation of Variable-Interest Entities. FIN 46(R) requires that
variable-interest entities be consolidated by their primary beneficiary. FIN
46(R) became effective for all public entities by the end of the first reporting
period ending after December 15, 2003. The Predecessor does not have investments
in or any relationships with any variable-interest entities, and therefore the
adoption of this statement has not had an impact on the Predecessor's
consolidated financial condition or results of operations.
(4) Inventories
Inventories at December 31, 2002 and 2003, and March 2, 2004 consisted of
the following (in thousands):
December 31,
------------------- March 2,
2002 2003 2004
Finished goods $ 23,694 $ 19,608 $ 19,572
Raw material and catalyst 46,169 43,561 45,887
In process inventories 11,719 10,224 14,590
Parts and supplies 15,692 13,509 13,253
$ 97,274 $ 86,902 $ 93,302
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(5) Joint Venture-Country Energy, LLC
In September 1998, Farmland and Cenex Harvest States formed a joint venture,
Country Energy, LLC (Country Energy), to provide, on an agency basis, refined
fuel, propane, and lubricants marketing and distribution services for its
owners. Effective November 30, 2001, Farmland's Petroleum Division sold its
approximate 41% ownership interest in Country Energy to Cenex Harvest States,
resulting in a gain on sale of $18 million. The Petroleum Division's sales mix
was affected by the sale of its interest in Country Energy. Previously, sales
included 41% of all sales sold through the agent, Country Energy. These sales
included Cenex Harvest States' portion of the output of the NCRA refinery at
McPherson, Kansas; Cenex Harvest States' refinery at Laurel, Montana; and
Farmland's refinery at Coffeyville, Kansas, as well as gasoline and distillates
purchased from third parties for resale and wholesale propane, lubricants, and
petroleum products. Concurrent with the sale of Farmland's interest in Country
Energy, the Petroleum Division sold refined fuels and by-product inventories
valued at approximately $46,650,000 to Cenex Harvest States.
In 2000, Farmland and Cenex Harvest States each acquired a 50% interest in a
propane marketing, sale, and supply agreement for a total of $18,500,000
($9,250,000 represents the Petroleum Division's share). Concurrent with the sale
of Farmland's interest in Country Energy, Farmland also sold its interest in the
propane supply agreement to Cenex Harvest States for its carrying value.
Subsequent to the sale of the Petroleum Division's interest in Country
Energy, 100% of the Petroleum Division's petroleum sales consists of the output
of the Coffeyville, Kansas refinery. Farmland's Petroleum Division no longer
participates in sales related to the refineries at McPherson, Kansas or Laurel,
Montana; Farmland Petroleum Division no longer participates in the resale of
petroleum products to third parties; and Farmland Petroleum Division has
substantially discontinued selling wfholesale propane, lubricants, and petroleum
equipment. The Petroleum Division had an agreement with Cenex Harvest States to
sell all refined products produced at its Coffeyville, Kansas refinery for an
initial period of two years; that agreement expired in November 2003. The
selling price for this production was determined by reference to daily market
prices within a defined geographic region.
The Petroleum Division's share of Country Energy's losses was $2,815,167 for
the period from January 1, 2001 through November 30, 2001 (date of sale). This
amount is included in equity in earnings (losses) of joint venture in the
accompanying statements of operations. Agency fees paid by the Petroleum
Division to Country Energy and included in selling, general, and administrative
expenses were $11,371,000 for the year ended December 31, 2001.
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(6) Property, Plant, and Equipment
A summary of cost for property, plant, and equipment is as follows (in
thousands):
December 31,
--------------------- March 2
2002 2003 2004
Land and improvements $ 5,411 $ 6,427 $ 6,542
Buildings 3,805 3,805 3,805
Machinery and equipment 299,429 289,613 291,366
Automotive equipment 5,334 5,282 5,282
Furniture and fixtures 4,640 4,295 4,295
Construction in progress 2,125 1,868 -
320,744 311,290 311,290
Accumulated depreciation 281,598 284,282 284,714
$ 39,146 $ 27,008 $ 26,576
(7) Pension Plans
The Farmland Industries, Inc. Employee Retirement Plan (the Plan) is a
defined benefit plan in which substantially all employees may participate.
Participation in the Plan is optional prior to age 34, but mandatory thereafter.
Benefits payable under the Plan are based on years of service and the employee's
average compensation during the highest four of the employee's last ten years of
employment.
The assets of the Plan are maintained in a trust fund. The majority of the
Plan's assets are invested in common stocks, corporate bonds, United States
Government bonds, short-term investment funds, private REITS, real estate
separate accounts, and venture capital funds.
The funding policy for the Plan was at the sole discretion of the Farmland
Employee Retirement Plan Committee. Farmland charged pension costs as accrued
based on the actuarial valuation of the Plan.
The prepaid pension cost, as calculated by Farmland's independent actuary,
were recorded as assets in the consolidated balance sheets of Farmland and were
not recorded at a division level. The financial statements above do not include
any assets or liabilities associated with the Plan. However, expenses relating
to this Plan are included in the allocation of expenses from Farmland as
described in Note 2.
(8) Commitments and Contingent Liabilities
The Predecessor leased various equipment and real properties under long-term
operating leases. For the years ended December 31, 2001, 2002, 2003, and the
62 day period ended March 2, 2004 lease expense totaled approximately
$21,788,088, $3,325,495, $2,985,022, and $518,918, respectively. Lease expense
in 2001 and for two months in 2002 included $18,729,571 and $316,958,
respectively, for the lease of fixed assets of the nitrogen fertilizer plant
that was prepaid and capitalized into a new secured financial arrangement in
February 2002. The lease agreements have various remaining terms. Some
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agreements are renewable, at Successor's option, for additional periods. It is
expected, in the ordinary course of business, that leases will be renewed or
replaced as they expire.
The minimum required payments for these agreements during the years ending
December 31 are as follows:
303 days ending December 31, 2004 $ 1,185,270
Year ending December 31, 2005 1,801,635
Year ending December 31, 2006 1,803,356
Year ending December 31, 2007 1,753,455
Year ending December 31, 2008 1,710,380
Year ending December 31, 2009 1,078,403
Thereafter 1,508,108
$ 10,840,607
Future minimum lease payments were reduced as a result of the Predecessor
rejecting an operating and maintenance agreement with a vendor within the
Nitrogen Fertilizer Segment during 2003. Once an executory contract is rejected
in Chapter 11, the future contractual payments are no longer due; however,
damages may be due to the other party. For rejected contracts, the counterparty
may enter a claim for damages with the Court, and the Court may accept, reduce,
or deny the damage claim. Damages related to rejected contacts that are approved
by the Court are considered pre-petition claims and are subject to compromise.
The total estimated damages related to the rejected executory contract within
the Nitrogen Fertilizer Segment totaled $1,250,000 at March 2, 2004.
The Predecessor was contingently liable for future adjustments to their
workmen's compensation insurance plan that is held through a state fund for the
time period between December 1, 2002 and March 2, 2004. In the opinion of
management, any eligible adjustment will not have a material adverse effect on
the business, financial condition, or results of operations.
The Predecessor is subject to various stringent federal, state, and local
environmental laws and regulations. Liabilities related to remediation of
contaminated properties are recognized when the related costs are probable and
can be reasonably estimated. Estimates of these costs are based upon currently
available facts, existing technology, undiscounted site-specific costs, and
currently enacted laws and regulations. In reporting environmental liabilities,
no offset is made for potential recoveries. Such liabilities include estimates
of the Predecessor's share of costs attributable to potentially responsible
parties which are insolvent or otherwise unable to pay. All liabilities are
monitored and adjusted regularly as new facts emerge or changes in law or
technology occur.
The Predecessor owns and/or operates manufacturing properties and has
potential responsibility for environmental conditions at some properties.
Through administrative orders issued under authority of the Resource
Conservation and Recovery Act of 1976 (RCRA), the Predecessor was designated as
a party responsible for conducting corrective action projects at its Coffeyville
and Phillipsburg sites.
As of December 31, 2002 and 2003 and March 2, 2004, environmental accruals
of $7,367,933 and $15,199,230 and $15,306,041, respectively, were recorded for
probable and estimable costs for remediation of environmental contamination and
compliance with the Clean Air Act. Management
F-18
periodically reviews and, as appropriate, revises its environmental accruals.
During 2003, in response to an analysis of FAS 143, the Predecessor reviewed all
of its environmental obligations and made an additional accrual related to
landfill closure and monitoring obligations at Phillipsburg and Coffeyville of
$1,018,461. The charge was recorded in selling, general and administrative
expenses. Substantially all the remaining increase in the environmental accrual
was related to increasing the accrual for the corrective actions required as a
result of the RCRA administrative order. The accrual was increased based on
information obtained while preparing for the sale and negotiating with potential
purchasers of the Petroleum Division. Based on current information and
regulatory requirements, management believes that the accruals established for
environmental expenditures are adequate.
The Environmental Protection Agency has issued rules limiting sulfur in
gasoline to 30 parts per million and limiting sulfur in diesel fuel to 15 parts
per million. The EPA has granted Predecessor's petition for a temporary hardship
relief with respect to the date for compliance with the low-sulfur-level
regulations. Based on information currently available, Predecessor anticipates
that expenditures of approximately $75,000,000 to $85,000,000 will be required
to achieve compliance with these new rules and the entire amount is expected to
be capitalized.
As of March 2, 2004, the Predecessor had been engaged in negotiations with
the EPA to resolve certain Clean Air Act allegations concerning the Coffeyville
refinery. Farmland's management believed the penalty stemming from the
allegations could be settled for $500,000 which is included in the accrual of
$15,306,041 for environmental liabilities described above. An accrual for the
same claim is included in the environmental accruals for December 31, 2002 and
2003 for $1,000,000 and $500,000, respectively.
Environmental expenditures are capitalized when such expenditures provide
future economic benefits. For 2001, 2002, 2003, and March 2, 2004 capital
expenditures were approximately $249,000, $649,000, $334,235, and $0,
respectively, to improve the environmental compliance and efficiency of the
operations.
Management believes the Predecessor was in substantial compliance with
existing environmental rules and regulations. There can be no assurance that the
environmental matters described above or other environmental matters which may
develop in the future, will not have a material adverse effect on the business,
financial condition, or results of operations.
The Predecessor is involved in various lawsuits arising in the normal course
of business. In the opinion of management, the ultimate resolution of these
litigation matters is not expected to have a material adverse effect on the
accompanying financial statements.
(9) Derivative Financial Instruments
The Predecessor is subject to crude oil price fluctuations caused by supply
conditions, weather, economic conditions, and other factors. To manage
volatility associated with these exposures, the Predecessor may enter into
various derivative transactions pursuant to its established policies. Generally,
the Predecessor purchases derivative contracts for a portion of its anticipated
consumption of commodity inputs for periods of up to six months. The Predecessor
may enter into longer-term contracts if deemed appropriate.
F-19
For purposes of these financial statements, the Predecessor adopted SFAS
No. 133, Accounting for Derivative Instruments and Hedging Activities, as
amended, on January 1, 2001. This standard imposes extensive record-keeping
requirements in order to designate a derivative financial instrument as a hedge.
From time to time, the Petroleum Division held derivative instruments, such as
exchange-traded crude oil and certain over-the-counter forward swap agreements,
that it believed provided an economic hedge on future transactions, but such
instruments were not designated as hedges for accounting purposes. Gains or
losses related to the change in fair value of these derivative instruments were
classified as a component of other income (expense). The adoption of SFAS
No. 133 had no effect on these financial statements. At December 31, 2002 and
2003, and March 2, 2004, the Predecessor recorded $143,000, $0 and $0 in accrued
liabilities, respectively, related to unrealized losses on derivative
instruments. In addition, the Predecessor had recorded margin account balances
in Prepaid expenses and other current assets of $792,000, $0 and $0, at
December 31, 2002 and 2003 and March 2, 2004, respectively. The Petroleum
Division also recorded mark to market net (gains) losses in Other Expense of
($508,000), $4,175,929, $303,742 and $0 for the periods ended December 31 2001,
2002 and 2003 and March 2, 2004, respectively.
(10) Business Segments
Successor measures segment profit as operating income for Petroleum and
Nitrogen Fertilizer, Coffeyville's two reporting segments, based on the
definitions provided in SFAS No. 131, Disclosures About Segments of an
Enterprise and Related Information.
Petroleum-Principal products of the petroleum division are refined fuels,
propane and petroleum refining by-products including coke. The company uses the
coke in the manufacture of nitrogen fertilizer at the adjacent nitrogen
fertilizer plant. The coke is transferred from the Petroleum Segment to the
Nitrogen Fertilizer Segment at zero value such that no sales revenue on the part
of the petroleum segment or corresponding cost of goods sold for the nitrogen
segment are recorded. Petroleum net sales in 2001 included revenue received for
product purchased and resold while participating in Country Energy. The sales
decrease in 2002 is further impacted by the major maintenance turnaround and
reduction in finished goods prices. In 2003, the plant operated for the full
year and enjoyed a recovery in refined fuel's prices.
F-20
Nitrogen Fertilizer-The principal product of the Nitrogen Fertilizer Segment
is nitrogen fertilizer. Nitrogen fertilizer sales increased throughout the
periods presented as the on-stream factor improved.
Years ended December 31, 62 day period
-------------------------------------------------- ending March 2,
2001 2002 2003 2004
Net sales
Petroleum $ 1,581,709,593 $ 828,967,424 $ 1,161,287,249 $ 241,640,365
Nitrogen fertilizer 48,522,924 58,527,702 100,909,645 19,446,164
Total $ 1,630,232,517 $ 887,495,126 $ 1,262,196,894 $ 261,086,529
Depreciation and amortization
Petroleum $ 18,636,458 $ 15,784,280 $ 2,094,627 $ 271,284
Nitrogen fertilizer 435,770 14,995,128 1,218,899 160,719
Total $ 19,072,228 $ 30,779,408 $ 3,313,526 $ 432,003
Operating income (loss)
Petroleum $ 31,787,483 $ (183,866,871 ) $ 21,544,374 $ 7,687,745
Nitrogen fertilizer (52,547,668 ) (266,077,705 ) 7,813,708 3,514,997
Total $ (20,760,185 ) $ (449,944,576 ) $ 29,358,082 $ 11,202,742
Capital expenditures
Petroleum $ 8,162,715 $ 11,614,134 $ 489,083 $ -
Nitrogen fertilizer - 260,764,110 324,679 -
Total $ 8,162,715 $ 272,378,244 $ 813,762 $ -
Total assets
Petroleum $ 134,961,565 $ 165,041,070 $ 127,374,538
Nitrogen fertilizer 37,306,612 33,916,040 31,483,011
Total $ 172,268,177 $ 198,957,110 $ 158,857,549
Reorganization
expenses-Impairment of property,
plant, and equipment
Petroleum $ - $ 144,270,221 $ 3,950,519 $ -
Nitrogen fertilizer - 230,798,138 5,688,107 -
Total $ - $ 375,068,359 $ 9,638,626 $ -
F-21
(11) Major Customers and Suppliers
Sales to major customers were as follows:
Years ended December 31, 62 days ended
----------------------------- March 2,
2001 2002 2003 2004
Petroleum
Customer A 75 % 98 % 89 % 10 %
Customer B - - 3 % 25 %
Customer C - - 1 % 18 %
75 % 98 % 93 % 53 %
Nitrogen Fertilizer
Customer D 99 % 92 % 66 % 47 %
A contract with Customer A granting it the exclusive right to purchase
petroleum products was discontinued on November 30, 2003.
The Nitrogen Fertilizer Segment maintains long-term contracts with one
supplier. Purchases from this supplier as a percentage of the total cost of
goods sold were as follows:
Years ended December 31, 62 days ended
----------------------------- March 2,
2001 2002 2003 2004
Supplier 3 % 2 % 1 % 2 %
Management believes loss of this supplier could have a material adverse
effect on the Predecessor.
F-22
Coffeyville Group Holdings, LLC
CONDENSED CONSOLIDATED BALANCE SHEET
December 31, 2003 (Predecessor) and September 30, 2004 (Successor)
Predecessor Successor
December 31, September 30,
2003 2004
(Unaudited)
ASSETS
Current assets:
Cash and cash equivalents $ 2,250 $ 13,028,185
Accounts receivable, net of allowance for doubtful
accounts of $313,679 and $198,246, respectively 53,686,833 30,632,152
Inventories 86,902,406 107,335,019
Prepayments for crude oil 24,986,936 -
Prepaid expenses and other current assets 5,207,525 6,346,356
Deferred income taxes - 2,122,803
Total current assets 170,785,950 159,464,515
Property, plant, and equipment, net of accumulated
depreciation 27,007,602 46,984,754
Other assets 1,163,558 13,161,925
Deferred income taxes - 529,808
Total assets $ 198,957,110 $ 220,141,002
LIABILITIES AND EQUITY
Current liabilities:
Current portion of long-term debt $ - $ 1,500,000
Revolving debt - 71,890
Current portion of capital lease obligation - 1,176,424
Accounts payable 11,676,768 32,854,552
Personnel accruals 4,237,130 5,191,682
Accrued income taxes - 7,964,086
Deferred revenue 1,545,894 5,010,645
Other current liabilities 2,795,457 4,253,079
Total current liabilities 20,255,249 58,022,358
Long-term liabilities:
Long-term debt, less current portion - 147,750,000
Liabilities subject to compromise 105,184,274 -
Accrued environmental liabilities 15,326,098 9,842,788
Other long term liabilities - 783,541
Total long-term liabilities 120,510,372 158,376,329
Members and divisional equity:
Farmland Industries, Inc. divisional equity 58,191,489 -
Members equity - 3,742,315
Total members and divisional equity 58,191,489 3,742,315
Commitments and contingencies
Total liabilities and equity $ 198,957,110 $ 220,141,002
See accompanying notes to financial statements.
F-23
Coffeyville Group Holdings, LLC
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
Nine months ended September 30, 2003 (Predecessor),
62 days ended March 2, 2004 (Predecessor), and
212 days ended September 30, 2004 (Successor)
Predecessor Successor
Nine months ended 62 days ended 212 days ended
September 30, March 2, September 30,
2003 2004 2004
(Unaudited) (Unaudited)
Sales $ 937,203,493 $ 261,086,529 $ 970,571,222
Cost of goods sold 892,416,628 245,234,642 880,465,826
Gross profit 44,786,865 15,851,887 90,105,396
Operating expenses (income):
Selling, general and administrative
expenses 18,276,371 4,649,145 9,050,877
Reorganization expenses - impairment of
property, plant, and equipment 9,638,626 - -
Total operating expenses 27,914,997 4,649,145 9,050,877
Operating income (loss) 16,871,868 11,202,742 81,054,519
Other (income) expenses:
Other (income) expense 242,350 (9,345 ) 869,754
Loss on extinguishment of debt - - 7,166,110
Interest expense 1,281,513 - 6,443,206
Total other (income) expenses 1,523,863 (9,345 ) 14,479,070
Income before provision for
income taxes 15,348,005 11,212,087 66,575,449
Provision for income taxes - - 26,778,475
Net income $ 15,348,005 $ 11,212,087 $ 39,796,974
Pro forma earnings per share (unaudited):
Pro forma earnings per share - basic
and diluted $ 0.53
Pro forma weighted average shares -
basic and diluted 74,690,205
See accompanying notes to financial statements.
F-24
Coffeyville Group Holdings, LLC
CONDENSED CONSOLIDATED STATEMENTS OF EQUITY
Nine months ended September 30, 2003 (Predecessor),
62 days ended March 2, 2004 (Predecessor), and
212 days ended September 30, 2004 (Successor)
Divisional Voting Non-voting Unearned
Equity Preferred Common Compensation Total
Predecessor
For nine months ended
September 30, 2003
(unaudited)
Divisional Equity,
January 1, 2003 $ 49,773,605 $ - $ - $ - $ 49,773,605
Net income 15,348,005 - - - 15,348,005
Net distribution to
Farmland Industries,
Inc. (34,625,452 ) - - - (34,625,452 )
Divisional Equity,
September 30, 2003 30,496,158 - - - 30,496,158
Predecessor
For 62 days ended
March 2, 2004
Divisional Equity,
January 1, 2004 $ 58,191,489 $ - $ - $ - $ 58,191,489
Net income 11,212,087 - - - 11,212,087
Net distribution to
Farmland Industries,
Inc. (53,216,357 ) - - - (53,216,357 )
Divisional Equity,
March 2, 2004 16,187,219 - - - 16,187,219
Successor
For 212 days ended
September 30, 2004
(unaudited)
Members Equity,
March 3, 2004 $ - $ - $ - $ - $ -
Issuance of
63,200,000 preferred
units for cash - 63,200,000 - - 63,200,000
Issuance of
11,152,941 common
units for recourse
promissory notes and
unearned
compensation - - 3,100,000 (3,037,000 ) 63,000
Issuance of 500,000
common units for
recourse promissory
notes and unearned
compensation - - 2,047,450 (2,044,600 ) 2,850
Recognition of
compensation expense - - - 667,000 667,000
Dividends on
preferred ($1.50 per
unit) - (94,686,276 ) - - (94,686,276 )
Dividends on common
($0.48 per unit) - - (5,301,233 ) - (5,301,233 )
Net income - 33,596,733 6,200,241 - 39,796,974
Members Equity,
September 30, 2004 $ - $ 2,110,457 $ 6,046,458 $ (4,414,600 ) $ 3,742,315
See accompanying notes to financial statements.
F-25
Coffeyville Group Holdings, LLC
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
Nine months ended September 30, 2003 (Predecessor),
62 days ended March 2, 2004 (Predecessor), and
212 days ended September 30, 2004 (Successor)
Predecessor Successor
------------------------------------ ---------------
Nine months ended 62 days ended 212 days ended
September 30, March 2, September 30,
2003 2004 2004
------------------- -------------- ---------------
(Unaudited) (Unaudited)
Cash flows from operating activities:
Net income $ 15,348,005 $ 11,212,087 $ 39,796,974
Adjustments to reconcile net income to
net cash provided by operating
activities:
Depreciation and amortization 2,665,520 432,003 1,605,145
Provision for doubtful accounts - - 198,246
Amortization of deferred
financing costs - - 897,596
Extinquishment of debt - - 7,166,110
Deferred income taxes - - (2,652,611 )
Vesting of unearned compensation - - 667,000
Reorganization expenses -
impairment of property, plant,
and equipment 9,638,626 - -
Changes in assets and
liabilities, net of effect of
acquisition:
Accounts receivable 2,094,410 19,635,303 (30,827,548 )
Inventories (2,272,637 ) (6,399,677 ) (6,843,888 )
Prepaids and other (2,190,785 ) 25,716,107 (3,567,974 )
Other assets 563,471 715,132 (5,469,644 )
Accounts payable 2,765,694 (6,759,702 ) 32,854,552
Other current liabilities (2,259,867 ) 364,555 9,444,760
Deferred revenue 2,101,742 8,319,913 (4,900,252 )
Accrued income taxes - - 7,964,086
Accrued environmental
liabilities 6,985,035 (20,057 ) (1,004,192 )
Other long term liabilities - - (498,712 )
------------------- -------------- ---------------
Net cash provided by
operating activities 35,439,214 53,215,664 44,829,648
Cash flows from investing activities:
Cash paid for acquisition of
Predecessor - - (116,599,329 )
Capital expenditures (813,762 ) - (10,458,135 )
------------------- -------------- ---------------
Net cash used in investing
activities (813,762 ) - (127,057,464 )
Cash flows from financing activities:
Revolving debt payments - - (55,751,021 )
Revolving debt borrowings - - 55,822,912
Proceeds from issuance of long-term
debt - - 171,900,000
Principal payments on long-term debt - - (22,650,000 )
Net divisional equity distribution (34,625,452 ) (53,216,357 )
Payment of deferred financing costs - - (16,246,381 )
Prepayment penalty on extinguishment of
debt (1,095,000 )
Issuance of members equity 63,263,000
Distributions of members equity - - (99,987,509 )
------------------- -------------- ---------------
Net cash (used in)
provided by financing
activities (34,625,452 ) (53,216,357 ) 95,256,001
------------------- -------------- ---------------
Net increase (decrease) in
cash - (693 ) 13,028,185
Cash and cash equivalents, beginning of
period 2,250 2,250 -
------------------- -------------- ---------------
Cash and cash equivalents, end of period $ 2,250 $ 1,557 $ 13,028,185
------------------- -------------- ---------------
Supplemental disclosures:
Cash paid for income taxes $ - $ - $ 21,467,000
Cash paid during the year for interest $ - $ - $ 4,926,142
|
See accompanying notes to financial statements.
F-26
Coffeyville Group Holdings, LLC
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
Nine months ended September 30, 2003 (Predecessor),
62 days ended March 2, 2004 (Predecessor), and
212 days ended September 30, 2004 (Successor)
(1) Organization and Nature of Business
General
Coffeyville Group Holdings, LLC (Coffeyville, Successor or the Company) is a
Delaware limited liability company which, on March 3, 2004, acting through
wholly-owned subsidiaries, acquired the assets of the former Farmland
Industries, Inc. (Farmland) Petroleum Division and one facility within
Farmland's eight-plant Nitrogen Fertilizer Manufacturing and Marketing Division
(Predecessor). Farmland was a farm supply cooperative and a processing and
marketing cooperative. The Predecessor operated as a division of Farmland
(Petroleum), and a plant within a division of Farmland (Nitrogen Fertilizers).
The accompanying Predecessor financial statements principally reflect the
refining, crude oil gathering, and petroleum distribution operations of Farmland
and the only coke gasification plant of Farmland's nitrogen fertilizer
operations. Coffeyville Group Holdings, LLC, acting through wholly-owned
subsidiaries, is an independent petroleum refiner and marketer in the
mid-continental United States and a producer and marketer of upgraded nitrogen
fertilizer products in North America. Operations are organized into two business
segments: Petroleum and Nitrogen Fertilizer.
The principal products of the Petroleum Segment are refined fuels, propane,
and by-products of the petroleum refinery. The Petroleum Segment operates a
petroleum refinery at Coffeyville, Kansas with an approximate capacity of
100,000 barrels per day and a crude oil gathering system in Kansas and Oklahoma.
The refinery converts crude oil into refined products such as gasoline, diesel
fuel, and distillates. During the nine months ended September 30, 2003, the
62 days ended March 2, 2004 and the 212 days ended September 30, 2004, the
Petroleum Segment's pipeline and truck gathering systems collected approximately
19%, 17% and 19%, respectively, of its crude oil supplies under agreements with
producers near its refinery. Additional supplies were acquired from diversified
sources and delivered through a regional pipeline hub.
The Nitrogen Segment operates a coke gasification plant that produces
high-purity hydrogen which is subsequently converted to ammonia and upgraded to
urea ammonium nitrate (UAN) at the Predecessor's UAN plant collectively referred
to as the Coffeyville nitrogen plant. For the nine months ended September 30,
2003, the 62 days ended March 2, 2004, and for the 212 days ended September 30,
2004, approximately 75%, 75% and 80%, respectively, of the petroleum coke used
at the nitrogen fertilizer plant was from the Predecessor's adjacent petroleum
refinery. The plant experienced on-stream factors for the ammonia plant of
87.4%, 89.5% and 79.4% for the same periods respectively. The on-stream factor
represents the number of hours in the year the plant operated divided by the
total number of hours in the year stated as a percentage. The lower on-stream
factor for the 212 days ended September 30, 2004, was primarily the result of a
scheduled turnaround.
Farmland Industries, Inc.'s Bankruptcy Proceedings and the Transaction
On May 31, 2002 (the Petition Date), Farmland Industries, Inc. and four of
its subsidiaries, Farmland Foods, Inc., Farmland Pipeline Company, Inc.,
Farmland Transportation, Inc., and SFA, Inc. (collectively, the Debtors or
Farmland), filed voluntary petitions for protection under Chapter 11 of the
United States Bankruptcy Code (the Bankruptcy Code) in the United States
Bankruptcy Court, Western District of Missouri (the Court). The Petroleum and
Nitrogen Divisions were divisions of Farmland, and therefore their assets and
liabilities were included in the bankruptcy filings. Farmland
F-27
continued to manage the business as debtor-in-possession but could not engage in
transactions outside the ordinary course of business without the approval of the
Court.
As a result of the filing on May 31, 2002 of petitions under Chapter 11 of
the Bankruptcy Code by the Debtors, the accompanying Predecessor's financial
statements have been prepared in accordance with AICPA Statement of Position
(SOP) 90-7, Financial Reporting by Entities in Reorganization Under the
Bankruptcy Code, and accounting principles generally accepted in the United
States of America, applicable to a going concern, which, unless otherwise noted,
assume the realization of assets and the payment of liabilities in the ordinary
course of business.
As debtors-in-possession, the Debtors, subject to any required Court
approval, may elect to assume or reject real estate leases, employment
contracts, personal property leases, service contracts, and other unexpired
executory pre-petition contracts. Damages related to rejected contracts are a
pre-petition claim. The Petroleum Segment had no material accruals for any
damages. The Nitrogen Segment rejected an operating and maintenance agreement
with a vendor resulting in an accrual of $1,250,000 as of December 31, 2003.
Pursuant to the provisions of the Bankruptcy Code, on November 27, 2002, the
Debtors filed with the Court a Plan of Reorganization under which the Debtors'
liabilities and equity interests would be restructured. Subsequently, on
July 31, 2003, the Debtors filed with the Court an Amended Plan of
Reorganization. The Amended Plan of Reorganization, (the Amended Plan) as filed,
in effect contemplated that the Debtors would continue in existence solely for
the purpose of liquidating any remaining assets of the estate, including the
Petroleum and Nitrogen Segments. In accordance with the Amended Plan, on
October 10, 2003 the Court entered an order approving the auction and bid
procedures for the sale of the Petroleum Division and Coffeyville nitrogen
fertilizer plant. Through an auction process conducted by the court on March 3,
2004, the assets of the Predecessor were sold to the Company for $106,727,365
and the assumption of $23,216,554 of liabilities. The Company also paid
transactions costs of $9,871,964. The Company's primary reason for the purchase
was the belief that long-term fundamentals for the refining industry were
strengthening and the capital requirement was within their desired investment
range. The cost of the acquisition was financed through long-term borrowings of
approximately $60.7 million and the issuance of capital shares of equity of
approximately
F-28
$63.2 million. The allocation of the purchase price at March 3, 2004, the date
of the acquisition, is as follows:
Assets acquired
Inventories $ 100,491,131
Prepaid expenses and other current assets 1,085,598
Property plant and equipment 38,239,154
Total assets acquired $ 139,815,883
Liabilities assumed
Deferred revenue $ 9,910,897
Capital lease obligations 1,176,424
Environmental obligations 10,846,980
Other long term liabilites 1,282,253
Total liabilites assumed $ 23,216,554
Cash paid for acquistion of Predecessor $ 116,599,329
Pro forma revenue would be unchanged for the periods presented. Pro forma
net income as if the transaction had occurred on the first day of the periods
compared to the historical net income presented below is as follows (in
thousands):
Historical Pro Forma
62-day period ended March 2, 2004 $ 11,212 $ 6,281
Year ended December 31, 2003 $ 27,922 $ 21,764
(2) Basis of Presentation
The accompanying unaudited condensed consolidated financials were prepared
in accordance with U.S generally accepted accounting principles and in
accordance with the rules and regulations of the Securities and Exchange
Commission. The consolidated financial statements include the accounts of
Coffeyville Group Holdings, LLC and its subsidiaries. All significant
intercompany accounts and transactions have been eliminated in consolidation.
Certain information and footnotes required for the complete financials
statements under U.S. generally accepted accounting have not been included
pursuant to such rules and regulations. These unaudited condensed consolidated
financial statements should be read in conjunction with the December 31, 2003
financial statements and notes thereto of the Predecessor.
In the opinion of the Company's management, the accompanying unaudited
condensed consolidated financial statements reflect all adjustments (consisting
only of normal recurring adjustments that are necessary to fairly present the
financial position as of December 31, 2003 and
F-29
September 30, 2004, and the results of operations and cash flows for the nine
months ended September 30, 2003, the 62 days ended March 2, 2004 and the
212 days ended September 30, 2004.
Results of operations and cash flows for the interim periods presented are
not necessarily indicative of the results that will be realized for the year
ending December 31, 2004 or any other interim period. The preparation of
financial statements in conformity with accounting principles generally accepted
in the United States requires management to make estimates and assumptions that
affected the reported amounts of assets, liabilities revenues and expenses, and
the disclosure of contingent assets and liabilities. Actual results could differ
from those estimates.
The accompanying Predecessor financial statements reflect an allocation of
certain general corporate expenses of Farmland, including general and corporate
insurance, corporate retirement and benefits, human resources and payroll
department salaries, facility costs, information services, and information
systems support. These costs allocated to the Predecessor were $9,530,681 and
$3,802,996 for the nine months ended September 30, 2003 and the 62 day period
ended March 2, 2004, respectively, and are included in Selling, general and
administrative expenses. These allocations were based on a variety of factors
dependent on the nature of the costs, including fixed asset levels,
administrative headcount, and production headcount. The costs of these services
are not necessarily indicative of the costs that would have been incurred if the
Company had operated as a stand-alone entity. Reorganization expenses for legal
and professional fees incurred by Farmland in connection with the bankruptcy
proceedings were not allocated to the Predecessor. In addition, umbrella
property insurance premiums were allocated across Farmland's divisions based on
recoverable values. Property insurance costs allocated to the Predecessor were
$1,434,833 and $357,324 for the nine months ended September 30, 2003, and the
62 day period ended March 2, 2004, respectively, and are included in Cost of
goods sold. All interest expense prior to the Petition Date and interest on
secured borrowings subsequent to the Petition Date were allocated based on
identifiable net assets of each of Farmland's divisions. Under bankruptcy law,
payment of interest on Farmland's unsecured debt was stayed at the Petition
Date. Accordingly, Farmland did not allocate any interest on its unsecured
borrowings to the Predecessor after its Petition Date. Management believes all
allocations described above are made on a reasonable basis.
Predecessor used a centralized approach to cash management and the financing
of its operations. As a result, amounts owed to or from Predecessor are
reflected as a component of divisional equity on the accompanying balance
sheets.
The Predecessor was not a separate legal entity, and its operating results
were included with the operating results of Farmland and its subsidiaries in
filing consolidated federal and state income tax returns. As a cooperative,
Farmland was subject to income taxes on all income not distributed to patrons as
qualified patronage refunds and Farmland did not allocate income taxes to its
divisions. As a result, the accompanying Predecessor financial statements do not
reflect any provision for income taxes.
F-30
Deferred income taxes for the Successor are recognized for the tax
consequences of temporary differences by applying enacted statutory tax rates
applicable to future years for differences between the financial statement
carrying amounts and the tax bases of existing assets and liabilities.
(3) Cash Equivalents
For purposes of the statements of cash flows, the Company considers all
highly liquid debt instruments purchased with an original maturity of three
months or less to be cash equivalents. The Company has restricted cash held for
debt repayment of $2,250,000 that is reflected in other assets on the balance
sheet as the restriction is for the term of the debt.
(4) Earnings Per Share
Earnings per share for the Successor is calculated on a pro forma basis,
based on an assumed number of shares outstanding at the time of the public
offering with respect to the existing shares. The Company has assumed that prior
to this offering, Coffeyville Group Holdings, LLC will contribute the stock of
its subsidiaries to Coffeyville Resources, Inc. and that Coffeyville Resources,
Inc. will issue 74,852,941 shares of common stock to Coffeyville Group Holdings,
LLC. No effect has been given to any incremental shares that might be issued in
the public offering.
Per share data has been omitted for the Predecessor because, under
Farmland's cooperative structure, earnings of the Predecessor were distributed
as patronage dividends to members and associate members based on the level of
business conducted with the Predecessor as opposed to a common shareholder's
proportionate share of underlying equity in the Predecessor.
(5) Members Equity
The Successor issued 63,200,000 voting preferred units at $1 par value for
cash to finance the acquisition of the Predecessor, as described in Note 1. The
preferred units are the only voting units of the Successor and, prior to May 10,
2004, had preferential rights to distributions. The preference required that the
holders of preferred units were to be distributed $63,200,000, plus a preferred
yield equal to 15% per annum compounded monthly, before any distributions could
be made to holders of common units.
Concurrent with the issuance of the preferred units, management of the
Successor were issued 11,152,941 nonvoting, restricted common units for recourse
promissory notes aggregating $63,200. Based on the estimated relative fair value
of the restricted common units on March 3, 2004, approximately $3.2 million was
allocated to the common units. Accordingly, unearned compensation of
approximately $3.0 million was recognized as a contra-equity balance in the
accompanying consolidated balance sheet. The holders of common units were not
vested at the date of issuance and do not have voting rights. Prior to May 10,
2004, distribution rights were subordinated to the preferred unit holders, as
described above. On May 10, 2004, the promissory notes were repaid with cash and
an additional 500,000 nonvoting, restricted common units were issued to an
officer of the Company for $2,850. Based on the estimated fair value of the
units on May 10, 2004, unearned compensation of approximately
F-31
$2.0 million was recognized as a contra-equity balance in the accompanying
consolidated balance sheet. As of September 30, 2004 none of the restricted
common units were vested. The units vest in accordance with the following
schedule:
Percentage Vested
Vesting Date on Vesting Date
November 10, 2004 162/3%
May 10, 2005 162/3%
November 10, 2005 162/3%
May 10, 2006 162/3%
November 10, 2006 162/3%
May 10, 2007 162/3%
Based on the vesting schedule above, the Company recognized $667,000 in
compensation expense as of September 30, 2004 related to the unearned
compensation.
On May 10, 2004, the Company refinanced its existing long term debt with a
$150 million term loan and used the proceeds of the borrowings to repay the
outstanding borrowings under the Company's previous credit facility. The
borrowings were also used to distribute a $99,987,509 dividend, which included
the preference payment of $63,200,000 plus the yield of $1,802,956 to the
preferred unit holders and a $63,000 payment to the common unit holders for
undistributed capital per the LLC agreement. The remaining $34,921,553 was
distributed to the preferred and common unit holders pro rata according to their
ownership percentages, as determined in the aggregate combining both the common
and preferred units.
All distributions subsequent to May 10, 2004 will be based on the relative
ownership percentages, as determined by dividing the number of units held by a
holder (consisting of preferred or common units) by the sum total of the
preferred and common when added together.
(6) Inventories
Inventories at December 31, 2003 and at September 30, 2004 consisted of the
following (in thousands):
Predecessor Successor
December 31, September 30,
2003 2004
(Unaudited)
Finished goods $ 19,608 $ 35,289
Raw materials and catalyst 43,561 41,531
In-process inventories 10,224 15,265
Parts and supplies 13,509 15,250
$ 86,902 $ 107,335
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(7) Other Assets
Other assets at December 31, 2003, and at September 30, 2004 consisted of
the following (in thousands):
Predecessor Successor
December 31, September 30,
2003 2004
(Unaudited)
Deferred financing costs $ - $ 7,585
Restricted cash - 2,250
Prepaid insurance charges - 3,220
Other assets 1,164 107
$ 1,164 $ 13,162
Deferred financing costs of $6,300,727 were paid in the transaction
described in Note 1. Additional deferred financing costs of $9,945,654 were paid
with the debt refinancing on May 10, 2004, as described in Notes 5 and 10. The
initial deferred financing costs were written off when the related debt was
extinguished and refinanced with the existing credit facility. A prepayment
penalty of $1,095,000 on the previous credit facility was also paid and expensed
and included in Loss of extinguishment of debt in 2004. For the 212 days ended
September 30, 2004, amortization of deferred financing costs reported as
interest expense was $897,595, using the effective interest method.
On March 3, 2004, the Company prepaid two primary environmental insurance
policies. One for environmental site protection and the other is a cost cap
remediation policy for costs to be incurred beyond the next twelve months. See
Note 13 for a further description of the environmental commitment and
contingencies.
Estimated amortization of deferred financing charges and prepaid insurance
for the next five years is as follows (in thousands):
Deferred Prepaid
Financing Insurance
Quarter ending December 31, 2004 $ 428 $ 252
Year ending December 31, 2005 1,688 1,224
Year ending December 31, 2006 1,671 689
Year ending December 31, 2007 1,654 382
Year ending December 31, 2008 1,642 321
Year ending December 31, 2009 1,620 321
Thereafter 573 1,336
$ 9,278 $ 4,523
Less current portion (1,693 ) (1,304 )
Total long-term 7,585 3,220
F-33
(8) Property, Plant, and Equipment
A summary of costs for property, plant, and equipment is as follows (in
thousands):
Predecessor Successor
December 31, September 30,
2003 2004
(Unaudited)
Land and improvements $ 6,427 $ 779
Buildings 3,805 583
Machinery and equipment 289,613 35,536
Automotive equipment 5,282 291
Furniture and fixtures 4,295 1,064
Construction in progress 1,868 10,271
311,290 48,524
Accumulated depreciation 284,282 1,539
$ 27,008 $ 46,985
In its Plan of Reorganization, Farmland stated, among other things, its
intent to dispose of its petroleum and nitrogen assets. Despite this stated
intent, these assets were not classified as held for sale under Statement of
Financial Accounting Standards (SFAS) 144 because, ultimately, any disposition
required approval of the Court and the Court did not ultimately approve such
disposition until March 3, 2004. Since Farmland determined that it was more
likely than not that its petroleum and nitrogen fertilizer assets would be
disposed of, those assets were tested for impairment in 2002 pursuant to
SFAS 144, using projected undiscounted net cash flows based on Farmland's best
assumptions regarding the use and eventual disposition of those assets. Based on
the tests, assumptions and determinations as of the impairment testing date, the
assets were determined to be impaired. Farmland's best estimate at December 31,
2002 was that the carrying value of these assets exceeded the fair value
expected to be received on disposition of these assets by $375,068,359.
Accordingly, an impairment charge was recognized for such amount in 2002. The
ultimate proceeds from disposition of these assets resulted from a bidding and
auction process conducted in the bankruptcy proceedings. This process led to an
additional impairment charge of $9,638,626 recorded in September of 2003 when
Farmland management's estimate was refined to reflect additional current
information regarding the ultimate disposition of these assets.
(9) Long-Term Debt
At March 3, 2004, the Company entered into an agreement with a financial
institution for a term loan of $21,900,000 with an interest rate based on the
greater of the Index Rate (the greater of prime or federal funds rate plus 50
basis points per annum) plus 4.5% or 9%, and a $100,000,000 revolving credit
facility with interest at the borrower's election of either the Index Rate plus
3% or the LIBOR rate plus 3.5%. $21,900,000 of the term loan and $38,821,970 of
the revolving credit facility were used
F-34
to finance the transaction on March 3, 2004 as described in Note 1. These
borrowing were repaid on May 10, 2004 in connection with the refinancing
described below.
Effective May 10, 2004, the Company entered into a $75,000,000 revolving
loan facility with a syndicate of banks, financial institutions, and
institutional lenders, which expires on May 10, 2009. Borrowings are limited to
80% of eligible accounts receivable plus 75% of eligible inventories less the
face amount of any outstanding letters of credit. The maximum commitment fee
payable on the unused portion of the revolving loan facility is 0.50%. There
were outstanding borrowings of $71,890 at September 30, 2004.
Effective May 10, 2004, the Company entered into a term loan and security
agreement with a syndicate of banks, financial institutions, and institutional
lenders. Principal payments in the amount of $375,000 are due quarterly
commencing on the last day of the fiscal quarter in which the term loan was made
and continue quarterly with a final payment of the aggregate remaining unpaid
principal balance due on May 10, 2010.
On both the revolving loan facility and the term loan, the Company has the
option of a LIBOR rate or a rate based on the current prime rate. Interest is
paid quarterly when using the Index Rate and at the expiration of the LIBOR term
selected when using the LIBOR rate and varies with the Index Rate or LIBOR rate
in effect at the time of the borrowing. An applicable margin is added with
respect to the revolving loan facility as follows: (a) for Index Rate advances,
plus 1.00% per annum, (b) for LIBOR Rate advances, plus 3.00% per annum. For
loans under the term loan, the Index Rate plus 4.0% per annum or the LIBOR rate
plus 5% per annum. The interest rate on the term loan on September 30, 2004 was
6.95%.
Both loan agreements are secured by all real and personal property,
including receivables, contract rights, general intangibles, inventories,
equipment, and financial assets.
The loan and security agreement contains customary restrictive covenants
applicable to the Company including limitations on the level of additional
indebtedness, capital spending, payment of dividends, creation of liens, and
sale of assets. These covenants also require the Company to maintain certain
ratios of maximum fixed charge, maximum leverage, and minimum interest coverage
ratio.
Failure to comply with the various restrictive and affirmative covenants of
the loan agreement could negatively impact the Company's ability to incur
additional indebtedness and/or pay required distributions. The Company is
required to measure these financial tests and covenants quarterly and was in
compliance with all covenants and reporting requirements under the terms of the
agreement at September 30, 2004.
F-35
Long-term debt consisted of the following at September 30, 2004:
Long-term debt $ 149,250,000
Less current portion of long-term debt (1,500,000 )
$ 147,750,000
Future maturities of long-term debt are as follows:
Quarter ending December 31, 2004 $ 375,000
Year ending December 31, 2005 1,500,000
Year ending December 31, 2006 1,500,000
Year ending December 31, 2007 1,500,000
Year ending December 31, 2008 1,500,000
Year ending December 31, 2009 1,500,000
Thereafter 141,375,000
$ 149,250,000
At September 30, 2004, Coffeyville had $3.1 million in letters of credit
outstanding to the Kansas Department of Health and Environment to secure the
Company's environmental obligations. The letters of credit expire in July and
August 2005. There were no letters of credit at December 31, 2003.
(10) Capital Lease Obligation
The Company leases a crude oil pipeline under a capital lease agreement and
expects to exercise its purchase option at the end of the lease term of
December 31, 2005. This lease obligation has been recorded in the accompanying
financial statements at the value of the only remaining payment of $1,176,424
and the zero value purchase option. All obligations under capital lease
agreements are collateralized by the leased equipment.
(11) Benefit Plans
Successor sponsors two defined-contribution 401(k) plans (the Plans) for all
employees. Participants in the Plans may elect to contribute up to 50% of their
annual salaries. The Company matches up to 75% of the first 6% of the
participant's contribution for the non-union plan and 50% of the first 6% of the
participant's contribution for the union plan.
The union plans are not administered by the Company, and contributions are
determined in accordance with provisions of negotiated labor contracts.
Participants are always 100% vested in both their individual contributions and
in the Company's matching funds. Employer contributions under the plans were
$412,903 for the 212 days ended September 30, 2004.
F-36
The Farmland Industries, Inc. Employee Retirement Plan (the Farmland Plan)
was a defined benefit plan in which substantially all employees could
participate. Participation in the Farmland Plan was optional prior to age 34,
but mandatory thereafter. Benefits payable under the Farmland Plan were based on
years of service and the employee's average compensation during the highest four
of the employee's last ten years of employment.
The assets of the Farmland Plan are maintained in a trust fund. The majority
of the Farrmland Plan's assets are invested in common stocks, corporate bonds,
United States Government bonds, short-term investment funds, private REITS, real
estate separate accounts, and venture capital funds.
The funding policy for the Farmland Plan was at the sole discretion of the
Farmland Employee Retirement Plan Committee. Farmland charged pension costs as
accrued based on the actuarial valuation of the plan.
The prepaid pension costs, as calculated by Farmland's independent actuary,
were recorded as assets in the consolidated balance sheets of Farmland and were
not recorded at a division level. The Predecessor financial statements do not
include any assets or liabilities associated with the Farmland Plan. However,
expenses related to this plan are included in the allocation of expenses from
Farmland as described in Note 2.
(12) Income Taxes
Income tax expense (benefit) for the Successor for the 212 days ended
September 30, 2004 is summarized below (in thousands):
(Unaudited)
2004
Current - Federal $ 23,996
- State 5,435
29,431
Deferred - Federal (2,163 )
- State (490 )
(2,653 )
Total income taxes $ 26,778
F-37
Income tax expense for the 212 days ended September 30, 2004 differed from
the "expected" income tax (computed by applying the federal income tax rate of
35% to earnings before income taxes) as follows (in thousands):
(Unaudited)
2004
Computed expected taxes $ 23,301
State taxes net of federal benefit 3,227
Non-deductible items 250
Total income tax expense $ 26,778
The income tax effect of temporary differences that give rise to significant
portions of the deferred tax assets and deferred tax liabilities at
September 30, 2004 are mentioned below (in thousands):
(Unaudited)
2004
Deferred tax assets:
Depreciation and amortization $ 530
Allowance for doubtful accounts 79
Personnel accruals 1,308
Inventory 1,068
Other 72
Total gross deferred tax assets $ 3,057
Deferred tax liabilities:
Prepaid expenses $ 404
Total gross deferred tax liabilities $ 404
Net deferred tax assets $ 2,653
In assessing the realizability of deferred tax assets, management considers
whether it is more likely than not that some portion or all of the deferred tax
assets will not be realized. The ultimate realization of deferred tax assets is
dependent upon the generation of future taxable income during the periods in
which those temporary differences become deductible. Management considers the
scheduled reversal of deferred tax liabilities, projected future taxable income,
and tax planning strategies in making this assessment. Based upon the level of
historical taxable income and projections for future taxable income over the
periods in which the deferred tax assets are deductible, management believes it
is more likely than not that the Company will realize the benefits of these
deductible differences.
F-38
(13) Commitments and Contingent Liabilities
Successor and Predecessor lease various equipment and real properties under
long-term operating leases. For the nine months ended September 30, 2003, the
62 days ended March 2, 2004 and the 212 days ended September 30, 2004, lease
expense totaled approximately $2,217,821, $518,918, and $1,666,168,
respectively. The lease agreements have various remaining terms. Some agreements
are renewable, at Successor's option, for additional periods. It is expected, in
the ordinary course of business, that leases would be renewed or replaced as
they expire.
The minimum required payments for these agreements during the periods ending
December 31 are as follows:
Quarter ending December 31, 2004 $ 692,699
Year ending December 31, 2005 3,274,737
Year ending December 31, 2006 3,103,901
Year ending December 31, 2007 2,897,902
Year ending December 31, 2008 2,861,330
Year ending December 31, 2009 1,947,208
Thereafter 1,508,108
$ 16,285,885
Successor licenses a gasification process from a third party associated with
gasifier equipment used in the Nitrogen Fertilizer Division. The royalty fees
for this license are incurred as the equipment is used and is subject to a cap
which is expected to be paid in full by the time the license expires in
June 2007 at an estimated total cost of $5.5 million. Royalty fee expense for
the 212 days ended September 30, 2004 was $793,548 and was reflected in Cost of
goods sold.
The Company is contractually liable for payments to the Predecessor as part
of deferred purchased consideration related to the electricity contract with the
City of Coffeyville in the amount of approximately $2 million to be paid in
equal installments through September 2006.
The Company is contingently liable for future adjustments to its workers
compensation insurance plan that is held through a state fund. A maximum
adjustment of approximately $400,000 may be assessed within 18 months of the
policy date. The workers compensation expense for the 212 days ended
September 30, 2004 was $544,162 and was reflected in Cost of goods sold.
Coffeyville Resources Nitrogen Fertilizers, LLC ("CRN") was sued by the BOC
Group, Inc. in connection with a dispute under an On-Site Product Supply
Agreement regarding excess electrical usage by BOC and payments withheld by CRN
in connection therewith. Pursuant to the Agreement, which expires in 2020, CRNF
pays approximately $300,000 per month for the supply of oxygen and nitrogen to
the fertilizer operation. This lawsuit is in the very early stages of discovery.
While the Company believes that its position is strong, if it is unsuccessful in
its defense of the suit, operating expenses could increase by approximately
$800,000 per year for the 15 year remaining term of the
F-39
Agreement. The Company anticipates that resolution of the suit could take
approximately two years. Currently the Company has not accrued any liability for
this contingency.
Coffeyville Refining & Marketing, LLC ("CRRM") entered into a Pipeline
Construction, Operation and Transportation Commitment Agreement with Plains
Pipeline, L.P. pursuant to which Plains is constructing a crude oil pipeline
from Cushing, Oklahoma to Caney, Kansas. The term of the Agreement is 20 years
from when the pipeline becomes operational, which is expected to be before
March 1, 2005. Pursuant to the Agreement, CRRM must transport approximately
80,000 barrels per day of its crude oil requirements for the Coffeyville
refinery at a rate of no less than $0.24 per barrel. This rate will increase
based on the final construction cost of the pipeline in accordance with a
formula set forth in the Agreement.
Coffeyville Nitrogen Fertilizer LLC ("CRN") has an agreement with the City
of Coffeyville pursuant to which it must make a series of future payments for
electrical generation transmission and city margin. As of September 30, 2004 the
remaining obligations of CRN totaled $39.0 million through a period ending
December 31, 2019. Total contractually committed payments under the agreement
will be $1.4 million for the fourth quarter of 2004, $5.7 million for each of
the fiscal years 2005, 2006 and 2007, and $1.7 million per year for each
subsequent year.
Environmental Matters
The Company is subject to various stringent federal, state, and local
environmental laws and regulations. Liabilities related to remediation of
contaminated properties are recognized when the related costs are probable and
can be reasonably estimated. Estimates of these costs are based upon currently
available facts, existing technology, discounted site-specific costs, and
currently enacted laws and regulations. In reporting environmental liabilities,
no offset is made for potential recoveries. Such liabilities include estimates
of the Company's share of costs attributable to potentially responsible parties,
which are insolvent or otherwise unable to pay. All liabilities are monitored
and adjusted regularly as new facts or changes in law or technology occur.
The Company owns and/or operates manufacturing properties and has potential
responsibility for environmental conditions at some properties. Through
administrative orders issued under authority of the Resource Conservation and
Recovery Act of 1976 (RCRA), the Predecessor was designated as a party
responsible for conducting corrective action projects at its Coffeyville and
Phillipsburg sites.
As of September 30, 2004, an environmental accrual of $10,581,355
($9,842,788 long-term and $738,567 current) was reflected in the balance sheet
for probable and estimable costs for remediation of contaminated property and
compliance with the RCRA. The $10,581,355 accrual was determined based on an
estimate of payment costs through 2033 which was arranged with the EPA. The
total
F-40
estimated payments are $16,011,100. The required payments for these obligations
are as follows (in thousands):
Quarter Ending December 31, 2004 $ 831
2005 846
2006 561
2007 481
2008 2,575
2009 3,567
Thereafter 6,693
Undisounted Total 15,551
Less amount representing interest at 5% (4,970 )
Accrued environmental liabilities at September 30, 2004 $ 10,581
The Company has purchased insurance to cover any costs above the amount
accrued related to this contaminated property. See Note 7 on prepaid
environmental insurance. Management periodically reviews and, as appropriate,
revises its environmental accruals. Based on current information and regulatory
requirements, management believes that the accruals established for
environmental expenditures are adequate.
Under the RCRA, Predecessor has one closure plan and two post-closure plans
in place for two locations. Closure and post-closure plans are also in place for
two landfills as required by state regulations and are estimated at $1,975,100,
which is reflected in the $10,581,355 environmental liability referred to above.
The EPA has issued rules limiting sulfur in gasoline to 30 parts per million
and limiting sulfur in diesel fuel to 15 parts per million. The EPA has granted
the Company's petition for a temporary hardship relief with respect to the date
for compliance with the low-sulfur-level regulations. Based on information
currently available, Successor anticipates that expenditures of approximately
$115 million will be required to achieve compliance with these new rules through
December 31, 2010 and the entire amount is expected to be capitalized.
Environmental expenditures are capitalized when such expenditures provide
future economic benefits. For the nine months ended September 30, 2003, the
62 days ended March 2, 2004, and the 212 days ended September 30, 2004 capital
expenditures were approximately $332,934, $0, and $429,267, respectively, to
improve the environmental compliance and efficiency of the operations.
Management believes the Company is currently in substantial compliance with
existing environmental rules and regulations. There can be no assurance that the
environmental matters described above or environmental matters which may develop
in the future, will not have a material adverse effect on the business,
financial condition, or results of operations.
F-41
Successor is involved in various lawsuits arising in the normal course of
business. In the opinion of management, the ultimate resolution of these
litigation issues is not expected to have a material adverse effect on the
accompanying financial statements.
(14) Derivative Financial Instruments
The Company is subject to crude oil price fluctuations caused by supply
conditions, weather, economic conditions, and other factors. To manage
volatility associated with these exposures, the Company may enter into various
derivative transactions pursuant to its established policies. Generally, the
Company purchases derivative contracts for a portion of its anticipated
consumption of commodity inputs for periods of up to six months. The Company may
enter into longer-term contracts if deemed appropriate.
The Company accounts its derivatives in accordance with SFAS No. 133,
Accounting for Derivative Instruments and Hedging Activities, as amended. This
standard imposes extensive record-keeping requirements in order to designate a
derivative financial instrument as a hedge. From time to time, the Petroleum
Segment held derivative instruments, such as exchange-traded crude oil and
certain over-the-counter forward swap agreements, that it believed provided an
economic hedge on future transactions, but such instruments were not designated
as hedges. Gains or losses related to the change in fair value of these
derivative instruments were classified as a component of other income (expense).
The Petroleum Segment has recorded margin account balances in Cash and cash
equivalents of $0 and $2,729,507, at December 31, 2003 and September 30, 2004,
respectively. The Petroleum Segment also recorded "mark to market" net (gains)
losses in Other (income) expense of $0, $0 and $962,448 for the period ended
September 30, 2003, the 62 day period ended March 2, 2004, and the 212 day
period ended September 30, 2004, respectively.
(15) Related Party Transactions
Pegasus Partners II, L.P., (Pegasus) is the majority owner of Coffeyville.
On March 3, 2004, Successor entered into a management services agreement
with an affiliate company of Pegasus, Pegasus Capital Advisors, L.P (Affiliate)
pursuant to which the Affiliate provides the Company with managerial and
advisory services. In consideration for these services, the Affiliate is paid an
annual fee up to $1.0 million plus reimbursement for any out-of-pocket expenses.
The agreement has an initial term through March 3, 2009 and will automatically
renew for additional one-year terms thereafter unless one party provides notice
of termination to the other at least 90 days prior to the then existing term.
$381,824 was expensed for the 212 days ended September 30, 2004, relating to
this agreement.
Coffeyville paid the Affiliate a $4.0 million transaction fee upon closing
of the acquisition referred to in Note 1. The transaction fee relates to a
$2.5 million merger and acquisition fee and a $1.5 million in deferred financing
charges. In conjunction with the debt refinancing on May 10, 2004, a
$1.25 million fee was paid to the Affiliate as a deferred financing charge.
F-42
(16) Business Segments
The Successor measures segment profit as operating income for Petroleum and
Nitrogen Fertilizer, Coffeyville's two reporting segments, based on the
definitions provided in SFAS No. 131, Disclosures About Segments of an
Enterprise and Related Information.
Petroleum Segment-Principal products of the petroleum division are refined
fuels, propane and petroleum refining by-products including coke. The company
uses the coke in the manufacture of nitrogen fertilizer at the adjacent nitrogen
fertilizer plant. For the Successor, a $15 per ton transfer price is used to
record intercompany sales on the part of the Petroleum Segment and corresponding
intercompany Cost of goods sold for the Nitrogen Segment. The intercompany
transactions are eliminated in the Other Segment. For the Predecessor, the coke
was transferred from the Petroleum Segment to the Nitrogen Fertilizer Segment at
zero value such that no sales on the part of the Petroleum Segment or
corresponding Cost of goods sold for the Nitrogen Segment are recorded in the
segment results. Because the Predecessor did not record these transfers in its
segment results and the information to restate these segment results in the
Predecessor periods is not available, the Predecessor periods have not be
restated. As a result, the results of operations for the Successor and
Predecessor periods are not comparable.
Nitrogen Segment-The principal product of the nitro |